As filed with the Securities and Exchange Commission on November 14, 2001
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
AMENDMENT NO. 4
TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
New Jersey 6719 22-3703799
(Primary Standard (I.R.S. Employer
(State or Other Industrial Identification Number)
Jurisdiction of Classification Code
Incorporation or Number)
Organization)
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751 Broad Street
Newark, New Jersey 07102
(973) 802-6000
(Address, including Zip code, and telephone number, including area code, of
registrant's principal executive offices)
John M. Liftin, Esq.
General Counsel
Prudential Financial, Inc.
751 Broad Street
Newark, New Jersey 07102
(973) 802-6000
(Name, address, including Zip code, and telephone number, including area code,
of agent for service)
Copies to:
William J. Williams, Jr., Esq. Alan L. Beller, Esq.
Andrew S. Rowen, Esq. Yong G. Lee, Esq.
Sullivan & Cromwell Cleary, Gottlieb, Steen & Hamilton
125 Broad Street One Liberty Plaza
New York, New York 10004 New York, New York 10006
(212) 558-4000 (212) 225-2000
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If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 of the Securities Act of 1933, check the following box. [_]
If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [_]
If the delivery of the prospectus is expected to be made pursuant to Rule 434 under the Securities Act, check the following box. [_]
Proposed Maximum
Title of Each Class Aggregate Amount of
of Securities to Be Registered Offering Price(1)(2) Registration Fee
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Common Stock, par value $.01 per share
(3)..................................... $3,795,000,000 $948,750(4)
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(4) The previous payment of $972,325 included $23,575 potentially creditable as provided in Rule 457(p).
The Registrant hereby amends this Registration Statement on such date or
dates as may be necessary to delay its effective date until the Registrant
shall file a further amendment which specifically states that this
Registration Statement shall thereafter become effective in accordance with
Section 8(a) of the Securities Act of 1933, or until the Registration
Statement shall become effective on such date as the Commission, acting
pursuant to said Section 8(a), may determine.
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+The information in this preliminary prospectus is not complete and may be + +changed. These securities may not be sold until the registration statement + +filed with the Securities and Exchange Commission is effective. This + +preliminary prospectus is not an offer to sell nor does it seek an offer to + +buy these securities in any jurisdiction where the offer or sale is not + +permitted. + |
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Subject to Completion. Dated November 14, 2001.
[LOGO] Prudential Financial
110,000,000 Shares
Prudential Financial, Inc.
Common Stock
This is an initial public offering of shares of Common Stock of Prudential Financial, Inc. We are offering these shares in connection with the reorganization of The Prudential Insurance Company of America from a mutual life insurance company owned by its policyholders to a stock life insurance company that will be a wholly owned indirect subsidiary of Prudential Financial, Inc. in a process known as a demutualization. All of the 110,000,000 shares are being sold by Prudential Financial, Inc. This prospectus relates to an offering of 93,500,000 shares of Common Stock in the United States. In addition, 16,500,000 shares of Common Stock are being offered outside the United States in an international offering.
In addition to these offered shares, we will issue an estimated 456,300,000 shares of Common Stock of Prudential Financial, Inc. to policyholders of The Prudential Insurance Company of America and some of its subsidiaries as part of the demutualization. We plan to issue up to 2,000,000 shares of Class B Stock of Prudential Financial, Inc. to institutional investors in a private placement completed concurrently with this offering. The closing of this offering is subject to the completion of the demutualization of The Prudential Insurance Company of America and the private placement of the Class B Stock.
Concurrently with this offering, we expect to offer, by means of a separate
prospectus, % equity security units for an aggregate offering price of up to
$500 million, plus up to an additional $75 million if the underwriters for that
offering exercise their options to purchase additional units. Each equity
security unit will have a stated amount of $50 and will initially consist of
(a) a contract to purchase shares of our Common Stock and (b) a redeemable
capital security, of a trust we own, with a stated liquidation amount of $50.
The sale of the equity security units is not a condition to the completion of
this offering.
Prior to this offering, there has been no public market for the Common Stock. We currently estimate that the initial public offering price per share will be between $25.00 and $30.00. We intend to list the Common Stock on the New York Stock Exchange under the symbol "PRU".
See "Risk Factors" beginning on page 22 to read about factors you should consider before buying shares of the Common Stock.
Neither the Securities and Exchange Commission nor any other regulatory body has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.
Per Share Total
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Initial public offering price.................................. $ $
Underwriting discount.......................................... $ $
Proceeds, before expenses, to Prudential Financial, Inc........ $ $
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To the extent that the U.S. underwriters sell more than 93,500,000 shares of Common Stock, the U.S. underwriters have the option to purchase up to an additional 14,025,000 shares from Prudential Financial, Inc. at the initial public offering price less the underwriting discount. The international underwriters have a similar option to purchase up to 2,475,000 additional shares of Common Stock.
The underwriters expect to deliver the shares against payment in New York, New York on , 2001.
Goldman, Sachs & Co. Prudential Securities
Credit Suisse First Boston
Deutsche Banc Alex. Brown
Lehman Brothers
Merrill Lynch & Co.
Morgan Stanley
Salomon Smith Barney
The Williams Capital Group, L.P.
Banc of America Securities LLC Bear, Stearns & Co. Inc. Blaylock & Partners, L.P.
Wachovia Securities Ramirez & Co., Inc. UBS Warburg
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Prospectus dated , 2001.
PROSPECTUS SUMMARY
We currently conduct our business through The Prudential Insurance Company of America and its subsidiaries. In connection with the demutualization, Prudential Financial, Inc. will become the ultimate holding company for all of our companies. "Prudential", "we" and "our" refer to our consolidated operations before and after demutualization. "The Prudential Insurance Company of America" also refers to its stock life insurance company successor upon completion of the demutualization.
We have included a glossary of insurance and other terms commencing on page G-1. These terms are printed in boldface type the first time they appear in this prospectus summary and the first time they appear after the prospectus summary.
Prudential
We are one of the largest financial services institutions in the United States. We provide a wide range of insurance, investment management and other financial products and services and have more than 15 million individual and institutional customers in the United States and over 30 foreign countries.
We have a leading or significant market presence in most of the markets we serve. The Prudential name and "Rock" logo are among the most widely recognized in the United States.
At September 30, 2001, we had $22.1 billion in total equity and $295.7 billion in total assets. For the nine months ended September 30, 2001, our total revenues were $20.4 billion and our net income was $352 million, and for the year ended December 31, 2000, our total revenues were $26.5 billion and our net income was $398 million. As of September 30, 2001, we had
. total assets under management and administration of $564.2 billion, consisting of:
. total assets under management (including assets in our general and separate accounts) of approximately $373.3 billion, and
. additional assets in securities brokerage and bank custodial accounts and other assets under administration of $190.9 billion,
. total gross life insurance in force in the United States of $1.3 trillion (including individual and group insurance), and
. total gross life insurance in force in Japan and other countries outside the United States of $457.8 billion (including individual and group insurance).
At December 31, 2000 (the latest date for which information is available), we had the third largest individual life insurance business in the United States in terms of statutory in force premiums and in terms of total gross life insurance in force in the United States according to A.M. Best.
We have one of the largest distribution forces in the financial services industry, with approximately 21,900 sales people worldwide at September 30, 2001, including approximately
. 4,900 Prudential Agents, who are insurance agents in our insurance operations in the United States,
. 4,000 Life Planners and 6,600 Gibraltar Life Advisors, who are insurance agents in our insurance operations outside the United States, and
. 6,400 domestic and international Financial Advisors, who are financial advisors and securities brokers in our Prudential Securities operations.
Business Divisions and Segments
We conduct our principal businesses through four divisions: U.S. Consumer, Employee Benefits, International and Asset Management. We also conduct other activities in Corporate and Other operations. We refer to the businesses that comprise our four operating divisions and our Corporate and Other operations, collectively, as our "Financial Services Businesses". We also have a Traditional Participating Products segment primarily composed of our domestic participating products. We will cease offering these participating products in connection with the demutualization.
Financial Services Businesses
U.S. Consumer Division. Our U.S. Consumer division consists of four segments:
Individual Life Insurance, Private Client Group, Retail Investments and
Property and Casualty Insurance.
Our Individual Life Insurance segment manufactures and distributes variable life, term life and other non-participating life insurance protection products to the U.S. retail market and distributes investment and protection products for our other segments.
. As of June 30, 2001, we were the largest U.S. variable life insurer according to Tillinghast-Towers Perrin, with $15.4 billion of variable life insurance assets, representing a market share of 20%.
. For the six months ended June 30, 2001, we were the seventh largest seller of individual variable life insurance and the ninth largest seller of individual term life insurance, including participating term life policies, in the United States, in terms of new annualized premiums according to LIMRA.
We distribute our individual life insurance products in the United States primarily through our Prudential Agents. Increasingly, we also distribute individual life insurance domestically through PruSelect, which targets the affluent and, more recently, the mass affluent markets, through third-party distribution channels. In 2000, our PruSelect channel accounted for 33% of our total domestic individual life insurance sales, including traditional participating policies, as measured by statutory first year premiums and deposits, up from 12% in 1996.
Our Private Client Group segment provides full service securities brokerage and financial advisory services to U.S. retail customers through our Financial Advisors. At December 31, 2000, Prudential Securities, with approximately 5,900 domestic Financial Advisors, was the eighth largest securities brokerage firm in the United States based on the number of retail registered representatives according to the Securities Industry Association. At September 30, 2001, we had approximately 5,600 domestic Financial Advisors.
Our Retail Investments segment provides mutual funds, variable and fixed annuities and wrap-fee products to U.S. retail customers. At June 30, 2001, we were the seventh largest mutual fund wrap provider based on market share according to Cerulli Associates, Inc., and the 24th largest mutual fund management company in the United States in terms of assets under management according to the Investment Company Institute. Our Retail Investments segment distributes primarily through our Financial Advisors and Prudential Agents and through third-party channels.
Our Property and Casualty Insurance segment manufactures and distributes personal lines property and casualty insurance products, principally automobile and homeowners insurance, to the U.S. retail market. We distribute these products through our Prudential Agents and through alternative distribution channels.
Employee Benefits Division. Our Employee Benefits division, currently known in the marketplace as Prudential Institutional, consists of two segments: Group Insurance and Other Employee Benefits. Our Group Insurance segment manufactures and distributes group life, disability and related insurance products in connection with employee and member benefit plans. For the six months ended June 30, 2001, we were the second largest seller of group life insurance in the United States based on new sales according to LIMRA. The principal sales channel for our group life and disability insurance is our institutional sales force, which distributes through the independent broker and consultant market. Our Other Employee Benefits segment provides products and services for defined contribution and other retirement plans as well as guaranteed investment contracts and group annuities. We distribute employee benefits products primarily through our own specialized institutional sales forces, third-party distributors and Financial Advisors. At December 31, 2000, we were the second largest provider of relocation services to employers according to Relocation Information Service Incorporated. We also market real estate brokerage franchises to regional and local real estate brokers.
International Division. Our International division consists of two segments:
International Insurance and International Securities and Investments. Our
International Insurance segment manufactures and distributes individual life
insurance products through approximately 4,000 Life Planners to affluent
markets in Japan, Korea and six other Asian, Latin American and European
countries. In Japan, which, according to Moody's, has the largest insurance
market of any country in the world based on total premium income as a
percentage of the gross domestic product, we ranked second based on absolute
growth in Japanese yen of life insurance in force in 2000. In April 2001, we
completed the acquisition of Kyoei Life Insurance Co., Ltd., a financially
troubled Japanese
life insurer now renamed "Gibraltar Life Insurance Company, Ltd.", following reorganization proceedings which substantially restructured its assets and liabilities. Gibraltar Life's financial results from April 2, 2001 to August 31, 2001 are included in our consolidated financial results as of and for the nine months ended September 30, 2001. Our initial investment in Gibraltar Life totaled approximately $1.2 billion. Gibraltar Life manufactures and distributes individual life insurance products through approximately 6,600 Life Advisors. Within our International Securities and Investments segment we provide full service securities brokerage, asset management and financial advisory services to retail and institutional clients outside the United States, primarily through approximately 640 international Financial Advisors.
Asset Management Division. Our Asset Management division consists of two segments: Investment Management and Advisory Services and Other Asset Management. The Investment Management and Advisory Services segment provides asset management products and services to unaffiliated institutional clients as well as management services for assets supporting products offered by our other businesses. At September 30, 2001, this segment managed approximately $288 billion of our $373 billion of total assets under management, as follows:
. $93 billion of retail customer assets, including mutual funds and variable insurance and variable annuity products,
. $85 billion of institutional customer assets, and
. $110 billion of general account assets.
The Other Asset Management segment engages in equity securities sales and trading, investment research, investment activities and syndications.
Corporate and Other Operations. Corporate and Other operations includes corporate-level activities, including investment activities and international ventures that we do not allocate to our business segments.
During the last five years, we have divested or stopped pursuing a number of under-performing businesses, including healthcare, reinsurance, commercial insurance and home mortgage businesses. Additionally, we restructured the capital markets activities of Prudential Securities, exiting its lead-managed equity underwriting for corporate issuers and institutional fixed income businesses. Corporate and Other operations also include these divested and wind-down businesses, except for our divested healthcare business, which is treated as a discontinued operation.
Traditional Participating Products
As a mutual insurance company, we issued most of our individual life insurance products on a "participating" basis, whereby policyholders are eligible to receive policyholder dividends reflecting experience. These life insurance products have historically been included in our Traditional Participating Products segment. In connection with the demutualization, we will cease offering domestic participating products. The liabilities for our individual in force participating products will then be segregated, together with assets which will be used exclusively for the payment of benefits and policyholder dividends, expenses and taxes with respect to these products, in a regulatory mechanism referred to as the "Closed Block". We have selected the amount and type of Closed Block Assets and Closed Block Liabilities included in the Closed Block so that the Closed Block Assets initially will have a lower book value than the Closed Block Liabilities. We expect that the Closed Block Assets will generate sufficient cash flow, together with anticipated revenues from the Closed Block policies, over the life of the Closed Block to fund payments of all expenses, taxes and policyholder benefits to be paid to, and the reasonable dividend expectations of, policyholders of the Closed Block products. We also will segregate, for accounting purposes, the Surplus and Related Assets that we will need to hold outside the Closed Block to meet capital requirements related to the products included within the Closed Block. No policies sold after demutualization will be added to the Closed Block and its in force business is expected to ultimately decline as we pay policyholder benefits in full. We expect the proportion of our business represented by the Closed Block to decline as we grow other businesses. A minor portion of our Traditional Participating Products segment has consisted of other traditional insurance products that will not be included in the Closed Block.
Historically, the participating products to be included in the Closed Block, as well as the other products included in the Traditional Participating Products segment, have yielded lower returns on capital invested than
many of our other businesses. The separation, for segment reporting purposes, of the Traditional Participating Products segment from our Financial Services Businesses permits us to better identify the results of these businesses. However, the relatively lower returns to us on traditional participating products will continue to affect our consolidated results of operations for many years.
As discussed below, concurrent with this offering, we plan to issue, in a private placement, shares of Class B Stock that will be designed to reflect the performance of our participating products to be included in the Closed Block and other related assets and liabilities. Following such issuance, we will refer to this business as the "Closed Block Business". The Common Stock issued in this offering is expected to reflect the performance of our Financial Services Businesses, which will include the capital previously included in the Traditional Participating Products segment in excess of the amount necessary to support the Closed Block Business. The Financial Services Businesses will also include other traditional insurance products previously included in the Traditional Participating Products segment but which will not be included in the Closed Block.
Strategy
Our goal is to be a worldwide financial services leader in both the growth and protection of our clients' assets. We seek to achieve this goal by providing our customers with the advice and information that they seek through the distribution options of their choice, offering investment and insurance products supported by excellent service. We seek to achieve this goal through the following strategies:
. Build on our brand name and leading market positions. We have been in business for over 125 years, and the Prudential name and "Rock" logo are among the most widely recognized in the United States. Our "Rock" logo has long been associated with trust and financial strength. We believe that our brand will continue to be a significant competitive advantage in an increasingly crowded financial services marketplace. In the United States, we are among the most diversified organizations in the financial services industry, with leading or significant positions in life insurance, annuities, securities brokerage, mutual funds, 401(k) plan products, asset management and residential real estate brokerage franchise and relocation services. We have built a customer base of over 11 million households in the United States, or one in every 10 U.S. households. We will continue to focus aggressively on customer service and retention as we attempt to maximize the value of our customer base. In addition, we have in excess of 24,000 institutional relationships and over one million international retail customers.
. Grow our U.S. retail mass affluent customer base. Our customer base includes approximately 3.6 million U.S. retail households with incomes or investable assets in excess of $100,000. We believe that the mass affluent market offers the best opportunity for growth in revenues and profit margins and we seek to expand our presence in the "mass affluent" market, which we define as households with incomes or investable assets between $100,000 and $250,000, as well as in the emerging affluent and pre-retirement markets. We have taken several steps to improve the quality of services provided to the mass affluent market by our Prudential Agent and Financial Advisor distribution system. First, we are targeting new hires for our Prudential Agent force with college educations and prior experience and are enhancing the training and product choices available to them. Second, we have increased the productivity standards for our Prudential Agents several times in the past few years. The actions we have taken to improve the quality and productivity of our Prudential Agent force have resulted in a reduction in the size of the agency force. In 2001, we have again increased the productivity standards. Third, we have begun to transition our Prudential Agents from a transaction focus using proprietary products to meet our customers' financial needs to an approach of offering advice on an array of products manufactured by Prudential as well as other companies. This advice-based approach enables our customers to make more informed decisions about investment and insurance choices. We also have begun to transition our Financial Advisors from a transaction focus to an approach emphasizing fee-based financial advisory services to better meet the needs of the mass affluent market.
The productivity of our Prudential Agents, as measured by average commissions on new sales of all products by agents employed the entire year, has increased 86% from $18,700 in 1996 to $34,700 in 2000. The productivity of our domestic Financial Advisors, as measured by gross revenues, has increased 26% from $319,000 in 1996 to $401,000 in 2000. Productivity on an annualized basis declined during the first nine months of 2001 to $29,480 from $30,320 for the first nine months of 2000 for our Prudential Agents
and to $338,000 from $412,000 for the first nine months of 2000 for our domestic Financial Advisors, due in large part to the slowdown of the economy and the decline of the stock market.
. Improve the profitability of our existing U.S. consumer franchise. In addition to our affluent and mass affluent customers, we have an existing customer base of nearly eight million U.S. households which we refer to as the "mass market". We seek to improve the profitability of this customer base by reducing the cost of our operations infrastructure.
. Expand distribution channels to meet customer needs. In addition to our Prudential sales forces, we are expanding our distribution channels to allow U.S. retail customers to access us through the distribution methods of their choice. Our distribution platform now includes multiple points of access including independent financial advisors, affinity programs, workplace marketing and the Internet. PruSelect, our third-party distribution channel, which has historically focused on serving the intermediaries who provide insurance solutions in support of estate and wealth transfer planning for affluent individuals, is expanding its focus to include mass affluent individuals in addition to affluent individuals. We have begun to establish additional third-party channels for life insurance products, including broker-dealers and independent producers. We sell our retail investment products such as mutual funds, annuities and wrap-fee products through third-party intermediaries, including national and regional broker-dealers and independent financial advisors. Net sales of investment products, other than money market funds, through this channel totaled $2.0 billion in the first nine months of 2001. We also seek to expand distribution of our retail investment products and investment management capabilities by participating in other companies' multi-manager investment platforms. We have invested in workplace/payroll deduction models with our minority investment in an Internet-based employee benefits broker.
Prudential Securities was one of the first full-service brokerage firms to develop and offer electronic choices in connection with full-service brokerage accounts. We believe that Internet technology and electronic commerce will continue to provide us with new and more efficient ways to communicate with and distribute products to our customers.
. Continue profitable growth of our international operations. We believe that many of our best opportunities for growth lie outside of the United States. We have a well-established international presence with a client base in excess of one million individuals.
The compound annual growth rate in our international annualized new business premiums for individual life insurance was 25% per year from 1998 to 2000, excluding Gibraltar Life, on a constant exchange rate basis. In Japan, we pioneered a highly effective Life Planner distribution model that targets affluent market segments. We believe that this distribution model contributed to a second year persistency level of 90% in 2000 in comparison to the Japanese industry average of 74% according to Gyomu Kondan-Kai, a Japanese life insurance industry trade association. We have expanded our presence in other international markets, including Korea and Taiwan, where we have successfully implemented the Life Planner model. We have also entered five other markets in Asia, Latin America and Europe.
Our international insurance expansion historically has involved "exporting" the successful Life Planner distribution model of Prudential of Japan to other countries. With our acquisition of Gibraltar Life in April 2001, we are broadening our strategy to include the mass and affinity markets in Japan. Our acquisition of the restructured Gibraltar Life significantly increases the scale of our International Insurance segment. However, Gibraltar Life is not expected to grow at the rate of our other international insurance businesses that target the affluent market.
We seek to expand our position internationally in securities brokerage, financial advisory and asset management services for the affluent market. We have made several acquisitions and investments in international asset management firms, and we intend to continue to grow our international businesses significantly in the future.
. Strengthen institutional relationships to grow our employee benefits businesses and enhance access to retail customers. We are a leading provider of life and disability insurance, retirement services, relocation services and other benefits to employees through group contracts and our relationships with institutional clients. We have relationships with over 24,000 institutions of all sizes, representing over 30 million employees and members with over 12 million participants. Our Group Insurance segment has
grown significantly since 1997, with a compound annual growth rate in revenues of 13% from 1998 to 2000. We also believe that the workplace channel is an effective way to acquire additional individual customers. By using our employee and group benefits marketing skills, we seek to strengthen our relationships with institutions of all sizes and increase the distribution of voluntary benefits products to their employees. We seek to use technology to accelerate revenue growth and improve cost efficiencies. Through our voluntary benefits website, we offer employees of our institutional customers Prudential voluntary benefits products as well as selected products from other leading companies in a convenient, easy to use, on-line format with call center support. Our business arrangements with an Internet-based employee benefits service provider are intended to broaden our distribution of Prudential products and services.
. Grow fee-based assets under management. We are a leading asset manager with $373 billion of assets under management at September 30, 2001, including $288 billion managed by our Asset Management division. We seek to increase fee-based assets under management by expanding our sales of investment and insurance products such as variable annuities, mutual funds, variable life insurance and wrap-fee products that provide customers with a variety of investment options, as well as providing investment management services to institutions. During 2000, we consolidated resources in our public equity asset management businesses into Jennison Associates, our widely recognized manager of institutional assets. By doing so, we seek to enhance our competitive position, increase sales of proprietary products through our distribution channels and expand distribution through outside channels.
. Improve our financial performance. We are seeking to improve our operating performance, especially in our mature businesses, in two primary ways: by focusing on capital management and by eliminating certain expenses.
We have improved capital efficiency by exiting under-performing businesses, such as lead-managed equity underwriting for corporate issuers and institutional fixed income, healthcare, reinsurance and residential first mortgage lending, as well as by focusing on asset accumulation, variable insurance products and other businesses that offer attractive returns for the capital that they require. We continue to seek opportunities to improve capital efficiency as evidenced by our decision to raise less capital through this offering than is provided to policyholders receiving cash or policy credits in our demutualization and thereby reduce the excess capital supporting our Financial Services Businesses. In addition, we plan to issue securities, in private placements, which will represent economic interests in the Closed Block Business.
We are also implementing strategies to improve our performance by eliminating certain expenses, including overhead in our corporate and field offices. In particular, beginning in 1999 we commenced an initiative to restructure our field operations in our Individual Life Insurance segment by reducing the number of sales territories, from 16 to 6, and by consolidating our field offices, which we reduced from 266 to 79. This resulted in the elimination of 600 management positions and approximately 1,100 non-agent positions. In the Private Client Group segment, we have taken actions in 2001 to reduce staffing levels, occupancy costs, and other overhead costs. We have also taken actions in the Retail Investments and Property and Casualty Insurance segments to reduce staffing levels and overhead costs and have targeted cost reductions in several of our other businesses and in Corporate and Other operations.
While there can be no assurance, we intend our actions to achieve company- wide expense eliminations of over $500 million. The principal component of these expense eliminations will be attributable to our Financial Services Businesses, where we intend to reduce certain operating expenses to below 2000 levels by more than $400 million on an annual basis in 2002, and believe that reduced expenses resulting from these initiatives will benefit results of the Financial Services Businesses thereafter. We expect approximately $150 million of this $400 million reduction in operating expenses to benefit adjusted operating income of the Financial Services Businesses in 2001 as compared to 2000 including approximately $110 million that is reflected in results for the first nine months of the year, and that the remainder of the reduction in operating expenses will further benefit adjusted operating income of the Financial Services Businesses in 2002 as compared to 2001. During 2001 and, with respect to a minor amount, early 2002, we expect the Financial Services Businesses to incur costs of about $170 million in connection with these actions. Of this amount, about $60 million is reflected in results of the first nine months of the year. The remaining portion of the company-wide expense eliminations, amounting to
approximately $100 million, will be attributable to the Closed Block Business. Partially offsetting these expense eliminations, we expect to incur additional expenses associated with servicing our stockholder base following demutualization, including mailing and printing fees, of up to $60 million annually, which will be attributed to the Financial Services Businesses.
We seek growth internally and through acquisition, joint venture or other forms of business combination or investment. Our principal acquisition focus is in our current business lines, both domestically and internationally.
. Reposition Prudential Securities' domestic businesses to focus on investors rather than issuers. In late 2000 we announced a restructuring of Prudential Securities' capital markets activities to implement a fundamental shift in our business strategy. We exited our lead-managed equity underwriting for corporate issuers and institutional fixed income businesses. Prudential Securities' investment bank historically aspired to lead-manage capital raising transactions in the new issues market. We have exited that business, and we will redirect some of its resources to act as a co-manager for equity new issues and engage in underwritings led by investment banks to generate new issue market products for our investor clients. In addition, our equity research staff, which previously focused on coverage of potential issuer customers, is shifting its focus to cover companies and other topics of interest to our investor clients. We believe that our new strategy, through which we seek to provide advice and quality execution to our retail and institutional customers, will differentiate us from our competitors.
. Strengthen performance-based culture. We are committed to aligning the incentives and rewards of our senior management team with shareholders' interests. A portion of our managers' compensation is directly linked to market-based measures for their businesses. We will implement stock and option ownership programs for employees that will allow them to become shareholders as soon as possible following the initial public offering. We believe this will strengthen our performance-based culture throughout the organization.
Terrorist Attacks on the United States
Our losses for insurance claims arising in connection with the terrorist attacks on the United States on September 11, 2001 reduced our net income for the nine months ended September 30, 2001 by approximately $30 million after taxes, release of existing reserves and reinsurance coverages.
Demutualization and Related Transactions
We are conducting this offering in connection with the demutualization of The Prudential Insurance Company of America. In this process, The Prudential Insurance Company of America will convert, pursuant to our plan of reorganization, from a mutual life insurance company owned by policyholders to a stock life insurance company that is a wholly owned indirect subsidiary of Prudential Financial, Inc. The demutualization will extinguish policyholders' membership interests in The Prudential Insurance Company of America, and eligible policyholders will receive compensation in the form of shares of Prudential Financial, Inc.'s Common Stock, cash or policy credits, which are increases in policy values or increases in other policy benefits. We believe the demutualization will allow us to compete more effectively in the global financial services industry by providing full access to the capital markets to fund growth in our businesses. Access to equity will make it easier for us to build new products, services or sales channels that are consistent with our strategy. We will also be able to use our stock to pay for possible acquisitions. In addition, we will be able to use stock-based compensation programs to recruit and retain management and sales personnel whose long-term interests can be aligned with shareholders' interests. Once the conditions to the demutualization have been met, the demutualization will become effective when we complete this offering.
At the time of demutualization, the Financial Services Businesses and the Closed Block Business will be reported separately for financial reporting purposes and some of the equity capital previously used in our Traditional Participating Products segment will be reallocated to our Financial Services Businesses.
Based on the assumptions in the pro forma information, the demutualization and this offering will reduce the equity capital of the Financial Services Businesses by approximately $1.558 billion. We estimate the amount
of capital needed to compensate policyholders receiving cash or policy credits and fund additional expenses of the demutualization and related transactions is $4.447 billion, while this offering is expected to raise only $2.889 billion (assuming the initial public offering price is $27.50 per share). Although we may raise additional equity capital, as discussed in "--Other Concurrent Offerings" below, we do not expect to raise the full $4.447 billion.
In connection with the demutualization, we plan to implement two significant changes to our organization and capital structure designed to increase the value of demutualization compensation received by eligible policyholders and enhance our financial flexibility. These intended changes are:
. Destacking: We plan to "destack" or reorganize the ownership of various subsidiaries of The Prudential Insurance Company of America so that they become direct or indirect subsidiaries of Prudential Financial, Inc. rather than The Prudential Insurance Company of America. The destacking will be accomplished as an extraordinary dividend concurrently with, or within 30 days following, the demutualization. The principal subsidiaries that we are planning to destack, together with certain related assets and liabilities, are:
. our property and casualty insurance companies,
. our principal securities brokerage companies,
. our international insurance companies,
. our principal asset management operations, and
. our international securities and investments, domestic banking, residential real estate brokerage franchise and relocation services operations.
The destacking itself will not affect Prudential Financial, Inc.'s consolidated results or financial reporting. One of the principal purposes of the destacking is to diversify the sources of cash flow that may be paid to Prudential Financial, Inc. by permitting the destacked subsidiaries to pay dividends to Prudential Financial, Inc. directly rather than through The Prudential Insurance Company of America. In addition, we believe that destacking will permit a more efficient use of our capital and will create a better platform for possible acquisitions.
. Class B Stock and IHC Debt Issuances: We plan to issue shares of Class B Stock of Prudential Financial, Inc. to institutional investors in a private placement concurrently with this offering of our Common Stock. We also plan to issue debt securities through a newly-formed intermediate holding company of The Prudential Insurance Company of America, which debt we refer to as the "IHC debt". A portion of the IHC debt will be insured by a bond insurer. The Class B Stock will be designed to reflect the performance of the Closed Block Business, including the Closed Block Assets and Closed Block Liabilities and the Surplus and Related Assets, as well as other related assets and liabilities noted below, including the IHC debt. We expect that the IHC debt will be serviced by, and the dividends to the holders of the Class B Stock will reflect, the net cash flows of the Closed Block Business over time.
We believe the sale of the Class B Stock and IHC debt will improve the value and investment attributes of the Common Stock distributed to eligible policyholders in our demutualization and in this offering, and this is the purpose of their issuances. We expect the Common Stock will reflect the performance of our post-demutualization Financial Services Businesses without reflecting the relatively lower returns of the participating products included in the Closed Block. Further, we will allocate the entire net proceeds from the issuances of the Class B Stock and the IHC debt to our Financial Services Businesses. We will use most of these proceeds in our Financial Services Businesses, which should further increase the value of the Financial Services Businesses, although we will use a minority portion of the proceeds of the IHC debt to service payments on that debt.
For this purpose, on April 25, 2001, we entered into a subscription agreement with institutional investors to purchase 2.0 million shares of Class B Stock at the time of our demutualization, which will generate aggregate gross proceeds of $175 million. On July 31, 2001, we entered into a commitment letter with a bond insurer to insure up to $1.75 billion of IHC debt. The subscription agreement and commitment letter contain conditions to the investors' and the bond insurer's respective commitments. The closing of the private placement of the Class B Stock is a condition to this offering of our Common Stock, but the issuance of the IHC debt is not a condition to this offering.
Dividends declared and paid on the Common Stock will depend upon the financial performance of the Financial Services Businesses. Dividends declared and paid on the Common Stock will not depend upon or be affected by the financial performance of the Closed Block Business, unless the Closed Block Business is in financial distress. Dividends declared and paid on the Common Stock also will not be affected by decisions with respect to dividend payments on the Class B Stock except as indicated in the following paragraph.
Dividends declared and paid on the Class B Stock will depend upon the financial performance of the Closed Block Business and, as the Closed Block matures, the holders of the Class B Stock will receive the surplus of the Closed Block Business no longer required to support the Closed Block for regulatory purposes. Dividends on the Class B Stock will be payable in a specified amount per year, not to exceed specified cash flows of the Closed Block Business. Notwithstanding this, as with any common stock, we will retain the flexibility to suspend dividends on the Class B Stock. However, if we choose not to pay dividends on the Class B Stock when specified cash flows permit us to pay dividends, then we cannot pay cash dividends on the Common Stock. For a detailed discussion of dividends on Common Stock and when they may be affected by decisions regarding dividend payments on the Class B Stock, you should read "Dividend Policy" and "Description of Capital Stock--Common Stock--Dividend Rights".
The Common Stock and the Class B Stock will be separate classes of common stock under New Jersey corporate law. The shares of Common Stock will vote together with the shares of Class B Stock on all matters (one share, one vote) except as otherwise required by law and except that holders of the Class B Stock will have class voting or consent rights with respect to specified matters directly affecting the Class B Stock. Upon completion of the demutualization, this offering and the private placement of Class B Stock, Prudential Financial, Inc. will have approximately 568.3 million total shares of Common Stock and Class B Stock outstanding, with the shares of Class B Stock representing less than 1% of the outstanding shares, based on our assumptions regarding the number of shares issued in the demutualization.
The issuer of the IHC debt will be Prudential Holdings, LLC. Prudential Holdings, LLC will distribute most of the net proceeds to Prudential Financial, Inc. for general corporate purposes. Prudential Holdings, LLC will deposit a minority portion of the net proceeds of the IHC debt in a debt service coverage account which, together with reinvested earnings thereon, will constitute a source of payment and security for the IHC debt.
We believe that the proceeds of issuances of the Class B Stock and IHC debt will reflect capital in excess of that necessary to support the Closed Block Business and that the Closed Block Business will have sufficient assets and cash flows to service the IHC debt.
For a more detailed discussion of the Class B Stock, and your rights as a holder of Common Stock, you should read "Risk Factors--Additional risks relevant to you as holder of our Common Stock due to our issuance of Class B Stock", "Demutualization and Related Transactions--Related Transactions--Class B Stock and IHC Debt Issuances" and "Description of Capital Stock--Common Stock".
In order to separately reflect the financial performance of the Financial Services Businesses and the Closed Block Business, we will allocate all our assets and liabilities and earnings between the two Businesses and account for them as if they are separate legal entities. Assets and liabilities allocated to the Closed Block Business will be those that we consider appropriate to operate that business. After giving effect to the demutualization and the issuances of Class B Stock and the IHC debt, the Closed Block Business would consist principally of:
. Within The Prudential Insurance Company of America, Closed Block Assets, Surplus and Related Assets and deferred policy acquisition costs and other assets and, with respect to liabilities, Closed Block Liabilities.
. Within Prudential Holdings, LLC, the principal amount of the IHC debt and related unamortized debt issuance costs and hedging activities.
. Within Prudential Financial, Inc., dividends received from Prudential Holdings, LLC, and reinvestment thereof, and other liabilities of Prudential Financial, Inc., in each case as attributable to the Closed Block Business.
The Financial Services Businesses will bear any expenses and liabilities from litigation affecting the Closed Block policies, subsequent reserve reestimations (if any) with respect to specified incurred but not reported death claims recorded as of demutualization and the consequences of certain adverse tax determinations. These expenses would therefore be reflected in the Financial Services Businesses, and not in the Closed Block Business. In connection with the sale of the Class B Stock and IHC debt, we have agreed, or expect to agree, to indemnify the investors with respect to certain matters, and such indemnification will be borne by the Financial Services Businesses.
The following diagram reflects the planned allocation of Prudential Financial, Inc.'s consolidated assets and liabilities between the Financial Services Businesses and the Closed Block Business after giving effect to the demutualization and the destacking:
[FLOW CHART]
You should understand that there will be no legal separation of the two Businesses and that holders of Common Stock and holders of Class B Stock will both be common stockholders of Prudential Financial, Inc. Holders of Common Stock will have no interest in a legal entity representing the Financial Services Businesses, holders of Class B Stock will have no interest in a legal entity representing the Closed Block Business and holders of each class of common stock will be subject to all of the risks associated with an investment in Prudential Financial, Inc. and all of our businesses, assets and liabilities.
As described herein, the Class B Stock will be exchangeable for or convertible into shares of Common Stock at any time at our discretion, at the discretion of the holders of Class B Stock in the event of certain regulatory events, or mandatorily in the event of a change of control of Prudential Financial, Inc. or a sale of all or substantially all of the Closed Block Business. Commencing in 2016, the Class B Stock will be convertible at the discretion of the holders of the Class B Stock. Upon exchange or conversion of the Class B Stock, the Businesses would cease to be separated and the intended benefits of the separation would also cease.
Having two classes of common stock could result in potential conflicts of interest between the two classes. Prudential Financial, Inc.'s Board of Directors would have a fiduciary duty to all holders of Common Stock and Class B Stock and intends to resolve such conflicts in a manner it deems fair to such holders.
The Common Stock Offering
Common Stock Offering............ The Common Stock will be offered in separate,
concurrent U.S. and international offerings as follows:
U.S. Offering.................... 93.5 million shares
International Offering........... 16.5 million shares
Total............................ 110.0 million shares
We refer to these offerings collectively as the
"offering". The shares do not include 16.5 million
shares of Common Stock issuable upon exercise of the
underwriters' options to purchase additional shares as
described under "Underwriting".
Shares of Common Stock to be
Outstanding after the Offering... Approximately 566.3 million shares. This number does
not include the 16.5 million shares of Common Stock
issuable upon exercise of the underwriters' options to
purchase additional shares as described under
"Underwriting". This number also does not include up to
approximately 12.3 million shares of Common Stock to be
issuable under employee stock options expected to be
granted at the time of the offering.
Use of Proceeds.................. We estimate that Prudential Financial, Inc. will
receive net proceeds from the offering of $2,889
million, or $3,322 million if the underwriters' options
to purchase additional shares as described under
"Underwriting" are exercised in full, assuming an
initial public offering price of $27.50 per share.
Prudential Financial, Inc. will:
. use the net proceeds of this offering, other than
proceeds obtained from any exercise of the
underwriters' options to purchase additional shares,
to make certain cash payments to eligible
policyholders receiving cash in the demutualization,
and
. retain any remaining net proceeds for general
corporate purposes.
Common Stock Dividend
Policy........................... Prudential Financial, Inc.'s Board of Directors
currently intends to declare dividends on the Common
Stock, payable once annually, and expects that the
first annual dividend will be $0.30 per share, which
will be declared in the fourth quarter of 2002. See
"Dividend Policy" for a discussion of the factors that
will affect the determination by our Board of Directors
to declare dividends as well as other matters
concerning our dividend policy.
Risk Factors..................... For a discussion of factors you should consider before
buying shares of Common Stock, see "Risk Factors".
New York Stock Exchange Symbol... PRU
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We based the information above on assumptions we have made as to the number of shares of Common Stock and the amount of cash and policy credits that we will distribute to eligible policyholders in our demutualization. We discuss these assumptions in "--Summary Unaudited Pro Forma Condensed Consolidated Financial Information" below.
Acquisitions of 5% or more shares of our common stock or the total voting power of the Common Stock and Class B Stock will be subject to certain legal restrictions as described under "Business--Regulation-- Regulation Affecting Prudential Financial, Inc.--Insurance Holding Company Regulation--Acquisition of Control".
Other Concurrent Offerings
Class B Stock.............
We plan to sell up to 2.0 million shares of Class B
Stock in a private placement concurrently with this
offering of Common Stock.
IHC debt..................
Up to $1.75 billion of IHC debt is expected to be
offered and sold in a private placement
concurrently with this offering.
Equity Security Units..... We expect to publicly offer % equity security units for an aggregate offering price of up to $500 million, plus up to an additional $75 million if the underwriters for that offering exercise their options to purchase additional units.
Each equity security unit will have a stated amount of $50 and will initially consist of:
. a purchase contract, under which the holder agrees to purchase, for $50, shares of Common Stock of Prudential Financial, Inc. on , 2004; and . a redeemable capital security of Prudential Financial Capital Trust I, a statutory business trust created under Delaware law that we own, with a stated liquidation amount of $50. |
The purchase contract underlying a unit will obligate the holder to purchase, and us to sell, for $50, on , 2004, a number of shares of our Common Stock equal to a specified settlement rate based on the average trading price of our Common Stock at that time, resulting in the issuance of between and shares of Common Stock per unit, or up to shares in total, if the underwriters exercise their options to purchase additional units. In addition, we will make quarterly contract fee payments to the holder under the purchase contracts at the annual rate of % of the stated amount of $50 per purchase contract. We have the option to defer contract fee payments on the purchase contracts.
The trust's assets will consist solely of debentures due 2006 issued by Prudential Financial, Inc. to the trust. The debentures will have an interest rate and principal amount that are the same as the distribution rate and stated liquidation amount of the redeemable capital securities. The capital securities are redeemable by Prudential Financial Capital Trust I for cash only upon the maturity of the debentures (and for this reason are referred to as redeemable). The holders of units will initially receive quarterly cumulative cash distributions on the redeemable capital securities at the annual rate of % of the stated liquidation amount of $50 per redeemable capital security, subject to our right to defer these distributions. Prudential Financial, Inc. will guarantee distributions on the redeemable capital securities to the extent of available trust funds. The indenture governing the debentures will prohibit, with limited exceptions, the payment of dividends on our Common Stock during a deferral of interest payments on the debentures or an event of default under the indenture or the related guarantee. In addition, the purchase contract agreement governing the forms of the purchase contracts will prohibit, with limited exceptions, the payment of dividends on our Common Stock during a deferral of the contract fee payments.
The financial statements of the trust will be consolidated in our consolidated financial statements, with the redeemable capital securities shown on our consolidated balance sheets under the caption "Guaranteed minority interest in trust holding solely debentures of Parent". The notes to our consolidated financial statements will disclose that the sole asset of the trust will be the debentures issued by Prudential Financial, Inc. to the trust. Distributions on the redeemable capital securities will be reported as a charge to minority interest, included in general and administrative expenses, in our consolidated statements of operations, whether paid or accrued.
Additional Concurrent
Financings................ In addition to this offering, the offering of
equity security units and the private placements of
Class B Stock and the IHC debt, the plan of
reorganization permits us, subject to any required
regulatory approval, to raise funds for use in
connection with the plan of reorganization prior
to, on or within 30 days after the effective date
of the demutualization through one or more of the
following transactions: (i) the offering of public
or private debt; (ii) the offering of preferred
stock or other equity securities or options,
warrants or other securities convertible,
exchangeable or exercisable for any of the
foregoing; and (iii) bank borrowings. We retain
flexibility to raise funds for general corporate
purposes at any time.
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The closing of this offering is subject to the completion of the demutualization of The Prudential Insurance Company of America and the private placement of the Class B Stock, but the issuance of the IHC debt and the offering of the equity security units are not conditions to this offering.
Summary Consolidated Financial and Other Information
All financial data and ratios presented in this prospectus have been prepared using generally accepted accounting principles unless otherwise indicated. The consolidated financial statements of The Prudential Insurance Company of America prior to the demutualization will become Prudential Financial, Inc.'s consolidated financial statements upon demutualization. References to our financial results or condition refer to our consolidated results or condition unless otherwise indicated.
We derived the summary consolidated income statement data, balance sheet data and division operating results as of and for the annual periods shown below from our audited consolidated financial statements which, for years 2000 and 1999, are included in this prospectus. We derived the summary consolidated income statement data and division operating results for the interim nine-month 2001 and 2000 periods and selected consolidated balance sheet data as of September 30, 2001 from our unaudited interim consolidated financial statements included in this prospectus. We derived the summary consolidated balance sheet data as of September 30, 2000 from our unaudited interim consolidated financial statements not included in this prospectus. In the opinion of management, the unaudited financial statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement. Results for the nine-month periods may not be indicative of the results for the full year or any other interim period.
In April 2001 we completed the acquisition of Gibraltar Life, which has adopted a November 30 fiscal year end. Consolidated balance sheet data as of September 30, 2001 includes Gibraltar Life assets and liabilities as of August 31, 2001, and consolidated income statement data includes Gibraltar Life results for the period April 2, 2001 through August 31, 2001. Statistics for Gibraltar Life are based on these dates as well.
We have made several dispositions that materially affect the comparability of the data presented below. In the fourth quarter of 2000 we restructured the capital markets activities of Prudential Securities, exiting its lead-managed equity underwriting for corporate issuers and institutional fixed income businesses. These businesses recorded a pre-tax loss of $122 million in the nine months ended September 30, 2001, a pre-tax loss of $50 million in the nine months ended September 30, 2000, a pre-tax loss of $620 million in the year ended December 31, 2000, pre-tax income of $23 million in 1999, a pre-tax loss of $73 million in 1998 and pre-tax income of $55 million in 1997. The loss from these operations in the year 2000 included charges of $476 million associated with our termination and wind-down of these businesses. In 2000, we sold Gibraltar Casualty Company, a commercial property and casualty insurer that we placed in wind-down status in 1985. Gibraltar Casualty had no impact on results in the nine months ended September 30, 2001 and recorded pre-tax losses of $7 million in the nine months ended September 30, 2000, $7 million in the year ended December 31, 2000, $72 million in 1999, $76 million in 1998, $24 million in 1997 and $29 million in 1996. In 1996, we sold substantially all of our Canadian life insurance operations and policies in force and our Canadian property and casualty insurer. These divested Canadian businesses generated pre-tax income of $85 million in 1996, which reflects a $116 million gain on disposal. In 1996, we sold substantially all of the remaining mortgage servicing rights from our residential first mortgage banking business that we had previously sold, which resulted in a pre-tax gain of $229 million. We also recognized a pre-tax loss of $41 million in 1998 and a pre-tax profit of $9 million in 1997 primarily related to our remaining obligations with respect to this business.
You should read this summary consolidated financial and other data in conjunction with "Selected Consolidated Financial and Other Information", "Management's Discussion and Analysis of Financial Condition and Results of Operations", "Unaudited Pro Forma Condensed Consolidated Financial Information" and our consolidated financial statements included in this prospectus.
As of or for the
Nine Months Ended
September 30, As of or for the Year Ended December 31,
------------------ ------------------------------------------------
2001 2000 2000 1999 1998 1997 1996
-------- -------- -------- -------- -------- -------- --------
Income Statement Data: (in millions)
Revenues:
Premiums............... $ 9,112 $ 7,509 $ 10,221 $ 9,528 $ 9,048 $ 9,043 $ 9,999
Policy charges and fee
income................ 1,298 1,192 1,639 1,516 1,465 1,423 1,490
Net investment income.. 6,895 7,057 9,497 9,367 9,454 9,458 9,461
Realized investment
gains (losses), net... (270) (151) (288) 924 2,641 2,168 1,128
Commissions and other
income................ 3,332 4,272 5,475 5,233 4,416 4,381 4,512
-------- -------- -------- -------- -------- -------- --------
Total revenues......... 20,367 19,879 26,544 26,568 27,024 26,473 26,590
-------- -------- -------- -------- -------- -------- --------
Benefits and expenses:
Benefits and expenses
other than sales
practices remedies and
costs................. 19,985 18,534 25,817 24,213 23,277 23,073 23,925
Sales practices
remedies and costs.... -- -- -- 100 1,150 2,030 1,125
-------- -------- -------- -------- -------- -------- --------
Total benefits and
expenses.............. 19,985 18,534 25,817 24,313 24,427 25,103 25,050
-------- -------- -------- -------- -------- -------- --------
Income from continuing
operations before
income taxes........... 382 1,345 727 2,255 2,597 1,370 1,540
-------- -------- -------- -------- -------- -------- --------
Income taxes............ 30 679 406 1,042 970 407 180
-------- -------- -------- -------- -------- -------- --------
Income from continuing
operations............. 352 666 321 1,213 1,627 963 1,360
-------- -------- -------- -------- -------- -------- --------
Net gain (loss) from
discontinued
operations, net of
taxes.................. -- -- 77 (400) (521) (353) (282)
-------- -------- -------- -------- -------- -------- --------
Net income.............. $ 352 $ 666 $ 398 $ 813 $ 1,106 $ 610 $ 1,078
======== ======== ======== ======== ======== ======== ========
Division Data:
Income (loss) from
continuing operations
before income taxes(1):
U.S. Consumer
Division.............. $ 261 $ 802 $ 744 $ 659 $ 980
Employee Benefits
Division.............. 106 187 269 485 936
International
Division.............. 405 282 307 242 166
Asset Management
Division.............. 147 238 277 253 167
Corporate and Other.... (154) (212) (1,063) 272 (1,319)
-------- -------- -------- -------- --------
Total--Financial
Services Businesses.. 765 1,297 534 1,911 930
-------- -------- -------- -------- --------
Traditional
Participating Products
segment............... (383) 48 193 344 1,667
-------- -------- -------- -------- --------
Total................. $ 382 $ 1,345 $ 727 $ 2,255 $ 2,597
======== ======== ======== ======== ========
Balance Sheet Data:
Total assets............ $295,711 $304,202 $272,753 $285,094 $279,422 $259,571 $228,867
Long-term debt.......... 3,214 3,445 2,502 5,513 4,734 4,273 3,760
Total liabilities....... 273,606 283,838 252,145 265,803 259,027 239,853 210,344
Equity.................. 22,105 20,364 20,608 19,291 20,395 19,718 18,523
Equity excluding net
unrealized investment
gains and losses on
available-for-sale
securities............. 20,560 20,571 20,249 19,951 19,123 17,966 17,387
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In managing our business, we analyze our operating performance separately for our Financial Services Businesses and our Traditional Participating Products segment using a non-GAAP measure we call "adjusted operating income". We calculate adjusted operating income by adjusting our income from continuing operations before income taxes shown above to exclude certain items. The items we exclude are:
. realized investment gains, net of losses and related charges;
. sales practices remedies and costs;
. the gains, losses and contribution to income/loss of divested businesses that do not qualify for "discontinued operations" accounting treatment under GAAP; and
. demutualization costs and expenses.
Wind-down businesses that we have not divested remain in adjusted operating income. We exclude our discontinued healthcare operations from income from continuing operations before income taxes, as shown above.
The excluded items are important to an understanding of our overall results of operations. You should not view adjusted operating income as a substitute for net income determined in accordance with GAAP, and you should note that our definition of adjusted operating income may differ from that used by other companies. However, we believe that the presentation of adjusted operating income as we measure it for management purposes enhances the understanding of our results of operations by highlighting the results from ongoing operations and the underlying profitability factors of our businesses. We exclude realized investment gains, net of losses and related charges, from adjusted operating income, because the timing of transactions resulting in recognition of gains or losses is largely at our discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of our businesses. We exclude sales practices remedies and costs because they relate to a substantial and identifiable non-recurring event. We exclude the gains and losses and contribution to income/loss of divested businesses because, as a result of our decision to dispose of these businesses, these results are not relevant to the profitability of our ongoing operations and could distort the trends associated with our ongoing businesses. We exclude demutualization costs and expenses because they are directly related to our demutualization and could distort the trends associated with our business operations.
We show our revenues and adjusted operating income by division and for the Traditional Participating Products segment, as well as a reconciliation of both measures on a consolidated basis to their corresponding GAAP amounts, below.
Nine Months
Ended
September 30, Year Ended December 31,
---------------- -------------------------
2001 2000 2000 1999 1998
------- ------- ------- ------- -------
(in millions)
Operating Results:
Financial Services Businesses:
Revenues(1):
U.S. Consumer Division............ $ 5,658 $ 6,039 $ 8,015 $ 7,530 $ 7,335
Employee Benefits Division........ 4,431 4,216 5,686 5,442 5,463
International Division............ 3,369 1,953 2,624 2,102 1,622
Asset Management Division......... 931 1,005 1,344 1,137 993
Corporate and Other............... 123 214 283 566 313
------- ------- ------- ------- -------
Total............................ 14,512 13,427 17,952 16,777 15,726
------- ------- ------- ------- -------
Other amounts included in
consolidated revenues:
Realized investment gains
(losses), net.................... 3 (216) (379) 586 944
Revenues from divested
businesses....................... (15) 272 269 511 325
------- ------- ------- ------- -------
Total revenues--Financial
Services Businesses............. 14,500 13,483 17,842 17,874 16,995
------- ------- ------- ------- -------
Traditional Participating Products
segment:
Revenues(1)....................... 6,140 6,331 8,611 8,356 8,332
Other amounts included in
consolidated revenues:
Realized investment gains
(losses), net.................... (273) 65 91 338 1,697
------- ------- ------- ------- -------
Total revenues--Traditional
Participating Products
segment......................... 5,867 6,396 8,702 8,694 10,029
------- ------- ------- ------- -------
Total consolidated revenues........ $20,367 $19,879 $26,544 $26,568 $27,024
======= ======= ======= ======= =======
Financial Services Businesses:
Adjusted operating income
(loss)(2):
U.S. Consumer Division............ $ 323 $ 802 $ 740 $ 667 $ 852
Employee Benefits Division........ 159 311 387 400 440
International Division............ 398 262 322 233 157
Asset Management Division......... 155 236 276 252 166
Corporate and Other............... 55 77 (4) 137 (34)
------- ------- ------- ------- -------
Total adjusted operating
income.......................... 1,090 1,688 1,721 1,689 1,581
------- ------- ------- ------- -------
Items excluded from adjusted
operating income:
Realized investment gains, net of
losses and related charges:
Realized investment gains
(losses), net................... 3 (216) (379) 586 944
Related charges(3)............... (7) 7 (29) (142) (225)
------- ------- ------- ------- -------
Total realized investment gains,
net of losses and related
charges........................ (4) (209) (408) 444 719
------- ------- ------- ------- -------
Sales practices remedies and
costs............................ -- -- -- (100) (1,150)
Divested businesses............... (122) (69) (636) (47) (196)
Demutualization costs and
expenses......................... (199) (113) (143) (75) (24)
------- ------- ------- ------- -------
Income from continuing
operations before income
taxes--Financial Services
Businesses...................... 765 1,297 534 1,911 930
------- ------- ------- ------- -------
Traditional Participating Products
segment:
Adjusted operating income(2)...... 289 301 547 316 206
Items excluded from adjusted
operating income:
Realized investment gains, net of
losses and related charges:
Realized investment gains
(losses), net................... (273) 65 91 338 1,697
Dividends to policyholders(4).... (399) (318) (445) (310) (236)
------- ------- ------- ------- -------
Total realized investment gains,
net of losses and related
charges........................ (672) (253) (354) 28 1,461
------- ------- ------- ------- -------
Income (loss) from continuing
operations before income
taxes--Traditional
Participating Products
segment......................... (383) 48 193 344 1,667
------- ------- ------- ------- -------
Consolidated income from continuing
operations before income taxes.... $ 382 $ 1,345 $ 727 $ 2,255 $ 2,597
======= ======= ======= ======= =======
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(3) Net realized investment gains impact our reserves for future policy benefits, our deferred policy acquisition costs, and our policyholder dividends. We refer to these impacts collectively as the "related charges". Related charges for the Financial Services Businesses consist of the following:
Nine Months
Ended Year Ended
September 30, December 31,
--------------- ------------------
2001 2000 2000 1999 1998
------- ------ ---- ----- -----
(in millions)
Reserves for future policy benefits..... $ 2 $ 2 $(36) $(147) $(218)
Amortization of deferred policy
acquisition costs...................... 1 5 7 5 (7)
Dividends to policyholders.............. (10) -- -- -- --
------- ------ ---- ----- -----
Total.................................. $ (7) $ 7 $(29) $(142) $(225)
======= ====== ==== ===== =====
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We adjust the reserves for some of our policies when cash flows related to
these policies are affected by net realized investment gains and the
related charge for reserves for future policy benefits represents that
adjustment. We amortize deferred policy acquisition costs for certain
investment-type products based on estimated gross profits, which include
net realized investment gains on the underlying invested assets, and the
related charge for amortization of deferred policy acquisition costs
represents the amortization related to net realized investment gains. As
part of our acquisition of Gibraltar Life, we will pay existing Gibraltar
Life policyholders a dividend generally equal to 70% of any net realized
investment gains from the collection or disposition of loans and investment
real estate in excess of the value of such assets included in the
Reorganization Plan. The related charge for dividends to policyholders
represents the portion of our expense charge for policyholder dividends
attributable to net realized investment gains on these assets during the
period.
(4) Net realized investment gains is one of the elements that we consider in
establishing the dividend scale, and the related charge for dividends to
policyholders represents the estimated portion of our expense charge for
policyholder dividends that is attributable to net realized investment
gains that we consider in determining our dividend scale. These gains are
reflected in the dividend scale over a number of years.
We have included below, on an adjusted operating income basis, supplemental condensed financial information for the Financial Services Businesses and the Traditional Participating Products segment. The Common Stock is expected to reflect the performance of the Financial Services Businesses only. The Financial Services Businesses will include the capital presently included in the Traditional Participating Products segment in excess of the amount necessary to support the Closed Block Business and the minor portion of traditional insurance products historically included within the Traditional Participating Products segment but which will not be included in the Closed Block. Accordingly, the results of the Financial Services Businesses and the Traditional Participating Products segment following the demutualization and the issuances of the Common Stock and Class B Stock will not be comparable to, and may vary materially from, the results reflected below. In periods subsequent to the issuance of the Class B Stock and the establishment of the Closed Block Business, the measure of earnings used by management to evaluate results of the Closed Block Business will not include any adjustments to reflect results on an adjusted operating income basis.
Nine Months Ended Year Ended
September 30, 2001 December 31, 2000
------------------------ ------------------------
Traditional Traditional
Financial Participating Financial Participating
Services Products Services Products
Businesses Segment Businesses Segment
---------- ------------- ---------- -------------
(in millions)
Revenues(1).................. $14,512 $6,140 $17,952 $8,611
Expenses(2).................. 13,422 5,851 16,231 8,064
------- ------ ------- ------
Adjusted operating income.... $ 1,090 $ 289 $ 1,721 $ 547
======= ====== ======= ======
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(1) Excludes realized investment gains, net, and revenues from divested businesses.
(2) Excludes impact of net realized investment gains on deferred acquisition cost amortization, reserves and dividends to policyholders; demutualization costs and expenses; and benefits and expenses of divested businesses.
Other Data:
As of As of December 31,
September 30, --------------------
2001 2000 1999 1998
------------- ------ ------ ------
Assets Under Management and Administration
(at fair market value): (in billions)
Managed by Asset Management division:
Retail customers(1)........................ $ 92.8 $107.4 $108.5 $ 96.5
Institutional customers(2)................. 84.9 95.1 96.8 92.0
General account............................ 110.1 110.0 107.9 119.8
------ ------ ------ ------
Total proprietary assets under management.. 287.8 312.5 313.2 308.3
Managed by Retail Investments or Private
Client Group segments:
Non-proprietary wrap-fee and other domestic
assets under management(3)................ 45.0 50.5 44.8 36.9
International(4)............................ 40.5 8.1 5.3 3.6
------ ------ ------ ------
Total assets under management.............. 373.3 371.1 363.3 348.8
Client assets under administration.......... 190.9 221.8 232.9 197.7
------ ------ ------ ------
Total assets under management and
administration............................ $564.2 $592.9 $596.2 $546.5
====== ====== ====== ======
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(3) Consists of wrap-fee assets gathered by the Private Client Group and Retail Investments segments and funds invested in the non-proprietary options of our investment products other than wrap-fee products.
(4) Consists primarily of general account assets supporting our International Insurance segment, assets gathered by the International Securities and Investments segment, and wind-down Canadian insurance operations. September 30, 2001 amount includes $30.9 billion assets of Gibraltar Life, acquired in April 2001.
As of As of December 31,
September 30, ----------------------------------
Employees and 2001 2000 1999 1998 1997 1996
Representatives: ------------- ------ ------ ------ ------ ------
Prudential Agents............ 4,928 6,086 7,818 8,868 10,115 12,126
Life Planners................ 3,999 3,495 2,884 2,332 1,908 1,603
Gibraltar Life Advisors (as
of August 31, 2001)......... 6,596 -- -- -- -- --
Financial Advisors........... 6,366 6,676 6,898 6,820 6,613 6,439
Total employees(1)........... 63,265 56,925 59,530 61,793 60,777 59,824
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We discuss our net income and adjusted operating income under "Management's Discussion and Analysis of Financial Condition and Results of Operations".
Our principal executive offices are located at 751 Broad Street, Newark, New Jersey 07102. Our telephone number is (973) 802-6000.
Summary Unaudited Pro Forma Condensed Consolidated Financial Information
The following summary unaudited pro forma condensed consolidated financial information summarizes the unaudited pro forma condensed consolidated financial information and the accompanying notes included in this prospectus. This information gives effect to the demutualization, this offering, the issuances of the Class B Stock and IHC debt, and the offering of the equity security units, or the "units", as if they each had occurred as of September 30, 2001 for purposes of the unaudited pro forma statement of financial position information and as of January 1, 2000 for purposes of the unaudited pro forma statement of operations information. We have provided this information for informational purposes only and it is not necessarily indicative of our consolidated financial position or results of operations had the demutualization, this offering, the issuances of the Class B Stock and IHC debt, and the offering of the equity security units been consummated on the dates assumed. It also does not project or forecast our consolidated financial position or results of operations for any future date or period.
Under the plan of reorganization, we have allocated approximately 616.4 million notional shares of Common Stock to eligible policyholders. The information set forth below assumes that 160.1 million shares of these allocated notional shares of Common Stock are not issued to eligible policyholders who, under the plan of reorganization, are required to receive payments in the form of cash or policy credits.
Number Percentage Ownership
of Shares of Shares Outstanding
------------- ---------------------
(in millions)
Common Stock Share Data:
Shares notionally allocated to eligible
policyholders............................ 616.4
Less shares allocated to eligible
policyholders who receive cash or policy
credits.................................. 160.1
-----
Shares issued to eligible policyholders... 456.3 81%
Shares issued in this offering............ 110.0 19%
----- ----
Total shares of Common Stock outstanding.. 566.3 100%
===== ====
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The data set forth below under Pro Forma for Demutualization, this Offering, Issuances of Class B Stock and IHC Debt, and the Offering of the Units give effect to the following:
. gross proceeds of $3,025 million from the issuance of Common Stock in this offering less assumed underwriting discount and estimated offering expenses aggregating $136 million, or net proceeds from the offering of $2,889 million, in each case based on an assumed initial public offering price of $27.50 per share without giving any effect to exercise of the underwriters' options to purchase additional shares;
. gross proceeds of $175 million, or $171 million of net proceeds, are raised from the issuance of the Class B Stock, all of which will be allocated to the Financial Services Businesses;
. gross proceeds of $1,750 million, or $1,730 million of net proceeds, are raised from the issuance of the IHC debt, all of which will be allocated to the Financial Services Businesses, and 25% of which initially will be deposited in a debt service coverage account as security for payment of principal and interest on the IHC debt; and
. gross proceeds of $500 million from the offering of the units less assumed underwriting discount and estimated offering expenses aggregating $20 million, or net proceeds from the offering of the units of $480 million.
As of or for the Nine Months Ended September 30, 2001
-----------------------------------------------------------------------------------------------
Financial Services Businesses Closed Block Business
---------------------------------- ------------------------------
Pro Forma for Pro Forma for Pro Forma for
Demutualization, Demutualization, Demutualization,
this Offering, this Offering, this Offering,
Issuances of Issuances of Historical Issuances of
Class B Stock Class B Stock Traditional Class B Stock
and IHC Debt, and IHC Debt, Participating and IHC Debt,
and the Offering and the Offering Products and the Offering
Historical of the Units Historical of the Units Segment of the Units
---------- ---------------- -------------- ----------------- ------------- ----------------
(in millions, except per share data)
Income (loss) from
continuing operations.. $ 352 $ 60 $ 705 $ 381 $ (353) $ (321)
Income (loss) from
continuing operations
per share of:
Common Stock........... -- $ 0.67 -- $ 0.67 -- --
Class B Stock.......... -- $(160.50) -- -- -- $(160.50)
Attributed equity....... $22,105 $ 20,692 $ 14,683 $ 19,729 $7,422 $ 963
Book value per share of:
Common Stock........... -- $ 34.84 -- $ 34.84 -- --
Class B Stock.......... -- $ 481.50 -- -- -- $ 481.50
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For the Year Ended December 31, 2000
--------------------------------------------------------------------------------------------------
Financial Services Businesses Closed Block Business
----------------------------------- ------------------------------
Pro Forma for Pro Forma for Pro Forma for
Demutualization, Demutualization, Demutualization,
this Offering, this Offering, this Offering,
Issuances of Issuances of Historical Issuances of
Class B Stock Class B Stock Traditional Class B Stock
and IHC Debt, and IHC Debt, Participating and IHC Debt,
and the Offering and the Offering Products and the Offering
Historical of the Units Historical of the Units Segment of the Units
---------- ---------------- -------------- ----------------- ------------- ----------------
(in millions, except per share data)
Income (loss) from
continuing operations.. $321 $ 304 $ 234 $ 463 $87 $ (159)
Income (loss) from
continuing operations
per share of:
Common Stock........... -- $ 0.82 -- $ 0.82 -- --
Class B Stock.......... -- $(79.50) -- -- -- $(79.50)
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On a pro forma basis (reflecting the demutualization, this offering, the issuances of the Class B Stock and IHC debt, and the offering of the units) adjusted operating income, which is a non-GAAP measure, for the Financial Services Businesses would have been $1,014 million and $1,882 million for the nine months ended September 30, 2001 and the year ended December 31, 2000, respectively. The pro forma adjusted operating income of the Financial Services Businesses does not reflect, in either period, earnings on the $1,730 million of net proceeds from the IHC debt and $171 million of net proceeds from the Class B Stock or earnings on the $480 million of net proceeds from the units.
The closing of this offering is subject to the completion of the demutualization of The Prudential Insurance Company of America and the private placement of the Class B Stock, but the issuance of the IHC debt and the offering of the equity security units are not conditions to this offering.
RISK FACTORS
You should carefully consider the following risks before investing. These risks could materially affect our business, results of operations or financial condition and cause the trading price of our Common Stock to decline. You could lose part or all of your investment.
We could incur income statement charges if our insurance and annuity reserves are inadequate.
Our reserves for future policy benefits and claims may prove to be inadequate. We establish and carry, as a liability, reserves based on estimates by actuaries of how much we will need to pay for future benefits and claims. For our life insurance and annuity products, we calculate these reserves based on many assumptions and estimates, including estimated premiums we will receive over the assumed life of the policy, the timing of the event covered by the insurance policy, the amount of benefits or claims to be paid and the investment returns on the assets we purchase with the premiums we receive. We establish property and casualty reserves based on assumptions and estimates of damages and liabilities incurred. We establish disability and long-term care reserves based on assumptions and estimates of morbidity rates, policy and claim termination rates, benefit amounts, investment returns and other factors. Our reserving assumptions and estimates are inherently uncertain. Accordingly, we cannot determine with precision the ultimate amounts that we will pay for, or the timing of payment of, actual benefits and claims or whether the assets supporting the policy liabilities will grow to the level we assume prior to payment of benefits or claims. If our actual experience is different from our assumptions or estimates, our reserves could be inadequate. This could result in income statement charges from benefit or claim payments greater than the level used to establish or increase our reserves.
We have retained contingent liabilities from discontinued, divested and wind- down businesses that may require us to incur income statement charges.
We have retained insurance or reinsurance obligations and other contingent liabilities in connection with our divestiture or winding down of various businesses, and our reserves for these obligations and liabilities may prove to be inadequate. In particular, in connection with the sale of our healthcare operations, we retained all liabilities associated with litigation arising from or related to the healthcare business that existed at August 6, 1999 or that commenced within two years after that date with respect to claims relating to events that occurred prior to August 6, 1999, as discussed in relation to legal and regulatory matters below. In connection with the sale of Gibraltar Casualty Company, we entered into a stop-loss agreement whereby we reinsured the buyer for up to 80% of the first $200 million of adverse loss development in excess of Gibraltar Casualty's reserves on the closing date of the sale. Gibraltar Casualty's remaining insurance and reinsurance liabilities primarily include significant exposure to asbestos, environmental and product liability claims which involve substantial uncertainty as to, among other things, the number and value of possible claims, the timing of resolution of possible claims, responsibility for damages and other matters. While we believe that as of September 30, 2001 we had adequately reserved in all material respects for remaining costs and liabilities associated with our divested and wind-down businesses, including the costs associated with the healthcare litigation and the Gibraltar Casualty exposure, retained and contingent liabilities in connection therewith could cause us to take additional charges that could be material to our results of operations. See "Business--Discontinued Operations--Healthcare" and "Management's Discussion and Analysis of Financial Condition and Results of Operations--Consolidated Results of Operations--Discontinued Operations" for a further discussion of our discontinued healthcare business and "Business--Corporate and Other Operations--Divested Businesses" and "--Wind-down Businesses" and "Management's Discussion and Analysis of Financial Condition and Results of Operations--Consolidated Results of Operations--Divested Businesses" and "-- Results of Operations for Financial Services Businesses by Division and Traditional Participating Products Segment--Corporate and Other Operations" for a further discussion of Gibraltar Casualty and other divested and wind- down businesses.
Catastrophe losses could materially reduce our profitability or cash flow.
Our personal lines property and casualty insurance operations expose us to claims arising out of catastrophes, principally arising under our homeowners insurance policies. Hurricanes, earthquakes, tornadoes, wind, hail, fires, explosions and other events may cause catastrophes, and the occurrence and severity of catastrophes are inherently unpredictable. In accordance with generally accepted accounting principles, we do not establish reserves for catastrophes in advance of their occurrence, and the loss or losses from a single or multiple catastrophes could be material to our results of operations or cash flow in particular quarterly or annual
periods. Our catastrophe exposure risk management program relies heavily on reinsurance to reduce our catastrophe exposure, and the loss of availability of all or portions of our reinsurance program could subject us to increased exposure, which could be material. The cost of reinsurance affects the profitability of our property and casualty insurance business. There have been, and in the future may be, periods when reinsurance has not been available or at least not at acceptable rates and levels. We also face credit risk with respect to our reinsurers and other risk bearers, such as the Florida Hurricane Catastrophe Fund, in all lines of our insurance business, including property and casualty insurance, because the ceding of risk to them does not relieve us of our liability to insureds. Our recovery of less than contracted amounts from our reinsurers and other risk bearers could have a material adverse effect on our results of operations.
Interest rate fluctuations could negatively affect our profitability.
Changes in interest rates may reduce both our profitability from spread businesses and our return on invested capital. Some of our products, principally traditional whole life insurance, fixed annuities and guaranteed investment contracts, expose us to the risk that changes in interest rates will reduce our "spread", or the difference between the amounts that we are required to pay under the contracts and the rate of return we are able to earn on our general account investments intended to support our obligations under the contracts. Declines in our spread from these products or other spread businesses we conduct could have a material adverse effect on our businesses or results of operations.
In periods of increasing interest rates, we may not be able to replace the assets in our general account with higher yielding assets needed to fund the higher crediting rates necessary to keep our interest sensitive products competitive. We therefore may have to accept a lower spread and thus lower profitability or face a decline in sales and greater loss of existing contracts and related assets. In periods of declining interest rates, we have to reinvest the cash we receive as interest or return of principal on our investments in lower yielding instruments then available. Moreover, borrowers may prepay fixed-income securities, commercial mortgages and mortgage-backed securities in our general account in order to borrow at lower market rates, which exacerbates this risk. Because we are entitled to reset the interest rates on our fixed rate annuities and guaranteed investment contracts only at limited, pre-established intervals, and since many of our policies have guaranteed minimum interest or crediting rates, our spreads could decrease and potentially become negative.
A decline in market interest rates available on investments could also reduce our return from investments of capital that do not support particular policy obligations, which also could have a material adverse effect on our results of operations.
Increases in interest rates may cause increased surrenders and withdrawals of insurance products. In periods of increasing interest rates, policy loans and surrenders and withdrawals of life insurance policies and annuity contracts may increase as policyholders seek to buy products with perceived higher returns. This process may lead to a flow of cash out of our businesses. These outflows may require investment assets to be sold at a time when the prices of those assets are lower because of the increase in market interest rates, which may result in realized investment losses. A sudden demand among consumers to change product types or withdraw funds could lead us to sell assets at a loss to meet the demand for funds. In addition, unanticipated withdrawals and terminations also may require us to accelerate the amortization of deferred policy acquisition costs. This would increase our current expenses.
Changes in interest rates may reduce profitability or result in potential losses in non-insurance businesses where we take principal risk on fixed- income investments. We operate two fixed-income securities hedge portfolios in our Other Asset Management segment in which we take principal positions that we hedge with short positions and support through securities repurchase, reverse repurchase and lending transactions. As of September 30, 2001, the hedge portfolios had a total carrying value of approximately $4.0 billion, reflecting both principal positions and securities financing positions. We also run a commercial mortgage banking business in our Asset Management division in which we make or purchase loans secured by commercial mortgages and hold them until they can be aggregated in a combined investment fund, the securities of which we sell to investors in a securitization transaction. Similarly, we hold or "warehouse" other loan receivables pending sale in securitization transactions. As of September 30, 2001, we held approximately $1.2 billion of commercial mortgages and other loan receivables pending securitization, substantially all of which is supported by financing. We hold other inventory in our securities operations principally in connection with our business with customers. We engage in corporate investment activities, in which we borrow funds and use our asset/liability management techniques to earn additional spread income on the borrowed funds. As of September 30, 2001, the total indebtedness supporting these activities was approximately $1.5 billion.
Losses due to defaults by others could reduce our profitability or negatively affect the value of our investments.
Third parties that owe us money, securities or other assets may not pay or perform their obligations. These parties include the issuers whose securities we hold, borrowers under the mortgage loans we make, customers, trading counterparties, counterparties under swaps and other derivative contracts, reinsurers, clearing agents, exchanges, clearing houses and other financial intermediaries. These parties may default on their obligations to us due to bankruptcy, lack of liquidity, downturns in the economy or real estate values, operational failure or other reasons. The current uncertain trend in the U.S. and other economies has resulted in rising investment impairments, and a further downturn could result in increased impairments. We recognized consolidated impairments of fixed maturities of $540 million in 2000 as compared to $266 million in 1999. We recognized consolidated impairments of fixed maturities of $757 million in the first nine months of 2001 as compared to $301 million in the first nine months of 2000. We currently expect, if present economic and financial conditions persist, continued impairments in the 2001 fourth quarter roughly comparable to the average rate of impairments in the first three quarters of 2001.
The default of a major market participant could disrupt the securities markets or clearance and settlement systems in the United States or abroad. A failure of a major market participant could cause some clearance and settlement systems to assess members of that system, including our broker- dealer subsidiaries, or could lead to a chain of defaults that could adversely affect us. A default of a major market participant could disrupt various markets which could in turn cause market declines or volatility.
Other market fluctuations and general economic, market and political conditions may also negatively affect our business and profitability.
Our investment returns, and thus our profitability, may also be adversely affected from time to time by conditions affecting our specific investments and, more generally, by stock, real estate and other market fluctuations and general economic, market and political conditions.
Our ability to make a profit on insurance products, fixed annuities and guaranteed products depends in part on the returns on investments supporting our obligations under these products and the value of specific investments may fluctuate substantially depending on the foregoing conditions.
We also make investments in securities to support our customer operations in our securities operations, including our market-making and other principal trading activities to facilitate customer transactions, and our commercial mortgage securitization operations. We also engage in proprietary trading of equities, commodities and futures and take proprietary positions in our hedge portfolios and our proprietary investment and syndication activities. The foregoing activities expose us to significant market risk as we buy securities or other assets, including assets to be repackaged, all of which are subject to market fluctuation. Even though we generally buy the securities or other assets for resale and the risk in most, but not all, cases is short-term, our exposure is often for large amounts. We use a variety of strategies to hedge our exposure to interest rate and other market risk. However, hedging strategies are not always available, and our hedging could be ineffective. As a result of exiting the lead-managed equity underwriting for corporate issuers and institutional fixed income businesses, we are winding down related portfolios of loans and loan commitments to clients of these businesses which, at September 30, 2001, aggregated approximately $0.9 billion. We could incur material losses from these activities.
The current uncertain trends in the U.S. and international economic and investment climates have adversely affected our businesses and profitability in 2001, and can be expected to continue to do so unless conditions improve. Our profitability benefitted from strong equity markets in 1998 through 2000, and the decline in global stock markets has adversely affected, and can be expected to continue to adversely affect, profitability of many of our businesses.
A decline or increase in volatility in the securities markets may negatively affect our businesses.
Our investment-based and asset management products and services and our investment advisory and securities brokerage services expose us to the risk that sales will decline and lapses of variable life and annuity products and withdrawals of assets from other investment products will increase if, as a result of a failure of the market to maintain its rate of growth, a market downturn, increased market volatility or other market conditions, customers become dissatisfied with their investments. A market downturn also would result in lower account
balances as a result of decreases in market value and lower margin account balances. In many cases our fees in these businesses are based on a percentage of the assets we manage and, if account values decline, our fee revenue would decline. Declines in margin account balances would result in a decline in our net interest revenues. A market downturn also could result in a decline in the volume of transactions that we execute for our customers, and therefore a decline in our commission and fee revenue.
Our results of operations for the nine months ended September 30, 2001 illustrate this risk. The substantial declines in U.S. and international securities markets have resulted in substantially lower securities transaction volume and asset valuations, resulting in substantial declines in commission and related revenue in our U.S. Consumer, International and Asset Management divisions and lower asset management fee income in our U.S. Consumer and Asset Management divisions.
A downgrade in our claims-paying or credit ratings could limit our ability to market products, increase the number or value of policies being surrendered and/or hurt our relationships with creditors or trading counterparties.
Our claims-paying ratings, which are intended to measure our ability to meet policyholder obligations, are an important factor affecting public confidence in most of our products and, as a result, our competitiveness. The interest rates we pay on our borrowings are largely dependent on our credit ratings. You can read about our claims-paying ratings under "Business--Ratings".
On November 8, 2001, S&P downgraded Prudential Property & Casualty Insurance Company's claims-paying rating, citing the potential for it to not meet our operating performance objectives.
Following this downgrade, we believe that our claims-paying ability and credit ratings are stable. However, downgrading of our claims-paying ratings would limit our ability to sell our insurance and annuity products and guaranteed contracts and would reduce our profitability. Downgrading of our credit ratings would increase the cost of borrowing and reduce our profitability.
Intense competition could negatively affect our ability to maintain or increase our profitability.
Our businesses are intensely competitive. We compete based on a number of factors including name recognition, service, the quality of investment advice, investment performance, product features, price, perceived financial strength, and claims-paying and credit ratings. Our competitors include insurers, broker-dealers, financial advisors, asset managers and other financial institutions. A number of our business units face competitors that have greater market share, offer a broader range of products or have higher claims- paying or credit ratings than we do.
In recent years, there has been substantial consolidation and convergence among companies in the financial services industry, particularly as the laws separating banking, insurance and securities have been relaxed, resulting in increased competition from large, well-capitalized financial services firms. In particular, a number of large commercial banks, insurance companies and other broad-based financial services firms have established or acquired other financial services businesses such as a broker-dealer or an insurance company. Many of these firms also have been able to increase their distribution systems through mergers or contractual arrangements. We expect consolidation to continue and perhaps accelerate in light of the adoption of the Gramm-Leach- Bliley Act, which we discuss below.
In recent years our rankings against competitors in sales of certain investment and insurance products have declined. We continue our efforts to strengthen and broaden both our distribution channels and our product offerings but we cannot assure they will be successful. In particular, the marketplace may make a more significant or rapid shift to non-affiliated and direct distribution alternatives than we anticipate or are able to achieve ourselves. If this happens, our rankings against competitors' market shares and results of operations could be adversely affected.
We may be unable to attract and retain sales representatives and other employees, particularly Financial Advisors.
We compete to attract and retain Prudential Agents, Financial Advisors, Life Planners, asset managers, research analysts, investment bankers and other employees, as well as independent distributors of our products.
Intense competition exists for persons and independent distributors with demonstrated ability. We compete with other financial institutions primarily on the basis of our products, compensation, support services and financial position. In particular, we have experienced continuing turnover among Financial Advisors, including experienced Financial Advisors, due in part to greater industry competition for productive Financial Advisors and the lack of a stock-based compensation program. While we have undertaken several initiatives with respect to our Financial Advisors, these initiatives have resulted in increased expenses and may not succeed in attracting or retaining new Financial Advisors. In addition, our decision to exit the lead-managed equity underwriting for corporate issuers and institutional fixed income businesses of Prudential Securities, and to pursue our strategy of providing research of interest to our investor clients is new, and its effect on our ability to attract and retain Financial Advisors and research analysts is uncertain. Sales and persistency in our businesses and our results of operations and financial condition could be materially adversely affected if we are unsuccessful in attracting and retaining sales representatives.
Fluctuations in foreign currency exchange rates and foreign securities markets could negatively affect our profitability.
Our foreign insurance operations generally write policies denominated in local currencies and invest in local currencies. Although investing in local currencies limits the effect of currency exchange rate fluctuation on local operating results, fluctuations in such rates affect the translation of these results into our consolidated financial statements. Our foreign securities operations transact business in both local currencies and U.S. dollars. Accordingly, fluctuations in foreign currency exchange rates may directly affect these operations.
Our domestic and international insurance and securities businesses own foreign securities and are subject to fluctuations in foreign securities markets, which can be volatile. In the last several years, various emerging market countries have experienced severe economic and financial disruptions, including significant devaluations of their currencies and low or negative growth rates in their economies. Interest rates in Japan have been at historically low levels in recent years, and continued low or declining rates could affect the profitability of our international insurance operations. The possible effects of these conditions include losses in our securities inventory positions and in our general account.
Our international operations face political, legal, operational and other risks that could negatively affect those operations or our profitability.
Our international operations face political, legal, operational and other risks that we do not face in our domestic operations. We face the risk of discriminatory regulation, nationalization or expropriation of assets, price controls and exchange controls or other restrictions that prevent us from transferring funds from these operations out of the countries in which they operate or converting local currencies we hold into U.S. dollars or other currencies. Some of our foreign insurance operations are, and are likely to continue to be, in emerging markets where these risks are heightened. In addition, we rely on local sales forces in these countries and we may encounter labor problems resulting from workers' associations and trade unions in some countries. If our business model is not successful in a particular country, we may lose all or most of our investment in building and training the sales force in that country.
The terrorist attacks on the United States and ensuing events may have a continuing negative impact on certain of our businesses.
Our losses arising from insurance claims in connection with the terrorist attacks on September 11, 2001 had a negative effect on income from continuing operations before income taxes, after release of existing policy reserves and expected reinsurance recoveries, of $50 million and on net income of approximately $30 million, for the nine months ended September 30, 2001. Gross losses from individual life, group life, accidental death and dismemberment, disability and property and casualty insurance claims were approximately $220 million. Our reinsurance programs provide coverage, with stated deductible amounts and subject to contractual limits, for portions of the risks we assume under some of our individual life insurance policies and for catastrophic events that result in group insurance and individual life insurance claims.
We cannot assess the future effects of the terrorist attacks, the ensuing U.S. military and other responsive actions and the possibility of further terrorist attacks, on our businesses at this time. The terrorist attacks and responsive actions have significantly adversely affected general economic, market and political conditions, increasing many of the risks in our businesses noted in the previous risk factors. This may have a negative effect
on our businesses and results of operations over time. In particular, the declines and volatility in share prices experienced following the reopening of the United States equity markets following the attacks have and may continue to contribute to a decline in assets under management and administration, which in turn could have a negative effect on fees we earn based on asset values in our U.S. Consumer, Employee Benefits and Asset Management divisions. The transaction volume of our Private Client Group may continue to be negatively affected if there is a decreased level of investor activity as a result of continuing uncertainties.
Our general account investment portfolios include investments, primarily comprised of debt securities, in industries that we believe may be adversely affected by the terrorist attacks and responsive actions, including airlines, lodging and entertainment companies and non-life insurance companies, with a total carrying value as of September 30, 2001, of approximately $3.0 billion, excluding securities maturing within one year. We also have equity securities in these industries with a carrying value of approximately $0.1 billion as of September 30, 2001. The effect of these events on the valuation of these investments is uncertain and could lead to increased impairments. The cost, and possibly the availability, in the future of reinsurance covering terrorist attacks for our individual life, group life, accidental death and dismemberment, disability and property and casualty insurance operations is uncertain. Although our ratings have not been affected by the terrorist attacks on the United States and remain stable as discussed above, over time the rating agencies could reexamine the ratings affecting the insurance industry generally, including our companies.
Our businesses are heavily regulated and changes in regulation may reduce our profitability.
Our insurance operations are subject to state insurance laws regulating all aspects of our business and are regulated and supervised principally by state insurance departments in the fifty states and U.S. territories and possessions. Our principal insurance regulatory authorities are the New Jersey Department of Banking and Insurance and the state insurance authorities in other states where our insurance subsidiaries are organized. The purpose of the state regulation of insurance is to protect policyholders and not our shareholders. Foreign insurance regulatory authorities regulate our international insurance operations. Products that are also "securities", such as variable life insurance and variable annuities, are also subject to federal and state securities laws and are regulated and supervised by the SEC, the NASD and state securities commissions.
On November 11, 1999, the Gramm-Leach-Bliley Act was adopted. This federal law permits the creation of financial services firms that can include commercial banking, merchant banking, securities, insurance and investment management activities under one holding company that would be subject to federal regulation. We expect the legislation will result in increased consolidation within the financial services industry. We cannot predict the effect of this legislation or further consolidation on our competitive position.
State insurance regulators and the National Association of Insurance Commissioners regularly re-examine existing laws and regulations applicable to insurance companies. Existing or future insurance-related laws and regulations may become more restrictive and may adversely affect our profitability.
State insurance guaranty associations have the right to assess insurance companies doing business in their state for funds to help pay the obligations of insolvent insurance companies to policyholders and claimants. Because the amount and timing of an assessment is beyond our control, the reserves that we have currently established for these potential liabilities may not be adequate.
Our asset management, securities, banking and other operations are subject to extensive regulation at the federal and/or state level by regulators including the SEC, the NASD, the NYSE, the CFTC, the Department of Labor, the FDIC, the OTS, the FTC, the Georgia Department of Banking and Finance, the Pennsylvania Department of Banking, and state securities authorities, and are subject to regulation in those jurisdictions outside the United States in which the businesses operate. The requirements imposed by regulators are generally designed to ensure the integrity of the financial markets and to protect customers and other third parties who deal with us, and are not designed to protect our shareholders. As a result, regulatory requirements often limit our activities, and we face the risk of significant intervention by regulatory authorities.
Many of the foregoing regulatory or governmental bodies have the authority to review our products and business practices and those of our agents and employees and to bring regulatory or other legal actions against us if, in their view, our practices, or those of our agents or employees, are improper. These actions can result in substantial fines, penalties or prohibitions or restrictions on our business activities and could have a material adverse effect on our business, results of operations or financial condition.
Legal and regulatory actions are inherent in our businesses and could result in financial losses or harm our businesses.
We are, and in the future may be, subject to legal and regulatory actions in the ordinary course of our insurance, asset management, securities, investing and other operations, both domestically and internationally. Pending legal and regulatory actions include proceedings relating to aspects of our businesses and operations that are specific to us and proceedings that are typical of the businesses in which we operate, including in both cases businesses that we have divested or placed in wind-down status. Some of these proceedings have been brought on behalf of various alleged classes of complainants. In certain of these matters, the plaintiffs are seeking large and/or indeterminate amounts, including punitive or exemplary damages. Substantial legal liability in these or future legal or regulatory actions could have a material financial effect or cause significant reputational harm which in turn could seriously harm our business prospects.
Regulatory authorities and customers brought significant regulatory actions and civil litigation against us in the past involving sales of individual permanent life insurance policies that we issued in the United States from 1982 to 1995. These proceedings alleged principally that we made misrepresentations concerning the use of existing life insurance policies to fund additional policies, the number of annual out-of-pocket cash premium payments required to fund life insurance policies and the characterization of policies as investments rather than life insurance policies. These proceedings, substantial related negative publicity and our actions to improve sales practice controls caused significant turnover and reduced headcount in our Prudential Agent sales force, principally in 1996 and 1997. Primarily as a result of this turnover, reduced headcount and negative publicity, we lost policies, customer accounts and assets in our individual life insurance and property and casualty insurance businesses. In 1996 we settled the insurance regulatory proceedings and the principal life insurance sales practices class action lawsuit. Pursuant to these settlements, we have distributed final remedies to virtually all eligible class members through the alternative dispute resolution process that we established. In addition, as of September 30, 2001, we remained a party to approximately 44 individual sales practices actions filed by class members who "opted out" of the class settlement relating to permanent life insurance policies we issued in the United States between 1982 and 1995, as well as 36 sales practices actions filed by class members who failed to "opt out" of the class settlement. Many of these suits seek substantial punitive damages in addition to compensatory damages. You can read about the life insurance related litigation in greater detail under "Business--Litigation and Regulatory Proceedings--Insurance--Life Insurance Sales Practices Issues".
We remain liable for certain litigation involving our divested healthcare operations. This litigation includes purported class actions and individual suits involving various issues, including payment of claims, denial of benefits, vicarious liability for malpractice claims, contract disputes with provider groups and former policyholders, and class actions challenging practices of our former managed care operations. The class actions involve purported nationwide classes of participants and multiple defendants and allege, among other things, misrepresentation of the level and quality of services, failure to disclose financial incentive agreements with physicians, interference with the physician-patient relationship, breach of contract and fiduciary duty, violations of ERISA, violations of and conspiracy to violate RICO, deprivation of plaintiffs' rights to the delivery of honest medical services and industry-wide conspiracy to defraud physicians by failing to pay under provider agreements and by unlawfully coercing providers to enter into agreements with unfair and unreasonable terms. The class actions are only in the preliminary stage and the remedies sought include unspecified damages, restitution, disgorgement of profits, treble damages, punitive damages and injunctive relief. You can read about the healthcare related litigation in greater detail under "Business--Litigation and Regulatory Proceedings-- Discontinued Operations".
Although we believe we have adequately reserved in all material respects for the costs of our litigation and regulatory matters, we can provide no assurance of this. It is possible that our results of operations or cash flow in particular quarterly or annual periods could materially decline due to an ultimate unfavorable outcome of these matters.
Employee misconduct is difficult to detect and deter and could harm our business, results of operations or financial condition.
Employee misconduct could result in violations of law by us, regulatory sanctions and/or serious reputational or financial harm. Employee misconduct can occur in each of our businesses and could include:
. binding us to transactions that exceed authorized limits,
. hiding unauthorized or unsuccessful activities resulting in unknown and unmanaged risks or losses,
. improperly using or disclosing confidential information,
. recommending transactions that are not suitable,
. engaging in fraudulent or otherwise improper activity,
. engaging in unauthorized or excessive trading to the detriment of customers, particularly in our Private Client Group segment, or
. otherwise not complying with laws or our control procedures.
We cannot always deter employee misconduct, and the precautions we take to prevent and detect this activity may not be effective in all cases. We cannot assure you that employee misconduct will not lead to a material adverse effect on our business, results of operations or financial condition.
Changes in federal income tax law could make some of our products less attractive to consumers and increase our tax costs.
In June 2001, the Economic Growth and Tax Relief Reconciliation Act of 2001 was enacted. The 2001 Act contains provisions that will, over time, significantly lower individual tax rates. This will have the effect of reducing the benefits of deferral on the build-up of value of annuities and life insurance products. The 2001 Act also includes provisions that will eliminate, over time, the estate, gift and generation-skipping taxes and partially eliminate the step-up in basis rule applicable to property held in a decedent's estate. Some of these changes might hinder our sales and result in the increased surrender of insurance products. We cannot predict the overall effect on the sales of our products of the tax law changes included in the 2001 Act.
Congress has, from time to time, also considered other tax legislation that could make our products less attractive to consumers, including legislation that would reduce or eliminate the benefit of the current federal income tax rule under which tax on the build-up of value of annuities and life insurance products can generally be deferred until payments are actually made to the policyholder or other beneficiary and excluded when paid as a death benefit under a life insurance contract.
Congress, as well as foreign, state and local governments, also consider from time to time legislation that could increase our tax costs. If such legislation is adopted, our consolidated net income could decline.
We cannot predict whether any such legislation will be enacted, what the specific terms of any such legislation will be or how, if at all, it might affect sales of our products.
Our risk management policies and procedures may leave us exposed to unidentified or unanticipated risk, which could negatively affect our businesses or result in losses.
We have devoted significant resources to develop our risk management policies and procedures and expect to continue to do so in the future. Nonetheless, our policies and procedures to identify, monitor and manage risks may not be fully effective. Many of our methods of managing risk and exposures are based upon our use of observed historical market behavior or statistics based on historical models. As a result, these methods may not predict future exposures, which could be significantly greater than the historical measures indicate. Other risk management methods depend upon the evaluation of information regarding markets, clients, catastrophe occurrence or other matters that is publicly available or otherwise accessible to us, which may not always be accurate, complete, up-to-date or properly evaluated. Management of operational, legal and regulatory risks requires, among other things, policies and procedures to record properly and verify a large number of transactions and events, and these policies and procedures may not be fully effective.
Allocation of inadequate assets to the Closed Block could reduce net income available to our shareholders.
The plan of reorganization requires us to establish and operate a Closed Block for the benefit of holders of certain participating individual insurance and annuity policies issued by The Prudential Insurance Company of America. The Closed Block is a mechanism designed to provide for the reasonable expectations for future policy dividends after demutualization of the holders of the policies included in the Closed Block by allocating assets that will be used for the payment of guaranteed benefits and policyholder dividends, expenses and taxes on those policies. The policies that we will include in the Closed Block are certain individual life insurance
policies and individual annuity contracts that are in force on the effective date of the demutualization on which we are currently paying or expect to pay experience-based policy dividends.
We initially will allocate assets to the Closed Block equal to approximately 26% of The Prudential Insurance Company of America's general account invested assets as of December 31, 2000. This amount, together with the investment cash flows they produce and the anticipated revenue from the Closed Block policies, are expected to be reasonably sufficient to provide for all guaranteed Closed Block policy benefits and expenses and taxes charged to the Closed Block, as well as future policy dividends after demutualization in accordance with the dividend scales in effect for 2000 (i.e., the dividend scales in effect on December 15, 2000, the date the Board of Directors of The Prudential Insurance Company of America adopted Prudential's plan of reorganization) if the experience underlying these scales continues. These assets include public and private fixed maturities, commercial and agricultural mortgages, public and private equities and real estate. On November 13, 2001, The Prudential Insurance Company of America's Board of Directors acted to reduce dividends, effective January 1, 2002, on Closed Block policies to reflect unfavorable investment experience that has emerged since July 1, 2000, the date the Closed Block was originally funded. Closed Block dividends for 2002 are expected to be approximately $240 million less than if the 2001 dividend scales (which were a continuation of the year 2000 dividend scales) were maintained. See "Unaudited Pro Forma Condensed Consolidated Financial Information--Unaudited Pro Forma Closed Block Information" for a description of the establishment and funding of the Closed Block.
We will operate the Closed Block for the benefit of the holders of the policies included in the Closed Block, and cash flows provided by the Closed Block Assets will solely benefit the holders of those policies and will not be available for dividends to our shareholders. However, in the unlikely event that poor results from business operations outside of the Closed Block completely deplete The Prudential Insurance Company of America's surplus, The Prudential Insurance Company of America may be required to use Closed Block Assets to pay guaranteed benefits on policies not included in the Closed Block. Closed Block policies will continue to be the obligation of The Prudential Insurance Company of America, and we will remain obligated to pay guaranteed policy benefits on these policies in accordance with their terms should the assets of the Closed Block be insufficient to satisfy the claims. If, over the period the Closed Block remains in existence, performance of the Closed Block Assets is more favorable than we originally expected, we will pay the excess to Closed Block policyholders as additional policyholder dividends, and it will not be available to our shareholders. If performance is less favorable, The Prudential Insurance Company of America will not be required to support the payment of dividends on Closed Block policies from its general funds, although it could choose to provide such support. If we were to make substantial payments to the benefit of Closed Block policies from our general funds, either in support of the payment of policyholder dividends or to satisfy claims, a lower amount of assets and net income would be available to our shareholders and the market price of our Common Stock could decline. The Closed Block will continue in effect as long as any policy in the Closed Block remains in force, which we currently expect will be at least 100 years.
We will also establish a separate closed block for the benefit of the owners of the participating insurance policies issued by our remaining Canadian branch. We will operate this closed block, which, because of the substantially smaller number of outstanding Canadian policies, will be insignificant in size, in a similar manner as the U.S. Closed Block and reflect it in our Corporate and Other operations of our Financial Services Businesses.
Our ability to pay shareholder dividends may be affected by limitations imposed on The Prudential Insurance Company of America and our other subsidiaries.
Prudential Financial, Inc. will act as a holding company for all our operations, and we do not intend that Prudential Financial, Inc. will have significant operating businesses. Prudential Financial, Inc.'s principal sources of revenues to meet its obligations, including the payment of shareholder dividends and operating expenses, will be dividends and interest from its subsidiaries. Prudential Financial, Inc.'s regulated insurance, broker-dealer and various other subsidiaries are subject to regulatory limitations on their payment of dividends and other transfers of funds to affiliates.
New Jersey insurance law provides that, except in the case of extraordinary dividends or distributions, all dividends or distributions paid by The Prudential Insurance Company of America may be declared or paid only from unassigned surplus, as determined pursuant to statutory accounting principles, less unrealized investment gains and revaluation of assets. The Prudential Insurance Company of America also must notify the New Jersey insurance regulator prior to paying a dividend and if the dividend, together with other dividends or distributions made within the preceding twelve months, would exceed a specified statutory limit based on financial results
under statutory accounting principles, obtain a non-disapproval from the New Jersey insurance regulator. You should note that results under statutory accounting principles may not be as favorable as results under generally accepted accounting principles. For a description of the statutory dividend limit, see "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources". Upon demutualization, unassigned surplus will be reduced to zero, thereby constraining The Prudential Insurance Company of America's ability to pay dividends in the initial years following demutualization. Unassigned surplus is expected to grow thereafter in the ordinary course of business over time, including gains from operations and any realized capital gains.
The laws regulating dividends of the other states in which our other insurance companies are organized are similar, but not identical, to New Jersey's. In addition, the net capital rules to which our broker-dealer subsidiaries are subject may limit their ability to pay dividends to Prudential Financial, Inc. The laws of foreign countries may also limit the ability of our insurance and other subsidiaries organized in those countries to pay dividends to Prudential Financial, Inc.
We cannot assure that Prudential Financial, Inc.'s subsidiaries will have enough earnings to support dividend payments to Prudential Financial, Inc. in an amount sufficient to fund Prudential Financial, Inc.'s cash requirements and shareholder dividends. From time to time the National Association of Insurance Commissioners and various state insurance regulators have considered, and may in the future consider, proposals to further limit dividend payments that an insurance company may make without regulatory approval. These proposals, if enacted, could further restrict the ability of our insurance companies to pay dividends to Prudential Financial, Inc.
A legal challenge to the plan of reorganization could adversely affect the terms of the demutualization and the market price of our Common Stock.
After a public hearing held on July 17 and 18, 2001, and subsequent approval of the plan of reorganization by policyholder vote which closed on July 31, 2001, on October 15, 2001, the Commissioner of Banking and Insurance of the State of New Jersey issued a Decision and Order approving our plan of reorganization as well as an order approving our request for a destacking extraordinary dividend in connection with our plan. Certain policyholders sought a stay of the Decision and Order from the Commissioner which was denied on October 30, 2001.
Before the Commissioner issued the Decision and Order, purported class action lawsuits were commenced asserting that various aspects of the plan of reorganization or the demutualization law are unfair or illegal on various theories and seeking, among other things, to enjoin implementation of the plan of reorganization and/or damages. In particular, purported class action lawsuits have been filed in the Superior Court of New Jersey on behalf of participating policyholders alleging that the plan of reorganization's provision for the distribution of demutualization consideration to non- participating policyholders and policyholders of subsidiaries violates the New Jersey demutualization law and rights of participating policyholders and alleging deficient disclosure to policyholders. These actions seek to enjoin implementation of the demutualization and the payment of compensatory damages to class members. In September and October 2001, we filed motions to dismiss these lawsuits. One of these actions is now focused on the distribution of demutualization consideration to policyholders of subsidiaries and requests a declaration that, were such distribution permitted by the New Jersey law governing the demutualization, such law would be unconstitutional. We believe the actions filed are meritless and will vigorously oppose them. Additional lawsuits may be filed.
The New Jersey law governing the demutualization provides that a Commissioner's order approving or disapproving a plan of reorganization shall be a final agency decision subject to appeal in accordance with, and within the time period specified by, the rules governing the courts of the state of New Jersey. On October 19, 2001, certain of the above policyholders filed a notice of appeal with the New Jersey appellate court which challenges the Commissioner's approval of the plan, including the plan's provision for distribution of consideration to non-participating policyholders.
These litigants, or others, could request that the New Jersey courts stay or otherwise enjoin consummation of the demutualization. Unless stayed or otherwise enjoined, we plan to complete the demutualization and this offering. However, a successful challenge to the plan or the Commissioner's Decision and Order (including following consummation of the demutualization) could result in monetary damages, a modification of the plan, or the Commissioner's approval of the plan being set aside. In addition, a successful challenge would likely result in substantial uncertainty relating to the terms and effectiveness of the plan of reorganization, and a substantial period of time might be required to reach a final determination. Such an outcome would likely negatively affect holders of Common Stock and could have a material adverse effect on our business, results of operations or financial condition.
Regulatory requirements, provisions of our certificate of incorporation and by-laws and our shareholder rights plan could delay, deter or prevent a takeover attempt that shareholders might consider in their best interests.
Under the New Jersey statute governing the demutualization and our plan of reorganization, for the three years after the effective date of the demutualization, no person other than Prudential Financial, Inc., certain of its subsidiaries or any employee benefit plans or trusts sponsored by us may acquire 5% or more of the total voting power of Prudential Financial, Inc.'s Common Stock and, if issued, Class B Stock without the prior approval of the New Jersey insurance regulator. In addition, various states in which our insurance companies are organized, including New Jersey, must approve any change of control of insurance companies organized in those states. Under most states' statutes, an entity is presumed to have control of an insurance company if it owns, directly or indirectly, 10% or more of the voting stock of that insurance company or its parent company. Federal, and in some cases state, banking authorities would also have to approve the indirect change of control of our banking operations. The federal securities laws could also require reapproval by customers of our investment advisory contracts to manage mutual funds, including mutual funds included in annuity products. In addition, the New Jersey Business Corporation Act prohibits certain business combinations with interested shareholders. These regulatory and other restrictions may delay a potential merger or sale of Prudential Financial, Inc., even if the Board of Directors decides that it is in the best interests of shareholders to merge or be sold. These restrictions also may delay sales or acquisitions of our subsidiaries.
Prudential Financial, Inc.'s certificate of incorporation and by-laws also contain provisions that may delay, deter or prevent a takeover attempt that shareholders might consider in their best interests. These provisions may adversely affect prevailing market prices for our Common Stock and include:
. classification of Prudential Financial, Inc.'s Board of Directors into three classes that serve staggered three-year terms,
. a prohibition on the removal of directors without cause,
. a restriction on the filling of vacancies on the Board of Directors by shareholders,
. restrictions on the calling of special meetings by shareholders,
. a requirement that shareholders may take action without a meeting only by unanimous written consent,
. advance notice procedures for the nomination of candidates to the Board of Directors and shareholder proposals to be considered at shareholder meetings, and
. supermajority voting requirements for the amendment of certain provisions of the certificate of incorporation and by-laws.
Prudential Financial, Inc.'s Board of Directors also has authorized a shareholders rights plan that will be effective upon the effective date of the demutualization. This rights plan may also create obstacles that may delay, deter or prevent a takeover attempt that shareholders might consider in their best interests.
The price of our Common Stock may decline due to the large number of shares that will be eligible for public sale following the demutualization.
Substantially all of the shares of our Common Stock distributed in the demutualization will be eligible for resale in the public market without restriction. It is possible that many of our policyholders might want to sell their shares. Policyholders will not be able to sell their shares of Common Stock until they receive a confirmation of the issuance of their shares. We expect that policyholders will receive such confirmation within 45 days of the effective date of the demutualization but it may happen earlier. Once a policyholder receives this confirmation, the policyholder will be able to sell shares either through the sales facility described below or by transferring the shares to a brokerage account for sale.
Pursuant to the requirements of the New Jersey demutualization statute, we will provide a program for a period of time beginning some time prior to the second anniversary of the effective date of the demutualization that permits each policyholder who receives 99 or fewer shares of Common Stock in the demutualization, and other shareholders holding 99 or fewer shares, to sell, at market prices and without brokerage commissions or similar fees, all of his or her shares, or purchase shares to obtain ownership of 100 shares. We estimate that when we complete the demutualization we will have approximately 4 million policyholders who will in total receive in excess of 166 million shares that we believe would be eligible to participate in this commission- free
program. In addition to the commission-free program, our transfer agent is expected to offer a sales facility for policyholders holding 1,000 shares of Common Stock or less to sell shares, at their own expense, through the transfer agent. The sales facility will not be available until at least 30 days after the effective date of the demutualization, and a policyholder may not use the sales facility until receiving the confirmation noted above. The terms of the commission-free program and these sales procedures will be designed in accordance with SEC requirements.
Sales of substantial amounts of Common Stock, or uncertainty as to whether sales of substantial amounts may occur, may adversely affect the price of the Common Stock. We cannot predict what the effect, if any, on our Common Stock price will be of future sales, or the availability of shares for future sales, under the commission-free program, the foregoing sales procedures or otherwise. We believe that in excess of 200 policyholders will be receiving allotments in the demutualization equal to or in excess of 100,000 shares of Common Stock. These policyholders typically are pension plans or other entities which are subject to special fiduciary obligations and legal requirements such as ERISA which may influence their decisions whether to retain or sell shares. Significant sales by these larger holders could adversely affect the price of the Common Stock.
Risks Related to our Acquisition of Kyoei Life Insurance Co., Ltd., now Gibraltar Life.
In April 2001, we completed the acquisition of Kyoei Life Insurance Co., Ltd., a financially troubled Japanese life insurer now renamed "Gibraltar Life Insurance Company, Ltd.", following reorganization proceedings which substantially restructured its assets and liabilities. Gibraltar Life's financial results from April 2, 2001 to August 31, 2001 are included in our consolidated financial results as of and for the nine months ended September 30, 2001. Our initial financial commitment to Gibraltar Life totaled approximately $1.2 billion. This acquisition involves a number of risks:
. Kyoei's results of operations and financial condition had deteriorated over recent years, and this deterioration accelerated in 2000 prior to Kyoei's filing for reorganization proceedings on October 20, 2000. There is no assurance that we will be able to continue to operate Gibraltar Life profitably or as to the level of such profitability.
. Gibraltar Life could experience post-reorganization policyholder surrenders and withdrawals materially different from those we anticipate, which could adversely affect our results. In addition, Gibraltar Life could incur material losses, including deterioration of assets or lower than expected investment returns.
See "Acquisition of Kyoei Life Insurance Co., Ltd." and "Management's Discussion and Analysis of Financial Condition and Results of Operations-- Consolidated Results of Operations--International Division--International Insurance" for a discussion of Gibraltar Life and the acquisition.
Additional risks relevant to you as holder of our Common Stock due to our issuance of Class B Stock.
Holders of Common Stock will be common stockholders of Prudential Financial, Inc. and will be subject to risks associated with an investment in Prudential Financial, Inc. as a whole, including the Closed Block Business. We cannot assure you that the market value of Common Stock will in fact reflect the performance of the Financial Services Businesses as we expect. Even though we will allocate all our consolidated assets, liabilities, revenue, expenses and cash flow between the Financial Services Businesses and the Closed Block Business in order to prepare the supplemental combining financial information regarding the Businesses, that allocation will not change the legal title to any assets or responsibility for any liabilities and will not affect the rights of any of our creditors. Further, holders of the Common Stock will not have any legal rights related to specific assets of the Financial Services Businesses. In any liquidation, holders of the Common Stock and Class B Stock will be entitled to receive a proportionate share of the net assets of Prudential Financial, Inc. that remains after paying all liabilities and the liquidation preferences of any preferred stock. This liquidation proportion will be based on the average market value per share of Common Stock, determined over a specified trading period ending 60 days after this offering, and the issuance price per share of the Class B Stock. Holders of Common Stock will be common stockholders of Prudential Financial, Inc., and as such will be subject to all risks associated with an investment in Prudential Financial, Inc. and all of our businesses, assets and liabilities, including the Closed Block Business. For example, if the cash flow of the Closed Block Business is insufficient to satisfy its liabilities, the Financial Services Businesses and the holders of Common Stock would be adversely affected.
If the Closed Block Business runs into financial difficulty, the value of Common Stock may suffer for reasons having nothing to do with the prospects for the Financial Services Businesses. Financial results of the Closed Block Business, including debt service on the IHC debt, will affect Prudential Financial, Inc.'s consolidated results of operations, financial position and borrowing costs. Prudential Holdings, LLC's assets, including the net proceeds of the IHC debt initially deposited in the debt service coverage account established for the security of the holders of the IHC debt, and any reinvested earnings thereon, and any other assets of Prudential Holdings, LLC allocated to the Financial Services Businesses, could be used to satisfy such debt service. This could affect the results of operations, financial position or borrowing costs of the Financial Services Businesses or the market price of the Common Stock. Repayment to the Financial Services Businesses of any inter- business loan created upon use of the debt service coverage account to service the IHC debt or to pay dividends to Prudential Financial, Inc. for purposes of the Closed Block Business will be subordinate to repayment of the IHC debt. In addition, any net losses of the Closed Block Business, and any dividends or distributions on, or repurchases of, the Class B Stock, will reduce the assets of Prudential Financial, Inc. legally available for dividends on the Common Stock. Accordingly, you should read financial information for the Financial Services Businesses together with financial information for Prudential Financial, Inc. as a whole. For a more detailed discussion of the IHC debt, you should read "Demutualization and Related Transactions--Related Transactions--Class B Stock and IHC Debt Issuances--IHC debt".
Having two classes of common stock could create potential conflicts of interest and the Board of Directors could make decisions that adversely affect holders of Common Stock. Having two classes of common stock could give rise to occasions when the interests of holders of one class might diverge or appear to diverge from the interests of holders of the other class. Examples include:
. our decisions as to whether and when to issue shares of Common Stock in exchange for Class B Stock,
. our decisions as to whether and when to approve dispositions of assets of either the Financial Services Businesses or the Closed Block Business, and
. our decisions as to whether to pay dividends on Common Stock and Class B Stock.
Principles of corporate law may protect decisions of the Board of Directors that have a disparate impact upon holders of Common Stock and Class B Stock. To our knowledge New Jersey courts have not considered the duties of a board of directors to holders of separate classes of common stock. However, general principles of corporate law involving different treatment of two classes of common stock, which we believe would apply in New Jersey, provide that a board of directors has a fiduciary duty to all common stockholders regardless of class or series. Under these principles and the related principle known as the "business judgment rule", you may not be able to challenge decisions that have a disparate impact upon holders of Common Stock and Class B Stock if the Board of Directors:
. is disinterested and adequately informed with respect to such decisions, and
. acts in good faith and in the belief that it is acting in the best interests of Prudential Financial, Inc.'s stockholders.
The Board of Directors has sole discretion to allocate proceeds upon issuances of Common Stock, or the costs of repurchases of Class B Stock, to the Financial Services Businesses or the Closed Block Business. We may not necessarily allocate proceeds from future issuances of Common Stock to the equity of the Financial Services Businesses and we may not necessarily allocate the costs of repurchases of Class B Stock to the equity of the Closed Block Business. Although this is our present intention, the Board of Directors retains discretion, subject to its fiduciary duties, whether to allocate the proceeds of issuances of Common Stock, or the costs of repurchases of Class B Stock, to the Financial Services Businesses or to the equity of the Closed Block Business.
Exchanges or conversions of Class B Stock for or into Common Stock may be disadvantageous to holders of Common Stock. We may exchange, in our discretion at any time (including in anticipation of a merger or adverse regulatory or accounting treatment of the separation of the Businesses or the tax treatment of the Class B Stock or IHC debt), the Class B Stock for shares of Common Stock. The Class B Stock is also mandatorily exchangeable in the event of a sale of all or substantially all of the Closed Block Business or a "change of control" of Prudential Financial, Inc. Any such exchange will provide for delivery of shares of Common Stock having an aggregate average market value equal to 120% of the then appraised "Fair Market Value" of the Class B Stock. In addition, holders of Class B Stock may in their discretion, commencing in 2016, and in the event of specified regulatory events at any time, convert their shares of Class B Stock into shares of Common Stock
having an aggregate average market value equal to 100% of the then appraised Fair Market Value of the Class B Stock. Any exchange or conversion could occur at a time when either or both of the Common Stock and Class B Stock may be considered to be overvalued or undervalued. Accordingly, any such exchange or conversion may be disadvantageous to holders of the Common Stock. In the future, if the Class B Stock is exchanged for or converted into Common Stock, the number of shares of Common Stock then obtainable by the Class B Stockholders might constitute a higher proportion of the total shares of Common Stock then outstanding than the proportion represented by (x) the number of shares of Class B Stock initially issued divided by (y) the total number of shares of Common Stock outstanding upon completion of the demutualization (which is expected to be less than 1%). The degree of any such proportionate increase would depend principally on: the performance of the Closed Block Business over time and the valuation of the Closed Block Business at the time of exchange or conversion; whether the exchange or conversion implemented involves a premium; the number of any new shares of Common Stock we issue after the demutualization for financing, acquisition or other purposes or any repurchases of Common Stock that we may make; and the market value of our Common Stock at the time of exchange or conversion. In particular, in the event the Closed Block Business performs well but the Financial Services Businesses and, accordingly, the market value of our Common Stock, do not perform well, the number of new shares of Common Stock issued upon an exchange or conversion would increase and, dependent on the foregoing factors, could increase as a percentage of total outstanding shares of Common Stock. For discussion of the specific exchange and conversion rights, including the manner by which the appraised Fair Market Value of the Class B Stock and the average market value of the Common Stock will be determined for purposes of exchange or conversion and limitations on the proportionate interest in the Common Stock which a holder of Class B Stock can obtain upon exchange or conversion, see "Description of Capital Stock--Common Stock-- Exchange and Conversion Provisions".
Stockholders will not vote on how to allocate consideration received in connection with a merger among holders of Common Stock and holders of Class B Stock. Our certificate of incorporation will contain provisions governing how holders of Class B Stock will be treated in connection with certain mergers, consolidations or other business combinations involving Prudential Financial, Inc. See "Description of Capital Stock--Common Stock--Exchange and Conversion Provisions". Unless otherwise required by law, neither holders of Common Stock nor holders of Class B Stock will have a separate class vote in any merger, consolidation or other business combination.
We may dispose of assets of either the Financial Services Businesses or the Closed Block Business without your approval. New Jersey law requires stockholder approval only for a sale or other disposition of all or substantially all of the assets of Prudential Financial, Inc. As long as the assets attributed to the Financial Services Businesses or the Closed Block Business represent less than substantially all of Prudential Financial, Inc.'s assets, we may approve sales and other dispositions of any amount of the assets of either the Financial Services Businesses or the Closed Block Business without any stockholder approval. In addition, if we sell all or substantially all of the assets of the Closed Block Business, we will be required to exchange all outstanding shares of Class B Stock into shares of Common Stock at 120% of the appraised Fair Market Value of the Class B Stock. Because such an exchange of Common Stock for Class B Stock would be at a premium, and the exchange could occur at a time when either or both of the Common Stock and Class B Stock may be considered to be overvalued or undervalued, any such exchange may be disadvantageous to holders of the Common Stock.
We will not pay dividends equally on Common Stock and Class B Stock. We have the right to, and expect to, pay dividends on Common Stock or Class B Stock, or both, in unequal amounts. Dividends declared on either class of stock may not reflect:
. the performance of either the Financial Services Businesses or the Closed Block Business,
. the amount of assets available for dividends on either class,
. the amount of prior dividends declared on either class, or
. any other factor.
Furthermore, we cannot pay cash dividends on the Common Stock for any period if we choose not to pay dividends on the Class B Stock in an aggregate amount at least equal to the lesser of the CB Distributable Cash Flow or the Target Dividend Amount on the Class B Stock for that period. For a description of CB Distributable Cash Flow and the Target Dividend Amount, see "Description of Capital Stock--Common Stock--Dividend Rights".
In addition, net losses of the Closed Block Business, and any dividends or distributions on, or repurchases of, Class B Stock, will reduce the assets of Prudential Financial, Inc. legally available for dividends on Common Stock.
The Board of Directors may make operational and financial decisions affecting the Financial Services Businesses and the Closed Block Business differently. The Board of Directors, in its sole discretion, will make operational and financial decisions and implement policies that affect the businesses of the Financial Services Businesses and the Closed Block Business differently. Examples include:
. any transfers of funds between the Financial Services Businesses and the Closed Block Business as discussed below,
. the manner of accounting for any transfers of funds between the Financial Services Businesses and the Closed Block Business,
. allocation of funds for capital expenditures,
. other transactions between the Financial Services Businesses and the Closed Block Business, and
. the allocation of business opportunities, resources and personnel.
Decisions of the Board of Directors may favor either the Financial Services Businesses or the Closed Block Business at the expense of the other. For example, a decision to provide funds for the Closed Block Business may adversely affect the ability of the Financial Services Businesses to obtain funds sufficient to implement its growth strategies.
The Board of Directors will have discretion to transfer assets between the Businesses and to allocate earnings between the Businesses and to make such transfers or allocations in a manner that is disadvantageous to holders of Common Stock. While all our assets and liabilities will be allocated between the Businesses, we will be permitted to make transfers of assets and liabilities between the Businesses in order to accomplish cash management objectives, to fund, if necessary, unsatisfied liabilities of one Business with the assets of the other, to pay taxes and to achieve other objectives which we may deem appropriate, subject to regulatory oversight. In addition, we will retain discretion over accounting policies and the appropriate allocation of earnings between the two Businesses.
The Board of Directors will adopt certain policies with respect to inter- business transfers and accounting matters, including allocation of earnings. For a discussion of these policies, see "Demutualization and Related Transactions--Related Transactions--Class B Stock and IHC Debt Issuances-- Inter-Business Transfers and Allocation Policies". In the future, the Board of Directors may modify, rescind or add to any of these policies, although it has no present intent to do so. However, the decision of the Board of Directors to modify, rescind or add to any of these policies would be subject to the Board of Directors' general fiduciary duties. In addition, we have agreed with the investors in the Class B Stock and the insurer of the IHC debt that, in most instances, the Board of Directors may not change these policies without their consent. As a result of the Board of Directors' discretion in these areas, an investment in the Common Stock is riskier than an investment in the Common Stock if the Class B Stock were not issued.
With respect to inter-business cash management transfers, the Board of Directors has discretion to determine, among other things, whether a transfer of cash from one Business to the other Business will be treated as either reimbursement of expenses, investment income, return of principal or a subordinated loan. The determination of the Board of Directors as to how to account for a cash transfer will affect the amount of interest expense and interest income reflected in the supplemental combining financial information of the Financial Services Businesses and the Closed Block Business. Any inter- business loan established to reflect usage of Prudential Holdings, LLC's debt service coverage account to pay debt service on the IHC debt or dividends to Prudential Financial, Inc. would accrete in principal amount by a floating percentage per annum. Any such loan would not pay cash interest and the Closed Block Business would repay the loan to the Financial Services Businesses when earnings from the Closed Block Business replenish funds in the debt service coverage account to a specified level. We retain the flexibility to lend additional funds from the Financial Services Businesses to the Closed Block Business for other purposes, including funding debt service on the IHC debt if the funds in the debt service coverage account are insufficient.
If the Closed Block Business is unable to repay advances or loans owed to the Financial Services Businesses, the Financial Services Businesses would be adversely affected. Also, if the Financial Services Businesses extends an advance or loan to the Closed Block Business at an interest rate below the Financial
Services Businesses' cost of funds or opportunity cost, the Financial Services Businesses' results would be adversely affected to the extent of the difference.
The Board of Directors has discretion to transfer assets of the Financial Services Businesses to the Closed Block, or use such assets for the benefit of Closed Block policyholders, if it believes such transfer or usage is in the best interests of the Financial Services Businesses. We may make any such transfer or usage without requiring the Closed Block Business to repay any amounts so transferred or used.
The Financial Services Businesses will bear any expenses and liabilities from litigation affecting the Closed Block policies, subsequent reserve reestimations (if any) with respect to specified incurred but not reported death claims recorded as of demutualization and the consequences of certain adverse tax determinations.
Holders of Common Stock will vote together with holders of Class B Stock and will have limited separate voting rights. The Common Stock and Class B Stock are separate classes of common stock under the New Jersey Business Corporation Act. Holders of Common Stock and Class B Stock will vote together as a single class, except as otherwise required by law and except that the holders of the Class B Stock will have class voting or consent rights with respect to specified matters directly affecting the Class B Stock. Such matters include the selection of the appraisal firm for determining the Fair Market Value of the Class B Stock for purposes of an exchange or conversion.
If an exchange or conversion of all outstanding shares of Class B Stock takes place, the separation of the two Businesses will cease. Upon an exchange or conversion of all Class B Stock for or into Common Stock as herein described, the Businesses would cease to be separated and the intended benefits of the separation would also cease.
Holders of Common Stock and Class B Stock will participate in any liquidation of Prudential Financial, Inc. based on the relative values of the Common Stock and Class B Stock determined at the time of the offering, not at the time of liquidation. In the event of a liquidation, dissolution or winding-up of Prudential Financial, Inc., holders of Common Stock and holders of Class B Stock will be entitled to receive a proportionate share of the net assets of Prudential Financial, Inc. that remain after paying all liabilities and the liquidation preferences of any preferred stock. This proportion will be based on the average market value per share of the Common Stock determined over a specified trading period ending 60 days after this offering and the issuance price per share of the Class B Stock. Since this proportion is not determined at the time of liquidation, the proportionate interests of the holders of Common Stock and Class B Stock in the remaining assets of Prudential Financial, Inc. will not reflect subsequent growth or decline in the market value of either the Financial Services Businesses or the Closed Block Business. Accordingly, holders of Common Stock could be disadvantaged in any liquidation of Prudential Financial, Inc. if, following the offering, the Financial Services Businesses achieve disproportionately greater growth in market value than the Closed Block Business. See "Description of Capital Stock--Common Stock--Liquidation Rights".
We cannot predict the market price for Common Stock. We cannot predict the prices at which the Common Stock will trade after the offering. Certain terms of the Common Stock and Class B Stock may adversely affect the trading price of Common Stock. These terms include:
. the potential that shares of Class B Stock will be exchanged for or converted into Common Stock, and
. the discretion of the Board of Directors in making determinations relating to a variety of cash management and earnings allocation matters.
Having two classes of common stock may inhibit or prevent acquisition bids for Prudential Financial, Inc. The existence of two classes of common stock could present complexities and could in certain circumstances pose obstacles, financial or otherwise, to an acquiring person. The existence of two classes of common stock could, under certain circumstances, prevent holders of Common Stock from profiting from an increase in the market value of their shares as a result of a change in control of Prudential Financial, Inc. by delaying or preventing such change in control.
Some of the statements contained in this prospectus, including those using words such as "believes", "expects", "intends", "estimates", "assumes", "anticipates" and "seeks", are forward-looking statements. These forward- looking statements involve risks and uncertainties. Actual results may differ materially from those suggested by the forward-looking statements for various reasons, including those discussed in this section. In particular, statements contained in this prospectus regarding our business strategies involve risks and uncertainties, and we can provide no assurance that we will be able to execute our strategies effectively or achieve our financial and other objectives.
As with any common stock investment, the price of our Common Stock may fluctuate widely depending on many factors, including:
. the perceived prospects of our business in particular and the insurance, asset management, securities and financial services industries generally;
. differences between our actual financial and operating results and those expected by investors and analysts;
. changes in analysts' recommendations or projections;
. changes in general economic market conditions; and
. broad market fluctuations.
After the offering, because Prudential Securities is a member of the NYSE and because of its relationship to Prudential Financial, Inc., it will not be permitted under the rules of the NYSE to make markets in or recommendations regarding the purchase or sale of the Common Stock.
USE OF PROCEEDS
Based upon an assumed initial public offering price of $27.50 per share, we estimate that Prudential Financial, Inc. will receive net proceeds from the offering of $2,889 million, or $3,322 million if the underwriters' options to purchase additional shares described under "Underwriting" are exercised in full, after deducting the underwriting discount and estimated offering expenses payable by us. In addition, we estimate that Prudential Financial, Inc. will receive net proceeds from the offering of the equity security units of $480 million, or $552 million if the underwriters for that offering exercise their options to purchase additional units. Prudential Financial, Inc. will use the net proceeds of this offering and the offering of the equity security units, other than proceeds obtained from any exercise of the underwriters' options to purchase additional shares and units, to make certain cash payments to eligible policyholders in the demutualization, and Prudential Financial, Inc. will retain any remaining net proceeds, which we estimate will be $1,680 million if the underwriters' options to purchase additional shares and units are exercised in full, for general corporate purposes, including lending to subsidiaries.
We will satisfy our needs for cash payments in the demutualization from the net proceeds of this offering as well as any proceeds from other financing transactions and/or internally generated funds.
In addition to this offering, the offering of the equity security units and the private placements of Class B Stock and the IHC debt, the plan of reorganization governing the demutualization permits us, subject to any required regulatory approvals, to raise funds for use in connection with the plan of reorganization prior to, on or within 30 days after the effective date of the demutualization through one or more of the following transactions: (i) the offering of public or private debt; (ii) the offering of preferred stock or other equity securities or options, warrants or other securities convertible, exchangeable or exercisable for any of the foregoing, such as the equity security units; and (iii) bank borrowings. We retain flexibility to raise funds for general corporate purposes at any time.
DIVIDEND POLICY
Prudential Financial, Inc.'s Board of Directors currently intends to declare dividends on the Common Stock, payable once annually, and expects that the first annual dividend will be $0.30 per share, which will be declared in the fourth quarter of 2002. The declaration of dividends is subject to the discretion of Prudential Financial, Inc.'s Board of Directors and will depend on our financial condition, results of operations, cash requirements, future prospects, regulatory restrictions on the payment of dividends by Prudential Financial, Inc.'s subsidiaries and such other factors as the Board of Directors may deem relevant. Dividends payable by Prudential Financial, Inc. are limited to the amount that would be legally available for payment under New Jersey corporate law.
The declaration and payment of dividends on the Common Stock will depend upon the financial condition, results of operations, cash requirements, future prospects and other factors relating to the Financial Services Businesses, as well as regulatory restrictions on the payment of dividends by Prudential Financial, Inc.'s subsidiaries. Dividends declared and paid on the Common Stock will not depend upon or be affected by the financial performance of the Closed Block Business, unless the Closed Block Business is in financial distress. Dividends declared and paid on the Common Stock also will not be affected by decisions with respect to dividend payments on the Class B Stock except as indicated in the following paragraph. Furthermore, dividends on the Common Stock will be limited to the amount that would be legally available for payment under New Jersey corporate law if the Financial Services Businesses were treated as a separate corporation thereunder.
Dividends on the Class B Stock will be payable in an aggregate amount per year at least equal to the lesser of (i) a "Target Dividend Amount" of $19.25 million or (ii) the amount of the "CB Distributable Cash Flow" for such year. Notwithstanding this formula, as with any common stock, we will retain the flexibility to suspend dividends on the Class B Stock; however, if CB Distributable Cash Flow exists for any period and Prudential Financial, Inc. chooses not to pay dividends on the Class B Stock in an aggregate amount at least equal to the lesser of the CB Distributable Cash Flow or the Target Dividend Amount for that period, then cash dividends cannot be paid on the Common Stock with respect to such period. See "Description of Capital Stock-- Common Stock--Dividend Rights" for a discussion of the definition of CB Distributable Cash Flow and the limited circumstances in which the Target Dividend Amount may be adjusted.
In addition, the indenture governing the terms of our debentures issued to Prudential Financial Capital Trust I in connection with the offering of the equity security units will prohibit, with limited exceptions, the payment of dividends on our Common Stock during a deferral by us of interest payments on the debentures or an event of default under the indenture or the related guarantee of Prudential Financial, Inc. We also have the option to defer contract fee payments on the purchase contracts. If we elect to defer contract fee payments, we will not be permitted, with limited exceptions, to pay dividends on our Common Stock during a deferral period. Dividends on the Class B Stock could continue during a deferral of interest payments on the debentures or a default or during a deferral of contract fee payments.
Prudential Financial, Inc.'s principal source of revenues to pay dividends on the Common Stock and Class B Stock and meet its obligations will be dividends and interest income from its subsidiaries. There are regulatory limits on the ability of Prudential Financial, Inc.'s regulated insurance, broker-dealer and various other subsidiaries to pay dividends or otherwise transfer funds to Prudential Financial, Inc. See "Risk Factors--Our ability to pay shareholder dividends may be affected by limitations imposed on The Prudential Insurance Company of America and our other subsidiaries" and "-- Additional risks relevant to you as holder of our Common Stock due to our issuance of Class B Stock" for an explanation of the risks that may affect our ability to pay dividends on the Common Stock.
CAPITALIZATION
The following table sets forth our consolidated short-term debt and capitalization as of September 30, 2001:
. on an historical basis;
. on a pro forma basis to reflect (a) the demutualization, (b) the sale of 110.0 million shares of Common Stock in this offering at an assumed initial public offering price of $27.50 per share, after deduction of assumed underwriting discount and estimated offering expenses, and (c) the issuances of 2.0 million shares of Class B Stock in a private placement and of $1,750 million of IHC debt, as if they had occurred on September 30, 2001; and
. on a pro forma basis to reflect (a) the demutualization, (b) this offering, (c) the issuances of Class B Stock and IHC debt, and (d) the sale of 10.0 million equity security units at an assumed price of $50.00 per unit, after deduction of assumed underwriting discount and estimated offering expenses, as if they had occurred on September 30, 2001.
We based the pro forma information below on the assumptions we have made about (1) the number of shares of Common Stock and the amount of cash and policy credits that will be distributed to eligible policyholders in the demutualization; (2) the number of shares of Common Stock that will be issued to investors in this offering; (3) the issuances of Class B Stock and IHC debt; and (4) the number of equity security units that will be issued to investors in that offering. We describe these assumptions in "Unaudited Pro Forma Condensed Consolidated Financial Information". The closing of this offering is subject to the completion of the demutualization of The Prudential Insurance Company of America and the private placement of the Class B Stock, but the issuance of the IHC debt and the offering of the units are not conditions to this offering. The pro forma information does not give effect to any other financing transaction that may be consummated at the time of the demutualization. You should read the following table together with the audited consolidated financial statements and the information under the caption "Unaudited Pro Forma Condensed Consolidated Financial Information" elsewhere in this prospectus.
As of September 30, 2001
-----------------------------------------------------------------------------------------------
Pro Forma for
Demutualization,
Class B this Offering
Initial Public Stock and and Issuances of
Demutualization Offering IHC Debt Class B Stock Unit Consolidated
Historical Adjustments Adjustments Adjustments and IHC Debt Adjustments Pro Forma
---------- --------------- -------------- ----------- ---------------- ----------- ------------
(in millions, except per share data)
Short-term debt:
Commercial paper...... $ 7,260 $ -- $ -- $ -- $ 7,260 $-- $ 7,260
Notes payable......... 1,530 -- -- -- 1,530 -- 1,530
Current portion of
long-term debt....... 1,058 -- -- -- 1,058 -- 1,058
------- -------- ------ ------ ------- ---- -------
Total short-term
debt................. $ 9,848 $ -- $ -- $ -- $ 9,848 $-- $ 9,848
======= ======== ====== ====== ======= ==== =======
Long-term debt:
Senior debt........... $ 2,225 $ -- $ -- $ -- $ 2,225 $-- $ 2,225
Surplus notes......... 989 -- -- -- 989 -- 989
IHC debt.............. -- -- -- 1,750 1,750 -- 1,750
------- -------- ------ ------ ------- ---- -------
Total long-term debt.. 3,214 -- -- 1,750 4,964 -- 4,964
------- -------- ------ ------ ------- ---- -------
Guaranteed minority
interest in trust
holding solely
debentures of Parent
...................... -- -- -- -- -- 500 500
Equity:
Preferred stock, par
value $.01 per share;
10 million shares
authorized; no shares
issued and
outstanding.......... -- -- -- -- -- -- --
Common Stock, par
value $.01 per share;
1.5 billion shares
authorized; 566.3
million shares issued
and outstanding for
pro forma............ -- 5 1 -- 6 -- 6
Class B Stock, par
value $.01 per share;
10 million shares
authorized; 2 million
shares issued and
outstanding for pro
forma................ -- -- -- 1 1 -- 1
Capital in excess of
par value............ -- 16,274 2,888 170 19,332 (26) 19,306
Net unrealized
investment gains and
losses on available-
for-sale securities.. 1,545 -- -- -- 1,545 -- 1,545
Accumulated other
comprehensive income
excluding net
unrealized investment
gains and losses on
available-for-sale
securities........... (166) -- -- -- (166) -- (166)
Retained earnings..... 20,726 (20,726) -- -- -- -- --
------- -------- ------ ------ ------- ---- -------
Total equity.......... 22,105 (4,447) 2,889 171 20,718 (26) 20,692(1)
------- -------- ------ ------ ------- ---- -------
Total capitalization.. $25,319 $ (4,447) $2,889 $1,921 $25,682 $474 $26,156
======= ======== ====== ====== ======= ==== =======
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(1) If the IHC debt and the units were not issued, consolidated pro forma equity would have increased by $26 million to $20,718 million and consolidated pro forma capitalization would have decreased by $2,224 million, to $23,932 million.
For an allocation of capital between the Financial Services Businesses and the Closed Block Business, see the supplemental unaudited pro forma condensed consolidated statement of financial position as of September 30, 2001 appearing in "Unaudited Pro Forma Condensed Consolidated Financial Information".
SELECTED CONSOLIDATED FINANCIAL AND OTHER INFORMATION
We derived the selected consolidated income statement data and division and segment operating results for the years ended December 31, 2000, 1999 and 1998 and the selected consolidated balance sheet data as of December 31, 2000 and 1999 from our audited consolidated financial statements included in this prospectus. We derived the selected consolidated income statement data for the years ended December 31, 1997 and 1996 and the selected consolidated balance sheet data as of December 31, 1998, 1997 and 1996 from audited consolidated financial statements not included in this prospectus.
We derived the selected consolidated income statement data and division and segment operating results for the interim nine-month periods ended September 30, 2001 and September 30, 2000 and selected consolidated balance sheet data as of September 30, 2001 from our unaudited interim consolidated financial statements included in this prospectus. We derived the selected consolidated balance sheet data as of September 30, 2000 from unaudited interim consolidated financial statements not included in this prospectus. In the opinion of management, the unaudited interim consolidated financial statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement. Results for the nine-month periods may not be indicative of the results for the full year or any other interim period.
In April 2001 we completed the acquisition of Gibraltar Life, which has adopted a November 30 fiscal year end. Consolidated balance sheet data as of September 30, 2001 includes Gibraltar Life assets and liabilities as of August 31, 2001, and consolidated income statement data includes Gibraltar Life results for the period April 2, 2001 through August 31, 2001. Statistics reported for Gibraltar Life are based on these dates as well.
We have made several dispositions that materially affect the comparability of the data presented below. In the fourth quarter of 2000 we restructured the capital markets activities of Prudential Securities, exiting its lead-managed equity underwriting for corporate issuers and institutional fixed income businesses. These businesses recorded a pre-tax loss of $122 million in the nine months ended September 30, 2001, a pre-tax loss of $50 million in the nine months ended September 30, 2000, a pre-tax loss of $620 million in the year ended December 31, 2000, pre-tax income of $23 million in 1999, a pre-tax loss of $73 million in 1998 and pre-tax income of $55 million in 1997. The loss from these operations in the year 2000 included charges of $476 million associated with our termination and wind-down of these businesses. In 2000, we sold Gibraltar Casualty Company, a commercial property and casualty insurer that we placed in wind-down status in 1985. Gibraltar Casualty had no impact on results in the nine months ended September 30, 2001 and recorded pre-tax losses of $7 million in the nine months ended September 30, 2000, $7 million in the year ended December 31, 2000, $72 million in 1999, $76 million in 1998, $24 million in 1997 and $29 million in 1996. In 1996, we sold substantially all of our Canadian life insurance operations and policies in force and our Canadian property and casualty insurer. These divested Canadian businesses generated pre-tax income of $85 million in 1996, which reflects a $116 million gain on disposal. In 1996 we sold substantially all of the remaining mortgage servicing rights from our residential first mortgage banking business that we had previously sold, which resulted in a pre-tax gain of $229 million. We also recognized a pre-tax loss of $41 million in 1998 and a pre-tax profit of $9 million in 1997 primarily related to our remaining obligations with respect to this business.
You should read this selected consolidated financial and other information in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations", "Unaudited Pro Forma Condensed Consolidated Financial Information" and our consolidated financial statements included in this prospectus.
As of or for the
Nine Months
Ended September 30, As of or for the Year Ended December 31,
-------------------- ------------------------------------------------
2001 2000 2000 1999 1998 1997 1996
--------- --------- -------- -------- -------- -------- --------
(in millions)
Income Statement Data:
Revenues:
Premiums............... $ 9,112 $ 7,509 $ 10,221 $ 9,528 $ 9,048 $ 9,043 $ 9,999
Policy charges and fee
income................ 1,298 1,192 1,639 1,516 1,465 1,423 1,490
Net investment income.. 6,895 7,057 9,497 9,367 9,454 9,458 9,461
Realized investment
gains (losses), net... (270) (151) (288) 924 2,641 2,168 1,128
Commissions and other
income................ 3,332 4,272 5,475 5,233 4,416 4,381 4,512
--------- --------- -------- -------- -------- -------- --------
Total revenues........ 20,367 19,879 26,544 26,568 27,024 26,473 26,590
--------- --------- -------- -------- -------- -------- --------
Benefits and expenses:
Policyholders'
benefits.............. 9,394 7,753 10,640 10,226 9,786 9,956 11,094
Interest credited to
policyholders' account
balances.............. 1,338 1,321 1,751 1,811 1,953 2,170 2,251
Dividends to
policyholders......... 2,108 2,050 2,724 2,571 2,477 2,422 2,339
General and
administrative
expenses.............. 6,946 7,297 10,083 9,530 9,037 8,525 8,241
Capital markets
restructuring......... -- -- 476 -- -- -- --
Sales practices
remedies and costs.... -- -- -- 100 1,150 2,030 1,125
Demutualization
expenses.............. 199 113 143 75 24 -- --
--------- --------- -------- -------- -------- -------- --------
Total benefits and
expenses............. 19,985 18,534 25,817 24,313 24,427 25,103 25,050
--------- --------- -------- -------- -------- -------- --------
Income from continuing
operations before
income taxes........... 382 1,345 727 2,255 2,597 1,370 1,540
--------- --------- -------- -------- -------- -------- --------
Income taxes............ 30 679 406 1,042 970 407 180
--------- --------- -------- -------- -------- -------- --------
Income from continuing
operations............. 352 666 321 1,213 1,627 963 1,360
--------- --------- -------- -------- -------- -------- --------
Discontinued operations:
Loss from healthcare
operations, net of
taxes................. -- -- -- -- (298) (353) (282)
Gain (loss) on disposal
of healthcare
operations, net of
taxes................. -- -- 77 (400) (223) -- --
--------- --------- -------- -------- -------- -------- --------
Net gain (loss) from
discontinued
operations, net of
taxes................ -- -- 77 (400) (521) (353) (282)
--------- --------- -------- -------- -------- -------- --------
Net income.............. $ 352 $ 666 $ 398 $ 813 $ 1,106 $ 610 $ 1,078
========= ========= ======== ======== ======== ======== ========
Division and Segment
Data:
Income (loss) from
continuing operations
before income taxes(1):
Individual Life
Insurance............. $ 219 $ 141 $ 108 $ 94 $ 196
Private Client Group... (162) 278 237 224 114
Retail Investments..... 91 207 233 180 343
Property and Casualty
Insurance............. 113 176 166 161 327
--------- --------- -------- -------- --------
Total U.S. Consumer... 261 802 744 659 980
--------- --------- -------- -------- --------
Group Insurance........ 36 86 156 143 221
Other Employee
Benefits.............. 70 101 113 342 715
--------- --------- -------- -------- --------
Total Employee
Benefits............. 106 187 269 485 936
--------- --------- -------- -------- --------
International
Insurance............. 446 231 281 227 153
International
Securities and
Investments........... (41) 51 26 15 13
--------- --------- -------- -------- --------
Total International... 405 282 307 242 166
--------- --------- -------- -------- --------
Investment Management
and Advisory
Services.............. 83 130 155 156 145
Other Asset
Management............ 64 108 122 97 22
--------- --------- -------- -------- --------
Total Asset
Management........... 147 238 277 253 167
--------- --------- -------- -------- --------
Corporate and Other.... (154) (212) (1,063) 272 (1,319)
--------- --------- -------- -------- --------
Total--Financial
Services Businesses.. 765 1,297 534 1,911 930
--------- --------- -------- -------- --------
Traditional
Participating Products
segment............... (383) 48 193 344 1,667
--------- --------- -------- -------- --------
Total................. $ 382 $ 1,345 $ 727 $ 2,255 $ 2,597
========= ========= ======== ======== ========
Balance Sheet Data:
Total investments
excluding policy
loans.................. $160,501 $ 164,334 $140,469 $151,338 $148,837 $146,594 $134,123
Separate account
assets................. 74,523 83,629 82,217 82,131 80,931 73,451 62,840
Total assets............ 295,711 304,202 272,753 285,094 279,422 259,571 228,867
Future policy benefits,
policyholders' account
balances and unpaid
claims and claim
adjustment expenses.... 134,667 103,263 104,130 102,887 104,301 105,615 105,816
Separate account
liabilities............ 74,523 83,629 82,217 82,131 80,931 73,451 62,840
Short-term debt......... 9,848 13,660 11,131 10,858 10,082 6,774 6,562
Long-term debt.......... 3,214 3,445 2,502 5,513 4,734 4,273 3,760
Total liabilities....... 273,606 283,838 252,145 265,803 259,027 239,853 210,344
Equity.................. 22,105 20,364 20,608 19,291 20,395 19,718 18,523
Equity excluding net
unrealized investment
gains and losses on
available-for-sale
securities............ 20,560 20,571 20,249 19,951 19,123 17,966 17,387
|
In managing our business, we analyze our operating performance by separately considering our Financial Services Businesses and our Traditional Participating Products segment. In addition, within the Financial Services Businesses and the Traditional Participating Products segment we analyze our operating performance using a non-GAAP measure we call "adjusted operating income". We calculate adjusted operating income by adjusting our income from continuing operations before income taxes shown above to exclude certain items. The items we exclude are:
. realized investment gains, net of losses and related charges;
. sales practices remedies and costs;
. the gains, losses and contribution to income/loss of divested businesses that we have sold but that do not qualify for "discontinued operations" accounting treatment under GAAP; and
. demutualization costs and expenses.
Wind-down businesses that we have not divested remain in adjusted operating income. We exclude our discontinued healthcare operations from income from continuing operations before income taxes, as shown above.
The excluded items are important to an understanding of our overall results of operations. You should not view adjusted operating income as a substitute for net income determined in accordance with GAAP and you should note that our definition of adjusted operating income may differ from that used by other companies. However, we believe that the presentation of adjusted operating income as we measure it for management purposes enhances the understanding of our results of operations by highlighting the results from ongoing operations and the underlying profitability factors of our business. We exclude realized investment gains, net of losses and related charges, from adjusted operating income because the timing of transactions resulting in recognition of gains or losses is largely at our discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of our businesses. We exclude sales practices remedies and costs because they relate to a substantial and identifiable non-recurring event. We exclude the gains and losses and contribution to income/loss of divested businesses because, as a result of our decision to dispose of these businesses, these results are not relevant to the profitability of our ongoing operations and could distort the trends associated with our ongoing businesses. We also exclude demutualization costs and expenses because they are directly related to our demutualization and could distort the trends associated with our business operations.
We show our revenues and adjusted operating income by division and segment, as well as a reconciliation of both measures on a consolidated basis to their corresponding GAAP amounts, below.
Nine Months
Ended
September 30, Year Ended December 31,
---------------- -------------------------
2001 2000 2000 1999 1998
------- ------- ------- ------- -------
(in millions)
Division and Segment Operating
Results:
Financial Services Businesses:
Revenues(1):
Individual Life Insurance....... $ 1,394 $ 1,362 $ 1,855 $ 1,723 $ 1,674
Private Client Group............ 1,630 2,095 2,689 2,509 2,317
Retail Investments.............. 1,115 1,229 1,631 1,551 1,532
Property and Casualty
Insurance...................... 1,519 1,353 1,840 1,747 1,812
------- ------- ------- ------- -------
Total U.S. Consumer........... 5,658 6,039 8,015 7,530 7,335
------- ------- ------- ------- -------
Group Insurance................. 2,412 2,039 2,801 2,428 2,205
Other Employee Benefits......... 2,019 2,177 2,885 3,014 3,258
------- ------- ------- ------- -------
Total Employee Benefits....... 4,431 4,216 5,686 5,442 5,463
------- ------- ------- ------- -------
International Insurance......... 2,956 1,408 1,920 1,522 1,090
International Securities and
Investments.................... 413 545 704 580 532
------- ------- ------- ------- -------
Total International........... 3,369 1,953 2,624 2,102 1,622
------- ------- ------- ------- -------
Investment Management and
Advisory Services.............. 618 647 874 768 740
Other Asset Management.......... 313 358 470 369 253
------- ------- ------- ------- -------
Total Asset Management........ 931 1,005 1,344 1,137 993
------- ------- ------- ------- -------
Corporate and Other............. 123 214 283 566 313
------- ------- ------- ------- -------
Total......................... 14,512 13,427 17,952 16,777 15,726
------- ------- ------- ------- -------
Other amounts included in
consolidated revenues:
Realized investment gains
(losses), net.................. 3 (216) (379) 586 944
Revenues from divested
businesses..................... (15) 272 269 511 325
------- ------- ------- ------- -------
Total revenues--Financial
Services Businesses.......... 14,500 13,483 17,842 17,874 16,995
------- ------- ------- ------- -------
Traditional Participating Products
segment:
Revenues(1)....................... 6,140 6,331 8,611 8,356 8,332
Other amounts included in
consolidated revenues:
Realized investment gains
(losses), net.................. (273) 65 91 338 1,697
------- ------- ------- ------- -------
Total revenues--Traditional
Participating Products
segment...................... 5,867 6,396 8,702 8,694 10,029
------- ------- ------- ------- -------
Total consolidated revenues... $20,367 $19,879 $26,544 $26,568 $27,024
======= ======= ======= ======= =======
Financial Services Businesses:
Adjusted operating income (loss)
(2):
Individual Life Insurance....... $ 242 $ 145 $ 114 $ 117 $ 178
Private Client Group............ (160) 278 237 224 114
Retail Investments.............. 143 214 239 174 249
Property and Casualty
Insurance...................... 98 165 150 152 311
------- ------- ------- ------- -------
Total U.S. Consumer........... 323 802 740 667 852
------- ------- ------- ------- -------
Group Insurance................. 49 90 158 128 98
Other Employee Benefits......... 110 221 229 272 342
------- ------- ------- ------- -------
Total Employee Benefits....... 159 311 387 400 440
------- ------- ------- ------- -------
International Insurance......... 439 211 296 218 144
International Securities and
Investments.................... (41) 51 26 15 13
------- ------- ------- ------- -------
Total International........... 398 262 322 233 157
------- ------- ------- ------- -------
Investment Management and
Advisory Services.............. 91 128 154 155 144
Other Asset Management.......... 64 108 122 97 22
------- ------- ------- ------- -------
Total Asset Management........ 155 236 276 252 166
------- ------- ------- ------- -------
Corporate and Other............. 55 77 (4) 137 (34)
------- ------- ------- ------- -------
Total......................... 1,090 1,688 1,721 1,689 1,581
------- ------- ------- ------- -------
Items excluded from adjusted
operating income:
Realized investment gains, net of
losses and related charges:
Realized investment gains
(losses), net.................. 3 (216) (379) 586 944
Related charges(3).............. (7) 7 (29) (142) (225)
------- ------- ------- ------- -------
Total realized investment
gains, net of losses and
related charges.............. (4) (209) (408) 444 719
------- ------- ------- ------- -------
Sales practices remedies and
costs.......................... -- -- -- (100) (1,150)
Divested businesses............. (122) (69) (636) (47) (196)
Demutualization costs and
expenses....................... (199) (113) (143) (75) (24)
------- ------- ------- ------- -------
Income from continuing operations
before income taxes--Financial
Services Businesses.............. 765 1,297 534 1,911 930
------- ------- ------- ------- -------
Traditional Participating Products
segment:
Adjusted operating income(2)...... 289 301 547 316 206
Items excluded from adjusted
operating income:
Realized investment gains, net of
losses and related charges:
Realized investment gains
(losses), net.................. (273) 65 91 338 1,697
Dividends to policyholders(4)... (399) (318) (445) (310) (236)
------- ------- ------- ------- -------
Total realized investment
gains, net of losses and
related charges.............. (672) (253) (354) 28 1,461
------- ------- ------- ------- -------
Income (loss) from continuing
operations before income taxes--
Traditional Participating
Products segment................. (383) 48 193 344 1,667
------- ------- ------- ------- -------
Consolidated income from
continuing operations before
income taxes..................... $382 $ 1,345 $ 727 $ 2,255 $ 2,597
======= ======= ======= ======= =======
|
(3) Net realized investment gains impact our reserves for future policy benefits, our deferred policy acquisition costs, and our policyholder dividends. We refer to these impacts collectively as the "related charges". Related charges for the Financial Services Businesses consist of the following:
Nine Months
Ended Year Ended
September 30, December 31,
--------------- ------------------
2001 2000 2000 1999 1998
------- ------ ---- ----- -----
(in millions)
Reserves for future policy benefits... $ 2 $2 $(36) $(147) $(218)
Amortization of deferred policy
acquisition costs.................... 1 5 7 5 (7)
Dividends to policyholders............ (10) -- -- -- --
------- ------ ---- ----- -----
Total............................... $ (7) $7 $(29) $(142) $(225)
======= ====== ==== ===== =====
|
We adjust the reserves for some of our policies when cash flows related to
these policies are affected by net realized investment gains and the
related charge for reserves for future policy benefits represents that
adjustment. We amortize deferred policy acquisition costs for certain
investment-type products based on estimated gross profits, which include
net realized investment gains on the underlying invested assets, and the
related charge for amortization of deferred policy acquisition costs
represents the amortization related to net realized investment gains. As
part of our acquisition of Gibraltar Life, we will pay existing Gibraltar
Life policyholders a dividend generally equal to 70% of any net realized
investment gains from the collection or disposition of loans and
investment real estate in excess of the value of such assets included in
the Reorganization Plan. The related charge for dividends to policyholders
represents the portion of our expense charge for policyholder dividends
attributable to net realized investment gains on these assets during the
period.
(4) Net realized investment gains is one of the elements that we consider in
establishing the dividend scale, and the related charge for dividends to
policyholders represents the estimated portion of our expense charge for
policyholder dividends that is attributable to net realized investment
gains that we consider in determining our dividend scale. These gains are
reflected in the dividend scale over a number of years.
We have included below, on an adjusted operating income basis, supplemental condensed financial information for the Financial Services Businesses and the Traditional Participating Products segment. The Common Stock is expected to reflect the performance of the Financial Services Businesses only. The Financial Services Businesses will include the capital presently included in the Traditional Participating Products segment in excess of the amount necessary to support the Closed Block Business and the minor portion of traditional insurance products historically included within the Traditional Participating Products segment but which will not be included in the Closed Block. Accordingly, the results of the Financial Services Businesses and the Traditional Participating Products segment following the demutualization and the issuances of the Common Stock and Class B Stock will not be comparable to, and may vary materially from, the results reflected below. In periods subsequent to the issuance of the Class B Stock and the establishment of the Closed Block Business, the measure of earnings used by management to evaluate results of the Closed Block Business will not include any adjustments to reflect results on an adjusted operating income basis.
Nine Months Ended Year Ended
September 30, 2001 December 31, 2000
------------------------ ------------------------
Traditional Traditional
Financial Participating Financial Participating
Services Products Services Products
Businesses Segment Businesses Segment
---------- ------------- ---------- -------------
(in millions)
Revenues(1).................. $14,512 $6,140 $17,952 $8,611
Expenses(2).................. 13,422 5,851 16,231 8,064
------- ------ ------- ------
Adjusted operating income.... $ 1,090 $ 289 $ 1,721 $ 547
======= ====== ======= ======
|
(1) Excludes realized investment gains, net, and revenues from divested businesses.
(2) Excludes impact of net realized investment gains on deferred acquisition cost amortization, reserves and dividends to policyholders; demutualization costs and expenses; and benefits and expenses of divested businesses.
Other Data:
As of As of December 31,
September 30, --------------------
2001 2000 1999 1998
------------- ------ ------ ------
(in billions)
Assets Under Management and Administration
(at fair market value):
Managed by Asset Management division:
Retail customers(1)........................ $ 92.8 $107.4 $108.5 $ 96.5
Institutional customers(2)................. 84.9 95.1 96.8 92.0
General account............................ 110.1 110.0 107.9 119.8
------ ------ ------ ------
Total proprietary ......................... 287.8 312.5 313.2 308.3
Managed by Retail Investments or Private
Client Group segments:
Non-proprietary wrap-fee and other assets
under management(3)....................... 45.0 50.5 44.8 36.9
International(4)............................ 40.5 8.1 5.3 3.6
------ ------ ------ ------
Total assets under management.............. 373.3 371.1 363.3 348.8
Client assets under administration.......... 190.9 221.8 232.9 197.7
------ ------ ------ ------
Total assets under management and
administration............................ $564.2 $592.9 $596.2 $546.5
====== ====== ====== ======
|
(3) Consists of wrap-fee assets gathered by the Private Client Group and Retail Investments segments and funds invested in the non-proprietary options of our investment products other than wrap-fee products.
(4) Consists primarily of general account assets supporting our International Insurance segment, assets gathered by the International Securities and Investments segment, and wind-down Canadian operations. September 30, 2001 amount includes $30.9 billion assets of Gibraltar Life, acquired in April 2001.
As of As of December 31,
September 30, ----------------------------------
2001 2000 1999 1998 1997 1996
------------- ------ ------ ------ ------ ------
Employees and
Representatives:
Prudential Agents............ 4,928 6,086 7,818 8,868 10,115 12,126
Life Planners................ 3,999 3,495 2,884 2,332 1,908 1,603
Gibraltar Life Advisors (as
of August 31, 2001)......... 6,596 -- -- -- -- --
Financial Advisors........... 6,366 6,676 6,898 6,820 6,613 6,439
Total employees(1)........... 63,265 56,925 59,530 61,793 60,777 59,824
|
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED
FINANCIAL INFORMATION
The unaudited pro forma condensed consolidated financial information presented below gives effect to the demutualization, this offering, the issuances of the Class B Stock and IHC debt, and the offering of the equity security units, or the "units", as if they had occurred as of September 30, 2001 for purposes of the unaudited pro forma condensed consolidated statement of financial position and as of January 1, 2000 for purposes of the unaudited pro forma condensed consolidated statements of operations for the nine months ended September 30, 2001 and the year ended December 31, 2000. We prepared the pro forma information based on the plan of reorganization and the assumptions set forth below. See "Demutualization and Related Transactions" for a description of the demutualization, a summary of the plan of reorganization and the issuances of the Class B Stock and IHC debt. Also, see "Description of the Equity Security Units" for a summary of the terms of the units.
The basic assumptions that we used in the pro forma information are as follows:
. a total of 616.4 million notional shares of Common Stock are allocated to eligible policyholders under the plan of reorganization; in this allocation of notional shares we have assumed a price of $27.50 per share of Common Stock:
. 35.6 million of these notionally allocated shares are not issued to eligible policyholders who, under the plan of reorganization, are required to receive payments in the form of policy credits rather than in shares of Common Stock;
. 11.9 million of these notionally allocated shares are not issued to eligible policyholders of certain policies that The Prudential Insurance Company of America transferred to London Life Insurance Company in connection with the sale of most of its Canadian branch operations who, under the plan of reorganization, are required to receive payments in the form of cash;
. 5.8 million of these notionally allocated shares, including 3.1 million allocated to eligible existing Canadian policyholders, are not issued to eligible policyholders located outside of the United States who, under the plan of reorganization, are required to receive payments in the form of cash;
. 29.7 million of these notionally allocated shares are not issued to eligible policyholders because we cannot locate them; therefore they are entitled, under the plan of reorganization, to receive payments in the form of cash and a liability is established;
. 77.1 million of these notionally allocated shares are not issued to eligible policyholders who are allocated 30 or fewer shares and who, under the plan of reorganization, will receive cash unless the eligible policyholder affirmatively elected to receive Common Stock; and
. 456.3 million of these notionally allocated shares are issued to eligible policyholders under the plan of reorganization;
. 110.0 million shares of Common Stock are sold to investors in this offering at an assumed initial public offering price of $27.50 per share, resulting in $3,025 million of gross proceeds, or $2,889 million of net proceeds;
. 10.0 million equity security units are sold to investors at an assumed offering price of $50.00 per unit, resulting in $500 million of gross proceeds, or $480 million of net proceeds;
. the underwriters do not exercise their options to purchase additional shares of Common Stock or additional equity security units in these offerings;
. $175 million of gross proceeds, or $171 million of net proceeds, are raised from the issuance of the Class B Stock, which are allocated to the Financial Services Businesses;
. $1,750 million of gross proceeds, or $1,730 million of net proceeds, are raised from the issuance of the IHC debt by the Closed Block Business, which are allocated to the Financial Services Businesses;
. income tax rates of 39.5% and 41.87% are used to compute the income tax effects of the pro forma adjustments for the nine months ended September 30, 2001 and the year ended December 31, 2000, respectively; and
. the Closed Block is established and operated as described below.
The closing of this offering is subject to the completion of the demutualization of The Prudential Insurance Company of America and the private placement of the Class B Stock, but the issuance of the IHC debt and the offering of the units are not conditions to this offering.
Prudential Financial, Inc. will use the net proceeds of this offering of our Common Stock and the offering of the equity security units to make cash payments to certain eligible policyholders who will receive cash and will retain any remaining proceeds for general corporate purposes, including lending to affiliates. The pro forma information below does not give effect to any financing transaction other than the issuances of the Common Stock, Class B Stock, IHC debt, and units, that may be consummated at the time of the demutualization.
We will account for the demutualization using the historical carrying values of the assets and liabilities of The Prudential Insurance Company of America including those attributable to the Closed Block. At the time of the demutualization we are required to establish a Closed Block for the benefit of holders of certain participating insurance and annuity policies. The establishment of the Closed Block will have no impact on our consolidated financial position or results of operations as of the date of demutualization. Pro forma information for the Closed Block is presented below under "-- Unaudited Pro Forma Closed Block Information". The characteristics of the major types of invested assets allocated to the Closed Block will be substantially similar to the general account of The Prudential Insurance Company of America.
We will determine the amount of cash or policy credits an eligible policyholder will receive by multiplying the number of notional shares allocated by the greater of:
. the initial public offering price, or
. an amount equal to the initial public offering price plus, if the average closing price of the Common Stock for the first 20 days of trading is greater than 110% of the initial public offering price, such excess above 110%, but not to exceed 10% of the initial public offering price.
For purposes of the pro forma financial statements, we have assumed the amount of cash or policy credits is determined based upon an initial public offering price of $27.50 per share.
The plan of reorganization provides that we will make cash payments in lieu of Common Stock to each eligible policyholder who is allocated 50 or fewer shares, or some other maximum cut-off number less than 50 that the Board of Directors of The Prudential Insurance Company of America may specify, unless the eligible policyholder affirmatively elected to receive shares. For purposes of the unaudited pro forma condensed consolidated statement of financial position, we assume that the Board of Directors establishes a cut- off of 30 shares or less. The actual amount of cash payments to eligible policyholders will depend on the actual initial public offering price per share and whether the Board of Directors of The Prudential Insurance Company of America lowers below 50 the cut-off number of shares for which cash payments will be made in lieu of Common Stock.
We will allocate the entire net proceeds from the issuance of the Class B Stock and the issuance of the IHC debt to our Financial Services Businesses, which we believe should increase the value of the Financial Services Businesses. The pro forma information does not reflect earnings on the net proceeds of the Class B Stock or IHC debt, which would be included in the Financial Services Businesses. Prudential Holdings, LLC will distribute most of the net proceeds to Prudential Financial, Inc. for general corporate purposes. Prudential Holdings, LLC will deposit 25% of the gross proceeds of the IHC debt in a debt service coverage account which, together with reinvested earnings thereon, will constitute a source of payment and security for the IHC debt. To the extent we use such net proceeds to service payments with respect to the IHC debt or to pay dividends to Prudential Financial, Inc. for purposes of the Closed Block Business, a loan from the Financial Services Businesses to the Closed Block Business would be established. We believe that the proceeds of issuances of the Class B Stock and IHC debt will reflect capital in excess of that necessary to support the Closed Block Business and that the Closed Block Business will have sufficient assets and cash flows to service the IHC debt. The investors in the Class B Stock and the bond insurer have agreed to this allocation and usage of issuance proceeds. The Closed Block Business will be financially leveraged through the issuance of the IHC debt, and dividends on the Class B Stock will be subject to prior servicing of the IHC debt.
We based the pro forma information on available information and assumptions we believe are reasonable. The pro forma information is not necessarily indicative of our consolidated financial position or results of operations had the demutualization, this offering, the issuances of the Class B Stock and IHC debt, and the
offering of the equity security units actually occurred on the dates assumed, and does not project or forecast our consolidated financial position or results of operations for any future date or period.
Income (loss) from continuing operations for the Common Stock and Class B Stock is determined based on the earnings allocated to those shares in accordance with their terms and represents the earnings legally available for the payment of dividends to those shares, respectively. For a discussion of our policies with respect to inter-business transfers and accounting matters, including the allocation of earnings, see "Demutualization and Related Transactions--Related Transactions--Class B Stock and IHC Debt Issuances-- Inter-Business Transfers and Allocation Policies".
Dividends declared and paid on the Class B Stock will depend upon the financial performance of the Closed Block Business and, as the Closed Block matures, the holders of the Class B Stock will receive the surplus of the Closed Block Business no longer required to support the Closed Block for regulatory purposes. Dividends on the Class B Stock will be payable in an aggregate amount per year at least equal to the lesser of (i) a "Target Dividend Amount" of $19.25 million or (ii) the "CB Distributable Cash Flow" for such year, which is a measure of the net cash flows of the Closed Block Business. Notwithstanding this formula, as with any common stock, we will retain the flexibility to suspend dividends on the Class B Stock; however, if CB Distributable Cash Flow exists and Prudential Financial, Inc. chooses not to pay dividends on the Class B Stock in an aggregate amount at least equal to the lesser of the CB Distributable Cash Flow or the Target Dividend Amount for that period, then cash dividends cannot be paid on the Common Stock with respect to such period. The principal component of "CB Distributable Cash Flow" will be the amount by which Surplus and Related Assets, determined according to statutory accounting principles, exceed surplus that would be required for the Closed Block Business considered as a separate insurer; provided, however, that "CB Distributable Cash Flow" counts such excess only to the extent distributable as a dividend by The Prudential Insurance Company of America under specified (but not all) provisions of New Jersey insurance law. Subject to the discretion of the Board of Directors of Prudential Financial, Inc., we currently anticipate that CB Distributable Cash Flow will substantially exceed the Target Dividend Amount. For a detailed definition of CB Distributable Cash Flow, see "Description of Capital Stock--Common Stock-- Dividend Rights".
In the event of a liquidation, dissolution or winding-up of Prudential Financial, Inc., holders of Common Stock and holders of Class B Stock will be entitled to receive a proportionate share of the net assets of Prudential Financial, Inc. that remains after paying all liabilities and the liquidation preferences of any preferred stock. This liquidation proportion will be based on the market value per share of the Common Stock, determined over a specified trading period ending 60 days after this offering, and the issuance price per share of the Class B Stock. Assuming the Common Stock were to have an average market value during the foregoing period of $27.50 per share, each share of Common Stock would have one liquidation unit and each share of Class B Stock would have 3.182 liquidation units (i.e., the $87.50 issuance price of the Class B Stock divided by $27.50). Since the number of liquidation units of the Common Stock and Class B Stock is not determined at the time of liquidation, the proportionate interests of the holders of Common Stock and Class B Stock in the remaining assets of Prudential Financial, Inc. in any liquidation will not reflect subsequent growth or decline in the equity or market value of either the Financial Services Businesses or the Closed Block Business. Accordingly, future changes in total attributed equity for the Financial Services Businesses and the Closed Block Business presented according to generally accepted accounting principles will not impact the proportion of liquidation units afforded the Common Stock and the Class B Stock.
You should read the pro forma information together with the consolidated financial statements included in this prospectus and with the information under "Demutualization and Related Transactions", "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business".
Unaudited Pro Forma Condensed Consolidated Statement of Financial Position as of September 30, 2001
Pro Forma for
Issuances Demutualization,
of Class B this Offering
Initial Public Stock and and the Issuances
Demutualization Pro Forma for Offering IHC Debt of Class B Stock Unit
Historical (A) Adjustments Demutualization Adjustments Adjustments and IHC Debt Adjustments
-------------- --------------- --------------- -------------- ------------ ----------------- -----------
(in millions)
ASSETS
Total
investments..... $169,251 $ -- $169,251 $ -- $ -- $169,251 $ --
Cash and cash
equivalents..... 17,401 (2,120)(G) 14,794 2,889(B) 171 (N) 19,584 480 (C)
(327)(E) 1,730 (O)
(160)(F)
Deferred policy
acquisition
costs........... 6,751 -- 6,751 -- -- 6,751 --
Other assets..... 27,785 -- 27,785 -- 20 (O) 27,805 20 (C)
Separate account
assets.......... 74,523 -- 74,523 -- -- 74,523 --
-------- -------- -------- ------ ------ -------- -----
TOTAL ASSETS...... $295,711 $ (2,607) $293,104 $2,889 $1,921 $297,914 $ 500
======== ======== ======== ====== ====== ======== =====
LIABILITIES AND
EQUITY
LIABILITIES
Future policy
benefits........ $ 88,982 $ 979 (H) $ 89,961 $ -- $ -- $ 89,961 $ --
Policyholders'
account
balances........ 43,680 -- 43,680 -- -- 43,680 --
Unpaid claims and
claim adjustment
expenses and
policyholders'
dividends....... 4,242 -- 4,242 -- -- 4,242 --
Securities sold
under agreements
to repurchase... 15,171 -- 15,171 -- -- 15,171 --
Short-term and
long-term debt.. 13,062 -- 13,062 -- 1,750 (O) 14,812 --
Other
liabilities..... 33,946 817 (I) 34,807 -- -- 34,807 26 (C)
44 (J)
Separate account
liabilities..... 74,523 -- 74,523 -- -- 74,523 --
-------- -------- -------- ------ ------ -------- -----
Total
liabilities.... 273,606 1,840 275,446 -- 1,750 277,196 26
-------- -------- -------- ------ ------ -------- -----
Guaranteed
minority interest
in trust holding
solely debentures
of Parent........ -- -- -- -- -- -- 500 (C)
COMMITMENTS AND
CONTINGENCIES
Consolidated
Pro Forma
--------------
ASSETS
Total
investments..... $169,251
Cash and cash
equivalents..... 20,064
Deferred policy
acquisition
costs........... 6,751
Other assets..... 27,825
Separate account
assets.......... 74,523
--------------
TOTAL ASSETS...... $298,414
==============
LIABILITIES AND
EQUITY
LIABILITIES
Future policy
benefits........ $ 89,961
Policyholders'
account
balances........ 43,680
Unpaid claims and
claim adjustment
expenses and
policyholders'
dividends....... 4,242
Securities sold
under agreements
to repurchase... 15,171
Short-term and
long-term debt.. 14,812
Other
liabilities..... 34,833
Separate account
liabilities..... 74,523
--------------
Total
liabilities.... 277,222
--------------
Guaranteed
minority interest
in trust holding
solely debentures
of Parent........ 500
COMMITMENTS AND
CONTINGENCIES
EQUITY
Common Stock..... -- 5 (K) 5 1(B) -- 6 --
Class B Stock.... -- -- -- -- 1 (N) 1 --
Additional paid-
in capital ..... -- 16,274 (K) 16,274 2,888(B) 170 (N) 19,332 (26)(C)
Net unrealized
investment gains
and losses on
available-for-
sale securities
................ 1,545 -- 1,545 -- -- 1,545 --
Accumulated other
comprehensive
income excluding
net unrealized
investment gains
and losses on
available-for-
sale
securities...... (166) -- (166) -- -- (166) --
Retained
earnings........ 20,726 (20,726)(K) -- -- -- -- --
-------- -------- -------- ------ ------ -------- -----
Total equity.... 22,105 (4,447) 17,658 2,889 171 20,718 (26)
-------- -------- -------- ------ ------ -------- -----
TOTAL LIABILITIES
AND EQUITY....... $295,711 $ (2,607) $293,104 $2,889 $1,921 $297,914 $ 500
======== ======== ======== ====== ====== ======== =====
EQUITY
Common Stock..... 6
Class B Stock.... 1
Additional paid-
in capital ..... 19,306
Net unrealized
investment gains
and losses on
available-for-
sale securities
................ 1,545
Accumulated other
comprehensive
income excluding
net unrealized
investment gains
and losses on
available-for-
sale
securities...... (166)
Retained
earnings........ --
--------------
Total equity.... 20,692 (1)
--------------
TOTAL LIABILITIES
AND EQUITY....... $298,414
==============
|
(1) If the IHC debt and the units were not issued, consolidated pro forma equity would increase by $26 million to $20,718 million.
The accompanying Notes are an integral part of this Unaudited Pro Forma Condensed Consolidated Statement of Financial Position
Unaudited Pro Forma Condensed Consolidated Statement of Operations for the Nine Months Ended September 30, 2001
Pro Forma for
Issuances Demutualization,
of Class B this Offering
Initial Public Stock and and the Issuances
Demutualization Pro Forma for Offering IHC Debt of Class B Stock
Historical (A) Adjustments Demutualization Adjustments Adjustments and IHC Debt
-------------- --------------- --------------- -------------- ----------- -----------------
(in millions, except per share information)
REVENUES
Premiums........ $ 9,112 $ -- $ 9,112 $ -- $ -- $ 9,112
Policy charges
and fee
income......... 1,298 -- 1,298 -- -- 1,298
Net investment
income......... 6,895 (22)(L) 6,873 -- -- 6,873
Realized
investment
losses, net.... (270) -- (270) -- -- (270)
Commissions and
other income... 3,332 -- 3,332 -- -- 3,332
------- ----- ------- ----- ----- -----------
Total
revenues....... 20,367 (22) 20,345 -- -- 20,345
------- ----- ------- ----- ----- -----------
BENEFITS AND
EXPENSES
Policyholders'
benefits....... 9,394 -- 9,394 -- -- 9,394
Interest
credited to
policyholders'
account
balances....... 1,338 -- 1,338 -- -- 1,338
Dividends to
policyholders.. 2,108 -- 2,108 -- -- 2,108
General and
administrative
expenses....... 6,946 -- 6,946 -- 105 (O) 7,051
Demutualization
expenses....... 199 -- 199 -- -- 199
------- ----- ------- ----- ----- -----------
Total benefits
and expenses... 19,985 -- 19,985 -- 105 20,090
------- ----- ------- ----- ----- -----------
INCOME FROM
CONTINUING
OPERATIONS
BEFORE INCOME
TAXES........... 382 (22) 360 -- (105) 255
------- ----- ------- ----- ----- -----------
Income taxes ... 30 200 (M) 221 -- (41)(O) 180
(9)(L)
------- ----- ------- ----- ----- -----------
INCOME FROM
CONTINUING
OPERATIONS...... $ 352 $(213) $ 139 $ -- $ (64) $ 75
======= ===== ======= ===== ===== ===========
EARNINGS PER
SHARE
INFORMATION
Common Stock:
Shares used in
the calculation
of basic and
diluted
income per share (D).. 566,300,000
-----------
Basic and
diluted income
from continuing
operations per
share.......... $ 0.70 (1)
-----------
Class B Stock:
Shares used in
the calculation
of basic and
diluted loss per share (N).. 2,000,000
-----------
Basic and
diluted loss
from continuing
operations per
share.......... $(160.50)(1)
-----------
Unit Consolidated
Adjustments Pro Forma
------------ ----------------
REVENUES
Premiums........ $ -- $ 9,112
Policy charges
and fee
income......... -- 1,298
Net investment
income......... -- 6,873
Realized
investment
losses, net.... -- (270)
Commissions and
other income... -- 3,332
------------ ----------------
Total
revenues....... -- 20,345
------------ ----------------
BENEFITS AND
EXPENSES
Policyholders'
benefits....... -- 9,394
Interest
credited to
policyholders'
account
balances....... -- 1,338
Dividends to
policyholders.. -- 2,108
General and
administrative
expenses....... 24 (C) 7,075
Demutualization
expenses....... -- 199
------------ ----------------
Total benefits
and expenses... 24 20,114
------------ ----------------
INCOME FROM
CONTINUING
OPERATIONS
BEFORE INCOME
TAXES........... (24) 231
------------ ----------------
Income taxes ... (9)(C) 171
------------ ----------------
INCOME FROM
CONTINUING
OPERATIONS...... $ (15) $ 60 (3)
============ ================
EARNINGS PER
SHARE
INFORMATION
Common Stock:
Shares used in
the calculation
of basic and
diluted
income per share (D).. 566,300,000
----------------
Basic and
diluted income
from continuing
operations per
share.......... $ 0.67 (2)
----------------
Class B Stock:
Shares used in
the calculation
of basic and
diluted loss per share (N).. 2,000,000
----------------
Basic and
diluted loss
from continuing
operations per
share.......... $ (160.50)(2)
----------------
|
(1) In the calculation of earnings per share, income (loss) from continuing operations applicable to the Common Stock and Class B Stock is $396 million and $(321) million, respectively.
(2) In the calculation of earnings per share, income (loss) from continuing operations applicable to the Common Stock and Class B Stock is $381 million and $(321) million, respectively.
(3) If the IHC debt and the units were not issued, consolidated pro forma income from continuing operations would increase by $79 million to $139 million.
The accompanying Notes are an integral part of this Unaudited Pro Forma Condensed Consolidated Statement of Operations
Unaudited Pro Forma Condensed Consolidated Statement of Operations for the Year Ended December 31, 2000
Pro Forma for
Issuances Demutualization,
of Class B this Offering
Initial Public Stock and and the Issuances
Demutualization Pro Forma for Offering IHC Debt of Class B Stock Unit
Historical (A) Adjustments Demutualization Adjustments Adjustments and IHC Debt Adjustments
-------------- --------------- --------------- -------------- ----------- ----------------- -----------
(in millions, except per share information)
REVENUES
Premiums........ $10,221 $ -- $10,221 $ -- $ -- $10,221 $ --
Policy charges
and fee
income......... 1,639 -- 1,639 -- -- 1,639 --
Net investment
income......... 9,497 (30)(L) 9,467 -- -- 9,467 --
Realized
investment
losses, net.... (288) -- (288) -- -- (288) --
Commissions and
other income... 5,475 -- 5,475 -- -- 5,475 --
------- ----- ------- ----- ----- ----------- -----
Total revenues.. 26,544 (30) 26,514 -- -- 26,514 --
------- ----- ------- ----- ----- ----------- -----
BENEFITS AND
EXPENSES
Policyholders'
benefits....... 10,640 -- 10,640 -- -- 10,640
Interest
credited to
policyholders'
account
balances....... 1,751 -- 1,751 -- -- 1,751 --
Dividends to
policyholders.. 2,724 -- 2,724 -- -- 2,724 --
General and
administrative
expenses....... 10,083 -- 10,083 -- 140 (O) 10,223 32(C)
Capital markets
restructuring.. 476 -- 476 -- -- 476
Demutualization
expenses....... 143 -- 143 -- -- 143 --
------- ----- ------- ----- ----- ----------- -----
Total benefits
and expenses... 25,817 -- 25,817 -- 140 25,957 32
------- ----- ------- ----- ----- ----------- -----
INCOME FROM
CONTINUING
OPERATIONS
BEFORE INCOME
TAXES........... 727 (30) 697 -- (140) 557 (32)
------- ----- ------- ----- ----- ----------- -----
Income taxes ... 406 (100)(M) 293 -- (59)(O) 234 (13)(C)
(13)(L)
------- ----- ------- ----- ----- ----------- -----
INCOME FROM
CONTINUING
OPERATIONS...... $ 321 $ 83 $ 404 $ -- $ (81) $ 323 $ (19)
======= ===== ======= ===== ===== =========== =====
EARNINGS PER
SHARE
INFORMATION
Common Stock:
Shares used in
the calculation
of basic and
diluted income
per share (D).. 566,300,000
-----------
Basic and
diluted income
from continuing
operations per
share.......... $ 0.85 (1)
-----------
Class B Stock:
Shares used in
the calculation
of basic and
diluted loss
per share (N).. 2,000,000
-----------
Basic and
diluted loss
from continuing
operations per
share.......... $ (79.50)(1)
-----------
Consolidated
Pro Forma
----------------
REVENUES
Premiums........ $10,221
Policy charges
and fee
income......... 1,639
Net investment
income......... 9,467
Realized
investment
losses, net.... (288)
Commissions and
other income... 5,475
----------------
Total revenues.. 26,514
----------------
BENEFITS AND
EXPENSES
Policyholders'
benefits....... 10,640
Interest
credited to
policyholders'
account
balances....... 1,751
Dividends to
policyholders.. 2,724
General and
administrative
expenses....... 10,255
Capital markets
restructuring.. 476
Demutualization
expenses....... 143
----------------
Total benefits
and expenses... 25,989
----------------
INCOME FROM
CONTINUING
OPERATIONS
BEFORE INCOME
TAXES........... 525
----------------
Income taxes ... 221
----------------
INCOME FROM
CONTINUING
OPERATIONS...... $ 304 (3)
================
EARNINGS PER
SHARE
INFORMATION
Common Stock:
Shares used in
the calculation
of basic and
diluted income
per share (D).. 566,300,000
----------------
Basic and
diluted income
from continuing
operations per
share.......... $ 0.82 (2)
----------------
Class B Stock:
Shares used in
the calculation
of basic and
diluted loss
per share (N).. 2,000,000
----------------
Basic and
diluted loss
from continuing
operations per
share.......... $ (79.50)(2)
----------------
|
(1) In the calculation of earnings per share, income (loss) from continuing operations applicable to the Common Stock and Class B Stock is $482 million and $(159) million, respectively.
(2) In the calculation of earnings per share, income (loss) from continuing operations applicable to the Common Stock and Class B Stock is $463 million and $(159) million, respectively.
(3) If the IHC debt and the units were not issued, consolidated pro forma income from continuing operations would increase by $100 million to $404 million.
The accompanying Notes are an integral part of this Unaudited Pro Forma Condensed Consolidated Statement of Operations
Our consolidated financial statements will contain supplemental combining financial information separately reporting the financial position and results of operations of the Financial Services Businesses and the Closed Block Business. Presented below is supplemental unaudited pro forma condensed consolidated financial information which gives effect to the separate allocation of results to the Financial Services Businesses and the Closed Block Business. Historical results of the Financial Services Businesses and the Closed Block Business are presented within the Supplemental Combining Financial Information within the consolidated financial statements of The Prudential Insurance Company of America. The supplemental unaudited pro forma condensed consolidated financial information presented below gives effect to the demutualization, this offering, the issuances of Class B Stock and IHC debt, and the offering of the equity security units as if they had occurred as of September 30, 2001 for purposes of the unaudited pro forma condensed consolidated statement of financial position and as of January 1, 2000 for purposes of the unaudited pro forma condensed consolidated statements of operations for the nine months ended September 30, 2001 and the year ended December 31, 2000. We prepared the supplemental pro forma information based on the plan of reorganization and the assumptions set forth above.
Unaudited Pro Forma Condensed Consolidated Statement of Financial Position as of September 30, 2001
Financial Services Businesses Closed Block Business
------------------------------------------------------- ------------------------------------------------
Pro Forma for Pro Forma for
Demutualization, Demutualization,
this Offering, Historical this Offering,
Issuances of Class B Traditional Issuances of Class B
Stock and IHC Debt, Participating Stock and IHC Debt,
and the Offering Products and the Offering
Historical (A) Adjustments of the Units Segment Adjustments of the Units
-------------- ----------- -------------------- ------------- ----------- --------------------
(in millions)
ASSETS
Total
investments.... $106,566 $ 5,449 (P) $112,015 $62,685 $(5,449)(P) $57,236
Cash and cash
equivalents.... 13,209 862 (P) 16,734 4,192 (862)(P) 3,330
282 (B,E,F,G)
480 (C)
1,901 (Q)
Deferred policy
acquisition
costs.......... 5,525 -- 5,525 1,226 -- 1,226
Other assets.... 23,894 1,798 (P) 25,712 3,891 (1,798)(P) 2,113
20 (C) 20 (O)
Separate account
assets......... 74,523 -- 74,523 -- -- --
-------- ------- -------- ------- ------- -------
TOTAL ASSETS..... $223,717 $10,792 $234,509 $71,994 $(8,089) $63,905
======== ======= ======== ======= ======= =======
LIABILITIES AND
ATTRIBUTED
EQUITY
LIABILITIES
Future policy
benefits....... $ 41,932 $ 350 (P) $ 43,261 $47,050 $ (350)(P) $46,700
979 (H)
Policyholders'
account
balances....... 38,206 127 (P) 38,333 5,474 (127)(P) 5,347
Unpaid claims
and claim
adjustment
expenses and
policyholders'
dividends...... 2,968 -- 2,968 1,274 -- 1,274
Securities sold
under
agreements to
repurchase..... 9,479 1,046 (P) 10,525 5,692 (1,046)(P) 4,646
Short-term and
long-term
debt........... 12,703 352 (P) 13,055 359 (352)(P) 1,757
1,750 (O)
Other
liabilities.... 29,223 1,505 (P) 31,615 4,723 (1,505)(P) 3,218
26 (C)
861 (I,J)
Separate account
liabilities.... 74,523 -- 74,523 -- -- --
-------- ------- -------- ------- ------- -------
Total
liabilities.... 209,034 5,246 214,280 64,572 (1,630) 62,942
-------- ------- -------- ------- ------- -------
Guaranteed
minority
interest in
trust holding
solely
debentures of
Parent.......... -- 500 (C) 500 -- -- --
COMMITMENTS AND
CONTINGENCIES
ATTRIBUTED EQUITY
Common Stock..... -- 6 (B,R) 6 -- -- --
Class B Stock.... -- -- -- -- 1 (N) 1
Net unrealized
investment gains
and losses on
available-for-
sale
securities...... 1,250 (61)(P) 1,189 295 61 (P) 356
Accumulated other
comprehensive
income/(loss)
excluding
unrealized
investment gain
and losses on
available-for-
sale
securities...... (148) (28)(P) (176) (18) 28 (P) 10
Other attributed
equity.......... 13,581 4,818 (P) 18,710 7,145 (4,818)(P) 596
2,888 (B) 170 (N)
(26)(C) (1,901)(Q)
(4,452)(R)
1,901 (Q)
-------- ------- -------- ------- ------- -------
Total attributed
equity......... 14,683 5,046 19,729 (1) 7,422 (6,459) 963(1)
-------- ------- -------- ------- ------- -------
TOTAL LIABILITIES
AND ATTRIBUTED
EQUITY.......... $223,717 $10,792 $234,509 $71,994 $(8,089) $63,905
======== ======= ======== ======= ======= =======
Consolidated
Pro Forma
------------
ASSETS
Total
investments.... $169,251
Cash and cash
equivalents.... 20,064
Deferred policy
acquisition
costs.......... 6,751
Other assets.... 27,825
Separate account
assets......... 74,523
------------
TOTAL ASSETS..... $298,414
============
LIABILITIES AND
ATTRIBUTED
EQUITY
LIABILITIES
Future policy
benefits....... $ 89,961
Policyholders'
account
balances....... 43,680
Unpaid claims
and claim
adjustment
expenses and
policyholders'
dividends...... 4,242
Securities sold
under
agreements to
repurchase..... 15,171
Short-term and
long-term
debt........... 14,812
Other
liabilities.... 34,833
Separate account
liabilities.... 74,523
------------
Total
liabilities.... 277,222
------------
Guaranteed
minority
interest in
trust holding
solely
debentures of
Parent.......... 500
COMMITMENTS AND
CONTINGENCIES
ATTRIBUTED EQUITY
Common Stock..... 6
Class B Stock.... 1
Net unrealized
investment gains
and losses on
available-for-
sale
securities...... 1,545
Accumulated other
comprehensive
income/(loss)
excluding
unrealized
investment gain
and losses on
available-for-
sale
securities...... (166)
Other attributed
equity.......... 19,306
------------
Total attributed
equity......... 20,692
------------
TOTAL LIABILITIES
AND ATTRIBUTED
EQUITY.......... $298,414
============
|
(1) If the IHC debt and the units were not issued, pro forma attributed equity of the Financial Services Businesses would decrease by $1,704 million and pro forma attributed equity of the Closed Block Business would increase by $1,730 million.
The accompanying Notes are an integral part of this Unaudited Pro Forma Condensed Consolidated Statement of Financial Position
Unaudited Pro Forma Condensed Consolidated Statement of Operations for the Nine Months Ended September 30, 2001
Financial Services Businesses Closed Block Business
---------------------------------------- -------------------------------------------
Pro Forma for Pro Forma for
Demutualization, Demutualization,
this Offering, this Offering,
Issuances of Historical Issuances of
Class B Stock Traditional Class B Stock
and IHC Debt, Participating and IHC Debt,
Historical and the Offering Products and the Offering Consolidated
(A) Adjustments of the Units Segment Adjustments of the Units Pro Forma
---------- ----------- ---------------- ------------- ----------- ---------------- ------------
(in millions, except per share information)
REVENUES
Premiums........... $6,013 $ -- $ 6,013 $3,099 $-- $ 3,099 $ 9,112
Policy charges and
fee income........ 1,298 -- 1,298 -- -- -- 1,298
Net investment
income............ 3,944 120 (P) 4,042 2,951 (120)(P) 2,831 6,873
(22)(L)
Realized investment
gains (losses),
net............... 3 (29)(P) (26) (273) 29 (P) (244) (270)
Commissions and
other income...... 3,242 38 (P) 3,280 90 (38)(P) 52 3,332
------ ----- ------------ ------ ---- --------- ------------
Total revenues..... 14,500 107 14,607 5,867 (129) 5,738 20,345
------ ----- ------------ ------ ---- --------- ------------
BENEFITS AND
EXPENSES
Policyholders'
benefits.......... 5,930 165 (P) 6,095 3,464 (165)(P) 3,299 9,394
Interest credited
to policyholders'
account balances.. 1,236 3 (P) 1,239 102 (3)(P) 99 1,338
Dividends to
policyholders..... 136 2 (P) 138 1,972 (2)(P) 1,970 2,108
General and
administrative
expenses.......... 6,234 18 (P) 6,276 712 (18)(P) 799 7,075
24 (C) 105 (O)
Demutualization
expenses.......... 199 -- 199 -- -- -- 199
------ ----- ------------ ------ ---- --------- ------------
Total benefits and
expenses.......... 13,735 212 13,947 6,250 (83) 6,167 20,114
------ ----- ------------ ------ ---- --------- ------------
INCOME (LOSS) FROM
CONTINUING
OPERATIONS BEFORE
INCOME TAXES....... 765 (105) 660 (383) (46) (429) 231
------ ----- ------------ ------ ---- --------- ------------
Income taxes....... 60 37 (P) 279 (30) (37)(P) (108) 171
(9)(C) (41)(O)
200 (M)
(9)(L)
------ ----- ------------ ------ ---- --------- ------------
INCOME (LOSS) FROM
CONTINUING
OPERATIONS......... $ 705 $(324) $ 381 (1) $ (353) $ 32 $ (321)(1) $ 60
====== ===== ============ ====== ==== ========= ============
EARNINGS PER SHARE
INFORMATION
Common Stock:
Shares used in the
calculation of
basic and diluted
income per share
(D)............... 566,300,000 566,300,000
------------ ------------
Basic and diluted
income from
continuing
operations per
share ............ $ 0.67 $ 0.67
------------ ------------
Class B Stock:
Shares used in the
calculation of
basic and diluted
loss per
share (N)......... 2,000,000 2,000,000
--------- ------------
Basic and diluted
loss from
continuing
operations per
share............. $ (160.50) $ (160.50)
--------- ------------
|
(1) If the IHC debt and the units were not issued, pro forma income from continuing operations of the Financial Services Businesses would increase by $15 million and pro forma loss from continuing operations of the Closed Block Business would decrease by $64 million.
The accompanying Notes are an integral part of this Unaudited Pro Forma Condensed Consolidated Statement of Operations
Unaudited Pro Forma Condensed Consolidated Statement of Operations for the Year Ended December 31, 2000
Financial Services Businesses Closed Block Business
---------------------------------------- -------------------------------------------
Pro Forma for Pro Forma for
Demutualization, Demutualization,
this Offering, this Offering,
Issuances of Historical Issuances of
Class B Stock Traditional Class B Stock
and IHC Debt, Participating and IHC Debt,
Historical and the Offering Products and the Offering Consolidated
(A) Adjustments of the Units Segment Adjustments of the Units Pro Forma
---------- ----------- ---------------- ------------- ----------- ---------------- ------------
(in millions, except per share information)
REVENUES
Premiums........... $ 5,901 $ 12 (P) $ 5,913 $4,320 $ (12)(P) $ 4,308 $ 10,221
Policy charges and
fee income........ 1,639 -- 1,639 -- -- -- 1,639
Net investment
income............ 5,325 342 (P) 5,637 4,172 (342)(P) 3,830 9,467
(30)(L)
Realized investment
gains (losses),
net............... (379) 111 (P) (268) 91 (111)(P) (20) (288)
Commissions and
other income...... 5,356 42 (P) 5,398 119 (42)(P) 77 5,475
------- ---- ------------ ------ ----- --------- ------------
Total revenues..... 17,842 477 18,319 8,702 (507) 8,195 26,514
------- ---- ------------ ------ ----- --------- ------------
BENEFITS AND
EXPENSES
Policyholders'
benefits.......... 6,157 21 (P) 6,178 4,483 (21)(P) 4,462 10,640
Interest credited
to policyholders'
account balances.. 1,618 -- 1,618 133 -- 133 1,751
Dividends to
policyholders..... 18 -- 18 2,706 -- 2,706 2,724
General and
administrative
expenses.......... 8,896 152 (P) 9,080 1,187 (152)(P) 1,175 10,255
32 (C) 140 (O)
Capital markets
restructuring..... 476 -- 476 -- -- -- 476
Demutualization
expenses.......... 143 -- 143 -- -- -- 143
------- ---- ------------ ------ ----- --------- ------------
Total benefits and
expenses.......... 17,308 205 17,513 8,509 (33) 8,476 25,989
------- ---- ------------ ------ ----- --------- ------------
INCOME (LOSS) FROM
CONTINUING
OPERATIONS BEFORE
INCOME TAXES....... 534 272 806 193 (474) (281) 525
------- ---- ------------ ------ ----- --------- ------------
Income taxes....... 300 169 (P) 343 106 (169)(P) (122) 221
(13)(C) (59)(O)
(100)(M)
(13)(L)
------- ---- ------------ ------ ----- --------- ------------
INCOME (LOSS) FROM
CONTINUING
OPERATIONS......... $ 234 $229 $ 463 (1) $ 87 $(246) $ (159)(1) $ 304
======= ==== ============ ====== ===== ========= ============
EARNINGS PER SHARE
INFORMATION
Common Stock:
Shares used in the
calculation of
basic and diluted
income per share
(D)............... 566,300,000 566,300,000
------------ ------------
Basic and diluted
income from
continuing
operations per
share ............ $ 0.82 $ 0.82
------------ ------------
Class B Stock:
Shares used in the
calculation of
basic and diluted
loss per
share (N)......... 2,000,000 2,000,000
--------- ------------
Basic and diluted
loss from
continuing
operations per
share............. $ (79.50) $ (79.50)
--------- ------------
|
(1) If the IHC debt and the units were not issued, pro forma income from continuing operations of the Financial Services Businesses would increase by $19 million and pro forma loss from continuing operations of the Closed Block Business would decrease by $81 million.
The accompanying Notes are an integral part of this Unaudited Pro Forma Condensed Consolidated Statement of Operations
Notes to Unaudited Pro Forma Financial Information
Gibraltar Life Acquisition
(A) In April 2001 we completed the acquisition of Kyoei Life Insurance Co., Ltd., a financially troubled Japanese life insurer now renamed Gibraltar Life Insurance Company, Ltd. and hereafter referred to as Gibraltar Life. For accounting purposes we have used April 2, 2001, as the date of acquisition. Gibraltar Life has adopted a November 30 fiscal year end. The historical column of the Unaudited Pro Forma Condensed Consolidated Statement of Financial Position as of September 30, 2001 includes Gibraltar Life assets and liabilities as of August 31, 2001. The amounts included under the historical column of the Unaudited Pro Forma Condensed Consolidated Statement of Operations for the nine months ended September 30, 2001 include the results of operations of Gibraltar Life from April 2, 2001 through August 31, 2001. The amounts included under the historical column of the Unaudited Pro Forma Condensed Consolidated Statement of Operations for the year ended December 31, 2000 do not include any results of Gibraltar Life since this was prior to the acquisition date. No pro forma adjustments have been made for any of the periods presented related to our acquisition of Gibralter Life.
See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Consolidated Results of Operations--International Division-- International Insurance" and "Acquisition of Kyoei Life Insurance Co., Ltd." for further discussion of the Gibraltar Life acquisition, including a discussion of the restructuring of Gibraltar Life in accordance with the Reorganization Plan.
Adjustments for the Demutualization, the Initial Public Offering, Issuances of Class B Stock and IHC Debt, and the Offering of the Equity Security Units
(B) The pro forma financial statements assume net proceeds of $2,889 million from the initial public offering, resulting from gross proceeds of $3,025 million from the issuance of 110,000,000 shares of $.01 par value Common Stock at an assumed initial public offering price of $27.50 per share, less an assumed underwriting discount and estimated offering expenses aggregating $136 million.
(C) In connection with the offering of the equity security units, we have assumed net proceeds of $480 million resulting from gross proceeds of $500 million from the issuance of 10,000,000 equity security units at an assumed offering price of $50 per unit, less an assumed underwriting discount and estimated offering expenses aggregating $20 million. Each unit will consist of (1) a purchase contract, under which the holder agrees to purchase, for $50, shares of Common Stock of Prudential Financial, Inc. on , 2004; and (2) a redeemable capital security of Prudential Financial Capital Trust I, with a stated liquidation amount of $50. The financial statements of Prudential Financial Capital Trust I will be consolidated in our consolidated financial statements, with the redeemable capital securities shown on our consolidated statement of financial position under the caption "Guaranteed minority interest in trust holding solely debentures of Parent".
For purposes of the unaudited pro forma condensed consolidated statement of financial position, we have allocated all of the assumed proceeds of $500 million from the issuance of the equity security units to the redeemable capital securities, which represents the assumed fair value of the redeemable capital securities. Further, we have assumed the present value of the contract adjustment payments on the purchase contracts, which represents the assumed fair value of the purchase contracts, to be $26 million. Initially, we will charge the fair value of the purchase contracts to equity with a corresponding credit to liabilities. Contract fee payments will be allocated between the liability account established and interest expense based on a constant rate calculation over the life of the transaction. The notes to our consolidated financial statements will disclose that the sole asset of the trust will be the debentures. The pro forma statement of financial position also reflects estimated issuance costs related to the equity security units of $20 million, which have been allocated to the redeemable capital securities, to be deferred and amortized over the life of the capital securities of 5 years.
Distributions on the redeemable capital securities will be reported as a charge to minority interest in our consolidated statements of operations, whether paid or accrued. The pro forma statements of operations reflect this charge to minority interest, within general and administrative expenses, at an assumed rate of 5.25%. The pro forma statement of operations for the nine months ended September 30, 2001 reflects distributions on the redeemable capital securities of $20 million; amortization of issuance costs of $3 million; interest expense related to the contract fee payments on the purchase contracts of $1 million and a
tax benefit related to these charges of $9 million. The pro forma statement of operations for the year ended December 31, 2000 reflects distributions on the redeemable capital securities of $26 million; amortization of issuance costs of $4 million; interest expense related to the contract fee payments on the purchase contracts of $2 million and a tax benefit related to these charges of $13 million.
A summary of the interest expense, charge to minority interest and amortization of issuance costs noted above, which are reflected within general and administrative expenses in the pro forma statements of operations, is as follows:
Nine Months Ended Year Ended
September 30, December 31,
2001 2000
----------------- ------------
(in millions)
Distributions on the redeemable capital
securities............................... $20 $26
Amortization of issuance costs............ 3 4
Interest expense related to the contract
adjustment payments on the purchase
contracts................................ 1 2
--- ---
Total gross charges related to the
equity security units.................. 24 32
Tax benefit for distributions on the
redeemable capital securities and
amortization of issue costs.............. 9 13
--- ---
Total charges, net of tax benefit....... $15 $19
=== ===
|
Earnings on the net proceeds from the issuance of the equity security units proceeds are not reflected in the pro forma operating results.
Prior to settlement of the purchase contracts through the issuance of Common Stock, the units will be reflected in our diluted earnings per share calculations using the treasury stock method. Under this method, the number of shares of Common Stock used in calculating earnings per share for any period will be deemed to be increased by the excess, if any, of the number of shares that would be required to be issued upon settlement of the purchase contracts over the number of shares that could be purchased by us in the market, at the average market price during that period, using the proceeds that would be required to be paid upon settlement. Consequently, we anticipate that there will be no dilutive effect on our earnings per share except during periods when the average market price of our Common Stock is above 120% of its initial public offering price per share.
(D) The number of shares of Common Stock used in the calculation of the pro forma basic and diluted income per share, assuming that 20% of policyholders eligible to elect to receive shares actually elect to receive shares, is as follows:
Shares notionally allocated to eligible policyholders......... 616,400,000
Less:
Shares notionally allocated to eligible policyholders who
receive cash or policy credits............................ 130,400,000
Shares notionally allocated to eligible policyholders whom
we cannot locate.......................................... 29,700,000
-----------
Shares issued to eligible policyholders....................... 456,300,000
-----------
Plus:
Shares issued in the initial public offering............... 110,000,000
-----------
Total shares of Common Stock outstanding after the initial
public offering.............................................. 566,300,000
===========
|
The pro forma financial information assumes that we use the net proceeds of the offering (1) to fund cash payments to those eligible policyholders receiving cash who, although eligible to affirmatively elect to receive Common Stock, do not so elect; (2) to make cash payments to eligible policyholders located outside of the United States, excluding Canadian policyholders, who are required to receive payments in the form of cash; and (3) for general corporate purposes. If we issue more than 110,000,000 shares of Common Stock
(including, but not limited to, any shares issued pursuant to the underwriters' options to purchase additional shares) and the additional net proceeds are not used to fund payments to policyholders receiving cash, then the pro forma basic and diluted income per share would decline.
(E) Assuming an initial public offering price of $27.50 per share, we expect to pay $327 million to holders of certain policies that The Prudential Insurance Company of America transferred to London Life Insurance Company in connection with the sale of most of its Canadian branch operations in lieu of 11,900,000 notionally allocated shares of Common Stock. See "Demutualization and Related Transactions--The Demutualization--Allocation and Payment of Compensation to Eligible Policyholders".
These payments have been reflected as a reduction in cash and retained earnings in the unaudited pro forma condensed consolidated statement of financial position. The cash payments to certain former Canadian branch policyholders will be recorded as an expense at the time of the demutualization but have not been reflected within the pro forma statements of operations as they will not have a continuing impact.
(F) Represents the cash payment in lieu of 5,800,000 notionally allocated shares of Common Stock not issued to eligible policyholders located outside of the United States who, under the plan of reorganization, are required to receive payments in the form of cash, at an assumed price of $27.50 per share.
(G) Represents the cash payment in lieu of 77,100,000 notionally allocated shares of Common Stock not issued to eligible policyholders who, under the plan of reorganization, will receive cash, at an assumed price of $27.50 per share, unless the eligible policyholder affirmatively elected to receive Common Stock.
(H) Represents a liability of the Financial Services Businesses established to fund policy credits in lieu of the distribution of 35,600,000 notionally allocated shares of Common Stock.
(I) Represents a liability of the Financial Services Businesses of $817 million, to be settled through a cash payment, established to reflect policyholders whom we cannot locate in lieu of the distribution of 29,700,000 notionally allocated shares of Common Stock. This liability will be paid to policyholders as they are located. To the extent we are unable to locate a policyholder within a prescribed period of time, generally up to seven years, we will make a cash payment to the state of the policyholder's last known address in accordance with that state's escheat laws.
(J) Reflects estimated additional non-recurring expenses of $44 million, net of tax benefit of $8 million, related to demutualization costs and expenses assumed to be incurred at the date of the pro forma statement of financial position. We have shown the additional non-recurring expenses as the establishment of a liability and a decrease to retained earnings within the pro forma statement of financial position. The additional non-recurring expenses have not been reflected within the pro forma statements of operations as they will not have a continuing impact.
In addition, subsequent to the demutualization we will incur additional expenses associated with servicing our stockholder base, including mailing and printing fees. These costs are expected to range from $30 million to $60 million annually, depending on the number of shareholders, and will decrease in future periods if there is a decrease in the number of shareholders. As these expenses are not directly related to the transaction, they have not been reflected within the pro forma condensed consolidated statements of operations.
(K) Represents the reclassification of retained earnings of The Prudential Insurance Company of America to reflect the demutualization, as follows:
Assuming 100% Assuming 120%
of Initial of Initial
Public Public
Offering Offering
Price Price
------------- -------------
(in millions)
Historical retained earnings................... $20,726 $20,726
Less:
Payment of cash in lieu of Common Stock to
former Canadian branch policyholders
(Note E)................................... 327 360
Payment of cash in lieu of Common Stock to
eligible policyholders located outside of
the United States (Note F)................. 160 175
Payment of cash in lieu of Common Stock
(Note G)................................... 2,120 2,332
Provision for policy credits in lieu of
Common Stock (Note H)...................... 979 1,077
Establishment of a liability for
policyholders whom we cannot locate (Note
I)......................................... 817 899
Additional demutualization expenses (net of
tax benefit of $8 million) (Note J)........ 44 44
------- -------
Retained earnings related to eligible
policyholders receiving Common Stock and
reclassified to Common Stock ($5 million) and
additional paid-in capital ($16,274 and
$15,834 million, respectively)................ $16,279 $15,839
======= =======
|
We will determine the amount of cash or policy credits an eligible policyholder receives by multiplying the number of notional shares allocated to the policyholder by the greater of:
.the initial public offering price; or
. an amount equal to the initial public offering price plus, if the average closing price of the Common Stock for the first 20 days of trading is greater than 110% of the initial public offering price, such excess above 110%, but not to exceed 10% of the initial public offering price.
The pro forma financial statements have assumed that the amount of cash or policy credits is determined based upon 100% of the assumed initial public offering price, or $27.50 per share. We have also presented above the impact on the amount of cash, liability for policyholders whom we cannot locate and policy credits, if the average closing price for the first 20 days is equal to or greater than 120% of the initial public offering price and cash and policy credits are determined based upon a share price of 110% of the assumed initial public offering price, or $30.25 per share.
(L) Represents the decrease in net investment income of $22 million and a related tax benefit of $9 million for the nine months ended September 30, 2001, and $30 million and a related tax benefit of $13 million for the year ended December 31, 2000, on the cash to be paid from existing assets to former Canadian branch policyholders and to eligible existing Canadian policyholders by The Prudential Insurance Company of America. The decrease in net investment income assumes a rate of return on those assets of 7.2%.
(M) Represents the elimination of the equity tax benefit for the nine months ended September 30, 2001 and the equity tax expense for the year ended December 31, 2000. The equity tax is a federal tax applicable to mutual life insurance companies. The Prudential Insurance Company of America will no longer be subject to the equity tax after the effective date of the plan of reorganization.
(N) Represents gross proceeds of $175 million from the issuance of 2,000,000 shares of $.01 par value Class B Stock at an issuance price of $87.50 per share, less a placement agent discount and estimated offering expenses aggregating $4 million. Net proceeds from the issuance of the Class B Stock are attributed to the Financial Services Businesses.
(O) Represents proceeds from the issuance of the IHC debt at an assumed annual interest rate of 8.0%. The assumed interest rate reflects expenses related to insurance we expect to purchase to insure timely payment of IHC debt principal and interest as well as hedging activities. The actual interest rate will be dependent on market conditions at the time of debt issuance and may be different than the rate assumed for these pro forma financial statements. The pro forma statement of operations for the nine months ended September 30, 2001 reflects interest expense on the debt of $105 million and a related tax benefit of $41 million. The pro forma statement of operations for the year ended December 31, 2000 reflects interest expense on the debt of $140 million, and a related tax benefit of $59 million.
A one-eighth percentage point change in the interest rate assumed of 8.0% would result in a change in the amount of interest expense of $1.6 million ($1.0 million net of related tax benefit) for the nine months ended September 30, 2001 and $2.2 million ($1.3 million net of related tax benefit) for the year ended December 31, 2000.
The pro forma statement of financial position also reflects debt issuance costs estimated to be $20 million to be deferred and amortized over the life of the debt of 22 years. Amortization of these costs, to be included within general and administrative expenses within the statement of operations, has not been reflected within the pro forma statements of operations for either the nine months ended September 30, 2001 or the year ended December 31, 2000, as the amount is less than $1 million per year.
Net proceeds from the issuance of the IHC debt of $1,730 million are allocated to the Financial Services Businesses. Earnings on these proceeds are not reflected in the pro forma operating results.
(P) The amounts within the historical column of these pro forma financial statements for the Closed Block Business include the historical results of the Traditional Participating Products segment. In order to establish the Closed Block Business, it is necessary to remove certain items from the Traditional Participating Products segment which are not components of the Closed Block Business. After removal of these items, the Closed Block Business will consist of assets, liabilities, attributed equity and related revenues and expenses necessary for the funding of expenses, taxes and guaranteed benefits and policyholder dividends of the Closed Block, as well as assets, liabilities and related revenues and expenses supporting the IHC debt service and dividends on the Class B Stock.
The items to be transferred from the Traditional Participating Products segment to the Financial Services Businesses as part of the establishment of the Closed Block Business consist primarily of net assets historically included in the Traditional Participating Products segment that are in excess of the amount necessary to support the operations of the Closed Block Business, which will be reflected in the Financial Services Businesses along with the earnings on these net assets. Additionally, assets, liabilities, attributed equity, revenues and expenses associated with the minor portion of traditional insurance products historically included in the Traditional Participating Products segment but which will not be included in the Closed Block, will be reflected in the Financial Services Businesses.
In the nine months ended September 30, 2001, a reserve of $160 million was recorded in the Traditional Participating Products segment for death and other benefits due with respect to policies for which we have not received a death claim but where death has occurred. Upon demutualization, this reserve will become a liability of the Financial Services Businesses and any subsequent reestimation of this reserve (upward or downward) will be included in adjusted operating income of the Financial Services Businesses. Accordingly, in the pro forma financial statements as of and for the nine months ended September 30, 2001, this reserve is reflected as an expense and liability of the Financial Services Businesses. This reserve is subject to uncertainty and adjustments may be required in future periods.
(Q) Represents the allocation of the net proceeds of the Class B Stock and the IHC debt to the Financial Services Businesses, as follows:
(in millions)
Net proceeds of issuance of the Class B Stock (Note N)..... $ 171
Net proceeds of issuance of the IHC debt (Note O).......... 1,730
------
Total proceeds transferred to the Financial Services
Businesses................................................ $1,901
======
|
(R) Represents the reclassification and distribution of attributed equity of the Financial Services Businesses to reflect the demutualization, as follows:
(in millions)
-------------
Payment of cash in lieu of Common Stock (Notes E, F, G).... $2,607
Provision for policy credits in lieu of Common Stock (Note
H)........................................................ 979
Establishment of a liability for policyholders whom we
cannot locate (Note I).................................... 817
Additional demutualization costs and expenses (net of
income tax benefit of $8 million) (Note J)................ 44
Reclassification of amount to par value of Common Stock
(Note K).................................................. 5
------
$4,452
======
|
Unaudited Pro Forma Closed Block Information
Under the plan of reorganization, The Prudential Insurance Company of America will establish a Closed Block for certain individual life insurance policies and annuities issued by The Prudential Insurance Company of America. The policies that we will include in the Closed Block are specified individual life insurance policies and individual annuity contracts that are in force on the effective date of the reorganization and on which we are currently paying or expect to pay experience-based policy dividends. The purpose of the Closed Block is to provide for the reasonable expectations for future policy dividends after demutualization of the holders of the policies included in the Closed Block. The establishment of the Closed Block, including the Closed Block Assets and Closed Block Liabilities, is subject to the review and approval of the New Jersey Department of Banking and Insurance. The Closed Block will continue in effect until the date none of the included policies is in force unless the Commissioner of the New Jersey Department of Banking and Insurance consents to an earlier termination.
Presented below is GAAP pro forma financial information for the Closed Block Assets and Closed Block Liabilities as of September 30, 2001, as well as Closed Block revenues, benefits and expenses for the nine months ended September 30, 2001 and the year ended December 31, 2000. This pro forma information gives effect to the establishment of the Closed Block as if it occurred as of September 30, 2001 for the pro forma Closed Block Assets and Closed Block Liabilities and as of January 1, 2000 for the pro forma Closed Block Revenues, Benefits and Expenses. The Closed Block Assets and Closed Block Liabilities, as well as the Surplus and Related Assets outside the Closed Block, are reflected in our Traditional Participating Products segment. We are generally prohibited from distributing Closed Block Assets to our stockholders and from using Closed Block Assets for any purpose other than to fund Closed Block Liabilities.
As of
September 30,
2001
Closed Block Assets and Closed Block Liabilities --------------
(in millions)
Closed Block Liabilities:
Future policy benefits........................................ $46,700
Policyholders' dividends payable.............................. 1,274
Policyholders' account balances............................... 5,347
Other Closed Block liabilities................................ 7,763
-------
Total Closed Block Liabilities.............................. 61,084
-------
Closed Block Assets:
Total investments............................................. 53,565
Cash.......................................................... 3,330
Accrued investment income..................................... 773
Other Closed Block assets..................................... 1,154
-------
Total Closed Block Assets................................... 58,822
-------
Excess of reported Closed Block Liabilities over Closed Block
Assets........................................................ 2,262
Portion of above representing other comprehensive income....... 1,086
-------
Maximum future earnings to be recognized from Closed Block
Assets and Closed Block Liabilities(1)........................ $ 3,348
=======
|
Year Ended
Nine Months Ended December 31,
September 30, 2001 2000
Closed Block Revenues, Benefits and Expenses ------------------ ------------
(in millions)
Revenues:
Premiums...................................... $3,099 $4,308
Net investment income......................... 2,612 3,558
Realized investment losses, net............... (244) (20)
Other income.................................. 52 77
------ ------
Total Closed Block revenues................. 5,519 7,923
------ ------
Benefits and Expenses:
Policyholders' benefits....................... 3,299 4,462
Interest credited to policyholders............ 99 133
Dividends to policyholders.................... 1,970 2,706
General & administrative expense charge....... 661 856
------ ------
Total Closed Block benefits and expenses.... 6,029 8,157
------ ------
Closed Block benefits and expenses, net of
Closed Block revenues, before income taxes... (510) (234)
------ ------
Income Tax Benefit............................. 185 109
------ ------
Closed Block benefits and expenses, net of
Closed Block revenues and income taxes........ $ (325) $ (125)
====== ======
|
The Closed Block will have an excess of Closed Block Liabilities over Closed Block Assets. The Closed Block Business will include additional assets and liabilities not included within the Closed Block which, we believe, will result in sufficient capital to support the Closed Block Business and adequate assets and cash flows to service the IHC debt. For a description of the Closed Block Business assets and liabilities, see "Unaudited Pro Forma Condensed Consolidated Information" and "Demutualization and Related Transactions-- Related Transactions--Class B Stock and IHC Debt Issuances".
The Closed Block will reflect those revenues, benefit payments, policyholder dividends, expenses and taxes that we considered in funding the Closed Block. Under the terms of the Closed Block, expenses of the Closed Block will be based on a formula representing historical expenses attributable to the Closed Block. To the extent such expenses vary in the future from those established pursuant to formula, the variance (positive or negative) will inure to the financial results of our Financial Services Businesses.
We will record the assets and liabilities that we allocate to the Closed Block in our consolidated financial statements at their historical carrying amount, which is on the same basis as similar other assets and liabilities. The carrying amount of the Closed Block Assets will be less than the carrying amount of the Closed Block Liabilities at the effective date of the demutualization. The excess of the carrying amount of Closed Block Liabilities over the carrying amount of Closed Block Assets at the effective date, adjusted to eliminate the impact of related amounts in accumulated other comprehensive income, represents the maximum future earnings from the assets and liabilities designated to the Closed Block that we can recognize in our consolidated net income over the period the policies in the Closed Block remain in force. As indicated above, these earnings will be included in our Traditional Participating Products segment.
As required by AICPA Statement of Position 00-3, "Accounting by Insurance Enterprises for Demutualizations and Formations of Mutual Insurance Holding Companies and for Certain Long-Duration Participating Contracts," as of the date of demutualization, we will develop an actuarial calculation of the timing of such maximum future earnings. If actual cumulative earnings in any given period are greater than the cumulative earnings we expect, we will only recognize the expected earnings in income. Any excess of actual cumulative earnings over cumulative earnings we expect will represent undistributed accumulated earnings attributable to policyholders. We will record this excess, if any, as a policyholder dividend obligation because we will pay it to Closed Block policyholders as an additional policyholder dividend unless it is otherwise offset by future Closed Block performance that is less favorable than we originally expected. If actual cumulative performance is less favorable than we expected, we will only recognize actual earnings in income.
The principal cash flow items that will impact the amount of Closed Block Assets and Closed Block Liabilities are premiums, net investment income, purchases and sales of investments, policyholders' benefits,
policyholders' dividends, premium taxes, expenses and income taxes. The principal income and expense items that we will exclude from the Closed Block are a portion of management and maintenance expenses, commissions and net investment income and realized investment gains and losses on invested assets outside the Closed Block that support the Closed Block policies, all of which enter into the determination of total gross margins of Closed Block policies for the purpose of determining periodic amortization of deferred acquisition costs. The amounts shown in the table above for Closed Block Assets and Closed Block Liabilities are those that enter into the determination of amounts that are to be paid to policyholders.
The pro forma Closed Block Assets reflect an allocation of assets necessary to fund the Closed Block Liabilities. The Closed Block Liabilities reflect the GAAP policyholder benefit reserves derived from our records for all policies to be included in the Closed Block under the plan of reorganization. We determined the Closed Block Assets necessary to fund the Closed Block Liabilities as of July 1, 2000 based on actuarial cash flow models and related assumptions that we believe are reasonable and which are documented in the plan of reorganization. We used cash flow models to project all insurance cash flows from the policies included in the Closed Block, which include premiums and policy loans activity, less policy benefits, dividends and expenses. The actuarial cash flow models contain various assumptions concerning mortality, persistency, expenses, investment experience and other factors. After projecting the insurance cash flows, we identified Closed Block Assets so that cash flows from the assets, including both principal and income, together with insurance cash flows and assets purchased with reinvested cash, would reasonably be expected to fund all Closed Block Liabilities as well as continuation of the dividend scales in effect in 2000 (i.e., the dividend scales in effect on December 15, 2000, the date the Board of Directors of The Prudential Insurance Company of America adopted Prudential's plan of reorganization), assuming the experience underlying the 2000 dividend scales continues and assuming that the actual reinvestment rate on our Closed Block invested assets is approximately 8.10%. The final funding and selection of assets included in the Closed Block were subject to the approval of the New Jersey Department of Banking and Insurance.
On November 13, 2001, The Prudential Insurance Company of America's Board of Directors acted to reduce dividends, effective January 1, 2002, on Closed Block policies to reflect unfavorable investment experience that has emerged since July 1, 2000, the date the Closed Block was originally funded. The Closed Block will experience a modest amount of claims as a result of the recent terrorist attacks in the United States. In addition, the downward movement of the stock market, combined with the general slowing of the economy over the past year, has had a negative impact on the investment returns and values of the diversified portfolio of assets that are included in the Closed Block. Closed Block dividends for 2002 are expected to be approximately $240 million less than if the 2001 dividend scales (which were a continuation of the year 2000 dividend scales) were maintained.
We will also establish a separate closed block for the benefit of the owners of participating individual life insurance policies issued by our Canadian branch that we did not transfer to London Life. Because of the substantially smaller number of outstanding Canadian policies, this separate closed block will be insignificant in size, and it will be managed among our corporate level activities rather than with the U.S. Closed Block. Accordingly, it is not included in our Traditional Participating Products segment or the Closed Block Business or reflected above. Dividends for Canadian closed block policies will be modestly reduced for 2002.
The opinion of Daniel J. McCarthy, M.A.A.A., independent consulting actuary associated with Milliman USA, formerly Milliman & Robertson, Inc., dated December 12, 2000, as attached hereto as Annex A, states that the establishment and operation of the Closed Block as the plan of reorganization contemplates makes adequate provision for allocating assets to the Closed Block that will be reasonably sufficient to enable the Closed Block to provide for the benefits we have guaranteed, and certain expenses and taxes associated with Closed Block policies, and to provide for the continuation of the dividend scales in effect for 2000 if the experience underlying those scales continues.
UNAUDITED PRO FORMA SUPPLEMENTARY INFORMATION
We derived the pro forma supplementary information from our unaudited pro forma condensed consolidated financial information and related notes. The pro forma supplementary information gives effect to the demutualization, this offering, the issuances of Class B Stock and IHC debt, and the offering of the equity security units as if they had occurred as of September 30, 2001 and December 31, 2000, for purposes of the information derived from our unaudited pro forma condensed consolidated statements of financial position and as of January 1, 2000 for purposes of the information derived from our unaudited pro forma condensed consolidated statements of operations. The pro forma supplementary information is not necessarily indicative of our consolidated financial position or results of operations had the demutualization, this offering of our Common Stock, the issuances of Class B Stock and IHC debt, and the offering of the equity security units actually occurred on the dates assumed and does not project or forecast our consolidated financial position or results of operations for any future date or period. The pro forma supplementary information set forth below should be read in conjunction with the information set forth under, or referred to in, "Unaudited Pro Forma Condensed Consolidated Financial Information".
The plan of reorganization provides that we will make cash payments in lieu of Common Stock to each eligible policyholder who is allocated 50 or fewer shares, or some other maximum cut-off number less than 50 that the Board of Directors of The Prudential Insurance Company of America may specify, unless the eligible policyholder affirmatively elects to receive shares. For purposes of the unaudited pro forma supplementary information, we have assumed that the Board of Directors establishes a maximum cut-off of 30 shares or less.
The information set forth in the table below gives effect to the sale of 110 million shares of Common Stock in this offering of our Common Stock and Common Stock allocated to eligible policyholders, assuming 20% of policyholders eligible to elect to receive shares actually elect to receive shares, which assumption we believe is consistent with past demutualizations. The information reflects assumed initial public offering prices per share of Common Stock of $25.00, $27.50, and $30.00. These prices are for illustrative purposes and are not intended to predict either the initial range of public offering prices at the time of the offering or the actual public offering price. For purposes of the unaudited pro forma supplementary information, we have assumed the amount of cash or policy credits is determined based upon 100% of the initial public offering price. The information is intended to illustrate how the Unaudited Pro Forma Condensed Consolidated Financial Information would be affected by varying the price per share in the offering of our Common Stock. In addition to this offering of Common Stock, this information also gives effect to the issuance of 2 million shares of Class B Stock at an offering price of $87.50 per share, the issuance of the IHC debt and to the sale of 10 million equity security units at $50 per unit.
The closing of this offering is subject to the completion of the demutualization of The Prudential Insurance Company of America and the private placement of the Class B Stock, but the issuance of the IHC debt and the offering of the equity security units are not conditions to this offering.
As of and for the Nine Months Ended
September 30, 2001
-------------------------------------
Assuming the Following
Initial Public Offering Price
-------------------------------------
$25.00 $27.50 $30.00
----------- ----------- -----------
(Share data in millions, dollars in
millions except per share amounts)
DEMUTUALIZATION, THIS OFFERING AND
ISSUANCES OF CLASS B STOCK AND IHC
DEBT
Income from continuing operations...... $ 352 $ 352 $ 352
Adjustments for demutualization(1)..... (212) (213) (214)
Adjustments for issuances of Class B
Stock and IHC debt(2)................. (64) (64) (64)
----------- ----------- -----------
Pro forma income from continuing
operations............................ $ 76 $ 75 $ 74
=========== =========== ===========
Total equity........................... $ 22,105 $ 22,105 $ 22,105
----------- ----------- -----------
Transaction adjustments for
demutualization, this offering and
issuances of Class B Stock and IHC
debt:
Gross proceeds from the initial public
offering of Common Stock............. 2,750 3,025 3,300
Underwriting and offering expenses.... (124) (136) (149)
Issuances of Class B Stock and IHC
debt(3).............................. 171 171 171
Payment to eligible policyholders who
did not elect stock.................. (1,927) (2,120) (2,313)
To support policy credits............. (890) (979) (1,068)
To support unknown addresses.......... (742) (817) (891)
To support amounts owed to transferred
Canadian branch policyholders........ (298) (327) (357)
To support amounts owed to other
policyholders located outside the
United States........................ (145) (160) (174)
Estimated demutualization expenses.... (44) (44) (44)
----------- ----------- -----------
Subtotal of transaction adjustments... (1,249) (1,387) (1,525)
----------- ----------- -----------
Pro forma equity(5).................... $ 20,856 $ 20,718 $ 20,580
=========== =========== ===========
Pro forma book value per share of:
Common Stock........................... $ 35.13 $ 34.88 $ 34.64
=========== =========== ===========
Class B Stock.......................... $ 481.50 $ 481.50 $ 481.50
=========== =========== ===========
DEMUTUALIZATION, THIS OFFERING,
ISSUANCES OF CLASS B STOCK AND IHC
DEBT, AND THE OFFERING OF THE EQUITY
SECURITY UNITS
Pro forma income from continuing
operations............................ $ 76 $ 75 $ 74
Adjustments for the issuance of the
equity security units(4).............. (15) (15) (15)
----------- ----------- -----------
Adjusted pro forma income from
continuing operations................. $ 61 $ 60 $ 59
=========== =========== ===========
Pro forma equity....................... $ 20,856 $ 20,718 $ 20,580
Fair value of purchase contracts....... (26) (26) (26)
----------- ----------- -----------
Adjusted pro forma equity(5)........... $ 20,830 $ 20,692 $ 20,554
=========== =========== ===========
Pro forma book value per share:
Common Stock........................... $ 35.08 $ 34.84 $ 34.59
=========== =========== ===========
Class B Stock.......................... $ 481.50 $ 481.50 $ 481.50
=========== =========== ===========
Share Data
Shares allocated to eligible
policyholders......................... 616.4 616.4 616.4
Less:
Estimated shares allocated to eligible
policyholders who did not elect
stock................................ (77.1) (77.1) (77.1)
Estimated shares allocated to eligible
policyholders who receive cash or
policy credits....................... (83.0) (83.0) (83.0)
----------- ----------- -----------
Shares issued to eligible
policyholders......................... 456.3 456.3 456.3
----------- ----------- -----------
Shares issued in the offering.......... 110.0 110.0 110.0
----------- ----------- -----------
Total shares of Common Stock
outstanding........................... 566.3 566.3 566.3
=========== =========== ===========
Total shares of Class B Stock
outstanding........................... 2.0 2.0 2.0
=========== =========== ===========
Common Stock Ownership Percentage
(excluding any Class B Stock)
Eligible policyholders................. 80.6% 80.6% 80.6%
Purchasers in the offering............. 19.4% 19.4% 19.4%
|
(1) Represents the elimination of equity tax benefit of $200 million, which is applicable only to mutual life insurance companies, and net investment income of $12 million, $13 million and 14 million, net of related tax benefit of $8 million, $9 million and $10 million for the $25.00, $27.50 and $30.00 price scenarios, respectively, assumed to be foregone due to cash payments to certain eligible policyholders. The equity tax can vary significantly from year to year and will not be applicable after we convert to a stock life insurance company.
(2) Represents interest expense of $64 million on the IHC debt, net of related tax benefit of $41 million.
(3) Represents gross proceeds of $175 million from the issuance of the Class B Stock, less a placement agent discount and estimated offering expenses aggregating $4 million.
(4) Represents distributions on the redeemable capital securities, amortization of issuance costs and interest expense related to the contract fee payments on the purchase contracts, in aggregate, of $15 million, net of related tax benefit of $9 million.
(5) Adjusted pro forma equity attributed to the Closed Block Business is $963 million. The remainder is attributed to the Financial Services Businesses.
As of and for the Year
Ended December 31,
2000
-------------------------
Assuming the Following
Initial Public Offering
Price
-------------------------
$25.00 $27.50 $30.00
------- ------- -------
(Share data in
millions, dollars in
millions except per
share amounts)
DEMUTUALIZATION, THIS OFFERING AND ISSUANCES OF
CLASS B STOCK AND IHC DEBT
Income from continuing operations................... $ 321 $ 321 $ 321
Adjustments for demutualization(1).................. 84 83 81
Adjustments for issuances of Class B Stock and IHC
debt(2)............................................ (81) (81) (81)
------- ------- -------
Pro forma income from continuing operations......... $ 324 $ 323 $ 321
======= ======= =======
Total equity........................................ $20,608 $20,608 $20,608
------- ------- -------
Transaction adjustments for demutualization, this
offering and issuances of Class B Stock and IHC
debt:
Gross proceeds from the initial public offering of
Common Stock...................................... 2,750 3,025 3,300
Underwriting and offering expenses................. (124) (136) (149)
Issuances of Class B Stock and IHC debt(3)......... 171 171 171
Payment to eligible policyholders who did not elect
stock............................................. (1,927) (2,120) (2,313)
To support policy credits.......................... (890) (979) (1,068)
To support unknown addresses....................... (742) (817) (891)
To support amounts owed to transferred Canadian
branch policyholders.............................. (298) (327) (357)
To support amounts owed to other policyholders
located outside the United States................. (145) (160) (174)
Estimated demutualization expenses................. (222) (222) (222)
------- ------- -------
Subtotal of transaction adjustments................ (1,427) (1,565) (1,703)
------- ------- -------
Pro forma equity(5)................................. $19,181 $19,043 $18,905
======= ======= =======
Pro forma book value per share of:
Common Stock........................................ $ 31.89 $ 31.64 $ 31.40
======= ======= =======
Class B Stock....................................... $562.00 $562.00 $562.00
======= ======= =======
DEMUTUALIZATION, THIS OFFERING, ISSUANCES OF CLASS B
STOCK AND IHC DEBT, AND THE OFFERING OF THE EQUITY
SECURITY UNITS
Pro forma income from continuing operations......... $ 324 $ 323 $ 321
Adjustments for the issuance of the equity security
units(4)........................................... (19) (19) (19)
------- ------- -------
Adjusted pro forma income from continuing
operations......................................... $ 305 $ 304 $ 302
======= ======= =======
Pro forma equity.................................... $19,181 $19,043 $18,905
Fair value of purchase contracts.................... (26) (26) (26)
------- ------- -------
Adjusted pro forma equity(5)........................ $19,155 $19,017 $18,879
======= ======= =======
Pro forma book value per share:
Common Stock........................................ $ 31.84 $ 31.60 $ 31.35
======= ======= =======
Class B Stock....................................... $562.00 $562.00 $562.00
======= ======= =======
Share Data
Shares allocated to eligible policyholders.......... 616.4 616.4 616.4
Less:
Estimated shares allocated to eligible
policyholders who did not elect stock............. (77.1) (77.1) (77.1)
Estimated shares allocated to eligible
policyholders who receive cash or policy credits.. (83.0) (83.0) (83.0)
------- ------- -------
Shares issued to eligible policyholders............. 456.3 456.3 456.3
------- ------- -------
Shares issued in the offering....................... 110.0 110.0 110.0
------- ------- -------
Total shares of Common Stock outstanding............ 566.3 566.3 566.3
======= ======= =======
Total shares of Class B Stock outstanding........... 2.0 2.0 2.0
======= ======= =======
Common Stock Ownership Percentage (excluding any
Class B Stock)
Eligible policyholders.............................. 80.6% 80.6% 80.6%
Purchasers in the offering.......................... 19.4% 19.4% 19.4%
|
(1) Represents the elimination of equity tax expense of $100 million, which is applicable only to mutual life insurance companies, and net investment income of $16 million, $17 million and $19 million, net of related tax benefit of $11 million, $13 million and $13 million for the $25.00, $27.50 and $30.00 price scenarios, respectively, assumed to be foregone due to cash payments to certain eligible policyholders. The equity tax can vary significantly from year to year and will not be applicable after we convert to a stock life insurance company.
(2) Represents interest expense of $81 million on the IHC debt, net of related tax benefit of $59 million.
(3) Represent gross proceeds of $175 million from the issuance of the Class B Stock, less a placement agent discount and estimated offering expenses aggregating $4 million.
(4) Represents distributions on the redeemable capital securities, amortization of issuance costs and interest expense related to the contract fee payments on the purchase contracts, in aggregate, of $19 million, net of related tax benefit of $13 million.
(5) Adjusted pro forma equity attributed to the Closed Block Business is $1,124 million. The remainder is attributed to the Financial Services Businesses.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following analysis of our consolidated financial condition and results of operations in connection with the "Selected Consolidated Financial and Other Information" and the consolidated financial statements included elsewhere in this prospectus. Our consolidated financial condition and results of operations for all periods prior to the effective date of the demutualization, including the nine months ended September 30, 2001 and 2000 and the years ended December 31, 2000, 1999 and 1998, represent the financial condition and results of operations of The Prudential Insurance Company of America and its consolidated subsidiaries. On the effective date of the demutualization, The Prudential Insurance Company of America will become a wholly owned indirect subsidiary of Prudential Financial, Inc. The consolidated financial statements of The Prudential Insurance Company of America prior to the demutualization will become Prudential Financial, Inc.'s consolidated financial statements upon demutualization.
Overview
Business Divisions and Segments
Financial Services Businesses
We refer to the businesses in our four operating divisions and our Corporate and Other operations, collectively, as our Financial Services Businesses. The U.S. Consumer division consists of our Individual Life Insurance, Private Client Group, Retail Investments and Property and Casualty Insurance segments. The Employee Benefits division consists of our Group Insurance and Other Employee Benefits segments. The International division consists of our International Insurance and International Securities and Investments segments. The Asset Management division consists of our Investment Management and Advisory Services and Other Asset Management segments. We also have Corporate and Other operations, which contain corporate items and initiatives that are not allocated to the business segments. Corporate and Other operations also include businesses that we have divested or placed in wind-down status (other than our divested healthcare business, which is treated as a discontinued operation). The principal corporate items are the expense of corporate management and earnings on equity not allocated to our businesses.
We attribute financing costs to each segment based on its use of financing and reflect financing costs in each segment's results. The net investment income of each segment includes earnings on the amount of equity which management believes is necessary to support the risks of that segment.
Traditional Participating Products Segment
In connection with the demutualization, we will cease offering domestic participating products. The liabilities for our individual in force participating products will then be segregated, together with assets which will be used exclusively for the payment of benefits and policyholder dividends, expenses and taxes with respect to these products, in a regulatory mechanism referred to as the "Closed Block". We have selected the amount and type of Closed Block Assets and Closed Block Liabilities included in the Closed Block so that the Closed Block Assets initially will have a lower book value than the Closed Block Liabilities. We expect that the Closed Block Assets will generate sufficient cash flow, together with anticipated revenues from the Closed Block policies, over the life of the Closed Block to fund payments of all expenses, taxes and policyholder benefits to be paid to, and the reasonable dividend expectations of, policyholders of the Closed Block products. We also will segregate for accounting purposes the Surplus and Related Assets that we will need to hold outside the Closed Block to meet capital requirements related to the products included within the Closed Block. No policies sold after demutualization will be added to the Closed Block and its in force business is expected to ultimately decline as we pay policyholder benefits in full. We expect the proportion of our business represented by the Closed Block to decline as we grow other businesses. A minor portion of our Traditional Participating Products segment has consisted of other traditional insurance products that will not be included in the Closed Block.
Revenues and Expenses
We earn our revenues principally from insurance premiums; mortality, expense, and asset management fees from insurance and investment products; commissions and other revenues from securities brokerage transactions; and investment of general account and other funds. We earn premiums primarily from the sale of individual life
insurance, group life and disability insurance and automobile and homeowners insurance. We earn mortality, expense, and asset management fees from the sale and servicing of separate account products including variable life insurance and variable annuities. We also earn asset management and administrative fees from the sale and servicing of mutual funds, retirement products and other asset management products and services. Our operating expenses principally consist of insurance benefits provided, general business expenses, dividends to policyholders, commissions and other costs of selling and servicing the various products we sell and interest credited on general account liabilities.
Profitability
Our profitability depends principally on our ability to price and manage risk on insurance products, our ability to attract and retain customer assets, and our ability to manage expenses. Specific drivers of our profitability include:
. our ability to manufacture and distribute products and services and to introduce new products gaining market acceptance on a timely basis;
. our ability to price our insurance products at a level that enables us to earn a margin over the cost of providing benefits and the expense of acquiring customers and administering those products;
. our mortality and morbidity experience on individual and group life insurance, annuity and group disability insurance products;
. our persistency experience, which affects our ability to recover the cost of acquiring new business over the lives of the contracts;
. our management of our exposure to catastrophic and other losses on our property and casualty insurance products;
. our cost of administering insurance contracts and providing asset management products and services;
. our returns on invested assets, net of the amounts we credit to policyholders' accounts;
. our ability to earn commissions and fees from the sale and servicing of mutual funds, annuities, defined contribution and other investment products at a level that enables us to earn a margin over the expense of providing such services;
. the amount of our assets under management and changes in their fair value, which affect the amount of asset management fees we receive;
. our ability to generate commissions and fees from securities activities at a level that enables us to earn a margin over the expenses of providing such services; and
. our ability to generate favorable investment results through asset- liability management and strategic and tactical asset allocation.
In addition, factors such as regulation, competition, interest rates, taxes, foreign exchange rates, securities market conditions and general economic conditions affect our profitability. In some of our product lines, particularly those in the Traditional Participating Products segment, we share experience on mortality, morbidity, persistency and investment results with our customers, which can offset the impact of these factors on our profitability from those products.
Historically, the participating products to be included in the Closed Block, as well as the other products included in the Traditional Participating Products segment, have yielded lower returns on capital invested than many of our other businesses. Following the demutualization, we expect that the proportion of the traditional participating products in our in force business will gradually diminish as these older policies age and we grow other businesses. However, the relatively lower returns to us on this existing block of business will continue to affect our consolidated results of operations for many years. The Common Stock issued in this offering is expected to reflect the performance of our Financial Services Businesses, which will include the capital previously included in the Traditional Participating Products segment in excess of the amount necessary to support the Closed Block Business. The Financial Services Businesses will also include other traditional insurance products previously included in the Traditional Participating Products segment but which will not be included in the Closed Block. The Class B Stock will be designed to reflect the financial performance of our Closed Block Business.
In February 1998, we announced our intention to seek legislation that would permit our demutualization. The publicity about our possible demutualization may have contributed to improvements in our sales, our persistency experience or both in a number of product lines since that time, although we cannot be certain of this.
Demutualization and Related Transactions
On the effective date of the demutualization, which will occur at the time of closing of the offering, The Prudential Insurance Company of America will convert from a mutual life insurance company owned by its policyholders to a stock life insurance company and become a wholly owned indirect subsidiary of Prudential Financial, Inc.
The plan of reorganization requires us to establish and operate a mechanism known as the Closed Block. The Closed Block is designed generally to provide for the reasonable expectations for future policy dividends after demutualization of the holders of the policies included in the Closed Block by allocating assets that will be used for the payment of benefits on those policies. We will initially allocate assets to the Closed Block equal to approximately 26% of The Prudential Insurance Company of America's general account invested assets, in a mix approximately proportional to the invested assets of Prudential's general account supporting our Traditional Participating Products segment. See "Unaudited Pro Forma Condensed Consolidated Financial Information--Unaudited Pro Forma Closed Block Information" and "Demutualization and Related Transactions--The Demutualization--The Closed Block" below for additional information regarding the terms of the Closed Block and the assets and liabilities allocated thereto. In connection with the demutualization, we intend, but are not required, to "destack" or reorganize the ownership of various subsidiaries of The Prudential Insurance Company of America so that they become indirect or direct subsidiaries of Prudential Financial, Inc. rather than The Prudential Insurance Company of America. See "Demutualization and Related Transactions-- Related Transactions--The Destacking" below for additional information regarding the terms of the destacking and its pro forma effect on The Prudential Insurance Company of America. Additionally, in connection with our demutualization, we plan to issue shares of Class B Stock of Prudential Financial, Inc. and the IHC debt in private placements. See "Unaudited Pro Forma Condensed Consolidated Financial Information", "Unaudited Pro Forma Supplementary Information" and "Demutualization and Related Transactions-- Related Transactions--Class B Stock and IHC Debt Issuances" for information regarding the terms of these securities and the pro forma effect of their issuances. Also, concurrently with this offering, we expect to offer equity security units. See "Description of the Equity Security Units" for a summary of the terms of the units.
Consolidated Results of Operations
In managing our business, we analyze our operating performance by separately considering our Financial Services Businesses and our Traditional Participating Products segment. In addition, within both the Financial Services Businesses and the Traditional Participating Products segment, we analyze our operating performance using a non-GAAP measure we call "adjusted operating income". We calculate adjusted operating income by adjusting our income from continuing operations before income taxes to exclude certain items. The items excluded are:
. realized investment gains, net of losses and related charges;
. sales practices remedies and costs;
. the gains, losses and contribution to income/loss of divested businesses that we have sold but that do not qualify for "discontinued operations" accounting treatment under GAAP; and
. demutualization costs and expenses.
Wind-down businesses that we have not divested remain in adjusted operating income. We exclude our discontinued healthcare operations from income from continuing operations before income taxes.
The excluded items are important to an understanding of our overall results of operations. You should not view adjusted operating income as a substitute for net income determined in accordance with GAAP, and you should note that our definition of adjusted operating income may differ from that used by other companies. However, we believe that the presentation of adjusted operating income as we measure it for management purposes enhances the understanding of our results of operations by highlighting the results from ongoing operations and the underlying profitability of our businesses. We exclude realized investment gains, net of losses
and related charges, from adjusted operating income, because the timing of transactions resulting in recognition of gains or losses is largely at our discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of our businesses. We exclude sales practices remedies and costs because they relate to a substantial and identifiable non- recurring event. We exclude the gains and losses and contribution to income/loss of divested businesses because, as a result of our decision to dispose of these businesses, these results are not relevant to the profitability of our ongoing operations and could distort the trends associated with our ongoing operations. We also exclude demutualization expenses because they are directly related to our demutualization and could distort the trends associated with our business operations.
In the discussion below of our consolidated results of operations, we separately discuss income from continuing operations before income taxes and adjusted operating income for the Financial Services Businesses, as well as the divisions thereof and Corporate and Other operations, and the Traditional Participating Products segment. We also discuss the items excluded from adjusted operating income, i.e., realized investment gains, sales practices remedies and costs, demutualization expenses and divested businesses, as well as items not included in income from continuing operations before taxes, i.e., taxes and discontinued operations. Realized investment gains are allocated between the Financial Services Businesses and the Traditional Participating Products segment. Sales practices remedies and costs and divested businesses are allocated entirely to the Financial Services Businesses. For purposes of analyzing our results, taxes and discontinued operations are not allocated to our segments or divisions. Following this consolidated discussion, you will find a detailed discussion of our results of operations by division and by the segments of each division, as well as the Traditional Participating Products segment.
Net Income
2001 to 2000 Nine-Month Comparison. Net income decreased $314 million, or 47%, from $666 million in the first nine months of 2000 to $352 million in the first nine months of 2001. The decrease reflects a $963 million decrease in income from continuing operations before income taxes, partially offset by a $649 million decrease in the related provision for income taxes as discussed below under "--Taxes". Our $352 million net income for the first nine months of 2001 included a net loss of $280 million for the third quarter of 2001. The $280 million net loss reflects a loss from continuing operations before income taxes of $497 million, including net realized investment losses of $574 million and adjusted operating income of $283 million. The net realized investment losses in the third quarter of 2001 included $601 million of recognized impairments.
The $963 million decrease in income from continuing operations before income taxes resulted from a $532 million decrease from the Financial Services Businesses and a $431 million decrease from the Traditional Participating Products segment. The $532 million decrease from the Financial Services Businesses came primarily from a $541 million decline from our U.S. Consumer division, a $91 million decline from our Asset Management division, and an $81 million decline from our Employee Benefits division, partially offset by an increase of $123 million from our International division and a $58 million reduction in losses from Corporate and Other operations.
The $541 million decline from our U.S. Consumer division and the $91 million decline from our Asset Management division came primarily from decreases in adjusted operating income. The $81 million decline from our Employee Benefits division came primarily from a $152 million decline in adjusted operating income, which was partially offset by a $71 million decrease in realized investment losses, net of related charges. The $123 million increase from our International division came from an increase in adjusted operating income. Results for our International division include the results of Gibraltar Life, which we acquired in April 2001, from April 2, 2001 through August 31, 2001. The $58 million reduction in losses from Corporate and Other operations came primarily from a $219 million increase in realized investment gains, net of losses, which was partially offset by an $86 million increase in demutualization expenses, a $53 million increase in losses from divested businesses, and a $22 million decrease in adjusted operating income.
In the 2001 fourth quarter, we will recognize an after-tax charge of $327 million with respect to our payment of demutualization consideration to our former Canadian branch policyholders and, in addition, we currently anticipate, if present economic and financial conditions continue, a 2001 fourth quarter net loss, prior to such after-tax charge, roughly comparable to our 2001 third quarter net loss.
See "--Adjusted Operating Income" below for a discussion of the adjusted operating income results of our divisions, Corporate and Other operations and our Traditional Participating Products segment.
See "--Realized Investment Gains" below for a discussion of realized investment gains, net of losses, and charges related to net realized investment gains.
Terrorist Attacks on the United States
Our losses from insurance claims arising in connection with the September 11, 2001 terrorist attacks, after release of existing reserves and reinsurance recoveries, had a negative effect on adjusted operating income and income from continuing operations before income taxes of approximately $50 million, and on net income of approximately $30 million, for the nine months ended September 30, 2001. These insurance losses are based on gross losses of approximately $220 milion from group life, individual life, and property and casualty insurance claims. Approximately $37 million of the negative impact on adjusted operating income and income from continuing operations before income taxes related to the Financial Services Businesses, primarily in the Individual Life Insurance segment. The remainder of the losses related to the Traditional Participating Products segment.
We suffered no material injury to our personnel or properties used in our business operations from the attacks.
The terrorist attacks have significantly adversely affected general economic, market and political conditions. This may have a negative effect on our businesses and results of operations over time. In particular, the declines in share prices experienced following the reopening of the U.S. equity markets following the attacks have contributed and may continue to contribute to a decline in assets under management and administration, which in turn could have a negative effect on fees we earn based on asset values in our U.S. Consumer, Employee Benefits, and Asset Management divisions. The transaction volume of our Private Client Group segment may continue to be negatively affected if there is a decreased level of investor activity as a result of continuing uncertainties. Our general account investment portfolios include investments, primarily comprised of debt securities, in industries that we believe may be adversely affected by the terrorist attacks including airlines, non-life insurance, lodging and entertainment companies, with a total carrying value as of September 30, 2001 of approximately $3.0 billion, excluding securities maturing with one year. We also have equity securities in these industries with a carrying value of approximately $0.1 billion as of that date. The effect of these events on the valuation of these investments is uncertain and could lead to increased impairments.
2000 to 1999 Annual Comparison. Net income decreased $415 million, or 51%, from $813 million in 1999 to $398 million in 2000. This decrease reflects a $1.528 billion decrease in income from continuing operations before income taxes, partially offset by a $636 million decrease in the related provision for income taxes as discussed below under "--Taxes". Additionally, net income for 2000 included $77 million of income resulting from a reduction in our loss on disposal of our discontinued healthcare operations, while 1999 net income included a $400 million increase in our loss on disposal of these operations, as discussed below under "--Discontinued Operations".
The $1.528 billion decrease in income from continuing operations before income taxes resulted from a $1.377 billion decrease from the Financial Services Businesses and a $151 million decrease from the Traditional Participating Products segment. The $1.377 billion decrease from the Financial Services Businesses came primarily from a $1.335 billion decline from Corporate and Other operations and a $216 million decline from our Employee Benefits division, partially offset by an $85 million increase from our U.S. Consumer division and a $65 million increase from our International division. The $1.335 billion decline from Corporate and Other operations came primarily from a $637 million decline in realized investment gains, net of losses, and from a $643 million decline from the former lead-managed underwriting and institutional fixed income businesses of Prudential Securities, which we include in "divested businesses." The $216 million decline from our Employee Benefits division came primarily from a $203 million decline in realized investment gains, net of losses and related charges. The $85 million increase from our U.S. Consumer division came primarily from a $73 million increase in adjusted operating income. The $65 million increase from our International division reflected an $89 million increase in adjusted operating income.
1999 to 1998 Annual Comparison. Net income decreased $293 million, or 26%, from $1.106 billion in 1998 to $813 million in 1999. This decrease reflects a $342 million decrease in income from continuing operations before income taxes and a $72 million increase in the related provision for income taxes as discussed below under "--Taxes". A decrease of $121 million in the loss from our discontinued healthcare operations, as discussed below under "-- Discontinued Operations", was a partial offset.
The $342 million decrease in income from continuing operations before income taxes resulted from a $1.323 billion decrease from the Traditional Participating Products segment, partially offset by a $981 million increase from the Financial Services Businesses. The $1.323 billion decline from the Traditional Participating
Products segment came from a $1.433 billion decrease in realized investment gains, net of losses and related charges, which was partially offset by a $110 million increase in adjusted operating income. The $981 million increase from the Financial Services Businesses came primarily from a $1.591 billion improvement from Corporate and Other operations and increases in income from continuing operations before income taxes of $86 million from our Asset Management division and $76 million from our International division, partially offset by a $451 million decline from our Employee Benefits division and a $321 million decline from our U.S. Consumer division. The $1.591 billion improvement from Corporate and Other operations came primarily from a decrease in charges for sales practices remedies and costs of $1.050 billion, which is discussed below under "--Sales Practices Remedies and Costs", a $272 million increase in realized investment gains, net of losses, and a $171 million improvement in adjusted operating income. The $86 million increase in income from continuing operations before income taxes from our Asset Management division, and the $76 million increase from our International division, came entirely from increases in adjusted operating income. The $451 million decrease from our Employee Benefits division came primarily from a $411 million decrease in realized investment gains, net of losses and related charges. The $321 million decrease from our U.S. Consumer division came from a $185 million decrease in adjusted operating income and a $136 million decline in realized investment gains, net of losses and related charges.
Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. On a consolidated basis, adjusted operating income decreased $610 million, or 31%, from $1.989 billion for the first nine months of 2000 to $1.379 billion for the first nine months of 2001. Our adjusted operating income for the third quarter of 2001 was $283 million, reflecting adjusted operating income of $256 million for the Financial Services Businesses and $27 million for the Traditional Participating Products segment. Adjusted operating income in the Financial Services Businesses for the third quarter of 2001 reflected declines in results in the U.S. Consumer and Employee Benefits divisions compared to prior periods of 2001. The decrease for the nine months ended September 30, 2001 came from a $598 million decrease from the Financial Services Businesses, and a $12 million decrease from the Traditional Participating Products segment. Adjusted operating income of our Financial Services Businesses for the first nine months of 2001 includes $185 million, which represents Gibraltar Life's results from April 2, 2001 through August 31, 2001.
Adjusted operating income of our Financial Services Businesses decreased $598 million, or 35%, from the first nine months of 2000 to the first nine months of 2001. The decrease came primarily from decreases of $479 million from our U.S. Consumer division and $152 million from our Employee Benefits division.
The $479 million decrease in adjusted operating income from our U.S. Consumer division came primarily from a $438 million decrease from the Private Client Group segment. The $152 million decrease in adjusted operating income from our Employee Benefits division came from declines in both segments in the division.
Adjusted operating income of the Traditional Participating Products segment decreased $12 million, or 4%, from the first nine months of 2000 to the first nine months of 2001, primarily from a $160 million reserve for unreported death claims, partially offset by a reduction in the charge for policyholder dividends, which excludes the portion of the dividend related to net realized investment gains, a reduction in amortization of deferred policy acquisition costs and a decline in operating expenses.
2000 to 1999 Annual Comparison. On a consolidated basis, adjusted operating income increased $263 million, or 13%, from 1999 to 2000. The increase came from a $231 million increase from the Traditional Participating Products segment and a $32 million increase from the Financial Services Businesses.
Adjusted operating income of our Financial Services Businesses increased $32 million, or 2%, from 1999 to 2000. The increase came primarily from increases of $89 million from our International division and $73 million from our U.S. Consumer division, partially offset by a $141 million decrease from Corporate and Other operations.
The $89 million increase in adjusted operating income from our International division came primarily from a $78 million increase from the International Insurance segment. The $73 million increase in adjusted operating income from our U.S. Consumer division came primarily from an increase of $65 million from the Retail Investments segment. The $141 million decrease from Corporate and Other operations came primarily from corporate-level activities, which included a one-time benefit of $114 million recognized in 1999 as a result of a reduction of recorded liabilities for our own employee benefits.
Adjusted operating income of the Traditional Participating Products segment increased $231 million, or 73%, from 1999 to 2000, primarily as a result of an increase in investment income net of interest expense and a decline in operating expenses.
1999 to 1998 Annual Comparison. On a consolidated basis, adjusted operating income increased $218 million, or 12%, from 1998 to 1999. The increase came from a $110 million increase from the Traditional Participating Products segment and a $108 million increase from the Financial Services Businesses.
Adjusted operating income of our Financial Services Businesses increased $108 million, or 7%, from 1998 to 1999. The increase came primarily from a $171 million improvement from Corporate and Other operations, an $86 million increase in adjusted operating income from our Asset Management division, and a $76 million increase in adjusted operating income from our International division, partially offset by a $185 million decrease from our U.S. Consumer division.
Our adjusted operating income for 1999 included $137 million from Corporate and Other operations, compared to a $34 million loss in 1998. The $171 million improvement came primarily from corporate level activities, which included a $114 million one-time benefit recognized in 1999 as a result of a reduction in recorded liabilities for our own employee benefits. The $86 million increase in adjusted operating income from our Asset Management division came primarily from a $75 million increase from our Other Asset Management segment, which includes our commercial mortgage securitization operations, hedge portfolios, and equity sales and trading operations. The $76 million increase in adjusted operating income from our International division came primarily from a $74 million increase from the International Insurance segment. The $185 million decrease in adjusted operating income from our U.S. Consumer division came from decreases of $159 million from the Property and Casualty Insurance segment, $75 million from the Retail Investments segment, and $61 million from the Individual Life Insurance segment, partially offset by a $110 million increase from the Private Client Group segment.
Adjusted operating income of the Traditional Participating Products segment increased $110 million, or 53%, from 1998 to 1999, primarily as a result of a decrease in operating expenses.
Realized Investment Gains
We generated significant realized investment gains in recent years prior to 2000, primarily as a result of our real estate sales and our strategies for our fixed maturity portfolio and hedging. We carried out a program from 1997 through 1999 to reduce our exposure to illiquid direct real estate and real estate related investments, which in the aggregate had appreciated in value, by selling a substantial portion of these investments and investing in more liquid fixed-income securities and, to a lesser extent, securities of real estate investment trusts. As a result, the book value of our real estate investments decreased by 41% to $2.0 billion at December 31, 1999 from $3.4 billion at January 1, 1997, and we generated net realized investment gains of $982 million in 1997, $1.076 billion in 1998, and $703 million in 1999. We believe that it is unlikely that the investments made and to be made to replace the real estate sold will result in a similar level of realized investment gains in the future. Real estate and real estate related investments amounted to $2.061 billion at September 30, 2001, including real estate of $380 million related to Gibraltar Life, which we acquired in April 2001.
We generated significant realized investment losses in 2000 and 1999 and realized investment gains in 1998 in our fixed maturity portfolio primarily as a result of employing an active bond management strategy. We have frequently used an active management strategy for a significant portion of our public fixed maturity investment portfolio to maximize the overall return on our investments, subject to our adjusted operating income objectives. See "Business--General Account Investments--Fixed Maturity Securities" for a description of this strategy. When applied during a period of generally declining interest rates, we expect that using this strategy will result in lower investment income partially offset by realized investment gains. Conversely, when applied during a period of generally rising interest rates, we expect that using this strategy will result in increased investment income offset by realized investment losses. The amount of our gains or losses also depends on relative value opportunities and other variables. In consideration of our adjusted operating income objectives, and other factors, we may choose, at times, to constrain our active management and, therefore, the magnitude of realized investment gains or losses.
In addition, we require most issuers of private fixed maturity securities to pay us make-whole yield maintenance payments when they prepay the securities. Prepayment levels are also driven by the interest rate environment and other factors not within our control. The prepayment of private fixed maturities we held contributed $103 million of realized investment gains in the first nine months of 2001, $62 million in the first
nine months of 2000, $74 million in the year ended December 31, 2000, $155 million in 1999, and $189 million in 1998.
Realized investment gains, net of losses, also includes impairments on fixed income and equity assets, which we recognize on an ongoing basis. The level of impairments generally reflects economic conditions, and is expected to increase when economic conditions worsen and to decrease when economic conditions improve.
We use derivative contracts to hedge the risk that changes in interest rates or foreign currency exchange rates will affect the market value of certain investments. The vast majority of these derivative contracts do not qualify for hedge accounting and, consequently, we recognize the changes in fair value of such contracts from period to period as realized investment gains or losses in our income statement, although we do not necessarily treat the underlying assets the same way. Accordingly, our hedging activities contribute significantly to fluctuations in realized investment gains and losses.
The comparisons below discuss realized investment gains net of losses and related charges. These charges relate to policyholder dividends, deferred acquisition costs, or DAC, and reserves for future policy benefits. Net realized investment gains is one of the elements that we consider in establishing the domestic dividend scale and in providing for dividends to Gibraltar Life policyholders, and the related charge for dividends to policyholders represents the estimated portion of our expense charge for policyholder dividends that is attributable to net realized investment gains that we consider in determining our dividend scale and the Gibraltar Life dividends. See "--Results of Operations for Financial Services Businesses by Division and Traditional Participating Products Segment--Traditional Participating Products Segment" below. We amortize deferred policy acquisition costs for interest sensitive products based on estimated gross profits, which include net realized investment gains on the underlying invested assets, and the related charge for amortization of deferred policy acquisition costs represents the amortization related to net realized investment gains. We adjust the reserves for some of our policies when cash flows related to these policies are affected by net realized investment gains, and the related charge for reserves for future policy benefits represents that adjustment. The changes in these related charges from one period to another may be disproportionate to the changes in realized investment gains, net of losses, because the indicated reserve adjustments relate to realized investment gains, but not losses, evaluated over several periods, and because realized investment gains and losses are reflected in the dividend scale over a number of years.
2001 to 2000 Nine-Month Comparison. For the Financial Services Businesses, realized investment gains, net of losses and related charges, increased $205 million, from a net loss of $209 million in the first nine months of 2000 to a net loss of $4 million in the first nine months of 2001. The net realized investment loss of the Financial Services Businesses for the first nine months of 2001 reflected impairments recognized of $522 million. For the Traditional Participating Products segment, realized investment gains, net of losses and related charges, declined $419 million, from a net loss of $253 million in the first nine months of 2000 to a net loss of $672 million in the first nine months of 2001. The net realized investment loss of the Traditional Participating Products segment for the first nine months of 2001 reflected impairments recognized of $438 million.
On a consolidated basis, realized investment gains, net of losses and related charges, declined $214 million, from a net loss of $462 million in the first nine months of 2000 to a net loss of $676 million in the first nine months of 2001. Realized investment gains, net of losses but excluding related charges, declined $119 million, from a net loss of $151 million in the first nine months of 2000 to a net loss of $270 million in the first nine months of 2001. Charges related to net realized investment gains and losses increased from $311 million in the first nine months of 2000 to $406 million in the first nine months of 2001. These charges did not change proportionately with the change in realized investment gains, net of losses, from the first nine months of 2000 to the first nine months of 2001 for the reasons described above.
We realized net losses of $365 million on fixed maturity investments in the first nine months of 2001, compared to net losses of $846 million in the first nine months of 2000. During the first nine months of 2001, we recognized impairments on fixed maturities totaling $757 million. These impairments were partially offset by realized gains of $392 million from sales and prepayments of fixed maturities in an environment of lower interest rates than when the securities were purchased. The net losses in the first nine months of 2000 came primarily from fixed maturity investment sales in an environment of higher interest rates than those when the securities were purchased as well as impairments we recorded on fixed maturity investments totaling $301 million. The effect of economic and market conditions, including those related to the terrorist attacks on the United States as discussed under "--Net Income" is uncertain and could result in additional impairments. We realized net losses on equity
securities of $121 million in the first nine months of 2001, compared to net gains of $382 million in the first nine months of 2000, as the first nine months of 2000 benefited from more favorable equity market conditions and we disposed of appreciated equity securities as part of a portfolio rebalancing program. We recorded net investment gains on derivatives of $157 million for the first nine months of 2001 and $256 million for the first nine months of 2000.
2000 to 1999 Annual Comparison. For the Financial Services Businesses, realized investment gains, net of losses and related charges, declined $852 million from a net gain of $444 million in 1999 to a net loss of $408 million in 2000. For the Traditional Participating Products segment, realized investment gains, net of losses and related charges, declined $382 million, from a net gain of $28 million in 1999 to a net loss of $354 million in 2000.
On a consolidated basis, realized investment gains, net of losses and related charges, declined $1.234 billion, from a net gain of $472 million in 1999 to a net loss of $762 million in 2000. Realized investment gains, net of losses but excluding related charges, declined $1.212 billion, from a net gain of $924 million in 1999 to a net loss of $288 million in 2000. Charges related to net realized investment gains and losses were essentially unchanged, amounting to $452 million in 1999 and $474 million in 2000. These charges did not change proportionately with the change in realized investment gains, net of losses, in 2000 from 1999 for the reasons described above.
We realized losses of $1.066 billion on fixed maturity investments in 2000 and $557 million in 1999. These net realized losses reflected the impact of fixed maturity investment sales in environments of higher interest rates than those when the securities were purchased. The $509 million increase in fixed maturity realized losses in 2000 from 1999 came primarily from a portfolio strategy we implemented to sell securities with lower investment income yields underlying some of our long-duration products in the Other Employee Benefits segment and in our debt-financed corporate investment portfolio, reinvesting the proceeds in higher yielding securities, and from increased impairments in 2000. We recognized impairments on fixed maturity investments of $540 million in 2000, primarily on publicly traded high yield and other corporate bonds, compared to $266 million in 1999. These impairments are consistent with our expected levels, with the increase reflecting a slowing of the economy. We realized net gains on sales of equity securities of $450 million in 2000, compared to $223 million in 1999. We realized net gains from disposals of direct real estate and real estate related joint ventures of $149 million in 2000 compared to $703 million in 1999, reflecting several major transactions that closed in 1999. We recorded net investment gains of $165 million on derivatives during 2000, compared to net gains of $305 million in 1999.
1999 to 1998 Annual Comparison. For the Financial Services Businesses, realized investment gains, net of losses and related charges, declined $275 million from a net gain of $719 million in 1998 to a net gain of $444 million in 1999. For the Traditional Participating Products segment, realized investment gains, net of losses and related charges, declined $1.433 billion from a net gain of $1.461 billion in 1998 to a net gain of $28 million in 1999.
On a consolidated basis, realized investment gains, net of losses and related charges, declined $1.708 billion from $2.180 billion in 1998 to $472 million in 1999. Realized investment gains, net of losses but excluding related charges, declined $1.717 billion from $2.641 billion in 1998 to $924 million in 1999. Realized investment gains in 1999 included a $201 million release of our mortgage loan reserve, which reflected the continuing improvement in the economic climate and a continuing significant decrease in impaired loans. We believe that similar reserve releases are unlikely in the near future.
We realized net losses of $557 million on fixed maturity investments for 1999, compared to net gains of $1.381 billion in 1998. This reflected the impact of sales of fixed maturity investments in an increasing interest rate environment during 1999, compared to a declining interest rate environment during 1998. Also contributing to the 1999 net losses realized on fixed maturity investments were impairments recognized, amounting to $266 million, compared to impairments of $96 million in 1998. Net realized investment gains on equity securities amounted to $223 million for 1999 and $427 million for 1998. The 1999 results included impairment losses of $205 million, primarily on Asian private equity investments resulting from adverse economic conditions in that region and on investments in securities of real estate investment trusts. Net realized investment gains from direct real estate and real estate- related joint ventures and limited partnerships amounted to $703 million in 1999 compared to $1.076 billion in 1998. We recorded net investment gains of $305 million on derivatives in 1999, primarily as a result of the increasing interest rate environment, compared to net losses of $263 million for 1998 resulting from a decreasing interest rate environment.
Sales Practices Remedies and Costs
As of September 30, 2001, we have provided $4.405 billion before tax, equivalent to $2.850 billion after tax, for both the cost of remedies to be provided to life insurance policyholders under the remediation process required under the principal sales practices class action settlement to which we are a party and additional sales practices costs and expenses. We believe we are fully reserved and we did not record any incremental charges since 1999. These costs include estimated administrative costs related to the remediation program and its accompanying alternative dispute resolution process, regulatory fines, penalties and related payments, litigation costs and settlements, including settlements associated with the resolution of claims of deceptive sales practices asserted by policyholders who elected to "opt-out" of the class action settlement and litigate their claims against us separately, as well as other associated fees and expenses, which we refer to in the aggregate as additional sales practices costs.
Charges associated with the cost of remedying policyholder claims and additional sales practices costs have been adjusted from year to year, beginning in 1996. No additional net charges were recorded since 1999. The charges from year to year primarily reflected the increased availability over time of more specific information about the number of policyholder claims received and remedied, the accrued interest associated with claim relief, other factors affecting both the cost of remedies and the cost to us of administering the remediation program, and the cost of resolving "opt out" litigation as described above. See Note 17 of our audited consolidated financial statements for a further description of these charges.
The charges related to our estimated costs of sales practices remedies and additional sales practices costs and the related liability balances at the dates indicated are shown below.
Nine Months
Ended
September 30, Year Ended December 31,
------------- ----------------------------------
2001 2000 2000 1999 1998 1997 1996
------ ------ ---- ------ ------ ------ ------
(in millions)
Liability balance at beginning
of period.................... $ 253 $ 891 $891 $3,058 $2,553 $ 963 $ --
Charges to expense, pre-tax:
Remedy costs................. -- -- (54) (99) 510 1,640 410
Additional sales practices
costs....................... -- -- 54 199 640 390 715
------ ------ ---- ------ ------ ------ ------
Total charges to expense..... -- -- -- 100 1,150 2,030 1,125
Amounts paid or credited:
Remedy costs................. 76 405 448 1,708 147 -- --
Additional sales practices
costs....................... 80 134 190 559 498 440 162
------ ------ ---- ------ ------ ------ ------
Total amount paid or
credited.................... 156 539 638 2,267 645 440 162
------ ------ ---- ------ ------ ------ ------
Liability balance at end of
period....................... $ 97 $ 352 $253 $ 891 $3,058 $2,553 $ 963
====== ====== ==== ====== ====== ====== ======
|
See "Business--Litigation and Regulatory Proceedings--Insurance--Life Insurance Sales Practices Issues" for a description of the life insurance sales practices litigation.
While a portion of the sales practices remedies have been in the form of policy credits or enhancements, the major portion of the total cost for sales practices remedies and additional sales practices costs have resulted in cash disbursements. The cash outflows from these disbursements have reduced our invested assets and consequently have reduced and will continue to reduce our investment income. We included the investment income from the assets used to satisfy the sales practices remedies and additional sales practices costs prior to their disbursement in our adjusted operating income for Corporate and Other operations. The $4.4 billion of cash disbursements do not include the cash flow from surrenders associated with the implementation of the sales practices remediation program, which are discussed under "--Results of Operations for Financial Services Businesses by Division and Traditional Participating Products Segment--Traditional Participating Products Segment-- Policy Surrender Experience".
Divested Businesses
Our income from continuing operations includes results from several businesses that we have divested but that under generally accepted accounting principles do not qualify for "discontinued operations" treatment in our income statement. Our results from divested businesses primarily relate to the former lead-managed equity underwriting for corporate issuers and institutional fixed income businesses of Prudential Securities and the operations of Gibraltar Casualty Company, a commercial property and casualty insurer that we sold in September
2000, as well as obligations we retained or agreed to in the transactions to sell our other divested businesses. The lead-managed equity underwriting for corporate issuers and institutional fixed income businesses of Prudential Securities recorded pre-tax losses of $122 million in the first nine months of 2001, $50 million in the first nine months of 2000, $620 million in the year ended December 31, 2000, pre-tax income of $23 million in 1999 and pre-tax losses of $73 million in 1998. The losses in the first nine months of 2001 came primarily from deterioration in the value of collateralized receivables that we are in the process of liquidating, which are related to these businesses and wind-down costs. The losses from these operations in the year ended December 31, 2000 came primarily from charges of $476 million associated with our termination and wind-down of these activities. The losses in 1998 came primarily from $64 million in proprietary fixed income trading losses from Russian bond exposure and other fixed income losses. By the end of 1998, we terminated the proprietary fixed income trading activities within these operations. Gibraltar recorded pre-tax losses of $7 million in 2000, $72 million in 1999, and $76 million in 1998. The 1999 losses are attributable to increased reserves for environmental and asbestos-related claims resulting primarily from an increase in the number of lawsuits being filed against manufacturers of asbestos-related products. The remainder of our results from divested businesses are attributable to our remaining obligations with respect to our divested residential mortgage banking business, a benefits plan administration business we sold in 1998, and a Canadian life insurance subsidiary that we sold in May 2000. These results relate primarily to our divested residential mortgage business, which incurred a pre-tax loss of $41 million in 1998 primarily as a result of an increase in reserves relating to our remaining exposures in that business.
Demutualization Costs and Expenses
We incurred expenses related to demutualization totaling $199 million in the first nine months of 2001, $113 million in the first nine months of 2000, $143 million in the year ended December 31, 2000, $75 million in 1999 and $24 million in 1998. These expenses are reported separately in our consolidated income statements within income from continuing operations before income taxes. Demutualization expenses consist primarily of the costs of engaging independent accounting, actuarial, investment banking, legal and other consultants to advise us and insurance regulators in the demutualization process and related matters as well as printing and postage for communication with policyholders. We estimate that we will incur approximately $379 million of additional demutualization costs and expenses, before related tax benefits, including the payment of $327 million of demutualization consideration to former Canadian branch policyholders.
Taxes
A provision of federal tax law applicable to mutual life insurance companies has resulted in significant fluctuations in our effective tax rate. This tax law requires adjustment to the deductible portion of policyholder dividends based on a complex multi-year formula that compares the financial accounting earnings rates of mutual life insurance companies with those of stock life insurers. The actual rate to be applied to a particular tax year is determined by the IRS up to two years after the end of the tax year. Accordingly, we must estimate the current year's rate in determining our tax provision for the current year for accounting purposes. When the actual rate is announced by the IRS, we must recognize any difference between our estimated rate and the IRS's actual rate in that year. We will no longer be subject to this tax after the demutualization. The impact of this tax law as reflected in reported results, including the current year estimate and adjustment of prior year estimates, constitutes the primary reason for the difference between our reported effective tax rates and the statutory rate of 35%. See Note 11 of the audited consolidated financial statements.
Our income tax provisions amounted to $30 million for the first nine months of 2001 and $679 million for the first nine months of 2000. The income tax provisions represented 8% of income from continuing operations before income taxes in the first nine months of 2001 and 50% of income from continuing operations before income taxes in the first nine months of 2000. The decrease in the effective rate was due primarily to a $200 million reduction of the estimated liability for the mutual life insurance company tax in the first nine months of 2001, versus a $150 million provision for this tax in the first nine months of 2000.
Our income tax provisions amounted to $406 million for 2000 and $1.042 billion for 1999. The income tax provisions represented 56% of income from continuing operations before income taxes in 2000 and 46% of income from continuing operations before income taxes in 1999. This increase in the effective rate was due primarily to the mutual life insurance company tax discussed above and an increase in demutualization expenses.
Income tax provisions increased $72 million, or 7%, in 1999 from 1998. The income tax provisions represented 46% of income from continuing operations before income taxes in 1999 and 37% of income from continuing operations before income taxes in 1998. This increase in the effective rate was due primarily to an increase in the provision for the mutual life insurance company tax discussed above.
Discontinued Operations
In December 1998, we entered into a definitive agreement to sell our healthcare operations as described under "Business--Discontinued Operations-- Healthcare". The sale was completed in August 1999. Net losses from these operations, after related income tax benefits, were $521 million in 1998, including a $223 million loss on disposal. We recognized an additional loss on disposal of these operations during 1999 amounting to $400 million after related tax benefits. Higher than anticipated operating losses prior to the closing date, resulting principally from adverse claims experience, and the impact of this experience on our evaluation of our obligations under our agreement to make payments to the purchaser of our healthcare operations if the medical loss ratio exceeds specified levels, caused the additional loss. In 2000, upon completion of the period covered by that agreement and comparing other costs we incurred related to the healthcare disposal to those estimated in 1998 and 1999, we reduced the loss on disposal by $77 million, after related income taxes. While we believe that, as of September 30, 2001, we have adequately reserved in all material respects for remaining costs and liabilities associated with our healthcare business, we might have to incur additional charges that might be material to our results of operations.
Results of Operations for Financial Services Businesses by Division and Traditional Participating Products Segment
In managing our business, we analyze our operating performance using "adjusted operating income", which is a non-GAAP measure that excludes certain items as described above under "--Consolidated Results of Operations". The following table, prepared on that basis, sets forth the revenues, adjusted operating income and income from continuing operations before income taxes for each of our four divisions and for Corporate and Other operations, including consolidating adjustments, which together comprise our Financial Services Businesses, and for our Traditional Participating Products segment, for the nine months ended September 30, 2001 and 2000 and the years ended December 31, 2000, 1999 and 1998, as well as their assets as of those dates.
As of or for the
Nine Months Ended As of or for
September 30, Year Ended December 31,
------------------ ---------------------------
2001 2000 2000 1999 1998
-------- -------- -------- -------- --------
(in millions)
Revenues(1):
Financial Services
Businesses:
U.S. Consumer............... $ 5,658 $ 6,039 $ 8,015 $ 7,530 $ 7,335
Employee Benefits........... 4,431 4,216 5,686 5,442 5,463
International............... 3,369 1,953 2,624 2,102 1,622
Asset Management............ 931 1,005 1,344 1,137 993
Corporate and Other......... 123 214 283 566 313
-------- -------- -------- -------- --------
Total Financial
Services Businesses...... 14,512 13,427 17,952 16,777 15,726
Traditional Participating
Products segment............ 6,140 6,331 8,611 8,356 8,332
-------- -------- -------- -------- --------
Total..................... $ 20,652 $ 19,758 $ 26,563 $ 25,133 $ 24,058
======== ======== ======== ======== ========
Adjusted operating income(2):
Financial Services
Businesses:
U.S. Consumer............... $ 323 $ 802 $ 740 $ 667 $ 852
Employee Benefits........... 159 311 387 400 440
International............... 398 262 322 233 157
Asset Management............ 155 236 276 252 166
Corporate and Other......... 55 77 (4) 137 (34)
-------- -------- -------- -------- --------
Total Financial Services
Businesses............... 1,090 1,688 1,721 1,689 1,581
Traditional Participating
Products segment............ 289 301 547 316 206
-------- -------- -------- -------- --------
Total..................... $ 1,379 $ 1,989 $ 2,268 $ 2,005 $ 1,787
======== ======== ======== ======== ========
Income from continuing
operations before income
taxes:
Financial Services
Businesses:
U.S. Consumer............... $ 261 $ 802 $ 744 $ 659 $ 980
Employee Benefits........... 106 187 269 485 936
International............... 405 282 307 242 166
Asset Management............ 147 238 277 253 167
Corporate and Other......... (154) (212) (1,063) 272 (1,319)
-------- -------- -------- -------- --------
Total Financial Services
Businesses............... 765 1,297 534 1,911 930
Traditional Participating
Products segment............ (383) 48 193 344 1,667
-------- -------- -------- -------- --------
Total..................... $ 382 $ 1,345 $ 727 $ 2,255 $ 2,597
======== ======== ======== ======== ========
Assets(3):
Financial Services
Businesses:
U.S. Consumer............... $ 68,636 $ 78,919 $ 73,223 $ 78,235 $ 68,546
Employee Benefits........... 73,267 74,891 75,817 73,955 79,716
International(4)............ 43,990 10,814 10,370 9,275 7,789
Asset Management............ 27,603 32,114 30,602 25,558 24,137
Corporate and Other......... 10,221 34,931 12,814 29,498 33,454
-------- -------- -------- -------- --------
Total Financial Services
Businesses............... 223,717 231,669 202,826 216,521 213,642
Traditional Participating
Products segment............ 71,994 72,533 69,927 68,573 63,098
-------- -------- -------- -------- --------
Total..................... $295,711 $304,202 $272,753 $285,094 $276,740
======== ======== ======== ======== ========
|
(4) Assets of our International division at September 30, 2001 include assets of Gibraltar Life, which we acquired in April 2001, amounting to $31.964 billion.
U.S. Consumer Division
The U.S. Consumer division generates income from premiums, as well as fee- based revenues and spread income, through the Individual Life Insurance, Retail Investments and Property and Casualty Insurance segments. Premiums and investment income are received by the Individual Life Insurance and Property and Casualty Insurance segments on insurance products and by the Retail Investments segment on some of its annuity products. Products and services that generate fee-based revenue include mutual funds, variable annuities, variable life insurance and wrap-fee products. The latter fee-based revenues consist primarily of asset management fees, account servicing fees and risk charges. The Retail Investments segment receives fees and investment income from retail investment products. Additionally, the securities brokerage operations that account for the major portion of revenues of the Private Client Group segment generate revenues from client commissions, asset management and portfolio service fees, and net interest revenues derived primarily from margin lending to customers, as well as sales credits related to transactions with retail customers associated with equity and fixed income sales and trading operations. We also earn trading revenues from our fixed income trading operations which are incidental to our retail operations. We include fee-based revenues in the line captioned "commissions and other income" or "policy charges and fee income" in our consolidated statement of operations. The Private Client Group segment also includes our consumer banking operations.
We seek to earn spread income in our general account on various products. Spread income is the difference between our return on the investments supporting the products net of expenses and the amounts we credit to our contractholders. Products that generate spread income primarily include the general account insurance products of the Individual Life Insurance segment, and fixed annuities and the fixed-rate option of variable annuities of the Retail Investments segment. We include revenues from these products, other than premiums received from policyholders, primarily in the line captioned "net investment income" in our consolidated statement of operations.
The Individual Life Insurance and Private Client Group segments pay the expenses of their own proprietary sales forces for distribution of products. Additionally, the Retail Investments segment pays the Individual Life Insurance and Private Client Group segments for distribution of its products by Prudential Agents and Financial Advisors. The Individual Life Insurance, Retail Investments and Property and Casualty Insurance segments also pay our Investment Management and Advisory Services segment for management of proprietary assets which include the general account investments that support our Individual Life Insurance, Retail Investments and Property and Casualty Insurance segments, as well as most of the assets supporting our separate account life insurance and annuity products such as variable life insurance and annuities. These fees result in expenses to the segments of the U.S. Consumer division and revenues to the Asset Management division. We reflect all of the intra-company asset management services at rates that we determine with reference to market rates.
In recent years, sales in our individual life and property and casualty insurance businesses, as measured by both number of policies and premiums, have generally declined or not grown significantly. This trend is due in part to a continuing decline in the number of Prudential Agents. We believe that the decline in Prudential Agents results from higher productivity standards and the dislocations in connection with our sales practices litigation as well as our responsive actions to this litigation. This trend in sales has had an adverse impact on premiums, primarily from new business, and adjusted operating income. We are seeking to improve performance by taking steps to refocus the Prudential Agent sales force on the mass affluent market and to continue to improve productivity. However, we cannot predict whether these steps will succeed or have the desired effects.
Prior to 2001, we experienced net redemptions in our proprietary retail investment products due in substantial part to turnover among experienced Financial Advisors and our focus on the value style of investment management in our equity mutual funds. The impact of these outflows was partially offset by higher revenues resulting from market appreciation of remaining assets, which has produced increases in assets under management. Over the last several years, we began to diversify the focus of our investment products and we have been building investment manager choice into most of our Retail Investments products. This advised choice approach allows us to offer customers investment alternatives advised by third parties in our products and asset management styles that we might not otherwise offer. Our Retail Investments wrap-fee assets increased to $19.6 billion at December 31, 2000, from $16.7 billion a year earlier and $11.5 billion at December 31, 1998. We believe these increases reflect increased marketplace emphasis on products that provide customers a broader choice of investments. At September 30, 2001, wrap-fee assets amounted to $16.1 billion, reflecting market value declines during the first nine months of 2001. We believe the continuing turnover among domestic Financial Advisors is due in part to the lack of a stock-based compensation program. In 1999 this turnover increased due in part to greater industry competition for productive Financial Advisors. We have taken actions to stabilize the Financial Advisor force, including implementing a newly designed equity-market-linked, voluntary long-term deferred compensation plan effective January 1, 2000, and expect that turnover rates will improve over time as participation in this plan increases, although there can be no assurance of this.
We have taken actions to reduce the operating cost structures and overhead levels of the businesses of the U.S. Consumer division. In the Individual Life Insurance segment, a program to restructure our field management and agency structure resulted in a reduction in the number of sales territories, establishing a smaller number of larger field offices, and eliminated approximately 1,700 management and non-agent positions. In the Private Client Group segment, we have taken actions in 2001 to reduce staffing levels, occupancy costs, and other overhead costs. We have also taken actions in the Property and Casualty Insurance segment to reduce staffing levels and overhead costs. While there can be no assurance that our anticipated cost reductions will be fully achieved, we believe that these initiatives will reduce operating expenses, excluding certain non-interest expenses in the Private Client Group, below 2000 levels by more than $300 million on an annual basis in 2002, and that reduced expenses resulting from these initiatives will benefit results thereafter. We expect that about $150 million of the reduction in operating expenses will benefit adjusted operating income of the U.S. Consumer division in 2001 as compared to 2000, including approximately $100 million that is reflected in results of the first nine months, primarily in the Individual Life Insurance segment. We believe that the remainder of the anticipated reduction in operating expenses will benefit adjusted operating income of the U.S. Consumer division in 2002 as compared to 2001. Expenses incurred to achieve these reductions were about $60 million in the first nine months of 2001 and are expected to amount to a further $110 million in the remainder of 2001 and, with respect to a minor amount, early 2002.
Most of our variable life insurance, variable annuity and wrap-fee products include investment alternatives that are managed by third parties. The Individual Life Insurance and Retail Investments segments pay investment management fees to the third-party managers for the funds invested through these non-proprietary options. We also sponsor a limited number of mutual funds that have third-party advisors. Because of these arrangements, our assets under management and administration that are invested through non- proprietary options and our proprietary funds that are managed by third parties may offer lower profitability than the assets we manage directly.
Division Results
The following table and discussion present the U.S. Consumer division's results based on our definition of adjusted operating income, which is a non- GAAP measure, as well as income from continuing operations before income taxes, which is prepared in accordance with GAAP. As shown below, adjusted operating income excludes realized investment gains, net of losses and related charges. The excluded items are important to an understanding of our overall results of operations. You should not view adjusted operating income as a substitute for income from continuing operations determined in accordance with GAAP, and you should note that our definition of adjusted operating income may differ from that used by other companies. However, we believe that the presentation of adjusted operating income as we measure it for management purposes enhances the understanding of our results of operations by highlighting the results from ongoing operations and the underlying profitability factors of our businesses. We exclude realized investment gains, net of losses and related charges, from adjusted operating income because the timing of transactions resulting in recognition of gains or losses is largely at our discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of our businesses.
Nine Months
Ended Year Ended December
September 30, 31,
-------------- ----------------------
2001 2000 2000 1999 1998
------ ------ ------ ------ ------
(in millions)
Division operating results:
Revenues(1)........................... $5,658 $6,039 $8,015 $7,530 $7,335
Benefits and expenses(2).............. 5,335 5,237 7,275 6,863 6,483
------ ------ ------ ------ ------
Adjusted operating income............. $ 323 $ 802 $ 740 $ 667 $ 852
====== ====== ====== ====== ======
Adjusted operating income by segment:
Individual Life Insurance............. $ 242 $ 145 $ 114 $ 117 $ 178
Private Client Group.................. (160) 278 237 224 114
Retail Investments.................... 143 214 239 174 249
Property and Casualty Insurance....... 98 165 150 152 311
------ ------ ------ ------ ------
Total............................... 323 802 740 667 852
Items excluded from adjusted operating
income:
Realized investment gains, net of
losses and related charges:
Realized investment gains (losses),
net.................................. (61) (4) 2 (9) 131
Related charges(3).................... (1) 4 2 1 (3)
------ ------ ------ ------ ------
Total realized investment gains, net
of losses and related charges...... (62) -- 4 (8) 128
------ ------ ------ ------ ------
Income from continuing operations
before income taxes................... $ 261 $ 802 $ 744 $ 659 $ 980
====== ====== ====== ====== ======
--------
(1) Revenues exclude realized investment gains, net of losses.
(2) Benefits and expenses exclude the impact of net realized investment gains
on deferred acquisition cost amortization and reserves.
(3) Related charges consist of the following:
Nine Months
Ended
September Year Ended December
30, 31,
-------------- ----------------------
2001 2000 2000 1999 1998
------ ------ ------ ------ ------
(in millions)
Reserves for future policy benefits.... $ (1) $ -- $ (4) $ -- $ --
Amortization of deferred policy
acquisition costs..................... -- 4 6 1 (3)
------ ------ ------ ------ ------
Total................................. $ (1) $ 4 $ 2 $ 1 $ (3)
====== ====== ====== ====== ======
|
2001 to 2000 Nine-Month Comparison. Adjusted operating income of our U.S. Consumer Division decreased $479 million, or 60%, in the first nine months of 2001 from the first nine months of 2000. The decline resulted primarily from a decrease in adjusted operating income in our Private Client Group segment. Income from continuing operations before income taxes decreased $541 million, or 67%, primarily as a result of the decrease in adjusted operating income.
2000 to 1999 Annual Comparison. Adjusted operating income of our U.S. Consumer division increased $73 million, or 11%, in 2000 from 1999. The increase came primarily from an increase in adjusted operating income from our Retail Investments segment. Income from continuing operations before income taxes increased $85 million, or 13%, primarily as a result of the increase in adjusted operating income.
1999 to 1998 Annual Comparison. Adjusted operating income of our U.S. Consumer division decreased $185 million, or 22%, in 1999 from 1998. The decline resulted primarily from decreases in adjusted operating income in our Property and Casualty Insurance, Retail Investments and Individual Life Insurance segments, partially offset by increased adjusted operating income from our Private Client Group segment. Income from continuing operations before income taxes decreased $321 million, or 33%, from 1998 to 1999. This decline resulted from the $185 million decrease in adjusted operating income and a $136 million decrease in realized investment gains, net of losses and related charges. For a discussion of realized investment gains and losses and charges related to realized investment gains and losses, see "--Consolidated Results of Operations--Realized Investment Gains".
Individual Life Insurance
Operating Results
The following table sets forth the Individual Life Insurance segment's operating results for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
------------- -----------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Operating results:
Revenues(1)............................. $1,394 $1,362 $ 1,855 $ 1,723 $ 1,674
Benefits and expenses................... 1,152 1,217 1,741 1,606 1,496
------ ------ ------- ------- -------
Adjusted operating income............... $ 242 $ 145 $ 114 $ 117 $ 178
====== ====== ======= ======= =======
|
Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. Adjusted operating income increased $97 million, or 67%, in the first nine months of 2001 from the first nine months of 2000. The increase came primarily from a $148 million decrease in operating expenses. The decrease in operating expenses came primarily from savings that we have begun to realize from our field management and agency restructuring program as described above and lower program implementation costs. We incurred implementation costs for this program of $12 million in the first nine months of 2001 and $59 million in the first nine months of 2000, and we expect to incur additional costs of approximately $90 million for related and additional initiatives during the balance of 2001. Amortization of deferred policy acquisition costs increased $43 million, and we recorded net losses of $32 million from insurance claims arising from the September 11, 2001 terrorist attacks on the United States.
2000 to 1999 Annual Comparison. Adjusted operating income was essentially unchanged in 2000 from 1999. Growth in our base of term products in force resulted in an increase in premium revenues, and investment income increased due to the larger base of general account assets and an increased investment yield. However, these increases were essentially offset by a one-time increase in reserves related to a portion of our variable life insurance business in force.
1999 to 1998 Annual Comparison. Adjusted operating income for 1999 decreased $61 million, or 34%, primarily from a $104 million increase in operating expenses. The increase in operating expenses resulted primarily from costs of a field management and agency restructuring program described below.
Revenues
2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", were relatively unchanged in the first nine months of 2001 from the first nine months of 2000.
Premiums increased $54 million, or 27%, from $200 million in the first nine months of 2000 to $254 million in the first nine months of 2001, due to increased premiums on term insurance we issued, under policy provisions, to customers who previously had lapsing variable life insurance with us.
Policy charges and fees amounted to $755 million in the first nine months of 2001, essentially unchanged from the first nine months of 2000.
Net investment income was $291 million in the first nine months of 2001, essentially unchanged from the first nine months of 2000.
2000 to 1999 Annual Comparison. Revenues increased $132 million, or 8%, in 2000 from 1999. The increase came primarily from a $58 million increase in net investment income and a $36 million increase in premiums.
Premiums increased $36 million, or 13%, from $269 million in 1999 to $305 million in 2000. The increase came primarily from an increase in renewal premiums for our term products, reflecting the increased base of business in force.
Policy charges and fees amounted to $1.023 billion for 2000, relatively unchanged from $1.030 billion in 1999.
Net investment income increased $58 million, or 18%, from $316 million in 1999 to $374 million in 2000. The increase resulted from an increase in the base of general account invested assets and a slight increase in investment yield.
1999 to 1998 Annual Comparison. Revenues were relatively unchanged from 1998 to 1999. Premiums increased $41 million, or 18%, from $228 million in 1998 to $269 million in 1999. The increase was primarily due to an increase in premiums for our term products.
Policy charges and fee income decreased $26 million, or 2%, from $1.056 billion in 1998 to $1.030 billion in 1999, reflecting the impact of policy rescissions arising from the implementation of the alternative dispute resolution process required under our principal sales practices class action settlement.
Net investment income increased $16 million, or 5%, from $300 million in 1998 to $316 million in 1999. The increase resulted from an increase in the base of general account invested assets, as investment yields were relatively unchanged.
Benefits and Expenses
2001 to 2000 Nine-Month Comparison. Benefits and expenses, as shown in the table above under "--Operating Results", decreased $65 million, or 5%, in the first nine months of 2001 from the first nine months of 2000. A decrease of $148 million in operating expenses, including distribution costs that we charge to expense, was partially offset by a $43 million increase in amortization of deferred policy acquisition costs and a $37 million increase in policyholder benefits and related changes in reserves.
Operating expenses decreased $148 million, from $524 million in the first nine months of 2000 to $376 million in the first nine months of 2001, primarily as a result of savings we began to realize from our program to restructure our field management and agency structure as described above and lower program implementation costs. We incurred implementation costs for this program of $12 million in the first nine months of 2001 and $59 million in the first nine months of 2000, and we expect to incur additional costs of approximately $90 million for related and additional initiatives during the remainder of 2001. While there can be no assurance, based on our evaluation of results through the first nine months of 2001 we believe that these initiatives will reduce operating expenses below 2000 levels by approximately $120 million on an annual basis in 2002, and that reduced expenses resulting from these initiatives will benefit results thereafter. In addition, we expect these initiatives to eliminate approximately $50 million of costs that would have been capitalized.
Amortization of deferred policy acquisition costs increased $43 million, from $134 million in the first nine months of 2000 to $177 million in the first nine months of 2001, primarily due to declines in market values of the underlying assets on which our fees are based.
Policyholder benefits and related changes in reserves increased $37 million, from $452 million in the first nine months of 2000 to $489 million in the first nine months of 2001, primarily as a result of insurance claims arising from the September 11, 2001 terrorist attacks on the United States and term insurance we issued under policy provisions to customers who previously had lapsing variable life insurance with us.
2000 to 1999 Annual Comparison. Benefits and expenses increased $135 million, or 8%, in 2000 from 1999. The increase came primarily from an increase in policyholder benefits and related changes in reserves of $131 million, from $519 million in 1999 to $650 million in 2000, as a result of growth in the base of term insurance in force and aging of policies in force as well as the reserve increase related to a portion of our variable
life insurance business as noted above amounting to $23 million. Operating expenses, including distribution costs that we charge to expense, were essentially unchanged in 2000 from 1999.
Operating expenses included severance, termination benefits, facilities closure and other costs that we incurred largely in connection with the implementation of the program to restructure our field management and agency structure described above. The expenses related to this program amounted to $107 million in 2000 and $116 million in 1999.
1999 to 1998 Annual Comparison. Benefits and expenses increased $110 million, or 7%, in 1999 from 1998. Operating expenses increased $104 million, or 16%, from $660 million in 1998 to $764 million in 1999, primarily as a result of charges reflected in 1999 operating expenses in connection with the implementation of the program described above. The cost of implementing this program was $21 million in 1998 and $116 million in 1999.
Sales Results
The following table sets forth the Individual Life Insurance segment's sales, as measured by statutory first year premiums and deposits for the periods indicated. These amounts do not correspond to revenues under GAAP. In managing our individual life insurance business, we analyze statutory first year premiums and deposits as well as revenues because statutory first year premiums and deposits measure the current sales performance of the business unit, while revenues reflect, predominantly in our case, the renewal persistency and aging of in force policies written in prior years and net investment income, as well as current sales.
Nine
Months
Ended
September
30, Year Ended December 31,
--------- -----------------------
2001 2000 2000 1999 1998
---- ---- ------- ------- -------
(in millions)
Sales(1):
Variable life(2)............................. $356 $221 $328 $ 301 $ 313
Term life.................................... 32 42 59 74 88
---- ---- ------- ------- -------
Total...................................... $388 $263 $387 $ 375 $ 401
==== ==== ======= ======= =======
Sales by distribution channel(1):
Prudential Agents............................ $167 $191 $ 259 $ 287 $ 327
Third-party and other distributors........... 221 72 128 88 74
---- ---- ------- ------- -------
Total...................................... $388 $263 $ 387 $ 375 $ 401
==== ==== ======= ======= =======
|
(2) Includes universal life insurance products.
2001 to 2000 Nine-Month Comparison. Sales of new life insurance, as measured by statutory first year premiums, increased $125 million, or 48%, in the first nine months of 2001 from the first nine months of 2000. The increase came from a $169 million increase in the segment's sales of corporate-owned life insurance products, substantially all of which is sold by the PruSelect third- party distribution channel. Inclusive of these corporate-owned life insurance sales, which totaled $182 million for the first nine months of 2001 including a single $100 million sale, PruSelect accounted for 57% of the Individual Life Insurance segment's sales in the first nine months of 2001, compared to 27% in the first nine months of 2000. Sales by the PruSelect channel, other than corporate-owned life insurance, decreased $20 million, or 34%, in the first nine months of 2001 from the first nine months of 2000. We have begun to offer new products intended to expand the focus of PruSelect, which has historically served intermediaries who provide insurance solutions in support of estate and wealth transfer planning for affluent individuals and corporate-owned life insurance for businesses, toward the mass affluent market. We believe the first nine months 2001 sales results for the PruSelect channel for products other than corporate-owned life insurance reflects both a reduced level of market demand for individual variable life insurance products during the first nine months of 2001 and our transition to the new focus.
The increase in sales through PruSelect was partially offset by a decline in sales from Prudential Agents. The number of Prudential Agents declined to approximately 4,900 at September 30, 2001, from 6,100 at December 31, 2000 and 7,400 at September 30, 2000, as we continued to take actions to increase the productivity standards required to continue agency contracts. We expect that the consideration of these standards in
connection with agent contract renewals will further reduce the number of Prudential Agents by the end of 2001. Prudential Agent annualized productivity decreased to $29,480 in the first nine months of 2001 from $30,320 in the first nine months of 2000, primarily due to lower sales of products other than life insurance. We measure Prudential Agent productivity as commissions on new sales of all products, not only life insurance, by Prudential Agents with us for the entire period, divided by the number of those Prudential Agents.
2000 to 1999 Annual Comparison. Sales of new life insurance, as measured by statutory first year premiums, increased $12 million, or 3%, in 2000 from 1999. The increase came from greater unscheduled premiums on variable life insurance products in 2000 and reflected a higher level of third-party sales through our PruSelect third-party distribution channel, which grew by $40 million, or 45%, in 2000 from 1999. PruSelect accounted for 33% of the Individual Life Insurance segment's sales in 2000, compared to 23% of its sales in 1999. The increase in sales through PruSelect was partially offset by a decline in sales from Prudential Agents. We continued to take actions to improve Prudential Agent productivity. The number of Prudential Agents declined to approximately 6,100 at December 31, 2000 compared to approximately 7,800 one year earlier. However, Prudential Agent productivity increased 11%, from $31,300 for 1999 to $34,700 in 2000.
1999 to 1998 Annual Comparison. Sales of new life insurance decreased $26 million, or 6%, in 1999 from 1998. As part of the program to restructure our field management and agency structure as described above, we restructured our retail distribution channel during the first half of 1999, which adversely affected new sales by Prudential Agents. In addition, we continued to take actions intended to improve Prudential Agent productivity, including increasing the minimum production level required for continuation of agents' employment contracts. Reflecting these actions and continued attrition generally among Prudential Agents, particularly those with lower levels of sales production, the number of Prudential Agents continued to decline in 1999, from approximately 8,900 at December 31, 1998 to approximately 7,800 at December 31, 1999. However, while the number of Prudential Agents continued to decline, Prudential Agent productivity, measured as described above, increased 12%, from $28,000 in 1998 to $31,300 in 1999. Partially offsetting the decline in sales from Prudential Agents was a higher level of third-party sales through our PruSelect alternative sales channels, which grew by $14 million, or 19%, from 1998 to 1999. PruSelect accounted for 23% of Individual Life's sales in 1999, compared to 18% in 1998.
Policy Surrender Experience
The following table sets forth the Individual Life Insurance segment's policy surrender experience for variable life insurance, measured by cash value of surrenders, for the periods indicated. These amounts do not correspond to expenses under GAAP. In managing this business, we analyze the cash value of surrenders because it is a measure of the degree to which policyholders are maintaining their in force business with us, a driver of future profitability. Our term life insurance products do not provide for cash surrender values.
Nine Months
Ended
September 30, Year Ended December 31,
-------------- -------------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Cash value of surrenders............ $461 $497 $ 641 $ 597 $ 554
====== ====== ======= ======= =======
Cash value of surrenders as a
percentage of mean future policy
benefit reserves, policyholders'
account balances, and separate
account balances................... 3.7% 3.8% 3.7% 3.7% 3.8%
====== ====== ======= ======= =======
|
2001 to 2000 Nine-Month Comparison. The total cash value of surrenders decreased $36 million, or 7%, in the first nine months of 2001 from the first nine months of 2000. The level of surrenders as a percentage of mean future policy benefit reserves and policyholders' account balances decreased slightly, reflecting the lower volume in the current year.
2000 to 1999 Annual Comparison. The total cash value of surrenders increased $44 million, or 7%, in 2000 from 1999. The level of surrenders as a percentage of mean future policy benefits, policyholders' account balances and separate account balances remained constant from 1999 to 2000.
1999 to 1998 Annual Comparison. The total cash value of surrenders increased $43 million, or 8%, in 1999 from 1998. The levels of surrenders as a percentage of mean future policy benefit reserves, policyholders' account balances and separate account balances remained relatively constant from 1998 to 1999.
Private Client Group
Operating Results
The following table sets forth the Private Client Group segment's operating results for the periods indicated.
Nine Months
Ended Year Ended December
September 30, 31,
-------------- --------------------
2001 2000 2000 1999 1998
------ ------ ------ ------ ------
(in millions)
Operating results:
Non-interest revenues..................... $1,441 $1,863 $2,390 $2,240 $2,062
Net interest revenues..................... 189 232 299 269 255
------ ------ ------ ------ ------
Total revenues, net of interest
expense................................ 1,630 2,095 2,689 2,509 2,317
Total non-interest expenses............... 1,790 1,817 2,452 2,285 2,203
------ ------ ------ ------ ------
Adjusted operating income................. $ (160) $ 278 $ 237 $ 224 $ 114
====== ====== ====== ====== ======
|
Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. The Private Client Group segment reported a pre-tax loss of $160 million, on an adjusted operating income basis, for the first nine months of 2001 compared to adjusted operating income of $278 million for the first nine months of 2000. The $438 million decline came primarily from a $389 million decrease from our domestic securities brokerage operations, which reported a loss of $164 million for the first nine months of 2001 compared to adjusted operating income of $225 million in the first nine months of 2000. These operations were adversely affected in the first nine months of 2001 by a decline in individual investor transaction volume and margin loan balances, which resulted in decreased commission and net interest revenues. These revenue declines were coupled with increased costs of recruiting and retaining Financial Advisors, including increased expenses relating to recruiting and retention incentives extended to some recently recruited experienced Financial Advisors. The remaining $49 million decrease in the segment's adjusted operating income came from our consumer banking operations, which benefited in the first nine months of 2000 from the sale of a major portion of the consumer bank's credit card receivables. The Private Client Group segment had a loss of $56 million, on an adjusted operating income basis, for the third quarter of 2001.
2000 to 1999 Annual Comparison. Adjusted operating income increased $13 million, or 6%, from 1999 to 2000. Adjusted operating income from our consumer banking operations increased $27 million, primarily as a result of the sale of a major portion of the consumer bank's credit card receivables in 2000. Adjusted operating income from our domestic securities brokerage operations decreased $14 million, from $204 million in 1999 to $190 million in 2000.
1999 to 1998 Annual Comparison. Adjusted operating income increased $110 million, or 96%, from 1998 to 1999. Adjusted operating income from our domestic securities brokerage operations increased $64 million, from $140 million in 1998 to $204 million in 1999. The increase came primarily from higher commission revenues, reflecting increased transaction volume, greater asset management and service fees on wrap assets under management and higher net interest income reflecting higher margin lending balances as the business benefited from the active over-the-counter equity markets. The remaining $46 million of the increase in adjusted operating income came from our consumer banking operations, which had a loss of $26 million in 1998 and adjusted operating income of $20 million in 1999. The 1998 loss resulted from reserve increases relating to a loss-sharing agreement entered into in connection with the 1997 sale of the bank's broad market credit card portfolio. In 1999, the loss sharing agreement expired, at which time we released remaining reserves of $18 million.
Revenues
The following table sets forth the Private Client Group segment's revenues, as shown in the table above under "--Operating Results", by source for the periods indicated.
Nine Months Year Ended
Ended September 30, December 31,
------------------- --------------------
2001 2000 2000 1999 1998
--------- --------- ------ ------ ------
(in millions)
Commissions........................... $ 1,014 $ 1,404 $1,789 $1,751 $1,659
Fees.................................. 330 340 464 327 256
Other................................. 97 119 137 162 147
--------- --------- ------ ------ ------
Total non-interest revenues.......... 1,441 1,863 2,390 2,240 2,062
Net interest revenues................. 189 232 299 269 255
--------- --------- ------ ------ ------
Total revenues, net of interest
expense............................. $ 1,630 $2,095 $2,689 $2,509 $2,317
========= ========= ====== ====== ======
|
2001 to 2000 Nine-Month Comparison. Total revenues, net of interest expense, as shown in the table above under "--Operating Results", decreased $465 million, or 22%, from the first nine months of 2000 to the first nine months of 2001. The decrease came primarily from a $412 million decline in revenues from our domestic securities brokerage operations, from $2.012 billion in the first nine months of 2000 to $1.600 billion in the first nine months of 2001.
Commission revenues decreased $390 million, or 28%, from the first nine months of 2000 to the first nine months of 2001. The decrease came primarily from a $313 million decline in commissions from over-the-counter equity and listed securities transactions. Commission revenues were negatively affected in the first nine months of 2001 by less active securities markets and reduced retail transaction volume, and benefited in the first nine months of 2000 from exceptionally active over-the-counter equity markets and related retail transaction volume in the first four months of the year. Commission revenues accounted for 70% of total segment non-interest revenues for the first nine months of 2001. Accordingly, we expect that a continuation of the level of securities market activity experienced in the first nine months of 2001, or a further downtrend in this activity, would continue to have a negative impact on our revenues and on the segment's adjusted operating income, partially offset by planned expense reductions.
Fee revenues, comprised of asset management and portfolio service fees, decreased slightly from the first nine months of 2000 to the first nine months of 2001, as the negative impact of market value declines on wrap-fee assets under management essentially offset the impact of new assets gathered in wrap- fee accounts.
Other revenues decreased $22 million, or 18%, from the first nine months of 2000 to the first nine months of 2001, primarily due to the sale of a major portion of the consumer bank's credit card receivables in the first nine months of 2000.
Net interest revenues decreased $43 million, or 19%, from the first nine months of 2000 to the first nine months of 2001, primarily as a result of a decrease in average customer margin lending balances of our domestic securities brokerage operations, related to the reduced level of individual investor activity. Average customer margin lending balances were $4.59 billion in the first nine months of 2001 compared to $6.64 billion in the first nine months of 2000. Increased investment income on greater attributed capital partially offset the impact of lower average customer margin lending balances.
The number of domestic retail Financial Advisors was 5,569 at September 30, 2001, a decrease of 6% from 5,906 at December 31, 2000. In response to recruiting efforts by our competitors, we introduced an aggressive recruiting effort targeting experienced Financial Advisors, including recruiting and retention incentives, and, as discussed above, an equity-market-linked voluntary long-term deferred compensation plan to seek to enhance our Financial Advisor recruitment and retention efforts.
Assets under management and client assets decreased $34 billion to $238 billion at September 30, 2001 from $272 billion at December 31, 2000, primarily as a result of overall market value declines.
2000 to 1999 Annual Comparison. Total revenues, net of interest expense, increased $180 million, or 7%, from 1999 to 2000. The increase came primarily from our domestic securities brokerage operations, which recorded an increase of $177 million, or 7%, from $2.420 billion in 1999 to $2.597 billion in 2000.
Commission revenues increased slightly in 2000 from 1999, as increases of $54 million from mutual funds and $13 million from equity securities transactions were partially offset by a decline in commissions from fixed income products and commodity transactions. While commission revenues from our securities brokerage operations benefited from active over-the-counter equity markets and increased transaction volume during the first four months of the year, commission revenues declined slightly during the May through December period of 2000 versus the same period of 1999, reflecting less active securities markets and reduced transaction volume.
Fee revenues, comprised of asset management and portfolio service fees, increased $137 million, or 42%, from 1999 to 2000. This increase resulted primarily from a $4.7 billion increase in wrap-fee assets under management to $26.4 billion at December 31, 2000 from $21.7 billion a year earlier.
Net interest revenues increased $30 million, or 11%, from 1999 to 2000. Substantially all of the increase came from our domestic securities brokerage operations, primarily from higher average customer margin lending balances, which increased from $5.06 billion in 1999 to $6.54 billion in 2000. Partially offsetting the increase in average customer margin lending balances was a decrease in the spread earned on these balances, reflecting competitive pressures on the rates charged to clients who buy securities on margin.
The number of domestic Financial Advisors was 5,906 at December 31, 2000, a decrease of 3% from 6,072 a year earlier.
Assets under management and client assets decreased $16 billion to $272 billion at December 31, 2000 from $288 billion a year earlier, primarily as a result of overall market value declines.
1999 to 1998 Annual Comparison. Total revenues, net of interest expense, increased $192 million, or 8%, from 1998 to 1999. Substantially all of the increase came from our domestic securities brokerage operations.
Commission revenues increased $92 million, or 6%, from 1998 to 1999. The increase came from commissions from equity securities transactions, which increased by $99 million, reflecting favorable over-the-counter equity markets and increased transaction volume.
Fee revenues, comprised of asset management and portfolio service fees, increased $71 million, or 28%, in 1999 from 1998. This increase resulted primarily from an increase in wrap-fee assets under management to $21.7 billion at December 31, 1999 from $13.5 billion a year earlier, as well as higher account service fees.
Net interest revenues increased $14 million, or 5%, from 1998 to 1999. The increase was primarily a consequence of an increase in average customer margin lending balances at the domestic securities brokerage operations from $4.07 billion in 1998 to $5.06 billion in 1999. Partially offsetting the increase in average customer margin lending balances was a decrease in the spread earned on customer margin lending balances, reflecting competitive pressures related to the rate charged to clients who buy securities on margin. Net interest revenues from the consumer banking operations decreased $15 million, primarily from lower credit card finance charge income in 1999 compared to 1998.
Assets under management and client assets increased $35 billion, to $288 billion at December 31, 1999 from $253 billion a year earlier.
Non-Interest Expenses
2001 to 2000 Nine-Month Comparison. Total non-interest expenses, as shown in the table above under "--Operating Results", were essentially unchanged from the first nine months of 2000 to the first nine months of 2001. Employee compensation and benefits at our domestic securities brokerage operation decreased due to the lower level of revenues and earnings in the first nine months of 2001, but the decrease was not proportional to the revenue decline largely due to the recruiting and retention incentives as described above as well as $20 million in employee termination costs associated with staff reductions in the first nine months of 2001. These incentives will continue to be applicable and to adversely affect expense levels in future periods. The decrease in employee compensation and benefits was further offset by $24 million of costs we incurred to consolidate and close several retail branch locations during the first nine months of 2001.
2000 to 1999 Annual Comparison. Total non-interest expenses increased $167 million, or 7%, from 1999 to 2000. The increase came primarily from employee compensation and benefits at our retail securities brokerage operations, which increased by $108 million, or 8%, due to higher commissions paid to Financial Advisors on higher fee and commission revenues, and higher incentive and other compensation, as well as higher costs to recruit and retain Financial Advisors. Additionally, other non-interest expenses at the domestic securities
brokerage operations increased $83 million, or 10%, primarily as a result of higher operations and administrative support costs, higher equity research costs, and increased investment in our branch office technology platform.
1999 to 1998 Annual Comparison. Total non-interest expenses increased $82 million, or 4%, from 1998 to 1999. The increase came primarily from employee compensation and benefits at our retail securities brokerage operations, which increased by $96 million, or 8%, due to higher commissions paid to Financial Advisors on higher fee and commission revenues and higher incentive and other compensation resulting from improved overall profitability of the operations. Additionally, other non-interest expenses at the domestic securities brokerage operations increased $32 million, or 4%, primarily as a result of increased investment in our branch office technology platform. These increases were partially offset by a decrease in non-interest expenses at the consumer banking operations of $46 million as costs for servicing and maintaining the credit card portfolio sold in 1998 were not recurring in 1999.
Retail Investments
Operating Results
The following table sets forth the Retail Investments segment's operating results for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
------------- -----------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Operating results:
Revenues(1)............................. $1,115 $1,229 $ 1,631 $ 1,551 $ 1,532
Benefits and expenses(2)................ 972 1,015 1,392 1,377 1,283
------ ------ ------- ------- -------
Adjusted operating income............... $ 143 $ 214 $ 239 $ 174 $ 249
====== ====== ======= ======= =======
|
Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. Adjusted operating income decreased $71 million, or 33%, from the first nine months of 2000 to the first nine months of 2001. Adjusted operating income for the first nine months of 2000 benefited $21 million from refinements in our calculations of deferred policy acquisition costs. Excluding this change, adjusted operating income decreased $50 million, or 26%. Approximately $30 million of the $50 million decrease came from our annuity business, primarily due to lower fee revenues. The remainder of the decrease came primarily from our mutual funds and wrap-fee products business, primarily due to lower asset-based distribution revenues as well as a lower level of fee-producing redemptions.
2000 to 1999 Annual Comparison. Adjusted operating income increased by $65 million, or 37%, from 1999 to 2000. Adjusted operating income for 2000 benefited $21 million from refinements in our calculations of deferred policy acquisition costs. Excluding this change, adjusted operating income increased $44 million, or 25%. Approximately $26 million of the $44 million increase came from our annuity business. This increase was primarily due to greater fee revenues from variable annuities, and resulted from an increase in average account values. A decrease in administrative expenses, primarily the result of expense management efforts, also contributed to the increase in adjusted operating income.
The remainder of the increase in adjusted operating income came from our mutual funds and wrap-fee products business. Asset-based and transaction-based fees increased as a result of continued growth in our proprietary mutual fund assets under management and expansion of our wrap-fee products.
1999 to 1998 Annual Comparison. Adjusted operating income declined by $75 million, or 30%, in 1999 from 1998. Adjusted operating income in 1998 benefited $9 million from a change in reserves arising from refinements in our calculations of GAAP annuity reserves. Excluding this change, adjusted operating income declined by $66 million, or 28%, from $240 million in 1998 to $174 million in 1999.
The $66 million decline in adjusted operating income came from a decline of that amount in adjusted operating income from our annuity business, primarily due to increased amortization of deferred policy acquisition costs, as well as other costs associated with an annuity exchange program we initiated in 1997 to
help retain annuity business and increased renewal commissions related to assets retained under this program. Reduced spread income from our fixed annuities and the fixed rate option of our variable annuities, resulting from net asset outflows, also contributed to this decline in adjusted operating income. Greater fee revenues from variable annuities, resulting from an increase in average account values, less the impact of related amortization of previously deferred selling costs, partially offset this decline.
Adjusted operating income from our mutual funds and wrap-fee products business was unchanged.
Revenues
2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", decreased $114 million, or 9%, from the first nine months of 2000 to the first nine months of 2001. Fee-based revenue decreased $69 million, from $785 million in the first nine months of 2000 to $716 million in the first nine months of 2001. The decrease came primarily from our mutual funds and wrap-fee products, reflecting lower asset-based distribution revenues as well as a lower level of fee-producing redemptions, and from our variable annuity products, reflecting a decline in the average market value of customer accounts on which our fees are based. The remainder of the decrease came primarily from lower investment income in the first nine months of 2001 and a reduction in premiums we recognized on conversion of deferred annuities by customers to income-paying status.
2000 to 1999 Annual Comparison. Revenues increased $80 million, or 5%, from 1999 to 2000. Fee-based revenues increased $74 million, from $1.007 billion in 1999 to $1.081 billion in 2000. The increase came primarily from our mutual funds and wrap-fee products, as well as our variable annuity products, reflecting growth in our average assets under management for these products. In addition, premiums increased by $19 million as a result of increased conversions of deferred annuities by our customers to income-paying status. Net investment income declined $13 million, from $491 million in 1999 to $478 million in 2000, as a result of reductions in our base of fixed annuity business due to withdrawals and scheduled benefit payments.
1999 to 1998 Annual Comparison. Revenues remained relatively unchanged from 1998 to 1999. Fee-based revenues increased $101 million, from $906 million in 1998 to $1.007 billion in 1999. The increase came primarily from asset management and service fees for our mutual funds and wrap-fee products, and our variable annuity products, reflecting market appreciation in our assets under management. Net investment income declined $76 million, from $567 million in 1998 to $491 million in 1999, primarily as a result of reductions in our base of fixed annuity business due to withdrawals and scheduled benefit payments as well as a decline in investment yield.
Benefits and Expenses
2001 to 2000 Nine-Month Comparison. Benefits and expenses, as shown in the table above under "--Operating Results", decreased $43 million, or 4%, from the first nine months of 2000 to the first nine months of 2001. Benefits and expenses for the first nine months of 2000 includes a $21 million reduction in amortization of deferred policy acquisition costs from the refinements noted above. Excluding the impact of this change, benefits and expenses decreased $64 million, or 6%. Commissions and other general expenses decreased $48 million, or 8%, from $570 million in the first nine months of 2000 to $522 million in the first nine months of 2001, primarily due to a decrease in general and administrative expenses reflecting our expense management efforts and lower sales of mutual funds for which we charge distribution costs to expense immediately. Policyholder benefits and related changes in reserves decreased $32 million, from $109 million in the first nine months of 2000 to $77 million in the first nine months of 2001, primarily as a result of the reduction in premiums noted above. During the first nine months of 2001, we recorded $12 million of additional amortization of deferred acquisition costs, primarily to reflect a decrease in expected future gross profits on our annuity products due to declines in market values of the underlying assets on which our fees are based.
2000 to 1999 Annual Comparison. Benefits and expenses remained relatively unchanged from 1999 to 2000. Benefits and expenses for 2000 includes a $21 million reduction in amortization of deferred policy acquisition costs from the refinements noted above. Excluding the impact of this change, benefits and expenses increased $36 million, or 3%. Changes in reserves, net of benefit payments, increased $34 million, from $118 million in 1999 to $152 million in 2000, as a result of customers converting deferred annuities to income-paying status and a $12 million charge to increase annuity reserves due to investment portfolio restructuring to reduce the emphasis on equity investments. During 2000, we recorded $20 million of additional amortization of deferred policy acquisition costs, to reflect a decrease in expected future gross profits on our annuity products primarily
due to declines in market values of the underlying assets on which our fees are based. However, this increased charge was essentially offset by reduced amortization resulting from our termination, in the second quarter of 2000, of the annuity exchange program we commenced in 1997. Other general expenses were flat in 2000 from 1999, as a decrease in administrative expenses reflecting our expense management efforts was largely offset by a $30 million increase in sub-advisory expense resulting from growth in assets under management of our mutual funds and wrap-fee products and our variable annuity products.
1999 to 1998 Annual Comparison. Benefits and expenses increased $94 million, or 7%, from 1998 to 1999. The increase includes a $9 million benefit in 1998 from refinements in our annuity reserve calculations, as noted above. Excluding the impact of this change, the increase in benefits and expenses was $85 million, or 7%. Commissions and other expenses increased $124 million, or 14%, from $864 million in 1998 to $988 million in 1999. The increase came primarily from costs for development of third-party distribution, increased mutual fund service and sub-advisory fees associated with the growth of assets under management, a $50 million increase in amortization of deferred policy acquisition costs reflecting lapse activity and exchange redemptions, and increased commissions associated with a change in mutual fund commission structure as well as the annuity exchange program discussed above. Interest credited to policyholders' account balances declined $23 million, or 8%, from $294 million in 1998 to $271 million in 1999, as a result of the reductions in our base of fixed rate annuity business.
Sales Results and Assets Under Management
The following table sets forth the changes in the total mutual fund assets, excluding wrap-fee products, and the balance of wrap-fee product assets and annuities, at fair market value for mutual funds and account value for annuities, and net sales of our Retail Investments mutual fund and annuity products for the periods indicated. Net sales (redemptions) are gross sales minus redemptions or surrenders and withdrawals, as applicable. Neither sales nor net sales are revenues under GAAP; they are, however, relevant measures of sales and business activity. Revenues are derived from fees and spread income as discussed above.
Nine Months Ended
September 30, Year Ended December 31,
------------------ -------------------------
2001 2000 2000 1999 1998
-------- -------- ------- ------- -------
(in millions)
Mutual Funds(1) and Wrap-fee
Products(2):
Mutual fund assets, excluding
wrap-fee products:
Beginning total mutual fund
assets....................... $ 57,764 $ 55,245 $55,245 $53,412 $46,715
Sales (other than money
market)...................... 4,337 4,113 5,378 3,773 3,829
Redemptions (other than money
market)...................... (3,415) (4,356) (5,561) (4,872) (3,478)
Reinvestment of distributions
and change in market value... (4,038) 2,052 726 3,744 1,271
Net money market sales........ 2,303 700 1,976 (812) 5,075
-------- -------- ------- ------- -------
Ending total mutual fund
assets..................... 56,951 57,754 57,764 55,245 53,412
Wrap-fee product assets at end
of period..................... 16,141 20,421 19,621 16,723 11,458
-------- -------- ------- ------- -------
Total mutual fund and wrap-fee
product assets at end
of period..................... $ 73,092 $ 78,175 $77,385 $71,968 $64,870
======== ======== ======= ======= =======
Net mutual fund sales
(redemptions) other than money
market(3)..................... $ 922 $ (243) $ (183) $(1,099) $ 351
======== ======== ======= ======= =======
Variable Annuities(1):
Beginning total account value.. $ 21,059 $ 22,614 $22,614 $19,919 $17,608
Sales, excluding exchanges..... 941 1,426 1,809 2,025 2,276
Exchanges sales................ -- 476 481 1,402 988
Surrenders, withdrawals and
exchange redemptions.......... (1,808) (2,389) (2,989) (3,432) (2,528)
Change in market value,
interest credited and
other activity(4)............. (3,002) 102 (856) 2,700 1,575
-------- -------- ------- ------- -------
Ending total account value.. $ 17,190 $ 22,229 $21,059 $22,614 $19,919
======== ======== ======= ======= =======
Net sales (redemptions)........ $ (867) $ (487) $ (699) $ (5) $ 736
======== ======== ======= ======= =======
Fixed Annuities:
Beginning total account value.. $ 2,926 $ 3,020 $ 3,020 $ 3,249 $ 3,723
Sales.......................... 89 191 221 160 56
Surrenders, withdrawals and
exchange redemptions.......... (172) (300) (361) (425) (575)
Interest credited and other
activity(4)................... 22 31 46 36 45
-------- -------- ------- ------- -------
Ending total account value.. $ 2,865 $ 2,942 $ 2,926 $ 3,020 $ 3,249
======== ======== ======= ======= =======
Net sales (redemptions)........ $ (83) $ (109) $ (140) $ (265) $ (519)
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(2) Wrap-fee product assets include proprietary assets of $2.9 billion at September 30, 2001, $3.7 billion at September 30, 2000, $3.4 billion at December 31, 2000, $3.5 billion at December 31, 1999, and $3.1 billion at December 31, 1998.
(3) Excludes wrap-fee products.
(4) Includes maintenance and insurance charges assessed, net bonus payments
credited to contract holder accounts, annuity benefits and other
adjustments.
2001 to 2000 Nine-Month Comparison. Mutual fund and wrap-fee product assets under management amounted to $73.1 billion at September 30, 2001, a decrease of $4.3 billion, or 6%, from December 31, 2000. l fund assets under
management at September 30, 2001 amounted to $57.0 billion, a slight decrease
from December 31, 2000. Wrap-fee assets declined $3.5 billion, from $19.6 billion at December 31, 2000 to $16.1 billion at September 30, 2001.
The decrease in mutual fund assets under management during the first nine months of 2001 came from declines in market values of existing customer accounts, which more than offset our $2.3 billion net money market sales and net mutual fund sales, other than money market funds, of $922 million. Net money market sales increased $1.6 billion from the first nine months of 2000 to the first nine months of 2001, which we believe reflects customer response to the unfavorable performance of the equity securities markets subsequent to the early part of 2000. The $1.2 billion increase in net mutual fund sales other than money market funds reflected increased gross sales that came primarily from third-party distribution of our mutual funds resulting from our participation in competitors' products and distribution and a lower level of redemptions than that of the first nine months of 2000.
The decrease in wrap-fee assets during the first nine months of 2001 came primarily from declines in the market values of customers' accounts. Net sales of wrap-fee products, which are distributed primarily by our Financial Advisors, decreased to $1.2 billion in the first nine months of 2001 from $3.6 billion in the first nine months of 2000 as a result of lower gross sales and increased redemptions. We believe that this experience reflects the continued attrition of Financial Advisors as well as customer response to recent securities market conditions.
Total account values for fixed and variable annuities amounted to $20.1 billion as of September 30, 2001, a decrease of $3.9 billion from December 31, 2000. This decrease resulted primarily from declines in market value of customers' variable annuities as well as net redemptions, which increased from $596 million in the first nine months of 2000 to $950 million in the first nine months of 2001. The increase in net redemptions in the first nine months of 2001 came primarily from lower sales, which we believe reflects customer response to recent securities market conditions as well as the decreased number of Prudential Agents. Furthermore, fixed annuity sales in the first nine months of 2000 benefited from a promotional campaign we offered.
2000 to 1999 Annual Comparison. Mutual funds and wrap-fee product assets under management amounted to $77.4 billion at December 31, 2000, an increase of $5.4 billion, or 8%, from December 31, 1999. Mutual fund assets under management at December 31, 2000 amounted to $57.8 billion, an increase of $2.5 billion, or 5%, from December 31, 1999. Excluding money market funds, net mutual fund redemptions for 2000 were $183 million, which included $359 million of gross sales from our purchases of stock index shares for a long- term deferred compensation program for our own Financial Advisors. Gross sales increased $1.2 billion, or 33%, from 1999 to 2000 excluding the latter purchases of stock index shares, which was partially offset by an increase of $689 million, or 14%, in redemptions. Redemptions, other than money market funds, increased $689 million, from $4.9 billion in 1999 to $5.6 billion in 2000. The increase in gross sales was a result of strong sales of growth- oriented mutual funds, primarily products managed by our Jennison unit. Net money market sales increased by $2.8 billion for 2000 compared to 1999, reflecting customer response to volatile securities market conditions during 2000.
Wrap-fee assets increased $2.9 billion, or 17%, from $16.7 billion at December 31, 1999 to $19.6 billion at December 31, 2000. The increase came from net sales during 2000 of $4.8 billion of wrap-fee products, in which we offer customers a choice of proprietary and non-proprietary mutual funds as well as managed accounts, which was partially offset by declines in market values. We believe these net sales reflect increased marketplace emphasis on products that provide customers with a broader choice of investment options.
Total account values for fixed and variable annuities amounted to $24.0 billion at December 31, 2000, a decrease of $1.6 billion, or 6%, from December 31, 1999. The decrease resulted from market value declines and greater net redemptions. Net redemptions of variable annuities were $699 million for 2000, an increase of $694 million compared to 1999. This increase resulted from an increase in surrenders, other than those related to exchange activity, consistent with maturation of the business, as a larger percentage of the business is no longer subject to surrender charges.
Our withdrawals of variable and fixed annuities include exchanges of $481 million in 2000 and $1.4 billion in 1999. The discontinuance, during the second quarter of 2000, of the annuity exchange program referred to below did not appear to have a material impact on net variable annuity redemptions during that period or thereafter.
Fixed annuity net redemptions of $140 million in 2000 were $125 million, or 47%, lower than the comparable net outflows for 1999. The decrease in net redemptions was attributable to an increase in new sales of our Discovery Classic annuity product.
1999 to 1998 Annual Comparison. Mutual fund and wrap-fee product assets under management increased $7.1 billion, or 11%, from December 31, 1998, primarily as a result of an increase in assets invested in wrap-fee products. Mutual fund assets under management increased $1.8 billion, or 3%, from December 31, 1998. The increase came from market appreciation and amounts reinvested, as we experienced net mutual fund redemptions of $1.9 billion, including net money market fund redemptions of $812 million, for 1999. Redemptions, other than money market funds, increased $1.4 billion from $3.5 billion in 1998 to $4.9 billion in 1999. Wrap-fee product assets increased $5.3 billion, or 46%, from $11.5 billion at December 31, 1998 to $16.7 billion at December 31, 1999, as a result of net sales of our wrap-fee products, as well as market appreciation.
Our domestic Financial Advisors are the principal distribution channel for our retail mutual funds. In 1999 and 2000, we continued to experience turnover of our domestic Financial Advisors, including experienced Financial Advisors. In addition to the impact of this turnover, we believe that our historic focus on the value style of investment in our equity mutual funds, as well as the unfavorable performance of fixed income mutual funds, have adversely affected our sales of mutual funds and our growth and retention of assets under management in these products.
Total account values for variable and fixed annuities increased $2.5 billion, or 11%, from December 31, 1998. The increase came from market appreciation and interest credited on our variable annuity products, as we experienced net outflows of $270 million in 1999. This resulted primarily from an increase in redemptions consistent with the maturation of the business because a larger percentage of the business is no longer subject to surrender charges. We also experienced a decline in sales of annuities, which were affected by the lower number of Prudential Agents in 1999, our primary distribution channel for annuities.
We experienced net outflows of $5 million for variable annuities during 1999, versus net sales of $736 million for 1998 consistent with the increase in surrenders and withdrawals noted above. In an effort to increase our retention of annuity business, we commenced a program in 1997 to offer clients who had either fixed or variable annuities with us for which the surrender period had ended or was close to ending, the option to exchange their current contract for a Discovery Select variable annuity. Our withdrawals of variable and fixed annuities include exchanges of $1.4 billion in 1999 and $1.0 billion in 1998.
We experienced net outflows in our fixed annuities of $265 million in 1999 and $519 million in 1998, continuing a trend of the past several years, which reflects the exchange program as well as the low interest rate environment and the desire of investors to move to equity investments with perceived higher returns. However, surrenders, withdrawals and exchanges for 1999 decreased to $425 million, from $575 million for 1998.
Property and Casualty Insurance
Operating Results
The following table sets forth the Property and Casualty Insurance segment's operating results for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
------------- -----------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Operating results:
Revenues(1)............................. $1,519 $1,353 $ 1,840 $ 1,747 $ 1,812
Benefits and expenses................... 1,421 1,188 1,690 1,595 1,501
------ ------ ------- ------- -------
Adjusted operating income............... $ 98 $ 165 $ 150 $ 152 $ 311
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Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. Adjusted operating income decreased $67 million, or 41%, from the first nine months of 2000 to the first nine months of 2001. Results for the first nine months of 2001 reflected
a $63 million lower benefit from prior accident-year development, but benefited from $31 million greater recoveries from current accident year stop- loss reinsurance contracts, in comparison to the first nine months of 2000. The remainder of the decrease in adjusted operating income came primarily from a decline in investment income.
We released reserves of $67 million in the first nine months of 2001 and $130 million in the first nine months of 2000 because our automobile casualty claims experience for prior years was more favorable than we previously estimated in establishing reserves for these accident years. We recovered $80 million in the first nine months of 2001 and $49 million in the first nine months of 2000 under stop-loss reinsurance contracts, which are based on current accident-year results. In the third quarter of 2001, the Property and Casualty Insurance segment reported adjusted operating income of $5 million. In the fourth quarter of 2000, we benefited from additional stop-loss reinsurance recoveries of $31 million and from reserves released related to prior accident-year development of $35 million. However, we do not anticipate a comparable benefit to adjusted operating income from stop-loss recoveries or reserve releases during the fourth quarter of 2001. Consequently, if the accident-year experience of the first nine months of 2001 continues, we would anticipate a continuing decline in results in the fourth quarter.
In May 2000, we completed the acquisition of the specialty automobile business of the St. Paul Companies, which writes in the non-standard automobile insurance business. While, as discussed under "--Revenues" below, this acquisition had an effect on the comparison of revenues for the first nine months of 2001 to the first nine months of 2000, it did not have a material impact on adjusted operating income.
2000 to 1999 Annual Comparison. Adjusted operating income was essentially unchanged from 1999 to 2000. Results in 2000 reflect an $80 million recovery from a stop-loss reinsurance contract based on current accident-year results during that year and a $15 million greater benefit from prior accident year development. We released reserves of $165 million in 2000 and $150 million in 1999 because our automobile casualty claims experience for prior accident years was more favorable than we previously estimated in establishing reserves for these accident years. However, these favorable developments were largely offset by a $93 million increase in operating expenses, other than expenses of the specialty automobile business we acquired in 2000 as discussed below. The increase in operating expenses was primarily due to increases in expenses to expand our distribution capabilities in direct, affinity group, property and casualty agent and independent agent channels, and a provision for refunds or credits to certain New Jersey automobile policyholders under insurance regulations based on profits generated from that business.
While, as discussed under "--Revenues" below, our acquisition in May 2000 of a business which writes non-standard automobile insurance had an effect on the comparison of revenues for 2000 to 1999, it did not have a material impact on adjusted operating income.
Commencing in 1996, we made a number of improvements in our underwriting practices and instituted several claims management initiatives, such as early contact and settlement programs, reduced settlement authority for casualty field adjusters, increased field training and stronger fraud detection programs. We believe these developments, as well as industry factors such as tort reforms and a stronger economy, favorably affected our loss experience relative to the historical loss development patterns we used to establish reserves in prior years. Nevertheless, while the factors discussed above have led to the favorable reserve development for prior years, accident year combined ratios as defined below did not improve from 1998 through 2000, primarily due to increases in the overall expense ratio which reflected our expenses to expand distribution channels and the impact of a prolonged period of intense price competition.
1999 to 1998 Annual Comparison. Adjusted operating income decreased $159 million, or 51%, from 1998 to 1999. Results in 1999 reflect favorable prior accident year reserve development of $150 million, and our 1998 results reflect similar favorable development of $245 million.
The decrease in adjusted operating income in 1999 resulted primarily from the $95 million lower benefit from prior accident year reserve development compared to 1998, a $64 million increase in operating expenses, which included expenses to expand our distribution channels as mentioned above, a $26 million reduction in investment income and the negative impact of greater claim severity on our loss experience for 1999 that was partially offset by an improvement in claim frequency. A $107 million reduction in our ceded premiums for reinsurance, from $168 million in 1998 to $61 million in 1999, partially offset the impact of those variances. Approximately $79 million of the reduction in ceded premiums came from stop-loss reinsurance and supplemental catastrophe covers, reflecting more favorable pricing in 1999 compared to 1998. The remainder of
the reduction came primarily from the expiration of a quota-share reinsurance agreement, a return of hurricane fund premium and lower assessments from reinsurance pools.
Revenues
The following table sets forth the Property and Casualty Insurance segment's earned premiums, which are net of reinsurance ceded, for the periods indicated.
Nine Months
Ended September
30, Year Ended December 31,
--------------- -----------------------
2001 2000 2000 1999 1998
------- ------- ------- ------- -------
(in millions)
Automobile............................. $1,030 $ 863 $ 1,193 $ 1,069 $ 1,119
Homeowners............................. 334 316 413 447 431
Other.................................. 25 24 33 32 31
------- ------- ------- ------- -------
Total earned premiums................. $1,389 $1,203 $ 1,639 $ 1,548 $ 1,581
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2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", increased $166 million, or 12%, from the first nine months of 2000 to the first nine months of 2001. The $166 million increase included an increase of $91 million in revenues from the subsidiary we acquired in May 2000 that specializes in non-standard automobile business, which is included in first nine months 2000 results only from the date of acquisition. The remaining revenue increase of $75 million, from our existing business, came primarily from a $99 million increase in earned premiums from automobile and homeowners' insurance, partially offset by a $27 million decline in investment income.
Total earned premiums, as shown in the immediately preceding table, increased by $186 million, or 15%, from the first nine months of 2000 to the first nine months of 2001. Excluding the impact of the acquisition mentioned above, earned premiums increased by $99 million.
Automobile earned premiums increased by $167 million, or 19%, from the first nine months of 2000 to the first nine months of 2001, including $87 million from the non-standard automobile business mentioned above. The increase came primarily from new distribution channels we implemented during 1999 and 2000, including career agents focused on selling property and casualty insurance, workplace and affinity marketing, direct distribution, and independent agents, many of whom were producers for the acquired subsidiary. As discussed below under "Benefits and Expenses", commencing in the second half of 2001 we have suspended our mailing solicitations for the direct distribution channel and limited the growth of new business from some of these other distribution channels, based on our evaluation of the quality of the business. In October 2001, we announced that we would no longer write business through our property and casualty insurance career agency channel except in a few selected markets. Improved persistency in the first nine months of 2001 also contributed to the growth in earned premiums.
Homeowners earned premiums increased $18 million, or 6%, from the first nine months of 2000 to the first nine months of 2001 due to lower reinsurance premiums ceded, as the number of policies in force was relatively unchanged. This stabilization of our policies in force represents an improvement compared with declines in prior years, which reflects intense rate competition that attracted customers to other companies.
Net investment income decreased by $21 million, or 15%, from $143 million in the first nine months of 2000 to $122 million in the first nine months of 2001, and decreased by $27 million excluding the impact of the acquisition mentioned above. This decrease was primarily a result of a lower average base of invested assets, reflecting lower attributed capital, and a decline in investment yield.
2000 to 1999 Annual Comparison. Revenues increased $93 million, or 5%, from 1999 to 2000. Total revenues of $1.840 billion for 2000 include revenues of $178 million from the subsidiary we acquired in May 2000 that specializes in the non-standard automobile business. Excluding the impact on revenues from this newly-acquired subsidiary, revenues declined by $85 million, or 5%, from $1.747 billion in 1999 to $1.662 billion in 2000, due principally to a $77 million decrease in earned premiums on our existing automobile and homeowners business. The $77 million decline in earned premiums resulted in part from a $30 million increase in reinsurance premiums ceded due to our purchase of additional reinsurance coverage in 2000.
Total earned premiums, as shown in the immediately preceding table, increased by $91 million, or 6%, from 1999 to 2000. Excluding the impact on earned premiums from the acquisition noted above, earned premiums
declined $77 million, or 5%, from $1.548 billion in 1999 to $1.471 billion in 2000, continuing the decline that we have experienced over the past several years.
Automobile earned premiums increased $124 million, or 12%, from 1999 to 2000. Excluding the impact of the acquisition mentioned above, automobile earned premiums declined by $44 million, or 4%, from $1.069 billion in 1999 to $1.025 billion in 2000 primarily as a result of a decline in average premium, due in part to the continued phase-in of a 15% rate reduction for New Jersey policyholders mandated by New Jersey law that came into effect in March 1999. As of December 31, 2000, this premium reduction has been entirely reflected in our earned premiums. Our policies in force from our existing automobile business, excluding the newly acquired subsidiary, increased 2% at December 31, 2000 from a year earlier. The increase reflected improved persistency in 2000 as compared to 1999 as well as an increase in new policies sold, representing an improvement from prior year declines.
Homeowners earned premiums decreased $34 million, or 8%, from 1999 to 2000. Excluding the impact of reinsurance premiums ceded, which increased in 2000 from 1999, homeowners earned premiums were flat as the number of policies in force was relatively unchanged.
Net investment income was $193 million for 2000, relatively unchanged from $197 million in 1999.
1999 to 1998 Annual Comparison. Revenues decreased $65 million, or 4%, from 1998 to 1999. Revenues were adversely affected by a decline in earned premiums of $33 million, or 2%. Revenues are net of reinsurance premiums ceded of $61 million in 1999 and $168 million in 1998.
Automobile earned premiums decreased $50 million, or 4%, from 1998 to 1999. Excluding the impact of reinsurance premiums ceded, which declined in 1999, automobile earned premiums declined $118 million, or 11%. Ceded premiums were lower primarily due to more favorable pricing for reinsurance coverage in 1999. The automobile earned premium decline resulted from a 6% decrease in the number of policies in force and a decline in average premiums due in part to price competition. The decline in average premiums also partially resulted from the mandated 15% premium reduction for New Jersey policyholders described above. We estimate that this required premium reduction lowered our earned premiums by about $24 million for 1999.
Homeowners earned premiums increased $16 million, or 4%, in 1999. Excluding the impact of reinsurance premiums ceded, which declined in 1999, homeowners earned premiums declined $16 million, or 3%, reflecting a 4% decrease in policies in force primarily due to price competition. Ceded premiums were lower due to more favorable pricing for reinsurance coverage in 1999 as well as a reduction in reinsurance premiums resulting from the expiration of a reinsurance agreement and a return of hurricane fund premium.
Revenues were also adversely affected by a decline in net investment income of $26 million, or 12%, from $223 million in 1998 to $197 million in 1999, reflecting a decline in the amount of invested assets due to the decline in business in force as well as a lower yield on investments in 1999.
Benefits and Expenses
The following table shows our calendar year loss, expense and combined ratios, the impact on these calendar year ratios of catastrophic losses and our accident year combined ratios based on loss experience for the periods indicated (all based on statutory accounting principles).
Nine Months
Ended
September
30, Year Ended December 31,
------------ -------------------------
2001 2000 2000 1999 1998
----- ----- ------- ------- -------
Loss ratio(1):
Automobile.......................... 66.9% 63.3% 62.0% 71.1% 66.1%
Homeowners.......................... 79.1 69.2 72.4 70.7 69.8
Overall........................... 69.5 64.2 64.3 71.1 67.7
Expense ratio(2):
Automobile.......................... 31.2 33.0 37.3 30.5 26.1
Homeowners.......................... 36.8 40.7 45.3 39.1 34.2
Overall........................... 32.5 35.0 39.2 33.1 28.7
Combined ratio(3):
Automobile.......................... 98.1 96.3 99.3 101.6 92.2
Homeowners.......................... 115.9 109.9 117.7 109.8 104.0
Overall........................... 102.0 99.2 103.5 104.2 96.4
Effect of catastrophic losses
included in combined ratio(4):...... 3.2 2.7 2.6 3.3 3.9
Accident year combined ratio(5):..... 106.9 110.0 113.0 108.1 106.1
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(1) Represents ratio of incurred losses and loss adjustment expenses to earned premium. Ratios reflect the favorable development in the calendar period from prior accident year reserves of $67 million in the nine months ended September 30, 2001, $130 million in the nine months ended September 30, 2000, $165 million in the year ended December 31, 2000, $150 million in 1999 and $245 million in 1998. Ratios also reflect recoveries from current accident year stop-loss reinsurance contracts of $80 million in the nine months ended September 30, 2001, $49 million in the nine months ended September 30, 2000, and $80 million in the year ended December 31, 2000.
(2) Represents ratio of operating expenses to net written premium.
(3) Represents the sum of (1) and (2).
(4) Represents losses and loss adjustment expenses attributable to catastrophes that are included in the combined ratio. Our calendar year catastrophe losses include both current and prior accident year losses. We classify as catastrophes those events that are declared catastrophes by Property Claims Services, which is an industry organization that declares and tracks all property-related catastrophes causing insured property damage in the United States. Property Claims Services declares an event a catastrophe if it causes in excess of a specified dollar amount of insured property damage, which was $25 million throughout the periods presented, and affects a significant number of policyholders and insurance companies.
(5) Accident year combined ratios for annual periods reflect the combined ratios for accidents that occur in the indicated calendar year, restated to reflect subsequent changes in loss estimates for those claims based on cumulative loss data through September 30, 2001. Accident year combined ratios for the nine month periods reflect the combined ratios for policies written in those periods, based on cumulative loss data through September 30 of the indicated year. These ratios reflect the recoveries from stop- loss reinsurance contracts as noted above. We analyze accident-year combined ratios because they reflect the actual loss experience of accidents that occur in a given period excluding the effect of accidents that occur in other periods.
2001 to 2000 Nine-Month Comparison. Our automobile and total combined ratios, as shown in the table immediately above, increased from the first nine months of 2000 to the first nine months of 2001 primarily due to the lower net benefit from stop-loss reinsurance recoveries and prior accident-year reserve development in the first nine months of 2001. The impact of experience on new automobile business also contributed to the increases in these ratios, since the experience on our seasoned automobile business was relatively consistent. We added significant new automobile business during the first nine months of 2001, primarily in the first half of the year, which we expected would produce less favorable experience in its initial year than similarly priced seasoned business. However, based on our evaluation of the quality of the new business produced, particularly the major portion of the business which was sold through the new distribution channels we implemented in 1999 and 2000 as noted above, we have suspended our mailing solicitations for the direct distribution channel and limited the growth of business from some of our distribution channels, other than Prudential Agents, commencing in the third quarter of 2001. In October 2001, we announced that we would no longer write business through our property and casualty insurance career agency channel except in a few selected markets. The increase in the homeowners' loss ratio came from a 13% increase in claim severity and a 7% increase in claim frequency, partially offset by the greater benefit from stop-loss reinsurance recoveries in the first nine months of 2001. These recoveries resulted in decreases in the homeowners' combined ratio of 5.8 percentage points in the first nine months of 2001 and 3.5 percentage points in the first nine months of 2000.
Our calendar year catastrophe losses, net of reinsurance, amounted to $44 million for the first nine months of 2001 compared to $35 million for the first nine months of 2000.
Losses that we ceded through reinsurance, including stop-loss reinsurance, resulted in decreases in the total combined ratio of 9.6 percentage points for the first nine months of 2001 and 5.6 percentage points for the first nine months of 2000. See "Business--U.S. Consumer Division--Property and Casualty Insurance--Catastrophe Exposure Risk Management Program and Reinsurance" for a description of the Property and Casualty Insurance segment's reinsurance program.
Our overall expense ratio for the first nine months of 2001 decreased from the first nine months of 2000, as we incurred costs in 2000 to develop our distribution channels and benefited in 2001 from staff reductions and the favorable impact of the increased premium base.
The decrease in the accident year combined ratio resulted from the greater recovery from stop-loss reinsurance during the first nine months of 2001. Recoveries from stop-loss reinsurance resulted in decreases in the accident year combined ratio of 5.8 percentage points in the first nine months of 2001 and 4.1 percentage points in the first nine months of 2000.
2000 to 1999 Annual Comparison. Our automobile and total combined ratios, as shown in the table immediately above, improved in 2000 from 1999 primarily as a result of the $80 million recovery from a stop-loss reinsurance contract during 2000 and the $15 million greater benefit from prior accident year reserve development. The decrease in the automobile loss ratio came primarily from our recovery from a stop-loss
reinsurance contract as noted above, and the greater benefit from release of prior accident year reserves in 2000 as well as our efforts to limit loss severity, partially offset by a slight increase in claim frequency. The increase in the homeowners' loss ratio primarily came from a 13% increase in claim severity, partially offset by a 9% decrease in claim frequency.
Our catastrophe losses, net of reinsurance, amounted to $45 million for 2000 compared to $51 million for 1999.
Losses that we ceded through reinsurance resulted in a decrease in the total combined ratio of 8.1 percentage points for 2000 and, as a result of changes in recoverable amounts previously recorded, an increase of 2.6 percentage points for 1999.
Our overall expense ratio for 2000 increased in comparison to 1999 mainly because of the impact of increased operating expenses as discussed above.
1999 to 1998 Annual Comparison. Our automobile and total combined ratios, as shown in the table immediately above, increased in 1999 from 1998 as a result of the lower benefit of $150 million from favorable development on prior accident year reserves in 1999 as compared to $245 million in 1998. The increase in the loss ratio for homeowners business came primarily from a 3% increase in claim severity, primarily from fire and extended coverage claims, partially offset by a 2% decrease in claim frequency.
Our catastrophe losses, net of reinsurance, amounted to $51 million for 1999 compared to $62 million for 1998.
Losses that we ceded through reinsurance resulted in an increase in the total combined ratio of 2.6 percentage points in 1999, as a result of changes in recoverable amounts previously recorded, and a reduction of 2.5 percentage points in 1998.
Our overall expense ratio for 1999 increased in comparison to 1998 principally because the decline in premiums earned was not accompanied by a commensurate decline in our overhead and other fixed expenses, and because of the impact of increased operating expenses to expand our distribution channels.
The increase in the accident year combined ratio was principally driven by these increases in the overall expense ratio.
Employee Benefits Division
The Employee Benefits division generates income from premiums, as well as fee-based revenues and spread income, through the Group Insurance and Other Employee Benefits segments. Premiums and investment income from group life and disability insurance, as well as fee-based revenues from products like group variable universal life insurance, are the primary sources of revenues for the Group Insurance segment. The Other Employee Benefits segment also receives premiums and investment income, as well as fee-based revenues. Products and services for defined contribution and defined benefit retirement plans, as well as real estate and relocation services, generate the major portion of the Other Employee Benefits segment's fee-based revenues. We include these fee- based revenues in the line captioned "commissions and other income" or "policy charges and fee income" in our consolidated statement of operations.
We seek to earn spread income in our general account on various products, which is the difference between our return on the investments supporting the products net of expenses and the amounts we credit to our contractholders. These products primarily include the general account insurance group life and disability products of the Group Insurance segment as well as guaranteed investment contracts and certain group annuity products of the Other Employee Benefits segment. We include revenues from these products, other than premiums received from policyholders, primarily in the line captioned "net investment income" in our consolidated statement of operations.
The Group Insurance and Other Employee Benefits segments pay the expenses of their own proprietary sales forces for distribution of products, and pay the Individual Life Insurance and Private Client Group segments within the U.S. Consumer division for distribution of their products through Prudential Agents and Financial Advisors. These segments also pay our Investment Management and Advisory Services segment for management of proprietary assets. These fees result in expenses to the segments of the Employee Benefits division and revenues to the Asset Management division. We reflect all of the intra-company services at rates that we
determined with reference to market rates. The Other Employee Benefits segment also pays third-party managers for management of non-proprietary assets that support some of its defined contribution retirement products.
Division Results
The following table and discussion present the Employee Benefits division's results based on our definition of "adjusted operating income," which is a non-GAAP measure, as well as income from continuing operations before income taxes, which is prepared in accordance with GAAP. As shown below, adjusted operating income excludes realized investment gains, net of losses and related charges. The excluded items are important to an understanding of our overall results of operations. You should not view adjusted operating income as a substitute for income from continuing operations determined in accordance with GAAP, and you should note that our definition of adjusted operating income may differ from that used by other companies. However, we believe that the presentation of adjusted operating income as we measure it for management purposes enhances the understanding of our results of operations by highlighting the results from ongoing operations and the underlying profitability factors of our businesses. We exclude realized investment gains, net of losses and related charges, from adjusted operating income because the timing of transactions resulting in recognition of gains or losses is largely at our discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of our business.
Nine Months
Ended
September 30, Year Ended December 31,
-------------- -------------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Division operating results:
Revenues(1)........................ $4,431 $4,216 $ 5,686 $ 5,442 $ 5,463
Benefits and expenses(2)........... 4,272 3,905 5,299 5,042 5,023
------ ------ ------- ------- -------
Adjusted operating income.......... $ 159 $ 311 $ 387 $ 400 $ 440
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Adjusted operating income by
segment:
Group Insurance.................... $ 49 $ 90 $ 158 $ 128 $ 98
Other Employee Benefits............ 110 221 229 272 342
------ ------ ------- ------- -------
Total............................ 159 311 387 400 440
Items excluded from adjusted
operating income:
Realized investment gains, net of
losses and related charges:
Realized investment gains
(losses), net................... (57) (127) (87) 228 718
Related charges(3)............... 4 3 (31) (143) (222)
------ ------ ------- ------- -------
Total realized investment gains,
net of losses and related
charges......................... (53) (124) (118) 85 496
------ ------ ------- ------- -------
Income from continuing operations
before income taxes................ $ 106 $ 187 $ 269 $ 485 $ 936
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Nine Months
Ended
September 30, Year Ended December 31,
-------------- ---------------------------
2001 2000 2000 1999 1998
------ ------ ------- -------- --------
(in millions)
Reserves for future policy
benefits...................... $ 3 $ 2 $ (32) $ (147) $ (218)
Amortization of deferred policy
acquisition costs............. 1 1 1 4 (4)
------ ------ ------- -------- --------
Total......................... $ 4 $ 3 $ (31) $ (143) $ (222)
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2001 to 2000 Nine-Month Comparison. Adjusted operating income of our Employee Benefits division decreased $152 million, or 49%, from the first nine months of 2000 to the first nine months of 2001 as a result of a $111 million decrease in adjusted operating income from our Other Employee Benefits segment and a $41 million decrease from our Group Insurance segment. Income from continuing operations before income taxes decreased $81 million, or 43%, from the first nine months of 2000 to the first nine months of 2001, as the decrease in adjusted operating income was partially offset by a $71 million decrease in realized investment losses, net of related charges. For a discussion of realized investment gains and losses and charges related to realized investment gains and losses, see "--Consolidated Results of Operations--Realized Investment Gains".
2000 to 1999 Annual Comparison. Adjusted operating income of our Employee Benefits division decreased $13 million, or 3%, from 1999 to 2000 as a result of a $43 million decrease in adjusted operating income from our Other Employee Benefits segment which was partially offset by a $30 million increase from our Group Insurance segment. Income from continuing operations before income taxes decreased $216 million, from $485 million in 1999 to $269 million in 2000. This decline resulted primarily from realized investment losses, net of related charges, of $118 million in 2000 compared to realized investment gains, net of related charges, of $85 million in 1999.
1999 to 1998 Annual Comparison. Adjusted operating income of our Employee Benefits division decreased $40 million, or 9%, from 1998 to 1999, as a $70 million decrease in adjusted operating income from our Other Employee Benefits segment was partially offset by improved results from our Group Insurance segment. Income from continuing operations before income taxes decreased by $451 million, or 48%, from 1998 to 1999. This decrease resulted primarily from a $411 million decline in realized investment gains, net of losses and related charges.
Group Insurance
Operating Results
The following table sets forth the Group Insurance segment's operating results for the periods indicated.
Nine Months
Ended September 30, Year Ended December 31,
------------------- -----------------------
2001 2000 2000 1999 1998
--------- --------- ------- ------- -------
(in millions)
Operating results:
Revenues(1)........................ $ 2,412 $2,039 $ 2,801 $ 2,428 $ 2,205
Benefits and expenses.............. 2,363 1,949 2,643 2,300 2,107
--------- --------- ------- ------- -------
Adjusted operating income.......... $ 49 $ 90 $ 158 $ 128 $ 98
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Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. Adjusted operating income decreased $41 million, or 46%, from the first nine months of 2000 to the first nine months of 2001. The decrease came primarily from less favorable mortality experience on group life insurance in the first nine months of 2001, which included an increase in our estimate of incurred but not reported claims. This increase in estimate had a negative impact of approximately $36 million on our adjusted operating income for the nine months ended September 30, 2001. The mortality experience on group life insurance was partially offset by earned premium growth and improved morbidity on group disability products. In addition, adjusted operating income benefited $29 million in the first nine months of 2000 from refinements in our calculations of reserves and return premiums for waiver of premium features. However, about half of this benefit was offset during the same period, primarily by a charge to increase the allowance for receivables. The Group Insurance segment had a loss of $7 million, on an adjusted operating income basis, for the third quarter of 2001, reflecting the major portion of the increase in estimate mentioned above.
2000 to 1999 Annual Comparison. Adjusted operating income increased $30 million, or 23%, from 1999 to 2000. Approximately half of the increase came from growth in earned premiums on both group life and disability products, reflecting increased sales and strong persistency, as well as improved mortality and morbidity on group life and disability products in 2000. Adjusted operating income benefited $32 million in 2000 from refinements in our calculations of reserves and return premiums for waiver of premium features. However, about half of this benefit was offset during 2000, primarily by a charge to increase the allowance for receivables.
1999 to 1998 Annual Comparison. Adjusted operating income increased $30 million, or 31%, from 1998 to 1999. We experienced growth in earned premiums on both group life and disability products, accompanied by improved mortality and morbidity experience during 1999. As discussed below, the growth in earned premiums reflected increased sales of both life and disability products as well as strong persistency. However, increased operating expenses of $54 million partially offset these developments. Expenses in 1998 included a charge of $18 million to establish a reserve to settle certain liabilities and a charge of $12 million to increase reserves for disability as discussed below under "--Benefits and Expenses".
Revenues
2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", increased by $373 million, or 18%, from the first nine months of 2000 to the first nine months of 2001. Group life insurance premiums increased by $259 million, or 21%, to $1.497 billion primarily due to growth in business in force resulting from new sales, as described below, and continued strong persistency. Group disability premiums, which include long- term care products, increased by $36 million, also reflecting the growth in business in force. Persistency decreased from 91% in the first nine months of 2000 to 89% in the first nine months of 2001, primarily due to the cancellation of a large case. Net investment income increased $53 million, or 15%, primarily due to a larger base of invested assets.
2000 to 1999 Annual Comparison. Revenues increased by $373 million, or 15%, from 1999 to 2000. Group life insurance premiums increased by $189 million, or 13%, to $1.655 billion primarily due to growth in business in force resulting from new sales, which increased in 2000. Persistency increased from 94% in 1999 to 95% in 2000. Group disability premiums, which include long-term care products, increased by $71 million, or 18%, also reflecting the growth in business in force resulting from new sales, which increased in 2000. Persistency increased from 88% in 1999 to 90% in 2000. The remainder of the increase in revenues came primarily from higher fees on products sold to employers for funding of employee benefit programs and retirement arrangements, reflecting growth of this business in 2000. Net investment income was $485 million in 2000, relatively unchanged from $470 million in 1999.
1999 to 1998 Annual Comparison. Revenues increased by $223 million, or 10%, from 1998 to 1999. Group life premiums increased by $126 million, or 9%, to $1.466 billion primarily due to new sales in 1999. Persistency declined slightly from 97% for 1998 to 94% for 1999. Group disability premiums increased by $35 million, or 10%, also reflecting increased new sales in 1999. Persistency declined slightly from 90% in 1998 to 88% for 1999. Net investment income increased $29 million, or 7%, from $441 million in 1998 to $470 million in 1999, which is largely offset by corresponding expense charges for interest credited.
Benefits and Expenses
The following table sets forth the Group Insurance segment's benefits and administrative operating expense ratios for the periods indicated.
Nine Months
Ended September 30, Year Ended December 31,
--------------------- -------------------------
2001 2000 2000 1999 1998
--------- ---------- ------- ------- -------
Benefits ratio(1):
Group life.................. 93.9% 87.1% 85.8% 88.3% 89.9%
Group disability............ 95.3 102.3 101.9 102.7 109.6
Administrative operating
expense ratio(2):
Group life.................. 9.6 11.7 11.6 11.4 10.9
Group disability............ 22.9 23.0 21.0 23.5 21.2
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2001 to 2000 Nine-Month Comparison. Benefits and expenses, as shown in the table above under "--Operating Results", increased by $414 million, or 21%, from the first nine months of 2000 to the first nine months of 2001. The increase resulted in large part from an increase of $368 million, or 24%, in policyholders' benefits, including the change in policy reserves. This increase reflected less favorable group life insurance claims experience in the first nine months of 2001, which included an increase in our estimate of incurred but not reported claims, as well as the growth of business in force. Based on our evaluation of mortality experience for the first nine months of 2001, we have reviewed our pricing policies to determine whether our pricing structure provides for adequate margins and returns on all of our group insurance products. As a result of this review, we have commenced pricing adjustments, when contractually permitted, which consider the recent deterioration of the benefits ratio on our group life insurance products. While there can be no assurance, we expect these actions to result, over time, in a return to benefits ratios consistent with those experienced on this business prior to 2001. However, we expect that the implementation of these actions, given the competitive marketplace for our products, may result in a decline in persistency on our group life insurance business in force and some slowing of our sales. As a result of our reinsurance coverages, insurance losses resulting from the
September 11, 2001 terrorist attacks on the United States did not have a material impact on our results. An increase of $28 million, or 9%, in operating expenses also contributed to the increase in benefits and expenses. The increase in operating expenses, from $300 million in the first nine months of 2000 to $328 million in the first nine months of 2001, resulted primarily from sales-based compensation costs driven by the increase in group life insurance sales.
The group life benefits ratio for the first nine months of 2001 increased 6.8 percentage points from the first nine months of 2000 primarily as a result of the less favorable claims experience on our group life insurance business in the first nine months of 2001. About 4 percentage points of the increase in the group life benefits ratio came from the increase in estimate of incurred but not reported claims and the net impact of the refinements in reserve calculations and charge to increase the allowance for receivables in 2000. The group disability benefits ratio improved by 7.0 percentage points from the first nine months of 2000 to the first nine months of 2001 reflecting better morbidity experience, which we attribute to accelerated case resolution and our ongoing efforts to improve the quality of our underwriting and claims management processes as well as the impact of our increase in the allowance for receivables, which contributed about 3 percentage points to the first nine months 2000 ratio. The group life administrative operating expense ratio improved 2.1 percentage points, reflecting the impact of our efforts to improve operational efficiencies.
2000 to 1999 Annual Comparison. Benefits and expenses increased by $343 million, or 15%, from 1999 to 2000. This increase includes the changes in reserves from the refinements in reserve calculations noted above, which reduced our expenses by $54 million in 2000. Excluding this change, total benefits and expenses increased $397 million, or 17%. The increase resulted in large part from an increase of $337 million, or 19%, in policyholders' benefits, including the change in policy reserves. This increase reflected the growth in business in force, partially offset by the impact of improved mortality and morbidity experience on group life and disability products in 2000. An increase of $47 million, or 13%, in operating expenses also contributed to the increase in benefits and expenses. The increase in operating expenses, from $354 million in 1999 to $401 million in 2000, resulted primarily from the sales-based compensation costs related to the increase in sales of our group life and group disability products, and volume related costs to administer the increased business in force.
The group life benefits ratio for 2000 improved by 2.5 percentage points from 1999 primarily as a result of improved mortality experience. The group disability benefits ratio improved by 0.8 percentage points from 1999 to 2000 reflecting better morbidity experience, which we attribute to our ongoing efforts to improve the quality of our underwriting and claims management processes. The group life administrative operating expense ratio was relatively unchanged, while the group disability insurance administrative operating expense ratio improved 2.5 percentage points, reflecting the impact of our efforts to improve operational efficiencies.
1999 to 1998 Annual Comparison. Benefits and expenses increased $193 million, or 9%, from 1998 to 1999. The increase resulted in large part from an increase of $109 million, or 7%, in policyholders' benefits, including policy reserves. This increase reflected the growth in business in force, partially offset by the impact of a reserve increase of $12 million in 1998 that did not recur in 1999 as a result of longer life expectancies of disabled insureds due to medical advances in the treatment of AIDS, as well as improved mortality and morbidity experience in 1999. Interest credited to policyholders increased $29 million, or 18%, corresponding to the increase in investment income referred to above. The increase also resulted from an increase of $55 million, or 18%, in operating expenses.
The increase in operating expenses, from $299 million in 1998 to $354 million in 1999, reflected the costs to administer the increased business in force as well as our continued investment in processes and technologies to support actual and intended growth in business, partially offset by the impact of a charge of $18 million in 1998 to establish a reserve to settle liabilities in connection with certain contracts. The investments in processes and technologies relate in part to our need to develop autonomous administrative systems to replace support previously shared with our healthcare business that we sold in August 1999.
The group life benefits ratio improved by 1.6 percentage points from 1998 to 1999 due to better mortality experience. The group disability benefits ratio improved by 6.9 percentage points, with about half of the improvement related to the 1998 reserve increase for longer life expectancies as discussed above. The remainder of this improvement came from better morbidity experience. However, our group disability benefits ratio continued to remain high primarily due to the continuing effect of long-term disability claims we incurred from business we wrote in the early and mid-1990s, largely in the healthcare, legal and securities industries. We believe our experience parallels the industry's experience during this period. Also, as a result of an increase in
administrative operating expenses, the administrative operating expense ratios for both group life and disability insurance increased in 1999.
Sales Results
The following table sets forth the Group Insurance segment's new annualized premiums for the periods indicated. In managing our group insurance business, we analyze new annualized premiums, which do not correspond to revenues under GAAP, as well as revenues, because new annualized premiums measure the current sales performance of the business unit, while revenues reflect the renewal persistency and aging of in force policies written in prior years and net investment income in addition to current sales.
Nine Months
Ended September 30, Year Ended December 31,
------------------- -----------------------
2001 2000 2000 1999 1998
--------- --------- ------- ------- -------
(in millions)
New annualized premiums:
Group life(1)...................... $ 368 $ 274 $ 321 $ 262 $ 245
Group disability(2)................ 116 137 162 105 86
--------- --------- ------- ------- -------
Total............................ $ 484 $ 411 $ 483 $ 367 $ 331
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2001 to 2000 Nine-Month Comparison. Total new annualized premiums increased $73 million, or 18%, from the first nine months of 2000 to the first nine months of 2001, with an increase of $94 million in group life sales partially offset by a $21 million decline in group disability sales. The group life sales increase came from a small number of large sales to new customers, including annualized premiums of $92 million from one sale, which more than offset a lower level of additional sales to existing group life customers. The group disability sales decrease reflected the benefit to first nine months 2000 results from sales opportunities resulting from the well-publicized financial difficulties of a competitor.
2000 to 1999 Annual Comparison. Total new annualized premiums increased $116 million, or 32%, from 1999 to 2000, with increases of $59 million in group life sales and $57 million in group disability sales. Sales for 1999 benefited from annualized premiums of $40 million from one sale. We believe the sales increase reflected improved competitiveness of our products as well as sales opportunities resulting from the well-publicized financial difficulties of a competitor.
1999 to 1998 Annual Comparison. Total new annualized premiums increased $36 million, or 11%, from 1998 to 1999. An increase in sales to new customers, including $40 million from one sale, reflecting an expansion of the dedicated Group Insurance sales force and greater productivity as well as availability of a new disability contract that was approved for sale by regulators in 1999, more than offset a lower level of additional sales to existing group life customers.
Other Employee Benefits
Operating Results
The following table sets forth the Other Employee Benefits segment's operating results for the periods indicated.
Nine Months
Ended September 30, Year Ended December 31,
------------------- -----------------------
2001 2000 2000 1999 1998
--------- --------- ------- ------- -------
(in millions)
Operating results:
Revenues(1)....................... $ 2,019 $2,177 $ 2,885 $ 3,014 $ 3,258
Benefits and expenses(2).......... 1,909 1,956 2,656 2,742 2,916
--------- --------- ------- ------- -------
Adjusted operating income......... $ 110 $ 221 $ 229 $ 272 $ 342
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Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. Adjusted operating income decreased $111 million, or 50%, in the first nine months of 2001 from the first nine months of 2000. Adjusted operating income benefited $36 million in the first nine months of 2000 primarily from refinements in our annuity reserves. Excluding this change, adjusted operating income decreased $75 million, or 41%. The $75 million decrease came primarily from a $56 million decline in adjusted operating income from our guaranteed products business. This business had a deterioration in mortality experience in the first nine months of 2001 and recorded approximately $29 million of increased estimates of policy liabilities relating to prior periods. We recorded charges amounting to $22 million in the first nine months of 2000 to establish reserves for guaranteed benefits on several separate account contracts. The guaranteed products business also continues to be adversely affected by the gradual runoff of our general account products, including general account GIC business, that we have experienced over the past several years. We expect to continue to have low sales of general account GICs unless and until our ratings improve.
Our real estate and relocation business reported a loss, on an adjusted operating income basis, of $5 million in the first nine months of 2001 versus adjusted operating income of $30 million in the first nine months of 2000. The loss in the first nine months of 2001 resulted from expenses of $29 million from consolidation of operating facilities as well as a decline in corporate relocation volume.
Our full service defined contribution business, which benefited from lower expense levels in the first nine months of 2001, reported a loss of $11 million on an adjusted operating income basis compared to a loss of $27 million in the first nine months of 2000.
2000 to 1999 Annual Comparison. Adjusted operating income decreased $43 million, or 16%, in 2000 from 1999. Adjusted operating income benefited $64 million in 2000 and $54 million in 1999 primarily from refinements in our annuity reserves. Excluding these changes, adjusted operating income decreased $53 million, or 24%, from $218 million in 1999 to $165 million in 2000. The $53 million decrease came primarily from a $45 million decline in adjusted operating income from our guaranteed products business. Results from this business were negatively affected by a $56 million charge we recorded in 2000 to increase our reserves for structured settlement products as a result of our restructuring of the investment portfolio supporting these products to reduce the emphasis on equity investments. We recorded charges of $26 million in 2000 and $37 million in 1999 to establish reserves for guaranteed benefits on several separate account contracts. Results from this business continue to be affected by the scheduled runoff of our general account GIC business that we have experienced over the past several years. Losses from our full service defined contribution business were $42 million in 2000, relatively unchanged from $39 million in 1999.
1999 to 1998 Annual Comparison. Adjusted operating income declined by $70 million, or 20%, in 1999 from 1998. Adjusted operating income benefited $54 million in 1999 and $46 million in 1998 primarily from refinements in our calculation of annuity reserves. Excluding these changes, adjusted operating income declined by $78 million, or 26%, from $296 million in 1998 to $218 million in 1999. The decrease reflected a decline of $115 million in adjusted operating income from our guaranteed products business, which was negatively affected by a $37 million charge in 1999 to establish reserves for guaranteed benefits on several separate account contracts. The remainder of the decrease reflects the continuing scheduled runoff of our general account GIC business as noted above and a decline in mortgage prepayment fees received in 1999. The decrease in adjusted operating income from our guaranteed products business was partially offset by a $23 million decrease in losses from our full service defined contribution business, reflecting higher asset and participant-based fee revenues as a result of the growth of our full service defined contribution business and a reduced level of cost per participant. The results of our defined contribution business include commissions and selling costs that, for sales of products for which we are not reimbursed for these costs by future distribution fees and contingent deferred sales charges, we charge immediately to expense under GAAP (rather than capitalizing and recognizing over time) resulting in a loss in the year of sale.
Revenues
2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", decreased $158 million, or 7%, from the first nine months of 2000 to the first nine months of 2001. Net investment income decreased $95 million, or 5%, from $1.752 billion in the first nine months of 2000 to $1.657 billion in the first nine months of 2001 reflecting the gradual runoff of our general account products,
including general account GIC business, which we expect to continue. Premiums, policy charges and fees decreased $50 million, from $119 million in the first nine months of 2000 to $69 million in the first nine months of 2001, reflecting lower sales of general account group annuity products.
2000 to 1999 Annual Comparison. Revenues decreased $129 million, or 4%, from 1999 to 2000. Net investment income decreased $128 million, or 5%, from $2.460 billion in 1999 to $2.332 billion in 2000. The majority of this decline relates to the continued runoff of our general account GIC business. Fee-based revenue in 2000 was approximately equal to 1999, as the impact on 1999 revenues from $16 million in fees we earned in connection with our participation in the rehabilitation of another life insurance company was essentially offset by higher fee-based revenues resulting from growth in our full service defined contribution and real estate and relocation businesses in 2000.
1999 to 1998 Annual Comparison. Revenues decreased $244 million, or 7%, from 1998 to 1999. Net investment income decreased $270 million, or 10%, from $2.730 billion in 1998 to $2.460 billion in 1999. The majority of this decline relates to the runoff of our general account GIC business. The decline in investment income also reflects a decline in mortgage prepayment fees received in 1999. Fee-based revenue increased $17 million, or 4%, from $457 million in 1998 to $474 million in 1999, primarily as a result of growth of our full service defined contribution business.
Benefits and Expenses
2001 to 2000 Nine-Month Comparison. Benefits and expenses, as shown in the table above under "--Operating Results", decreased $47 million, or 2%, from the first nine months of 2000 to the first nine months of 2001. This decrease includes the effect of refinements in our annuity reserves in the first nine months of 2000 as noted above. Excluding this change, benefits and expenses decreased $83 million, or 4%. Policyholder benefits, including interest credited to policyholders, declined $54 million, from $1.474 billion in the first nine months of 2000 to $1.420 billion in the first nine months of 2001, primarily as a result of the continued runoff of our general account products, including general account GIC business, as noted above. In addition, interest expense decreased $26 million from the first nine months of 2000 to the first nine months of 2001 as a result of a lower level of investment-related borrowing and lower borrowing rates. Expenses of $29 million incurred during the first nine months of 2001 to consolidate the operating facilities of our real estate and relocation business partially offset these decreases.
2000 to 1999 Annual Comparison. Benefits and expenses decreased $86 million, or 3%, from 1999 to 2000. Interest credited to policyholders declined from $1.086 billion in 1999 to $1.024 billion in 2000, primarily as a result of the runoff of our general account GIC business as noted above. This decrease was essentially offset by the $56 million charge we recorded in 2000 to increase our reserves for structured settlement products. The remainder of the decrease came primarily from a decrease in policyholders' benefits, including the change in policy reserves, reflecting our maturing block of group annuity business.
1999 to 1998 Annual Comparison. Benefits and expenses decreased $174 million, or 6%, from 1998 to 1999. This decrease includes the changes in reserves from refinements in the reserve calculations for our annuity business as noted above, which reduced our expenses by $54 million in 1999 and $32 million in 1998. Excluding these changes, the decrease in total benefits and expenses was $152 million, or 5%. Interest credited to policyholders decreased $168 million, reflecting the attrition of our general account GIC business and a reduction in credited rates for a majority of our fixed rate defined contribution business. A $37 million charge in 1999 to establish reserves for guaranteed benefits on several separate account contracts partially offset this decrease.
Sales Results and Assets Under Management
The following table shows the changes in the account values and net sales of Other Employee Benefits segment products for the periods indicated. Net sales are total sales minus withdrawals or withdrawals and benefits, as applicable. As noted above under "--U.S. Consumer Division--Retail Investments--Sales Results and Assets Under Management", neither sales nor net sales are revenues under GAAP.
Nine Months
Ended
September 30, Year Ended December 31,
---------------- -------------------------
2001 2000 2000 1999 1998
------- ------- ------- ------- -------
(in millions)
Defined Contribution:
Beginning total account value..... $26,046 $25,788 $25,788 $21,527 $17,737
Sales............................. 2,907 4,032 5,439 4,736 4,939
Withdrawals....................... (2,784) (2,896) (3,937) (3,287) (2,585)
Change in market value and
interest credited................ (3,459) 205 (1,244) 2,812 1,436
------- ------- ------- ------- -------
Ending total account value....... $22,710 $27,129 $26,046 $25,788 $21,527
======= ======= ======= ======= =======
Net sales......................... $ 123 $ 1,136 $ 1,502 $ 1,449 $ 2,354
======= ======= ======= ======= =======
Guaranteed Products(1):
Beginning total account value..... $41,577 $41,757 $41,757 $45,560 $47,723
Sales............................. 1,866 1,604 2,024 1,951 2,511
Withdrawals and benefits.......... (3,569) (4,026) (5,279) (7,244) (9,487)
Change in market value and
interest income.................. 1,360 2,175 2,997 2,070 4,020
Other(2).......................... (2,226) 241 78 (580) 793
------- ------- ------- ------- -------
Ending total account value....... $39,008 $41,751 $41,577 $41,757 $45,560
======= ======= ======= ======= =======
Net sales......................... $(1,703) $(2,422) $(3,255) $(5,293) $(6,976)
======= ======= ======= ======= =======
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(1) Prudential's retirement plan accounted for 28% of sales in the nine months ended September 30, 2001, 26% of sales in the nine months ended September 30, 2000, 27% of sales for the year ended December 31, 2000, 28% for 1999 and 25% for 1998. Ending total account value includes assets of Prudential's retirement plan of $8.0 billion at September 30, 2001, $8.3 billion at September 30, 2000, $8.2 billion at December 31, 2000, $8.2 billion at December 31, 1999 and $7.8 billion at December 31, 1998.
(2) Changes in asset balances for externally managed accounts.
2001 to 2000 Nine-Month Comparison. Assets under management in our full service defined contribution business amounted to $22.7 billion at September 30, 2001, a decrease of $3.3 billion, or 13%, from December 31, 2000. This decrease is primarily due to a decline in market value of mutual funds reflecting the general downturn in the equity markets. In addition, net sales decreased $1.0 billion in the first nine months of 2001 from the first nine months of 2000, reflecting a decrease in new institutional clients.
Assets under management for guaranteed products amounted to $39.0 billion at September 30, 2001, a decrease of $2.6 billion, or 6%, from December 31, 2000. The decrease from December 31, 2000 is primarily due to a decrease in separate account annuity assets that reflected approximately $1.1 billion of withdrawals from externally managed accounts and $1.1 billion of annuity benefits.
As of September 30, 2001, our guaranteed products assets under management included $10.3 billion relating to non-participating group annuities and structured settlements that were sold predominantly in a high interest rate environment. Historically, we have actively managed the investment portfolios underlying these long-duration products to maximize economic value. This strategy has produced significant realized investment gains over the years; however, the reinvestment of sales proceeds in lower yielding assets has resulted in marginally profitable adjusted operating income on these products for the nine months ended September 30, 2001 and the three years ended December 31, 2000.
2000 to 1999 Annual Comparison. Assets under management in our full service defined contribution business were relatively unchanged at December 31, 2000 from a year earlier. Net sales benefited from increased participant contributions, reflecting an increased participant base. However, the $1.5 billion net sales in 2000 were largely offset by negative changes in market value of $1.2 billion resulting from poor performance in the equity markets.
Assets under management for guaranteed products at December 31, 2000 were also relatively unchanged from a year earlier. Although assets related to our general account GIC business continued to decline, reflecting the scheduled runoff of that business, this decrease was largely offset by an increase in our separate account annuity assets resulting primarily from market appreciation and interest income on fixed income investments. Withdrawals and benefits from guaranteed products for 2000 totaled $5.3 billion, $2.0 billion less than those of 1999, reflecting the declining volume of general account GIC contracts. Sales of guaranteed products increased $73 million over 1999, as an increase in separate account GICs and funding agreements more than offset a decline in traditional GICs.
1999 to 1998 Annual Comparison. Assets under management in our full service defined contribution business amounted to $25.8 billion at December 31, 1999, an increase of $4.3 billion, or 20%, from December 31, 1998. The increase is primarily due to market appreciation and interest credited of $2.8 billion, primarily due to market appreciation in equity funds, as well as net sales of $1.4 billion. Net sales in 1999 decreased by $905 million from 1998, reflecting the inclusion in 1998 results of a sale to one customer totaling $1.3 billion. Excluding the impact of this single sale in 1998, sales increased $1.1 billion, or 30%, in 1999 from 1998, which we believe reflects our offering of more competitive products. Net sales were also affected by a higher absolute level of withdrawals in 1999, although the rate of withdrawal compared to average assets under management was consistent with prior years.
Assets under management for guaranteed products decreased $3.8 billion, or 8%, from December 31, 1998. The decrease is primarily a result of a $1.7 billion decrease in separate account annuity assets, a $1.0 billion decrease in assets related to our general account GIC business and withdrawals from our synthetic and separate account GIC business. The decrease in separate account annuity assets came primarily from scheduled annuity benefits. The decrease in general account GIC assets reflected the continued scheduled runoff of that business. Withdrawals and benefits from guaranteed products for 1999 totaled $7.2 billion, $2.2 billion or 24% less than those of 1998, reflecting the declining volume of remaining general account GIC contracts. Sales of guaranteed products in 1999 were $560 million or 22% lower than 1998, primarily due to a decrease in sales of floating rate non-traditional GIC products.
International Division
The International division generates revenues from premiums and investment income through our International Insurance segment and from commissions, asset management fees and investment income from the international securities and futures brokerage and trading operations that comprise our International Securities and Investments segment. We include the asset management fees and commissions from these operations in the line captioned "commissions and other income" in our consolidated statement of operations.
The International Insurance and International Securities and Investments segments pay the expenses of their own proprietary sales forces, consisting of Life Planners, Life Advisors, and Financial Advisors, for distribution of products.
Our international operations conduct their business primarily in local currencies and, accordingly, fluctuations in foreign currency exchange rates, net of the impact of our hedging strategies, affect the profitability of these operations in our consolidated financial statements. For a discussion of our currency hedging strategies, see "--Risk Management, Market Risk and Derivative Instruments--Market Risk--Other Than Trading Activities--Market Risk Related to Foreign Currency Exchange Rates".
In addition, we must manage our risk in connection with principal transactions associated with the international and futures operations of the International Securities and Investments segment. The liquidity of markets and transactional volume, the level and volatility of interest rates, security and currency valuations, competitive conditions and other factors also affect our revenues and profitability. See "--Overview--Profitability".
Division Results
The following table and discussion present the International division's results based on our definition of "adjusted operating income," which is a non-GAAP measure, as well as income from continuing operations before income taxes, which is prepared in accordance with GAAP. As shown below, adjusted operating income excludes realized investment gains, net of losses and related charges. The excluded items are important to an
understanding of our overall results of operations. You should not view adjusted operating income as a substitute for income from continuing operations determined in accordance with GAAP, and you should note that our definition of adjusted operating income may differ from that used by other companies. However, we believe that the presentation of adjusted operating income as we measure it for management purposes enhances the understanding of our results of operations by highlighting the results from ongoing operations and the underlying profitability factors of our businesses. We exclude realized investment gains, net of losses and related charges, from adjusted operating income because the timing of transactions resulting in recognition of gains or losses is largely at our discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of our businesses.
Nine Months
Ended
September 30, Year Ended December 31,
-------------- ------------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Division operating results:
Revenues(1)........................... $3,369 $1,953 $ 2,624 $ 2,102 $ 1,622
Benefits and expenses................. 2,971 1,691 2,302 1,869 1,465
------ ------ ------- ------- -------
Adjusted operating income............. $ 398 $ 262 $ 322 $ 233 $ 157
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Adjusted operating income by segment:
International Insurance............... $ 439 $ 211 $ 296 $ 218 $ 144
International Securities and
Investments.......................... (41) 51 26 15 13
------ ------ ------- ------- -------
Total............................... 398 262 322 233 157
Items excluded from adjusted operating
income:
Realized investment gains, net of
losses and related charges:
Realized investment gains, net of
losses............................... 17 20 (15) 9 9
Related charges(2).................... (10) -- -- -- --
------ ------ ------- ------- -------
Total realized investment gains, net
of losses and related charges...... 7 20 (15) 9 9
------ ------ ------- ------- -------
Income from continuing operations
before income taxes................... $ 405 $ 282 $ 307 $ 242 $ 166
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2001 to 2000 Nine-Month Comparison. Adjusted operating income of our International division increased $136 million, or 52%, in the first nine months of 2001 from the first nine months of 2000. The increase came from an increase of $228 million in adjusted operating income from our International Insurance segment, including $185 million from Gibraltar Life which we acquired in 2001, as discussed below. This increase was partially offset by a $92 million decline in adjusted operating income from our International Securities and Investments segment. Income from continuing operations before income taxes increased by $123 million, or 44%, in the first nine months of 2001 from the first nine months of 2000 as a result of the increase in adjusted operating income.
2000 to 1999 Annual Comparison. Adjusted operating income of our International division increased $89 million, or 38%, in 2000 from 1999 due to increases in both segments in the division. Income from continuing operations before income taxes increased $65 million, or 27%, in 2000 from 1999. The increase came from the $89 million increase in adjusted operating income, which was partially offset by a $24 million decrease in realized investment gains, net of losses. For a discussion of realized investment gains and losses, and charges related to realized investment gains and losses, see "-- Consolidated Results of Operations--Realized Investment Gains".
1999 to 1998 Annual Comparison. Adjusted operating income of our International division increased $76 million, or 48%, from 1998 to 1999. The increase came primarily from an increase in adjusted operating income of $74 million from our International Insurance segment. Income from continuing operations before income taxes increased by $76 million, or 46%, from 1998 to 1999 as a result of the increase in adjusted operating income.
International Insurance
Our international insurance operations are subject to currency fluctuations that can materially impact the U.S. dollar results of our international insurance operations from period to period even if results on a local currency basis are relatively constant. Exchange rates fluctuated significantly in the first nine months of 2001 and the three years ended December 31, 2000. The financial results of our International Insurance segment reflect the impact of our currency hedging strategies including internal hedges, whereby some currency fluctuation exposure is assumed in our Corporate and Other operations. Unless otherwise stated, we have translated all information in this section on the basis of exchange rates in accordance with GAAP. To achieve a better understanding of local operating performance, where indicated below, we analyze results both on the basis of GAAP translated results and on the basis of local results translated at a constant exchange rate. When we discuss constant exchange rate information below, we translated on the basis of the average exchange rates for the year ended December 31, 2000.
Operating Results
The following table sets forth the International Insurance segment's operating results for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
------------- -----------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Operating results:
Revenues(1):
International Insurance, excluding
Gibraltar Life........................ $1,555 $1,408 $ 1,920 $ 1,522 $ 1,090
Gibraltar Life......................... 1,401 -- -- -- --
------ ------ ------- ------- -------
2,956 1,408 1,920 1,522 1,090
------ ------ ------- ------- -------
Benefits and expenses(2):
International Insurance, excluding
Gibraltar Life........................ 1,301 1,197 1,624 1,304 946
Gibraltar Life......................... 1,216 -- -- -- --
------ ------ ------- ------- -------
2,517 1,197 1,624 1,304 946
------ ------ ------- ------- -------
Adjusted operating income............... $ 439 $ 211 $ 296 $ 218 $ 144
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Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. Adjusted operating income increased $228 million from the first nine months of 2000 to the first nine months of 2001. Results of Gibraltar Life, which we include in our results from April 2, 2001, the date of the reorganization, through August 31, 2001, contributed $185 million to the increase in adjusted operating income. The International Insurance segment reported adjusted operating income of $202 million for the third quarter of 2001, including $126 million from Gibraltar Life.
The $185 million adjusted operating income reported by Gibraltar Life reflected revenues of $1.401 billion and benefits and expenses of $1.216 billion. Gibraltar Life's revenues were comprised primarily of $1.202 billion of premiums, policy charges and fees, and $197 million net investment income, and its benefits and expenses were comprised primarily of $953 million of policy benefits including changes in reserves and $260 million of operating expenses. As a result of Gibraltar Life's recent emergence from reorganization proceedings and the reduction in benefits for in force policies, when we established Gibraltar Life's initial liability for future policy benefits, we assumed a higher than normal level of policy surrenders for the near term. Our surrender rate assumptions for Gibraltar Life's years of operations, commencing at the date of reorganization, are 6% in the first year and 4% thereafter for paid-up policies and 2% to 38% in the first year, 3% to 14% in the second year, and 6% to 10% thereafter for premium paying policies, although the actual surrender rates we experience may differ materially from our assumptions. Gibraltar Life's adjusted operating income for the initial five-month period included in our results benefited from gains on policy surrenders of about $50 million. Substantially all of this contribution to adjusted operating income resulted from a high level of surrenders due to customer response
to the initial impact of policy changes introduced as part of Gibraltar Life's reorganization. These surrenders, which are significantly greater than the level we expect on an ongoing basis, are not anticipated to have a material adverse impact on future results from Gibraltar Life. Future surrender experience in the near term may be significantly different from the levels we assumed, and our future adjusted operating income will be sensitive to differences in actual surrender experience from our assumptions, particularly during an initial period of about two years from the date of reorganization. We estimate that every 1% of in force policies that surrender in excess of our assumed level would contribute $40 to $50 million to our adjusted operating income for the period of the surrenders, and conversely that for every 1% of in force policies that surrender below our assumed level, our reported adjusted operating income would be negatively affected by $40 to $50 million.
Adjusted operating income, excluding the impact of the Gibraltar Life acquisition discussed above, increased $43 million, or 20%, from the first nine months of 2000 to the first nine months of 2001. Adjusted operating income for the first nine months of 2001 benefited $8 million from a refinement in the methodology used to calculate reserves in our Korean operations. Excluding this item, adjusted operating income increased $35 million, or 17%. The increase came from improved results both from our operations in countries other than Japan and our Japanese insurance operations. Our operations in countries other than Japan produced break-even results for the first nine months of 2001, excluding the reserve refinement, compared to an operating loss of $19 million for the first nine months of 2000, as increased profits from our operations in Korea and Taiwan offset continued costs associated with our expansion into additional countries. Our Japanese insurance operations reported continuing improved results, with adjusted operating income of $246 million in the first nine months of 2001 compared to $230 million in the first nine months of 2000, due to strong persistency and new sales, partially offset by less favorable mortality experience during the first half of the year.
The segment's increase in adjusted operating income includes the unfavorable effect of year over year fluctuations in currency exchange rates as well as the impact of our hedging at expected exchange rates. On a constant exchange rate basis and excluding the impact of currency hedging, adjusted operating income, including results of Gibraltar Life, increased $272 million.
2000 to 1999 Annual Comparison. Adjusted operating income increased $78 million, or 36%, from 1999 to 2000. The increase resulted from continuing improved results from our Japanese insurance operations, from $240 million in 1999 to $315 million in 2000, which experienced continued growth in insurance in force due to strong persistency and new sales. Our operations in countries other than Japan resulted in operating losses of $19 million in 2000 and $22 million in 1999, as improved operating income from our Korean insurance operations was partially offset by increased costs associated with our expansion into additional countries. The segment's increase in adjusted operating income includes the favorable effect of year over year fluctuations in currency exchange rates as well as the impact of our hedging at expected exchange rates. On a constant exchange rate basis and excluding the impact of currency hedging, adjusted operating income increased $45 million, or 19%.
1999 to 1998 Annual Comparison. Adjusted operating income increased $74 million, or 51%, from 1998 to 1999. The increase resulted primarily from continuing improved results from our Japanese operations, from $161 million in 1998 to $240 million in 1999, which experienced continued growth in insurance in force due to increased sales and favorable persistency as well as improved mortality experience, partially offset by costs associated with expanding operations to other countries. Our operations in countries other than Japan resulted in operating losses of $22 million in 1999 and $17 million in 1998. The increase in these operating losses reflected higher costs associated with our expansion into additional countries. The segment's increase in adjusted operating income includes the favorable effect of year over year fluctuations in currency exchange rates as well as the impact of our hedging at expected exchange rates. On a constant exchange rate basis and excluding the impact of currency hedging, adjusted operating income increased $70 million, or 43%.
Revenues
2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", increased $1.548 billion from the first nine months of 2000 to the first nine months of 2001, including $1.401 billion from Gibraltar Life. Excluding the impact of the Gibraltar Life acquisition, revenues increased $147 million, or 10%, from the first nine months of 2000 to the first nine months of 2001. The $147 million increase in revenues came primarily from an increase in premium income of $116 million, or 9%, from $1.235 billion in the first nine months of 2000 to $1.351 billion in the first nine months of 2001. Premiums from our Korean operations increased $69 million, from $132 million in the first nine months of 2000 to $201 million in
the first nine months of 2001, as a result of increased sales and strong persistency. Premiums in all other countries increased $47 million, from $1.103 billion in the first nine months of 2000 to $1.150 billion in the first nine months of 2001, primarily as a result of continued strong persistency and new sales in Japan and Taiwan. On a constant exchange rate basis and excluding the impact of currency hedging, total segment revenues increased $1.914 billion, from the first nine months of 2000 to the first nine months of 2001.
2000 to 1999 Annual Comparison. Revenues increased $398 million, or 26%, from 1999 to 2000. The growth in revenues came primarily from an increase in premium income of $335 million, from $1.345 billion in 1999 to $1.680 billion in 2000. Premiums from our Japanese operations increased $227 million, from $1.167 billion in 1999 to $1.394 billion in 2000, as a result of continued strong persistency and new sales, as well as the favorable impact of currency exchange fluctuations. Premiums in all other countries increased $108 million, from $178 million in 1999 to $286 million in 2000, primarily as a result of increased sales and strong persistency in Korea and Taiwan. Net investment income increased $30 million, from $99 million in 1999 to $129 million in 2000, as a result of the growth in invested assets related to the increase in our business in force. On a constant exchange rate basis and excluding the impact of currency hedging, revenues increased $306 million, or 19%, from 1999 to 2000.
1999 to 1998 Annual Comparison. Revenues increased $432 million, or 40%, from 1998 to 1999. The growth in revenues came primarily from an increase of $386 million, or 40%, in premium income, from $959 million in 1998 to $1.345 billion in 1999. Premiums in Japan increased $312 million, from $855 million in 1998 to $1.167 billion in 1999, as a result of growth in sales and continued strong persistency as well as the favorable impact of currency exchange fluctuations. Premiums in all other countries increased $74 million, from $104 million in 1998 to $178 million in 1999, primarily as a result of growth in business and new sales in Korea and Taiwan. Net investment income increased $34 million, from $65 million in 1998 to $99 million in 1999, as a result of the growth in invested assets related to the increase in our business in force. On a constant exchange rate basis and excluding the impact of currency hedging, revenues increased $302 million, or 23%.
Benefits and Expenses
2001 to 2000 Nine-Month Comparison. Benefits and expenses, as shown in the table above under "--Operating Results", increased $1.320 billion from the first nine months of 2000 to the first nine months of 2001, including $1.216 billion from Gibraltar Life. Excluding the impact of the Gibraltar Life acquisition, benefits and expenses increased $104 million, or 9%, from the first nine months of 2000 to the first nine months of 2001. The $104 million increase in benefits and expenses came primarily from an increase of $81 million in policyholders' benefits, which includes the change in reserves for future policy benefits. Policyholders' benefits increased from $941 million in the first nine months of 2000 to $1.022 billion in the first nine months of 2001, primarily as a result of the greater volume of business in force, which was driven by new sales, continued strong persistency and the aging of business in force in markets where our operations are more mature. On a constant exchange rate basis, total segment benefits and expenses increased $1.643 billion.
2000 to 1999 Annual Comparison. Benefits and expenses increased $320 million, or 25%, from 1999 to 2000. The increase in benefits and expenses came primarily from an increase of $235 million in policyholders' benefits, which includes the change in reserves for future policy benefits. Policyholders' benefits increased from $1.032 billion in 1999 to $1.267 billion in 2000, primarily as a result of the greater volume of business in force, which was driven by new sales and continued strong persistency, as well as the aging of business in force in markets where our operations are more seasoned. The remaining increase in benefits and expenses of $85 million reflected the increase in administrative expenses associated with the greater volume of business in force and increased expenses related to opening additional agencies in existing markets and expansion into new markets. On a constant exchange rate basis, benefits and expenses increased $261 million, or 19%.
1999 to 1998 Annual Comparison. Benefits and expenses increased $358 million, or 38%, from 1998 to 1999. The increase in benefits and expenses came primarily from an increase of $287 million in policyholders' benefits, which includes the change in reserves for future policy benefits. Policyholders' benefits increased from $745 million in 1998 to $1.032 billion in 1999 primarily as a result of the greater volume of business in force. The remaining increase came primarily from administrative expenses associated with the growth of business in force and expenses related to our expansion into additional countries. On a constant exchange rate basis, benefits and expenses increased $233 million, or 21%.
Sales Results
In managing our international insurance business, we analyze new annualized premiums, which do not correspond to revenues under GAAP, as well as revenues, because new annualized premiums measure the current sales performance of the business unit, while revenues reflect the renewal persistency and aging of in force policies written in prior years and net investment income in addition to current sales.
2001 to 2000 Nine-Month Comparison. New annualized premiums increased $149 million, or 43%, from $347 million in the first nine months of 2000 to $496 million in the first nine months of 2001, including $54 million from Gibraltar Life and reflecting the unfavorable impact of currency exchange rate fluctuations. On a constant exchange rate basis, new annualized premiums increased $214 million, or 62%, from the first nine months of 2000 to the first nine months of 2001, including $62 million from Gibraltar Life. On that basis, new annualized premiums from our operations other than Gibraltar Life increased $152 million, or 44%. The $152 million increase included $74 million from our existing operation in Japan, reflecting an increase in the number of Life Planners from 1,770 at September 30, 2000 to 1,944 at September 30, 2001 as well as $28 million of new annualized premiums sold by the Gibraltar Life sales force for our existing operation prior to the acquisition date. After that date, the Gibraltar Life sales force has distributed only Gibraltar products. For all countries other than Japan, also on a constant exchange rate basis, new annualized premiums increased $78 million, or 77%, with $73 million of the increase coming from our operations in Korea and Taiwan. The increase in countries other than Japan reflects an increase in the number of Life Planners, from 1,598 at September 30, 2000 to 2,055 at September 30, 2001 as well as an increase in Life Planner productivity.
2000 to 1999 Annual Comparison. New annualized premiums increased $111 million, or 28%, from $398 million in 1999 to $509 million in 2000, including the favorable impact of currency exchange fluctuations. On a constant exchange rate basis, new annualized premiums increased $93 million, or 22%. For all countries other than Japan, on a constant exchange rate basis, new annualized premiums increased $51 million, or 52%, with $44 million of the increase coming from our operations in Korea and Taiwan. The increase in countries other than Japan reflects an increase in the number of Life Planners, from 1,203 at December 31, 1999 to 1,684 at December 31, 2000, which we attribute to our recruitment program and retention of existing Life Planners. New annualized premiums in Japan, on a constant exchange rate basis, increased $42 million, or 13%, reflecting an increase in the number of Life Planners from 1,681 at December 31, 1999 to 1,811 at December 31, 2000. As discussed below under "--Investment Margins and Other Profitability Factors", in April 1999 Japanese regulators approved a reduction in the required interest rates for most of the products we sell due to the low interest rate environment in that country. We believe that customer purchases of life insurance in 1999 in anticipation of this change before it was implemented benefited 1999 sales, partially offsetting the impact of additional Life Planners in 2000.
1999 to 1998 Annual Comparison. New annualized premiums increased $128 million, or 47%, from $270 million in 1998 to $398 million in 1999, including the favorable impact of currency exchange fluctuations. On a constant exchange rate basis, new annualized premiums increased $92 million, or 28%. In Japan, new annualized premiums on a constant exchange rate basis increased $47 million, or 17%, from 1998 to 1999. For all other countries combined, also on a constant exchange rate basis, new annualized premiums increased $45 million, or 83%, with $33 million of the increase from our operations in Korea. These increases are primarily a result of new business generated by increased numbers of Life Planners.
Investment Margins and Other Profitability Factors
Many of our insurance products sold in international markets provide for the buildup of cash values for the policyholder at mandated guaranteed interest rates. The spread between the actual investment returns and these guaranteed rates of return to the policyholder is an element of the profit or loss that we will experience on these products. Interest rates guaranteed in our Japanese insurance contracts are regulated by Japanese authorities. Between July 1, 1996 and April 1, 1999, we guaranteed premium rates using an interest rate of 3.1% on most of the products we sell even though the yield on Japanese government and high-quality corporate bonds was less than that much of this time. This resulted in some negative investment spreads over this period. As a consequence, our profitability with respect to these products in Japan during that period resulted primarily from margins on mortality charges and expenses. In response to the low interest rate environment, Japanese regulators approved a reduction in the required rates for most of the products we sell to 2.35% in April of 1999, which has allowed us to charge higher premiums on new business for the same amount of insurance. While this has also resulted in an improvement in investment spreads, the profitability of these products in Japan continues to result
primarily from margins on mortality charges and expenses. In 2001, Japanese regulators approved further reductions in the required interest rates applicable to most of the products we sell. As a result, we increased premium rates on most of our products sold in Japan when the new rates were implemented, in April 2001 for some products and in October 2001 for other products. Additionally, interest rates on our guaranteed products sold in Korea are regulated by Korean authorities, who implemented, in April 2001, a reduction in the required rates for most of the products we sell, allowing us to charge higher premiums on new business for the same amount of insurance. While these actions enhance our ability to set rates commensurate with available investment returns, the major sources of profitability on our products in Korea, as in Japan, are margins from mortality and expense charges rather than investment spreads.
We base premiums and cash values in the countries in which we operate on mandated mortality tables. Our mortality experience in the International Insurance segment on an overall basis for the nine months ended September 30, 2001 and the years ended December 31, 2000, 1999 and 1998 was well within our pricing assumptions and below the guaranteed levels reflected in the premiums we charge.
International Securities and Investments
Operating Results
The following table sets forth the International Securities and Investments segment's operating results for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
-------------- -----------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Operating results:
Revenues............................... $413 $ 545 $ 704 $ 580 $ 532
Expenses............................... 454 494 678 565 519
------ ------ ------- ------- -------
Adjusted operating income.............. $ (41) $ 51 $ 26 $ 15 $ 13
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Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. The International Securities and Investments segment reported a pre-tax loss of $41 million, on an adjusted operating income basis, for the first nine months of 2001 compared to adjusted operating income of $51 million for the first nine months of 2000. The $92 million decrease came from our international securities operations, including our futures operations, reflecting the slowdown in equity markets which began after the early part of 2000. In addition, adjusted operating income for the first nine months of 2000 benefited from a $21 million gain from our interest in the conversion of London Stock Exchange and Hong Kong Stock and Futures Exchange seats into listed shares and trading rights. Losses from our international investments operations amounted to $26 million in the first nine months of 2001 and $31 million in the first nine months of 2000, as increased expenses from the expansion of this developing business essentially offset its revenue growth. The International Securities and Investments segment reported a loss of $22 million on an adjusted operating income basis, for the third quarter of 2001.
2000 to 1999 Annual Comparison. Adjusted operating income increased $11 million from 1999 to 2000. Adjusted operating income from our international securities operations, including our futures operations, increased $30 million in 2000 from 1999, including a $21 million gain in 2000 from our interest in the conversion of stock exchange seats as discussed above. Our international securities operations benefited from continued active U.S. equity markets, particularly during the early part of 2000. An $11 million decline in adjusted operating income from our futures operations due to reduced volatility in the global commodity and foreign exchange markets in 2000 was a partial offset. Losses from our international investments operations increased $19 million, from $32 million in 1999 to $51 million in 2000, reflecting increased expenses from the expansion of this developing business.
1999 to 1998 Annual Comparison. Adjusted operating income was essentially unchanged in 1999 from 1998. Adjusted operating income from our international securities operations, including our futures operations, increased $26 million in 1999 from 1998. Our international securities operations benefited from active U.S. equity markets, and 1998 results for these operations include a loss of $28 million from the sale and final closure
of our Australian securities operations. A $26 million decline in adjusted operating income from our futures operations, resulting primarily from the introduction of the Euro which decreased activity in the global foreign exchange markets in 1999, was a partial offset. Losses from our international investments operations increased $24 million, from $8 million in 1998 to $32 million in 1999, reflecting increased expenses from the expansion of this developing business.
Revenues
2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", decreased $132 million, or 24%, from the first nine months of 2000 to the first nine months of 2001. The decrease came from a $154 million decrease in revenues from our international securities operations, which include our futures operations. The $154 million decrease came primarily from lower commission revenues associated with reduced transaction volume, reflecting the less active equity markets in comparison to the first nine months of 2000 which benefited from exceptionally active equity markets in the early part of the year. In addition, revenues for the first nine months of 2000 included the $21 million gain from our interest in the conversion of stock exchange seats as noted above. Revenues from our international investments operations increased $22 million, primarily from asset management fees and commissions earned by recently acquired units.
2000 to 1999 Annual Comparison. Revenues increased $124 million, or 21%, from 1999 to 2000. The increase came primarily from a $106 million increase in revenues from our international securities operations. The increase reflected higher commission revenues associated with increased transaction volume, primarily due to active U.S. equity markets particularly during the early part of 2000, higher fee revenues from a London-based broker and asset manager that we acquired in 1999, and the $21 million gain from our interest in the conversion of stock exchange seats as noted above. The increase in revenues also reflects an increase in the number of international Financial Advisors to 620 at December 31, 2000 from 577 a year earlier. The remainder of the increase in revenues came from our international investments operations, reflecting their expansion as noted above.
1999 to 1998 Annual Comparison. Revenues increased $48 million, or 9%, from 1998 to 1999. Revenues for 1998 include $21 million related to the Australian securities operations, which were closed in the fourth quarter of 1998. Excluding the impact of 1998 revenues of the Australian securities operations, revenues increased by $69 million, or 14%, from $511 million in 1998 to $580 million in 1999. This increase was primarily driven by an $84 million increase in revenues from the remaining international securities operations, reflecting increased transaction volume primarily associated with active U.S. equity markets, and growth in assets under management and client assets of approximately $9 billion which included nearly $4 billion of assets under management and client assets of a London-based broker and asset manager that we acquired in 1999. The increases in assets under management and client assets, and revenues, reflected an increase in the number of international Financial Advisors from 456 at the end of 1998 to 577 at the end of 1999. A $20 million decrease in revenues from our futures operations, due to lower levels of activity in the global foreign exchange markets in 1999, partially offset the increased revenues from international securities operations.
Expenses
2001 to 2000 Nine-Month Comparison. Expenses, as shown in the table above under "--Operating Results", decreased $40 million, or 8%, from the first nine months of 2000 to the first nine months of 2001. Expenses of our international securities operations decreased $57 million, due primarily to decreases in revenue-based compensation costs. Expenses of our international investments operations increased $17 million, reflecting expenses from recently acquired units.
2000 to 1999 Annual Comparison. Expenses increased $113 million, or 20%, from 1999 to 2000. Expenses of our international securities operations increased $76 million, primarily as a result of increased compensation paid to Financial Advisors on higher commission revenues, increased formula-based and incentive compensation on higher revenues and earnings, increased expenses from a London-based broker and asset manager that we acquired in 1999 and costs to expand our securities operations in Asia and Latin America. Expenses of our international investment operations increased $37 million, reflecting expenses from the development of this business.
1999 to 1998 Annual Comparison. Expenses increased $46 million, or 9%, from 1998 to 1999. Expenses for 1998 included approximately $50 million related to the Australian securities operations, which were closed
in the fourth quarter of 1998. Excluding the impact of 1998 expenses of the Australian securities operations, expenses increased $96 million, or 20%, from $469 million in 1998 to $565 million in 1999. The increase was primarily driven by a $59 million increase from our remaining international securities operations, reflecting higher compensation paid to Financial Advisors on higher commission revenues, increased formula-based and incentive compensation on higher revenues and earnings, and expansion of our product, distribution and research capabilities, including the acquisition noted above. Expenses of our international investment operations increased $29 million, reflecting expenses from the development of this business.
Asset Management Division
The Asset Management division, through our Investment Management and Advisory Services segment, receives asset-based management fees from the businesses of the U.S. Consumer and Employee Benefits divisions, from third parties, and also from the Traditional Participating Products segment. The Other Asset Management segment includes our commercial mortgage securitization operations and investment research activities supporting our Private Client Group operations. This segment also participates in securities underwritings where our research efforts are attractive to issuers and lead underwriters, engages in equity securities sales and trading, manages our hedge portfolios, and engages in proprietary investments and syndications. We include the division's asset-based management fees in the line captioned "commissions and other income" in our consolidated statement of operations.
The Asset Management division pays the expenses of its own portfolio managers for asset management and the expenses of its own proprietary sales force for distribution of products to third parties.
Profitability of the Asset Management division depends primarily on our ability to develop and retain a base of assets under management, both through the U.S. Consumer and Employee Benefits divisions and directly from third parties, on which we can earn asset-based fees, and to manage the level of expenses incurred in the management of those assets. We generally base asset management fees on the market value of the underlying assets and, accordingly, profitability varies as these market values change due to external factors, such as securities market conditions and interest rates and other factors that may affect the values of particular investments. We also earn transaction- based and performance-based fees which depend on such external factors. In addition, revenue streams, including mark-to-market adjustments, from our commercial mortgage securitizations and hedge portfolios are subject to market fluctuations.
Division Results
The following table sets forth the Asset Management division's results for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
-------------- -------------------------
2001 2000 2000 1999 1998
------ ------- -------- -------- -------
(in millions)
Division operating results:
Revenues(1).......................... $931 $ 1,005 $ 1,344 $ 1,137 $ 993
Benefits and expenses................ 776 769 1,068 885 827
----- ------- -------- -------- ------
Adjusted operating income............ $155 $ 236 $ 276 $ 252 $ 166
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Adjusted operating income by segment:
Investment Management and Advisory
Services............................ $91 $ 128 $ 154 $ 155 $ 144
Other Asset Management............... 64 108 122 97 22
----- ------- -------- -------- ------
Total.............................. 155 236 276 252 166
Items excluded from adjusted operating
income:
Realized investment gains, net of
losses.............................. (8) 2 1 1 1
----- ------- -------- -------- ------
Income from continuing operations
before income taxes.................. $147 $ 238 $ 277 $ 253 $ 167
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2001 to 2000 Nine-Month Comparison. Adjusted operating income of our Asset Management division decreased $81 million, or 34%, in the first nine months of 2001 from the first nine months of 2000, due to declines from both segments in the division. Income from continuing operations before income taxes decreased $91 million, or 38%, primarily as a result of the decrease in adjusted operating income.
2000 to 1999 Annual Comparison. Adjusted operating income of our Asset Management division increased $24 million, or 10%, in 2000 from 1999, due to an increase from the Other Asset Management segment. Income from continuing operations before income taxes increased $24 million, or 9%, as a result of the increase in adjusted operating income.
1999 to 1998 Annual Comparison. Adjusted operating income of our Asset Management division increased $86 million, or 52%, in 1999 from 1998, primarily due to an increase of $75 million from the Other Asset Management segment. Income from continuing operations before income taxes increased $86 million, or 51%, as a result of the increase in adjusted operating income.
Investment Management and Advisory Services
Operating Results
The following table sets forth the Investment Management and Advisory Services segment's operating results for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
------------- -----------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Operating results:
Revenues(1)............................. $618 $ 647 $ 874 $ 768 $ 740
Expenses................................ 527 519 720 613 596
------ ------ ------- ------- -------
Adjusted operating income............... $ 91 $ 128 $ 154 $ 155 $ 144
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Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. Adjusted operating income decreased $37 million, or 29%, from the first nine months of 2000 to the first nine months of 2001, due primarily to lower earnings from asset management resulting from declines in market value of the underlying assets on which our fees are based.
2000 to 1999 Annual Comparison. Adjusted operating income was flat from 1999 to 2000. Although revenues increased, the increase was essentially offset primarily by expenses related to the consolidation of substantially all of our public equity management capabilities into our Jennison unit.
1999 to 1998 Annual Comparison. Adjusted operating income increased $11 million, or 8%, from 1998 to 1999. The increase resulted primarily from increased revenues from management of institutional and retail customer assets, reflecting growth in assets under management partially offset by a decline in revenues from management of our general account and increased expenses associated with the expansion of our asset management capabilities and compensation charges that are linked to revenues.
Revenues
The following table sets forth the Investment Management and Advisory Services segment's revenues, as shown in the table above under "--Operating Results", by source for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
------------- -----------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Revenues:
Retail customers(1)...................... $ 159 $ 186 $ 244 $ 225 $ 203
Institutional customers.................. 294 297 409 322 296
General account.......................... 165 164 221 221 241
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Total revenue.......................... $ 618 $ 647 $ 874 $ 768 $ 740
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2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", decreased $29 million, or 4%, from the first nine months of 2000 to the first nine months of 2001. The decrease was principally a result of a decline of $27 million, or 15%, in revenues from management of retail customer assets, primarily as a result of market value declines on publicly traded equity securities which resulted in a lower average level of assets under management.
2000 to 1999 Annual Comparison. Revenues increased $106 million, or 14%, from 1999 to 2000. The increase was principally a result of an $87 million increase in revenues from management of institutional customer assets, which included $32 million of mortgage origination and servicing revenues from a subsidiary we acquired in 2000. The remainder of the increase came primarily from a $25 million performance incentive fee as well as increased revenue from our real estate and private equity advisory businesses.
1999 to 1998 Annual Comparison. Revenues increased $28 million, or 4%, from 1998 to 1999. Increases of $26 million from management of institutional customer assets, primarily from our real estate advisory business, and $22 million from management of retail customer assets were partially offset by a $20 million decline in revenues from management of our general account assets due to a decline in market value of fixed income securities from rising interest rates as well as net asset outflows.
Expenses
2001 to 2000 Nine-Month Comparison. Expenses, as shown in the table above under "--Operating Results", increased $8 million, or 2%, from the first nine months of 2000 to the first nine months of 2001, primarily due to expenses related to the mortgage origination and servicing activities of the subsidiary we acquired in June 2000.
2000 to 1999 Annual Comparison. Expenses increased $107 million, or 17%, from 1999 to 2000. The increase reflected approximately $40 million of expenses related to the consolidation of substantially all of our public equity management capabilities into our Jennison unit and $24 million of expenses related to the mortgage origination and servicing activities of the subsidiary we acquired in 2000. The remainder of the increase came primarily from compensation charges that are linked to revenues and costs to expand our domestic and European proprietary investment activities.
1999 to 1998 Annual Comparison. Expenses increased $17 million, or 3%, from 1998 to 1999, primarily as a result of increased expenses associated with the expansion of our domestic and international asset management capabilities and compensation charges that are linked to revenues.
Other Asset Management
Operating Results
The following table sets forth the Other Asset Management segment's operating results for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
------------- -----------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Operating results:
Revenues................................ $ 313 $ 358 $ 470 $ 369 $ 253
Expenses................................ 249 250 348 272 231
------ ------ ------- ------- -------
Adjusted operating income............... $ 64 $ 108 $ 122 $ 97 $ 22
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Adjusted Operating Income
2001 to 2000 Nine-Month Comparison. Adjusted operating income decreased $44 million, or 41%, in the first nine months of 2001 from the first nine months of 2000. The decrease came from a $42 million decrease from our equity sales and trading operations, reflecting a decline in our revenues from principal trading activities supporting retail and institutional customers. Results from our commercial mortgage securitization operations and hedge portfolios were essentially unchanged. As of September 30, 2001, the hedge portfolios held assets, including both principal positions and securities financing positions, of approximately $4.0 billion, compared to $7.9 billion at December 31, 2000.
2000 to 1999 Annual Comparison. Adjusted operating income increased $25 million, or 26%, from 1999 to 2000. The increase came primarily from a $26 million increase in adjusted operating income from our equity sales and trading operations, from $54 million in 1999 to $80 million in 2000, primarily due to increased trading volume in the equity markets during the first four months of 2000. Results from our commercial mortgage securitization operations and hedge portfolios were essentially unchanged in 2000 from 1999. As of December 31, 2000, the hedge portfolios held assets, including both principal positions and securities financing positions, of approximately $7.9 billion, compared to $5.9 billion a year earlier.
1999 to 1998 Annual Comparison. Adjusted operating income increased $75 million from 1998 to 1999. The increase came from improvements in adjusted operating income from each of the segment's business lines. The commercial mortgage securitization operations produced $41 million of the increase, with an additional $21 million from our hedge portfolios.
Our commercial mortgage securitization operation reported adjusted operating income of $22 million for 1999, which came primarily from market value increases on financial instruments used to hedge the value of mortgages in inventory due to tightening of credit spreads and a rise in interest rates, compared to $19 million of losses in 1998.
The hedge portfolios initiated investing activities during the second quarter of 1998 and had no significant results during 1998. The portfolios' trading strategies resulted in adjusted operating income of $21 million in 1999. At December 31, 1999, the portfolios held assets, including both principal positions and securities financing positions, of approximately $5.9 billion, compared to $3.9 billion a year earlier.
Revenues
2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", decreased $45 million, or 13%, from the first nine months of 2000 to the first nine months of 2001. The decrease came from a $50 million decline in revenues from our equity sales and trading operations, from $303 million in the first nine months of 2000 to $253 million in the first nine months of 2001. Revenues in the first nine months of 2001 were negatively affected by reduced revenues from principal trading supporting retail and institutional customers, while the first nine months of 2000 benefited from exceptionally active equity securities markets during the first four months of the year. The reduced principal trading revenues we experienced in the first nine months of 2001 reflected lower transaction volume in the equity securities markets resulting from decreased individual investor trading activity, as well as reduced securities trading spreads.
2000 to 1999 Annual Comparison. Revenues increased $101 million, or 27%, from 1999 to 2000. The increase came from a $102 million increase in revenues from our equity sales and trading operations, from $302 million in 1999 to $404 million in 2000. The equity sales and trading operations benefited from increased volume from retail activity associated with the strength of the technology sector early in 2000, as well as increased transaction volume from institutional clients.
1999 to 1998 Annual Comparison. Revenues increased $116 million, or 46%, from 1998 to 1999. Revenues from our commercial mortgage securitization operations increased $49 million, primarily from market value increases on financial instruments used to hedge the value of mortgages in inventory as noted above. Revenues from our equity sales and trading operations increased $46 million, primarily due to increased transaction volume. Revenues from the hedge portfolios increased $21 million.
Expenses
2001 to 2000 Nine-Month Comparison. Expenses, as shown in the table above under "--Operating Results", were flat from the first nine months of 2000 to the first nine months of 2001. Expenses from our equity sales and trading operations decreased $8 million, from $236 million in the first nine months of 2000 to $228 million in the first nine months of 2001, reflecting decreased compensation expenses driven by the declines in revenue and earnings. This decrease was offset by increased mortgage origination and closing expenses from our commercial mortgage securitization operations resulting from higher loan volume.
2000 to 1999 Annual Comparison. Expenses increased $76 million, or 28%, from 1999 to 2000. The increase came from an increase of $76 million in our equity sales and trading operations, from $248 million in 1999 to $324 million in 2000, reflecting increased employee compensation expenses driven by increased revenue and earnings as well as increased expenses to expand our equity research capabilities.
1999 to 1998 Annual Comparison. Expenses increased $41 million, or 18%, from 1998 to 1999. The increase came primarily from an increase of $35 million in our equity sales and trading operations, from $213 million in 1998 to $248 million in 1999, reflecting increased employee compensation expenses driven by increased revenue and earnings as well as increased expenses to expand our equity research capabilities.
Corporate and Other Operations
Corporate and Other operations includes corporate-level activities that we do not allocate to our business segments. It also consists of international ventures, divested businesses and businesses that we have placed in wind-down status, but that we have not divested. The latter businesses include individual health insurance, group credit insurance and Canadian life insurance. The divested businesses include the lead-managed equity underwriting for corporate issuers and institutional fixed income businesses of Prudential Securities, Gibraltar Casualty Company, a Canadian life insurance subsidiary, and our divested residential first mortgage banking business. As previously discussed, we exclude the gains, losses and contributions to income/loss of the divested businesses from adjusted operating income.
The following table and discussion present results of these activities based on our definition of adjusted operating income, which is a non-GAAP measure, as well as income from continuing operations before income taxes, which is prepared in accordance with GAAP. As shown below, in addition to the gains, losses and contributions to income/loss of divested businesses, adjusted operating income excludes realized investment gains, net of losses, sales practices remedies and costs and demutualization expenses.
The excluded items are important to an understanding of our overall results of operations. You should not view adjusted operating income as a substitute for income from continuing operations determined in accordance with GAAP, and you should note that our definition of adjusted operating income may differ from that used by other companies. However, we believe that the presentation of adjusted operating income as we measure it for management purposes enhances the understanding of our results of operations by highlighting the results from ongoing operations and the underlying profitability factors of our businesses. We exclude realized investment gains, net of losses because the timing of transactions resulting in recognition of gains or losses is largely at our discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of our businesses. We exclude sales practices remedies and costs because they relate to a substantial and identifiable non-recurring event. We exclude the gains and losses and contribution to income/loss of divested businesses because, as a result of our decision to dispose of these businesses, these results are not relevant to the profitability of our ongoing operations and could distort the trends associated with our ongoing businesses. We exclude demutualization expenses because they are directly related to our demutualization and could distort the trends associated with our business operations.
Nine Months
Ended
September 30, Year Ended December 31,
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2001 2000 2000 1999 1998
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(in millions)
Adjusted operating income:
Corporate-level activities(1)..... $ 70 $ 68 $ (22) $ 126 $ (141)
Other businesses:
International ventures.......... (22) (19) (32) (11) (2)
Other........................... 7 28 50 22 109
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Total......................... 55 77 (4) 137 (34)
Items excluded from adjusted
operating income:
Sales practices remedies and
costs............................ -- -- -- (100) (1,150)
Realized investment gains, net of
losses........................... 112 (107) (280) 357 85
Divested businesses............... (122) (69) (636) (47) (196)
Demutualization expenses.......... (199) (113) (143) (75) (24)
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Income (loss) from continuing
operations before income taxes.... $ (154) $ (212) $(1,063) $ 272 $(1,319)
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Corporate-level activities consist primarily of corporate-level income and expenses not allocated to any of our business segments, including costs for company-wide initiatives such as enhancement of our Internet capabilities and income from our qualified pension plans, as well as investment returns on our unallocated equity,
which is capital that is not deployed in any of our segments. Our Corporate and Other operations also include returns from investments that we do not allocate to any of our business segments, including a debt-financed investment portfolio, and transactions with other segments. Our policy is to include expenses incurred by corporate-level functions such as operations and systems, human resources, financial management, auditing, law and compliance in the operating results of our business segments to the extent that the expenses are either directly or indirectly attributable to the operations of the segment. We include expenses incurred by corporate-level functions that are not allocated to any of our business segments, such as research and development pertaining to company-wide information technology applications or marketing expenses not specific to a particular business unit, in corporate-level activities.
2001 to 2000 Nine-Month Comparison. Corporate and Other operations resulted in adjusted operating income of $55 million in the first nine months of 2001 and $77 million in the first nine months of 2000, a decrease of $22 million.
Other businesses included in Corporate and Other operations resulted in adjusted operating income of $7 million in the first nine months of 2001 compared to $28 million in the first nine months of 2000. The $21 million decline was primarily due to the benefit to first nine months 2000 results from reductions of reserves for future claims in our remaining Canadian insurance operations and our wind-down group credit insurance operations.
Corporate-level activities resulted in adjusted operating income of $70 million in the first nine months of 2001 and $68 million in the first nine months of 2000.
Income from our own qualified pension plan amounted to $405 million in the first nine months of 2001, compared to $310 million in the first nine months of 2000. The $95 million increase came primarily from increased income on pension assets and amortization of deferred gains. This income is partially offset in our consolidated results by charges for our other retirement plans allocated both to Corporate and Other operations and our business segments. On a consolidated basis, our net pension credit related to continuing operations amounted to $346 million in the first nine months of 2001 and $271 million in the first nine months of 2000. The contribution to adjusted operating income from income from our own qualified pension plan has increased during recent periods. We expect that income from our own qualified pension plan will contribute to adjusted operating income for the fourth quarter of 2001 at about the same rate as that of the first nine months of the year, and that this contribution will decline by about 10% in 2002. The increase in income from our own qualified pension plan was offset, in large measure, by reductions in investment income from our debt-financed investment portfolio and from invested assets that we held pending disbursement for sales practices remedies and costs. Investment income from the debt-financed investment portfolio, net of interest expense, contributed $33 million to adjusted operating income for the first nine months of 2001 compared to $62 million for the first nine months of 2000, as a result of a decline in the assets in the portfolio to approximately $749 million at September 30, 2001 from $4.5 billion a year earlier. We have taken actions to reduce this portfolio and repay the related borrowings, and expect that we will continue to do so. Accordingly, we expect that the contribution to adjusted operating income from this debt-financed portfolio will decline in future periods. Income from invested assets related to sales practices remedies and costs declined $25 million as disbursements were made to satisfy these liabilities. Hedging losses retained at the corporate level increased $28 million, from $15 million in the first nine months of 2000 to $43 million in the first nine months of 2001.
General and administrative expenses at the corporate level, on a gross basis before qualified pension income, amounted to $445 million in the first nine months of 2001 compared to $444 million in the first nine months of 2000. We expect general and administrative expenses at the corporate level, including costs for company-wide technology development, for the entire year 2001 to be at approximately the same level as those of 2000. Subsequent to the demutualization, we expect to incur additional expenses associated with servicing our stockholder base, including mailing and printing fees, of up to $60 million annually.
Income from continuing operations before income taxes amounted to a loss of $154 million for the first nine months of 2001 compared to a loss of $212 million for the first nine months of 2000. The $58 million reduction in the loss came primarily from a $219 million increase in realized investment gains, net of losses. An $86 million increase in demutualization expenses and a $53 million increase in losses from divested businesses, primarily from the former lead-managed equity underwriting for corporate issuers and institutional fixed income businesses of Prudential Securities, as well as the $22 million decline in adjusted operating income were partial offsets.
For a discussion of sales practices remedies and costs, realized investment gains, net of losses, divested businesses and demutualization costs and expenses, see "--Consolidated Results of Operations--Sales Practices Remedies and Costs", "--Realized Investment Gains", "--Divested Businesses" and "-- Demutualization Costs and Expenses".
2000 to 1999 Annual Comparison. Corporate and Other operations resulted in a pre-tax loss of $4 million in 2000, compared to pre-tax income of $137 million in 1999, on an adjusted operating income basis. The $141 million decline came primarily from corporate-level activities.
Corporate-level activities resulted in a pre-tax loss of $22 million in 2000, compared to pre-tax income of $126 million in 1999. The $148 million decline resulted primarily from a one-time $114 million reduction of liabilities for our own employee benefits that we recorded in 1999 due to a clarification of law that led us to take into account previously unrecognized assets in that amount. Corporate-level activities benefited from income related to our own qualified pension plan amounting to $415 million in 2000 compared to $197 million in 1999, an increase of $218 million. This income is partially offset in our consolidated results by charges for our other retirement plans allocated both to Corporate and Other operations and our business segments. On a consolidated basis, our net pension credit related to continuing operations amounted to $362 million in 2000 and $201 million in 1999. The increase in pension plan income came primarily from a reduction in the number of plan participants due to the sale of our healthcare operations in 1999, increased income on pension assets and amortization of deferred gains. Amendments to our pension and postretirement plans in 2000 did not have a material effect on our results of operations. The $218 million increase in qualified pension plan income was offset by an increase in general and administrative expenses, and a reduction of investment income net of interest expense at the corporate level. General and administrative expenses at the corporate level, on a gross basis before qualified pension income, were $687 million in 2000 compared to $576 million in 1999. The $111 million increase came primarily from costs incurred during 2000 for company-wide technology development including enhancement of our Internet capabilities. The decrease in investment income net of interest expense, from $386 million in 1999 to $287 million in 2000, resulted primarily from a reduction in invested assets related to sales practices remedies and costs as disbursements were made to satisfy these liabilities.
Income from continuing operations before income taxes declined $1.335 billion, from $272 million in 1999 to a loss of $1.063 billion in 2000. The increase in losses came primarily from a $637 million decline in realized investment gains, net of losses, and from the former lead-managed underwriting and institutional fixed income businesses of Prudential Securities, as well as the $141 million decline in adjusted operating income and a $68 million increase in demutualization expenses.
1999 to 1998 Annual Comparison. Corporate and Other operations resulted in pre-tax income of $137 million in 1999, compared to a $34 million pre-tax loss in 1998, on an adjusted operating income basis. The $171 million improvement came primarily from corporate-level activities.
Corporate-level activities resulted in pre-tax income of $126 million in 1999, compared to a pre-tax loss of $141 million in 1998. The $267 million improvement in these results was due in part to a one-time $114 million reduction of liabilities for our own employee benefits arising from a clarification of law that led us to take into account previously unrecognized assets in that amount. In addition, investment income, net of interest expense at the corporate level, increased $63 million from $323 million in 1998 to $386 million in 1999 primarily as a result of expansion of our debt-financed corporate investment portfolio, lower average interest rates on corporate borrowings and a greater level of unallocated equity. The remainder of the reduction in pre-tax losses from corporate-level activities came primarily from a $37 million improvement from currency fluctuation exposure assumed from our International Insurance segment under an internal hedging program. Results from corporate-level activities benefited from income related to our own qualified pension plan amounting to $197 million in 1999 and $179 million in 1998. This income is partially offset in our consolidated results by charges for our other retirement plans allocated both to Corporate and Other operations and our business segments. On a consolidated basis, our net pension credit related to continuing operations amounted to $201 million in 1999 and $159 million in 1998. General and administrative expenses at the corporate level, on a gross basis before qualified pension plan income, amounted to $576 million in 1999 and $570 million in 1998.
Other businesses included in Corporate and Other operations contributed pre- tax income of $22 million in 1999 compared to $109 million in 1998. The $87 million decline was primarily due to results from our wind-down group credit insurance operations and our remaining Canadian insurance operations. Our wind-down group credit insurance operations recorded a pre-tax loss of $6 million in 1999, compared to a pre-tax gain of $53
million in 1998. The 1998 pre-tax income came from a $55 million release of reserves for credit insurance premium refunds and related administration costs that were established in 1997 under a remediation program. Our remaining Canadian insurance operations recorded pre-tax income of $19 million in 1999, compared to $60 million pre-tax income in 1998. The $41 million decrease primarily resulted from inclusion in 1998 results of a $39 million reduction in the reserves relating to this retained business that we originally established at the time of the sale of the Canadian branch of The Prudential Insurance Company of America, in 1996.
Income from continuing operations before income taxes improved $1.591 billion, from a loss of $1.319 billion in 1998 to $272 million in 1999. The improvement came primarily from a $1.050 billion decrease in charges for sales practices remedies and costs, an increase of $272 million in realized investment gains, net of losses, and the $171 million improvement in adjusted operating income, as well as a $149 million reduction in losses from divested businesses, partially offset by a $51 million increase in demutualization expenses.
Traditional Participating Products Segment
The Traditional Participating Products segment includes our domestic in force participating policies and assets that will be used for the payment of benefits on these policies, including policyholder dividends, as well as other assets and equity that support these policies. In connection with our demutualization, we will cease offering these domestic participating products.
At the end of each year, the Board of Directors of The Prudential Insurance Company of America determines the dividends payable for participating policies for the following year based on its statutory results and past experience, including investment income, net realized gains over a number of years, mortality experience and other factors.
Operating Results
The following table sets forth the Traditional Participating Products segment's operating results for the periods indicated.
Nine Months
Ended
September 30, Year Ended December 31,
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2001 2000 2000 1999 1998
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(in millions)
Operating results:
Revenues(1)........................ $6,140 $6,331 $ 8,611 $ 8,356 $ 8,332
Benefits and expenses(2)........... 5,851 6,030 8,064 8,040 8,126
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Adjusted operating income.......... 289 301 547 316 206
Items excluded from adjusted
operating income:
Realized investment gains, net of
losses and related charges:
Realized investment gains, net of
losses............................ (273) 65 91 338 1,697
Related charges(3)................. (399) (318) (445) (310) (236)
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Total realized investment gains,
net of losses and related
charges......................... (672) (253) (354) 28 1,461
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Income from continuing operations
before income taxes................ $ (383) $ 48 $ 193 $ 344 $ 1,667
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Adjusted Operating Income and Income from Continuing Operations Before Income Taxes
2001 to 2000 Nine-Month Comparison. Adjusted operating income decreased $12 million, or 4%, in the first nine months of 2001 from the first nine months of 2000. The decrease in adjusted operating income reflected a $161 million increase in policyholder benefits and related reserves, including $160 million of reserves established in the first nine months of 2001 for death and other benefits due with respect to policies for which we have not received a death claim but where death has occurred. We have made substantial efforts to identify policyholders for whom we lack current information and the $160 million reserve recorded represents a revision to our past estimate of incurred but not reported death claims. Since this liability was not taken into account in
establishing the Closed Block, upon demutalization it will become a liability of the Financial Services Businesses, and any subsequent reestimation of the reserve (upward or downward) will be included in adjusted operating income of the Financial Services Businesses. Additionally, the effect of aging of policies in force on policyholder benefits and related reserves exceeded the growth in returns on the underlying assets. These developments were partially offset by a $146 million reduction in the charge for policyholder dividends, a $49 million reduction in amortization of deferred policy acquisition costs, and a $41 million decline in operating expenses. The $146 million reduction in the charge for policyholder dividends, which excludes the portion of the dividend related to net realized investment gains, reflects dividend scale changes for 2002. Income from continuing operations before income taxes amounted to a loss of $383 million in the first nine months of 2001, compared to income of $48 million in the first nine months of 2000, with the decline primarily due to a $419 million decrease in realized investment gains, net of losses and related charges. For a discussion of realized investment gains and losses, and charges related to realized investment gains and losses, see "-- Consolidated Results of Operations --Realized Investment Gains".
2000 to 1999 Annual Comparison. Adjusted operating income increased $231 million, or 73%, in 2000 from 1999. The increase came primarily from a $180 million increase in investment income, net of interest expense, and a $93 million decline in operating expenses. Income from continuing operations before income taxes decreased $151 million, or 44%, in 2000 from 1999, primarily as a result of a $382 million decline in realized investment gains, net of losses and related charges, partially offset by the increase in adjusted operating income.
1999 to 1998 Annual Comparison. Adjusted operating income increased $110 million, or 53%, in 1999 from 1998. The increase was primarily a result of a $121 million decrease in operating expenses. Income from continuing operations before income taxes decreased $1.323 billion, or 79%, from 1998 to 1999, primarily as a result of a $1.433 billion decline in realized investment gains, net of losses and related charges, partially offset by the increase in adjusted operating income.
Revenues
2001 to 2000 Nine-Month Comparison. Revenues, as shown in the table above under "--Operating Results", decreased $191 million, or 3%, in the first nine months of 2001 from the first nine months of 2000. Premiums decreased $82 million, or 3%, from $3.181 billion in the first nine months of 2000 to $3.099 billion in the first nine months of 2001, as an increase in paid-up additions which represent additional insurance purchased with policyholder dividends was essentially offset by lower first year and renewal premiums. Net investment income decreased $111 million, or 4%, from $3.062 billion in the first nine months of 2000 to $2.951 billion in the first nine months of 2001. The decrease reflects a decline in the general account invested assets supporting this business due to a lower level of borrowing activity, and a lower investment yield.
2000 to 1999 Annual Comparison. Revenues increased $255 million, or 3%, in 2000 from 1999. Premiums were relatively unchanged, amounting to $4.320 billion in 2000 and $4.276 billion in 1999, as an increase in paid-up additions which represent additional insurance purchased with policyholder dividends was essentially offset by lower first year and renewal premiums. Paid-up additions, along with policyholder dividends, have continued to grow as the average length of time our traditional whole life insurance policies have been in force increases. The decline in first year and renewal premiums reflects a shift in our sales during recent years away from traditional whole life into variable life insurance products. We believe the trend from traditional whole life to variable life reflects shifts in industry-wide consumer demand, and we expect this trend to continue in the future. Net investment income increased $261 million, or 7%, from $3.911 billion in 1999 to $4.172 billion in 2000. The increase, which was partially offset by an $81 million increase in interest expense, as discussed below, resulted from an increase in investment yield and an increase in the base of general account invested assets.
1999 to 1998 Annual Comparison. Revenues remained relatively unchanged in 1999 as compared to 1998. Premiums decreased $84 million, or 2%, from $4.360 billion in 1998 to $4.276 billion in 1999, as an increase in paid-up additions was more than offset by the attrition of traditional whole life business that resulted in a decline in renewal premiums from $2.780 billion in 1998 to $2.633 billion in 1999. The decline in renewal premiums reflects the trend from traditional whole life to variable life as discussed above, as well as the impact of policy rescissions arising from the implementation of the alternative dispute resolution process required under our principal life insurance sales practices class action settlement. Most of the sales practices related rescissions took place in 1999, and the process was substantially completed in early 2000. These rescissions in the aggregate will have a negative impact on renewal premiums of about $45 million on an annual basis, and we do not expect that
they will result in a material adverse impact on our future results. The attrition was partially offset by an increase in paid-up additions from $1.503 billion in 1998 to $1.577 billion in 1999.
Net investment income increased $117 million, or 3%, from $3.794 billion in 1998 to $3.911 billion in 1999. The increase resulted from an increase in the base of general account invested assets, offset in part by a slight decline in investment yield.
Benefits and Expenses
2001 to 2000 Nine-Month Comparison. Benefits and expenses, as shown in the table above under "--Operating Results", decreased $179 million, or 3%, in the first nine months of 2001 from the first nine months of 2000. Interest expense declined $104 million, from $125 million in the first nine months of 2000 to $21 million in the first nine months of 2001, primarily due to a lower level of borrowing activity associated with the decrease in investment income. Amortization of deferred policy acquisition costs decreased $49 million, from $220 million in the first nine months of 2000 to $171 million in the first nine months of 2001, as these costs became fully amortized on a portion of this business. Operating expenses, including distribution costs that we charge to expense, decreased $41 million, or 7%, from $561 million in the first nine months of 2000 to $520 million in the first nine months of 2001, as a result of our continued efforts to reduce operating cost levels.
While there can be no assurance that our anticipated cost reductions will be fully achieved, we believe that our cost reduction initiatives will reduce operating expenses of the business included in the Traditional Participating Products segment below 2000 levels by approximately $100 million on an annual basis in 2002, and that reduced expenses resulting from these initiatives will benefit results of this business thereafter. We expect that about $50 million of the reduction in operating expenses will benefit adjusted operating income in 2001 as compared to 2000, including substantially all of the decline in operating expenses for the first nine months, and that the remainder of the anticipated reduction in operating expenses will further benefit results in 2002 as compared to 2001. Results for the first nine months of 2001 and 2000 were not materially affected by implementation costs for this program, but we expect the business included in the Traditional Participating Products segment to incur additional costs of approximately $25 million for related and additional initiatives during the balance of 2001.
Policyholder benefits and related changes in reserves, including interest credited to policyholders, increased $161 million, from $3.405 billion in the first nine months of 2000 to $3.566 billion for the first nine months of 2001. The increase in benefits and reserves resulting from death benefits, including the $160 million of reserves recorded in the first nine months of 2001 for death and other benefits due with respect to policies for which we have not received a death claim but where death has occurred, and the aging of policies in force, as well as insurance claims relating to the September 11, 2001 terrorist attacks on the United States, which resulted in net losses of approximately $13 million, more than offset the impact of the decline in premiums.
Dividends to policyholders, which excludes the portion of dividends relating to net realized investment gains as discussed under "--Consolidated Results of Operations--Realized Investment Gains" above, amounted to $1.573 billion in the first nine months of 2001, a decrease of $146 million, or 8%, from $1.719 billion in the first nine months of 2000. There was no adjustment to the dividend scale in 2001 from the scale of 2000. The decrease relates to the portion of our dividend provision related to dividends for the subsequent year and reflects dividend scale changes for 2002 based on evaluation of the experience underlying the dividend scale.
2000 to 1999 Annual Comparison. Benefits and expenses were essentially unchanged in 2000 from 1999. An $81 million increase in interest expense, from $71 million in 1999 to $152 million in 2000, relates primarily to a higher level of borrowing activity associated with the increase in investment income. Policyholder benefits and related changes in reserves and interest credited to policyholders increased $66 million, from $4.550 billion in 1999 to $4.616 billion in 2000, reflecting the continued increase in the length of time that the policies have been in force. Operating expenses, including distribution costs that we charge to expense, decreased $93 million, or 11%, from $859 million in 1999 to $766 million in 2000, as a result of our continued efforts to reduce operating cost levels which resulted in reduced employee costs.
Dividends to policyholders, which excludes the portion of dividends relating to net realized investment gains as discussed under "--Consolidated Results of Operations--Realized Investment Gains" above, amounted to $2.261 billion in 2000, relatively unchanged from $2.246 billion in 1999. There was no adjustment to the dividend scale for 2000 from the scale for 1999. Mortality experience for both 2000 and 1999 was consistent, on an overall basis, with our pricing assumptions.
1999 to 1998 Annual Comparison. Benefits and expenses remained relatively unchanged from 1998 to 1999. Operating expenses, including distribution costs that we charge to expense, decreased $121 million, or 12%, from $980 million in 1998 to $859 million in 1999, as a result of continued efforts to reduce costs associated with this business and the impact of costs incurred in 1998 toward this objective. Policyholder benefits and related changes in reserves and interest credited to policyholders increased $57 million, from $4.493 billion in 1998 to $4.550 billion in 1999, reflecting the continued increase in the length of time that policies have been in force.
Dividends to policyholders, net of dividends related to net realized investment gains, amounted to $2.246 billion in 1999, relatively unchanged from $2.229 billion in 1998. There was no significant adjustment to the dividend scale for 1999 from the scale for 1998. Mortality experience for both 1999 and 1998 was consistent, on an overall basis, with our pricing assumptions.
Sales Results
New statutory premiums from sales of traditional participating individual life insurance products amounted to $25 million for the first nine months of 2001, $39 million for the first nine months of 2000, $49 million for the year ended December 31, 2000, $61 million for 1999, and $58 million for 1998. The limited sales of these products reflect a continuing shift in our sales during recent years away from traditional whole life into variable life insurance products. We believe the trend from traditional whole life to variable life reflects shifts in industry-wide consumer demand, and we expect this trend to continue in the future. As indicated above, we will cease sales of traditional participating products in connection with our demutualization.
Policy Surrender Experience
The following table sets forth policy surrender experience for the Traditional Participating Products segment, measured by cash value of surrenders, for the periods indicated. These amounts do not correspond to the income statement impact of surrenders under GAAP. In managing this business, we analyze the cash value of surrenders because it is a measure of the degree to which policyholders are maintaining their in force business with us, a driver of future profitability.
Nine Months
Ended
September 30, Year Ended December 31,
-------------- -------------------------
2001 2000 2000 1999 1998
------ ------ ------- ------- -------
(in millions)
Cash value of surrenders........... $957 $934 $ 1,217 $ 1,226 $ 1,219
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Cash value of surrenders as a
percentage of mean future policy
benefit reserves.................. 2.8% 2.8% 2.7% 2.9% 2.9%
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2001 to 2000 Nine-Month Comparison. The total cash value of surrenders increased $23 million, or 2%, from the first nine months of 2000 to the first nine months of 2001, primarily as a result of our efforts to locate policyholders in connection with our demutualization. The level of surrenders as a percentage of mean future policy benefit reserves was unchanged from the first nine months of 2000 to the first nine months of 2001.
2000 to 1999 Annual Comparison. The total cash value of surrenders was essentially unchanged from 1999 to 2000. Traditional life policy surrenders reflected $109 million of surrenders in 2000 associated with the implementation of the sales practices remediation program. The levels of surrenders as a percentage of mean future policy benefit reserves remained relatively constant from 1999 to 2000.
1999 to 1998 Annual Comparison. The total cash value of surrenders in 1999 was approximately equal to 1998. Traditional life policy surrenders reflected $123 million of incremental surrenders in 1999 associated with the implementation of the sales practices remediation program. Absent this activity, the cash value of surrenders of traditional whole life and term life would have decreased $116 million in 1999 from 1998, which we believe reflects the impact of customer retention programs that we implemented in late 1997. The levels of surrenders as a percentage of mean future policy benefit reserves remained constant from 1998 to 1999.
Liquidity and Capital Resources
Prudential Financial, Inc.
Upon consummation of the demutualization, The Prudential Insurance Company of America will become an indirect wholly-owned subsidiary of Prudential Financial, Inc. We expect that, on or within 30 days following the date of the demutualization, various subsidiaries of The Prudential Insurance Company of America will also become direct or indirect wholly-owned subsidiaries of Prudential Financial, Inc. as a result of a "destacking" of the ownership of these entities, which we refer to as the "destacked subsidiaries." See "Demutualization and Related Transactions--Related Transactions--The Destacking" for a discussion of the destacking.
Prudential Financial, Inc.'s principal source of revenues to meet its obligations, including the payment of shareholder dividends, debt service, capital contributions to subsidiaries as may be required, and operating expenses, will be dividends and interest income from its direct and indirect subsidiaries. In addition, we anticipate that upon completion of the demutualization, Prudential Financial, Inc. will have substantial excess cash liquidity including:
. net proceeds from this offering and the offering of the equity security units, assuming the underwriters' options to purchase additional shares and units are exercised in full, of $1.68 billion, after making certain cash payments to eligible policyholders in demutualization; and
. net proceeds from the issuance of the Class B Stock of $171 million and, if issued, $1.3 billion of the net proceeds from the IHC debt.
On or shortly after the effective date of the demutualization, we anticipate that Prudential Financial, Inc. will establish several financing programs to satisfy needs for cash and capital at the parent company level and for the destacked subsidiaries and will serve as the primary financing company for the destacked subsidiaries. Prudential Funding, LLC has historically served as the primary financing company for The Prudential Insurance Company of America and its subsidiaries as discussed under "Financing Activities" below and will continue to provide financing for the destacked subsidiaries. After considering factors including the demutualization and the transactions discussed under "Demutualization and Related Transactions," rating organizations have preliminarily assigned lower credit ratings to Prudential Financial Inc., than Prudential Funding, LLC. As a result, we expect that some of our financing costs will increase as we transition existing financing from Prudential Funding, LLC to Prudential Financial, Inc. See "Business--Ratings" for further information.
We expect that, on the effective date of the demutualization, Prudential Financial, Inc. will make a capital contribution of approximately $1.0 billion to The Prudential Insurance Company of America to replenish the reduction of its capital in that amount which will result from distribution of demutualization compensation to some policyholders in the form of policy credits rather than Common Stock or cash. See "Demutualization and Related Transactions--The Demutualization--Allocation and Payment of Compensation to Eligible Policyholders" for further information on distribution of demutualization compensation to eligible policyholders. The capital contribution will be in the form of a series of notes issued by Prudential Financial, Inc. with market rates of interest and maturities ranging from two to five years.
Prudential Financial, Inc.'s insurance, broker-dealer and various other companies are subject to regulatory limitations on the payment of dividends and on other transfers of funds to affiliates. One purpose of the destacking is to enable each entity to pay dividends to Prudential Financial, Inc. according to its own financial condition and permitted dividend capacity, rather than from and through The Prudential Insurance Company of America according to its financial condition and permitted dividend capacity. See "Demutualization and Related Transactions--Related Transactions--The Destacking" for a discussion of the destacking. For the reason noted in the following paragraph, the ability of The Prudential Insurance Company of America to pay stockholder dividends will be constrained in the initial years following demutualization. The principal sources of funds to meet Prudential Financial, Inc.'s obligations, including the payment of stockholder dividends, will be any net proceeds, after certain cash payments to eligible policyholders, from this offering and the offering of the equity security units, the net proceeds from issuances of the Class B Stock and IHC debt, dividends from the destacked subsidiaries, and interest payments from subsidiaries.
New Jersey insurance law provides that, except in the case of extraordinary dividends or distributions, all dividends or distributions paid by The Prudential Insurance Company of America may be declared or paid only from unassigned surplus, as determined pursuant to statutory accounting principles, less unrealized investment
gains and revaluation of assets. Upon demutualization, unassigned surplus will be reduced to zero, thereby limiting The Prudential Insurance Company of America's ability to pay a dividend immediately following demutualization. Unassigned surplus is expected to grow thereafter in the ordinary course of business over time, including gains from operations and any realized capital gains. The Prudential Insurance Company of America also must notify the New Jersey insurance regulator of its intent to pay a dividend, if the dividend, together with other dividends or distributions made within the preceding twelve months, would exceed a specified statutory limit and obtain a non- disapproval from the New Jersey insurance regulator. The current statutory limitation applicable to New Jersey life insurers generally is the greater of:
(1) 10% of such insurer's surplus as regards policyholders as of the December 31 next preceding the date of the proposed dividend or distribution or
(2) the net gain from operations of such insurer, not including realized investment gains, for the 12-month period ending the December 31 next preceding the date of the proposed dividend or distribution,
in each case determined under statutory accounting principles. Statutory accounting principles differ from GAAP primarily in relation to deferred policy acquisition costs, deferred taxes, reserve calculation assumptions and required investment reserves, including the asset valuation reserve and the interest maintenance reserve. The New Jersey insurance regulator is also authorized to disallow the payment of any dividend or distribution that would otherwise be permitted under the statutory limit if it determines that a company does not have a reasonable surplus as to policyholders relative to its outstanding liabilities and adequate to its financial needs or if it finds such company to be in a hazardous financial condition. The terms of the IHC debt will also contain restrictions potentially limiting dividends by The Prudential Insurance Company of America applicable to the Financial Services Businesses in the event the Closed Block Business is in financial distress and other circumstances. For a discussion of the finally negotiated terms of the IHC debt, you should read "Demutualization and Related Transactions--Related Transactions--Class B Stock and IHC Debt Issuances--IHC debt". For further discussion of The Prudential Insurance Company of America's results according to statutory accounting principles, see "Demutualization and Related Transactions--Related Transactions--Statutory Information".
Other states and foreign jurisdictions have similar regulations to those of New Jersey which affect the ability of our other insurance companies to pay dividends. The laws regulating dividends of the other states and foreign jurisdictions where our other insurance companies are domiciled are similar, but not identical, to New Jersey's. In addition, the net capital rules to which our broker-dealer subsidiaries are subject may limit their ability to pay dividends to Prudential Financial, Inc.
Consolidated Liquidity and Financial Leverage Management
We manage our liquidity and capital resources on a company-wide basis, as well as by legal entity and business, recognizing regulatory restrictions on transfers of funds among entities engaged in the insurance, securities and other businesses.
We seek to manage our consolidated liquidity position so that we have, on a cost-effective basis, adequate resources to satisfy operating cash requirements and investment objectives, as well as to fund business growth. We also seek to manage our liquidity so that we have adequate sources of funding to support our needs under stress scenarios so that we can meet our obligations without materially disrupting our operating and investing activities.
We borrow money on an ongoing basis to support our business operations and strategies and seek to do so in a manner consistent with maintaining and seeking to improve our current credit ratings. We manage our borrowing according to company-wide, legal entity and business borrowing limits, which are monitored by our Treasurer's department and reviewed regularly by the Committee on Finance and Dividends of the Board of Directors. To this end, we monitor a number of financial leverage measures on a legal entity and on a consolidated basis, including our ratios of corporate debt to capital, liabilities to equity capital, liquid assets to short-term liabilities, and various other capitalization and liquidity ratios. We seek to reduce our liquidity and refinancing risks by employing a variety of liability management techniques, including staggering of maturities, actively utilizing alternative sources of financing, investor base diversification, and maintaining lines of credit in excess of the amount we believe will actually be required.
Financing Activities
Our financing principally consists of unsecured short- and long-term debt borrowings and asset-based or secured forms of financing. These secured financing arrangements include transactions such as securities lending and repurchase agreements, which we generally use to finance portfolios of liquid securities.
Prudential Funding, LLC, a wholly owned subsidiary of The Prudential Insurance Company of America, historically has served as a financing company for The Prudential Insurance Company of America and its subsidiaries and has facilitated the centralized management of most unsecured borrowing arrangements with unrelated parties on a company-wide basis. Prudential Funding borrows funds primarily through the direct issuance of commercial paper, private placement medium-term notes, Eurobonds, Eurocommercial paper, Euro medium-term notes and master notes and lends the proceeds of its borrowings to The Prudential Insurance Company of America and its subsidiaries, generally at cost. Borrowings of the destacked subsidiaries from Prudential Funding will be repriced to market terms upon the destacking. Prudential Securities also engages in external unsecured financing. Following the effective date of the demutualization, we anticipate that Prudential Funding's outstanding borrowings will decline over time as it transitions into a financing company primarily for The Prudential Insurance Company of America and its remaining subsidiaries. We anticipate that our other companies, including the destacked subsidiaries, will borrow on market terms from third parties or their affiliates.
Under a support agreement, The Prudential Insurance Company of America has agreed to maintain Prudential Funding's positive tangible net worth at all times. We manage Prudential Funding's borrowings so that cash inflows from the operating companies to Prudential Funding are sufficient to meet Prudential Funding's debt service requirements. Prudential Funding also generally maintains cash and short-term investments that can be used in the event of cash flow timing differences.
The Prudential Insurance Company of America and Prudential Funding have unsecured committed lines of credit totaling $4.0 billion, of which $1.5 billion expires in October 2002, $1.0 billion expires in May 2004 and the remaining $1.5 billion expires in October 2006. Borrowings under the facility expiring in October 2002 must mature no later than October 2003, and borrowings under the other two facilities must mature no later than the respective expiration dates of the facilities. The facility expiring in May 2004 includes 33 financial institutions, many of which are also among the 27 financial institutions participating in the other two facilities. Effective as of the date of demutualization, up to $2.5 billion of the amount available under these facilities can be utilized by Prudential Financial, Inc. The $2.5 billion consists of $500 million, $1 billion and $1 billion made available under the facilities expiring in October 2002, May 2004 and October 2006, respectively. We use these facilities primarily as back-up liquidity lines for our commercial paper programs. Our ability to borrow under these facilities is conditioned on our continued satisfaction of customary conditions, including maintenance at all times by The Prudential Insurance Company of America of total adjusted capital of at least $5.5 billion based on statutory accounting principles prescribed under New Jersey law. On a pro forma basis, giving effect to the destacking and transactions related to the demutualization, The Prudential Insurance Company of America's total adjusted capital as of September 30, 2001 would be $7.5 billion. The ability of Prudential Financial, Inc. to borrow under these facilities is conditioned on its maintenance of consolidated net worth of at least $12.5 billion, based on generally accepted accounting principles. In addition, we have an uncommitted credit facility utilizing a third-party-sponsored, asset-backed commercial paper conduit, under which we can borrow up to $1 billion. Our actual ability to borrow under this facility depends on market conditions. This facility expires in June 2002. We also use uncommitted lines of credit from banks and other financial institutions.
The following table sets forth our outstanding financing as of the dates indicated:
As of As of December 31,
September 30, -------------------
2001 2000 1999
------------- --------- ---------
(in millions)
Borrowings:
Short-term debt.............................. $ 9,848 $11,131 $10,858
Long-term debt:
Senior debt................................. 2,225 1,514 4,526
Surplus notes............................... 989 988 987
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Total long-term debt........................ 3,214 2,502 5,513
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Total borrowings.......................... 13,062 13,633 16,371
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Total asset-based financing................. 27,354 32,590 43,645
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Total borrowings and asset-based
financings............................... $40,416 $ 46,223 $ 60,016
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As of December 31, 1999, we classified $2.5 billion of commercial paper as long-term debt based on our intent and ability as of that date to refinance these borrowings under long-term syndicated credit line agreements. Subsequently, these borrowings have been classified as short-term debt because, although we continue to have the ability to refinance a portion of our commercial paper borrowings under these credit line agreements, we no longer intend to do so in the ordinary course of business. We will determine whether to utilize these credit line agreements to refinance these borrowings based on future market conditions, our future funding needs and other considerations.
Our total borrowings consist of amounts used for general corporate purposes, investment related debt, securities business related debt, and debt related to specified other businesses. Borrowings used for general corporate purposes include those used for cash flow timing mismatches, and investments in equity and debt securities of subsidiaries including amounts needed for regulatory capital purposes. Investment related borrowings consist of debt issued to finance specific investment assets or portfolios of investment assets, including real estate, real estate related investments held in consolidated joint ventures, and institutional spread lending investment portfolios. Securities business related debt consists of debt issued to finance primarily the liquidity of our broker-dealers, and our capital markets and other securities business related operations. Debt related to specified other businesses consists of borrowings associated with consumer banking activities, real estate franchises, and relocation services. A minor portion of our borrowings at September 30, 2001 and December 31, 2000 and 1999 are limited- recourse and non-recourse borrowings, under which the holder is entitled to collect only against the assets pledged to the debt as collateral, or has only very limited rights to collect against other assets.
Our borrowings as of September 30, 2001 and December 31, 2000, categorized by use of proceeds, are summarized below:
September 30, December 31,
2001 2000
------------- ------------
(in millions)
General obligations:
General corporate purposes........................ $ 3,730 $ 3,158
Investment related................................ 4,710 5,254
Securities business related....................... 3,541 4,426
Specified other businesses........................ 900 735
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Total general obligations..................... 12,881 13,573
Limited and non-recourse debt...................... 181 60
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Total borrowings.............................. $13,062 $13,633
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Long-term debt..................................... $ 3,214 $ 2,502
Short-term debt ................................... 9,848 11,131
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Total borrowings.............................. $13,062 $13,633
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Borrowings of Traditional Participating Products
segment........................................... $ 359 $ 1,264
Borrowings of Financial Services Businesses........ 12,703 12,369
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Total borrowings.............................. $13,062 $13,633
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Total borrowings and asset-based financing at September 30, 2001 decreased approximately $5.8 billion, or 13%, from December 31, 2000, reflecting a $571 million decrease in short-term and long-term debt and a $5.2 billion decrease in asset-based financing. The decline in short-term and long-term debt came primarily from a decrease in our debt-financed investment portfolio and bank borrowings of our broker-dealer operations, partially offset by debt used to finance our acquisition of Gibraltar Life. The decline in asset-based financing relates primarily to a reduction in asset-based financed positions in our hedge portfolios and our wind-down of Prudential Securities Group's portfolios related to its former lead-managed underwriting and institutional fixed income businesses.
Total borrowings and asset-based financing at December 31, 2000 decreased approximately $13.8 billion, or 23%, from December 31, 1999, reflecting a $2.7 billion decrease in short-term and long-term debt and an $11.1 billion decrease in asset-based financing. The decrease in short-term and long-term debt came primarily from a decrease in outstanding commercial paper issued in connection with short-term investment positions in our insurance operations. The decrease in asset-based financing largely reflected the termination of the
institutional fixed income capital markets activities of Prudential Securities Group. The remainder of our asset-based financing relates primarily to the hedge portfolios and to "matched book" transactions in our broker-dealer operations. The matched book transactions are principally utilized to facilitate customer transactions. Our short-term debt includes bank borrowings and commercial paper outstanding under Prudential Funding's domestic and European commercial paper programs. The weighted average interest rates on the commercial paper borrowings under these programs were 4.71% for the nine months ended September 30, 2001, 6.31% for the year ended December 31, 2000, 5.11% for 1999 and 5.48% for 1998. The total principal amount of debt outstanding under Prudential Funding's medium-term note programs was $2.3 billion at September 30, 2001, $1.6 billion at December 31, 2000 and $1.8 billion at December 31, 1999. The weighted average interest rates on Prudential Funding's long-term debt, in the aggregate, were 4.04% for the nine months ended September 30, 2001, 6.67% for the year ended December 31, 2000, 5.61% for 1999 and 6.39% for 1998. See Note 9 of our audited consolidated financial statements for additional information on our short-term and long- term debt.
We had outstanding surplus notes totaling $989 million at September 30, 2001, $988 million at December 31, 2000 and $987 million at December 31, 1999. These debt securities, which are included as surplus of The Prudential Insurance Company of America on a statutory accounting basis, are subordinate to other borrowings and to policyholder obligations and are subject to regulatory approvals for principal and interest payments.
The ratings assigned by independent rating agencies are an important determinant of the market acceptance and cost of our financing through commercial paper, medium-term notes, surplus notes and other indebtedness. See "Business--Ratings" for a discussion of our credit ratings.
We use interest rate swaps to convert some of our fixed rate long-term debt to floating rates of interest and to convert some of our floating rate long- term debt to fixed rates of interest, to match the interest rate sensitivity of the positions financed. We hedge currency risks related to non-United States dollar borrowings by using foreign currency swaps and/or foreign exchange forward contracts. See "--Risk Management, Market Risk and Derivative Instruments--Market Risk--Other Than Trading Activities--Market Risk Related to Foreign Currency Exchange Rates" below.
Intermediate Holding Company Debt
As described in more detail under "Demutualization and Related Transactions--Related Transactions--Class B Stock and IHC Debt Issuances", we plan to issue shares of Class B Stock of Prudential Financial, Inc. to institutional investors in a private placement concurrently with this offering of our Common Stock. In connection with the issuance of the Class B Stock, we also plan to issue debt securities through a newly-formed intermediate holding company of The Prudential Insurance Company of America, which debt we refer to as the "IHC debt", concurrently with the demutualization, and we currently intend that a portion of the IHC debt will be insured by a bond insurer. We expect that the IHC debt will be serviced by, and holders of the Class B Stock will receive as dividends, net cash flows of the Closed Block Business over time. The closing of the private placement of the Class B Stock is a condition to this offering of our Common Stock, but the issuance of the IHC debt is not a condition to this offering. See "Demutualization and Related Transactions-- Related Transactions--Class B Stock and IHC Debt Issuances--IHC debt" for a further discussion of the IHC debt.
Insurance, Annuities and Guaranteed Products Liquidity
Our principal cash flow sources from insurance, annuities and guaranteed products are premiums and annuity considerations, investment and fee income, and investment maturities and sales. We supplement these cash inflows with financing activities. We actively use our balance sheet capacity to finance on a secured basis through securities lending, repurchase, and dollar roll transactions, and, through Prudential Funding, on an unsecured basis for temporary cash flow mismatch coverage and to earn additional spread income, primarily through our debt-financed investment portfolio included in Corporate and Other operations.
Cash outflow requirements principally relate to benefits, claims, dividends paid to policyholders, and payments to contract holders as well as amounts paid to policyholders and contract holders in connection with surrenders, withdrawals and net policy loan activity. Uses of cash also include commissions, general and administrative expenses, purchases of investments, and debt service and repayments in connection with financing activities. Some of our products, such as guaranteed products offered to institutional customers of the Employee Benefits division, provide for payment of accumulated funds to the contract holder at a specified maturity date unless the contract holder elects to roll over the funds into another contract with us. We regularly monitor our
liquidity requirements associated with policyholder and contractholder obligations so that we can manage cash inflows to match anticipated cash outflow requirements.
Gross account withdrawals, other than those of Gibraltar Life, which we acquired in April 2001, amounted to $5.172 billion in the nine months ended September 30, 2001, $8.165 billion in the year ended December 31, 2000, $10.594 billion in 1999 and $12.079 billion in 1998. These withdrawals include contractually scheduled maturities of traditional guaranteed investment contracts totaling $1.135 billion in the nine months ended September 30, 2001, $1.785 billion in the year ended December 31, 2000, $2.620 billion in 1999 and $4.465 billion in 1998. We experienced these large withdrawals on guaranteed products as a result of contractual expirations of products sold in the late 1980s and early 1990s. Since these contractual withdrawals, as well as the level of surrenders experienced, were consistent with our assumptions in asset liability management, the associated cash outflows did not have an adverse impact on our overall liquidity.
Interest rate fluctuations can affect the timing of cash flows associated with our insurance and annuity liabilities as well as the value of the assets supporting these obligations. Changes in interest rates and other market conditions can also expose us to the risk of accelerated surrenders as policyholders and contract holders are attracted to alternative products. We seek to maintain an appropriate match between our assets and liabilities so that we can satisfy the changing cash flow requirements associated with interest rate fluctuations. In response to interest rate changes, we can alter our strategies for investment of new cash flows, adjust credited interest rates if and to the extent permitted by contracts, and adjust the pricing of new products. We can also adjust dividend scales on our participating products.
We closely monitor surrenders and withdrawals for our life insurance and annuity contracts. Upon policy surrender, life insurance policyholders are surrendering the life insurance protection in addition to their investment in the contract, which would typically require new underwriting and acquisition costs to replace. Therefore, our exposure to increased surrenders is considerably less for life insurance policies than for annuities. In addition, many of our contracts contain provisions that discourage early surrender. Market value adjustment features in some contracts provide for adjustments of the amount available in the event of surrender to reflect changes in the value of the underlying investments. We deduct policy loans, which we report as assets, from amounts available on surrender. Some contracts impose surrender charges that we deduct in the event of surrender before specified dates.
We use these surrender charges and other contract provisions to mitigate the extent, timing and profitability impact of withdrawals of funds by customers from annuity contracts. The following table sets forth withdrawal characteristics of our annuity reserves and deposit liabilities (based on statutory liability values) as of the dates indicated.
As of As of December 31,
September ---------------------------
30, 2001 2000 1999
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% of % of % of
Amount Total Amount Total Amount Total
------- ----- ------- ----- ------- -----
($ in millions)
Not subject to discretionary
withdrawal provisions............... $37,768 43% $38,184 41% $37,990 40%
Subject to discretionary withdrawal,
with adjustment:
With market value adjustment........ 19,030 22% 22,602 24% 24,185 25%
At market value..................... 22,679 26% 25,508 27% 25,544 27%
At contract value, less surrender
charge of 5% or more............... 1,237 1% 1,330 1% 1,380 1%
------- ---- ------- ---- ------- ----
Subtotal.......................... 80,714 92% 87,624 93% 89,099 93%
Subject to discretionary withdrawal
at contract value with no surrender
charge or surrender charge of less
than 5%............................. 6,719 8% 6,746 7% 6,799 7%
------- ---- ------- ---- ------- ----
Total annuity reserves and deposit
liabilities......................... $87,433 100% $94,370 100% $95,898 100%
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We sell variable life insurance products that contain both general and separate account components, with the bulk of account balances in separate accounts. The principal product of this type, Variable Appreciable Life, also imposes surrender charges for the first ten years after issuance. In addition to the right to surrender, policyholders may transfer account balances between the general account and the separate account components, subject to limitations on the amount transferred and only within a 30-day period following each anniversary of the policy. As of September 30, 2001 and December 31, 2000 and 1999, general account balances for variable life insurance products other than single-payment life were $1.9 billion, $1.8 billion and $1.6 billion, respectively, while separate account balances were $12.0 billion, $13.9 billion and $14.0 billion, respectively.
The table above does not include the liabilities of Gibraltar Life, formerly known as Kyoei Life Insurance Co., Ltd., which we acquired in April 2001. Gibraltar Life's assets and liabilities were substantially restructured under a reorganization concurrent with our acquisition, which included the imposition of special surrender penalties on existing policies. See "Acquisition of Kyoei Life Insurance Co., Ltd." for further information.
We believe that cash flows from operating and investing activities of our insurance, annuity and guaranteed products operations are adequate to satisfy liquidity requirements of these operations based on our current liability structure and considering a variety of reasonably foreseeable stress scenarios. The continued adequacy of this liquidity will depend upon factors including future securities market conditions, changes in interest rate levels and policyholder perceptions of our financial strength, which could lead to reduced cash inflows or increased cash outflows. As of September 30, 2001 and December 31, 2000 and 1999, we had short-term investments of approximately $4.5 billion, $5.0 billion and $2.8 billion, respectively, and fixed maturity investments classified as "available for sale" with fair values of $113.1 billion, $83.8 billion and $79.1 billion at those dates, respectively. At September 30, 2001, the fair value of fixed maturities available for sale included $18.3 billion related to Gibraltar Life, which we acquired in April 2001. Additionally, the increase in fixed maturities classified as "available for sale" in the first nine months of 2001 reflects our reclassification, as of January 1, 2001, of $12.1 billion fair value of fixed maturity investments that were previously classified as "held to maturity" concurrently with our adoption of new accounting standards for derivative instruments and hedging activities as required by guidance issued by the Financial Accounting Standards Board. The latter portfolios are comprised primarily of investment grade corporate bonds and United States government obligations, substantially all of which we consider to be highly liquid and can be sold and/or pledged in financing transactions.
Securities Operations Liquidity
Prudential Securities Group Inc. maintains a highly liquid balance sheet with substantially all of its assets consisting of securities purchased under agreements to resell, short-term collateralized receivables from clients and broker-dealers arising from securities transactions, marketable securities, securities borrowed and cash equivalents. Prudential Securities Group's assets totaled $23.3 billion at September 30, 2001, $25.8 billion at December 31, 2000 and $45.3 billion at December 31, 1999. Prudential Securities Group's total capitalization, including equity, subordinated debt and long-term debt, was $2.5 billion at September 30, 2001, $3.4 billion at December 31, 2000 and $3.2 billion at December 31, 1999. In October 2000, we announced that we would terminate our institutional fixed income activities which constituted the major portion of the debt capital markets operations of Prudential Securities Group. As indicated above, our termination of institutional fixed income activities resulted in a reduced level of asset-based financing at Prudential Securities Group and on a consolidated basis. At September 30, 2001, Prudential Securities Group had remaining assets amounting to approximately $900 million related to its institutional fixed income activities, as compared to $2.0 billion at December 31, 2000 and $17 billion at December 31, 1999. Substantially all of these assets were financed by means of asset-based borrowings.
Prudential Securities Group finances its balance sheet principally through asset-backed financing, including repurchase transactions, securities lending arrangements and free credit balances in customers' accounts. Prudential Securities Group may supplement these sources of funding through internal short-term and long-term borrowings from Prudential Funding, uncommitted lines of credit from banks and other financial institutions and the asset-backed commercial paper market.
Hedge Portfolios, Commercial Mortgage Securitization and Proprietary Investments and Syndications Operations Liquidity
Our Asset Management division includes our hedge portfolios, the commercial mortgage securitization operation and proprietary investments and syndications. The hedge portfolios are financed through securities repurchase agreements and other securities financing activity and to a lesser extent unsecured borrowing. The underlying securities are government securities or corporate bonds and are generally liquid. The commercial mortgage securitization operation is financed by loans from Prudential Funding and by pledging assets to a third-party asset-backed commercial paper conduit. We generally finance the mortgages until a portfolio accumulates that is large enough to securitize and sell, which currently takes approximately 180 to 270 days, a period that we expect will shorten when we have a more fully developed process for accumulating mortgages. The commercial mortgage securitization operation's portfolio is less liquid than publicly traded securities. To mitigate those risks in this portfolio we use an alternative asset-backed commercial paper conduit and maintain a higher proportion
of long-term financing to support these activities. In addition, we acquire public and private debt and equity investments, including controlling interests, of domestic and international companies, with the intention of selling them to institutional investors, including Prudential's general account. We acquire the investments with equity or short- or long-term debt depending on the liquidity and anticipated time for selling the investment.
Deferred Acquisition Costs
We capitalize costs that vary with and are directly related to the production of new insurance and annuity business. These costs include commissions paid, costs to issue and underwrite the policies and certain variable field office expenses. The capitalized amounts are known as deferred policy acquisition costs, or DAC. Our total DAC, including the impact of unrealized investment gains and losses, amounted to $6.751 billion at September 30, 2001, $7.063 billion at December 31, 2000 and $7.324 billion at December 31, 1999. Approximately 46% of our total DAC at September 30, 2001 relates to our Individual Life Insurance segment, and approximately 18% relates to our Traditional Participating Products segment. Excluding the impact of unrealized investment gains and losses, our total DAC increased $95 million, from $7.018 billion at December 31, 1999 to $7.113 billion at December 31, 2000 and increased $89 million, to $7.202 billion, at September 30, 2001. The $95 million increase in 2000 and the $89 million increase in the first nine months of 2001 came primarily from growth of our international life insurance business. To date, our experience on an overall basis has been generally consistent with our assumptions used in determining the periods over which we write off this DAC. However, if we were to experience a significant increase in lapse or surrender rates on policies for which we amortize DAC based on estimated gross margins or gross profits, such as participating and variable life insurance, we would expect acceleration of the write-off of DAC for the affected blocks of policies. Additionally, for all policies on which we have outstanding DAC, we would be required to evaluate whether this experience called into question our ability to recover all or a portion of the DAC, and we would be required to write off some or all of the DAC if we concluded that we could not recover it. While an accelerated write-off of DAC would not affect our cash flow or liquidity, it would negatively affect our reported earnings and level of capital under generally accepted accounting principles.
Risk Management, Market Risk and Derivative Instruments
Risk management includes the identification and measurement of various forms of risk, the establishment of risk thresholds and the creation of processes intended to maintain risks within these thresholds while optimizing returns on the underlying assets or liabilities. We consider risk management an integral part of our core businesses.
The primary risks inherent in our operations are market risk, product risk, credit risk, and operating risk. We discuss various product risks, credit risks and operating risks under "Risk Factors". We discuss various market risks below.
Market Risk
Market risk is the risk of change in the value of financial instruments as a result of absolute or relative changes in interest rates, foreign currency exchange rates or equity or commodity prices. To varying degrees, the investment and trading activities supporting all of our products and services generate market risks. The market risks incurred and our strategies for managing these risks vary by product.
With respect to non-variable life insurance products, fixed rate annuities, the fixed rate options in our variable life insurance and annuity products, consumer banking products, and other finance businesses, we incur market risk primarily in the form of interest rate risk. We manage this risk through asset/liability management strategies that seek to match the interest rate sensitivity of the assets to that of the underlying liabilities. Our overall objective in these strategies is to limit the net change in value of assets and liabilities arising from interest rate movements. While it is more difficult to measure the interest sensitivity of our insurance liabilities than that of the related assets, to the extent that we can measure such sensitivities we believe that interest rate movements will generate asset value changes that substantially offset changes in the value of the liabilities relating to the underlying products.
For variable annuities and variable life insurance products, excluding the fixed rate options in these products, mutual funds and most separate accounts, our main exposure to the market is the risk that asset management fees decrease as a result of declines in assets under management due to changes in prices of securities. We also run the risk that asset management fees calculated by reference to performance could be lower. For variable annuity and variable life insurance products with minimum guaranteed death benefits, we also face the risk that declines in the value of underlying investments as a result of changes in prices of securities may increase our net exposure to death benefits under these contracts. We do not believe that these risks add significantly to our overall market risk.
We manage our exposure to equity price risk relating to our general account primarily by seeking to match the risk profile of equity investments against risk-adjusted equity market benchmarks. We measure benchmark risk levels in terms of price volatility in relation to the market in general.
The sources of our exposure to market risk can be divided into two categories, "other than trading" activities conducted primarily in our insurance, annuity and guaranteed products operations, and "trading" activities conducted primarily in our securities operations. As part of our management of both "other than trading" and "trading" market risks, we use a variety of risk management tools and techniques. These include sensitivity and Value-at-Risk measures, position and other limits based on type of risk, and various hedging methods.
Other Than Trading Activities
We hold the majority of our assets for "other than trading" activities in our segments that offer insurance, annuities and guaranteed products. We incorporate asset/liability management techniques and other risk management policies and limits into the process of investing our assets. We use derivatives for hedging purposes in the asset/liability management process.
Insurance, Annuities and Guaranteed Products Asset/Liability Management
We seek to maintain interest rate and equity exposures within established ranges, which we periodically adjust based on market conditions and the design of related products sold to customers. Our risk managers establish investment risk limits for exposures to any issuer, geographic region, type of security or industry sector and oversee efforts to manage risk within policy constraints set by management and approved by the Board of Directors.
We use duration and convexity analyses to measure price sensitivity to interest rate changes. Duration measures the relative sensitivity of the fair value of a financial instrument to changes in interest rates. Convexity measures the rate of change of duration with respect to changes in interest rates. We seek to manage our interest rate exposure by matching the relative sensitivity of asset and liability values to interest rate changes, or controlling "duration mismatch" of assets and liabilities. We have a target duration mismatch constraint of plus or minus 0.5 years. As of December 31, 2000, the difference between the pre-tax duration of assets and the target duration of liabilities in our duration managed portfolio was less than 0.2 years. We consider risk-based capital implications in our asset/liability management strategies.
We also perform portfolio stress testing as part of our regulatory cash flow testing. In this testing, we evaluate the impact of altering our interest- sensitive assumptions under various moderately adverse interest rate environments. These interest-sensitive assumptions relate to the timing and amount of redemptions and prepayments of fixed-income securities and lapses and surrenders of insurance products. We evaluate any shortfalls that this cash flow testing reveals to determine if we need to increase statutory reserves or adjust portfolio management strategies.
Market Risk Related to Interest Rates
Our "other than trading" assets that subject us to interest rate risk include fixed maturity securities, mortgage loans and policy loans. In the aggregate, the carrying value of these assets represented 63% of our consolidated assets, other than assets that we held in separate accounts, as of December 31, 2000 and 58% as of December 31, 1999.
With respect to "other than trading" liabilities, we are exposed to interest rate risk through policyholder account balances relating to interest-sensitive life insurance, annuity and investment-type contracts and through outstanding short-term and long-term debt.
We assess interest rate sensitivity for "other than trading" financial assets, financial liabilities and derivatives using hypothetical test scenarios that assume either upward or downward 100 basis point parallel shifts in the yield curve from prevailing interest rates. The following tables set forth the potential loss in fair value from a hypothetical 100 basis point upward shift at December 31, 2000 and 1999, because this scenario results in the greatest net exposure to interest rate risk of the hypothetical scenarios tested at those dates. While the test scenario is for illustrative purposes only and does not reflect our expectations regarding future interest rates or the performance of fixed-income markets, it is a near-term, reasonably possible hypothetical change that illustrates the potential impact of such events. These test scenarios do not measure the changes in value that could result from non-parallel shifts in the yield curve, which we would expect to produce different changes in discount rates for different maturities. As a result, the actual loss in fair value from a 100 basis point change in interest rates could be different from that indicated by these calculations.
December 31, 2000
--------------------------------------------------------
Hypothetical Fair
Notional Estimated Value After + 100 Hypothetical
Value of Fair Basis Point Parallel Change in
Derivatives Value Yield Curve Shift Fair Value
----------- --------- -------------------- ------------
(in millions)
Financial assets with
interest rate risk:
Fixed maturities:
Available for sale..... $ 83,827 $ 79,312 $ (4,515)
Held to maturity....... 12,615 12,085 (530)
Mortgage loans on real
estate................ 15,308 14,634 (674)
Mortgage securitization
inventory............. 1,448 1,373 (75)
Policy loans........... 8,659 8,147 (512)
Derivatives:
Swaps.................. $ 4,765 4 125 121
Futures................ 3,878 34 15 (19)
Forwards............... 3,247 (50) (50) --
Financial liabilities
with interest rate
risk:
Short-term and long-
term debt............. (13,800) (13,683) 117
Investment contracts... (25,359) (25,122) 237
Securities sold but not
yet purchased......... (157) (141) 16
--------
Total estimated
potential loss......... $ (5,834)
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December 31, 1999
--------------------------------------------------------
Hypothetical Fair
Notional Estimated Value After + 100 Hypothetical
Value of Fair Basis Point Parallel Change in
Derivatives Value Yield Curve Shift Fair Value
----------- --------- -------------------- ------------
(in millions)
Financial assets with
interest rate risk:
Fixed maturities:
Available for sale..... $ 79,130 $ 74,968 $ (4,162)
Held to maturity....... 14,112 13,550 (562)
Mortgage loans on real
estate................ 15,826 15,104 (722)
Mortgage securitization
inventory............. 803 751 (52)
Policy loans........... 7,462 7,060 (402)
Derivatives:
Swaps.................. $ 4,205 124 265 141
Futures................ 4,579 (37) (240) (203)
Options................ 33 -- -- --
Forwards............... 3,424 (19) (19) --
Financial liabilities
with interest rate
risk:
Short-term and long-
term debt............. (16,563) (16,454) 109
Investment contracts... (25,394) (25,121) 273
--------
Total estimated
potential loss......... $ (5,580)
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The tables above do not include approximately $77 billion of insurance reserve and deposit liabilities at December 31, 2000 and $75 billion at December 31, 1999. We believe that the interest rate sensitivities of these insurance liabilities offset, in large measure, the interest rate risk of the financial assets set forth in these tables.
The estimated changes in fair values of our financial assets shown above relate to assets invested to support our insurance liabilities, but do not include assets associated with products for which investment risk is borne primarily by the contract holders rather than by us.
As of September 30, 2001, the hypothetical change in fair value from a 100 basis point parallel shift in the yield curve from prevailing interest rates results in a total estimated potential loss of $7.282 billion. Substantially all of the $1.448 billion increase in the total estimated potential loss from December 31, 2000 resulted from our acquisition of Gibraltar Life in April 2001. The total estimated potential loss at September 30, 2001 does not include the effect of interest rate sensitivity of approximately $97 billion of insurance reserves and deposit liabilities, including those of Gibraltar Life. We believe that the interest rate sensitivities of these insurance liabilities offset, in large measure, the interest rate risk of the financial assets, which results in the major portion of the total estimated potential loss at September 30, 2001.
Market Risk Related to Equity Prices
We actively manage equity price risk against benchmarks in respective markets. We benchmark our return on equity holdings against a blend of market indices, mainly the S&P 500 and Russell 2000, and we target price sensitivities that approximate those of the benchmark indices. We estimate our equity price risk from a hypothetical 10% decline in equity benchmark market levels and measure this risk in terms of the decline in fair market value of equity securities we hold. Using this methodology, our estimated equity price risk at December 31, 2000 was $232 million, representing a hypothetical decline in fair market value of equity securities we held at that date from $2.317 billion to $2.085 billion. Our estimated equity price risk using this methodology at December 31, 1999 was $326 million, representing a hypothetical decline in fair market value of equity securities we held at that date from $3.264 billion to $2.938 billion. In calculating these amounts, we exclude equity securities related to products for which the investment risk is borne primarily by the contractholder rather than by us. While these scenarios are for illustrative purposes only and do not reflect our expectations regarding future performance of equity markets or of our equity portfolio, they represent near term reasonably possible hypothetical changes that illustrate the potential impact of such events.
As of September 30, 2001, our estimated equity price risk was $304 million. Substantially all of the $72 million increase in the estimated equity price risk from December 31, 2000 resulted from our acquisition of Gibraltar Life.
Market Risk Related to Foreign Currency Exchange Rates
We are exposed to foreign currency exchange rate risk in our general account and through our operations in foreign countries. In our international life insurance business, we generally invest in assets denominated in the same currencies as our insurance liabilities, which mitigates our foreign currency exchange rate risk for these operations.
Our exposure to foreign currency risk within the general account investment portfolios supporting our U.S. insurance operations arises primarily from purchased investments that are denominated or payable in foreign currencies. We generally hedge substantially all foreign currency-denominated fixed-income investments supporting our U.S. operations into U.S. dollars, using foreign exchange forward contracts and currency swaps, in order to mitigate the risk that the fair value of these investments fluctuates as a result of changes in foreign exchange rates. We generally do not hedge all of the foreign currency risk of our equity investments in unaffiliated foreign entities.
Our operations in foreign countries create two additional sources of foreign currency risk. First, we reflect the operating results of our foreign branches and subsidiaries in our financial statements based on the average exchange rates prevailing during the period. We hedge some of these foreign currency flows based on our overall risk management strategy and loss limits. We generally hedge our anticipated exposure to adjusted operating income fluctuations resulting from changes in foreign currency exchange rates relating to our operations in Japan, which are the most significant of these operations, using foreign exchange forward contracts and currency swaps. Second, we translate our equity investment in foreign branches and subsidiaries into U.S. dollars using the foreign currency exchange rate at the financial statement period-end date. We have chosen to partially hedge this exposure.
We actively manage foreign currency exchange rate risk within specified limits at the consolidated level using Value-at-Risk analysis. This statistical technique estimates, at a specified confidence level, the potential pretax loss in portfolio market value that could occur over an assumed time horizon due to adverse market movements. We calculate this using a variance/covariance approach.
We calculate Value-at-Risk estimates of exposure to loss from volatility in foreign currency exchange rates for one-month time periods. Our estimated VaR at December 31, 2000 for foreign currency assets not hedged to U.S. dollars, measured at the 95% confidence level and using a one-month time horizon, was $18 million, representing a hypothetical decline in fair market value of these foreign currency assets from $906 million to $888 million. Our estimated VaR at December 31, 1999 for foreign currency assets not hedged to U.S. dollars, measured at the 95% confidence level and using a one-month time horizon, was $23 million, representing a hypothetical decline in fair market value of these foreign currency assets from $752 million to $729 million. These calculations use historical price volatilities and correlation data at a 95% confidence level. We discuss limitations of VaR models below.
Our average monthly Value-at-Risk from foreign currency exchange rate movements measured at the 95% confidence level over a one month time horizon was $16 million during 2000 and $18 million during 1999.
Our estimated VaR at September 30, 2001 for foreign currency assets not hedged to U.S. dollars, giving effect to our acquisition of Gibraltar Life, is not materially different from the estimate as of December 31, 2000.
Derivatives
Derivatives are financial instruments whose values are derived from interest rates, foreign exchange rates, financial indices, or the prices of securities or commodities. Derivative financial instruments may be exchange-traded or contracted in the over-the-counter market and include swaps, futures, options and forward contracts. See Note 15 of our audited consolidated financial statements for a summary of our derivative positions as of December 31, 2000 and 1999. Under insurance statutes, our insurance companies may use derivative financial instruments to hedge actual or anticipated changes in their assets or liabilities, to replicate cash market instruments or for certain income- generating activities. These statutes generally prohibit the use of derivatives for speculative purposes. We use derivative financial instruments to seek to reduce market risk from changes in interest rates or foreign currency exchange rates, and to alter interest rate or foreign currency exposures arising from mismatches between assets and liabilities. In addition, derivatives are used in our securities operations for trading purposes.
Trading Activities
We engage in trading activities primarily in connection with our securities businesses. We maintain trading inventories in various equity and fixed-income securities, foreign exchange instruments and commodities, primarily to facilitate transactions for our clients. Market risk affects the values of our trading inventories through fluctuations in absolute or relative interest rates, credit spreads, foreign currency exchange rates, securities and commodity prices. We seek to use short security positions and forwards, futures, options and other derivatives to limit exposure to interest rate and other market risks. We also trade derivative financial instruments that allow our clients to manage exposure to interest rate, currency and other market risks. Most of our derivative transactions involve exchange-listed contracts and are short-term in duration. We act both as a broker, by selling exchange- listed contracts, and as a dealer, by entering into futures and security transactions as a principal. As a broker, we assume counterparty and credit risks that we seek to mitigate by using margin or other credit enhancements and by establishing trading limits and credit lines. As a dealer, we are subject to market risk as well as counterparty and credit risk. We manage the market risk associated with trading activities through hedging activities and formal policies, risk and position limits, counterparty and credit limits, daily position monitoring, and other forms of risk management.
Value-at-Risk
VaR is one of the tools we use to monitor and manage our exposure to the market risk of our trading activities. We calculate a VaR that encompasses our trading activities using a 95% confidence level. The VaR method incorporates the risk factors to which the market value of our trading activities are exposed, which consist of interest rates, including credit spreads, foreign exchange rates, equity prices and commodity prices, estimates of volatilities from historical data, the sensitivity of our trading activities to changes in those market factors and the correlations of those factors. We regularly test our VaR model by comparing actual adverse results to those estimated by the VaR model with a 95% confidence level over a one-day time horizon. The VaR for our trading activities expressed in terms of adverse changes to fair value at the 95% confidence level over a one-day time horizon was $6 million at December 31, 2000 and $13 million at December 31, 1999. The average daily
VaR for our trading activities, expressed in terms of adverse changes to fair value with a 95% confidence level over a one-day time horizon, was $9 million during 2000 and $14 million during 1999. The following table sets forth a breakdown of this VaR by risk component as follows:
As of Average As of Average
December 31, for December 31, for
2000 2000 1999 1999
------------ ------- ------------ -------
(in millions)
Interest rate risk................... $ 4 $ 6 $10 $12
Equity risk.......................... 2 3 3 2
--- --- --- ---
Total(1)............................ $6 $ 9 $13 $14
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Limitations of VaR Models
Although VaR models represent a recognized tool for risk management, they have inherent limitations, including reliance on historical data that may not be indicative of future market conditions or trading patterns. Accordingly, you should not view VaR models as a predictor of future results. We may incur losses that could be materially in excess of the amounts indicated by the models on a particular trading day or over a period of time, and there have been instances when results have fallen outside the values generated by our VaR models. A VaR model does not estimate the greatest possible loss. We use these models together with other risk management tools, including stress testing. The results of these models and analysis thereof are subject to the judgment of our risk management personnel.
Recent Accounting Pronouncements
See Note 2 of our audited consolidated financial statements and Notes 2 and 3 of our unaudited interim consolidated financial statements for a discussion of recently issued accounting pronouncements.
ACQUISITION OF KYOEI LIFE INSURANCE CO., LTD.
In the following discussion, U.S. dollar amounts are translated from Japanese Yen amounts at a rate approximating the exchange rate on the date of our investment, i.e., $1 = (Yen)124.0, except where indicated otherwise.
In April 2001, we completed the acquisition of Kyoei Life Insurance Co., Ltd. ("Kyoei"), a financially troubled Japanese life insurer now renamed "Gibraltar Life Insurance Company, Ltd.", which we refer to as "Gibraltar Life." Our initial investment in Gibraltar Life, as described below, totals approximately $1.2 billion. The reorganization proceedings under the Corporate Reorganization Law of Japan (which we refer to as the "Reorganization Law"), which substantially restructured the assets and liabilities of Kyoei, were officially concluded on April 23, 2001. Pursuant to these proceedings, on April 2, 2001, the Tokyo District Court approved a reorganization plan ("Reorganization Plan") providing for the restructuring of Kyoei's assets and liabilities. The Reorganization Plan included extinguishing all existing stock for no consideration and the issuance of one million new shares of common stock. Under the Reorganization Plan, we contributed (Yen)50 billion ($403 million) to acquire 100% of Gibraltar Life's newly issued common stock and provided (Yen)98 billion ($790 million) to Gibraltar Life in the form of a subordinated loan. The loan is for a period of 20 years with prepayments allowed. The interest rate on the loan is 2.5% per year. The new shares of common stock were issued to Prudential Holdings of Japan, Inc., which company provided the subordinated loan. Prudential Holdings of Japan, Inc. currently is an indirect wholly owned subsidiary of The Prudential Insurance Company of America, which we expect will be transferred to Prudential Financial, Inc. in the destacking. Gibraltar Life's financial results from April 2, 2001 to August 31, 2001 are included in our consolidated financial results as of and for the period ended September 30, 2001. On April 23, 2001, Moody's assigned an A2 insurance financial strength rating to Gibraltar Life.
Gibraltar Life
Kyoei, now renamed Gibraltar Life, was incorporated in 1947 and at the beginning of April 2001 had over five million policies in force and approximately 10,200 employees, including 8,100 Life Advisors and sales management, in approximately 590 offices across Japan. The company has business relationships with a number of affinity groups or "associations", which provide Gibraltar Life with access to their members or employees. Gibraltar Life's business consists mainly of individual protection products, which account for over 80% of the total number of in force policies.
Gibraltar Life primarily offers four types of insurance products: individual insurance, including life and indemnity health coverage; individual annuities; group life insurance; and group annuities.
The following table shows the amount of insurance in force by product for the periods indicated.
For the Period For the Period
April 3, 2001 April 1, 2000 For the Year
to August 31, to April 2, Ended March
2001 2001 31, 2000
-------------- -------------- ------------
(in millions)
Individual Life:
Beginning value................. $269,090 $333,765 $359,619
Sales........................... 3,096 15,773 32,740
Surrenders...................... 31,310 23,075 34,763
Lapses.......................... 3,418 25,890 9,734
Other net reductions(1)......... 6,389 31,483 14,097
-------- -------- --------
Ending value.................... $231,069 $269,090 $333,765
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Individual Annuities:
Beginning value................. $ 10,302 $ 13,752 $ 14,383
Sales........................... 27 252 700
Surrenders...................... 1,468 875 999
Lapses.......................... 26 371 48
Other net reductions(1)......... 165 2,456 284
-------- -------- --------
Ending value.................... $ 8,670 $ 10,302 $ 13,752
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Group Life:
Beginning value................. $104,708 $118,048 $122,702
Sales(2)........................ 1,787 9,181 11,334
Surrenders(3)................... 17,595 10,714 9,154
Lapses.......................... 28 662 825
Other net reductions(1)......... 42,157 11,145 6,009
-------- -------- --------
Ending value.................... $ 46,715 $104,708 $118,048
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(2) Sales of Group Life include new business, mid-entry and increases of insurance amount.
(3) Surrenders of Group Life include surrenders and withdrawals.
In addition, Group Pension asset balances were $2.7 billion at April 2, 2001 and $3.4 billion at March 31, 2000.
The reorganization of Gibraltar Life is likely to result in different trends in both new business and in force policies for all product lines.
Gibraltar Life distributes products through an agency force and affinity channels. Some products are created specifically for the affinity channels. In addition to offering insurance products to individuals and groups, Gibraltar Life underwrites life reinsurance. Gibraltar Life also has domestic and foreign subsidiaries, including non-insurance businesses, which are not material to its financial results. The foreign businesses include operations in Brazil and Indonesia.
Japanese life insurance companies offer products with guaranteed interest rates to policyholders. The primary cause for Kyoei's gradual financial deterioration over the past few years has been that the investment returns it achieved on invested assets purchased with premiums and deposits received from policyholders were lower than the guaranteed rates it had to pay to policyholders (a so-called "negative spread"). For many years, insurance was written with guaranteed rates to policyholders of up to 6.50%.
As of March 31, 2000, the end of the last fiscal year prior to the reorganization, Kyoei's policy reserve liabilities had the following interest rate guarantees:
Interest Rate Reserve
------------- --------------
(in thousands)
1.50% $ 3,432,424
1.75% 736,822
2.00% 528,497
2.15% 2,362
2.50% 75,411
2.75% 4,184,208
2.90% 1,866
3.75% 418,718
4.00% 6,156,841
4.50% 65,325
4.75% 1,863
5.00% 3,026,596
5.50% 9,740,407
5.75% 3,294,000
6.00% 1,807,764
6.25% 11,850
6.50% 971
-----------
Total Policy
Weighted Average..... 4.31% Reserve.............. $33,485,925
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Some of the interest rate guarantees were adjusted in the reorganization as noted below.
With the decline of the Japanese economy and Japanese financial and real estate markets in the 1990s, together with low interest rates, Kyoei was unable to achieve investment returns on its invested assets at least equal to the guaranteed rates, and Kyoei experienced substantial negative spreads. Kyoei's average investment returns fell from 3.82% for the fiscal year ended March 31, 1997 to 2.89%, 2.01% and 1.54%, for the fiscal years ended March 31, 1998, 1999 and 2000, respectively. The decline of the Japanese economy and of the Japanese financial and real estate markets also resulted in a substantial deterioration in the value of Kyoei's investment assets, and Kyoei experienced significant and growing amounts of assets with impaired value. Finally, owing to its deteriorating financial condition, lowered financial credit ratings, and decreased public confidence in its financial viability, Kyoei's premiums and other revenue declined over 23% from fiscal years 1996 to 1999, from (Yen)815 billion ($6.6 billion) to (Yen)627 billion ($5.1 billion), as reported by Kyoei.
Kyoei was downgraded by Moody's to Caal in June 1999, indicating Moody's belief that Kyoei offered "very poor" financial security (C is the lowest rating). Kyoei's March 31, 2000 solvency margin of 211% was one of the weakest in the Japanese life insurance industry. Kyoei's revenues, results of operations and financial condition continued to deteriorate materially after the announcement of its financial results for the fiscal year ended March 31, 2000, including material increases in surrenders and withdrawals prior to the commencement of reorganization proceedings.
Kyoei's Historical Financial Statements
Historically, Kyoei prepared financial statements in accordance with generally accepted accounting principles in Japan, which we refer to as J GAAP. J GAAP differs in material respects from U.S. GAAP. Kyoei's historical financial statements were never reconciled to U.S. GAAP. Further, in performing audits of Kyoei, its independent auditors did not follow U.S. generally accepted auditing standards, so the audits performed would not necessarily have resulted in identification and resolution of issues regarding the appropriateness of accounting policies or procedures or the adequacy or sufficiency of financial presentation in accordance with U.S. standards. For the foregoing reasons, Kyoei's historically reported financial statements do not reflect Kyoei's past financial performance in accordance with U.S. GAAP. Furthermore, Kyoei's historical J GAAP financial statements do not reflect the effects of Kyoei's restructuring pursuant to the Reorganization Plan. Accordingly, we believe historical financial information regarding Kyoei is not comparable to or indicative of Gibraltar Life's future financial condition or operating results on a post-reorganization basis in accordance with U.S. GAAP. For the foregoing reasons, we did not rely on historically reported financial information in making our decision to acquire Kyoei.
An audited statement of financial position of Gibraltar Life prepared in accordance with U.S. GAAP as of April 2, 2001 is included in this prospectus.
Background and Strategy
We have had significant life insurance operations in Japan for approximately 20 years, as discussed under "Business--International Division". This has positioned us to work with Kyoei to restore its financial viability and to grow our position in the Japanese life insurance marketplace. After Kyoei's announcement of its results for the fiscal year ended March 31, 2000, Kyoei's financial situation deteriorated to the point that only a restructuring of its in force business, combined with a substantial investment, appeared to be adequate to revitalize the company. Kyoei filed a petition to commence reorganization proceedings with the Tokyo District Court on October 20, 2000, and the Tokyo District Court issued an order commencing the proceedings on October 23, 2000. At the commencement of the proceedings, we were selected as Kyoei's "Business Sponsor" (an informal status under the Reorganization Law) which has allowed us to work with the reorganization trustee to restructure Kyoei on a mutually acceptable basis, as described under "--Reorganization Proceedings and Reorganization Plan" below.
Our pre-acquisition Japanese operations and those of Gibraltar Life will have different target markets; accordingly, the field forces have remained separate, and we intend that they be perceived as autonomous in the marketplace. Gibraltar Life's individual life and annuity products have been the primary source of revenue, and we expect an even greater reliance on individual products in the future. While we intend to continue Gibraltar Life's traditional agent distribution system, we also plan to make changes to streamline its management, to strengthen its compliance monitoring and to change its agent compensation system to provide increased incentives for sales. We also revised Gibraltar Life's product portfolio by introducing new non-participating life insurance products and may offer investment trust products from our International Investments business. In addition, we plan to improve service levels, increase operating efficiency and reduce expenses, and to use our global investment experience and resources to improve Gibraltar Life's investment performance, including realigning its portfolio to reduce risk, improve returns and better align assets with liabilities; however, there is no assurance that we will be successful in doing so.
Reorganization Proceedings and Reorganization Plan
The Reorganization Law, similar to Chapter 11 of the U.S. Bankruptcy Code, is intended to provide a mechanism for restructuring financially troubled companies by permitting the adjustment of the interests of creditors, shareholders and other interested parties. The reorganization trustee determines the extent and nature of claims against the company, identifies the assets which the company owns or to which it is entitled, determines the current value of the company's assets on a going concern basis, and prepares a plan of reorganization that may adjust the liabilities owed creditors. Following approval of the plan by the interested parties and the formal recognition of the plan by the Tokyo District Court, the company re-emerges from the reorganization and begins conducting business in an ordinary fashion. In Kyoei's restructuring, the assets of Kyoei were written down to the value set forth in the Reorganization Plan and the benefits to policyholders were reduced. The restructuring eliminated Kyoei's negative net worth, and we expect that its in force business will become profitable.
On October 20, 2000, upon Kyoei's filing under the Reorganization Law, the Tokyo District Court issued an order generally freezing Kyoei's assets and appointed an interim trustee who, on October 23, 2000, was appointed as sole trustee. The trustee then commenced the formulation of the Reorganization Plan. Prior to the October 23, 2000 order, in connection with our appointment as Business Sponsor, we entered into an agreement with the interim trustee providing, among other things, that the Reorganization Plan to be submitted to the Tokyo District Court for approval would not require funds to be contributed by the Life Insurance Policyholders Protection Corporation of Japan.
On February 14, 2001, the trustee submitted the Reorganization Plan to the Tokyo District Court. According to the adjusted asset valuation provided in the Reorganization Plan, assets totaled (Yen)4,089 billion ($33.0 billion) as of October 23, 2000, which included (Yen)364 billion ($2.9 billion) of an intangible asset recognized for regulatory purposes under J GAAP (but not U.S. GAAP). Prior to the policy reserve reductions and other liability adjustments provided under the Reorganization Plan, Kyoei's liabilities totaled (Yen)4,414.5 billion ($35.6 billion) as of October 23, 2000, resulting in a negative net worth of (Yen)325.5 billion ($2.6 billion).
Kyoei's creditors approved the Reorganization Plan and on April 2, 2001 the Tokyo District Court issued its official recognition order approving the Reorganization Plan. The Reorganization Plan became effective immediately upon the issuance of the recognition order, and is binding upon Kyoei, its creditors, including policyholders, its shareholders and other interested parties, whether or not they submitted claims or voted for or
against the plan. The newly appointed Gibraltar Life management team formally took control of Kyoei on April 2, 2001 and on the same date Kyoei's name was changed to "Gibraltar Life Insurance Company, Ltd." We completed our acquisition of the stock of Gibraltar Life on April 20, 2001, and the reorganization proceedings were declared concluded by the Tokyo District Court on April 23, 2001.
Pursuant to the Reorganization Plan, Kyoei has been restructured as follows:
. Kyoei was discharged from all financial indebtedness, retaining only liabilities under insurance policies and contracts, liabilities incurred in the ordinary course of business and certain other claims approved by the trustee. All existing shares of stock were extinguished without consideration.
. Gibraltar Life remains responsible for pension liabilities, which were $765 million at April 2, 2001.
. An intangible asset of approximately (Yen)364 billion ($2.9 billion) was established for regulatory reporting purposes under J GAAP and will be amortized over 5 years. Neither the intangible asset nor its amortization is recognized under U.S. GAAP financial reporting.
. We contributed (Yen)50 billion ($403 million) in cash to Gibraltar Life's capital and acquired 100% of Gibraltar Life's newly issued common stock, and we further provided (Yen)98 billion ($790 million) to Gibraltar Life in the form of a subordinated loan.
. There are no policy changes for group life, collective term and reinsurance policies.
. The guaranteed rate on all other in force policies has been reduced to 1.75%, unless a lower rate was in effect prior to Kyoei's filing under the Reorganization Law.
. Except for individual annuities, cash surrender values before surrender charges were reduced by an average of approximately 11%, and maturity values were reduced by 8%. Annuities will be subject to reductions only if they are surrendered.
. Special surrender penalties will be imposed on existing policies according to the following schedule (for each year ending March 31):
2002 2003 2004 2005 2006 2007 2008 2009 ---- ---- ---- ---- ---- ---- ---- ---- 15% 14% 12% 10% 8% 6% 4% 2% |
. Although participating policies retain their current participating status, it is not anticipated that policy dividends will be paid until such time as Gibraltar Life's remaining intangible asset is fully amortized, Gibraltar Life has reached the standard reserve level as defined in the Japanese insurance business law, and Gibraltar Life has achieved cumulative profits equal to our aggregate initial investment on a J GAAP basis.
. In years four and eight following the recognition of the Reorganization Plan by the Tokyo District Court, a special dividend to policyholders will be payable based on 70% of net gains, if any, over the Reorganization Plan valuation of real estate and loans, net of transaction costs and taxes.
. No funds were requested from the Life Insurance Policyholders Protection Corporation of Japan.
While there can be no assurance, we believe that the Reorganization Plan has eliminated Kyoei's existing "negative spread" and that the in force business will become profitable. While the surrender penalties are intended to limit policyholder surrenders and withdrawals following implementation of the Reorganization Plan, we anticipate that significant policyholder surrenders and withdrawals will occur, further reducing the size and ongoing premium income of the business we have purchased. While we believe we will be able to operate Gibraltar Life on a profitable basis after the acquisition, there is no assurance we will achieve that objective.
Pursuant to the Reorganization Plan, Kyoei's balance sheet was restructured to reflect the write-down of its assets, the modification of its liabilities and our capital and loan commitment as discussed above. The table below compares Kyoei's assets as of October 23, 2000 (i) based on information obtained from Kyoei and contained in the Reorganization Plan and (ii) according to the asset valuation adopted in the Reorganization Plan. Columns B and D below show the financial information in Columns A and C converted to U.S. dollars based on the exchange rate approximating the rate as of the date of our investment ($1=(Yen)124.0).
As of October 23, 2000 In accordance with J GAAP
(unaudited)
(A) (B) (C) (D)
---------------- ---------------- ---------------- ----------------
Asset Balances Adjusted Assets
as of 10/23/00 Provided under
Provided by Column A Amounts Reorganization Column C Amounts
Kyoei in US$ Millions Plan in US$ Millions
Account ((Yen) millions) ($1=(Yen) 124.0) ((Yen) millions) ($1=(Yen) 124.0)
------- ---------------- ---------------- ---------------- ----------------
Assets
Cash and Deposits....... 83,489 673 83,489 673
Call Loans.............. 335,000 2,702 335,000 2,702
Monetary Claims Bought.. 13,096 106 11,899 96
Money in Trust.......... 386,011 3,113 386,011 3,113
Securities.............. 1,745,671 14,077 1,703,212 13,736
Loans................... 1,365,299 11,010 1,088,467 8,778
Policy Loans........... 58,108 469 58,108 469
Corporate/General
Loans................. 1,307,191 10,541 1,030,359 8,309
Real Estate............. 144,534 1,166 39,024 315
Accounts Receivable from
Agencies............... 294 2 294 2
Accounts Receivable from
Reinsurers............. 1,348 11 56,446 455
Other Assets............ 27,849 225 19,158 155
Customers' Liabilities
for Acceptance &
Guarantee.............. 2,000 16 2,000 16
Reserves for Bad Debt... (19,767) (159) 0 0
Intangible Asset........ 0 0 364,000 2,935
--------- ------ --------- ------
Total Assets............ 4,084,824 32,942 4,089,000 32,976
========= ====== ========= ======
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Prior to the policy reserve reductions and other liability adjustments provided under the Reorganization Plan, Kyoei's liabilities totaled (Yen)4,414.5 billion ($35.6 billion) as of October 23, 2000. The policy reserve reductions and other liability adjustments under the Reorganization Plan resulted in total liabilities equaling total assets (i.e., (Yen)4,089 billion as noted above). Gibraltar Life's immediate post-reorganization J GAAP equity is therefore equal to our contribution of (Yen)50 billion ($403 million) in cash to acquire 100% of Gibraltar Life's newly issued common stock and unrealized gains of (Yen)21.8 billion ($176 million) accumulated during the period from October 23, 2000 to April 2, 2001.
The information contained in Column A above was prepared based upon information obtained from Kyoei. The information contained in Column C above is based on the Reorganization Plan. In assessing this information, you should consider the following:
. the information was prepared in accordance with J GAAP which, as noted above, differs in material respects from information prepared in accordance with U.S. GAAP;
. the adjustments reflected in the Reorganization Plan were determined based upon information and advice from consultants of the trustee (accountants, investment bankers and actuaries) and the trustee's best judgment and are not necessarily adjustments that would have been prepared had the information been prepared in accordance with pro forma requirements established by the U.S. Securities and Exchange Commission; and
. for U.S. GAAP accounting purposes, the assets and liabilities of Gibraltar Life will be adjusted to their fair value. The fair value of assets and liabilities may differ significantly from those reflected above due to changes in market values and changes in the composition of assets and liabilities.
Employees
As of August 31, 2001, Gibraltar Life employed approximately 9,300 employees, including 6,600 Gibraltar Life Advisors. The employees of Gibraltar Life, excluding select members of senior management, are covered by agreements between Gibraltar Life and Gibraltar Life Labor Union, a group consisting of Gibraltar Life employees that establishes basic terms of employment and work rules. The agreement relating to the terms of employment will be in effect until February 28, 2002. The work rules are subject to revision from time to time.
Prudential's Activities During and After Kyoei's Restructuring
To assist the trustee, we supplied management support, including a chief operating officer, during the reorganization period from October 23, 2000 to April 20, 2001. This involved running the day to day operations of Kyoei as the prior management team resigned immediately after the filing for reorganization on October 20, 2000. In addition, outside advisors were engaged to help the trustee evaluate Kyoei's assets. Since the valuation of loans and real estate is difficult, we agreed to an "upside sharing" agreement with respect to these assets. In 2005 and 2009 we will pay a special dividend to eligible policyholders representing 70% of the amount, if any, of net gains on these assets. In our U.S. GAAP financial statements, we accrue for this liability as the net gains are recognized in our financial statements. As of April 2, 2001, we have established a special dividend liability of $635 million.
We also worked closely with the trustee to evaluate the liability reductions needed to reduce Kyoei's negative net worth. Ultimately, we reached agreement on the reductions in both current liabilities and future guarantees.
One significant change during the restructuring period was the implementation of an early retirement/separation program. In March 2001, approximately 750 of Kyoei's non-sales employees retired. In August 2001, approximately 500 employees left the company bringing the number of remaining fixed salary employees to approximately 1,750. These reductions are in line with the declining revenue and our plan to centralize the insurance operations. Prior to the reorganization, insurance administration was performed in 66 branch offices and 8 regional offices as well as in the corporate office. During August 2001, all of this work has been centralized in one location.
Policyholder activity during the restructuring period was restricted. Surrenders were not allowed except under very limited circumstances. Maturity benefits were paid on a reduced basis to account for the anticipated policy restructuring. Death benefits, however, were paid at 100% through the end of the restructuring period as required. The restriction on surrenders contributes to the "shock lapse" (i.e., an unusually high level of surrenders, non-renewals and withdrawals) typically seen shortly after a company emerges from a restructuring.
The changes made to the in force policies as a result of the restructuring were made effective as of October 23, 2000, with the exception of the death benefits payable at 100% through April 2, 2001. The restructured policies have lower cash values, annuity, maturity and death benefits as a result of the reduced interest guarantee (generally 1.75%, but not higher than the previous guarantee) as well as the immediate reduction applied to most of the policy reserves.
Under the reorganization proceedings, sales of Kyoei products were suspended. In order to maintain the sales force, in mid-January 2001 Kyoei agents began selling products from Prudential's existing life insurance subsidiary in Japan. This activity, which continued through the end of March 2001, generated approximately (Yen)3.0 billion ($25.3 million) in annualized new business premium for Prudential. More importantly, it kept the agents' activity level higher.
A new compensation plan was introduced in July 2001. It is designed to improve productivity and persistency and is similar to compensation plans in our other International Insurance operations. Agent compensation at Gibraltar Life, which was based on a high fixed salary component in the past, has been changed to a variable compensation structure. We have a transition plan in place that will last, for some agents, until June 2003.
At the start of the restructuring period, the asset portfolio had a higher percentage of risky assets (domestic and foreign equities and low quality loans) than we felt was prudent. In addition, there was a concentration of loans in the finance sector. While these assets had been written down to estimated current market values, they still presented more risk than we desired. Prior to emergence from reorganization, portfolio transactions were restricted. Soon afterwards, we began selling non-performing loans and selected other loans. Between April 2 and August 31, 2001, we reduced Gibraltar Life's loan portfolio by approximately $2.6 billion. In addition, Gibraltar Life sold more than $1 billion of foreign securities. We have temporarily created a large cash position, partially in anticipation of "shock lapse."
Our long-term investment plan is to increase our concentration of higher quality fixed income investments including the use of U.S. Dollar hedged and unhedged corporate bonds.
With respect to the products offered by Kyoei in the past and being offered by Gibraltar Life now, one significant change is that we introduced, effective April 2, 2001, non-participating products. With limited exceptions, products will be non-participating going forward. Historically, Kyoei had offered participating products.
Gibraltar Life Selected Historical Operating Data
Included below is certain summarized historical operating data of Gibraltar Life for the 12 months ended March 31, 2001 and 2000, prepared in accordance with U.S. GAAP. As noted above, we believe historical information of Gibraltar Life is not comparable to or indicative of Gibraltar Life's future operating results on a post reorganization basis.
Net investment income was as follows for the twelve months ended March 31:
2001 2000
------ ------
(in millions)
Fixed maturities, available for sale......................... $ 150 $ 296
Equity securities, available for sale........................ 19 37
Commercial and residential loans on real estate.............. 77 83
Policy loans................................................. 27 31
Other commercial and consumer loans.......................... 274 370
Other short and long-term assets............................. 131 63
------ ------
Gross investment income...................................... 678 880
Investment expense........................................... (33) (35)
------ ------
Net investment income........................................ $ 645 $ 845
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Realized investment gains were as follows for the twelve months ended March 31:
2001 2000
------ ------
(in millions)
Fixed maturities, available for sale........................ $ 19 ($ 306)
Equity securities, available for sale....................... (433) 314
Commercial and residential loans on real estate............. 18 (1)
Other commercial and consumer loans......................... 35 19
Derivative financial instruments............................ (24) 9
Liquidation loss on disposal of investment subsidiaries..... (37) --
Other short and long-term assets............................ (329) 274
------ ------
Net realized investment gains (losses)...................... ($751) $ 309
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Insurance contract revenues and benefit payments and withdrawals were as follows for the twelve months ended March 31:
2001 2000
------- -------
(in millions)
Premiums, policy charges and fee income.................. $3,720 $4,192
Benefit payments and withdrawals, changes in reserves and
interest credited to policyholders...................... ($5,745) ($4,813)
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Gibraltar Life General Account Investments
In the following discussion, U.S. dollar amounts, as of August 31, 2001, are translated at the exchange rate in effect as of that date, i.e., $1=(Yen)118.76, and amounts for the five months ended August 31, 2001, are translated at the average rate prevailing during that period, i.e., $1=(Yen)122.67.
The following table sets forth the composition of Gibraltar Life's general account investments as of August 31, 2001.
Amount % of Total
--------------- ----------
($ in millions)
Fixed maturities--available for sale, at fair
value:
Public......................................... $17,177 67.0%
Private........................................ 1,074 4.2
Equity securities--available for sale, at fair
value.......................................... 1,118 4.4
Trading account assets, at fair value........... 88 0.3
Commercial and consumer loans, at book value.... 2,920 11.4
Mortgage loans on real estate, at book value.... 518 2.0
Loans held for sale, at lower of cost or fair
value.......................................... 1,610 6.3
Investment real estate.......................... 380 1.5
Policy loans, at amortized cost less
repayments..................................... 413 1.6
Other investments............................... 329 1.3
------- -----
Total Investments.............................. $25,627 100.0%
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Investment Income Yields
The overall annualized yield after investment expenses on Gibraltar Life's general account invested assets, excluding realized gain (losses), was 1.80% for the five months ended August 31, 2001.
The following table sets forth the annualized income yield and investment income, net of investment expense, excluding realized gains (losses), for each major asset category of the general account for the five months ended August 31, 2001.
Annualized
Yield Amount
---------- ---------------
($ in millions)
Fixed maturities................................. 0.96% $ 66
Equity securities................................ 0.09 1
Trading account assets........................... 1.71 1
Commercial and consumer loans ................... 3.17 42
Mortgage loans on real estate.................... 3.16 8
Loans held for sale.............................. 6.26 66
Investment real estate........................... 5.08 8
Policy loans..................................... 0.16 0
Other investments................................ 7.74 4
---- ----
Total........................................... 1.80% $196
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Fixed Maturity Securities
The following table sets forth the composition of our fixed maturity securities portfolio by industry categories as of August 31, 2001.
Amortized
Cost % of Total Cost Fair Value
--------- --------------- ----------
($ in millions)
Japanese national government........... $12,142 66.6% $12,131
Japanese municipal government.......... 917 5.0 929
Manufacturing.......................... 1,175 6.4 1,180
Utilities.............................. 120 0.7 119
Financial institutions................. 2,107 11.5 2,117
Services............................... 523 2.9 526
Retail and wholesale................... 295 1.6 298
Other asset-backed securities.......... 320 1.8 315
Transportation......................... 308 1.7 310
Energy................................. 191 1.0 189
Foreign government securities other
than Japan and U.S. .................. 18 0.1 19
Mortgage-backed........................ 14 0.1 14
U.S. States & their political
subdivisions.......................... 13 0.1 13
Other.................................. 91 0.5 91
------- ----- -------
Total................................. $18,234 100.0% $18,251
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The following table sets forth the estimated fair value of fixed maturities by contractual maturity as of August 31, 2001.
($ in millions)
Due in one year or less..................................... $ 5,247
Due after one year through five years....................... 2,803
Due after five years through ten years...................... 5,748
Due after ten years......................................... 4,453
-------
Total...................................................... $18,251
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Actual maturities may differ from contractual maturities because certain issuers have the right to call or prepay obligations.
Japanese insurance companies are not subject to NAIC guidelines, but are regulated by the Japanese regulator, the Financial Services Agency ("FSA"). The FSA has its own investment quality criteria and risk
control standards, and these generally are similar in concept to those of the NAIC. Gibraltar Life complies with all of the FSA's credit quality review and risk monitoring guidelines.
The following tables set forth the composition of Gibraltar Life's public and private fixed maturity securities portfolio by credit quality according to ratings assigned by external rating agencies. The credit quality ratings are predominantly based on ratings assigned by Moody's.
Public Fixed Maturities by Credit Quality
Amortized % of Total
Rating Agency Equivalent Cost Cost Fair Value
------------------------ --------- ---------- ----------
($ in millions)
Aaa, Aa, A.................................. $14,882 86.7% $14,889
Baa......................................... 1,868 10.9 1,878
Ba.......................................... 306 1.8 307
C and lower, or unrated..................... 104 0.6 103
------- ----- -------
Total...................................... $17,160 100.0% $17,177
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Private Fixed Maturities by Credit Quality
Amortized % of Total
Rating Agency Equivalent Cost Cost Fair Value
------------------------ --------- ---------- ----------
($ in millions)
Aaa, Aa, A................................... $ 492 45.8% $ 494
Baa.......................................... 523 48.8 520
Ba........................................... 26 2.4 26
B............................................ 16 1.4 16
C and lower, or unrated...................... 17 1.6 18
------ ----- ------
Total...................................... $1,074 100.0% $1,074
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Equity Securities
Gibraltar Life's investment policy is to limit its exposure to the equity market. A portion of its exposure to the equity market has been hedged as of August 31, 2001 by selling equity futures contracts, and we intend both to sell Gibraltar Life's equity securities and to buy back equity futures contracts over time. The period over which we sell Gibraltar Life's equity securities and buy back equity futures contracts will be based upon market conditions. Equity futures contracts are carried at fair value and changes in fair value are recorded within "realized investment gains, net."
Gibraltar Life held approximately 4% of its general account investments in equity securities as of August 31, 2001. Those securities consisted of investments in common stock, including $437 million in investments in mutual funds that invest in debt securities and equity securities. Approximately 59% of Gibraltar Life's equity securities are publicly traded on the Tokyo Stock Exchange or the Osaka Stock Exchange. In the five months ended August 31, 2001, Gibraltar Life recognized net realized investment gains from the sale of equity securities of $19 million.
Commercial and Consumer Loans
Other commercial loans include loans to corporations, financial institutions and government entities. Although a few of these loans are guaranteed by third parties or have priority rights to certain cash flows, substantially all of these loans are uncollateralized.
Consumer loans are loans extended to individuals for financing purchases of consumer goods and services and are guaranteed by third-party guarantor companies.
The following table sets forth the composition of Gibraltar Life's commercial and consumer loan portfolio and the related allowance for losses as of August 31, 2001.
Amortized Loan Loss Book
Cost Allowance Value
--------- --------- ------
($ in millions)
United States $ 77 $ -- $ 77
Japan:
Governments and official institutions........... 79 -- 79
Banks........................................... 938 -- 938
Other financial institutions.................... 1,263 (298) 965
Commercial and industrial....................... 740 (409) 331
Consumer........................................ 167 (3) 164
------ ----- ------
Sub-total....................................... 3,187 (710) 2,477
All Other........................................ 366 -- 366
------ ----- ------
Total........................................... $3,630 $(710) $2,920
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The following table sets forth the distribution by maturity of Gibraltar Life's commercial and consumer loan portfolio as of August 31, 2001.
Book
Value % of Total
------ ----------
($ in millions)
Due in one year or less................................... $ 829 28.4%
Due in one year to two years.............................. 578 19.8
Due in two to three years................................. 419 14.3
Due in three to four years................................ 324 11.1
Due in four to five years................................. 154 5.3
Due in five to six years.................................. 162 5.5
Due in six to seven years................................. 101 3.5
Due in seven to eight years............................... 22 0.8
Due in eight to nine years................................ 43 1.5
Due in nine to ten years.................................. 52 1.8
Due in more than ten years................................ 103 3.5
Impaired loans............................................ 133 4.5
------ -----
Total.................................................... $2,920 100.0%
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The following table sets forth an analysis of commercial and consumer loans due after one year between those with fixed interest rates and those with variable interest rates as of August 31, 2001.
Book Value % of Total
---------- ----------
($ in millions)
Fixed interest rate contracts......................... $1,580 80.7%
Variable interest rate contracts...................... 378 19.3
------ -----
Total................................................ $1,958 100.0%
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The following table sets forth the impaired loans identified in management's specific review of commercial loans for probable loan losses and the related allowance for losses as of August 31, 2001.
($ in millions)
Impaired loans with allowance for losses..................... $ 840
Allowance for losses......................................... (707)
-----
Net carrying value of impaired loans......................... $ 133
=====
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When management's review identifies a loan as impaired, the loan is classified as non-accruing and interest is recorded on a cash basis except to the extent that interest is prepaid. Impaired loans include loans for which management does not expect to collect all principal and interest payments in accordance with contractual terms.
Interest income recognized on impaired loans held for investment, including mortgage loans, during the period April 2, 2001 to August 31, 2001 was $0.6 million. Interest foregone on these impaired loans during that period was $8 million.
Loans Held for Sale
Loans held for sale as of August 31, 2001 consisted of $1,142 million carrying amount of mortgage loans on real estate and $468 million carrying amount of commercial and consumer loans. Substantially all of the $1,142 million of mortgage loans on real estate are residential mortgage loans guaranteed by third-party guarantors. The consumer loans held for sale are also guaranteed by third-parties. Management believes that the creditworthiness of these guarantors is deteriorating. The commercial loans held for sale are non-performing or sub-performing or reflect large exposures to certain borrowers. The amount that Gibraltar Life will ultimately realize from the sale of these loans could differ materially from the amount recorded as estimated fair value of these loans.
The following table sets forth the composition of Gibraltar Life's commercial and consumer loan portfolios held for sale as of August 31, 2001.
Amortized Valuation Book
Cost Allowance Value
--------- --------- -----
($ in millions)
Industry Category:
Japan:
Consumer......................................... $402 $(6) $396
Banks............................................ 72 -- 72
---- --- ----
Total............................................. $474 $(6) $468
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Risks of Acquisition
The acquisition involves a number of risks:
. Our belief that we can continue to operate Gibraltar Life on a profitable basis after its reorganization may be wrong, and Gibraltar Life could experience post-reorganization policyholder surrenders and withdrawals materially different from those we anticipate, which could adversely affect our results. In addition, Gibraltar Life could incur material losses, including deterioration of assets and/or lower than expected investment returns.
. The reorganization proceedings did not extinguish the liabilities of Gibraltar Life's affiliates. While there can be no assurance, we do not believe any existing or contingent liabilities of Gibraltar Life's affiliates involve exposures that are material to our consolidated financial position or results of operations.
DEMUTUALIZATION AND RELATED TRANSACTIONS
The demutualization will be consummated pursuant to a plan of reorganization. The following is a summary of the material terms of the demutualization and the plan of reorganization, including the destacking, the issuances of Class B Stock and IHC debt and the extraordinary dividend. The statements below concerning the plan of reorganization, the Class B Stock, the IHC debt and the inter-business transfers and allocation policies are only a summary, and reference is made to the plan of reorganization, Prudential Financial, Inc.'s certificate of incorporation, the subscription agreement relating to the Class B Stock and the inter-business transfers and allocation policies, copies of which are filed with the SEC as exhibits to the registration statement of which this prospectus forms a part. Each statement is qualified in its entirety by such reference.
The Demutualization
Summary of the Plan of Reorganization
Upon effectiveness of the plan of reorganization, The Prudential Insurance Company of America will convert from a mutual life insurance company owned by its policyholders to a stock life insurance company and become a wholly owned indirect subsidiary of Prudential Financial, Inc. Eligible policyholders as defined in the plan of reorganization will receive shares of Prudential Financial, Inc.'s Common Stock, cash or policy credits upon the extinguishment of all membership interests in The Prudential Insurance Company of America. In addition, two closed blocks will be established for the benefit of certain participating individual life insurance policies and annuities issued by The Prudential Insurance Company of America and its Canadian branch, respectively. Concurrently, we will sell Common Stock in the offering.
Approval of the Plan of Reorganization
The Commissioner of Banking and Insurance of the State of New Jersey held a public hearing regarding the plan of reorganization on July 17 and 18, 2001. At a policyholders' meeting held on July 31, 2001, the policyholders voted to approve the plan of reorganization. The Commissioner of Banking and Insurance of the State of New Jersey approved the plan of reorganization on October 15, 2001. For a discussion of challenges to the Commissioner's order approving the plan of reorganization and how such challenges may negatively affect you as a holder of Common Stock and could have a material adverse effect on our business, results of operations or financial conditions, you should read "Risk Factors--A legal challenge to the plan of reorganization could adversely affect the terms of the demutualization and the market price of our Common Stock".
Allocation and Payment of Compensation to Eligible Policyholders
Eligible policyholders entitled to receive compensation in the demutualization consist of:
. policyholders of The Prudential Insurance Company of America;
. U.S. policyholders of PRUCO Life Insurance Company, PRUCO Life Insurance Company of New Jersey and Prudential Select Life Insurance Company of America, each of which is a direct or indirect subsidiary of The Prudential Insurance Company of America;
. holders of certain policies that The Prudential Insurance Company of America transferred to London Life Insurance Company in 1996 in connection with the sale of most of its Canadian branch operations and certain successor policies thereto;
. holders of health insurance policies transferred to Aetna remaining in Prudential's name or issued by Aetna following notice of non-renewal or cancellation; and
. holders of policies that The National Life Assurance Company of Canada and The Prudential Insurance Company of America jointly issued pursuant to a reinsurance agreement.
In certain situations involving group policies issued to trusts established by Prudential, we will distribute demutualization compensation directly to certain participants (which may be either employers or individuals depending on the nature of the group), rather than the group policyholder, as if each participant were a separate policyholder.
In addition, we have offered to certain former policyholders who rescinded their policies, or who gave up their right to acquire policies, through the alternative dispute resolution process that we established in connection with the settlement of our principal life insurance sales practices litigation, the opportunity to repurchase their policies and participate in the demutualization as eligible policyholders.
The compensation an eligible policyholder receives under the plan of reorganization will be based on the number of shares of Common Stock notionally allocated to that eligible policyholder. The formula for allocating notional shares of Common Stock among eligible policyholders has two components. Every eligible policyholder will be entitled to receive a minimum allocation of eight notional shares, which we refer to as the basic fixed component of compensation. Every eligible policyholder will receive only one basic fixed component regardless of the number of eligible policies the eligible policyholder owns or their value. Eligible policyholders will also be entitled to receive an allocation of notional shares, which we refer to as the basic variable component, if the eligible policies they own have contributed, or are expected to contribute, to Prudential's surplus. We will calculate the amount of the basic variable component, if any, for each eligible policyholder based upon actuarial formulas. In addition, eligible policyholders receiving cash or policy credits but not Common Stock will be entitled to an additional allocation of notional shares equal to approximately 10% of the aggregate of such policyholder's basic fixed and variable components, subject to a minimum of two additional notional shares.
We will distribute to all eligible policyholders actual shares of Common Stock with respect to the number of shares notionally allocated to them in the demutualization, except as follows:
. We will provide policy credits with respect to policies that are tax- qualified individual retirement annuities, tax-deferred annuities or individual life insurance policies or individual annuity contracts issued in connection with specified tax-qualified plans.
. We will pay cash to each eligible policyholder whose address for mailing purposes, as of the effective date of the demutualization, as shown on our records is outside the United States or is shown on our records to be an address at which mail to such eligible policyholder is undeliverable within the United States and to each eligible policyholder who holds a policy that was issued by the Canadian branch of The Prudential Insurance Company of America and is denominated in Canadian dollars. Cash that we cannot provide to eligible policyholders because we cannot locate them will be subject to the unclaimed property acts and escheat laws of applicable jurisdictions.
. Each eligible policyholder to whom we allocate 50 (or such lower number as The Prudential Insurance Company of America's Board of Directors specifies) or fewer shares will receive cash unless such eligible policyholder affirmatively elects to receive shares.
. We will pay cash to each eligible policyholder whose policy is subject to a judgment lien, creditor lien (other than a policy loan made by Prudential) or bankruptcy proceeding as of the effective date of the demutualization.
We will determine the amount of cash or policy credits an eligible policyholder will receive by multiplying the number of notional shares allocated with respect to policies receiving cash or policy credits pursuant to the foregoing by the greater of:
. the initial public offering price, or
. an amount equal to the initial public offering price plus, if the average closing price of the Common Stock for the first 20 days of trading is greater than 110% of the initial public offering price, such excess, but not to exceed 10% of the initial public offering price.
We fixed the right of eligible policyholders to receive compensation as of December 15, 2000, the date on which The Prudential Insurance Company of America's Board of Directors adopted the plan of reorganization. Except for the former policyholders who rescinded policies, or who gave up their right to acquire policies, in the sales practices alternative dispute resolution process and elect to repurchase their policies to participate in the demutualization, an eligible policyholder must own one or more eligible policies that were in force, or were deemed to have been in force under the plan of reorganization, on the board adoption date in order to be eligible to receive compensation. We expect to distribute demutualization compensation to eligible policyholders within 45 days of the effective date, except that where the amount of compensation to be received by an eligible policyholder cannot be determined until after the effective date, because of the provision discussed above that applies if the Common Stock trades at a price greater than the specified amount over the first 20 trading days, we expect to distribute compensation within 45 days of the date that such amount and type are determined.
We have retained Milliman & Robertson, Inc., an actuarial consulting firm, to advise us in connection with actuarial matters involved in the development of the plan of reorganization and the payment of compensation to eligible policyholders. The opinion of Daniel J. McCarthy, M.A.A.A., an independent consulting actuary associated with Milliman USA, formerly Milliman & Robertson, Inc., dated December 12, 2000 states that the methodology and underlying assumptions used to allocate compensation among eligible policyholders set forth in the plan of reorganization are reasonable and appropriate as required by the New Jersey demutualization law. We have included a copy of this opinion as Annex A of this prospectus.
Commission-Free Program and Sales Facility
The plan of reorganization requires us to establish one or more commission- free programs under which eligible policyholders receiving 99 or fewer shares of Common Stock in the demutualization, and other shareholders holding 99 or fewer shares, may sell all, but not less than all, of their shares without paying brokerage commissions or similar expenses. The commission-free program will also permit policyholders receiving 99 or fewer shares to purchase enough additional shares to own exactly 100 shares. In the event that, on any particular day, the number of shares to be sold under the commission-free program exceeds the number of shares to be purchased, we will be offered the opportunity to buy back all or any portion of the excess shares. The sales and purchases made under the commission-free program will be at prevailing market prices without brokerage commissions or similar expenses. The commission-free program will involve transactions effected on a periodic basis on the NYSE. The first commission-free program will begin no sooner than 90 days after the effective date of demutualization and not later than the second anniversary of the effective date of the demutualization and will last for not less than three months. We estimate that upon consummation of the demutualization we will have approximately 4 million policyholders who will in total receive in excess of 166 million shares that we believe would be eligible to participate in the commission-free program. In addition to the commission-free program, we will arrange procedures for policyholders to obtain share certificates from the transfer agent or request transfer of their shares from the transfer agent to brokerage accounts. In addition, our transfer agent is expected to offer a sales facility for policyholders holding 1,000 shares of Common Stock or less, to sell shares, at their own expense, through the transfer agent. The sales facility will not be available until at least 30 days after the effective date of the demutualization.
The Closed Block
Under the plan of reorganization, The Prudential Insurance Company of America will establish a Closed Block for certain participating individual life insurance policies and annuities issued by The Prudential Insurance Company of America in the United States. The policies that we will include in the Closed Block are specified participating individual life insurance policies and individual annuity contracts that are in force on the effective date of the reorganization and on which we are currently paying or expect to pay experience-based policy dividends. The purpose of the Closed Block is to provide for the reasonable expectations for future policy dividends after demutualization of the holders of the policies included in the Closed Block. The operation of the Closed Block is subject to ongoing review by the New Jersey Department of Banking and Insurance. The Closed Block will continue in effect until the date none of the included policies is in force unless the Commissioner of the New Jersey Department of Banking and Insurance consents to an earlier termination.
We will also establish a separate closed block for the benefit of the owners of participating individual life insurance policies issued by our Canadian branch that we did not transfer to London Life. Our objective in establishing a separate closed block for these Canadian policies is to maintain consistency with the way we have managed the U.S. and Canadian blocks of business in the past for pricing and dividend purposes and to simplify the implementation details related to the funding calculations and cash flow tracking of the respective groups of policies. We will operate this closed block, which, because of the substantially smaller number of outstanding Canadian policies, will be insignificant in size, in a similar manner as the U.S. Closed Block and reflect it in our Corporate and Other operations of our Financial Services Businesses; it is not included in our Traditional Participating Products segment or the Closed Block Business.
The plan of reorganization provides that we may, with the prior consent of the Commissioner of Banking and Insurance of the State of New Jersey, enter into agreements to transfer to a third party all or any part of the risks under the Closed Block policies.
See "Unaudited Pro Forma Condensed Consolidated Financial Information-- Unaudited Pro Forma Closed Block Information" for pro forma financial information and the funding of the Closed Block.
Related Transactions
In connection with the demutualization, we plan to implement two significant changes to our organization and capital structure designed to increase the value of demutualization compensation received by eligible policyholders and enhance our financial flexibility. These intended changes are:
. on or within 30 days following the date of the demutualization, the "destacking" or reorganization of the ownership of various subsidiaries of The Prudential Insurance Company of America so that they become direct or indirect subsidiaries of Prudential Financial, Inc., and
. concurrently with the date of the demutualization, the issuance of Class B Stock designed to reflect the performance of the Closed Block Business and the issuance of IHC debt.
The Destacking
The first planned change is the "destacking". The following chart illustrates the organization of our principal operating companies prior to the demutualization.
[FLOW CHART]
In connection with the demutualization, Prudential Financial, Inc. will become the ultimate holding company for all of our companies. The destacking will establish Prudential Financial, Inc.'s ownership of The Prudential Insurance Company of America and the destacked subsidiaries in parallel ownership chains, rather than "stacked" ownership through The Prudential Insurance Company of America. The destacking will be accomplished as an extraordinary dividend concurrently with, or within 30 days following, the demutualization. To effect the destacking, The Prudential Insurance Company of America will distribute to Prudential Financial, Inc., directly or indirectly, the following subsidiaries, together with certain related assets and liabilities:
. our property and casualty insurance companies,
. our principal securities brokerage companies,
. our international insurance companies,
. our principal asset management operations, and
. our international securities and investments, domestic banking, and residential real estate brokerage franchise and relocation services operations.
The following chart illustrates the principal elements of our organization after giving effect to the demutualization and the complete destacking.
[FLOW CHART]
Class B Stock and IHC Debt Issuances
General
We plan to issue shares of Class B Stock of Prudential Financial, Inc. to institutional investors in a private placement concurrently with this offering of our Common Stock. We also plan to issue the IHC debt concurrently with the demutualization. A portion of the IHC debt will be insured by a bond insurer. The Class B Stock will be designed to reflect the performance of the Closed Block Business, including the Closed Block Assets and Closed Block Liabilities and the Surplus and Related Assets, as well as other related assets and liabilities noted below, including the IHC debt. We expect that the IHC debt will be serviced by, and the dividends to the holders of the Class B Stock will reflect, the net cash flows of the Closed Block Business over time. The Common Stock issued in this offering will reflect the performance of our Financial Services Businesses, which will include the capital previously included in the Traditional Participating Products segment in excess of the amount necessary to support the Closed Block Business. The Financial Services Businesses will also include other traditional insurance products previously included in the Traditional Participating Products segment but which will not be included in the Closed Block, and the proceeds of issuing the Class B Stock and IHC debt.
We believe the sale of the Class B Stock and IHC debt will improve the value and investment attributes of the Common Stock distributed to eligible policyholders in our demutualization and in this offering, and this is the purpose of their issuances. We expect the Common Stock will reflect the performance of our post-demutualization Financial Services Businesses without reflecting the relatively lower returns of the participating products included in the Closed Block. Further, we will allocate the entire net proceeds from the issuances of the Class B Stock and the IHC debt to our Financial Services Businesses. We will use most of these proceeds in our Financial Services Businesses, which should further increase the value of the Financial Services Businesses, although we will use a minority portion of the proceeds of the IHC debt to service payments on that debt.
For this purpose, on April 25, 2001, we entered into a subscription agreement pursuant to which American International Group, Inc. and Pacific LifeCorp agreed to purchase 1.8 million and 0.2 million shares of Class B Stock, respectively, for a purchase price of $87.50 per share at the time of our demutualization, which will generate aggregate gross proceeds of $175 million. On July 31, 2001, we entered into a commitment letter with Financial Security Assurance Inc. to insure up to $1.75 billion of IHC debt. The number of shares of Class B Stock and/or the aggregate principal amount of the IHC debt are each subject to downward adjustment by Prudential Financial, Inc. in the event the expected annual interest cost of the IHC debt, taken together with the cost of insurance therefor and the Target Dividend Amount, exceed a specified range. The subscription agreement
and commitment letter contain various conditions to the investors' and the bond insurer's respective commitments, including the absence of specified material adverse changes affecting us or the Closed Block, the absence of material changes to the proposed terms of the Class B Stock or IHC debt, and the maintenance of credit ratings. The bond insurer's commitment is also subject to its obtaining of reinsurance of its commitment and, to this end, we have negotiated commitments with a number of reinsurers as to a portion, but not all, of the necessary reinsurance. The closing of the private placement of the Class B Stock is a condition to this offering of our Common Stock, but the issuance of the IHC debt is not a condition to this offering.
Dividends declared and paid on the Common Stock will depend upon the financial performance of the Financial Services Businesses. Dividends declared and paid on the Common Stock will not depend upon or be affected by the financial performance of the Closed Block Business, unless the Closed Block Business is in financial distress. Dividends declared and paid on the Common Stock also will not be affected by decisions with respect to dividend payments on the Class B Stock except as indicated in the following paragraph.
Dividends declared and paid on the Class B Stock will depend upon the financial performance of the Closed Block Business and, as the Closed Block matures, the holders of the Class B Stock will receive the surplus of the Closed Block Business no longer required to support the Closed Block Business for regulatory purposes. Dividends on the Class B Stock will be payable in an aggregate amount per year at least equal to the lesser of (i) a "Target Dividend Amount" of $19.25 million or (ii) the "CB Distributable Cash Flow" for such year, which is a measure of the net cash flows of the Closed Block Business. Notwithstanding this formula, as with any common stock, we will retain the flexibility to suspend dividends on the Class B Stock; however, if CB Distributable Cash Flow exists for any period and Prudential Financial, Inc. chooses not to pay dividends on the Class B Stock in an aggregate amount at least equal to the lesser of the CB Distributable Cash Flow or the Target Dividend Amount for that period, then cash dividends cannot be paid on the Common Stock with respect to such period. The principal component of "CB Distributable Cash Flow" will be the amount by which Surplus and Related Assets, determined according to statutory accounting principles, exceed surplus that would be required for the Closed Block Business considered as a separate insurer; provided, however, that "CB Distributable Cash Flow" counts such excess only to the extent distributable as a dividend by The Prudential Insurance Company of America under specified (but not all) provisions of New Jersey insurance law. We currently anticipate that CB Distributable Cash Flow will substantially exceed the Target Dividend Amount. Subject to the discretion of the Board of Directors of Prudential Financial, Inc., we currently anticipate paying dividends on the Class B Stock at the Target Dividend Amount for the foreseeable future.
The Common Stock and the Class B Stock will be separate classes of common stock under New Jersey corporate law. The shares of Common Stock will vote together with the shares of Class B Stock on all matters (one share, one vote) except as otherwise required by law and except that holders of the Class B Stock will have class voting or consent rights with respect to specified matters directly affecting the Class B Stock. Upon completion of the demutualization, this offering and the private placement of Class B Stock, Prudential Financial, Inc. will have approximately 568.3 million total shares of Common Stock and Class B Stock outstanding, with the shares of Class B Stock representing less than 1% of the outstanding shares, based on our assumptions regarding the number of shares issued in the demutualization.
In the event of a liquidation, dissolution or winding-up of Prudential Financial, Inc., holders of Common Stock and holders of Class B Stock will be entitled to receive a proportionate share of the net assets of Prudential Financial, Inc. that remains after paying all liabilities and the liquidation preferences of any preferred stock. This liquidation proportion will be based on the average market value per share of the Common Stock, determined over a specified trading period ending 60 days after this offering, and the issuance price per share of the Class B Stock.
The issuer of the IHC debt will be Prudential Holdings, LLC. Prudential Holdings, LLC will distribute most of the net proceeds to Prudential Financial, Inc. for use for general corporate purposes. Prudential Holdings, LLC will deposit a minority portion of the net proceeds of the IHC debt in a debt service coverage account which, together with reinvested earnings thereon, will constitute a source of payment and security for the IHC debt. To the extent we use such net proceeds to service payments with respect to the IHC debt or to pay dividends to Prudential Financial, Inc. for purposes of the Closed Block Business, a loan from the Financial Services Businesses to the Closed Block Business would be established. Such inter-business loan would be repaid by the Closed Block Business to the Financial Services Businesses when earnings from the Closed Block Business replenish funds in the debt service coverage account to a specified level.
We believe that the proceeds of issuances of the Class B Stock and IHC debt will reflect capital in excess of that necessary to support the Closed Block Business and that the Closed Block Business will have sufficient assets and cash flows to service the IHC debt. The investors in the Class B Stock and the bond insurer have agreed to this allocation and usage of issuance proceeds. The Closed Block Business will be financially leveraged through the issuance of the IHC debt, and dividends on the Class B Stock will be subject to prior servicing of the IHC debt.
In order to separately reflect the financial performance of the Financial Services Businesses and the Closed Block Business, we will allocate all our assets and liabilities and earnings between the two Businesses and account for them as if they are separate legal entities. Assets and liabilities allocated to the Closed Block Business will be those that we consider appropriate to operate that business. You can see pro forma information regarding this allocation under "Unaudited Pro Forma Condensed Consolidated Financial Information". After giving effect to the demutualization and the issuance of Class B Stock and the IHC debt, the Closed Block Business would consist principally of:
. Within The Prudential Insurance Company of America, Closed Block Assets, Surplus and Related Assets and deferred policy acquisition costs and other assets and, with respect to liabilities, Closed Block Liabilities.
. Within Prudential Holdings, LLC, the principal amount of the IHC debt and related unamortized debt issuance costs and hedging activities.
. Within Prudential Financial, Inc., dividends received from Prudential Holdings, LLC, and reinvestment thereof, and other liabilities of Prudential Financial, Inc., in each case as attributable to the Closed Block Business.
The Financial Services Businesses will bear any expenses and liabilities from litigation affecting the Closed Block policies and the consequences of certain adverse tax determinations. In addition, in the nine months ended September 30, 2001, a reserve of $160 million was recorded in the Traditional Participating Products segment for death and other benefits due with respect to policies for which we have not received a death claim but where death has occurred. Upon demutualization, this reserve will become a liability of the Financial Services Businesses and any subsequent reestimation of this reserve (upward or downward) will be included in adjusted operating income of the Financial Service Businesses. The foregoing items would therefore be reflected in the Financial Services Businesses, and not in the Closed Block Business. In connection with the sale of the Class B Stock and IHC debt, we have agreed, or expect to agree, to indemnify the investors with respect to certain matters, and such indemnification will be borne by the Financial Services Businesses.
The following table sets forth the allocation of assets and liabilities to the Closed Block Business on a pro forma basis as of September 30, 2001:
Assets Liabilities
------- -----------
(in millions)
Traditional Participating Products segment within The
Prudential Insurance Company of America(1):
Closed Block Assets...................................... $58,822 --
Surplus and Related Assets............................... 3,671 --
Closed Block Liabilities................................. $61,084
Deferred policy acquisition costs and other assets....... 1,392 --
Prudential Holdings, LLC:
IHC debt................................................. -- 1,750
Other liabilities........................................ -- 108
Unamortized debt issuance costs.......................... 20 --
Prudential Financial, Inc.:
Dividends received from Prudential Holdings, LLC......... -- --
------- -------
Closed Block Business(1).................................. $63,905 $62,942
======= =======
|
All assets and liabilities of Prudential Financial, Inc. and its subsidiaries not included in the Closed Block Business will constitute the Financial Services Businesses. The Financial Services Businesses will include the capital previously included in the Traditional Participating Products segment in excess of the amount necessary to support the Closed Block Business. Additionally, the minor portion of traditional insurance products historically included in the Traditional Participating Products segment but which will not be included in the Closed Block would be reflected in our Individual Life Insurance segment.
It is expected that any inter-business loan referred to above will be repaid in full out of Surplus and Related Assets, but not Closed Block Assets. Such loan will be subordinate to the IHC debt.
The following diagram reflects the planned allocation of Prudential Financial, Inc.'s consolidated assets and liabilities between the Financial Services Businesses and the Closed Block Business after giving effect to the demutualization and the destacking:
[FLOW CHART]
You should understand that there will be no legal separation of the two Businesses. The foregoing allocation of assets and liabilities will not require Prudential Financial, Inc., The Prudential Insurance Company of America, any of their subsidiaries, or the Closed Block to transfer any specific assets or liabilities to a new entity.
The Class B Stock will be exchangeable for or convertible into shares of Common Stock at any time at our discretion, at the discretion of the holders of Class B Stock in the event of certain regulatory events, or mandatorily in the event of a change of control of Prudential Financial, Inc. or a sale of all or substantially all of the Closed Block Business. Commencing in 2016, the Class B Stock will be convertible at the discretion of the holders of the Class B Stock. Upon exchange or conversion of the Class B Stock, the Businesses would cease to be separated and the intended benefits of the separation noted above would also cease.
Financial Reporting
Prudential Financial, Inc.'s GAAP financial statements reported to you will be prepared so that the following financial disclosures will be made following demutualization:
. audited annual consolidated financial statements and unaudited interim consolidated financial statements of Prudential Financial, Inc. as would otherwise be prepared regardless of the issuance of the Class B Stock; and
. audited supplemental combining financial information on an annual basis and unaudited supplemental combining financial information on an interim basis, which will separately report the financial position and results of operations of the Financial Services Businesses and the Closed Block Business.
Even though Prudential Financial, Inc. will allocate all of its consolidated assets, liabilities, revenue, expenses and cash flow between the Financial Services Businesses and the Closed Block Business, there will be no legal separation of the two Businesses, and holders of Common Stock and holders of Class B Stock will be common stockholders of Prudential Financial, Inc. and, as such, will be subject to all risks associated with an investment in Prudential Financial, Inc. and all of its businesses, assets and liabilities. This means that:
. holders of Common Stock will have no equity interest in a legal entity representing the Financial Services Businesses;
. holders of Class B Stock will have no equity interest in a legal entity representing the Closed Block Business; and
. holders of each class of common stock will be subject to all of the risks associated with an investment in Prudential Financial, Inc. and all of our businesses, assets and liabilities.
Within the Closed Block Business the assets and cash flows attributable to the Closed Block will inure solely to the benefit of the Closed Block policyholders through policyholder dividends after payment of benefits, expenses and taxes. The Surplus and Related Assets will inure to the benefit of the holders of Class B Stock. The earnings on, and distribution of, the Surplus and Related Assets over time will be the source or measure of payment of the interest and principal of the IHC debt and of dividends on the Class B Stock. The earnings of the Closed Block will be reported as part of the Closed Block Business, although no cash flows or assets of the Closed Block will inure to the benefit of the holders of Common Stock or Class B Stock. The Closed Block Assets will not be available to service interest and principal of the IHC debt or dividends on the Class B Stock.
Inter-Business Transfers and Allocation Policies
While all our assets and liabilities will be allocated between the Businesses, we will be permitted to make transfers of assets and liabilities between the Businesses in order to accomplish cash management objectives, to fund, if necessary, unsatisfied liabilities of one Business with the assets of the other, to pay taxes and to achieve other objectives which we may deem appropriate, subject to regulatory oversight. In addition, we will retain discretion over accounting policies and the appropriate allocation of earnings between the two Businesses.
The Board of Directors will adopt certain policies with respect to inter- business transfers and accounting and tax matters, including the allocation of earnings. Such policies are summarized below. In the future, the Board of Directors may modify, rescind or add to any of these policies, although it has no present intention to do so. However, the decision of the Board of Directors to modify, rescind or add to any of these policies would be subject to the Board of Directors' general fiduciary duties. In addition, we have agreed with the investors in the Class B Stock and the insurer of the IHC debt that, in most instances, the Board of Directors may not change these policies without their consent.
Inter-Business Transactions and Transfers
The transactions which will be permitted between the Financial Services Businesses and the Closed Block Business, subject to any required regulatory approvals and the limitations under the IHC debt, include the following:
. The Closed Block Business may lend to the Financial Services Businesses and the Financial Services Businesses may lend to the Closed Block Business, in either case on terms no less favorable to the Closed Block Business than comparable internal loans and only for cash management purposes in the ordinary course of business and on market terms pursuant to our internal short-term cash management facility.
. Other transactions between the Closed Block and businesses outside of the Closed Block, including the Financial Services Businesses, are permitted if, among other things, such transactions benefit the Closed Block, are at fair market value and do not exceed, in any calendar year, a specified formulaic amount.
. Capital contributions to The Prudential Insurance Company of America may be for the benefit of either the Financial Services Businesses or the Closed Block Business and assets of the Financial Services Businesses within The Prudential Insurance Company of America may be transferred to the Closed Block Business within The Prudential Insurance Company of America in the form of a loan which is subordinated to all existing obligations of the Closed Block Business on market terms.
. An inter-business loan from the Financial Services Businesses to the Closed Block Business may be established to reflect usage of the net proceeds of the IHC debt initially deposited in the debt service coverage account, and any reinvested earnings thereon, to pay debt service on the IHC debt or dividends to Prudential Financial, Inc. for purposes of the Closed Block Business.
. In addition to the foregoing, the Financial Services Businesses may lend to the Closed Block Business, on either a subordinated or non- subordinated basis, on market terms as may be approved by Prudential Financial, Inc.
. The Financial Services Businesses and the Closed Block Business may engage in such other transactions on market terms as may be approved by Prudential Financial, Inc. and, if applicable, The Prudential Insurance Company of America.
. The Board of Directors has discretion to transfer assets of the Financial Services Businesses to the Closed Block, or use such assets for the benefit of Closed Block policyholders, if it believes such transfer or usage is in the best interests of the Financial Services Businesses, and such transfer or usage may be made without requiring any repayment of the amounts transferred or used or the payment of any other consideration from the Closed Block Business.
. Cash payments for administrative purposes from the Closed Block Business to the Financial Services Businesses will be based on formulas that initially approximate the actual expenses incurred by the Financial Services Businesses to provide such services. Administrative expenses recorded by the Closed Block Business, and the related income tax effect, will be based upon actual expenses incurred under GAAP. Any difference in the cash amount transferred and actual expenses incurred as reported under GAAP will be recorded, on an after-tax basis at the applicable current rate, as direct adjustments to the respective GAAP equity balances of the Closed Block Business and the Financial Services Businesses, without the issuance of shares of either Business to the other Business. Internal investment expenses recorded and paid by the Closed Block Business, and the related income tax effect, will be based upon actual expenses incurred under GAAP and in accordance with internal arrangements governing record keeping, bank fees, accounting and reporting, asset allocation, investment policy and planning and analysis.
Accounting Policies
Accounting policies relating to the allocation of assets, liabilities, revenues and expenses between the two Businesses include:
. All our assets, liabilities, equity and earnings will be allocated between the two Businesses and accounted for as if the Businesses were separate legal entities. Assets and liabilities allocated to the Closed Block Business will be those that we consider appropriate to operate that Business. All remaining assets and liabilities of Prudential Financial, Inc. and its subsidiaries will constitute the Financial Services Businesses.
. For financial reporting purposes, revenues, administrative, overhead and investment expenses, taxes other than federal income taxes, and certain commissions and commission-related expenses associated with the Closed Block Business will be allocated between the Closed Block Business and the Financial Services Businesses in accordance with GAAP. Interest expense and routine maintenance and administrative costs generated by the IHC debt is considered directly attributable to the Closed Block Business and is therefore allocated in its entirety to the Closed Block Business except as indicated below.
. Any transfers of funds between the Closed Block Business and the Financial Services Businesses will typically be accounted for as either reimbursement of expense, investment income, return of principal or a subordinated loan, except as contemplated under "--Inter-Business Transactions and Transfers" above.
. The Financial Services Businesses will bear any expenses and liabilities from litigation affecting the Closed Block policies, subsequent reserve reestimations (if any) with respect to specified incurred but not reported death claims recorded as of demutualization as noted above and the consequences of certain adverse tax determinations noted below. In connection with the sale of the Class B Stock and IHC debt, we have agreed, or expect to agree, to indemnify the investors with respect to certain matters, and such indemnification will be borne by the Financial Services Businesses.
Tax Allocation and Tax Treatment
The Closed Block Business within each legal entity will be treated as if it were a consolidated subsidiary of Prudential Financial, Inc. Accordingly, if the Closed Block Business has taxable income, it will recognize its share of income tax as if it were a consolidated subsidiary of Prudential Financial, Inc. If the Closed Block Business has losses or credits, it will recognize a current income tax benefit.
If the Closed Block Business within any legal entity has taxable income, it will pay its share of income tax in cash to the Financial Services Businesses. If it has losses or credits, it will receive its benefit in cash from the Financial Services Businesses. If the losses or credits cannot be currently utilized in the consolidated federal income tax return of Prudential Financial, Inc. for the year in which such losses or credits arise, the Closed Block Business will still receive the full benefit in cash, and the Financial Services Businesses will subsequently recover
the payment for itself at the time the losses or credits are actually utilized in computing estimated payments or in the consolidated federal income tax return of Prudential Financial, Inc. Certain tax costs and benefits are determined under the plan of reorganization with respect to the Closed Block using statutory accounting rules that may give rise to tax costs or tax benefits prior to the time that those costs or benefits are actually realized for tax purposes. If at any time the Closed Block Business is allocated any such tax cost or a tax benefit under the plan of reorganization that is not realized at that same time under the relevant tax rules but will be realized in the future, the Closed Block Business will pay such tax cost or receive such tax benefit at that time, but it shall be paid to or paid by the Financial Services Businesses. When such tax cost or tax benefit is subsequently realized under the relevant tax rules, the tax cost or tax benefit shall be allocated to the Financial Services Businesses. The foregoing principles will be applied so as to prevent any item of income, deduction, gain, loss, credit, tax cost or tax benefit being taken into account more than once by the Closed Block Business (including the Closed Block) or the Financial Services Businesses. For this purpose, items determined under the plan of reorganization with respect to any period prior to the effective date of the demutualization ("Pre-Closing Tax Attributes") shall be taken into account with any such Pre-Closing Tax Attributes relating to the Closed Block being attributed to the Closed Block Business and all other Pre-Closing Tax Attributes being attributed to the Financial Services Businesses. The Closed Block Business will also pay or receive its appropriate share of tax or interest resulting from adjustments attributable to the settlement of tax controversies or the filing of amended tax returns to the extent such tax or interest relates to controversies or amended returns arising with respect to the Closed Block Business and attributable to tax periods after this offering, except to the extent that such tax is directly attributable to the characterization of the IHC debt for tax purposes, in which case the tax shall be borne by the Financial Services Businesses. In particular (and without limitation of the foregoing) if a change of tax law after the demutualization, including any change in the interpretation of any tax law, results in the recharacterization of all or part of the IHC debt for tax purposes or a significant reduction in the income tax benefit associated with the interest expense on all or part of the IHC debt, the Financial Services Businesses will continue to pay the foregone income tax benefit to the Closed Block Business until the IHC debt has been repaid or Prudential Holdings, LLC has been released from its obligations to the bond insurer and under the IHC debt as if such recharacterization or reduction of actual benefit has not occurred.
Class B Stock
You should read "Description of Capital Stock--Common Stock" below for a further description of the terms of the Class B Stock and how such terms will affect your rights as a holder of our Common Stock.
IHC debt
We plan to issue the IHC debt through Prudential Holdings, LLC, a newly- formed intermediate holding company of The Prudential Insurance Company of America, whose principal asset will be 100% of the stock of The Prudential Insurance Company of America. If issued, the IHC debt will be sold in a private placement to institutional investors concurrently with this offering of our Common Stock. If issued, the principal amount of the IHC debt is expected to be up to $1.75 billion. The IHC debt may bear interest at fixed rates and/or floating rates. We expect that the IHC debt will be serviced by the net cash flows of the Closed Block Business. We expect that Prudential Holdings, LLC will issue a portion of the IHC debt with insurance of principal and interest payments provided by a bond insurer. Most of the net proceeds of the IHC debt will be distributed to Prudential Financial, Inc. for use for general corporate purposes. A minority portion of the net proceeds of the IHC debt will be deposited by Prudential Holdings, LLC in a debt service coverage account which, together with reinvested earnings thereon, will constitute a source of payment and security for the IHC debt. The issuance of the IHC debt is not assured and is not a condition to completion of this offering.
The IHC debt will be senior, secured indebtedness of Prudential Holdings,
LLC. Its maturity is expected to be 22 years, although Prudential Holdings,
LLC may redeem the debt at any time at a premium through the first twelve
years following the issuance year and without a premium thereafter. In
addition, the bond insurer will have the right to require Prudential Holdings,
LLC to redeem all of the outstanding IHC debt issued with bond insurance upon
certain material adverse regulatory events or if there is a "change of
control" of Prudential Financial, Inc. (defined similarly to a "change of
control" for the purposes of the Class B Stock, as described under
"Description of Capital Stock--Common Stock--Exchange and Conversion
Provisions"). The IHC debt will be secured by a proportion of the outstanding
shares of The Prudential Insurance Company of America not exceeding 49% of
such shares. Additionally, the IHC debt will be secured by funds held in a
debt service coverage account. The terms of the IHC debt will contain various
covenants, including, general prohibitions on Prudential
Holdings, LLC's incurrence of indebtedness other than the IHC debt, limitations on dividend payments by The Prudential Insurance Company of America with respect to the Closed Block Business, and limitations on the business activities of Prudential Holdings, LLC and the non-life insurance business activities of The Prudential Insurance Company of America. In particular, the terms of the IHC debt: require that The Prudential Insurance Company of America will engage only in business similar to the business it is engaged in at the time of demutualization; following destacking, restrict the payment of dividends by Prudential Holdings, LLC with respect to the Closed Block Business in the event of a default under the IHC debt until the default is cured; limit the amount of dividends that The Prudential Insurance Company of America may pay with respect to each of the Closed Block Business and the Financial Services Businesses in certain specified circumstances; and require that The Prudential Insurance Company of America's dividend capacity be used first to fund dividend payments with respect to the Closed Block Business in the event (i) Prudential Financial, Inc.'s or The Prudential Insurance Company of America's credit ratings are downgraded below specified levels, (ii) the Closed Block Business performs materially less well than anticipated, (iii) an event of default occurs and is not waived or (iv) Surplus and Related Assets are utilized to pay policyholder dividends on Closed Block policies. If an event of default occurs, the bond insurer may elect to foreclose on the collateral, including the pledged shares of The Prudential Insurance Company of America. Events of default under the IHC debt include: any payment by the bond insurer under the bond insurance; failure of Prudential Holdings, LLC to make specified deposits in the debt service coverage account; failure of Prudential Financial, Inc. to make payments to Prudential Holdings, LLC pursuant to certain tax agreements; and failure of Prudential Holdings, LLC to pay premiums on the bond insurance when due.
Statutory Information
Following the destacking, The Prudential Insurance Company of America's statutory net income and surplus will be significantly reduced. The following table reflects historical statutory financial information for The Prudential Insurance Company of America and pro forma statutory financial information reflecting the demutualization and the destacking as if they had occurred on January 1, 2000 for purposes of statutory net gain (loss) from operations and net income (loss) and on December 31, 2000 for statutory adjusted capital purposes:
As of and for
the Year Ended
December 31, 2000
--------------------
Historical Pro Forma
---------- ---------
(in millions)
Surplus and Asset Valuation Reserve (1)................... $11,741 $7,527
One-half dividend liability (2)........................... 1,289 1,289
------- ------
Total Adjusted Capital................................... 13,030 8,816
Net (loss) from operations (3)............................ (134) (324)
Net realized capital gains................................ 283 283
------- ------
Net income (loss)........................................ $ 149 $ (41)
======= ======
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(1) Includes asset valuation reserve for subsidiaries of $33 million not included in The Prudential Insurance Company of America's asset valuation reserve. The actual amount of change in surplus and asset valuation reserve for the demutualization and destacking may differ as a result of operations and capital activities subsequent to December 31, 2000.
(2) One-half of the policyholder dividends apportioned for payment to December 31 of the following year and policyholder dividends not yet apportioned.
(3) Pro forma net loss from operations does not include $327 million we expect to pay to holders of certain policies that The Prudential Insurance Company of America transferred to London Life Insurance Company in connection with the sale of most of its Canadian branch operations. These payments will be recorded as an expense at the time of the demutualization but have not been reflected in the pro forma net loss from operations as they will not have a continuing impact.
In addition to the adjustments for the destacking, pro forma 2000 net (loss) from operations and net income (loss) above have been adjusted to reflect the elimination of the equity tax because The Prudential Insurance Company of America will no longer be subject to equity taxes after demutualization, and the related earnings on these adjustments.
As discussed under "Management's Discussion and Analysis of Financial Condition and Results of Operations", the current statutory limitation on the payment of non-extraordinary dividends by The Prudential Insurance Company of America is that dividends be paid from unassigned surplus, less unrealized investment gains and revaluation of assets, in an amount not greater than the greater of (1) 10% of surplus as regards policyholders as of the December 31 next preceding the date of the proposed dividend or (2) the net gain from operations of such insurer, not including realized investment gains, for the 12-month period ending the December 31 next preceding the date of the proposed dividend.
For purposes of (1) of the foregoing limitation, The Prudential Insurance Company of America's surplus was $8.640 billion at December 31, 2000 and, on a pro forma basis, giving effect to the foregoing assumptions, would have been $5.572 billion at December 31, 2000. We anticipate that surplus will be adequate to provide for dividends to Prudential Financial, Inc. after demutualization.
With respect to (2) of the foregoing limitation, The Prudential Insurance Company of America's 2000 net (loss) from operations reflected the negative impact of significant non-recurring items including charges associated with the restructuring of the capital markets activities of Prudential Securities, a wholly-owned subsidiary, and the establishment of additional insurance reserves due to a portfolio strategy we implemented to sell securities with lower investment income yields underlying some of our long duration products in the Retail Investments and Other Employee Benefits segments and to reinvest the proceeds in higher yielding securities. Statutory accounting changes that became effective on January 1, 2001 allow for the reduction of certain significant tax provisions included in net (loss) from operations. In 2001, statutory net gain from operations will be negatively affected by the expense associated with payments of demutualization consideration to be made to holders of certain policies that The Prudential Insurance Company of America transferred to London Life Insurance Company in connection with the sale of most of its Canadian branch operations.
With respect to the "unassigned surplus" requirement, while unassigned surplus will be reduced to zero upon demutualization, we expect it will grow thereafter in the ordinary course of business over time, including gains from operations and any realized capital gains.
After giving effect to the above transactions, we believe that The Prudential Insurance Company of America will be adequately capitalized to meet all regulatory requirements and to carry out its business plan.
Federal Income Tax Consequences to Policyholders
It is a condition to the effectiveness of the plan of reorganization that we receive either rulings from the Internal Revenue Service or opinions from one or more nationally recognized independent tax counsel substantially to the effect that:
. policies issued or purchased before the demutualization will not be deemed newly issued, issued in exchange for existing policies or newly purchased for any material federal income tax purpose as a result of the conversion of The Prudential Insurance Company of America from a mutual to a stock life insurance company under the plan of reorganization or, in the case of the policies described in the following paragraph, the crediting of compensation in the form of policy credits; and
. the crediting of compensation in the form of policy credits to tax- qualified individual retirement annuities (under section 408 or 408A), tax deferred annuities (under section 403(b)), or individual life insurance policies or individual annuity contracts issued in connection with plans qualified under section 401(a) or 403(a) of the Internal Revenue Code will not adversely affect the tax-favored status accorded to such contracts under the Internal Revenue Code, and will not be treated as a distribution under, or a contribution to, such contracts under the Internal Revenue Code.
By letters dated April 26, 2000, June 12, 2000 and September 28, 2001, we received these rulings from the IRS.
It is also a condition to the effectiveness of the plan of reorganization that a nationally recognized independent tax counsel opines that the summary of the principal federal income tax consequences to eligible policyholders of their receipt of compensation under the plan of reorganization that is set forth in the policyholder information booklet is accurate as of the date of such policyholder information booklet and remains accurate in all material respects under the applicable federal income tax law in effect as of the effective date of the plan of reorganization, with the exception of developments between the mailing date and the effective date of the plan of reorganization that The Prudential Insurance Company of America determines to be not materially adverse to the interests of the eligible policyholders.
Federal Income Tax Consequences to Prudential
By letter dated April 26, 2000, we received rulings from the IRS substantially to the effect that:
. no income, gain or loss should be recognized by Prudential Financial, Inc. or The Prudential Insurance Company of America for federal income tax purposes as a result of the conversion of The Prudential
Insurance Company of America from a mutual to a stock life insurance company or the distribution of Common Stock to eligible policyholders in exchange for their membership interests in The Prudential Insurance Company of America;
. the federal income tax attributes of The Prudential Insurance Company of America, including its tax basis and holding period of its assets, carryforwards of tax losses or other tax benefits (if any) and accounting methods should not be affected by its conversion from a mutual to a stock life insurance company;
. the affiliated federal income tax group of which The Prudential Insurance Company of America is the common parent immediately before the reorganization will remain in existence and will continue to be able to file a consolidated federal income tax return, with Prudential Financial, Inc. as the new common parent of the group and The Prudential Insurance Company of America as an eligible member for inclusion in the group; and
. the major distributions in connection with the destacking described in this prospectus are tax-free to Prudential Financial, Inc., The Prudential Insurance Company of America and its affiliates.
By letter dated September 28, 2001, we received a supplemental ruling from the IRS confirming that certain changes that have been made to the proposed structure since we received the ruling letter, such as the issuance of the Class B Stock, would not change these rulings.
With respect to the Class B Stock, the IRS will not issue advance rulings on the classification of an instrument whose dividend rights are determined by reference to the earnings of a segregated portion of the issuing corporation's assets, including assets held by a subsidiary, and accordingly, no ruling has been sought from the IRS. In addition, there are no court decisions or other authorities bearing directly on the classification of instruments with characteristics similar to those of the Class B Stock. However, we believe that the Class B Stock should be treated as common stock of Prudential Financial, Inc., and that the issuance of the Class B Stock should not result in taxation to us.
The preceding summary of the federal income tax consequences to policyholders and Prudential is based on the Internal Revenue Code, regulations thereunder, administrative interpretations thereof and judicial interpretations with respect thereto, all of which are subject to change. In particular, Congress could enact legislation affecting the treatment of stock with characteristics similar to the Class B Stock, or the Treasury Department could issue regulations that change current law. Any future legislation or regulations could, but are unlikely to, apply retroactively. We may issue additional Common Stock in exchange for Class B Stock if the enactment of legislative or administrative changes would adversely affect us.
The opinions of our special tax counsel are not binding on the IRS. The opinions of our special tax counsel, and any IRS rulings obtained, are based on the accuracy of representations, statements and undertakings by us.
BUSINESS
We are one of the largest financial services institutions in the United States. We provide a wide range of insurance, investment management and other financial products and services and have more than 15 million individual and institutional customers in the United States and over 30 foreign countries. We have one of the largest distribution forces in the financial services industry, with approximately 21,900 sales people worldwide at September 30, 2001, including approximately
. 4,900 Prudential Agents,
. 4,000 international Life Planners and 6,600 Gibraltar Life Advisors, and
. 6,400 domestic and international Financial Advisors.
We also distribute our retail products through a number of alternative channels, including PruSelect and our workplace marketing platforms. We have a leading or significant market presence in most of the markets we serve.
The following table shows the primary products, primary sales channels and other sales channels for each of the segments in our Financial Services Businesses.
FINANCIAL SERVICES BUSINESSES Primary Products Primary Sales Channels Other Sales Channels
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U.S. Consumer Division
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Individual Life Insurance .Variable life .Prudential Agents .PruSelect
.Term life .Financial Advisors
.Universal life
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Private Client Group .Financial advisory and .Financial Advisors .Internet (securities
brokerage services transactions only)
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.Consumer banking .Direct sales .Telemarketing
.Internet
.Financial Advisors
.Prudential Agents
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Retail Investments .Mutual funds .Financial Advisors .Independent financial
.Wrap-fee products .Prudential Agents advisors
.Variable annuities .Independent registered
.Fixed annuities representatives
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Property and Casualty Insurance .Automobile .Prudential Agents . Independent agents
.Homeowners . Workplace marketing
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Employee Benefits Division
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Group Insurance .Group term life .Institutional sales force .Prudential Agents
.Group disability .Independent benefits
brokers and consultants
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Other Employee Benefits .Retirement plans, incl. .Financial Advisors .Prudential Agents
defined contribution plans .Institutional sales forces .Independent benefits
.Guaranteed products brokers and consultants
.Direct distribution
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.Real estate franchises .Institutional sales forces
and relocation services
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International Division
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International Insurance .Traditional whole life .Life Planners
.Term life .Gibraltar Life Advisors
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International Securities and .International securities .Financial Advisors .Internet
Investments sales and trading .Institutional sales force (securities transactions
only)
.International asset .Third-party distribution
management
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Asset Management Division
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Investment Management and Advisory .Institutional asset .Institutional sales force
Services management
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Other Asset Management .Proprietary activities .Institutional sales force
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U.S. Consumer Division
The U.S. Consumer division conducts its operations through four segments:
Individual Life Insurance, Private Client Group, Retail Investments and
Property and Casualty Insurance.
. Individual Life Insurance manufactures and distributes variable life, term life and other non-participating life insurance products to the U.S. retail market and distributes investment and protection products with proprietary and non-proprietary investment options for our other segments as well as selected insurance products manufactured by others.
. Private Client Group offers full service securities brokerage and financial advisory services to U.S. retail customers.
. Retail Investments manufactures, distributes and services mutual funds, variable and fixed annuities and wrap-fee products, utilizing proprietary and non-proprietary asset management expertise, to U.S. retail customers.
. Property and Casualty Insurance manufactures and distributes personal lines property and casualty insurance products, principally automobile and homeowners insurance, to the U.S. retail market.
Division Strategy
In our U.S. Consumer division, we have aligned our strategies around two distinct customer markets: the mass affluent market and the mass market. In general, we define households with income or investable assets between $100,000 and $250,000 as mass affluent and households with income and investable assets of less than $100,000 as mass market. Our strategy includes the following components:
. Grow our U.S. retail mass affluent customer base. Our domestic customer base includes approximately 3.6 million U.S. retail households with incomes or investable assets in excess of $100,000. We believe that the mass affluent market offers the best opportunity for growth in revenues and profit margins and we seek to expand our presence in the mass affluent market as well as in the emerging affluent and pre-retirement markets. We have taken several steps to improve the quality of services provided to the mass affluent market by our Prudential Agent and Financial Advisor distribution system. First, we are targeting new hires for our Prudential Agent force with college educations and prior experience and are enhancing the training and product choices available to them. Second, we have increased the productivity standards for our Prudential Agents several times in the past few years. The actions we have taken to improve the quality and productivity of our Prudential Agent force have resulted in a reduction in the size of the agency force. In 2001, we have again increased the productivity standards. Third, we have begun to transition our Prudential Agents from a transaction focus using proprietary products to meet our customers' financial needs to an approach of offering advice on an array of products manufactured by Prudential as well as other companies. This advice-based approach enables our customers to make more informed decisions about investment and insurance choices. We also have begun to transition our Financial Advisors from a transaction focus to an approach emphasizing fee-based financial advisory services to better meet the needs of the mass affluent market.
The productivity of our Prudential Agents, as measured by average commissions on new sales of all products by agents employed the entire year, has increased 86% from $18,700 in 1996 to $34,700 in 2000. The productivity of our domestic Financial Advisors, as measured by gross revenues, has increased 26% from $319,000 in 1996 to $401,000 in 2000. Productivity on an annualized basis has declined during the first nine months of 2001 to $29,480 from $30,320 for the first nine months of 2000 for our Prudential Agents and to $338,000 from $412,000 for the first nine months of 2000 for our domestic Financial Advisors, due in large part to the slowdown of the economy and the decline of the stock market.
. Improve the profitability of our existing U.S. consumer franchise. In addition to our affluent and mass affluent customers, we have an existing customer base of nearly eight million U.S. households which we refer to as the mass market. We seek to improve the profitability of this customer base by reducing the cost of our operations infrastructure.
. Expand distribution channels to meet customer needs. In addition to our Prudential sales forces, we are expanding our distribution channels to allow U.S. retail customers to access us through the distribution methods of their choice. Our distribution platform now includes multiple points of access including independent financial advisors, affinity programs, workplace marketing and the Internet. PruSelect, our third- party distribution channel, which has historically focused on serving the intermediaries who provide
insurance solutions in support of estate and wealth transfer planning for affluent individuals, is expanding its focus to include mass affluent individuals in addition to affluent individuals. We have begun to establish additional third-party channels for life insurance products, including broker-dealers and independent producers. We sell our retail investment products such as mutual funds, annuities, wrap-fee products and unit investment trusts through third-party intermediaries, including national and regional broker-dealers and independent financial advisors. Net sales of investment products, other than money market funds, through this channel totaled $2.0 billion in the first nine months of 2001. We also seek to expand distribution of our retail investment products and investment management capabilities by participating in other companies' multi-manager investment platforms. We have invested in workplace/payroll deduction models with our minority investment in an Internet-based employee benefits broker.
Prudential Securities was one of the first full-service brokerage firms to develop and offer electronic choices in connection with full- service brokerage accounts. We believe that Internet technology and electronic commerce will continue to provide us with new and more efficient ways to communicate with and distribute products to our customers.
. Reposition Prudential Securities' domestic businesses to focus on investors rather than issuers. In the fourth quarter of 2000, we exited Prudential Securities' lead-managed equity underwriting for corporate issuers and institutional fixed income businesses. We continue to provide fixed income products and services and are increasing the resources for fixed income research and portfolio capabilities to support our Private Client Group. We also continue to act as a co- manager for equity new issues and engage in underwritings led by investment banks to generate new issue market products for our investor clients. Our equity research group, which previously focused on supporting our investment bank, is being refocused to provide objective investment advice to both our individual and institutional investor clients. We believe that this strategic repositioning, through which we will seek to enhance the quality of advice and service that we provide to our clients, will differentiate us from our competitors.
. Reduce operating cost structures and overhead levels. We have taken actions to reduce the operating cost structures and overhead levels of the businesses of the U.S. Consumer Division. In the Individual Life Insurance segment, a program to restructure our field management and agency structure resulted in a reduction in the number of sales territories, establishing a smaller number of larger field offices, and eliminating approximately 1,700 management and non-agent positions. In the Private Client Group segment, we have taken actions in 2001 to reduce staffing levels, occupancy costs, and other overhead costs. We have also taken actions in the Retail Investments and Property and Casualty Insurance segments to reduce staffing levels and overhead costs.
. Utilize common processes and tools across businesses. For each of our customer markets, we seek to make our customers' experiences consistent regardless of how they access Prudential. Our U.S. retail businesses will utilize standard processes and tools, such as financial planning, estate planning and trust capabilities to serve the needs of our mass affluent customers. All businesses will operate a common customer account platform through an Internet foundation and linkage that will serve the needs of our mass affluent and mass market customers.
. Improve retention and persistency. We have undertaken a number of initiatives to improve retention and persistency. For example, we seek to contact policyholders in our Individual Life Insurance and Traditional Participating Products segments who wish to terminate a policy and offer alternate solutions to meet their needs. We believe that these efforts have reduced our life insurance premium outflows in recent years. Further, in 1997 we implemented our Client Acquisition Process, which requires a life insurance underwriter to contact the purchaser to confirm the purpose of the life insurance purchase, verify the initial and ongoing source of payment and complete the medical portion of the application. We believe that this process contributes to improved persistency. Between 1997 and 2000, first year persistency of our individual life insurance products, including in our Traditional Participating Products segment, improved from 87.5% to 92.9%.
Individual Life Insurance
Our Individual Life Insurance segment manufactures and distributes individual variable life, term life, universal life and other non- participating individual life insurance products primarily to the U.S. mass affluent market and mass market through Prudential Agents and increasingly to the mass affluent market through PruSelect. Historically we have written most of our traditional individual life insurance products on a
participating basis and, for financial reporting purposes, these products are included in our Traditional Participating Products segment. Upon demutualization, these policies, together with the assets supporting them, will be segregated for accounting purposes from our other assets and liabilities in the Closed Block. Following demutualization, we will continue to service policyholders with policies in the Closed Block through our Prudential Agents and other distributors as well as centralized service centers. However, following demutualization, traditional participating products will not be written and are not part of our growth strategy.
Unless otherwise indicated in the discussion below, we include historical information regarding both the policies included in the Individual Life Insurance segment and the policies included in our Traditional Participating Products segment, reflecting the historical development of our business through the initial establishment of the Closed Block. However, unless otherwise indicated, statements below relating to our current strategy relate only to the Individual Life Insurance segment. The future operation of the Traditional Participating Products segment is discussed separately under "-- Traditional Participating Products" below.
At December 31, 2000 we had the third largest individual life insurance business in the United States in terms of statutory in force premiums according to A.M. Best. At June 30, 2001, we had the largest individual variable life insurance business in the United States in terms of variable life insurance assets according to Tillinghast-Towers Perrin. For the six months ended June 30, 2001, in the United States, we were the seventh largest seller of individual variable life insurance, the ninth largest seller of individual term life insurance and the ninth largest seller of all types of individual life insurance combined, in each case in terms of new annualized premiums according to LIMRA.
Life Insurance Industry
Individual life insurance in the United States is, in aggregate, a mature industry. According to LIMRA, new life policies issued, including whole, variable and term life, declined at an annual rate of 2.9% between 1995 and 2000. During this period new annualized premiums for variable and term life increased by an average of 24.2% and 12.8% per year, respectively, according to LIMRA.
Operating Data
The following table sets forth premium, product mix and other information for Individual Life Insurance and the life insurance products included in the Traditional Participating Products segment as of and for the periods indicated.
As of or for the Year Ended December 31,
------------------------------------------------
2000 1999 1998 1997 1996
-------- -------- -------- -------- --------
Statutory first year
premiums and deposits (in
millions)(1)............... $ 436 $ 436 $ 459 $ 432 $ 495
Average face amount per
policy sold................ $189,884 $164,307 $149,560 $128,262 $ 95,528
Average annual premium per
policy sold................ $ 2,777 $ 2,158 $ 1,639 $ 1,358 $ 1,155
New policies (in
thousands)................. 157 202 280 318 429
Product mix by percentage of
statutory first year
premiums and deposits:
Variable life.............. 77% 69% 70% 69% 69%
Term life.................. 13% 17% 20% 17% 15%
Traditional whole life..... 10% 14% 10% 14% 16%
In force face amount (in
billions).................. $ 391 $ 393 $ 394 $ 389 $ 389
Statutory in force premiums
(in millions)(2)........... $ 4,574 $ 4,456 $ 4,907 $ 4,935 $ 5,070
Total policies in force (in
thousands)................. 13,443 14,060 14,779 15,364 16,041
Number of Prudential
Agents..................... 6,086 7,818 8,868 10,115 12,126
Prudential Agent termination
or loss.................... 4,018 4,049 4,229 4,602 4,699
New hires................... 2,286 2,999 2,982 2,591 3,297
-------- -------- -------- -------- --------
Net change in Prudential
Agents..................... (1,732) (1,050) (1,247) (2,011) (1,402)
Base force retention(3)..... 63% 63% 67% 67% 74%
Prudential Agent
productivity(4)............ $ 34,700 $ 31,300 $ 28,000 $ 21,500 $ 18,700
Policy persistency(5):
First year................. 92.9% 92.1% 89.0% 87.5% n/a
Second year................ 94.5% 94.1% 92.6% 91.6% n/a
Renewal.................... 95.0% 95.0% 94.2% 93.6% n/a
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As shown in the foregoing table, our statutory first year premiums and deposits declined 3% from 1996 to 2000, on a compound annual basis. A 22% decline in new policies issued was partially offset by a 19% increase in the average face amount and a 25% increase in the average premium of policies sold each on a compound annual basis. These improvements in part reflect the growing importance of the PruSelect distribution channel. The decline in new policies reflects in part a substantial decline in the number of Prudential Agents, at a rate of 16% compounded annually. This decline was due to a number of factors, including recent actions to improve agent productivity, the negative publicity associated with sales practices issues and our responsive corrective actions, as well as a general industry-wide reduction in the number of career agents. Our actions to improve Prudential Agent productivity and profitability included increasing the minimum production level required for continuation of Prudential Agents' contracts in 1999 and 1998. These actions resulted in an increased level of Prudential Agent attrition particularly among Prudential Agents with lower levels of sales production, causing our statutory first year premiums and deposits in 2000 to decline from their 1998 level. At the same time, productivity of Prudential Agents remaining with us increased, continuing a trend that began during 1996.
Business Initiatives
We are taking various steps to improve our business as follows:
. Reorganizing to Improve Profitability. In 2000, we removed significant marketing, operations, and systems infrastructure that was no longer required to support the goals of each business and aligned the remaining functions with the businesses to support our strategy. Our goal is to continue to reduce infrastructure and other costs supporting our businesses to improve operating margins.
Commencing in 1999, we restructured our field operations by reducing the number of sales territories from 16 to 6 and by consolidating our field offices from 266 to 79. These efforts resulted in the elimination of 600 management positions and approximately 1,100 non-agent positions across our businesses through the end of 2000.
. Refocusing of the Prudential Agents. Over the past several years the overall number of Prudential Agents has declined from approximately 10,100 in 1997 to approximately 5,000 at June 30, 2001. This decline was due in part to our efforts to improve the productivity and professionalism of the agent force to align with our objective of meeting the insurance, investment and other financial services needs of our mass affluent target market. In 1998, 1999 and 2001, we raised our minimum sales productivity requirements for agents. In 1999, we developed a new recruiting, selection and training process to improve new agent productivity and retention. We instituted a new training curriculum focused on financial planning to improve our ability to successfully compete in the financial services market. During an initial two-year period, newly hired agents develop financial planning skills and receive broad training on our insurance, investment and other financial planning products and services. At the end of two years, they may select from a number of career paths, all emphasizing protection products with financial planning as a core competency. Consistent with this focused approach, our number of new hires has declined since 1999 and will continue to decrease at least through 2001. To attract and retain higher producing agents we introduced a program in 2000 through which eligible Prudential Agents who are vested can transfer their practices to approved successors when they leave the business. This program not only benefits the agents, but is designed to ensure that the customer undergoes a smooth transition to a new financial services professional which we believe will improve our persistency and customer satisfaction. In addition, we have completed a project to provide all of our agents with laptop computers as well as assistance with marketing and customer support.
. Alternative Sales Channels. We are focusing on growing sales from third- party distribution channels including general agencies, producer groups, broker-dealers and independent brokers who have a significant customer base in the affluent and mass affluent market. We have expanded our access to the independent broker-dealer marketplace through an Internet- based service platform. We anticipate rolling out this platform to our high potential broker-dealers over the balance of the year.
. Market Segmentation and Redesign of Product Portfolio. In 1999, we began focusing our product design according to market segments. We will continue to tailor products targeted for the affluent and mass affluent markets. We have introduced new products, including a survivorship variable universal life product, corporate-owned life insurance, universal life insurance and enhanced term products. Additionally, we are providing proprietary products to selected distributors for exclusive distribution through their systems. The first product was introduced in April 2001. We are simplifying and reducing the number of our products. We have stopped selling certain low-face amount products and increased the minimum face amount we sell on other existing products.
Products
Individual Life Insurance's principal products are:
Variable Life Insurance. We offer a number of individual variable life insurance products that provide a return linked to an underlying investment portfolio designated by the policyholder while providing the policyholder the flexibility to change both the death benefit and premium payments. Each product provides for the deduction of charges and expenses from the customer's investment account. We also offer variable life products targeted to the estate planning and corporate-owned life insurance markets. As of December 31, 2000, our statutory in force premium for variable life insurance was approximately $1.76 billion.
Term Life Insurance. We offer a variety of term life insurance products. Some term products include a conversion feature that allows the policyholder to convert the policy into a whole life policy. Term insurance does not generate a cash value. As of December 31, 2000, our statutory in force premium for term life insurance was $385 million.
Universal Life Insurance. In late 2000, we introduced our universal life insurance products. Universal life insurance features a market rate fixed interest investment account and flexible premiums.
Marketing and Distribution
Prudential Agents
Our Prudential Agents distribute variable and term life, investment and protection products with proprietary and non-proprietary investment options as well as selected insurance products manufactured by others.
Prudential Agents accounted for 67% of individual life insurance 2000 sales, based on statutory first year premiums and deposits, down from 88% in 1996. The following table sets forth the number of Prudential Agents, field managers, home office and field staff and field offices as of the dates indicated.
As of December 31,
---------------------------------
2000 1999 1998 1997 1996
----- ------ ------ ------ ------
Prudential Agents.......................... 6,086 7,818 8,868 10,115 12,126
Field management........................... 542 811 1,176 1,279 1,589
Home office and field staff................ 1,173 2,051 2,285 2,986 3,999
Prudential field offices................... 79 150 266 282 331
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Prudential Agents historically have sold life insurance products primarily to customers in households with income ranging from about $20,000 to $80,000 per year and, to a lesser but increasing extent, to mass affluent individuals as well as small business owners.
The majority of Prudential Agents are multi-line traditional agents. Other than certain training allowances or salary paid at the beginning of their employment, we pay traditional Prudential Agents on a commission basis for the products they sell. In addition to commissions, traditional Prudential Agents receive the employee benefits we provide to other Prudential employees generally, including medical and disability insurance, an employee savings program and qualified retirement plans.
PruSelect
Our PruSelect distribution channel accounted for 33% of individual life insurance sales in 2000, based on statutory first year premiums and deposits, an increase from 12% in 1996. PruSelect sells products through a variety of channels, including independent brokers, general agencies, producer groups and broker-dealers. PruSelect's sales are relatively balanced among these wholesale channels and do not depend upon a particular wholesaler or producer. PruSelect has historically focused on serving the intermediaries who provide insurance solutions in support of estate and wealth transfer planning for affluent individuals and corporate-owned life insurance for businesses. During the first half of 2001, PruSelect began to expand its target market to include mass affluent individuals in addition to affluent individuals. The life insurance products offered by PruSelect are generally the same as those available through Prudential Agents. PruSelect has its own dedicated management and underwriting, case management and post-issuance support staff.
PruSelect is organized into a network of 17 regional brokerage directors who make sales through independent brokers and smaller general agencies. It directly manages relationships with larger wholesalers, such as producer groups, broker-dealers and national general agencies.
Underwriting and Pricing
Our underwriters follow detailed and uniform policies and procedures to assess and quantify risk of our individual life insurance products. If the policy amount exceeds a specified amount, we require the applicant to take a variety of underwriting tests, such as medical examinations, electrocardiograms, blood tests, urine tests, chest x-rays and consumer investigative reports.
In 1997, we implemented a new process for underwriting and issuing individual life insurance that we call the Client Acquisition Process. We believe we were the first major life insurer to implement such a process. We designed the Client Acquisition Process to streamline the new business process and to increase customer understanding of the products they purchase. Following the gathering and transfer of client information from the agent to the home office in the initial stage of the sales process, a Prudential underwriter contacts the client by telephone to confirm the purpose of the life insurance purchase, verify the initial and ongoing source of payment and complete the medical portion of the application. Because of this direct interaction between a Prudential underwriter and the client, we have significantly reduced our need to order additional underwriting information, including attending physician statements. The Client Acquisition Process permits Prudential Agents to spend more time pursuing sales. In 1999 and 2000, we processed approximately 95% of all individual life insurance applications through this process. The remaining 5% was made up of large amount and complex cases such as corporate-owned life insurance that are better suited to a more traditional underwriting approach.
Our life insurance policies, both participating and non-participating, generally provide us the flexibility to adjust dividend scales and/or adjust charges and credits to reflect changes from expected mortality and expense experience or higher or lower investment returns. However, contractual maximum charges and minimum credits and state regulatory limits on increasing charges after a policy is issued limit this flexibility. Some of our more recently issued term insurance policies do not include this flexibility.
We price new products to achieve a target return on investments based on assumptions regarding mortality, expenses, investment return, persistency and required reserves and equity. We develop these assumptions based on regular reviews of company experience. We periodically revise in force products, both participating and non-participating, with dividends or other non-guaranteed charges or credits to reflect changes in experience and preserve the margins originally priced into the product.
Reinsurance
We reinsure portions of the risks we assume under our individual life insurance products. Historically, the maximum amount of individual life insurance we may retain on any life is $30 million under an individual policy and $50 million under a second-to-die life policy. At December 31, 2000, we had reinsured $43.6 billion, or 11.2%, of the total face amount of our individual life insurance in force. In 2000, we began to reinsure substantially all of the mortality risk associated with our newly introduced insurance products.
Reserves
We establish reserve and policyholder fund liabilities to recognize our future benefit obligations under both participating and non-participating in force life policies. For variable and interest-sensitive life insurance contracts, we establish policyholders' account balances that represent cumulative gross premium payments plus credited interest and/or fund performance, less withdrawals, expenses and mortality charges. For participating traditional whole life contracts, which are included in our Traditional Participating Products segment, we calculate future policy benefits using the net level premium method based on the interest rates and mortality rates that we use in calculating the guaranteed cash surrender values as described in each contract. The interest rates generally range from 2.5% to 7.5%. In addition, we include a liability for terminal dividends.
Private Client Group
The Private Client Group provides full service securities brokerage and financial advisory services to individuals and businesses. At September 30, 2001, the Private Client Group served approximately 1.2 million households in the United States through our domestic Prudential Securities Financial Advisor force and network of branch offices. In this business, in addition to market trading volume and volatility, the number of Financial Advisors, their productivity and attrition are significant drivers of profitability. In recent years, we have experienced continuing turnover among domestic Financial Advisors, including experienced Financial Advisors,
due in part to the lack of a stock-based compensation program. This turnover increased in 1999 and remained at high levels in 2000 due in part to greater industry competition for productive Financial Advisors. In response, we have introduced a new voluntary equity-market-linked, long-term deferred compensation program to seek to improve the retention of our Financial Advisors and increase recruitment of experienced Financial Advisors. The Private Client Group segment also includes our consumer banking operations.
Business Initiatives
In response to the fundamental shift in Prudential Securities business strategy, discussed above under "Division Strategy", and the reduced volume of customer transaction revenue in 2001, we are reducing the cost structure in this segment. In 2001, we have taken actions to reduce staffing levels, occupancy costs, and other overhead costs.
Products and Services
Most of the client assets in our Private Client Group are held in Command accounts or basic brokerage accounts. The Command account, our primary retail client account, helps clients manage their assets and is the cornerstone of our asset gathering strategy. Through a Command account, clients can consolidate their financial assets, obtain a range of financial services and invest in a wide variety of investment products. Total Private Client Group client assets in Command accounts were approximately $146 billion as of September 30, 2001, representing 61% of Private Client Group client assets. Private Client Group clients also can access account information, our research, market news and other information and execute transactions through our on-line service, PrudentialSecurities.com.
In May 1999, we introduced Prudential Advisor, a program that redefined full service brokerage by combining a sliding scale asset-based fee for advice with a fixed fee for transaction execution. Clients have the choice of executing transactions directly through PrudentialSecurities.com or through their Financial Advisor. Prudential Securities also offers clients two fee-based programs providing for full-time discretionary management by the client's Financial Advisor in addition to the wrap-fee products that our Retail Investments segment manufactures.
Clients may borrow from us to fund the purchase of securities using the securities purchased or other securities in the account as collateral. As a matter of credit policy, we generally require our clients to maintain higher percentages of collateral values than the minimum percentages required by the applicable federal and stock exchange margin rules. Interest on margin loans is an important component of our revenue and is subject to change based on market trading volume and volatility.
In addition, this segment engages in sales and trading of government, corporate, agency, municipal and mortgage-backed fixed income securities and related products, primarily for retail customers. Finally, it provides domestic securities clearing services to other brokers. Providing these clearing services to unaffiliated correspondent brokers offsets overhead costs for all businesses within the Prudential Securities legal entity, primarily benefiting this segment.
Marketing and Distribution
As of September 30, 2001, we had approximately 5,600 retail Financial Advisors and 47 Financial Advisors-in-Training in our 272 U.S. branch offices. Our Financial Advisor force is the primary sales channel for our mutual funds and wrap-fee products, and accordingly, the profitability of our Retail Investments business and the Private Client Group is dependent on our ability to hire, train and retain these Financial Advisors. Most Financial Advisors are licensed to sell our annuity and insurance products. We compensate Financial Advisors with a percentage of the commissions and fees they generate, supplemented by a recently introduced voluntary equity-market- linked, long-term deferred compensation plan.
The following table sets forth information about our domestic Financial Advisor force and branch office network as of the dates or for the periods indicated.
As of or for the
Year Ended December 31,
-----------------------
2000 1999 1998
------- ------- -------
Financial Advisors (end of period).................... 5,906 6,072 6,128
Financial Advisors trained(1)......................... 652 1,202 1,217
Financial Advisor average client assets (in
millions)(2)......................................... $ 46 $ 48 $ 42
Average annual retail Financial Advisor productivity
(in thousands)(3).................................... $ 401 $ 367 $ 336
Branches.............................................. 295 275 272
Client accounts (in millions)......................... 2.2 2.1 2.1
Client assets, including managed assets (in
billions)............................................ $ 272 $ 288 $ 253
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Consumer Banking
We conduct consumer banking activities primarily on a direct-response basis through two subsidiaries, The Prudential Bank and Trust Company, a state chartered bank, and The Prudential Savings Bank, F.S.B., a federally chartered savings bank. Our principal products are home equity loans and lines of credit, secured lending products, personal trust services and deposits, including money market deposit accounts and certificates of deposit. We have no branches for our consumer banking operations. Our vision for our consumer banking activities is to provide banking products and services that supplement other Prudential offerings and facilitate asset retention and asset growth. We intend to focus primarily on the development and marketing of products and services such as deposits, secured lending and trust capabilities.
Prior to 1997, we offered credit cards on a broad-market basis to customers other than Prudential customers. This strategy resulted in delinquencies and losses on credit cards significantly greater than the industry average, and resulted in significant losses in 1996 and 1997. In 1997 and 1998, we sold substantially all of our broad-market credit card portfolio in two separate transactions, which resulted in losses in those years. In 2000, the remaining consumer credit card portfolio was sold at a gain. At December 31, 2000, our banking operations had approximately $734 million of home equity, credit card and other receivables and $620 million of deposits, compared to $1.2 billion of receivables and $853 million of deposits, at January 1, 1998.
Retail Investments
We manufacture, distribute and service investment management products utilizing proprietary and non-proprietary asset management expertise in the U.S. retail market. Our products are designed to be sold by Financial Advisors, Prudential Agents and third-party financial professionals. We also provide private label products for other financial services firms. We offer a family of retail investment products consisting of 70 mutual funds, eight annuity products, four wrap-fee products and over one hundred unit investment trusts as of December 31, 2000. These products cover a wide array of investment styles and objectives designed to attract and retain assets of individuals with varying objectives and to accommodate investors' changing financial needs.
Operating Data
The following table sets forth the account values of the Retail Investments segment's products as of the dates indicated. Annuity account values represent the amounts held for the benefit of policyholders or contractholders. For mutual funds and wrap-fee products, account value is equal to fair market value.
As of December 31,
--------------------
2000 1999 1998
------ ------ ------
(in billions)
Retail Investments:
Mutual funds(1).......................................... $57.8 $ 55.2 $ 53.4
Wrap-fee products(2)..................................... 19.6 16.7 11.5
Variable annuities....................................... 21.1 22.6 19.9
Fixed annuities.......................................... 2.9 3.0 3.2
Unit investment trusts................................... 1.6 3.2 4.3
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Since the 1990s, there has been an industry trend for products such as variable annuities and wrap-fee products to include investment alternatives that are managed by asset managers other than the product sponsor. Over the last several years, we have been building investment management choice into most of our variable annuity and wrap-fee products. We are able to offer customers investment alternatives in some of our products that may be advised by third parties with asset management styles that we may or may not offer. We believe this advised choice approach provides the potential for increased sales and improved client asset retention.
Products
Mutual Funds
As of December 31, 2000, we sponsored 70 mutual fund portfolios covering all major asset classes and a wide array of investment styles and objectives. These offerings consisted of:
. 22 domestic equity funds,
. 9 global/international equity funds,
. 4 asset allocation funds,
. 8 general taxable bond funds,
. 2 global bond funds,
. 9 tax-exempt municipal bond funds,
. 9 taxable money market funds, and
. 7 tax-exempt money market funds.
The following table sets forth the net sales (redemptions) of our retail mutual funds by asset class for the periods indicated. Net sales (redemptions) are equal to gross sales minus redemptions. This data excludes mutual funds sold through defined contribution plan products.
Year Ended December 31,
-------------------------
2000 1999 1998
------- ------- -------
(in millions)
Equity............................................. $ 985 $ (349) $ 469
Fixed income....................................... (1,168) (750) (118)
------- ------- -------
Total proprietary net sales (redemptions) other
than money market................................ (183) (1,099) 351
Money market....................................... 1,976 (812) 5,075
------- ------- -------
Total net sales (redemptions)..................... $ 1,793 $(1,911) $ 5,426
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The following table sets forth our retail mutual fund assets under management by asset class at fair market value as of the dates indicated.
As of December 31,
--------------------
2000 1999 1998
------ ------ ------
(in billions)
Equity.................................................... $20.8 $ 20.0 $ 17.5
Fixed income.............................................. 7.1 8.8 10.2
Money market.............................................. 29.9 26.4 25.7
------ ------ ------
Total assets under management............................ $57.8 $ 55.2 $ 53.4
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Our equity funds have historically focused on the value style of investment. Through most of the periods shown in the table above, growth stocks have generally outperformed value stocks and large capitalization stocks generally outperformed medium and small capitalization stocks. As a result, new investments into mutual funds flowed disproportionately into large capitalization growth stock funds and large capitalization index funds that seek to match the performance of the major market averages. Given our historical emphasis on the value style of investing and our lack of emphasis on index funds, these trends were unfavorable to us in these periods.
In response to these trends, from 1998 to 2000 we introduced a variety of new mutual funds, many with growth-oriented objectives, including health sciences, financial services and technology sector funds, a tax-managed equity fund and others. These funds had over $4.2 billion in assets as of December 31, 2000. We believe that our family of mutual funds now includes a greater variety of investing styles which will improve our ability to assist our clients in achieving their financial goals.
We offer our mutual funds with a variety of sales charges or "loads". We do not generally offer "no-load" funds. We generally do not charge a load for our mutual funds purchased through wrap-fee programs offered by us or third parties, our defined contribution products and in certain other circumstances. In addition, most of our mutual funds charge ongoing fees for servicing and distribution-related expenses as permissible under SEC and NASD rules.
We earn investment management fees from our mutual funds based on average daily net assets. Our mutual funds bear the expenses associated with their operations as well as the issuance and redemption of their shares. These expenses include those related to investment management, distribution, legal, accounting and auditing expenses, transfer agent expenses, custodian expenses, the expenses of printing and mailing prospectuses and reports to shareholders and independent directors' expenses. We bear advertising, promotion and selling expenses, including sales commissions, of our Private Client Group and Individual Life Insurance segments and of our third-party distributors.
Wrap-Fee Products
We offer several wrap-fee products that provide access to mutual funds and separate account products with the payment of fees based on the market value of assets under management. Our wrap-fee products have higher minimum investment levels than our mutual funds and variable annuities, and offer a choice of both proprietary and non-proprietary investment management. Our principal mutual fund wrap-fee product is PruChoice, which provides investors with more than 400 investment options from more than 70 fund managers, including 55 Prudential funds. Our principal separate account wrap-fee product is Managed Assets Consulting Services, which provides investors with over 50 portfolio managers and more than 100 investment strategies from which to select. Net sales of our wrap-fee products were $4.8 billion in 2000, $3.0 billion in 1999 and $1.9 billion in 1998.
Annuities
We have a number of variable and fixed annuities with different options. Our variable annuities provide customers the opportunity to invest in proprietary and non-proprietary mutual funds and fixed-rate options. Our fixed annuities provide a guarantee of principal and a guarantee of the interest rate to be credited to the principal amount for a specified period of time.
The following table sets forth our net sales (redemptions) of our variable and fixed annuities for the periods indicated. Net sales are equal to gross sales minus surrenders, withdrawals and exchanges.
Year Ended December 31,
-------------------------
2000 1999 1998
------- ------- -------
(in millions)
Variable annuities............................... $(699) $ (5) $ 736
Fixed annuities.................................. (140) (265) (519)
------- ------- -------
Total net sales (redemptions)................... $(839) $ (270) $ 217
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The following table sets forth the gross sales of our variable and fixed annuities by distribution channel for the periods indicated.
Year Ended December
31,
--------------------
2000 1999 1998
------ ------ ------
(in millions)
Variable and fixed annuities:
Prudential Agents..................................... $2,086 $2,907 $2,836
Financial Advisors.................................... 421 678 480
Third-party distributors.............................. 4 2 4
------ ------ ------
Total gross sales................................... $2,511 $3,587 $3,320
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The following table sets forth the total account values of our variable and fixed annuities as of the dates indicated.
Year Ended December 31,
-----------------------
2000 1999 1998
------- ------- -------
(in billions)
Variable annuities:
Proprietary separate account....................... $14.8 $ 16.7 $ 15.1
General account(1)................................. 3.1 3.1 3.3
Non-proprietary.................................... 3.2 2.8 1.5
------- ------- -------
Total variable annuities........................... $21.1 $ 22.6 $ 19.9
======= ======= =======
Fixed annuities..................................... $ 2.9 $ 3.0 $ 3.2
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Our principal annuity product from a historical sales perspective is Discovery Select, a flexible payment variable deferred annuity. Discovery Select offers investors a broad range of investment alternatives through two fixed-rate options and 24 separate equity and fixed income investment portfolios. We manage 11 of these portfolios and the remaining 13 are advised by unaffiliated fund managers. As of December 31, 2000, approximately 67% of Discovery Select annuity deposits were invested in a Prudential-managed portfolio. In the fourth quarter of 2000, we introduced a new flexible payment variable annuity product, Strategic Partners Annuity One. This product offers investors a choice of features including a bonus program, enhanced death benefits and a retirement income guarantee. In addition, the product provides a broad selection of investment options including two fixed rate investment options and 25 variable investment portfolios advised by well known, highly regarded asset managers. In the first half of 2001, we introduced Strategic Partners Select and Strategic Partners Advisor. These products replace Discovery Select and Discovery Choice and offer enhanced death benefits and a broad selection of investment options.
Our primary fixed annuity product is Discovery Classic, which we introduced in 1998. Discovery Classic is a flexible payment annuity that provides a specified fixed interest rate for the first year. After the first year, the interest crediting rate changes at our discretion, subject to a minimum. Our fixed annuity products also include a single premium annuity that offers the customer a choice of deferred or immediate annuities. We price our fixed annuities as well as the fixed-rate options of our variable annuities based on assumptions as to investment returns, expenses and persistency. Competition also influences our pricing. We seek to maintain a spread between the return on our general account invested assets and the interest we credit on our fixed annuities.
To encourage persistency, all of our variable and fixed annuities, other than our single premium fixed annuities, have withdrawal restrictions and declining surrender or withdrawal charges for a specified number of years, which
is a maximum of nine years for Strategic Partners Annuity One annuities, seven years for Discovery Select annuities and six years for Discovery Classic annuities. Our single premium fixed annuities do not permit withdrawals.
Marketing and Distribution
To better meet the needs of the mass affluent market, Prudential Agents are being transitioned to focus on offering advice on an array of proprietary and non-proprietary products. Similarly, Financial Advisors are being transitioned to focus on fee-based financial advisory services. To support these transitions, we have instituted a research-driven approach to money management across our mutual funds, annuities, managed accounts and wrap-fee programs. Investment manager research and monitoring supports our Financial Advisors and Prudential Agents positioning them as advisors and providing them with a wide range of selected investment alternatives. We call this strategy "Advised Choice" and believe it fills a need for many customers--better enabling them to make more informed decisions about investment and insurance choices. We conduct ongoing training to Financial Advisors and Prudential Agents that provides them with knowledge of our new products and helps them develop better relationship management techniques that foster greater customer satisfaction.
Our marketing emphasizes investor education, individual retirement planning, diversification and asset allocation, and tax-efficient investing.
In mid-1998, the Retail Investments segment began to develop and implement plans for sales through third parties. We believe that diversifying our distribution channels will enable us to grow revenues and enhance the Prudential name and its association with investment advice and choice. Such sales were responsible for approximately 8% of the segment's 2000 overall gross sales, excluding money market funds. Net sales of mutual funds, other than money market funds, through third-party channels totaled $1.2 billion in 2000 and represents the fastest growing sales channel in this segment on a net basis. We have also launched an initiative under which outside asset-gathering companies add our investment options to their products.
Property and Casualty Insurance
Our Property and Casualty Insurance segment manufactures and distributes personal lines property and casualty insurance products, principally homeowners and automobile coverages, to the U.S. retail market. We distribute our products through Prudential Agents, workplace and affinity marketing, and independent agents. We also distribute certain specialty coverages written by other insurers through brokerage arrangements.
The personal lines property and casualty insurance industry in the United States is mature, and in 2000, according to A.M. Best, we were the 16th largest writer with a market share of 1%.
Operating Data
The following table sets forth net written premiums and other operating data for Property and Casualty Insurance as of the dates and for the periods indicated.
As of and for the Year Ended December 31,
--------------------------------------------
2000 1999 1998 1997 1996
-------- -------- -------- -------- --------
($ in millions)
Net written premiums(1):
Automobile....................... $1,189.8 $1,031.2 $1,081.4 $1,253.3 $1,383.0
Homeowners....................... 414.6 436.1 437.6 426.3 456.1
Other............................ 32.7 33.0 29.3 31.4 37.8
-------- -------- -------- -------- --------
Total.......................... $1,637.1 $1,500.3 $1,548.3 $1,711.0 $1,876.9
Number of Prudential Agents
authorized to sell Property and
Casualty Insurance policies..... 4,705 6,106 6,427 6,368 8,018
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From 1996 through 2000, our annual total net written premiums declined 21% and our total number of policies in force declined 17%, excluding those relating to a subsidiary we acquired in 2000 as discussed below. The decline in net written premiums is primarily a result of a decline in policies, as the number of policies not renewed exceeded the number of new policies written, as well as lower prices from increased rate competition.
Historically, a significant portion of our property and casualty insurance business has been concentrated in New Jersey. Our New Jersey automobile coverages accounted for 20% of our property and casualty net written premiums in 2000. New Jersey law requires an insurance company to provide automobile insurance to every applicant that meets certain minimum eligibility criteria. New Jersey law caps profits on automobile coverages under an excess profits law and also imposes limitations on the rates that may be charged in certain territories regardless of loss experience. We refunded $25.2 million to our policyholders as a result of the excess profits law based on our experience for the years 1998 through 2000.
Products
Our primary property and casualty products are automobile and homeowners insurance. We also offer watercraft, dwelling, fire and personal umbrella policies.
We segment our automobile customers based on their respective driving and loss histories into preferred, standard and non-standard segments. In May 2000, we purchased the specialty automobile insurance business of the St. Paul Companies, THI Holdings, Inc., which writes policies in the non-standard segment.
We offer four main homeowners products: standard and premier policies for owner-occupied houses, a policy for owner-occupied condominiums and a tenant policy for renters. These policies all include coverage for personal property, loss of use, personal liability and medical payments to others. Our owner- occupied policies also include coverage for the dwelling and other structures. To limit our catastrophe exposure we offer special deductibles in certain states for hurricane, windstorm, hail and earthquake, when earthquake coverage is purchased by the insured. We generally do not write coverage for homes with replacement values of greater than $950,000.
Marketing and Distribution
In 1996, we adopted a geographic market segmentation strategy that targets various states for growth based on our assessment of the potential for catastrophic loss, the regulatory environment and underwriting experience. At that time, we shifted our focus to automobile coverage, which, over the last decade, has generally produced more stable results than homeowner coverages.
Historically, we relied primarily on Prudential Agents to distribute our property and casualty products to the mass market. In 2000, Prudential Agents accounted for 38% of first year direct written premiums and 83% of total direct written premiums of the Property and Casualty Insurance segment.
To supplement sales growth, we have developed other distribution channels, including a career agent channel focused solely on selling automobile and homeowners insurance, workplace and affinity marketing, independent agents and direct distribution. In 2000, these alternative distribution channels accounted for 62% of first year direct written premiums. In June 1998, we acquired Merastar Insurance Company. Merastar offers individual property and casualty policies to workplace groups and professional work-related associations, a payroll deduction capability for the sale of its products and pricing that reflects a group discount. As of December 31, 2000, this business accounted for 1.9% of first year direct written premiums. In 1999, we began to access the mass market segment using direct distribution which, in 2000, accounted for 11.4% of first year direct written premiums. In 1999, we also began our automobile and homeowners insurance career agent channel, and at December 31, 2000, we had 213 salaried agents dedicated to selling our automobile and homeowners products; in 2000, they accounted for 6.2% of first year direct written premiums. In 1999, we also began offering products through small- to medium-sized independent insurance agencies which, in 2000, accounted for 5.8% of total first year net written premiums. Our acquisition of THI, which sells non-standard automobile policies through independent agents and on a direct basis, has broadened the scope of our mass market. First year direct written premiums through THI, from its acquisition in May 2000 through December 31, 2000, accounted for 37.1% of total first year direct written premiums in 2000. We are currently evaluating the quality of the new business produced through these new distribution channels in order to determine whether it satisfies our profitability standards. Accordingly, we have suspended our mailing solicitations for the direct distribution channel as of June 30, 2001. In October 2001, we announced that we would no longer write business through our property and casualty insurance career agency channel except in a few selected markets.
Underwriting and Pricing
Our agents are responsible for field underwriting, and they must adhere to risk selection guidelines developed by the underwriting department. The underwriting department performs a final review of all applications other than applications processed through an on-line automated underwriting system that is now in place in many states.
We seek to price our products to produce an adequate return on capital over time, subject to adjustments reflecting our market segmentation strategy. Our pricing considers the expected frequency and severity of losses and the costs of providing the necessary coverage, including the cost of administering policy benefits, sales and other administrative costs. State rate regulation significantly affects pricing. Our property and casualty operations are subject to rate and other laws and regulations covering a range of trade and claim settlement practices. State insurance regulatory authorities have broad discretion in approving an insurer's proposed rates. A significant portion of our automobile insurance is written in the state of New Jersey. Under certain circumstances New Jersey insurance laws require an insurer to provide a refund or credit to policyholders based upon the profits earned on automobile insurance.
Catastrophe Exposure Risk Management Program and Reinsurance
Hurricane Andrew, which struck southern portions of Florida and Louisiana in August 1992, resulted in $15.5 billion of losses to the U.S. property and casualty insurance industry, according to Property Claims Service, the largest aggregate insurance loss due to a single natural catastrophe in U.S. history. We suffered pre-tax losses, net of reinsurance, of $908 million. The losses eliminated the surplus of our property and casualty insurance subsidiaries, which was replenished by a capital infusion of $733 million from The Prudential Insurance Company of America in 1992.
We have taken significant steps to reduce our exposure to catastrophic losses since Hurricane Andrew, including:
. reducing the number of homes insured against wind in southern Florida by over 70%;
. increasing deductibles on homeowners' policies and offering separate deductibles for hurricane, windstorm, hail and earthquake in some states;
. participating in the Florida Hurricane Catastrophe Fund;
. withdrawing from business in Hawaii; and
. transferring our California earthquake exposure to the California Earthquake Authority.
These activities have reduced our catastrophe exposure and the number of our homeowners' policies in force. In addition to these risk management actions, we rely substantially on catastrophe reinsurance and other reinsurance to limit our catastrophe exposure.
Our greatest exposure to catastrophe loss is during hurricane season, from June to November of each year. Based on our policies in force as of June 30, 2001, we believe we have limited our pre-tax catastrophe exposure from a single one-in-250 year catastrophe to approximately $400 million, or approximately $260 million on an after-tax basis representing approximately 1% of our consolidated equity as of June 30, 2001. This limitation relies significantly on our catastrophe protection reinsurance program. Catastrophes are inherently uncertain, however, and the loss or losses from a single or multiple catastrophes could exceed the foregoing amount, perhaps materially. It is possible that catastrophes could materially negatively affect our results of operations or cash flow in particular quarterly or annual periods. We believe, however, that, based on our current estimated exposures, losses from catastrophes, net of reinsurance, should not have a material adverse effect on our financial condition.
We periodically revise our reinsurance program to reflect what we believe are our reinsurance needs. Our current catastrophe protection reinsurance program, in effect until June 30, 2002, consists of an excess of loss reinsurance contract with a consortium of U.S. and international reinsurers, including Lloyds of London syndicates. In addition, we currently have two annual aggregate stop-loss reinsurance contracts with a U.S. reinsurer.
Future changes in our reinsurance programs will likely affect our assessment of our exposure to a major catastrophe loss. There have been, and in the future may be, periods when reinsurance is not available or at least not at acceptable rates and levels. The loss of all or portions of our reinsurance program could subject us to
increased exposure, which could be material. We are also subject to credit risk with respect to our reinsurers and other risk bearers, such as the Florida Hurricane Catastrophe Fund, because the ceding of risk to them does not relieve us of our liability to insureds. Our recovery of less than contracted amounts from our reinsurers and other risk bearers could have a material adverse effect on our results of operations. We seek to mitigate this risk through diversification of reinsurers as well as maintenance of minimum financial standards for their participation in our reinsurance programs.
See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Results of Operations for Financial Services Businesses by Division and Traditional Participating Products Segment--U.S. Consumer Division--Property and Casualty Insurance" for a discussion of the impact of these agreements on our earnings.
Claims
We staff our property and casualty claims department with approximately 1,360 claims associates based in 15 offices throughout the United States. We generally specialize our claims handling by type of claim, and our home office claims staff is responsible for setting policies and procedures and overseeing field claim operations. Whenever possible, we use our own staff to conduct claim inspections. We use independent claims adjusters when necessary to handle claims in remote areas and to handle overflow during catastrophes.
Reserves
We establish reserves for payment of loss and loss adjustment expenses in accordance with applicable regulations. Consistent with industry accounting practice, we do not establish loss reserves until a loss, including a loss from a catastrophe, has occurred. The following table sets forth a summary reconciliation of our property and casualty beginning and ending reserves, determined on the basis of statutory accounting principles for the periods indicated.
Year Ended December 31,
------------------------
2000 1999 1998
------- ------- -------
(in millions)
Reserves for loss and loss adjustment expenses,
beginning of the year.............................. $1,439 $ 1,622 $ 1,856
Loss and loss adjustment expenses:
Provision attributable to the current year......... 1,271 1,249 1,325
Increase (decrease) in provision attributable to
prior years....................................... (165) (150) (245)
------- ------- -------
Total loss and loss adjustment expenses.......... 1,106 1,099 1,080
------- ------- -------
Payments:
Loss and loss adjustment expenses attributable to
current year...................................... 841 700 725
Loss and loss adjustment expenses attributable to
prior years....................................... 583 582 605
------- ------- -------
Total payments................................... 1,424 1,282 1,330
------- ------- -------
Acquisition of Merastar............................. -- -- 16
Acquisition of THI Holdings......................... 119
------- ------- -------
Reserve for loss and loss adjustment expenses, end
of year(1)(2)...................................... $1,240 $ 1,439 $ 1,622
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(2) Our Property and Casualty Insurance segment has limited exposure to pre- 1986 mass tort claims as a result of its former interest in Prudential-LMI Commercial Insurance Company, which we purchased in 1986 and sold in 1992. Our total reserves held for these contracts, which we included in the reserve table above, aggregated $25 million as of December 31, 2000, on both a net and gross basis. Based on currently available information, we believe approximately 80% of the liabilities on these contracts, representing $20 million or less than 2% of Property and Casualty Insurance's total reserves for loss and adjustment expenses, may be related to asbestos or environmental exposures. Reported claims activity levels to date for these asbestos and environmental exposures do not appear to be material. Estimation of ultimate liabilities for these claims is unusually difficult, however, due to outstanding issues such as the existence of coverage, the definition of an occurrence, the determination of ultimate damages and allocation of damages to financially responsible parties. It is possible that these claims might become material in the future.
Our net reserves have declined over the past three years primarily due to the net reduction in policies in force and the release of reserves from prior years of $165 million in 2000, $150 million in 1999 and $245 million in 1998.
We establish loss reserves to recognize the estimated amount necessary to bring all pending reported, and incurred but not reported, claims to final settlement. Many factors can influence the amount of loss reserves required, such as changes in laws and regulations, judicial decisions, litigation and settlements, medical care costs, rehabilitation costs, the costs of automobile and home repair materials and labor rates, and other factors. We review our loss reserves quarterly. We record our loss reserves at their full undiscounted value. We do not make an explicit provision for the effects of inflation on loss and loss adjustment expense reserve calculations. The establishment of loss reserves is an inherently uncertain process and we cannot assure that ultimate losses will not exceed the Property and Casualty Insurance segment's reserves.
Employee Benefits Division
Our Employee Benefits division consists of two segments: Group Insurance and Other Employee Benefits.
. Group Insurance manufactures and distributes a full range of group life, disability and related insurance products through employers and other groups in connection with employee and member benefit plans.
. Other Employee Benefits manufactures, services and delivers products and services to meet the retirement needs of employers of all sizes. These products and services include full service defined contribution plans and various guaranteed products. We distribute these products through a direct sales force, third parties and Financial Advisors. As part of our employee benefits business, we also offer real estate brokerage and relocation services and workplace marketing services.
Division Strategy
The Employee Benefits division, currently known in the marketplace as Prudential Institutional, seeks to be a leading non-medical employee benefits provider to companies throughout the United States. Our goal is to help employers attract and retain employees by providing a competitive array of both employer-paid benefits and employee-paid voluntary benefits and services. We help companies and their employees grow and protect retirement plan assets by providing a broad array of qualified and non-qualified retirement vehicles. Currently, we do business with over 24,000 institutional clients of all sizes, including 83 of the Fortune 100 firms, representing over 30 million employees and members with over 12 million participants.
Our strategy includes the following components:
. Improve and Grow Our Product Businesses. We seek to strengthen our leadership position in Group Insurance by focusing on growth segments. We are investing in technology, product development and Internet distribution to achieve these goals. We are also exploring partnerships and acquisitions that will help us increase scale and expand distribution, both domestically and internationally. In addition, we seek to improve the capital efficiency of our businesses.
. Leverage Our Institutional Positioning to Grow Our Client Base. We seek to increase the number of Prudential products purchased by our clients and their employees through the coordinated efforts of a dedicated relationship management team and our existing sales forces and account management teams. We seek to better understand client needs and refine our market segmentation based on client information, which will also aid in our national advertising and direct mail campaigns as well as in sales force management.
. Become an eBusiness Workplace Marketing Leader. We offer WorkingSolutionsSM, a web-based platform to deliver a broad array of proprietary and non-proprietary voluntary benefits to help employers meet the diverse needs of their employees. This platform is designed to extend our relationship beyond the institutional client directly to their employees. We have also established a relationship with Rewards Plus of America Corporation, an Internet-based employee benefits service provider, through which we plan to broaden our distribution of Prudential products and services.
Group Insurance
Our Group Insurance segment manufactures and distributes a full range of group life insurance, long-term and short-term group disability insurance, long-term care insurance and corporate- and trust-owned life insurance in the United States to institutional clients primarily for use in connection with employee and membership benefits plans. Group Insurance also sells accidental death and dismemberment and other ancillary
coverages and provides plan administrative services in connection with its insurance coverages. Group Insurance has its own dedicated sales force that distributes through the broker and consultant market. Group Insurance also uses the Prudential Agent distribution channel and third-party general agencies to sell group life products to smaller clients.
The group life insurance industry in the United States is relatively mature. In 1999, the five largest writers accounted for nearly two-thirds of new sales according to LIMRA. The group disability industry is more concentrated than the group life industry, with one company accounting for 18.5% of industry new sales in 2000 according to John Hewitt & Associates, Inc. For the six months ended June 30, 2001 according to LIMRA, we were the second largest group life insurer, based on new sales, and the fourth largest group disability insurer according to John Hewitt & Associates, Inc., based on new sales.
In 1997, we separated our group life and disability products from our healthcare business. We recruited experienced personnel to build a dedicated sales force with members who have a record of sales success and established relationships with brokers and consultants, which resulted in sales increases in 1998, 1999 and 2000. In addition, we refocused group life on premium growth and improved persistency and refocused group disability on improved risk selection and reduced benefits ratios. We believe these actions have repositioned Group Insurance and have facilitated our retention of existing relationships notwithstanding the sale of our healthcare business.
Operating Data
The following table sets forth certain operating data for Group Insurance for the periods indicated.
Year Ended December 31,
------------------------
2000 1999 1998
-------- ------- -------
(in millions)
Group Life Insurance:
Gross premiums(1)(2).................................. $ 1,913 $ 1,872 $ 1,691
New annualized premiums(3)............................ $ 321 $ 262 $ 245
Group Disability Insurance:
Gross premiums(1)(4).................................. $ 472 $ 413 $ 370
New annualized premiums............................... $ 162 $ 105 $ 86
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Products
Group Life Insurance. We offer group life insurance products including basic, supplemental or optional, and dependent term and universal life insurance. Commencing in 1998, we also began offering group variable universal life insurance and supplemental accidental death and dismemberment insurance. Many of our employee-pay coverages include a portability feature, allowing employees to retain their coverage when they change employers or retire. We also offer a living benefits option which allows insureds who are diagnosed with a terminal illness to receive up to 50% of their life insurance benefit upon diagnosis, in advance of death, to use as needed. We believe that we pioneered this benefit in the group insurance industry.
Group Disability Insurance. We offer short- and long-term group disability insurance, which protects against loss of wages due to illness or injury. Short-term disability generally provides coverage for three to six months, and long-term disability covers the period after short-term disability ends.
Other. We offer individual and group long-term care insurance and group corporate- and trust-owned life insurance. Long-term care insurance protects the insured from the costs of care in the community, at an adult day care center, a nursing home or similar live-in care situation or at home by providing a home health or a
personal care aide. Group corporate- and trust-owned life insurance are group variable life insurance contracts typically used by large corporations to fund benefit plans for retired employees. These latter products also may be used as vehicles to deliver deferred compensation or non-qualified benefits to active employees.
Marketing and Distribution
As is common in the industry, we segment the market by employer or group size. We generally refer to employers or groups with 5,000 or more employees or members as the jumbo case market; 1,000 to 4,999 as the large case market; 250 to 999 as the medium case market; and less than 250 as the small case market. We tailor our product features to the different needs of each market segment, with significant standardization in the small case market and full flexibility for jumbo clients. Historically, the majority of our premiums have come from customers in the large and jumbo case market segments. We are seeking to increase our sales in the small and medium case markets, particularly in disability and supplemental life, because we believe these segments are under-penetrated and growing, and present a greater opportunity for profit than the larger segments. We have become more selective in marketing group disability to the large and jumbo case markets.
Group Insurance's dedicated sales force is organized around products and market segments and distributes primarily through employee benefits brokers and consultants. In 1997, we established our Group Life Sales Director force to sell our group life products in the large and jumbo case markets and our Life and Disability Sales Manager force to sell our group life and disability products in the small and medium case markets. Group Insurance also distributes group life products through Prudential Agents, primarily to the small case market, and individual long-term care products through Prudential Agents as well as third-party brokers and agents. At December 31, 2000, Group Insurance had field sales offices in 36 major metropolitan areas.
Underwriting and Pricing
Group Insurance's product underwriting and pricing is centralized. We have developed standard rating systems for each product line based on our past experience and relevant industry experience. We are not obligated to accept any application for a policy or group of policies from any distributor. We follow uniform underwriting practices and procedures. If the coverage amount exceeds certain prescribed age and amount limits, we may require a prospective insured to submit to paramedical examinations.
We determine premiums on either a guaranteed cost basis or an experience- rated participating basis, in which case the policyholder bears some of the risk associated with claim experience fluctuations during the policy period. At December 31, 2000, approximately 63% of our group life insurance premiums and 23% of our group disability insurance premiums were attributable to experience-rated participating policies as compared to 84% and 44% at December 31, 1996. We base product pricing of group insurance products on the expected pay-out of benefits that we calculate using assumptions for mortality, morbidity, expenses and persistency, depending upon the specific product features.
The adequacy of our initial pricing of non-participating policies determines their profitability. Long-term disability, in particular, involves a commitment to insure disability that continues potentially over a person's lifetime and, accordingly, contains the risk that loss experience is affected by circumstances we did not expect when we issued a policy and substantially exceeds pricing assumptions. In addition, the trend towards multiple year rate guarantees for new policies, which are typically three years for life insurance and two years for disability insurance, further increases the adverse consequences of mispricing coverage and lengthens the time it takes to reduce loss ratios.
Reserves and Reinsurance
We establish and carry as liabilities actuarially determined reserves that we believe will meet our future obligations. We base these reserves on actuarially recognized methods using prescribed morbidity and mortality tables in general use in the United States, which we modify to reflect our actual experience when appropriate. We calculate our reserves to equal the amounts that we expect will be sufficient to meet our policy obligations. Reserves also include claims reported but not yet paid, claims incurred but not reported and claims in the process of settlement.
We reinsure portions of the risk we assume under our non-participating group accidental death and dismemberment policies. In addition, we have catastrophic reinsurance on our group life and accidental death and dismemberment products, with stated deductible amounts and subject to contractual limits. We reinsure
portions of our disability insurance risks with third-party reinsurers. As of December 31, 2000, the amount of ceded in force disability insurance premiums totaled $5.8 million, representing less than 2% of our gross disability insurance in force.
Other Employee Benefits
Retirement Services
Our Retirement Services unit distributes and services defined contribution products for companies of all sizes. We offer products and services across the defined contribution market -- for example, the 401(a), 401(k), 403(b), 457 and Taft-Hartley markets. We also offer products in the non-qualified retirement market. Our flagship PruArray product includes proprietary and non- proprietary investments. We also manufacture, distribute and administer guaranteed products such as GICs, funding agreements and group annuities for defined contribution plans, defined benefit pension plans and non-qualified entities. However, the downgrade of our claims-paying rating to below double-A has substantially limited our ability to market traditional guaranteed products, which are backed by our general account.
The following table sets forth the account values of Retirement Services' products and the number of defined contribution plans and plan participants as of the dates indicated.
As of December 31,
---------------------------
2000 1999 1998
--------- -------- --------
($ in billions)
Defined contribution products account value(1):
Proprietary....................................... $ 19.1 $ 20.5 $ 18.1
Non-proprietary................................... 6.9 5.3 3.4
--------- -------- --------
Total account value............................. $ 26.0 $ 25.8 $ 21.5
========= ======== ========
Number of defined contribution plans............... 8,127 7,868 7,613
Number of defined contribution plan participants... 1,027,948 939,579 869,089
Guaranteed products total account value(2)(3):
Spread-based products............................. $ 19.2 $ 20.0 $ 21.3
Fee-based products................................ 22.4 21.8 24.3
--------- -------- --------
Total account value............................. $ 41.6 $ 41.8 $ 45.6
========= ======== ========
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Products
Our primary defined contribution product, PruArray, offers plan sponsors access to more than 500 mutual funds, 45 of which are sponsored by Prudential, with the balance sponsored by more than 25 other mutual fund companies. PruArray also offers stable value investment options. We tailor PruArray to the various defined contribution product markets, as appropriate, and to suit retirement plans of different sizes.
Clients can customize PruArray through the addition of optional services which include Goalmaker, our proprietary asset allocation program, as well as a self-directed brokerage option that allows participants to trade stocks in their accounts. We provide secure access to our website for plan sponsors and plan participants who can obtain plan and account information, undertake transactions and obtain tools to aid in financial and retirement planning. Many of these capabilities are also available to plan participants via wireless Internet access.
We offer general account GICs and funding agreements, through which customers deposit funds with us under contracts that typically provide for a specified rate of interest on the amount invested through the maturity of the contract. We are obligated to pay principal and interest according to the contracts' terms. This obligation is backed by our general account assets, and we bear all of the investment and asset/liability management risk on these contracts. As spread products, general account GICs and funding agreements make a profit to the extent that the rate of return on the investments we make with the invested funds exceeds the promised interest rate and our expenses. Since 1998, we have offered our credit-enhanced GIC, which has a triple-A rating, the highest rating possible, as a result of a guarantee from a financial insurer. We also offer separate account and synthetic GICs, through which we hold customers' funds either in a separate account or in trust outside of our general
account for the benefit of the customer. We pass all of the investment results through to the customer, subject to a minimum interest rate, and we do not earn spread income. As fee-based products, separate account and synthetic GICs are less capital intensive and produce lower levels of income than spread products. To the extent that Prudential's asset management units are selected to manage client assets associated with fee-based products, those units also earn investment management fees from those relationships. A limited amount, $225 million, of our in force GIC business at September 30, 2001 is putable to us at the option of the holder prior to the applicable termination dates.
We offer group annuities primarily to defined benefit plans to provide fixed lifetime benefits for a specified group of plan participants. These annuities are generally single premium annuities that provide for either immediate or deferred payments. We offer fixed payment annuities backed by our general account (spread products) as well as separate account annuities (fee products) that permit a plan sponsor to realize the benefit of investment and actuarial results while receiving a general account guarantee of minimum benefits. We also offer group fixed and variable annuities to individuals taking lump sum distributions from defined contribution plans.
Finally, we offer structured settlement products, which are customized annuities used to provide ongoing periodic payments to a claimant in malpractice or personal injury lawsuits instead of a lump sum settlement.
We set our rates for guaranteed products using a proprietary pricing model that considers the investment environment and our risk, expense and profitability assumptions. Upon sale of a product, we adjust the duration of our asset portfolio and lock in the prevailing interest rates. We continuously monitor cash flow experience and work closely with our Portfolio Management Group to review performance and ensure compliance with our investment policy. We perform cash flow testing on an annual basis using various interest rate scenarios to determine the adequacy of our reserves for future benefit obligations.
Marketing and Distribution
Historically, defined contribution plans have been sold through Financial Advisors and, to a lesser extent, Prudential Agents. A high concentration of these plans have been in the core and small plan markets, with less than $50 million in plan assets. To increase our market share, we created a distribution network to include over 30 third-party distributors including brokers, regional broker-dealers and others. In addition, in 1999 we created a small direct sales force to develop sales among plans with greater than $50 million in plan assets.
Because of downgrades of our S&P, Moody's and A.M. Best claims-paying ratings in the mid-1990s, including as recently as 1998, our ability to sell traditional guaranteed products has been very limited and we have focused our efforts on our credit-enhanced GICs. Using a small direct sales force, we place most of our traditional, separate account and credit-enhanced GIC business with clients with whom we have an existing relationship.
Residential Real Estate Brokerage Franchise and Relocation Services
Prudential Real Estate and Relocation Services is our integrated real estate brokerage franchise and relocation services business. The real estate group markets franchises primarily to existing real estate companies. As of December 31, 2000, there were approximately 1,585 franchise offices and 42,000 sales associates in the franchise network. The relocation group is the second largest provider of comprehensive global relocation services to institutional clients throughout North America in connection with the transfer of their employees according to Relocation Information Service Incorporated.
Our franchise agreements grant the franchisee the right to use the Prudential name and real estate service marks in return for royalty payments on gross commissions generated by the franchisees. The franchises generally are independently owned and operated. Our franchise group network has grown significantly since it began offering franchises in 1988 and is now one of the largest real estate brokerage franchise networks in North America.
Our relocation group offers institutional clients a variety of services in connection with the relocation of their employees. These services include coordination of appraisal, inspection and sale of relocating employees' homes, equity advances to relocating employees, assistance in locating homes at the relocating employee's destination, household goods moving services, and client cost-tracking and a variety of relocation policy and group move consulting services. For a number of clients, our relocation services are provided at the client's workplace.
International Division
Our International division offers its services through two segments:
International Insurance and International Securities and Investments.
. International Insurance manufactures and distributes principally life insurance products to the affluent retail market in Japan, as well as Korea and Taiwan, and has commenced operations in selected Asian, Latin American and European countries. In April 2001, we acquired Kyoei Life Insurance Co., Ltd., now renamed Gibraltar Life. For a discussion of Gibraltar Life, you should read "Acquisition of Kyoei Life Insurance Co., Ltd." The discussion of International Insurance below excludes Gibraltar Life.
. International Securities and Investments offers brokerage services, primarily in U.S. securities, asset management and financial advisory services to retail and institutional clients outside the United States. International Investments offers domestic and foreign proprietary and non-proprietary asset management services to mass affluent clients outside the United States, marketed through proprietary and non- proprietary distribution channels in selected international markets.
Division Strategy
Our strategy is to grow our businesses in key international markets by focusing on providing wealth growth and protection services for the affluent. In executing this strategy, we target those countries that we believe offer the opportunity and potential for scale operations that will generate attractive financial returns.
In International Insurance, our strategy is to provide life insurance products to affluent customers through a career agency force of well-trained, motivated and predominantly university-educated professional representatives known as Life Planners, using a needs analysis based sales process. We seek to grow our established operations and to expand in selected international markets.
In our international securities business, we focus on delivering quality investment advice and a wide breadth of product choice through highly trained Financial Advisors to affluent individuals globally.
In our international investments business we seek to expand our affluent customer base outside the United States by increasing our global assets under management, primarily by investing in asset management businesses around the world.
International Insurance
Our International Insurance segment manufactures and distributes individual life insurance products to the affluent market in Japan and other foreign markets through Life Planners. We commenced sales in foreign markets as follows: Japan, 1988; Taiwan, 1990; Italy, 1990; Korea, 1991; Brazil, 1998; Argentina, 1999; the Philippines, 1999; and Poland, 2000. We also have a representative office in China. In Brazil we operate through a joint venture with Bradesco Seguros, Brazil's largest insurer based on total premium according to the Brazilian National Federation of Insurance Companies. To date, our Japanese operation has driven International Insurance's premium revenue and adjusted operating income.
We run each country operation on a stand-alone basis with local management and sales teams initially supported by senior International Insurance staff based in Tokyo and Newark. Each operation has its own marketing, underwriting and claims and investment management functions. Each operation invests predominantly in local currency securities, typically bonds issued by the local government or its agencies. In our larger operations, we have more diversified portfolios.
Operating Data
The following table sets forth certain operating data for International Insurance for the periods indicated.
Japan All Other Countries Total
-------------------- -------------------- --------------------
As of or for Year As of or for Year As of or for Year
Ended December 31, Ended December 31, Ended December 31,
-------------------- -------------------- --------------------
2000 1999 1998 2000 1999 1998 2000 1999 1998
------ ------ ------ ------ ------ ------ ------ ------ ------
($ in millions unless otherwise noted)
GAAP exchange rate
basis(1):
Net premiums, policy
charges and fee
income................ $1,486 $1,244 $ 906 $ 287 $ 178 $ 104 $1,773 $1,422 $1,010
Annualized new business
premiums.............. $ 359 $ 302 $ 223 $ 150 $ 96 $ 47 $ 509 $ 398 $ 270
Constant exchange rate
basis(2):
Net premiums, policy
charges and fee
income................ $1,486 $1,308 $1,101 $ 287 $ 185 $ 118 $1,773 $1,493 $1,219
Annualized new business
premiums.............. $ 359 $ 318 $ 271 $ 150 $ 99 $ 54 $ 509 $ 417 $ 325
Face amount of policies
in force at year end
($ in billions)....... $ 126 $ 111 $ 95 $ 28 $ 18 $ 12 $ 154 $ 129 $ 107
Average policy size ($
in thousands)......... $ 157 $ 158 $ 159 $ 74 $ 69 $ 66 $ 130 $ 134 $ 137
Number of policies in
force (in thousands).. 805 701 597 376 261 179 1,181 962 776
Number of Life
Planners.............. 1,811 1,681 1,479 1,684 1,203 853 3,495 2,884 2,332
Number of field
managers.............. 286 225 193 448 364 197 734 589 390
Number of agencies...... 41 37 34 88 68 43 129 105 77
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International Insurance has grown significantly since 1998. While the Japanese life insurance market is saturated and new annualized premiums have been decreasing industry-wide in Japan for the past several years, our new annualized premiums in Japan increased by an annual average of 15.1% per year from 1998 to 2000 on a constant exchange rate basis. Of the approximately 45 established life insurance companies operating in Japan, we ranked third in the increase in the amount of insurance in force in fiscal year 1999 according to the Life Insurance Association of Japan. The number of our Life Planners in Japan increased by 10.7% per year from 1998 to 2000. The increase in Life Planners results from both strong recruiting and high retention, and is the primary driver of our growth.
Other International Insurance operations also are growing. The strongest growth outside Japan has been in Korea. From 1998 to 2000, our new annualized premiums in Korea increased by an annual average of 74.5% per year and the face amount of our policies in force grew 72.8% per year on a constant exchange rate basis. This growth results primarily from a significant increase in the number of Life Planners, which increased 34% from 1998 to 2000. In Taiwan, our sales force increased by an annual average of 20% per year, which contributed to an annual average growth in new annualized premiums of 30% per year.
Not all of our international start-up operations have been successful. We are currently restructuring our Italian operations to adhere more closely to the Life Planner model by replacing inadequately performing Life Planners. Our strategy is to adhere to a disciplined approach to expense control and business expansion evaluation and to close new operations if we determine that the Life Planner model is not being successfully implemented in a new country.
Products
We currently offer various traditional whole life, term life and endowment policies, which provide for payment on the earlier of death or maturity, in all of the countries in which we operate. We also offer variable and interest- sensitive life products in Japan. Our policies generally are non- participating. In connection with our Brazilian joint venture, we co-insure certain personal lines property and casualty coverages written through the Bradesco group. Generally, our international insurance products are denominated in local currency, with the exception of products in Argentina, which are U.S. dollar denominated, and some policies in Japan for which premiums and benefits are payable in U.S. dollars.
Marketing and Distribution
Our Life Planner model is significantly different from the way traditional industry participants offer life insurance in Japan and in some of the other countries where we do business. We believe that our recruitment
standards, training, motivation and compensation package are key to the Life Planner model and have helped our International Insurance segment achieve higher rates of agent retention, agent productivity and policy persistency than our local competitors. In general, we recruit Life Planners with:
. university degrees, so that the Life Planner will have the same educational background and outlook as the target customer,
. a minimum of two to three years sales or sales management experience,
. no life insurance sales experience, and
. a pattern of job stability and success.
The Life Planner's objective is to sell protection-oriented life insurance products on a needs basis to upper middle and upper income customers. The Life Planner model relies in part on significant motivational training of the career force in order to instill belief in the product. We train Life Planners to help customers understand their needs for life insurance, help customers meet their needs through the purchase of selected products and provide continuing service to customers so that the customer's program remains current. We believe that customers who understand their needs and purchase policies based on their needs are more likely to keep their policies in force.
The following table sets forth Life Planner retention, Life Planner productivity and policy persistency information for the periods indicated.
Japan All Other Countries Total
---------------- ------------------------ ----------------
2000 1999 1998 2000 1999 1998 2000 1999 1998
---- ---- ---- ------ ------ ------ ---- ---- ----
Life Planner Retention:
12 Month............... 92% 91% 93% 66% 72% 79% 75% 79% 86%
24 Month............... 83% 84% 89% 54% 60% 49% 65% 72% 69%
Life Planner
Productivity(1)........ 6.7 7.0 7.2 8.4 8.3 7.0 7.5 7.5 7.1
Policy Persistency(2):
13 Months.............. 95% 95% 95% 90% 87% 83% 94% 94% 93%
25 Months.............. 90% 89% 90% 82% 74% 74% 88% 86% 88%
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In 2000, our average 12- and 24-month Life Planner retention rates in Japan were 92% and 83%, respectively, compared to 41% and 19% for all life agents in Japan according to Gyomu Kondan-Kai, a Japanese life insurance industry trade association. In 2000, our average Life Planner in Japan sold approximately 6.7 policies per month compared to a 2.7 policy average for all life agents in Japan according to Gyomu Kondan-Kai. In 2000, we generated 13-month and 25- month policy persistency rates of 95% and 90%, respectively, compared to 86% and 74% for the entire life insurance industry in Japan according to Gyomu Kondan-Kai. These numbers compare our 2000 calendar year data with the most recent competitor data available from Japan, which is for the year ending March 31, 2000.
In 1998, International Insurance developed the "Top Gun" training program to meet the growing need for field managers as it expands. This program is designed to provide intensive management training for specially recruited candidates who we believe will make leading managers. Managers trained in the Top Gun program will start new operations where International Insurance is expanding and will recruit and train new Life Planners. In areas where International Insurance has existing operations, we expect that managers trained in this program will strengthen existing management and increase our expansion capacity.
Underwriting and Pricing
Our International Insurance segment is subject to substantial local regulation that is generally more restrictive of product offerings, pricing and structure than U.S. insurance regulation. Each International Insurance country operation has its own underwriting department that employs variations of our domestic practices in underwriting individual policy risks designed to assess and quantify risks. In setting underwriting limits, we consider local industry standards to prevent adverse selection and to stay abreast of industry trends. We also set underwriting limits together with each operation's reinsurers.
Pricing of individual life insurance products, particularly in Japan and Korea, is more regulated than in the United States. In Japan, premiums are different for participating and non-participating products, but within each product type they are generally uniform for all companies. The mortality and morbidity rates and interest rates
that we use to calculate premiums are restricted by regulation on the basis of product type. The interest rates do not always reflect the market rates we earn on our investments, and, as a result, there have been periods when we have experienced negative spreads between the rate we were required to pay and the rate we earned on investments.
Reserves and Reinsurance
We establish and carry as liabilities actuarially determined reserves which we believe will meet our future obligations. In Japan, we set reserves for variable and interest-sensitive life products according to premiums collected plus investment results credited less charges. We base other fixed death benefit reserves on appropriate assumptions for investment yield, persistency, mortality and morbidity rates, expenses and margins for adverse deviation.
International Insurance reinsures portions of its insurance risks with both third-party reinsurers and The Prudential Insurance Company of America under reinsurance agreements primarily on a yearly renewable term basis. International Insurance also buys catastrophe reinsurance that covers multiple deaths from a single occurrence in Japan and Taiwan and has a coinsurance agreement with The Prudential Insurance Company of America for U.S. dollar denominated business in Japan. As of December 31, 2000, the amount of ceded business in force totaled $9.1 billion to third-party reinsurers and $43.3 billion to The Prudential Insurance Company of America, representing 6.3% and 30.0% of International Insurance's gross insurance in force.
International Securities and Investments
Our International Securities and Investments segment provides advice and investment product choice to retail and institutional clients in selected international markets. Our securities business offers financial advisory, private banking and brokerage services, primarily in U.S. securities, as well as sales and trading for a wide range of futures and forward contracts, on a global basis, for retail and institutional customers. Our investments business includes manufacturing of proprietary products and distribution of both proprietary and non-proprietary products, all tailored to meet client needs in the target countries.
We conduct our operations through a network of 29 branch offices in Europe, Asia and Latin America. At December 31, 2000, we had 620 international Financial Advisors and $23 billion of client assets and assets under management outside the United States. Our international operations also include a private bank based in London with an office in Luxembourg and a private trust based in the Cayman Islands.
We offer our international retail clients products and services similar to the products we offer to domestic clients, including the Command account and access to Prudential-Bache.com. In the United Kingdom and Hong Kong, we are full service brokers-dealers in local equities, supported by research and securities clearing operations. We also provide our U.S. equity research coverage and execution services to institutional clients.
We manage our international Financial Advisors in a manner similar to our domestic Financial Advisor force and compensate them using commission and bonus. We generally recruit and train our own new Financial Advisors in our international operations; however, our strategy of selectively entering local markets through acquisitions also allows us to add Financial Advisors. In September 1999, we acquired BH Matheson Holdings Limited, now named Prudential Bache Holdings Limited, a London-based stockbroker, investment advisor and asset manager with approximately $3.2 billion in institutional and retail client assets at that time.
Our futures operations provide advice, sales and trading on a global basis covering a wide variety of commodity, financial and foreign exchange futures and forward contracts, including agricultural commodities, base and precious metals, major currencies, interest rate and stock indices. We conduct these operations through offices in the United States, Europe and Asia, and we are members of most major futures exchanges. We transact most of our business with institutions. We conduct futures transactions on margin according to the regulations of the different futures exchanges. As with any margin transaction, the risk of credit loss is greater than in cash transactions.
In our international investments business we invest in asset management businesses around the world in order to expand our affluent customer base outside the United States and to increase our global assets under management.
Asset Management Division
Our Asset Management division consists of two segments: Investment Management and Advisory Services and Other Asset Management.
. Investment Management and Advisory Services provides investment management and advisory services primarily for the U.S. Consumer and Employee Benefits divisions and the Traditional Participating Products segment. It also provides these services and related products across a broad range of asset classes directly to institutional clients, to whom it markets through its own sales force. In 1998, we formed our Investment Management and Advisory Services segment by aggregating asset management units into a single organization.
. Other Asset Management engages in equity securities sales and trading and investment research, and seeks to participate in securities underwritings, as a co-manager or other participant, where our research efforts are attractive to issuers and investment banks. This segment also engages in commercial mortgage securitization operations, manages our hedge portfolios and engages in proprietary investments and syndications.
Division Strategy
Our Asset Management business strategy is to increase assets under management and profitability by providing clients with consistently strong investment performance, excellent service and a choice of quality products in a way that uses our scale and breadth to their advantage. In addition, we seek to earn incremental returns by extending our investment capabilities into proprietary trading and investing in selected areas.
Investment Management and Advisory Services
Initiatives
We have completed the following initiatives:
. In 2000, the segment consolidated substantially all of our public equity management capabilities into our wholly owned subsidiary, Jennison, a widely recognized institutional manager of growth stocks.
. During 1999, the segment consolidated three fixed income functions serving separate customer constituents into one organization.
Operating Data
The following tables set forth the Investment Management and Advisory Services segment's assets under management at fair market value by asset class and source as of the dates indicated.
September 30, 2001
---------------------------------
Fixed Real
Equity(1) Income(2) Estate Total
--------- --------- ------ ------
(in billions)
Retail customers(3).......................... $ 39.7 $ 53.1 $ -- $ 92.8
Institutional customers...................... 35.2 39.6 10.1 84.9
General account.............................. 2.2 106.4 1.5 110.1
------ ------ ------ ------
Total........................................ $ 77.1 $199.1 $ 11.6 $287.8
====== ====== ====== ======
December 31, 2000
---------------------------------
Fixed Real
Equity(1) Income(2) Estate Total
--------- --------- ------ ------
(in billions)
Retail customers(3).......................... $ 58.7 $ 48.7 $ -- $107.4
Institutional customers...................... 46.4 38.7 10.0 95.1
General account.............................. 2.2 105.6 2.2 110.0
------ ------ ------ ------
Total........................................ $107.3 $193.0 $ 12.2 $312.5
====== ====== ====== ======
December 31, 1999
---------------------------------
Fixed Real
Equity(1) Income(2) Estate Total
--------- --------- ------ ------
(in billions)
Retail customers(3).......................... $ 60.2 $ 48.3 $ -- $108.5
Institutional customers...................... 52.9 35.3 8.6 96.8
General account.............................. 3.1 102.8 2.0 107.9
------ ------ ------ ------
Total........................................ $116.2 $186.4 $ 10.6 $313.2
====== ====== ====== ======
December 31, 1998
---------------------------------
Fixed Real
Equity(1) Income(2) Estate Total
--------- --------- ------ ------
(in billions)
Retail customers(3).......................... $ 49.8 $ 46.7 $ -- $ 96.5
Institutional customers...................... 46.4 37.6 8.0 92.0
General account.............................. 2.6 113.4 3.8 119.8
------ ------ ------ ------
Total........................................ $ 98.8 $197.7 $ 11.8 $308.3
====== ====== ====== ======
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(1) Includes private equity investments of institutional customers of $0.8 billion as of September 30, 2001, $0.6 billion as of December 31, 2000, $1.2 billion as of December 31, 1999 and $0.8 billion as of December 31, 1998, and private equity assets in our general account of $1.5 billion, $1.3 billion, $1.2 billion and $0.8 billion, as of those dates.
(2) Includes private fixed income assets of institutional customers of $4.1 billion as of September 30, 2001, $4.2 billion as of December 31, 2000, $3.4 billion as of December 31, 1999 and $3.2 billion as of December 31, 1998, and private fixed income assets in our general account of $46.0 billion, $45.9 billion, $46.1 billion and $53.8 billion, as of those dates. Included in these private fixed income assets are commercial mortgages for institutional customers of $2.7 billion as of September 30, 2001, $3.0 billion as of December 31, 2000, $2.1 billion as of December 31, 1999, and $1.7 billion as of December 31, 1998, and commercial mortgages for our general account of $17.0 billion, $17.0 billion, $16.6 billion and $18.1 billion as of those dates, respectively.
(3) Consists of individual mutual funds and both variable annuities and variable life insurance in our separate accounts. Fixed annuities and the fixed-rate option of both variable annuities and variable life insurance are included in our general account.
Most of the retail customer assets reflected in the foregoing tables are invested through our mutual funds and variable annuities described above under "--U.S. Consumer Division--Retail Investments" and the remainder is invested through our variable life insurance products described above under "--U.S. Consumer Division--Individual Life Insurance--Products". These assets under management are gathered by the U.S. Consumer division. In addition, we use the platforms that provide asset management for the institutional products and services described below to provide asset management for our retail customers' assets within this segment and for our general account. We discuss our general account below under "--General Account Investments".
The following is a description of the Asset Management segment's institutional products and services.
Products and Services
Institutional Public Equity and Fixed Income Asset Management
Our institutional public equity and fixed income units provide discretionary and non-discretionary asset management services to a broad array of institutional clients. These units managed $69.9 billion of our $84.9 billion and $80.3 billion of our $95.1 billion of institutional assets under management as of September 30, 2001 and December 31, 2000. Of the $69.9 billion, $50.3 billion was gathered by the Asset Management division's sales force and $19.6 billion was acquired by the Employee Benefits division's sales force. Of the $80.3 billion, $59.7 billion was gathered by the Asset Management division's sales force and $20.6 billion was acquired by the Employee Benefits division's sales forces. We manage a broad array of publicly traded equity and debt asset classes using various investment styles. We tailor investment portfolios to the specific objectives and risk tolerance levels of each client.
As noted above, substantially all of our public equity asset management capabilities were consolidated into Jennison during 2000. Jennison is a widely recognized manager of institutional assets and is a leading subadvisor for mutual fund assets. Under former arrangements with Jennison, we received a specified share of the gross revenues generated and its remaining revenues were used by Jennison to pay compensation and other operating expenses. As part of the consolidation, commencing in 2001, Jennison's compensation arrangements are based on investment and operating performance, consistent with current industry standards.
Institutional Real Estate and Private Equity Asset Management
Our real estate unit provides asset management services for single-client and commingled real estate portfolios and manufactures and manages a variety of real estate investment vehicles for institutional clients. These operations accounted for $10.1 billion and $10.0 billion of our assets under management as of September 30, 2001 and December 31, 2000. Our real estate investment vehicles range from fully diversified funds to specialized funds that invest in specific types of properties or specific geographic regions or follow other specific investment strategies.
Our institutional private equity unit manufactures and manages a variety of investment vehicles for investment in private equities. The private equities include venture capital, leveraged buyouts, development capital, mezzanine debt and special situation subclasses. These subclasses share attributes of illiquidity, less efficient markets, high risk and high target returns.
Commercial Mortgage Origination and Servicing
Our commercial mortgage banking business provides mortgage origination and servicing for our general account and institutional clients. At September 30, 2001, we serviced a commercial mortgage loan portfolio of approximately $14 billion for third parties and an additional $20 billion for the general account and institutional investors. At December 31, 2000, we serviced a commercial mortgage loan portfolio of approximately $14 billion for third parties, and an additional $19 billion for the general account and institutional investors. The unit also originates and purchases commercial mortgages for sale in securitization transactions. Origination and servicing activity is included in this segment. Securitization activity is included in the Other Asset Management segment, as described below under "--Other Asset Management--Commercial Mortgage Securitization".
In May 2000, the business acquired The WMF Group, Ltd., a leading originator and servicer of multi-family and commercial mortgage loans, which was combined with the rest of our commercial mortgage banking activities. The WMF businesses that were acquired include Fannie Mae loan origination and servicing, FHA loan origination and servicing and a high-yield real estate funds management company.
Other Asset Management
Equity Securities Sales and Trading
We engage in equity securities sales and trading, and pursue co-manager positions and participations in underwritings where our research efforts are attractive to issuers and lead underwriters. We execute client transactions in equity securities on both an agency and a principal basis in listed and NASDAQ equities and equity options and make a market in 485 NASDAQ securities.
Investment Research
Research is an important component of our advice-based strategy. Our analysts, which numbered approximately 57 as of September 30, 2001, produce reports and studies on the economy; the equity markets; industries and specific companies; investment and portfolio strategies; and regulatory, political, legislative and tax issues. As of September 30, 2001, our equity research group covered a broad range of industries and approximately 530 companies. In the past we focused our research on many of the same industries and market segments that were covered by our former lead-managed equity underwriting for corporate issuers and institutional fixed income businesses. In the future, we expect to increasingly focus our research on companies of interest to our retail and institutional customers, as our research is intended to provide information and advice to clients.
Commercial Mortgage Securitization
We sell commercial mortgages originated by the Investment Management and Advisory Services segment, together with other commercial mortgages we may purchase for this purpose, in securitization transactions. We also make interim loans when we expect the loan to lead to a securitization opportunity. Since we commenced operations, we have completed eight securitizations involving a total of $3.4 billion of mortgages. As of September 30, 2001, our warehouse balance of mortgages pending securitization and interim loans totaled approximately $1.2 billion.
Hedge Portfolios
In 1998, we started a hedge portfolio that holds principal positions in U.S. government and agency securities and hedges them with short positions in similar securities in order to utilize our general account investment management strengths. We currently have authorized a maximum aggregate principal position limit of $10 billion and associated asset-based financing for this hedge portfolio. In December 1999, we began operating a second hedge portfolio, that involves a wider range of security types, including domestic and foreign investment grade corporate bonds, foreign sovereign debt and currency forward contracts and has an authorized maximum aggregate principal position limit of $2 billion and associated asset-based financing. As of September 30, 2001, the hedge portfolios had a total carrying value of approximately $4.0 billion, reflecting both principal positions and securities financing positions.
Proprietary Investments and Syndications
We also make proprietary investments in public and private debt and equity securities, including controlling interests, with the intention to sell or syndicate to investors, including our general account. As of September 30, 2001, we had invested approximately $173 million in this portfolio. After sale or syndication, these assets will be managed by our Investment Management and Advisory Services segment.
Corporate and Other Operations
Our Corporate and Other operations include corporate-level activities and international ventures that we do not allocate to our business segments. Corporate-level activities consist primarily of corporate-level income and expenses not allocated to any of our business segments, including costs for company-wide initiatives such as enhancement of our Internet capabilities and income from our own qualified pension plans, as well as investment returns on our capital that is not deployed in any of our business segments. Our Corporate and Other operations also include returns from investments that we do not allocate to any of our business segments. These investments, including cash and cash equivalents, totaled $9.1 billion and $8.1 billion as of September 30, 2001 and December 31, 2000, respectively. As part of our corporate investment activities, we borrow funds and use our asset/liability management skills to earn additional spread income on the borrowed funds. During the last five years, we have divested or stopped pursuing a number of under-performing businesses, most of which were incurring losses. Corporate and Other operations include these divested and wind-down businesses, except for our divested healthcare business, which is treated as a discontinued operation.
Wind-down Businesses
Group Credit Insurance
We ceased issuing new group policies in our group credit insurance operations in 1996. These operations issued primarily credit life insurance, which upon the insured's death pays off the insured's debt to the creditor
through which the coverage was purchased, and credit disability insurance, which pays the insured's monthly debt payment to the creditor for a specified period while the insured borrower is disabled. Premiums for these coverages were charged on either a single premium basis, whereby the entire charge for the premium was paid up front when the coverage was issued, or on an outstanding balance basis, which was remitted monthly based on the fluctuating account balance. Although we ceased issuing new group policies in 1996, our existing policyholders were permitted to insure new borrowers in 1997 while they negotiated a new contract with another insurance carrier. We ceded through assumption reinsurance a significant portion of the single premium business pursuant to which the reinsurer assumes the role of the insurer, or terminated substantially all of our outstanding balance business in 1997 and 1998. In 1998, we entered into a service agreement with a third-party administrator to administer the runoff of our remaining in force business. For business in which the borrower paid a single premium for insurance coverage on a loan, the insurance coverage remains in force until the debt is discharged or the final maturity date. We estimate that a substantial majority of our remaining group credit insurance business will expire by 2006, although the latest policy expiration date is in 2027. As of September 30, 2001, there are approximately 25,000 in force certificates and our reserves for future policy benefits and claims for the remaining inforce group credit insurance business total approximately $20 million.
Individual Health
We began selling individual health and disability income policies in the early 1950s. In 1992, we ceased writing individual disability income policies and a year later ceased writing hospital expense and major medical policies due to declining sales and poor financial results. Most of our disability income policies are noncancelable, which means that we can neither change the premium nor cancel the coverage. The 1997 Health Insurance Portability and Accountability Act guarantees renewal of all health policies. Under certain circumstances, we are permitted to change the premiums charged for individual health coverage if we can demonstrate that the premiums have not been sufficient to pay claims and expenses. As of September 30, 2001, we had reserves of $85 million for approximately 45,000 individual health policies and reserves of $52 million for approximately 30,000 individual disability income policies in effect at that date. As of July 1, 1999, we reinsured all the disability income policies.
Canadian Operations
We have retained and continue to service several blocks of insurance not sold with our divested Canadian businesses described under "--Divested Businesses--Divested Canadian Businesses" below. These blocks represent approximately $118 million of policy liabilities at September 30, 2001. These blocks of insurance include the policies that we will include in the Canadian closed block described above under "Demutualization and Related Transactions-- The Demutualization--The Closed Block". A significant portion of the retained business constitutes paid-up individual life insurance.
Divested Businesses
The following operations are businesses that we previously divested but that do not qualify for "discontinued operations" accounting treatment under GAAP. We include the results of these divested businesses in our income from continuing operations before income taxes, but we exclude these results from our adjusted operating income. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Consolidated Results of Operations--Adjusted Operating Income" for an explanation of adjusted operating income.
Lead-Managed Equity Underwriting for Corporate Issuers and Institutional Fixed Income Activities of Prudential Securities
In the fourth quarter of 2000, we announced a restructuring of Prudential Securities' activities to implement a fundamental shift in our business strategy. We have exited the lead-managed equity underwriting for corporate issuers and institutional fixed income businesses. The total reduction in staffing from the former lead-managed underwriting and institutional fixed income businesses of Prudential Securities involved 700 positions. See "Business--U.S. Consumer Division--Division Strategy" for a discussion of this restructuring.
Gibraltar Casualty
On September 19, 2000, we sold all of the stock of Gibraltar Casualty Company, our commercial property and casualty insurer that we had placed in wind-down status in 1985. Gibraltar Casualty's business consisted
primarily of surplus and excess lines insurance, including property, casualty, professional liability and product liability, underwritten for medium to large corporations. As of the date of sale, Gibraltar Casualty's largest continuing exposures were potential liabilities for asbestos and environmental damages. The ultimate liability for asbestos and environmental claims cannot be estimated using traditional reserving techniques due to significant uncertainties. In addition, Gibraltar Casualty faced potential liability arising from claims for latent injury product exposures involving silicone implants, HIV-contaminated blood products and pharmaceutical products. Upon closing of the sale, we entered into a stop-loss agreement with the purchaser under which we will reinsure the purchaser for up to 80% of the first $200 million of any adverse loss development in excess of Gibraltar Casualty's carried reserves as of the closing date of the transaction. We believe that any payments ultimately made pursuant to the stop-loss agreement will not have a material adverse effect on our financial position.
Divested Canadian Businesses
We previously sold individual and group life insurance, annuities and group health insurance in Canada through a Canadian branch of The Prudential Insurance Company of America and through Prudential of America Life Insurance Company, as well as property and casualty insurance through Prudential of America General Insurance Company (Canada) and OTIP/RAEO Benefits Incorporated. In 1996, except as noted above, we sold substantially all of the Canadian branch's operations and policies in force and all of our Canadian property and casualty operations. Also, in 2000, we sold our interest in Prudential of America Life Insurance Company.
In the sale of the life insurance operations, the purchaser assumed through assumption reinsurance, pursuant to which it assumed our role as insurer, approximately $3 billion of our insurance and annuity liabilities, received an equal amount of investment assets to support the assumed liabilities and purchased substantially all of the Canadian branch's operating assets. We have indemnified the purchaser for damages with respect to any claims related to sales practices or market conduct issues arising from the Canadian branch's operations prior to the sale. We retained no policy liabilities with respect to the property and casualty insurance business following that company's sale. While there can be no assurance, we believe we have reserved in all material respects for any contingent liabilities arising from these divested Canadian businesses prior to sale. In connection with the sales, we agreed to refrain from conducting new individual and group life and health insurance, annuity, property and casualty insurance and mutual funds business in Canada for five years from the applicable sale date.
Residential First Mortgage Banking
Prior to May 1996, we conducted substantial residential first mortgage banking and related operations through The Prudential Home Mortgage Company, Inc. and its affiliates. Prudential Home Mortgage originated and purchased residential first mortgage loans and generally sold the loans it originated and purchased, through both direct sales and securitizations, while retaining the servicing rights and ongoing servicing fees. We decided to sell Prudential Home Mortgage in 1995 and sold substantially all of the business operations and mortgage loan inventory and approximately two-thirds of the loan servicing rights in 1996. In 1997, we sold substantially all of the remaining loan servicing rights and, since 1996, have sold most of its remaining first mortgage loans, foreclosed properties and other assets.
While we were actively engaged in this business, Prudential Home Mortgage sold a portion of its mortgage loans with full or partial recourse that requires Prudential Home Mortgage to either repurchase or indemnify the purchaser for losses incurred with respect to any of the sold loans that become non-performing. For a loan sold with full recourse, this contingent obligation continues until Prudential Home Mortgage either discharges or repurchases the loan. The last scheduled maturity date of a loan sold with full recourse is in 2029. For a loan sold with partial recourse, the repurchase obligation generally ends after a specified period of time. The aggregate principal amount of the remaining outstanding loans that we sold with full and partial recourse totaled approximately $94 million at September 30, 2001.
We also remain liable with respect to claims concerning these operations prior to sale, including claims made by borrowers under the loans Prudential Home Mortgage originated or serviced, purchasers of the loans Prudential Home Mortgage sold, investors in the mortgage-backed securities issued in the securitizations and purchasers of the operations and servicing rights. Since the sale of the operations, we have been involved in a number of class action lawsuits relating to Prudential Home Mortgage's operations prior to sale that remain pending. These class actions primarily allege that certain of Prudential Home Mortgage's loan origination or servicing practices violated applicable federal or state consumer protection laws. While we believe that as of September 30, 2001 we had adequately reserved in all material respects for the remaining liabilities associated with Prudential Home Mortgage, we may be required to take additional charges that could be material to our results of operations.
Traditional Participating Products
As a mutual insurance company, we issued most of our individual life insurance products on a "participating" basis, whereby policyholders are eligible to receive policyholder dividends reflecting experience. These life insurance products have historically been included in our Traditional Participating Products segment. In connection with the demutualization, we will cease offering domestic participating products. The liabilities for our individual in force participating products will then be segregated, together with assets which will be used exclusively for the payment of benefits and policyholder dividends, expenses and taxes with respect to these products, in a regulatory mechanism referred to as the "Closed Block". We have selected the amount and type of Closed Block Assets and Closed Block Liabilities included in the Closed Block so that the Closed Block Assets initially will have a lower book value than the Closed Block Liabilities. We expect that the Closed Block Assets will generate sufficient cash flow, together with anticipated revenues from the Closed Block policies, over the life of the Closed Block to fund payments of all policyholder benefits to be paid to, and the reasonable dividend expectations of, policyholders of the Closed Block products. We also will segregate for accounting purposes the Surplus and Related Assets that we will need to hold outside the Closed Block to meet capital requirements related to the products included within the Closed Block. No policies sold after demutualization will be added to the Closed Block and its in force business is expected to ultimately decline as we pay policyholder benefits in full. We expect the proportion of our business represented by the Closed Block to decline as we grow other businesses. A minor portion of our Traditional Participating Products segment has consisted of other traditional insurance products that will not be included in the Closed Block.
Historically, the participating products to be included in the Closed Block, as well as the other products included in the Traditional Participating Products segment, have yielded lower returns on capital invested than many of our other businesses. The separation for segment reporting purposes of the Traditional Participating Products segment from our Financial Services Businesses permits us better to identify the results of these businesses. However, the relatively lower returns on traditional participating products will continue to affect our consolidated results of operations for many years.
We show historical information regarding both our participating and non- participating life insurance policies under "--U.S. Consumer Division-- Individual Life Insurance" above and both our participating and non- participating individual annuities under "--U.S. Consumer Division--Retail Investments" above. We discuss the future operation of the Closed Block under "Demutualization and Related Transactions--The Demutualization--The Closed Block".
Our strategy for the Traditional Participating Products segment is to maintain the Closed Block included in the segment as required by our plan of reorganization over the time period of the gradual diminishment as policyholder benefits are paid in full. As discussed under "Unaudited Pro Forma Condensed Consolidated Financial Information--Unaudited Pro Forma Closed Block Information", if performance of the Closed Block is more favorable than we originally assumed in funding, we will pay the excess to Closed Block policyholders as additional policyholder dividends, and it will not be available to shareholders. The Class B Stock will be designed to reflect the performance of our participating products to be included in the Closed Block and other related assets and liabilities. Following such issuance, we will refer to this business as the "Closed Block Business".
Discontinued Operations--Healthcare
Overview and Principal Sale Transaction
We sold substantially all of the assets and liabilities of our group managed and indemnity healthcare business to Aetna Inc. in a transaction that closed on August 6, 1999. Aetna paid $500 million of cash, $500 million of senior notes maturing on August 6, 2002 and stock appreciation rights, the latter of which expired at December 31, 2000 with no value.
The sale included the following principal transactions:
. We transferred to Aetna the operating subsidiaries that collectively accounted for most of our fully insured managed medical and dental business and a related pharmacy service company.
. We entered into a coinsurance agreement with Aetna under which Aetna reinsures 100% of the risk, in exchange for 100% of the premiums, on our group indemnity, fully insured, medical and dental business and the remaining portion of our managed medical and dental business. Under this agreement, Aetna had the right to require us to issue additional policies for:
. medical and dental insurance coverages for new customers in response to proposals made to brokers or customers within six months after the closing date, or later in certain limited circumstances, and renewals of these coverages, and
. renewals of medical and dental insurance coverages in effect on the closing date, provided that the renewals have effective dates no later than two years after the closing date and provided that certain other conditions are satisfied.
We did not receive any additional consideration for the issuance of these additional policies, which Aetna reinsured fully under this agreement. Both of these provisions have since expired.
. We entered into a risk sharing agreement with Aetna whereby each party agreed to pay the other a specified amount of money in the event that the medical loss ratio for substantially all of the healthcare business that we sold deviates from specified levels between the closing date and December 31, 2000. The medical loss ratio is equal to the amount of medical claims paid plus an actuarial estimate of claims incurred but not paid, divided by the premiums earned. Pursuant to the agreement, we have made payments to Aetna of $212 million for the period ending December 31, 2000, including initial payments with respect to years 1999 and 2000 described below.
Aetna has calculated and presented a proposed final risk share early settlement. As of September 30, 2001, negotiations continue in the paid claim development and methodology used in the financial reserve calculations.
. We and Aetna entered into an administrative services agreement, under which Aetna is providing specified administrative services, including services required under contracts through which we provide administrative services only to healthcare self-insurance plans of third parties. In exchange for the services relating to these administrative services contracts, we pass on to Aetna all of the fees that we receive under the contracts, and we agreed to pay Aetna approximately an additional $263 million that we paid in installments through February 28, 2001.
. We agreed not to re-enter, directly or through acquisitions, the group managed or indemnity medical or dental business until August 6, 2004.
. We entered into a trademark license agreement that grants Aetna a non- exclusive license to use certain Prudential trademarks in connection with the disposed healthcare business until January 31, 2002, subject to extension in certain circumstances.
The sale did not include our 50% interest in Rush Prudential Health Plans, a joint venture with Rush-Presbyterian--St. Luke's Medical Center of Chicago which provided managed and indemnity healthcare coverages. On March 1, 2000, we and our joint venture partner completed the sale of this joint venture to WellPoint Health Networks, Inc.
Contingent Exposures
We have remaining exposure under the risk sharing agreement described above in the event that the medical loss ratio exceeds the specified levels for the year 2000. The medical loss ratio for 1999 exceeded the level that requires us to pay Aetna, resulting in initial payments to Aetna with respect to 1999 of $80 million. Through December 31, 2000, the medical loss ratio for 2000 exceeded the level that requires us to pay Aetna, resulting in initial payments to Aetna with respect to 2000 of $132 million. The remaining exposure under this agreement relates to the final payment that may be due under the risk sharing agreement as discussed above.
We agreed to indemnify Aetna and Aetna Life Insurance for actual losses they may incur as a result of any inaccurate representations that we may have made in the sale agreement. This indemnification obligation is limited to $595 million and is subject to a $23 million deductible.
We retained all liabilities associated with litigation that existed at the closing date or commenced within two years of that date (i.e., August 6, 2001) with respect to claims relating to events that occurred prior to the closing date. These liabilities are not subject to, and do not count toward, the limitation discussed in the previous
paragraph. See "--Litigation and Regulatory Proceedings--Discontinued Operations" for a discussion of litigation with respect to healthcare claims.
Financial Impact
The assets that we sold or transferred to Aetna had an aggregate book value of approximately $2.15 billion as of the closing date and exceeded by approximately $700 million the aggregate book value of the liabilities assumed by or transferred to Aetna. We also transferred approximately 14,000 employees to Aetna.
In 1998 and 1999, we recognized an aggregate pre-tax loss of $994 million, $623 million after tax, in connection with the sale of the healthcare business. This pre-tax loss reflects the difference between the consideration that Aetna paid us and the sum of:
(1) the $700 million difference between the assets and liabilities of the healthcare business;
(2) the operating losses of the healthcare business in 1999 prior to the closing date, including a strengthening of healthcare reserves of $160 million;
(3) the $263 million of payments made to Aetna under the administrative services agreement;
(4) reserves for possible payments to Aetna under the risk sharing agreement, including the $212 million paid to date by us in that regard;
(5) reserves for the litigation for which we remain liable and the indemnification provisions of the sale agreement; and
(6) other payments and reserves for closing, transition and employee- related costs.
In 2000, upon the completion of the period covered by the risk sharing agreement and taking into consideration other costs incurred compared with those estimated in 1998 and 1999, we reduced the loss on disposal by $77 million, net of taxes. While we believe that at September 30, 2001 we had adequately reserved in all material respects for remaining costs and liabilities associated with the healthcare business, taking into account amounts paid and received to date, we may be required to take additional charges that could be material to our results of operations.
Intangible and Intellectual Property
We use numerous federal, state and foreign service and trademarks. We believe that the goodwill associated with many of our marks, particularly the word marks "Prudential", "Prudential Insurance", "Prudential Securities", "Prudential Investments" and "Prudential Real Estate" and our "Rock" logo, are significant competitive assets in the United States. In a number of countries outside North and South America, primarily the United Kingdom, western Europe, Hong Kong and Singapore, we are unable to use the "Prudential" name. Where these limitations apply, we combine our "Rock" logo with alternative word marks. We believe that these limitations do not materially affect our ability to operate or expand internationally.
General Account Investments
We maintain a diversified investment portfolio in our insurance companies to support our liabilities to customers in our U.S. Consumer, Employee Benefit and International divisions as well as certain of our Corporate and Other operations and our other general liabilities. Our general account does not include assets of our securities brokerage, securities trading, banking operations, assets of our asset management operations managed for third parties, and separate account assets for which the customer assumes risks of ownership. In addition, our general account as described below does not reflect general account assets of Gibraltar Life. For a discussion of general account assets of Gibraltar Life, you should read "Acquisition of Kyoei Life Insurance Co., Ltd.--Gibraltar Life General Account Investments". The information below is presented on a consolidated basis, without allocation of the investment portfolio between the Financial Services Businesses and the Closed Block; however, the characteristics of the major types of invested assets allocated to the Closed Block will be substantially similar to our general account.
Management of Investments
We design asset mix strategies for our general account to match the characteristics of our products and other obligations and seek to closely approximate the interest rate sensitivity of the assets with the estimated interest
rate sensitivity of the product liabilities. We achieve income objectives through asset-liability management and strategic and tactical asset allocations within a disciplined risk management framework. Our asset allocation also reflects our desire for broad diversification across asset classes, sectors and issuers.
The Investment Committee of our Board of Directors oversees our general account. The Investment Committee annually approves the investment policy for the general account that includes investment guidelines, a target asset mix, risk tolerances and performance benchmarks. It also reviews performance and risk positions quarterly. Our Senior Vice President, Asset Liability and Risk Management, oversees the investment management process for our general account. Under his direction, the Asset Liability and Risk Management Group develops investment policies and asset allocation ranges.
The Asset Liability and Risk Management Group works closely with the business units to ensure that the specific characteristics of our products are incorporated into its processes. The Asset Liability and Risk Management Group has the authority to initiate tactical shifts, within exposure ranges approved annually by the Investment Committee. The Investment Management and Advisory Services segment manages virtually all of our investments, other than those of our International Insurance operations, under the Asset Liability and Risk Management Group's direction. Our International Insurance operations manage their investments locally.
Asset/Liability Management
The Asset Liability and Risk Management Group uses a disciplined, risk- controlled approach to asset/liability management. The methodology focuses on aligning assets to the effective sensitivity of the cash flow and return requirements of our liabilities. The Asset Liability and Risk Management Group consults with the product experts in the business units on an ongoing basis to arrive at asset/liability matching policies and decisions. We adjust this dynamic process as products change, as we develop new products and as changes in the market environment occur.
We develop asset strategies for specific classes of product liabilities and attributed or accumulated surplus, each with distinct risk characteristics. We categorize products in the following four classes:
. interest-crediting products, for which the rates credited to customers are periodically adjusted to reflect market and competitive forces and actual investment experience, such as fixed annuities;
. participating individual and group life products, in which customers participate in actual investment and business results through annual dividends or interest, such as traditional whole life insurance;
. guaranteed products, for which there are price or rate guarantees for the life of the contract, such as GICs; and
. other products, such as automobile and homeowners insurance.
We determine a target asset mix for each product class that we reflect in our investment policies. Our asset/liability management process has permitted us to manage interest-sensitive products successfully through several market cycles.
Summary of Investments
The following table sets forth the composition of our general account as of the dates indicated.
As of December 31,
As of ---------------------------------------
September 30, 2001 2000 1999
------------------- ------------------- -------------------
Amount % of Total Amount % of Total Amount % of Total
-------- ---------- -------- ---------- -------- ----------
($ in millions)
Fixed maturities:
Public available for
sale, at fair value... $ 61,832 47.9% $ 62,454 47.6% $ 58,555 46.0%
Public held to
maturity, at amortized
cost.................. 336 0.3 757 0.6 25 --
Private available for
sale, at fair value... 32,874 25.5 21,294 16.2 20,411 16.1
Private held to
maturity, at amortized
cost.................. 60 0.0 11,686 8.9 14,208 11.2
Trading account assets,
at fair value.......... 8 0.0 3 0.0 4 0.0
Equity securities, at
fair value............. 1,911 1.5 2,315 1.8 3,262 2.6
Mortgage loans on real
estate, at book value.. 15,046 11.6 15,418 11.8 15,850 12.5
Other long-term
investments(1)......... 4,335 3.4 4,259 3.2 4,457 3.5
Policy loans, at
outstanding balance.... 8,337 6.5 8,046 6.1 7,590 6.0
Short-term investments,
at amortized cost...... 4,304 3.3 4,963 3.8 2,770 2.1
-------- ----- -------- ----- -------- -----
Total investments...... $129,043 100.0% $131,195 100.0% $127,132 100.0%
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The overall income yield on our general account invested assets after investment expenses, but excluding realized investment gains (losses), was 6.52% for the nine months ended September 30, 2001, 6.85% for the year ended December 31, 2000 and 6.97% for the year ended December 31, 1999. Although the yield before investment expenses was relatively unchanged in 2000 from 1999, investment expenses as a proportion of gross yield increased, primarily due to interest charges related to our securities lending program, which we expanded in 2000. The following table sets forth the income yield and investment income, excluding realized investment gains/losses, for each major asset category of our general account for the periods indicated.
As of As of December 31,
September 30, -----------------------------
2001 2000 1999
-------------- -------------- --------------
Yield Amount Yield Amount Yield Amount
----- ------- ----- ------- ----- -------
($ in millions)
Fixed maturities.................... 7.43% $ 5,112 7.54% $ 6,958 7.39% $ 6,811
Equity securities................... 1.96 32 2.42 67 2.61 63
Mortgage loans on real estate....... 8.21 922 8.23 1,255 8.68 1,327
Policy loans........................ 6.42 386 6.34 478 6.11 448
Short-term investments and cash
equivalents........................ 4.49 357 7.58 683 6.13 484
Other investments................... 7.47 231 9.54 420 14.59 514
---- ------- ---- ------- ----- -------
Total before investment expenses... 7.13% $ 7,040 7.54% $ 9,861 7.52% $ 9,647
Total after investment expenses.... 6.52% $ 6,455 6.85% $ 8,990 6.97% $ 8,974
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Portfolio composition is a critical element of the investment management process. The composition of our general account reflects, within the discipline provided by our risk management approach, our need for competitive results and the diverse selection of investment alternatives available through our Asset Management segment. The size of our portfolio enables us to invest in asset classes that may be unavailable to the typical investor.
Fixed Maturity Securities
We held approximately 74% of general account assets in fixed maturity securities at September 30, 2001, relatively unchanged from 73% at December 31, 2000 and 1999. These securities include both publicly traded and privately placed debt securities.
Subject to our adjusted operating income objectives, we manage our public portfolio to a risk profile directed by the Asset Liability and Risk Management Group. We seek to employ relative value analysis both in credit selection and in purchasing and selling securities. To the extent that we actively purchase and sell securities
as part of portfolio selection and portfolio rebalancing, the total return that we earn on the portfolio will be reflected both as investment income and also as realized gain and loss on investments. We expect that using this strategy in a declining interest rate environment will result in lower investment income partially offset by realized investment gains and that using this strategy when rates are rising will result in increased investment income partially offset by realized investment losses.
We use our private placement and asset-backed portfolios to enhance the diversification and yield of our overall fixed maturity portfolio. We maintain a private fixed income portfolio that is larger than the industry average as a percentage of total fixed income holdings, according to A.M. Best. Our investment staff directly originates approximately half of all of our private placements. Our origination capability offers the opportunity to lead transactions and gives us the opportunity for better terms, including covenants and call protection, and to take advantage of innovative deal structures.
Our credit and portfolio management processes help ensure prudent controls over valuation and management of the private portfolio. We have separate pricing and authorization processes to establish "checks and balances" for new investments. We apply consistent standards of credit analysis and due diligence for all transactions, whether they originate through our own in- house origination staff or through agents. Our regional offices closely monitor the portfolios in their regions. We set all valuation standards centrally, and we assess the fair value of all investments quarterly.
The following table sets forth the composition of our fixed maturity portfolio by industry category as of the dates indicated.
As of December 31,
-------------------------------------------------------------
As of September 30, 2001 2000 1999
------------------------------ ------------------------------ ------------------------------
Estimated Estimated Estimated
Amortized % of Fair Amortized % of Fair Amortized % of Fair
Cost Total Cost Value Cost Total Cost Value Cost Total Cost Value
--------- ---------- --------- --------- ---------- --------- --------- ---------- ---------
($ in millions)
U.S. Government........ $ 9,713 10.6% $10,246 $10,109 10.6% $10,639 $ 8,089 8.5% $ 7,809
Manufacturing.......... 18,680 20.4 19,265 18,864 19.7 18,689 21,469 22.5 20,686
Utilities.............. 14,419 15.7 15,065 15,688 16.4 15,771 12,874 13.5 12,717
Finance................ 10,128 11.1 10,605 11,792 12.3 11,931 12,663 13.3 12,454
Services............... 11,550 12.6 11,834 11,264 11.8 11,204 10,767 11.3 10,376
Mortgage-backed........ 5,439 5.9 5,673 6,495 6.8 6,669 6,546 6.8 6,507
Foreign government..... 4,658 5.1 4,964 4,650 4.9 4,853 4,804 5.0 4,864
Retail and wholesale... 4,316 4.7 4,449 4,022 4.2 4,005 4,572 4.8 4,421
Asset-backed
securities............ 7,141 7.8 7,307 6,063 6.4 6,068 5,784 6.1 5,687
Transportation......... 2,742 3.0 2,713 3,233 3.4 3,199 3,718 3.9 3,600
Energy................. 875 1.0 908 937 1.0 947 1,104 1.2 1,065
Other.................. 1,934 2.1 2,097 2,361 2.5 2,382 2,927 3.1 2,890
------- ----- ------- ------- ----- ------- ------- ----- -------
Total................. $91,595 100.0% $95,126 $95,478 100.0% $96,357 $95,317 100.0% $93,076
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The amortized cost of our below-investment grade fixed maturities as of September 30, 2001 totaled $10.1 billion, or 11.1%, of total fixed maturities on that date, compared to $10.2 billion, or 10.7%, as of December 31, 2000.
At September 30, 2001, securities backed by residential mortgage loans made up less than 6% of our fixed maturity investments. Nearly 93% of the mortgage- backed securities in the general account were publicly traded agency pass- through securities. Collateralized mortgage obligations represented only 5% of our total mortgage-backed securities, and less than 0.3% of fixed maturities. The primary risk of these mortgage-backed securities is the rate at which the loans are prepaid. The loans can generally be prepaid at any time without penalty. As a general rule, when the interest rates on the loans underlying the securities are significantly higher than prevailing interest rates on similar loans, borrowers are more likely to prepay their loans, and we would likely reinvest the prepayment proceeds in lower interest rate obligations, with a resulting net reduction of our future investment income.
The NAIC evaluates the investments of insurers for regulatory reporting purposes and assigns fixed maturity securities to one of six categories called "NAIC Designations". NAIC designations of "1" or "2" include fixed maturities considered investment grade, which include securities rated Baa3 or higher by Moody's or BBB- or
higher by S&P. NAIC Designations of "3" through "6" are referred to as below investment grade, which include securities rated Ba1 or lower by Moody's and BB+ or lower by S&P. The following tables set forth our public and private fixed maturity portfolios by NAIC rating as of the dates indicated.
Public Fixed Maturities by Credit Quality
As of December 31,
-------------------------------------------------------------
As of September 30, 2001 2000 1999
------------------------------ ------------------------------ ------------------------------
Estimated Estimated Estimated
NAIC Rating Agency Amortized % of Fair Amortized % of Fair Amortized % of Fair
Rating Equivalent Cost Total Cost Value Cost Total Cost Value Cost Total Cost Value
------ ------------- --------- ---------- --------- --------- ---------- --------- --------- ---------- ---------
($ in millions)
1 Aaa, Aa, A........ $40,492 67.5% $42,346 $42,311 67.6% $43,208 $38,255 63.5% $37,336
2 Baa............... 14,606 24.3 15,033 15,346 24.5 15,273 16,344 27.1 15,730
3 Ba................ 2,701 4.5 2,683 2,427 3.9 2,401 2,795 4.7 2,712
4 B................. 1,822 3.0 1,700 2,125 3.4 2,004 2,628 4.4 2,597
5 C and lower....... 298 0.5 292 369 0.6 331 176 0.3 182
6 In or near
default........... 131 0.2 133 12 0.0 11 24 0.0 25
------- ----- ------- ------- ------ ------- ------- ------ -------
Total............. $60,050 100.0% $62,187 $62,590 100.0% $63,228 $60,222 100.0% $58,582
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Private Fixed Maturities by Credit Quality
As of December 31,
As of -----------------------------------------------------
September 30, 2001 2000 1999
-------------------------- -------------------------- --------------------------
% of Estimated % of Estimated % of Estimated
NAIC Amortized Total Fair Amortized Total Fair Amortized Total Fair
Rating Rating Agency Equivalent Cost Cost Value Cost Cost Value Cost Cost Value
------ ------------------------ --------- ----- --------- --------- ----- --------- --------- ----- ---------
($ in millions)
1 Aaa, Aa, A.............. $10,351 32.8% $10,950 $11,379 34.6% $11,631 $11,846 33.8% $11,807
2 Baa..................... 16,013 50.8 16,761 16,122 49.0 16,253 18,026 51.2 17,625
3 Ba...................... 3,119 9.9 3,176 2,897 8.8 2,843 3,435 9.8 3,341
4 B....................... 1,476 4.7 1,412 1,893 5.8 1,792 1,321 3.8 1,290
5 C and lower............. 479 1.5 521 405 1.2 382 379 1.1 350
6 In or near default...... 107 0.3 119 192 0.6 228 88 0.3 81
------- ----- ------- ------- ----- ------- ------- ----- -------
Total................... $31,545 100.0% $32,939 $32,888 100.0% $33,129 $35,095 100.0% $34,494
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We maintain separate monitoring processes for public and private fixed maturities and create watch lists to highlight securities which require special scrutiny and management. Our public fixed maturity asset managers formally review all public fixed maturity holdings on a monthly basis and more frequently when necessary to identify potential credit deterioration whether due to ratings downgrades, unexpected price variances, and/or industry specific concerns. We classify public fixed maturity securities of issuers that have defaulted as loans not in good standing and all other public watch list assets as closely monitored.
Our private fixed maturity asset managers conduct specific servicing tests on each investment on an ongoing basis to determine whether the investment is in compliance or should be placed on the watch list or assigned an early warning classification. We assign early warning classifications to those issuers that have failed a servicing test or experienced a minor covenant default, and we continue to monitor them for improvement or deterioration. In certain situations, the general account benefits from negotiated rate increases or fees resulting from a covenant breach. We assign closely monitored status to those investments that have been recently restructured or for which restructuring is a possibility due to substantial credit deterioration or material covenant defaults. We classify as not in good standing securities of issuers that are in more severe conditions, for example bankruptcy or payment default.
When a decline in value of a security is deemed to be other than temporary, we record an impairment loss in our Consolidated Statement of Operations within "realized investment gains, net".
Factors we consider in evaluating whether a decline in value is other than temporary are: (1) whether this decline is substantial; (2) our ability and intent to retain our investment for a period of time sufficient to allow
for an anticipated recovery in value; (3) the duration and extent to which the market value has been less than cost; and (4) the financial condition and near-term prospects of the issuer.
The following table sets forth the amount of our public and private fixed maturity portfolio watch list as of the dates indicated.
Fixed Maturities--Watch List
As of December 31,
As of -------------------------------------------
September 30, 2001 2000 1999
--------------------- --------------------- ---------------------
Book Value % of Total Book Value % of Total Book Value % of Total
---------- ---------- ---------- ---------- ---------- ----------
($ in millions)
Closely monitored....... $1,276 1.4% $1,147 1.2% $1,034 1.1%
Not in good standing.... 479 0.5 209 0.2 125 0.1
------ ------ ------ ------ ------ ------
Total.................. $1,755 1.9% $1,356 1.4% $1,159 1.2%
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Mortgage Loans
As of September 30, 2001, we held approximately 12% of our general account portfolio in mortgage loans, essentially unchanged from December 31, 2000 and 1999. The portfolio as of September 30, 2001 consisted of approximately 1,100 commercial mortgage loans with a carrying value of $13.1 billion and $2.1 billion of residential and agricultural loans. These values are gross of a $178 million mortgage loan loss reserve.
We originate commercial mortgages through two sources, both managed out of three regional offices in Atlanta, Chicago and San Francisco. The direct channel, staffed by Prudential investment personnel, originates loans with principal amounts of $20 million and higher. The Pru Express channel uses a network of independent companies to originate loans in the $2 million to $20 million range. All loans are underwritten consistently to Prudential standards using our proprietary rating system that was developed using our experience in real estate and mortgage lending.
Our mortgage portfolio strategy emphasizes diversification by property type and geographic location. The following tables set forth the breakdown of the commercial mortgage loan portfolio by geographic region, property type and maturity as of the dates indicated.
As of December 31,
As of ------------------------------
September 30, 2001 2000 1999
-------------------- -------------- --------------
Carrying % of Carrying % of Carrying % of
Value Total Value Total Value Total
---------- -------- -------- ----- -------- -----
($ in millions)
Region:
Pacific................. $ 3,883 29.5% $ 3,863 28.5% $ 3,832 27.6%
South Atlantic.......... 2,625 20.0 2,488 18.3 2,709 19.6
Middle Atlantic......... 2,397 18.3 2,490 18.4 2,542 18.4
East North Central...... 1,282 9.8 1,440 10.6 1,556 11.2
Mountain................ 779 5.9 846 6.2 772 5.6
West South Central...... 820 6.3 828 6.1 893 6.4
West North Central...... 503 3.8 579 4.3 598 4.3
New England............. 520 4.0 662 4.9 537 3.9
East South Central...... 270 2.1 316 2.3 332 2.4
Other................... 38 0.3 55 0.4 81 0.6
---------- -------- ------- ----- ------- -----
Total.................. $ 13,117 100.0% $13,567 100.0% $13,852 100.0%
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Commercial mortgage loans on properties in the California and New York areas accounted for $3.0 billion and $1.6 billion, respectively, of the foregoing as of September 30, 2001. See Note 5 to the audited consolidated financial statements for information on the property types collectively collateralizing our mortgage loan portfolios, including commercial, residential and agricultural mortgage loans.
As of December 31,
As of --------------------------------
September 30, 2001 2000 1999
-------------------- --------------- ---------------
Carrying % of Carrying % of Carrying % of
Value Total Value Total Value Total
----------- -------- --------- ----- --------- -----
($ in millions)
Property Type:
Apartment complexes... $ 4,198 32.1% $ 4,455 32.8% $ 4,508 32.5%
Office buildings...... 3,613 27.5 3,719 27.4 3,948 28.5
Retail stores......... 2,201 16.8 2,465 18.2 2,627 19.0
Industrial buildings.. 2,524 19.2 2,331 17.2 2,157 15.6
Other................. 581 4.4 597 4.4 612 4.4
---------- -------- ------- ----- ------- -----
Total................ $ 13,117 100.0% $13,567 100.0% $13,852 100.0%
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The following table sets forth the distribution of maturities of our
commercial mortgage loan portfolio.
Commercial Mortgage Loan Maturities
As of December 31,
As of --------------------------------
September 30, 2001 2000 1999
-------------------- --------------- ---------------
Principal Principal Principal
Balance % of Balance % of Balance % of
Maturing Total Maturing Total Maturing Total
----------- -------- --------- ----- --------- -----
($ in millions)
Due in one year or
less................... $ 68 0.5% $ 405 3.0% $ 742 5.4%
Due in two to three
years.................. 652 5.0 827 6.1 631 4.6
Due in three to four
years.................. 693 5.3 712 5.2 804 5.8
Due in four to five
years.................. 1,405 10.7 1,422 10.5 735 5.3
Due in five to six
years.................. 1,254 9.6 1,273 9.4 1,374 9.9
Due in six to seven
years.................. 960 7.3 939 6.9 1,197 8.6
Due in seven to eight
years.................. 1,055 8.0 1,070 7.9 908 6.6
Due in eight to nine
years.................. 1,417 10.8 1,335 9.8 1,034 7.5
Due in nine to ten
years.................. 1,535 11.7 1,500 11.1 1,339 9.7
Due in more than ten
years.................. 4,078 31.1 4,084 30.1 5,088 36.6
---------- -------- ------- ----- ------- -----
Total.................. $ 13,117 100.0% $13,567 100.0% $13,852 100.0%
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We evaluate our loans on a quarterly basis for watch list status based on compliance with various financial ratios and other covenants set forth in the loan agreements, borrower credit quality, property condition and other factors. We may place loans on early warning status in cases where we detect that the physical condition of the property, the financial situation of the borrower or tenant, or other factors could lead to a loss of principal or interest. We classify as closely monitored those loans that have experienced material covenant defaults or substantial credit or collateral deterioration. Not in good standing loans are those for which there is a high probability of loss of principal, such as when the borrower is in bankruptcy or the loan is in foreclosure. An experienced staff of workout professionals actively manages the loans in the closely monitored and not in good standing categories.
The following table shows the percentages of our commercial loan portfolio that are delinquent but not in foreclosure, delinquent and in foreclosure, restructured and foreclosed as well as the industry averages.
Commercial Mortgage Loan Comparisons
As of December 31,
As of -------------------------------------------
September 30, 2001 2000 1999
--------------------- --------------------- ---------------------
ACLI ACLI ACLI
Prudential Average(1) Prudential Average(1) Prudential Average(1)
---------- ---------- ---------- ---------- ---------- ----------
Delinquent, not in
foreclosure............ 0.04% 0.08% 0.13% 0.28% 0.61% 0.16%
Delinquent, in
foreclosure............ 0.00 0.11 0.00 0.15 0.00 0.09
Restructured............ 1.38 1.14 1.45 1.50 2.09 2.04
---- ---- ---- ---- ---- ----
Subtotal............... 1.42 1.33 1.58 1.93 2.70 2.29
Loans foreclosed during
period................. 0.25 0.18 0.38 0.22 0.06 0.30
---- ---- ---- ---- ---- ----
Total.................. 1.67% 1.51% 1.96% 2.15% 2.76% 2.59%
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The low level of delinquencies and loans in process of foreclosure is primarily attributable to the strong commercial real estate market in the United States during 1999 and 2000.
Equity Securities
We held approximately 2% of general account assets in equity securities as of September 30, 2001, essentially unchanged from December 31, 2000 and December 31, 1999. These securities consist of investments in common stock, including shares of real estate investment trusts. Approximately 88% of our equity securities are publicly traded on national securities exchanges. For the nine months ended September 30, 2001 and the years ended December 31, 2000 and 1999, net realized investment gains (losses) from sales and impairments of equity securities were $(40) million, $450 million and $223 million, respectively.
Other Long-Term Investments
Through the mid-1990s, we were a major investor in equity real estate, both wholly owned and through joint ventures. Beginning in 1997, we implemented a real estate sales program, which significantly reduced our exposure to real estate, and have deemphasized direct real estate investments. We now look to other forms of exposure to real estate markets, such as shares of real estate investment trusts. From January 1, 1997 to September 30, 2001, we reduced the book value of our real estate and real estate related holdings from approximately $3.4 billion to $0.5 billion, with aggregate sales proceeds of approximately $2.5 billion in 1997, $2.7 billion in 1998, $1.4 billion in 1999, $0.5 billion in 2000 and $0.1 billion during the nine months ended September 30, 2001. We used the proceeds from these real estate sales to invest in public and private fixed maturities and shares in real estate investment trusts.
As of September 30, 2001, the book value of our foreclosed real estate was $100 million. Our policy is generally to sell any foreclosed real estate, seeking to maximize the residual value of our interest.
Ratings
Claims-paying and credit ratings are important factors affecting public confidence in an insurer and its competitive position in marketing products. Rating organizations continually review the financial performance and condition of insurers, including The Prudential Insurance Company of America and its insurance company subsidiaries. Our credit ratings are also important to our ability to raise capital through the issuance of debt and to the cost of such financing.
The following table summarizes the current ratings from A.M. Best, S&P, Moody's and Fitch (formerly Duff & Phelps) for our rated U.S. insurance companies, The Prudential Insurance Company of America's outstanding rated debt securities, the indebtedness issued through Prudential Financial, Inc. and Prudential Funding, LLC and
the long-term counterparty rating of Prudential Securities Group. You can read an explanation of these ratings in the Glossary under the definitions "claims- paying ratings" and "credit ratings".
A.M. Best S&P Moody's Fitch
--------- --- ------- -----
Insurance Claims-Paying Ratings:
The Prudential Insurance Company of America........ A A+ A1 AA-
PRUCO Life Insurance Company....................... A A+ A1 NR*
PRUCO Life Insurance Company of New Jersey......... A A+ A1 NR
Prudential Property & Casualty Insurance Company... A- A A1 NR
The Prudential Property & Casualty Insurance
Company of New Jersey............................. A- NR A1 NR
The Prudential Life Insurance Co. Ltd. (Prudential
of Japan)......................................... NR AA- NR NR
Gibraltar Life Insurance Company, Ltd. ............ NR A A2 NR
Credit Ratings:
Prudential Financial, Inc.:
Commercial Paper.................................. NR A2 P2 F1
Long-Term Senior Debt............................. NR A- A3 A
The Prudential Insurance Company of America:
Capital and surplus notes, due 2001-2005.......... NR A- A3 NR
Prudential Funding, LLC:
Commercial Paper.................................. NR A1 P1 NR
Long-Term Senior Debt............................. NR A+ A2 NR
Prudential Securities Group Inc. .................. NR BBB NR NR
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Insurance Claims-Paying Ratings
Since the mid 1990s the rating agencies have each downgraded our ratings at different times, in different degrees and sometimes for different reasons. Downgrades that occurred in 1997 and 1998 were based primarily on disappointment in The Prudential Insurance Company of America's financial performance and concerns regarding the life insurance sales practices litigation. In particular, the rating agencies were concerned with financial results that were below expectations and/or those of competitors in the Individual Life Insurance segment and healthcare. These downgrades resulted in the ratings of A+ from S&P, A1 from Moody's and AA- from Fitch. In 1998, the rating agencies also noted that the process of reorganizing our Individual Life Insurance segment and our efforts to reposition ourselves with respect to distribution and markets to address sales force productivity, sales distribution inefficiencies, alternative distribution channels and increased competition in the financial services arena, also posed threats to our financial strength and claims-paying ability. The rating agencies' concerns regarding the reorganization of Individual Life Insurance and our efforts to reposition ourselves will not be resolved before we complete this process.
The rating agencies based earlier downgrades between 1991 and 1997 on our exposures to catastrophe risk, heightened by geographic concentration, as was highlighted by our Hurricane Andrew losses, exposure to real estate and high yield securities in our investment portfolio and limited partnership sales practices litigation at Prudential Securities.
The ratings set forth above with respect to The Prudential Insurance Company of America and its insurance and financing subsidiaries reflect current and past opinions of each rating organization with respect to claims-paying ability, financial strength, operating performance and ability to meet obligations to policyholders or debt holders, as the case may be. These ratings are of concern to policyholders, agents and intermediaries. They are not directed toward stockholders and do not in any way reflect evaluations of the safety and security of the Common Stock. You should not rely upon the ratings in making a decision whether or not to purchase shares of Common Stock.
On November 8, 2001, S&P downgraded Prudential Property & Casualty Insurance Company's claims-paying rating, citing the potential for it to not meet our operating performance objectives.
Following this downgrade, we believe that our claims-paying ability and financial strength ratings are stable. Although our ratings have not been affected by the terrorist attacks on the United States and remain stable, over time the rating agencies could reexamine the ratings affecting the insurance industry generally, including our companies.
Competition
In each of our businesses we face intense competition from domestic and foreign insurance companies, asset managers, investment banks and diversified financial institutions. Many of our competitors are large, well-capitalized and some have higher claims-paying or credit ratings than we do. We compete in our businesses generally on the basis of price, quality of service, scope of distribution, quality of products and brand recognition. The relative importance of these factors depends on the particular product in question.
In recent years, there has been substantial consolidation and convergence among companies in the financial services industry, particularly as the laws separating banking and insurance have been relaxed, resulting in increased competition from large, well-capitalized financial services firms. In particular, a number of large commercial banks, insurance companies and other broad-based financial services firms have established or acquired other financial services businesses such as a broker-dealer or an insurance company. Many of these firms also have been able to increase their distribution systems through mergers or contractual arrangements. We expect consolidation to continue and perhaps accelerate. We expect that the Gramm-Leach-Bliley Act, which was adopted on November 11, 1999, will contribute to consolidation by liberalizing restrictions on affiliation of banks with insurance companies and other financial institutions and on activities of bank affiliates with respect to mutual funds, private equity investments and other activities. While we are among the largest competitors in terms of market share in many of our business lines, in some cases there are one or more dominant market players in a particular line of business. The trend toward consolidation in the financial services industry may result in competitors with increased market shares, or the introduction of larger or financially stronger competitors through acquisitions or otherwise, in those or other lines of business in which we compete.
Our investment-linked insurance products and our Investment Management and Advisory Services and Retail Investments segments also compete on the basis of investment performance. A material decline in the investment performance of our variable life, mutual fund, variable annuity or defined contribution products could have an adverse effect on our sales. Rankings and ratings of investment performance have a significant effect on our ability to increase our assets under management.
Competition for personnel in all of our businesses is intense, including for Prudential Agents, Financial Advisors and other captive sales personnel, and our investment managers. In the ordinary course of business, we lose from time to time personnel in whom we have invested significant training, and in the recent past we have in particular lost some of our most experienced Financial Advisors. We are focusing substantial efforts on refocusing our Prudential Agents, on increasing productivity requirements for Prudential Agents and on reducing turnover among Financial Advisors. The loss of key investment managers could have a material adverse effect on our Investment Management and Advisory Services segment. Our decision to exit the lead-managed equity underwriting for corporate issuers and institutional fixed income businesses of Prudential Securities, and to pursue our strategy of providing research of interest to our investor clients is new, and its effect on our ability to attract and retain Financial Advisors and research analysts is uncertain.
Many of our businesses are in industries where access to multiple sales channels may be a competitive advantage. We believe that insurance and investment products will continue to be sold primarily through face-to-face sales channels, although customers' desire for objective and not product- related advice will, over time, increase the amount of insurance and investment products sold through non-affiliated distributors such as independent agents, insurance brokers and investment advisors. In addition, we expect that insurance and investment products will increasingly be sold through direct marketing, including through electronic commerce. The proliferation and growth of multiple sales channels puts pressure on our face- to-face sales channels to either increase their productivity or reduce their costs. We continue our efforts to strengthen and broaden our sales channels, but we cannot assure they will be successful. We run the risk that the marketplace will make a more significant or rapid shift to non-affiliated and direct distribution alternatives than we anticipate or are able to achieve ourselves. If this happens, our market share and results of operations could be adversely affected.
Our current claims-paying ratings have substantially reduced our ability to sell traditional guaranteed products, and further reduction in our claims- paying ratings could adversely affect our ability to sell our insurance products and reduce our profitability.
Internationally, our international life insurance business competes by focusing on a limited market using our Life Planner model to offer high quality service and needs-based protection products. Certain competitors, including Sony Life in Japan, employ or seek to employ versions of the Life Planner model.
Regulation
Overview
Our businesses are subject to comprehensive regulation and supervision primarily as follows:
Insurance Operations. State insurance laws regulate all aspects of our insurance businesses and state insurance departments in the fifty states, the District of Columbia and various U.S. territories and possessions supervise our insurance operations. The Prudential Insurance Company of America is organized in New Jersey and its principal insurance regulatory authority is the New Jersey Department of Banking and Insurance. Our other insurance companies are principally regulated by the insurance departments of the states in which they are organized. Our international insurance operations are principally regulated by foreign insurance regulatory authorities in the jurisdiction in which they operate, including the Japanese Ministry of Finance and Financial Supervisory Agency. Our insurance products are substantially affected by federal, state and foreign tax laws. Products that also constitute "securities", such as variable life insurance and variable annuities, are also subject to federal and state securities laws and regulations. The SEC, the NASD, state securities commissions and foreign authorities regulate and supervise these products.
Asset Management Operations. Our investment products and services, including mutual funds, are subject to federal, state and foreign securities, fiduciary, including ERISA, and other laws and regulations. The SEC, the NASD, state securities commissions, the Department of Labor and similar foreign authorities are the principal regulators that regulate and supervise our Asset Management Operations. Federal, state and foreign tax laws also substantially affect our investment products and services.
Securities Operations. Our securities operations, principally conducted by Prudential Securities Incorporated and a number of other SEC-registered broker-dealers, are subject to federal, state and foreign securities, commodities and related laws. The SEC, the CFTC, state securities authorities, the NYSE, the NASD and similar foreign authorities are the principal regulators of our securities operations.
The purpose of these regulations is primarily to protect our customers and not our shareholders. Many of the laws and regulations to which we are subject are regularly re-examined, and existing or future laws and regulations may become more restrictive or otherwise adversely affect our operations. The summary below is of U.S. regulation. Our international operations are subject to similar types of regulation in the jurisdictions in which they operate.
Regulation Affecting Prudential Financial, Inc.
Prudential Financial, Inc. will act as a holding company for all of our operations. Prudential Financial, Inc. itself will not be licensed as an insurer, investment advisor, broker-dealer, bank or other regulated entity. However, because it will own regulated entities, Prudential Financial, Inc. will be subject to regulation as an insurance holding company and a savings and loan holding company.
Insurance Holding Company Regulation
Prudential Financial, Inc. will be subject to the insurance holding company laws in the states where our insurance subsidiaries are, or are treated as, organized, which currently include New Jersey, Arizona, Delaware, Indiana, Michigan, Minnesota, Oklahoma, Tennessee, Texas and others. These laws generally require the insurance holding company and each insurance company directly or indirectly owned by the holding company to register with the insurance department in the insurance company's state of domicile and to furnish annually financial and other information about the operations of companies within the holding company system. Generally, all transactions affecting the insurers in the holding company system must be fair and, if material, require prior notice and approval or non-disapproval by the state's insurance department.
Acquisition of Control
Under the New Jersey statute governing the demutualization and the plan of reorganization, for the three years after the effective date of the demutualization, no person, other than Prudential Financial, Inc., its subsidiaries or any employee benefit plans or trusts sponsored by us, may offer to acquire 5% or more of Prudential Financial, Inc.'s common stock or total voting power without the prior approval of the New Jersey insurance regulator. Under this statute, the New Jersey insurance regulator may not approve the acquisition unless he or she determines, among other things, that:
. the acquisition would not frustrate the plan of reorganization;
. either Prudential Financial, Inc.'s Board of Directors has approved the acquisition or extraordinary circumstances that the plan of reorganization did not contemplate have arisen that justify their approval of the acquisition; and
. the acquisition would be in the interests of our policyholders.
The New Jersey statute governing the demutualization provides that any security that is subject to an agreement regarding acquisition or that is acquired or to be acquired in violation of the statute or in violation of an order of the New Jersey insurance regulator may not be voted at any shareholders' meeting, and any action of shareholders requiring the affirmative vote of a percentage of shares may be taken as though these securities were not issued and outstanding. If these securities are voted, however, any action taken at a shareholders' meeting will be valid unless it materially affects control of Prudential Financial, Inc. or unless a New Jersey court has otherwise ordered.
Most states, including the states in which our insurance companies are domiciled, have insurance laws that require regulatory approval of a change of control of an insurer or an insurer's holding company. Laws such as these that apply to us prevent any person from acquiring control of Prudential Financial, Inc. or of our insurance subsidiaries unless that person has filed a statement with specified information with the insurance regulators and has obtained their prior approval. Under most states' statutes, acquiring 10% or more of the voting stock of an insurance company or its parent company is presumptively considered a change of control, although such presumption may be rebutted. Accordingly, any person who acquires 10% or more of the voting securities of Prudential Financial, Inc. without the prior approval of the insurance regulators of the states in which our insurance companies are domiciled will be in violation of these states' laws and may be subject to injunctive action requiring the disposition or seizure of those securities by the relevant insurance regulator or prohibiting the voting of those securities and to other actions determined by the relevant insurance regulator.
In addition, many state insurance laws require prior notification of state insurance departments of a change in control of a non-domiciliary insurance company doing business in that state. While these prenotification statutes do not authorize the state insurance departments to disapprove the change in control, they authorize regulatory action in the affected state if particular conditions exist such as undue market concentration. Any future transactions that would constitute a change in control of Prudential Financial, Inc. may require prior notification in those states that have adopted preacquisition notification laws.
These laws may discourage potential acquisition proposals and may delay, deter or prevent a change of control of Prudential Financial, Inc., including through transactions, and in particular unsolicited transactions, that some or all of the stockholders of Prudential Financial, Inc. might consider to be desirable.
Bank and Savings and Loan Holding Company Regulation
Although The Prudential Bank and Trust Company is a "bank" as defined in the Bank Holding Company Act of 1956, The Prudential Insurance Company of America currently is, and Prudential Financial, Inc. will be, exempted from regulation as a bank holding company under federal law as long as we continue to comply with certain restrictions. As a result of its ownership of The Prudential Savings Bank, F.S.B., The Prudential Insurance Company of America is, and Prudential Financial, Inc. will be, a savings and loan holding company. Federal and state banking laws generally provide that no person may acquire control of Prudential Financial, Inc., and gain indirect control of The Prudential Bank and Trust Company, The Prudential Savings Bank, F.S.B. or Prudential Trust Company, without prior regulatory approval. Beneficial ownership of 10% or more of the voting securities of Prudential Financial, Inc., among other things, generally would be presumed to constitute control of Prudential Financial, Inc.
Insurance Operations
State Insurance Regulation
State insurance authorities have broad administrative powers with respect to all aspects of the insurance business including:
. licensing to transact business,
. licensing agents,
. admittance of assets to statutory surplus,
. regulating premium rates,
. approving policy forms,
. regulating unfair trade and claims practices,
. establishing reserve requirements and solvency standards,
. fixing maximum interest rates on life insurance policy loans and minimum accumulation or surrender values, and
. regulating the type, amounts and valuations of investments permitted and other matters.
State insurance laws and regulations require our insurance companies to file financial statements with insurance departments everywhere they do business, and the operations of our insurance companies and accounts are subject to examination by those departments at any time. Our insurance companies prepare statutory financial statements in accordance with accounting practices and procedures prescribed or permitted by these departments.
State insurance departments conduct periodic examinations of the books and records, financial reporting, policy filings and market conduct of insurance companies domiciled in their states, generally once every three to five years. Examinations are generally carried out in cooperation with the insurance departments of other states under guidelines promulgated by the NAIC. The New Jersey insurance regulator completed a financial examination of The Prudential Insurance Company of America and its indirect insurance subsidiary, PRUCO Life Insurance Company of New Jersey, for each of the previous five years for the period ended December 31, 1996, and found no material deficiencies.
Financial Regulation
Dividend Payment Limitations. The New Jersey insurance law and the insurance laws of the other states in which our insurance companies are domiciled regulate the amount of dividends that may be paid by The Prudential Insurance Company of America and our other insurance companies. See "Management's Discussion and Analysis of Financial Condition and Results of Operations-- Liquidity and Capital Resources--Prudential Financial, Inc." for more detail.
Risk-Based Capital. In order to enhance the regulation of insurers' solvency, the NAIC adopted a model law to implement risk-based capital requirements for life, health and property and casualty insurance companies. All states have adopted the NAIC's model law or a substantially similar law. The RBC calculation, which regulators use to assess the sufficiency of an insurer's capital, measures the risk characteristics of a company's assets, liabilities and certain off-balance sheet items. RBC is calculated by applying factors to various asset, premium and liability items. Within a given risk category, these factors are higher for those items with greater underlying risk and lower for items with lower underlying risk. Insurers that have less statutory capital than the RBC calculation requires are considered to have inadequate capital and are subject to varying degrees of regulatory action depending upon the level of capital inadequacy. The RBC ratios for each of our insurance companies currently are well above the ranges that would require any regulatory or corrective action.
The NAIC approved a series of statutory accounting principles which have been adopted, in some cases with modifications, by all state insurance regulators effective as of January 1, 2001. Certain of the adopted principles could have an impact on the measurement of statutory capital which, in turn, could affect the RBC ratios of insurance companies. The NAIC is currently reviewing the RBC formulas for possible changes as a result of the adoption of these codified statutory accounting principles. We expect that if these changes are adopted, they would increase our RBC ratio, but not to a significant degree.
IRIS Tests. The NAIC has developed a set of financial relationships or tests known as the Insurance Regulatory Information System to assist state regulators in monitoring the financial condition of insurance companies and identifying companies that require special attention or action by insurance regulatory authorities. Insurance companies generally submit data annually to the NAIC, which in turn analyzes the data using prescribed financial data ratios each with defined "usual ranges". Generally, regulators will begin to investigate or monitor an insurance company if its ratios fall outside the usual ranges for four or more of the ratios. If an insurance company has insufficient capital, regulators may act to reduce the amount of insurance it can issue. None of our insurance companies is currently subject to regulatory scrutiny based on these ratios.
Insurance Reserves. New Jersey insurance law and the laws of several other states require us to analyze the adequacy of our reserves annually. Our actuary must submit an opinion that our reserves, when considered in light of the assets we hold with respect to those reserves, make adequate provision for our contractual obligations and related expenses.
The NAIC has adopted a model regulation called "Valuation of Life Insurance Policies Model Regulation" that would establish new minimum statutory reserve requirements for individual life insurance policies written in the future. These reserve standards have been enacted by most of the states. As a result, insurers selling some individual life insurance products such as term life insurance with guaranteed premium periods may need to adjust reserves and/or shorten guarantee periods. While the model regulation has been enacted by the states in which we have domestic companies, the enactment of the regulation has not had a material impact on us. The NAIC is currently considering revisions to this regulation, but we do not expect the revisions to have a material impact on us.
Market Conduct Regulation
State insurance laws and regulations include numerous provisions governing the marketplace activities of insurers, including provisions governing the form and content of disclosure to consumers, illustrations, advertising, sales practices and complaint handling. State regulatory authorities generally enforce these provisions through periodic market conduct examinations.
Property and Casualty Regulation
Our property and casualty operations are subject to rate and other laws and regulations covering a range of trade and claim settlement practices. State insurance regulatory authorities have broad discretion in approving an insurer's proposed rates. When a state restricts underwriting, pricing and profits, as is the case for automobile insurance in New Jersey, an insurer's ability to operate profitably on a consistent basis may be affected. In New Jersey, if the profit earned on automobile insurance over a three-year period exceeds the amount determined under insurance regulations, the insurer must provide a refund or credit to policyholders.
State insurance laws and regulations require us to participate in mandatory property-liability "shared market", "pooling" or similar arrangements that provide insurance coverage to individuals or others who otherwise are unable to purchase coverage voluntarily provided by private insurers. Shared market mechanisms include assigned risk plans; fair access to insurance requirement or "FAIR" plans; and reinsurance facilities, such as the New Jersey Unsatisfied Claim and Judgment Fund, the Florida Hurricane Catastrophe Fund, and the California Earthquake Authority. In addition, some states require insurers to participate in reinsurance pools for claims that exceed specified amounts. Our participation in these mandatory shared market or pooling mechanisms generally is related to the amounts of our direct writings for the type of coverage written by the specific arrangement in the applicable state. We cannot predict the financial impact of our participation in these arrangements.
Insurance Guaranty Association Assessments
Each state has insurance guaranty association laws under which life and property and casualty insurers doing business in the state may be assessed by state insurance guaranty associations for certain obligations of insolvent insurance companies to policyholders and claimants. Typically, states assess each member insurer in an amount related to the member insurer's proportionate share of the business written by all member insurers in the state. For the years ended December 31, 2000 and 1998, we paid approximately $8.5 million and $44.8 million, respectively, in assessments pursuant to state insurance guaranty association laws. For the year ended December 31, 1999, we received approximately $0.5 million in refunds pursuant to these laws. While we cannot predict the amount and timing of any future assessments on our insurance companies under these laws, we have established
reserves that we believe are adequate for assessments relating to insurance companies that are currently subject to insolvency proceedings.
Federal Regulation
Our variable life insurance products, as well as our variable annuity and mutual fund products, generally are securities within the meaning of federal and state securities laws, are registered under the Securities Act of 1933 and are subject to regulation by the SEC, the NASD and state securities commissions. Federal and state securities regulation similar to that discussed below under "--Asset Management Operations" and "--Securities Operations" affect investment advice and sales and related activities with respect to these products. In addition, although the federal government does not comprehensively regulate the business of insurance, federal legislation and administrative policies in several areas, including taxation, financial services regulation and pension and welfare benefits regulation, can significantly affect the insurance industry. Congress also periodically considers and is considering laws affecting privacy of information and genetic testing that could significantly and adversely affect the insurance industry.
Tax Legislation
Current federal income tax laws generally permit certain holders to defer taxation on the build-up of value of annuities and life insurance products until payments are actually made to the policyholder or other beneficiary and to exclude the build-up of value which is paid as a death benefit under a life insurance contract. Congress has, from time to time, considered possible legislation that would eliminate the benefit of this deferral on some annuities and insurance products, as well as other types of changes that could reduce or eliminate the attractiveness of annuities and life insurance products to consumers. In June 2001, legislation was enacted that will eliminate, over time, the estate, gift and generation-skipping taxes, and that will lower individual tax rates. In addition, there have been proposals from time to time that would increase the tax costs of insurance companies. See "Risk Factors--Changes in federal income tax law could make some of our products less attractive to consumers and increase our tax costs" for a discussion of this proposed tax legislation.
ERISA
ERISA is a comprehensive federal statute that applies to employee benefit plans sponsored by private employers and labor unions. Plans subject to ERISA include pension and profit sharing plans and welfare plans (including health, life and disability plans). Among ERISA's requirements are reporting and disclosure rules, standards of conduct that apply to plan fiduciaries, prohibitions on conflict-of-interest transactions and certain transactions between a benefit plan and a party in interest ("prohibited transactions"), and a scheme of civil and criminal penalties and enforcement. Prudential's insurance, asset management, group administrative services and brokerage businesses all provide services to employee benefit plans subject to ERISA, including services where Prudential may act as an ERISA fiduciary. In addition to ERISA regulation of those businesses in the sales of products to and servicing of ERISA plans, Prudential and its affiliates will become parties in interest to those plans and subject to ERISA's prohibited transaction rules for transactions with those plans, which may affect the ability to enter transactions, or the terms on which transactions may be entered, with those plans, even in businesses unrelated to those giving rise to party in interest status. Insurers may also be subject to the fiduciary requirements of ERISA with respect to certain contracts issued from the insurer's general account unless the insurer meets certain requirements. Prudential intends to satisfy the regulation's requirements to be exempted from the fiduciary obligations of ERISA for certain pre-1999 contracts. The cancellation options provided for under the regulations, if exercised by the policyholders, would reduce policy persistency.
Asset Management Operations
Some of our separate accounts, mutual funds and other pooled investments, in addition to being registered under the Securities Act of 1933, are registered as investment companies under the Investment Company Act of 1940, and the shares of certain of these entities are qualified for sale in some states and the District of Columbia. We also have several subsidiaries that are registered as broker-dealers under the Securities Exchange Act of 1934 ("Exchange Act") and are subject to federal and state regulation, including but not limited to the SEC's net capital rules. In addition, we have several subsidiaries that are investment advisors registered under the Investment Advisers Act of 1940. Our Prudential Agents and other employees, insofar as they sell products that are securities, as well as our Financial Advisors, are subject to the Exchange Act and to examination
requirements and regulation by the SEC, the NASD and state securities commissioners. Regulation also extends to various Prudential entities that employ or control those individuals.
For a discussion of potential federal tax legislation and other federal regulation affecting our variable annuity products, see "--Insurance Operations--Federal Regulation" above.
Securities Operations
Prudential Securities Incorporated and a number of our other subsidiaries are registered as broker-dealers with the SEC and with some or all of the 50 states and the District of Columbia. Prudential Securities and a number of our other subsidiaries are also registered as investment advisors with the SEC. Prudential Securities and its broker-dealer affiliates are members of, and are subject to regulation by "self-regulatory organizations", including the NASD and the NYSE. Many of these self-regulatory organizations conduct examinations of and have adopted rules governing their member broker-dealers. In addition, state securities and certain other regulators have regulatory and oversight authority over our registered broker-dealers. We are also subject to the rules of the Municipal Securities Rulemaking Board in our municipal activities. Our Financial Advisors are also subject to regulation under the Exchange Act as described above under "--Asset Management Operations".
Broker-dealers and their sales forces are subject to regulations that cover many aspects of the securities business, including sales methods and trading practices. The regulations cover the suitability of investments for individual customers, use and safekeeping of customers' funds and securities, capital adequacy, record-keeping, financial reporting and the conduct of directors, officers and employees.
The commodity futures and commodity options industry in the United States is subject to regulation under the Commodity Exchange Act. The CFTC is the federal agency charged with the administration of the Commodity Exchange Act and the regulations adopted under the act. Prudential Securities Incorporated and a number of our other subsidiaries are registered with the CFTC as futures commission merchants, commodity pool operators or commodity trading advisors. Our futures business is also regulated in the United States by the National Futures Association.
The SEC and other governmental agencies and self-regulatory organizations, as well as state securities commissions in the United States, have the power to conduct administrative proceedings that can result in censure, fine, the issuance of cease-and-desist orders or suspension, termination or limitation of the activities of a broker-dealer or an investment advisor or its employees.
As registered broker-dealers and members of various self-regulatory organizations, Prudential Securities Incorporated and our other registered broker-dealer subsidiaries are subject to the SEC's Uniform Net Capital Rule. The Uniform Net Capital Rule sets the minimum level of net capital a broker- dealer must maintain and also requires that at least a minimum part of a broker-dealer's assets be kept in relatively liquid form. These net capital requirements are designed to measure the financial soundness and liquidity of broker-dealers. Prudential Securities Incorporated is also subject to the net capital requirements of the CFTC and the various securities and commodities exchanges of which it is a member. Compliance with the net capital requirements could limit those operations that require the intensive use of capital, such as underwriting and trading activities, and may limit the ability of these subsidiaries to pay dividends to Prudential Financial, Inc. As of December 31, 2000, Prudential Securities Incorporated's regulatory net capital was well in excess of the required amount.
Margin lending by certain of our broker-dealer subsidiaries is subject to the margin rules of the Federal Reserve Board, which limit the amount they may lend when customers are buying securities. These subsidiaries are also required by NYSE rules to impose maintenance requirements on the values of securities contained in margin accounts.
Other Businesses
Our domestic banking operations are subject to extensive federal and state regulation, including examination and review by state authorities of consumer finance offices. Prudential provides trust services through Prudential Trust Company, a state-chartered trust company incorporated under the laws of the Commonwealth of Pennsylvania, The Prudential Bank and Trust Company, and The Prudential Savings Bank, F.S.B. Our bank in the United Kingdom is subject to banking and securities regulation. The sale of real estate franchises by our real estate franchise operation is regulated by various state laws and the FTC. The federal Real Estate Settlement Procedures Act and state real estate brokerage and unfair trade practice laws regulate payments among
participants in the sale or financing of residences or the provision of settlement services such as mortgages, homeowners insurance and title insurance.
Privacy of Customer Information
Federal law and regulation requires financial institutions to protect the security and confidentiality of customer information and to notify customers about their policies and practices relating to their collection and disclosure of customer information and their policies relating to protecting the security and confidentiality of that information. Federal and state laws also regulate disclosures of customer information. Congress and state legislatures are expected to consider additional regulation relating to privacy and other aspects of customer information.
Environmental Considerations
Federal, state and local environmental laws and regulations apply to our ownership and operation of real property. Inherent in owning and operating real property is the risk of hidden environmental liabilities and the costs of any required clean-up. As to our commercial mortgage lending, under the laws of certain states, contamination of a property may give rise to a lien on the property to secure recovery of the costs of clean-up. In several states, this lien has priority over the lien of an existing mortgage against such property. In addition, in some states and under the federal Comprehensive Environmental Response, Compensation, and Liability Act of 1980 (CERCLA), we may be liable, as an "owner" or "operator", for costs of cleaning-up releases or threatened releases of hazardous substances at a property mortgaged to us. We also risk environmental liability when we foreclose on a property mortgaged to us. Recent legislation provides for a safe harbor from CERCLA liability for secured lenders that foreclose and sell the mortgaged real estate, provided that certain requirements are met. However, there are circumstances in which actions taken could still expose us to CERCLA liability. Application of various other federal and state environmental laws could also result in the imposition of liability on us for costs associated with environmental hazards.
We routinely conduct environmental assessments for real estate we acquire for investment and before taking title through foreclosure to real property collateralizing mortgages that we hold. Although unexpected environmental liabilities can always arise, based on these environmental assessments and compliance with our internal procedures, we believe that any costs associated with compliance with environmental laws and regulations or any clean-up of properties would not have a material adverse effect on our results of operations.
Litigation and Regulatory Proceedings
We are subject to legal and regulatory actions in the ordinary course of our businesses, including class actions. Our pending legal and regulatory actions include proceedings specific to us and proceedings generally applicable to business practices in the industries in which we operate. In our insurance operations, we are subject to class actions and individual suits involving a variety of issues, including sales practices, underwriting practices, claims payment and procedures, additional premium charges for premiums paid on a periodic basis, denial or delay of benefits and breaching fiduciary duties to customers. In addition to the types of claims generally affecting our insurance operations, with respect to our automobile and homeowners insurance products, we are also subject to individual and class action lawsuits involving a variety of issues including allegations of "redlining" or impermissible discrimination among customers, diminution of automobile value following a casualty loss, improper adjustment of earthquake claims, and challenges to the method of calculating replacement cost value for homes, the deduction of depreciation for certain types of property losses, the amount of and changes to policy deductibles, and other coverage and claims payment disputes. In our investment-related operations, we are subject to litigation involving commercial disputes with counterparties or partners and class action and other litigation alleging, among other things, that we made improper or inadequate disclosures in connection with the sale of assets and annuity and investment products or charged excessive or impermissible fees on these products, recommended unsuitable products to customers, mishandled customer accounts or breached fiduciary duties to customers. In our securities operations, we are subject to class action suits, arbitrations and other actions arising out of our retail securities brokerage, account management, underwriting, former investment banking and other activities, including claims of improper or inadequate disclosure regarding investments or charges, recommending unsuitable investments or products that were unsuitable for tax advantaged accounts, assessing impermissible fees or charges, engaging in excessive or unauthorized trading,
making improper underwriting allocations, breaching alleged duties to non- customer third parties and breaching fiduciary duties to customers. We may be a defendant in, or be contractually responsible to third parties for, class action and individual litigation arising from our other operations, including claims for breach of contract and payment of real estate taxes on transfer of equitable interests in residential properties in our relocation businesses, or the businesses we are winding down or have divested, including claims under the Real Estate Settlement Procedures Act in connection with our divested residential first mortgage operations and claims related to our discontinued healthcare operations. We are also subject to litigation arising out of our general business activities, such as our investments, contracts, leases and labor and employment relationships, including claims of discrimination and harassment. For discussion of litigation relating to our demutualization, see "Risk Factors--A legal challenge to the plan of reorganization could adversely affect the terms of the demutualization and the market price of our Common Stock".
In some of our pending legal and regulatory actions, parties are seeking large and/or indeterminate amounts, including punitive or exemplary damages. The following is a summary of certain pending proceedings.
Insurance
Life Insurance Sales Practices Issues
We have experienced substantial regulatory investigations and civil litigation involving allegations of deceptive life insurance sales practices by us and our insurance agents in violation of state and federal laws. The sales practices alleged to have occurred were and are contrary to our policy.
In July 1996, a task force consisting of insurance regulators from 29 states and the District of Columbia released a report that found that some of our life insurance sales had been improper. The report focused on misrepresentations concerning the use of existing life insurance policies to fund additional policies, the number of out-of-pocket cash premium payments required to fund life insurance policies, and the characterization of policies as investments rather than insurance policies. The task force found that our efforts to prevent these types of misrepresentations were not sufficiently effective.
Based on these findings, the task force recommended, and we agreed to, various changes in our sales and other business practices controls and a series of fines allocated to all 50 states and the District of Columbia. In addition, the task force and we agreed upon a remediation program pursuant to which we would offer relief to policyholders who were misled when they purchased individual permanent life insurance policies in the United States from 1982 through 1995. By March 1997, we had entered into consent orders with insurance regulatory authorities in all 50 states and the District of Columbia in which such authorities adopted the task force report and agreed to accept this remediation program as enhanced by the class action settlement we discuss below and the payment of approximately $65 million in fines, penalties and related payments to resolve with these authorities the sales practices issues identified by the task force's examination.
Commencing in February 1995, a number of individual and alleged class civil actions were filed against us alleging improprieties in connection with our sale, servicing and operation of permanent individual life insurance policies. Many of these actions were consolidated and transferred to the United States District Court for the District of New Jersey. The principal allegations in the consolidated class action were that we improperly sold individual permanent life insurance, citing misrepresentations like those identified in the state insurance task force report.
In October 1996, we entered into a Stipulation of Settlement in the consolidated class action covering all persons who own or owned at termination of the policy an individual permanent life insurance policy issued in the United States during the period January 1, 1982 through December 31, 1995, other than:
. policyholders opting out of the class action settlement;
. policyholders who had previously settled with us who were represented by counsel;
. the owners of certain corporate-owned life insurance or trust-owned life insurance policies; and
. a limited number of other specified policyholders.
The Stipulation of Settlement settled the class action by adopting the remediation program that was described in the task force report, as modified by specified enhancements and changes, including some additional remedies. The Stipulation of Settlement releases us from all claims that have been asserted by class members and bars class members from asserting any other claims with respect to the sale, servicing or administration of the policies that the settlement covers.
In October 1996, we provided notice of the class action and proposed class action settlement to the owners of the approximately 10.7 million covered policies, giving each owner the opportunity to opt out of the class action in order to pursue alternative remedies. In March 1997, the district court issued an order certifying the class for settlement purposes only and approving the amended class action settlement as fair to class members. After subsequent appellate court review, the approval of the class action settlement became final and unappealable, although the district court has retained jurisdiction over the administration, execution, enforcement and interpretation of the settlement. As of June 30, 2001, virtually all aspects of the settlement have been satisfied.
The remediation program offered policyholders the right to participate in the alternative dispute resolution process. The alternative dispute resolution process provided for an individual review of each claim with remedies tailored to the type of claim and the available evidence concerning the claim.
Pursuant to the alternative dispute resolution process, eligible policyholders completed and returned approximately 646,000 claim forms and, approximately 565,000 of them were determined to warrant claim relief. Virtually all aspects of the alternative dispute resolution process are now complete.
Approximately 325,000 alternative dispute resolution claimants who elected to cancel their policies or chose not to reinstate them and to receive a refund of the premiums they paid are being offered the opportunity to reinstate these policies so they may participate in the demutualization as owners of eligible policies. Claimants that elect to reinstate will have to pay us to reinstate their policies. The amount each claimant must pay includes the premiums that he or she would have had to pay to maintain continuous coverage under the canceled policy for the period from cancellation through reinstatement. Claimants must also repay us any money that we refunded in connection with the cancellation through the remedy process plus interest from the date of refund.
In a related matter, the NASD examined our sales practices with respect to SEC-registered variable life insurance products sold in the United States from 1983 through 1995, as well as the adequacy of sales supervision within the broker-dealer through which we distributed these products to the public. In July 1999, our individual life insurance broker-dealer, Pruco Securities Corporation, entered into a settlement agreement with the NASD that included findings by the NASD of inadequate supervision and improper sales practices in connection with the sale of some of our variable life insurance products similar to those cited by the state insurance task force. This settlement agreement censured us, required us to retain an independent consultant to review Pruco Securities' policies and procedures relevant to the NASD's findings, and levied a $20 million fine. This settlement did not change the remediation program or add to our obligations to claimants in the remediation program or to other policyholders.
On September 2, 1999, the Insurance Department of the State of New York formally adopted a report of examination based on the department's review, for the years 1996 and 1997, of our individual life insurance sales practices controls and various company recordkeeping, reporting and filing requirements. Significantly, the examination report did not identify problems with our sales practices controls or the steps we have taken to implement the recommendations contained in the task force report. However, the examiners did cite violations relating to some of our advertisements and advertising files, the use of unfiled policy forms in what is now a discontinued line of business, various problems related to the back-office maintenance of new business and complaint files, and our inability to produce all requested documents and data in a timely manner. The department also concluded that we failed to adequately facilitate its examination. We resolved these matters by entering into a stipulation in which we agreed to pay a fine of $1.5 million and agreed that the audit committee of our board of directors would provide semi-annual reports for a three year period to the New York department describing the status of steps we have taken to remedy the issues cited in the examination report and the status of our regulatory compliance procedures generally.
We remain subject to oversight and review by insurance regulators and other regulatory authorities with respect to our sales practices and the conduct of the remediation program. The releases granted by the state insurance regulatory authorities pursuant to our settlements with them do not become final until the remediation program has been completed without any material changes to which those regulators have not agreed. As noted above, as of December 31, 2000, virtually all aspects of the remediation program had been satisfied.
The class action settlement does not cover:
. policies other than individual permanent life insurance policies issued in the United States;
. any type of policy issued prior to 1982 or after 1995;
. the policyholders who opted out of participation in the settlement, some of whom are proceeding with their own individual actions; and
. other individual actions that are not barred by the class action settlement.
As of September 30, 2001, we remained a party to approximately 44 individual sales practices actions filed by policyholders who "opted out" of the class action settlement related to permanent life insurance policies we issued in the United States between 1982 and 1995. In addition, there were 36 sales practices actions pending that were filed by policyholders who were members of the class and who failed to "opt out" of the class action settlement. We believe that those actions are governed by the class settlement release and expect them to be enjoined and/or dismissed. Some of these cases seek substantial damages while others seek unspecified compensatory, punitive or treble damages. It is possible that substantial punitive damages might be awarded in one or more of these cases. Six such cases pending in federal court in Miami have been consolidated and set for trial in early December 2001, and ten such cases pending in Palm Beach County, Florida Circuit Court have been scheduled for trial in late January 2002. While the number of new lawsuits filed has been diminishing over time, we anticipate that additional suits may be filed by other policyholders who "opted out" of the class action settlement or who failed to "opt out" but nevertheless seek to proceed against us. We intend to defend these cases vigorously.
While we believe we have adequately reserved in all material respects based on information currently available, as with any litigation, the litigation by policyholders who "opted out" of the class action settlements is subject to many uncertainties, and, given the complexity and scope of these suits, we cannot predict their outcome. For discussion of charges and reserves relating to these matters, see "Management's Discussion and Analysis of Financial Condition and Results of Operations--Consolidated Results of Operations--Sales Practices Remedies and Costs".
Sales practices litigation has been filed in Canada against a number of insurance companies, including Prudential and London Life Insurance Company, to whom we sold most of our Canadian life insurance policies in 1996. As we discuss above under "--Corporate and Other Operations--Divested Businesses-- Divested Canadian Businesses", we agreed to indemnify London Life against damages relating to our pre-sale market conduct activities. To date, we have not been made a party to any London Life class action litigation, although we indemnify London Life on an ongoing basis with respect to individual actions. We also are party to one purported Canadian sales practice class action involving policies sold by National Life Insurance Company of Canada which were jointly issued under the reinsurance agreement with Prudential. There has been no significant activity in this case since the filing of the complaint in 1997. While there can be no assurance, we currently believe our potential Canadian exposure, if any, is covered by the foregoing sales practice reserves.
Other
On August 13, 2000, plaintiffs filed a purported national class action
against us in the District Court of Valencia County, New Mexico, Azar, et al.
v. Prudential, based upon the alleged failure to adequately disclose the
increased costs associated with payment of life insurance premiums on a
"modal" basis, i.e., more frequently than once a year. Similar actions have
been filed in New Mexico against over a dozen other insurance companies. The
complaint includes allegations that we should have disclosed to each
policyholder who paid for coverage on a modal basis the dollar cost difference
between the modal premium and the annual premium required for the policy, as
well as the effective annual percentage rate of interest of such difference.
Based on these allegations, plaintiffs assert statutory claims including
violation of the New Mexico Unfair Practices Act, and common law claims for
breach of the implied covenant of good faith and fair dealing, breach of
fiduciary duty, unjust enrichment and fraudulent concealment. The complaint
seeks injunctive relief, compensatory and punitive damages, both in
unspecified amounts, restitution, treble damages, pre-judgment interest, costs
and attorneys' fees. We filed an answer denying the claims. Thereafter, both
we and the plaintiffs filed separate motions for summary judgment. On March 9,
2001, the court entered an order granting summary judgment to plaintiffs as to
liability, permitting us to appeal the order and staying the case pending
completion of the appeal proceeding. The appeals court has agreed to hear the
appeal and the briefing has been completed.
Securities
In November 1998, plaintiffs filed a purported class action in the United States District Court for the Southern District of New York, Gillet v. Goldman, Sachs & Co., et al., against over two dozen underwriters of
initial public offering securities, including Prudential Securities. A number of similar actions brought on behalf of purported classes of both IPO purchasers and IPO issuers were consolidated under the name In re Public Offering Fee Antitrust Litigation. The amended complaint alleges that the defendants have conspired to fix at 7% the spread that underwriting syndicates receive from issuers of securities in certain offerings in violation of the federal antitrust laws, and seeks treble damages and injunctive relief. On February 9, 2001, the court dismissed the purchaser cases for lack of antitrust standing, without leave to replead. Plaintiffs have appealed that dismissal to the United States Court of Appeals for the Second Circuit and the court has established a briefing schedule. In July 2001, a consolidated class action complaint was filed in the issuer cases, and, in September 2001, defendants filed a motion to dismiss that complaint.
Since June 1999, news organizations have widely reported that Martin R. Frankel, a Connecticut businessman, is under indictment for allegedly misappropriating several hundred million dollars of assets of several insurance companies. Mr. Frankel controlled or was otherwise affiliated with accounts held at numerous broker-dealers, including Prudential Securities. Prudential Securities has received requests for information and documents regarding accounts and transactions related to Mr. Frankel from various governmental authorities and private parties. Prudential Securities has complied with these requests and is cooperating with the government investigations. In June 2001, an action was commenced in Circuit Court, Cole County, Missouri, Lakin et al. v. Prudential Securities Inc. et al., against Prudential Securities, Prudential Investments and Prudential Savings Bank by the insurance commissioners for Missouri, Mississippi, Tennessee and Oklahoma in their capacities as liquidators of six insurance companies previously controlled by Martin A. Frankel. According to the complaint, Mr. Frankel and others perpetrated an elaborate criminal scheme to loot funds from the companies. Mr. Frankel has been indicted by a federal grand jury in Connecticut. The complaint alleges that, in connection with accounts maintained by the insurance companies at Prudential, the Prudential defendants allowed Mr. Frankel and his associates to transfer funds without proper authority and failed to detect and stop their looting activities. The complaint asserts causes of action for negligence, breach of contract and breach of fiduciary duty, and seeks compensatory damages in an amount to be proved at trial. In August 2001, we removed the case to the United States District Court for the Western District of Missouri, Central Division. On September 17, 2001, plaintiffs filed a motion to remand the case to state court, which is pending. In October 2001, we filed an answer to the complaint.
Beginning in 1991, Prudential Securities became the subject of numerous regulatory investigations and civil lawsuits which principally involved alleged misrepresentations and unsuitable recommendations in sales of oil and gas, real estate and aircraft leasing limited partnerships in the 1980s. These lawsuits and regulatory investigations are now resolved.
On September 12, 2001, an amended complaint was filed in a purported class action pending against Rite Aid Corporation ("Rite Aid") and individual trustees of a Rite Aid-sponsored 401(k) plan (the "Plan") in the United States District Court for the Eastern District of Pennsylvania naming The Prudential Insurance Company of America, Prudential Securities Incorporated, Prudential Retirement Services, Inc. and Prudential Investment Management Services, LLC as defendants. The amended complaint alleges that the Prudential defendants, which provide record keeping and other services to the Plan, acted as ERISA fiduciaries and breached fiduciary duties to the Plan by (1) failing to disclose to Plan participants Rite Aid's failure to register its common stock offered under the Plan, (2) allowing Plan participants to purchase unregistered Rite Aid stock, and (3) failing to seek remedies on their behalf. The amended complaint also alleges that, under ERISA, the Prudential defendants are liable as co-fiduciaries with Rite Aid or by knowingly participating in Rite Aid's breaches of its fiduciary duties to the Plan. The amended complaint seeks damages of $100 million against all defendants and, as to the Prudential defendants, the equitable remedy of rescission with respect to purchases of Rite Aid stock by the Plan participants.
Corporate and Other Operations
In November 1996, plaintiffs filed a purported class action against Prudential, The Prudential Home Mortgage Company, Inc. and several other subsidiaries in the Superior Court of New Jersey, Essex County, Capitol Life Insurance Company v. Prudential, et al., in connection with the sale of certain subordinated mortgage securities sold by a subsidiary of Prudential Home Mortgage. In February 1999, the court entered an order dismissing all counts without prejudice with leave to refile after limited discovery. On May 10, 2000, plaintiffs filed a second amended complaint that alleges violations of the New Jersey securities and RICO statutes, fraud, conspiracy and negligent misrepresentation, and seeks compensatory as well as treble and punitive
damages, and defendants filed a motion to dismiss. In October 2001, the court denied the motion to dismiss. The time in which to answer the second amended complaint has been extended until December 2001. See "--Corporate and Other Operations--Divested Businesses--Residential First Mortgage Banking" for a discussion of other litigation relating to our divested residential mortgage banking operations.
In August 1999, a Prudential employee and several Prudential retirees filed an action in the United States District Court for the Southern District of Florida, Dupree, et al., v. Prudential, et al., against Prudential and its Board of Directors in connection with a group annuity contract entered into in 1989 between the Prudential Retirement Plan and Prudential. The suit alleges that this annuitization of certain retirement benefits violates ERISA and that, in the event of demutualization, Prudential will retain shares distributed under the annuity contract in violation of ERISA's fiduciary duty requirements. In July 2001, plaintiffs filed an amended complaint dropping three counts, and Prudential filed an answer denying the essential allegations of the complaint and moved to dismiss the matter against individual director defendants.
In September 2001, plaintiffs filed a second amended complaint in a purported national class action against us and over two dozen other mutual fund companies in the United States District Court for the Southern District of Illinois, Nelson, et al. v. Aim Advisors, et al., alleging that distribution and advisory fees paid by numerous mutual funds were unlawful. The complaint alleges that the statutorily independent directors for each fund complex were, in fact, controlled by the advisor and, therefore, the fees were not properly approved. The complaint further alleges that the fees were, in any event, excessive in relation to the services rendered. The complaint alleges that defendants' actions violated the Investment Company Act of 1940, as well as the fiduciary duties owed under common law, and seeks actual and punitive damages and declaratory relief. In October 2001, we filed a motion to sever, which would require plaintiffs to re-plead their claims against us in a separate action, and a motion to transfer the case to the United States District Court for the District of New Jersey. An earlier case filed in the United States District Court for the District of New Jersey, Krantz v. Prudential Investments Fund Management LLC and Prudential Investment Management Services LLC, contains similar challenges to the validity of the investment advisory and distribution agreements with one of our mutual funds. In 1999, the court dismissed the case and an appeal to the Third Circuit Court of Appeals is pending.
Discontinued Operations
As discussed under "--Discontinued Operations--Healthcare", we have agreed to indemnify Aetna for certain litigation involving the disposed healthcare operations, and we have been sued directly for certain alleged actions occurring before the disposition of those operations. This litigation includes class actions and individual suits involving various issues, including payment of claims, denial of benefits, vicarious liability for malpractice claims, contract disputes with provider groups and former policyholders, purported class actions challenging practices of our former managed care operations, including the class actions described below, and coordination of benefits with other carriers.
Three purported nationwide class action lawsuits have been filed against us in United States District Courts on behalf of participants in our managed health care plans. On October 23, 2000, by Order of the Judicial Panel on Multi-District Litigation, these actions were consolidated for pre-trial purposes, along with lawsuits pending against other managed healthcare companies, in the United States District Court for the Southern District of Florida, in a consolidated proceeding captioned In re Managed Care Litigation.
Williamson v. Prudential alleges violations of RICO and ERISA through alleged misrepresentations of the level of healthcare services provided, failure to disclose financial incentive agreements with physicians, interference with the physician-patient relationship, breach of fiduciary duty, and deprivation of plaintiffs' rights to the receipt of honest medical services. It also alleges that Prudential and other major healthcare organizations engaged in an industry-wide conspiracy to defraud subscribers as to the level of services and quality of care. The complaint seeks compensatory damages, restitution and treble damages, all in unspecified amounts, the imposition of an equitable trust for any wrongful revenues and attorneys' fees. Our motion to dismiss the complaint for failure to state a claim was granted and the case dismissed with leave to amend. An amended complaint filed on June 29, 2001 asserted substantially the same claims. Our motion to dismiss the amended complaint is pending. Plaintiffs' motion for class certification is also pending. McCarron v. Prudential, et al. alleges violations of ERISA in making coverage determinations and seeks injunctive relief, money damages in
an unspecified amount, restitution and disgorgement of profits, and attorneys' fees. Our motion to dismiss this complaint is also pending. Romero v. Prudential, et al. alleges ERISA violations based on cost containment policies and seeks injunctive relief, compensatory damages in an unspecified amount and attorneys' fees.
In Batas & Vogel v. Prudential, a case filed in a New York state court in 1997 based on allegations similar to those in Williamson, an intermediate appeals court held that claims alleging breach of contract, fraud, tortious interference with contractual relations and violations of the New York deceptive acts and practices statute may be brought against managed care organizations. The court affirmed the dismissal of claims for breach of fiduciary duty, breach of the covenant of good faith and for injunctive and declaratory relief. Plaintiffs' motion to certify a nationwide class of non- ERISA plan participants is pending.
We have also been sued in Shane v. Humana, et al., a purported nationwide class action brought on behalf of provider physicians and physician groups against Prudential and other health care companies in the consolidated proceeding in the United States District Court for the Southern District of Florida. That case alleges that the defendants engaged in an industry-wide conspiracy to defraud physicians by failing to pay under provider agreements and by unlawfully coercing providers to enter into agreements with unfair and unreasonable terms. The original complaint asserted various claims for relief based on these allegations, several of which the court, in response to our motion, held were subject to mandatory arbitration. The court subsequently granted our motion to dismiss the remaining claims, including RICO conspiracy and aiding and abetting claims, but allowed plaintiffs the opportunity to amend the complaint. We appealed the district court's decision to the Eleventh Circuit Court of Appeals to the extent it failed to require the plaintiff to arbitrate all claims against us. The amended complaint, naming additional plaintiffs, including three state medical associations, and an additional defendant, was filed on March 26, 2001. Like the original complaint, it alleges claims of breach of contract, quantum meruit, unjust enrichment, violations of RICO, conspiracy to violate RICO, aiding and abetting RICO violations, and violations of state prompt pay statutes and the California unfair business practices statute. The amended complaint seeks compensatory and punitive damages in unspecified amounts, treble damages pursuant to RICO, and attorneys' fees. Our motion to dismiss the amended complaint and plaintiffs' motion for class certification are pending. The Eleventh Circuit Court of Appeals stayed the case pending the outcome of the appeal.
Summary
Our litigation is subject to many uncertainties, and given their complexity and scope, we cannot predict the outcomes. It is possible that our results of operations or cash flow, in particular quarterly or annual periods, could be materially affected by an ultimate unfavorable resolution of pending litigation and regulatory matters depending, in part, upon the results of operations or cash flow for such period. We believe, however, that the ultimate outcome of all pending litigation and regulatory matters, after consideration of applicable reserves, should not have a material adverse effect on our financial position.
Properties
We own our headquarters building located at 751 Broad Street, Newark, New Jersey. Our headquarters are approximately one half million square feet. In addition, we own other properties that we use for home office functions. Excluding properties used for the International division and Prudential Securities' operations, we own 16 and lease 21 properties. Our insurance operations use approximately 700 other locations throughout the United States, most of which are leased.
For our International Insurance operations, we lease nine home offices located in Argentina, Brazil, China, Italy, Japan, Korea, The Philippines, Poland and Taiwan. In addition, we have purchased an 80% beneficial interest in a 38-story office, residential and retail development that is currently under construction in central Tokyo and that will become the home office of our Japan operations when completed, which is expected late in 2002. In connection with the development of this property, we will have paid approximately (Yen)42.3 billion (approximately $356 million at an exchange rate on August 31, 2001 of $1=(Yen)118.76) through August 31, 2001. On completion of the building and full occupancy, we expect that the major portion of our total acquisition and development costs, estimated at (Yen)55.4 billion (approximately $466 million), will be financed through non-recourse borrowings and that our equity investment in this property will be approximately (Yen)17.4 billion (approximately $147 million). We also own one field office and lease approximately 135 other field offices throughout Argentina, Brazil, Italy, Japan, Korea, The Philippines, Poland and Taiwan. For our International
Securities and Investments operations, we own one branch office and lease approximately 15 other branch offices throughout Japan, Mexico and Taiwan.
For our securities operations we lease two home offices in New York City, which total approximately 1.8 million square feet. These leases are linked to benefit agreements with the New York City Industrial Development Agency. In addition, we lease approximately 350 other locations throughout the United States and approximately 35 locations outside of the United States for our securities operations.
We believe our properties are adequate and suitable for our business as currently conducted and are adequately maintained. The above properties do not include properties we own for investment only.
Employees
As of September 30, 2001, we employed approximately 63,265 employees. Approximately 2,800 Prudential Agents were covered by the terms of collective bargaining agreements between us and the United Food and Commercial Workers International Union. On September 7, 2001, the UFCW notified us that it was formally disclaiming interest in representing these agents. These agreements expired on September 24, 2001 and October 22, 2001. Consequently, Prudential Agents are no longer represented by such union. We believe our relations with our employees are satisfactory.
MANAGEMENT
Directors and Executive Officers
Each of the following individuals is currently a director or officer of The Prudential Insurance Company of America and of Prudential Financial, Inc.
Name Age Title Other Directorships
------------------------ --- -------------------------- ---------------------------------
Arthur F. Ryan.......... 58 Chairman, Chief Executive None
Officer and President
Franklin E. Agnew....... 67 Director . Bausch & Lomb, Inc.
Frederic K. Becker...... 65 Director None
Gilbert F. Casellas..... 49 Director None
James G. Cullen......... 58 Director . Johnson & Johnson
. Agilent Technologies, Inc.
Carolyne K. Davis....... 69 Director None
Allan D. Gilmour........ 67 Director . DTE Energy Company
. The Dow Chemical Company
. Whirlpool Corporation
William H. Gray III..... 60 Director . Viacom, Inc.
. Electronic Data Systems
. Municipal Bond Investors
Assurance Corporation
. Rockwell International
Corporation
. JP Morgan Chase & Co.
. Dell Computer Corporation
. Pfizer, Inc.
. Visteon Corporation
Jon F. Hanson........... 64 Director . CDL, Inc.
. Gemini Industries Inc.
. Pascack Community Bank
Glen H. Hiner........... 67 Director . Owens Corning
. Dana Corporation
Constance J. Horner..... 59 Director . Foster Wheeler Corporation
. Ingersoll-Rand Company
. Pfizer, Inc.
Gaynor N. Kelley........ 70 Director . Alliant Techsystems
. Hercules Incorporated
Burton G. Malkiel....... 69 Director . Baker Fentress & Company
Ida F. S. Schmertz...... 66 Director None
Charles R. Sitter....... 70 Director None
Donald L. Staheli....... 69 Director None
Richard M. Thomson...... 68 Director . The Toronto-Dominion Bank
. Nexen, Inc.
. INCO, Limited
. The Thomson Corporation
. TrizecHahn Corporation
. Stuart Energy Systems, Inc.
|
Name Age Title Other Directorships
-------------------------- --- -------------------------- --------------------------------
James A. Unruh............ 60 Director None
P. Roy Vagelos............ 71 Director . Regeneron Pharmaceuticals,
Inc.
Stanley C. Van Ness....... 67 Director . Jersey Central Power & Light
Paul A. Volcker........... 73 Director None
Vivian L. Banta........... 51 Executive Vice President None
Michele S. Darling........ 47 Executive Vice President None
Robert Charles Golden..... 55 Executive Vice President None
Mark B. Grier............. 48 Executive Vice President . RGS Energy Group Incorporated
. Annuity and Life Re (Holding),
Ltd.
Jean D. Hamilton.......... 54 Executive Vice President None
Rodger A. Lawson.......... 54 Executive Vice President None
Kiyofumi Sakaguchi........ 58 Executive Vice President None
John R. Strangfeld, Jr. .. 47 Executive Vice President None
Richard J. Carbone........ 54 Senior Vice President and
Chief Financial Officer None
John M. Liftin............ 58 Senior Vice President and
General Counsel None
|
Biographical information about Prudential Financial, Inc.'s directors and executive officers is as follows:
Arthur F. Ryan was elected Chairman, Chief Executive Officer and President of Prudential Financial, Inc. in December 2000 and served as President and Chief Executive Officer of Prudential Financial, Inc. from January 2000 to December 2000. He joined The Prudential Insurance Company of America as the Chairman of the Board, Chief Executive Officer and President in December 1994. Mr. Ryan was with Chase Manhattan Bank from 1972 to 1994, serving in various executive positions including President and Chief Operating Officer from 1990 to 1994 and Vice Chairman from 1985 to 1990. Mr. Ryan was elected a director of Prudential Financial, Inc. in December 1999 and has been a director of The Prudential Insurance Company of America since December 1994.
Franklin E. Agnew was elected as a director of Prudential Financial, Inc. in January 2001 and was appointed by the Chief Justice of the New Jersey Supreme Court as a director of The Prudential Insurance Company of America in June 1994. He has been an independent business consultant since January 1987. From 1989 through 1990, he served as the court-appointed trustee in the reorganization of the Sharon Steel Corporation. Mr. Agnew was the Chief Financial Officer of H.J. Heinz Co. from July 1971 to June 1973 and a Senior Vice President and Group Executive from July 1973 through 1986.
Frederic K. Becker was elected as a director of Prudential Financial, Inc. in January 2001 and was appointed by the Chief Justice of the New Jersey Supreme Court as a director of The Prudential Insurance Company of America in June 1994. He has served as President of the law firm of Wilentz Goldman & Spitzer, P.C. since 1989 and has been with the firm since 1960.
Gilbert F. Casellas was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1998. Since January 2001, he has served as President and Chief Executive Officer of Q-linx, Inc. (software development). He served as the President and Chief Operating Officer of The Swarthmore Group, Inc. (investment company) from January 1999 to December 2000. Mr. Casellas was a partner in the law firm of McConnell Valdes LLP from 1998 to 1999; Chairman, U.S. Equal Employment Opportunity Commission from 1994 to 1998; and General Counsel, U.S. Department of Air Force from 1993 to 1994.
James G. Cullen was elected as a director of Prudential Financial, Inc. in January 2001 and was appointed by the Chief Justice of the New Jersey Supreme Court as a director of The Prudential Insurance Company of America in April 1994. He served as the President and Chief Operating Officer of Bell Atlantic Corporation (global telecommunications) from December 1998 until his retirement in June 2000. Mr. Cullen was the President and Chief Executive Officer, Telecom Group, Bell Atlantic Corporation from 1997 to 1998; Vice Chairman of Bell Atlantic Corporation from 1995 to 1997; and President of Bell Atlantic Corporation from 1993 to 1995. He joined the Bell Atlantic division of AT&T in 1964 and served in various positions with both companies.
Carolyne K. Davis was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1989. She was an Independent Health Care Consultant and a Scholar in Residence at Cornell University from 1997 to 1999. Dr. Davis was a Health Care Advisor with Ernst & Young, LLP from 1985 to 1997. She was Administrator, Health Care Financing Administration, U.S. Department of Health and Human Services from 1981 to 1985.
Allan D. Gilmour was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1995. He retired as the Vice Chairman of Ford Motor Company in 1995. During his 34-year career with Ford Motor Company (automotive industry), Mr. Gilmour held a number of executive positions, including that of Chief Financial Officer and President of Ford Automotive Group.
William H. Gray III was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since September 1991. He has served as President and Chief Executive Officer of The College Fund/UNCF (philanthropic foundation) since 1991. Mr. Gray was a U.S. Congressman from 1979 to 1991.
Jon F. Hanson was elected as a director of Prudential Financial, Inc. in January 2001 and was appointed by the Chief Justice of the New Jersey Supreme Court as a director of The Prudential Insurance Company of America in April 1991. He has served as the Chairman of Hampshire Management Company (real estate investment and property management) since 1976. Mr. Hanson served as the Chairman and Commissioner of the New Jersey Sports and Exposition Authority from 1982 to 1994.
Glen H. Hiner was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1997. He has been the Chairman and Chief Executive Officer of Owens Corning (advanced glass and building material systems) since joining the Company in 1992. Owens Corning filed for protection under the federal bankruptcy code on October 5, 2000. Prior to joining Owens, Mr. Hiner worked at General Electric Company starting in 1957. He served as Senior Vice President and Group Executive, Plastics Group from 1983 to 1991.
Constance J. Horner was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1994. She has been a Guest Scholar at The Brookings Institution (non-partisan research institute) since 1993, after serving as Assistant to the President of the United States and Director, Presidential Personnel from 1991 to 1993; Deputy Secretary, U.S. Department of Health and Human Services from 1989 to 1991; and Director, U.S. Office of Personnel Management from 1985 to 1989. Ms. Horner was a Commissioner, U.S. Commission on Civil Rights from 1993 to 1998 and taught at Princeton University in 1994 and Johns Hopkins University in 1995.
Gaynor N. Kelley was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1997. He retired as the Chairman of The Perkin-Elmer Corporation (development, manufacture and marketing of analytical instruments and life science systems) in 1996 after having served in that position from 1990. Prior to that, Mr. Kelley held other executive management positions with Perkin-Elmer, having joined the company in 1950.
Burton G. Malkiel was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1978. He is the Chemical Bank Chairman's Professor of Economics at Princeton University, where he has served on the faculty from 1988 to the present and at other times since 1964. He was the Dean of the School of Organization and Management at Yale University from 1981 to 1988, and he was a member of the President's Council of Economic Advisors from 1975 to 1977.
Ida F. S. Schmertz was elected as a director of Prudential Financial, Inc. in January 2001 and was appointed by the Chief Justice of the New Jersey Supreme Court as a director of The Prudential Insurance
Company of America in April 1997. She has been a Principal of Investment Strategies International (investment consultant) since 1994 and Chairman of the Volkhov International Business Incubator since 1995. Ms. Schmertz was with American Express Company from 1979 to 1994, holding several management positions including Senior Vice President, Corporate Affairs.
Charles R. Sitter was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1995. He retired as the President of Exxon Corporation (oil and gas industry) in 1996. Mr. Sitter joined Exxon in 1957 and held various financial and management positions with Exxon in the United States, Europe, Asia and Australia.
Donald L. Staheli was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1995. He served as Chairman and Chief Executive Officer of Continental Grain Company (international agribusiness and financial services) from June 1994 until his retirement in July 1997, and as President and Chief Executive Officer from April 1988 to June 1994. Mr. Staheli began his career at Continental in 1969.
Richard M. Thomson was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1976. He retired as Chairman of The Toronto-Dominion Bank (banking and financial services) in 1998, having retired as the Chief Executive Officer in 1997. He had served as Chairman and Chief Executive Officer since 1978. Prior to that time he held other management positions at The Toronto-Dominion Bank, which he joined in 1957.
James A. Unruh was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1996. He became a founding member of Alerion Capital Group, LLC (private equity group) in 1998. Mr. Unruh was with Unisys Corporation (information technology services, hardware and software) from 1987 to 1997, serving as Chairman and Chief Executive Officer from 1990 to 1997.
P. Roy Vagelos, M.D. was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since April 1989. Dr. Vagelos has been the Chairman of Regeneron Pharmaceuticals, Inc. since 1995 and the Chairman of Advanced Medicines, Inc. since 1997. He retired as the Chairman, Chief Executive Officer and President of Merck & Co., Inc. (pharmaceuticals) in 1994 after serving in that position since 1985. Prior to that, Dr. Vagelos was the Senior Vice President, Research Division of Merck Sharp and Dome Research Laboratories, which he joined in 1975.
Stanley C. Van Ness was elected as a director of Prudential Financial, Inc. in January 2001 and was appointed by the Chief Justice of the New Jersey Supreme Court as a director of The Prudential Insurance Company of America in April 1990. He has been a partner in the law firm of Herbert, Van Ness, Cayci & Goodell since 1998. From 1990 to 1998, Mr. Van Ness was a partner in the law firm of Picco Herbert Kennedy and from 1984 to 1990 was a partner with Jamieson, Moore, Peskin and Spicer. He was a professor at Seton Hall University Law School from 1982 to 1984. Prior to that time he worked for the State of New Jersey, where he served as the first Public Advocate.
Paul A. Volcker was elected as a director of Prudential Financial, Inc. in January 2001 and has been a director of The Prudential Insurance Company of America since July 1988. He has been a business consultant to various companies since 1997. Mr. Volcker was the Chairman and Chief Executive Officer of Wolfensohn & Co., Inc. (investment firm) from 1995 to 1996 and Chairman of James D. Wolfensohn, Inc. from 1988 to 1995. From 1979 to 1988, Mr. Volcker was the Chairman of the Board of Governors of the Federal Reserve System, President of the Federal Reserve Bank of New York from 1975 to 1979 and Undersecretary of the U.S. Department of Treasury.
Vivian L. Banta was elected Executive Vice President of Prudential Financial, Inc. in February 2001 and was elected Executive Vice President, U.S. Consumer Group of The Prudential Insurance Company of America in March 2000. She served as Senior Vice President, Individual Financial Services from January 2000 to March 2000. Prior to joining Prudential she was an independent consultant from 1998 to 1999 and served as Executive Vice President, Global Investor Services, Group Executive for Chase Manhattan Bank from 1991 to 1997.
Michele S. Darling was elected Executive Vice President of Prudential Financial, Inc. in February 2001 and was elected Executive Vice President, Corporate Governance and Human Resources of The Prudential Insurance Company of America in March 2000, having served as Executive Vice President, Human Resources
since February 1997. Prior to joining Prudential she was the Executive Vice President, Human Resources of Canadian Imperial Bank of Commerce from 1991 to 1997.
Robert Charles Golden was elected Executive Vice President of Prudential Financial, Inc. in February 2001 and was elected Executive Vice President, Operations and Systems of The Prudential Insurance Company of America in June 1997. Previously, he served as Executive Vice President and Chief Administrative Officer for Prudential Securities.
Mark B. Grier was elected Executive Vice President of Prudential Financial, Inc. in December 2000. He served as a director of Prudential Financial, Inc. from December 1999 to January 2001 and as Vice President of Prudential Financial, Inc. from January 2000 to December 2000. He was elected Executive Vice President of The Prudential Insurance Company of America in May 1995. Since May 1995 he has variously served as Chief Financial Officer, Executive Vice President, Corporate Governance and Executive Vice President, Financial Management, the position he holds at this time. Prior to joining Prudential, Mr. Grier was an executive with Chase Manhattan Corporation.
Jean D. Hamilton was elected Executive Vice President of Prudential Financial, Inc. in February 2001 and was elected Executive Vice President, Prudential Institutional of The Prudential Insurance Company of America in October 1998. She was the President of the Prudential Diversified Group from February 1995 to October 1998 and has held several other senior management positions since joining Prudential in 1988. Previously, Ms. Hamilton was an executive with First National Bank of Chicago.
Rodger A. Lawson was elected Executive Vice President of Prudential Financial, Inc. in February 2001 and was elected Executive Vice President, International Investments and Global Marketing Communications of The Prudential Insurance Company of America in October 1998. He was Executive Vice President, Marketing and Planning of Prudential from June 1996 to October 1998. Prior to joining Prudential, Mr. Lawson was the President and Chief Executive Officer of VanEck Global (investment management) from April 1994 to June 1996; Managing Director and Partner, President and Chief Executive Officer of Global Private Banking and Mutual Funds, Bankers Trust from January 1992 to April 1994; Managing Director and Chief Executive Officer of Fidelity Investments--Retail from May 1985 to May 1991 and President and Chief Executive Officer of Dreyfus Service Corporation from March 1982 to May 1985.
Kiyofumi Sakaguchi was elected Executive Vice President of Prudential Financial, Inc. in February 2001 and was elected Executive Vice President, International Insurance of The Prudential Insurance Company of America in September 1998. Mr. Sakaguchi has served as the executive in charge of Prudential's international insurance operations since 1995 and has held various senior management positions in that area since joining Prudential in March 1980. Mr. Sakaguchi had previously worked in the insurance industry in Japan and the United States with Sakaguchi & Associates from 1977 to 1980 and Occidental International Enterprises, Inc. from 1974 to 1977.
John R. Strangfeld, Jr. was elected Executive Vice President of Prudential Financial, Inc. in February 2001 and was elected Executive Vice President, Asset Management of The Prudential Insurance Company of America in October 1998 and Chairman and CEO of Prudential Securities in December 2000. He has been with Prudential since July 1977, serving in various management positions, including the executive in charge of Prudential Global Asset Management since 1998; Senior Managing Director, The Private Asset Management Group from 1995 to 1996; and Chairman of PRICOA Europe from 1989 to 1995.
Richard J. Carbone was elected Chief Financial Officer of Prudential Financial, Inc. in December 2000 and was elected Senior Vice President and Chief Financial Officer of The Prudential Insurance Company of America in July 1997. Prior to that, Mr. Carbone was the Global Controller and a Managing Director of Salomon, Inc. from July 1995 to June 1997, and Controller of Bankers Trust New York Corporation and a Managing Director and Controller of Bankers Trust Company from April 1988 to March 1993. From March 1993 to July 1995, Mr. Carbone was a Managing Director and Chief Administrative Officer of the Private Client Group at Bankers Trust Company.
John M. Liftin was elected Senior Vice President and General Counsel of Prudential Financial, Inc. in December 2000. He served as a director of Prudential Financial, Inc. from December 1999 to January 2001 and as Vice President of Prudential Financial, Inc. from January 2000 to December 2000. He was elected Senior Vice President and General Counsel of The Prudential Insurance Company of America in April 1998. Prior to that, Mr. Liftin was an independent consultant from 1997 to 1998 and the Senior Vice President and General Counsel of Kidder, Peabody Group, Inc. from 1987 to 1996.
Composition of the Board of Directors and Committees
Prudential Financial, Inc.'s Board of Directors consists of 21 directors, divided into three classes. Following the demutualization, the term of the first class will expire at the annual meeting of shareholders to be held in 2002, the term of the second class will expire at the annual meeting of shareholders in 2003 and the term of the third class will expire at the annual meeting of shareholders in 2004.
Messrs. Cullen, Hiner, Thomson, Unruh, Van Ness, and Volcker and Ms. Davis are members of the first class, Messrs. Becker, Gray, Hanson, Kelley, Malkiel, and Staheli and Ms. Horner are members of the second class, and Messrs. Agnew, Casellas, Gilmour, Ryan, and Sitter, Ms. Schmertz and Dr. Vagelos will be members of the third class. Directors are elected for a three year term.
Under New Jersey insurance law, the Chief Justice of the Supreme Court of New Jersey appoints six of the directors of a mutual insurer with more than ten million policies in force. The Chief Justice appointed Messrs. Agnew, Becker, Cullen, Hanson, and Van Ness and Ms. Schmertz directors of The Prudential Insurance Company of America prior to its demutualization pursuant to this provision. This provision will no longer apply to The Prudential Insurance Company of America after its demutualization and will not apply to Prudential Financial, Inc.
Executive officers are elected annually.
The following table sets forth the chair and membership of each of the committees of Prudential Financial, Inc.'s Board of Directors.
Corporate
Name Audit Business Ethics Compensation Governance Executive Finance Investment
-------------------------------------------------------------------------------------------
A. Ryan X X X X
-------------------------------------------------------------------------------------------
F. Agnew X X
-------------------------------------------------------------------------------------------
F. Becker X X
-------------------------------------------------------------------------------------------
G. Casellas X X
-------------------------------------------------------------------------------------------
J. Cullen X X
-------------------------------------------------------------------------------------------
C. Davis X X
-------------------------------------------------------------------------------------------
A. Gilmour X X
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W. Gray III X X* X
-------------------------------------------------------------------------------------------
J. Hanson X X
-------------------------------------------------------------------------------------------
G. Hiner X
-------------------------------------------------------------------------------------------
C. Horner X X
-------------------------------------------------------------------------------------------
G. Kelley X
-------------------------------------------------------------------------------------------
B. Malkiel X X X*
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I. Schmertz X
-------------------------------------------------------------------------------------------
C. Sitter X X
-------------------------------------------------------------------------------------------
D. Staheli X X
-------------------------------------------------------------------------------------------
R. Thomson X* X*
-------------------------------------------------------------------------------------------
J. Unruh X X
-------------------------------------------------------------------------------------------
P. R. Vagelos X* X X
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S. Van Ness X X* X
-------------------------------------------------------------------------------------------
P. Volcker X X X*
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The primary responsibilities of each of the committees of Prudential Financial, Inc's. Board of Directors are set forth below.
Audit Committee:
The primary purpose of the Audit Committee is to assist the Board of Directors in its oversight of internal controls, the financial statements and the audit process. To that end, the Audit Committee:
. recommends to the Board of Directors the selection of independent certified public accountants;
. reviews reports prepared by management and the independent certified public accountants on systems of internal control and the audit and compliance process; and
. reviews the financial statements, which are prepared by management and audited by the independent certified public accountants.
No member of the Audit Committee is a Prudential officer or employee.
Business Ethics Committee:
. reviews policies relating to business ethics; and
. monitors compliance with our published statement on business ethics through reports prepared by management.
Compensation Committee:
. approves, changes or terminates employee benefit and compensation plans and programs;
. oversees compensation and benefit plan administration; and
. reviews and approves compensation of certain senior officers and makes recommendations to the board about the compensation of certain other officers, including the chief executive officer.
No member of the Compensation Committee is a Prudential officer or employee.
Corporate Governance Committee:
. makes recommendations to the board regarding corporate governance issues and practices, nominations for election as directors, the composition of standing committees and the appointment of chairpersons for any committee of the board.
No member of the Corporate Governance Committee is a Prudential officer or employee.
Executive Committee:
. between meetings of the board, has authority to exercise the corporate powers of the corporation except for those powers reserved to the Board of Directors by the by-laws or otherwise.
Finance Committee:
. receives reports from management and oversees capital structure, including borrowing levels, subsidiary structure, major capital expenditures and funding of the pension plan.
Investment Committee:
. periodically receives reports from management and oversees the management and disposition of invested assets and the investments of the funded employee welfare and pension benefit plans; and
. periodically receives reports from management on investment risks and exposures, as well as the investment performance of products and accounts managed on behalf of third parties.
Compensation of Directors and Management
Compensation of Directors
Each director who is not an officer or employee of Prudential receives an annual retainer fee of $85,000. The chairperson of each committee receives an additional annual retainer fee of $10,000. We currently intend to adopt a stock plan for non-employee directors that will cause at least one-half of each director's compensation to
be paid in the form of stock options and stock grants payable upon retirement. Such changes are anticipated to take effect one year after the effective date of the demutualization.
Deferred Compensation and Pension Plans
The Deferred Compensation Plan for Non-Employee Directors provides a method of deferring payment to non-employee directors of their fees until termination of their services on the Board of Directors or a certain date selected by the director. Fees deferred under this plan are deemed to accrue interest at the same rate as in effect from time to time offered under the Fixed Rate Fund under the Prudential Employee Savings Plan.
The Pension Plan for Non-Employee Directors provides retirement income for non-employee members of the Board of Directors after completion of their services on the board. It provides an annual benefit equal to the lower of the basic annual retainer fee as of the date a director retires and $30,000 for the life of the retired director. We currently intend to terminate this plan with respect to active directors one year after the effective date of the demutualization and replace it with a one-time grant of stock (valued at the then current market price) payable upon cessation of service to such active directors in consideration of the termination of the plan.
We intend the Deferred Compensation and Pension Plans to be unfunded plans maintained for the purpose of providing deferred compensation and retirement benefits for the non-employee directors and we administer them as such. They are not "employee benefit plans" within the meaning of ERISA.
Management Compensation
Currently, Mr. Ryan and the four other most highly paid (in 2000) executive
officers of Prudential Financial, Inc. participate in certain pension and
profit sharing retirement plans sponsored by The Prudential Insurance Company
of America that are either intended to qualify for tax-favored treatment under
Section 401(a) of the Internal Revenue Code or are nonqualified arrangements
which, by their design, do not result in current taxation to such executives
of any accrued but unpaid benefits. These include: (a) The Prudential
Retirement Plan Document (a component of The Prudential Merged Retirement
Plan), a defined benefit pension plan intended to qualify under Section 401(a)
of the Internal Revenue Code (the "Merged Retirement Plan"); (b) The
Prudential Supplemental Retirement Plan, a nonqualified retirement plan
designed to provide benefits to eligible employees in excess of the amounts
permitted to be paid by the Merged Retirement Plan under Internal Revenue Code
Section 401(a) (the "Supplemental Retirement Plan"); (c) the Prudential
Employee Savings Plan, a defined contribution profit sharing plan intended to
qualify under Section 401(a) of the Internal Revenue Code and to be subject to
the requirements of Section 401(k) of the Internal Revenue Code ("PESP"); and
(d) the Prudential Supplemental Employee Savings Plan, a nonqualified profit
sharing plan designed to provide benefits to eligible employees in excess of
certain amounts permitted to be contributed under PESP ("SESP"). The named
executives also participate in other nonqualified deferred compensation
arrangements sponsored by The Prudential Insurance Company of America. In
connection with the demutualization, we currently intend to continue to
sponsor these qualified and nonqualified retirement plans, and to amend and
adopt certain executive incentive compensation and stock option arrangements,
described in more detail below. You should note, however, that the plan
sponsor of each such plan has reserved the right to amend or terminate any
such plan at any time, to the extent permissible under applicable law.
The following Summary Compensation Table includes individual compensation information on Mr. Ryan and the four other most highly paid executive officers in 2000.
Summary Compensation Table
Long-Term
Annual Compensation Compensation
---------------------------------- ------------
Other Annual LTIP All Other
Name and Principal Salary Bonus Compensation Payouts Compensation
Position Year ($) ($)(1) ($) ($)(2) ($)(3)
------------------------ ---- ---------- ---------- ------------ ------------ ------------
Arthur F. Ryan.......... 2000 $1,000,000 $4,000,000 -- $3,395,000 $ 28,477
Chairman of the Board,
President and Chief
Executive Officer
John R. Strangfeld,
Jr..................... 2000 $ 484,038 $2,000,000 -- $1,493,800 $ 14,521
Executive Vice
President, Asset
Management and CEO,
Prudential
Securities
Vivian L. Banta......... 2000 $ 459,026 $1,600,000 -- $1,455,776 $1,011,821
Executive Vice
President, U.S.
Consumer Group
Mark B. Grier........... 2000 $ 489,038 $1,500,000 -- $1,629,600 $ 5,100
Executive Vice
President, Financial
Management
Kiyofumi Sakaguchi...... 2000 $ 425,000 $1,300,000 -- $1,222,200 $ 12,750
Executive Vice
President,
International
Insurance
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Long-Term Incentive Plan
The following table shows the performance units granted in 2000 to Mr. Ryan and the four other most highly paid executive officers under the Prudential Long-Term Performance Unit Plan (the "PUP"):
Estimated Future Payouts
Under Non-
Stock Price Based Plans(1)
Performance or Other ---------------------------
Number of Shares, Period Until Threshold Target
Name Units or Other Rights Maturation or Payout ($) ($)
---- --------------------- -------------------- ---------------------------
Arthur F. Ryan.......... 5,129 2000-2002 $2,000,310 $ 4,000,620
John R. Strangfeld,
Jr..................... 2,471 2000-2002 963,690 1,927,380
Vivian L. Banta......... 1,800 2000-2002 702,000 1,404,000
Mark B. Grier........... 2,350 2000-2002 916,500 1,833,000
Kiyofumi Sakaguchi...... 2,016 2000-2002 786,240 1,572,480
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Each of the foregoing persons also has awards outstanding under the 1999 PUP, reflecting performance from 1999-2001, which will be payable in the first quarter of 2002 and reflected in the Summary Compensation Table for 2001. Mr. Ryan has 5,129 units, with a threshold of $2,000,310 and a target of $4,000,620; Mr. Strangfeld, 2,425 units, with a threshold of $945,750, and a target of $1,891,500; Ms. Banta, 1,795 units, with a threshold of $769,860 and a target of $1,539,720; Mr. Grier, 1,974 units, with a threshold of $769,860 and a target of $1,539,720; and Mr. Sakaguchi, 2,016 units, with a threshold of $786,240 and a target of $1,572,480.
Retirement Plan
The following table shows the estimated annual retirement benefits payable, assuming retirement at age 65, to participants under the Prudential Merged Retirement Plan and the Prudential Supplemental Retirement Plan (collectively, the "Retirement Plans") at the levels of Final Average Earnings and years of credited service contained in the respective plans.
Estimated Annual Retirement Plans Benefits
Years of Credited Service
-----------------------------------------------------------------
Final Average Earnings 5 10 15 20 25(1) 30
---------------------- ---------- ---------- ---------- ---------- ---------- ----------
$ 800,000 $ 78,791 $ 157,581 $ 236,372 $ 315,162 $ 393,953 $ 433,488
1,200,000 118,791 237,581 356,372 475,162 593,953 653,488
1,600,000 158,791 317,581 476,372 635,162 793,953 873,488
2,000,000 198,791 397,581 596,372 795,162 993,953 1,093,488
2,400,000 238,791 477,581 716,372 955,162 1,193,953 1,313,488
2,800,000 278,791 557,581 836,372 1,115,162 1,393,953 1,533,488
3,200,000 318,791 637,581 956,372 1,275,162 1,593,953 1,753,488
3,600,000 358,791 717,581 1,076,372 1,435,162 1,793,953 1,973,488
4,000,000 398,791 797,581 1,196,372 1,595,162 1,993,953 2,193,488
4,400,000 438,791 877,581 1,316,372 1,755,162 2,193,953 2.413,488
4,800,000 478,791 957,581 1,436,372 1,915,162 2,393,953 2,633,488
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The benefits shown above are stated in the form of a straight life annuity for the participant. Other optional forms of payment are available. Benefits payable under the Merged Retirement Plan are subject to offset for Social Security benefits; benefits payable under the Supplemental Retirement Plan are not subject to such offset. Final Average Earnings is generally defined as the average of annual earnings during the Earnings Base Period, not including the two years of lowest annual earnings. The Earnings Base Period for 2000 begins on January 1, 1993. Compensation considered in determining annual earnings includes base salary and payments earned under the Annual Incentive Plan.
As of January 1, 2001, the estimated Final Average Earnings and years of credited service of each of the Named Executives under the Retirement Plans was: Mr. Ryan, $3,919,692 and six years; Mr. Strangfeld, $1,059,543 and 23 years; Ms. Banta, $2,117,040 and one year; Mr. Grier, $1,437,173 and five years; and Mr. Sakaguchi, $914,930 and 20 years.
Long-Term Incentive Plans
Prudential Long-Term Performance Unit Plan
As indicated above, we have a long-term incentive program called the Prudential Long-Term Performance Unit Plan. Under the PUP, select employees at the vice president level and all or substantially all employees above that level will receive additional compensation if stated performance objectives are achieved or exceeded over a three-year performance period. The performance objectives are based on Cumulative Operating Earnings and Cumulative Operating Margin. "Cumulative Operating Earnings" is combined income before tax and capital gains, subject to appropriate accounting adjustments over the three year performance period, as defined under the PUP. "Cumulative Operating Margin" is "operating earnings" divided by revenue over the three-year performance period as defined under the PUP. A targeted level of Cumulative Operating Earnings and a targeted percentage of Cumulative Operating Margin are established for each performance period. If 75% of the targeted level of Cumulative Operating Earnings is achieved, a specified dollar amount will be allocated to a notional incentive pool under the PUP. For performance above this threshold, a percentage of the incremental amount is credited to the notional pool, with different percentages used below and above the target level of performance. If
the Cumulative Operating Margin percentage is achieved or exceeded, the amount allocated to the notional pool for exceeding the threshold level of Cumulative Operating Earnings will be increased by a specified percentage based on the improvement in Cumulative Operating Margin.
The notional pool is allocated to eligible participants based on the number of performance units awarded to each employee and to all employees. The number of units each eligible employee receives is determined by our Compensation Committee. Generally, an employee loses the units awarded if he or she is not employed by us at the end of the performance period. Employees whose terminations of employment occur because of retirement, death or disability are permitted to keep a portion of their units based on the portion of the performance period during which they were employed. The Compensation Committee may also authorize a payment to any employee whose employment is involuntarily terminated without cause, but such amount will not reduce the notional pool credited for the PUP.
Amounts payable under the PUP will be paid at the end of the performance period, in a single payment, after our Compensation Committee approves the amount allocable to the notional pool. Up to one-half of the amount that is payable may be paid in shares of our Common Stock following the demutualization.
It is generally expected that following the demutualization, stock options granted under the Stock Option Plan, as described below, will be the principal basis on which long-term incentive compensation opportunities are made available to our officers and other key employees. Therefore, the use of the PUP and other long-term incentive cash plans available at certain business units will be reduced over time.
Annual Incentive Plan
As indicated above, we also have an annual incentive program called the Prudential Annual Incentive Plan (the "AIP"). Under the AIP, management employees are eligible to receive additional compensation if stated annual performance objectives are achieved or exceeded. We have established several different notional bonus pools under the AIP. One notional pool has been created for the Chief Executive Officer and other senior executives (the "Senior Executive Pool"). Others have been established for each of our business groups and another is established for employees in our corporate functions. Each notional pool is credited at the end of each year with an aggregate amount equal to the target bonus opportunities for each participant in that pool. This amount is then adjusted to either reflect a performance factor established by our Compensation Committee for the entire company, for the relevant business unit or for a corporate function. Prudential's overall performance objectives, which are applied to adjust the Senior Executive Pool, will be focused primarily on financial results achieved as compared with pre- established targets. For a business group pool, it will generally be the case that approximately one-quarter of the adjustment will be made based on company-wide objectives, with the remainder based on the performance objectives specific to that business unit.
The amounts credited to the applicable notional pool following the adjustment for the performance factor are allocated among the eligible participants. These allocations will be made at the discretion of the persons responsible for making the allocations, based on their assessment of several factors, including the individual's performance. Our Compensation Committee decides the allocations for the participants in the Senior Executive Pool. Amounts payable are generally paid to active employees in the first quarter of the year following the year for which they are payable. If an eligible employee terminates employment prior to receiving a payment in respect of the AIP, that employee will generally lose his or her right to receive any payment. In the case of employees whose employment terminates due to death, disability, retirement or involuntary termination of employment unrelated to job performance, an award may be paid at the discretion of the Compensation Committee.
Stock-Based Plans
Upon demutualization, we will use Prudential Financial, Inc. Common Stock and stock options as components of our total compensation package for employees.
New Jersey law prohibits any current member of the Board of Directors of The Prudential Insurance Company of America, including our chairman and chief executive officer, to be included in any grant of Prudential Financial, Inc. stock options that takes effect at the time of demutualization. However, the plan of reorganization provides that current members of the Board of Directors may participate in our stock option plan beginning one year after the effective date of the demutualization. In addition, our plan of reorganization further limits our ability to grant stock options to officers in the following manner. Senior officers of Prudential or their
equivalent are precluded from receiving any grant of stock options for the same one-year period. Officers of Prudential below the level of senior officers or their equivalent are precluded from receiving any grant of stock options for at least 183 days from the effective date of Prudential's demutualization.
The stock-based compensation programs will be structured as follows:
We have adopted a stock option plan (the "Stock Option Plan") that will take effect as part of the plan of reorganization. The Stock Option Plan will have two components through which no more than 7% of the total number of shares of Common Stock notionally allocable to eligible policyholders in the demutualization may be issued upon exercise of the options. The "total number of shares of Common Stock", for purposes of this 7% calculation, includes both the actual shares of Common Stock issued to eligible policyholders and the notional shares of Common Stock that could have been issued to eligible policyholders that are actually receiving demutualization compensation in the form of either cash or policy credits under the terms of the plan of reorganization. Assuming 160.1 million notional shares are allocated to eligible policyholders receiving cash or policy credits and 110.0 million shares are issued in the offering, the shares reserved for grants under the Stock Option Plan would constitute approximately 8% of the outstanding shares of Common Stock upon the completion of the demutualization and the offering, without giving any effect to shares of Class B Stock. The issuance of options will not reduce the amount of stock allocated among, or issued to, eligible policyholders in our demutualization.
The first component is the associates options grant, known under the Stock Option Plan as the "Associates Grant". Under this component, a one-time grant of Prudential Financial, Inc. stock options, in an amount to be determined by the Board of Directors, or a committee of the Board, in its discretion, will be made as of the effective date of the demutualization to a substantial and broad classification of employees of Prudential Financial, Inc. and its affiliates, but not to individuals who are officers or who, by their positions, are eligible for consideration for regular option grants under the officer stock option component described below. Subject to the employee's continued employment with Prudential Financial, Inc. or one of its affiliates, this associates option grant will generally become exercisable ratably over no longer than a three-year period (although the Board of Directors or a committee of the Board may, at the time of the grant, specify a future performance goal that, if attained, could shorten the vesting period) and generally have ten-year maximum terms. The Board of Directors currently intends to make the associates option grant as of the date of demutualization of up to 2% of the total number of shares of Common Stock notionally allocable to eligible policyholders in the demutualization. If the associates option grant is made on the effective date of the plan of reorganization, the exercise price of the stock option will be the initial public offering price. Otherwise, the exercise price of the stock option will be at least equal to the fair market value of the Common Stock (generally the market price for our Common Stock on the date of the grant).
The second component is the officer stock option program. Under this program, grants of stock options (which may include incentive stock options as defined under the Internal Revenue Code) or stock appreciation rights ("SARs"), in amounts to be determined by the Board of Directors, or a committee of the Board or an officer to whom authority is delegated, will be made to officers of Prudential Financial, Inc. and its affiliates and to other selected individuals as determined by the Board of Directors, such committee or officer. This program has two aspects. First, it is ultimately intended to provide for the grant of stock options in lieu of all cash-based incentive compensation awards now made annually under the PUP. However, as noted above, we will defer the adoption of this practice for at least 183 days from the effective date of our demutualization for otherwise-eligible officers of Prudential and its affiliates, and for at least one year from the effective date of our demutualization for senior officers of Prudential. Second, the Board of Directors, or a committee of the Board or officer, in its discretion, may make periodic grants of stock options to select employees to reward significant individual performance. The stock options awarded under the officer stock option program after the effective date of demutualization will have an exercise price at least equal to the fair market value of the Common Stock at the date of the grant (generally the market price for our Common Stock on the day of the grant). Subject to the grantees' continued employment with Prudential Financial, Inc. or one of its affiliates, these stock options will generally become exercisable over no longer than a three-year period (although the Board of Directors or a committee of the Board may, at the time of the grant, specify a future performance goal that, if attained, could shorten the vesting period) and generally have ten-year maximum terms. Finally, in the event of a "change of control" of Prudential Financial, Inc., generally any outstanding stock option or SAR will become immediately exercisable by the holder. However, the Board of Directors or a committee of the Board administering the Stock Option Plan may provide for the cash-out of such outstanding options in an amount equal to the excess of the
"change of control" price for the Common Stock over the exercise price for the option or base price for the SAR. In the absence of a cash-out and provided the successor company satisfies certain requirements, the Stock Option Plan provides for the issuance of an alternative award in lieu of the stock options and SARs by the participant's employer immediately following the change of control. Under the Stock Option Plan, officer stock options will be limited to up to 5% of the total number of shares of Common Stock notionally allocable to eligible policyholders in the demutualization. We anticipate that officers and other selected employees normally eligible for option grants under the Stock Option Plan will receive such grants after 183 days, and the senior officers will receive stock option grants after one year from the effective date of our demutualization. The exercise price of such option grants will be at least equal to the fair market value of the Common Stock at the date of grant.
The Stock Option Plan is intended to satisfy the general requirements of
Section 162(m) of the Internal Revenue Code when, and to the degree, the
exercise of stock options by the chairman and chief executive officer and the
four most highly compensated executive officers may trigger compensation
subject to the limits of such section.
In addition, on or after the effective date of the demutualization, we may substitute Common Stock on a current or deferred basis, as appropriate in our discretion, for:
. a portion of our employer match contributions in our PESP, and
. payment of all or part of outstanding awards, otherwise payable in cash, that mature after demutualization under the PUP.
Beginning one year after demutualization, we also may substitute Common Stock on a current or deferred basis, as appropriate in our discretion, to:
. convert the present value of existing, non-employee directors' retirement benefits to a stock-based award;
. make a lump sum stock-based award to new non-employee directors; and
. replace all or a portion of the annual cash retainer for our non-employee directors.
Participants in the PESP will also have the opportunity to invest their individual contributions and account balances in Common Stock.
Prudential Severance and Senior Executive Severance Plan; Change of Control Program
Currently, each of the five most highly compensated executive officers, other than the chairman and chief executive officer, is eligible for benefits under the Prudential Severance Plan (the "Severance Plan") and the Prudential Severance Plan for Senior Executives (the "Senior Executive Severance Plan") if such executive incurs an "Eligible Termination." An "Eligible Termination" is defined as an involuntary termination of employment with Prudential or any "participating company" that is a result of: (a) the closing of an office or business location; (b) a reduction in force or downsizing; (c) the restructuring, reorganization or reengineering of a business group, unit or department; (d) a job elimination; or (e) such other factors and circumstances as we determine in our sole discretion. The amount of severance payments under the plan is generally based on two variables-- the executive's years of service with Prudential and his or her "Weeks of Eligible Compensation". This is calculated by determining the individual's annual base salary, a three-year average of the individual's bonus payments under the AIP, plus any amount due under the terms of the PUP otherwise payable immediately after termination of employment, divided by 52. The Senior Executive Severance Plan provides a minimum guarantee of 52 Weeks of Eligible Compensation for any participant; an additional 26 weeks may be added to the minimum guarantee, in the sole discretion of Prudential. Payments under the Senior Executive Severance Plan are reduced, however, by the amount of any severance or similar benefits from The Prudential Insurance Company of America or any affiliate, including the change of control program described below and by any amounts owed to Prudential, by the affected employee.
We have also adopted an Executive Change of Control Severance Program (the "Program") that permits a committee of the Board to select and designate employees of Prudential as participants in the Program. Presently, eleven individuals, including the chairman and chief executive officer and the four most highly compensated named executive officers, have been so designated. A potential of 400 additional persons may be designated as participants under the Program in the future. Generally, there are two requirements under the Program that must be satisfied before any termination payments are made to eligible officers:
. there must be a "Change of Control", as defined under the Program and as described below; and
. within two years following the Change of Control, either the eligible officer's employment with Prudential Financial, Inc. or any of its affiliates must be terminated without cause or the eligible officer must terminate his or her employment for "good reason". In the event that any successor, after a Change of Control, attempts to terminate or modify the Program in a manner that adversely affects participants, the termination payments described below will be made to such participants even if no termination of employment has in fact occurred.
A Change of Control includes any one of several events or occurrences:
. any person becoming the beneficial owner, directly or indirectly, of securities representing 25% or more of the combined voting stock of our securities;
. a change in a majority of the persons who serve as members of the Board of Directors, excluding newly elected directors who are elected to the Board of Directors, or nominated for election to the Board of Directors, by a majority of those directors who were in office at the beginning of the period or who were previously elected or nominated for election by such directors, within any 24-month period commencing after the demutualization; or
. consummation of a merger, consolidation, sale or other disposition of all or substantially all of our assets or similar corporate transaction, if, immediately following the consummation of that transaction, our policyholders or stockholders, as the case may be, do not, directly or indirectly, control the voting power of the surviving, resulting or acquiring corporation.
Additionally, the Board of Directors reserves the right to designate any other event as a Change of Control. However, the consummation of the demutualization and the offering will not be deemed a Change of Control.
An officer has "good reason" to terminate his or her employment if one of several specified, adverse changes in the terms and conditions of the officer's employment occurs without his or her consent, e.g., a reduction in the officer's base salary, annual bonus opportunity and other material benefits or title, position, duties or responsibilities. Terminations by reason of death, disability, retirement, involuntary terminations for cause or voluntary terminations other than for good reason are excluded under the Program.
The severance payment will be equal to a specified multiple of the sum of the officer's annual base salary and a bonus amount pursuant to the AIP, depending upon the individual's selection to a particular "tier" under the program by the committee of the Board of Directors administering the arrangement. The bonus amount is equal to the greater of (x) the officer's actual annual bonus for the calendar year prior to the year in which his or her employment terminates, or (y) the average of the annual bonuses payable to such officer for the last three calendar years. The multiple used to determine the severance payment for employees appointed as "Tier 1 Participants" (anticipated to be Prudential's most senior officers), is generally two, but increases to three if the officer agrees to be bound by a noncompetition and nonsolicitation agreement, which restricts his or her ability to work for a competitor for up to one year following the date of termination. Lower multiples are used for other covered employees depending on their appointment to a particular tier by the committee of the Board of Directors, their position and whether he or she has entered into a similar agreement.
The Program also provides for other benefits and payments related to an
officer's prior service. In addition to base salary through the date of
termination, eligible officers are entitled to receive the target annual bonus
for the year of termination, pro-rated to reflect his or her period of
employment, and a long-term incentive amount in respect of any performance
periods then in effect. Any stock options will become immediately exercisable
and will remain exercisable for one year thereafter. In addition, upon
termination, a covered employee will be entitled to amounts accrued under the
Prudential Deferred Compensation Plan and/or its predecessor, the Prudential
Consolidated Deferred Compensation Plan, payable in a lump sum regardless of
the employee's previous distribution election under such plans. The terminated
officer will also receive an additional payment equal to the present value of
the additional retirement benefits under the Retirement Plans that he or she
would have accrued assuming that (a) he or she continued to work for the
period of time in respect of which the severance benefits are payable, e.g.,
the third anniversary of the officer's termination, if the multiple used for
severance is three, the second anniversary if the multiple used is two, and
(b) that the severance benefits were paid ratably over that period. Payments
under the program are, however, offset against any payment such eligible
officers may otherwise be entitled to under Prudential Financial, Inc.'s, or
any of its affiliates' severance plans.
Notwithstanding the foregoing, the amount of the benefits payable to the officer under the Program will be reduced if (a) the aggregate value of all compensation, payments or benefits payable to an officer under the
change of control program results in the officer becoming subject to federal excise taxes on "parachute payments" under Section 280G of the Internal Revenue Code and (b) limiting such benefits would result in the officer receiving a greater net after-tax benefit. The reduced amount will be equal to the maximum amount that could be paid without the officer being subject to excise taxes. To the extent any benefits paid are subject to federal excise taxes, Prudential will not be permitted to deduct such amounts against its federal income tax liability.
OWNERSHIP OF COMMON STOCK
The following table sets forth information regarding the beneficial ownership of our Common Stock as of the effective date of the demutualization by:
. each director and each named executive officer; and
. all directors and executive officers of Prudential Financial, Inc. as a group.
We base the number of shares of Common Stock beneficially owned by each director and each named executive officer upon an estimate of the number of shares they will receive as eligible policyholders under the plan of reorganization. We believe that no person will beneficially own more than 5% of the outstanding shares of Common Stock as a result of share distributions made under the plan of reorganization and shares sold in this offering. For purposes of this table, beneficial ownership is determined in accordance with SEC rules. Each holder listed below will have sole investment and voting power with respect to the shares listed as beneficially owned by that holder.
Number of shares to
Name be beneficially owned
---- ---------------------
Arthur F. Ryan.......................................... *
Franklin E. Agnew....................................... *
Frederic K. Becker...................................... *
Gilbert F. Casellas..................................... *
James G. Cullen......................................... *
Carolyne K. Davis....................................... *
Allan D. Gilmour........................................ *
William H. Gray III..................................... *
Jon F. Hanson........................................... *
Glen H. Hiner........................................... *
Constance J. Horner..................................... *
Gaynor N. Kelley........................................ *
Burton G. Malkiel....................................... *
Ida F. S. Schmertz...................................... *
Charles R. Sitter....................................... *
Donald L. Staheli....................................... *
Richard M. Thomson...................................... *
James A. Unruh.......................................... *
P. Roy Vagelos.......................................... *
Stanley C. Van Ness..................................... *
Paul A. Volcker......................................... *
John R. Strangfeld, Jr. ................................ *
Vivian L. Banta......................................... *
Mark B. Grier........................................... *
Kiyofomi Sakaguchi...................................... *
All directors and executive officers as a group (31
persons)............................................... *
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CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In the ordinary course of business, we from time to time may engage in transactions with other corporations or financial institutions whose officers or directors are also directors of Prudential Financial, Inc. Transactions with such corporations and financial institutions are conducted on an arm's length basis and may not come to the attention of the directors of Prudential Financial, Inc. or of the other corporations or financial institutions involved. In addition, from time to time executive officers and directors of Prudential Financial, Inc. may engage in transactions in the ordinary course of business involving services we offer, such as insurance and investment services, on terms similar to those extended to employees of Prudential Financial, Inc. generally.
Mr. Glen H. Hiner, a director of Prudential Financial, Inc., and a director of The Prudential Insurance Company of America since 1997, has been the Chairman and Chief Executive Officer of Owens Corning since 1992. Prior to Mr. Hiner joining the Board of Directors of The Prudential Insurance Company of America, Prudential entered into several transactions with Owens Corning affiliates. On December 29, 1993, Prudential purchased $26,551,000 aggregate principal amount of 6.58% notes of The Industrial Development Board of the City of Jackson due March 31, 2004. On December 23, 1996, Prudential purchased $32,200,000 aggregate principal amount of 7.31% notes of The Industrial Development Board of the City of Jackson, also due March 31, 2004. The Industrial Development Board of the City of Jackson entered into a Head Lease Agreement with Owens-Corning Fiberglas Corporation, dated as of December 15, 1993, as amended on December 23, 1996, pursuant to which Owens-Corning Fiberglas Corporation became a lessee to the issuer under both the 1993 financing and 1996 financing. The largest amounts outstanding during fiscal year 2000 were $14,416,525 and $23,769,260 for the 1993 financing and 1996 financing, respectively. The principal amounts outstanding as of September 30, 2001 were $9,697,260 and $15,846,033 for the 1993 financing and 1996 financing, respectively. On November 29, 1994, Prudential purchased $47,987,817 aggregate principal amount of 9.00% notes of Owens-Corning Finance (U.K.) PLC due November 28, 2001. The notes were guaranteed by Owens-Corning Fiberglas Corporation. The financing was also supported by letters of credit issued by Credit Suisse and its affiliates. The largest amount outstanding during fiscal year 2000 was $16,840,504. On October 5, 2000, Owens Corning and certain of its domestic affiliates filed for relief under the federal bankruptcy code. As a result of the filing, on November 24, 2000 we drew under our letters of credit and received payment in full of all principal, accrued interest and the yield maintenance amount totaling $13,619,147.
SHARES ELIGIBLE FOR FUTURE SALE
In addition to the shares of Common Stock offered by this offering in the United States and internationally, Prudential Financial, Inc. expects to issue approximately 456.3 million shares of Common Stock in the demutualization. Substantially all the shares of Common Stock outstanding after the offering, including the shares issued in the demutualization, will be eligible for resale in the public market without restriction. Prior to the offering and the demutualization there has been no market for the Common Stock.
The plan of reorganization requires us to establish a commission-free program, which we describe above under "Demutualization and Related Transactions--The Demutualization--Commission-Free Program and Sales Facility". We estimate that upon consummation of the demutualization we will have approximately 4 million policyholders who will receive in excess of 166 million shares that we believe would be eligible to sell their shares through this program.
DESCRIPTION OF CAPITAL STOCK
The description of our capital stock below is only a summary and reference is made to Prudential Financial, Inc.'s certificate of incorporation, its by- laws and the shareholder rights plan, copies of which are filed with the SEC as exhibits to the registration statement of which this prospectus forms a part. Each statement is qualified in its entirety by such reference.
Prudential Financial, Inc.'s authorized capital stock consists of 1.5 billion shares of Common Stock and 10 million shares of preferred stock. Our authorized capital also consists of 10 million shares of another class of common stock of Prudential Financial, Inc., the Class B Stock, which we plan to sell in a private placement completed concurrently with this offering of our Common Stock. The closing of this offering is subject to the completion of the demutualization of The Prudential Insurance Company of America and the private placement of the Class B Stock. As described in more detail above under "Demutualization and Related Transactions--Related Transactions--Class B Stock and IHC Debt Issuances", the Common Stock issued by this offering and distributed to our policyholders in our demutualization is expected to reflect the performance of our Financial Services Businesses and the Class B Stock is expected to reflect the performance of the Closed Block Business.
Common Stock
All shares of Common Stock offered hereby and to be issued in the demutualization will be validly issued, fully paid and non-assessable. We refer to both the Common Stock and any Class B Stock as "common stock".
Dividend Rights
Holders of Common Stock are entitled to dividends if and when declared by Prudential Financial, Inc.'s Board of Directors out of funds legally available to pay dividends. See "Dividend Policy" above.
The holders of Common Stock and Class B Stock will be entitled to dividends if and when declared by Prudential Financial, Inc.'s Board of Directors out of funds legally available to pay those dividends, resulting in a reduction of the amount legally available for dividends on the Common Stock to the extent dividends are paid on the Class B Stock, shares of Class B Stock are repurchased or the Closed Block Business has net losses. In addition, payment of dividends will be subject to the following additional conditions:
. Common Stock will be entitled to receive dividends, if and when declared by Prudential Financial, Inc.'s Board of Directors, only out of assets of the Financial Services Businesses legally available for the payment of dividends under the New Jersey Business Corporation Act as if the Financial Services Businesses were a separate New Jersey corporation; and
. Class B Stock will be entitled to receive dividends, if and when declared by Prudential Financial, Inc.'s Board of Directors, only out of assets of the Closed Block Business legally available for the payment of dividends under the New Jersey Business Corporation Act as if the Closed Block Business were a separate New Jersey corporation.
Dividends on the Class B Stock will be payable in an aggregate amount per
year at least equal to the lesser of (i) a "Target Dividend Amount" of $19.25
million or (ii) the "CB Distributable Cash Flow" for such year, as defined
below. Notwithstanding this formula, as with any common stock, we will retain
the flexibility to suspend dividends on the Class B Stock; however, if CB
Distributable Cash Flow exists for any period and Prudential Financial, Inc.
chooses not to pay dividends on the Class B Stock in an aggregate amount at
least equal to the lesser of CB Distributable Cash Flow or the Target Dividend
Amount for that period, then cash dividends may not be paid on the Common
Stock for that period. "CB Distributable Cash Flow" means, for any quarterly
or annual period, the sum of (i) the excess of (a) the Surplus and Related
Assets over (b) the "Required Surplus" applicable to the Closed Block Business
within The Prudential Insurance Company of America, to the extent that The
Prudential Insurance Company of America is able to distribute such excess as a
dividend to Prudential Holdings, LLC under New Jersey law without giving
effect, directly or indirectly, to the "earned surplus" requirement of Section
17:27A-4c.(3) of the New Jersey Insurance Holding Company Systems Law, plus
(ii) any amount held by Prudential Holdings, LLC allocated to the Closed Block
Business in excess of remaining debt service payments on the IHC debt. For
purposes of the foregoing, "Required Surplus" means the amount of surplus
applicable to the Closed Block Business within The Prudential Insurance
Company of America that
would be required to maintain a quotient (expressed as percentage) of (i) the "Total Adjusted Capital" applicable to the Closed Block Business within The Prudential Insurance Company of America (including any applicable dividend reserves) divided by (ii) the "Company Action Level RBC" applicable to the Closed Block Business within The Prudential Insurance Company of America, equal to 100%, where "Total Adjusted Capital" and "Company Action Level RBC" are as defined in the regulations promulgated under the New Jersey Dynamic Capital and Surplus Act of 1993. These amounts will be determined according to statutory accounting principles.
In addition, any dividends on any class of common stock are subject to any preferential dividend rights granted to the holders of any preferred stock.
We have the right to, and expect to, pay dividends on the Common Stock and Class B Stock in unequal amounts. We have the right to pay dividends on the Class B Stock without paying dividends on the Common Stock, as well as the right to not pay dividends on the Class B Stock even when CB Distributable Cash Flow exists.
Voting Rights
Each share of Common Stock gives the owner of record one vote on all matters submitted to a shareholder vote. Each share of Common Stock and Class B Stock will give the respective owner of record one vote on all matters submitted to a shareholder vote. The two classes of common stock will vote together as a single class on all matters submitted to a shareholder vote, except as otherwise required by law and except that the holders of the Class B Stock will have certain class voting or consent rights, including as noted below. Accordingly, the holders of a majority of the outstanding shares of common stock voting for the election of directors can elect all of the directors if they choose to do so, subject to any voting rights granted to holders of preferred stock. Actions requiring approval of shareholders will generally require approval by a majority vote at a meeting at which a quorum is present. Prudential Financial, Inc.'s by-laws provide that, except as otherwise set forth in its certificate of incorporation, the holders of 25% of the shares entitled to cast votes at a meeting constitute a quorum. Prudential Financial, Inc.'s certificate of incorporation initially specifies a quorum of 25% of the shares entitled to cast votes at a meeting of shareholders. The certificate of incorporation further provides that, in the event that the holders of at least the percentage of shares entitled to cast votes at a meeting of shareholders set forth in Column A below are present or represented at a meeting of shareholders, the quorum shall be increased to the percentage listed in Column B below, effective commencing the next succeeding annual or special meeting of shareholders:
Column A Column B -------- -------- 25% 25% 35% 30% 45% 40% 55% 50% |
In addition to any class voting rights provided by law, holders of the Class
B Stock will be entitled to vote as a class with respect to: (i) any proposal
by the Board of Directors to issue (1) shares of Class B Stock in excess of an
aggregate of two million outstanding shares (other than issuances pursuant to
a stock split or stock dividend paid ratably to all holders of Class B Stock),
(2) any shares of preferred stock which are exchangeable for or convertible
into Class B Stock, or (3) any debt securities, rights, warrants or other
securities which are convertible into, exchangeable for or provide a right to
acquire shares of Class B Stock or (ii) the approval of the actuarial or other
competent firm selected for purposes of determining the "Fair Market Value" of
the Class B Stock in connection with any exchanges or conversions discussed
below. In addition, pursuant to the subscription agreement for the Class B
Stock, the approval or consent of the holders of the Class B Stock is required
for various matters affecting the Class B Stock or the Closed Block Business,
including material changes in the investment policies for the Surplus and
Related Assets. The approvals or consents of the Class B Stockholders require
the approval of the shares having a majority of the voting power of the Class
B Stock.
Liquidation Rights
In the event of a liquidation, dissolution or winding-up of Prudential Financial, Inc., holders of Common Stock and any Class B Stock, respectively, would be entitled to receive a proportionate share in the net assets of Prudential Financial, Inc. that remain after paying all liabilities and the liquidation preferences of any preferred
stock, such proportion being determined as specified in the following paragraph. If no Class B Stock is outstanding at the time of a liquidation, dissolution or winding-up of Prudential Financial, Inc., each share of Common Stock would be entitled to an equal share of any net assets of Prudential Financial, Inc. after paying all of Prudential Financial, Inc.'s liabilities and the liquidation preference of any preferred stock.
If shares of Class B Stock are outstanding at the time of a liquidation,
dissolution or winding-up of Prudential Financial, Inc., each share of Common
Stock and Class B Stock will be entitled to a share of net liquidation
proceeds in proportion to the respective liquidation units of such class. Each
share of Common Stock will have one liquidation unit and each share of Class B
Stock will have a number of liquidation units (including a fraction of one
liquidation unit) equal to the quotient (rounded to the nearest five decimal
places) of (i) the issuance price per share of the Class B Stock divided by
(ii) the average market value of one share of Common Stock during the 20
consecutive trading day period ending on (and including) the trading day
immediately preceding the 60th day after this offering. Pursuant to the
foregoing formula, assuming the Common Stock were to have an average market
value during the foregoing period of $27.50 per share, each share of Common
Stock would have one liquidation unit and each share of Class B Stock would
have 3.182 liquidation units (i.e., $87.50 divided by $27.50).
The liquidation formula above will only be used if shares of Class B Stock are outstanding at the time of a liquidation, dissolution or winding-up of Prudential Financial, Inc. and is then intended to provide liquidation rights for each of the Common Stock and the Class B Stock proportionate to the respective relative market values indicated above at the time of liquidation.
Neither a merger nor a consolidation of Prudential Financial, Inc. with any other entity, nor a sale, transfer or lease of all or any part of the assets of Prudential Financial, Inc. would alone be deemed a liquidation, dissolution or winding-up for these purposes.
Preemptive Rights
Holders of Common Stock and holders of Class B Stock have no preemptive rights, or rights to buy stock before non-shareholders have a chance to buy stock, with respect to any shares of capital stock that Prudential Financial, Inc. may issue in the future.
Exchange and Conversion Provisions
The Common Stock is not convertible.
Prudential Financial, Inc. may, at its option, at any time, exchange all outstanding shares of Class B Stock into such number of shares of Common Stock as have an aggregate average market value (discussed below) equal to 120% of the appraised "Fair Market Value" (discussed below) of the outstanding shares of Class B Stock.
In addition, if (1) Prudential Financial, Inc. sells or otherwise disposes of all or substantially all of the Closed Block Business or (2) a "change of control" of Prudential Financial, Inc. occurs, Prudential Financial, Inc. must exchange all outstanding shares of Class B Stock into such number of shares of Common Stock as have an aggregate average market value of 120% of the appraised Fair Market Value of such shares of Class B Stock. For this purpose, "change of control" means the occurrence of any of the following events (whether or not approved by the Board of Directors): (a)(i) any person(s) (as defined) (excluding Prudential Financial, Inc. and specified related entities) is or becomes the beneficial owner (as defined), directly or indirectly, of more than 50% of the total voting power of the then outstanding equity securities of Prudential Financial, Inc.; or (ii) Prudential Financial, Inc. merges with, or consolidates with, another person or disposes of all or substantially all of its assets to any person, other than, in the case of either clause (i) or (ii), any transaction where immediately after such transaction the persons that beneficially owned immediately prior to the transaction the then outstanding voting equity securities of Prudential Financial, Inc. beneficially own more than 50% of the total voting power of the then outstanding voting securities of the surviving person; or (b) during any year or any period of two consecutive years, individuals who at the beginning of such period constituted the Board of Directors of Prudential Financial, Inc. (together with any new directors whose election by such Board of Directors or whose nomination for election by the shareholders of Prudential Financial, Inc. was approved by a vote of a majority of the directors of Prudential Financial, Inc. then still in office who were either directors at the beginning of such period or whose election or nomination for election was previously so approved) cease for any reason, other than pursuant to (x) a proposal or request that the Board of Directors be changed as to which the holder of the Class B Stock seeking the conversion has participated or assisted or is participating or assisting or (y) retirements in the ordinary course (as defined), to constitute a majority of the Board of Directors then in office.
Holders of Class B Stock will be permitted to convert their shares of Class
B Stock into such number of shares of Common Stock as have an aggregate
average market value equal to 100% of the appraised Fair Market Value of the
outstanding shares of Class B Stock (1) in the holder's sole discretion, in
the year 2016 or at any time thereafter, and (2) at any time in the event that
(a) the Class B Stock will no longer be treated as equity of Prudential
Financial, Inc. for federal income tax purposes or (b) the New Jersey
Department of Banking and Insurance amends, alters, changes or modifies the
regulation of the Closed Block, the Closed Block Business, the Class B Stock
or the IHC debt in a manner that materially adversely affects the CB
Distributable Cash Flow; provided, however, that in no event may a holder of
Class B Stock convert shares of Class B Stock to the extent such holder
immediately upon such conversion, together with its affiliates, would be the
"beneficial owner" (as defined under the Securities Exchange Act of 1934) of
in excess of 9.9% of the total outstanding voting power of Prudential
Financial, Inc.'s voting securities. In the event a holder of shares of Class
B Stock requests to convert shares pursuant to clause (2)(a) in the preceding
sentence, Prudential Financial, Inc. may elect, instead of effecting such
conversion, to increase the Target Dividend Amount to $12.6875 per share per
annum retroactively from the time of issuance of the Class B Stock.
In the event of any reclassification, recapitalization or exchange of, or any tender offer or exchange offer for, the outstanding shares of Common Stock, including by merger, consolidation or other business combination, as a result of which shares of Common Stock are exchanged for or converted into another security which is both registered under the Securities Exchange Act of 1934 and publicly traded, then the Class B Stock will remain outstanding (unless exchanged by virtue of a "change of control" occurring or otherwise, or otherwise converted) and, in the event 50% or more of the outstanding shares of Common Stock are so exchanged or converted, holders of outstanding Class B Stock will be entitled to receive, in the event of any subsequent exchange or conversion, the securities into which the Common Stock has been exchanged or converted by virtue of such reclassification, recapitalization, merger, consolidation, tender offer, exchange offer or other business combination. If, in the event of any reclassification, recapitalization or exchange, or any tender or exchange offer for, the outstanding shares of Common Stock, including by merger, consolidation or other business combination, as a result of which a majority of the outstanding shares of Common Stock are converted into or exchanged or purchased for either cash or securities which are not public securities, or a combination thereof, the Class B Stock will be entitled to receive cash and/or securities of the type and in the proportion that such holders of Class B Stock would have received if an exchange or conversion of the Class B Stock had occurred immediately prior to the conversion, exchange or purchase of a majority of the outstanding shares of Common Stock and the holders of Class B Stock had participated as holders of Common Stock in such conversion, exchange or purchase. The amount of cash and/or securities payable upon such exchange or conversion will be calculated based upon the Fair Market Value of the Class B Stock as of the date on which the Common Stock was exchanged, converted or purchased and will be multiplied by 120%.
For purposes of all exchanges and conversions, the "average market value" of the Common Stock will be determined during a specified 20 trading day period preceding the time of the exchange or conversion. "Fair Market Value" of the Class B Stock means the fair market value of all of the outstanding shares of Class B Stock as determined by appraisal by a nationally recognized actuarial or other competent firm independent of and selected by the Board of Directors of Prudential Financial, Inc. and approved by the holders of a majority of the outstanding shares of Class B Stock. Fair Market Value will be the present value of expected future cash flows to holders of the Class B Stock, reduced by any payables to the Financial Services Businesses. Future cash flows will be projected consistent with the policy, as described in the plan of reorganization, for the Board of Directors of The Prudential Insurance Company of America to declare policyholder dividends based on actual experience in the Closed Block. Following the repayment in full of the IHC debt, these cash flows shall be the excess of statutory surplus applicable to the Closed Block Business over Required Surplus (as defined in the definition of "CB Distributable Cash Flow") for each period that would be distributable as a dividend under New Jersey law if the Closed Block Business were a separate insurer. These cash flows will be discounted at an equity rate of return, to be estimated as a risk-free rate plus an equity risk premium. The risk-free rate will be an appropriate ten-year U.S. Treasury rate reported by the Federal Reserve Bank of New York. The equity risk premium will be eight and one quarter percent initially, declining evenly to four percent over the following 21 years and remaining constant thereafter. Fair Market Value will be determined by appraisal as of a specified date preceding the time of the exchange or conversion.
Provisions of Prudential Financial, Inc.'s Certificate of Incorporation and By-laws
A number of provisions of Prudential Financial, Inc.'s certificate of incorporation and by-laws concern corporate governance and the rights of shareholders. Some provisions, including those granting the Board of
Directors the ability to issue shares of preferred stock and to set the voting rights, preferences and other terms of preferred stock without shareholder approval, may be viewed as having an anti-takeover effect and may discourage takeover attempts not first approved by the Board of Directors, including takeovers that some shareholders may consider to be in their best interests. To the extent takeover attempts are discouraged, fluctuations in the market price of the Common Stock, which may result from actual or rumored takeover attempts, may be inhibited. The certificate of incorporation and by-laws have provisions that also could delay or frustrate the removal of directors from office or the taking of control by shareholders, even if that action would be beneficial to shareholders. These provisions also could discourage or make more difficult a merger, tender offer or proxy contest, even if they were favorable to the interests of shareholders, and could potentially depress the market price of the Common Stock.
The following is a summary of the material terms of these provisions of Prudential Financial, Inc.'s certificate of incorporation and by-laws. The statements below are only a summary, and we refer you to the certificate of incorporation and by-laws, copies of which are filed as exhibits to the registration statement of which this prospectus forms a part. Each statement is qualified in its entirety by such reference. See "Available Information" below for information about where you can obtain a copy of these documents.
Classified Board of Directors; Number of Directors; Removal; Vacancies
Prudential Financial, Inc.'s certificate of incorporation provides that the directors will be divided into three classes, as nearly equal in number as possible, with the term of office of each class to be three years. The classes serve staggered terms, so that the term of one class of directors expires each year. As a result of this provision, at least two annual meetings of shareholders may be required for shareholders to change a majority of the Board of Directors. Prudential Financial, Inc.'s by-laws provide that the Board of Directors shall consist of not less than 10 nor more than 24 members, with the exact number to be determined by the Board of Directors from time to time. Our shareholders can remove a director or the entire Board of Directors from office, but only for cause and with the affirmative vote of 80% of the votes cast by shareholders who are entitled to vote for the election of directors; provided, however, that the number of affirmative votes cast at such meeting of shareholders is at least 50% of the total number of issued and outstanding shares entitled to vote thereon. Unless otherwise required by law, vacancies on the Board of Directors, including vacancies resulting from an increase in the number of directors or the removal of directors, may only be filled by an affirmative vote of a majority of the directors then in office or by a sole remaining director. The classification of directors, the ability of the Board of Directors to increase the number of directors and the inability of the shareholders to remove directors without cause or fill vacancies on the Board of Directors will make it more difficult to change the Board of Directors, and will promote the continuity of existing management.
Limitations on Call of Special Meetings of Shareholders
The by-laws provide that special meetings of shareholders may only be called by the chairman of the Board of Directors, the chief executive officer, the president, or the Board of Directors or shareholders representing at least 25% of the shares outstanding.
Limitation on Written Consent of Shareholders
The certificate of incorporation generally provides that action by holders of common stock cannot be taken by written consent without a meeting unless such written consents are signed by all shareholders entitled to vote on the action to be taken.
Advance Notice Requirements for Nomination of Directors and Presentation of New Business at Meetings
Prudential Financial, Inc.'s by-laws establish advance notice procedures for shareholder proposals concerning nominations for election to the Board of Directors and new business to be brought before meetings of shareholders. These procedures require that notice of such shareholder proposals must be timely given in writing to the secretary of Prudential Financial, Inc. prior to the meeting at which the action is to be taken. Generally, to be timely, we must receive the notice at Prudential Financial, Inc.'s principal executive offices not less than 120 nor more than 150 days prior to the anniversary date of the annual meeting of shareholders before the one in which the shareholder proposal is to be considered. The notice must contain information required by the by-laws. These provisions make it procedurally more difficult for a shareholder to place a proposed
nomination or new business proposal on the meeting agenda and therefore may reduce the likelihood that a shareholder will seek to take independent action to replace directors or with respect to other matters that are not supported by management.
Supermajority Voting Requirement for Certain Amendments to the By-laws and Charter
The certificate of incorporation and by-laws require the approval of at least 80% of the votes cast at a meeting of shareholders to amend certain provisions of the certificate of incorporation and by-laws, including those described in this section "Provisions of Prudential Financial, Inc.'s Certificate of Incorporation and By-laws", provided, that the number of votes cast at such meeting of shareholders is at least 50% of the total number of issued and outstanding shares entitled to vote thereon. This requirement exceeds the majority vote that would otherwise be required under the New Jersey Business Corporation Act. This supermajority requirement will make it more difficult for shareholders to reduce the anti-takeover effects of the certificate of incorporation and by-laws.
Limitation on Directors' Liability and Indemnification
The certificate of incorporation states that a director will not be held personally liable to Prudential Financial, Inc. or any of its shareholders for damages for a breach of duty as a director except for liability based upon an act or omission:
. in breach of the director's duty of loyalty to Prudential Financial, Inc. or its shareholders,
. not in good faith or involving a knowing violation of law, or
. resulting in receipt by such director of an improper personal benefit.
This provision prevents a shareholder from pursuing an action for damages for breach of duty against a director of Prudential Financial, Inc. unless the shareholder can demonstrate one of these specified bases for liability. The inclusion of this provision in the certificate of incorporation may discourage or deter shareholders or management from bringing a lawsuit against a director for a breach of his or her duties, even though an action, if successful, might otherwise benefit Prudential Financial, Inc. and its shareholders. This provision does not affect the availability of non-monetary remedies like an injunction or rescission based upon a director's breach of his or her duty of care.
The by-laws provide that we shall indemnify any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding because such person is or was a director or officer of Prudential Financial, Inc., or is or was serving at the request of Prudential Financial, Inc. as director or officer, employee or agent of another entity. This indemnification covers expenses, judgments, fines, penalties and amounts paid in settlement actually and reasonably incurred by the indemnified person in connection with such action, suit or proceeding. To receive indemnification, a person must have acted in good faith and in a manner the person reasonably believed to be in or not opposed to the best interests of Prudential Financial, Inc. In the case of any criminal action or proceeding, the indemnified person also must have had no reasonable cause to believe his or her conduct was unlawful. The by-laws limit indemnification in cases when a person has been held liable to Prudential Financial, Inc.
Anti-Takeover Effects of New Jersey Business Corporation Act
New Jersey Shareholders Protection Act
Upon completion of the demutualization, Prudential Financial, Inc. will be subject to the provisions of Section 14A-10A of the New Jersey Business Corporation Act, which is known as the "Shareholders Protection Act".
Generally, the Shareholders Protection Act prohibits a publicly held New Jersey corporation with its principal executive offices or significant business operations in New Jersey, like Prudential Financial, Inc., from engaging in any "business combination" with any "interested stockholder" of that corporation for a period of five years following the time at which that stockholder became an "interested stockholder" unless the business combination is approved by the Board of Directors before the stockholder becomes an "interested stockholder". Covered business combinations include certain mergers, dispositions of assets or shares and recapitalizations. An "interested stockholder" is (1) any person that directly or indirectly beneficially owns 10% or more of the
voting power of the outstanding voting stock of Prudential Financial, Inc.; or
(2) any "affiliate" or "associate" of Prudential Financial, Inc. that directly
or indirectly beneficially owned 10% or more of the voting power of the then-
outstanding stock of Prudential Financial, Inc. at any time within a five-year
period immediately prior to the date in question.
In addition, under the Shareholders Protection Act, Prudential Financial, Inc. may not engage in a business combination with an interested stockholder at any time unless:
. the Board of Directors approved the business combination prior to the time the stockholder became an interested stockholder;
. the holders of two-thirds of Prudential Financial, Inc.'s voting stock not beneficially owned by the interested stockholder affirmatively vote to approve the business combination at a meeting called for that purpose; or
. the consideration received by the non-interested stockholders in the business combination meets the standards of the statute, which is designed to ensure that all other shareholders receive at least the highest price per share paid by the interested stockholder.
A New Jersey corporation that has publicly traded voting stock may not opt out of these restrictions.
Board Consideration of Certain Factors
Under the New Jersey Business Corporation Act, in discharging his or her duties, a director of Prudential Financial, Inc. may consider the effects that an action taken by Prudential Financial, Inc. may have on interests and people in addition to Prudential Financial, Inc.'s shareholders, such as employees, customers and the community. The directors may also consider the long-term as well as the short-term interests of Prudential Financial, Inc. and its shareholders, including the possibility that these interests may best be served by the continued independence of Prudential Financial, Inc.
Shareholders Rights Plan
Prudential Financial, Inc.'s Board of Directors has authorized Prudential Financial, Inc. to enter into a shareholder rights agreement that will become effective on the effective date of the demutualization. The following is a summary of the material terms of this agreement. The statements below are only a summary, and we refer you to the shareholder rights agreement, a copy of which is filed as an exhibit to the registration statement of which this prospectus forms a part. Each statement is qualified in its entirety by such reference. See "Available Information" below for information about where you can obtain a copy of this document.
Under the shareholder rights agreement, one shareholder protection right will be attached to each share of Common Stock. The shareholder rights agreement will not be applicable to any issued Class B Stock. The shareholder protection rights will be transferable only with the Common Stock until they become exercisable, are redeemed or expired.
Each right will initially entitle the holder to purchase one one-thousandth of a share of a series of Prudential Financial, Inc. preferred stock upon payment of the exercise price. The initial exercise price will be determined by Prudential Financial, Inc.'s Board of Directors prior to the effective date of the demutualization.
The shareholder protection rights are not exercisable until the distribution date, when they will separate from the Common Stock and become transferable. The distribution date will occur upon the earlier of:
. the tenth business day after the first public announcement that a person or group has become the beneficial owner of an amount of Common Stock, Class B Stock and/or other Prudential Financial, Inc. stock that represents 10% or more of the total voting power of all outstanding Prudential Financial, Inc. stock or such earlier or later date as determined by Prudential Financial, Inc.'s Board of Directors. The rights plan refers to the day of public announcement as the "stock acquisition date" and the person or group as an "acquiring person"; or
. the tenth business day after the commencement of a tender or exchange offer for an amount of Common Stock, Class B Stock and/or other Prudential Financial, Inc. stock that represents 10% or more of the total voting power of all outstanding Prudential Financial, Inc. stock.
If any person or group becomes an acquiring person, instead of thousandths of shares of preferred stock, each shareholder protection right will then represent the right to receive upon exercise an amount of Common Stock having a market value equal to twice the exercise price, subject to certain exceptions. In the event that Prudential Financial, Inc. does not have a sufficient number of authorized and unissued and unreserved shares of Common Stock, Prudential Financial, Inc. will substitute cash or other securities or assets and/or reduce the exercise price for all or a portion of the Common Stock that would be issuable upon exercise.
If after a stock acquisition date Prudential Financial, Inc. is acquired in a merger or other business combination or 50% or more of our consolidated assets or earnings power are sold or transferred, each shareholder protection right will then represent the right to receive upon exercise an amount of common stock of the acquiring person having a value equal to twice the exercise price.
In addition, at any time after any person or group becomes an acquiring person but before that person or group becomes the beneficial owner of 50% or more of the outstanding Common Stock, the Board of Directors of Prudential Financial, Inc. may at its option exchange the shareholder protection rights, in whole or in part, for Common Stock at an exchange ratio of one share of Common Stock per right.
The exercise price payable, the number of thousandths of shares of preferred stock and the amount of Common Stock, cash or securities or assets issuable upon exercise of, or exchange for, shareholder protection rights and the number of outstanding rights are subject to adjustment to prevent dilution if certain events occur.
Prudential Financial, Inc.'s Board of Directors may redeem the shareholder protection rights in whole, but not in part, for one cent ($.01) per right at any time until the tenth business day after the stock acquisition date. Unless earlier redeemed by Prudential Financial, Inc., the shareholder protection rights will expire on the tenth anniversary of the effective date of the demutualization.
Prudential Financial, Inc.'s transfer agent, EquiServe Trust Company, N.A., will be the rights agent under the shareholder rights agreement.
The shareholder protection rights will not prevent a takeover of Prudential Financial, Inc. However, the rights may render an unsolicited takeover of Prudential Financial, Inc. more difficult or less likely to occur or might prevent such a takeover, even though such takeover may offer shareholders the opportunity to sell their shares at a price above the prevailing market rate and/or may be favored by a majority of the shareholders.
Transfer Agent and Registrar
EquiServe Trust Company, N.A. is the transfer agent and registrar for the Common Stock.
DESCRIPTION OF THE EQUITY SECURITY UNITS
Concurrently with this offering, Prudential Financial, Inc. expects to offer % equity security units for an aggregate offering price of up to $500 million, plus up to an additional $75 million if the underwriters for that offering exercise their options to purchase additional units. The sale of the equity security units is not a condition to this offering of our Common Stock.
The Units
Each equity security unit will have a stated amount of $50 and will initially consist of:
(1) a purchase contract, under which each holder agrees to purchase, for $50, shares of Common Stock of Prudential Financial, Inc. on the stock purchase date of , 2004; and
(2) a beneficial ownership interest of a redeemable capital security of Prudential Financial Capital Trust I, a statutory business trust created under Delaware law that Prudential Financial, Inc. owns, with a stated liquidation amount of $50.
The Purchase Contracts
The purchase contract underlying a unit obligates a holder to purchase, and Prudential Financial, Inc. to sell, for $50, on , 2004, a number of newly issued shares of Common Stock equal to the settlement
rate described below under "--Settlement", based on the average closing price of the Common Stock during a specified period prior to , 2004.
In addition, Prudential Financial, Inc. will pay the holder quarterly contract fee payments on the purchase contracts at the annual rate of % of the stated amount of $50 per purchase contract, subject to Prudential Financial, Inc.'s rights to defer these payments. Contract fee payments will be made quarterly in arrears on each , , , and , commencing , 2002.
Prudential Financial, Inc. has the option to defer contract fee payments on the purchase contracts for up to three years. Prudential Financial, Inc. may elect the option to defer payments on more than one occasion. In no event may Prudential Financial, Inc. defer payments beyond , 2004. Deferred contract fee payments will accrue additional contract fee payments until paid, compounded quarterly, at the annual rate of %. This annual rate is equal to the sum of the applicable distribution rate on the redeemable capital securities and the rate of contract fee payments on the purchase contracts.
If Prudential Financial, Inc. exercises its option to defer contract fee payments, then until the deferred contract fee payments have been paid, Prudential Financial, Inc. will not take any of the actions that it would be prohibited from taking during a deferral of interest payments on the debentures as described under "--The Redeemable Capital Securities" below.
The Redeemable Capital Securities
The redeemable capital securities, and the common securities issued concurrently to Prudential Financial, Inc., represent undivided beneficial ownership interests in the assets of Prudential Financial Capital Trust I. The property trustee of the trust will hold legal title to the assets. The trust's assets consist solely of debentures due 2006 issued by Prudential Financial, Inc. to the trust. Because each holder has an "undivided" beneficial interest in the trust's assets, the holder has a proportional interest in the collective assets of the trust, rather than in any specific debenture. The redeemable capital securities will initially be pledged to secure the holders' obligations under the purchase contracts.
The debentures will have an interest rate and principal amount that are the same as the distribution rate and stated liquidation amount of the capital securities.
Upon payment of the debentures issued by Prudential Financial, Inc. to the trust on their maturity date, the trust will use the cash proceeds from the repayment to redeem the redeemable capital securities at their aggregate stated liquidation amount plus any accrued and unpaid distributions, payable in cash only. Prudential Financial Capital Trust I may not redeem the redeemable capital securities at any other time, for any other reason or under any other circumstances.
Distributions on the redeemable capital securities will be fixed initially at an annual rate of % of the stated liquidation amount of $50 per capital security. Distributions on the redeemable capital securities will be reset to the reset rate effective , 2004. Distributions in arrears for more than one quarter will bear interest at the rate of % per year through and including , 2004 and at the reset rate afterwards, compounded quarterly.
Distributions on the redeemable capital securities will be cumulative and will accrue from , 2001 and will be payable quarterly in arrears on , , , and of each year, subject to the deferral provisions described below, commencing , 2002, when, as and if funds are available for distributions.
So long as no event of default under the debentures has occurred and is continuing, Prudential Financial, Inc. has the right to defer the payment of interest on the debentures at any time or from time to time for a period not exceeding five years. No deferral period may extend beyond the final stated maturity of the debentures, which is , 2006. As a consequence, the trust will defer quarterly distributions on the redeemable capital securities during the deferral period. Deferred distributions to which holders are entitled will accrue additional distributions, compounded quarterly from the relevant payment date for distributions during any deferral period, at the deferral rate, to the extent permitted by applicable law.
During any period in which Prudential Financial, Inc. defers interest payments on the debentures, it will not be permitted to:
. declare or pay any dividends or distributions on, or redeem, purchase, acquire or make a liquidation payment with respect to, any of Prudential Financial, Inc.'s capital stock other than the Class B Stock or stock dividends which consist of stock of the same class as that on which the dividends are being paid;
. make any payment of principal of or premium, if any, on or interest on or repay or repurchase or redeem any of Prudential Financial, Inc.'s debt securities, including other debentures, that rank equally with or junior to or make any other payments in respect of right of payment to the debentures; or
. make any guarantee payments with respect to any guarantee by Prudential Financial, Inc. of the debt securities of any of Prudential Financial, Inc.'s subsidiaries, including under any guarantees to be issued by Prudential Financial, Inc. with respect to securities of other trusts or entities to be established by Prudential Financial, Inc. similar to Prudential Financial Capital Trust I, if such guarantee ranks equally with or junior in right of payment to the debentures,
The above restrictions shall not apply to:
. dividends or distributions in shares of, or options, warrants or rights to subscribe for or purchase shares of, Prudential Financial, Inc.'s capital stock;
. any declaration of a dividend in connection with the implementation of a stockholders' rights plan, or the issuance of stock, other securities, cash or other assets under any such plan in the future, or the redemption or repurchase of any such rights pursuant thereto;
. payments under the guarantee issued in connection with the offering of the units;
. reclassifications of Prudential Financial, Inc.'s capital stock or the exchange or conversion of one class or series of its capital stock for another class or series of Prudential Financial, Inc.'s capital stock (such as the conversion or exchange of Common Stock for Class B Stock);
. the purchase of fractional interests in shares of Prudential Financial, Inc.'s capital stock pursuant to the conversion or exchange provisions of such capital stock or the security being converted or exchanged; and
. purchases or acquisition of shares of Common Stock, in connection with the satisfaction by Prudential Financial, Inc. of its obligations under any employee benefit plan or any other contractual obligation (other than a contractual obligation ranking expressly by its terms equal with or junior to the debentures).
Remarketing
In order to provide the holders of equity security units with the necessary collateral to be applied in the settlement of their purchase contract obligations, the redeemable capital securities held by each unitholder will be sold in a remarketing, unless the holder elects not to participate in the remarketing. The proceeds of the remarketing will be used to purchase U.S. treasury securities, which the participating unitholders will pledge to secure their obligations under the related purchase contracts. We will use the cash payments from the pledged treasury securities underlying the units to satisfy the obligation of a participating holder to purchase our Common Stock on , 2004.
Unless (a) a holder of units decides not to participate in the remarketing and delivers treasury securities in a kind and amount designated by the remarketing agent, or (b) the remarketing agent delays the remarketing to a later date, the redeemable capital securities that are included in the units will be remarketed on the remarketing date. The remarketing date will be , 2004, the last quarterly payment date before the stock purchase date.
Settlement
The settlement rate is the number of newly issued shares of Common Stock that Prudential Financial, Inc. is obligated to sell and each holder is obligated to buy upon settlement of a purchase contract on , 2004.
The settlement rate for each purchase contract will be as follows, subject to adjustment under the terms of the purchase contract:
. if the applicable market value of the Common Stock is equal to or greater than $ , the settlement rate will be shares of the Common Stock per purchase contract;
. if the applicable market value of the Common Stock is less than $ but greater than $ , the settlement rate will be equal to $50 divided by the applicable market value of the Common Stock per purchase contract; and
. if the applicable market value of the Common Stock is less than or equal to $ , the settlement rate will be shares of the Common Stock per purchase contract.
The "applicable market value" means the average of the closing price per share of the Common Stock on each of the twenty consecutive trading days ending on the third trading day preceding , 2004.
In addition to the remarketing, the holder's obligations under the purchase contract may be satisfied:
. if the holder has elected not to participate in a remarketing, by delivering specified treasury securities in substitution for the redeemable capital securities, through the application of the cash payments received on the pledged treasury securities;
. through the early delivery of cash to the purchase contract agent in the manner described in the purchase contracts; and
. if Prudential Financial, Inc. is involved in a merger or consolidation prior to the stock purchase date in which at least 30% of the consideration for the Common Stock consists of cash or cash equivalents, through an early settlement of the purchase contract as described in the purchase contracts.
In addition, the purchase contracts, Prudential Financial, Inc.'s related rights and obligations and those of the holders of the units, including their obligations to purchase Common Stock, will automatically terminate upon the occurrence of particular events of Prudential Financial, Inc.'s bankruptcy, insolvency or reorganization. Upon such a termination of the purchase contracts, the pledged redeemable capital securities or treasury securities will be released and distributed to the holder.
Maturity
The redeemable capital securities do not have a stated maturity. However, the debentures issued by Prudential Financial, Inc. to the trust will mature on , 2006. Upon payment of the debentures on that date, the trust will redeem the redeemable capital securities at their aggregate stated liquidation amount plus any accrued and unpaid distributions.
The Guarantee
Prudential Financial, Inc. will unconditionally and irrevocably guarantee, on a senior and unsecured basis, the payment in full of the following:
. distributions that are required to be paid on the redeemable capital securities to the extent of available trust funds; and
. the stated liquidation amount of the redeemable capital securities to the extent of available trust funds.
The guarantee will be unsecured and rank equally in right of payment to all of Prudential Financial, Inc.'s other senior unsecured debt. Prudential Financial, Inc. currently has no outstanding secured or other debt that would rank senior to the guarantee.
Listing
We intend to list the equity security units on the New York Stock Exchange under the symbol "PFA".
Accounting Treatment of the Trust and the Equity Security Units
The financial statements of Prudential Financial Capital Trust I will be consolidated in Prudential Financial, Inc.'s financial statements, with the redeemable capital securities shown on its consolidated balance sheet under the caption "Guaranteed minority interest in trust holding solely debentures of Parent". The proceeds from the units will be allocated to the underlying purchase contracts and redeemable capital securities based on their relative fair values at the offering date. The forward contracts will be reported in additional paid-in capital and subsequent changes in fair value will not be recognized. The notes to the consolidated financial statements will
disclose that the sole asset of the trust is the debentures. Distributions on the redeemable capital securities will be reported as a charge to minority interest in our consolidated statements of income, whether paid or accrued.
The purchase contracts are forward transactions in the Common Stock. Upon settlement of a purchase contract, Prudential Financial, Inc. will receive $50 on that purchase contract and will issue the requisite number of shares of Common Stock.
Before settlement of the purchase contracts through the issuance of Common Stock, the units will be reflected in Prudential Financial, Inc.'s diluted earnings per share calculations using the treasury stock method. Under this method, the number of shares of Common Stock used in calculating earnings per share for any period will be deemed to be increased by the excess, if any, of the number of shares that would be required to be issued upon settlement of the purchase contracts over the number of shares that could be purchased by Prudential Financial, Inc. in the market, at the average market price during that period, using the proceeds that would be required to be paid upon settlement. Consequently, Prudential Financial, Inc. anticipates that there will be no dilutive effect on Prudential Financial, Inc.'s earnings per share except during periods when the average market price of the Common Stock is above 120% of its initial public offering price per share.
UNDERWRITING
Prudential Financial, Inc. and the underwriters for the U.S. offering named below (the "U.S. Underwriters") have entered into an underwriting agreement with respect to the shares being offered in the United States. Subject to certain conditions, each U.S. Underwriter has severally agreed to purchase the number of shares indicated in the following table. Goldman, Sachs & Co., Prudential Securities Incorporated, Credit Suisse First Boston Corporation, Deutsche Banc Alex. Brown Inc., Lehman Brothers Inc., Merrill Lynch, Pierce, Fenner & Smith Incorporated, Morgan Stanley & Co. Incorporated, Salomon Smith Barney Inc., The Williams Capital Group, L.P., Banc of America Securities LLC, Bear, Stearns & Co. Inc., Blaylock & Partners, L.P., First Union Securities, Inc., Ramirez & Co., Inc., and UBS Warburg LLC are the representatives of the U.S. Underwriters.
Underwriters Number of Shares
------------ ----------------
Goldman, Sachs & Co...........................................
Prudential Securities Incorporated............................
Credit Suisse First Boston Corporation........................
Deutsche Banc Alex. Brown Inc. ...............................
Lehman Brothers Inc. .........................................
Merrill Lynch, Pierce, Fenner & Smith Incorporated............
Morgan Stanley & Co. Incorporated.............................
Salomon Smith Barney Inc. ....................................
The Williams Capital Group, L.P. .............................
Banc of America Securities LLC................................
Bear, Stearns & Co. Inc. .....................................
Blaylock & Partners, L.P. ....................................
First Union Securities, Inc. .................................
Ramirez & Co., Inc. ..........................................
UBS Warburg LLC...............................................
----------
Total........................................................ 93,500,000
==========
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If the U.S. Underwriters sell more shares than the total number set forth in the table above, the U.S. Underwriters have an option to buy up to an additional 14,025,000 shares from Prudential Financial, Inc. to cover such sales. They may exercise that option for 30 days. If any shares are purchased pursuant to this option, the U.S. Underwriters will severally purchase shares in approximately the same proportion as set forth in the table above.
The following table shows the per share and total underwriting discounts and commissions to be paid to the U.S. Underwriters by Prudential Financial, Inc. Such amounts are shown assuming both no exercise and full exercise of the U.S. Underwriters' option to purchase 14,025,000 additional shares.
Paid by Prudential Financial, Inc. No Exercise Full Exercise ---------------------------------- ----------- ------------- Per Share............................................. $ $ Total................................................. $ $ |
Shares sold by the U.S. Underwriters to the public will initially be offered at the initial public offering price set forth on the cover of this prospectus. Any shares sold by the U.S. Underwriters to securities dealers may be sold at a discount of up to $ per share from the initial public offering price. Any such securities dealers may resell any shares purchased from the U.S. Underwriters to certain other brokers or dealers at a discount of up to $ per share from the initial public offering price. If all the shares are not sold at the initial offering price, the representatives may change the offering price and the other selling terms.
Prudential Financial, Inc. also has entered into an underwriting agreement with Underwriters for the sale of 16,500,000 shares outside of the United States. The terms and conditions of both offerings are the same and the sale of shares in both offerings are conditioned on each other. Each of the offerings is subject to the completion of the
demutualization of The Prudential Insurance Company of America and the closing of the Class B Stock offering. Goldman Sachs International, Prudential-Bache International Ltd., Credit Suisse First Boston (Europe) Limited, Deutsche Bank AG London, Lehman Brothers International (Europe), Merrill Lynch International, Morgan Stanley & Co. International Limited, Salomon Brothers International Limited, The Williams Capital Group, L.P., Banc of America Securities Limited, Bear, Stearns International Limited, Blaylock & Partners, L.P., First Union Securities, Inc., Samuel A. Ramirez & Company, Inc., and UBS AG, acting through its business group UBS Warburg, are representatives of the Underwriters for the international offering outside the United States (the "International Underwriters"). Prudential Financial, Inc. has granted the International Underwriters a similar option to purchase up to an aggregate of an additional 2,475,000 shares.
The Underwriters for both of the offerings have entered into an agreement in which they agree to restrictions on where and to whom they and any dealer purchasing from them may offer shares as a part of the distribution of the shares. The Underwriters also have agreed that they may sell shares among each of the underwriting groups.
Prudential Financial, Inc. has agreed with the Underwriters not to dispose of or hedge any of its Common Stock or securities convertible into or exchangeable for shares of Common Stock during the period from the date of this prospectus continuing through the date 180 days after the date of this prospectus, except with respect to the Class B Stock, the equity security units, securities issued as consideration in mergers or acquisitions or with the prior written consent of Goldman, Sachs & Co. This agreement does not apply to any existing employee benefit plans.
Prior to the offerings, there has been no public market for the shares. The initial public offering price will be negotiated among Prudential Financial, Inc. and the representatives. Among the factors to be considered in determining the initial public offering price of the shares, in addition to prevailing market conditions, will be the historical performance of The Prudential Insurance Company of America, estimates of Prudential Financial, Inc.'s business potential and earnings prospects, an assessment of Prudential Financial, Inc.'s management and the consideration of the above factors in relation to market valuation of companies in related businesses.
An application has been made to list the Common Stock on the NYSE under the symbol "PRU". In order to meet one of the requirements for listing the Common Stock on the NYSE, the Underwriters have undertaken to sell lots of 100 or more shares to a minimum of 2,000 beneficial holders.
In connection with the offerings, the Underwriters may purchase and sell shares of Common Stock in the open market. These transactions may include short sales, stabilizing transactions and purchases to cover positions created by short sales. Short sales involve the sale by the Underwriters of a greater number of shares than they are required to purchase in the offerings. "Covered" short sales are sales made in an amount not greater than the Underwriters' options to purchase additional shares from Prudential Financial, Inc. in the offerings. The Underwriters may close out any covered short position by either exercising their options to purchase additional shares or purchasing shares in the open market. In determining the source of shares to close out the covered short position, the Underwriters will consider, among other things, the price of shares available for purchase in the open market as compared to the price at which they may purchase additional shares pursuant to the option granted by Prudential Financial, Inc. "Naked" short sales are any sales in excess of the purchase options. The Underwriters must close out any naked short position by purchasing shares in the open market. A naked short position is more likely to be created if the Underwriters are concerned that there may be downward pressure on the price of the Common Stock in the open market after pricing that could adversely affect investors who purchase in the offerings. Stabilizing transactions consist of various bids for or purchases of Common Stock made by the Underwriters in the open market prior to the completion of the offerings.
The Underwriters may also impose a penalty bid. This occurs when a particular Underwriter repays to the Underwriters a portion of the underwriting discount received by it because the representatives have repurchased shares sold by or for the account of such Underwriter in stabilizing or short covering transactions.
Purchases to cover short positions and stabilizing transactions may have the effect of preventing or retarding a decline in the market price of the Common Stock, and together with the imposition of the penalty bid, may stabilize, maintain or otherwise affect the market price of the Common Stock. As a result, the price of the Common Stock may be higher than the price that otherwise might exist in the open market. If these activities are commenced, they may be discontinued at any time. These transactions may be effected on the NYSE, in the over-the-counter market or otherwise.
Each Underwriter represents, warrants and agrees that: (i) it has not offered or sold and, prior to the expiry of a period of six months from the closing date, will not offer or sell any shares of Common Stock to persons in the United Kingdom except to persons whose ordinary activities involve them in acquiring, holding, managing or disposing of investments (as principal or agent) for the purposes of their businesses or otherwise in circumstances which have not resulted and will not result in an offer to the public in the United Kingdom within the meaning of the Public Offers at Securities Regulations 1995; (ii) it has only communicated or caused to be communicated and will only communicate or cause to be communicated any invitation or inducement to engage in investment activity (within the meaning of section 21 of the Financial Services and Markets Act of 2000 ("FSMA")) received by it in connection with the issue or sale of any shares in circumstances in which section 21(1) of the FSMA does not apply to the Issuer; and (iii) it has complied and will comply with all applicable provisions of the FSMA with respect to anything done by it in relation to the shares in, from or otherwise involving the United Kingdom.
After the offering, because Prudential Securities Incorporated is a member of the NYSE and because of its relationship to Prudential Financial, Inc., it will not be permitted under the rules of the NYSE to make markets in or recommendations regarding the purchase or sale of the Common Stock.
Also, because of the relationship between Prudential Securities Incorporated and Prudential Financial, Inc., this offering is being conducted in accordance with Rule 2720 of the National Association of Securities Dealers. That rule requires that the initial public offering price can be no higher than that recommended by a "qualified independent underwriter", as defined by the NASD. Goldman, Sachs & Co. has served in that capacity and performed due diligence investigations and reviewed and participated in the preparation of the registration statement of which this prospectus forms a part. Goldman, Sachs & Co. will receive $10,000 from Prudential Financial, Inc. as compensation for such role.
The Underwriters may not confirm sales to discretionary accounts without the prior written approval of the customer.
Prudential Financial, Inc. estimates that its share of the total expenses of the offerings, excluding underwriting discounts and commissions, will be approximately $5.8 million.
Prudential Financial, Inc. and The Prudential Insurance Company of America have agreed to indemnify the several Underwriters against certain liabilities, including liabilities under the Securities Act of 1933.
This prospectus may be used by the Underwriters and other dealers in connection with offers and sales of the shares, including sales of shares initially sold by the Underwriters in the offering being made outside of the United States, to persons located in the United States.
First Union Securities, Inc., one of the Underwriters, is an indirect, wholly-owned subsidiary of Wachovia Corporation. Wachovia Corporation conducts its investment banking, institutional, and capital markets businesses through its various bank, broker-dealer and non-bank subsidiaries (including First Union Securities, Inc.) under the trade name of Wachovia Securities. Any references to Wachovia Securities in this prospectus, however, do not include Wachovia Securities, Inc., member NASD/SIPC and a separate broker-dealer subsidiary of Wachovia Corporation and an affiliate of First Union Securities, Inc., which may or may not be participating as a selling dealer in the distribution of the securities offered by this prospectus.
VALIDITY OF COMMON STOCK
The validity of the Common Stock offered hereby will be passed upon for Prudential Financial, Inc. by Sullivan & Cromwell, New York, New York, and McCarter & English, LLP, Newark, New Jersey. Certain legal matters will be passed upon for the underwriters by Cleary, Gottlieb, Steen & Hamilton, New York, New York. From time to time, Cleary, Gottlieb, Steen & Hamilton has provided legal services to The Prudential Insurance Company of America and certain of its subsidiaries. Sullivan & Cromwell and Cleary, Gottlieb, Steen & Hamilton will rely as to all matters of New Jersey law upon the opinion of McCarter & English, LLP.
EXPERTS
The consolidated financial statements of Prudential as of December 31, 2000 and 1999 and for each of the three years in the period ended December 31, 2000, the supplemental combining financial information as of and for the year ended December 31, 2000 and the statement of financial position of Prudential Financial, Inc. as of September 30, 2001 included in this prospectus and the related financial statement schedules included in the registration statement have been included in reliance upon the reports, included in this prospectus or the registration statement relating thereto, of PricewaterhouseCoopers LLP, independent accountants, given on the authority of that firm as experts in auditing and accounting.
The consolidated financial statement of Gibraltar Life Insurance Company, Ltd. and its subsidiaries at April 2, 2001 included in this prospectus has been included in reliance upon the report, included in this prospectus, of PricewaterhouseCoopers, independent accountants, given on the authority of that firm as experts in auditing and accounting.
The Prudential Insurance Company of America has retained Milliman & Robertson, Inc., an actuarial consulting firm, to advise it in connection with actuarial matters involved in the development of the plan of reorganization and the establishment and operation of the closed blocks. The opinion of Daniel J. McCarthy, M.A.A.A., of Milliman USA, formerly Milliman & Robertson, Inc., is included as Annex A of this prospectus in reliance upon his authority as an expert in actuarial matters generally and in the application of actuarial concepts to insurance matters.
AVAILABLE INFORMATION
Upon completion of the offering, Prudential Financial, Inc. will file annual, quarterly and current reports, proxy statements and other information with the SEC. You may read and copy any documents filed by Prudential Financial, Inc. at the SEC's public reference room at 450 Fifth Street, N.W., Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further information on the public reference room. Our SEC filings will also be available over the internet at the SEC's website at http://www.sec.gov. Prudential Financial, Inc. intends to list the Common Stock on the New York Stock Exchange. Upon listing, periodic reports, proxy statements and other information concerning Prudential Financial, Inc. will be available for review at the New York Stock Exchange, Inc., 20 Broad Street, New York, New York 10005. After the offering, we expect to provide annual reports to our shareholders that include financial information reported on by our independent public accountants.
Prudential Financial, Inc. has filed a registration statement on Form S-1 with the SEC. This prospectus is a part of the registration statement and does not contain all of the information in the registration statement. Whenever a reference is made in this prospectus to one of our contracts or other documents, please be aware that the reference is not necessarily complete and that you should refer to the exhibits that are a part of the registration statement for a copy of the contract or other document. You may review a copy of the registration statement at the SEC's public reference room in Washington, D.C. as well as through the SEC's internet site.
Prudential Financial, Inc.'s GAAP financial statements reported to you will be prepared so that the following financial disclosures will be made following demutualization:
. audited annual consolidated financial statements and unaudited interim consolidated financial statements of Prudential Financial, Inc. as would otherwise be prepared regardless of the issuance of the Class B Stock; and
. audited supplemental combining financial information on an annual basis and unaudited supplemental combining financial information on an interim basis, which will separately report the financial positions and results of operations of the Financial Services Businesses and the Closed Block Business.
Prudential Financial, Inc. will furnish without charge to each shareholder who so requests a statement of the designations, relative rights, preferences and limitations of the shares of each class and series authorized to be issued and the authority of the Board of Directors of Prudential Financial, Inc. to divide the shares into classes or series and to determine and change the relative rights, preferences and limitations of any class or series of the corporation. Such requests may be made to the transfer agent.
The holder of shares of Common Stock of Prudential Financial, Inc. is entitled to certain "Rights" as set forth in a Rights Agreement between Prudential Financial, Inc. and EquiServe Trust Company, N.A., dated as of November 1, 2001 (the "Rights Agreement"), a copy of which is on file at the principal executive offices of Prudential Financial, Inc. Under certain circumstances, as set forth in the Rights Agreement, such Rights may be evidenced by separate certificates and no longer be evidenced by uncertificated or certificated shares of Common Stock. Prudential Financial, Inc. will mail to the holder of shares of Common Stock (whether held in uncertificated or certificated form) a copy of the Rights Agreement without charge after receipt of a written request thereof. Under certain circumstances set forth in the Rights Agreement, Rights issued to, or held by, any Person who is, was or becomes an Acquiring Person or any Affiliate or Associate thereof (as such terms are defined in the Rights Agreement) or one or certain transferees thereof, whether currently held by or on behalf of such Person or by any subsequent holder, may be limited as provided in the Rights Agreement.
Prudential Financial, Inc. is organized under the laws of the State of New Jersey.
CONSOLIDATED FINANCIAL STATEMENTS
INDEX
Report of Independent Accountants......................................... F-2 Consolidated Statements of Financial Position as of December 31, 2000 and 1999..................................................................... F-3 Consolidated Statements of Operations for the years ended December 31, 2000, 1999 and 1998...................................................... F-4 Consolidated Statements of Changes in Equity for the years ended December 31, 2000, 1999 and 1998................................................................. F-5 Consolidated Statements of Cash Flows for the years ended December 31, 2000, 1999 and 1998...................................................... F-6 Notes to Consolidated Financial Statements................................ F-7 Supplemental Combining Financial Information: Supplemental Combining Statement of Financial Position as of December 31, 2000............................................................... F-54 Supplemental Combining Statement of Operations for the year ended December 31, 2000...................................................... F-55 Notes to Supplemental Combining Financial Information................... F-56 Unaudited Interim Consolidated Statements of Financial Position as of September 30, 2001 and December 31, 2000................................. F-59 Unaudited Interim Consolidated Statements of Operations for the nine months ended September 30, 2001 and 2000................................. F-60 Unaudited Interim Consolidated Statements of Changes in Equity for the nine months ended September 30, 2001 and the year ended December 31, 2000..................................................................... F-61 Unaudited Interim Consolidated Statements of Cash Flows for the nine months ended September 30, 2001 and 2000................................. F-62 Notes to Unaudited Interim Consolidated Financial Statements.............. F-63 Unaudited Supplemental Combining Financial Information: Unaudited Supplemental Combining Statement of Financial Position as of September 30, 2001..................................................... F-75 Unaudited Supplemental Combining Statement of Operations for the nine months ended September 30, 2001........................................ F-76 Notes to Unaudited Supplemental Combining Financial Information......... F-77 Prudential Financial, Inc. Financial Statement: Report of Independent Accountants....................................... F-80 Prudential Financial, Inc. Statement of Financial Position as of September 30, 2001..................................................... F-81 Prudential Financial, Inc. Notes to Statement of Financial Position..... F-82 Gibraltar Life Insurance Co., Ltd. Financial Statement: Report of Independent Accountants....................................... F-83 Consolidated Statement of Financial Position as of April 2, 2001........ F-84 Notes to Consolidated Statement of Financial Position................... F-85 |
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Policyholders of The Prudential Insurance Company of America
In our opinion, the accompanying consolidated statements of financial position and the related consolidated statements of operations, of changes in equity and of cash flows present fairly, in all material respects, the financial position of The Prudential Insurance Company of America and its subsidiaries at December 31, 2000 and 1999, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2000 in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
Our audits were conducted for the purpose of forming an opinion on the consolidated financial statements taken as a whole. The accompanying supplemental combining financial information is presented for purposes of additional analysis of the consolidated financial statements rather than to present the financial position and results of operations of the individual components. Such supplemental information has been subjected to the auditing procedures applied in the audits of the consolidated financial statements and, in our opinion, is fairly stated in all material respects in relation to the consolidated financial statements taken as a whole.
/s/ PricewaterhouseCoopers LLP New York, New York March 13, 2001, except for Note 18, as to which the date is April 2, 2001. |
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Consolidated Statements of Financial Position December 31, 2000 and 1999 (In Millions)
2000 1999
-------- --------
ASSETS
Fixed maturities:
Available for sale, at fair value (amortized cost, 2000:
$83,115; 1999: $81,248)................................... $ 83,827 $ 79,130
Held to maturity, at amortized cost (fair value, 2000:
$12,615; 1999: $14,112)................................... 12,448 14,237
Trading account assets, at fair value....................... 7,217 9,741
Equity securities, available for sale, at fair value (cost,
2000: $2,266; 1999: $2,531)................................ 2,317 3,264
Mortgage loans on real estate............................... 15,919 16,268
Policy loans................................................ 8,046 7,590
Securities purchased under agreements to resell............. 5,395 13,944
Cash collateral for borrowed securities..................... 3,858 7,124
Other long-term investments................................. 4,459 4,857
Short-term investments...................................... 5,029 2,773
-------- --------
Total investments.......................................... 148,515 158,928
Cash and cash equivalents................................... 7,676 6,427
Accrued investment income................................... 1,916 1,836
Broker-dealer related receivables........................... 11,860 11,346
Deferred policy acquisition costs........................... 7,063 7,324
Other assets................................................ 13,506 17,102
Separate account assets..................................... 82,217 82,131
-------- --------
TOTAL ASSETS............................................... $272,753 $285,094
======== ========
LIABILITIES AND EQUITY
LIABILITIES
Future policy benefits...................................... $ 69,288 $ 67,278
Policyholders' account balances............................. 32,722 32,780
Unpaid claims and claim adjustment expenses................. 2,120 2,829
Policyholders' dividends.................................... 1,463 1,484
Securities sold under agreements to repurchase.............. 15,010 24,598
Cash collateral for loaned securities....................... 11,053 10,775
Income taxes payable........................................ 1,610 804
Broker-dealer related payables.............................. 5,965 5,839
Securities sold but not yet purchased....................... 4,959 6,968
Short-term debt............................................. 11,131 10,858
Long-term debt.............................................. 2,502 5,513
Other liabilities........................................... 12,105 13,946
Separate account liabilities................................ 82,217 82,131
-------- --------
Total liabilities.......................................... 252,145 265,803
-------- --------
COMMITMENTS AND CONTINGENCIES (See Notes 15 and 17)
EQUITY
Accumulated other comprehensive income (loss)............... 234 (685)
Common stock................................................ -- --
Additional paid-in capital.................................. -- --
Retained earnings........................................... 20,374 19,976
-------- --------
Total equity............................................... 20,608 19,291
-------- --------
TOTAL LIABILITIES AND EQUITY............................... $272,753 $285,094
======== ========
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See Notes to Consolidated Financial Statements
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Consolidated Statements of Operations
Years Ended December 31, 2000, 1999 and 1998 (In Millions)
2000 1999 1998
------- ------- -------
REVENUES
Premiums........................................... $10,221 $ 9,528 $ 9,048
Policy charges and fee income...................... 1,639 1,516 1,465
Net investment income.............................. 9,497 9,367 9,454
Realized investment gains (losses), net............ (288) 924 2,641
Commissions and other income....................... 5,475 5,233 4,416
------- ------- -------
Total revenues.................................... 26,544 26,568 27,024
------- ------- -------
BENEFITS AND EXPENSES
Policyholders' benefits............................ 10,640 10,226 9,786
Interest credited to policyholders' account
balances.......................................... 1,751 1,811 1,953
Dividends to policyholders......................... 2,724 2,571 2,477
General and administrative expenses................ 10,083 9,530 9,037
Capital markets restructuring...................... 476 -- --
Sales practices remedies and costs................. -- 100 1,150
Demutualization expenses........................... 143 75 24
------- ------- -------
Total benefits and expenses....................... 25,817 24,313 24,427
------- ------- -------
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME
TAXES............................................. 727 2,255 2,597
------- ------- -------
Income taxes
Current........................................... 434 690 1,085
Deferred.......................................... (28) 352 (115)
------- ------- -------
Total income taxes.............................. 406 1,042 970
------- ------- -------
INCOME FROM CONTINUING OPERATIONS.................. 321 1,213 1,627
------- ------- -------
DISCONTINUED OPERATIONS
Loss from healthcare operations, net of taxes...... -- -- (298)
Gain (loss) on disposal of healthcare operations,
net of taxes...................................... 77 (400) (223)
------- ------- -------
Net gain (loss) from discontinued operations...... 77 (400) (521)
------- ------- -------
NET INCOME......................................... $ 398 $ 813 $ 1,106
======= ======= =======
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See Notes to Consolidated Financial Statements
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Consolidated Statements of Changes in Equity Years Ended December 31, 2000, 1999 and 1998 (In Millions)
Accumulated Other Comprehensive Income (Loss)
-----------------------------------------------
Net Total
Foreign Unrealized Accumulated
Currency Investment Pension Other
Translation Gains Liability Comprehensive Retained Total
Adjustments (Losses) Adjustment Income (Loss) Earnings Equity
----------- ---------- ---------- ------------- -------- --------
Balance, December 31,
1997................... $ (85) $ 1,752 $ (6) $ 1,661 $ 18,057 $ 19,718
Comprehensive income:
Net income............. 1,106 1,106
Other comprehensive
loss, net of tax:
Change in foreign
currency translation
adjustments........... 54 54 54
Change in net
unrealized investment
gains................. (480) (480) (480)
Additional pension
liability adjustment.. (3) (3) (3)
--------
Other comprehensive
loss.................. (429)
--------
Total comprehensive
income................. 677
------ ------- ----- ------- -------- --------
Balance, December 31,
1998................... (31) 1,272 (9) 1,232 19,163 20,395
Comprehensive income:
Net income............. 813 813
Other comprehensive
loss, net of tax:
Change in foreign
currency translation
adjustments........... 13 13 13
Change in net
unrealized investment
gains................. (1,932) (1,932) (1,932)
Additional pension
liability adjustment.. 2 2 2
--------
Other comprehensive
loss.................. (1,917)
--------
Total comprehensive
loss................... (1,104)
------ ------- ----- ------- -------- --------
Balance, December 31,
1999................... (18) (660) (7) (685) 19,976 19,291
Comprehensive income:
Net income............. 398 398
Other comprehensive
income, net of tax:
Change in foreign
currency translation
adjustments........... (89) (89) (89)
Change in net
unrealized investment
gains................. 1,019 1,019 1,019
Additional pension
liability adjustment.. (11) (11) (11)
--------
Other comprehensive
income................ 919
--------
Total comprehensive
income................. 1,317
------ ------- ----- ------- -------- --------
Balance, December 31,
2000................... $ (107) $ 359 $ (18) $ 234 $ 20,374 $ 20,608
====== ======= ===== ======= ======== ========
|
See Notes to Consolidated Financial Statements
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Consolidated Statements of Cash Flows
Years Ended December 31, 2000, 1999 and 1998 (In Millions)
2000 1999 1998
--------- --------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................... $ 398 $ 813 $ 1,106
Adjustments to reconcile net income to net
cash provided by operating activities:
Realized investment (gains) losses, net...... 288 (915) (2,671)
Policy charges and fee income................ (57) (237) (232)
Interest credited to policyholders' account
balances.................................... 1,751 1,811 1,953
Depreciation and amortization, including
premiums and discounts...................... 507 489 337
Loss (gain) on disposal of healthcare
operations, net of taxes.................... (77) 400 223
Change in:
Deferred policy acquisition costs............ (228) (178) (174)
Future policy benefits and other insurance
liabilities................................. 1,514 788 648
Trading account assets....................... 2,524 (853) (2,540)
Income taxes payable......................... 199 933 895
Broker-dealer related receivables/payables... (388) (1,898) 1,495
Securities purchased under agreements to
resell...................................... 8,549 (3,692) (1,591)
Cash collateral for borrowed securities...... 3,266 (1,502) (575)
Cash collateral for loaned securities........ 278 3,643 (6,985)
Securities sold but not yet purchased........ (2,009) 1,197 2,122
Securities sold under agreements to
repurchase.................................. (9,588) 3,112 9,139
Other, net................................... 1,223 (3,286) (5,736)
--------- --------- ---------
Cash flows from (used in) operating
activities................................. 8,150 625 (2,586)
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from the sale/maturity of:
Fixed maturities, available for sale......... 99,971 122,790 125,694
Fixed maturities, held to maturity........... 3,266 4,957 4,466
Equity securities, available for sale........ 3,025 3,190 2,792
Mortgage loans on real estate................ 1,632 2,640 4,090
Other long-term investments.................. 2,044 2,169 3,337
Payments for the purchase of:
Fixed maturities, available for sale......... (103,086) (124,759) (128,938)
Fixed maturities, held to maturity........... (1,544) (2,414) (2,244)
Equity securities, available for sale........ (2,316) (2,779) (2,547)
Mortgage loans on real estate................ (1,334) (2,595) (3,719)
Other long-term investments.................. (1,374) (2,280) (1,873)
Short-term investments........................ (2,257) (1,138) 4,745
--------- --------- ---------
Cash flows from (used in) investing
activities................................. (1,973) (219) 5,803
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Policyholders' account deposits............... 6,507 7,667 7,949
Policyholders' account withdrawals............ (8,165) (10,594) (12,079)
Net increase (decrease) in short-term debt.... (2,678) 444 2,422
Proceeds from the issuance of long-term debt.. 638 1,844 1,940
Repayments of long-term debt.................. (1,230) (919) (418)
--------- --------- ---------
Cash flows (used in) financing activities... (4,928) (1,558) (186)
--------- --------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS.................................. 1,249 (1,152) 3,031
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR.. 6,427 7,579 4,548
--------- --------- ---------
CASH AND CASH EQUIVALENTS, END OF YEAR........ $ 7,676 $ 6,427 $ 7,579
========= ========= =========
SUPPLEMENTAL CASH FLOW INFORMATION:
Income taxes paid (received).................. $ 248 $ (344) $ 163
--------- --------- ---------
Interest paid................................. $ 1,040 $ 824 $ 864
--------- --------- ---------
|
See Notes to Consolidated Financial Statements
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
1. BUSINESS
The Prudential Insurance Company of America and its subsidiaries (collectively, "Prudential" or the "Company") provide financial services throughout the United States and in many foreign countries. The Company's businesses provide a full range of insurance, investment, securities and other financial products and services to both retail and institutional customers. Principal products and services provided include life insurance, property and casualty insurance, annuities, mutual funds, pension and retirement related investments and administration, asset management, and securities brokerage.
Demutualization
On February 10, 1998, the Board of Directors of Prudential authorized its management to take the preliminary steps necessary to permit Prudential to demutualize and become a stock company. On July 1, 1998, legislation was enacted in New Jersey that would permit the demutualization to occur and that specified the process for demutualization. On December 15, 2000, the Board of Directors of Prudential unanimously adopted a Plan of Reorganization, which provides the framework under which Prudential will convert from a mutual structure to stock ownership. Demutualization is a complex process involving development of a plan of reorganization, a public hearing, approval by two- thirds of the qualified policyholders who vote on the plan (with at least one million qualified policyholders voting) and review and approval by the New Jersey Commissioner of Banking and Insurance. Prudential is working toward completing this process in 2001. However, there is no certainty that the demutualization will be completed in this time frame or that the necessary approvals will be obtained. It is also possible that after careful review, Prudential could decide not to demutualize or could decide to delay its plans.
Prudential's management currently anticipates that Prudential's proposed plan of reorganization will include the establishment of a new holding company, Prudential Financial, Inc. ("PFI"), whose stock will be publicly traded. Prudential will become a direct or indirect wholly-owned subsidiary of PFI. Prudential's management also currently intends to propose that a corporate reorganization occur concurrently or within 30 days of the demutualization whereby the stock of various of Prudential's subsidiaries (including its property and casualty insurance companies, its principal securities brokerage companies, its international insurance companies, its principal asset management operations, and its international securities and investments, domestic banking, real estate franchise and relocation management operations), together with certain related assets and liabilities, would be dividended to PFI. If effected, the corporate reorganization can be expected to materially reduce invested assets, net income and total equity of Prudential, which would be an insurance subsidiary of PFI after the corporate reorganization, although it would have no effect on the consolidated assets, net income or total equity of PFI.
The terms of the foregoing transactions have not been finalized by Prudential or approved by the applicable regulatory authorities and may be subject to change as the transactions develop. Prudential's demutualization could proceed without any one or all of these transactions, and there is no assurance that such transactions will be pursued.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The consolidated financial statements include the accounts of The Prudential Insurance Company of America, a mutual life insurance company, its majority- owned subsidiaries, and those partnerships and joint ventures in which the Company has a controlling financial interest, except in those instances where the Company cannot exercise control because the minority owners have substantive participating rights in the operating and capital decisions of the entity. The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"). All significant intercompany balances and transactions have been eliminated.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, in particular deferred policy acquisition
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
costs ("DAC") and future policy benefits, and disclosure of contingent liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the period. Actual results could differ from those estimates.
Investments
Fixed maturities classified as "available for sale" are carried at estimated fair value. Fixed maturities that the Company has both the positive intent and ability to hold to maturity are stated at amortized cost and classified as "held to maturity." The amortized cost of fixed maturities is written down to estimated fair value when a decline in value is considered to be other than temporary. See "Realized investment gains (losses), net" below for a discussion of impairment adjustments. Unrealized gains and losses on fixed maturities "available for sale," net of income tax and the effect on deferred policy acquisition costs and future policy benefits that would result from the realization of unrealized gains and losses, are included in a separate component of equity, "Accumulated other comprehensive income (loss)."
Trading account assets and securities sold but not yet purchased are carried at estimated fair value. Realized and unrealized gains and losses on trading account assets and securities sold but not yet purchased are included in "Commissions and other income."
Equity securities, available for sale, are comprised of common and non-
redeemable preferred stock and are carried at estimated fair value. The
associated unrealized gains and losses, net of income tax and the effect on
deferred policy acquisition costs and future policy benefits that would result
from the realization of unrealized
gains and losses, are included in a separate component of equity, "Accumulated
other comprehensive income (loss)." See "Realized investment gains (losses),
net" below for a discussion of impairment adjustments.
Mortgage loans on real estate are stated primarily at unpaid principal balances, net of unamortized discounts and an allowance for losses. The allowance for losses includes a loan specific reserve for impaired loans and a portfolio reserve for incurred but not specifically identified losses. Impaired loans include those loans for which it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected. Impaired loans are measured at the present value of expected future cash flows discounted at the loan's effective interest rate, or at the fair value of the collateral if the loan is collateral dependent. Interest received on impaired loans, including loans that were previously modified in a troubled debt restructuring, is either applied against the principal or reported as revenue, according to management's judgment as to the collectibility of principal. Management discontinues accruing interest on impaired loans after the loans are 90 days delinquent as to principal or interest, or earlier when management has serious doubts about collectibility. When a loan is recognized as impaired, any accrued but uncollectible interest is reversed against interest income of the current period. Generally, a loan is restored to accrual status only after all delinquent interest and principal are brought current and, in the case of loans where the payment of interest has been interrupted for a substantial period, a regular payment performance has been established. The portfolio reserve for incurred but not specifically identified losses considers the Company's past loan loss experience, the current credit composition of the portfolio, historical credit migration, property type diversification, default and loss severity statistics and other relevant factors.
Policy loans are carried at unpaid principal balances.
Securities purchased under agreements to resell and securities sold under agreements to repurchase are treated as financing arrangements and are carried at the amounts at which the securities will be subsequently resold or reacquired, including accrued interest, as specified in the respective agreements. The Company's policy is to take possession or control of securities purchased under agreements to resell. Assets to be repurchased are the same, or substantially the same, as the assets transferred and the transferor, through right of substitution, maintains the right and ability to redeem the collateral on short notice. The market value of securities to be repurchased or resold is monitored, and additional collateral is obtained, where appropriate, to protect against credit exposure.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Securities borrowed and securities loaned are treated as financing arrangements and are recorded at the amount of cash advanced or received. With respect to securities loaned, the Company obtains collateral in an amount equal to 102% and 105% of the fair value of the domestic and foreign securities, respectively. The Company monitors the market value of securities borrowed and loaned on a daily basis with additional collateral obtained as necessary. Non-cash collateral received is not reflected in the consolidated statements of financial position because the debtor typically has the right to redeem the collateral on short notice. Substantially all of the Company's securities borrowed contracts are with other brokers and dealers, commercial banks and institutional clients. Substantially all of the Company's securities loaned are with large brokerage firms.
Securities repurchase and resale agreements and securities borrowed and loaned transactions are used to generate net investment income and facilitate trading activity. These instruments are short-term in nature (usually 30 days or less) and are collateralized principally by U.S. Government and mortgage- backed securities. The carrying amounts of these instruments approximate fair value because of the relatively short period of time between the origination of the instruments and their expected realization.
Other long-term investments primarily represent the Company's investments in joint ventures and partnerships in which the Company does not exercise control. Other long-term investments also include investments in the Company's own separate accounts, which are carried at estimated fair value, investment real estate and derivatives held for purposes other than trading. Joint venture and partnership interests are generally accounted for using the equity method of accounting, reduced for other than temporary declines in value, except in instances in which the Company's interest is so minor that it exercises virtually no influence over operating and financial policies. In such instances, the Company applies the cost method of accounting. The Company's net income from investments in joint ventures and partnerships is generally included in "Net investment income." However, for certain real estate joint ventures, Prudential's interest is liquidated by means of one or more transactions that result in the sale of the underlying invested assets to third parties and the ultimate distribution of the proceeds to Prudential and other joint venture partners in exchange for and settlement of the respective joint venture interests. These transactions are accounted for as disposals of Prudential's joint venture interests and the resulting gains and losses are included in "Realized investment gains (losses), net."
Real estate held for disposal is carried at the lower of depreciated cost or fair value less estimated selling costs and is not further depreciated once classified as such. Real estate which the Company has the intent to hold for the production of income is carried at depreciated cost less any write-downs to fair value for impairment losses and is reviewed for impairment whenever events or circumstances indicate that the carrying value may not be recoverable. An impairment loss is recognized when the review indicates that the carrying value of the investment real estate exceeds the estimated undiscounted future cash flows (excluding interest charges) from the investment. At that time, the carrying value of the investment real estate is written down to fair value. Depreciation on real estate held for the production of income is computed using the straight-line method over the estimated lives of the properties, and is included in "Net investment income."
Short-term investments, including highly liquid debt instruments, other than those held in "Cash and cash equivalents," with a maturity of twelve months or less when purchased, are carried at amortized cost, which approximates fair value.
Realized investment gains (losses), net are computed using the specific identification method. Costs of fixed maturities and equity securities are adjusted for impairments considered to be other than temporary. Impairment adjustments are included in "Realized investment gains (losses), net." Factors considered in evaluating whether a decline in value is other than temporary are: 1) whether the decline is substantial; 2) the Company's ability and intent to retain the investment for a period of time sufficient to allow for an anticipated recovery in value; 3) the duration and extent to which the market value has been less than cost; and 4) the financial condition and near- term prospects of the issuer. Allowances for losses on mortgage loans on real estate are netted against asset categories to which they apply and provisions for losses on investments are included in "Realized investment gains (losses), net." Decreases in the carrying value of investment real estate held for disposal or for the production of income are recorded in "Realized investment gains (losses), net."
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Cash and Cash Equivalents
Cash and cash equivalents include cash on hand, amounts due from banks, money market instruments and other debt issues with a maturity of three months or less when purchased.
Deferred Policy Acquisition Costs
The costs that vary with and that are related primarily to the production of new insurance and annuity business are deferred to the extent such costs are deemed recoverable from future profits. Such costs include commissions, costs of policy issuance and underwriting, and variable field office expenses. Deferred policy acquisition costs are subject to recognition testing at the time of policy issue and recoverability and premium deficiency testing at the end of each accounting period. Deferred policy acquisition costs, for certain products, are adjusted for the impact of unrealized gains or losses on investments as if these gains or losses had been realized, with corresponding credits or charges included in "Accumulated other comprehensive income (loss)."
For participating life insurance, deferred policy acquisition costs are amortized over the expected life of the contracts (up to 45 years) in proportion to estimated gross margins based on historical and anticipated future experience, which is updated periodically. The average rate of assumed future investment yield used in estimating expected gross margins was 7.83% at December 31, 2000. The effect of changes in estimated gross margins on unamortized deferred acquisition costs is reflected in "General and administrative expenses" in the period such estimated gross margins are revised. Policy acquisition costs related to interest-sensitive and variable life products and certain investment-type products are deferred and amortized over the expected life of the contracts (periods ranging from 7 to 30 years) in proportion to estimated gross profits arising principally from investment results, mortality and expense margins, and surrender charges based on historical and anticipated future experience, which is updated periodically. The effect of changes to estimated gross profits on unamortized deferred acquisition costs is reflected in "General and administrative expenses" in the period such estimated gross profits are revised. Deferred policy acquisition costs related to non-participating term insurance are amortized over the expected life of the contracts in proportion to premium income.
The Company has offered programs under which policyholders, for a selected product or group of products, can exchange an existing policy or contract issued by the Company for another form of policy or contract. These transactions are known as internal replacements. If policyholders surrender traditional life insurance policies in exchange for life insurance policies that do not have fixed and guaranteed terms, the Company immediately charges to expense the remaining unamortized DAC on the surrendered policies. For other internal replacement transactions, the unamortized DAC on the surrendered policies is immediately charged to expense if the terms of the new policies are not substantially similar to those of the former policies. If the new policies have terms that are substantially similar to those of the earlier policies, the DAC is retained with respect to the new policies and amortized over the life of the new policies.
For property and casualty insurance contracts, deferred policy acquisition costs are amortized over the period in which related premiums are earned. Future investment income is considered in determining the recoverability of deferred policy acquisition costs.
For group life and disability insurance, group annuities and guaranteed investment contracts, acquisition costs are expensed as incurred.
Separate Account Assets and Liabilities
Separate account assets and liabilities are reported at estimated fair value and represent segregated funds which are invested for certain policyholders, pension funds and other customers. The assets consist of common stocks, fixed maturities, real estate related securities, real estate mortgage loans and short-term investments. The assets of each account are legally segregated and are generally not subject to claims that arise out of any other business of the Company. Investment risks associated with market value changes are borne by the customers, except to the extent of minimum guarantees made by the Company with respect to certain accounts. The investment income and gains or losses for separate accounts generally accrue to the policyholders and are not
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
included in the Consolidated Statements of Operations. Mortality, policy administration and surrender charges on the accounts are included in "Policy charges and fee income." Asset management fees charged to the accounts are included in "Commissions and other income."
Other Assets and Other Liabilities
Other assets consist primarily of prepaid benefit costs, reinsurance recoverables, certain restricted assets, trade receivables, mortgage securitization inventory and mortgage servicing rights, and property and equipment. During the year, the Company sold $15 billion of commercial mortgage loans and other securities in securitization transactions. In some of the commercial loan securitizations, the Company retained servicing responsibilities. The Company did not retain any material ownership interest in the financial assets that were transferred. The Company recognized pretax losses of $6 million (including related hedge activity) in connection with securitization activity which are recorded in "Commissions and other income." At December 31, 2000, the mortgage servicing portfolio totaled $14 billion and related mortgage servicing assets were $111 million. Property and equipment are stated at cost less accumulated depreciation. Depreciation is determined using the straight-line method over the estimated useful lives of the related assets which generally range from 3 to 40 years. Other liabilities consist primarily of trade payables, employee benefit liabilities, and reserves for sales practices remedies and costs.
Contingencies
Amounts related to contingencies are accrued if it is probable that a liability has been incurred and an amount is reasonably estimable. Management evaluates whether there are incremental legal or other costs directly associated with the ultimate resolution of the matter that are reasonably estimable and, if so, they are included in the accrual.
Policyholders' Dividends
The amount of the dividends to be paid to policyholders is determined annually by the Company's Board of Directors. The aggregate amount of policyholders' dividends is based on the Company's statutory results and past experience, including investment income, net realized investment gains or losses over a number of years, mortality experience and other factors.
Insurance Revenue and Expense Recognition
Premiums from participating insurance policies are recognized when due. Benefits are recorded as an expense when they are incurred. A liability for future policy benefits is recorded when premiums are recognized using the net level premium method.
Premiums from non-participating group annuities with life contingencies are recognized when due. For single premium immediate annuities and structured settlements with life contingencies, premiums are recognized when due with any excess profit deferred and recognized in a constant relationship to the amount of expected future benefit payments.
Amounts received as payment for interest-sensitive life contracts, deferred annuities, structured settlements, contracts without life contingencies and participating group annuities are reported as deposits to "Policyholders' account balances." Revenues from these contracts are reflected in "Policy charges and fee income" and consist primarily of fees assessed during the period against the policyholders' account balances for mortality charges, policy administration charges and surrender charges. Benefits and expenses for these products include claims in excess of related account balances, expenses of contract administration, interest credited and amortization of deferred policy acquisition costs.
For group life and disability insurance, and property and casualty insurance, premiums are recognized over the period to which the premiums relate in proportion to the amount of insurance protection provided. Claim and claim adjustment expenses are recognized when incurred.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Premiums, benefits and expenses are stated net of reinsurance ceded to other companies. Estimated reinsurance receivables and the cost of reinsurance are recognized over the life of the reinsured policies using assumptions consistent with those used to account for the underlying policies.
Foreign Currency Translation Adjustments
Assets and liabilities of foreign operations and subsidiaries reported in
other than U.S. dollars are translated at the exchange rate in effect at the
end of the period. Revenues, benefits and other expenses are translated at the
average rate prevailing during the period. The effects of translating the
statements of financial position of non-U.S. entities with functional
currencies other than the U.S. dollar are included, net of related hedge gains
and losses and income taxes, in "Accumulated other comprehensive income
(loss)," a separate component of equity.
Commissions and Other Income
Commissions and other income principally includes securities and commodities commission revenues and asset management fees which are recognized in the period in which the services are performed. Realized and unrealized gains from trading activities of the Company's securities business are also included in "Commissions and other income."
Derivative Financial Instruments
Derivatives are financial instruments whose values are derived from interest rates, foreign exchange rates, financial indices, or the value of securities or commodities. Derivative financial instruments used by the Company include swaps, futures, forwards and option contracts and may be exchange-traded or contracted in the over-the-counter market. The Company uses derivative financial instruments to seek to reduce market risk from changes in interest rates or foreign currency exchange rates and to alter interest rate or currency exposures arising from mismatches between assets and liabilities. Additionally, derivatives are used in the Company's broker-dealer operations and in a limited-purpose subsidiary for trading purposes.
To qualify for hedge accounting treatment, derivatives must be designated as hedges for existing assets, liabilities, firm commitments or anticipated transactions which are identified and probable to occur, and effective in reducing the market risk to which the Company is exposed. The effectiveness of the derivatives is evaluated at the inception of the hedge and throughout the hedge period.
Derivatives held for trading purposes are used in the Company's securities operations and in a limited-purpose subsidiary primarily to meet the needs of customers by structuring transactions that allow customers to manage their exposure to interest rates, foreign exchange rates, indices or prices of securities and commodities. Trading derivative positions are valued daily, generally by obtaining quoted market prices or through the use of pricing models. Values are affected by changes in interest rates, currency exchange rates, credit spreads, market volatility and liquidity. The Company monitors these exposures through the use of various analytical techniques.
Derivatives held for trading purposes are included at fair value in "Trading account assets," "Other liabilities" or "Broker-dealer related receivables/payables" in the Consolidated Statements of Financial Position, and realized and unrealized changes in fair value are included in "Commissions and other income" of the Consolidated Statements of Operations in the periods in which the changes occur. Cash flows from trading derivatives are reported in the operating activities section of the Consolidated Statements of Cash Flows.
Derivatives held for purposes other than trading are primarily used to seek to reduce exposure to interest rate and foreign currency risks associated with assets held or expected to be purchased or sold, and liabilities incurred or expected to be incurred. Additionally, other than trading derivatives are used to change the characteristics of the Company's asset/liability mix as part of the Company's risk management activities.
See Note 15 for a discussion of the accounting treatment of derivatives that qualify for hedge accounting treatment. If the Company's use of other than trading derivatives does not meet the criteria to apply hedge accounting, the derivatives are recorded at fair value in "Other long-term investments" or "Other liabilities" in
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
the Consolidated Statements of Financial Position, and changes in their fair value are included in "Realized investment gains (losses), net" without considering changes in fair value of the hedged assets or liabilities. Cash flows from other than trading derivatives are reported in the investing activities section in the Consolidated Statements of Cash Flows.
Income Taxes
The Company and its domestic subsidiaries file a consolidated federal income tax return. The Internal Revenue Code (the "Code") limits the amount of non- life insurance losses that may offset life insurance company taxable income. The Code also imposes an "equity tax" on mutual life insurance companies which, in effect, imputes an additional tax to the Company based on a formula that calculates the difference between stock and mutual life insurance companies' earnings. The provision for income taxes includes an estimate for changes in the total equity tax to be paid for current and prior years. Subsidiaries operating outside the United States are taxed under applicable foreign statutes.
Deferred income taxes are recognized, based on enacted rates, when assets and liabilities have different values for financial statement and tax reporting purposes. A valuation allowance is recorded to reduce a deferred tax asset to that amount that is expected to be realized.
Demutualization Expenses
Demutualization expenses include the cost of engaging external accounting, actuarial, investment banking, legal and other consultants to advise the Company, the New Jersey Department of Banking and Insurance and the New York Department of Insurance in the demutualization process and related matters as well as other administrative costs. Future demutualization expenses will also include the cost of printing and postage for communications with policyholders and the payment of demutualization consideration to former Canadian branch policyholders.
New Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities" and, in June 2000, SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities--an amendment of FASB Statement No. 133". SFAS No. 133, as amended by SFAS No. 138 (collectively, "SFAS No. 133"), requires that companies recognize all derivatives as either assets or liabilities in the balance sheet and measure those instruments at fair value. SFAS No. 133 does not apply to most traditional insurance contracts. However, certain hybrid contracts that contain features which may affect settlement amounts similarly to derivatives may require separate accounting for the "host contract" and the underlying "embedded derivative" provisions. The latter provisions would be accounted for as derivatives as specified by the statement.
SFAS No. 133 provides, if certain conditions are met, that a derivative may be specifically designated as (1) a hedge of the exposure to changes in the fair value of a recognized asset or liability or an unrecognized firm commitment (fair value hedge), (2) a hedge of the exposure to variable cash flows of a forecasted transaction (cash flow hedge), or (3) a hedge of the foreign currency exposure of a net investment in a foreign operation, an unrecognized firm commitment, an available-for-sale security or a foreign- currency-denominated forecasted transaction (foreign currency hedge). Under SFAS No. 133, the accounting for changes in fair value of a derivative depends on its intended use and designation. For a fair value hedge, the gain or loss is recognized in earnings in the period of change together with the offsetting loss or gain on the hedged item. For a cash flow hedge, the effective portion of the derivative's gain or loss is initially reported as a component of other comprehensive income and subsequently reclassified into earnings when the forecasted transaction affects earnings. For a foreign currency hedge of a net investment in a foreign subsidiary, the gain or loss is reported in other comprehensive income as part of the foreign currency translation adjustment. The accounting for a fair value hedge described above applies to a derivative designated as a hedge of the foreign currency exposure of a recognized asset or liability, an unrecognized firm commitment or an available-for-sale security. Similarly, the
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
accounting for a cash flow hedge described above applies to a derivative designated as a hedge of the foreign currency exposure to variability in the foreign-currency-equivalent cash flows associated with a forecasted transaction, a recognized asset or liability, an unrecognized firm commitment, or a forecasted intercompany transaction. For all other derivatives not designated as hedging instruments, the gain or loss is recognized in earnings in the period of change.
The Company adopted SFAS No. 133, as amended, as of January 1, 2001. The adoption of this statement did not have a material impact on the results of operations of the Company. As part of the implementation, the Company reclassified certain held-to-maturity securities, amounting to approximately $12.1 billion at January 1, 2001, to the available-for-sale category. This reclassification resulted in the recognition of a net unrealized gain of $94 million, net of tax, which was recorded as a component of "Accumulated other comprehensive income (loss)" on the implementation date. As permitted under SFAS No. 133, the Company has elected to select January 1, 1999 as the transition date for embedded derivatives. Accordingly, only those derivatives embedded in hybrid contracts issued, acquired, or substantively modified by the Company on or after this date will be separated from their host contracts and separately recognized as assets and liabilities.
In September 2000, the FASB issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities--a replacement of FASB Statement No. 125". The Company is currently evaluating the effect of adopting the provisions of SFAS No. 140 relating to transfers and extinguishments of liabilities which are effective for periods occurring after March 31, 2001. The Company has adopted in these financial statements disclosures about securitizations and collateral and for recognition and reclassification of collateral required under the statement for fiscal years ending after December 15, 2000.
In December 2000, the American Institute of Certified Public Accountants ("AICPA") issued Statement of Position 00-3, "Accounting by Insurance Enterprises for Demutualizations and Formations of Mutual Insurance Holding Companies and For Certain Long-Duration Participating Contracts" ("SOP 00-3"). SOP 00-3 addresses financial statement presentation and accounting for certain participating policies after demutualization, accounting for demutualization expenses, and accounting for retained earnings and other comprehensive income at the date of the demutualization. The Company has adopted the provisions of the statement related to demutualization expenses in these financial statements (See "Demutualization Expenses" above). The Company will adopt the remaining provisions of SOP 00-3 upon demutualization and is currently assessing the effect that the statement will have on its results of operations.
In December 1999, the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" ("SAB No. 101"). SAB No. 101 provides guidance for revenue recognition and related disclosure in the financial statements. The Company adopted SAB No. 101, and its related interpretations, as of October 1, 2000. The adoption of SAB No. 101 did not have a material effect on the Company's financial position or results of operations.
Reclassifications
Certain amounts in prior years have been reclassified to conform to the current year presentation.
3. DISCONTINUED OPERATIONS
In December 1998, the Company entered into a definitive agreement to sell its healthcare business to Aetna, Inc. ("Aetna"). The sale was completed on August 6, 1999. The healthcare business is reported as discontinued operations in the accompanying consolidated financial statements, with a measurement date of December 31, 1998.
Proceeds from the sale were $500 million of cash, $500 million of Aetna three-year senior notes and stock appreciation rights covering one million shares of Aetna common stock, valued at approximately $30 million at the date of closing. The aggregate loss on disposal of $546 million, net of taxes, includes operating losses of the healthcare business subsequent to December 31, 1998 (the measurement date) through the date of the sale, as well as other costs in connection with the disposition of the business. These include facilities closure and systems
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
3. DISCONTINUED OPERATIONS (continued)
termination costs, severance and termination benefits, payments to Aetna related to the Administrative Services Only business and payments in connection with a medical loss ratio agreement ("the MLR Agreement"). The MLR Agreement provided for payments to Aetna in the event that the medical loss ratios (i.e., incurred medical expense divided by earned premiums) of the sold businesses were less favorable than levels specified in the MLR Agreement for the years 1999 and 2000. The Company retained all liabilities associated with litigation which existed at August 6, 1999 or commences within two years of that date with respect to claims that were incurred prior to August 6, 1999. The loss on disposal includes management's best estimate of the cost of the ultimate resolution of such litigation as well as the cost of resolving certain matters pertaining to contractual and regulatory requirements (see Note 17 for a discussion of such matters). It is possible that additional adjustments to this estimate may be necessary which might be material to future results of operations of a particular quarterly or annual period. The loss also includes the positive impact of the net curtailment gains from expected modifications of certain pension and other postretirement benefit plans in which employees of the healthcare business participated (see Note 10).
The following table presents the results of the Company's healthcare business up to the December 31, 1998 measurement date and the loss on disposal determined as of the measurement date and subsequently adjusted, which are included in "Discontinued Operations" in the Consolidated Statements of Operations.
2000 1999 1998
----- ----- -------
(In Millions)
Revenues.............................................. $ -- $ -- $ 7,461
Policyholder benefits................................. -- -- (6,064)
General and administrative expenses................... -- -- (1,822)
----- ----- -------
Loss before income taxes.............................. -- -- (425)
Income tax benefit.................................... -- -- 127
----- ----- -------
Loss from operations.................................. -- -- (298)
Gain (loss) on disposal, net of tax expense of $44 in
2000 and tax benefits of $240 in 1999 and $131 in
1998................................................. 77 (400) (223)
----- ----- -------
Gain (loss) from discontinued operations, net of
taxes................................................ $ 77 $(400) $ (521)
===== ===== =======
|
The loss on disposal recorded in 1998 ($223 million, net of taxes) was increased in 1999 (by $400 million, net of taxes) primarily as a result of higher than anticipated healthcare operating losses prior to the August 6, 1999 closing date and an increase in the Company's estimated obligation under the MLR Agreement. Actual pretax losses of $370 million during that period exceeded the original estimate of $160 million. In 2000, upon the completion of the period covered by the MLR Agreement and taking into consideration other costs incurred compared with those estimated in 1998 and 1999, the Company reduced the loss on disposal by $77 million, net of taxes.
Upon the closing of the sale of the healthcare business, the Company entered into a coinsurance agreement with Aetna. The agreement is 100% indemnity reinsurance on a coinsurance basis for all of the Company's insured medical and dental business in-force upon completion of the sale of the business on August 6, 1999. The agreement required the Company to issue additional policies for new customers in response to proposals made to brokers or customers within six months after the closing date and to renew insurance policies until two years after the closing date. All such additional new and renewal policies are 100% coinsured by Aetna, when issued. The purpose of the agreement is to provide for the uninterrupted operation and growth, including renewals of existing policies and issuance of new policies, of the healthcare business that Aetna acquired from Prudential. The operation of the business and the attendant risks, except for the existence of the MLR Agreement, were assumed entirely by Aetna. Consequently, the following amounts pertaining to the agreement had no effect on the Company's results of operations. The Company ceded premiums and benefits of $1,872 million and $1,418 million, respectively, for the twelve months ended December 31, 2000. Premiums and benefits ceded for the period from August 6, 1999 through December 31, 1999 were $896 million and $757 million, respectively. Reinsurance recoverable under this agreement, included in other assets, was $355 million at December 31, 2000 and $500 million at December 31, 1999.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
4. CAPITAL MARKETS RESTRUCTURING
In the fourth quarter of 2000, Prudential Securities Group exited the lead- managed equity underwriting for corporate issuers and institutional fixed income businesses. Exiting these businesses will result in staff reductions of approximately 700 positions, including investment bankers, traders, analysts and other professional and support staff.
Results for 2000 include a pretax charge of $476 million in connection with the restructuring, which is presented as "Capital markets restructuring" in the Consolidated Statements of Operations. The charge includes $213 million for employee related costs, consisting largely of severance and termination benefits. The charge also includes the write-off of $140 million of goodwill previously recorded in connection with investment banking acquisitions. Remaining charges of $123 million consist of lease termination payments and other facility exit costs, including office equipment and leasehold improvements write-downs, and other related costs.
As of December 31, 2000, approximately 350 employees had been terminated in connection with the restructuring and remaining reserves for capital markets restructuring costs were $286 million, including $176 million for employee related costs.
See Note 16, Segment Information, for information pertaining to the operating results of these exited businesses.
5. INVESTMENTS
Fixed Maturities and Equity Securities
The following tables provide additional information relating to fixed maturities and equity securities (excluding trading account assets) as of December 31,
2000
-----------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ---------
(In Millions)
Fixed maturities available for
sale
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies........ $ 7,068 $ 358 $ 2 $ 7,424
Obligations of U.S. states and
their political subdivisions..... 3,012 164 3 3,173
Foreign government bonds.......... 4,457 228 38 4,647
Corporate securities.............. 62,066 1,205 1,374 61,897
Mortgage-backed securities........ 6,512 188 14 6,686
------- ------ ------ -------
Total fixed maturities available
for sale......................... $83,115 $2,143 $1,431 $83,827
======= ====== ====== =======
Equity securities available for
sale............................. $ 2,266 $ 239 $ 188 $ 2,317
======= ====== ====== =======
2000
-----------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ---------
(In Millions)
Fixed maturities held to maturity
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies........ $ 7 $ -- $ -- $ 7
Obligations of U.S. states and
their political subdivisions..... 40 1 1 40
Foreign government bonds.......... 193 13 -- 206
Corporate securities.............. 12,208 343 189 12,362
------- ------ ------ -------
Total fixed maturities held to
maturity......................... $12,448 $ 357 $ 190 $12,615
======= ====== ====== =======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
5. INVESTMENTS (continued)
1999
-----------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ---------
(In Millions)
Fixed maturities available for
sale
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies........ $ 5,594 $ 36 $ 236 $ 5,394
Obligations of U.S. states and
their political subdivisions..... 2,437 41 118 2,360
Foreign government bonds.......... 4,590 140 90 4,640
Corporate securities.............. 62,061 580 2,432 60,209
Mortgage-backed securities........ 6,566 96 135 6,527
------- ------- ------- -------
Total fixed maturities available
for sale......................... $81,248 $ 893 $ 3,011 $79,130
======= ======= ======= =======
Equity securities available for
sale............................. $ 2,531 $ 829 $ 96 $ 3,264
======= ======= ======= =======
1999
-----------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ---------
(In Millions)
Fixed maturities held to maturity
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies........ $ 5 $ -- $ -- $ 5
Obligations of U.S. states and
their political subdivisions..... 81 1 3 79
Foreign government bonds.......... 214 11 1 224
Corporate securities.............. 13,937 280 413 13,804
------- ------- ------- -------
Total fixed maturities held to
maturity......................... $14,237 $ 292 $ 417 $14,112
======= ======= ======= =======
The amortized cost and estimated fair value of fixed maturities by
contractual maturities at December 31, 2000, is shown below:
Available for Sale Held to Maturity
-------------------- --------------------
Estimated Estimated
Amortized Fair Amortized Fair
Cost Value Cost Value
--------- ---------- ---------- ---------
(In Millions) (In Millions)
Due in one year or less........... $ 9,169 $ 9,191 $ 713 $ 717
Due after one year through five
years............................ 18,412 18,492 3,477 3,490
Due after five years through ten
years............................ 19,396 19,441 4,804 4,846
Due after ten years............... 29,626 30,017 3,454 3,562
Mortgage-backed securities........ 6,512 6,686 -- --
------- ------- ------- -------
Total............................ $83,115 $83,827 $12,448 $12,615
======= ======= ======= =======
|
Actual maturities may differ from contractual maturities because issuers have the right to call or prepay obligations.
Proceeds from the repayment of held to maturity fixed maturities during 2000, 1999 and 1998 were $3,266 million, $4,957 million, and $4,466 million, respectively. Gross gains of $8 million, $73 million, and $135 million, and gross losses of $0 million, $0 million, and $2 million were realized on prepayment of held to maturity fixed maturities during 2000, 1999 and 1998, respectively.
Proceeds from the sale of available for sale fixed maturities during 2000, 1999 and 1998 were $93,653 million, $117,685 million and $119,524 million, respectively. Proceeds from the maturity of available for sale
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
5. INVESTMENTS (continued)
fixed maturities during 2000, 1999 and 1998 were $6,318 million, $5,105 million and $6,170 million, respectively. Gross gains of $909 million, $884 million and $1,765 million, and gross losses of $1,408 million, $1,231 million and $443 million were realized on sales and prepayments of available for sale fixed maturities during 2000, 1999 and 1998, respectively.
Write-downs for impairments which were deemed to be other than temporary for fixed maturities were $540 million, $266 million and $96 million, and for equity securities were $34 million, $205 million and $95 million for the years 2000, 1999 and 1998, respectively.
During the years ended December 31, 2000, 1999 and 1998, certain securities classified as held to maturity were either sold or transferred to the available for sale portfolio. These actions were taken as a result of a significant deterioration in creditworthiness. The aggregate amortized cost of the securities sold or transferred was $133 million in 2000, $230 million in 1999 and $73 million in 1998. Gross unrealized investment losses of $4 million in 2000, $5 million in 1999 and $.4 million in 1998 were recorded in "Accumulated other comprehensive income (loss)" at the time of the transfer. Realized gains on securities sold were $0 million, $3 million and $0 million in 2000, 1999 and 1998, respectively.
Mortgage Loans on Real Estate
The Company's mortgage loans were collateralized by the following property types at December 31,
2000 1999
--------------- ---------------
Amount Amount
(In % of (In % of
Millions) Total Millions) Total
--------- ----- --------- -----
Office buildings.......................... $ 3,727 23.1% $ 3,960 24.1%
Retail stores............................. 2,465 15.3% 2,627 15.9%
Residential properties.................... 713 4.4% 662 4.0%
Apartment complexes....................... 4,455 27.6% 4,508 27.3%
Industrial buildings...................... 2,331 14.4% 2,161 13.1%
Agricultural properties................... 1,856 11.5% 1,959 11.9%
Other..................................... 597 3.7% 612 3.7%
------- ----- ------- -----
Subtotal................................. 16,144 100.0% 16,489 100.0%
===== =====
Allowance for losses...................... (225) (221)
------- -------
Net carrying value........................ $15,919 $16,268
======= =======
|
The mortgage loans are geographically dispersed throughout the United States and Canada with the largest concentrations in California (24.0%) and New York (10.7%) at December 31, 2000.
Activity in the allowance for losses for all mortgage loans, for the years ended December 31, is summarized as follows:
2000 1999 1998
---- ----- ----
(In Millions)
Allowance for losses, beginning of year................... $221 $ 427 $450
Increase (decrease) in allowance for losses............... 17 (201) --
Charge-offs, net of recoveries............................ (13) (5) (23)
---- ----- ----
Allowance for losses, end of year......................... $225 $ 221 $427
==== ===== ====
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
5. INVESTMENTS (continued)
Impaired mortgage loans identified in management's specific review of probable loan losses and the related allowance for losses at December 31, are as follows:
2000 1999
------ ------
(In Millions)
Impaired mortgage loans with allowance for losses............ $192 $411
Impaired mortgage loans with no allowance for losses......... 247 283
Allowance for losses, end of year............................ (35) (24)
------ ------
Net carrying value of impaired mortgage loans................ $404 $670
====== ======
|
Impaired mortgage loans with no allowance for losses are loans in which the fair value of the collateral or the net present value of the loans' expected future cash flows equals or exceeds the recorded investment. The average recorded investment in impaired loans before allowance for losses was $565 million, $884 million and $1,329 million during 2000, 1999 and 1998, respectively. Net investment income recognized on these loans totaled $37 million, $55 million and $94 million for the years ended December 31, 2000, 1999 and 1998, respectively.
Restricted Assets and Special Deposits
Assets of $2,538 million and $4,463 million at December 31, 2000 and 1999, respectively, were on deposit with governmental authorities or trustees as required by certain insurance laws. Additionally, assets valued at $1,227 million and $2,342 million at December 31, 2000 and 1999, respectively, were held in voluntary trusts. Of these amounts, $470 million and $1,553 million at December 31, 2000 and 1999, respectively, related to the multi-state policyholder settlement described in Note 17. The remainder relates to trusts established to fund guaranteed dividends to certain policyholders and to fund certain employee benefits. Assets valued at $48 million and $128 million at December 31, 2000 and 1999, respectively, were pledged as collateral for bank loans and other financing agreements. Letter stock or other securities restricted as to sale amounted to $779 million in 2000 and $673 million in 1999. Restricted cash and securities of $2,196 million and $4,082 million at December 31, 2000 and 1999, respectively, were included in the Consolidated Statements of Financial Position in "Other assets." The restricted cash represents funds deposited by clients and funds accruing to clients as a result of trades or contracts.
Other Long-Term Investments
The Company's "Other long-term investments" include investments in joint ventures and limited partnerships of $2,391 million and $1,947 million as of December 31, 2000 and 1999, respectively. These investments include $1,363 million and $1,002 million in real estate related interests and $1,028 million and $945 million in non-real estate related interests. The Company's share of net income from such entities was $187 million, $217 million and $223 million for 2000, 1999 and 1998, respectively, and is reported in "Net investment income."
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
5. INVESTMENTS (continued)
Summarized combined financial information for joint ventures and limited partnership interests accounted for under the equity method, in which the Company has an investment of $10 million or greater and an equity interest of 10% or greater, is as follows:
As of
December 31,
-------------
2000 1999
------ ------
(In Millions)
STATEMENTS OF FINANCIAL POSITION
Investments in real estate.................................... $ 638 $1,253
Investments in securities..................................... 1,427 1,398
Cash and cash equivalents..................................... 99 98
Other assets.................................................. 43 75
------ ------
Total assets.................................................. $2,207 $2,824
====== ======
Borrowed funds-third party.................................... $ 90 $ 81
Other liabilities............................................. 142 87
------ ------
Total liabilities............................................. 232 168
------ ------
Partners' capital............................................. 1,975 2,656
------ ------
Total liabilities and partners' capital....................... $2,207 $2,824
====== ======
Equity in partners' capital included above.................... $ 467 $ 657
Equity in limited partnership interests not included above.... 1,924 1,290
------ ------
Carrying value................................................ $2,391 $1,947
====== ======
|
For the years
ended
December 31,
------------------
2000 1999 1998
---- ----- -----
(In Millions)
STATEMENTS OF OPERATIONS
Income of real estate joint ventures................... $112 $ 108 $ 110
Income of other limited partnership interests.......... 149 514 366
Interest expense-third party........................... (4) (4) (1)
Other expenses......................................... (29) (105) (209)
---- ----- -----
Net earnings........................................... $228 $ 513 $ 266
==== ===== =====
Equity in net earnings included above.................. $ 70 $ 125 $ 59
Equity in net earnings of limited partnership interests
not included above.................................... 117 92 164
---- ----- -----
Total equity in net earnings........................... $187 $ 217 $ 223
==== ===== =====
|
"Other long-term investments" also includes investments in the Company's separate accounts of $1,077 million and $1,040 million, investment real estate of $239 million and $322 million which is held through direct ownership and other miscellaneous investments of $752 million and $1,548 million at December 31, 2000 and 1999, respectively. Of the Company's real estate, $181 million and $293 million consists of commercial and agricultural assets held for disposal at December 31, 2000 and 1999, respectively. Impairment losses were $0 million, $3 million and $8 million for the years ended December 31, 2000, 1999 and 1998, respectively, and are included in "Realized investment gains (losses), net."
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
5. INVESTMENTS (continued)
Investment Income and Investment Gains and Losses
Net investment income arose from the following sources for the years ended December 31:
2000 1999 1998
------- ------- -------
(In Millions)
Fixed maturities--available for sale............. $ 5,938 $ 5,602 $ 5,464
Fixed maturities--held to maturity............... 1,028 1,217 1,406
Trading account assets........................... 734 622 677
Equity securities--available for sale............ 67 63 54
Mortgage loans on real estate.................... 1,370 1,401 1,525
Policy loans..................................... 478 448 410
Securities purchased under agreements to resell.. 28 25 18
Broker-dealer related receivables................ 1,222 976 836
Short-term investments........................... 683 490 627
Other investment income.......................... 479 455 660
------- ------- -------
Gross investment income.......................... 12,027 11,299 11,677
Less investment expenses......................... (2,530) (1,881) (2,116)
------- ------- -------
Subtotal........................................ 9,497 9,418 9,561
Less amount relating to discontinued operations.. -- (51) (107)
------- ------- -------
Net investment income............................ $ 9,497 $ 9,367 $ 9,454
======= ======= =======
Realized investment gains (losses), net, for the years ended December 31,
were from the following sources:
2000 1999 1998
------- ------- -------
(In Millions)
Fixed maturities................................. $(1,066) $ (557) $ 1,381
Equity securities--available for sale............ 450 223 427
Mortgage loans on real estate.................... (5) 209 22
Investment real estate........................... 49 106 642
Joint ventures and limited partnerships.......... 124 656 454
Derivatives...................................... 165 305 (263)
Other............................................ (5) (27) 8
------- ------- -------
Subtotal........................................ (288) 915 2,671
Less amount related to discontinued operations... -- 9 (30)
------- ------- -------
Realized investment gains (losses), net.......... $ (288) $ 924 $ 2,641
======= ======= =======
|
The "joint ventures and limited partnerships" category includes net realized investment gains relating to real estate joint ventures' and partnerships' sales of their underlying invested assets, as described more fully in Note 2, "Other long-term investments," amounting to $91 million, $114 million and $177 million in 2000, 1999 and 1998, respectively.
Based on the carrying value, assets categorized as "non-income producing" for the year ended December 31, 2000 included in fixed maturities, equity securities, mortgage loans on real estate and other long-term investments totaled $25 million, $8 million, $21 million and $16 million, respectively.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
5. INVESTMENTS (continued)
Net Unrealized Investment Gains (Losses)
Net unrealized investment gains and losses on securities available for sale
and certain other long-term investments are included in the Consolidated
Statements of Financial Position as a component of "Accumulated other
comprehensive income (loss)." Changes in these amounts include
reclassification adjustments to exclude from "Other comprehensive income
(loss)" those items that are included as part of "Net income" for a period
that had been part of "Other comprehensive income (loss)" in earlier periods.
The amounts for the years ended December 31, are as follows:
Impact of unrealized investment gains (losses) on:
------------------------------------------------------------
Accumulated
other
comprehensive
Deferred income (loss)
Unrealized Deferred income related to net
gains policy Future tax unrealized
(losses) on acquisition policy (liability) investment
investments costs benefits benefit gains (losses)
----------- ----------- -------- ----------- --------------
(In Millions)
Balance, December 31,
1997................... $ 4,208 $ (349) $ (1,144) $ (963) $ 1,752
Net investment gains
(losses) on investments
arising during the
period................. 804 -- -- (282) 522
Reclassification
adjustment for (gains)
losses included in net
income................. (1,675) -- -- 588 (1,087)
Impact of net unrealized
investment (gains)
losses on deferred
policy acquisition
costs.................. -- 89 -- (34) 55
Impact of net unrealized
investment (gains)
losses on future policy
benefits............... -- -- 49 (19) 30
------- ------ -------- ------ -------
Balance, December 31,
1998................... 3,337 (260) (1,095) (710) 1,272
Net investment gains
(losses) on investments
arising during the
period................. (5,089) -- -- 1,845 (3,244)
Reclassification
adjustment for (gains)
losses included in net
income................. 404 -- -- (146) 258
Impact of net unrealized
investment (gains)
losses on deferred
policy acquisition
costs.................. -- 566 -- (213) 353
Impact of net unrealized
investment (gains)
losses on future policy
benefits............... -- -- 1,092 (391) 701
------- ------ -------- ------ -------
Balance, December 31,
1999................... (1,348) 306 (3) 385 (660)
Net investment gains
(losses) on investments
arising during the
period................. 1,458 -- -- (540) 918
Reclassification
adjustment for (gains)
losses included in net
income................. 621 -- -- (230) 391
Impact of net unrealized
investment (gains)
losses on deferred
policy acquisition
costs.................. -- (356) -- 132 (224)
Impact of net unrealized
investment (gains)
losses on future policy
benefits............... -- -- (101) 35 (66)
------- ------ -------- ------ -------
Balance, December 31,
2000................... $ 731 $ (50) $ (104) $ (218) $ 359
======= ====== ======== ====== =======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
5. INVESTMENTS (continued)
The table below presents unrealized gains (losses) on investments by asset class:
As of December 31,
----------------------
2000 1999 1998
---- -------- ------
(In Millions)
Fixed maturities.................................... $712 $ (2,118) $3,161
Equity securities................................... 51 733 176
Other long-term investments......................... (32) 37 --
---- -------- ------
Unrealized gains (losses) on investments............ $731 $(1,348) $3,337
==== ======== ======
|
Securities Pledged to Creditors
The Company pledges investment securities it owns to unaffiliated parties through certain transactions including securities lending, securities sold under agreement to repurchase, and futures contracts. At December 31, 2000, the carrying value of investments pledged to third parties as reported in the Consolidated Statements of Financial Position included the following:
(In Millions)
Fixed maturities available for sale.......................... $20,080
Trading account assets....................................... 5,796
Separate account assets...................................... 2,558
-------
Total securities pledged..................................... $28,434
=======
|
In the normal course of its business activities, the Company accepts collateral that can be sold or repledged. The primary sources of this collateral are securities in customer accounts, securities purchased under agreements to resell and securities borrowed transactions. At December 31, 2000, the fair value of this collateral was approximately $19 billion of which $13 billion had either been sold or repledged.
6. DEFERRED POLICY ACQUISITION COSTS
The balances of and changes in deferred policy acquisition costs as of and for the years ended December 31, are as follows:
2000 1999 1998
------- ------- -------
(In Millions)
Balance, beginning of year...................... $ 7,324 $ 6,462 $ 6,083
Capitalization of commissions, sales and issue
expenses....................................... 1,324 1,333 1,313
Amortization.................................... (1,096) (1,155) (1,139)
Change in unrealized investment gains and
losses......................................... (356) 566 89
Foreign currency translation.................... (154) 118 116
Acquisition of subsidiary ...................... 21 -- --
------- ------- -------
Balance, end of year............................ $ 7,063 $ 7,324 $ 6,462
======= ======= =======
|
7. POLICYHOLDERS' LIABILITIES
Future policy benefits at December 31, are as follows:
2000 1999
------- -------
(In Millions)
Life insurance............................................... $53,453 $51,512
Annuities.................................................... 13,398 13,502
Other contract liabilities................................... 2,437 2,264
------- -------
Total future policy benefits................................. $69,288 $67,278
======= =======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
7. POLICYHOLDERS' LIABILITIES (continued)
The Company's participating insurance is included within the Traditional Participating Products segment. Participating insurance represented 40% and 43% of domestic individual life insurance in force at December 31, 2000 and 1999, respectively, and 95%, 94% and 93% of domestic individual life insurance premiums for 2000, 1999 and 1998, respectively.
Life insurance liabilities include reserves for death and endowment policy benefits, terminal dividends and certain health benefits. Annuity liabilities include reserves for life contingent immediate annuities and life contingent group annuities. Other contract liabilities primarily consist of unearned premium and benefit reserves for group health products.
The following table highlights the key assumptions generally utilized in calculating these reserves:
Product Mortality Interest Rate Estimation Method
------- --------- ------------- -----------------
Life insurance.......... Generally, rates 2.5% to 12.0% Net level premium based
guaranteed in calculating on non- forfeiture
cash surrender values interest rate
Individual annuities.... Generally, 1971 and 1983 3.5% to 13.4% Present value of expected
Individual Annuity future payments based on
Mortality Tables with historical experience
certain modifications
Group annuities......... 1950 and 1971 Group 4.0% to 17.3% Present value of expected
Annuity Mortality Tables future payments based on
with certain historical experience
modifications
Other contract Present value of expected
liabilities............ 2.5% to 11.5% future payments based on
historical experience
|
Premium deficiency reserves are established, if necessary, when the liability for future policy benefits plus the present value of expected future gross premiums are determined to be insufficient to provide for expected future policy benefits and expenses and to recover any unamortized policy acquisition costs. Premium deficiency reserves have been recorded for the group single premium annuity business, which consists of limited-payment, long duration traditional and non-participating annuities; structured settlements and single premium immediate annuities with life contingencies; and for certain individual health policies. Liabilities of $2,002 million and $1,930 million are included in "Future policy benefits" with respect to these deficiencies at December 31, 2000 and 1999, respectively.
Policyholders' account balances at December 31, are as follows:
2000 1999
------- -------
(In Millions)
Individual annuities....................................... $ 5,097 $ 5,248
Group annuities............................................ 2,022 2,176
Guaranteed investment contracts and guaranteed interest
accounts.................................................. 12,852 13,429
Interest-sensitive life contracts.......................... 3,809 3,609
Dividend accumulations and other........................... 8,942 8,318
------- -------
Policyholders' account balances............................ $32,722 $32,780
======= =======
|
Policyholders' account balances for interest-sensitive life and investment- type contracts represent an accumulation of account deposits plus credited interest less withdrawals, expenses and mortality charges.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
7. POLICYHOLDERS' LIABILITIES (continued)
Certain contract provisions that determine the policyholder account balances are as follows:
Product Interest Rate Withdrawal/Surrender Charges
------- ------------- ----------------------------
Individual annuities........ 3.0% to 16.0% 0% to 7% for up to 9 years
Group annuities............. 2.0% to 14.0% Contractually limited or subject to
market value adjustment
Guaranteed investment Generally, subject to market value
contracts and guaranteed withdrawal provisions for any funds
interest accounts.......... 2.0% to 15.4% withdrawn other than for benefit
responsive and contractual payments
Interest-sensitive life
contracts.................. 2.0% to 10.8% Various up to 10 years
Dividend accumulations and Withdrawal or surrender
other...................... 2.5% to 11.5% contractually limited or subject to
market value adjustment
|
Unpaid claims and claim adjustment expenses. The following table provides a reconciliation of the activity in the liability for unpaid claims and claim adjustment expenses for property and casualty insurance, which includes the Company's Property and Casualty Insurance segment, as well as the Company's wind-down commercial lines business, primarily environmental and asbestos- related claims, and accident and health insurance at December 31:
2000 1999 1998
----------------------- ----------------------- -----------------------
Accident Property Accident Property Accident Property
and Health and Casualty and Health and Casualty and Health and Casualty
---------- ------------ ---------- ------------ ---------- ------------
(In Millions)
Balance at January 1.... $420 $2,409 $1,090 $2,716 $1,857 $2,956
Less reinsurance
recoverables, net...... 378 451 52 533 810 535
---- ------ ------ ------ ------ ------
Net balance at January
1...................... 42 1,958 1,038 2,183 1,047 2,421
---- ------ ------ ------ ------ ------
Incurred related to:
Current year........... 410 1,271 4,110 1,249 6,132 1,314
Prior years............ (21) (150) (72) (54) (15) (154)
---- ------ ------ ------ ------ ------
Total incurred.......... 389 1,121 4,038 1,195 6,117 1,160
---- ------ ------ ------ ------ ------
Paid related to:
Current year........... 380 842 3,397 700 5,287 717
Prior years............ 25 634 672 720 839 681
---- ------ ------ ------ ------ ------
Total paid.............. 405 1,476 4,069 1,420 6,126 1,398
---- ------ ------ ------ ------ ------
Acquisitions
(dispositions) (a)..... -- (363) (965) -- -- --
---- ------ ------ ------ ------ ------
Net balance at December
31..................... 26 1,240 42 1,958 1,038 2,183
Plus reinsurance
recoverables, net...... 246 608 378 451 52 533
---- ------ ------ ------ ------ ------
Balance at December 31.. $272 $1,848 $420 $2,409 $1,090 $2,716
==== ====== ====== ====== ====== ======
|
The Accident and Health reinsurance recoverable balance at December 31, 2000 and 1999 includes $239 million and $371 million, respectively, attributable to the Company's discontinued healthcare business. The Accident and Health balance at December 31 and January 1, 1998 includes amounts attributable to the Company's discontinued healthcare business of $1,026 million and $1,693 million, respectively.
The unpaid claims and claim adjustment expenses presented above include estimates for liabilities associated with reported claims and for incurred but not reported claims based, in part, on the Company's experience. Changes in the estimated cost to settle unpaid claims are charged or credited to the Consolidated Statement of Operations periodically as the estimates are revised. Accident and Health unpaid claims liabilities are discounted using interest rates ranging from 3.5% to 7.5%.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
7. POLICYHOLDERS' LIABILITIES (continued)
In 2000, 1999 and 1998, the amounts incurred for claims and claim adjustment expenses for property and casualty related to prior years were primarily driven by lower than anticipated losses for the auto line of business.
The amounts incurred for claims and claim adjustment expense for Accident and Health related to prior years are primarily due to favorable changes in claim cost trends.
8. REINSURANCE
The Company participates in reinsurance in order to provide additional capacity for future growth and limit the maximum net loss potential arising from large risks. Life reinsurance is accomplished through various plans of reinsurance, primarily yearly renewable term and coinsurance. Property and casualty reinsurance is placed on a pro-rata basis and excess of loss, including stop loss, basis. Reinsurance ceded arrangements do not discharge the Company as the primary insurer. Ceded balances would represent a liability of the Company in the event the reinsurers were unable to meet their obligations to the Company under the terms of the reinsurance agreements. Reinsurance premiums, commissions, expense reimbursements, benefits and reserves related to reinsured long-duration contracts are accounted for over the life of the underlying reinsured contracts using assumptions consistent with those used to account for the underlying contracts. The cost of reinsurance related to short-duration contracts is accounted for over the reinsurance contract period. Amounts recoverable from reinsurers, for both short and long-duration reinsurance arrangements, are estimated in a manner consistent with the claim liabilities and policy benefits associated with the reinsured policies.
The tables presented below exclude amounts pertaining to the Company's discontinued healthcare operations. See Note 3 for a discussion of the Company's coinsurance agreement with Aetna.
Reinsurance amounts included in the Consolidated Statements of Operations for the years ended December 31, were as follows:
2000 1999 1998
------- ------- ------
(In Millions)
Direct premiums.................................... $10,726 $10,121 $9,661
Reinsurance assumed............................... 86 66 65
Reinsurance ceded................................. (591) (659) (678)
------- ------- ------
Premiums........................................... $10,221 $ 9,528 $9,048
======= ======= ======
Policyholders' benefits ceded...................... $ 642 $ 483 $ 510
======= ======= ======
|
Reinsurance recoverables, included in "Other assets" in the Company's Consolidated Statements of Financial Position at December 31, were as follows:
2000 1999
------ ------
(In Millions)
Life insurance................................................. $ 674 $ 576
Property and casualty.......................................... 628 473
Other reinsurance.............................................. 76 90
------ ------
$1,378 $1,139
====== ======
|
Three major reinsurance companies account for approximately 57% of the reinsurance recoverable at December 31, 2000. The Company periodically reviews the financial condition of its reinsurers and amounts recoverable therefrom in order to minimize its exposure to loss from reinsurer insolvencies, recording an allowance when necessary for uncollectible reinsurance.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
9. SHORT-TERM AND LONG-TERM DEBT
Debt consists of the following at December 31:
Short-term debt
2000 1999
------- -------
(In Millions)
Commercial paper (a)........................................ $ 7,686 $ 7,506
Notes payable............................................... 2,728 2,598
Current portion of long-term debt........................... 717 754
------- -------
Total short-term debt....................................... $11,131 $10,858
======= =======
|
The weighted average interest rate on outstanding short-term debt was approximately 6.4% and 5.2% at December 31, 2000 and 1999, respectively.
Long-term debt
Maturity
Description Dates Rate 2000 1999
----------- --------- ----------- ------ ------
(In Millions)
Fixed rate notes...................... 2001-2023 5.89%-12.28% $ 758 $1,161
Floating rate notes ("FRN")........... 2001-2003 (b) 756 865
Surplus notes......................... 2003-2025 6.875%-8.30% 988 987
Commercial paper backed by long-term
credit agreements (a)................ -- 2,500
------ ------
Total long-term debt.................. $2,502 $5,513
====== ======
|
Several long-term debt agreements have restrictive covenants related to the total amount of debt, net tangible assets and other matters. At December 31, 2000 and 1999, the Company was in compliance with all debt covenants.
Payment of interest and principal on the surplus notes issued after 1993, of which $689 million and $688 million were outstanding at December 31, 2000 and 1999 respectively, may be made only with the prior approval of the Commissioner of Insurance of the State of New Jersey ("the Commissioner"). The Commissioner could prohibit the payment of the interest and principal on the surplus notes if certain statutory capital requirements are not met. As of December 31, 2000 the Company has met these statutory capital requirements.
In order to modify exposure to interest rate and currency exchange rate movements, the Company utilizes derivative instruments, primarily interest rate swaps, in conjunction with some of its debt issues. The effect of these derivative instruments is included in the calculation of the interest expense on the associated debt, and as a result, the effective interest rates on the debt may differ from the rates reflected in the tables above. Floating rates are determined by formulas and may be subject to certain minimum or maximum rates.
(In Millions)
Scheduled principal repayment of long-term debt
2002........................................................... $ 756
2003........................................................... 650
2004........................................................... 55
2005........................................................... 58
2006 and thereafter............................................ 983
------
Total.......................................................... $2,502
======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
9. SHORT-TERM AND LONG-TERM DEBT (continued)
At December 31, 2000, the Company had $4,332 million in lines of credit from numerous financial institutions, all of which were unused. These lines of credit generally have terms ranging from one to five years.
The Company issues commercial paper primarily to manage operating cash flows and existing commitments, meet working capital needs and take advantage of current investment opportunities. A portion of commercial paper borrowings are supported by $3,500 million of the Company's existing lines of credit. At December 31, 2000 and 1999, the weighted average maturity of commercial paper outstanding was 25 and 23 days, respectively.
Interest expense for short-term and long-term debt was $1,056 million, $863 million and $917 million, for the years ended December 31, 2000, 1999 and 1998, respectively. Securities business related interest expense of $456 million, $312 million and $369 million in 2000, 1999 and 1998, respectively, is included in "Net investment income."
10. EMPLOYEE BENEFIT PLANS
Pension and Other Postretirement Plans
The Company has funded non-contributory defined benefit pension plans which cover substantially all of its employees. The Company also has several non- funded non-contributory defined benefit plans covering certain executives. Benefits are generally based on career average earnings and credited length of service. The Company's funding policy is to contribute annually an amount necessary to satisfy the Internal Revenue Code contribution guidelines.
The Company provides certain life insurance and healthcare benefits ("Other postretirement benefits") for its retired employees, their beneficiaries and covered dependents. The healthcare plan is contributory; the life insurance plan is non-contributory.
Substantially all of the Company's employees may become eligible to receive benefits if they retire after age 55 with at least 10 years of service or under certain circumstances after age 50 with at least 20 years of continuous service. These benefits are funded as considered necessary by Company management.
The Company has elected to amortize its transition obligation for other postretirement benefits over 20 years.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
10. EMPLOYEE BENEFIT PLANS (continued)
Prepaid and accrued benefits costs are included in "Other assets" and "Other liabilities," respectively, in the Company's Consolidated Statements of Financial Position. The status of these plans as of September 30, adjusted for fourth-quarter activity, is summarized below:
Pension Other
Benefits Postretirement Benefits
---------------- ------------------------
2000 1999 2000 1999
------- ------- ----------- -----------
(In Millions)
Change in benefit obligation:
Benefit obligation at the
beginning of period........... $(5,430) $(6,309) $ (1,941) $ (2,213)
Service cost................... (140) (193) (29) (39)
Interest cost.................. (427) (410) (151) (141)
Plan participants'
contributions................. -- -- (7) (6)
Amendments..................... 112 (2) 221 (2)
Actuarial gains (losses)....... 34 974 (262) 312
Contractual termination
benefits...................... (17) (53) -- --
Special termination benefits... -- (51) -- (2)
Curtailment.................... -- 206 -- 43
Benefits paid.................. 407 408 172 108
Foreign currency changes....... -- -- 1 (1)
------- ------- ----------- -----------
Benefit obligation at end of
period........................ $(5,461) $(5,430) $ (1,996) $ (1,941)
======= ======= =========== ===========
Change in plan assets:
Fair value of plan assets at
beginning of period........... $ 9,468 $ 8,427 $ 1,548 $ 1,422
Actual return on plan assets... 1,270 1,442 170 213
Transfer to third party........ -- (14) -- --
Employer contributions......... 25 21 7 15
Plan participants'
contributions................. -- -- 7 6
Benefits paid.................. (407) (408) (172) (108)
------- ------- ----------- -----------
Fair value of plan assets at
end of period................. $10,356 $ 9,468 $ 1,560 $ 1,548
======= ======= =========== ===========
Funded status:
Funded status at end of
period........................ $ 4,895 $ 4,038 $ (436) $ (393)
Unrecognized transition (asset)
liability..................... (342) (448) 207 462
Unrecognized prior service
costs......................... 65 225 1 2
Unrecognized actuarial net
(gain)........................ (2,956) (2,514) (498) (746)
Effects of fourth quarter
activity...................... 9 (3) 2 --
------- ------- ----------- -----------
Net amount recognized.......... $ 1,671 $ 1,298 $ (724) $ (675)
======= ======= =========== ===========
Amounts recognized in the
Statements of Financial
Position consist of:
Prepaid benefit cost........... $ 2,022 $ 1,601 $ -- $ --
Accrued benefit liability...... (382) (316) (724) (675)
Intangible asset............... 7 6 -- --
Accumulated other comprehensive
income........................ 24 7 -- --
------- ------- ----------- -----------
Net amount recognized.......... $ 1,671 $ 1,298 $ (724) $ (675)
======= ======= =========== ===========
|
The projected benefit obligations, accumulated benefit obligations and fair value of plan assets for the pension plans with accumulated benefit obligations in excess of plan assets were $464 million, $384 million and $1 million, respectively, as of September 30, 2000 and $401 million, $309 million and $0 million, respectively, as of September 30, 1999.
Pension plan assets consist primarily of equity securities, bonds, real estate and short-term investments, of which $7,381 million and $6,534 million are included in Separate Account assets and liabilities at September 30, 2000 and 1999, respectively.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
10. EMPLOYEE BENEFIT PLANS (continued)
The benefit obligation for pensions decreased by a net $112 million in the year 2000 for the effect of a Cost of Living Adjustment ("COLA") and the introduction of the cash balance formula of ($134) million and $246 million, respectively. The COLA was effective as of July 1, 2000 and increased benefits, subject to a maximum, to retirees based upon their year of retirement. The introduction of the cash balance formula was a feature of the substantive plan as of the measurement date and is effective January 1, 2001 for new employees and January 1, 2002 for existing employees. Amendments to the pension plan that increase plan benefits are deferred as unrecognized prior service cost and amortized over the average future service period of active employees at the date of the amendment. Amendments to the pension plan that decrease plan benefits reduce unrecognized prior service and, to the extent of any excess, are amortized over the average future service period of active employees at the date of the amendment.
Other postretirement plan assets consist of group and individual life insurance policies, group life and health contracts, common stocks, corporate debt securities, U.S. government securities and short-term investments. During 1999, the assets of group life and health contracts were transferred into common stocks, debt securities and short-term investments. Plan assets include $463 million and $434 million of Company insurance policies and contracts at September 30, 2000 and 1999, respectively.
The benefit obligation for other postretirement benefits decreased by $221 million in the year 2000 for changes in the substantive plan made to medical, dental and life benefits for individuals retiring on or after January 1, 2001. The significant cost reduction features relate to the medical and life benefits. The Company adopted a cap that limits its long-term cost commitment to retiree medical coverage. The cap is defined as two times the estimated Company contribution toward the cost of coverage per retiree in 2000. The new life insurance plan provides a reduced benefit of $10,000 of life insurance to retirees. Amendments to postretirement plans that decrease plan benefits are recorded as a reduction in the transition obligation and, therefore, are amortized over the remaining amortization period of the transition obligation. Amendments to postretirement plans that increase the postretirement obligations are deferred as unrecognized prior service cost and amortized over the average remaining years to full eligibility for benefits of active plan participants at the date of the amendment.
The pension benefits were amended during the time period presented to provide contractual termination benefits to certain plan participants whose employment had been terminated. Costs related to these amendments are reflected in contractual termination benefits in the table below.
Net periodic benefit cost included in "General and administrative expenses" in the Company's Consolidated Statements of Operations for the years ended December 31, includes the following components:
Other
Pension Benefits Postretirement Benefits
------------------- -------------------------
2000 1999 1998 2000 1999 1998
----- ----- ----- ------- ------- -------
(In Millions)
Components of net periodic
benefits costs:
Service cost................ $ 140 $ 193 $ 159 $ 29 $ 39 $ 35
Interest cost............... 427 410 397 150 141 142
Expected return on plan
assets..................... (799) (724) (674) (133) (121) (119)
Amortization of transition
amount..................... (106) (106) (106) 36 47 47
Amortization of prior
service cost............... 47 45 45 -- -- --
Amortization of actuarial
net (gain) loss............ (77) 4 1 (24) (10) (13)
Special termination
benefits................... -- 51 -- -- 2 --
Curtailment (gain) loss..... -- (122) 5 -- 108 --
Contractual termination
benefits................... 6 48 14 -- -- --
----- ----- ----- ------- ------- -------
Subtotal................... (362) (201) (159) 58 206 92
Less amounts related to
discontinued operations.... -- 84 25 -- (130) (34)
----- ----- ----- ------- ------- -------
Net periodic (benefit)
cost....................... $(362) $(117) $(134) $ 58 $ 76 $ 58
===== ===== ===== ======= ======= =======
|
Discontinued operations amounts for 1998 were included in loss from healthcare operations. The 1999 amounts were included in loss on disposal of healthcare operations. See Note 3 for a discussion of the disposal
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
10. EMPLOYEE BENEFIT PLANS (continued)
of the Company's healthcare business. Discontinued operations for pension benefits in 1999 includes $122 million of curtailment gains and $51 million of special termination benefit costs. Discontinued operations for postretirement benefits in 1999 includes $108 million of curtailment losses and $2 million of special termination benefit costs.
The assumptions at September 30, used by the Company to calculate the benefit obligations as of that date and to determine the benefit cost in the subsequent year are as follows:
Pension Benefits Other Postretirement Benefits
----------------- ----------------------------------
2000 1999 1998 2000 1999 1998
----- ----- ----- ---------- ----------- -----------
Weighted-average
assumptions:
Discount rate (beginning
of period)............. 7.75% 6.50% 7.25% 7.75% 6.50% 7.25%
Discount rate (end of
period)................ 7.75% 7.75% 6.50% 7.75% 7.75% 6.50%
Rate of increase in
compensation levels
(beginning of period).. 4.50% 4.50% 4.50% 4.50% 4.50% 4.50%
Rate of increase in
compensation levels
(end of period)........ 4.50% 4.50% 4.50% 4.50% 4.50% 4.50%
Expected return on plan
assets................. 9.50% 9.50% 9.50% 9.00% 9.00% 9.00%
Health care cost trend
rates.................. -- -- -- 7.10-9.50% 7.50-10.30% 7.80-11.00%
Ultimate health care
cost trend rate after
gradual decrease until
2006................... -- -- -- 5.00% 5.00% 5.00%
|
Assumed healthcare cost trend rates have a significant effect on the amounts reported for the health care plan. A one-percentage point increase and decrease in assumed health care cost trend rates would have the following effects:
Other
Postretirement Benefits
-----------------------
2000
-----------------------
(In Millions)
One percentage point increase
Increase in total service and interest costs......... $ 11
Increase in postretirement benefit obligation........ 140
One percentage point decrease
Decrease in total service and interest costs......... $ 10
Decrease in postretirement benefit obligation........ 123
|
Postemployment Benefits
The Company accrues postemployment benefits primarily for life and health benefits provided to former or inactive employees who are not retirees. The net accumulated liability for these benefits at December 31, 2000 and 1999 was $152 million and $157 million, respectively, and is included in "Other liabilities."
Other Employee Benefits
The Company sponsors voluntary savings plans for employees (401(k) plans). The plans provide for salary reduction contributions by employees and matching contributions by the Company of up to 3% of annual salary. The matching contributions by the Company included in "General and administrative expenses" are as follows:
401(k) Company Match
------------------------
2000 1999 1998
------ ------ -------
(In Millions)
Company match.................................... $62 $60 $ 54
Less amounts related to discontinued operations.. -- (8) (14)
------ ------ -------
401(k) Company match included in general and
administrative expenses......................... $62 $52 $ 40
====== ====== =======
|
Discontinued operations amounts for 1998 were included in loss from healthcare operations. The 1999 amount was included in loss on disposal of healthcare operations.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
11. INCOME TAXES
The components of income tax expense for the years ended December 31, were as follows:
2000 1999 1998
---- ------ ------
(In Millions)
Current tax expense (benefit):
U.S.................................................. $362 $ 614 $ 883
State and local...................................... 31 84 54
Foreign.............................................. 41 (8) 148
---- ------ ------
Total................................................ 434 690 1,085
Deferred tax expense (benefit):
U.S.................................................. (86) 206 (93)
State and local...................................... (37) 44 (6)
Foreign.............................................. 95 102 (16)
---- ------ ------
Total................................................ (28) 352 (115)
---- ------ ------
Total income tax expense.............................. $406 $1,042 $ 970
==== ====== ======
|
The Company's actual income tax expense for the years ended December 31, differs from the expected amount computed by applying the statutory federal income tax rate of 35% to income from continuing operations before income taxes for the following reasons:
2000 1999 1998
---- ------ ----
(In Millions)
Expected federal income tax expense..................... $254 $ 789 $909
Equity tax.............................................. 100 190 75
Non-deductible expenses................................. 61 33 15
Non-taxable investment income........................... (42) (78) (62)
State and local income taxes............................ (4) 83 31
Other................................................... 37 25 2
---- ------ ----
Total income tax expense............................... $406 $1,042 $970
==== ====== ====
|
Deferred tax assets and liabilities at December 31, resulted from the items listed in the following table:
2000 1999
------ ------
(In Millions)
Deferred tax assets
Insurance reserves......................................... $1,371 $1,582
Net operating loss carryforwards........................... 353 280
Policyholder dividends..................................... 297 277
Litigation related reserves................................ 32 61
Other...................................................... 121 32
------ ------
Deferred tax assets before valuation allowance............. 2,174 2,232
Valuation allowance........................................ (38) (24)
------ ------
Deferred tax assets after valuation allowance.............. 2,136 2,208
------ ------
Deferred tax liabilities
Deferred policy acquisition cost........................... 1,858 1,942
Net unrealized investment gains (losses)................... 273 (497)
Investments................................................ 129 307
Depreciation............................................... 71 59
------ ------
Deferred tax liabilities................................... 2,331 1,811
------ ------
Net deferred tax asset (liability).......................... $ (195) $ 397
====== ======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
11. INCOME TAXES (continued)
Management believes that based on its historical pattern of taxable income, the Company will produce sufficient income in the future to realize its deferred tax asset after valuation allowance. A valuation allowance has been recorded primarily related to tax benefits associated with foreign operations and state and local deferred tax assets. Adjustments to the valuation allowance will be made if there is a change in management's assessment of the amount of the deferred tax asset that is realizable. At December 31, 2000 and 1999, respectively, the Company had federal life net operating loss carryforwards of $848 million and $660 million, which expire in 2012. At December 31, 2000 and 1999, respectively, the Company had state operating loss carryforwards for tax purposes approximating $509 million and $570 million, which expire between 2001 and 2020.
Deferred taxes are not provided on the undistributed earnings of foreign subsidiaries (considered to be permanent investments), which at December 31, 2000 were $743 million. Determining the tax liability that would arise if these earnings were remitted is not practicable.
The Internal Revenue Service (the "Service") has completed all examinations of the consolidated federal income tax returns through 1992. The Service has examined the years 1993 through 1995. Discussions are being held with the Service with respect to proposed adjustments. Management, however, believes there are adequate defenses against, or sufficient reserves to provide for such adjustments. The Service has begun its examination of 1996.
12. STATUTORY NET INCOME AND SURPLUS
Accounting practices used to prepare statutory financial statements for regulatory purposes differ in certain instances from GAAP. The following tables reconcile the Company's statutory net income and surplus determined in accordance with accounting practices prescribed or permitted by the New Jersey Department of Banking and Insurance, to net income and equity determined using GAAP:
2000 1999 1998
------- ------- -------
(In Millions)
Statutory net income........................... $ 149 $ 333 $ 1,247
Adjustments to reconcile to net income on a
GAAP basis:
Insurance revenues and expenses............... 525 136 (117)
Income taxes.................................. (47) 436 128
Valuation of investments...................... (135) (27) (143)
Realized investment gains (losses)............ (494) 73 1,162
Litigation and other reserves................. -- (102) (1,150)
Discontinued operations and other, net........ 400 (36) (21)
------- ------- -------
GAAP net income................................ $ 398 $ 813 $ 1,106
======= ======= =======
2000 1999
------- -------
(In Millions)
Statutory surplus.............................. $ 8,640 $ 9,249
Adjustments to reconcile to equity on a GAAP
basis:
Deferred policy acquisition costs............. 6,989 7,295
Valuation of investments...................... 4,968 2,909
Future policy benefits and policyholder
account balances............................. (952) (1,544)
Non-admitted assets........................... 2,693 2,069
Income taxes.................................. (136) 522
Surplus notes................................. (988) (987)
Discontinued operations and other, net........ (606) (222)
------- -------
GAAP equity.................................... $20,608 $19,291
======= =======
|
The New York State Insurance Department recognizes only statutory accounting for determining and reporting the financial condition of an insurance company, for determining its solvency under the New York Insurance Law and for determining whether its financial condition warrants the payment of a dividend to its policyholders. No consideration is given by the New York State Insurance Department to financial statements prepared in accordance with GAAP in making such determinations.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
12. STATUTORY NET INCOME AND SURPLUS (continued)
In March 1998, the National Association of Insurance Commissioners ("NAIC") adopted the Codification of Statutory Accounting Principles guidance ("Codification"), which replaces the current Accounting Practices and Procedures manual as the NAIC's primary guidance on statutory accounting as of January 1, 2001. The Codification provides guidance for areas where statutory accounting has been silent and changes current statutory accounting in certain areas. The Company has adopted the Codification guidance effective January 1, 2001, except the guidance related to pension and post-employment benefits which was adopted January 1, 2000. The Company has estimated the potential effect of the Codification guidance to have a favorable impact of at least $1 billion on the Company's surplus position, primarily as the result of the recognition of deferred tax assets.
13. OPERATING LEASES
The Company occupies leased office space in many locations under various long-term leases and has entered into numerous leases covering the long-term use of computers and other equipment. At December 31, 2000, future minimum lease payments under non-cancelable operating leases are as follows:
(In Millions)
2001........................................................... $ 319
2002........................................................... 269
2003........................................................... 227
2004........................................................... 190
2005........................................................... 178
Remaining years after 2005..................................... 897
-------
Total.......................................................... $ 2,080
=======
|
Rental expense incurred for the years ended December 31, 2000, 1999 and 1998 was $498 million, $456 million and $424 million, respectively, excluding expenses relating to the Company's healthcare business.
14. FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values presented below have been determined by using available market information and by applying valuation methodologies. Considerable judgment is applied in interpreting data to develop the estimates of fair value. Estimated fair values may not be realized in a current market exchange. The use of different market assumptions and/or estimation methodologies could have a material effect on the estimated fair values. The following methods and assumptions were used in calculating the estimated fair values (for all other financial instruments presented in the table, the carrying values approximate estimated fair values).
Fixed maturities and Equity securities
Estimated fair values for fixed maturities and equity securities, other than private placement securities, are based on quoted market prices or estimates from independent pricing services. Generally, fair values for private placement fixed maturities are estimated using a discounted cash flow model which considers the current market spreads between the U.S. Treasury yield curve and corporate bond yield curve, adjusted for the type of issue, its current credit quality and its remaining average life. The fair value of certain non-performing private placement fixed maturities is based on amounts estimated by management.
Mortgage loans on real estate
The estimated fair value of mortgage loans on real estate is primarily based upon the present value of the expected future cash flows discounted at the appropriate U.S. Treasury rate, adjusted for the current market spread for similar quality mortgages.
Policy loans
The estimated fair value of policy loans is calculated using a discounted cash flow model based upon current U.S. Treasury rates and historical loan repayment patterns.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
14. FAIR VALUE OF FINANCIAL INSTRUMENTS (continued)
Investment contracts
For guaranteed investment contracts, income annuities, and other similar contracts without life contingencies, estimated fair values are derived using discounted projected cash flows, based on interest rates being offered for similar contracts with maturities consistent with those of the contracts being valued. For individual deferred annuities and other deposit liabilities, fair value approximates carrying value.
Debt
The estimated fair value of short-term and long-term debt is derived by using discount rates based on the borrowing rates currently available to the Company for debt with similar terms and remaining maturities.
The following table discloses the carrying amounts and estimated fair values of the Company's financial instruments at December 31,
2000 1999
------------------- -------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
-------- ---------- -------- ----------
(In Millions)
FINANCIAL ASSETS:
Other than trading:
Fixed maturities:
Available for sale................ $83,827 $83,827 $79,130 $79,130
Held to maturity.................. 12,448 12,615 14,237 14,112
Equity securities.................. 2,317 2,317 3,264 3,264
Mortgage loans on real estate...... 15,919 15,308 16,268 15,826
Policy loans....................... 8,046 8,659 7,590 7,462
Short-term investments............. 5,029 5,029 2,773 2,773
Mortgage securitization inventory.. 1,448 1,448 803 803
Cash and cash equivalents.......... 7,676 7,676 6,427 6,427
Restricted cash and securities..... 2,196 2,196 4,082 4,082
Separate account assets............ 82,217 82,217 82,131 82,131
Trading:
Trading account assets............. $ 7,217 $ 7,217 $ 9,741 $ 9,741
Broker-dealer related receivables.. 11,860 11,860 11,346 11,346
Securities purchased under
agreements to resell.............. 5,395 5,395 13,944 13,944
Cash collateral for borrowed
securities........................ 3,858 3,858 7,124 7,124
FINANCIAL LIABILITIES:
Other than trading:
Investment contracts............... $25,033 $25,359 $25,206 $25,394
Securities sold under agreements to
repurchase........................ 7,162 7,162 4,260 4,260
Cash collateral for loaned
securities........................ 4,762 4,762 2,582 2,582
Short-term and long-term debt...... 13,633 13,800 16,371 16,563
Securities sold but not yet
purchased......................... 157 157 -- --
Separate account liabilities....... 82,217 82,217 82,131 82,131
Trading:
Broker-dealer related payables..... $ 5,965 $ 5,965 $ 5,839 $ 5,839
Securities sold under agreements to
repurchase........................ 7,848 7,848 20,338 20,338
Cash collateral for loaned
securities........................ 6,291 6,291 8,193 8,193
Securities sold but not yet
purchased......................... 4,802 4,802 6,968 6,968
|
15. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS
A derivative is a financial instrument whose price, performance or cash flow is based upon the actual or expected price, level, performance, value or cash flow of some external benchmark, such as interest rates, foreign exchange rates, securities, commodities, or various financial indices. Derivative financial instruments can be exchange-traded or contracted in the over-the- counter market and include swaps, futures, forwards and options contracts.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
15. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (continued)
Interest Rate Swaps
The Company uses interest rate swaps to reduce market risk from changes in interest rates, to manage interest rate exposures arising from mismatches between assets and liabilities (including duration mismatches) and to hedge against changes in the value of assets it anticipates acquiring and other anticipated transactions and commitments. Under interest rate swaps, the Company agrees with other parties to exchange, at specified intervals, the difference between fixed-rate and floating-rate interest amounts calculated by reference to an agreed notional principal amount. Generally, no cash is exchanged at the outset of the contract and no principal payments are made by either party. Cash is paid or received based on the terms of the swap. These transactions are entered into pursuant to master agreements that provide for a single net payment to be made by one counterparty at each due date. The fair value of swap agreements is estimated based on proprietary pricing models or market quotes.
If swap agreements meet the criteria for hedge accounting, net interest receipts or payments are accrued and recognized over the life of the swap agreements as an adjustment to interest income or expense of the hedged item. Any unrealized gains or losses are not recognized until the hedged item is sold or matures. Gains or losses on early termination of interest rate swaps are deferred and amortized over the remaining period originally covered by the swaps. If the criteria for hedge accounting are not met, the swap agreements are accounted for at fair value with changes in fair value reported in current period earnings.
Futures and Options
The Company uses exchange-traded Treasury futures and options to reduce market risks from changes in interest rates, to alter mismatches between the duration of assets in a portfolio and the duration of liabilities supported by those assets, and to hedge against changes in the value of securities it owns or anticipates acquiring or selling. In exchange-traded futures transactions, the Company agrees to purchase or sell a specified number of contracts, the value of which are determined by the value of designated classes of Treasury securities, and to post variation margin on a daily basis in an amount equal to the difference in the daily market values of those contracts. The Company enters into exchange-traded futures and options with regulated futures commissions merchants who are members of a trading exchange. The fair value of those futures and options is based on market quotes.
Treasury futures typically are used to hedge duration mismatches between assets and liabilities by replicating Treasury performance. Treasury futures move substantially in value as interest rates change and can be used to either modify or hedge existing interest rate risk. This strategy protects against the risk that cash flow requirements may necessitate liquidation of investments at unfavorable prices resulting from increases in interest rates. This strategy can be a more cost effective way of temporarily reducing the Company's exposure to a market decline than selling fixed income securities and purchasing a similar portfolio when such a decline is believed to be over.
When the Company anticipates a significant decline in the stock market that will correspondingly affect its diversified portfolio, it may purchase put index options where the basket of securities in the index is appropriate to provide a hedge against a decrease in the value of the Company's equity portfolio or a portion thereof. This strategy effects an orderly sale of hedged securities. When the Company has large cash flows which it has allocated for investment in equity securities, it may purchase call index options as a temporary hedge against an increase in the price of the securities it intends to purchase. This hedge is intended to permit such investment transactions to be executed with less adverse market impact.
If exchange-traded financial futures and options meet hedge accounting criteria, changes in their fair value are deferred and recognized as an adjustment to the carrying value of the hedged item. Deferred gains or losses from the hedges for interest-bearing financial instruments are amortized as a yield adjustment over the remaining lives of the hedged item. Financial futures that do not qualify as hedges are carried at fair value with changes in value reported in current earnings. The gains and losses associated with anticipatory transactions are not material.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
15. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (continued)
Currency Derivatives
The Company uses currency derivatives, including exchange-traded currency futures and options, currency forwards and currency swaps, to reduce market risks from changes in currency exchange rates with respect to investments denominated in foreign currencies that the Company either holds or intends to acquire or sell.
Under exchange-traded currency futures and options, the Company agrees to purchase or sell a specified number of contracts and to post variation margin on a daily basis in an amount equal to the difference in the daily market values of those contracts. The Company enters into exchange-traded currency futures and options with regulated futures commissions merchants who are members of a trading exchange.
Under currency forwards, the Company agrees with other parties upon delivery of a specified amount of an identified currency at a specified future date. Typically, the price is agreed upon at the time of the contract and payment for such a contract is made at the specified future date.
Under currency swaps, the Company agrees with other parties to exchange, at specified intervals, the difference between one currency and another at a forward exchange rate and calculated by reference to an agreed principal amount. Generally, the principal amount of each currency is exchanged at the beginning and termination of the currency swap by each party. These transactions are entered into pursuant to master agreements that provide for a single net payment to be made by one counterparty for payments made in the same currency at each due date.
If currency derivatives are effective as hedges of foreign currency translation and transaction exposures, gains or losses are recorded in a manner similar to the hedged item. If currency derivatives do not meet hedge accounting criteria, gains or losses from those derivatives are recognized in "Realized investment gains (losses), net."
Forwards
The Company uses forwards to manage market risks relating to interest rates
and commodities and trades in mortgage-backed securities forward contracts.
The latter activity has been exited in connection with the restructuring of
Prudential Securities Group's capital markets activities as discussed in Note
4. Typically, the price is agreed upon at the time of the contract and payment
for such a contract is made at the specified future date.
If the forwards qualify for hedge accounting treatment, gains or losses are recorded in a manner similar to the hedged items. If forwards do not meet hedge accounting criteria, gains or losses from those forwards are recognized in current period earnings.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
15. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (continued)
The tables below summarize the Company's outstanding positions by derivative instrument types as of December 31, 2000 and 1999. The amounts presented are classified as either trading or other than trading, based on management's intent at the time of contract inception and throughout the life of the contract. The table includes the estimated fair values of outstanding derivative positions only and does not include the changes in fair values of associated financial and non-financial assets and liabilities, which generally offset derivative notional amounts. The fair value amounts presented also do not reflect the netting of amounts pursuant to right of setoff, qualifying master netting agreements with counterparties or collateral arrangements.
Derivative Financial Instruments December 31, 2000
Trading Other than Trading Total
------------------- --------------------------------------- -------------------
Non-Hedge
Hedge Accounting Accounting
------------------- -------------------
Estimated Estimated Estimated Estimated
Notional Fair Value Notional Fair Value Notional Fair Value Notional Fair Value
-------- ---------- -------- ---------- -------- ---------- -------- ----------
(In Millions)
Swap Instruments
Interest rate
Asset.................. $ 9,693 $352 $-- $-- $1,908 $ 57 $11,601 $ 409
Liability.............. 10,521 370 -- -- 2,126 81 12,647 451
Currency
Asset.................. 7 -- -- -- 383 31 390 31
Liability.............. 30 34 -- -- 302 20 332 54
Equity and commodity
Asset.................. 55 14 -- -- 46 17 101 31
Liability.............. 55 12 -- -- -- -- 55 12
Forward contracts
Interest rate
Asset.................. 3,469 33 -- -- -- -- 3,469 33
Liability.............. 3,319 33 -- -- -- -- 3,319 33
Currency
Asset.................. 6,044 185 472 9 2,319 29 8,835 223
Liability.............. 5,897 195 429 9 27 79 6,353 283
Equity and commodity
Asset.................. 2,091 75 -- -- -- -- 2,091 75
Liability.............. 1,923 75 -- -- -- -- 1,923 75
Futures contracts
Interest rate
Asset.................. 11,582 14 -- -- 2,410 55 13,992 69
Liability.............. 6,513 29 -- -- 1,468 21 7,981 50
Equity and commodity
Asset.................. 782 27 -- -- -- -- 782 27
Liability.............. 1,324 36 -- -- -- -- 1,324 36
Option contracts
Interest rate
Asset.................. 4,141 48 -- -- -- -- 4,141 48
Liability.............. 4,273 29 -- -- -- -- 4,273 29
Currency
Asset.................. 1,108 27 -- -- -- -- 1,108 27
Liability.............. 1,174 26 -- -- -- -- 1,174 26
Equity and commodity
Asset.................. 175 3 -- -- -- -- 175 3
Liability.............. 126 1 -- -- -- -- 126 1
------- ---- ---- ---- ------ ---- ------- ------
Total Derivatives:
Assets................. $39,147 $778 $472 $ 9 $7,066 $189 $46,685 $ 976
======= ==== ==== ==== ====== ==== ======= ======
Liabilities............ $35,155 $840 $429 $ 9 $3,923 $201 $39,507 $1,050
======= ==== ==== ==== ====== ==== ======= ======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
15. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (continued)
Derivative Financial Instruments December 31, 1999
Trading Other than Trading Total
------------------ ------------------------------------- ------------------
Non-Hedge
Hedge Accounting Accounting
------------------ ------------------
Estimated Estimated Estimated Estimated
Fair Fair Fair Fair
Notional Value Notional Value Notional Value Notional Value
-------- --------- -------- --------- -------- --------- -------- ---------
(In Millions)
Swap Instruments
Interest rate
Asset.................. $ 7,116 $151 $ -- $ -- $2,185 $146 $ 9,301 $297
Liability.............. 6,490 137 -- -- 1,261 32 7,751 169
Currency
Asset.................. 24 45 343 30 -- -- 367 75
Liability.............. 77 51 369 33 -- -- 446 84
Equity and commodity
Asset.................. 8 9 -- -- 47 13 55 22
Liability.............. 8 5 -- -- -- -- 8 5
Forward contracts
Interest rate
Asset.................. 14,837 105 -- -- -- -- 14,837 105
Liability.............. 12,459 84 -- -- -- -- 12,459 84
Currency
Asset.................. 11,181 275 54 2 1,182 16 12,417 293
Liability.............. 10,377 247 841 16 1,347 21 12,565 284
Equity and commodity
Asset.................. 1,664 68 -- -- -- -- 1,664 68
Liability.............. 1,592 60 -- -- -- -- 1,592 60
Futures contracts
Interest rate
Asset.................. 2,374 2 -- -- 800 14 3,174 16
Liability.............. 3,017 3 -- -- 3,696 44 6,713 47
Equity and commodity
Asset.................. 2,283 44 -- -- 71 4 2,354 48
Liability.............. 837 57 -- -- 12 11 849 68
Option contracts
Interest rate
Asset.................. 3,725 22 -- -- -- -- 3,725 22
Liability.............. 2,185 11 -- -- 13 -- 2,198 11
Currency
Asset.................. 613 5 -- -- 10 -- 623 5
Liability.............. 4,439 5 -- -- 10 -- 4,449 5
Equity and commodity
Asset.................. 340 6 -- -- -- -- 340 6
Liability.............. 366 3 -- -- -- -- 366 3
------- ---- ------ ----- ------ ---- ------- ----
Total Derivatives:
Assets................. $44,165 $732 $ 397 $ 32 $4,295 $193 $48,857 $957
======= ==== ====== ===== ====== ==== ======= ====
Liabilities............ $41,847 $663 $1,210 $ 49 $6,339 $108 $49,396 $820
======= ==== ====== ===== ====== ==== ======= ====
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
15. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (continued)
The following table discloses net trading revenues by derivative instrument types for the years ended December 31,
2000 1999 1998
----- ----- -----
(In Millions)
Swaps................................................... $ (17) $ 16 $ (13)
Forwards................................................ 51 53 67
Futures................................................. (85) 80 (5)
Options................................................. (1) (14) --
----- ----- -----
Net trading revenues.................................... $ (52) $ 135 $ 49
===== ===== =====
|
Average fair values for trading derivatives in an asset position during the years ended December 31, 2000 and 1999 were $579 million and $789 million, respectively, and for derivatives in a liability position were $630 million and $766 million, respectively. The average fair values do not reflect the netting of amounts pursuant to the right of offset or qualifying master netting agreements. Of those derivatives held for trading purposes at December 31, 2000, 72% of the notional amount consisted of interest rate derivatives, 20% consisted of foreign currency derivatives and 8% consisted of equity and commodity derivatives. Of those derivatives held for purposes other than trading at December 31, 2000, 66% of notional consisted of interest rate derivatives, 33% consisted of foreign currency derivatives, and 1% consisted of equity and commodity derivatives.
Credit Risk
The Company is exposed to credit-related losses in the event of nonperformance by counterparties to derivative financial instruments. Generally, the current credit exposure of the Company's derivative contracts is limited to the fair value at the reporting date. The credit exposure of the Company's swaps transactions is represented by the fair value (market value) of contracts with a positive fair value (market value) at the reporting date. Because exchange-traded futures and options are effected through regulated exchanges, and positions are marked to market on a daily basis, the Company has little exposure to credit-related losses in the event of nonperformance by counterparties to such financial instruments. The credit exposure of exchange- traded instruments is represented by the negative change, if any, in the fair value (market value) of contracts from the fair value (market value) at the reporting date. The credit exposure of currency forwards is represented by the difference, if any, between the exchange rate specified in the contract and the exchange rate for the same currency at the reporting date.
The Company manages credit risk by entering into transactions with creditworthy counterparties and obtaining collateral where appropriate and customary. The Company also attempts to minimize its exposure to credit risk through the use of various credit monitoring techniques. At December 31, 2000 and 1999, approximately 96% and 81%, respectively, of the net credit exposure for the Company from derivative contracts was with investment-grade counterparties. In addition, the Company enters into over-the-counter swaps pursuant to master agreements that provide for a single net payment to be made by one counterparty to another at each due date and upon termination. Likewise, the Company effects exchange-traded futures and options through regulated exchanges and positions are marked to market on a daily basis. These additional controls further reduce the Company's credit risk to derivatives counterparties. Internal controls are in place to ensure that derivative transactions are conducted in accordance with Company policy and guidelines. Those controls include limits, segregation of function and periodic management review, including quarterly review of General Account exposures by the Investment Committee of the Board of Directors, as well as daily monitoring for compliance with authorization and operating guidelines.
Off-Balance-Sheet Credit-Related Instruments
During the normal course of its business, the Company utilizes financial instruments with off-balance-sheet credit risk such as commitments, financial guarantees, loans sold with recourse and letters of credit. Commitments include commitments to purchase and sell mortgage loans, the underfunded portion of commitments to fund investments in private placement securities and unused credit card and home equity lines.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
15. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (continued)
In connection with the Company's consumer banking business, loan commitment for credit cards and home equity lines of credit and other lines of credit include agreements to lend up to specified limits to customers. It is anticipated that commitment amounts will only be partially drawn down based on overall customer usage patterns, and, therefore, do not necessarily represent future cash requirements. The Company evaluates each credit decision on such commitments at least annually and has the ability to cancel or suspend such lines at its option. The total available lines of credit card, home equity and other commitments were $1.6 billion, of which $0.8 billion remains available at December 31, 2000.
Also, the Company enters into agreements with mortgage originators and others to provide financing on both a secured and an unsecured basis. Aggregate financing commitments on a secured basis, for periods of less than one year, approximate $3.3 billion, of which $1.8 billion remains available at December 31, 2000. Unsecured commitments approximate $0.1 billion, substantially all of which remains available at December 3l, 2000. This activity is being exited in conjunction with the restructuring of Prudential Securities capital markets activities, as discussed in Note 4.
Other commitments primarily include commitments to purchase and sell mortgage loans and the unfunded portion of commitments to fund investments in private placement securities. These mortgage loans and private commitments were $2.0 billion, of which $0.9 billion remain available at December 31, 2000. Additionally, mortgage loans sold with recourse were $0.1 billion at December 31, 2000.
The Company also provides financial guarantees incidental to other transactions and letters of credit that guarantee the performance of customers to third parties. These credit-related financial instruments have off-balance sheet credit risk because only their origination fees, if any, and accruals for probable losses, if any, are recognized until the obligation under the instrument is fulfilled or expires. These instruments can extend for several years and expirations are not concentrated in any period. The Company seeks to control credit risk associated with these instruments by limiting credit, maintaining collateral where customary and appropriate and performing other monitoring procedures. At December 31, 2000 financial guarantees and letters of credit issued by the Company were $0.8 billion.
16. SEGMENT INFORMATION
The Company has organized its principal operations into Financial Services Businesses and a Traditional Participating Products segment. Within the Financial Services Businesses, the Company operates through four divisions which, together, encompass ten reportable segments. The four operating divisions within the Financial Services Businesses are: U.S. Consumer, Employee Benefits, International and Asset Management. The segments within the Financial Services Businesses as well as the Traditional Participating Products segment correspond to businesses for which discrete financial information is available and reviewed by management. Businesses that are not sufficiently material to warrant separate disclosure are included in Corporate and Other results. Collectively, the businesses that comprise the four operating divisions and Corporate and Other are referred to as the Financial Services Businesses.
The U.S. Consumer division consists of the Individual Life Insurance, Private Client Group, Retail Investments and Property and Casualty Insurance segments. The Individual Life Insurance segment manufactures and distributes variable life, term life and other non-participating life insurance protection products to the United States retail market and distributes investment and protection products for other segments. The Private Client Group segment provides full service securities brokerage and financial advisory services, as well as consumer banking services, to retail customers in the United States. The Retail Investments segment provides mutual funds, variable and fixed annuities and wrap-fee products to retail customers in the United States. The Property and Casualty Insurance segment manufactures and distributes personal lines property and casualty insurance products, principally automobile and homeowners insurance, to the United States retail market.
The Employee Benefits division consists of the Group Insurance and Other Employee Benefits segments. The Group Insurance segment manufactures and distributes group life, disability and related insurance products
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
16. SEGMENT INFORMATION (continued)
in connection with employee and member benefit plans. The Other Employee Benefits segment provides products and services for defined contribution and other retirement plans as well as guaranteed investment contracts, group annuities and relocation services to employers. The Other Employee Benefits segment also markets real estate brokerage franchises to regional and local real estate brokers.
The International division consists of the International Insurance and International Securities and Investments segments. The International Insurance segment manufactures and distributes individual life insurance products to the affluent retail market in Japan, Korea and six other Asian, Latin American and European countries. The International Securities and Investments segment provides full service securities brokerage, asset management and financial advisory services to retail and institutional clients outside of the United States.
The Asset Management division consists of the Investment Management and Advisory Services and Other Asset Management segments. The Investment Management and Advisory Services segment provides institutional asset management products and services to unaffiliated institutional clients as well as management services for assets supporting products offered by other segments. The Other Asset Management segment includes equity trading and commercial mortgage securitization activities, as well as hedge portfolio results.
Corporate and Other includes financial services businesses that are not included in other reportable segments as well as corporate-level activities. These businesses include international ventures, divested businesses and businesses that have not been divested but have been placed in wind-down status. The latter includes individual health insurance, group credit insurance and Canadian life insurance. The divested businesses include the results of the lead-managed equity underwriting for corporate issuers and institutional fixed income businesses of the Prudential Securities Group (see Note 4), Gibraltar Casualty (see Note 17), residential first mortgage banking and certain Canadian businesses. Corporate-level activities include corporate expenses not allocated to any business segments, including the cost of company-wide initiatives, investment returns on unallocated equity, returns from a debt-financed investment portfolio, transactions with other segments and consolidating adjustments.
As a mutual insurance company, most of the Company's individual life insurance and certain annuity products have been written on a "participating" basis, whereby policyholders are eligible to receive policyholder dividends reflecting policy experience. The Company will cease offering domestic participating insurance and annuity products in connection with the demutualization, if consummated. The liabilities of the individual in force participating products, together with the assets supporting them, will then be segregated for accounting purposes from the Company's other assets and liabilities. The liabilities and assets to be segregated, as well as other assets and equity that support these policies, and their financial results are reflected in the Traditional Participating Products segment, which is managed separately from the Financial Services Businesses.
The following summary presents certain financial data of our operations based on their location:
2000 1999 1998
------- ------- -------
(In Millions)
Revenues:
Domestic.......................................... $23,704 $24,382 $25,368
International..................................... 2,840 2,186 1,656
------- ------- -------
Total revenues................................... $26,544 $26,568 $27,024
======= ======= =======
Income from continuing operations before income
taxes:
Domestic.......................................... $ 368 $ 1,939 $ 2,372
International..................................... 359 316 225
------- ------- -------
Total income from continuing operations before
income taxes.................................... $ 727 $ 2,255 $ 2,597
======= ======= =======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
16. SEGMENT INFORMATION (continued)
The accounting policies of the segments are the same as those described in Note 2--"Summary of Significant Accounting Policies."
In managing its business, the Company analyzes the operating performance of each segment using "adjusted operating income", which is a non-GAAP measure. "Adjusted operating income" is calculated by adjusting income from continuing operations before income taxes to exclude certain items. The items excluded are realized investment gains, net of losses and related charges; sales practices remedies and costs; demutualization expenses; and the gains, losses and contribution to income/loss of divested businesses which have been sold but do not qualify for "discontinued operations" treatment under GAAP. Businesses that the Company has placed in wind-down status but are not divested remain in "adjusted operating income." The Company's discontinued healthcare operations are excluded from "income from continuing operations before income taxes."
The excluded items are important to an understanding of overall results of operations. "Adjusted operating income" is not a substitute for net income determined in accordance with GAAP and the Company's definition of "adjusted operating income" may differ from that used by other companies. However, the Company believes that the presentation of "adjusted operating income" as measured for management purposes enhances the understanding of results of operations by highlighting the results from ongoing operations and the underlying profitability factors of the Company's businesses.
The Company excludes realized investment gains, net of losses and related charges, from "adjusted operating income" because the timing of transactions resulting in recognition of gains or losses is largely at the Company's discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of the businesses. The Company excludes sales practices remedies and costs because they relate to a substantial and identifiable non-recurring event. The Company excludes demutualization expenses as they are directly related to demutualization and could distort the trends associated with our business operations. The Company excludes the gains and losses and contribution to income/loss of divested businesses and related runoff operations because, as a result of the decision to dispose of these businesses, these results are not relevant to the profitability of the Company's ongoing operations and could distort the trends associated with ongoing businesses.
The related charges offset against net realized investment gains and losses relates to policyholder dividends, amortization of deferred policy acquisition costs, and reserves for future policy benefits. Net realized investment gains is one of the elements that the Company considers in establishing the dividend scale, and the related policyholder dividend charge represents the estimated portion of the Company's expense charge for policyholder dividends that is attributed to net realized investment gains that the Company considers in determining the dividend scale. Deferred policy acquisition costs for certain investment-type products are amortized based on estimated gross profits, which include net realized investment gains and losses on the underlying invested assets, and the related charge for amortization of deferred policy acquisition costs represents the portion of this amortization associated with net realized investment gains and losses. The reserves for certain policies are adjusted when cash flows related to these policies are affected by net realized investment gains and losses, and the related charge for reserves for future policy benefits represents that adjustment.
"Adjusted operating income" for each segment includes earnings on attributed equity established at a level which management considers necessary to support the segment's risks.
Operating expenses specifically identifiable to a particular segment are allocated to that segment as incurred. Operating expenses not identifiable to a specific segment but which are incurred in connection with the generation of segment revenues are generally allocated based upon the segment's historical percentage of general and administrative expenses.
The financial results of the International Insurance segment reflect the impact of currency hedging strategies, including internal hedges, whereby currency fluctuation exposure within annual reporting periods is assumed by Corporate and Other Operations.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
16. SEGMENT INFORMATION (continued)
The Investment Management and Advisory Services segment revenues include intersegment revenues of $404 million, $381 million and $414 million in 2000, 1999 and 1998, respectively, which primarily consist of asset-based management fees from the businesses of the U.S. Consumer and Employee Benefits divisions and the Traditional Participating Products segment. Management has determined the intersegment fees for the various asset classes with reference to market rates. These fees are eliminated in consolidation.
As discussed in Note 4, Capital Markets Restructuring, the Company has exited the lead-managed underwriting and institutional fixed income businesses. Results for these businesses are included in Divested Businesses in the tables that follow. Income from Continuing Operations before Income Taxes for these businesses was a loss of $73 million in 1998, income of $23 million in 1999 and a loss of $620 million in 2000. The loss in 2000 includes a restructuring charge of $476 million.
The summary below reconciles adjusted operating income to income from continuing operations before income taxes:
Year ended December 31, 2000
-----------------------------------------------------------------------------------------
Reconciling Items
-----------------------------------------------------------------------------------------
Charges Divested Income from
Realized Related to Sales Business Continuing
Adjusted Investment Realized Practices and Related Operations
Operating Gains Gains Remedies Runoff Demutualization Before Income
Income (Losses), Net (Losses), Net and Costs Operations Expenses Taxes
--------- ------------- ------------- --------- ----------- --------------- -------------
(In Millions)
Individual Life
Insurance.............. $ 114 $ (6) $ -- $ -- $ -- $ -- $ 108
Private Client Group.... 237 -- -- -- -- -- 237
Retail Investments...... 239 (8) 2 -- -- -- 233
Property and Casualty
Insurance.............. 150 16 -- -- -- -- 166
------ ----- ----- ----- ----- ----- ------
Total U.S. Consumer
Division.............. 740 2 2 -- -- -- 744
------ ----- ----- ----- ----- ----- ------
Group Insurance......... 158 (2) -- -- -- -- 156
Other Employee
Benefits............... 229 (85) (31) -- -- -- 113
------ ----- ----- ----- ----- ----- ------
Total Employee Benefits
Division.............. 387 (87) (31) -- -- -- 269
------ ----- ----- ----- ----- ----- ------
International
Insurance.............. 296 (15) -- -- -- -- 281
International Securities
and Investments........ 26 -- -- -- -- -- 26
------ ----- ----- ----- ----- ----- ------
Total International
Division.............. 322 (15) -- -- -- -- 307
------ ----- ----- ----- ----- ----- ------
Investment Management
and Advisory Services.. 154 1 -- -- -- -- 155
Other Asset Management.. 122 -- -- -- -- -- 122
------ ----- ----- ----- ----- ----- ------
Total Asset Management
Division.............. 276 1 -- -- -- -- 277
------ ----- ----- ----- ----- ----- ------
Corporate and Other..... (4) (280) -- -- (636) (143) (1,063)
------ ----- ----- ----- ----- ----- ------
Total -- Financial
Services Businesses... 1,721 (379) (29) -- (636) (143) 534
------ ----- ----- ----- ----- ----- ------
Traditional
Participating Products
segment................ 547 91 (445) -- -- -- 193
------ ----- ----- ----- ----- ----- ------
Total.................. $2,268 $(288) $(474) $ -- $(636) $(143) $ 727
====== ===== ===== ===== ===== ===== ======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
16. SEGMENT INFORMATION (continued)
Year ended December 31, 1999
-----------------------------------------------------------------------------------------
Reconciling Items
-----------------------------------------------------------------------------------------
Charges Divested Income from
Realized Related to Sales Business Continuing
Adjusted Investment Realized Practices and Related Operations
Operating Gains Gains Remedies Runoff Demutualization Before Income
Income (Losses), Net (Losses), Net and Costs Operations Expenses Taxes
--------- ------------- ------------- --------- ----------- --------------- -------------
(In Millions)
Individual Life
Insurance.............. $ 117 $(23) $ -- $ -- $ -- $ -- $ 94
Private Client Group.... 224 -- -- -- -- -- 224
Retail Investments...... 174 5 1 -- -- -- 180
Property and Casualty
Insurance.............. 152 9 -- -- -- -- 161
------ ---- ----- ----- ----- ----- ------
Total U.S. Consumer
Division.............. 667 ( 9) 1 -- -- -- 659
------ ---- ----- ----- ----- ----- ------
Group Insurance......... 128 25 (10) -- -- -- 143
Other Employee
Benefits............... 272 203 (133) -- -- -- 342
------ ---- ----- ----- ----- ----- ------
Total Employee Benefits
Division.............. 400 228 (143) -- -- -- 485
------ ---- ----- ----- ----- ----- ------
International
Insurance.............. 218 9 -- -- -- -- 227
International Securities
and Investments........ 15 -- -- -- -- -- 15
------ ---- ----- ----- ----- ----- ------
Total International
Division.............. 233 9 -- -- -- -- 242
------ ---- ----- ----- ----- ----- ------
Investment Management
and Advisory Services.. 155 1 -- -- -- -- 156
Other Asset Management.. 97 -- -- -- -- -- 97
------ ---- ----- ----- ----- ----- ------
Total Asset Management
Division.............. 252 1 -- -- -- -- 253
------ ---- ----- ----- ----- ----- ------
Corporate and Other..... 137 357 -- (100) (47) (75) 272
------ ---- ----- ----- ----- ----- ------
Total -- Financial
Services Businesses... 1,689 586 (142) (100) (47) (75) 1,911
------ ---- ----- ----- ----- ----- ------
Traditional
Participating Products
segment................ 316 338 (310) -- -- -- 344
------ ---- ----- ----- ----- ----- ------
Total.................. $2,005 $924 $(452) $(100) $ (47) $ (75) $2,255
====== ==== ===== ===== ===== ===== ======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
16. SEGMENT INFORMATION (continued)
Year ended December 31, 1998
-----------------------------------------------------------------------------------------
Reconciling Items
-----------------------------------------------------------------------------------------
Charges Divested Income from
Realized Related to Sales Business Continuing
Adjusted Investment Realized Practices and Related Operations
Operating Gains Gains Remedies Runoff Demutualization Before Income
Income (Losses), Net (Losses), Net and Costs Operations Expenses Taxes
--------- ------------- ------------- --------- ----------- --------------- -------------
(In Millions)
Individual Life
Insurance.............. $ 178 $ 18 $ -- $ -- $ -- $ -- $ 196
Private Client Group.... 114 -- -- -- -- -- 114
Retail Investments...... 249 97 (3) -- -- -- 343
Property and Casualty
Insurance.............. 311 16 -- -- -- -- 327
------ ------ ----- ------- ----- ----- -------
Total U.S. Consumer
Division.............. 852 131 (3) -- -- -- 980
------ ------ ----- ------- ----- ----- -------
Group Insurance......... 98 123 -- -- -- -- 221
Other Employee
Benefits............... 342 595 (222) -- -- -- 715
------ ------ ----- ------- ----- ----- -------
Total Employee Benefits
Division.............. 440 718 (222) -- -- -- 936
------ ------ ----- ------- ----- ----- -------
International
Insurance.............. 144 9 -- -- -- -- 153
International Securities
and Investments........ 13 -- -- -- -- -- 13
------ ------ ----- ------- ----- ----- -------
Total International
Division.............. 157 9 -- -- -- -- 166
------ ------ ----- ------- ----- ----- -------
Investment Management
and Advisory Services.. 144 1 -- -- -- -- 145
Other Asset Management.. 22 -- -- -- -- -- 22
------ ------ ----- ------- ----- ----- -------
Total Asset Management
Division.............. 166 1 -- -- -- -- 167
------ ------ ----- ------- ----- ----- -------
Corporate and Other..... (34) 85 -- (1,150) (196) (24) (1,319)
------ ------ ----- ------- ----- ----- -------
Total -- Financial
Services Businesses... 1,581 944 (225) (1,150) (196) (24) 930
------ ------ ----- ------- ----- ----- -------
Traditional
Participating Products
segment................ 206 1,697 (236) -- -- -- 1,667
------ ------ ----- ------- ----- ----- -------
Total.................. $1,787 $2,641 $(461) $(1,150) $(196) $ (24) $ 2,597
====== ====== ===== ======= ===== ===== =======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
16. SEGMENT INFORMATION (continued)
The summary below presents certain financial information for the Company's reportable segments:
Year ended December 31, 2000
--------------------------------------------------------------------------------------
Interest Amortization
Credited to of Deferred
Net Policyholders' Policy
Investment Policyholders' Account Dividends to Interest Acquisition
Revenues Income Benefits Balances Policyholders Expense Costs
-------- ---------- -------------- -------------- ------------- -------- ------------
(In Millions)
Financial Services
Businesses:
Individual Life
Insurance............. $ 1,855 $ 374 $ 650 $ 131 $ 12 $ 10 $ 172
Private Client Group... 2,689 299 -- -- -- -- --
Retail Investments..... 1,631 478 152 264 1 1 212
Property and Casualty
Insurance............. 1,840 193 1,045 -- -- -- 365
------- ------ ------- ------ ------ ---- ------
Total U.S. Consumer
Division.............. 8,015 1,344 1,847 395 13 11 749
------- ------ ------- ------ ------ ---- ------
Group Insurance........ 2,801 485 2,042 200 -- (1) 1
Other Employee
Benefits.............. 2,885 2,332 930 1,024 -- 44 22
------- ------ ------- ------ ------ ---- ------
Total Employee Benefits
Division.............. 5,686 2,817 2,972 1,224 -- 43 23
------- ------ ------- ------ ------ ---- ------
International
Insurance............. 1,920 129 1,265 2 1 4 145
International
Securities and
Investments........... 704 66 -- -- -- -- 1
------- ------ ------- ------ ------ ---- ------
Total International
Division.............. 2,624 195 1,265 2 1 4 146
------- ------ ------- ------ ------ ---- ------
Investment Management
and Advisory
Services.............. 874 21 -- -- -- 5 --
Other Asset
Management............ 470 31 -- -- -- -- --
------- ------ ------- ------ ------ ---- ------
Total Asset Management
Division.............. 1,344 52 -- -- -- 5 --
------- ------ ------- ------ ------ ---- ------
Corporate and Other.... 283 816 23 (3) 4 385 (84)
------- ------ ------- ------ ------ ---- ------
Total.................. 17,952 5,224 6,107 1,618 18 448 834
------- ------ ------- ------ ------ ---- ------
Items Excluded From
Adjusted Operating
Income:
Realized investment
gains, net of losses
and related charges:
Realized investment
gains (losses), net... (379) -- -- -- -- -- --
Related Charges:
Reserves............... -- -- 36 -- -- -- --
Amortization of
deferred policy
acquisition costs..... -- -- -- -- -- -- (7)
------- ------ ------- ------ ------ ---- ------
Total realized
investment gains, net
of losses and related
charges.............. (379) -- 36 -- -- -- (7)
------- ------ ------- ------ ------ ---- ------
Divested businesses and
related runoff
operations............ 269 101 14 -- -- -- --
------- ------ ------- ------ ------ ---- ------
Total -- Financial
Services Businesses.. 17,842 5,325 6,157 1,618 18 448 827
------- ------ ------- ------ ------ ---- ------
Traditional
Participating Products
segment................ 8,611 4,172 4,483 133 2,261 152 269
Items Excluded From
Adjusted Operating
Income:
Realized investment
gains, net of losses
and related charges:
Realized investment
gains (losses), net... 91 -- -- -- -- -- --
Related Charges:
Dividends to
policyholders......... -- -- -- -- 445 -- --
------- ------ ------- ------ ------ ---- ------
Total realized
investment gains, net
of losses and related
charges.............. 91 -- -- -- 445 -- --
------- ------ ------- ------ ------ ---- ------
Total -- Traditional
Participating
Products segment..... 8,702 4,172 4,483 133 2,706 152 269
------- ------ ------- ------ ------ ---- ------
Total per Consolidated
Financial
Statements........... $26,544 $9,497 $10,640 $1,751 $2,724 $600 $1,096
======= ====== ======= ====== ====== ==== ======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
16. SEGMENT INFORMATION (continued)
Year ended December 31, 1999
-------------------------------------------------------------------------------------
Interest Amortization
Credited to of Deferred
Net Policyholders' Policy
Investment Policyholders' Account Dividends to Interest Acquisition
Revenues Income Benefits Balances Policyholders Expense Costs
-------- ---------- -------------- -------------- ------------- -------- ------------
(In Millions)
Financial Services
Businesses:
Individual Life
Insurance............. $ 1,723 $ 316 $ 519 $ 126 $ 8 $ 4 $ 185
Private Client Group... 2,509 269 -- -- -- -- --
Retail Investments..... 1,551 491 118 271 -- 5 230
Property and Casualty
Insurance............. 1,747 197 1,100 -- -- -- 350
------- ------ ------- ------ ------ ---- ------
Total U.S. Consumer
Division.............. 7,530 1,273 1,737 397 8 9 765
------- ------ ------- ------ ------ ---- ------
Group Insurance........ 2,428 470 1,749 197 -- -- --
Other Employee
Benefits.............. 3,014 2,460 997 1,086 -- 51 10
------- ------ ------- ------ ------ ---- ------
Total Employee Benefits
Division.............. 5,442 2,930 2,746 1,283 -- 51 10
------- ------ ------- ------ ------ ---- ------
International
Insurance............. 1,522 99 1,031 1 2 -- 102
International
Securities and
Investments........... 580 54 -- -- -- -- 1
------- ------ ------- ------ ------ ---- ------
Total International
Division.............. 2,102 153 1,031 1 2 -- 103
------- ------ ------- ------ ------ ---- ------
Investment Management
and Advisory
Services.............. 768 3 -- -- -- -- --
Other Asset
Management............ 369 29 -- -- -- -- --
------- ------ ------- ------ ------ ---- ------
Total Asset Management
Division.............. 1,137 32 -- -- -- -- --
------- ------ ------- ------ ------ ---- ------
Corporate and Other.... 566 926 80 -- 5 420 (32)
------- ------ ------- ------ ------ ---- ------
Total.................. 16,777 5,314 5,594 1,681 15 480 846
------- ------ ------- ------ ------ ---- ------
Items Excluded From
Adjusted Operating
Income:
Realized investment
gains, net of losses
and related charges:
Realized investment
gains (losses), net... 586 -- -- -- -- -- --
Related Charges:
Reserves............... -- -- 147 -- -- -- --
Amortization of
deferred policy
acquisition costs..... -- -- -- -- -- -- (5)
------- ------ ------- ------ ------ ---- ------
Total realized
investment gains, net
of losses and related
charges.............. 586 -- 147 -- -- -- (5)
------- ------ ------- ------ ------ ---- ------
Divested businesses and
related runoff
operations............ 511 142 65 -- -- -- --
------- ------ ------- ------ ------ ---- ------
Total -- Financial
Services Businesses.. 17,874 5,456 5,806 1,681 15 480 841
------- ------ ------- ------ ------ ---- ------
Traditional
Participating Products
segment................ 8,356 3,911 4,420 130 2,246 71 314
Items Excluded From
Adjusted Operating
Income:
Realized investment
gains, net of losses
and related charges:
Realized investment
gains (losses), net... 338 -- -- -- -- -- --
Related Charges:
Dividends to
policyholders......... -- -- -- -- 310 -- --
------- ------ ------- ------ ------ ---- ------
Total realized
investment gains, net
of losses and related
charges.............. 338 -- -- -- 310 -- --
------- ------ ------- ------ ------ ---- ------
Total -- Traditional
Participating
Products segment..... 8,694 3,911 4,420 130 2,556 71 314
------- ------ ------- ------ ------ ---- ------
Total per Consolidated
Financial
Statements........... $26,568 $9,367 $10,226 $1,811 $2,571 $551 $1,155
======= ====== ======= ====== ====== ==== ======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
16. SEGMENT INFORMATION (continued)
Year ended December 31, 1998
-------------------------------------------------------------------------------------
Interest Amortization
Credited to of Deferred
Net Policyholders' Policy
Investment Policyholders' Account Dividends to Interest Acquisition
Revenues Income Benefits Balances Policyholders Expense Costs
-------- ---------- -------------- -------------- ------------- -------- ------------
(In Millions)
Financial Services
Businesses:
Individual Life
Insurance............. $ 1,674 $ 300 $ 525 $ 117 $ 5 $ 4 $ 185
Private Client Group... 2,317 255 -- -- -- -- --
Retail Investments..... 1,532 567 125 294 -- 3 180
Property and Casualty
Insurance............. 1,812 223 1,070 -- -- -- 340
------- ------ ------ ------ ------ ---- ------
Total U.S. Consumer
Division.............. 7,335 1,345 1,720 411 5 7 705
------- ------ ------ ------ ------ ---- ------
Group Insurance........ 2,205 441 1,650 158 -- 1 --
Other Employee
Benefits.............. 3,258 2,730 991 1,278 -- 28 10
------- ------ ------ ------ ------ ---- ------
Total Employee Benefits
Division.............. 5,463 3,171 2,641 1,436 -- 29 10
------- ------ ------ ------ ------ ---- ------
International
Insurance............. 1,090 65 742 3 2 -- 103
International
Securities and
Investments........... 532 55 -- -- -- -- 1
------- ------ ------ ------ ------ ---- ------
Total International
Division.............. 1,622 120 742 3 2 -- 104
------- ------ ------ ------ ------ ---- ------
Investment Management
and Advisory
Services.............. 740 2 -- -- -- -- 5
Other Asset
Management............ 253 9 -- -- -- -- --
------- ------ ------ ------ ------ ---- ------
Total Asset Management
Division.............. 993 11 -- -- -- -- 5
------- ------ ------ ------ ------ ---- ------
Corporate and Other.... 313 894 20 -- 5 446 (50)
------- ------ ------ ------ ------ ---- ------
Total.................. 15,726 5,541 5,123 1,850 12 482 774
------- ------ ------ ------ ------ ---- ------
Items Excluded From
Adjusted Operating
Income:
Realized investment
gains, net of losses
and related charges:
Realized investment
gains (losses), net... 944 -- -- -- -- -- --
Related Charges:
Reserves............... -- -- 218 -- -- -- --
Amortization of
deferred policy
acquisition costs..... -- -- -- -- -- -- 7
------- ------ ------ ------ ------ ---- ------
Total realized
investment gains, net
of losses and related
charges.............. 944 -- 218 -- -- -- 7
------- ------ ------ ------ ------ ---- ------
Divested businesses and
related runoff
operations............ 325 119 55 -- -- -- --
------- ------ ------ ------ ------ ---- ------
Total -- Financial
Services Businesses.. 16,995 5,660 5,396 1,850 12 482 781
------- ------ ------ ------ ------ ---- ------
Traditional
Participating Products
segment................ 8,332 3,794 4,390 103 2,229 66 358
Items Excluded From
Adjusted Operating
Income:
Realized investment
gains, net of losses
and related charges:
Realized investment
gains (losses), net... 1,697 -- -- -- -- -- --
Related Charges:
Dividends to
policyholders......... -- -- -- -- 236 -- --
------- ------ ------ ------ ------ ---- ------
Total realized
investment gains, net
of losses and related
charges.............. 1,697 -- -- -- 236 -- --
------- ------ ------ ------ ------ ---- ------
Total -- Traditional
Participating
Products segment..... 10,029 3,794 4,390 103 2,465 66 358
------- ------ ------ ------ ------ ---- ------
Total per Consolidated
Financial
Statements........... $27,024 $9,454 $9,786 $1,953 $2,477 $548 $1,139
======= ====== ====== ====== ====== ==== ======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
16. SEGMENT INFORMATION (continued)
The summary below presents total assets for the Company's reportable segments as of December 31, 2000, 1999 and 1998.
Assets
--------------------------
2000 1999 1998
-------- -------- --------
(In Millions)
Individual Life Insurance........................ $ 22,992 $ 22,040 $ 20,406
Private Client Group............................. 18,426 23,157 17,681
Retail Investments............................... 27,042 28,658 25,594
Property and Casualty Insurance.................. 4,763 4,380 4,865
-------- -------- --------
Total U.S. Consumer Division.................... 73,223 78,235 68,546
-------- -------- --------
Group Insurance.................................. 15,891 13,850 12,014
Other Employee Benefits.......................... 59,926 60,105 67,702
-------- -------- --------
Total Employee Benefits Division................ 75,817 73,955 79,716
-------- -------- --------
International Insurance.......................... 6,726 5,804 4,329
International Securities and Investments......... 3,644 3,471 3,460
-------- -------- --------
Total International Division.................... 10,370 9,275 7,789
-------- -------- --------
Investment Management and Advisory Services...... 20,251 18,174 18,421
Other Asset Management........................... 10,351 7,384 5,716
-------- -------- --------
Total Asset Management Division................. 30,602 25,558 24,137
-------- -------- --------
Corporate and Other.............................. 12,814 29,498 36,136
-------- -------- --------
Total--Financial Services Businesses............ 202,826 216,521 216,324
-------- -------- --------
Traditional Participating Products segment....... 69,927 68,573 63,098
-------- -------- --------
Total Assets.................................... $272,753 $285,094 $279,422
======== ======== ========
|
17. CONTINGENCIES AND LITIGATION
Contingencies
On September 19, 2000, the Company sold Gibraltar Casualty Company ("Gibraltar"), a subsidiary engaged in the commercial property and casualty insurance business, to Everest Re Group, Ltd. ("Everest"). Upon closing of the sale, the Company entered into a stop-loss reinsurance agreement with Everest whereby the Company will reinsure Everest for up to 80% of the first $200 million of any adverse loss development in excess of Gibraltar's carried reserves as of the closing of the sale.
The Company's property and casualty operations are subject to rate and other laws and regulations covering a range of trade and claim settlement practices. State insurance regulatory authorities have broad discretion in approving an insurer's proposed rates. A significant portion of the Company's automobile insurance is written in the state of New Jersey. Under certain circumstances, New Jersey insurance laws require an insurer to provide a refund or credit to policyholders based upon the profits earned on automobile insurance.
The Company has reviewed its obligations retained in the sale of the healthcare operations under certain managed care arrangements for possible failure to comply with contractual and regulatory requirements.
It is possible that the results of operations or the cash flow of the Company in a particular quarterly or annual period could be materially affected as a result of payments in connection with the matters discussed above depending, in part, upon the results of operations or cash flow for such period. Management believes, however, that ultimate payments in connection with these matters should not have a material adverse effect on the Company's financial position.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
17. CONTINGENCIES AND LITIGATION (continued)
Litigation
The Company is subject to legal and regulatory actions in the ordinary course of its businesses. Pending legal and regulatory actions include proceedings relating to aspects of our businesses and operations that are specific to the Company and proceedings that are typical of the businesses in which the Company operates, including in both cases businesses that have either been divested or placed in wind-down status. Some of these proceedings have been brought on behalf of various alleged classes of complainants. In certain of these matters, the plaintiffs are seeking large and/or indeterminate amounts, including punitive or exemplary damages.
In particular, the Company has been subject to substantial regulatory actions and civil litigation involving individual life insurance sales practices. In 1996, the Company entered into settlement agreements with relevant insurance regulatory authorities and plaintiffs in the principal life insurance sales practices class action lawsuit covering policyholders of individual permanent life insurance policies issued in the United States from 1982 to 1995. Pursuant to the settlements, the Company agreed to various changes to its sales and business practices controls, to a series of fines, and to provide specific forms of relief to eligible class members. Virtually all claims by class members filed in connection with the settlements have been resolved and virtually all aspects of the remediation program have been satisfied. While the approval of the class action settlement is now final, the Company remains subject to oversight and review by insurance regulators and other regulatory authorities with respect to its sales practices and the conduct of the remediation program. The U.S. District Court has also retained jurisdiction as to all matters relating to the administration, consummation, enforcement and interpretation of the settlements.
As of December 31, 2000, the Company remained a party to approximately 61 individual sales practices actions filed by policyholders who "opted out" of the class action settlement relating to permanent life insurance policies the Company issued in the United States between 1982 and 1995. In addition, there were 48 sales practices actions pending that were filed by policyholders who were members of the class and who failed to "opt out" of the class action settlement. The Company believes that those actions are governed by the class settlement release and expects them to be enjoined and/or dismissed. Additional suits may be filed by class members who "opted out" of the class settlement or who failed to "opt out" but nevertheless seek to proceed against the Company. A number of the plaintiffs in these cases seek large and/or indeterminate amounts, including punitive or exemplary damages. Some of these actions are brought on behalf of multiple plaintiffs. It is possible that substantial punitive damages might be awarded in any of these actions and particularly in an action involving multiple plaintiffs.
The Company believes that its reserves related to sales practices, as of December 31, 2000, are adequate. No incremental provisions were recorded in 2000. In 1999, 1998, 1997 and 1996, the Company recorded provisions in its Consolidated Statements of Operations of $100 million, $1,150 million, $2,030 million and $1,125 million, respectively, to provide for estimated remediation costs, and additional sales practices costs including related administrative costs, regulatory fines, penalties and related payments, litigation costs and settlements, including settlements associated with the resolution of claims of deceptive sales practices asserted by policyholders who elected to "opt-out" of the class action settlement and litigate their claims against the Company separately and other fees and expenses associated with the resolution of sales practices issues.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
17. CONTINGENCIES AND LITIGATION (continued)
The following table summarizes the Company's charges for the estimated total costs of sales practices remedies and additional sales practices costs and related liability balances as of the dates indicated:
Year Ended December 31,
--------------------------------------
2000 1999 1998 1997 1996
----- ------- ------- ------- ------
(In Millions)
Liability balance at beginning of
period.............................. $ 891 $ 3,058 $ 2,553 $ 963 $ --
Charges to expense:
Remedy costs........................ (54) (99) 510 1,640 410
Additional sales practices costs.... 54 199 640 390 715
----- ------- ------- ------- ------
Total charges to expense............ -- 100 1,150 2,030 1,125
Amounts paid or credited:
Remedy costs........................ 448 1,708 147 -- --
Additional sales practices costs.... 190 559 498 440 162
----- ------- ------- ------- ------
Total amounts paid or credited...... 638 2,267 645 440 162
----- ------- ------- ------- ------
Liability balance at end of period... $ 253 $ 891 $ 3,058 $ 2,553 $ 963
===== ======= ======= ======= ======
|
In 1996, the Company recorded in its Consolidated Statement of Operations the cost of $410 million before taxes as a guaranteed minimum remediation expense pursuant to the settlement agreement. Management had no better information available at that time upon which to make a reasonable estimate of the losses associated with the settlement. Charges were also recorded in 1996 for estimated additional sales practices costs totaling $715 million before taxes.
In 1997, management increased the estimated liability for the cost of remedying policyholder claims by $1,640 million before taxes. This increase was based on additional information derived from claim sampling techniques, the terms of the settlement and the number of claim forms received. The Company also recorded additional charges of $390 million before taxes to recognize the increase in estimated total additional sales practices costs.
In 1998, the Company recorded an additional charge of $510 million before
taxes to recognize the increase of the estimated total cost of remedying
policyholder claims to a total of $2,560 million before taxes. This increase
was based on (i) estimates derived from an analysis of claims actually
remedied (including interest); (ii) a sample of claims still to be remedied;
(iii) an estimate of additional liabilities associated with a claimant's right
to "appeal" the Company's decision; and (iv) an estimate of an additional
liability associated with the results of an investigation by a court-appointed
independent expert regarding the impact of the Company's failure to properly
implement procedures to preserve all documents relevant to the class action
and remediation program. The Company also recorded additional charges of $640
million before taxes to recognize the increase in estimated total additional
sales practices costs.
In 1999, the Company recorded an increase of $199 million of the estimate of total additional sales practices costs. This was offset by a $99 million release of the previously recorded liability relative to remedy costs reflecting a decrease in the estimate of the total costs of remedying policyholder claims.
In 2000, the Company recorded an increase of $54 million of the estimate of total additional sales practices costs. This was partially offset by a $54 million release of the previously recorded liability relative to remedy costs reflecting a decrease in the estimate of the total costs of remedying policyholder claims.
In addition, the Company retained all liabilities for the litigation associated with its discontinued healthcare business that existed at the date of closing with Aetna (August 6, 1999), or is commenced within two years of that date, with respect to claims relating to events that occurred prior to the closing date. This litigation includes purported class actions and individual suits involving various issues, including payment of claims, denial of benefits, vicarious liability for malpractice claims, and contract disputes with provider groups and former policyholders. Some of the purported class actions challenge practices of the Company's former managed care operations and assert nationwide classes. On October 23, 2000, by Order of the Judicial Panel on Multi-district
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Consolidated Financial Statements
17. CONTINGENCIES AND LITIGATION (continued)
Litigation, a number of these class actions were consolidated for pre-trial purposes, along with lawsuits pending against other managed health care companies, in the United States District Court for the Southern District of Florida in a consolidated proceeding captioned In Re Managed Care Litigation. Some of these class actions allege, among other things, misrepresentation of the level of services and quality of care, failure to disclose financial incentive agreements with physicians, interference with the physician-patient relationship, breach of contract and fiduciary duty, violations of and conspiracy to violate RICO, deprivation of plaintiffs' rights to the delivery of honest medical services and industry-wide conspiracy to defraud physicians by failing to pay under provider agreements and by unlawfully coercing providers to enter into agreements with unfair and unreasonable terms. The remedies sought include unspecified damages, restitution, disgorgement of profits, treble damages, punitive damages and injunctive relief. This litigation is in the preliminary stages.
The Company's litigation is subject to many uncertainties, and given the complexity and scope, the outcomes cannot be predicted. It is possible that the results of operations or the cash flow of the Company in a particular quarterly or annual period could be materially affected by an ultimate unfavorable resolution of pending litigation and regulatory matters depending, in part, upon the results of operations or cash flow for such period. Management believes, however, that the ultimate outcome of all pending litigation and regulatory matters, after consideration of applicable reserves, should not have a material adverse effect on the Company's financial position.
18. OTHER EVENTS
The Company is currently seeking to acquire Kyoei Life Insurance Co., Ltd. ("Kyoei"), a financially troubled Japanese life insurer, subject to final completion of reorganization proceedings involving Kyoei under the Corporate Reorganization Law of Japan ("Reorganization Law"). Pursuant to these proceedings, on April 2, 2001, the Tokyo District Court approved a reorganization plan ("Reorganization Plan") providing for the restructuring of Kyoei's assets and liabilities. The Reorganization Plan is expected to become effective in April 2001. The Reorganization Plan includes the extinguishment of all existing stock of Kyoei for no consideration and the issuance of one million new shares of common stock. Under the Reorganization Plan, the Company will contribute approximately $437 million in cash to Kyoei's capital and acquire 100% of Kyoei's newly issued common stock and provide approximately $857 million to Kyoei in the form of a subordinated loan. There is no assurance that the Company will complete the proposed acquisition.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Supplemental Combining Statement of Financial Position December 31, 2000 (In Millions)
Financial Traditional
Services Participating
Businesses Products Consolidated
---------- ------------- ------------
ASSETS
Fixed maturities:
Available for sale, at fair value....... $ 46,172 $ 37,655 $ 83,827
Held to maturity, at amortized cost..... 7,172 5,276 12,448
Trading account assets, at fair value.... 7,217 -- 7,217
Equity securities, available for sale, at
fair value.............................. 855 1,462 2,317
Mortgage loans on real estate............ 8,177 7,742 15,919
Policy loans............................. 2,336 5,710 8,046
Securities purchased under agreements to
resell.................................. 5,395 -- 5,395
Cash collateral for borrowed securities.. 3,858 -- 3,858
Other long-term investments.............. 2,562 1,897 4,459
Short-term investments................... 2,498 2,531 5,029
-------- -------- --------
Total investments....................... 86,242 62,273 148,515
Cash and cash equivalents................ 5,165 2,511 7,676
Accrued investment income................ 1,002 914 1,916
Broker-dealer related receivables........ 11,860 -- 11,860
Deferred policy acquisition costs........ 5,389 1,674 7,063
Other assets............................. 10,951 2,555 13,506
Separate account assets.................. 82,217 -- 82,217
-------- -------- --------
TOTAL ASSETS............................ $202,826 $ 69,927 $272,753
======== ======== ========
LIABILITIES AND ATTRIBUTED EQUITY
LIABILITIES
Future policy benefits................... $ 23,274 $ 46,014 $ 69,288
Policyholders' account balances.......... 27,320 5,402 32,722
Unpaid claims and claim adjustment
expenses................................ 2,120 -- 2,120
Policyholders' dividends................. 222 1,241 1,463
Securities sold under agreements to
repurchase.............................. 11,162 3,848 15,010
Cash collateral for loaned securities.... 9,283 1,770 11,053
Income taxes payable..................... 1,041 569 1,610
Broker-dealer related payables........... 5,965 -- 5,965
Securities sold but not yet purchased.... 4,959 -- 4,959
Short-term debt.......................... 10,893 238 11,131
Long-term debt........................... 1,476 1,026 2,502
Other liabilities........................ 9,153 2,952 12,105
Separate account liabilities............. 82,217 -- 82,217
-------- -------- --------
Total liabilities....................... 189,085 63,060 252,145
-------- -------- --------
COMMITMENTS AND CONTINGENCIES
ATTRIBUTED EQUITY
Accumulated other comprehensive income
(loss).................................. 497 (263) 234
Attributed Equity........................ 13,244 7,130 20,374
-------- -------- --------
Total attributed equity................. 13,741 6,867 20,608
-------- -------- --------
TOTAL LIABILITIES AND ATTRIBUTED
EQUITY................................. $202,826 $69,927 $272,753
======== ======== ========
|
See Notes to Supplemental Combining Financial Information
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Supplemental Combining Statement of Operations Year Ended December 31, 2000 (In Millions)
Financial Traditional
Services Participating
Businesses Products Consolidated
---------- ------------- ------------
REVENUES
Premiums................................ $ 5,901 $4,320 $10,221
Policy charges and fee income........... 1,639 -- 1,639
Net investment income................... 5,224 4,172 9,396
Commissions and other income............ 5,188 119 5,307
------- ------ -------
Total revenues......................... 17,952 8,611 26,563
------- ------ -------
BENEFITS AND EXPENSES
Policyholders' benefits................. 6,107 4,483 10,590
Interest credited to policyholders'
account balances....................... 1,618 133 1,751
Dividends to policyholders.............. 18 2,261 2,279
General and administrative expenses..... 8,488 1,187 9,675
------- ------ -------
Total benefits and expenses............ 16,231 8,064 24,295
------- ------ -------
ADJUSTED OPERATING INCOME............... 1,721 547 2,268
------- ------ -------
Items excluded from adjusted operating
income
Realized investment gains (losses),
net, and related charges:
Realized investment gains (losses),
net.................................. (379) 91 (288)
Related charges....................... (29) (445) (474)
------- ------ -------
Total realized investment gains
(losses), net, and related charges... (408) (354) (762)
------- ------ -------
Divested businesses.................... (636) -- (636)
Demutualization........................ (143) -- (143)
------- ------ -------
INCOME FROM CONTINUING OPERATIONS BEFORE
INCOME TAXES........................... 534 193 727
------- ------ -------
Income tax expense..................... 300 106 406
------- ------ -------
INCOME FROM CONTINUING OPERATIONS....... $ 234 $ 87 $ 321
======= ====== =======
|
See Notes to Supplemental Combining Financial Information
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Supplemental Combining Financial Information
1. BASIS OF PRESENTATION
The supplemental financial information presents, on a combining basis, the consolidated GAAP results of The Prudential Insurance Company of America, separately reporting the results of the Financial Services Businesses and the Traditional Participating Products segment. The Financial Services Businesses and Traditional Participating Products segment are both fully integrated operations of The Prudential Insurance Company of America (the "Company") and are not separate legal entities.
The Traditional Participating Products segment has historically sold participating insurance and annuity products, which, upon demutualization, will no longer be offered. The liabilities for these products will then be segregated, together with assets which will be used exclusively for the payment of guaranteed benefits and policyholder dividends, expenses and taxes with respect to these products, in a regulatory mechanism referred to as the "Closed Block." A minor portion of our Traditional Participating Products segment historically has consisted of other traditional insurance products that will not be included in the Closed Block. The Financial Services Businesses consist of the Company's individual life insurance operations (other than participating insurance products), mutual funds, fixed and variable annuities (other than participating annuity products), defined contribution and other retirement products, brokerage and financial advisory services and asset management services. The schedule presents the results of the Financial Services Businesses and Traditional Participating Products segment, as if they were separate reporting entities. This schedule is provided as supplemental information to the consolidated financial statements of the Company and should be read in conjunction with the audited consolidated financial statements of the Company.
This combining supplemental schedule reflects the assets, liabilities, revenues and expenses directly attributable to the Financial Services Businesses and Traditional Participating Products segment, as well as allocations deemed reasonable by management in order to fairly present the financial position and results of operations of each business on a stand alone basis. While management considers the allocations utilized to be reasonable, management has the discretion to make operational and financial decisions which may affect the allocation methods and resulting assets, liabilities, revenues and expenses of each business. In addition, management has discretion over accounting policies and the appropriate allocation of earnings between the two businesses.
The net investment income of the Financial Services Businesses and Traditional Participating Products segment includes earnings based upon the amount of equity management believes is necessary to support the business risks of each, which differs from equity included in the Statement of Financial Position.
General corporate overhead not directly attributable to a specific business but which has been incurred in connection with the generation of the businesses revenues has generally been allocated based on each businesses' historical general and administrative expenses as a percentage of the total for the Company.
Income taxes are allocated between the Financial Services Businesses and the Traditional Participating Products segment as if they were separate companies based on the taxable income, losses and other tax characterizations of each business. If a business generates benefits (such as net operating losses), it will be entitled to record such tax benefits to the extent they are expected to be utilized on a consolidated basis.
In managing its business, the Company analyzes the operating performance of each segment using "adjusted operating income", which is a non-GAAP measure. "Adjusted operating income" is calculated by adjusting income from continuing operations before income taxes to exclude certain items. The items excluded are realized investment gains, net of losses and related charges; demutualization expenses; and the gains, losses and contribution to income/loss of divested businesses and related runoff operations which have been sold but do not qualify for "discontinued operations" treatment under GAAP. Businesses that the Company has placed in wind-down status but are not divested remain in "adjusted operating income." The Company's discontinued healthcare operations are excluded from "income from continuing operations before income taxes."
The excluded items are important to an understanding of overall results of operations. "Adjusted operating income" is not a substitute for net income determined in accordance with GAAP and the Company's definition of "adjusted operating income" may differ from that used by other companies. However, the Company believes that the presentation of "adjusted operating income" as measured for management purposes enhances the understanding of results of operations by highlighting the results from ongoing operations and the underlying profitability factors of the Company's businesses.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Supplemental Combining Financial Information
1. BASIS OF PRESENTATION (continued)
The Company excludes realized investment gains, net of losses and related charges, from "adjusted operating income" because the timing of transactions resulting in recognition of gains or losses is largely at the Company's discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of the businesses. The Company excludes demutualization expenses as they are directly related to demutualization and could distort the trend associated with business operations. The Company excludes the gains and losses and contribution to income/loss of divested business and related runoff operations because, as a result of the decision to dispose of these businesses, these results are not relevant to the profitability of the Company's ongoing operations and could distort the trends associated with ongoing businesses.
The related charges offset against the net realized investment gains relate to policyholders' dividends, amortization of deferred policy acquisition costs, and reserves for future policy benefits. Net realized investment gains is one of the elements that the Company considers in establishing the dividend scale, and the related policyholder dividend charge represents the estimated portion of the Company's expense charge for policyholder dividends that is attributed to net realized investment gains that the Company considers in determining the dividend scale. Deferred policy acquisition costs for certain investment-type products are amortized based on estimated gross profits, which include net realized investment gains on the underlying invested assets, and the related charge for amortization of deferred policy acquisition costs represents the portion of this amortization associated with net realized investment gains. The reserves for certain policies are adjusted when cash flows related to these policies are affected by net realized investment gains, and the related charge for reserves for future policy benefits represents that adjustment.
In periods subsequent to issuance of the Class B Stock and the establishment of the Closed Block Business, the measure of earnings used by management to evaluate results of the Closed Block Business will not include any adjustments to reflect results on an adjusted operating income basis.
2. DEMUTUALIZATION AND RECAPITALIZATION
Upon demutualization, the Traditional Participating Products segment will be referred to as the "Closed Block Business" and will reflect the assets and liabilities of the Closed Block, the Surplus and Related Assets held outside of the Closed Block necessary to meet insurance regulatory capital requirements related to the products included within the Closed Block, and the initial excess of the book value of the Closed Block Liabilities over the Closed Block Assets. The Financial Services Businesses will then include the capital included in the Traditional Participating Products segment in excess of the amount necessary to support the Closed Block Business, and the other traditional insurance products previously included in the Traditional Participating Products segment but which will not be included in the Closed Block.
In addition to Common Stock, the Company intends to issue Class B Stock, a separate class of common stock, in connection with its planned demutualization. The Common Stock will be designed to reflect the performance of the Financial Services Businesses without reflecting the returns of the Closed Block Business while the Class B Stock will be designed to reflect the performance of the Closed Block Business.
The Company also intends to issue, upon demutualization, debt securities (the "IHC debt") through a newly-formed intermediate holding company of The Prudential Insurance Company of America. The proceeds of the IHC debt would be included in the Financial Services Businesses, while the liability reflecting the IHC debt would be included in the Closed Block Business.
The issuance of the Common Stock is conditioned on the completion of the demutualization of the Company and the issuance of the Class B stock, but the issuance of the IHC Debt is not a condition to the completion of the issuance of the Common Stock.
Dividends declared and paid on the Common Stock will depend upon the financial performance of the Financial Services Businesses. Dividends declared and paid on the Common Stock will not depend upon or be affected by the financial performance of the Closed Block Business, unless the Closed Block Business is in financial distress. Dividends declared and paid on the Common Stock also will not be affected by decisions with respect to dividend payments on the Class B Stock except as indicated in the following paragraph.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Supplemental Combining Financial Information
2. DEMUTUALIZATION AND RECAPITALIZATION (continued)
Dividends declared and paid on the Class B Stock will depend upon the financial performance of the Closed Block Business and, as the Closed Block matures, the holders of the Class B Stock will receive the surplus of the Closed Block Business no longer required to support the Closed Block for regulatory purposes. Dividends on the Class B Stock will be payable in an aggregate amount per year at least equal to the lesser of (i) a "Target Dividend Amount" of $19.25 million or (ii) the "CB Distributable Cash Flow" for such year, which is a measure of the net cash flows of the Closed Block Business. Notwithstanding this formula, as with any common stock, the Company will retain the flexibility to suspend dividends on the Class B Stock; however, if CB Distributable Cash Flow exists for any period and Prudential Financial, Inc. chooses not to pay dividends on the Class B Stock in an aggregate amount at least equal to the lesser of the CB Distributable Cash Flow or the Target Dividend Amount for that period, then cash dividends cannot be paid on the Common Stock with respect to such period. The principal component of "CB Distributable Cash Flow" will be the amount by which Surplus and Related Assets, determined according to statutory accounting principles, exceed surplus that would be required for the Closed Block Business considered as a separate insurer; provided, however, that "CB Distributable Cash Flow" counts such excess only to the extent distributable as a dividend by The Prudential Insurance Company of America under specified (but not all) provisions of New Jersey insurance law. The Company currently anticipates that CB Distributable Cash Flow will substantially exceed the Target Dividend Amount.
In the event of a liquidation, dissolution or winding-up of Prudential Financial, Inc., holders of Common Stock and holders of Class B Stock would be entitled to receive a proportionate share of the net assets of Prudential Financial, Inc. that remains after paying all liabilities and the liquidation preferences of any preferred stock, such proportion being based on the average market value per share of the Common Stock determined over a specified trading period ending 60 days after issuance and the issuance price per share of the Class B Stock.
Since there is no legal separation of the two businesses, holders of Common Stock and holders, if any, of Class B Stock are common stockholders of Prudential Financial, Inc. and have a residual interest therein. Holders of Common Stock will have no interest in a legal entity representing the Financial Services Businesses and holders, if any, of Class B Stock have no interest in a legal entity representing the Closed Block Business and holders of each class of common stock will be subject to all of the risks associated with an investment in Prudential Financial, Inc.
Net income for the Closed Block Business will be determined in accordance with GAAP, including expenses for the normal levels of amortization of deferred policy acquisition costs, investment management fees and interest expense associated with debt obligations. Cash flow between the Closed Block Business and the Financial Services Businesses will be determined based upon cash flows from the Closed Block using a policy servicing fee arrangement, a charge based upon insurance in-force and a charge determined based upon statutory cash premiums. To the extent actual expenses vary from these cash flow amounts, the difference will be recorded, on an after tax basis, as direct equity adjustments of the respective GAAP equity balances of each business.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Unaudited Interim Consolidated Statements of Financial Position
September 30, 2001 and December 31, 2000 (In Millions)
Pro Forma
September 30, September 30, December 31,
2001 2001 2000
-------------- ------------- ------------
ASSETS
Fixed maturities:
Available for sale, at fair value... $113,059 $113,059 $ 83,827
Held to maturity, at amortized
cost............................... 532 532 12,448
Trading account assets, at fair
value............................... 5,199 5,199 7,217
Equity securities, available for
sale, at fair value................. 3,037 3,037 2,317
Commercial loans .................... 20,640 20,640 15,919
Policy loans......................... 8,750 8,750 8,046
Securities purchased under agreements
to resell........................... 4,480 4,480 5,395
Cash collateral for borrowed
securities.......................... 3,963 3,963 3,858
Other long-term investments.......... 5,117 5,117 4,459
Short-term investments............... 4,474 4,474 5,029
-------- -------- --------
Total investments................... 169,251 169,251 148,515
Cash and cash equivalents............ 14,794 17,401 7,676
Accrued investment income............ 1,871 1,871 1,916
Broker-dealer related receivables.... 9,119 9,119 11,860
Deferred policy acquisition costs.... 6,751 6,751 7,063
Other assets......................... 16,795 16,795 13,506
Separate account assets.............. 74,523 74,523 82,217
-------- -------- --------
TOTAL ASSETS........................ $293,104 $295,711 $272,753
======== ======== ========
LIABILITIES AND EQUITY
LIABILITIES
Future policy benefits............... $ 89,961 $88,982 $ 69,288
Policyholders' account balances...... 43,680 43,680 32,722
Unpaid claims and claim adjustment
expenses............................ 2,005 2,005 2,120
Policyholders' dividends............. 2,237 2,237 1,463
Securities sold under agreements to
repurchase.......................... 15,171 15,171 15,010
Cash collateral for loaned
securities.......................... 7,805 7,805 11,053
Income taxes payable................. 1,704 1,712 1,610
Broker-dealer related payables....... 6,571 6,571 5,965
Securities sold but not yet
purchased........................... 3,057 3,057 4,959
Short-term debt...................... 9,848 9,848 11,131
Long-term debt....................... 3,214 3,214 2,502
Other liabilities.................... 15,670 14,801 12,105
Separate account liabilities......... 74,523 74,523 82,217
-------- -------- --------
Total liabilities................... 275,446 273,606 252,145
-------- -------- --------
COMMITMENTS AND CONTINGENCIES
EQUITY
Accumulated other comprehensive
income ............................. 1,379 1,379 234
Common stock......................... 5 -- --
Additional paid-in capital........... 16,274 -- --
Retained earnings.................... -- 20,726 20,374
-------- -------- --------
Total equity........................ 17,658 22,105 20,608
-------- -------- --------
TOTAL LIABILITIES AND EQUITY........ $293,104 $295,711 $272,753
======== ======== ========
|
See Notes to Unaudited Interim Consolidated Financial Statements
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Unaudited Interim Consolidated Statements of Operations
Nine Months Ended September 30, 2001 and 2000 (In Millions)
2001 2000
------- -------
REVENUES
Premiums..................................................... $ 9,112 $ 7,509
Policy charges and fee income................................ 1,298 1,192
Net investment income........................................ 6,895 7,057
Realized investment losses, net.............................. (270) (151)
Commissions and other income................................. 3,332 4,272
------- -------
Total revenues.............................................. 20,367 19,879
------- -------
BENEFITS AND EXPENSES
Policyholders' benefits...................................... 9,394 7,753
Interest credited to policyholders' account balances......... 1,338 1,321
Dividends to policyholders................................... 2,108 2,050
General and administrative expenses.......................... 6,946 7,297
Demutualization expenses..................................... 199 113
------- -------
Total benefits and expenses................................. 19,985 18,534
------- -------
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES........ 382 1,345
------- -------
Income taxes................................................. 30 679
------- -------
NET INCOME................................................... $ 352 $ 666
======= =======
|
See Notes to Unaudited Interim Consolidated Financial Statements
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Unaudited Interim Consolidated Statements of Changes in Equity
Nine Months Ended September 30, 2001 and Year Ended December 31, 2000 (In Millions)
Accumulated Other Comprehensive Income (Loss)
-----------------------------------------------
Net Total
Foreign Unrealized Accumulated
Currency Investment Pension Other
Translation Gains Liability Comprehensive Retained Total
Adjustments (Losses) Adjustment Income (Loss) Earnings Equity
----------- ---------- ---------- ------------- -------- -------
Balance, December 31,
1999................... (18) (660) (7) (685) 19,976 19,291
Comprehensive income:
Net income............. 398 398
Other comprehensive
income, net of tax:
Change in foreign
currency translation
adjustments........... (89) (89) (89)
Change in net
unrealized investment
gains................. 1,019 1,019 1,019
Additional pension
liability adjustment.. (11) (11) (11)
-------
Other comprehensive
income................ 919
-------
Total comprehensive
income................. 1,317
------ ------ ---- ------ ------- -------
Balance, December 31,
2000................... $ (107) $ 359 $(18) $ 234 $20,374 $20,608
Comprehensive income:
Net income............. 352 352
Other comprehensive
income, net of tax:
Change in foreign
currency translation
adjustments........... (41) (41) (41)
Change in net
unrealized investment
gains................. 1,186 1,186 1,186
Additional pension
liability adjustment.. -- -- --
-------
Other comprehensive
income................ 1,145
-------
Total comprehensive
income ................ 1,497
------ ------ ---- ------ ------- -------
Balance, September 30,
2001................... $ (148) $1,545 $(18) $1,379 $20,726 $22,105
====== ====== ==== ====== ======= =======
|
See Notes to Unaudited Interim Consolidated Financial Statements
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Unaudited Interim Consolidated Statements of Cash Flows
Nine Months Ended September 30, 2001 and 2000 (In Millions)
2001 2000
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income................................................. $ 352 $ 666
Adjustments to reconcile net income to net cash provided by
operating activities:
Realized investment gains, net............................ 270 151
Policy charges and fee income............................. (347) (80)
Interest credited to policyholders' account balances...... 1,338 1,321
Depreciation and amortization, including premiums and
discounts................................................ 257 464
Change in:
Deferred policy acquisition costs......................... (146) (177)
Future policy benefits and other insurance liabilities.... 472 921
Trading account assets.................................... 2,124 (6,476)
Income taxes payable...................................... (485) 589
Broker-dealer related receivables/payables................ 3,347 (936)
Securities purchased under agreements to resell........... 915 (3,696)
Cash collateral for borrowed securities................... (105) (999)
Cash collateral for loaned securities..................... (3,248) 1,643
Securities sold but not yet purchased..................... (1,902) 2,872
Securities sold under agreements to repurchase............ 161 9,541
Other, net................................................ (482) (1,116)
-------- --------
Cash flows from operating activities..................... 2,521 4,688
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from the sale/maturity of:
Fixed maturities, available for sale...................... 93,465 56,526
Fixed maturities, held to maturity........................ 137 2,681
Equity securities, available for sale..................... 3,329 2,350
Commercial loans.......................................... 4,503 1,104
Other long-term investments............................... 526 621
Payments for the purchase of:
Fixed maturities, available for sale...................... (95,132) (58,716)
Fixed maturities, held to maturity........................ (175) (1,479)
Equity securities, available for sale..................... (1,469) (2,145)
Commercial loans.......................................... (1,153) (871)
Other long-term investments............................... (1,073) (559)
Cash acquired from Kyoei Life Insurance Co., Ltd. ......... 5,912 --
Short-term investments..................................... 753 (717)
-------- --------
Cash flows from (used in) investing activities........... 9,623 (1,205)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Policyholders' account deposits............................ 4,785 4,960
Policyholders' account withdrawals......................... (6,375) (6,399)
Net increase (decrease) in short-term debt................. (1,970) 73
Proceeds from the issuance of long-term debt............... 1,515 819
Repayments of long-term debt............................... (374) (554)
-------- --------
Cash flows used in financing activities.................. (2,419) (1,101)
-------- --------
NET INCREASE IN CASH AND CASH EQUIVALENTS.................. 9,725 2,382
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR............... 7,676 6,427
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD................... $ 17,401 $ 8,809
======== ========
|
See Notes to Unaudited Interim Consolidated Financial Statements
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
1. BUSINESS AND BASIS OF PRESENTATION
The Prudential Insurance Company of America and its subsidiaries (collectively, "Prudential" or the "Company") provide financial services throughout the United States and in many foreign countries. The Company's businesses provide a full range of insurance, investment, securities and other financial products and services to both retail and institutional customers. Principal products and services provided include life insurance, property and casualty insurance, annuities, mutual funds, pension and retirement related investments and administration, asset management, and securities brokerage.
The unaudited consolidated financial statements include the accounts of The Prudential Insurance Company of America, a mutual life insurance company, its majority-owned subsidiaries, and those partnerships and joint ventures in which the Company has a controlling financial interest, except in those instances where the Company cannot exercise control because the minority owners have substantive participating rights in the operating and capital decisions of the entity. All significant intercompany balances and transactions have been eliminated. Generally accepted accounting principles ("GAAP") require management to make estimates and assumptions that affect the reported amounts of assets and liabilities and to disclose significant events that occurred during the reporting period and contingencies at the reporting date. Actual results could differ from those estimates. In the opinion of management, all adjustments necessary for a fair statement of the financial position and results of operations have been made. All such adjustments are of a normal, recurring nature. Operating results for the nine months ended September 30, 2001 are not necessarily indicative of the results that may be expected for the full year. These financial statements should be read in conjunction with the Company's audited consolidated financial statements for the year ended December 31, 2000.
Demutualization
On February 10, 1998, the Board of Directors of Prudential authorized its management to take the preliminary steps necessary to permit Prudential to demutualize and become a stock company. On July 1, 1998, legislation was enacted in New Jersey that would permit the demutualization to occur and that specified the process for demutualization. On December 15, 2000, the Board of Directors of Prudential unanimously adopted a Plan of Reorganization, which provides the framework under which Prudential will convert from a mutual structure to stock ownership. In May 2001, the Company completed the mailing of a policyholder information statement and ballot to eligible policyholders, with a voting period that ended July 31, 2001. In early August the Company submitted to the New Jersey Department of Banking and Insurance certified results of the vote, in which approximately 91% of the 4.1 million votes cast voted to approve the plan of reorganization. The New Jersey Commissioner of Banking and Insurance approved the plan of reorganization in October 2001. The Company anticipates completing the demutualization in the fourth quarter of 2001. However, there is no certainty that the demutualization will be completed in this time frame or that the necessary approvals will be obtained. It is also possible that after careful review, Prudential could decide not to demutualize or could decide to delay its plans.
Prudential's management currently anticipates that Prudential's proposed plan of reorganization will include the establishment of a new holding company, Prudential Financial, Inc. ("PFI"), whose stock will be publicly traded. Prudential will become a direct or indirect wholly-owned subsidiary of PFI. Prudential's management also currently intends to propose that a corporate reorganization occur concurrently or within 30 days of the demutualization whereby the stock of various of Prudential's subsidiaries (including its property and casualty insurance companies, its principal securities brokerage companies, its international insurance companies, its principal asset management operations, and its international securities and investments, domestic banking, real estate franchise and relocation management operations), together with certain related assets and liabilities, would be dividended to PFI. If effected, the corporate reorganization can be expected to materially reduce invested assets, net income and total equity of Prudential, which would be an insurance subsidiary of PFI after the corporate reorganization, although it would have no effect on the consolidated assets, net income or total equity of PFI.
The terms of the foregoing transactions have not been finalized by Prudential or approved by the applicable regulatory authorities and may be subject to change as the transactions develop. Prudential's demutualization could proceed without any one or all of these transactions, and there is no assurance that such transactions will be pursued.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
2. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS
Adoption of Statement of Financial Accounting Standards No. 133
The Company adopted Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities", as amended, on January 1, 2001. The adoption of this statement did not have a material impact on the results of operations of the Company.
The Company, upon its adoption of SFAS 133, reclassified approximately $12.1 billion of held-to-maturity securities as "available-for-sale" so that those securities would be eligible as hedged items in future fair-value and cash- flow hedge transactions. This reclassification resulted in a net unrealized gain of $94 million, net of tax, which was recorded as a component of "Accumulated other comprehensive income". Under the provisions of SFAS No. 133, such a reclassification does not call into question the Company's intent to hold current or future debt securities to their maturity.
Derivative Financial Instruments
A derivative is a financial instrument whose value is derived from interest rates, foreign exchange rates, financial indices, or the value of securities or commodities. Derivative financial instruments used by the Company include swaps, futures, forwards and option contracts and may be exchange-traded or contracted in the over-the-counter market. The Company uses derivative financial instruments to seek to reduce market risk from changes in interest rates or foreign currency exchange rates and to alter interest rate or currency exposures arising from mismatches between assets and liabilities. Additionally, derivatives are used in the Company's broker-dealer operations and in a limited-purpose subsidiary for trading purposes.
Derivatives held for trading purposes are used in the Company's broker- dealer operations and in a limited-purpose subsidiary primarily to meet the needs of customers by structuring transactions that allow customers to manage their exposure to interest rates, foreign exchange rates, indices or prices of securities and commodities. Trading derivative positions are valued daily, generally by obtaining quoted market prices or through the use of pricing models. Values are affected by changes in interest rates, currency exchange rates, credit spreads, market volatility and liquidity. The Company monitors these exposures through the use of various analytical techniques. The fair value of derivatives held for trading purposes recorded in "Trading account assets" and "Other liabilities" was $956 million and $1,023 million, respectively, as of September 30, 2001.
Derivatives held for purposes other than trading are primarily used to seek to reduce exposure to interest rate and foreign currency risks associated with assets held or expected to be purchased or sold, and liabilities incurred or expected to be incurred. Additionally, other than trading derivatives are used to change the characteristics of the Company's asset/liability mix as part of the Company's risk management activities. The fair value of derivatives held for purposes other than trading recorded in "Other long-term investments" and "Other Liabilities" was $48 million and $6 million, respectively, as of September 30, 2001.
Accounting for Derivatives and Hedging Activities
Derivatives held for trading purposes
Derivatives held for trading purposes are included at fair value in "Trading account assets", "Other liabilities" or "Broker-dealer related receivables/payables" in the Consolidated Statements of Financial Position, and realized and unrealized changes in fair value are included in "Commissions and other income" of the Consolidated Statements of Operations in the periods in which the changes occur. Cash flows from trading derivatives are reported in the operating activities section of the Consolidated Statements of Cash Flows.
Derivatives held for purposes other than trading
Derivatives held for purposes other than trading are recognized on the Consolidated Statements of Financial Position at their fair value. On the date the derivative contract is entered into, the Company designates the derivative as (1) a hedge of the fair value of a recognized asset or liability or of an unrecognized firm commitment ("fair value" hedge), (2) a hedge of a forecasted transaction or of the variability of cash flows to be
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
2. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (continued)
received or paid related to a recognized asset or liability ("cash flow" hedge), (3) a foreign-currency fair-value or cash-flow hedge ("foreign currency" hedge), (4) a hedge of a net investment in a foreign operation, (5) derivatives that do not qualify for hedge accounting.
Changes in the fair value of a derivative that is highly effective as, and that is designated and qualifies as, a fair-value hedge, along with the loss or gain on the hedged asset or liability that is attributable to the hedged risk (including losses or gains on firm commitments), are recorded in current- period earnings as part of "Realized investment gains (losses), net". Changes in the fair value of a derivative that is highly effective as, and that is designated and qualifies as, a cash-flow hedge are recorded in "Accumulated other comprehensive income", until earnings are affected by the variability of cash flows (e.g., when periodic settlements on a variable-rate asset or liability are recorded in earnings). At that time, the related portion of deferred gains or losses would be reclassified to the income statement classification of the hedged item. No component of the Company's derivatives used as fair value hedges was excluded from the assessment of the hedge effectiveness. The Company recorded a net loss of $64 million in "Accumulated other comprehensive income" as of September 30, 2001 for derivative instruments designated as cash-flow hedges. Changes in the fair value of derivatives that are highly effective as, and that are designated and qualify as, foreign-currency hedges are recorded in either current-period earnings or "Accumulated other comprehensive income", depending on whether the hedge transaction is a fair-value hedge (e.g., a hedge of a firm commitment that is to be settled in a foreign currency) or a cash-flow hedge (e.g., a foreign- currency-denominated forecasted transaction). If, however, a derivative is used as a hedge of a net investment in a foreign operation, its changes in fair value, to the extent effective as a hedge, are recorded in the cumulative translation adjustments account within other comprehensive income. For the nine months ended September 30, 2001, the Company recorded $50 million to cumulative translation adjustments account as a result of these hedges. If the Company's use of derivatives does not meet the criteria to apply hedge accounting as described above, the derivatives are recorded at fair value in "Other long-term investments" or "Other liabilities" in the Consolidated Statements of Financial Position, and changes in their fair value are included in "Realized investment gains (losses), net" without considering changes in fair value of the hedged assets or liabilities. Cash flows from other than trading derivatives are reported in the investing activities section in the Consolidated Statements of Cash Flows.
The ineffective portion of a derivative, accounted for using hedge accounting as described above, is recorded in "Realized investment gains (losses), net". The ineffective portion of derivatives accounted for using both cash flow and fair value hedge accounting for the period ended September 30, 2001, did not have a material impact to the results of operations of the Company.
For the nine months ended September 30, 2001, a pre-tax loss of $16 million was recorded and reclassified from other comprehensive income into current period earnings. It is anticipated that a pre-tax gain of approximately $20 million will be recorded and reclassified from other comprehensive income to earnings within the next twelve months. Within the Company's reported earnings, the amounts reclassified from other comprehensive income into earnings are offset by equal amounts pertaining to the hedged items. The maximum length for which variable cash flows are hedged is 22 years.
The Company occasionally purchases a financial instrument that contains a derivative instrument that is "embedded" in the financial instrument. Upon purchasing the instrument, the Company assesses whether the economic characteristics of the embedded derivative are clearly and closely related to the economic characteristics of the remaining component of the financial instrument (i.e., the host contract) and whether a separate instrument with the same terms as the embedded instrument would meet the definition of a derivative instrument. When it is determined that (1) the embedded derivative possesses economic characteristics that are not clearly and closely related to the economic characteristics of the host contract, and (2) a separate instrument with the same terms would qualify as a derivative instrument, the embedded derivative is separated from the host contract, carried at fair value, and changes in its fair value are included in "Realized investment gains (losses), net".
The Company formally documents all relationships between hedging instruments and hedged items, as well as its risk-management objective and strategy for undertaking various hedge transactions. This process includes
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
2. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (continued)
linking all derivatives that are designated as fair-value, cash-flow, or foreign-currency hedges to specific assets and liabilities on the balance sheet or to specific firm commitments or forecasted transactions. The Company also formally assesses, both at the hedge's inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in fair values or cash flows of hedged items. When it is determined that a derivative is not highly effective as a hedge or that it has ceased to be a highly effective hedge, the Company discontinues hedge accounting prospectively, as described below.
The Company discontinues hedge accounting prospectively when (1) it is determined that the derivative is no longer effective in offsetting changes in the fair value or cash flows of a hedged item (including firm commitments or forecasted transactions); (2) the derivative expires or is sold, terminated, or exercised; (3) the derivative is no longer designated as a hedge instrument, because a) it is unlikely that a forecasted transaction will occur; b) because a hedged firm commitment no longer meets the definition of a firm commitment; or c) management determines that designation of the derivative as a hedge instrument is no longer appropriate.
When hedge accounting is discontinued because it is determined that the derivative no longer qualifies as an effective fair-value hedge, the derivative will continue to be carried on the balance sheet at its fair value, and the hedged asset or liability, which normally would not be carried at fair value, will no longer be adjusted for changes in fair value. When hedge accounting is discontinued because the hedged item no longer meets the definition of a firm commitment, the derivative will continue to be carried on the balance sheet at its fair value, and any asset or liability that was recorded pursuant to recognition of the firm commitment will be removed from the balance sheet and recognized as a gain or loss in current-period earnings. When hedge accounting is discontinued because it is probable that a forecasted transaction will not occur, the derivative will continue to be carried on the balance sheet at its fair value, and gains and losses that were accumulated in other comprehensive income will be recognized immediately in earnings. In all other situations in which hedge accounting is discontinued, the derivative will be carried at its fair value on the balance sheet, with changes in its fair value recognized in current-period earnings. For the nine months ended September 30, 2001, there were no reclassifications to earnings due to firm commitments no longer deemed probable. Also, none of the Company's cash flow hedges have been discontinued because it was probable that the original forecasted transaction would not occur by the end of the originally specified time period documented at the inception of the hedging relationship.
Roll Forward of Current Period Cash Flow Hedges in Other Comprehensive Income
(In Millions)
Additions due to Cumulative effect of change in accounting
principle upon adoption of FAS 133 at 1/1/2001................... $ 8
Net deferred losses on cash flow hedges from 1/1/2001 -
9/30/2001........................................................ (88)
Amount reclassified into current period earnings.................. 16
----
Balance, September 30, 2001..................................... $(64)
====
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3. NEW ACCOUNTING PRONOUNCEMENTS
In September 2000, the Financial Accounting Standards Board ("FASB") issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities--a replacement of FASB Statement No. 125". The Company has adopted the provisions of SFAS No. 140 relating to transfers and extinguishments of liabilities which are effective for periods occurring after March 31, 2001. The adoption did not have a material effect on the results of operations of the Company. The Company has adopted disclosures about collateral and for recognition and reclassification of collateral required under the statement for fiscal years ending after December 15, 2000.
In June 2001, the FASB issued SFAS No. 141, "Business Combinations". SFAS No. 141 requires that the Company account for all business combinations in the scope of the statement using the purchase method. SFAS No. 141 is effective for business combinations initiated after June 30, 2001 and to business combinations accounted for using the purchase method for which the date of acquisition is July 1, 2001 or later. The Company
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
3. NEW ACCOUNTING PRONOUNCEMENTS (continued)
will apply SFAS No. 141 to business combinations occurring during the periods for which the statement is effective.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets". SFAS No. 142 requires that an intangible asset that is acquired either individually or with a group of other assets shall be initially recognized and measured based on fair value. An intangible asset with a finite life is amortized over its useful life to the reporting entity; an intangible asset with an indefinite useful life, including goodwill, is not amortized. All intangible assets shall be tested for impairment in accordance with the statement. SFAS No. 142 is effective for fiscal years beginning after March 15, 2001; however, goodwill and intangible assets acquired after June 30, 2001 will be subject immediately to the nonamortization and amortization provisions of this statement. The Company will adopt the provisions of SFAS 142 as of January 1, 2002 and is currently assessing the effect that this statement will have on its results of operations and financial position.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS No. 144 supersedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and the accounting and reporting provisions of Accounting Principles Board Opinion No. 30, "Reporting the Results of Operations-- Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions" ("APB No. 30"), for the disposal of a segment of a business, eliminating the requirement that discontinued operations be measured at net realizable value or that entities include losses that have not yet occurred. This statement also amends Accounting Research Bulletin No. 51, "Consolidated Financial Statements", to eliminate the exception to consolidation for a subsidiary for which control is likely to be temporary.
SFAS No. 144 requires that long-lived assets that are to be disposed of by sale be measured at the lower of book value or fair value less cost to sell. An impairment for assets that are not considered to be disposed of is recognized only if the carrying amounts of long-lived assets are not recoverable and exceed their fair values. Additionally, SFAS No. 144 expands the scope of discontinued operations to include all components of an entity with operations and cash flows that (1) can be distinguished from the rest of the entity and (2) will be eliminated from the ongoing operations of the entity in a disposal transaction. SFAS No. 144 is effective for financial statements issued for fiscal years beginning after December 15, 2001 and, generally, its provisions are to be applied prospectively. The Company will comply with SFAS No. 144 for all applicable transactions occurring during periods for which the statement is effective. The Company is currently assessing the effect that this statement will have on its results of operations and financial position.
4. ACQUISITION OF KYOEI LIFE INSURANCE COMPANY, LTD.
In April 2001, the Company completed the acquisition of Kyoei Life Insurance Co., Ltd. ("Kyoei"), a stock life insurance company located in Japan, which has been accounted for as a purchase. Kyoei was renamed Gibraltar Life Insurance Company, Ltd. ("Gibraltar Life") by the Company concurrent with the acquisition. Gibraltar Life provides financial services throughout Japan. Gibraltar Life primarily offers four types of insurance products: individual insurance, including life and indemnity health coverage; individual annuities; group life insurance; and group annuities. It distributes these products through an agency force and large employer groups. Gibraltar Life also has domestic and foreign subsidiaries, including non-insurance businesses, which are not material to its financial position or results of operations.
On October 20, 2000, Gibraltar Life filed for reorganization under the Reorganization Law of Japan. The Reorganization Law, similar to Chapter 11 of the U.S. Bankruptcy Code, is intended to provide a mechanism for restructuring financially troubled companies by permitting the adjustment of the interests of creditors, shareholders and other interested parties. On October 20, 2000, the Tokyo District Court issued an order generally freezing the Company's assets and appointed an interim Trustee who, on October 23, 2000, was appointed as sole Trustee.
On April 2, 2001 the Tokyo District Court issued its official recognition order approving the Reorganization Plan, which has been submitted by the Trustee and approved by Gibraltar Life's creditors. The Reorganization Plan became effective immediately upon the issuance of the recognition order, and is binding upon Gibraltar Life, its creditors, including policyholders, its shareholders and other interested parties, whether or not they
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
4. ACQUISITION OF KYOEI LIFE INSURANCE COMPANY, LTD. (continued) submitted claims or voted for or against the plan. The Reorganization Plan included the extinguishment of all existing stock for no consideration and the issuance of one million new shares of common stock. Pursuant to the Reorganization Plan, on April 19, 2001 the Company contributed (Yen)50 billion ($395 million) in cash to Gibraltar Life's capital and on April 20, 2001 received 100% of Gibraltar Life's newly issued common stock. The Company also provided (Yen)98 billion ($775 million) to Gibraltar Life in the form of a subordinated loan. On April 23, 2001, the Tokyo District Court declared the reorganization proceedings concluded and dismissed the Trustee.
Under the Reorganization Plan, Gibraltar Life was restructured as follows:
. Gibraltar Life was discharged from all financial indebtedness, retaining only liabilities under insurance policies and contracts, certain pension liabilities, liabilities incurred in the ordinary course of business and certain other claims approved by the Trustee. All existing shares of stock were extinguished without consideration.
. Gibraltar Life's in force insurance policies, except for group life, collective term and reinsurance policies, were restructured as follows:
*The guaranteed interest rate on in force policies was reduced to 1.75%.
* Except for individual annuities, cash surrender values before surrender charges were reduced by an average of approximately 11%, and maturity values were reduced by 8%. Annuities will be subject to reductions only if they are surrendered.
*Special surrender charges will be imposed on existing policies.
* Although participating policies retain their current participating status, it is not anticipated that policy dividends will be paid in the near future.
. In years four and eight following the recognition of the Reorganization Plan by the Tokyo District Court, a special dividend to certain Gibraltar Life policyholders will be payable based on 70% of net realized investment gains, if any, over the Trustee's valuation of real estate and loans, net of transaction costs and taxes. A liability will be recorded within policyholders' dividends for amounts expected to be distributed. The liability will be based on the difference between the current estimated fair values of loans and real estate at the date of the consolidated statement of financial position and the value of such assets included in the Reorganization Plan. The liability will be adjusted as purchase discounts and premiums on loans are accreted and amortized and as changes occur in estimates of fair value of loans and real estate that are expected to have an effect on the ultimate amount to be paid.
. No funds were requested from the Life Insurance Policyholders Protection Corporation of Japan, which is the insurance industry guaranty fund in Japan.
For purposes of inclusion in the Company's consolidated financial statements, Gibraltar Life has adopted a November 30 fiscal year end; therefore the Unaudited Consolidated Statement of Financial Position as of September 30, 2001 includes Gibraltar Life assets and liabilities as of August 31, 2001, and the Unaudited Statement of Operations for the nine months ended September 30, 2001 includes Gibraltar Life results for the period April 2, 2001 through August 31, 2001.
The September 30, 2001 Unaudited Consolidated Statement of Financial Position includes Gibraltar Life assets and liabilities of $32.0 billion and $30.6 billion, respectively, and the Unaudited Statement of Operations for the nine months ended September 30, 2001 includes Gibraltar Life income from continuing operations before income taxes of $200 million. Pro forma information to reflect the acquisition of Gibraltar Life as if it had occurred as of an earlier date has been omitted, as the lack of continuity of operations of Gibraltar Life resulting from the implementation of the Reorganization Plan would render such pro forma information not meaningful.
The Unaudited Consolidated Statement of Financial Position as of September 30, 2001 includes Gibraltar Life value of business acquired ("VOBA") of $85 million. Gibraltar Life's VOBA was actuarially determined based on the present value of the projected future profits using the same assumptions that were used for computing the related liabilities, reduced for the cost of capital. However, the initial amount of VOBA was then reduced by the excess of the fair value of net assets acquired over the purchase price. VOBA will be amortized in proportion to the run-off of the associated business in force, at interest rates ranging from 1.30% to 2.00%. VOBA amortization expected to be recorded in each of the next five years is $12 million, $9 million, $8 million, $8 million and $7 million.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
5. CAPITAL MARKETS RESTRUCTURING
In the fourth quarter of 2000, Prudential Securities Group exited the lead managed equity underwriting for corporate issuers and institutional fixed income businesses. Exiting these businesses resulted in staff reductions of approximately 700 positions, including investment bankers, traders, analysts and other professional and support staff.
At September 30, 2001, the remaining reserves for capital markets restructuring were $22.8 million, including $11.9 million for employee related costs.
6. TERRORIST ATTACKS ON THE UNITED STATES
Losses from insurance claims arising in connection with the September 11, 2001 terrorist attacks, after release of existing reserves and reinsurance recoveries, had a negative effect on adjusted operating income and income from continuing operations before income taxes of approximately $50 million, and on net income of approximately $30 million, for the nine months ended September 30, 2001. These insurance losses are based on gross losses of approximately $220 million from group life, individual life, and property and casualty insurance claims. Approximately $37 million of the negative impact on adjusted operating income and income from continuing operations before income taxes related to the Financial Services Businesses, primarily in the Individual Life Insurance segment. The remainder of the losses related to the Traditional Participating Products segment.
7. SEGMENT INFORMATION
The Company has organized its principal operations into Financial Services Businesses and a Traditional Participating Products segment. Within the Financial Services Businesses, the Company operates through four divisions which, together, encompass ten reportable segments. The four operating divisions within the Financial Services Businesses are: U.S. Consumer, Employee Benefits, International and Asset Management. The segments within the Financial Services Businesses as well as the Traditional Participating Products segment correspond to businesses for which discrete financial information is available and reviewed by management. Businesses that are not sufficiently material to warrant separate disclosure are included in Corporate and Other results. Collectively, the businesses that comprise the four operating divisions and Corporate and Other are referred to as the Financial Services Businesses.
In managing its business, the Company analyzes the operating performance of each segment using "adjusted operating income", which is a non-GAAP measure. "Adjusted operating income" is calculated by adjusting income from continuing operations before income taxes to exclude certain items. The items excluded are realized investment gains, net of losses and related charges; sales practices remedies and costs; demutualization expenses; and the gains, losses and contribution to income/loss of divested businesses which have been sold but do not qualify for "discontinued operations" treatment under GAAP. Businesses that the Company has placed in wind-down status but are not divested remain in "adjusted operating income." In periods subsequent to the issuance of the Class B Stock and the establishment of the Closed Block Business, the measure of earnings used by management to evaluate results of the Closed Block Business will not include any adjustments to reflect results on an adjusted operating income basis.
The excluded items are important to an understanding of overall results of operations. "Adjusted operating income" is not a substitute for net income determined in accordance with GAAP and the Company's definition of "adjusted operating income" may differ from that used by other companies. However, the Company believes that the presentation of "adjusted operating income" as measured for management purposes enhances the understanding of results of operations by highlighting the results from ongoing operations and the underlying profitability factors of the Company's businesses.
The Company excludes realized investment gains, net of losses and related charges, from "adjusted operating income" because the timing of transactions resulting in recognition of gains or losses is largely at the Company's discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of the businesses. The Company excludes sales practices remedies and costs because
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
7. SEGMENT INFORMATION (continued)
they relate to a substantial and identifiable non-recurring event. The Company excludes demutualization expenses as they are directly related to demutualization and could distort the trends associated with our business operations. The Company excludes the gains and losses and contribution to income/loss of divested businesses because, as a result of the decision to dispose of these businesses, these results are not relevant to the profitability of the Company's ongoing operations and could distort the trends associated with ongoing businesses.
The related charges offset against net realized investment gains and losses relates to policyholder dividends, amortization of deferred policy acquisition costs, and reserves for future policy benefits. Net realized investment gains is one of the elements that the Company considers in establishing the domestic dividend scale and in providing for dividends to Gibraltar Life policyholders, and the related policyholder dividend charge represents the estimated portion of the Company's expense charge for policyholder dividends that is attributed to net realized investment gains that the Company considers in determining the dividend scale and Gibraltar Life dividends. Deferred policy acquisition costs for certain investment-type products are amortized based on estimated gross profits, which include net realized investment gains and losses on the underlying invested assets, and the related charge for amortization of deferred policy acquisition costs represents the portion of this amortization associated with net realized investment gains and losses. The reserves for certain policies are adjusted when cash flows related to these policies are affected by net realized investment gains, and the related charge for reserves for future policy benefits represents that adjustment.
"Adjusted operating income" for each segment includes earnings on attributed equity established at a level which management considers necessary to support the segment's risks.
Operating expenses specifically identifiable to a particular segment are allocated to that segment as incurred. Operating expenses not identifiable to a specific segment but which are incurred in connection with the generation of segment revenues are generally allocated based upon the segment's historical percentage of general and administrative expenses.
The financial results of the International Insurance segment reflect the impact of currency hedging strategies, including internal hedges, whereby currency fluctuation exposure within reporting periods is assumed by Corporate and Other Operations.
The Investment Management and Advisory Services segment revenues include intersegment revenues of $319 million and $313 million for the nine months ended September 30, 2001 and 2000, respectively, which primarily consist of asset-based management fees from the businesses of the U.S. Consumer and Employee Benefits divisions and the Traditional Participating Products segment. Management has determined the intersegment fees for the various asset classes with reference to market rates. These fees are eliminated in consolidation.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
7. SEGMENT INFORMATION (continued)
The summary below reconciles adjusted operating income to income from continuing operations before income taxes for the nine months ended September 30, 2001 and 2000.
2001
--------------------------------------------------------------------
Reconciling Items
--------------------------------------------------------------------
Income from
Realized Charges Divested Continuing
Investment Related to Business Operations
Adjusted Gains Realized and Related Demutu- Before
Operating (Losses), Gains Runoff alization Income
Income Net (Losses), Net Operations Expenses Taxes
--------- ---------- ------------- ----------- --------- -----------
(In Millions)
Individual Life
Insurance.............. $ 242 $ (23) $ -- $ -- $ -- $ 219
Private Client Group.... (160) (2) -- -- -- (162)
Retail Investments...... 143 (51) (1) -- -- 91
Property and Casualty
Insurance.............. 98 15 -- -- -- 113
------ ----- ----- ----- ----- -----
Total U.S. Consumer
Division.............. 323 (61) (1) -- -- 261
------ ----- ----- ----- ----- -----
Group Insurance......... 49 (13) -- -- -- 36
Other Employee
Benefits............... 110 (44) 4 -- -- 70
------ ----- ----- ----- ----- -----
Total Employee Benefits
Division.............. 159 (57) 4 -- -- 106
------ ----- ----- ----- ----- -----
International
Insurance.............. 439 17 (10) -- -- 446
International Securities
and Investments........ (41) -- -- -- -- (41)
------ ----- ----- ----- ----- -----
Total International
Division.............. 398 17 (10) -- -- 405
------ ----- ----- ----- ----- -----
Investment Management
and Advisory Services.. 91 (8) -- -- -- 83
Other Asset Management.. 64 -- -- -- -- 64
------ ----- ----- ----- ----- -----
Total Asset Management
Division.............. 155 (8) -- -- -- 147
------ ----- ----- ----- ----- -----
Corporate and Other..... 55 112 -- (122) (199) (154)
------ ----- ----- ----- ----- -----
Total--Financial
Services Businesses... 1,090 3 (7) (122) (199) 765
------ ----- ----- ----- ----- -----
Traditional
Participating Products
segment................ 289 (273) (399) -- -- (383)
------ ----- ----- ----- ----- -----
Total.................. $1,379 $(270) $(406) $(122) $(199) $ 382
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THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
7. SEGMENT INFORMATION (continued)
2000
-------------------------------------------------------------------------
Reconciling Items
-------------------------------------------------------------------------
Divested Income from
Realized Charges Business Continuing
Investment Related to and Operations
Adjusted Gains Realized Related Before
Operating (Losses), Gains Runoff Demutualization Income
Income Net (Losses), Net Operations Expenses Taxes
--------- ---------- ------------- ---------- --------------- -----------
(In Millions)
Individual Life
Insurance.............. $ 145 $ (4) $ -- $-- $ -- $ 141
Private Client Group.... 278 -- -- -- -- 278
Retail Investments...... 214 (11) 4 -- -- 207
Property and Casualty
Insurance.............. 165 11 -- -- -- 176
------ ----- ----- ---- ----- ------
Total U.S. Consumer
Division.............. 802 (4) 4 -- -- 802
------ ----- ----- ---- ----- ------
Group Insurance......... 90 (4) -- -- -- 86
Other Employee
Benefits............... 221 (123) 3 -- -- 101
------ ----- ----- ---- ----- ------
Total Employee Benefits
Division.............. 311 (127) 3 -- -- 187
------ ----- ----- ---- ----- ------
International
Insurance.............. 211 20 -- -- -- 231
International Securities
and Investments........ 51 -- -- -- -- 51
------ ----- ----- ---- ----- ------
Total International
Division.............. 262 20 -- -- -- 282
------ ----- ----- ---- ----- ------
Investment Management
and Advisory Services.. 128 2 -- -- -- 130
Other Asset Management.. 108 -- -- -- -- 108
------ ----- ----- ---- ----- ------
Total Asset Management
Division.............. 236 2 -- -- -- 238
------ ----- ----- ---- ----- ------
Corporate and Other..... 77 (107) -- (69) (113) (212)
------ ----- ----- ---- ----- ------
Total--Financial
Services Businesses... 1,688 (216) 7 (69) (113) 1,297
------ ----- ----- ---- ----- ------
Traditional
Participating Products
segment................ 301 65 (318) -- -- 48
------ ----- ----- ---- ----- ------
Total.................. $1,989 $(151) $(311) $(69) $(113) $1,345
====== ===== ===== ==== ===== ======
|
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
7. SEGMENT INFORMATION (continued)
Revenues for the Company's reportable segments for the nine months ended September 30, 2001 and 2000 are as follows:
2001 2000
------- -------
(In Millions)
Individual Life Insurance...................................... $ 1,371 $ 1,358
Private Client Group........................................... 1,628 2,095
Retail Investments............................................. 1,064 1,218
Property and Casualty Insurance................................ 1,534 1,364
------- -------
Total U.S. Consumer Division.................................. 5,597 6,035
------- -------
Group Insurance................................................ 2,399 2,035
Other Employee Benefits........................................ 1,975 2,054
------- -------
Total Employee Benefits Division.............................. 4,374 4,089
------- -------
International Insurance........................................ 2,973 1,428
International Securities and Investments....................... 413 545
------- -------
Total International Division.................................. 3,386 1,973
------- -------
Investment Management and Advisory Services.................... 610 649
Other Asset Management......................................... 313 358
------- -------
Total Asset Management Division................................ 923 1,007
------- -------
Corporate and Other............................................ 220 379
------- -------
Total--Financial Services Businesses.......................... 14,500 13,483
------- -------
Traditional Participating Products segment..................... 5,867 6,396
------- -------
Total......................................................... $20,367 $19,879
======= =======
|
8. CONTINGENCIES AND LITIGATION
A joint venture in which an affiliate of Prudential Securities Group is a participant brought an arbitration claim against Kyocera Corporation alleging, among other things, claims of breach of contract relating to the manufacture and distribution of computer disk drives. The arbitration panel decided in favor of the claimants. The Company's share of damages, with interest, would exceed $250 million. A federal district court in the Northern District of California has confirmed the award and entered judgment in favor of the claimants. Kyocera has appealed the decision to the United States Court of Appeals for the Ninth Circuit. As with any litigation, the outcome remains uncertain until all appeals have been concluded or the time to appeal has expired and, accordingly, the Company has not included the award in its results of operations.
For further discussion of contingencies and litigation see Note 17 of the audited consolidated financial statements for the year ended December 31, 2000.
9. PRO FORMA INFORMATION
The pro forma Statement of Financial Position as of September 30, 2001 gives effect to the demutualization as if it had occurred as of September 30, 2001. As a result of the demutualization, there will be a significant change to the capitalization of the Company. Accordingly, an unaudited pro forma column is shown to reflect that change in capitalization. The pro forma Statement of Financial Position is based on available information, including the plan of reorganization and other assumptions believed to be reasonable. However, the pro forma information does not reflect the proceeds of the initial public offering of the Common Stock or any other securities that may be issued at the time of demutualization. The pro forma Statement of Financial Position is not necessarily indicative of the consolidated financial position had the demutualization actually occurred on the date assumed and does not project or forecast the consolidated financial position for any future date.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Interim Consolidated Financial Statements
9. PRO FORMA INFORMATION (continued)
The pro forma Statement of Financial Position assumes the following:
. payment of $2,607 million to eligible policyholders who will receive cash, based upon an assumed initial public offering price of $27.50 per share;
. establishment of a liability of $979 million to fund policy credits to be distributed to certain policyholders in lieu of cash or Common Stock;
. establishment of a liability of $817 million for cash payments to be made to or on behalf of policyholders whom we cannot locate;
. establishment of a liability for non-recurring expenses of $44 million, net of tax benefit of $8 million, related to demutualization costs and expenses assumed to be incurred at the date of the demutualization; and
. adjustment of retained earnings to reflect the above assumptions and reclassification of the remaining retained earnings to "Common stock" and "Additional paid-in capital" to reflect the demutualization.
This pro forma information reflects the distribution to eligible policyholders and the reclassification of equity that is expected to occur at the time of demutualization.
10. QUARTERLY RESULTS OF OPERATIONS
The quarterly results of operations for the nine months ended September 30, 2001 and the year ended December 31, 2000 are summarized in the table below:
For The Three Months Ended:
-------------------------------------------------
December 31 (a) September 30 June 30 March 31
--------------- ------------ ------- --------
(In Millions)
2000
----
Total revenues $6,665 $6,311 $6,730 $6,838
Total benefits and expenses 7,283 6,115 6,273 6,146
Income from continuing
operations before income
taxes (618) 196 457 692
Net income (loss) (268)(b) 67 223 376
2001
----
Total revenues $6,399 $7,221 $6,747
Total benefits and expenses 6,896 7,065 6,024
Income from continuing
operations before income
taxes (497) 156 723
Net income (loss) (280)(c) 195(d) 437
|
(a) Results for the three months ended December 31, 2000 include a pre-tax charge of $476 million in connection with the exiting, by Prudential Securities Group, of the lead-managed equity underwriting for corporate issuers and institutional fixed income businesses.
(b) Net loss for the three months ended December 31, 2000 includes a gain of $77 million, net of taxes of $44 million, representing a reduction of the previously recognized loss on disposal of the Company's discontinued healthcare business which was sold in 1999.
(c) Net income for the three months ended September 30, 2001 includes equity tax benefit of $100 million.
(d) Net income for the three months ended June 30, 2001 includes equity tax benefit of $100 million.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Unaudited Supplemental Combining Statement of Financial Position
September 30, 2001 (In Millions)
Financial Traditional
Services Participating
Businesses Products Consolidated
---------- ------------- ------------
ASSETS
Fixed maturities:
Available for sale, at fair value....... $ 68,018 $45,041 $113,059
Held to maturity, at amortized cost..... 532 -- 532
Trading account assets, at fair value.... 5,199 -- 5,199
Equity securities, available for sale, at
fair value.............................. 2,026 1,011 3,037
Commercial loans......................... 12,756 7,884 20,640
Policy loans............................. 3,008 5,742 8,750
Securities purchased under agreements to
resell.................................. 4,480 -- 4,480
Cash collateral for borrowed securities.. 3,963 -- 3,963
Other long-term investments.............. 3,811 1,306 5,117
Short-term investments................... 2,773 1,701 4,474
-------- ------- --------
Total investments....................... 106,566 62,685 169,251
Cash and cash equivalents................ 13,209 4,192 17,401
Accrued investment income................ 977 894 1,871
Broker-dealer related receivables........ 9,119 -- 9,119
Deferred policy acquisition costs........ 5,525 1,226 6,751
Other assets............................. 13,798 2,997 16,795
Separate account assets.................. 74,523 -- 74,523
-------- ------- --------
TOTAL ASSETS............................ $223,717 $71,994 $295,711
======== ======= ========
LIABILITIES AND ATTRIBUTED EQUITY
LIABILITIES
Future policy benefits................... $ 41,932 $47,050 $ 88,982
Policyholder's account balances.......... 38,206 5,474 43,680
Unpaid claims and claim adjustment
expenses................................ 2,005 -- 2,005
Policyholders' dividends................. 963 1,274 2,237
Securities sold under agreements to
repurchase.............................. 9,479 5,692 15,171
Cash collateral for loaned securities.... 6,264 1,541 7,805
Income taxes payable..................... 1,550 162 1,712
Broker-dealer related payables........... 6,571 -- 6,571
Securities sold but not yet purchased.... 3,057 -- 3,057
Short-term debt.......................... 9,720 128 9,848
Long-term debt........................... 2,983 231 3,214
Other liabilities........................ 11,781 3,020 14,801
Separate account liabilities............. 74,523 -- 74,523
-------- ------- --------
Total liabilities....................... 209,034 64,572 273,606
-------- ------- --------
COMMITMENTS AND CONTINGENCIES
ATTRIBUTED EQUITY
Accumulated other comprehensive income... 1,102 277 1,379
Attributed equity........................ 13,581 7,145 20,726
-------- ------- --------
Total attributed equity................. 14,683 7,422 22,105
-------- ------- --------
TOTAL LIABILITIES AND ATTRIBUTED
EQUITY................................. $223,717 $71,994 $295,711
======== ======= ========
|
See Notes to Unaudited Supplemental Combining Financial Information
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Unaudited Supplemental Combining Statement of Operations
Nine Months Ended September 30, 2001 (In Millions)
Financial Traditional
Services Participating
Businesses Products Consolidated
---------- ------------- ------------
REVENUES
Premiums................................ $6,013 $3,099 $9,112
Policy charges and fee income........... 1,298 -- 1,298
Net investment income................... 3,937 2,951 6,888
Commissions and other income............ 3,264 90 3,354
------ ------ ------
Total revenues......................... 14,512 6,140 20,652
------ ------ ------
BENEFIT AND EXPENSES
Policyholders' benefits................. 5,932 3,464 9,396
Interest credited to policyholders'
account balances....................... 1,236 102 1,338
Dividends to policyholders.............. 126 1,573 1,699
General and administrative expenses..... 6,128 712 6,840
------ ------ ------
Total benefits and expenses............ 13,422 5,851 19,273
------ ------ ------
ADJUSTED OPERATING INCOME............... 1,090 289 1,379
------ ------ ------
Items excluded from adjusted operating
income
Realized investment gains (losses),
net, and related charges:
Realized investment gains (losses),
net................................... 3 (273) (270)
Related charges........................ (7) (399) (406)
------ ------ ------
Total realized investment gains
(losses), net, and related charges.... (4) (672) (676)
------ ------ ------
Divested businesses.................... (122) -- (122)
Demutualization........................ (199) -- (199)
------ ------ ------
INCOME (LOSS) FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES.................... 765 (383) 382
------ ------ ------
Income tax expense (benefit)........... 60 (30) 30
------ ------ ------
NET INCOME (LOSS)....................... $ 705 $ (353) $ 352
====== ====== ======
|
See Notes to Unaudited Supplemental Combining Financial Information
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Supplemental Combining Financial Information
1. BASIS OF PRESENTATION
The unaudited supplemental financial information presents, on a combining basis, the consolidated GAAP results of The Prudential Insurance Company of America, separately reporting the results of the Financial Services Businesses and the Traditional Participating Products segment. The Financial Services Businesses and Traditional Participating Products segment are both fully integrated operations of The Prudential Insurance Company of America (the "Company") and are not separate legal entities.
The Traditional Participating Products segment has historically sold participating insurance and annuity products, which, upon demutualization, will no longer be offered. The liabilities for these products will then be segregated, together with assets which will be used exclusively for the payment of guaranteed benefits and policyholder dividends, expenses and taxes with respect to these products, in a regulatory mechanism referred to as the "Closed Block." A minor portion of our Traditional Participating Products segment historically has consisted of other traditional insurance products that will not be included in the Closed Block. The Financial Services Businesses consist of the Company's individual life insurance operations (other than participating insurance products), mutual funds, fixed and variable annuities (other than participating annuity products), defined contribution and other retirement products, brokerage and financial advisory services and asset management services. The schedule presents the results of the Financial Services Businesses and Traditional Participating Products segment, as if they were separate reporting entities. This schedule is provided as supplemental information to the consolidated financial statements of the Company and should be read in conjunction with the unaudited interim consolidated financial statements and audited annual consolidated financial statements of the Company.
This combining supplemental schedule reflects the assets, liabilities, revenues and expenses directly attributable to the Financial Services Businesses and Traditional Participating Products segment, as well as allocations deemed reasonable by management in order to fairly present the financial position and results of operations of each business on a stand alone basis. While management considers the allocations utilized to be reasonable, management has the discretion to make operational and financial decisions which may affect the allocation methods and resulting assets, liabilities, revenues and expenses of each business. In addition, management has discretion over accounting policies and the appropriate allocation of earnings between the two businesses.
The net investment income of the Financial Services Businesses and Traditional Participating Products segment includes earnings based upon the amount of equity management believes is necessary to support the business risks of each, which differs from equity included in the Statement of Financial Position.
General corporate overhead not directly attributable to a specific business but which has been incurred in connection with the generation of the businesses revenues has generally been allocated based on each businesses' historical general and administrative expenses as a percentage of the total for the Company.
Income taxes are allocated between the Financial Services Businesses and the Traditional Participating Products segment as if they were separate companies based on the taxable income, losses and other tax characterizations of each business. If a business generates benefits (such as net operating losses), it will be entitled to record such tax benefits to the extent they are expected to be utilized on a consolidated basis.
In managing its business, the Company analyzes the operating performance of each segment using "adjusted operating income", which is a non-GAAP measure. "Adjusted operating income" is calculated by adjusting income from continuing operations before income taxes to exclude certain items. The items excluded are realized investment gains, net of losses and related charges; demutualization expenses; and the gains, losses and contribution to income/loss of divested businesses which have been sold but do not qualify for "discontinued operations" treatment under GAAP. Businesses that the Company has placed in wind-down status but are not divested remain in "adjusted operating income." The Company's discontinued healthcare operations are excluded from "income from continuing operations before income taxes."
The excluded items are important to an understanding of overall results of operations. "Adjusted operating income" is not a substitute for net income determined in accordance with GAAP and the Company's definition of "adjusted operating income" may differ from that used by other companies. However, the Company believes
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Supplemental Combining Financial Information
1. BASIS OF PRESENTATION (continued)
that the presentation of "adjusted operating income" as measured for management purposes enhances the understanding of results of operations by highlighting the results from ongoing operations and the underlying profitability factors of the Company's businesses.
The Company excludes realized investment gains, net of losses and related charges, from "adjusted operating income" because the timing of transactions resulting in recognition of gains or losses is largely at the Company's discretion and the amount of these gains or losses is heavily influenced by and fluctuates in part according to the availability of market opportunities. Including the fluctuating effects of these transactions could distort trends in the underlying profitability of the businesses. The Company excludes demutualization expenses as they are directly related to demutualization and could distort the trend associated with business operations. The Company excludes the gains and losses and contribution to income/loss of divested business because, as a result of the decision to dispose of these businesses, these results are not relevant to the profitability of the Company's ongoing operations and could distort the trends associated with ongoing businesses.
The related charges offset against the net realized investment gains relate to policyholders' dividends, amortization of deferred policy acquisition costs, and reserves for future policy benefits. Net realized investment gains is one of the elements that the Company considers in establishing the domestic dividend scale and in providing for dividends to Gibraltar Life policyholders, and the related policyholder dividend charge represents the estimated portion of the Company's expense charge for policyholder dividends that is attributed to net realized investment gains that the Company considers in determining the dividend scale and Gibraltar Life dividends. Deferred policy acquisition costs for certain investment-type products are amortized based on estimated gross profits, which include net realized investment gains on the underlying invested assets, and the related charge for amortization of deferred policy acquisition costs represents the portion of this amortization associated with net realized investment gains. The reserves for certain policies are adjusted when cash flows related to these policies are affected by net realized investment gains, and the related charge for reserves for future policy benefits represents that adjustment.
In periods subsequent to issuance of the Class B Stock and the establishment of the Closed Block Business, the measure of earnings used by management to evaluate results of the Closed Block Business will not include any adjustments to reflect results on an adjusted operating income basis.
2. DEMUTUALIZATION AND RECAPITALIZATION
Upon demutualization, the Traditional Participating Products segment will be referred to as the "Closed Block Business" and will reflect the assets and liabilities of the Closed Block, the Surplus and Related Assets held outside of the Closed Block necessary to meet insurance regulatory capital requirements related to the products included within the Closed Block, and the initial excess of the book value of the Closed Block Liabilities over the Closed Block Assets. The Financial Services Businesses will then include the capital included in the traditional Participating Products segment in excess of the amount necessary to support the Closed Block Business, and the other traditional insurance products previously included in the Traditional Participating Products segment but which will not be included in the Closed Block.
In addition to Common Stock, the Company intends to issue Class B Stock, a separate class of common stock, in connection with its planned demutualization. The Common Stock will be designed to reflect the performance of the Financial Services Businesses without reflecting the returns of the Closed Block Business while the Class B Stock will be designed to reflect the performance of the Closed Block Business.
The Company also intends to issue, upon demutualization, debt securities (the "IHC debt") through a newly-formed intermediate holding company of The Prudential Insurance Company of America. The proceeds of the IHC debt would be included in the Financial Services Businesses, while the liability reflecting the IHC debt would be included in the Closed Block Business.
The issuance of the Common Stock is conditioned on the completion of the demutualization of the Company and the issuance of the Class B stock, but the issuance of the IHC debt is not a condition to the completion of the issuance of the Common Stock.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Notes to Unaudited Supplemental Combining Financial Information
2. DEMUTUALIZATION AND RECAPITALIZATION (continued)
Dividends declared and paid on the Common Stock will depend upon the financial performance of the Financial Services Businesses. Dividends declared and paid on the Common Stock will not depend upon or be affected by the financial performance of the Closed Block Business, unless the Closed Block Business is in financial distress. Dividends declared and paid on the Common Stock also will not be affected by decisions with respect to dividend payments on the Class B Stock except as indicated in the following paragraph.
Dividends declared and paid on the Class B Stock will depend upon the financial performance of the Closed Block Business and, as the Closed Block matures, the holders of the Class B Stock will receive the surplus of the Closed Block Business no longer required to support the Closed Block for regulatory purposes. Dividends on the Class B Stock will be payable in an aggregate amount per year at least equal to the lesser of (i) a "Target Dividend Amount" of $19.25 million or (ii) the "CB Distributable Cash Flow" for such year, which is a measure of the net cash flows of the Closed Block Business. Notwithstanding this formula, as with any common stock, the Company will retain the flexibility to suspend dividends on the Class B Stock; however, if CB Distributable Cash Flow exists for any period and Prudential Financial, Inc. chooses not to pay dividends on the Class B Stock in an aggregate amount at least equal to the lesser of the CB Distributable Cash Flow or the Target Dividend Amount for that period, then cash dividends cannot be paid on the Common Stock with respect to such period. The principal component of "CB Distributable Cash Flow" will be the amount by which Surplus and Related Assets, determined according to statutory accounting principles, exceed surplus that would be required for the Closed Block Business considered as a separate insurer; provided, however, that "CB Distributable Cash Flow" counts such excess only to the extent distributable as a dividend by The Prudential Insurance Company of America under specified (but not all) provisions of New Jersey insurance law. The Company currently anticipates that CB Distributable Cash Flow will substantially exceed the Target Dividend Amount.
In the event of a liquidation, dissolution or winding-up of Prudential Financial, Inc., holders of Common Stock and holders of Class B Stock would be entitled to receive a proportionate share of the net assets of Prudential Financial, Inc. that remains after paying all liabilities and the liquidation preferences of any preferred stock, such proportion being based on the average market value per share of the Common Stock determined over a specified trading period ending 60 days after issuance and the issuance price per share of the Class B Stock.
Since there is no legal separation of the two businesses, holders of Common Stock and holders, if any, of Class B Stock are common stockholders of Prudential Financial, Inc. and have a residual interest therein. Holders of Common Stock will have no interest in a legal entity representing the Financial Services Businesses and holders, if any, of Class B Stock have no interest in a legal entity representing the Closed Block Business and holders of each class of common stock will be subject to all of the risks associated with an investment in Prudential Financial, Inc.
Net income for the Closed Block Business will be determined in accordance with GAAP, including expenses for the normal levels of amortization of deferred policy acquisition costs, investment management fees and interest expense associated with debt obligations. Cash flow between the Closed Block Business and the Financial Services Businesses will be determined based upon cash flows from the Closed Block using a policy servicing fee arrangement, a charge based upon insurance in-force and a charge determined based upon statutory cash premiums. To the extent actual expenses vary from these cash flow amounts, the difference will be recorded, on an after tax basis, as direct equity adjustments of the respective GAAP equity balances of each business.
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors of Prudential Financial, Inc.
In our opinion, the accompanying statement of financial position presents fairly, in all material respects, the financial position of Prudential Financial, Inc. at September 30, 2001 in conformity with accounting principles generally accepted in the United States of America. This financial statement is the responsibility of the Company's management; our responsibility is to express an opinion on this financial statement based on our audit. We conducted our audit of this statement in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statement is free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statement, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit of the statement of financial position provides a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP New York, New York November 12, 2001 |
PRUDENTIAL FINANCIAL, INC.
Statement of Financial Position
September 30, 2001
(In dollars)
ASSETS
Cash................................................................ $ 500
Deferred commitment fee............................................. 2,000,000
----------
TOTAL ASSETS....................................................... $2,000,500
==========
STOCKHOLDER'S EQUITY
Common stock, par value $1.00 per share, 500 shares authorized,
issued and outstanding............................................. $ 500
Additional paid-in capital.......................................... 2,000,000
----------
TOTAL STOCKHOLDER'S EQUITY......................................... $2,000,500
==========
|
See Notes to Statement of Financial Position
PRUDENTIAL FINANCIAL, INC.
Notes to Statement of Financial Position
1. ORGANIZATION
Prudential Financial, Inc. (the "Holding Company") was incorporated on December 28, 1999 as a wholly- owned subsidiary of The Prudential Insurance Company of America ("Prudential"), a New Jersey mutual life insurance company. The Holding Company was organized for the purpose of becoming the ultimate parent company of Prudential and its subsidiaries upon the completion of Prudential's reorganization from a mutual life insurance company to a stock life insurance company (the "demutualization").
Assuming Prudential's reorganization to a stock life insurance company becomes effective, Prudential will become an indirect wholly-owned subsidiary of the Holding Company. In addition, pursuant to the destacking of subsidiaries included within the Plan of Reorganization, the companies constituting Prudential's property and casualty insurance companies, principal securities brokerage companies, international insurance companies, principal asset management operations, and international securities and investments, domestic banking, and real estate franchise and relocation management operations also will become indirect wholly owned subsidiaries of the Holding Company.
In addition to its initial funding of $500, Prudential contributed an additional $2 million to the Holding Company in April 2001.
2. BASIS OF PRESENTATION
These financial statements have been prepared consistent with, and should be read in conjunction with The Prudential Insurance Company of America's Consolidated Financial Statements and Notes thereto presented elsewhere in this registration statement.
3. DEFERRED COMMITMENT FEE
In April 2001, the Holding Company entered into a subscription agreement whereby institutional investors agreed to purchase 2.0 million shares of Class B Stock at the time of Prudential's demutualization. In connection with the subscription agreement, the Holding Company paid a commitment fee of $2 million to investors, which has been recorded as "Deferred commitment fee" on the statement of financial position as of September 30, 2001. Assuming the Holding Company issues the Class B Stock, the commitment fee will be charged, at the time of issuance, to "Additional paid-in capital". There is no assurance that the Class B Stock will ultimately be issued. If management ultimately decides not to issue the Class B Stock the commitment fee will then be written-off as expense in the period such decision is made.
4. DIVIDEND RESTRICTIONS
The Holding Company's principal sources of revenues to meet its obligations, including the payment of shareholder dividends and operating expenses, will be dividends and interest from its subsidiaries. The regulated insurance, broker- dealer and various other subsidiaries, which will become subsidiaries of the Holding Company, will be subject to regulatory limitations on their payment of dividends and other transfers of funds to the Holding Company.
New Jersey insurance law provides that dividends or distributions may be declared or paid by Prudential without prior regulatory approval only from unassigned surplus, as determined pursuant to statutory accounting principles ("SAP"), less unrealized capital gains and certain other adjustments. Upon demutualization, unassigned surplus will be reduced to zero, thereby limiting Prudential's ability to pay a dividend immediately following demutualization. Prudential must obtain prior approval of the New Jersey insurance regulator prior to paying a dividend and if the dividend, together with other dividends or distributions made within the preceding twelve months, would exceed the above limit, obtain a non-disapproval from the New Jersey insurance regulator. Upon reorganization, any dividends or distributions paid by Prudential to the Holding Company will be subject to the above restrictions.
The laws regulating dividends of the Holding Company's other insurance subsidiaries domiciled in other states are similar, but not identical, to New Jersey's. In addition, upon reorganization, the net capital rules to which the broker-dealer subsidiaries are subject may limit their ability to pay dividends to the Holding Company. The laws of foreign countries may also limit the ability of our insurance and other subsidiaries organized in those countries to pay dividends to Prudential Financial, Inc.
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholder of Gibraltar Life Insurance Company, Ltd.
In our opinion, the accompanying consolidated statement of financial position presents fairly, in all material respects, the financial position of Gibraltar Life Insurance Company, Ltd. and its subsidiaries at April 2, 2001, in conformity with accounting principles generally accepted in the United States of America. This consolidated statement of financial position is the responsibility of the Company's management; our responsibility is to express an opinion on this consolidated statement of financial position based on our audit. We conducted our audit of this statement in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated statement of financial position is free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated statement of financial position, assessing the accounting principles used and significant estimates made by management, and evaluating the overall consolidated statement of financial position presentation. We believe that our audit of the consolidated statement of financial position provides a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers Tokyo, Japan August 10, 2001 |
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Consolidated Statement of Financial Position April 2, 2001 (In Millions)
ASSETS
Fixed maturities, available for sale, at fair value.................... $12,530
Equity securities, available for sale, at fair value................... 2,760
Trading account assets, at fair value.................................. 100
Loans:
Commercial and consumer loans......................................... 3,380
Mortgage loans on real estate......................................... 580
Loans held for sale................................................... 3,652
Investment real estate................................................. 365
Policy loans........................................................... 482
Other investments...................................................... 99
-------
Total investments................................................... 23,948
Cash and cash equivalents.............................................. 5,912
Receivable for common stock and subordinated debt...................... 1,170
Deferred income taxes.................................................. 217
Other assets........................................................... 862
-------
TOTAL ASSETS........................................................ $32,109
=======
LIABILITIES AND STOCKHOLDER'S EQUITY
LIABILITIES
Future policy benefits................................................. $18,054
Policyholders' account balances........................................ 10,946
Policyholders' dividends............................................... 715
Subordinated debt...................................................... 775
Other liabilities...................................................... 1,224
-------
Total liabilities................................................... 31,714
-------
COMMITMENTS AND CONTINGENCIES (See Note 11)
STOCKHOLDER'S EQUITY
Common stock, (Yen)50,000 par value,
2,000,000 shares authorized,
1,000,000 shares to be issued (See Note 2)............................ 395
-------
Total equity........................................................ 395
-------
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY.......................... $32,109
=======
|
See Notes to Consolidated Statement of Financial Position
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
1. BUSINESS
Gibraltar Life Insurance Company, Ltd., formerly known as Kyoei Life Insurance Co., Ltd., is a stock life insurance company incorporated in Japan. Gibraltar Life Insurance Company, Ltd. and its subsidiaries (collectively, "Gibraltar Life" or the "Company") provides financial services primarily throughout Japan. Gibraltar Life primarily offers four types of insurance products: individual insurance, including life and indemnity health coverage; individual annuities; group life insurance; and group annuities. It distributes products through an agency force and large employer groups. Gibraltar Life also has domestic and foreign subsidiaries, including non- insurance businesses, which are not material to its financial position.
2. REORGANIZATION AND PURCHASE
On October 20, 2000, the Company filed for reorganization under the Reorganization Law of Japan. The Reorganization Law, similar to Chapter 11 of the U.S. Bankruptcy Code, is intended to provide a mechanism for restructuring financially troubled companies by permitting the adjustment of the interests of creditors, shareholders and other interested parties. On October 20, 2000, the Tokyo District Court issued an order generally freezing the Company's assets and appointed an interim Trustee who, on October 23, 2000, was appointed as sole Trustee.
On February 14, 2001, the Trustee submitted the Reorganization Plan to the Tokyo District Court. According to the adjusted asset valuation provided in the Reorganization Plan, the Trustee's valuation of assets totaled (Yen)4,089.0 billion ($33.0 billion) as of October 23, 2000. Prior to liability adjustments provided under the Reorganization Plan, the Trustee's valuation of liabilities totaled (Yen)4,414.5 billion ($35.6 billion) as of October 23, 2000, resulting in a negative net worth of (Yen)325.5 billion ($2.6 billion).
The Company's creditors approved the Reorganization Plan and on April 2, 2001 the Tokyo District Court issued its official recognition order approving the Reorganization Plan. The Reorganization Plan became effective immediately upon the issuance of the recognition order, and is binding upon the Company, its creditors, including policyholders, its shareholders and other interested parties, whether or not they submitted claims or voted for or against the plan. The newly appointed Gibraltar Life management team formally took control of the Company on April 2, 2001 and on the same date the Company's name was changed to "Gibraltar Life Insurance Company, Ltd." The Reorganization Plan included the extinguishment of all existing stock for no consideration and the issuance of one million new shares of common stock. Pursuant to the Reorganization Plan, on April 19, 2001 The Prudential Insurance Company of America ("Prudential") through an indirect wholly-owned subsidiary contributed (Yen)50 billion ($395 million) in cash to the Company's capital and on April 20, 2001 received 100% of the Company's newly issued common stock. Prudential also provided (Yen)98 billion ($775 million) to the Company in the form of a subordinated loan. On April 23, 2001, the Tokyo District Court declared the reorganization proceedings concluded and dismissed the Trustee.
Under the Reorganization Plan, the Company was restructured as follows:
. The Company was discharged from all financial indebtedness, retaining only liabilities under insurance policies and contracts, certain pension liabilities, liabilities incurred in the ordinary course of business and certain other claims approved by the Trustee. All existing shares of stock were extinguished without consideration.
. The Company's in force insurance policies, except for group life, collective term and reinsurance policies, were restructured as follows:
. The guaranteed interest rate on in force policies was reduced to 1.75%.
. Except for individual annuities, cash surrender values before surrender charges were reduced by an average of approximately 11%, and maturity values were reduced by 8%. Annuities will be subject to reductions only if they are surrendered.
. Special surrender charges will be imposed on existing policies.
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
2. REORGANIZATION AND PURCHASE (continued)
. Although participating policies retain their current participating status, it is not anticipated that policy dividends will be paid in the near future.
. In years four and eight following the recognition of the Reorganization Plan by the Tokyo District Court, a special dividend to policyholders will be payable based on 70% of net gains, if any, over the Trustee's valuation of real estate and loans, net of transaction costs and taxes.
. No funds were requested from the Life Insurance Policyholders Protection Corporation of Japan, which is the insurance industry guaranty fund in Japan.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The consolidated statement of financial position, as a result of the Company's emergence from reorganization and its acquisition by Prudential, has been prepared using a new basis of accounting reflecting the estimated fair values of assets and liabilities. The accounting policies that follow describe the methods and assumptions used to establish the new basis of accounting.
The consolidated statement of financial position is as of April 2, 2001, the date used by Prudential for accounting purposes as its acquisition date of the Company and the date when the District Court of Tokyo recognized the Reorganization Plan. The consolidated statement of financial position reflects Prudential's investment in the Company's common stock and subordinated debt, and the related receivable from Prudential. The Company received the cash proceeds from Prudential on April 19, 2001 and issued the corresponding shares of common stock and subordinated debt to Prudential on April 20, 2001.
The consolidated statement of financial position includes the accounts of Gibraltar Life Insurance Company, Ltd., and its majority-owned subsidiaries, except in those instances which the Company's control is deemed to be temporary. The consolidated statement of financial position has been prepared in accordance with accounting principles generally accepted in the United States of America ("U.S. GAAP"). All significant intercompany balances and transactions have been eliminated.
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, including investment assets and the liability for future policy benefits, at the date of the consolidated statement of financial position. Actual amounts realized or paid could differ from those estimates.
Investments
Fixed maturities are classified as available for sale and carried at estimated fair values based on quoted market prices for listed securities, and discounted cash flow methods for unlisted securities using risk-adjusted discount rates.
Equity securities are classified as available for sale and include common and non-redeemable preferred stock and investments in mutual funds. They are carried at estimated fair values based on quoted market prices for listed equities and investments in mutual funds, and other appropriate valuation methods for unlisted equities.
Trading account assets are carried at estimated fair values based on quoted market prices.
Commercial and consumer loans and mortgage loans on real estate held for investment are carried at estimated fair values, net of unearned income and an allowance for loan losses. The estimated fair values have been determined using discounted cash flow methods using risk-adjusted discount rates. The estimated fair values of small-balance homogeneous consumer loans were determined on a portfolio basis using a loan securitization valuation method.
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
The Company's allowance for loan losses is comprised of specific allowances for impaired loans and a portfolio allowance for small-balance homogenous loans. Specific loans are considered impaired when it is probable that amounts due will not be collected according to their contractual terms. The allowance is measured as the difference between the unpaid principal balance and the present value of expected future cash flows discounted at risk-adjusted discount rates or at the fair value of collateral. The portfolio allowance for small-balance homogeneous loans is based on the Company's prior experience with similar loans.
Loans held for sale are carried at estimated fair values, less estimated selling costs. Estimated fair values of commercial loans held for sale were determined using estimated market prices obtained from third parties. Estimated fair values for certain consumer and residential mortgage loans held for sale were determined based on bids received in a competitive auction for a participation interest in the portfolio. The Company presently plans to sell this portfolio in a securitization transaction. Due to the relatively few securitization transactions that have occurred in the local markets for similar loans, the amount that the Company will ultimately realize from this portfolio could differ materially in the near term from the amount recorded as estimated fair value of this portfolio.
Investment real estate includes both real estate that the Company has the intent to hold for the production of income and real estate held for sale. Real estate held for the production of income is stated at estimated fair values, generally based on appraisers' valuations. Real estate held for sale is stated at estimated fair values, generally based on appraisers' valuations, less estimated selling costs.
Policy loans generally are carried at estimated fair values calculated using a discounted cash flow method and current risk-free interest rates in Japan and historical loan repayment patterns. Policy loans that are in excess of the related restructured policy cash surrender value are carried at the policy cash surrender value.
Other investments primarily represent retained interests in securitized loans, which are carried at estimated fair values. The estimated fair values of retained interests in securitized loans are calculated as the residual amounts of the fair values of the underlying loans after deducting the fair values of the senior beneficial interests. The fair values of the underlying loans and the senior beneficial interests are determined using discounted cash flow methods using risk-adjusted discount rates.
Other investments also include other beneficial interests in trust certificates, which are carried at estimated fair values determined using discounted cash flow methods using risk-adjusted discount rates.
Cash and cash equivalents
Cash and cash equivalents include cash on hand, amounts due from banks, money market instruments, and other instruments with maturities of three months or less when purchased.
Other assets
Other assets include short-term accounts receivable, property and equipment, accrued investment income and value of business acquired ("VOBA").
The Company's VOBA of $68 million was actuarially determined based on the present value of the projected future profits using the same assumptions that were used for computing the related liabilities, reduced for the cost of capital. However, the initial amount of VOBA was then reduced by the excess of the fair value of net assets acquired over the purchase price. VOBA will be amortized in proportion to the run-off of the associated business in force, at interest rates ranging from 1.30% to 2.00%. VOBA amortization expected to be recorded in each of the next five years is $9 million, $7 million, $6 million, $6 million and $5 million.
Short-term accounts receivable were $560 million, property and equipment was $126 million and accrued investment income was $108 million.
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Policyholders' dividends
Policyholders' dividends include amounts for a special dividend ("Special Dividend") expected to be distributed from net gains, if any, on certain assets to policyholders whose policy reserves were reduced pursuant to the Reorganization Plan. Policyholders' dividends also include provisions for experience-rated premium adjustments on group insurance. As a result of the Company's reorganization, other than the Special Dividend, it is not anticipated that policyholders' dividends will be paid in the near future on individual life insurance.
The liability for the Special Dividend is based on the difference between the current estimated fair values of loans and real estate at the date of the consolidated statement of financial position and the value of such assets included in the Reorganization Plan. The liability for this Special Dividend will be adjusted as purchase discounts and premiums on loans are accreted and amortized and as changes occur in estimates of fair value of loans and real estate that are expected to have an effect on the ultimate Special Dividend to be paid.
Other liabilities
Other liabilities primarily include liabilities for employee benefit plans and guaranty fund assessments. The estimated liability for employee benefit plans represents the actuarially determined projected benefit obligations. The Company accrues amounts for guaranty fund assessments when an obligating event occurs, an assessment is probable, and the amount is reasonably estimable. The liability for guaranty fund assessments was $126 million.
Foreign currency translation adjustments
The Company maintains its accounting records and prepared its consolidated statement of financial position in its functional currency, the Japanese yen. The statements of financial position of foreign subsidiaries reported in other than Japanese yen were translated into Japanese yen for consolidation purposes using the exchange rate at the date of the consolidated statement of financial position.
The accompanying consolidated statement of financial position was translated into U.S. dollars using the exchange rate at the date of the consolidated statement of financial position of (Yen)126.44 = U.S. $1.
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
4. INVESTMENTS
Fixed maturities and equity securities
The following table provides additional information on the estimated fair values of fixed maturities and equity securities (excluding trading account assets):
(In Millions)
Fixed maturities available for sale
Japanese national government bonds............................. $ 8,494
Japanese prefectural and municipal government bonds............ 186
Japanese corporate securities.................................. 3,129
Foreign corporate securities................................... 721
-------
Total fixed maturities available for sale...................... $12,530
=======
Equity securities available for sale........................... $ 2,760
|
Approximately 78% of Gibraltar's equity securities are publicly traded on the Tokyo Stock Exchange or the Osaka Stock Exchange.
The estimated fair values of fixed maturities by contractual maturities are shown below:
(In Millions)
Due in one year or less....................................... $ 1,640
Due after one year through five years......................... 3,493
Due after five years through ten years........................ 4,719
Due after ten years........................................... 2,678
-------
Total........................................................ $12,530
=======
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Actual maturities may differ from contractual maturities because issuers have the right to call or prepay obligations.
Loans held for investment
Commercial and consumer loans
The composition of the commercial and consumer loan portfolio and the related allowance for loan losses was as follows:
Contractual Allowance for Estimated
Amount Loan Losses Fair Value
----------- ------------- ----------
(In Millions)
Japanese Domestic
Banks.................................. $1,389 $ -- $1,389
Other financial institutions........... 1,395 (280) 1,115
Commercial and industrial.............. 334 (107) 227
Consumer............................... 196 (3) 193
Other.................................. 141 -- 141
------ ----- ------
Sub-total............................. 3,455 (390) 3,065
Foreign................................ 315 -- 315
------ ----- ------
Total................................. $3,770 $(390) $3,380
====== ===== ======
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Foreign loans were predominantly to banks in Southeast Asia.
Impaired commercial and consumer loans identified in management's specific review of probable loan losses and the related allowance for loan losses were as follows:
(In Millions)
Impaired loans with allowance for loan losses.................. $427
Allowance for loan losses...................................... (387)
----
Estimated fair value of impaired loans......................... $ 40
====
|
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
4. INVESTMENTS (continued)
Mortgage loans on real estate
Mortgage loans were collateralized by the following property types:
% of
Amount Total
------ -----
(In
Millions)
Office Buildings.............................................. $376 40.5%
Residential properties........................................ 506 54.5%
Other......................................................... 47 5.0%
---- -----
Subtotal..................................................... 929 100.0%
=====
Allowance for loan losses..................................... (349)
----
Estimated fair value.......................................... $580
====
|
Real estate collateralizing mortgage loans was geographically dispersed throughout Japan.
Impaired mortgage loans and the related allowance for loan losses were as follows:
(In Millions)
Impaired mortgage loans with allowance for loan losses........ $440
Impaired mortgage loans with no allowance for loan losses..... 3
Allowance for loan losses..................................... (329)
----
Estimated fair value of impaired mortgage loans............... $114
====
|
Impaired mortgage loans with no allowance for loan losses were loans for which all cash flows due under the loan contract were expected to be received, with interest for late payments, but not in accordance with the terms of the contract.
Loans held for sale
The estimated fair value of loans held for sale was as follows:
(In Millions)
Japanese Domestic
Banks......................................................... $ 683
Other financial institutions.................................. 804
Commercial and industrial..................................... 441
Consumer...................................................... 485
Residential mortgage loans.................................... 1,146
------
Sub-total.................................................... 3,559
Foreign....................................................... 93
------
Total......................................................... $3,652
======
|
Foreign loans were predominantly to banks in Southeast Asia. Residential mortgage loans were collateralized by properties, which were geographically dispersed throughout Japan.
Investment real estate
Included in investment real estate were $201 million of office buildings held for sale.
Certain properties were leased to third parties and non-consolidated affiliates. The terms of most leases were two or three years and include options for renewal. Minimum future rentals under non-cancelable operating leases were not material.
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
4. INVESTMENTS (continued)
Other investments
During 1999, the Company securitized certain commercial loans (the "underlying loans") with unpaid principal balance of $565 million, all of which remains outstanding at April 2, 2001. The Company derecognized $483 million of the principal of the underlying loans and recorded its retained interests in $82 million of the principal amount of the underlying loans within other investments. The Company retained credit risk up to the principal amount of its retained interests. None of the underlying loans were delinquent on payments of principal or interest at April 2, 2001.
The retained interests are carried at their estimated fair values of $76 million.
Restricted assets and special deposits
Certain Japanese government bonds included in fixed maturities available for sale were pledged as collateral. Assets with an estimated fair value of $76 million were pledged as collateral to indemnify certain risks associated with securitized loans sold to banks and other financing institutions. Assets valued at $135 million were pledged pursuant to insurance regulations as collateral to support borrowings of the Japanese insurance industry guaranty funds.
5. POLICYHOLDERS' LIABILITIES
Future policy benefits were $18,054 million and include reserves for death and endowment policy benefits, certain health benefits and reserves for annuities in payout with life contingencies.
Future policy benefits are estimated as the present value of future benefits and expenses less the present value of future net premiums using assumptions for mortality, persistency (surrender) and interest, with appropriate provision for adverse deviations. The following table highlights the key assumptions generally utilized in calculating these reserves:
Product Mortality Interest Rate
------- --------- -------------
Life insurance.......... Based on recent company experience covering fiscal 1.30% to 1.88%
years 1993 to 1997
Annuities............... Based on company pricing assumptions which reflect 1.30% to 1.88%
recent company experience
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As a result of the Company's recent emergence from reorganization proceedings and the reduction in the benefits for in force policies the Company has assumed a higher than normal level of surrenders in the near term. Surrender rate assumptions for years of operations, commencing at the date of reorganization, are 6% in the first year and 4% thereafter for paid-up policies and 2% to 38% in the first year, 3% to 14% in the second year, and 6% to 10% thereafter for premium-paying policies. Actual surrender experience of the Company in the near term may be significantly different from that assumed in estimating future policy benefits. In order to protect the Company from a high level of surrenders following its emergence from reorganization, moratorium surrender charges were imposed as part of the Reorganization Plan. Moratorium surrender charges under the Reorganization Plan are as follows for each year ending March 31:
2002 2003 2004 2005 2006 2007 2008 2009 ---- ---- ---- ---- ---- ---- ---- ---- 15% 14% 12% 10% 8% 6% 4% 2% |
Future policy benefits include an estimate of unpaid claims and claim adjustment expenses for reported claims and for incurred but not reported claims based, in part, on the Company's experience.
Policyholders' account balances were $10,946 million and, for investment- type contracts, represent either the estimated fair value of such contracts, or an accumulation of account deposits plus credited interest less withdrawals, expenses and mortality charges. The fair values for contracts with no specific account value are the
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
5. POLICYHOLDERS' LIABILITIES (continued)
present value of future benefits and expenses, less any future gross premiums, using best estimate assumptions and discount rates ranging from 0.50% to 1.75%. For investment-type contracts with specific account values the credited interest rates range from 0.50% to 1.50%.
Policyholders' Dividends
The majority of the Company's participating insurance is in its individual life insurance business. Substantially all of the individual life insurance in force is participating or semi-participating (i.e., dividends for excess interest only). As a result of the Company's reorganization, it is not anticipated that policyholders' dividends, other than the Special Dividend, will be paid in the near future on individual life insurance.
As part of the Reorganization Plan submitted by the Trustee, a Special Dividend is expected to be distributed to policyholders whose policy reserves were reduced by the Reorganization Plan. The amount of the Special Dividend will be finally determined at the end of the eighth year following the reorganization of Gibraltar (at March 31, 2009). The amount of the Special Dividend generally will be equal to 70% of the net gain realized from the disposition or collection of loans and real estate, net of transaction costs and taxes, over the value of such assets included in the Reorganization Plan. If any loans or real estate existing at the date of the reorganization remain unsold or uncollected at the end of the eighth year, an appraisal of their fair market value will be made. Such value will be considered the sales proceeds in a deemed sale of those assets at that date for purposes of determining the net gain.
A preliminary determination of the net gain will be made at the end of the fourth year following the reorganization. This determination will be based on net gains from loans and real estate actually sold, loans fully collected, and loans fully written off, by that date. There will not be any deemed sale of assets remaining at the end of the fourth year. If net gains exist at the fourth year determination date but net losses are incurred between the fourth and eighth year determinations, no distribution will be made at the eighth year and no adjustment will be made with respect to the earlier fourth year distribution.
Fourth and eighth year distributions will be made to policyholders whose policies are in force at the determination date who will receive an increased amount of paid-up insurance at their next policy anniversary. Policyholders (or beneficiaries) whose policies have matured by their terms or because of an insured event (e.g., death) will receive a cash settlement. Policies that have matured at the fourth year distribution will not receive any part of the eighth year distribution. At both the fourth and eighth year distributions policyholders who have surrendered their policies prior to the respective determination date will receive nothing. Amounts that otherwise would have been distributed to surrendered policies (or, with respect to the eighth year determination, policies that matured prior to the fourth year distribution) will be included in amounts distributed to remaining policies. No interest accrues on the amount of the Special Dividend from the date net gains are realized to the determination date or distribution date.
A liability of $635 million has been recorded for the Special Dividend.
Policyholders' dividends also include $80 million of accrued experience- rated premium adjustments for group insurance.
6. EMPLOYEE BENEFIT PLANS
Defined Benefit Plans
The Company has several unfunded, non-contributory defined benefit plans. The Qualified Pension Plan covers all employees except for the sales force. Other plans include the Company Pension Plan covering the sales force and officers and the Retirement Accumulation Plan covering all employees. The Director Pension Plan and the Director Retirement Accumulation Plan, which are generally designed to cover benefits lost when employees are appointed as directors, are also provided. Benefits are generally based on career average or final
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
6. EMPLOYEE BENEFIT PLANS (continued)
salary and credited length of service. Substantially all of the Company's employees become eligible to receive benefits under the applicable plans if they have at least 20 years of service with the Company. Employees are vested with the Retirement Accumulation Plan after two years of service.
The projected benefit obligations of $765 million were included in "Other liabilities" in the consolidated statement of financial position.
Weighted-average assumptions used to calculate the projected benefit obligations were as follows:
Discount rate................................................. 2.5%
Rate of increase in compensation levels....................... 2.0%
7. INCOME TAXES
Deferred tax assets and liabilities resulted from the items listed in the
following table:
(In Millions)
-------------
Deferred tax assets
Investments.................................................. $413
Net operating loss carryforwards............................. 56
Employee benefits............................................ 260
Other........................................................ 51
----
Deferred tax assets.......................................... 780
----
Deferred tax liabilities
Insurance reserves........................................... 524
Depreciation................................................. 39
----
Deferred tax liabilities..................................... 563
----
Net deferred tax asset........................................ $217
====
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At April 2, 2001, the Company had a net operating loss carryforward of $117 million with respect to the Japanese national income taxes, which expires in 2006. The Company had a local net operating loss carryforward of $352 of which $235 and $117 will expire in 2005 and 2006, respectively.
8. CREDIT RISK
Credit risk is managed by entering into transactions with creditworthy counterparties and obtaining collateral when appropriate and customary. The Company also attempts to minimize its exposure to credit risk by active credit monitoring.
Off-Balance-Sheet Credit-Related Instruments
During the normal course of its business, the Company is party to credit- related financial instruments with off-balance sheet risk to meet the financing needs of its customers. Commitments outstanding at April 2, 2001 were not material.
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
8. CREDIT RISK (continued)
Credit risk concentrations
The Company had gross exposures in excess of 10% of stockholder's equity to the following companies and their affiliates:
Guarantees
of
Fixed Equity Commercial Consumer
Maturities Securities Loans Loans Total
---------- ---------- ---------- ---------- ------
(In Millions)
Japanese Government
Bonds and Government
Guaranteed............. $9,187 $-- $-- $-- $9,187
Mizuho Holdings, Inc.... 617 26 315 -- 958
Sumitomo Mitsui Banking
Corporation............ 38 16 740 134 928
Shinsei Bank, Limited... 157 -- 527 -- 684
JACCS................... -- -- -- 435 435
Mitsubishi Tokyo
Financial Group, Inc... 49 100 229 -- 378
Orient Corp............. -- -- -- 345 345
Orix Corporation........ -- 40 275 -- 315
Shinkin Central Bank.... 235 -- -- -- 235
United Financial of
Japan.................. -- 15 195 -- 210
Aiful Corporation....... -- 19 153 -- 172
Asahigin Guarantee Co.,
Ltd.................... -- -- -- 165 165
The Resolution and
Collection
Corporation............ -- -- 161 -- 161
Real Estate Credit
Guarantee Co., Ltd..... -- -- -- 154 154
Takefuji Corporation.... 2 9 142 -- 153
Nippon Telegraph and
Telephone Corporation.. 10 114 28 -- 152
Kokunai Credit Co.,
Ltd.................... -- -- 10 127 137
Tokyo Metropolitan
Government............. 132 -- -- -- 132
All Nippon Airways Co.,
Ltd.................... 19 109 2 -- 130
Mitsui Fudosan Loan &
Guarantee Co., Ltd..... -- -- -- 130 130
Toshiba Corporation..... 29 6 20 68 123
The San-ei Building..... -- -- 115 -- 115
Nippon Shinpan.......... -- 1 21 82 104
Acom Co., Ltd........... -- 5 106 -- 111
Public Corporation for
Improvement on Housing
Development (jyutaku-
kairyou-kousya)........ -- -- -- 109 109
IBJ Leasing Co., Ltd.... -- -- 102 -- 102
Investments and loans to
28 other companies and
their affiliates with
exposures of between
$39 million and $100
million................ 249 324 894 86 1,553
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9. STATUTORY REQUIREMENTS AND DIVIDEND RESTRICTIONS
Under the Insurance Business Law of Japan, the minimum acceptable solvency margin ratio is 200%. Resident insurers are also required to maintain minimum share capital of (Yen)1 billion. The Company's solvency margin ratio was 697.8% and share capital was (Yen)50 billion.
The Insurance Business Law stipulates that an amount equal to at least 20% of cash dividends be appropriated as a legal reserve until such reserve equals stated capital. This reserve is not available for dividends but may be used to reduce a deficit or may be transferred to stated capital. Pursuant to the terms of the Reorganization plan, the Company may not pay dividends to its stockholder until certain restrictions of the Reorganization Plan have been satisfied.
GIBRALTAR LIFE INSURANCE COMPANY, LTD.
Notes to Consolidated Statement of Financial Position
10. RELATED PARTIES
On April 19, 2001, Prudential provided $775 million to the Company in the form of subordinated debt. The subordinated debt matures in 2021 and bears interest at a 2.5% annual rate, payable semi-annually.
11. COMMITMENTS AND CONTINGENCIES
Operating leases
The Company has entered into leases to use certain real estate and equipment. Most of the leases have a term of two or three years and include options for renewal. Future minimum lease payments under non-cancelable operating leases were not material.
Litigation
Various lawsuits against the Company have arisen in the course of the Company's business. In certain of these matters, large and/or indeterminate amounts are sought. In the opinion of the Company, any ultimate liability that could result from such litigation would not have a material effect on the Company's financial position.
ANNEX A
ACTUARIAL OPINIONS
[LOGO] Milliman & Robertson, Inc.
Actuaries & Consultants
Internationally WOODROW MILLIMAN
December 12, 2000
The Board of Directors
The Prudential Insurance Company of America
Prudential Plaza
Newark, NJ 07102
Re: Plan of Reorganization of The Prudential Insurance Company of America
STATEMENT OF ACTUARIAL OPINION
Subject of this Opinion
This opinion letter relates to the actuarial aspects of the proposed Reorganization of The Prudential Insurance Company of America ("Prudential") pursuant to its Plan of Reorganization (the "Plan") as presented to Prudential's Board of Directors on December 12, 2000 for its consideration and adoption. The specific opinions set forth herein relate to the proposed allocation of consideration among Eligible Policyholders and the creation and funding of a Closed Block, each of which is described in the Plan.
Capitalized items have the same meaning in this opinion as they have in the Plan.
Qualifications and Usage
I, Daniel J. McCarthy, am associated with the firm of Milliman & Robertson, Inc., ("M&R") and am a Member of the American Academy of Actuaries, qualified under the Academy's Qualification Standards to render the opinions set forth herein. The Plan is based on authority in Chapter 17C of Title 17 of the New Jersey Revised Statutes ("Chapter 17C"). The opinions set forth herein are not legal opinions concerning the Plan but rather reflect the application of actuarial concepts and standards of practice to the provisions thereof.
I am aware that this opinion letter will be furnished to the New Jersey Department of Banking and Insurance for its use in determining the fairness of the Plan, and to Prudential's Eligible Policyholders as part of the Policyholder Information Booklet that will be delivered to them, and I consent to the use of this letter for those purposes.
Reliance
In forming the opinions set forth in this memorandum, I have received from Prudential extensive information concerning Prudential's past and present practices and financial results. I, and other M&R staff acting under my direction, met with Prudential personnel and defined the information we require; in all cases, we were provided with the information we requested to the extent that it was available or could be developed from Prudential's records. We have made no independent verification of this information, although we have reviewed it where practicable for general reasonableness and internal consistency. I have relied on this information, which was provided under the general direction of Helen Galt, Prudential's Company Actuary. My opinions depend on the substantial accuracy of this information.
Process
In all cases, I and other M&R staff acting under my direction either derived the results on which my opinions rest or reviewed derivations carried out by Prudential employees.
Opinion #1
Under the Plan, consideration is to be distributed to each Eligible Policyholder in exchange for his or her Membership Interest. In my opinion, the methodology and underlying assumptions for allocation of consideration among Prudential's Eligible Policyholders that are set forth in Article VII of the Plan (including the Allocation Principles and Methodology, an Exhibit thereto) are reasonable and appropriate, and the resulting allocation of consideration is fair and equitable.
Discussion
General description of the method of allocation. Section 3(c)(2) of Chapter 17C requires that "the method for allocating consideration among eligible policyholders shall be fair and equitable", and requires that "the method shall provide for each eligible policyholder to receive (a) a fixed component of consideration or a variable component of consideration, or both; or (b) any other component of consideration acceptable to the commissioner". Under the Plan, each Eligible Policyholder will be allocated a Basic Fixed Component of consideration; i.e., a value, expressed in terms of shares of stock, that is independent of the Eligible Policyholder's Actuarial Contribution. In addition, each Eligible Policyholder will be allocated a Basic Variable Component of consideration if the Actuarial Contribution of any of the Eligible Policies owned by the Eligible Policyholder is positive. As defined in the Plan, Actuarial Contribution means, with respect to a particular Eligible Policy, the contribution that such Eligible Policy is estimated to have made to the Company's surplus, plus the estimated contribution that such Eligible Policy is expected to make to surplus in the future, in each case as determined in accordance with the principles and methodology set forth in Article VII and the "Allocation Principles and Methodology" Exhibit of the Plan. For each Eligible Policyholder who received a Basic Variable Component of consideration, that Eligible Policyholder's share of the sum of all consideration distributed via the Basic Variable Component is the ratio of:
(a) the sum of the positive Actuarial Contributions of all Eligible Policies owned by the Eligible Policyholder, to
(b) the sum of all positive Actuarial Contributions of all Eligible Policies owned by all Eligible Policyholders.
Appropriateness of the "contribution to surplus" method. Most of the
consideration allocated to Eligible Policyholders is allocated via the Basic
Variable Component, using the "contribution to surplus" method. The
contribution to surplus method is recognized in the actuarial literature as an
appropriate allocation method. In particular, Actuarial Standard of Practice
37 ("ASOP 37"), which is the most authoritative guidance available to
actuaries on this subject, states in part, "The variable component of
consideration should be allocated on the basis of the actuarial contribution."
ASOP 37 (which was adopted by the Actuarial Standards Board in June, 2000 with
an effective date of December 15, 2000) defines "actuarial contribution," in
the relevant part, to be "The contributions that a particular policy . . . has
made to the company's statutory surplus . . . plus the present value of
contributions that the same policy . . . is expected to make in the future."
This is consistent with the definition in the Plan. I therefore find that the
use of "contribution to surplus" as the principal basis underlying the
allocation of consideration is reasonable and appropriate. I further find
that, in the Plan, the contribution to surplus method has been implemented in
a reasonable manner, consistent with Prudential's past and present business
practices and consistent with relevant actuarial literature.
Appropriateness of the Basic Fixed Component. Consideration is also allocated to Eligible Policyholders via the Basic Fixed Component, in which each Eligible Policyholder is allocated a fixed number of shares of common stock without regard to the Actuarial Contribution of that Eligible Policyholder or of the class or classes in which policies held by the Eligible Policyholder happen to reside. This element of the allocation assures that each Eligible Policyholder will receive some distribution, and is consistent with overall concepts of equity. Under the Plan, the percentage of the total consideration that is allocated in this manner is small relative to that allocated in proportion to positive actuarial contributions, which is appropriate. I find that including a minimum allocation to each Eligible Policyholder using the Basic Fixed Component is reasonable and appropriate.
Appropriateness of certain adjustments provided for in the Plan. The Plan provides for certain adjustments to the amount otherwise calculated (i.e., the sum of the Basic Fixed Component and any Basic Variable Component) with respect to certain Eligible Policyholders. These adjustments, and the Eligible Policyholders to which each applies, are discussed below.
a. Additional Components. Section 7.1 of the Plan defines the basis under which an Additional Fixed Component and an Additional Variable Component will be allocated to Eligible Policyholders who do not
receive shares of stock as a form of consideration with respect to any of his or her Eligible Policies. (For purposes of this opinion, I will refer to the Additional Fixed Component and the Additional Variable Component together as "Additional Components".) This adjustment has the effect of increasing the amount of consideration by approximately 10% of the amount otherwise calculated, subject to a minimum of two additional shares. The aggregate amount of the Additional Components reasonably reflects the value of the savings that Prudential expects to achieve by virtue of providing shareholder services to smaller number of shareholders than there would have been if all Eligible Policyholders had received shares of stock and how that value might be reflected in Prudential's IPO price.
b. Top-up Period. Section 7.5 of the Plan defines the basis under which this adjustment is made with respect to Eligible Policyholders who receive cash or policy credits as a form of consideration with respect to any of his or her Eligible Policies if the average trading price of the stock in the 20 days following the IPO exceeds the Initial Stock Price by more than 10%. In such event, such Eligible Policyholders receive additional consideration equal to the product of (x) and (y), where (x) equals the excess of (i) the ratio of the average trading price to the Initial Stock Price over (ii) 1.1, and (y) equals the amount of their calculated consideration (i.e., the sum of the Basic Fixed Component, any Basic Variable Component, and any Additional Components) on such Eligible Policies. This adjustment cannot exceed 10% of the calculated consideration (i.e., if the rate of appreciation exceeds 20%, the adjustment is 10%).
I have considered the effect of these two adjustments. I note that:
a. The Additional Components adjustment has the effect of reflecting, in the allocation of consideration provided to each Eligible Policyholder who does not receive shares of stock in exchange for his or her membership interest, the value associated with anticipated savings in shareholder servicing costs that they make possible by not receiving shares of stock.
b. The Top-up Period adjustment has the effect of providing assurance to Eligible Policyholders who receive cash or policy credits that if the use of the Initial Stock Price of the stock in determining the value distributed to such Eligible Policyholders in exchange for their membership interests does not fully reflect the value of those interests--as would be demonstrated if the price of the stock rises significantly during a short period after the IPO--the amount distributed to them will be adjusted to reflect appropriately the value of their membership interests.
c. The Top-up Period adjustment is integrated with the Additional Components adjustment. It takes into account that by virtue of the Additional Components adjustment, Eligible Policyholders who do not receive shares of stock, who constitute the vast majority of those to whom the Top- up Period adjustment applies, will already have been allocated value that is approximately equal to the additional value they would have derived from receiving shares of stock if any short-term increase in the price of the stock is 10% or less. It thus provides additional consideration only if any short-term increase in the price of the stock exceeds 10%.
I find that the application of these adjustments in determining the amount of consideration allocable to Eligible Policyholders who receive cash or policy credits is fair and equitable because:
i. it reflects, in valuing their Membership Interests, the element of that value that is associated with savings in shareholder servicing costs, and
ii. it enables an adjustment in valuing their Membership Interests, essentially analogous to the adjustment that takes place on the part of Eligible Policyholders who receive only shares of stock, in the event that there is a significant increase in the price of the stock in the short term.
In making this finding, I have taken into account the history of short-term Post-IPO price movements of the shares of stock of demutualized life insurers.
The effect of different forms of consideration. As noted above, in considering the fairness of the allocation I have taken into account that different classes of Eligible Policyholders will receive one or more different forms of consideration. I find that the above-described allocation of demutualization consideration among Eligible Policyholders results in a distribution to each class of Eligible Policyholders in exchange for their Membership Interests, whether in stock, policy credits or cash, that appropriately reflects their share of the aggregate value that is being distributed in the exchange.
Appropriateness of the definition of "Eligible Policyholder." In considering the fairness of the allocation, I have taken into account the definition of "Eligible Policyholder" set forth in the Plan. This definition differs in certain respects from definitions used in some prior demutualizations, but I consider it to be consistent with Prudential's business practices, consistent with approaches prescribed or permitted by the Chapter 17C, and reasonable when taken in conjunction with the overall method for allocation of consideration. I have also considered that, under the Plan, Eligible Policies affect the allocation of the Aggregate Basic Variable Component, if their Actuarial Contributions are positive, whether they are "participating" or "non-participating" policies. In light of Prudential's business practices, I find this approach to be fair and equitable.
Opinion #2
In my opinion:
A. The purpose of the Closed Block, as set forth in Article IX of the Plan, is appropriate.
B. The arrangements for the establishment, operation and funding of the Closed Block as set forth in Article IX of the Plan (including the Closed Block Memorandum, and Exhibit thereto), are reasonable.
C. The selection of the assets used to fund Prudential's Closed Block as of July 1, 2000 is consistent with the Plan of Reorganization and with the actuarial assumptions (as described in the Closed Block Memorandum) that were used for funding the Closed Block.
D. The $48.7 billion of assets used to fund the Closed Block is an amount that is expected to be reasonably sufficient to meet the objective of supporting the Closed Block Policies (including but not limited to the payment of claims, certain expenses, and taxes) and providing for continuation of the dividend scales in effect on the Adoption Date if the experience underlying such dividend scales continues. Attachment 1 to this letter provides the Closed Block statutory balance sheet as of July 1, 2000, consistent with the funding of the Closed Block.
E. Article IX of the Plan also provides for the appropriate adjustment of the dividend scales if the underlying experience changes from that underlying the dividend scales in effect for 2000 and is in conformity with the provisions of Chapter 17C dealing with closed blocks.
F. The Funding Adjustment Charges specified for the Closed Block (set forth in Attachment 2 to this letter) are consistent with the Plan of Reorganization and with the actuarial assumptions that were used for the establishment of these charges.
Discussion
Appropriateness of the purpose of the Closed Block. As to (A) above, Section 3(d) of Chapter 17C requires that the Plan provide for the reasonable dividend expectations of policyholders through establishment of a closed block or other method acceptable to the commissioner. Chapter 17C also provides that any such method may be limited to participating individual life insurance policies and participating individual annuity contracts with experience-based dividend scales. Further, Chapter 17C provides that assets are to be allocated to the Closed Block in an amount expected to be reasonably sufficient to meet the objective of supporting the Closed Block Policies and providing for continuation of the dividend scales in effect on the Adoption Dated if the experience underlying such dividend scales continues. Article IX of the Plan makes provision for establishing a Closed Block having a purpose consistent with that specified by Chapter 17C. My opinion that the purpose is appropriate is based on this consistency as well as its consistency with Actuarial Standard of Practice 33 ("ASOP 33"), with the report of the Society of Actuaries Task Force on Mutual Life Insurance Company Conversion, and with the purposes of other closed blocks that have been established in recent years.
Appropriateness of the arrangements for the establishment, operation and funding of the Closed Block. As to (B), (C), (D), and (E) above, the Closed Block Memorandum describes the process by which assets will be allocated to the Closed Block as of the Closed Block Funding Date, July 1, 2000. The process has three essential steps:
1. Defining the elements that constitute the experience underlying the dividend scales in effect for 2000.
2. Defining the projection process used, in conjunction with (1), to determine the cash flow requirements of the Closed Block for each year of its projected future existence.
3. Selecting assets whose cash flows, when taken in conjunction with anticipated future revenues from Closed Block Policies and future reinvestment of available Closed Block assets, will provide funds to meet the cash requirements of the Closed Block.
I find that the elements of experience underlying the dividend scales in effect for 2000 have been determined correctly and that the process is consistent with normal actuarial techniques for determining cash flow requirements. In particular, I find that--because the dividend scales adopted by Prudential have been essentially unchanged for the four-year period 1997- 2000--it is appropriate to determine the elements of experience by averaging, for each element, the experience underlying the scales adopted in the four years ending with year 2000.
I find that the funding of the Closed Block is appropriate, because the initial Closed Block assets are reasonably sufficient to enable the Closed Block to provide for the guaranteed benefits, certain expenses and taxes associated with Closed Block policies, and to provide for the continuation of the dividend scales in effect for the year 2000 if the experience underlying those scales (including the portfolio interest rates) continues. In connection with these findings, I have noted that the funding of the Closed Block provides for a fixed cost of servicing the policies included in it and the Closed Block Memorandum provides specifically that such fixed administrative expenses shall be charged to the Closed Block. I have considered these arrangements in light of the fact that Prudential, rather than the Closed Block policyholders, bears the financial risk for future changes in administrative expense levels.
I have also taken into account the fact that the investment policies and guidelines that the Investment Committee of the Board adopted for the Closed Block represent a general continuation of the investment policies and guidelines that have been applicable in the past for the portfolio of assets associated with Prudential's obligations for policies that have been placed in the Closed Block.
I also find that the criteria set forth in Article IX of the Plan for modifying the dividend scales if the experience changes are such that, if followed, the Closed Block Policies will be treated in a manner consistent with Prudential's current dividend practices. In connection with this finding, I have noted that the Plan requires Prudential to submit by June 1 of the fifth calendar year following the calendar year of the Effective Date and every five years thereafter a report, prepared in accordance with applicable actuarial standards, of an independent actuary, who shall be a member of the American Academy of Actuaries, concerning the operations of the Closed Block. The presence of this requirement helps to assure that Closed Block operations in general, and dividend scale changes in particular, are consistent with the purpose of the Closed Block.
Finally, I find that the funding and operation of the Closed Block as set forth in Article IX of the Plan are consistent with current actuarial practice as set forth in ASOP 33. In particular, I find that--under the circumstances described above--the use of the four-year averaging technique in determining the elements of experience is consistent with the guidance of ASOP 33 that experience elements should reflect ". . .recent experience underlying the current dividend scales."
Appropriateness of Funding Adjustment Charges. As to (F) above, the Funding Adjustment Charges are appropriate because, with respect to Closed Block Policies issued on or after the Closed Block Funding Date (July 1, 2000) and prior to the Effective Date, they will place the Closed Block in a neutral financial position--i.e., the Closed Block's assets will be neither more nor less sufficient in relation to its obligations by virtue of the inclusion of these policies in the Closed Block than would have been the case had the policies not been included in the Closed Block. The Funding Adjustment Charges have been calculated so that they remove from the Closed Block, with respect to policies to which they apply, the sum of (a) expenses and commissions provided for in the pricing of the policies for which the Closed Block is not financially responsible, and (b) the present value of any expected future profits that would enure to Prudential after provision for policyholder dividends.
Opinion #3
In my opinion, the definition of the Closed Block Policies included in the Closed Block as set forth in Article I of the Plan is fair and reasonable, and is consistent with the provisions of Chapter 17C. Section 9.5 of the Plan provides other methods for protecting the reasonable dividend expectations for certain dividend-paying policies not in the Closed Block. In my opinion, these other methods are reasonable and appropriate.
Discussion
Article I of the Plan defines the Closed Block Policies referred to in Article IX of the Plan. This definition provides that certain classes of policies in force on the Closed Block Funding Date, or on any date between that date and the Effective Date, will be included in the Closed Block provided that they are in force on the Effective Date. The policies so provided for are, in general, individual life insurance policies and certain retirement annuity contracts in classes for which Prudential's 2000 dividend scale provides for experience-based dividends. This is consistent with the purpose of the Closed Block, which is to provide assurance of the future dividend treatment of such policies and contracts.
For certain small classes of individual life policies, individual health policies, individual annuity contracts, and supplementary contracts with current dividend scales but which are excluded from the Closed Block, the Plan provides reasonable assurances as to the continuation of the current dividend practices in the future. Such assurances are an appropriate way in which to deal with special classes of policies.
Scope of Opinions #2 and #3
Section 9.4 of the Plan provides for the establishment of a Canadian Closed Block. The Canadian Closed Block was funded with assets in the amount of C$170 million as of July 1, 2000. Attachment 3 to this letter provides the statutory balance sheet for the Canadian Closed Block as of July 1, 2000 consistent with the funding of the Canadian Closed Block. Such funding was based on experience appropriate for the Canadian Closed Block. Opinions #2 and #3 above apply both to the Canadian Closed Block and to the Closed Block covering all other Closed Block Policies.
Yours sincerely
/s/ Daniel J. McCarthy Daniel J. McCarthy Consulting Actuary |
Attachment 1
US Closed Block
Balance Sheet--July 1, 2000
(amounts in $ millions)
Assets
Bonds................................................................. 34,250
Preferred Stock....................................................... 17
Common Stock--Unaffiliated............................................ 1,581
Mortgage Loans........................................................ 5,120
Investment Real Estate................................................ 38
Policy Loans--Non-securitized......................................... 5,670
Policy Loans--Securitized............................................. 169
Cash and Other Short-term Investments................................. 4
Other Long-term Investments .......................................... 1,072
Accrued Investment Income............................................. 683
Other Miscellaneous Assets............................................ 12
Premiums Receivable................................................... 93
-------
Total Assets............................................................ 48,709
=======
Liabilities
Future Policy Benefits/Aggregate Reserve.............................. 43,131
Policyholder Account Balance (Dividend Accumulations)................. 5,205
Unpaid Claims......................................................... 68
Policyholder Dividends................................................ 2,415
Other Policyholder Related Liabilities................................ 23
General Expenses Due & Accrued........................................ 1
Unearned Investment Income............................................ 5
-------
Total Liabilities....................................................... 50,848
=======
Surplus................................................................. (2,139)
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Attachment 2
Funding Adjustment Charges
Funding Adjustment charges for Closed Block Policies that are issued on or after the Closed Block Funding Date, but on or before the Effective Date of the Plan are as follows:
Percent of First Year
Recurring Premium
(Annualized, including
riders, modal loadings
Series and policy fees)
------ ----------------------
Gibraltar................................................ 125%
Estate................................................... 151%
Legacy................................................... 182%
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Attachment 3
Canadian Closed Block
Balance Sheet--July 1, 2000
(amounts in C$millions)
Assets
Bonds..................................................................... 143
Preferred Stock........................................................... 0
Common Stock--Unaffiliated................................................ 21
Mortgage Loans............................................................ 0
Investment Real Estate.................................................... 0
Policy Loans--Non-securitized............................................. 4
Policy Loans--Securitized................................................. 0
Cash and Other Short-term Investments..................................... 0
Other Long-term Investments............................................... 0
Accrued Investment Income................................................. 2
Other Miscellaneous Invested Assets....................................... 0
Premiums Receivable....................................................... 0
---
Total Assets................................................................ 170
===
Liabilities
Future Policy Benefits/Aggregate Reserve.................................. 157
Policyholder Account Balance (Dividend Accumulations)..................... 0
Unpaid Claims............................................................. 0
Policyholder Dividends.................................................... 4
Other Policyholder Related Liabilities.................................... 1
General Expenses Due & Accrued............................................ 0
Unearned Investment Income................................................ 0
Remittances & Items Not Allocated......................................... 0
---
Total Liabilities........................................................... 162
===
Surplus..................................................................... 8
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GLOSSARY
The following Glossary includes definitions of certain insurance and other terms.
A.M. Best............. A.M. Best Company, a rating agency. See "claims-paying
ratings" for an explanation of A.M. Best's ratings.
A.M. Best does not provide credit ratings.
account values........ the amounts of investment products held for the
benefit of policyholders or contractholders. For
mutual funds, account value is equal to fair market
value.
annuity............... a contract that provides for periodic payments to an
annuitant for a specified period of time, often until
the annuitant's death.
asset valuation
reserve (or AVR)...... a reserve required under statutory accounting
principles designed to offset potential credit-related
and equity-related investment losses on all invested
asset categories excluding cash, policy loans, premium
notes, collateral notes and income receivables; the
reserve is not included in financial statements
prepared in accordance with generally accepted
accounting principles.
assets under
management (or AUM)... assets we manage directly in our proprietary products,
such as our mutual funds and variable annuities, in
our separate accounts and in our general account, and
assets invested in investment options included in our
products that are managed by third-party sub-managers
(i.e., the non-proprietary investment options in our
products).
Businesses............ the Financial Services Businesses and the Closed Block
Business, collectively.
cede.................. reinsuring with another insurance company all or a
portion of the risk we insure.
claims-paying
ratings............... the opinions of rating agencies regarding the
financial ability of an insurance company to meet its
obligations under its insurance policies.
A.M. Best's claims-paying ratings for insurance
companies currently range from "A++ (superior)" to "F
(in liquidation)". A.M. Best's ratings reflect its
opinion of an insurance company's financial strength,
operating performance and ability to meet its
obligations to policyholders. A.M. Best considers "A"
and "A-" rated companies to have a strong ability to
meet their ongoing obligations to policyholders and
"B++" companies to have a good ability to meet their
ongoing obligations to policyholders.
Fitch's claims-paying ratings (sometimes referred to
as "financial strength" ratings) currently range from
"AAA (negligible risk factors)" to "DD (company is
under an order of liquidation)". Fitch's ratings
reflect its assessment of the likelihood of timely
payment of policyholder and contractholder
obligations. According to Fitch, "AA-" companies have
very high claims-paying ability, strong protection
factors and modest risk which may vary slightly over
time due to economic and/or underwriting conditions.
Moody's insurance claims-paying ratings (sometimes
referred to as "financial strength" ratings) currently
range from "Aaa (exceptional)" to "C (lowest rated)".
Moody's insurance ratings reflect the ability of
insurance companies to repay punctually senior policy-
holder claims and obligations. Moody's indicates that
"A1" rated insurance companies offer good financial
security, but elements may be present which suggest a
susceptibility to impairment sometime in the future.
S&P claims-paying ratings currently range from "AAA
(superior)" to "CCC (extremely vulnerable)". These
ratings reflect S&P's opinion of an operating
insurance company's financial capacity to meet the
obligations of its insurance policies in accordance
with their terms. According to S&P's publications,
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"A+" rated insurance companies have strong financial
security characteristics, but are somewhat more likely
to be affected by adverse business conditions than
insurers with higher ratings. The symbol (+) following
"A" shows a company's relative standing within the "A"
rating category.
Closed Block.......... under the plan of reorganization, The Prudential
Insurance Company of America will establish a Closed
Block for certain individual life insurance policies
and annuities issued by The Prudential Insurance
Company of America. The policies that we will include
in the Closed Block are specified traditional
individual and joint whole life insurance policies,
individual term life insurance policies and individual
retirement annuity contracts that are in force on the
effective date of the reorganization and on which we
are currently paying or expect to pay experience-based
policy dividends. The purpose of the Closed Block is
to provide for the reasonable expectations for future
policy dividends after demutualization of the holders
of the policies included in the Closed Block.
Closed Block Assets... consists of (i) those assets allocated to the Closed
Block as of July 1, 2000, (ii) cash flows from such
assets, (iii) assets resulting from the reinvestment
of such cash flows, (iv) cash flows from the policies
included in the Closed Block, and (v) assets resulting
from the investment of such cash flows. Closed Block
Assets shall include policy loans, accrued interest on
any of the foregoing assets and due premiums on the
policies included in the Closed Block. Closed Block
Assets does not include assets included in the
Canadian closed block.
Closed Block
Liabilities........... those liabilities of the Closed Block associated with
the Closed Block Assets.
corporate-owned life
insurance............. life insurance policies on a company's employees that
are owned by a company and often used to fund employee
benefits.
crediting rate........ the interest rate credited on a life insurance policy
or annuity contract, which may be a guaranteed fixed
rate, a variable rate or some combination of both.
credit ratings........ the opinions of rating agencies regarding an entity's
ability to repay its indebtedness.
Moody's credit ratings currently range from "Aaa (best
quality)" to "C (lowest rated)". Moody's credit
ratings grade debt according to its investment
quality. Moody's considers "A2" and "A3" rated debt to
be upper medium grade obligations, and that while
factors giving security to principal and interest are
considered adequate, elements may be present that
suggest a susceptibility to impairment sometime in the
future.
An S&P credit rating is a current opinion of the
creditworthiness of an obligor with respect to a
specific financial obligation, a specific class of
financial obligations or a specific financial program.
S&P's long-term issue credit ratings range from "AAA
(highest rating)" to "D (payment default)". S&P
publications indicate that an "A+" rated issue is
somewhat more susceptible to the adverse effects of
changes in circumstances and economic condition than
obligations in higher rated categories; however, the
obligor's capacity to meet its financial commitment to
the obligation is still strong. S&P short-term ratings
range from "A-1 (highest category)" to "D (payment
default)". Within the A-1 category some obligations
are designated with a plus sign (+) indicating that
the obligor's capacity to meet its financial
commitment on the obligation is extremely strong.
deferred policy
acquisition costs (or
DAC).................. commissions and other selling expenses that vary with
and are directly related to the production of business
and that are deferred and amortized to achieve a
matching of revenues and expenses when reported in
financial statements prepared in conformity with
generally accepted accounting principles.
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defined benefit a pension plan that promises to pay a specified amount
retirement or to each eligible plan member who retires.
pension plan....
defined contribution
plan................. a plan established under Section 401(a), 401(k), 403(b)
or 457(b) of the Internal Revenue Code, under which the
benefits to a participant depend on the investment
return on the participant's account.
earned premiums...... the portion of a premium, net of any amount ceded, that
represents coverage already provided or that belongs to
the insurer based on the part of the policy period that
has passed.
first year direct
written premium...... total annual premiums on new sales of our own property
and casualty insurance products before consideration of
reinsurance assumed or ceded.
Fitch................ Fitch, Inc. (formerly Duff & Phelps, Inc.), a rating
agency. See "claims-paying ratings" for an explanation
of Fitch's ratings.
fixed annuities...... an annuity under which the interest rate credited on
the annuity during the accumulation phase is a fixed
rate, which may change periodically, until it matures.
general account...... all of the assets of our insurance companies recognized
for statutory accounting purposes other than those
specifically allocated to a separate account. We bear
the risk of our investments held in our general
account.
general account
GIC.................. a guaranteed investment rate contract under which the
guaranteed return is supported by general account
investments.
guaranteed
investment contract
(or GIC)............. a group contract that guarantees a minimum rate of
return, which may be fixed or floating, on the amount
invested.
guaranteed
products............. group annuity contracts, guaranteed investment
contracts, structured settlements and funding
agreements.
immediate
annuities............ annuity contracts under which the benefits payable to
the annuitant begin to be paid within one year of
contract issuance.
incurred losses...... the total losses and loss adjustment expenses paid,
plus the change in loss and loss adjustment expense
reserves, including incurred but not reported losses,
sustained by an insurance or reinsurance company under
its policies or other insurance or reinsurance
contracts.
in force............. policies and contracts reflected on our applicable
records that have not expired or been terminated as of
a given date.
interest maintenance
reserve.............. the interest maintenance reserve, recorded under
statutory accounting principles, captures realized
capital gains and losses resulting from changes in the
general level of interest rates. These gains and losses
are to be amortized into investment income over the
expected remaining life of the investments sold.
interest-sensitive
life insurance....... a cash value life insurance policy with a separately
identified policyholder fund to which interest is
credited and charges are deducted and with benefits
that are tied to the fluctuation in investment result.
LIMRA................ Life Insurance Marketing and Research Association.
long-term care insurance that protects the insured from certain costs
insurance............ of care at home or in an outside facility, but not
medical insurance.
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loss adjustment
expense............... the expense involved in settling a property and
casualty loss, excluding the actual value of the loss.
market-making......... maintaining bids and offer prices in a given security.
Moody's............... Moody's Investors Service, Inc., a rating agency. See
"claims-paying ratings" and "credit ratings" for an
explanation of Moody's ratings.
morbidity............. the incidence of disease or disability in a specific
population over a specific period of time.
mortality............. the number of deaths in a specific population over a
specific period of time.
NAIC.................. the National Association of Insurance Commissioners,
an organization of insurance regulators from the 50
states, the District of Columbia and the four U.S.
territories.
new annualized
premium............... premium payments related only to new sales and
calculated as if they were consistently paid for the
year of the sale even if they were actually paid for
only a portion of the year of the sale.
non-participating
policy or annuity..... policies and annuities under which the
policyholder/contractholder does not have a right to
participate in the divisible surplus of the issuer to
the extent dividends are apportioned thereon.
non-proprietary (or
non-proprietary
product or non-
proprietary
investment option).... those of our investment products, or investment
options within our investment products, that are
managed by a third party.
participating policy
or annuity............ policies and annuities under which the
policyholder/contractholder has a right to participate
in the divisible surplus of the issuer to the extent
dividends are apportioned thereon.
permanent life
insurance............. a general term for life policies, including
traditional whole, variable and universal life, that
remain in force so long as their premiums are paid or
achieve paid-up status.
persistency........... measurement by premiums of the percentage of insurance
policies or annuity contracts remaining in force
between specified measurement dates.
personal lines
property and casualty
insurance............. property and casualty insurance sold to individuals
rather than businesses, including homeowners and
automobile insurance.
plan of
reorganization........ dated as of December 15, 2000 (together with all
exhibits and schedules), as originally adopted, and
amended, supplemented or modified from time to time.
policy charges........ fees from an insurance policy or annuity contract
other than for insurance risks, for example, penalties
for early surrender or late premium payment.
policy loans.......... loan from an insurer secured by the cash surrender
value of a life insurance policy.
premiums.............. payments and considerations received on insurance
policies issued or reinsured by an insurance company.
Under generally accepted accounting principles,
premiums on variable life and other investment-type
contracts are not accounted for as revenues.
proprietary (or
proprietary product
or proprietary
option)............... those of our investment products, or investment
options within our investment products, that we manage
directly on behalf of our clients (rather than
depositing them to be managed by a third-party).
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reinsurance.......... the ceding by one insurance company (the "reinsured")
to another (the "reinsurer") of all or a portion of a
risk for a premium. The ceding of risk to a reinsurer,
other than in the case of assumption reinsurance, does
not relieve the original insurer (i.e., the reinsured)
of its liability to the insured.
repurchase
agreement............ an agreement between a seller and a buyer, whereby the
seller agrees to sell securities and to repurchase them
at an agreed upon price and generally at a stated time.
reserves............. amounts recorded as a liability in order to provide for
anticipated pay-outs such as benefits, dividends or
contingencies.
reverse repurchase
agreement............ an agreement between a seller and a buyer, whereby the
buyer agrees to purchase securities and to resell them
at an agreed upon price and generally at a stated time.
risk-based capital
(or RBC) ratio....... a tool used by insurance regulators to analyze an
insurance company's total adjusted capital, taking into
consideration the risks associated with the company's
particular assets, the risk that losses will be worse
than expected, the company's exposure to interest rate
risks, and other business risks. The risk based capital
ratio is a well accepted measure of the strength of a
company's capitalization.
S&P.................. Standard & Poor's Ratings Group, a rating agency. See
"claims-paying ratings" and "credit ratings" for an
explanation of S&P's ratings.
separate accounts.... assets of our insurance companies allocated under
certain policies and contracts that are segregated from
the general account and other separate accounts. The
policyholder or contractholder bears the risk of
investments held in a separate account.
statutory accounting
principles........... accounting practices prescribed or permitted by an
insurer's domiciliary state insurance regulator for
purposes of financial reporting to regulators.
structured
settlements.......... customized annuities used to provide to a claimant
ongoing periodic payments instead of a lump sum
payment.
Surplus and Related
Assets............... the Closed Block Assets and Closed Block Liabilities
are supported by additional assets outside the Closed
Block that The Prudential Insurance Company of America
will need to hold to meet capital requirements related
to policies in the Closed Block ("Surplus Assets"), as
well as invested assets held outside the Closed Block
that represent the difference between the Closed Block
Assets and the sum of the Closed Block Liabilities and
the interest maintenance reserve (the "Related
Assets").
surrender charge..... an amount specified in our insurance policies and
annuity contracts that we charge a policyholder or
contractholder for early cancellation of or withdrawal
under that policy or contract.
surrenders and
withdrawals.......... amounts taken from life insurance policies and annuity
contracts representing the full or partial values of
these policies or contracts.
term life
insurance............ life insurance written for a specified period and under
which no cash value is generally available on
surrender.
traditional whole
life insurance....... a life insurance policy that offers the beneficiary
benefits in the event of the insured's death for the
whole of life, provided premiums have been paid when
due; it also allows for the buildup of cash value but
has no investment feature.
|
trust-owned life
insurance............ life insurance policies on a company's employees owned
by a trust created by the company and generally used to
fund employee benefits.
underwriting......... the process of examining, accepting or rejecting
insurance risks and classifying those risks that are
accepted, in order to charge policyholders an
appropriate premium.
unit investment
trust................ unit investment trusts purchase a fixed portfolio of
income-producing securities, such as corporate,
municipal, or government bonds, mortgage-backed
securities, common stock or preferred stock. Unit
holders receive an undivided interest in both the
principal and the income portion of the portfolio in
proportion to the amount of capital they invest.
universal life
insurance............ interest-sensitive life insurance under which
separately identified interest and mortality and
expense charges are made to the policy fund, typically
with flexible premiums.
variable annuity..... an annuity contract under which values during the
accumulation phase fluctuate according to the
investment performance of a separate account or
accounts supporting such contract that is/are
designated by the contractholder.
variable life
insurance............ life insurance policy under which the benefits payable
to the beneficiary upon the death of the insured or the
surrender of the policy will vary to reflect the
investment performance of a separate account or
accounts supporting such policy that is/are designated
by the contractholder.
variable universal
life insurance....... a form of variable life insurance where the timing or
amount of one or more premium payments may be varied.
wrap-fee products.... investment products generating asset-based fees in
which the funds of the customer are generally invested
in other investment products such as mutual funds.
written premiums..... the aggregate amount of premiums written by an insurer
during a specific period of time, including both earned
and unearned premiums.
G-6
|
-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- |
No dealer, salesperson or other person is authorized to give any information or to represent anything not contained in this prospectus. You must not rely on any unauthorized information or representations. This prospectus is an offer to sell only the shares offered hereby, but only under circumstances and in jurisdictions where it is lawful to do so. The information contained in this prospectus is current only as of its date.
TABLE OF CONTENTS
Page
----
Prospectus Summary....................................................... 1
Risk Factors............................................................. 22
Use of Proceeds.......................................................... 38
Dividend Policy.......................................................... 39
Capitalization........................................................... 40
Selected Consolidated Financial and Other Information.................... 41
Unaudited Pro Forma Condensed Consolidated Financial Information......... 47
Unaudited Pro Forma Supplementary Information............................ 65
Management's Discussion and Analysis of Financial Condition and Results
of Operations........................................................... 68
Acquisition of Kyoei Life Insurance Co., Ltd. ........................... 141
Demutualization and Related Transactions................................. 153
Business................................................................. 167
Management............................................................... 224
Ownership of Common Stock................................................ 238
Certain Relationships and Related Transactions........................... 239
Shares Eligible for Future Sale.......................................... 239
Description of Capital Stock............................................. 240
Description of the Equity Security Units................................. 247
Underwriting............................................................. 252
Validity of Common Stock................................................. 254
Experts.................................................................. 254
Available Information.................................................... 255
Consolidated Financial Statements........................................ F-1
Actuarial Opinions....................................................... A-1
Glossary................................................................. G-1
|
Through and including , 2001 (the 25th day after the date of this prospectus), all dealers effecting transactions in these securities, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to a dealer's obligation to deliver a prospectus when acting as an underwriter and with respect to an unsold allotment or subscription.
110,000,000 Shares
Prudential Financial, Inc.
Common Stock
[LOGO] PRUDENTIAL FINANCIAL
Goldman, Sachs & Co.
Prudential Securities
Credit Suisse First Boston
Deutsche Banc Alex. Brown
Lehman Brothers
Merrill Lynch & Co.
Morgan Stanley
Salomon Smith Barney
The Williams Capital Group, L.P.
Banc of America Securities LLC
Bear, Stearns & Co. Inc.
Blaylock & Partners, L.P.
Wachovia Securities
Ramirez & Co., Inc.
UBS Warburg
Representatives of the U.S. Underwriters
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
Item 13. Other Expenses of Issuance and Distribution
The following is a statement of the estimated expenses, other than underwriting discounts and commissions, to be incurred in connection with the distribution of the securities registered under this Registration Statement.
Amount
to be paid
----------
Securities and Exchange Commission registration fee................. $ 948,750
NASD fees and expenses.............................................. 30,500
Legal fees and expenses............................................. 1,700,000
Fees and expenses of qualification under state securities laws (in-
cluding legal fees)................................................ 15,000
NYSE listing fees and expenses...................................... 258,394
Accounting fees and expenses........................................ 1,500,000
Printing and engraving fees......................................... 1,280,000
Registrar and transfer agent's fees................................. 30,000
Miscellaneous....................................................... 10,000
----------
Total.............................................................. $5,772,644
==========
|
Item 14. Indemnification of Directors and Officers
The New Jersey Business Corporation Act provides that a New Jersey corporation is required to indemnify a director or officer against his or her expenses to the extent that such director or officer has been successful on the merits or otherwise in any proceeding against such director or officer as by reason of his or being or having been such director or officer. A New Jersey corporation also has the power to indemnify a director or officer against his or her expenses and liabilities in connection with any proceeding involving the director or officer by reason of his or her being or having been such a director or officer if such a director or officer acted in good faith and in a manner he or she reasonably believed to be in or not opposed to the best interests of the corporation (or in the case of a proceeding by or in the right of the corporation, upon an appropriate determination by a court); and with respect to any criminal proceeding, such director or officer had no reasonable cause to believe his or her conduct was unlawful. No indemnification shall be made to or on behalf of a director or officer if a judgment or other final adjudication adverse to the director or officer establishes that his or her omissions (a) were in breach of his or her duty of loyalty to the corporation or its shareholders, (b) were not in good faith or involved a knowing violation of law or (c) resulted in receipt by the director or officer of an improper personal benefit.
Prudential Financial, Inc.'s certificate of incorporation provides that no director shall be personally liable to Prudential Financial, Inc. or any of its shareholders for damages for breach of duty as a director, except for liability based upon an act or omission (i) in breach of the director's duty of loyalty to Prudential Financial, Inc. or its stockholders, (ii) not in good faith or involving a knowing violation of law, or (iii) resulting in receipt by such director of an improper personal benefit.
The by-laws of Prudential Financial, Inc. provide that Prudential Financial, Inc. shall indemnify the following persons:
(a) any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative, arbitrative or investigative (including any appeal thereon) (other than an action by or in the right of Prudential Financial, Inc.) by reason of the fact that such person is or was a director, officer, or employee of Prudential Financial, Inc., or is or was serving at the request of Prudential Financial, Inc. as a director or officer, employee or agent of another corporation, partnership, joint venture, trust, employee benefit plan or other enterprise, against expenses (including reasonable costs, disbursements and attorneys' fees), judgments, fines, penalties and amounts paid in settlement actually and reasonably incurred by such person in connection with such action, suit or proceeding if such person acted in good faith and in a manner such person reasonably believed to be in or not opposed to the best interests of Prudential Financial, Inc., and, with respect to any criminal action or proceeding, such person has no reasonable cause to believe his or her conduct was unlawful; or
II-1
(b) any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action or suit (whether civil, criminal, administrative, arbitrative or investigative) by or in the right of Prudential Financial, Inc. to procure a judgment in its favor by reason of the fact that such person is or was a director, officer, or employee of Prudential Financial, Inc., or is or was serving at the request of Prudential Financial, Inc. as director, officer, employee or agent of another corporation, partnership, joint venture, trust, employee benefit plan or other enterprise, against expenses (including reasonable costs, disbursements and attorneys' fees) judgments, fines, penalties and amounts paid in settlement actually and reasonably incurred by such person in connection with the defense or settlement of such action or suit if such person acted in good faith and in a manner such person reasonably believed to be in or not opposed to the best interests of Prudential Financial, Inc.; provided, however, that no indemnification shall be made in respect of any claim, issue or matter if a judgment or final adjudication adverse to such person establishes that his or her acts or omissions (i) were in breach of his or her duty of loyalty to Prudential Financial, Inc. or its shareholders, (ii) were not in good faith or involved a knowing violation of law or (iii) resulted in receipt by such person of an improper personal benefit.
For directors and officers of the level of Senior Vice President or above, the determination of entitlement to indemnification must be made (i) by a majority vote of the directors who are not parties to such action, suit or proceeding, even though less than a quorum, or (ii) if there are no such directors, or if such directors so direct, by independent legal counsel in a written opinion, or (iii) by the shareholders.
Policies of insurance are maintained by the Registrant with unrelated insurers under which its directors and officers are insured, within the limits and subject to the limitations of the policies, against certain expenses in connection with the defense of, and certain liabilities which might be imposed as a result of, actions, suits or proceedings to which they are parties by reason of being or having been such directors or officers.
Reference is also made to Section 9 of the Underwriting Agreement filed as Exhibit 1.1 to the Registration Statement for information concerning the Underwriters' obligation to indemnify the Registrant and its officers and directors in certain circumstances.
Item 15. Recent Sales of Unregistered Securities
The Registrant will distribute to certain eligible policyholders approximately 456.3 million shares of Common Stock in the demutualization. Exemption from registration under the Securities Act for such distribution will be available under Section 3(a)(10) of the Securities Act based on the New Jersey Insurance Commissioner's approval of the Plan of Reorganization.
The Registrant expects to sell up to 2.0 million shares of Class B Stock to institutional accredited investors concurrently with the offering of the Common Stock at an aggregate offering price of approximately $175 million. The shares of Class B Stock will be offered and sold pursuant to the exemption from registration available under Section 4(2) of the Securities Act.
Item 16. Exhibits and Financial Statement Schedules
(a) Exhibits
1.1 Form of Underwriting Agreement (U.S. Version).
2.1 Plan of Reorganization.**
3.1 Form of Amended and Restated Certificate of Incorporation of Prudential
Financial, Inc.
3.2 Form of By-laws of Prudential Financial, Inc.**
4.1 Form of certificate for the Common Stock of Prudential Financial, Inc.,
par value $.01 per share.**
4.2 Form of Shareholders' Rights Plan.
4.3 Upon the request of the Securities and Exchange Commission, the
Registrant will furnish copies of all instruments defining the rights of
holders of long-term debt of the Registrant.
4.4 Subscription Agreement for Class B Stock.**
4.5 Commitment letter relating to insurance of the IHC debt.**
4.6 Inter-Business Transfer and Allocation Policies relating to the Financial
Services Businesses and the Closed Block Business.
|
II-2
5.1 Opinion of Sullivan & Cromwell.
5.2 Opinion of McCarter & English, LLP.
10.1 Support Agreement between The Prudential Insurance Company of America
and Prudential Funding Corporation dated as of March 18, 1982.**
10.2 Stipulation of Settlement--United States District Court for the District
of New Jersey, in re: The Prudential Insurance Company of America Sales
Practices Litigation, MDL No. 1061, Master Docket No. 95-4704 (AMW)
(Document dated October 28, 1996).**
10.3 Amendment to Stipulation of Settlement--United States District Court for
the District of New Jersey, in re: The Prudential Insurance Company of
America Sales Practices Litigation MDL No. 1061, Master Docket No. 95-
4704 (AMW) (Original filed February 24, 1997) (Document dated February
22, 1997).**
10.4 The Prudential Insurance Company of America Deferred Compensation Plan.
10.5 The Prudential Deferred Compensation Plan for Non-Employee Directors.
10.6 The Pension Plan for Non-Employee Directors of The Prudential Insurance
Company of America.
10.7 2001 Prudential Long-Term Performance Unit Plan.
10.8 2000 Prudential Long-Term Performance Unit Plan.
10.9 1999 Prudential Long-Term Performance Unit Plan.
10.10 1998 Amended Prudential Long-Term Performance Unit Plan.
10.11 1998 Prudential Annual Incentive Plan.
10.12 Prudential Financial, Inc. Stock Option Plan.
10.13 Prudential Supplemental Retirement Plan.
10.14 Prudential Supplemental Employee Savings Plan.
10.15 Prudential Severance Plan for Senior Executives.
21.1 Subsidiaries of Prudential Financial, Inc.
23.1 Consent of PricewaterhouseCoopers LLP.
23.2 Consent of Sullivan & Cromwell (included in Exhibit 5.1).
23.3 Consent of McCarter & English, LLP (included in Exhibit 5.2).
23.4 Consent of Milliman USA.
23.5 Consent of PricewaterhouseCoopers.
24.1 Powers of Attorney.**
|
(b) Financial Statement Schedules
Schedule I Summary of Investments Other Than Investments in Related Parties Schedule III Supplementary Insurance Information Schedule IV Reinsurance Schedule V Valuation and Qualifying Accounts |
**Previously filed.
Item 17. Undertakings
The undersigned Registrant hereby undertakes:
(a) To provide to the underwriters at the closing specified in the underwriting agreements, certificates in such denominations and registered in such names as required by the underwriters to permit prompt delivery to each purchaser.
(b) Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrant pursuant to the foregoing provisions described under "Item 14, Indemnification of Directors and Officers" above, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against
II-3
public policy as expressed in the Securities Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment to the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Securities Act of 1933 and will be governed by the final adjudication of such issue.
(c)(1) For purposes of determining any liability under the Securities Act
of 1933, the information omitted from the form of prospectus filed as part
of this registration statement in reliance upon Rule 430A and contained in
a form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or
(4) or 497(h) under the Securities Act of 1933 shall be deemed to be part
of this registration statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities Act of 1933, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof.
II-4
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Registrant has duly caused this Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Newark, New Jersey on the 14th day of November, 2001.
Prudential Financial, Inc.
/s/ Mark B. Grier By: _____________________________ Name: Mark B. Grier Title: Executive Vice President |
Pursuant to the requirements of the Securities Act of 1933, this Registration Statement has been signed by the following persons in the capacities indicated on November 14, 2001:
Name Title
---- -----
Arthur F. Ryan* Chairman, Chief Executive
______________________________________ Officer, President and
Arthur F. Ryan Director
Richard J. Carbone* Chief Financial Officer
______________________________________ (Principal Financial
Richard J. Carbone Officer)
Anthony S. Piszel* Controller
______________________________________ (Principal Accounting
Anthony S. Piszel Officer)
Franklin E. Agnew* Director
______________________________________
Franklin E. Agnew
Frederic K. Becker* Director
______________________________________
Frederic K. Becker
Gilbert F. Casellas* Director
______________________________________
Gilbert F. Casellas
James G. Cullen* Director
______________________________________
James G. Cullen
Carolyne K. Davis* Director
______________________________________
Carolyne K. Davis
Allan D. Gilmour* Director
______________________________________
Allan D. Gilmour
William H. Gray, III* Director
______________________________________
William H. Gray, III
Jon F. Hanson* Director
______________________________________
Jon F. Hanson
Glen H. Hiner* Director
______________________________________
Glen H. Hiner
|
II-5
Name Title
---- -----
Constance J. Horner* Director
______________________________________
Constance J. Horner
Gaynor N. Kelley* Director
______________________________________
Gaynor N. Kelley
Burton G. Malkiel* Director
______________________________________
Burton G. Malkiel
Ida F. S. Schmertz* Director
______________________________________
Ida F. S. Schmertz
Charles R. Sitter* Director
______________________________________
Charles R. Sitter
Donald L. Staheli* Director
______________________________________
Donald L. Staheli
Richard M. Thomson* Director
______________________________________
Richard M. Thomson
James A. Unruh* Director
______________________________________
James A. Unruh
Pindaros R. Vagelos* Director
______________________________________
Pindaros R. Vagelos
Stanley C. Van Ness* Director
______________________________________
Stanley C. Van Ness
Paul A. Volcker* Director
______________________________________
Paul A. Volcker
/s/ Mark B. Grier
By: *_________________________________
Mark B. Grier, Attorney-in-fact
|
II-6
Report of Independent Accountants on Financial Statement Schedules
To the Board of Directors and Policyholders of The Prudential Insurance Company of America
Our audits of the consolidated financial statements referred to in our report dated March 13, 2001, except for Note 18, as to which the date is April 2, 2001, appearing in the prospectus also included an audit of the Financial Statement Schedules listed in Item 16(b) of this Registration Statement. In our opinion, these Financial Statement Schedules present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements.
/s/ PricewaterhouseCoopers LLP New York, New York March 13, 2001 |
II-7
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Schedule I
Summary of Investments Other Than Investments in Related Parties As of December 31, 2000 (In Millions)
Amount at
which
shown in the
Type of Investment Cost(1) Value balance sheet
------------------ -------- ------- -------------
Fixed maturities, available for sale:
Bonds:
United States Government and government
agencies and authorities...................... $ 7,068 $ 7,424 $ 7,424
States, municipalities and political
subdivisions.................................. 3,012 3,173 3,173
Foreign governments............................ 4,393 4,570 4,570
Mortgage-backed securities..................... 6,512 6,686 6,686
Public utilities............................... 13,185 13,110 13,110
Convertibles and bonds with warrants
attached...................................... 95 110 110
All other corporate bonds...................... 48,499 48,364 48,364
Certificates of deposit........................ -- -- --
Redeemable preferred stock..................... 351 390 390
-------- ------- --------
Total fixed maturities, available for sale... $ 83,115 $83,827 $ 83,827
-------- ------- --------
Fixed maturities, held to maturity:
Bonds:
United States Government and government
agencies and authorities...................... $ 7 $ 7 $ 7
States, municipalities and political
subdivisions.................................. 40 40 40
Foreign governments............................ 193 206 193
Mortgage-backed securities..................... -- -- --
Public utilities............................... 2,421 2,579 2,421
Convertibles and bonds with warrants
attached...................................... -- -- --
All other corporate bonds...................... 9,787 9,783 9,787
Certificates of deposit........................ -- -- --
Redeemable preferred stock..................... -- -- --
-------- ------- --------
Total fixed maturities, held to maturity..... $ 12,448 $12,615 $ 12,448
-------- ------- --------
Equity securities:
Common Stocks:
Public utilities............................... $ 43 $ 44 $ 44
Banks, trust and insurance companies........... 134 209 209
Industrial, miscellaneous and other............ 1,976 1,944 1,944
Nonredeemable preferred stocks................. 113 120 120
-------- ------- --------
Total equity securities...................... $ 2,266 $ 2,317 $ 2,317
-------- ------- --------
Mortgage loans on real estate................... $ 15,919 $ 15,919
Policy loans.................................... 8,046 8,046
Cash collateral for borrowed securities......... 3,858 3,858
Securities purchased under agreements to
resell......................................... 5,395 5,395
Trading account assets (2)...................... 7,217 7,217
Short-term investments.......................... 5,029 5,029
Other long-term investments..................... 4,459 4,459
-------- --------
Total investments............................ $147,752 $148,515
======== ========
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II-8
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Schedule III
Supplementary Insurance Information
As of and for the year ended December 31, 2000 (In Millions)
Premiums,
Deferred Policy Benefits, Claims,
Policy Future Policy Other Policy Charges Net Losses and
Acquisition Benefits, Losses, Unearned Claims and and Fee Investment Settlement Amortization
Segment Costs Claims, Expenses Premium Benefits Payable Income Income Expenses of DAC
------- ----------- ----------------- -------- ---------------- --------- ---------- ----------------- ------------
Individual Life
Insurance........ $3,090 $ 1,541 -- $ 3,532 $ 1,328 $ 374 $ 793 $ 172
Private Client
Group............ -- -- -- -- -- 299 -- --
Retail
Investments...... 682 795 -- 4,907 355 478 421 206
Property and
Casualty
Insurance........ 137 1,837 $577 -- 1,639 193 1,045 365
------ ------- ---- ------- ------- ------ ------- ------
U.S. Consumer
Division........ 3,909 4,173 577 8,439 3,322 1,344 2,259 743
------ ------- ---- ------- ------- ------ ------- ------
Group Insurance.. 12 2,822 113 3,546 2,292 485 2,242 1
Other Employee
Benefits......... 76 12,581 -- 15,338 149 2,332 1,986 21
------ ------- ---- ------- ------- ------ ------- ------
Employee
Benefits
Division........ 88 15,403 113 18,884 2,441 2,817 4,228 22
------ ------- ---- ------- ------- ------ ------- ------
International
Insurance........ 1,425 4,536 -- 131 1,773 129 1,268 145
International
Securities and
Investments...... -- -- -- -- -- 66 -- 1
------ ------- ---- ------- ------- ------ ------- ------
International
Division........ 1,425 4,536 -- 131 1,773 195 1,268 146
------ ------- ---- ------- ------- ------ ------- ------
Investment
Management and
Advisory
Services......... -- -- -- -- -- 21 -- --
Other Asset
Management....... -- -- -- -- -- 31 -- --
------ ------- ---- ------- ------- ------ ------- ------
Asset Management
Division........ -- -- -- -- 52 -- --
------ ------- ---- ------- ------- ------ ------- ------
Corporate and
Other............ (33) 574 18 88 4 917 38 (84)
------ ------- ---- ------- ------- ------ ------- ------
Total Financial
Services
Businesses....... 5,389 24,686 708 27,542 7,540 5,325 7,793 827
------ ------- ---- ------- ------- ------ ------- ------
Traditional
Participating
Products......... 1,674 46,014 -- 6,643 4,320 4,172 7,322 269
------ ------- ---- ------- ------- ------ ------- ------
Total........... $7,063 $70,700 $708 $34,185 $11,860 $9,497 $15,115 $1,096
====== ======= ==== ======= ======= ====== ======= ======
Other
Operating Premiums
Segment Expenses Written
------- --------- --------
Individual Life
Insurance........ $ 776 --
Private Client
Group............ 2,452 --
Retail
Investments...... 764 --
Property and
Casualty
Insurance........ 280 $1,637
--------- --------
U.S. Consumer
Division........ 4,272 1,637
--------- --------
Group Insurance.. 400 --
Other Employee
Benefits......... 681 --
--------- --------
Employee
Benefits
Division........ 1,081 --
--------- --------
International
Insurance........ 211 --
International
Securities and
Investments...... 677 --
--------- --------
International
Division........ 888 --
--------- --------
Investment
Management and
Advisory
Services......... 719 --
Other Asset
Management....... 348 --
--------- --------
Asset Management
Division........ 1,067 --
--------- --------
Corporate and
Other............ 1,380 --
--------- --------
Total Financial
Services
Businesses....... 8,688 1,637
--------- --------
Traditional
Participating
Products......... 918 --
--------- --------
Total........... $9,606 $1,637
========= ========
|
II-9
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Schedule III
Supplementary Insurance Information
As of and for the year ended December 31, 1999 (In Millions)
Premiums,
Deferred Policy Benefits, Claims,
Policy Future Policy Other Policy Charges Net Losses and
Acquisition Benefits, Losses, Unearned Claims and and Fee Investment Settlement Amortization
Segment Costs Claims, Expenses Premium Benefits Payable Income Income Expenses of DAC
------- ----------- ----------------- -------- ---------------- --------- ---------- ----------------- ------------
Individual Life
Insurance........ $2,807 $ 1,360 -- $ 3,303 $ 1,299 $ 316 $ 653 $ 185
Private Client
Group............ -- -- -- -- -- 269 -- --
Retail
Investments...... 693 782 -- 5,065 316 491 389 229
Property and
Casualty
Insurance........ 110 1,758 $494 -- 1,548 197 1,100 350
------ ------- ---- ------- ------- ------ ------- ------
U.S. Consumer
Division........ 3,610 3,900 494 8,368 3,163 1,273 2,142 764
------ ------- ---- ------- ------- ------ ------- ------
Group Insurance.. 2 2,581 117 3,150 1,927 470 1,956 --
Other Employee
Benefits......... 103 12,717 -- 16,090 163 2,460 2,220 6
------ ------- ---- ------- ------- ------ ------- ------
Employee
Benefits
Division........ 105 15,298 117 19,240 2,090 2,930 4,176 6
------ ------- ---- ------- ------- ------ ------- ------
International
Insurance........ 1,325 3,971 1 55 1,422 99 1,034 102
International
Securities and
Investments...... -- -- -- -- -- 54 -- 1
------ ------- ---- ------- ------- ------ ------- ------
International
Division........ 1,325 3,971 1 55 1,422 153 1,034 103
------ ------- ---- ------- ------- ------ ------- ------
Investment
Management and
Advisory
Services......... -- -- -- -- -- 3 -- --
Other Asset
Management....... -- -- -- -- -- 29 -- --
------ ------- ---- ------- ------- ------ ------- ------
Asset Management
Division........ -- -- -- -- -- 32 -- --
------ ------- ---- ------- ------- ------ ------- ------
Corporate and
Other............ (9) 1,671 40 116 93 1,068 150 (32)
------ ------- ---- ------- ------- ------ ------- ------
Total Financial
Services
Businesses....... 5,031 24,840 652 27,779 6,768 5,456 7,502 841
------ ------- ---- ------- ------- ------ ------- ------
Traditional
Participating
Products......... 2,293 44,615 -- 6,485 4,276 3,911 7,106 314
------ ------- ---- ------- ------- ------ ------- ------
Total........... $7,324 $69,455 $652 $34,264 $11,044 $9,367 $14,608 $1,155
====== ======= ==== ======= ======= ====== ======= ======
Other
Operating Premiums
Segment Expenses Written
------- --------- --------
Individual Life
Insurance........ $ 768 --
Private Client
Group............ 2,285 --
Retail
Investments...... 756 --
Property and
Casualty
Insurance........ 145 $1,500
--------- --------
U.S. Consumer
Division........ 3,954 1,500
--------- --------
Group Insurance.. 354 --
Other Employee
Benefits......... 649 --
--------- --------
Employee
Benefits
Division........ 1,003 --
--------- --------
International
Insurance........ 168 --
International
Securities and
Investments...... 564 --
--------- --------
International
Division........ 732 --
--------- --------
Investment
Management and
Advisory
Services......... 613 --
Other Asset
Management....... 271 --
--------- --------
Asset Management
Division........ 884 --
--------- --------
Corporate and
Other............ 1,102 --
--------- --------
Total Financial
Services
Businesses....... 7,675 1,500
--------- --------
Traditional
Participating
Products......... 930 --
--------- --------
Total........... $8,605 $1,500
========= ========
|
II-10
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Schedule III
Supplementary Insurance Information
As of and for the year ended December 31, 1998 (In Millions)
Premiums,
Deferred Policy Benefits, Claims,
Policy Future Policy Other Policy Charges Net Losses and
Acquisition Benefits, Losses, Unearned Claims and and Fee Investment Settlement Amortization
Segment Costs Claims, Expenses Premium Benefits Payable Income Income Expenses of DAC
------- ----------- ----------------- -------- ---------------- --------- ---------- ----------------- ------------
Individual Life
Insurance........ $2,748 $ 1,144 -- $ 3,146 $ 1,284 $ 300 $ 647 $ 185
Private Client
Group............ -- -- -- -- -- 255 -- --
Retail
Investments...... 621 860 -- 5,475 284 567 419 183
Property and
Casualty
Insurance........ 108 2,025 $547 -- 1,581 223 1,070 340
------ ------- ---- ------- ------- ------ ------- ------
U.S. Consumer
Division 3,477 4,029 547 8,621 3,149 1,345 2,136 708
------ ------- ---- ------- ------- ------ ------- ------
Group Insurance.. -- 2,496 18 3,253 1,755 441 1,808 --
Other Employee
Benefits......... 60 13,868 -- 17,246 156 2,730 2,487 14
------ ------- ---- ------- ------- ------ ------- ------
Employee
Benefits
Division........ 60 16,364 18 20,499 1,911 3,171 4,295 14
------ ------- ---- ------- ------- ------ ------- ------
International
Insurance........ 972 2,672 -- 97 1,010 65 747 103
International
Securities and
Investments...... -- -- -- -- -- 55 -- 1
------ ------- ---- ------- ------- ------ ------- ------
International
Division........ 972 2,672 -- 97 1,010 120 747 104
------ ------- ---- ------- ------- ------ ------- ------
Investment
Management and
Advisory
Services......... -- -- -- -- (3) 2 -- 5
Other Asset
Management....... -- -- -- -- -- 9 -- --
------ ------- ---- ------- ------- ------ ------- ------
Asset Management
Division........ -- -- -- -- (3) 11 -- 5
------ ------- ---- ------- ------- ------ ------- ------
Corporate and
Other............ (21) 2,761 95 67 86 1,013 80 (50)
------ ------- ---- ------- ------- ------ ------- ------
Total Financial
Services
Businesses....... 4,488 25,826 660 29,284 6,153 5,660 7,258 781
------ ------- ---- ------- ------- ------ ------- ------
Traditional
Participating
Products......... 1,974 43,579 -- 6,397 4,360 3,794 6,958 358
------ ------- ---- ------- ------- ------ ------- ------
Total........... $6,462 $69,405 $660 $35,681 $10,513 $9,454 $14,216 $1,139
====== ======= ==== ======= ======= ====== ======= ======
Other
Operating Premiums
Segment Expenses Written
------- --------- --------
Individual Life
Insurance........ $ 664 --
Private Client
Group............ 2,203 --
Retail
Investments...... 684 --
Property and
Casualty
Insurance........ 91 $1,548
--------- --------
U.S. Consumer
Division 3,642 1,548
--------- --------
Group Insurance.. 299 --
Other Employee
Benefits......... 637 --
--------- --------
Employee
Benefits
Division........ 936 --
--------- --------
International
Insurance........ 96 --
International
Securities and
Investments...... 519 --
--------- --------
International
Division........ 615 --
--------- --------
Investment
Management and
Advisory
Services......... 591 --
Other Asset
Management....... 231 --
--------- --------
Asset Management
Division........ 822 --
--------- --------
Corporate and
Other............ 1,997 --
--------- --------
Total Financial
Services
Businesses....... 8,012 1,548
--------- --------
Traditional
Participating
Products......... 1,045 --
--------- --------
Total........... $9,057 $1,548
========= ========
|
II-11
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Schedule IV
Reinsurance
For the Years Ended December 31, 2000, 1999 and 1998 (In Millions)
Percentage of
Ceded to Other Assumed from Amount Assumed
Gross Amount Companies Other Companies Net Amount to Net
------------ -------------- --------------- ---------- --------------
2000
Life Insurance Face
Amount In Force........ $1,324,453 $72,044 $6,866 $1,259,275 0.5%
========== ======= ====== ========== ===
Premiums:
Life Insurance......... $ 8,529 $ 483 $ 42 $ 8,088 0.5%
Accident and Health
Insurance............. 506 15 3 494 0.6%
Property & Liability
Insurance............. 1,691 93 41 1,639 2.5%
---------- ------- ------ ---------- ---
Total Premiums......... $ 10,726 $ 591 $ 86 $ 10,221 0.8%
========== ======= ====== ========== ===
1999
Life Insurance Face
Amount In Force........ $1,215,752 $75,151 $7,901 $1,148,502 0.7%
========== ======= ====== ========== ===
Premiums:
Life Insurance......... $ 8,006 $ 489 $ 29 $ 7,546 0.4%
Accident and Health
Insurance............. 542 109 -- 433 --
Property & Liability
Insurance............. 1,573 61 37 1,549 2.4%
---------- ------- ------ ---------- ---
Total Premiums......... $ 10,121 $ 659 $ 66 $ 9,528 0.7%
========== ======= ====== ========== ===
1998
Life Insurance Face
Amount In Force........ $1,128,919 $65,317 $7,168 $1,070,770 0.7%
========== ======= ====== ========== ===
Premiums:
Life Insurance......... $ 7,537 $ 506 $ 24 $ 7,055 0.3%
Accident and Health
Insurance............. 409 4 -- 405 --
Property & Liability
Insurance............. 1,715 168 41 1,588 2.6%
---------- ------- ------ ---------- ---
Total Premiums......... $ 9,661 $ 678 $ 65 $ 9,048 0.7%
========== ======= ====== ========== ===
|
II-12
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Schedule V
Valuation and Qualifying Accounts
For the years ended December 31, 2000, 1999 and 1998 (In Millions)
Additions
----------------------------------------------------
Balance Charged to Charged Balance
at Beg. Costs to Other at End
Description of Period and Expenses Accounts Deductions of Period
----------- --------- ------------ -------- ---------- ---------
2000
Allowance for losses on
mortgage loans on real
estate.................. $221 $ 17 $ -- $ 13(a) $225
Valuation allowance on
deferred tax asset...... 24 18 -- 4(c) 38
---- ----- ----- ---- ----
$245 $ 35 $ -- $ 17 $263
==== ===== ===== ==== ====
1999
Allowance for losses on
mortgage loans on real
estate.................. $427 $ -- $ -- $206(b) $221
Valuation allowance on
deferred tax asset...... 13 17 -- 6(c) 24
---- ----- ----- ---- ----
$440 $ 17 $ -- $212 $245
==== ===== ===== ==== ====
1998
Allowance for losses on
mortgage loans on real
estate.................. $450 $ -- $ -- $ 23(d) $427
Valuation allowance on
deferred tax asset...... 18 1 -- 6(c) 13
---- ----- ----- ---- ----
$468 $ 1 $ -- $ 29 $440
==== ===== ===== ==== ====
|
II-13
Index to Exhibits
Sequentially
Exhibit Numbered
No. Description Page
------- ------------------------------------------------------- ------------
1.1 Form of Underwriting Agreement (U.S. Version).
2.1 Plan of Reorganization.**
3.1 Form of Amended and Restated Certificate of
Incorporation of Prudential Financial, Inc.
3.2 Form of By-laws of Prudential Financial, Inc.**
4.1 Form of certificate for the Common Stock of Prudential
Financial, Inc., par value $.01 per share.**
4.2 Form of Shareholders' Rights Plan.
4.3 Upon the request of the Securities and Exchange
Commission, the Registrant will furnish copies of all
instruments defining the rights of holders of long-term
debt of the Registrant.
4.4 Subscription Agreement for Class B Stock.**
4.5 Commitment letter relating to insurance of the IHC
debt.**
4.6 Inter-Business Transfer and Allocation Policies
relating to the Financial Services Businesses and the
Closed Block Business.
5.1 Opinion of Sullivan & Cromwell.
5.2 Opinion of McCarter & English, LLP.
10.1 Support Agreement between The Prudential Insurance
Company of America and Prudential Funding Corporation
dated as of March 18, 1982.**
10.2 Stipulation of Settlement--United States District Court
for the District of New Jersey, in re: The Prudential
Insurance Company of America Sales Practices
Litigation, MDL No. 1061, Master Docket No. 95-4704
(AMW) (Document dated October 28, 1996).**
10.3 Amendment to Stipulation of Settlement--United States
District Court for the District of New Jersey, in re:
The Prudential Insurance Company of America Sales
Practices Litigation MDL No. 1061, Master Docket No.
95-4704 (AMW) (Original filed February 24, 1997)
(Document dated February 22, 1997).**
10.4 The Prudential Insurance Company of America Deferred
Compensation Plan.
10.5 The Prudential Deferred Compensation Plan for Non-
Employee Directors.
10.6 The Pension Plan for Non-Employee Directors of The
Prudential Insurance Company of America.
10.7 2001 Prudential Long-Term Performance Unit Plan.
10.8 2000 Prudential Long-Term Performance Unit Plan.
10.9 1999 Prudential Long-Term Performance Unit Plan.
10.10 1998 Amended Prudential Long-Term Performance Unit
Plan.
10.11 1998 Prudential Annual Incentive Plan.
10.12 Prudential Financial, Inc. Stock Option Plan.
10.13 Prudential Supplemental Retirement Plan.
10.14 Prudential Supplemental Employee Savings Plan.
10.15 Prudential Severance Plan for Senior Executives.
21.1 Subsidiaries of Prudential Financial, Inc.
23.1 Consent of PricewaterhouseCoopers LLP.
23.2 Consent of Sullivan & Cromwell (included in Exhibit
5.1).
|
Sequentially
Exhibit Numbered
No. Description Page
------- ------------------------------------------------------- ------------
23.3 Consent of McCarter & English, LLP (included in Exhibit
5.2).
23.4 Consent of Milliman USA.
23.5 Consent of PricewaterhouseCoopers.
24.1 Powers of Attorney.**
|
**Previously filed.
Exhibit 1.1
Prudential Financial, Inc.
Common Stock, par value one cent ($.01) per share
December __, 2001
Goldman, Sachs & Co.
Prudential Securities Incorporated
Banc of America Securities LLC
Bear, Stearns & Co. Inc.
Blaylock & Partners, L.P.
Credit Suisse First Boston Corporation
Deutsche Banc Alex. Brown Inc.
First Union Securities, Inc.
Lehman Brothers Inc.
Merrill Lynch, Pierce, Fenner & Smith Incorporated
Ramirez & Co., Inc.
Salomon Smith Barney Inc.
Morgan Stanley & Co. Incorporated
UBS Warburg LLC
The Williams Capital Group, L.P.
As representatives of the several Underwriters
named in Schedule I hereto,
c/o Goldman, Sachs & Co.,
85 Broad Street
New York, New York 10004.
Ladies and Gentlemen:
Prudential Financial, Inc., a New Jersey corporation (the "Company"), proposes, subject to the terms and conditions stated herein, to issue and sell to the Underwriters named in Schedule I hereto (the "Underwriters") an aggregate of 93,500,000 shares (the "Firm Shares") and, at the election of the Underwriters, up to 14,025,000 additional shares (the "Optional Shares") of common stock, par value one cent ($.01) per share ("Stock"), of the Company (the Firm Shares and the Optional Shares that the Underwriters elect to purchase pursuant to Section 2 hereof being collectively called the "Shares").
The Shares are being issued in an initial public offering in connection with the reorganization (the "Demutualization") of The Prudential Insurance Company of America, a New
Jersey mutual life insurance company ("Prudential"), into a New Jersey stock life insurance company pursuant to Prudential's Plan of Reorganization, as adopted by the Board of Directors of Prudential on December 15, 2000 and as amended from time to time thereafter (the "Plan"), in accordance with the requirements of Chapter 17C of Title 17 of the New Jersey Revised Statutes ("Chapter 17C"). Upon consummation of the Demutualization, Prudential will become an indirect wholly owned subsidiary of the Company. Pursuant to the Demutualization, the Company plans to issue approximately 456,300,000 shares of Stock (the "Policyholder Shares") and, in lieu of stock, cash or Policy Credits (as defined in the Plan), to Eligible Policyholders (as defined in the Plan) in exchange for their respective Membership Interests (as defined in the Plan). As used herein, "Transaction Shares" means the Shares and the Policyholder Shares, collectively.
It is further understood and agreed to by all parties that the Company and Prudential are concurrently entering into an agreement (the "International Underwriting Agreement") providing for the sale by the Company of up to a total of 18,975,000 shares of Stock (the "International Shares"), including the overallotment option thereunder, through arrangements with certain underwriters outside the United States (the "International Underwriters"), for whom Goldman Sachs International, Prudential-Bache International Ltd., Credit Suisse First Boston (Europe) Limited, Deutsche Bank AG London, Lehman Brothers International (Europe), Merrill Lynch International, Morgan Stanley & Co. International Limited, Salomon Brothers International Limited, The Williams Capital Group, L.P., Banc of America Securities Limited, Bear, Stearns International Limited, Blaylock & Partners, L.P., First Union Securities, Inc., Samuel A. Ramirez & Company, Inc. and UBS AG, acting through its business group UBS Warburg, are acting as representatives. Anything herein or therein to the contrary notwithstanding, the respective closings under this Agreement and the International Underwriting Agreement are hereby expressly made conditional on one another. The Underwriters hereunder and the International Underwriters are simultaneously entering into an Agreement between U.S. and International Underwriting Syndicates (the "Agreement between Syndicates") which provides, among other things, for the transfer of shares of Stock between the two syndicates. Two forms of prospectus are to be used in connection with the offering and sale of shares of Stock contemplated by the foregoing, one relating to the Shares hereunder and the other relating to the International Shares. The latter form of prospectus will be identical to the former except for the front cover page, the back cover page, the text under the caption "Underwriting" and for the addition of a section captioned "Certain United States Tax Consequences to Non-U.S. Holders of Common Stock". Except as used in Sections 2, 4, 5, 11 and 13 herein, and except as the context may otherwise require, references hereinafter to the Shares shall include all the shares of Stock which may be sold pursuant to either this Agreement or the International Underwriting Agreement, and references herein to any prospectus whether in preliminary or final form, and whether as amended or supplemented, shall include both the U.S. and the international versions thereof.
1. The Company and Prudential, jointly and severally, represent and warrant to, and agree with, each of the Underwriters that:
(a) A registration statement on Form S-1 (File No. 333-58524) and amendments thereto filed on or before the date hereof (collectively, the "Initial Registration Statement") in respect of the Shares have been filed with the Securities and Exchange Commission (the "Commission"); the Initial Registration Statement and any post-effective amendment thereto, each in the form heretofore delivered to you, and, excluding exhibits thereto, to you for each of the other Underwriters, have been declared effective by the Commission in such form; other than a registration statement, if any,
increasing the size of the offering (a "Rule 462(b) Registration Statement"), filed pursuant to Rule 462(b) under the Securities Act of 1933, as amended (the "Act"), which became effective upon filing, no other document with respect to the Initial Registration Statement has heretofore been filed with the Commission; and no stop order suspending the effectiveness of the Initial Registration Statement, any post-effective amendment thereto or the Rule 462(b) Registration Statement, if any, has been issued and no proceeding for that purpose has been initiated or, to the best of the Company's or Prudential's knowledge, threatened by the Commission (any preliminary prospectus included in the Initial Registration Statement or filed with the Commission pursuant to Rule 424(a) of the rules and regulations of the Commission under the Act is hereinafter called a "Preliminary Prospectus"; the various parts of the Initial Registration Statement and the Rule 462(b) Registration Statement, if any, including all exhibits thereto and including the information contained in the form of final prospectus filed with the Commission pursuant to Rule 424(b) under the Act in accordance with Section 6(a) hereof and deemed by virtue of Rule 430A under the Act to be part of the Initial Registration Statement at the time it was declared effective, each as amended at the time such part of the Initial Registration Statement became effective or such part of the Rule 462(b) Registration Statement, if any, became or hereafter becomes effective, are hereinafter collectively called the "Registration Statement"; and such final prospectus, in the form first filed pursuant to Rule 424(b) under the Act, is hereinafter called the "Prospectus");
(b) No order preventing or suspending the use of any Preliminary Prospectus has been issued by the Commission, and each Preliminary Prospectus, at the time of filing thereof, conformed in all material respects to the requirements of the Act and the rules, regulations and interpretations of the Commission thereunder, and did not contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading; provided, however, that this representation and warranty shall not apply to any statements or omissions made in reliance upon and in conformity with information furnished in writing to the Company by an Underwriter through Goldman, Sachs & Co. or by the QIU (as defined below) expressly for use therein;
(c) The Registration Statement conforms, and the Prospectus and any further amendments or supplements to the Registration Statement or the Prospectus will conform, in all material respects to the requirements of the Act and the rules, regulations and interpretations of the Commission thereunder and do not and will not, as of the applicable effective date as to the Registration Statement and any amendment thereto and as of the applicable filing date as to the Prospectus and any amendment or supplement thereto, contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein not misleading; provided, however, that this representation and warranty shall not apply to any statements or omissions made in reliance upon and in conformity with information furnished in writing to the Company by an Underwriter through Goldman, Sachs & Co. or by the QIU expressly for use therein;
(d) None of the Company, Prudential or any of their subsidiaries has sustained since the date of the latest audited financial statements included in the Prospectus any loss or interference with its business that is, individually or in the aggregate, material to the Company, Prudential and their subsidiaries, considered as a whole, from fire,
explosion, flood or other calamity, whether or not covered by insurance (excluding, for the avoidance of doubt, any insurance underwriting losses of Prudential or its subsidiaries), or from any labor dispute or court or governmental action, order or decree, in each case other than as set forth or contemplated in the Prospectus; and, since the respective dates as of which information is given in the Registration Statement and the Prospectus, there has not been any material decrease in the capital or surplus of Prudential, any decrease in the capital stock of the Company or any material increase in the consolidated long-term debt of the Company or Prudential, or any material adverse change, or any development involving a prospective material adverse change, in or affecting the business, management, financial position, shareholders' equity or results of operations (in each case considered on a U.S. generally accepted accounting principles ("GAAP") basis) of the Company, Prudential and their subsidiaries, considered as a whole, in each case other than as set forth or contemplated in the Prospectus;
(e) Each of the Company, Prudential and their respective subsidiaries has good and marketable title in fee simple to all real property and good and marketable title to all personal property owned by it, in each case free and clear of all liens, encumbrances and defects, except such as are described in the Prospectus or such as would not have, individually or in the aggregate, a material adverse effect on the business, management, financial position, shareholders' equity or results of operations (in each case considered on a GAAP basis) of the Company, Prudential and their subsidiaries, considered as a whole (a "Material Adverse Effect"); and any real property and buildings held under lease by the Company, Prudential or any of their respective subsidiaries are held by them under valid, subsisting and enforceable leases with such exceptions as would not have, individually or in the aggregate, a Material Adverse Effect;
(f) The Company has been duly incorporated and is validly existing as a corporation in good standing under the laws of the State of New Jersey; Prudential has been and, until immediately prior to the Effective Date (as defined in the Plan), will continue to be duly organized and validly existing as a mutual life insurance company in good standing under the laws of the State of New Jersey; upon the Effective Date (as defined in the Plan) and at each Time of Delivery (as defined in Section 5), Prudential will be duly organized and validly existing as a stock life insurance company in good standing under the laws of the State of New Jersey and will be an indirect subsidiary of the Company; each of the Company and Prudential has the power and authority (corporate and other) to own its properties and conduct its business as described in the Prospectus, and has been duly qualified as a foreign corporation for the transaction of business and is in good standing under the laws of each other jurisdiction in which it owns or leases properties or conducts any business so as to require such qualification, except to the extent that the failure to be so qualified would not have, individually or in the aggregate, a Material Adverse Effect; each of Prudential Holdings, LLC, Prudential Securities Incorporated, Pruco Life Insurance Company, Prudential Property and Casualty Insurance Company, The Prudential Life Insurance Company, Ltd., Gibraltar Life Insurance Company, Ltd. and [principal asset management holding company] (collectively, the "Significant Subsidiaries") has been duly incorporated or organized, as the case may be, and is validly existing as a corporation, partnership or limited liability company, as the case may be, in good standing under the laws of its jurisdiction of incorporation or organization, as the case may be, with the power (corporate, partnership or limited liability company, as the case may be) and authority to own its properties and conduct its business as described in the Prospectus; each other subsidiary of the Company or Prudential has been duly incorporated or organized, as
the case may be, and is validly existing as a corporation, partnership or limited liability company, as the case may be, in good standing under the laws of its jurisdiction of incorporation or organization, as the case may be, with the power (corporate, partnership or limited liability company, as the case may be) and authority to own its properties and conduct its business as described in the Prospectus, except to the extent that any failure to be in such good standing would not have, individually or in the aggregate, a Material Adverse Effect; and each subsidiary of the Company or Prudential is duly qualified to do business as a foreign corporation, partnership or limited liability company, as the case may be, for the transaction of business, and is in good standing under the laws of each other jurisdiction in which its ownership or lease of property or the conduct of its business requires such qualification and good standing, except to the extent that any failure to be so qualified would not have, individually or in the aggregate, a Material Adverse Effect;
(g) Upon effectiveness pursuant to its terms at the First Time of Delivery of the Company's Amended and Restated Certificate of Incorporation, the Company will have an authorized capitalization as set forth in the Prospectus; at each Time of Delivery all shares of capital stock of The Prudential Insurance Company of America, the stock life insurance company successor to Prudential, will have been duly and validly authorized and issued, will be fully paid and non-assessable and will be indirectly owned by the Company, free and clear of all liens, encumbrances, equities or claims, except as described in the Prospectus (including, without limitation, in respect of the IHC debt (as defined in the Prospectus)); all of the issued shares of capital stock, membership interests or partnership interests of each Significant Subsidiary have been duly and validly authorized and issued, are fully paid and non-assessable and (except for directors' qualifying shares and except as set forth in the Prospectus) are owned directly or indirectly by the Company or Prudential, as applicable, free and clear of all liens, encumbrances, equities or claims; and all of the issued shares of capital stock, membership interests or partnership interests of each other subsidiary of the Company or Prudential have been duly and validly authorized and issued, are fully paid and non-assessable and (except for directors' qualifying shares and except as set forth in the Prospectus) are owned directly or indirectly by the Company or Prudential, as applicable, free and clear of all liens, encumbrances, equities or claims, except for such liens, encumbrances, equities or claims as would not have, individually or in the aggregate, a Material Adverse Effect;
(h) When the Shares are issued and sold by the Company to the Underwriters hereunder, the International Shares are issued and sold by the Company to the International Underwriters under the International Underwriting Agreement, the Policyholder Shares are issued by the Company pursuant to the Plan and the shares of Class B common stock, par value one cent ($.01) per share, of the Company (the "Class B Shares") are issued and delivered pursuant to the Subscription Agreement, dated as of April 25, 2001, among the Company, Prudential and the subscribers named therein (the "Subscription Agreement"), the Transaction Shares, the International Shares and the Class B Shares will be duly and validly authorized and issued and fully paid and non-assessable and will conform to the descriptions thereof contained in the Prospectus; the issuance of the Transaction Shares, the International Shares and the Class B Shares is not subject to any preemptive or other similar right; and, except with respect to the Class B Shares, there are no rights of any person, corporation or other entity to require registration of any shares of Stock, Class B Shares or any other
securities of the Company in connection with the Demutualization or the filing of the Registration Statement;
(i) The issuance and delivery of the Policyholder Shares pursuant to the Plan and the offer and sale of the Class B Shares and the offer and sale of the IHC debt by Prudential Holdings, LLC, in each case as described in the Prospectus, are exempt from the registration requirements of the Act;
(j) The issuance and sale of the Shares by the Company to the Underwriters hereunder, the issuance and sale of the International Shares by the Company to the International Underwriters under the International Underwriting Agreement, the issuance and delivery of the Policyholder Shares pursuant to the Plan, the issuance and sale of the Class B Shares, the compliance by the Company and Prudential with all of the provisions of this Agreement, the International Underwriting Agreement, the Plan and the Subscription Agreement and the consummation of the transactions herein and therein contemplated will not conflict with or result in a breach or violation of any of the terms or provisions of, or constitute a default under, any indenture, mortgage, deed of trust, loan agreement or other agreement or instrument to which the Company, Prudential or any of their respective subsidiaries is a party or by which the Company, Prudential or any of their respective subsidiaries is bound or to which any of the property or assets of the Company, Prudential or any of their respective subsidiaries is subject, or which affects the validity, performance or consummation of the Plan, the Demutualization or the transactions contemplated by this Agreement, the International Underwriting Agreement, the Plan or the Subscription Agreement, nor will such actions result in any violation of the provisions of the Certificate of Incorporation or By-Laws of the Company or Prudential or the organizational documents of any of their respective subsidiaries or any statute or any order, rule or regulation of any court or insurance regulatory agency or other governmental agency or body having jurisdiction over the Company, Prudential or any of their respective subsidiaries or any of their properties, except to the extent that such a conflict, breach, default or violation would not have, individually or in the aggregate, a Material Adverse Effect;
(k) Neither the Company nor Prudential nor any of their respective subsidiaries is, or at any Time of Delivery, will be in violation of its Certificate of Incorporation or By-Laws or other organizational documents or instruments or in default in the performance or observance of any obligation, agreement, covenant or condition contained in any indenture, mortgage, deed of trust, loan agreement, lease or other agreement or instrument to which it is a party or by which it or any of its properties may be bound, which violation or default would have, individually or in the aggregate, a Material Adverse Effect;
(l) The statements set forth in the Prospectus under the caption "Description of Capital Stock", insofar as they purport to constitute a summary of the terms of the Stock and the Class B Shares, under the captions "Risk Factors - Changes in federal income tax law could make some of our products less attractive to consumers and increase our tax costs", "Demutualization and Related Transactions" and "Business - Regulation", and in Item 14 of the Registration Statement, insofar as they purport to describe the provisions of the laws and documents referred to therein, and in the International version of the Prospectus under the caption "Certain United States Tax Consequences to Non-U.S. Holders of Common Stock", insofar as they purport to describe the
provisions of the laws and documents referred to therein, are accurate, complete and fair in all material respects;
(m) There are no legal or governmental proceedings pending to which the Company, Prudential or any of their respective subsidiaries is a party or of which any property of the Company, Prudential or any of their respective subsidiaries is the subject which, individually or in the aggregate, could reasonably be expected to have a Material Adverse Effect, other than as set forth in the Prospectus; and, to the best of the Company's and Prudential's knowledge, no such proceedings are threatened or contemplated by governmental authorities or threatened by others, other than as set forth in the Prospectus;
(n) The Plan has been duly adopted by the required vote of the Board of Directors of Prudential (which adoption complied with the applicable requirements of Chapter 17C); the Plan conforms in all material respects to the requirements of the laws of the State of New Jersey applicable to the reorganization of a mutual life insurance company into a stock life insurance company and any rules and regulations of the Commissioner of the New Jersey Department of Banking and Insurance (the "Commissioner") in respect thereof, in each case as administered or interpreted by the Commissioner (collectively, the "New Jersey Reorganization Law and Regulations"), and conforms to the requirements of all other applicable laws, rules and regulations, except where the failure to so conform would not have, individually or in the aggregate, a Material Adverse Effect; the Plan was duly approved by a vote of policyholders (which approval complied with the applicable requirements of Chapter 17C) and such approval has not been rescinded or otherwise withdrawn; on October 15, 2001 the Commissioner issued an order approving the Plan in accordance with the requirements of Chapter 17C (the "Commissioner's Order"), which remains unmodified and in full force and effect; no other approvals are required to be obtained under Chapter 17C or otherwise for the effectiveness of the Plan; on the Effective Date, the Plan shall be deemed to have become effective in accordance with its terms pursuant to Chapter 17C and all aspects of the Demutualization to have been completed pursuant to the Plan on or prior to the Effective Date will be completed in accordance with the Plan and the New Jersey Reorganization Law and Regulations and the requirements of all other applicable laws, rules and regulations; and prior to or contemporaneously with the First Time of Delivery (as defined in Section 5) each of the actions required to occur and conditions required to be satisfied on or prior to the Effective Date pursuant to the Commissioner's Order or the Plan will have occurred or have been satisfied or waived;
(o) All Filings and Consents (each as defined below) of or with any court, insurance regulatory agency or governmental agency or body required in connection with the issuance and sale by the Company of the Shares to the Underwriters hereunder, the issuance and sale by the Company of the International Shares to the International Underwriters under the International Underwriting Agreement, the issuance of the Class B Shares, the entry into and the compliance by the Company and Prudential with this Agreement, the International Underwriting Agreement and the Subscription Agreement, or the consummation of the transactions contemplated hereby or thereby, have been made or obtained and all such Filings and Consents are in full force and effect, provided, however, that neither the Company nor Prudential makes any representation or warranty as to state securities or Blue Sky laws or state insurance securities laws or international securities laws in connection with the purchase and distribution of the Shares by the Underwriters and the International Shares by the
International Underwriters; all Filings and Consents of or with any court, insurance regulatory agency or governmental agency or body required in connection with the issuance of the Policyholder Shares pursuant to the Plan have been made or obtained and all such Filings and Consents are in full force and effect, except to the extent that the failure to obtain or make any such Filings and Consents would not have, individually or in the aggregate, a Material Adverse Effect; and all other Filings and Consents of or with any court, insurance regulatory agency or other governmental agency or body required to be made or obtained on or prior to the Effective Date in connection with the Demutualization or for the consummation by the Company and Prudential of the transactions contemplated by the Plan have been so made or obtained and are in full force and effect, except as set forth in the Prospectus and except to the extent that the failure to obtain or make any such Filings and Consents would not have, individually or in the aggregate, a Material Adverse Effect and would not affect the validity, performance or consummation of the transactions contemplated by this Agreement, the International Underwriting Agreement, the Subscription Agreement and the Plan;
(p) The Company has made all filings required with respect to the Demutualization under applicable insurance holding company statutes, and has received approvals of acquisition or control and/or affiliate transactions required with respect to the Demutualization in each jurisdiction in which such filings or approvals are required, except where the failure to have made such filings or received such approvals in any such jurisdiction would not have, individually or in the aggregate with all other such failures, a Material Adverse Effect; each of the Company, Prudential and their respective subsidiaries has all necessary consents, licenses, authorizations, approvals, orders, certificates, permits, registrations and qualifications (collectively, the "Consents") of and from, and has made all filings and declarations (collectively, the "Filings") with, all insurance regulatory authorities, all federal, state, local and other governmental authorities, all self-regulatory organizations and all courts and other tribunals, necessary to own, lease, license and use its properties and assets and to conduct its business in the manner described in the Prospectus, except where the failure to have such Consents or to make such Filings would not have, individually or in the aggregate, a Material Adverse Effect; each of the Company and Prudential and each of their respective subsidiaries is in compliance with all applicable laws, rules, regulations, orders, By-Laws and similar requirements, including in connection with registrations or memberships in self-regulatory organizations, and all such Consents and Filings are in full force and effect, in each case with such exceptions as would not have, individually or in the aggregate, a Material Adverse Effect, and neither the Company nor Prudential nor any of their respective subsidiaries has received any notice of any event, inquiry, investigation or proceeding that would reasonably be expected to result in the suspension, revocation or limitation of any such Consent or otherwise impose any limitation on the conduct of the business of the Company, Prudential or any such subsidiary, except as set forth in the Prospectus and except for any such suspension, revocation or limitation which would not have, individually or in the aggregate, a Material Adverse Effect;
(q) To the best of the Company's and Prudential's knowledge, no insurance regulatory authority or body has issued any order or decree impairing, restricting or prohibiting the payment of dividends by Prudential to its parent; and to the best of the Company's and Prudential's knowledge, no insurance regulatory authority or body has issued any order or decree impairing, restricting or prohibiting the payment of dividends by any subsidiary of the Company or Prudential that is required to be organized or
licensed as an insurance company or reinsurance company in its jurisdiction of incorporation (each an "Insurance Subsidiary") to its parent, except for any such order or decree as would not have, individually or in the aggregate, a Material Adverse Effect;
(r) None of the Company, Prudential or Prudential Holdings, LLC is or, after giving effect to the offering and sale of the Shares, the offering and sale of the International Shares, the issuance and delivery of the Policyholder Shares pursuant to the Plan, the issuance and sale of the Units (as defined in the Prospectus) and the consummation of the Demutualization and the other transactions contemplated by the Prospectus, will be an "investment company", as such term is defined in the Investment Company Act of 1940, as amended (the "Investment Company Act");
(s) PricewaterhouseCoopers LLP, who have certified certain financial statements of the Company and the consolidated financial statements of Prudential and its subsidiaries, are independent public accountants as required by the Act and the rules and regulations of the Commission thereunder;
(t) The Transaction Shares have been approved for listing on the New York Stock Exchange, Inc. (the "Exchange"), subject to notice of issuance, and, at each Time of Delivery (as defined in Section 5) hereunder, the Transaction Shares issued at or prior to such Time of Delivery will be listed thereon;
(u) Other than as described in the Prospectus, no legal or governmental proceeding is pending or, to the best of the Company's and Prudential's knowledge, is currently being threatened challenging the Demutualization or the Plan or the approval thereof, the Commissioner's Order or the consummation of the transactions contemplated thereby or the offering of the Shares by the Underwriters and the International Shares by the International Underwriters;
(v) The policyholder information booklet mailed to policyholders (the "Policyholder Information Booklet"), as of its date, as of the date of the public hearing on the Demutualization and as of the date of the Policyholder Vote, did not contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein, in light of the circumstances under which they were made, not misleading;
(w) The financial statements of each of Prudential and its consolidated subsidiaries and of the Company, together with the related schedules, notes and supplemental information, set forth in the Registration Statement and the Prospectus, comply in all material respects with the requirements of the Act and interpretations thereof and present fairly in all material respects the financial position, the results of operations and the changes in cash flows of such entities in conformity with U.S. generally accepted accounting principles ("GAAP") at the respective dates or for the respective periods to which they apply; such statements and related schedules, notes and supplemental information have been prepared in accordance with GAAP consistently applied throughout the periods involved except for any normal year-end adjustments and except as described therein;
(y) The pro forma condensed consolidated balance sheet and condensed consolidated statements of operations, the related notes thereto and the related pro forma supplementary information set forth in the Registration Statement and the
Prospectus have been prepared in all material respects in accordance with the applicable requirements of Rule 11-02 of Regulation S-X promulgated under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), have been compiled on the pro forma basis described therein and, in the opinion of the Company and Prudential, the assumptions used in the preparation thereof were reasonable at the time made and the adjustments used therein are based upon good faith estimates and assumptions believed by the Company and Prudential to be reasonable at the time made;
(z) This Agreement and the International Underwriting Agreement have been duly authorized, executed and delivered by the Company and Prudential; and
(aa) There are no contracts or other documents of a character required to be described in the Registration Statement or the Prospectus or to be filed as an exhibit to the Registration Statement which are not described or filed as required by the Act and the rules and regulations of the Commission thereunder.
2. Subject to the terms and conditions herein set forth, (a) the Company
agrees to issue and sell to each of the Underwriters, and each of the
Underwriters agrees, severally and not jointly, to purchase from the Company, at
a purchase price per share of $........................, the number of Firm
Shares set forth opposite the name of such Underwriter in Schedule I hereto and
(b) in the event and to the extent that the Underwriters shall exercise the
election to purchase Optional Shares as provided below, the Company agrees to
issue and sell to each of the Underwriters, and each of the Underwriters agrees,
severally and not jointly, to purchase from the Company, at the purchase price
per share set forth in clause (a) of this Section 2, that portion of the number
of Optional Shares as to which such election shall have been exercised (to be
adjusted by you so as to eliminate fractional shares) determined by multiplying
such number of Optional Shares by a fraction, the numerator of which is the
maximum number of Optional Shares which such Underwriter is entitled to purchase
as set forth opposite the name of such Underwriter in Schedule I hereto and the
denominator of which is the maximum number of Optional Shares that all of the
Underwriters are entitled to purchase hereunder.
The Company hereby grants to the Underwriters the right to purchase at their election up to 14,025,000 Optional Shares, at the purchase price per share set forth in the paragraph above, for the purpose of covering sales of shares in excess of the number of Firm Shares. Any such election to purchase Optional Shares may be exercised only by written notice from you to the Company, given within a period of 30 calendar days after the date of this Agreement, setting forth the aggregate number of Optional Shares to be purchased and the date on which such Optional Shares are to be delivered, as determined by you but in no event earlier than the First Time of Delivery (as defined in Section 5 hereof) or, unless you and the Company otherwise agree in writing, earlier than two or later than ten business days after the date of such notice.
3. (a) The Company and Prudential hereby confirm their engagement of Goldman, Sachs & Co. as, and Goldman, Sachs & Co. hereby confirms its agreement with the Company and Prudential to render services as, a "qualified independent underwriter" within the meaning of Rule 2720(b)(15) of the National Association of Securities Dealers, Inc. (the "NASD") with respect to the offering and sale of the Shares. Goldman, Sachs & Co., in its capacity as qualified independent underwriter and not otherwise, is referred to herein as the "QIU".
(b) As compensation for the services of the QIU hereunder, the Company and Prudential agree to pay the QIU $10,000 in the aggregate at the First Time of Delivery.
4. Upon the authorization by you of the release of the Firm Shares, the several Underwriters propose to offer the Firm Shares for sale upon the terms and conditions set forth in the Prospectus.
5. (a) The Shares to be purchased by each Underwriter hereunder, in definitive form, and in such authorized denominations and registered in such names as Goldman, Sachs & Co. may request upon at least forty-eight hours' prior notice to the Company, shall be delivered by or on behalf of the Company to Goldman, Sachs & Co., through the facilities of The Depository Trust Company ("DTC"), for the account of such Underwriter, against payment by or on behalf of such Underwriter of the purchase price therefor by wire transfer of Federal (same-day) funds to the account specified by the Company to Goldman, Sachs & Co. at least forty-eight hours in advance. The Company will cause the certificates representing the Shares to be made available for checking and packaging at least twenty-four hours prior to the Time of Delivery (as defined below) with respect thereto at the office of DTC or its designated custodian (the "Designated Office"). The time and date of such delivery and payment shall be, with respect to the Firm Shares, 9:30 a.m., New York City time, on ............., 2001 or such other time and date as Goldman, Sachs & Co. and the Company may agree upon in writing, and, with respect to the Optional Shares, 9:30 a.m., New York time, on the date specified by Goldman, Sachs & Co. in the written notice given by Goldman, Sachs & Co. of the Underwriters' election to purchase such Optional Shares, or such other time and date as Goldman, Sachs & Co. and the Company may agree upon in writing. Such time and date for delivery of the Firm Shares is herein called the "First Time of Delivery", such time and date for delivery of the Optional Shares, if not the First Time of Delivery, is herein called the "Second Time of Delivery", and each such time and date for delivery is herein called a "Time of Delivery".
(b) The documents to be delivered at each Time of Delivery by or on behalf of the parties hereto pursuant to Section 8 hereof, including the cross receipt for the Shares and any additional documents requested by the Underwriters pursuant to Section 8(r) hereof, will be delivered at the offices of Sullivan & Cromwell, 125 Broad St., New York, New York 10004 (the "Closing Location"), and the Shares will be delivered at the Designated Office, all at such Time of Delivery. A meeting will be held at the Closing Location at 9:00 a.m., New York City time, on the New York Business Day next preceding such Time of Delivery, at which meeting the final drafts of the documents to be delivered pursuant to the preceding sentence will be available for review by the parties hereto. For the purposes of this Section 5, "New York Business Day" shall mean each Monday, Tuesday, Wednesday, Thursday and Friday which is not a day on which banking institutions in New York are generally authorized or obligated by law or executive order to close.
6. The Company and Prudential, jointly and severally, agree with each of the Underwriters and with the QIU:
(a) To prepare the Prospectus in a form approved by you and to file such Prospectus pursuant to Rule 424(b) under the Act not later than the Commission's close of business on the second business day following the execution and delivery of this
Agreement, or, if applicable, such earlier time as may be required by Rule 430A(a)(3) under the Act; to make no further amendment or any supplement to the Registration Statement or Prospectus which shall be disapproved by you promptly after reasonable notice thereof; to advise you and the QIU, promptly after it receives notice thereof, of the time when any amendment to the Registration Statement has been filed or becomes effective or any supplement to the Prospectus or any amended Prospectus has been filed and to furnish you and the QIU with copies thereof; to advise you and the QIU, promptly after it receives notice thereof, of the issuance by the Commission of any stop order or of any order preventing or suspending the use of any Preliminary Prospectus or prospectus, of the suspension of the qualification of the Shares for offering or sale in any jurisdiction, of the initiation or threatening of any proceeding for any such purpose, or of any request by the Commission for the amending or supplementing of the Registration Statement or Prospectus or for additional information; and, in the event of the issuance of any stop order or of any order preventing or suspending the use of any Preliminary Prospectus or prospectus or suspending any such qualification, promptly to use its best efforts to obtain the withdrawal of such order;
(b) Promptly from time to time to take such action as you may reasonably request to qualify the Shares for offering and sale under the securities laws of such jurisdictions as you may request and to comply with such laws so as to permit the continuance of sales and dealings therein in such jurisdictions for as long as may be necessary to complete the distribution of the Shares, provided that in connection therewith the Company and Prudential shall not be required to qualify as a foreign corporation or to file a general consent to service of process in any jurisdiction;
(c) Prior to 10:00 a.m. New York City time, on the New York Business Day next succeeding the date of this Agreement and from time to time, to furnish the Underwriters and the QIU with copies of the Prospectus in New York City in such quantities as you and the QIU may reasonably request, and, if the delivery of a prospectus is required at any time prior to the expiration of nine months after the time of issue of the Prospectus in connection with the offering or sale of the Shares and if at such time any event shall have occurred as a result of which the Prospectus as then amended or supplemented would include an untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made when such Prospectus is delivered, not misleading, or, if for any other reason it shall be necessary during such period to amend or supplement the Prospectus in order to comply with the Act, to notify you and the QIU and upon your request to prepare and furnish without charge to each Underwriter and the QIU and to any dealer in securities as many copies as you may from time to time reasonably request of an amended Prospectus or a supplement to the Prospectus which will correct such statement or omission or effect such compliance, and in case any Underwriter is required to deliver a prospectus in connection with sales of any of the Shares at any time nine months or more after the time of issue of the Prospectus, upon your request but at the expense of such Underwriter, to prepare and deliver to such Underwriter as many copies as you may request of an amended or supplemented prospectus complying with Section 10(a)(3) of the Act;
(d) To make generally available to securityholders of the Company as soon as practicable, but in any event not later than eighteen months after the effective date of the Registration Statement (as defined in Rule 158(c) under the Act), an earnings statement of the Company and its subsidiaries (which need not be audited) complying
with Section 11(a) of the Act and the rules and regulations thereunder (including, at the option of the Company, Rule 158);
(e) During the period beginning from the date hereof and continuing to and including the date 180 days after the date of the Prospectus (the "Lock-Up Period"), not to, directly or indirectly, offer, sell, contract to sell or otherwise dispose of, including, without limitation, through the entry into a cash-settled derivative instrument, except as provided hereunder and under the International Underwriting Agreement, any shares of Stock or any other securities of the Company that are substantially similar to the Shares, including but not limited to any securities that are convertible into or exercisable or exchangeable for, or that represent the right to receive, shares of Stock or any such substantially similar securities (other than pursuant to employee stock option and other plans existing on the date of this Agreement), without the prior written consent of Goldman, Sachs & Co., except that the Company may issue (i) the Policyholder Shares to Eligible Policyholders in connection with the consummation of the Demutualization pursuant to the Plan, (ii) the Class B Shares, (iii) the Units and (iv) shares of Stock or any other securities of the Company that are substantially similar to the Shares (including but not limited to any securities that are convertible into or exercisable or exchangeable for, or that represent the right to receive, shares of Stock or any such substantially similar securities) that are issued as consideration in mergers and acquisitions by the Company, provided in case of (iv) that [TO COME]
(f) To furnish to shareholders of the Company as soon as practicable after the end of each fiscal year an annual report (including a balance sheet and statements of income, shareholders' equity and cash flows of the Company and its consolidated subsidiaries certified by independent public accountants) and, as soon as practicable after the end of each of the first three quarters of each fiscal year (beginning with the fiscal quarter ending after the effective date of the Registration Statement), to make available to shareholders of the Company consolidated summary financial information of the Company and its subsidiaries for such quarter in reasonable detail;
(g) During a period of five years from the effective date of the Registration Statement, to furnish to you copies of all reports or other communications (financial or other) furnished to shareholders of the Company, and to deliver to you (i) as soon as they are available, copies of any reports and financial statements furnished to or filed with the Commission or any national securities exchange on which any class of securities of the Company is listed (such financial statements to be on a consolidated basis to the extent the accounts of the Company and its subsidiaries are consolidated in reports furnished to its shareholders generally or to the Commission), to the extent that any such reports and financial statements are not publicly available through the EDGAR system; and (ii) such additional, non-confidential information concerning the business and financial condition of the Company as you may from time to time reasonably request;
(h) To use their best efforts to list, subject to notice of issuance, the Transaction Shares on the Exchange;
(i) If the Company elects to rely upon Rule 462(b), to file a Rule
462(b) Registration Statement with the Commission in compliance with Rule
462(b) by 10:00 p.m., Washington, D.C. time, on the date of this Agreement,
and at the time of filing to either pay to the Commission the filing fee
for the Rule 462(b) Registration Statement or give irrevocable instructions
for the payment of such fee pursuant to Rule 111(b) under the Act; and
(j) Prior to or contemporaneously with the First Time of Delivery, to take all actions necessary in order to consummate the Demutualization and the Plan and to cause the transactions contemplated thereby to have occurred at or prior to the First Time of Delivery.
7. The Company and Prudential, jointly and severally, covenant and agree
with the several Underwriters and the QIU that the Company or Prudential will
pay or cause to be paid the following: (i) the fees, disbursements and expenses
of the Company's and Prudential's counsel, accountants and actuaries in
connection with the Demutualization and the registration of the Shares under the
Act and all other expenses in connection with the preparation, printing and
filing of the Registration Statement, any Preliminary Prospectus and the
Prospectus and amendments and supplements thereto and the mailing and delivering
of copies thereof to the Underwriters, the QIU and dealers; (ii) the cost of
printing or producing any Agreement among Underwriters, this Agreement, the
International Underwriting Agreement, the Agreement between Syndicates, any
selling agreement, any Blue Sky Memorandum, closing documents (including
compilations thereof) and any other documents in connection with the offering,
purchase, sale and delivery of the Shares; (iii) all expenses in connection with
the qualification of the Shares for offering and sale under state securities
laws and insurance securities laws as provided in Section 6(b) hereof, including
the fees and disbursements of counsel for the Underwriters in connection with
such qualification and in connection with any Blue Sky Memorandum (to the extent
such fees and disbursements do not exceed $15,000 in the aggregate); (iv) all
fees and expenses in connection with listing the Transaction Shares on the New
York Stock Exchange; (v) the filing fees incident to, and the fees and
disbursements of counsel for the Underwriters in connection with, securing any
required review by the NASD of the terms of the sale of the Shares; (vi) the
fees and reasonable expenses of the QIU; (vii) the cost of preparing stock
certificates; (viii) the cost and charges of any transfer agent or registrar;
(ix) any travel expenses of the Company's or Prudential's officers and employees
and any other expenses of the Company or Prudential in connection with attending
or hosting meetings with prospective purchasers of the Shares; and (x) all other
costs and expenses incident to the performance of the obligations of the Company
and Prudential hereunder which are not otherwise specifically provided for in
this Section. It is understood, however, that, except as provided in this
Section, and Sections 9, 10 and 13 hereof, the Underwriters will pay all of
their own costs and expenses, including the fees of their counsel, stock
transfer taxes on resale of any of the Shares by them, and any advertising
expenses connected with any offers they may make.
8. The respective obligations of the several Underwriters and the QIU hereunder, as to the Shares to be delivered at each Time of Delivery, shall be subject, in the discretion of the Underwriters and the QIU, respectively, to the condition that all representations and warranties and other statements of the Company and Prudential herein are, and at and as of such Time of Delivery will be, true and correct, the condition that the Company and Prudential shall have
performed all of their respective obligations hereunder theretofore to be performed, and the following additional conditions:
(a) The Prospectus shall have been filed with the Commission pursuant
to Rule 424(b) within the applicable time period prescribed for such filing
by the rules and regulations under the Act and in accordance with Section
6(a) hereof; if the Company has elected to rely upon Rule 462(b), the Rule
462(b) Registration Statement shall have become effective by 10:00 p.m.,
Washington, D.C. time, on the date of this Agreement; no stop order
suspending the effectiveness of the Registration Statement or any part
thereof shall have been issued and no proceeding for that purpose shall
have been initiated or threatened by the Commission; and all requests for
additional information on the part of the Commission shall have been
complied with to your reasonable satisfaction;
(b) Cleary, Gottlieb, Steen & Hamilton, counsel for the Underwriters and the QIU, shall have furnished to you and the QIU such written opinions and letter (a draft of each such opinion and letter is attached as Annex II(a) hereto), dated such Time of Delivery, with respect to the Registration Statement and the Prospectus, and such other related matters as you may reasonably request, and such counsel shall have received such papers and information as they may reasonably request to enable them to pass upon such matters;
(c) Sullivan & Cromwell, counsel for the Company and Prudential, shall have furnished to you and the QIU their written opinion (a draft of such opinion is attached as Annex II(b) hereto), dated such Time of Delivery, in form and substance satisfactory to you, to the effect that:
(i) The Company has been duly incorporated and is an existing corporation in good standing under the laws of the State of New Jersey;
(ii) Upon the consummation of the Demutualization and the effectiveness pursuant to its terms at the First Time of Delivery of the Company's Amended and Restated Certificate of Incorporation, the Company shall have an authorized capitalization as set forth in the Prospectus and all of the Shares, the International Shares, the Policyholder Shares issued to Eligible Policyholders and the Class B Shares issued and sold on the date of such opinion pursuant to the Subscription Agreement will be duly authorized and validly issued and will be fully paid and non-assessable;
(iii) Each of this Agreement and the International Underwriting Agreement has been duly authorized, executed and delivered by the Company and Prudential;
(iv) To such counsel's knowledge, the issuances of the Shares, the International Shares, the Policyholder Shares and the Class B Shares are not subject to preemptive or similar rights; there are no rights of any person to require registration of any shares of Common Stock or Class B Shares arising out of the Company's or Prudential's Certificate of Incorporation or By-Laws or out of any agreement to which the Company or Prudential is bound of which such counsel is aware other than the registration rights of the holders of the Class B Shares;
(v) The issuance and sale of the Shares to the Underwriters
pursuant to this Agreement, the issuance and sale of the International
Shares pursuant to the International Underwriting Agreement, the
issuance and delivery of the Policyholder Shares to Eligible
Policyholders and the issuance and sale of the Class B Shares to the
subscribers pursuant to the Subscription Agreement will not (i)
conflict with or result in a breach or violation of any of the
agreements filed as an Exhibit to the Initial Registration Statement,
(ii) violate any Federal law of the United States or law of the State
of New York, or (iii) to such counsel's knowledge, violate any order
of any court or insurance regulatory agency or other governmental
agency or body of the United States or the State of New York having
jurisdiction over the Company or Prudential; provided, however, that,
for purposes of this opinion, such counsel need express no opinion
with respect to Federal and state securities laws, other antifraud
laws and fraudulent transfer laws; provided, further, however, that
insofar as performance by the Company and Prudential of their
respective obligations under this Agreement and the International
Underwriting Agreement is concerned, such counsel need express no
opinion as to bankruptcy, insolvency, reorganization, rehabilitation,
moratorium and similar laws of general applicability relating to or
affecting creditors' rights;
(vi) All regulatory consents, authorizations, approvals and
filings required to be obtained or made by the Company under the
Federal laws of the United States and the laws of the State of New
York (i) for the issuance, sale and delivery by the Company of the
Shares to the Underwriters pursuant hereto and of the International
Shares to the International Underwriters pursuant to the International
Underwriting Agreement, (ii) for the issuance and sale of the Class B
Shares to the subscribers pursuant to the Subscription Agreement, and
(iii) for the entry into and the compliance by the Company and
Prudential with this Agreement, the International Underwriting
Agreement and the Subscription Agreement or the consummation of the
transactions contemplated hereby or thereby, have been obtained or
made and all such regulatory consents, authorizations, approvals and
filings are in full force and effect; provided, however, that such
counsel shall give no opinion as to the state securities or Blue Sky
laws or state insurance securities laws or international securities
laws;
(vii) The Registration Statement has become effective under the Act, and, to such counsel's knowledge, no stop order suspending the effectiveness of the Registration Statement has been issued and no proceedings for that purpose are pending before or are threatened by the Commission;
(viii) No registration of the Policyholder Shares under the Act is required for the delivery of the Policyholder Shares to Eligible Policyholders in the manner contemplated by the Plan;
(ix) No registration of the Class B Shares under the Act is required for the offer and sale of the Class B Shares by the Company to the subscribers in the manner contemplated by the Subscription Agreement;
(x) No registration of the IHC debt under the Act is required for the offer and sale of the IHC debt by Prudential Holdings, LLC to Goldman, Sachs &
Co. and Lehman Brothers pursuant to the purchase agreement between Prudential Holdings, LLC and Goldman, Sachs & Co. and Lehman Brothers (the "Purchasers"), dated the date of such opinion (the "Purchase Agreement"), in the manner contemplated by the Purchase Agreement and the offering circular, dated the date of the Purchase Agreement, relating to the IHC debt;
(xi) Neither the Company, Prudential nor Prudential Holdings, LLC is, or after giving effect to the offering and sale of the Shares, the International Shares, the Class B Shares, the Units and the IHC debt and the delivery of the Policyholder Shares to Eligible Policyholders will be, an "investment company", as defined in the Investment Company Act of 1940; and
(xii) Such counsel does not know of any litigation or any governmental proceeding instituted or threatened against the Company or any of its consolidated subsidiaries that would be required to be described in the Prospectus and is not so described. Also, such counsel does not know of any documents that are required to be filed as exhibits to the Registration Statement and are not so filed or of any documents that are required to be summarized in the Prospectus and are not so summarized.
In connection with such counsel's opinion set forth in paragraph (ix) above, such counsel may rely, among other things, on the representations, warranties and agreements of the Company and the subscribers in the Subscription Agreement as to the absence of any general solicitation or general advertising in connection with the offering of the Class B Shares. In connection with such counsel's opinion set forth in paragraph (x) above, such counsel may rely, among other things, on the representations, warranties and agreements of the Company and the Purchasers in the Purchase Agreement as to the absence of any general solicitation, general advertising or directed selling efforts in connection with the offering of the IHC debt and as to certain other matters.
Such counsel shall also state that the Initial Registration Statement, as of its effective date, and the Prospectus, as of the date of the Prospectus, appeared on their face to be appropriately responsive in all material respects to the requirements of the Act and the applicable rules and regulations of the Commission thereunder and that nothing that came to such counsel's attention in the course of its review has caused such counsel to believe that the Initial Registration Statement, as of its effective date, contained any untrue statement of a material fact or omitted to state any material fact required to be stated therein or necessary to make the statements therein not misleading or that the Prospectus, as of the date of the Prospectus, contained any untrue statement of a material fact or omitted to state any material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading. Such counsel may also state that such counsel does not assume any responsibility for the accuracy, completeness or fairness of the statements contained in the Initial Registration Statement or the Prospectus except for those made in the Prospectus under the captions "Description of Capital Stock" and "Risk Factors--Changes in federal income tax law could make some of our products less attractive to consumers and increase our tax costs", "Demutualization and Related Transactions", and, with respect to the International Prospectus "Certain United States Tax Consequences to Non-U.S. Holders of Common Stock" insofar as they relate to provisions of documents and of United States Federal tax law therein described. Such
counsel may state that it does not express any opinion or belief as to the financial statements or other financial data contained in the Initial Registration Statement or the Prospectus.
Such counsel's opinion may be limited to the Federal laws of the United States, the laws of the State of New York and the laws of the State of New Jersey, and, with respect to matters of New Jersey law, such counsel may rely upon the opinion of McCarter & English, LLP, delivered to the Underwriters pursuant to Section 8(e) hereof and, to the extent such counsel's opinion involves New Jersey insurance law and regulation, upon the opinion of LeBoeuf, Lamb, Greene & MacRae, LLP, delivered to the Underwriters pursuant to Section 8(f).
(d) John M. Liftin, General Counsel to the Company and Prudential, shall have furnished to you and the QIU a written opinion (a draft of such opinion is attached as Annex II(c) hereto), dated such Time of Delivery, in form and substance satisfactory to you to the effect that:
(i) The Company has been duly incorporated and is an existing corporation in good standing under the laws of the State of New Jersey;
(ii) Prudential has been duly organized and, upon consummation of the Demutualization, will be an existing stock life insurance company in good standing under the laws of the State of New Jersey;
(iii) Upon the consummation of the Demutualization and the effectiveness pursuant to its terms at the First Time of Delivery of the Company's Amended and Restated Certificate of Incorporation, the Company will have an authorized capitalization as set forth in the Prospectus and all of the Shares, the International Shares, the Policyholder Shares issued to Eligible Policyholders and the Class B Shares issued and sold on the date of such opinion pursuant to the Subscription Agreement will be duly authorized and validly issued and will be fully paid and non-assessable;
(iv) To such counsel's knowledge, the issuances of the Shares, the International Shares, the Policyholder Shares and the Class B Shares are not subject to preemptive or similar rights; there are no rights of any person to require registration of any shares of Common Stock or Class B Shares arising out of the Company's or Prudential's Certificate of Incorporation or By-Laws or out of any agreement to which the Company or Prudential is bound of which such counsel is aware other than the registration rights of the holders of the Class B Shares;
(v) Each of Prudential Holdings, LLC, Prudential Securities Incorporated, Pruco Life Insurance Company and [principal asset management holding company] has been duly incorporated and is an existing limited liability company or corporation, as the case may be, in good standing under the laws of its jurisdiction of incorporation or organization with power (corporate or limited liability company, as the case may be) and authority to own its properties and conduct its business as described in the Prospectus; and all of the issued shares of capital stock or membership interests, as the case may be, of each of Prudential, Prudential Holdings, LLC, Prudential Securities Incorporated, Pruco Life Insurance Company and [principal asset management holding company] have been duly authorized and
validly issued, are fully paid and non-assessable, and, except for directors' qualifying shares and except as set forth in the Prospectus, are owned directly or indirectly by the Company or Prudential, as applicable, free and clear of all liens, encumbrances, equities or claims;
(vi) Each of the Company and Prudential has power and authority (corporate and other) to own its properties and conduct its business as described in the Prospectus;
(vii) Such counsel does not know of any litigation or any governmental proceeding instituted or threatened against the Company or any of its consolidated subsidiaries that would be required to be disclosed in the Prospectus and is not so disclosed; and, to such counsel's knowledge, no legal or governmental proceeding is pending or is currently being threatened challenging the Demutualization or the Plan or the approval thereof, the Commissioner's Order or the consummation of the transactions contemplated thereby or the offering of the Shares by the Underwriters and the International Shares by the International Underwriters that would be required to be described in the Prospectus that is not so described;
(viii) The issuance and sale of the Shares to the Underwriters pursuant to this Agreement, the issuance and sale of the International Shares to the International Underwriters pursuant to the International Underwriting Agreement, the issuance and delivery of the Policyholder Shares to Eligible Policyholders and the issuance and sale of the Class B Shares to the subscribers pursuant to the Subscription Agreement will not (i) result in a default under or breach of any indenture, mortgage, deed of trust, loan agreement or other agreement or instrument known to such counsel to which the Company, Prudential or any of their respective subsidiaries is a party or by which the Company, Prudential or any of their respective subsidiaries is bound or to which any of the property or assets of the Company, Prudential or any of their respective subsidiaries is subject, except to the extent that such defaults or breaches would not have, individually or in the aggregate, a Material Adverse Effect, (ii) violate the Company's Amended and Restated Certificate of Incorporation or By-Laws, Prudential's Amended and Restated Charter or By-Laws or any of their respective subsidiaries' organizational documents or (iii) violate any order of any court or insurance regulatory agency or other governmental agency or body of the United States or any state of the United States known to such counsel having jurisdiction over the Company or Prudential or any of their respective subsidiaries, except to the extent that such a violation would not have, individually or in the aggregate, a Material Adverse Effect; provided, however, that, for purposes of this opinion, such counsel does not express any opinion with respect to Federal and state securities laws, other antifraud laws and fraudulent transfer laws; provided, further, however, that insofar as performance by the Company and Prudential of their respective obligations under this Agreement, the International Underwriting Agreement and the Plan are concerned, such counsel does not express any opinion as to bankruptcy, insolvency, reorganization, rehabilitation, moratorium and similar laws of general applicability relating to or affecting creditors' rights;
(ix) All regulatory consents, authorizations, approvals and filings required to be obtained or made by the Company and Prudential under the Federal laws of the United States or under the laws of any state of the United States (i) in connection
with the Demutualization, (ii) for the issuance, sale and delivery by
the Company of the Shares to the Underwriters pursuant to this
Agreement and the International Shares to the International
Underwriters pursuant to the International Underwriting Agreement,
(iii) for the issuance and delivery of the Policyholder Shares to
Eligible Policyholders, (iv) for the issuance and sale of the Class B
Shares to the subscribers pursuant to the Subscription Agreement, and
(v) for the entry into and the compliance by the Company and
Prudential with this Agreement, the International Underwriting
Agreement and the Subscription Agreement or the consummation of the
transactions contemplated hereby or thereby, have been obtained or
made and all such regulatory consents, authorizations, approvals and
filings are in full force and effect, except, other than with respect
to the laws of the State of New Jersey, to the extent that the failure
to make or obtain such regulatory consents, authorizations, approvals
and filings would not have, individually or in the aggregate, a
Material Adverse Effect; provided, however, that such counsel need
express no opinion as to state securities or Blue Sky laws or state
insurance securities laws or international securities laws;
(x) To such counsel's knowledge, each of the Company, Prudential and their respective subsidiaries is registered in all capacities with each federal, state, local or other governmental authority and is registered with, a member of, or a participant in, each self-regulatory organization, in each case, as is necessary to conduct its business as described in or contemplated by the Prospectus except as set forth in the Prospectus, except where failure to be so registered would not have, individually or in the aggregate, a Material Adverse Effect; to such counsel's knowledge, all such registrations and memberships are in full force and effect and neither the Company nor Prudential nor any of their respective subsidiaries has received any notice of any event, inquiry, investigation or proceeding that would reasonably be expected to result in the suspension, revocation or limitation of any such registrations or memberships, except as set forth in the Prospectus and except as would not have, individually or in the aggregate, a Material Adverse Effect; and to such counsel's knowledge, each of the Company, Prudential and their respective subsidiaries is in compliance with all applicable laws, rules, regulations, orders, By-Laws and similar requirements in connection with such registrations or memberships, as the case may be, except as set forth in the Prospectus and except as would not have, individually or in the aggregate, a Material Adverse Effect;
(xi) To such counsel's knowledge, the Company has made all filings required in connection with the Demutualization under applicable insurance holding company statutes, and has received approvals of acquisition of control and/or affiliate transactions required in connection with the Demutualization in each jurisdiction in which such filings or approvals are required, except where the failure to have made such filings or received such approvals in any such jurisdiction would not have, individually or in the aggregate with all other such failures, a Material Adverse Effect; to such counsel's knowledge, each of the Company, Prudential and their respective subsidiaries has all necessary Consents of and from, and has made all Filings with, all insurance regulatory authorities, all federal, state, local and other governmental authorities, all self-regulatory organizations and all courts and other tribunals, necessary to own, lease, license and use its properties and assets and to conduct its business in the manner described in the Prospectus, except where the failure to have such Consents or to make such Filings would not have, individually
in the aggregate, a Material Adverse Effect; to such counsel's knowledge, all such Consents and Filings are in full force and effect and neither the Company nor Prudential nor any of their respective subsidiaries has received a notice of any event, inquiry, investigation or proceeding that would reasonably be expected to result in the suspension, revocation or limitation of any such Consent or otherwise impose any limitation on the conduct of the business of the Company, Prudential or any such subsidiary, except as set forth in the Prospectus and except for any such suspension, revocation or limitation which would not have, individually or in the aggregate, a Material Adverse Effect;
(xii) To such counsel's knowledge, no insurance regulatory authority or body has issued any order or decree impairing, restricting or prohibiting the payment of dividends by Prudential to its parent; to such counsel's knowledge, no insurance regulatory authority or body has issued any order or decree impairing, restricting or prohibiting the payment of dividends by any Insurance Subsidiary to its parent, except for any such order or decree as would not have, individually or in the aggregate, a Material Adverse Effect;
(xiii) Such counsel does not know of any contracts or other documents of a character required to be filed as an exhibit to the Registration Statement or required to be described in the Registration Statement or the Prospectus which are not filed or described as required; and
(xiv) Each of this Agreement and the International Underwriting Agreement has been duly authorized, executed and delivered by the Company and Prudential.
Such counsel shall also state that the Initial Registration Statement, as of its effective date, and the Prospectus, as of the date of the Prospectus, appeared on their face to be appropriately responsive in all material respects to the requirements of the Act and the applicable rules and regulations of the Commission thereunder and that nothing that came to such counsel's attention in the course of the Company's review has caused such counsel to believe that the Initial Registration Statement, as of its effective date, contained any untrue statement of a material fact or omitted to state any material fact required to be stated therein or necessary to make the statements therein not misleading or that the Prospectus, as of the date of the Prospectus, contained any untrue statement of a material fact or omitted to state any material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading. Such counsel may also state that such counsel does not assume any responsibility for the accuracy, completeness or fairness of the statements contained in the Initial Registration Statement or the Prospectus except for those made in the Prospectus under the caption "Business--Regulation". Such counsel may state that he does not express any opinion or belief as to the financial statements or other financial data contained in the Initial Registration Statement or the Prospectus.
Such counsel may also state that to the extent the opinions in clauses
(i), (ii), (iii) and (xiv) of this Section 8(d) involve New Jersey law,
such counsel has relied with your permission on the opinion of McCarter &
English, LLP, addressed to the Underwriters. Such counsel may also state
that to the extent the opinions in clauses (ii) and (ix) of this Section
8(d) involve New Jersey insurance law and regulation, such counsel has
relied with your permission on the opinion of LeBoeuf, Lamb, Greene &
MacRae, LLP, addressed to the Underwriters.
(e) McCarter & English, LLP, New Jersey counsel to the Company and Prudential, shall have furnished to you and the QIU their written opinion (a draft of such opinion is attached as Annex II(d) hereto), dated such Time of Delivery, in form and substance satisfactory to you, to the effect that:
(i) The Company has been duly incorporated and is an existing corporation in good standing under the laws of the State of New Jersey, with corporate power and authority to own its properties and conduct its business as described in the Prospectus;
(ii)Prudential has been duly organized and, upon consummation of the Demutualization, will be an existing stock life insurance company in good standing under the laws of the State of New Jersey, with corporate power and authority to own its properties and conduct its business as described in the Prospectus;
(iii) Upon the consummation of the Demutualization and the effectiveness pursuant to its term at the First Time of Delivery of the Company's Amended and Restated Certificate of Incorporation, the Company shall have an authorized capitalization as set forth in the Prospectus, and all of the Shares, the International Shares, the Policyholder Shares issued to Eligible Policyholders and the Class B Shares issued and sold on the date of such opinion pursuant to the Subscription Agreement will be duly authorized and validly issued and will be fully paid and non-assessable;
(iv)Each of this Agreement and the International Underwriting Agreement has been duly authorized, executed and delivered by the Company and Prudential;
(v) To such counsel's knowledge, the issuances of the Shares, the International Shares, the Policyholder Shares and the Class B Shares are not subject to preemptive or similar rights;
(vi)The statements set forth in the Prospectus under the captions "Demutualization and Related Transactions--Related Transactions--Class B Stock and IHC Debt Issuances" and "Description of Capital Stock", insofar as they purport to constitute a summary of the terms of the Shares, the Class B Stock and the IHC Debt, and the provisions of the New Jersey laws and documents (other than documents relating to insurance arrangements with Financial Security Assurance, Inc.) referred to therein, are accurate and complete and present a fair summary of terms and provisions in all material respects; and
(vii) The issuance and sale of the Shares by the Company to the Underwriters hereunder, the issuance and sale of the International Shares by the Company to the International Underwriters under the International Underwriting Agreement, the issuance and delivery of the Policyholder Shares to Eligible Policyholders and the issuance and sale of the Class B Shares to the subscribers pursuant to the Subscription Agreement, will not result in any violation of the provisions of the Certificate of Incorporation or By-Laws of the Company or Prudential or any statute or any order, rule or regulation known to such counsel of any court or insurance regulatory agency or other governmental agency or body of the State of New Jersey having jurisdiction over the Company, Prudential or any of their respective subsidiaries or any of their properties, except to the extent that
such a violation would not have, individually or in the aggregate, a Material Adverse Effect, except that counsel need not opine as to state securities or Blue Sky laws.
In rendering such opinion, such counsel may state that they express no
opinion as to the laws of any jurisdiction other than the State of New
Jersey. Such counsel may also state that to the extent the opinions in
clause (vii) involve New Jersey insurance laws and regulations or the Plan,
such counsel has relied, with your permission, on the opinion of LeBoeuf,
Lamb, Greene & MacRae, LLP, delivered to the Underwriters pursuant to
Section 8(f) hereof. Such counsel may further state that in rendering the
opinion in clause (vi) above, they express no opinion or belief as to the
financial statements or other financial data contained in the Registration
Statement or the Prospectus, or as to the accuracy, completeness or
fairness of any statements contained, or documents or provisions of law
referred to or summarized, in the Registration Statement or the Prospectus
other than those specified in clause (vi) above.
(f) LeBoeuf, Lamb, Greene & MacRae, LLP, special regulatory counsel to Prudential in connection with the demutualization (as defined in such counsel's opinion), shall have furnished to you and the QIU their written opinion (a draft of such opinion is attached as Annex II(e) hereto), dated such Time of Delivery, in form and substance satisfactory to you, to the effect that:
(ii)Prudential has made all required filings under, and has received all approvals required to be received by Prudential under or exemptions in respect of, applicable insurance holding company statutes of each state of the United States in which such filings or approvals or exemptions are required with respect to the acquisition of control transactions in connection with the demutualization (as defined in such counsel's opinion) and the Destacking, except where the failure to have made such filings or received such approvals or exemptions in any such jurisdiction would not have, individually or in the aggregate, a Material Adverse Effect; and
(iii) The statements in the Prospectus under the captions "Demutualization and Related Transactions - The Demutualization - Summary of the Plan of Reorganization," "--Approval of the Plan of Reorganization," "--Allocation and Payment of Compensation to Eligible Policyholders," "--The Closed Block," "--Related Transactions--The Destacking" and "--Statutory Information" (in each case, with respect solely to the description of the insurance laws and regulations of the State of New Jersey), insofar as such statements purport to describe provisions of the insurance laws and regulations of the State of New Jersey are accurate in all material respects.
For purposes of such counsel's opinion, "demutualization" shall mean
the conversion of Prudential from a mutual life insurance company to a
stock life insurance company that is a wholly owned indirect subsidiary of
the Company in accordance with the requirements of Chapter 17C, and "Plan
Transactions" shall mean (i) the demutualization (as defined in such
counsel's opinion), (ii) the issuance and sale by the Company of the Shares
in the Initial Public Offering, as defined in and pursuant to the Plan,
(iii) the issuance of shares of Stock to Eligible Policyholders pursuant to
the Plan, (iv) the issuance and sale of the Class B Shares pursuant to
Section 3.3(c)(i) of the Plan, (v) the private offering of shares of Stock,
pursuant to Section 3.3(c)(ii) of the Plan and (vi) the realignment of the
ownership of certain subsidiaries, assets and non-insurance liabilities of
Prudential by means of an extraordinary dividend as described in and
pursuant to Section 3.3(a) and Schedule 3.3(a) of the Plan (the
"Destacking"). For purposes of such opinion, the transactions in clauses
(iv), (v) and (vi) above shall be referred to collectively as the "Section
3.3 Transactions".
In rendering its opinion set forth in paragraphs (i) and (iii) above,
such counsel may state that they express no opinion as to the laws of any
jurisdiction other than the insurance laws and regulations of the State of
New Jersey. In rendering its opinion set forth in paragraph (ii) above,
such counsel may state that they express no opinion as to the laws of any
jurisdiction other than the insurance holding company statutes of the State
of New Jersey and various other States of the United States. Such counsel
may also state that it does not express any opinion with respect to any of
the actuarial or financial aspects of the Plan or of any of the Plan
Transactions. In addition, such counsel may state that such counsel has not
served as counsel to Prudential or the Company with respect to the Initial
Public Offering or any of the Section 3.3 Transactions other than to assist
in obtaining certain insurance regulatory approvals, as described in
paragraphs (i) and (ii) above, relating to the Plan, which approvals cover
such transactions insofar, and only insofar, as they are described in and
are consummated pursuant to the Plan and, therefore, the extent to which
such opinion addresses the Initial Public Offering or any of the Section
3.3 Transactions is necessarily limited to their description in the Plan as
approved, and that such opinion does not address whether any of such
transactions are being consummated in a manner that complies with the Plan.
Such counsel may also make appropriate qualifications to its opinion
reflecting pending appeals or challenges to the Orders and the Plan or any
other challenge or litigation relating to the Orders or the Plan.
(g) McDermott, Will & Emery, special tax counsel to the Company, shall have furnished to you and the QIU their written opinion (a draft of such opinion is attached as Annex II(f) hereto), dated such Time of Delivery, in form and substance satisfactory to you, to the effect that (i) the descriptions of the IRS Rulings set forth in the Prospectus under the captions "Demutualization and Related Transactions--Federal Income Tax Consequences to Policyholders" and "--Federal Income Tax Consequences to
Prudential" are true and complete in all material respects and (ii) the other statements set forth under such captions, insofar as they purport to describe the provisions of the laws referred to therein, are true and complete in all material respects.
(h) On the date of the Prospectus at a time prior to the execution of this Agreement, at 9:30 a.m., New York City time, on the effective date of any post-effective amendment to the Registration Statement filed subsequent to the date of this Agreement and also at each Time of Delivery, PricewaterhouseCoopers LLP shall have furnished to you and the QIU a letter or letters, dated the respective dates of delivery thereof, in form and substance satisfactory to you, to the effect set forth in Annex I hereto (the executed copy of the letter delivered prior to the execution of this Agreement is attached as Annex I(a) hereto);
(i) (i) None of the Company, Prudential or any of their respective subsidiaries shall have sustained since the date of the latest audited financial statements included in the Prospectus any loss or interference with its business from fire, explosion, flood or other calamity, whether or not covered by insurance (excluding, for the avoidance of doubt, any insurance underwriting losses of Prudential or its subsidiaries), or from any labor dispute or court or governmental action, order or decree, in each case other than as set forth or contemplated in the Prospectus, and (ii) since the respective dates as of which information is given in the Prospectus there shall not have been any material decrease in the capital or surplus of Prudential, any decrease in the capital stock of the Company or any material increase in the consolidated long-term debt of the Company or Prudential or any material adverse change, or any development involving a prospective material adverse change, in or affecting the business, management, financial position, shareholders' equity or results of operations of the Company, Prudential and their subsidiaries, considered as a whole, in each case other than as set forth or contemplated in the Prospectus, the effect of which, in any such case described in clause (i) or (ii), is in the judgment of Goldman, Sachs & Co. so material and adverse as to make it impracticable or inadvisable to proceed with the public offering or the delivery of the Shares being delivered at such Time of Delivery on the terms and in the manner contemplated in the Prospectus;
(j) On or after the date hereof, except as set forth or contemplated in the Prospectus, (i) no downgrading shall have occurred in the rating accorded any debt security or preferred stock of the Company, Prudential or any of their subsidiaries or the financial strength or claims paying ability of the Company, Prudential or any of their subsidiaries by A.M. Best & Co. or any "nationally recognized statistical rating organization", as that term is defined by the Commission for purposes of Rule 436(g)(2) under the Act, and (ii) no such organization shall have publicly announced that it has under surveillance or review, with possible negative implications, its rating of any debt security or preferred stock or the financial strength or the claims paying ability of the Company, Prudential or any of their subsidiaries;
(k) On or after the date hereof there shall not have occurred any of the following: (i) a change in U.S. or international financial, political or economic conditions or currency exchange rates or exchange controls as would, in the judgment of Goldman, Sachs & Co., make it impracticable or inadvisable to proceed with the public offering or the delivery of the Shares being delivered at such Time of Delivery on the terms and in the manner contemplated in the Prospectus; (ii) a suspension or material limitation in trading in securities generally on the Exchange; (iii) a suspension or material limitation in
trading in the Company's securities on the Exchange; (iv) a general moratorium on commercial banking activities declared by either Federal, New York State or New Jersey authorities or a material disruption in commercial banking, or securities, settlement or clearance services in the United States; or (v) the outbreak or escalation of hostilities involving the United States or the declaration by the United States of a national emergency or war or the occurrence of any other calamity or crisis, if the effect of any such event specified in this clause (v) in the judgment of Goldman, Sachs & Co. makes it impracticable or inadvisable to proceed with the public offering or the delivery of the Shares being delivered at such Time of Delivery on the terms and in the manner contemplated in the Prospectus;
(l) The Transaction Shares shall have been duly listed, subject to notice of issuance, on the Exchange;
(m) Prior to or contemporaneously with the First Time of Delivery, each of the actions required to occur and conditions required to be satisfied or waived on or prior to the Effective Date pursuant to the Commissioner's Order or the Plan shall have occurred or been satisfied or waived;
(n) With respect to the First Time of Delivery, the Plan shall,
concurrently therewith, become effective, the Demutualization shall have
occurred and the transactions described in Sections 3.1, 3.2(a), (b), (c),
(d), (g) and 3.3(a) and (c)(i)(A) of the Plan shall have occurred;
(o) Contemporaneously with the First Time of Delivery, the Class B Shares shall be issued as contemplated by the Prospectus;
(p) The Company and Prudential shall have complied with the provisions of Section 6(c) hereof with respect to the furnishing of prospectuses on the New York Business Day next succeeding the date of this Agreement;
(q) No injunction, judgment, order, decree or other legal or governmental action prohibiting the Demutualization or the Plan or cancelling the approval thereof, or prohibiting the consummation of the transactions contemplated thereby or the offering of the Shares by the Underwriters and the International Underwriters, shall have been issued and remain in effect or shall have been announced by any court or announced, or threatened in writing, by a regulatory agency or other governmental body; and
(r) The Company and Prudential shall each have furnished or caused to be furnished to you at such Time of Delivery certificates of officers of the Company and Prudential satisfactory to you as to the accuracy of the representations and warranties of the Company and Prudential, respectively, herein at and as of such Time of Delivery, as to the performance by the Company and Prudential, respectively, of all of their respective obligations hereunder to be performed at or prior to such Time of Delivery, as to the matters set forth in subsections (a), (i), (m), (n) and (q) of this Section and as to such other matters as you may reasonably request.
9. (a) The Company and Prudential, jointly and severally, will indemnify and hold harmless each Underwriter against any losses, claims, damages or liabilities, joint or several, to which such Underwriter may become subject, under the Act or otherwise, insofar as such losses, claims, damages or liabilities (or actions in respect thereof) arise
out of or are based upon an untrue statement or alleged untrue statement of a material fact contained in any Preliminary Prospectus, the Registration Statement or the Prospectus, or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, and will reimburse each Underwriter for any legal or other expenses reasonably incurred by such Underwriter in connection with investigating or defending any such action or claim as such expenses are incurred; provided, however, that the Company and Prudential shall not be liable in any such case to the extent that any such loss, claim, damage or liability arises out of or is based upon an untrue statement or alleged untrue statement or omission or alleged omission made in any Preliminary Prospectus, the Registration Statement or the Prospectus or any such amendment or supplement in reliance upon and in conformity with written information furnished to the Company by any Underwriter through Goldman, Sachs & Co. expressly for use therein or by the QIU expressly for use therein.
(b) Each Underwriter, severally and not jointly, will indemnify and hold harmless the Company or Prudential, as applicable, against any losses, claims, damages or liabilities to which the Company or Prudential, as applicable, may become subject, under the Act or otherwise, insofar as such losses, claims, damages or liabilities (or actions in respect thereof) arise out of or are based upon an untrue statement or alleged untrue statement of a material fact contained in any Preliminary Prospectus, the Registration Statement or the Prospectus, or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, in each case to the extent, but only to the extent, that such untrue statement or alleged untrue statement or omission or alleged omission was made in any Preliminary Prospectus, the Registration Statement or the Prospectus or any such amendment or supplement in reliance upon and in conformity with written information furnished to the Company by such Underwriter through Goldman, Sachs & Co. expressly for use therein; and will reimburse the Company or Prudential, as applicable for any legal or other expenses reasonably incurred by the Company or Prudential, as applicable, in connection with investigating or defending any such action or claim as such expenses are incurred.
(c) Promptly after receipt by an indemnified party under subsection
(a) or (b) above of notice of the commencement of any action, such
indemnified party shall, if a claim in respect thereof is to be made
against the indemnifying party under such subsection, notify the
indemnifying party in writing of the commencement thereof; but the omission
so to notify the indemnifying party shall not relieve it from any liability
which it may have to any indemnified party otherwise than under such
subsection. In case any such action shall be brought against any
indemnified party and it shall notify the indemnifying party of the
commencement thereof, the indemnifying party shall be entitled to
participate therein and, to the extent that it shall wish, jointly with any
other indemnifying party similarly notified, to assume the defense thereof,
with counsel satisfactory to such indemnified party (who shall not, except
with the consent of the indemnified party, be counsel to the indemnifying
party), and, after notice from the indemnifying party to such indemnified
party of its election so to assume the defense thereof, the indemnifying
party shall not be liable to such indemnified party under such subsection
for any legal expenses of other counsel or any other expenses, in each case
subsequently incurred by such indemnified party, in connection with the
defense thereof
other than reasonable costs of investigation. No indemnifying party shall, without the written consent of the indemnified party, effect the settlement or compromise of, or consent to the entry of any judgment with respect to, any pending or threatened action or claim in respect of which indemnification or contribution may be sought hereunder (whether or not the indemnified party is an actual or potential party to such action or claim) unless such settlement, compromise or judgment (i) includes an unconditional release of the indemnified party (or such other release of the indemnified party as shall be satisfactory to the indemnified party) from all liability arising out of such action or claim and (ii) does not include a statement as to or an admission of fault, culpability or a failure to act, by or on behalf of any indemnified party.
(d) If the indemnification provided for in this Section 9 is unavailable to or insufficient to hold harmless an indemnified party under subsection (a) or (b) above in respect of any losses, claims, damages or liabilities (or actions in respect thereof) referred to therein, then each indemnifying party shall contribute to the amount paid or payable by such indemnified party as a result of such losses, claims, damages or liabilities (or actions in respect thereof) in such proportion as is appropriate to reflect the relative benefits received by the Company and Prudential on the one hand and the Underwriters on the other from the offering of the Shares. If, however, the allocation provided by the immediately preceding sentence is not permitted by applicable law or if the indemnified party failed to give the notice required under subsection (c) above, then each indemnifying party shall contribute to such amount paid or payable by such indemnified party in such proportion as is appropriate to reflect not only such relative benefits but also the relative fault of the Company and Prudential on the one hand and the Underwriters on the other in connection with the statements or omissions which resulted in such losses, claims, damages or liabilities (or actions in respect thereof), as well as any other relevant equitable considerations. The relative benefits received by the Company and Prudential on the one hand and the Underwriters on the other shall be deemed to be in the same proportion as the total net proceeds from the offering of the Shares purchased under this Agreement (before deducting expenses) received by the Company bear to the total underwriting discounts and commissions received by the Underwriters with respect to the Shares purchased under this Agreement, in each case as set forth in the table on the cover page of the Prospectus. The relative fault shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or the omission or alleged omission to state a material fact relates to information supplied by the Company or Prudential on the one hand or the Underwriters on the other and the parties' relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. The Company, Prudential and the Underwriters agree that it would not be just and equitable if contributions pursuant to this subsection (d) were determined by pro rata allocation (even if the Underwriters were treated as one entity for such purpose) or by any other method of allocation which does not take account of the equitable considerations referred to above in this subsection (d). The amount paid or payable by an indemnified party as a result of the losses, claims, damages or liabilities (or actions in respect thereof) referred to above in this subsection (d) shall be deemed to include any legal or other expenses reasonably incurred by such indemnified party in connection with investigating or defending any such action or claim. Notwithstanding the provisions of this subsection (d), no Underwriter shall be required to contribute any amount in excess of the amount by which the total price at which the Shares underwritten by it and distributed to the public were offered to the public exceeds the amount of any damages which such Underwriter has otherwise been required to pay by reason of such untrue or
alleged untrue statement or omission or alleged omission. No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Act) shall be entitled to contribution from any person who was not guilty of such fraudulent misrepresentation. The Underwriters' obligations in this subsection (d) to contribute are several in proportion to their respective underwriting obligations and not joint.
(e) The obligations of the Company and Prudential under this Section 9 shall be in addition to any liability which the Company and Prudential may otherwise have and shall extend, upon the same terms and conditions, to each person, if any, who controls any Underwriter within the meaning of the Act; and the obligations of the Underwriters under this Section 9 shall be in addition to any liability which the respective Underwriters may otherwise have and shall extend, upon the same terms and conditions, to each officer and director of the Company or Prudential (including any person who, with his or her consent, is named in the Registration Statement as about to become a director of the Company) and to each person, if any, who controls the Company or Prudential within the meaning of the Act.
10. (a) The Company and Prudential, jointly and severally, will indemnify and hold harmless the QIU, in its capacity as QIU, against any losses, claims, damages or liabilities, joint or several, to which the QIU may become subject, in such capacity, under the Act or otherwise, insofar as such losses, claims, damages or liabilities (or actions in respect thereof) arise out of or are based upon an untrue statement or alleged untrue statement of a material fact contained in any Preliminary Prospectus, the Registration Statement or the Prospectus, or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, and will reimburse the QIU for any legal or other expenses reasonably incurred by the QIU in connection with investigating or defending any such action or claim as such expenses are incurred.
(b) Promptly after receipt by the QIU indemnified under subsection (a) above of notice of the commencement of any action, such QIU shall, if a claim in respect thereof is to be made against the indemnifying party under such subsection, notify the indemnifying party in writing of the commencement thereof; but the omission so to notify the indemnifying party shall not relieve the indemnifying party from any liability which it may have to the QIU otherwise than under such subsection. In case any such action shall be brought against the QIU and it shall notify the indemnifying party of the commencement thereof, the indemnifying party shall be entitled to participate therein, and, to the extent that it shall wish to assume the defense thereof, with counsel satisfactory to such QIU (who shall not, except with the consent of such QIU, be counsel to the indemnifying party), and, after notice from the indemnifying party to such QIU of its election so to assume the defense thereof, the indemnifying party shall not be liable to such QIU under such subsection for any legal expenses of other counsel or any other expenses, in each case subsequently incurred by such QIU, in connection with the defense thereof other than reasonable costs of investigation. No indemnifying party shall, without the written consent of the QIU being indemnified, effect the settlement or compromise of, or consent to the entry of any judgment with respect to, any pending or threatened action or claim in respect of which indemnification or contribution may be sought under this Section 10 (whether or not such QIU is an actual or potential party to such action or claim) unless such settlement, compromise or judgment (i) includes an unconditional release of such QIU (or such other release of the QIU as shall be
satisfactory to the QIU) from all liability arising out of such action or claim and (ii) does not include a statement as to or an admission of fault, culpability or a failure to act, by or on behalf of such QIU.
(c) If the indemnification provided for in this Section 10 is
unavailable to or insufficient to hold harmless the QIU, in its capacity as
QIU, under subsection (a) above in respect of any losses, claims, damages
or liabilities (or actions in respect thereof) referred to therein, then
the indemnifying party shall contribute to the amount paid or payable by
such QIU as a result of such losses, claims, damages or liabilities (or
actions in respect thereof) in such proportion as is appropriate to reflect
the relative benefits received by the Company or Prudential on the one hand
and the QIU on the other from the offering of the Shares. If, however, the
allocation provided by the immediately preceding sentence is not permitted
by applicable law or if the QIU failed to give the notice required under
subsection (b) above, then each indemnifying party shall contribute to such
amount paid or payable by such QIU in such proportion as is appropriate to
reflect not only such relative benefits but also the relative fault of the
Company and Prudential on the one hand and the QIU on the other in
connection with the statements or omissions which resulted in such losses,
claims, damages or liabilities (or actions in respect thereof), as well as
any other relevant equitable considerations. The relative benefits received
by the Company and Prudential on the one hand and the QIU on the other
shall be deemed to be in the same proportion as the total net proceeds from
the offering of the Shares purchased under this Agreement (before deducting
expenses) received by the Company, as set forth in the table on the cover
page of the Prospectus, bear to the total fee payable to the QIU pursuant
to Section 3 hereof. The relative fault shall be determined by reference
to, among other things, whether the untrue or alleged untrue statement of a
material fact or the omission or alleged omission to state a material fact
relates to information supplied by the Company or Prudential on the one
hand or the QIU on the other and the parties' relative intent, knowledge,
access to information and opportunity to correct or prevent such statement
or omission. The Company, Prudential and the QIU agree that it would not be
just and equitable if contributions pursuant to this subsection (c) were
determined by pro rata allocation or by any other method of allocation
which does not take account of the equitable considerations referred to
above in this subsection (c). The amount paid or payable by a QIU as a
result of the losses, claims, damages or liabilities (or actions in respect
thereof) referred to above in this subsection (c) shall be deemed to
include any legal or other expenses reasonably incurred by such QIU in
connection with investigating or defending any such action or claim. No
person guilty of fraudulent misrepresentation (within the meaning of
Section 11(f) of the Act) shall be entitled to contribution from any person
who was not guilty of such fraudulent misrepresentation.
(d) The obligations of the Company and Prudential under this Section 10 shall be in addition to any liability which the Company and Prudential may otherwise have and shall extend, upon the same terms and conditions, to each person, if any, who controls the QIU within the meaning of the Act.
11. (a) If any Underwriter shall default in its obligation to purchase the Shares which it has agreed to purchase hereunder at a Time of Delivery, you may in your discretion arrange for you or another party or other parties to purchase such Shares on the terms contained herein. If within thirty-six hours after such default by any Underwriter you do not arrange for the purchase of such Shares, then the Company shall be entitled to a further period of thirty-six hours within which to procure another
party or other parties satisfactory to you to purchase such Shares on such terms. In the event that, within the respective prescribed periods, you notify the Company that you have so arranged for the purchase of such Shares, or the Company notifies you that it has so arranged for the purchase of such Shares, you or the Company shall have the right to postpone such Time of Delivery for a period of not more than seven days, in order to effect whatever changes may thereby be made necessary in the Registration Statement or the Prospectus, or in any other documents or arrangements, and the Company agrees to file promptly any amendments to the Registration Statement or the Prospectus which in your opinion may thereby be made necessary. The term "Underwriter" as used in this Agreement shall include any person substituted under this Section with like effect as if such person had originally been a party to this Agreement with respect to such Shares.
(b) If, after giving effect to any arrangements for the purchase of the Shares of a defaulting Underwriter or Underwriters by you and the Company as provided in subsection (a) above, the aggregate number of such Shares which remains unpurchased does not exceed one-eleventh of the aggregate number of all the Shares to be purchased at such Time of Delivery, then the Company shall have the right to require each non-defaulting Underwriter to purchase the number of Shares which such Underwriter agreed to purchase hereunder at such Time of Delivery and, in addition, to require each non-defaulting Underwriter to purchase its pro rata share (based on the number of Shares which such Underwriter agreed to purchase hereunder) of the Shares of such defaulting Underwriter or Underwriters for which such arrangements have not been made; but nothing herein shall relieve a defaulting Underwriter from liability for its default.
(c) If, after giving effect to any arrangements for the purchase of the Shares of a defaulting Underwriter or Underwriters by you and the Company as provided in subsection (a) above, the aggregate number of such Shares which remains unpurchased exceeds one-eleventh of the aggregate number of all the Shares to be purchased at such Time of Delivery, or if the Company shall not exercise the right described in subsection (b) above to require non-defaulting Underwriters to purchase Shares of a defaulting Underwriter or Underwriters, then this Agreement (or, with respect to the Second Time of Delivery, the obligations of the Underwriters to purchase and of the Company to sell the Optional Shares) shall thereupon terminate, without liability on the part of any non-defaulting Underwriter, the QIU, the Company or Prudential, except for the expenses to be borne by the Company and Prudential, on the one hand, and the Underwriters, on the other, as provided in Sections 3 and 7 hereof and the indemnity and contribution agreements in Sections 9 and 10 hereof; but nothing herein shall relieve a defaulting Underwriter from liability for its default.
12. The respective indemnities, agreements, representations, warranties and other statements of the Company, Prudential, the several Underwriters and the QIU, as set forth in this Agreement or made by or on behalf of them, respectively, pursuant to this Agreement, shall remain in full force and effect, regardless of any investigation (or any statement as to the results thereof) made by or on behalf of any Underwriter, the QIU or any controlling person of any Underwriter or the QIU, or the Company or Prudential, or any officer or director or controlling person of the Company or Prudential, and shall survive delivery of and payment for the Shares.
13. If this Agreement shall be terminated pursuant to Section 11 hereof, neither the Company nor Prudential shall then be under any liability to any Underwriter or the QIU except as provided in Sections 3, 7, 9 and 10 hereof; but, if for any other reason, any Shares are not delivered by or on behalf of the Company as provided herein, the Company and Prudential, jointly and severally, will reimburse the Underwriters through you for all out-of-pocket expenses approved in writing by you, including fees and disbursements of counsel, reasonably incurred by the Underwriters in making preparations for the purchase, sale and delivery of the Shares not so delivered, but neither the Company nor Prudential shall then be under any further liability to any Underwriter or the QIU in respect of the Shares not so delivered except as provided in Sections 3, 7, 9 and 10 hereof.
14. In all dealings hereunder, you shall act on behalf of each of the Underwriters, and the parties hereto shall be entitled to act and rely upon any statement, request, notice or agreement on behalf of any Underwriter made or given by you jointly or by Goldman, Sachs & Co. on behalf of you as the representatives.
All statements, requests, notices and agreements hereunder shall be in writing, and if to the Underwriters shall be delivered or sent by mail, telex or facsimile transmission to you as the representatives in care of Goldman, Sachs & Co., 32 Old Slip, 21st Floor, New York, New York 10005, Attention: Registration Department; if to the QIU shall be delivered or sent by mail, telex, or facsimile transmission to Goldman, Sachs & Co., 32 Old Slip, 21st Floor, New York, New York 10005, Attention: Registration Department; and if to the Company or Prudential shall be delivered or sent by mail, telex or facsimile transmission to the address of the Company set forth in the Registration Statement, Attention: Secretary; provided, however, that any notice to an Underwriter pursuant to Section 9(c) hereof shall be delivered or sent by mail, telex or facsimile transmission to such Underwriter at its address set forth in its Underwriters' Questionnaire, or telex constituting such Questionnaire, which address will be supplied to the Company by you upon request. Any such statements, requests, notices or agreements shall take effect at the time of receipt thereof.
15. This Agreement shall be binding upon, and inure solely to the benefit of, the Underwriters, the QIU, the Company, Prudential and, to the extent provided in Sections 9, 10 and 12 hereof, the officers and directors of the Company and Prudential and each person who controls the Company, Prudential, the QIU or any Underwriter, and their respective heirs, executors, administrators, successors and assigns, and no other person shall acquire or have any right under or by virtue of this Agreement. No purchaser of any of the Shares from any Underwriter shall be deemed a successor or assign by reason merely of such purchase.
16. Time shall be of the essence of this Agreement. As used herein, the term "business day" shall mean any day when the Commission's office in Washington, D.C. is open for business.
17. This Agreement shall be governed by and construed in accordance with the laws of the State of New York.
18. This Agreement may be executed by any one or more of the parties hereto in any number of counterparts, each of which shall be deemed to be an original, but all such counterparts shall together constitute one and the same instrument.
If the foregoing is in accordance with your understanding, please sign and return to us twenty counterparts hereof, and upon the acceptance hereof by you, on behalf of each of the Underwriters, this letter and such acceptance hereof shall constitute a binding agreement among each of the Underwriters, the QIU, the Company and Prudential. It is understood that your acceptance of this letter on behalf of each of the Underwriters is pursuant to the authority set forth in a form of Agreement among Underwriters (U.S. Version), the form of which shall be submitted to the Company for examination upon request, but without warranty on your part as to the authority of the signers thereof.
Very truly yours,
Prudential Financial, Inc.
By:........................................
Name:
Title:
The Prudential Insurance Company of America
By:........................................
Name:
Title:
Accepted as of the date hereof:
Goldman, Sachs & Co.
Prudential Securities Incorporated
Banc of America Securities LLC
Bear, Stearns & Co. Inc.
Blaylock & Partners, L.P.
Credit Suisse First Boston Corporation
Deutsche Banc Alex. Brown Inc.
First Union Securities, Inc.
Lehman Brothers Inc.
Merrill Lynch, Pierce, Fenner & Smith Incorporated
Ramirez & Co., Inc.
Salomon Smith Barney Inc.
Morgan Stanley & Co. Incorporated
UBS Warburg LLC
The Williams Capital Group, L.P.
By:..........................................................
(Goldman, Sachs & Co.)
On behalf of each of the Underwriters
.............................................................
(Goldman, Sachs & Co.)
In its capacity as Qualified Independent
Underwriter
SCHEDULE I
Number of Optional
Shares to be
Total Number of Purchased if
Firm Shares Maximum Option
Underwriter to be Purchased Exercised
----------- --------------- ------------------
Goldman, Sachs & Co. .....................................
Prudential Securities Incorporated........................
Banc of America Securities LLC............................
Bear, Stearns & Co. Inc. .................................
Blaylock & Partners, L.P. ................................
Credit Suisse First Boston Corporation....................
Deutsche Banc Alex. Brown Inc. ...........................
First Union Securities, Inc. .............................
Lehman Brothers Inc. .....................................
Merrill Lynch, Pierce, Fenner & Smith Incorporated........
Ramirez & Co., Inc. ......................................
Salomon Smith Barney Inc. ................................
Morgan Stanley & Co. Incorporated.........................
UBS Warburg LLC...........................................
The Williams Capital Group, L.P. .........................
---------------- ---------------
Total................................... ================ ===============
|
ANNEX I
FORM OF ANNEX I DESCRIPTION OF COMFORT LETTER
FOR REGISTRATION STATEMENTS ON FORM S-1
Pursuant to Section 8(h) of the Underwriting Agreement, PricewaterhouseCoopers LLP shall furnish letters to the Underwriters to the effect that:
(i) They are independent certified public accountants with respect to each of Prudential and its subsidiaries and the Company and its subsidiaries within the meaning of the Act and the applicable published rules and regulations thereunder;
(ii) In their opinion, the financial statements and any financial statement schedules examined by them and included in the Prospectus or the Registration Statement comply as to form in all material respects with the applicable accounting requirements of the Act and the related rules, regulations and interpretations thereunder;
(iii) They have compared the information in the Prospectus under selected captions with the disclosure requirements of Regulation S-K and on the basis of limited procedures specified in such letter nothing came to their attention as a result of the foregoing procedures that caused them to believe that this information does not conform in all material respects with the disclosure requirements of Items 301 and 402, respectively, of Regulation S-K;
(iv) On the basis of limited procedures, not constituting an examination in accordance with generally accepted auditing standards, consisting of a reading of the unaudited financial statements and other information referred to below, a reading of the latest available interim financial statements of Prudential and its subsidiaries, inspection of the minute books of Prudential and its subsidiaries since the date of the latest audited financial statements included in the Prospectus, inquiries of officials of Prudential and its subsidiaries responsible for financial and accounting matters and such other inquiries and procedures as may be specified in such letter, nothing came to their attention that caused them to believe that:
(A) (i) the unaudited condensed consolidated statements of income, consolidated balance sheets and consolidated statements of cash flows included in the Prospectus do not comply as to form in all material respects with the applicable accounting requirements of the Act and the related rules, regulations and interpretations, or (ii) any material modifications should be made to the unaudited condensed consolidated statements of income, consolidated balance sheets and consolidated statements of cash flows included in the Prospectus for them to be in conformity with generally accepted accounting principles;
(B) if applicable, any other unaudited income statement data and balance sheet items included in the Prospectus do not agree with the corresponding items in the unaudited consolidated financial statements from which such data and items were derived, and any such unaudited data and items were not determined on a basis substantially consistent with the basis for the corresponding amounts in the audited consolidated financial statements included in the Prospectus;
(C) the unaudited financial statements which were not included in the Prospectus but from which were derived any unaudited condensed financial statements referred to in clause (A) and any unaudited income statement data and balance sheet items included in the Prospectus and referred to in clause (B) were not determined on a basis substantially consistent with the basis for the audited consolidated financial statements included in the Prospectus;
(D) the unaudited pro forma condensed consolidated financial statements included in the Prospectus do not comply as to form in all material respects with the applicable accounting requirements of the Act and the rules, regulations and interpretations thereunder or the pro forma adjustments have not been properly applied to the historical amounts in the compilation of those statements;
(E) as of the latest date for which consolidated financial data of Prudential and its subsidiaries are available, there has been any increase in the consolidated long-term debt or short-term debt of, or liability for future policy benefits of, the Company, Prudential and their subsidiaries, or interest maintenance, investment or asset valuation reserves, or any decrease in consolidated total surplus, net assets, investments in subsidiaries or common stock of subsidiaries, or any change in consolidated capital stock or other items specified by the Representatives and agreed to by PricewaterhouseCoopers LLP, or any increases or decreases in any items specified by the Representatives, in each case as compared with amounts shown in the latest balance sheet included in the Prospectus, except in each case for changes, increases or decreases which the Prospectus discloses have occurred or may occur or which are described in such letter;
(F) for the period from the date of the latest financial statements included in the Prospectus to the specified date referred to in clause (E) there were any decreases in consolidated total premiums, policy charges and fee income, net investment income or commissions and other income, consolidated income from continuing operations before income taxes, consolidated adjusted operating income, consolidated net income or other items specified by the Representatives, or any increases in consolidated policyholders' benefits or surrenders and withdrawals paid or other items specified by the Representatives, in each case as compared with the comparable period of the preceding year and with any other period of corresponding length specified by the Representatives, except in each case for decreases or increases which the Prospectus discloses have occurred or may occur or which are described in such letter;
(G) as of a specified date not more than five business days prior to the date of such letter, there has been any increase in the consolidated long-term or short-term debt or any decrease in total assets or equity of the Company, Prudential and their subsidiaries, or other items specified by the Representatives and agreed to by PricewaterhouseCoopers LLP, or any increases or decreases in any items specified by the Representatives, in each case as compared with amounts shown in the latest balance sheet included in the Prospectus, except in each case for changes, increases or decreases which the Prospectus discloses have occurred or may occur or which are described in such letter; and
(H) for the period from the latest date for which consolidated financial data of Prudential and its subsidiaries are available to the specified date referred to in clause (G) there were any decreases in consolidated income from continuing operations or net income or other items specified by the Representatives and agreed to by PricewaterhouseCoopers LLP, in each case as compared with the comparable period of the preceding year and with any other period of corresponding length specified by the Representatives, except in each case for decreases or increases which the Prospectus discloses have occurred or may occur or which are described in such letter; and
(v) In addition to the examination referred to in their report(s) included in the Prospectus and the limited procedures, inspection of minute books, inquiries and other procedures referred to above, they have carried out certain specified procedures, not constituting an examination in accordance with generally accepted auditing standards, with respect to certain amounts, percentages and financial information specified by the Representatives, which are derived from the general accounting records of Prudential and its subsidiaries, which appear in the Prospectus, or in Part II of, or in exhibits and schedules to, the Registration Statement specified by the Representatives, and have compared certain of such amounts, percentages and financial information with the accounting records of Prudential and its subsidiaries and have found them to be in agreement.
ANNEX II(a)
[insert form of opinion and letter of Cleary, Gottlieb, Steen & Hamilton]
II-1
ANNEX II(b)
[insert form of opinion of Sullivan & Cromwell]
II-2
ANNEX II(c)
[insert form of opinion of John M. Liftin]
II-3
ANNEX II(d)
[insert form of opinion of McCarter & English]
II-4
ANNEX II(e)
[insert form of opinion of LeBoeuf, Lamb, Greene & MacRae]
II-5
ANNEX II(f)
[insert form of opinion of McDermott, Will & Emery]
II-6
Exhibit 3.1
AMENDED AND RESTATED
CERTIFICATE OF INCORPORATION
OF
PRUDENTIAL FINANCIAL, INC.
as shall be stated and expressed in the resolution or resolutions adopted by the
Board of Directors providing for the issuance of such class or series and as may
be permitted by the BCA, including, without limitation, the authority to provide
that any such class or series may be (i) subject to redemption or purchase at
such time or times and at such price or prices; (ii) entitled to receive
dividends (which may be cumulative or non-cumulative) at such rates, on such
conditions, and at such times, and payable in preference to, or in such relation
to, the dividends payable on any other class or classes or any other series;
(iii) entitled to such rights upon the liquidation of, or upon any distribution
of the assets of, the Corporation; (iv) entitled to the benefit of a sinking or
retirement fund to be applied to the purchase or redemption of shares of the
class or series and, if so entitled, the amount of such fund and the manner of
its application, including the price or prices at which the shares may be
redeemed or purchased through the application of such fund; (v) subject to terms
dependent upon facts ascertainable outside the resolution or resolutions
providing for the issuance of such class or series adopted by the Board of
Directors, provided that the manner in which such facts shall operate upon the
voting powers, designations, preferences, rights and qualifications, limitations
or restrictions of such class or series is clearly and expressly set forth in
the resolution(s) providing for the issuance of such class or series by the
Board of Directors; or (vi) convertible into, or exchangeable for, shares of any
other class or classes of stock, or of any other series of the same or any other
class or classes of stock, of the Corporation at such price or prices or at such
rates of exchange and with such adjustments; all as may be stated in such
resolution or resolutions; provided, however, unless holders of a majority of
the outstanding shares of Class B Stock approve, the Board of Directors shall
not have the authority to issue any shares of Preferred Stock that are
convertible into or exchangeable for shares of Class B Stock or that have
dividend, liquidation or other preferences with respect to the Class B Stock but
not the Common Stock or disproportionately with respect to the Class B Stock as
compared to the Common Stock. The Board of Directors shall have the authority to
change the designation or number of shares, or the relative rights, preferences
and limitations of the shares, of any theretofore established class or series no
shares of which have been issued.
1. Reclassification; Definitions.
When the filing of this Amended and Restated Certificate of Incorporation becomes effective, each share of "Common Stock" outstanding immediately prior thereto shall thereupon automatically be reclassified as one share of Common Stock (and outstanding certificates that had theretofore
represented shares of "Common Stock" shall thereupon represent an equivalent number of shares of Common Stock despite the absence of any indication thereon to that effect). Capitalized terms used below in this Section (b) of Article FOURTH have the meanings set forth adjacent to such terms or in Sections (b)6 and (b)8 below.
2. Dividends.
(i) Dividends. Subject to all of the rights of the Preferred Stock as
expressly provided herein, by law or by the Board of Directors pursuant to
this Article FOURTH, the holders of the Common Stock shall be entitled to
receive dividends on their shares of Common Stock if, as and when declared
by the Board of Directors with respect to such class out of legally
available funds for the payment of dividends under the BCA, provided the
aggregate amounts declared as dividends on Common Stock on any day may not
exceed the Available Dividend Amount for the Financial Services Businesses
on that day. Subject to all of the rights of the Preferred Stock as
expressly provided herein, by law or by the Board of Directors pursuant to
this Article FOURTH, the holders of the Class B Stock shall be entitled to
receive dividends on their shares of Class B Stock if, as and when declared
by the Board of Directors with respect to such class out of legally
available funds for the payment of dividends under the BCA that, in
aggregate amount per annum, are at least equal to the lesser of (a) the
product of (x) the number of outstanding shares of Class B Stock on the
applicable record date and (y) subject to any adjustment required by
Section (b)8 or (b)9(i) of this Article FOURTH, $9.625 per share per annum
(the "Target Dividend Amount") or (b) the amount of the CB Distributable
Cash Flow, in each case of (a) or (b), for the period as to which the
dividend is declared or payable, provided, in any event, the aggregate
amount declared as dividends on Class B Stock on any day may not exceed the
Available Dividend Amount for the Closed Block Business on that day. For
the avoidance of doubt notwithstanding the foregoing formulation, the Board
of Directors is not required to declare or pay dividends on the Class B
Stock in circumstances where dividends could be paid pursuant to the
foregoing sentence and the right of holders of Class B Stock to dividends
is non-cumulative; provided, however, that in the event dividends are not
declared and paid on the Class B Stock with respect to an annual or
quarterly period in the amount of at least the lower of the CB
Distributable Cash Flow or the Target Dividend Amount, cash dividends shall
not be declared and paid, or set apart for payment, on the Common Stock
with respect to such annual or quarterly period.
(ii) Discrimination Between or Among Classes of common stock. Subject to Section (b)2(i) of this Article FOURTH and subject to
all of the rights of the Preferred Stock as expressly provided herein, by law or by the Board of Directors pursuant to this Article FOURTH, the Corporation shall have the authority to declare and pay dividends on both, one or neither class of common stock in equal or unequal amounts, notwithstanding the performance of either Business, the amount of assets available for dividends on either class of common stock, the amount of prior dividends paid on either class of common stock or any other factor, without any prior claim of the shareholders of either class to such declaration or payment.
3. Exchange of Class B Stock.
(i) Exchange of Class B Stock for Common Stock.
(a) The Corporation may, at any time (including, without limitation, in anticipation of a merger, consolidation or other business combination of the Corporation with another corporation or person or other transaction referred to in Section (b)8 of this Article FOURTH), issue, in exchange for all of the outstanding shares of Class B Stock, a number of shares of Common Stock (rounded, if necessary, to the next greatest whole number of shares) having an aggregate value equal to 120% of the aggregate Fair Market Value of the outstanding shares of Class B Stock.
(b) In the event (1) a Disposition of the Closed Block Business (other than an Exempt Disposition) has occurred, or (2) a Change of Control of the Corporation has occurred, the Corporation shall issue, in exchange for all of the outstanding shares of Class B Stock, a number of shares of Common Stock (rounded up, if necessary, to the next greatest whole number) having an aggregate value equal to 120% of the aggregate Fair Market Value of the Class B Stock.
(c) In the event a Cash/Private Transaction has occurred (whether or not it constitutes a Change of Control of the Corporation), the Corporation shall exchange all the outstanding shares of Class B Stock in accordance with Section (b)8(iii) of this Article FOURTH.
(ii) General Exchange Provisions.
(a) If the Corporation has determined to, or is required to, complete an exchange described in Section (b)3(i) of this Article FOURTH:
(1) the Corporation shall issue a public announcement by press
release of its intention or requirement to effect such exchange;
with respect to exchanges pursuant to Sections (b)3(i)(b) and
(b)3(i)(c) of this Article FOURTH, such announcement shall be
made (regardless of any prior announcement relating to the
Disposition, Change of Control or Cash/Private Transaction) no
later than the date of occurrence of the Disposition, Change of
Control or Cash/Private Transaction, respectively;
(2) the Corporation shall send a notice to the holders of Class B
Stock as soon as practicable after the foregoing public
announcement, indicating the Corporation's determination to
effect such exchange and specifying the Board of Directors'
proposed appraiser to determine the Fair Market Value of the
Class B Stock in accordance with Section (b)4(iii) of this
Article FOURTH, and such proposed appraiser (or a second or third
proposed appraiser) shall be chosen pursuant to said Section
(b)4(iii) of this Article FOURTH;
(3) with respect to:
(i) Section (b)3(i)(a) of this Article FOURTH, the Fair Market Value of the Class B Stock shall be determined as of the completion date of the appraisal of the Fair Market Value of the Class B Stock, and the value of the Common Stock shall be the average Market Value of the Common Stock during the 20 consecutive Trading Day period ending on the 5th Trading Day prior to the exchange date;
(ii) Section (b)3(i)(b)(1) of this Article FOURTH, the Fair Market Value of the Class B Stock shall be determined as of the Business Day immediately preceding the date of the consummation of such Disposition, and the value of the Common Stock shall be the average Market Value of the Common Stock during the 20
consecutive Trading Day period ending on the 5th Trading Day prior to the exchange date;
(iii) Section (b)3(i)(b)(2) of this Article FOURTH, the Fair Market Value of the Class B Stock shall be determined as of the date of occurrence of the Change of Control, and the value of the Common Stock shall be the average Market Value of the Common Stock during the 20 consecutive Trading Day period ending on the 5th Trading Day prior to the exchange date; and
(iv) Section (b)3(i)(c) of this Article FOURTH, the Fair Market Value of the Class B Stock shall be determined as of the date a majority of the outstanding shares of Common Stock are converted, exchanged or purchased in a Cash/Private Transaction, and the value of the Common Stock for purposes of determining the number of shares of Common Stock to be exchanged for cash and/or securities obtainable upon exchange of the Class B Stock shall be the average Market Value of the Common Stock during the 20 consecutive Trading Day period ending on the 5th Trading Day prior to the date a majority of the outstanding shares of Common Stock are so converted, exchanged or purchased;
(4) the exchange date shall be no later than 10 Business Days after the completion date of the appraisal of the Fair Market Value of the Class B Stock;
(5) upon determination of the identity of the appraiser pursuant to
Section (b)4(iii) of this Article FOURTH, the Corporation shall
issue a second public announcement by press release specifying
the intended exchange date and intended period for determination
of the average Market Value of the Common Stock;
(6) upon completion of the appraisal of the Fair Market Value of the Class B Stock and determination of the Market Value of the Common Stock, the Corporation shall issue a second notice to the holders of the Class B Stock, which will contain: (x) the date of exchange, (y) the number of shares of Common Stock
to be issued in exchange for each outstanding share of Class B Stock (accompanied by a statement setting forth the calculation thereof), and (z) the place or places where certificates for such shares of Class B Stock, properly endorsed or assigned for transfer (unless the Corporation waives such requirement), should be surrendered for delivery of the Common Stock to be issued or delivered by the Corporation in such exchange;
(7) the exchange shall be completed within 90 days of the public announcement referred to in clause (1) above; and
(8) notwithstanding that a Cash/Private Transaction pursuant to
Section (b)8(iii) of this Article FOURTH is also a Change of
Control, it shall be treated as a Cash/Private Transaction
pursuant to the foregoing.
(b) Neither the failure to mail any notice required by this
Section (b)3(ii) of Article FOURTH to any particular holder of Class B
Stock nor any defect therein would affect the sufficiency thereof with
respect to any other holder of Class B Stock or the validity of any
exchange contemplated hereby.
(c) No holder of shares of Class B Stock being exchanged shall be entitled to receive any shares of Common Stock in such exchange until such holder surrenders certificates for its shares of Class B Stock, properly endorsed or assigned for transfer, at such place as the Corporation shall specify (unless the Corporation waives such requirement). As soon as practicable after the Corporation's receipt of certificates for such shares of Class B Stock, the Corporation shall deliver to the person for whose account such shares were so surrendered, or to the nominee or nominees of such person, any shares of Common Stock issued to such holder in the exchange.
(d) From and after the date of any exchange of Class B Stock for Common Stock completed pursuant to Section (b)3(i) of this Article FOURTH, all rights of a holder of shares of Class B Stock being exchanged shall cease except for the right, upon surrender of the certificates theretofore representing such shares, to receive any shares of Common Stock (and, if such holder was a holder of record as of the close of business on the record date for a dividend not yet paid, the right to receive such dividend). A holder of shares of Class B Stock being exchanged shall not be entitled to receive any dividend or other distribution with respect to shares of
Common Stock until after certificates theretofore representing the shares being exchanged are surrendered as contemplated above. Upon such surrender, the Corporation shall pay to the holder the amount of any dividends or other distributions (without interest) which theretofore became payable with respect to a record date occurring after the exchange, but which were not paid by reason of the foregoing, with respect to the number of whole shares of Common Stock represented by the certificate or certificates issued upon such surrender. From and after the date set for any exchange, the Corporation shall, however, be entitled to treat the certificates for shares of Class B Stock being exchanged that were not yet surrendered for exchange as evidencing the ownership of the number of whole shares of Common Stock for which the shares of such Class B Stock should have been exchanged, notwithstanding the failure to surrender such certificates.
(e) The Corporation may, subject to applicable law, establish such other rules, requirements and procedures to facilitate any exchange contemplated by Section (b)3(ii) of this Article FOURTH (including longer time periods and alternative procedures for determining the Fair Market Value of the Class B Stock or the Market Value of Common Stock) as the Board of Directors may determine to be appropriate under the circumstances.
(f) The issuance of certificates for shares of Common Stock upon exchange of the Class B Stock shall be made without charge to the holders thereof for any issuance tax in respect thereof, provided that the Corporation shall not be required to pay any tax which may be payable in respect of any transfer involved in the issuance and delivery of any certificate in a name other than that of the holder of the Class B Stock which is being exchanged.
(g) The Corporation shall take all action required to have available sufficient authorized shares of Common Stock to permit exchange of all outstanding shares of Class B Stock.
(h) Notwithstanding the time requirement of Section
(b)3(ii)(a)(7), no exchange will be completed prior to the expiration
of all required waiting periods under applicable law, the receipt of
all required regulatory approvals and the making of all notifications
to governmental entities required for such exchange. Prior to any
exchange, the Corporation and the holder(s) of shares of Class B Stock
involved in the exchange shall make reasonable efforts to cause the
expiration of all required waiting periods and to
obtain all regulatory approvals and make all notifications required to be obtained or made by the Corporation and such holder(s), respectively, for purposes of such exchange. The waiting periods, approvals and notifications that are subject to this clause (h) shall be limited to those required solely for such exchange.
4. Voting Rights.
(i) At every meeting of shareholders, the holders of Common Stock
and the holders of Class B Stock shall vote together as a single class on
all matters as to which common shareholders generally are entitled to vote,
unless a separate vote is required by applicable law or as specified in
Section (b)4(ii) of this Article FOURTH. On all such matters for which no
separate vote is required, holders of Common Stock and holders of Class B
Stock shall be entitled to, subject to any adjustment required by Section
(b)8 of this Article FOURTH, one vote per share of common stock held.
(ii) Notwithstanding Section (b)4(i) of this Article FOURTH, the Class B Stock shall be entitled to vote as a class with respect to: (x) any proposal by the Board of Directors of the Corporation to issue (1) shares of Class B Stock in excess of an aggregate of 2 million outstanding shares (other than issuances pursuant to a stock split or stock dividend paid ratably to all holders of Class B Stock), (2) any shares of Preferred Stock which are exchangeable for or convertible into Class B Stock, or (3) any debt securities, rights, warrants or other securities which are convertible into, exchangeable for or provide a right to acquire shares of Class B Stock; or (y) the approval of the actuarial or other competent firm for purposes of determining "Fair Market Value" as defined in Section (b)6 of this Article FOURTH.
(iii) With respect to the approval of the actuarial or other competent firm selected by the Board of Directors for purposes of determining "Fair Market Value" as defined in Section (b)6 of this Article FOURTH, the following procedures shall apply: (1) the Board of Directors shall provide written notice of its designee to holders of Class B Stock whose shares are to be exchanged or converted pursuant to Section (b)3, (b)8(iii) or (b)9 of this Article FOURTH, requesting approval at a meeting or by written consent on a date not less than 10 nor more than 15 days following the date of such notice; (2) in the event such holders of shares of Class B Stock disapprove such first designee, the Board of Directors shall select and provide written notice of a second designee and, if necessary, a third designee in such manner; (3) in the event such holders of the Class B Stock disapprove each of the first, second and third designee, the Board of Directors may elect to proceed to complete the
exchange or conversion for which such determination of "Fair Market Value" is required using the third designee for such purpose irrespective of disapproval by such holders of the Class B Stock. Following completion of such conversion or exchange on the basis of the third designee's determination of "Fair Market Value", the amount of the "Fair Market Value" shall, at the request of holders of a majority of the Class B Common Stock being exchanged or converted, be subject to arbitration under the rules and auspices of the American Arbitration Association, with any upward or downward adjustment to the determined "Fair Market Value" to be settled by cash payment.
(iv) For purposes of any class vote of the Class B Stock (including any required by law), approval of holders of a majority of the outstanding shares of Class B Stock shall be required; provided, however, Section (b)7 of Article FOURTH shall not be amended without the consent of holders of 80% of the outstanding shares of Class B Stock.
5. Liquidation Rights.
In the event of any voluntary or involuntary liquidation, dissolution or winding-up of the Corporation, holders of Common Stock and holders of Class B Stock shall be entitled to receive in respect of shares of Common Stock and shares of Class B Stock their proportionate interests in the net assets of the Corporation, if any, remaining for distribution to shareholders after payment of or provision for all liabilities, including contingent liabilities, of the Corporation and payment of the liquidation preference payable to any holders of the Corporation's Preferred Stock, if any such Preferred Stock are outstanding. Each share of each class of common stock will be entitled to a share of net liquidation proceeds in proportion to the respective liquidation units assigned to such share as provided in the following sentence. Each share of Common Stock shall have one liquidation unit and each share of Class B Stock shall have a number of liquidation units (including a fraction of one liquidation unit) equal to the quotient (rounded to the nearest five decimal places) of (i) the issuance price per share of the Class B Stock divided by (ii) the average Market Value of one share of Common Stock during the 20 consecutive Trading Day period ending on (and including) the Trading Day immediately preceding the 60th day after the Effective Date. Neither the merger nor consolidation of the Corporation with any other entity, nor a sale, transfer or lease of all or any part of the assets of the Corporation, would, alone, be deemed a liquidation, dissolution or winding-up for purposes of this Section (b)5 of Article FOURTH.
6. Additional Definitions.
As used in this Article FOURTH, the following terms shall have the following meanings (with terms defined in singular having comparable
meaning when used in the plural and vice versa), unless the context otherwise requires:
"Available Dividend Amount for the Financial Services Businesses", on any day on which dividends are declared on shares of Common Stock, is the amount determined under generally accepted accounting principles, consistently applied, or any greater amount determined in a manner permitted under the BCA, that would, immediately prior to the payment of such dividends, be legally available for the payment of dividends on shares of Common Stock in respect of the Financial Services Businesses under the BCA if the Financial Services Businesses and the Closed Block Business were each a separate New Jersey corporation organized under the BCA.
"Available Dividend Amount for the Closed Block Business", on any day on which dividends are declared on shares of Class B Stock, is the amount determined under generally accepted accounting principles, consistently applied, or any greater amount determined in a manner permitted under the BCA, that would, immediately prior to the payment of such dividends, be legally available for the payment of dividends on shares of Class B Stock in respect of the Closed Block Business under the BCA if the Financial Services Businesses and Closed Block Business were each a separate New Jersey corporation organized under the BCA.
"Business" means the Financial Services Businesses or the Closed Block Business.
"Business Day" means each Monday, Tuesday, Wednesday, Thursday and Friday that is not a day on which banking institutions in The City of New York generally are authorized or obligated by law or executive order to close.
"CB Distributable Cash Flow" means for any quarterly or annual period, the sum (measured as of the last day of the applicable period) of (i) to the extent that Prudential Insurance is able to distribute as a dividend such amount to Prudential Holdings under New Jersey law (for the avoidance of doubt, including the BCA and the New Jersey Life and Health Insurance Code) but without giving effect, directly or indirectly, to the "earned surplus" requirement of Section 17:27A-4c.(3) (or any successor provision thereto), the excess of (a) the Surplus and Related Assets of Prudential Insurance applicable to the Closed Block Business over (b) the "Required Surplus" of Prudential Insurance applicable to
the Closed Block Business and (ii) if a positive amount, the excess of
(c) the amount held in the Debt Service Coverage Account - Subaccount
for Closed Block Business established pursuant to the terms of the IHC
Debt Securities over (d) the aggregate amount of remaining payments of
principal and interest required to repay the IHC Debt Securities
pursuant to their terms (without any prepayment prior to maturity).
For purposes of the foregoing, "Required Surplus" means the amount of
surplus applicable to the Closed Block Business within Prudential
Insurance that would be required to maintain the quotient (expressed
as percentage) of (e) the "Total Adjusted Capital" applicable to the
Closed Block Business within Prudential Insurance (including any
applicable dividend reserves) divided by (f) the "Company Action Level
RBC" applicable to the Closed Block Business within Prudential
Insurance, equal to 100%, where "Total Adjusted Capital" and "Company
Action Level RBC" are as defined in the regulations promulgated under
the New Jersey Dynamic Capital and Surplus Act of 1993 as such are in
effect on the Effective Date and without taking in to account any
subsequent amendments to such act and regulations.
"Change of Control" means the occurrence of any of the following events (except as expressly provided in clause (ii), whether or not approved by the Board of Directors):
(i) (a) any Person (for purpose of this definition of "Change of Control", as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934, including any group acting for the purpose of acquiring, holding or disposing of securities within the meaning of Rule 13d-5(b)(1) under the Securities Exchange Act of 1934, but excluding the Corporation, any subsidiary of the Corporation, any employee benefit plan or employee stock plan of the Corporation or any subsidiary or any person organized, appointed, established or holding capital stock of the Corporation or a subsidiary pursuant to such a plan, or any person organized by or on behalf of the Corporation to effect a reorganization or recapitalization of the Corporation that does not contemplate a change in the ultimate beneficial ownership of 50% or more of the voting power of the then outstanding equity interests of the Corporation) is or becomes the "beneficial owner" (as defined in Rules 13d-3 and 13d-5 under the Securities Exchange Act of 1934), directly or indirectly, of more than 50% of the total voting power of the then outstanding equity interests of the Corporation; or
(b) the Corporation merges with, or consolidates with, another Person or the Corporation sells, assigns, conveys, transfers, leases or otherwise disposes of all or substantially all of the assets of the Corporation to any Person;
other than, in the case of either clause (i)(a) or (i)(b), any such transaction where immediately after such transaction the Person or Persons that "beneficially owned" (as defined in Rules 13d-3 and 13d-5 under the Securities Exchange Act of 1934) immediately prior to such transaction, directly or indirectly, the then outstanding voting equity interests of the Corporation "beneficially own" (as so determined), directly or indirectly, more than 50% of the total voting power of the then outstanding equity interests of the surviving or transferee Person; or
(ii) During any year or any period of two consecutive years, individuals who at the beginning of such period constituted the Board of Directors (together with any new directors whose election by such Board of Directors or whose nomination for election by the shareholders of the Corporation was approved by a vote of a majority of the directors of the Corporation then still in office who were either directors at the beginning of such period or whose election or nomination for election was previously so approved) cease for any reason, other than pursuant to a proposal or request that the Board of Directors be changed as to which the holder of the Class B Stock seeking the conversion has participated or assisted or is participating or assisting, to constitute a majority of the Board of Directors then in office; provided, however, for purposes of the foregoing determination, an individual who retires from the Board of Directors and whose resignation is approved by the individuals who at the beginning of such period constituted the Board of Directors (together with any directors referred to in the preceding parenthetical phrase) shall not be considered an individual who was a member of the Board of Directors at the beginning of such period or who ceased to be a director during such period if the number of directors is reduced following such resignation.
"Closed Block Business" means (a) the Regulatory Closed Block established pursuant to Article IX of the Plan of Reorganization, together with such Surplus and Related Assets and indebtedness and other liabilities of the Corporation and its subsidiaries, and
together with corresponding adjustments in accordance with generally accepted accounting principles, that the Board of Directors has, as of the Effective Date, allocated to the Closed Block Business, (b) any assets or liabilities acquired or incurred by the Corporation or any of its subsidiaries after the Effective Date in the ordinary course of business and attributable to the Closed Block Business, (c) any assets or liabilities allocated to the Closed Block Business in accordance with policies established from time to time by the Board of Directors, and (d) the rights and obligations of the Closed Block Business under any inter-Business debt or other transaction deemed to be owed to or by the Closed Block Business (as such rights and obligations are defined in accordance with policies established from time to time by the Board of Directors); provided, however, that the Corporation or any of its subsidiaries may re-allocate assets from one Business to the other Business in return for other assets or services rendered by that other Business in accordance with policies established by the Board of Directors from time to time. The Closed Block Business excludes any expenses and liabilities from litigation affecting Closed Block policies, which expenses and liabilities shall be part of, and borne by, the Financial Services Businesses. In the event that interest expense on the IHC Debt Securities is not deductible for federal income tax purposes, the additional tax expense will be borne by the Financial Services Businesses and shall be excluded from the Closed Block Business.
"Disposition" means a sale, transfer, assignment, reinsurance transaction or other disposition (whether by merger, consolidation, sale or otherwise) of all or substantially all of the Closed Block Business to one or more persons or entities, in one transaction or a series of related transactions, other than an Exempt Disposition. A "Disposition" of the Closed Block Business shall not include a sale, transfer, assignment, reinsurance transaction or other disposition (whether by merger, consolidation, sale or otherwise) which results in the reduction of no more than 50% of the Surplus and Related Assets held outside the Regulatory Closed Block immediately prior to such transaction, provided the proceeds of such transaction are for the benefit of the Closed Block Business.
"Effective Date" means the date as of which this Amended and Restated Certificate of Incorporation becomes effective under New Jersey law, which shall be the same date as the "Effective Date" as defined under the Plan of Reorganization.
"Exempt Disposition" means any of the following:
(a) a Disposition in connection with the liquidation, dissolution or winding up of the Corporation and the distribution of assets to shareholders; or
(b) a cash dividend, out of the Closed Block Business' assets, to holders of Class B Stock.
"Fair Market Value" means the fair market value of all of the
outstanding shares of Class B Stock as determined by appraisal by a
nationally recognized actuarial or other competent firm independent of
and selected by the Board of Directors and approved by holders of the
outstanding shares of Class B Stock in the manner specified in Section
(b)4(iii) of this Article FOURTH. Fair Market Value shall be the
present value of expected future cash flows to holders of the Class B
Stock, reduced by any payables to the Financial Services Businesses.
Future cash flows shall be projected consistent with the policy, as
described in the Plan of Reorganization, for Prudential Insurance's
Board of Directors to declare policyholder dividends based on actual
experience in the Regulatory Closed Block. Following the repayment in
full of the IHC Debt Securities, these cash flows shall be the excess
of statutory surplus applicable to the Closed Block Business over
Required Surplus (as defined in the definition of "CB Distributable
Cash Flow") for each period that would be distributable as a dividend
under New Jersey law if the Closed Block Business were a separate
insurer. These cash flows will be discounted at an equity rate of
return, to be estimated as a risk-free rate plus an equity risk
premium. The risk-free rate shall be an appropriate ten-year U.S.
Treasury rate reported by the Federal Reserve Bank of New York. The
equity risk premium will be eight and one quarter percent initially,
declining evenly to four percent over the following 21 years and
remaining constant thereafter.
"Financial Services Businesses" means (a) all of the businesses, assets and liabilities of the Corporation and its subsidiaries, other than the businesses, assets and liabilities that are part of the Closed Block Business, and (b) the rights and obligations of the Financial Services Businesses under any inter-Business debt or other transaction deemed to be owed to or by the Financial Services Businesses (as such rights and obligations are defined in accordance with policies established from time to time by the Board of Directors); provided, however, that the Corporation or any of its subsidiaries may re-allocate assets from one Business to
the other Business in return for other assets or services rendered by that other Business in accordance with policies established by the Board of Directors from time to time.
"IHC Debt Securities" means debt securities issued by Prudential Holdings as described in the Plan of Reorganization.
"Market Value" of a share of Common Stock (or any other security) on
any Trading Day means the average of the high and low reported sales
prices regular way of a share of such security on such Trading Day or,
in case no such reported sale takes place on such Trading Day, the
average of the reported closing bid and asked prices regular way of
the security on such Trading Day, in either case as reported on the
New York Stock Exchange ("NYSE") Composite Tape or, if the security is
not listed or admitted to trading on the NYSE on such Trading Day, on
the principal national securities exchange on which the security is
listed or admitted to trading or, if not listed or admitted to trading
on any national securities exchange on such Trading Day, on The Nasdaq
National Market System of the Nasdaq Stock Market ("Nasdaq NMS") or,
if the security is not listed or admitted to trading on any national
securities exchange or quoted on the Nasdaq NMS on such Trading Day,
the average of the closing bid and asked prices of a share of such
security in the over-the-counter market on such Trading Day as
furnished by any NYSE member firm selected from time to time by the
Corporation or, if such closing bid and asked prices are not made
available by any such NYSE member firm on such Trading Day, the fair
market value of a share of such security as the Board of Directors
shall determine in good faith (which determination shall be conclusive
and binding on all shareholders); provided, that, for purposes of
determining the average Market Value of a share of Common Stock (or
any other security) for any period, (a) the "Market Value" on any day
prior to any "ex-dividend" date or any similar date occurring during
such period for any dividend or distribution (other than any dividend
or distribution contemplated by clause (b)(ii) of this sentence) paid
or to be paid with respect to the Common Stock (or any other security)
shall be reduced by the fair value of the per security amount of such
dividend or distribution as determined by the Board of Directors and
(b) the "Market Value" of a share of Common Stock (or any other
security) on any day prior to (i) the effective date of any
subdivision (by stock split or otherwise) or combination (by reverse
stock split or otherwise) of outstanding shares of Common Stock (or
any other security) occurring during
such period or (ii) any "ex-dividend" date or any similar date occurring during such period for any dividend or distribution with respect to the Common Stock (or any other security) to be made in shares of Common Stock (or such other security) shall be appropriately adjusted, as determined by the Board of Directors, to reflect such subdivision, combination, dividend or distribution.
"Plan of Reorganization" refers to the Plan of Reorganization of Prudential Insurance under Chapter 17C of Title 17 of the New Jersey Revised Statutes, dated as of December 15, 2000, as amended and restated and as it may be further amended through the date of this Amended and Restated Certificate of Incorporation and hereafter.
"Prudential Holdings" means Prudential Holdings, LLC, a limited liability company formed under the New Jersey Limited Liability Company Act and a wholly owned direct subsidiary of the Corporation and the direct parent of Prudential Insurance, or a successor entity.
"Prudential Insurance" means The Prudential Insurance Company of America, a New Jersey mutual life insurance company that will become, upon consummation of the Plan of Reorganization, a New Jersey stock life insurance company, or a successor company.
"Regulatory Closed Block" means the "closed block" established pursuant to Article IX of the Plan of Reorganization.
"SEC" means the United States Securities and Exchange Commission, or any successor agency.
"Surplus and Related Assets" means those assets segregated outside the Regulatory Closed Block held to meet capital requirements related to the Closed Block Business within Prudential Insurance as well as those assets that represent the difference between assets of the Regulatory Closed Block and the sum of the liabilities of the Regulatory Closed Block and the applicable statutory interest maintenance reserve, as designated by the Corporation.
"Trading Day" means, with respect to the Common Stock or any other security, each weekday on which the Common Stock or such other security is traded on the principal national securities exchange on which it is listed or admitted to trading or on the Nasdaq NMS or, if such security is not listed or admitted to trading
on a national securities exchange or quoted on the Nasdaq NMS, traded in the principal over-the-counter market in which it trades.
7. Amendment of Class B Stock.
The Board of Directors is expressly authorized to amend (including any amendment effectuated by merger) the voting powers, designations, preferences and relative, participating, optional or other special rights and qualifications of the Class B Stock specified herein without (except as otherwise required by law) the vote of (i) the holders of Common Stock, irrespective of the effect that any such amendment may have on the relative rights and preferences of the Common Stock, or (ii) except to the extent the rights of the holders of Class B Stock would be adversely affected thereby, the holders of Class B Stock.
8. Stock Splits, Reclassification, Business Combinations, etc.
(i) In the event of any stock split or reverse stock split of the outstanding shares of Common Stock or any dividend paid with respect to the Common Stock in additional shares of Common Stock, any outstanding shares of Class B Stock shall be proportionately subdivided or combined, or a dividend in additional shares of Class B Stock shall be paid, and the Target Dividend Amount shall be proportionately adjusted; provided, however, that unless the Corporation has available sufficient authorized shares of Class B Stock to comply with this Section (b)8 of this Article FOURTH, the Corporation shall not authorize or effect any stock split of Common Stock or a dividend of Common Stock. In the event the number of votes per share of Common Stock is modified (other than in a manner that is dependent on the identity of the holder of shares of Common Stock), the number of votes per share of Class B Stock shall be proportionately modified.
(ii) In the event of any reclassification, recapitalization or exchange of, or any tender offer or exchange offer for, the outstanding shares of Common Stock, including by merger, consolidation or other business combination, as a result of which shares of Common Stock are exchanged for or converted into another security which is both (i) registered under Section 12 of the Securities Exchange Act of 1934 and (ii) either (1) listed for trading on the New York Stock Exchange or any national securities exchange registered under Section 6 of the Securities Exchange Act of 1934 that is the successor to such exchange or (2) quoted in the National Association of Securities Dealers Automation Quotation System, or any successor system (such security that satisfies both (i) and (ii) being referred to as a "Public Security"), then the Class B Stock shall remain outstanding (unless otherwise exchanged or converted pursuant to
Section (b)3 or (b)9 of this Article FOURTH) and, in the event 50% or
more of the outstanding shares of Common Stock are so converted or
exchanged, holders of outstanding Class B Stock shall be entitled to
receive, in the event of any subsequent exchange or conversion
pursuant to Section (b)3 or (b)9 of this Article FOURTH, the
securities into which the Common Stock has been exchanged or converted
by virtue of such reclassification, recapitalization, merger,
consolidation, tender offer, exchange offer, or other business
combination (the "Successor Public Securities"). Following any such
conversion or exchange of 50% or more of the outstanding shares of
Common Stock, references to Common Stock shall be deemed to refer to
Successor Public Securities in the following Sections of paragraph (b)
of this Article FOURTH: 3(i)(a); 3(i)(b); 3(ii)(a)(3)(i), (ii) and
(iii); 3(ii)(a)(5) and (6); 3(ii)(c), (d), (e) and (f); 8(i);
9(ii)(c), (e) and (f); and 9(iv), (v), (vi), (vii) and (viii).
(iii) If, in the event of any reclassification, recapitalization
or exchange of, or any tender or exchange offer for, the outstanding
shares of Common Stock, including by merger, consolidation or other
business combination, and whether in one transaction or a series of
transactions, as a result of which a majority of the outstanding
shares of Common Stock are so converted into or exchanged or purchased
for either (i) cash or (ii) securities which are not Public
Securities, or a combination thereof (a "Cash/Private Transaction"),
the Class B Stock shall be entitled to receive cash and/or securities
of the type and in the proportion (the "Successor Cash/non-Public
Securities") that such holders of Class B Stock would have received if
an exchange of Class B Stock for Common Stock had occurred pursuant to
Section (b)3 of this Article FOURTH providing a number of shares of
Common Stock (rounded up, if necessary, to the next greatest whole
number) having an aggregate value equal to 120% of the aggregate Fair
Market Value of the Class B Stock immediately prior to the conversion,
exchange or purchase of a majority of the outstanding shares of Common
Stock and the holders of Class B Stock had participated as holders of
Common Stock in such conversion, exchange or purchase. Following any
such conversion, exchange or purchase of a majority of the outstanding
shares of Common Stock, references to Common Stock shall be deemed to
refer to Successor Cash/non-Public Securities in the following
Sections of paragraph (b) of this Article FOURTH: 3(i)(b); 3(ii)(c);
and 3(ii)(d), (e) and (f).
9. Conversion of Class B Stock at Holder's Election.
(i) Any holder of shares of Class B Stock may, by prior written notice to the Corporation, request to convert all of such holder's shares of Class B Stock into such number of shares of Common Stock (rounded, if
necessary, to the next greatest whole number of shares) having an aggregate value equal to 100% of the Fair Market Value of the outstanding shares of Class B Stock
(1) commencing on January 1 of the fifteenth calendar year following the year in which the Effective Date occurs or at any time thereafter,
(2) at any time in the event the Class B Stock will no longer be treated as equity of the Corporation for federal income tax purposes, or
(3) at any time if the New Jersey Department of Banking and Insurance amends, alters, changes or modifies the regulation of the Regulatory Closed Block, the Closed Block Business, the Class B Stock or the IHC Debt Securities in a manner that materially adversely affects the CB Distributable Cash Flow;
provided, however, that in no event may a holder of Class B Stock convert any shares of Class B Stock pursuant to this Section (b)9 of Article FOURTH if such holder immediately upon such conversion, together with its affiliates, would be the "beneficial owner" (as defined in Rules 13d-3 and 13d-5 under the Securities Exchange Act of 1934) of in excess of 9.9% of the total outstanding voting power of the Corporation's voting securities; provided, further, however, with respect to clauses (2) and (3) preceding, if the Corporation delivers a notice to the holders of the Class B Stock that the holders are entitled to convert pursuant to such clause (2) or (3), the holder must exercise the right of conversion within six months of such date of notification; provided, further, that the six-month period described in the preceding proviso shall be tolled and extended with respect to any holder for so long as such holder is restricted from converting any shares of Class B Stock due to the first proviso of this sentence. In no event will the preceding sentence limit the right of a holder of Class B Stock, in the absence of six month's prior notice from the Corporation, to notify the Corporation that the conditions specified in clauses (2) or (3) of this Section (b)9(i) of this Article FOURTH have occurred and thereby exercise its conversion right. In the event a holder of shares of Class B Stock requests to convert shares pursuant to clause (2) in this Section (b)9(i) of this Article FOURTH, the Corporation may irrevocably elect, instead of effecting such conversion, to compensate such holder by increasing the Target Dividend Amount to $12.6875 per share per annum retroactively from the time of issuance of the Class B Stock, such compensation being payable upon the Corporation's election by one or more special dividends declared and paid with respect to the Class B Stock in amount(s) sufficient to give effect to such retroactive increase.
(ii) Upon the Corporation's receiving notice from a holder of
Class B Stock requesting to convert its shares as described in Section
(b)9(i) of this Article FOURTH:
(a) the Corporation shall issue a public announcement by press release as soon as practicable after its receipt of such notice that it has received such request;
(b) the Corporation shall send a notice to the holders of
Class B Stock as soon as practicable after the foregoing public
announcement, indicating the Corporation's determination to
effect such conversion and specifying the Board of Directors'
proposed appraiser to determine the Fair Market Value of the
Class B Stock in accordance with Section (b)4(iii) of this
Article FOURTH, and such proposed appraiser (or a second or third
proposed appraiser) shall be chosen pursuant to said Section
(b)4(iii) of this Article FOURTH;
(c) the Fair Market Value of the Class B Stock shall be determined as of the completion date of the appraisal of the Fair Market Value of the Class B Stock, and the value of the Common Stock shall be the average Market Value of the Common Stock during the 20 consecutive Trading Day period ending on the 5th Trading Day prior to the conversion date;
(d) the conversion date shall be no later than 10 Business Days after the completion date of the appraisal of the Fair Market Value of the Class B Stock;
(e) upon determination of the identity of the appraiser pursuant to Section (b)4(iii) of this Article FOURTH, the Corporation shall issue a second public announcement by press release specifying the intended conversion date and the intended period for determination of the average Market Value of the Common Stock;
(f) upon completion of the appraisal of the Fair Market Value of the Class B Stock and determination of the Market Value of the Common Stock, the Corporation shall issue a second notice to the holders of Class B Stock who had given notice of their decision to convert their shares pursuant to Section (b)9(i) of this Article FOURTH, which shall contain: (x) the date of conversion, (y) the number of shares of Common Stock into which each outstanding share of Class B Stock will be converted (accompanied by a statement setting forth the calculation thereof), and (z) the
place or places where certificates for such shares of Class B Stock, properly endorsed or assigned for transfer (unless the Corporation waives such requirement), should be surrendered for delivery of the Common Stock to be issued or delivered by the Corporation upon such conversion;
(g) the conversion shall be completed within 90 days of the public announcement referred to in clause (a) above.
(iii) Neither the failure to mail any notice required by Section
(b)9(ii) of Article FOURTH to any particular holder of Class B Stock
nor any defect therein would affect the sufficiency thereof with
respect to any other holder of Class B Stock or the validity of any
such conversion.
(iv) No holder of shares of Class B Stock converting its shares shall be entitled to receive any shares of Common Stock in such conversion until such holder surrenders certificates for its shares of Class B Stock, properly endorsed or assigned for transfer, at such place as the Corporation shall specify (unless the Corporation waives such requirement). As soon as practicable after the Corporation's receipt of certificates for such shares of Class B Stock, the Corporation shall deliver to the person for whose account such shares were so surrendered, or to the nominee or nominees of such person, any shares of Common Stock issued to such holder in the conversion.
(v) From and after the date set for any conversion completed pursuant to this Section (b)9 of this Article FOURTH, all rights of a holder of shares of Class B Stock converting its shares shall cease except for the right, upon surrender of the certificates theretofore representing such shares, to receive any shares of Common Stock (and, if such holder was a holder of record as of the close of business on the record date for a dividend not yet paid, the right to receive such dividend). A holder of shares of Class B Stock converting its shares shall not be entitled to receive any dividend or other distribution with respect to shares of Common Stock until after certificates theretofore representing the shares being converted are surrendered as contemplated above. Upon such surrender, the Corporation shall pay to the holder the amount of any dividends or other distributions (without interest) which theretofore became payable with respect to a record date occurring after the conversion, but which were not paid by reason of the foregoing, with respect to the number of whole shares of Common Stock represented by the certificate or certificates issued upon such surrender. From and after the date set for any conversion, the Corporation shall, however, be entitled to treat the certificates for shares of Class B Stock being converted that
were not yet surrendered for conversion as evidencing the ownership of the number of whole shares of Common Stock for which the shares of such Class B Stock should have been converted, notwithstanding the failure to surrender such certificates.
(vi) The Corporation may, subject to applicable law, establish such other rules, requirements and procedures to facilitate any conversion contemplated by this Section (b)9 of this Article FOURTH (including longer time periods and alternative procedures for determining the Fair Market Value of the Class B Stock or the Market Value of the Common Stock) as the Board of Directors may determine to be appropriate under the circumstances.
(vii) The issuance of certificates for shares of Common Stock upon conversion of the Class B Stock shall be made without charge to the holders thereof for any issuance tax in respect thereof, provided that the Corporation shall not be required to pay any tax which may be payable in respect of any transfer involved in the issuance and delivery of any certificate in a name other than that of the holder of the Class B Stock which is being converted.
(viii) The Corporation shall take all action required to have available sufficient authorized shares of Common Stock to permit conversion of all outstanding shares of Class B Stock.
(ix) Notwithstanding the time requirement of Section
(b)9(ii)(g), no conversion will be completed prior to the expiration
of all required waiting periods under applicable law, the receipt of
all required regulatory approvals and the making of all notifications
to governmental entities required for such conversion. Prior to any
conversion, the Corporation and the holder(s) of shares of Class B
Stock involved in the conversion shall make reasonable efforts to
cause the expiration of all required waiting periods and to obtain all
regulatory approvals and make all notifications required to be
obtained or made by the Corporation and such holder(s), respectively,
for purposes of such conversion. The waiting periods, approvals and
notifications that are subject to this clause (ix) shall be limited to
those required solely for such conversion.
(c) Following Issuance and Retirement of all Outstanding Shares of Class B Stock.
(i) The terms of Section (b) of this Article FOURTH shall apply only when there are shares of both classes of common stock outstanding.
(ii) Following issuance and retirement of all outstanding shares of Class B Stock, subject to all of the rights of the Preferred Stock as expressly provided herein, by law or by the Board of Directors pursuant to this Article FOURTH, the Common Stock of the Corporation shall then possess all such rights and privileges as are afforded to capital stock by law, including, but not limited to, the following rights and privileges:
(a) Holders of Common Stock shall be entitled to dividends declared by the Corporation's Board of Directors out of funds legally available to pay dividends, subject to any preferential dividend rights granted to the holders of any Preferred Stock.
(b) Each share of Common Stock shall give the owner of record one vote on all matters submitted to a shareholder vote.
(c) In the event of a liquidation, dissolution or winding-up of the Corporation, holders of Common Stock shall be entitled to an equal share of any assets of the Corporation that remain after paying all of the Corporation's liabilities and the liquidation preference, if any, of any outstanding Preferred Stock.
(a) The business and affairs of the Corporation shall be managed by or under the direction of the Board of Directors, except as otherwise provided in the BCA or this Amended and Restated Certificate of Incorporation.
(b) The number of directors constituting the current Board of Directors of the Corporation, which directors shall serve until their successors are elected and qualified, is 21 and the names and addresses of persons serving as such directors are as set forth below:
Name Address
------------------------------------
Arthur F. Ryan c/o Prudential Financial, Inc.
751 Broad Street
Newark, New Jersey 07102
Franklin E. Agnew "
Frederic K. Becker "
Gilbert F. Casellas "
James G. Cullen "
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Carolyne K. Davis " Allan D. Gilmour " William H. Gray, III " Jon F. Hanson " Glen H. Hiner " Constance J. Horner " Gaynor N. Kelley " Burton G. Malkiel " Ida F.S. Schmertz " Charles R. Sitter " Donald L. Staheli " Richard M. Thomson " James A. Unruh " P. Roy Vagelos " Stanley C. Van Ness " Paul A. Volcker " |
The number of directors of the Corporation shall be as from time to time fixed by, or in the manner provided in, the By-Laws of the Corporation.
(c) The election of directors need not be by written ballot unless the By-Laws so provide. The directors shall be classified, with respect to the time for which they severally hold office, into three classes, as nearly equal in number as possible, as determined by the Board of Directors, one class to hold office initially for a term expiring at the annual meeting of shareholders to be held in 2001, another class to hold office initially for a term expiring at the annual meeting of shareholders to be held in 2002, and another class to hold office initially for a term expiring at the annual meeting of shareholders to be held in 2003, with the members of each class to hold office until their successors are elected and qualified. At each annual meeting of the shareholders of the Corporation, the successors to the class of directors whose term expires at that meeting shall be elected to the office for a term expiring at the annual meeting of shareholders held in the third year of their election and until their successors shall have been elected and qualified.
(d) Newly created directorships resulting from any increase in the number of directors and any vacancies on the Board of Directors, however resulting, shall be filled solely by the affirmative vote of a majority of the remaining directors then in office, even though less than a quorum of the Board of Directors, or by a sole remaining director, unless otherwise required by law. If the number of directors is changed, any increase or decrease shall be apportioned among the classes so as to maintain the number of directors in each class as nearly equal as possible, and any director elected in accordance with the preceding sentence shall hold office until the next succeeding annual meeting of
shareholders and until his or her successor shall have been elected and qualified, provided that such successor shall be placed in the class in which the new directorship was created or from which the vacancy occurred. No decrease in the number of directors constituting the Board of Directors shall shorten the term of any incumbent director.
(e) In the event that the holders of any class or series of Preferred Stock of the Corporation shall be entitled, voting separately as a class or series, to elect any directors of the Corporation, then the number of directors that may be elected by such holders shall be in addition to the number fixed pursuant to the By-Laws and, except as otherwise expressly provided in the terms of such class or series, the terms of the directors elected by such holders shall expire at the annual meeting of shareholders next succeeding their election without regard to the classification of the remaining directors.
(f) No director shall be personally liable to the Corporation or any of its
shareholders for damages for breach of duty as a director, except for liability
(i) for any breach of the director's duty of loyalty to the Corporation or its
shareholders, (ii) for acts or omissions not in good faith or which involve a
knowing violation of law, or (iii) for any transaction from which the director
derived or received an improper personal benefit. Any repeal or modification of
this Article FIFTH by the shareholders of the Corporation shall not adversely
affect any right or protection of a director of the Corporation existing at the
time of such repeal or modification with respect to acts or omissions occurring
prior to such repeal or modification.
(g) In addition to the powers and authority herein prescribed or by statute expressly conferred upon them, the Board of Directors is hereby empowered to exercise all such powers and do all such acts and things as may be exercised or done by the Corporation, except as otherwise provided in the BCA or this Amended and Restated Certificate of Incorporation.
(b) Any action required or permitted to be taken by the shareholders of the
Corporation must be effected at a duly called annual or special meeting of
shareholders entitled to vote thereon and may not be effected by any consent in
writing by the shareholders, other than (i) a consent in writing adopted by all
shareholders entitled to vote thereon pursuant to Section 14A:5-6(1) of the BCA,
(ii) a consent in writing adopted by a majority of the holders of the Class B
Stock being exchanged or converted with respect to an approval sought by the
Board of Directors which is the subject of Section (b)(4)(iii) of Article FOURTH pursuant to Section 14A:5-6(2) of the BCA or (iii) if authorized by the Board of Directors when fixing the voting powers of a class or series of Preferred Stock pursuant to Section (a) of Article FOURTH, a consent in writing adopted by a majority (or such higher provision as may be authorized by the Board of Directors) of the holders of such class or series with respect to a matter (if any) for which such class or series has a separate class vote pursuant to Sections 14A:5-6(1) or (2) of the BCA.
Column A Column B
Quorum at subsequent
Shares Present meetings of shareholders
25% 25%
35% 30%
45% 40%
55% 50%
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In no event will the Quorum diminish as a result of the percentage of shareholders present or represented at a meeting of shareholders.
(b) With respect to shares of any class or series of Preferred Stock not voting together as a class with the common stock, the holders of the number of shares specified by the resolution or resolutions adopted by the Board of Directors providing for the issuance of such class or series of Preferred Stock shall constitute a quorum. With respect to shares of Class B Stock voting separately (i.e., without the Common Stock) as a class, the holders of a majority of the outstanding shares of Class B Stock shall constitute a quorum.
The effective date of this Amended and Restated Certificate of Incorporation shall be December ____, 2001.
IN WITNESS WHEREOF, the undersigned has executed this Amended and Restated Certificate Of Incorporation this 5th day of December, 2001.
PRUDENTIAL FINANCIAL, INC.
Exhibit 4.2
PRUDENTIAL FINANCIAL, INC.
and
EQUISERVE TRUST COMPANY, N.A.
Rights Agent
Rights Agreement
Dated as of November 1, 2001
Page
----
Section 1. Certain Definitions.......................................................................1
Section 2. Appointment of Rights Agent...............................................................6
Section 3. Issue of Rights Certificates..............................................................6
Section 4. Form of Rights Certificates...............................................................8
Section 5. Countersignature and Registration.........................................................9
Section 6. Transfer, Split Up, Combination and Exchange of Rights Certificates;
Mutilated, Destroyed, Lost or Stolen Rights Certificates.................................10
Section 7. Exercise of Rights; Purchase Price; Expiration Date of Rights............................11
Section 8. Cancellation and Destruction of Rights Certificates......................................13
Section 9. Reservation and Availability of Capital Stock............................................13
Section 10. Preferred Stock Record Date..............................................................14
Section 11. Adjustment of Purchase Price, Number of Shares or Number of Rights.......................15
Section 12. Certification of Adjusted Purchase Price or Number of Shares.............................23
Section 13. Consolidation, Merger or Sale or Transfer of Assets, Cash Flow or Earning Power..........23
Section 14. Fractional Rights and Fractional Shares..................................................26
Section 15. Rights of Action.........................................................................27
Section 16. Agreement of Rights Holders..............................................................28
Section 17. Rights Certificate Holder Not Deemed a Stockholder.......................................28
Section 18. Concerning the Rights Agent..............................................................29
Section 19. Merger or Consolidation or Change of Name of Rights Agent................................29
Section 20. Duties of Rights Agent...................................................................30
Section 21. Change of Rights Agent...................................................................32
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Page
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Section 22. Issuance of New Rights Certificates......................................................32
Section 23. Redemption...............................................................................33
Section 24. Exchange.................................................................................34
Section 25. Notice of Certain Events.................................................................35
Section 26. Notices..................................................................................36
Section 27. Supplements and Amendments...............................................................36
Section 28. Successors...............................................................................37
Section 29. Determinations and Actions Taken by the Board of Directors...............................37
Section 30. Benefits of this Agreement...............................................................37
Section 31. Severability.............................................................................38
Section 33. Counterparts.............................................................................38
Section 34. Descriptive Headings.....................................................................38
Exhibit A Form of Certificate of Amendment............................................................A-1
Exhibit B Form of Rights Certificate..................................................................B-1
Exhibit C Summary of Rights to Purchase Preferred Stock...............................................C-1
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This Agreement, dated as of November 1, 2001 between Prudential Financial, Inc., a New Jersey corporation (the "Company"), and EquiServe Trust Company, N.A., a ________________ (the "Rights Agent"):
WHEREAS, as of December 15, 2000, the Board of Directors of The Prudential Insurance Company of America ("Prudential") adopted a Plan of Reorganization, as amended and restated thereafter from time to time (the "Plan of Reorganization"), providing for its conversion from a mutual life insurance company into a stock life insurance company which is an indirect subsidiary of the Company;
WHEREAS, on October 9, 2001, the Board of Directors of the Company determined it desirable and in the best interests of the Company and its shareholders (including eligible policyholders of Prudential that become shareholders of the Company pursuant to the Plan of Reorganization) for the Company to adopt a shareholder rights plan;
WHEREAS, on October 9, 2001, (the "Rights Authorization Date"), the Board
of Directors of the Company authorized the issuance of one Right (as hereinafter
defined) for each share of Common Stock (as hereinafter defined) to be
distributed in connection with the initial issuance of Common Stock as part of
the demutualization of The Prudential Insurance Company of America and the
Company's initial public offering, and has authorized the issuance of one Right
(as such number may hereinafter be adjusted pursuant to the provisions of
Section 11(p) hereof) for each share of Common Stock issued (whether as an
original issuance or from the Company's treasury) between the Original Issuance
Date (as hereinafter defined) and the Distribution Date (as hereinafter defined)
and in certain other circumstances provided herein, each Right initially
representing the right to purchase one one-thousandth of a share of Series A
Junior Participating Preferred Stock of the Company (a "Unit") having the
rights, powers and preferences set forth in the Certificate of Amendment to the
Amended and Restated Certificate of Incorporation of the Company (the applicable
excerpt of which is set forth in Exhibit A hereto), upon the terms and subject
to the conditions hereinafter set forth (the "Rights");
NOW, THEREFORE, in consideration of the premises and the mutual agreements herein set forth, the parties hereby agree as follows:
(a) "1933 Act" shall have the meaning assigned to it in Section 9(d).
(c) "Adjustment Shares" shall have the meaning assigned to it in Section 11(a)(ii).
(d) "Affiliate" and "Associate" shall have the respective meanings ascribed to such terms in Rule 12b-2 of the General Rules and Regulations under the Exchange Act.
(e) A Person shall be deemed the "Beneficial Owner" of, and shall be deemed to "Beneficially Own," any securities:
(i) which such Person or any of such Person's Affiliates or Associates beneficially owns, directly or indirectly;
Beneficial Owner of, or to "Beneficially Own," securities tendered pursuant to a tender or exchange offer made by or on behalf of such Person or any of such Person's Affiliates or Associates until such tendered securities are accepted for purchase or exchange, securities issuable upon exercise of Rights at any time prior to the occurrence of a Triggering Event (as hereinafter defined), or securities issuable upon exercise of Rights from and after the occurrence of a Triggering Event which Rights were acquired by such Person or any of such Person's Affiliates or Associates prior to the Distribution Date (as hereinafter defined) or pursuant to Section 3(a) or Section 22 hereof (the "Original Rights") or pursuant to Section 11(i) hereof in connection with an adjustment made with respect to any Original Rights; or, (B) the right to vote pursuant to any agreement, arrangement or understanding; or
(iii) which are beneficially owned, directly or indirectly, by any other Person with which such Person or any of such Person's Affiliates or Associates has any agreement, arrangement or understanding for the purpose of acquiring, holding, voting or disposing of any securities of the Company;
(f) "Business Day" shall mean any day other than a Saturday, Sunday or day on which banking institutions in the State of New Jersey are authorized or obligated by law or executive order to close.
(g) "Class B Stock" refers to the class of common stock, par value $.01 per share, of the Company designated as "Class B Stock".
(i) "Common Stock" refers to the class of common stock, par value $.01 per share, of the Company designated as "Common Stock" (and, as such, it excludes the Class B Stock) and "common stock" (i) when used with reference to any Person other than the Company shall mean the capital stock with the greatest voting power of such Person or, if such Person is a Subsidiary of another Person, the Person which ultimately controls such first-mentioned Person and (ii) when used with reference to any Person
other than the Company which shall not be organized in corporate form shall mean units of beneficial interest which (A) shall represent the right to participate generally in the profits and losses of such Person (including, without limitation, any flow-through tax benefits resulting from an ownership interest in such Person) and which (B) shall be entitled to exercise the greatest voting power of such Person or, in the case of a limited partnership, shall have the power to remove the general partner or partners.
(j) "Common Stock Equivalents" shall have the meaning assigned to it in
Section 11(a)(iii).
(k) "Company" shall have the meaning assigned to it in the first paragraph of this Agreement.
(l) "Current Market Price" shall have the meaning assigned to it in Section 11(d)(i).
(m) "Current Value" shall have the meaning assigned to it in Section
11(a)(iii).
(n) "Distribution Date" shall have the meaning assigned to it in Section 3.
(o) "Equivalent Preferred Stock" shall have the meaning assigned to it in
Section 11(b).
(p) "Equivalent Stock" shall have the meaning assigned to it in Section 7.
(q) "Exchange Act" shall have the meaning assigned to it in Section 1(e).
(r) "Exchange Ratio" shall have the meaning assigned to it in Section 24.
(s) "Expiration Date" shall have the meaning assigned to it in Section 7.
(t) "Final Expiration Date" shall have the meaning assigned to it in
Section 7.
(u) "Original Issuance Date" shall mean the date of the initial issuance of Common Stock to policyholders in connection with the demutualization of The Prudential Insurance Company of America.
(v) "NASDAQ" shall have the meaning assigned to it in Section 11(d)(i).
(w) "Person" shall mean any individual, firm, corporation, or other entity and shall include any successor by merger or otherwise of such entity.
(x) "Preferred Stock" shall mean shares of Series A Junior Participating Preferred Stock, par value $.01 per share, of the Company and, to the extent that there are not a sufficient number of shares of Series A Junior Participating Preferred Stock authorized to permit the full exercise of the Rights, any other series of preferred stock of the Company designated for such purpose containing terms substantially similar to the terms of the Series A Junior Participating Preferred Stock.
(y) "Principal Party" shall have the meaning assigned to it in Section 13.
(z) "Purchase Price" shall have the meaning assigned to it in Section 4.
(aa) "Redemption Price" shall have the meaning assigned to it in Section 23.
(bb) "Rights Certificate" shall have the meaning assigned to it in Section 3.
(cc) "Rights" shall have the meaning assigned to it in the recitals.
(dd) "Rights Agent" shall have the meaning assigned to it in the first paragraph of this Agreement.
(ee) "Rights Authorization Date" shall have the meaning assigned to it in the recitals.
(ff) "Section 11(a)(ii) Event" shall have the meaning assigned to it in
Section 7(e).
(gg) "Section 11(a)(ii) Trigger Date" shall have the meaning assigned to it in Section 11(a)(iii).
(hh) "Section 13 Event" shall have the meaning assigned to it in Section 7(e).
(ii) "Spread" shall have the meaning assigned to it in Section 11(a)(iii).
(jj) "Stock Acquisition Date" shall mean the first date of public announcement by the Company or an Acquiring Person that an Acquiring Person has become such.
(kk) "Subsidiary" shall mean, with respect to any Person, any corporation or other entity of which securities or other ownership interests having ordinary voting power sufficient, in the absence of contingencies, to elect a majority of the board of directors or other persons performing similar functions are at the time directly or indirectly owned by such Person and any Affiliate of such Person.
(ll) "Substantial Block" shall mean a number of shares of Voting Stock having in the aggregate 10% or more of the general voting power.
(mm) "Substitution Period" shall have the meaning assigned to it in Section
11(a)(iii).
(nn) "Summary of Rights" shall have the meaning assigned to it in Section 3(b).
(oo) "Trading Day" shall have the meaning assigned to it in Section 11(d).
(pp) "Triggering Event" shall mean a Section 11(a)(ii) Event or Section 13 Event.
(qq) "Unit" shall have the meaning assigned to it in the recital.
(rr) "Voting Stock" shall mean shares of the Company's capital stock having general voting power, including but not limited to the Class B Stock. For the purposes hereof, "voting power," when used with reference to the capital stock of, or units of equity interests in, any Person shall mean the power under ordinary circumstances (and not merely upon the happening of a contingency) to vote in the election of directors of such Person (if such Person is a corporation) or to participate in the management and control of such Person (if such Person is not a corporation).
(or such earlier or later date as the Board of Directors may determine prior to the date specified in clause (i) or clause (ii) above that otherwise would be the Distribution Date). Up to and including the Distribution Date, (x) the Rights will be evidenced in uncertificated form and registered in the names of the holders of Common Stock, whether such Common Stock is issued in uncertificated or certificated form (to the extent Common Stock is issued in certificated form, the certificates for the Common Stock shall be deemed also to evidence the Rights and shall include the legend set forth in Section 3(b), and not by separate Rights Certificates, and (y) the Rights will be transferable only in connection with the transfer of Common Stock (whether in uncertificated or certificated form). As soon as practicable after the Distribution Date, the Rights Agent will mail, by first-class, insured, postage prepaid mail, to each record holder of Common Stock as of the Close of Business on the Distribution Date, as shown by the records of the Company at the Close of Business on the Distribution Date, at the address of such holder shown on such records, a Rights Certificate (the "Rights Certificate"), in substantially the form of Exhibit B hereto, evidencing one Right for each share of Common Stock so held. In the event that an adjustment in the number of Rights per share of Common Stock has been made pursuant to Section 11(p) hereof, at the time of distribution of the Rights Certificates, the Company may make the necessary and appropriate rounding adjustments (in accordance with Section 14(a) hereof) so that Rights Certificates representing only whole numbers of Rights are distributed and cash is paid in lieu of any fractional Rights. As of and after the Distribution Date, the Rights will be evidenced solely by such Rights Certificates.
(b) The Company will make available, as promptly as practicable following the Original Issuance Date, a copy of a Summary of Rights, in substantially the form attached hereto as Exhibit C (the "Summary of Rights") to any holder of Rights who may so request from time to time prior to the Expiration Date. With respect to shares of Common Stock issued and outstanding until the Distribution Date (whether such shares of Common Stock are issued in uncertificated or certificated form), the Rights will be evidenced by such shares of Common Stock and the registered holders of the Common Stock shall also be the registered holders of the associated Rights. Until the earlier of the Distribution Date or the Expiration Date (as such term is defined in Section 7(a) hereof), the transfer of any shares of Common Stock in respect of which Rights have been issued (whether such shares of Common Stock are issued in uncertificated or certificated form) shall also constitute the transfer of the Rights associated with such shares of Common Stock. The Company will cause any certificates for Common Stock issued after the Rights Authorization Date, but prior to the earlier of the Distribution Date or the Expiration Date or the date, if any, on which the Rights are redeemed, to have impressed on, printed on, written on or otherwise affixed to them the following legend:
This certificate also evidences and entitles the holder hereof to certain Rights as set forth in a Rights Agreement between Prudential Financial, Inc. and EquiServe Trust Company, N.A., dated as of November 1, 2001 (the "Rights
Agreement"), the terms of which are hereby incorporated herein by reference and a copy of which is on file at the principal executive offices of Prudential Financial, Inc. Under certain circumstances, as set forth in the Rights Agreement, such Rights will be evidenced by separate certificates and will no longer be evidenced by this certificate. Prudential Financial, Inc. will mail to the holder of this certificate a copy of the Rights Agreement without charge after receipt of a written request therefor. Under certain circumstances set forth in the Rights Agreement, Rights issued to, or held by, any Person who is, was or becomes an Acquiring Person or any Affiliate or Associate thereof (as such terms are defined in the Rights Agreement) or one of certain transferees thereof, whether currently held by or on behalf of such Person or by any subsequent holder, may be limited as provided in the Rights Agreement.
Until the Distribution Date or the Expiration Date, the Rights associated with any shares of Common Stock represented by such certificates shall be evidenced by such certificates alone, and the surrender for transfer of any such certificate shall also constitute the transfer of the Rights associated with the Common Stock certificate.
(c) Until the Distribution Date, the surrender for transfer of shares of Common Stock outstanding on or after the Original Issuance Date (whether in uncertificated or certificated form), shall also constitute the transfer of the Rights associated with such shares of Common Stock. After the Distribution Date, the Rights will be evidenced solely by the Rights Certificates.
(b) Any Rights Certificate issued pursuant to Section 3(a), Section 11(i), or Section 22 that represents Rights Beneficially Owned by: (i) an
Acquiring Person or any Associate or Affiliate of such Acquiring Person, (ii) a transferee of an Acquiring Person (or of any such Associate or Affiliate) who becomes a transferee after the Acquiring Person becomes such, or (iii) a transferee of an Acquiring Person (or of any such Associate or Affiliate) who becomes a transferee prior to or concurrently with the Acquiring Person becoming such and receives such Rights pursuant to either (A) a transfer (whether or not for consideration) from the Acquiring Person to holders of equity interests in such Acquiring Person or to any Person with whom such Acquiring Person has any continuing agreement, arrangement or understanding regarding the transferred Rights or (B) a transfer which the Board of Directors of the Company has determined is part of a plan, arrangement or understanding which has as a primary purpose or effect avoidance of Section 7(e), and any Rights Certificate issued pursuant to Section 6 or Section 11 upon transfer, exchange, replacement or adjustment of any other Rights Certificate referred to in this sentence, shall contain (to the extent feasible and reasonably identifiable as such) the following legend:
The Rights represented by this Rights Certificate are or were beneficially owned by a Person who was or became an Acquiring Person or an Affiliate or Associate of an Acquiring Person (as such terms are defined in the Rights Agreement) or one of certain transferees thereof. Accordingly, under certain circumstances as provided in the Rights Agreement, this Rights Certificate and the Rights represented hereby may be limited as provided in such Agreement.
(b) Following the Distribution Date, the Rights Agent will keep or cause to be kept, at its principal office or offices designated as the appropriate place for
surrender of Rights Certificates upon exercise or transfer, books for registration and transfer of the Rights Certificates issued hereunder. Such books shall show the names and addresses of the respective holders of the Rights Certificates, the number of Rights evidenced on its face by each Rights Certificate, the date of each Rights Certificate and the number of each Rights Certificate.
(b) Upon receipt by the Company and the Rights Agent of evidence reasonably satisfactory to them of the loss, theft, destruction or mutilation of a Rights Certificate, and, in case of loss, theft or destruction, of indemnity or security reasonably satisfactory to them, and reimbursement to the Company and the Rights Agent of all reasonable expenses incidental thereto, and upon surrender to the Rights Agent and cancellation of the Rights Certificate if mutilated, the Company will execute and deliver a new Rights Certificate of like tenor to the Rights Agent for countersignature and delivery to the registered owner in lieu of the Rights Certificate so lost, stolen, destroyed or mutilated.
(b) The Purchase Price for each one one-thousandth of a share of Preferred Stock pursuant to the exercise of a Right shall initially be $___, shall be subject to adjustment from time to time as provided in Sections 11 and 13 and shall be payable in accordance with paragraph (c) below.
(c) Upon receipt of a Rights Certificate representing exercisable Rights, with the form of election to purchase and the certificate duly executed, accompanied by payment of the Purchase Price for the shares to be purchased and an amount equal to any applicable transfer tax in cash, or by certified check or money order payable to the order of the Company, the Rights Agent shall, subject to this Section 7 and Section 20(k), thereupon promptly (i) (A) requisition from any transfer agent of Preferred Stock (or any Equivalent Stock then issuable) a certificate for the number of shares of Preferred Stock (or any Equivalent Stock then issuable) to be purchased and the Company hereby irrevocably authorizes its transfer agent to comply with all such requests, or (B) if the Company shall have elected to deposit the total number of shares of Preferred Stock issuable upon exercise of the Rights hereunder with a depositary agent, requisition from the depositary agent depositary receipts representing such number of one one-thousandths of a share of Preferred Stock as are to be purchased (in which case
/1/ Insert the date that is the tenth anniversary of the effective date of the Plan of Reorganization.
certificates for the shares of Preferred Stock represented by such receipts shall be deposited by the transfer agent with the depositary agent) and the Company will direct the depositary agent to comply with such request, (ii) when appropriate, requisition from the Company the amount of cash to be paid in lieu of issuance of a fractional share in accordance with Section 14 and (iii) promptly after receipt of such certificate, cause the same to be delivered to or upon the order of the registered holder of such Rights Certificate, registered in such name or names as may be designated by such holder, and, when appropriate, after receipt promptly deliver such cash to or upon the order of the registered holder of such Rights Certificate. The payment of the Purchase Price (as such amount may be reduced pursuant to Section 11(a)(iii) hereof) shall be made in cash or by certified bank check or bank draft payable to the order of the Company. In the event that the Company is obligated to issue other securities (including Common Stock) of the Company, pay cash and/or distribute other property pursuant to Section 11(a) hereof, the Company will make all arrangements necessary so that such other securities, cash and/or other property are available for distribution by the Rights Agent, if and when appropriate. The Company reserves the right to require prior to the occurrence of a Triggering Event that, upon any exercise of Rights, a number of Rights be exercised so that only whole shares of Preferred Stock would be issued. Notwithstanding any other provision of this Agreement to the contrary, the Company reserves the right to instruct the Rights Agent to issue shares of Preferred Stock or any Equivalent Stock or depositary receipts in uncertificated form (in lieu of certificated form), in which event the Company and the Rights Agent may agree upon such ancillary terms and conditions, and any necessary modifications to this Agreement, as apply to securities issued in uncertificated form without the approval of any holder of shares of Common Stock, Rights or Rights Certificates.
(d) In case the registered holder of any Rights Certificate shall exercise
less than all the Rights evidenced thereby, a new Rights Certificate evidencing
Rights equivalent to the Rights remaining unexercised shall be issued by the
Rights Agent to, or upon the order of, the registered holder of such Rights
Certificate or to his duly authorized assigns, subject to the provisions of
Section 14.
(e) Notwithstanding any provision of this Agreement to the contrary, upon
the occurrence of any of the events described in Section 11(a)(ii) (a "Section
11(a)(ii) Event") or in clause (a), (b) or (c) of the first sentence of Section
13 (a "Section 13 Event"), the adjustments provided for under Section 11(a)(ii)
and Section 13 with respect to the amount (but not the type) of securities
receivable upon exercise of a Right shall not apply with respect to any Rights
that are at the time of the occurrence of such event Beneficially Owned by (i)
an Acquiring Person or by any Associate or Affiliate of such Acquiring Person or
(ii) a transferee of an Acquiring Person or of any Associate or Affiliate of
such Acquiring Person (A) who becomes a transferee after the Acquiring Person
becomes such, or (B) who becomes a transferee prior or to or concurrently with
the Acquiring Person becoming such and receives such Rights pursuant to either
(1) a transfer (whether or not for consideration) from the Acquiring Person to
holders of equity interests in such Acquiring Person or to any Person with whom
such
Acquiring Person has any continuing agreement, arrangement or understanding regarding the transferred Rights or (2) a transfer which the Board of Directors of the Company has determined is part of a plan, arrangement or understanding which has as a primary purpose or effect the avoidance of this Section 7(e). Upon the exercise of such Rights, the holders thereof shall be entitled to receive, upon payment of the Purchase Price, the type of securities issuable upon exercise of a Right but without giving effect to the adjustments with respect to the amount of securities receivable upon exercise of a Right provided for under Section 11(a)(ii) and Section 13. The Company shall use all reasonable efforts to insure that the provisions of this Section 7(e) and Section 4(b) are complied with, but shall have no liability to any holder of Rights Certificates or other Person as a result of its making or failing to make any determinations with respect to an Acquiring Person or its Affiliates, Associates or transferees hereunder.
(f) Notwithstanding anything in this Agreement to the contrary, neither the Rights Agent nor the Company shall be obligated to undertake any action with respect to a registered holder upon the occurrence of any purported exercise as set forth in this Section 7 unless such registered holder shall have (i) completed and signed the certificate contained in the form of election to purchase set forth on the reverse side of the Rights Certificate surrendered for such exercise, and (ii) provided such additional evidence of the identity of the Beneficial Owner (or former Beneficial Owner) or Affiliates or Associates thereof as the Company shall reasonably request.
time of delivery of such shares (subject to payment of the Purchase Price), be
duly and validly authorized and issued and fully paid and nonassessable, (c) pay
when due and payable any and all federal and state transfer taxes and charges
which may be payable in respect of the issuance or delivery of the Rights
Certificates or of any shares of Preferred Stock (and, following the occurrence
of a Triggering Event, Common Stock and/or other securities) upon the exercise
of Rights and (d) take all such action, from and after the date the Rights
become exercisable hereunder, as may be necessary to permit the exercise of the
Rights for Preferred Stock (and, following the occurrence of a Triggering Event,
Common Stock and/or other securities), including any required registration under
the Securities Act of 1933, as amended (the "1933 Act"), and, in connection
therewith and if deemed desirable by the Company, use its best efforts to list
(or continue the listing of) the Preferred Stock on a national securities
exchange and to cause all shares of Preferred Stock reserved for issuance upon
exercise of Rights to be listed on such exchange upon official notice of
issuance upon such exercise. The Company will also take such action as may be
appropriate under, or to ensure compliance with, the securities or "blue sky"
laws of the various states in connection with the exercisability of the Rights.
The Company may temporarily suspend, for a period of time not to exceed ninety
(90) days, the exercisability of the Rights in order to comply with all
applicable Federal and state securities laws. Upon any such suspension, the
Company shall issue a public announcement (and shall provide written notice to
the Rights Agent) stating that the exercisability of the Rights has been
temporarily suspended, as well as a public announcement at such time as the
suspension is no longer in effect. Notwithstanding any provision of this
Agreement to the contrary, the Rights shall not be exercisable in any
jurisdiction unless the requisite qualification in such jurisdiction shall have
been obtained and until a registration statement has been declared effective.
Notwithstanding the provisions of clause (c) of the first sentence of this
Section 9, the Company shall not be required to pay any transfer tax which may
be payable in respect of any transfer involved in the transfer or delivery of
Rights Certificates or the issuance or delivery of shares of Preferred Stock
(and, following the occurrence of a Triggering Event, Common Stock and/or other
securities) in a name other than that of the registered holder of the Rights
Certificate evidencing Rights surrendered for exercise or to issue or deliver
any shares of Preferred Stock (and, following the occurrence of a Triggering
Event, Common Stock and/or other securities) upon the exercise of any Rights
until any such tax shall have been paid (any such tax being payable by the
holder of such Rights Certificate at the time of surrender) or until it has been
established to the Company's satisfaction that no such tax is due.
(a) (i) In the event the Company shall at any time after the date of
this Agreement (A) declare a dividend on the Preferred Stock payable in
shares of Preferred Stock, (B) subdivide the outstanding Preferred Stock,
(C) combine the outstanding Preferred Stock into a smaller number of shares
or (D) issue any shares of its capital stock in a reclassification of the
Preferred Stock (including any such reclassification in connection with a
consolidation or merger in which the Company is the continuing or surviving
corporation), except as otherwise provided in this Section 11(a) and
Section 7(e), then and in each such event, the number of shares of
Preferred Stock issuable upon the exercise of a Right and the Purchase
Price payable after such event shall be the number of shares of Preferred
Stock issuable immediately prior to such event multiplied by a fraction the
numerator of which is the number of Rights outstanding immediately prior to
such event and the denominator of which is the number of Rights outstanding
immediately after such event and the Purchase Price after such event shall
be the Purchase Price in effect immediately prior to such event multiplied
by such fraction. If an event occurs which would require an adjustment
under both Section 11(a)(i) and Section 11(a)(ii), the adjustment provided
for in Section 11(a)(i) shall be in addition to, and shall be made prior
to, any adjustment required pursuant to Section 11(a)(ii).
(ii) In the event that any Person shall, at any time after the Rights
Authorization Date, become an Acquiring Person, unless the event causing
such Person to become an Acquiring Person is a transaction set forth in
Section 13(a) hereof, then proper provision shall be made so that each
holder of a Right, except as provided below and in Section 7(e), shall
thereafter have the right to receive, upon exercise thereof at the then
current Purchase Price in accordance
with the terms of this Agreement, in lieu of a number of one one-thousandths of a share of Preferred Stock, such number of shares of Common Stock as shall, equal the result obtained by (x) multiplying the then current Purchase Price by the then number of one one-thousandths of a share of Preferred Stock for which a Right was exercisable immediately prior to the first occurrence of a Section 11(a)(ii) Event, and (y) dividing that product (which, following such first occurrence, shall thereafter be referred to as the "Purchase Price" for each Right and for all purposes of this Agreement) by 50% of the Current Market Price (determined pursuant to Section 11(d) hereof) per share of Common Stock on the date of such first occurrence (such number of shares, the "Adjustment Shares").
upon exercise in full of the Rights, the thirty (30) day period set forth
above may be extended to the extent necessary, but not more than ninety
(90) days after the Section 11(a)(ii) Trigger Date, in order that the
Company may seek shareholder approval for the authorization of such
additional shares (such thirty (30) day period, as it may be extended, is
herein called the "Substitution Period"). To the extent that action is to
be taken pursuant to the first and/or third sentences of this Section
11(a)(iii), the Company (1) shall provide, subject to Section 7(e) hereof,
that such action shall apply uniformly to all outstanding Rights, and (2)
may suspend the exercisability of the Rights until the expiration of the
Substitution Period in order to seek such shareholder approval for such
authorization of additional shares and/or to decide the appropriate form of
distribution to be made pursuant to such first sentence and to determine
the value thereof. In the event of any such suspension, the Company shall
issue a public announcement stating that the exercisability of the Rights
has been temporarily suspended, as well as a public announcement at such
time as the suspension is no longer in effect. For purposes of this Section
11(a)(iii), the value of each Adjustment Share shall be the current market
price per share of the Common Stock on the Section 11(a)(ii) Trigger Date
and the per share or per unit value of any Common Stock Equivalent shall be
deemed to equal the current market price per share of the Common Stock on
such date.
(b) In case the Company shall fix a record date for the issuance of rights,
options or warrants to all holders of Preferred Stock entitling them (for a
period expiring within 45 calendar days after such record date) to subscribe for
or purchase Preferred Stock (or shares having the same rights, privileges and
preferences as the shares of Preferred Stock ("Equivalent Preferred Stock")) or
securities convertible into Preferred Stock or Equivalent Preferred Stock at a
price per share of Preferred Stock (or having a conversion price per share, if a
security convertible into Preferred Stock or Equivalent Preferred Stock) less
than the current market price per share of Preferred Stock (as defined in
Section 11(d)) on such record date, the Purchase Price to be in effect after
such record date shall be determined by multiplying the Purchase Price in effect
immediately prior to such record date by a fraction, of which the numerator
shall be the number of shares of Preferred Stock outstanding on such record date
plus the number of shares of Preferred Stock which the aggregate offering price
of the total number of shares of Preferred Stock and/or Equivalent Preferred
Stock so to be offered (and/or the aggregate initial conversion price of the
convertible securities so to be offered) would purchase at such current market
price and of which the denominator shall be the number of shares of Preferred
Stock outstanding on such record date plus the number of additional shares of
Preferred Stock and/or Equivalent Preferred Stock to be offered for subscription
or purchase (or into which the convertible securities to be offered are
initially convertible). In case such subscription price may be paid in a
consideration part or all of which may be in a form other than cash, the value
of such consideration shall be as determined in good faith by the Board of
Directors of the Company, whose determination shall be described in a statement
filed with the Rights Agent and shall be binding on the Rights Agent and the
holders of the Rights. Shares of Preferred Stock owned by or held for the
account of
the Company shall not be deemed outstanding for the purpose of any such computation. Such adjustment shall be made successively whenever such a record date is fixed; and in the event that such rights or warrants are not so issued, the Purchase Price shall be adjusted to be the Purchase Price which would then be in effect if such record date had not been fixed.
(c) In case the Company shall fix a record date for the making of a distribution to all holders of Preferred Stock (including any such distribution made in connection with a consolidation or merger in which the Company is the continuing corporation) of evidences of indebtedness, cash (other than a regular quarterly cash dividend out of the earnings or retained earnings of the Company), assets (other than a dividend payable in Preferred Stock, but including any dividend payable in stock other than Preferred Stock) or evidences of indebtedness, or of subscription rights or warrants (excluding those referred to in Section 11(b)), the Purchase Price to be in effect after such record date shall be determined by multiplying the Purchase Price in effect immediately prior to such record date by a fraction, of which the numerator shall be the current market price per share of Preferred Stock (as defined in Section 11(d)) on such record date, less the fair market value (as determined in good faith by the Board of Directors of the Company, whose determination shall be described in a statement filed with the Rights Agent) of the portion of the cash, assets or evidences of indebtedness so to be distributed or of such subscription rights or warrants applicable to one share of Preferred Stock, and of which the denominator shall be such current market price per share of Preferred Stock. Such adjustments shall be made successively whenever such a record date is fixed; and in the event that such distribution is not so made, the Purchase Price shall again be adjusted to be the Purchase Price which would then be in effect if such record date had not been fixed.
(d) (i) For the purpose of any computation hereunder, other than
computations made pursuant to Section 11(a)(iii), the "current market
price" per share of Common Stock on any date shall be deemed to be the
average of the daily closing prices per share of such Common Stock for the
30 consecutive Trading Days immediately prior to such date, and for
purposes of computations made pursuant to Section 11(a)(iii) hereof, the
"Current Market Price" per share of Common Stock on any date shall be
deemed to be the average of the daily closing prices per share of such
Common Stock for the ten (10) consecutive Trading Days immediately
following such date; provided, however, that in the event that the current
market price per share of such stock is determined during a period
following the announcement by the issuer of such stock of (A) a dividend or
distribution on such stock payable in shares of such stock or securities
convertible into shares of such stock (other than the Rights), or (B) any
subdivision, combination or reclassification of such Common Stock, and the
ex-dividend date for such dividend or distribution, or the record date for
such subdivision, combination or reclassification shall not have occurred
prior to the commencement of the requisite thirty (30) Trading Day or ten
(10) Trading Day period, as set forth above, then, and in each such case,
the current market price
shall be appropriately adjusted to take into account ex-dividend trading. The closing price for each day shall be the last sale price, regular way, or, in case no such sale takes place on such day, the average of the closing bid and asked prices, regular way, in either case as reported in the principal consolidated transaction reporting system with respect to securities listed or admitted to trading on the New York Stock Exchange or, if the shares of such stock are not listed or admitted to trading on the New York Stock Exchange, as reported in the principal consolidated transaction reporting system with respect to securities listed on the principal national securities exchange on which the shares of such stock are listed or admitted to trading or, if the shares of such stock are not listed or admitted to trading on any national securities exchange, last quoted price or, if not so quoted, the average of the high bid and low asked prices in the over-the-counter market, as reported by the National Association of Securities Dealers Automated Quotation System ("NASDAQ") or such other system then in use. If on any such date the shares of such stock are not quoted by any such organization, the average of the closing bid and asked prices as furnished by a professional market maker making a market in the Common Stock selected by the Board. If on any such date no market maker is making a market in the Common Stock, the fair value of such shares on such date as determined in good faith by the Board shall be used. The term "Trading Day" shall mean a day on which the principal national securities exchange on which the shares of such stock are listed or admitted to trading is open for the transaction of business or, if the shares of such stock are not listed or admitted to trading on any national securities exchange, a Business Day. If such stock is not publicly held or not so listed or traded, "current market price" per share shall mean the fair value per share as determined in good faith by the Board of Directors of the Company, whose determination shall be described in a statement filed with the Rights Agent and shall be conclusive for all purposes.
(ii) For the purpose of any computation hereunder, the current market price per share of Preferred Stock shall be determined in the same manner as set forth above for the Common Stock in clause (i) of this Section 11(d) (other than the last sentence thereof). If the current market price per share of Preferred Stock cannot be determined in the manner provided above or if the Preferred Stock is not publicly held or listed or traded in a manner provided above or if the Preferred Stock is not publicly held or listed or traded in a manner described in clause (i) of this Section 11(d), the current market price per share of Preferred Stock shall be conclusively deemed to be an amount equal to 1,000 (as such number may be appropriately adjusted for such events as stock splits, stock dividends and recapitalizations with respect to the Common Stock occurring after the date of this Agreement) multiplied by the current market price per share of the Common Stock. If neither the Common Stock nor the Preferred Stock is publicly held or so listed or traded, current market price per share of the Preferred Stock shall mean the fair value per share as determined in good faith by the Board, whose determination shall be described in a statement filed with the Rights Agent and shall be conclusive for all purposes. For all purposes of this Agreement, the
current market price of a Unit shall be equal to the current market price of one share of Preferred Stock divided by 1,000.
(f) In the event that at any time, as a result of an adjustment made pursuant to Section 11(a)(ii) or Section 13(a), the holder of any Right thereafter exercised shall become entitled to receive any shares of capita1 stock of the Company other than shares of Preferred Stock, thereafter the number of such other shares so receivable upon exercise of any Right shall be subject to adjustment from time to time in a manner and on terms as nearly equivalent as practicable to the provisions with respect to the Preferred Stock contained in Sections 11(a) , (b), (c), (e), (g), (h), (i), (j), (k) and (m), and the provisions of Sections 7, 9, 10, 13 and 14 with respect to the shares of Preferred Stock shall apply on like terms to any such other shares.
(g) All Rights originally issued by the Company subsequent to any adjustment made to the Purchase Price hereunder shall evidence the right to purchase, at the adjusted Purchase Price, the number of one one-thousandths of a share of Preferred Stock purchasable from time to time hereunder upon exercise of the Rights, all subject to further adjustment as provided herein.
(h) Unless the Company shall have exercised its election as provided in
Section 11(i), upon each adjustment of the Purchase Price as a result of the
calculations made in Section 11(b) and (c), each Right outstanding immediately
prior to the making of such adjustment shall thereafter evidence the right to
purchase, at the adjusted Purchase Price, that number of one one-thousandths of
a share of Preferred Stock (calculated to the nearest one-millionth) obtained by
(i) multiplying (x) the number of one one-thousandths of a share covered by a
Right immediately prior to such adjustment by (y) the Purchase Price in effect
immediately prior to such adjustment of the Purchase Price and (ii) dividing the
product so obtained by the Purchase Price in effect immediately after such
adjustment of the Purchase Price.
(i) The Company may elect on or after the date of any adjustment of the Purchase Price to adjust the number of Rights, in substitution for an adjustment in the number of shares of Preferred Stock purchasable upon the exercise of a Right. Each of the Rights outstanding after such adjustment of the number of Rights shall be exercisable
for the number of shares of Preferred Stock of which a Right related immediately prior to such adjustment. Each Right held of record prior to such adjustment of the number of Rights shall become that number of Rights (calculated to the nearest ten-thousandth) obtained by dividing the Purchase Price in effect immediately prior to adjustment of the Purchase Price by the Purchase Price in effect immediately after adjustment of the Purchase Price. The Company shall make a public announcement of its election to adjust the number of Rights, indicating the record date for the adjustment, and, if known at the time, the amount of the adjustment to be made. This record date may be the date on which the Purchase Price is adjusted or any day thereafter, but, if the Rights Certificates have been issued, shall be at least 10 days later than the date of the public announcement. If Rights Certificates have been issued, upon each adjustment of the number of Rights pursuant to this Section 11(i) the Company shall, as promptly as practicable, cause to be distributed to holders of record of Rights Certificates on such record date Rights Certificates evidencing, subject to Section 14, the additional Rights to which such holders shall be entitled as a result of such adjustment, or, at the option of the Company, shall cause to be distributed to such holders of record in substitution and replacement for the Rights Certificates held by such holders prior to the date of adjustment, and upon surrender thereof, if required by the Company, new Rights Certificates evidencing all the Rights to which such holders shall be entitled after such adjustment. Rights Certificates so to be distributed shall be issued, executed and countersigned in the manner provided for herein (and may bear, at the option of the Company, the adjusted Purchase Price) and shall be registered in the names of the holders of record of Rights Certificates on the record date specified in the public announcement.
(j) Irrespective of any adjustment or change in the Purchase Price or the number of one one-thousandths of a share of Preferred Stock issuable upon the exercise of the Rights, the Rights Certificates theretofore and thereafter issued may continue to express the Purchase Price per one one-thousandth share and the number of shares which were expressed in the initial Rights Certificates issued hereunder.
(k) Before taking any action that would cause an adjustment reducing the Purchase Price below the then stated value, if any, of the shares of Preferred Stock issuable upon exercise of the Rights, the Company shall take all corporate action which may, in the opinion of its counsel, be necessary in order that the Company may validly and legally issue fully paid and nonassessable shares of such Preferred Stock at such adjusted Purchase Price.
(l) In any case in which this Section 11 shall require that an adjustment in the Purchase Price be made effective as of a record date for a specified event, the Company may elect to defer until the occurrence of such event the issuing to the holder of any Right exercised after such record date the shares of Preferred Stock and other capital stock or securities of the Company, if any, issuable upon such exercise over and above the shares of Preferred Stock and other capital stock or securities of the Company, if any, issuable upon such exercise on the basis of the Purchase Price in effect prior to such adjustment; provided, however, that the Company shall deliver to such
holder a due bill or other appropriate instrument evidencing such holder's right to receive such additional shares (fractional or otherwise) or securities upon the occurrence of the event requiring such adjustment.
(m) Anything in this Section 11 to the contrary notwithstanding, the Company shall be entitled to make such reductions in the Purchase Price, in addition to those adjustments expressly required by this Section 11, as and to the extent that in their good faith judgment the Board of Directors of the Company shall determine to be advisable in order that any (i) consolidation or subdivision of the Preferred Stock, (ii) issuance wholly for cash of any shares of Preferred Stock at less than the current market price, (iii) issuance wholly for cash of shares of Preferred Stock or securities which by their terms are convertible into or exchangeable for shares of Preferred Stock, (iv) stock dividends or (v) issuance of rights, options or warrants referred to hereinabove in this Section 11, hereafter made by the Company to holders of its Preferred Stock shall not be taxable to such stockholders.
(n) The Company covenants and agrees that it shall not, at any time after the Distribution Date, (i) consolidate with any other Person (other than a Subsidiary of the Company in a transaction which complies with Section 11(o) hereof), (ii) merge with or into any other Person (other than a Subsidiary of the Company in a transaction which complies with Section 11(o) hereof), or (ii) sell or transfer (or permit any Subsidiary to sell or transfer), in one transaction, or a series of related transactions, assets, cash flow or earning power aggregating more than 50% of the assets, cash flow or earning power of the Company and its Subsidiaries (taken as a whole) to any other Person or Persons (other than the Company and/or any of its Subsidiaries in one or more transactions each of which complies with Section 11(o) hereof), if (x) at the time of or immediately after such consolidation, merger or sale there are any rights, warrants or other instruments or securities outstanding or agreements in effect which would substantially diminish or otherwise eliminate the benefits intended to be afforded by the Rights or (y) prior to, simultaneously with or immediately after such consolidation, merger or sale, the shareholders of the Person who constitutes, or would constitute, the "Principal Party" for purposes of Section 13(a) hereof shall have received a distribution of Rights previously owned by such Person or any of its Affiliates and Associates.
(o) The Company covenants and agrees that, after the Distribution Date, it will not, except as permitted by Section 23, Section 24 or Section 27 hereof, take (or permit any Subsidiary to take) any action if at the time such action is taken it is reasonably foreseeable that such action will diminish substantially or otherwise eliminate the benefits intended to be afforded by the Rights.
(p) Anything in this Agreement to the contrary notwithstanding, in the event that the Company shall at any time after the Rights Authorization Date and prior to the Distribution Date (i) declare a dividend on the outstanding shares of Common Stock payable in shares of Common Stock, (ii) subdivide the outstanding shares of Common Stock, or (iii) combine the outstanding shares of Common Stock into a smaller number of
shares, the number of Rights associated with each share of Common Stock then outstanding, or issued or delivered thereafter but prior to the Distribution Date, shall be proportionately adjusted so that the number of Rights thereafter associated with each share of Common Stock following any such event shall equal the result obtained by multiplying the number of Rights associated with each share of Common Stock immediately prior to such event by a fraction the numerator of which shall be the total number of shares of Common Stock outstanding immediately prior to the occurrence of the event and the denominator of which shall be the total number of shares of Common Stock outstanding immediately following the occurrence of such event.
(A) proper provision shall be made so that (i) each holder of a Right (except as provided in Section 7(e)) shall thereafter have the right to receive, upon the exercise thereof at the then current Purchase Price in accordance with the terms of this Agreement, such number of validly authorized and issued, fully paid, non-assessable and freely tradeable shares of common stock of the Principal Party (as hereinafter defined), not subject to any liens, encumbrances, rights of first
refusal or other adverse claims, as shall be equal to the result obtained
by (1) multiplying the then current Purchase Price by the number of one
one-thousandths of a share of Preferred Stock for which a Right is
exercisable immediately prior to the first occurrence of a Section 13 Event
(or, if a Section 11(a)(ii) Event has occurred prior to the first
occurrence of a Section 13 Event, multiplying the number of such one
one-thousandths of a share for which a Right was exercisable immediately
prior to the first occurrence of a Section 11(a)(ii) Event by the Purchase
Price in effect immediately prior to such first occurrence), and dividing
that product (which following the first occurrence of a Section 13 Event
shall be referred to as the "Purchase Price" for each Right and for all
purposes of this Agreement) by (2) 50% of the Current Market Price
(determined pursuant to Section 11(d)(i) hereof) per share of the common
stock of such Principal Party, on the date of consummation of such Section
13 Event; (ii) the Principal Party shall thereafter be liable for, and
shall assume, by virtue of such Section 13 Event, all the obligations and
duties of the Company pursuant to this Agreement; (iii) the term "Company"
shall thereafter be deemed to refer to such Principal Party, it being
specifically intended that the provisions of Section 11 hereof shall apply
only to such Principal Party following the first occurrence of a Section 13
Event; (iv) the Principal Party shall take such steps (including, but not
limited to, the reservation of a sufficient number of shares of its common
stock) in connection with such consummation as may be necessary to assure
that the provisions hereof shall thereafter be applicable, as nearly as
reasonably may be, in relation to the shares of its common stock thereafter
deliverable upon the exercise of the Rights; and (v) the provisions of
Section 11(a)(ii) hereof shall be of no effect following the first
occurrence of any Section 13 Event.
(B) "Principal Party" shall mean:
(1) in the case of any transaction described in (a) or (b) of the first sentence of this Section 13, (i) the Person that is the issuer of any securities into which shares of Common Stock of the Company are converted in such merger or consolidation, or, if there is more than one such issuer, the issuer the common stock of which has the greatest market value or (ii) if no securities are so issued, (x) the Person that is the other party to the merger or consolidation and that survives said merger or consolidation or, if there is more than one such Person, the Person the common stock of which has the greatest market value or (y) if the Person that is the other party to the merger or consolidation does not survive the merger or consolidation, the Person that does survive the merger or consolidation (including the Company if it survives);
(2) in the case of any transaction described in (c) of the first sentence of this Section 13, the Person that is the party receiving the greatest portion of the assets, cash flow or earning power transferred pursuant to such transaction or transactions, or, if each Person that is a party to such transaction or transactions
receives the same portion of the assets, cash flow or earning power so transferred or if the Person receiving the greatest portion of the assets, cash flow or earning power cannot be determined, whichever of such Persons as is the issuer of common stock having the greatest market value of shares outstanding;
The Company shall not consummate any such consolidation, merger, sale or transfer unless prior thereto the Company and such Principal Party shall have executed and delivered to the Rights Agent a supplemental agreement making valid provision for the results described in subsections (A) and (B) above and further providing that, as soon as practicable after the date of any consolidation, merger or sale of assets mentioned in this Section 13, the Principal Party will:
(i) prepare and file a registration statement under the 1933 Act, with respect to the Rights and the securities purchasable upon exercise of the Rights on an appropriate form, and will use its best efforts to cause such registration statement to (A) become effective as soon as practicable after such filing and (B) remain effective (with a prospectus at all times meeting the requirements of the 1933 Act) until the Expiration Date; and
(ii) take all such other action as may be necessary to enable the Principal Party to issue the securities purchasable upon exercise of the Rights, including but not limited to the registration or qualification of such securities under all requisite securities laws of jurisdictions of the various states and the listing of such securities on such exchanges and trading markets as may be necessary or appropriate; and
(iii) will deliver to holders of the Rights historical financial statements for the Principal Party and each of its Affiliates which comply in all respects with the requirements for registration on Form 10 under the Exchange Act;
(b) The Company shall not be required to issue fractions of shares of Preferred Stock (other than fractions which are integral multiples of the fraction of a share for which a Right is then exercisable) upon exercise of the Rights or to distribute certificates which evidence fractional shares (other than fractions which are integra1 multiples of the fraction of share for which a Right is exercisable). In lieu of fractional shares that are not integral multiples of the fraction for which a Right is then exercisable, the Company may pay to the registered holders of Rights Certificates at the time such Rights Certificates are exercised as herein provided an amount in cash equal to the same fraction of the current market value of a share of Preferred Stock. For purposes of this Section 14, the current market value of a share of Preferred Stock shall be the closing price of a share of Preferred Stock (as determined pursuant to the second sentence of Section 11(d)) for the Trading Day immediately prior to the date of such exercise.
(c) Following the occurrence of a Triggering Event, the Company shall not
be required to issue fractions of shares of Common Stock upon exercise of the
Rights or to distribute certificates which evidence fractional shares of Common
Stock. In lieu of fractional shares of Common Stock, the Company may pay to the
registered holders of Rights Certificates at the time such Rights are exercised
as herein provided an amount in cash equal to the same fraction of the current
market value of one (1) share of Common Stock. For purposes of this Section
14(c), the current market value of one share of Common Stock shall be the
closing price of one share of Common Stock (as determined pursuant to Section
11(d) hereof) for the Trading Day immediately prior to the date of such
exercise.
(d) The holder of a Right by the acceptance of the Rights expressly waives his right to receive any fractional Rights or any fractional shares upon exercise of a Right, except as permitted by this Section 14.
(a) prior to the Distribution Date, the Rights will be transferable only in connection with the transfer of Common Stock (whether such shares of Common Stock are in uncertificated or certificated form);
(b) after the Distribution Date, the Rights Certificates are transferable only on the registry books of the Rights Agent and then if surrendered at the principal stock transfer office of the Rights Agent, duly endorsed or accompanied by a proper instrument of transfer and with the appropriate forms and certificates fully executed; and
(c) subject to Sections 6(a) and 7(f), the Company and the Rights Agent may deem and treat the person in whose name the Rights Certificate (or, prior to the Distribution Date, the associated share of Common Stock, whether in uncertificated or certificated form) is registered as the absolute owner thereof and of the Rights evidenced thereby (notwithstanding any notations of ownership or writing on the Rights Certificate or any associated Common Stock certificate made by anyone other than the Company or the Rights Agent) for all purposes whatsoever, and neither the Company nor the Rights Agent, subject to the last sentence of Section 7(e), shall be required to be affected by any notice to the contrary.
(d) Notwithstanding anything in this Agreement to the contrary, neither the Company nor the Rights Agent shall have any liability to any holder of a Right or other Person as a result of its inability to perform any of its obligations under this Agreement by reason of any preliminary or permanent injunction or other order, decree or ruling issued by a court of competent jurisdiction or by a governmental, regulatory or administrative agency or commission, or any statute, rule, regulation or executive order promulgated or enacted by any governmental authority, prohibiting or otherwise restraining performance of such obligation; provided, however, the Company must use its best efforts to have any such order, decree or ruling lifted or otherwise overturned as soon as possible.
Section 25) or to receive dividends or subscription rights, or otherwise, until the Right or Rights shall have been exercised in accordance with the provisions hereof.
(b) The Rights Agent shall be protected and shall incur no liability for or in respect of any action taken, suffered or omitted by it in connection with its administration of this Agreement in reliance upon any Rights Certificate or certificate for Common Stock or for other securities of the Company, instrument of assignment or transfer, power of attorney, endorsement, affidavit, letter, notice, direction, consent, certificate, statement, or other paper or document believed by it to be genuine and to be signed, executed and, where necessary, verified or acknowledged, by the proper person or persons.
(b) In case at any time the name of the Rights Agent shall be changed and at such time any of the Rights Certificates shall have been countersigned but not delivered, the Rights Agent may adopt the countersignature under its prior name and
deliver Rights Certificates so countersigned; and in case at that time any of the Rights Certificates shall not have been countersigned, the Rights Agent may countersign such Rights Certificates, either in its prior name or in its changed name; and in all such cases such Rights Certificates shall have the full force provided in the Rights Certificates and in this Agreement.
(a) The Rights Agent may consult with legal counsel (who may be legal counsel for the Company), and the opinion of such counsel shall be full and complete authorization and protection to the Rights Agent as to any action taken or omitted by it in good faith and in accordance with such opinion.
(b) Whenever in the performance of its duties under this Agreement the Rights Agent shall deem it necessary or desirable that any fact or matter (including, without limitation, the identity of any Acquiring Person and the determination of Current Market Price) be proved or established by the Company prior to taking or suffering any action hereunder, such act or matter (unless other evidence in respect thereof be herein specifically prescribed) may be deemed to be conclusively proved and established by a certificate signed by the Chairman of the Board, the President, any Vice President, the Treasurer, any Assistant Treasurer, the Secretary or any Assistant Secretary of the Company and delivered to the Rights Agent; and such certificate shall be full authorization to the Rights Agent for any action taken or suffered in good faith by it under the provisions of this Agreement in reliance upon such certificate.
(c) The Rights Agent shall be liable hereunder only for its own negligence, bad faith or willful misconduct.
(d) The Rights Agent shall not be liable for or by reason of any of the statements of fact or recitals contained in this Agreement or in the Rights Certificates, or be required to verify the same (except its countersignature thereof), but all such statements and recitals are and shall be deemed to have been made by the Company only.
(e) The Rights Agent shall not be under any responsibility in respect of the validity of this Agreement or the execution and delivery hereof (except the due execution hereof by the Rights Agent) or in respect of the validity or execution of any Rights Certificate (except its countersignature thereof); nor shall it be responsible for any breach by the Company of any covenant or condition contained in this Agreement or in any Rights Certificate; nor shall it be responsible for any adjustment required under the provisions of Section 11, 13 or 24 or responsible for the manner, method or amount of any such adjustment or the ascertaining of the existence of facts that would require any such adjustment (except with respect to the exercise of Rights evidenced by Rights Certificates after actual notice of any such adjustment); nor shall it by any act hereunder
be deemed to make any representation or warranty as to the authorization or reservation of any shares of Common Stock or Preferred Stock to be issued pursuant to this Agreement or any Rights Certificate or as to whether any shares of Common Stock or Preferred Stock will, when so issued, be validly authorized and issued, fully paid and nonassessable.
(f) The Company agrees that it will perform, execute, acknowledge and deliver or cause to be performed, executed, acknowledged and delivered all such further and other acts, instruments and assurances as may reasonably be required by the Rights Agent for the carrying out or performing by the Rights Agent of the provisions of this Agreement.
(g) The Rights Agent is hereby authorized and directed to accept instructions with respect to the performance of its duties hereunder from the Chairman of the Board, the President, any Vice President, the Secretary, any Assistant Secretary, the Treasurer or any Assistant Treasurer of the Company, and to apply to such officers for advice or instructions in connection with its duties, and shall not be liable for any action taken or suffered to be taken by it in good faith in accordance with instructions of any such officer.
(h) The Rights Agent and any shareholder, director, officer or employee of the Rights Agent may buy, sell or deal in any of the Rights or other securities of the Company or become pecuniarily interested in any transaction in which the Company may be interested, or contract with or lend money to the Company or otherwise act as fully and freely as though it were not Rights Agent under this Agreement. Nothing herein shall preclude the Rights Agent from acting in any other capacity for the Company or for any other legal entity.
(i) The Rights Agent may execute and exercise any of the rights or powers hereby vested in it or perform any duty hereunder either itself or by or through its attorneys or agents, and the Rights Agent shall not be answerable or accountable for any act, default, neglect or misconduct of any such attorneys or agents or for any loss to the Company resulting from any such act, default, neglect or misconduct, provided reasonable care was exercised in the selection and continued employment thereof.
(j) No provision of this Agreement shall require the Rights Agent to expend or risk its own funds or otherwise incur any financial liability in the performance of any of its duties hereunder or in the exercise of its rights if there shall be reasonable grounds for believing that repayment of such funds or adequate indemnification against such risk or liability is not reasonably assured to it.
(k) If, with respect to any Rights Certificate surrendered to the Rights Agent for exercise or transfer, the certificate attached to the form of assignment or form of election to purchase, as the case may be, has either not been completed or indicates an affirmative response to clause 1 and/or 2 thereof, the Rights Agent shall not take any
further action with respect to such requested exercise or transfer without first consulting with the Company.
(c) In any exchange pursuant to this Section 24, the Company, at its option, may substitute Preferred Stock (or Equivalent Preferred Stock, as such term is defined in paragraph (b) of Section 11 hereof) for Common Stock exchangeable for Rights, at the initial rate of one one-thousandth of a share of Preferred Stock (or Equivalent Preferred Stock) for each share of Common Stock, as appropriately adjusted to reflect stock splits, stock dividends and other similar transactions after the date hereof.
(d) In the event that there shall not be sufficient shares of Common Stock issued but not outstanding or authorized but unissued to permit any exchange of Rights as contemplated in accordance with this Section 24, the Company shall take all
such action as may be necessary to authorize additional shares of Common Stock for issuance upon exchange of the Rights.
(e) The Company shall not be required to issue fractions of shares of
Common Stock or to distribute certificates which evidence fractional shares of
Common Stock. In lieu of such fractional shares of Common Stock, there shall be
paid to the registered holders of the Rights Certificates with regard to which
such fractional shares of Common Stock would otherwise be issuable, an amount in
cash equal to the same fraction of the current market value of a whole share of
Common Stock. For the purposes of this subsection (e), the current market value
of a whole share of Common Stock shall be the closing price of a share of Common
Stock (as determined pursuant to the second sentence of Section 11(d)(i) hereof)
for the Trading Day immediately prior to the date of exchange pursuant to this
Section 24.
(b) In case any of the events set forth in Section 11(a)(ii) hereof shall occur, then, in any such case, (i) the Company shall as soon as practicable thereafter give to each holder of a Rights Certificate, to the extent feasible and in accordance with Section 26 hereof, a notice of the occurrence of such event, which shall specify the event
and the consequences of the event to holders of Rights under Section 11(a)(ii) hereof, and (ii) all references in the preceding paragraph to Preferred Stock shall be deemed thereafter to refer to Common Stock and/or, if appropriate, other securities.
Prudential Financial, Inc.
751 Broad Street
Prudential Plaza, 23rd Floor
Newark, New Jersey 07102-3777
Attention: General Counsel
Subject to the provisions of Section 21, any notice or demand authorized by this Agreement to be given or made by the Company or by the holder of any Rights Certificate to or on the Rights Agent shall be sufficiently given or made if sent by first-class mail, postage prepaid, addressed (until another address is filed in writing with the Company) as follows:
EquiServe Trust Company, N.A.
[Address]
Attention: [Title]
Notices or demands authorized by this Agreement to be given or made by the Company or the Rights Agent to the holder of any Rights Certificate (or, if prior to the Distribution Date, to the holder of shares of Common Stock, whether in certificated or uncertificated form) shall be sufficiently given or made if sent by first-class mail, postage prepaid, addressed to such holder at the address of such holder as shown on the registry books of the Rights Agent.
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed and their respective corporate seals to be hereunto affixed and attested, all as of the day and year first above written.
Attest PRUDENTIAL FINANCIAL, INC.
By
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Title: Title:
Attest EQUISERVE TRUST COMPANY, N.A.
By
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Title: Title:
-39-
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Exhibit A
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Terms of Series A Junior Participating Preferred Stock as included in the Certificate of Amendment to the Amended and Restated Certificate of Incorporation of Prudential Financial, Inc.
(A) Subject to the prior and superior rights of the holders of any shares of any series of Preferred Stock ranking prior and superior to the shares of Series A Junior Participating Preferred Stock with respect to dividends, the holders of shares of Series A Junior Participating Preferred Stock shall be entitled to receive, when, as and if declared by the Board of Directors out of funds legally available for the purpose, annual dividends payable in cash on the first day of ________________ in each year (such date being referred to herein as an "Annual Dividend Payment Date"), commencing on the first Annual Dividend Payment Date after the first issuance of a share or fraction of a share of Series A Junior Participating Preferred Stock, in an amount per share (rounded to the nearest cent) equal to the greater of (a) $10.00 or (b) subject to the provision for adjustment hereinafter set forth, 1,000 times the aggregate per share amount of all cash dividends, and 1,000 times the aggregate per share amount (payable in kind) of all non-cash dividends or other distributions other than a dividend payable in shares of Common Stock or a subdivision of the outstanding shares of Common Stock (by reclassification or otherwise), declared on the Common Stock, par value $.01 per share, of the Corporation (the "Common Stock", which term shall not include the Corporation's Class B Stock) since the immediately preceding Annual Dividend Payment Date, or, with respect to the first Annual Dividend Payment Date, since the first issuance of any share or fraction of a share of Series A Junior Participating Preferred Stock. In the event the Corporation shall at any time after ________________ (the "Original Issuance Date") (i) declare any dividend on Common Stock payable in shares of Common Stock, (ii) subdivide the outstanding Common Stock, or (iii) combine the outstanding Common Stock into a smaller number of shares, then in each such case the amount to which holders of shares of Series A Junior Participating Preferred Stock were entitled immediately prior to such event under clause (b) of the preceding sentence shall be adjusted by multiplying such amount by a fraction the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event.
(B) The Corporation shall declare a dividend or distribution on the Series A Junior Participating Preferred Stock as provided in Paragraph (A) above immediately after it declares a dividend or distribution on the Common Stock (other than a dividend payable in shares of Common Stock); provided that, in the event no dividend or distribution shall have been declared on the Common Stock during the period between
any Annual Dividend Payment Date and the next subsequent Annual Dividend Payment Date, a dividend of $10.00 per share on the Series A Junior Participating Preferred Stock shall nevertheless be payable on such subsequent Annual Dividend Payment Date.
(C) Dividends shall begin to accrue and be cumulative on outstanding shares of Series A Junior Participating Preferred Stock from the Annual Dividend Payment Date next preceding the date of issue of such shares of Series A Junior Participating Preferred Stock, unless the date of issue of such shares is prior to the record date for the first Annual Dividend Payment Date, in which case dividends on such shares shall begin to accrue from the date of issuance of such shares, or unless the date of issue is an Annual Dividend Payment Date or is a date after the record date for the determination of holders of shares of Series A Junior Participating Preferred Stock entitled to receive an annual dividend and before such Annual Dividend Payment Date, in either of which events such dividends shall begin to accrue and be cumulative from such Annual Dividend Payment Date. Accrued but unpaid dividends shall not bear interest. Dividends paid on the shares of Series A Junior Participating Preferred Stock in an amount less than the total amount of such dividends at the time accrued and payable on such shares shall be allocated pro rata on a share-by-share basis among all such shares at the time outstanding. The Board of Directors may fix a record date for the determination of holders of shares of Series A Junior Participating Preferred Stock entitled to receive payment of a dividend or distribution declared thereon, which record date shall be no more than 30 days prior to the date fixed for the payment thereof.
(A) Subject to the provision for adjustment hereinafter set forth, each share of Series A Junior Participating Preferred Stock shall entitle the holder thereof to 1,000 votes on all matters submitted to a vote of the stockholders of the Corporation. In the event the Corporation shall at any time after the Original Issuance Date (i) declare any dividend on Common Stock payable in shares of Common Stock, (ii) subdivide the outstanding Common Stock, or (iii) combine the outstanding Common Stock into a smaller number of shares, then in each such case the number of votes per share to which holders of shares of Series A Junior Participating Preferred Stock were entitled immediately prior to such event shall be adjusted by multiplying such number by a fraction the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event.
(B) Except as otherwise provided herein or by law or, as to the Class B Stock, as otherwise provided in Section (b)4 of Article FOURTH of the Corporation's Amended and Restated Certificate of Incorporation, the holders of shares of Series A Junior Participating Preferred Stock and the holders of shares of Common Stock and Class B Stock shall vote together as one class on all matters submitted to a vote of stockholders of the Corporation.
(C) (i) If at any time dividends on any Series A Junior Participating Preferred Stock shall be in arrears in an amount in excess of one annual dividend thereon, the occurrence of such contingency shall mark the beginning of a period (herein called a "default period") which shall extend until such time when all accrued and unpaid dividends for all previous annual dividend periods and for the current annual dividend period on all shares of Series A Junior Participating Preferred Stock then outstanding shall have been declared and paid or set apart for payment. During each default period, holders of the Series A Junior Participating Preferred Stock, together with holders of any other series of Preferred Stock whose terms expressly provide that such series shall so vote together with the holders of the Series A Junior Participating Preferred Stock when dividends on such other series are in arrears in an amount specified in such series (including if so specified, but not limited to, an arreage of six quarterly dividend periods in accordance with New York Stock Exchange rules) ("Similar Default Voting Preferred Stock"), voting as a class, irrespective of series, shall have the right to elect two (2) directors.
(ii) During any default period, such voting right of the holders of Series A Junior Participating Preferred Stock may be exercised initially at a special meeting called pursuant to subparagraph (iii) of this Section 3(C) or at any annual meeting of stockholders, and thereafter at annual meetings of shareholders, provided that neither such voting right nor the right of the holders of any Similar Default Voting Preferred Stock, if any, to increase, in certain cases, the authorized number of directors shall be exercised unless the holders of ten percent (10%) in number of shares of Series A Junior Participating Preferred Stock and Similar Voting Preferred Stock outstanding shall be present in person or by proxy. The absence of a quorum of the holders of Common Stock shall not affect the exercise by the holders of such Preferred Stock of such voting right. At any meeting at which the holders of such Preferred Stock shall exercise such voting right initially during an existing default period, they shall have the right, voting as a class, to elect directors to fill such vacancies, if any, in the Board of Directors as may then exist up to two (2) directors or, if such right is exercised at an annual meeting, to elect two (2) directors. If the number which may be so elected at any special meeting does not amount to the required number, the holders of such Preferred Stock shall have the right to make such increase in the number of directors as shall be necessary to permit the election by them of the required number. After the holders of such Preferred Stock shall have exercised their right to elect directors in any default period and during the continuance of such period, the number of directors shall not be increased or decreased except by vote of the holders of such Preferred Stock as herein provided or pursuant to the rights of any equity securities ranking senior to or pari passu with the Series A Junior Participating Preferred Stock.
(iii) Unless the holders of Series A Junior Participating Preferred Stock and Similar Default Voting Preferred Stock shall, during an existing default
period, have previously exercised their right to elect directors, the Board of Directors may order, or any stockholder or stockholders owning in the aggregate not less than ten percent (10%) of the total number of shares of such Preferred Stock outstanding, irrespective of series, may request, the calling of a special meeting of the holders of such Preferred Stock, which meeting shall thereupon be called by the President, a Vice-President or the Secretary of the Corporation. Notice of such meeting and of any annual meeting at which holders of such Preferred Stock are entitled to vote pursuant to this Paragraph (C)(iii) shall be given to each holder of record of such Preferred Stock by mailing a copy of such notice to such holder at such holder's last address as the same appears on the books of the Corporation. Such meeting shall be called for a time not earlier than 20 days and not later than 60 days after such order or request or in default of the calling of such meeting within 60 days after such order or request, such meeting may be called on similar notice by any stockholder or stockholders owning in the aggregate not less than ten percent (10%) of the total number of shares of such Preferred Stock outstanding. Notwithstanding the provisions of this Paragraph (C)(iii), no such special meeting shall be called during the period within 60 days immediately preceding the date fixed for the next annual meeting of the stockholders.
(iv) In any default period, the holders of Common Stock and Class B Stock,
and other classes of stock of the Corporation if applicable, shall continue to
be entitled to elect the whole number of directors until the holders of Series A
Junior Participating Preferred Stock and any Similar Voting Preferred Stock
shall have exercised their right to elect two (2) directors voting as a class,
after the exercise of which right (x) the directors so elected by the holders of
such Preferred Stock shall continue in office until their successors shall have
been elected by such holders or until the expiration of the default period, and
(y) any vacancy in the Board of Directors may (except as provided in Paragraph
(C)(ii) of this Section 3) be filled by vote of a majority of the remaining
directors theretofore elected by the holders of the class of stock which elected
the director whose office shall have become vacant. References in this Paragraph
(C) to directors elected by the holders of a particular class of stock shall
include directors elected by such directors to fill vacancies as provided in
clause (y) of the foregoing sentence.
(v) Immediately upon the expiration of a default period, (x) the right of
the holders of Series A Junior Participating Preferred Stock and any Similar
Voting Preferred Stock as a class to elect directors shall cease, (y) the term
of any directors elected by the holders of such Preferred Stock as a class shall
terminate, and (z) the number of directors shall be such number as may be
provided for in the Amended and Restated Certificate of Incorporation or by-laws
irrespective of any increase made pursuant to the provisions of Paragraph (C)
(ii) of this Section 3 (such number being subject, however, to change thereafter
in any manner provided by law or in the Amended and Restated Certificate of
Incorporation or by-laws). Any vacancies in the Board of Directors effected by the provisions of clauses (y) and (z) in the preceding sentence may be filled by a majority of the remaining directors.
(D) Except as set forth herein, holders of Series A Junior Participating Preferred Stock shall have no special voting rights and their consent shall not be required (except to the extent they are entitled to vote with holders of Common Stock as set forth herein) for taking any corporate action.
(A) Whenever annual dividends or other dividends or distributions payable on the Series A Junior Participating Preferred Stock as provided in Section 2 are in arrears, thereafter and until all accrued and unpaid dividends and distributions, whether or not declared, on shares of Series A Junior Participating Preferred Stock outstanding shall have been paid in full, the Corporation shall not:
(i) declare or pay dividends on, make any other distributions on, or redeem or purchase or otherwise acquire for consideration any shares of stock ranking junior (either as to dividends or upon liquidation, dissolution or winding up) to the Series A Junior Participating Preferred Stock, provided that the Corporation may at any time redeem, purchase, exchange, convert or otherwise acquire shares of stock ranking junior (either as to dividends or upon liquidation, dissolution or winding up) to the Series A Junior Participating Preferred Stock in exchange for shares of any stock of the Corporation ranking junior (either as to dividends or upon liquidation, dissolution or winding up) to the Series A Junior Participating Preferred Stock (together with any related cash payment for fractional shares or similar adjustment);
(ii) declare or pay dividends on or make any other distributions on any shares of stock ranking on a parity (either as to dividends or upon liquidation, dissolution or winding up) with the Series A Junior Participating Preferred Stock, except dividends paid ratably on the Series A Junior Participating Preferred Stock and all such parity stock on which dividends are payable or in arrears in proportion to the total amounts to which the holders of all such shares are then entitled;
(iii) except as provided in clause (iv) following, redeem or purchase or otherwise acquire for consideration shares of any stock ranking on a parity (either as to dividends or upon liquidation, dissolution or winding up) with the Series A Junior Participating Preferred Stock, provided that the Corporation may at any time redeem, purchase, exchange, convert or otherwise acquire shares of any such parity stock in exchange for shares of any stock of the Corporation ranking junior (either as to dividends or upon dissolution, liquidation or winding up) to the Series A Junior Participating Preferred Stock; or
(iv) purchase or otherwise acquire for consideration any shares of Series A Junior Participating Preferred Stock, or any shares of stock ranking on a parity with the Series A Participating Preferred Stock, except in accordance with a purchase offer made in writing or by publication (as determined by the Board of Directors) to all holders of such shares upon such terms as the Board of Directors, after consideration of the respective annual dividend rates and other relative rights and preferences of the respective series and classes, shall determine in good faith will result in fair and equitable treatment among the respective series or classes.
(B) The Corporation shall not permit any subsidiary of the Corporation to purchase or otherwise acquire for consideration any shares of stock of the Corporation unless the Corporation could, under Paragraph (A) of this Section 4, purchase or otherwise acquire such shares at such time and in such manner.
(A) Upon any voluntary or involuntary liquidation, dissolution or winding
up of the Corporation, no distribution shall be made to the holders of shares of
stock ranking junior (either as to dividends or upon liquidation, dissolution or
winding up) to the Series A Junior Participating Preferred Stock unless, prior
thereto, the holders of shares of Series A Junior Participating Preferred Stock
shall have received $10.00 per share plus an amount equal to accrued and unpaid
dividends and distributions thereon, whether or not declared, to date of such
payment (the "Series A Liquidation Preference"). Following the payment of the
full amount of the Series A Liquidation Preference, no additional distributions
shall be made to the holders of shares of Series A Junior Participating
Preferred Stock unless, prior thereto, (x) the holders of shares of Common Stock
shall have received an amount per share (the "Common Adjustment") equal to the
product of (i) the Series A Liquidation Preference multiplied by (ii) the
quotient of (I)1 divided by (II) 1000 (as appropriately adjusted as set forth in
subparagraph (C) below to reflect such events as stock splits, stock dividends
and recapitalizations with respect to the Common Stock) (such number in clause
(x)(ii), the "Adjustment Number") and (y) the holders of shares of any Class B
Stock shall have received an amount per share (the "Class B Adjustment") equal
to the product of (i) the Series A Liquidation Preference multiplied by (ii) the
quotient of (I) the number of liquidation units attributed one share of Class B
Stock pursuant to Section (b)(5) of Article FOURTH of the Amended and Restated
Certificate of Incorporation divided by (II) 1,000 (as appropriately adjusted as
set forth in subparagraph (C) below to reflect such events as stock splits,
stock dividends and recapitalizations with respect to the Class B Stock) (such
number in clause (y)(ii), the "Class B Adjustment Number"). Following the payment of such amounts to holders of the Series A Junior Participating Preferred Stock, Common Stock and any Class B Stock, respectively, holders of Series A Junior Participating Preferred Stock and holders of shares of Common Stock and Class B Stock shall receive their ratable and proportionate share of the remaining assets to be distributed in the ratio of 1 to the Adjustment Number with respect to such Preferred Stock and Common Stock, on a per share basis, respectively, and the ratio of 1 to the Class B Adjustment Number with respect to such Preferred Stock and Class B Stock, on a per share basis, respectively.
(B) In the event, however, that there are not sufficient assets available to permit payment in full of the Series A Liquidation Preference and the liquidation preferences of all other series of preferred stock, if any, which rank on a parity with the Series A Junior Participating Preferred Stock, then such remaining assets shall be distributed ratably to the holders of such parity shares in proportion to their respective liquidation preferences. In the event, however, that there are not sufficient assets available to permit payment in full of the Common Adjustment and the Class B Adjustment, then such remaining assets shall be distributed to the holders of Common Stock and Class B Stock in the proportionate amount specified in paragraph (A) of this Section 6.
(C) In the event the Corporation shall at any time after the Original
Issuance Date (i) declare any dividend on Common Stock payable in shares of
Common Stock, (ii) split the outstanding Common Stock into a larger number of
shares or (iii) subdivide the outstanding Common Stock into a smaller number of
shares, then in each such case the Adjustment Number in effect immediately prior
to such event shall be adjusted by multiplying such Adjustment Number by a
fraction the numerator of which is the number of shares of Common Stock
outstanding immediately prior to such event and the denominator of which is the
number of shares of Common Stock outstanding immediately following such event.
In the event the Corporation shall at any time after the Original Issuance Date
(i) declare any dividend on Class B Stock payable in shares of Class B Stock,
(ii) split the outstanding Class B Stock into a larger number of shares or (iii)
subdivide the outstanding Class B Stock into a smaller number of shares, then in
each such case the Class B Adjustment Number in effect immediately prior to such
event shall be adjusted by multiplying such Class B Adjustment Number by a
fraction the numerator of which is the number of shares of Class B Stock
outstanding immediately prior to such event and the denominator of which is the
number of shares of Class B Stock outstanding immediately following such event.
in kind), as the case may be, into which or for which each share of Common Stock is changed or exchanged. In the event the Corporation shall at any time after the Original Issuance Date (i) declare any dividend on Common Stock payable in shares of Common Stock, (ii) split the outstanding Common Stock into a larger number of shares or (iii) subdivide the outstanding Common Stock into a smaller number of shares, then in each such case the amount set forth in the preceding sentence with respect to the exchange or change of shares of Series A Junior Participating Preferred Stock shall be adjusted by multiplying such amount by a fraction the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event.
Attest:
Certificate No. R- __________ Rights
NOT EXERCISABLE AFTER __________________/2/
UNLESS EXTENDED PRIOR THERETO BY THE
BOARD OF DIRECTORS OR EARLIER IF REDEEMED
OR EXCHANGED BY THE COMPANY. THE RIGHTS
ARE SUBJECT TO REDEMPTION, AT THE OPTION
OF THE COMPANY, AT $.01 PER RIGHT ON THE
TERMS SET FORTH IN THE RIGHTS AGREEMENT.
UNDER CERTAIN CIRCUMSTANCES, RIGHTS
BENEFICIALLY OWNED BY AN ACQUIRING
PERSON (AS SUCH TERM IS DEFINED IN THE
RIGHTS AGREEMENT) AND ANY SUBSEQUENT
HOLDER OF SUCH RIGHTS MAY BECOME NULL
AND VOID. [THE RIGHTS REPRESENTED BY THIS
RIGHTS CERTIFICATE ARE OR WERE
BENEFICIALLY OWNED BY A PERSON WHO WAS
OR BECAME AN ACQUIRING PERSON OR AN
AFFILIATE OR ASSOCIATE OF AN ACQUIRING
PERSON (AS SUCH TERMS ARE DEFINED IN THE
RIGHTS AGREEMENT). ACCORDINGLY, THIS
RIGHTS CERTIFICATE AND THE RIGHTS
REPRESENTED HEREBY MAY BECOME NULL AND
VOID IN THE CIRCUMSTANCES SPECIFIED IN
SECTION 7(e) OF SUCH AGREEMENT.]/3/
/2/ Insert the date that is the tenth anniversary of the effective date of the Plan of Reorganization.
/3/ The portion of the legend in brackets shall be inserted only if applicable and shall replace the preceding sentence.
RIGHTS CERTIFICATE
PRUDENTIAL FINANCIAL, INC.
This certifies that ________________________________ , or registered assigns, is the registered owner of the number of Rights set forth above, each of which entitles the owner thereof, subject to the terms, provisions and conditions of the Rights Agreement, dated as of November 1, 2001 (the "Rights Agreement"), between Prudential Financial, Inc., a New Jersey corporation (the "Company"), and EquiServe Trust Company, N.A., a ___________ corporation (the "Rights Agent"), to purchase from the Company, at any time prior to 5:00 P.M. (New Jersey time) on _______________,/4/ (unless such time is extended prior thereto by the Board of Directors) at the principal stock transfer office of the Rights Agent, or its successor as Rights Agent, one one-thousandth (1/1000) of a fully paid and nonassessable share of the Series A Participating Preferred Stock of the Company ("Preferred Stock"), at a purchase price of $___ per one one-thousandth of a share (the "Purchase Price") upon presentation and surrender of this Rights Certificate with the Form of Election to Purchase and related Certificate duly executed. The number of Rights evidenced by this Rights Certificate (and the number of shares which may be purchased upon exercise thereof) set forth above, and the Purchase Price per one one-thousandth of a share set forth above, are the number and Purchase Price as initially set forth in the Rights Agreement. The Company reserves the right to require prior to the occurrence of a Triggering Event (as such term is defined in the Rights Agreement) that a number of Rights be exercised so that only whole shares of Preferred Stock will be issued.
Upon the occurrence of a Section 11(a)(ii) Event (as such term is defined
in the Rights Agreement), if the Rights evidenced by this Rights Certificate are
beneficially owned by (i) an Acquiring Person or an Affiliate or Associate of
any such Acquiring Person (as such terms are defined in the Rights Agreement),
(ii) a transferee of any such Acquiring Person, Associate or Affiliate, or (iii)
under certain circumstances specified in the Rights Agreement, a transferee of a
person who, after such transfer, became an Acquiring Person, or an Affiliate or
Associate of an Acquiring Person, such Rights shall become null and void and no
holder hereof shall have any right with respect to such Rights from and after
the occurrence of such Section 11(a)(ii) Event.
As provided in the Rights Agreement, the Purchase Price and the number and kind of shares of Preferred Stock or other securities which may be purchased upon the exercise of the Rights evidenced by this Rights Certificate are subject to modification and adjustment upon the happening of certain events, including Triggering Events.
/4/ Insert the date that is the tenth anniversary of the effective date of the Plan of Reorganization.
This Rights Certificate is subject to all of the terms, provisions and conditions of the Rights Agreement, which terms, provisions and conditions are hereby incorporated herein by reference and made a part hereof and to which Rights Agreement reference is hereby made for a full description of the rights, limitations of rights, obligations, duties and immunities hereunder of the Rights Agent, the Company and the holders of the Rights Certificates, which limitations of rights include the temporary suspension of the exercisability of such Rights under the specific circumstances set forth in the Rights Agreement. Copies of the Rights Agreement are on file at the above-mentioned office of the Rights Agent and at the principal office of the Company.
This Rights Certificate, with or without other Rights Certificates, upon surrender at the principal stock transfer office of the Rights Agent, may be exchanged for another Rights Certificate or Rights Certificates of like tenor and date evidencing Rights entitling the holder to purchase such number of shares of Preferred Stock as the Rights evidenced by the Rights Certificate or Rights Certificates surrendered shall have entitled such holder to purchase. If this Rights Certificate shall be exercised in part, the holder shall be entitled to receive upon surrender hereof another Rights Certificate or Rights Certificates for the number of whole Rights not exercised.
Subject to the provisions of the Rights Agreement, the Rights evidenced by
this Certificate may be redeemed by the Company at its option at a redemption
price of $.01 per Right at any time prior to the earlier of the close of
business on (i) the tenth Business Day following the Stock Acquisition Date, and
(ii) the Final Expiration Date. In addition, under certain circumstances
following the Stock Acquisition Date, the Rights may be exchanged, in whole or
in part, for shares of the Common Stock, or shares of preferred stock of the
Company having essentially the same value or economic rights as such shares.
Immediately upon the action of the Board of Directors of the Company authorizing
any such exchange, and without any further action or any notice, the Rights
(other than Rights which are not subject to such exchange) will terminate and
the Rights will only enable holders to receive the shares issuable upon such
exchange.
No fractional shares of Preferred Stock (other than fractions which are integral multiples of the fraction of a share for which a Right is then exercisable) will be issued upon the exercise of any Right or Rights evidenced hereby, but in lieu thereof a cash payment shall be made, as provided in the Rights Agreement.
No holder of this Rights Certificate shall be entitled to vote or receive dividends or be deemed for any purpose the holder of Preferred Stock or of any other securities of the Company which may at any time be issuable on the exercise hereof, nor shall anything contained in the Rights Agreement or herein be construed to confer upon the holder hereof, as such, any of the rights of a stockholder of the Company or any right to vote for the election of directors or upon any matter submitted to stockholders at any meeting thereof, or to give consent to or withhold consent from any corporate action, or, to receive notice of meetings or other actions affecting stockholders (except as provided in the Rights Agreement), or to receive dividends or subscription rights, or otherwise,
until the Right or Rights evidenced by this Rights Certificate shall have been exercised as provided in the Rights Agreement.
This Rights Certificate shall not be valid or obligatory for any purpose until it shall have been countersigned by the Rights Agent.
WITNESS the facsimile signature of the proper officers of the Company and its corporate seal. Dated as of ---------- --, -----.
Attest PRUDENTIAL FINANCIAL, INC. By ---------------------------- ----------------------------------------- Secretary Title: Countersigned: |
EQUISERVE TRUST COMPANY, N.A.
[Form of Reverse Side of Rights Certificate]
(To be executed by the registered holder if such holder desires to transfer the Rights Certificate.)
FOR VALUE RECEIVED
hereby sells, assigns and transfers unto _____________________________________
this Rights Certificate, together with all right, title and interest therein, and does hereby irrevocably constitute and appoint Attorney to transfer the within Rights Certificate on the books of the within-named Rights Agent, with full power of substitution.
Dated: ___________, ____
Signature
Signature Guaranteed:
The undersigned hereby certifies by checking the appropriate boxes that:
(1) this Rights Certificate [ ] is [ ] is not being sold, assigned and transferred by or on behalf of a Person who is or was an Acquiring Person or an Affiliate or Associate of an Acquiring Person (as such terms are defined in the Rights Agreement);
(2) after due inquiry and to the best knowledge of the undersigned, it [ ] did [ ] did not acquire the Rights evidenced by this Rights Certificate from any Person who is, was or subsequently became an Acquiring Person or an Affiliate or Associate of an Acquiring Person.
Dated: ___________, ____
Signature
Signature Guaranteed:
The signature to the foregoing Assignment and Certificate must correspond to the name as written upon the face of this Rights Certificate in every particular, without alteration or enlargement or any change whatsoever.
(To be executed if holder desires to exercise Rights represented by the Rights Certificate.)
To Prudential Financial, Inc.:
The undersigned hereby irrevocably elects to exercise Rights represented by this Rights Certificate to purchase the shares of Preferred Stock issuable upon the exercise of such Rights (or such other securities of the Company or of any other person which may be issuable upon the exercise of the Rights) and requests that certificates for such shares be issued in the name of and delivered to:
Please insert social security
or other identifying number
If such number of rights shall not be all the Rights evidenced by this Rights Certificate, a new Rights Certificate for the balance of such Rights shall be registered in the name of and delivered to:
Please insert social security
or other identifying number
Dated: ___________, ____
Signature
Signature Guaranteed:
The undersigned hereby certifies by checking the appropriate boxes that:
(1) the Rights evidenced by this Rights Certificate [ ] are [ ] are not being exercised by or on behalf of a Person who is or was an Acquiring Person or an Affiliate or Associate of an Acquiring Person (as such terms are defined in the Rights Agreement);
(2) after due inquiry and to the best knowledge of the undersigned, it [ ] did [ ] did not acquire the Rights evidenced by this Rights Certificate from any Person who is, was or subsequently became an Acquiring Person or an Affiliate or Associate of an Acquiring Person.
Signature Guaranteed:
The signature to the foregoing Election to Purchase and Certificate must correspond to the name as written upon the face of this Rights Certificate in every particular, without alteration or enlargement or any change whatsoever.
On October 9, 2001 (the "Rights Authorization Date"), the Board of Directors of Prudential Financial, Inc. (the "Company") authorized an issuance of one Right for each share of Common Stock, par value $.01 per share, of the Company ("Common Stock") issued to policyholders in connection with the demutualization of The Prudential Insurance Company of America and in the Company's initial public offering. Each Right entitles the registered holder to purchase from the Company one one-thousandth of a share of a series of the Company's preferred stock designated as Series A Junior Participating Preferred Stock ("Preferred Stock") at a price of $___ per one one-thousandth of a share (the "Purchase Price"), subject to adjustment. The description and terms of the Rights are set forth in a Rights Agreement (the "Rights Agreement") between the Company and EquiServe Trust Company, N.A. as Rights Agent (the "Rights Agent").
Initially, the Rights will be attached to all shares of Common Stock then outstanding (whether issued in uncertificated or certificated form), and no separate Rights Certificates will be distributed. Subject to certain exceptions specified in the Rights Agreement, the Rights will separate from the Common Stock and a Distribution Date will occur upon the earlier of (i) 10 business days following a public announcement that a person or group of affiliated or associated persons (an "Acquiring Person") has acquired beneficial ownership of outstanding shares of Common Stock, Class B Stock and/or other Company stock that represent 10% or more of the total voting power of all outstanding Company stock (the "Stock Acquisition Date"), other than as a result of repurchases of stock by the Company (or such earlier or later date as the Board of Directors may determine prior to the date specified in this clause (i) or clause (ii) below that otherwise would be the Distribution Date), or (ii) 10 business days (or such later date as the Board shall determine) following the commencement of a tender offer or exchange offer that would result in a person or group becoming an Acquiring Person. Until the Distribution Date, (i) the Rights will be in uncertificated form and registered in the name of the holders of shares of Common Stock and will be transferred with and only with such shares of Common Stock, (ii) any Common Stock certificates will contain a notation incorporating the Rights Agreement by reference and (iii) the surrender for transfer of shares of Common Stock outstanding (whether such shares of Common Stock are issued in uncertificated or certificated form) will also constitute the transfer of the Rights associated with such shares of Common Stock. Pursuant to the Rights Agreement, the Company reserves the right to require prior to the occurrence of a Triggering Event (as defined below) that, upon any exercise of Rights, a number of Rights be exercised so that only whole shares of Preferred Stock will be issued.
The Rights are not exercisable until the Distribution Date and will expire at 5:00 P.M. (New Jersey time) on _______________/5/ (the "Expiration Date"), unless such date is extended or the Rights are earlier redeemed or exchanged by the Company as described below.
As soon as practicable after the Distribution Date, Rights Certificates will be mailed to holders of record of the Common Stock as of the close of business on the Distribution Date and, thereafter, the separate Rights Certificates alone will represent the Rights. Except as otherwise determined by the Board of Directors, only shares of Common Stock issued prior to the Distribution Date will be issued with Rights.
In the event that a Person becomes an Acquiring Person, each holder of a Right will thereafter have the right to receive, upon exercise, Common Stock (or, in certain circumstances, cash, property or other securities of the Company) having a value equal to two times the exercise price of the Right. Notwithstanding any of the foregoing, following the occurrence of the event set forth in this paragraph, all Rights that are, or (under certain circumstances specified in the Rights Agreement) were, beneficially owned by any Acquiring Person will be null and void. However, Rights are not exercisable following the occurrence of the event set forth above until such time as the Rights are no longer redeemable by the Company as set forth below.
For example, at an exercise price of $100 per Right, each Right not owned by an Acquiring Person (or by certain related parties) following an event set forth in the preceding paragraph would entitle its holder to purchase $200 worth of Common Stock (or other consideration, as noted above) for $100. Assuming that the Common Stock had a per share value of $20 at such time, the holder of each valid Right would be entitled to purchase 10 shares of Common Stock for an aggregate of $100.
In the event that, on or at any time after a Stock Acquisition Date, the Company (i) engages in a merger or other business combination transaction (in which the Company is not the surviving corporation), (ii) the Company engages in a merger or other business combination transaction in which the Company is the surviving corporation and any shares of the Company's Common Stock are changed into or exchanged for other securities or assets or (iii) 50% or more of the assets, cash flow or earning power of the Company and its subsidiaries (taken as a whole) are sold or transferred each holder of a Right (except as noted below) shall thereafter have the right to receive, upon the exercise thereof at the then current exercise price of the Right, that number of shares of common stock of the acquiring company which at the time of such transaction would have a market value (determined as provided in the Rights Agreement) of two times the exercise price of the Right. The events set forth in this paragraph and in the second preceding paragraph are referred to as the "Triggering Events."
/5/ Insert the date that is the tenth anniversary of the effective date of the Plan of Reorganization.
Until the Distribution Date, the Company may redeem the rights in whole, but not in part, at a price of $.01 per Right, (payable in cash, Common Stock or other consideration deemed appropriate by the Board of Directors). Promptly upon the action of the Board of Directors of the Company electing to redeem the Rights, the Rights will terminate and the only right of the holders of Rights will be to receive the $.01 Redemption Price.
At any time after a person becomes an Acquiring Person and prior to the acquisition by such person or group of fifty percent (50%) or more of the outstanding Common Stock, the Board may exchange the Rights (other than Rights owned by such person or group which have become void), in whole or in part, for Common Stock at an exchange ratio of one share of Common Stock, or one one-thousandth of a share of Preferred Stock (or of a share of a class or series of the Company's preferred stock having equivalent rights, preferences and privileges), per Right (subject to adjustment).
Until a Right is exercised, the holder thereof, as such, will have no rights as a stockholder of the Company, including, without limitation, the right to vote or to receive dividends. While the distribution of the Rights will not be taxable to stockholders or to the Company, stockholders may, depending upon the circumstances, recognize taxable income in the event that the Rights become exercisable for Common Stock (or other consideration) of the Company or for common stock of the acquiring company or in the event of the redemption of the Rights as set forth above.
Any of the provisions of the Rights Agreement may be amended by the Board of Directors of the Company prior to the Distribution Date. After the Distribution Date, the provisions of the Rights Agreement may be amended by the Board in order to cure any ambiguity, to make changes which do not adversely affect the interests of holders of Rights, or to shorten or lengthen any time period under the Rights Agreement. The foregoing notwithstanding, no amendment may be made at such time as the Rights are not redeemable.
A copy of the Rights Agreement has been filed with the Securities and Exchange Commission as an Exhibit to Amendment No. 4 to a Registration Statement on Form S-1 dated November [14], 2001. A copy of the Rights Agreement is available free of charge from the Company. This summary description of the Rights does not purport to be complete and is qualified in its entirety by reference to the Rights Agreement, which is hereby incorporated herein by reference.
Exhibit 4.6
PRUDENTIAL FINANCIAL, INC.
(the "Corporation")
Inter-Business Transfer and Allocation Policies relating to the Financial Services Businesses and the Closed Block Business
The Corporation's Board of Directors has adopted the following policies relating to its Financial Services Businesses and the Closed Block Business (in each case as defined in the Corporation's Amended and Restated Certificate of Incorporation, each a "Business" and collectively the "Businesses") to be established upon the issuance and sale of the Corporation's Class B Stock, par value $0.01 per share ("Class B Stock"), and the related indebtedness (the "IHC Debt") of Prudential Holdings, LLC, a New Jersey limited liability company which is a wholly-owned subsidiary of the Corporation. These policies shall be effective upon issuance of the Class B Stock. The Board of Directors may modify, rescind or add to these policies in its discretion, subject to its fiduciary duty to the Corporation's shareholders and covenants substantially limiting such discretion agreed, or to be agreed, with investors in the Class B Stock and the Bond Insurer (as defined below) for, and/or the holders of, the IHC Debt.
Definitions
"Administrative Services Fee" means the administrative services fees paid by the Closed Block Business within Prudential Insurance to the Financial Services Businesses within Prudential Insurance, for services performed by the Financial Services Businesses for the benefit of the Closed Block Business, based on the charges set forth in the statement of Closed Block Business Administrative Expense Charges attached as an exhibit to the Indenture.
"Bond Insurer" means Financial Security Assurance Inc., in its capacity as insurer of the insured portion of the IHC Debt.
"Closed Block Assets" has the meaning set forth in Article I of the Plan of Reorganization.
"Closed Block Memorandum" means the memorandum attached as Exhibit G to the Plan of Reorganization, as amended from time to time.
"Closed Block Policies" has the meaning set forth in Article I of the Plan of Reorganization.
"Effective Date" means the date as of which the Amended and Restated Certificate of Incorporation of the Corporation becomes effective under New Jersey law, which shall be the same date as the "Effective Date" as defined under the Plan of Reorganization.
"Effective Time" means 12:01 a.m., Eastern Standard Time or Eastern Daylight Time, as the case may be, in Newark, New Jersey, on the Effective Date.
"GAAP" means United States generally accepted accounting principles.
"Indenture" means the indenture, dated as of ____, 2001, between Prudential Holdings, LLC, as issuer of the IHC Debt, and _______, as trustee for the holders of the IHC Debt.
"Insurance and Indemnity Agreement" means the agreement, dated as of ____, 2001, between Prudential Holdings, LLC and the Bond Insurer, governing the issuance of the financial guaranty insurance policy with respect to the insured portion of the IHC Debt.
"Plan of Reorganization" means the Plan of Reorganization of The Prudential Insurance Company of America under Chapter 17C of Title 17 of the New Jersey Revised Statutes, dated as of December 15, 2000, as amended and restated, and as it may be further amended from time to time.
"Pre-Closing Tax Attributes" means any items of income, deduction, gain, loss, credit, tax cost or tax benefit determined under the Plan of Reorganization with respect to any period prior to the Effective Date.
"Prudential Insurance" means the stock successor of The Prudential Insurance Company of America.
"Regulatory Closed Block" means the "closed block" established pursuant to Article IX of the Plan of Reorganization.
"Surplus and Related Assets" means those assets segregated outside the Regulatory Closed Block held to meet capital requirements related to the Closed Block Business within Prudential Insurance (the "Surplus Assets") as well as those assets that represent the difference between assets of the Regulatory Closed Block and the sum of the liabilities of the Regulatory Closed Block and the applicable statutory interest maintenance reserve (the "Related Assets"), as designated by the Corporation.
"Subscription Agreement" means the agreement, dated as of April 25, 2001, between the Corporation and the subscribers to the Class B Stock, as named in Schedule I to such agreement, setting forth terms and conditions related to the issuance and sale of the Class B Stock.
"Tax Agreements" means agreements, dated as of ____, 2001, between the Corporation and Prudential Holdings, LLC that establish arrangements for the payments of the amounts due to and from Prudential Insurance and its subsidiaries under the consolidated federal income tax sharing agreement of the Corporation and its affiliates and providing for the allocation and payment of certain income tax benefits and income tax liabilities attributed to Prudential Holdings, LLC.
Policies with Respect to Inter-Business Transactions and Transfers (Excluding Taxation)
The transactions in subparagraphs (a) through (h) below will be permitted between the Closed Block Business and the Financial Services Businesses. Any such transfers (including lending) by the Closed Block Business may be out of either Closed Block Assets, Surplus and Related Assets or assets of Prudential Holdings, LLC's or the Corporation's Closed Block Business; provided that any transfer (including lending) of Closed Block Assets to Prudential Insurance's Financial Services Businesses remains subject to compliance with applicable regulatory requirements and is subject to the terms of the Indenture.
(a) The Closed Block Business may lend to the Financial Services Businesses (but the Closed Block Business within Prudential Insurance may not lend to the Financial Services Businesses outside Prudential Insurance), and the Financial Services Businesses (inside or outside Prudential Insurance) may lend to the Closed Block Business, in either case (i) on terms no less favorable to the Closed Block Business than the terms for a comparable loan among any other portions of Prudential Insurance's general account; (ii) if Prudential Holdings, LLC is the lender, from the Debt Service Coverage Account (as defined in the Indenture) within Prudential Holdings, LLC subject to the limitations in the Indenture; (iii) for cash management purposes only in the ordinary course of business and on market terms pursuant to the internal short-term cash management facility ("short-term cash management" means the management of daily positive or negative cash balances for all participating segments, profit centers and legal entities that are pooled in the Corporation's money market investment pool on a daily basis); or (iv) as contemplated for the management of Prudential Holdings, LLC's assets.
(b) Other transfers, exchanges, investments, purchases or sales of assets between the Regulatory Closed Block and businesses outside of the Regulatory Closed Block, including the Financial Services Businesses, are permitted if such transactions (x) (i) benefit the Regulatory Closed Block, (ii) are consistent with the Closed Block Memorandum, (iii) are executed at demonstrable fair market values and (iv) do not exceed, in any calendar year, more than 10% of the statutory statement value of the invested assets of the Regulatory Closed Block as of the beginning of that year or (y) are pursuant to the Tax Agreements.
(c) Any lending pursuant to any inter-business loan that may be established to reflect usage of the funds held in the DSCA - Subaccount FSB or the DSCA - Subaccount FSB (Deposit) (each as defined in the Indenture) to pay Debt Service (as defined in the Indenture) on the IHC Debt and any other amounts owed to the Bond Insurer is permitted.
(d) In addition to the foregoing, the Financial Services Businesses in any legal entity may lend to the Closed Block Business in the same or any other legal entity on market terms on either a subordinated or non-subordinated basis, as may be approved by
the Corporation's Board of Directors and, if applicable, the Board of Directors of Prudential Insurance.
(e) The Corporation's and Prudential Insurance's respective Boards of
Directors may designate: (i) that a capital contribution to Prudential Insurance
be for the benefit of the Closed Block Business within Prudential Insurance; or
(ii) that assets of the Financial Services Businesses within Prudential
Insurance be transferred to the Closed Block Business within Prudential
Insurance in the form of a loan on market terms that is subordinated to all
existing obligations of the Closed Block Business within Prudential Insurance.
In the absence of the specific designation referred to in clause (i), any
capital contribution to Prudential Insurance will be for the benefit of the
Financial Services Businesses.
(f) The respective Boards of Directors of the Corporation and Prudential Insurance have discretion to transfer assets of the Financial Services Businesses to the Regulatory Closed Block, or use such assets for the benefit of Regulatory Closed Block policyholders, if they (as applicable) believe such transfer or usage is in the best interests of the Financial Services Businesses, and such transfers or usage may be made without requiring any repayment of the amounts transferred to the Regulatory Closed Block or so used or the payment of any other consideration from the Closed Block Business.
(g) Such other transactions on market terms as may be approved by the Board of Directors of the Corporation and if applicable, the Board of Directors of Prudential Insurance.
(h) Cash payments for Administrative Services Fees from the Closed Block Business to the Financial Services Businesses will be based on the charges set forth in the Indenture. Cash payments for expenses of the Regulatory Closed Block that are paid from within the Regulatory Closed Block to the portion of the Closed Block Business that is outside of the Regulatory Closed Block within Prudential Insurance will be calculated on a formulaic basis consistent with the Closed Block Memorandum as set forth in the Indenture.
Accounting Policies with Respect to the Allocation of Assets, Liabilities and Expenses
(1) The Corporation will allocate all its assets, liabilities, equity and earnings between the Financial Services Businesses and the Closed Block Business, and the Corporation will account for them as if they were separate legal entities, in accordance with GAAP.
(2) For financial reporting purposes, revenues, administrative, overhead, and investment expenses, taxes other than federal income taxes and certain commissions and commission-related expenses associated with the Closed Block Business will be allocated between the Closed Block Business and the Financial Services Businesses in accordance with GAAP. Interest expense and routine maintenance and
administrative costs generated by the IHC Debt will be considered directly attributable to the Closed Block Business and will therefore be allocated in their entirety to the Closed Block Business except as indicated below.
(3) Any transfers of funds between the Closed Block Business and the Financial Services Businesses will typically be accounted for as either reimbursement of expense, investment income, return of principal or a subordinated loan, except as contemplated under "-- Polices with Respect to Inter-Business Transactions and Transfers (Excluding Taxation)" above and "-- Policies with Respect to Inter-Business Transactions and Transfers Regarding Taxation" below.
(4) The Closed Block Business will exclude any expenses and liabilities from litigation affecting the Closed Block Policies, and these expenses and liabilities will be part of, and borne by, the Financial Services Businesses. The Financial Services Businesses will bear any expenses and liabilities from litigation affecting the Closed Block Policies and the consequences of certain adverse tax determinations related to the IHC Debt, as noted below. These expenses will therefore be reflected in the Financial Services Businesses, and not in the Closed Block Business. In connection with the sale of the Class B Stock and the issuance of the IHC Debt, the Corporation has agreed to indemnify the investors in the Class B Stock pursuant to the Subscription Agreement and may agree to indemnify other persons with respect to certain matters, and such indemnification will be borne by the Financial Services Businesses. For the nine months ended September 30, 2001, a reserve of $160 million was recorded in the Traditional Participating Products segment for death and other benefits due with respect to policies for which no death claim has been received but where death has occurred; upon demutualization this reserve will become a liability of the Financial Services Businesses, and any subsequent reestimation of this reserve (upward or downward) will be included in adjusted operating income of the Financial Services Businesses.
(5) For financial reporting purposes, administrative expenses recorded by the Closed Block Business, and the related income tax effect, will be based upon actual expenses incurred under GAAP. Any difference between the cash amount transferred from the Closed Block Business to the Financial Services Businesses as described in paragraph (h) under "-- Policies with Respect to Inter-Business Transactions and Transfers (Excluding Taxation)" above and actual expenses incurred as recorded under GAAP will be recorded, on an after-tax basis at the applicable current rate, as direct adjustments to the respective GAAP equity balances of the Closed Block Business and the Financial Services Businesses without the issuance of shares of either Business to the other Business. Statutory expenses will be calculated based upon the actual cash payments. Internal investment expenses recorded and paid by the Closed Block Business, and the related income tax effect, will be based upon actual expenses incurred under GAAP and in accordance with an investment management agreement between Prudential Insurance and Prudential Investment Management, Inc. and other agreements governing record keeping, bank fees, accounting and reporting, asset allocation, investment policy and planning and analysis.
Tax Allocations/Tax Treatment
For financial reporting purposes, the Closed Block Business within each legal entity will be treated as if it were a consolidated subsidiary under the consolidated federal income tax sharing agreement of the Corporation and its affiliates. Accordingly, if the Closed Block Business within any legal entity has taxable income, it will recognize its share of income tax as if it were a consolidated subsidiary of the Corporation. If the Closed Block Business within any legal entity has losses or credits, it will recognize a current income tax benefit.
Policies with Respect to Inter-Business Transactions and Transfers Regarding Taxation
If the Closed Block Business has taxable income attributable to tax periods (or portions of periods) after the Effective Time, it will pay its share of federal income tax in cash to the Financial Services Businesses. If the Closed Block Business has losses or credits attributable to tax periods (or portions of periods) after the Effective Time, it will receive its federal income tax benefit in cash from the Financial Services Businesses. If any losses or credits cannot be utilized in the consolidated federal income tax return of the Corporation for the year in which such losses or credits arise, the Closed Block Business will still receive the full benefit in cash, it being understood that the Financial Services Businesses will be entitled to subsequently recover such benefit for itself if the losses or credits are ultimately actually utilized in computing estimated payments or in the consolidated federal income tax returns of the Corporation, but the failure to recover such benefit will have no effect on the Closed Block Business (and will not affect the Corporation's obligations under the Tax Agreements, reflecting these policies).
Certain tax costs and benefits are determined under the Plan of Reorganization with respect to the Regulatory Closed Block using statutory accounting rules that may give rise to tax costs or tax benefits prior to the time that those costs or benefits are actually realized for tax purposes. If at any time the Closed Block Business is allocated any such tax cost or a tax benefit under the Plan of Reorganization that is not realized at that same time under the relevant tax rules but will be realized in the future, the Closed Block Business will pay such tax cost or receive such tax benefit at that time, but it shall be paid to or paid by the Financial Services Businesses. When such tax cost or tax benefit is subsequently realized under the relevant tax rules, the tax cost or tax benefit shall be allocated to the Financial Services Businesses. The foregoing principles will be applied so as to prevent any item of income, deduction, gain, loss, credit, tax cost or tax benefit being taken into account more than once by the Closed Block Business (including the Regulatory Closed Block) or the Financial Services Businesses. For this purpose, Pre-Closing Tax Attributes shall be taken into account with any such Pre-Closing Tax Attributes relating to the Regulatory Closed Block being attributed to the Closed Block Business and all other Pre-Closing Tax Attributes being attributed to the Financial Services Businesses.
The Closed Block Business will also pay or receive its appropriate share of tax and related interest resulting from adjustments attributable to the settlement or other resolution of tax controversies or the filing of amended tax returns to the extent that such amounts relate to controversies or amended returns arising with respect to the Closed Block Business and attributable to tax periods (or portions of periods) after the Effective Time, except to the extent that such tax is directly attributable to the characterization of the IHC Debt as other than debt for tax purposes, in which case the tax will be borne solely by the Financial Services Businesses. If a change of law after the Effective Time, including any change in the interpretation of any law, results in the recharacterization of all or part of the IHC Debt as other than debt for tax purposes or a significant reduction in the income tax benefit associated with the interest expense on all or part of the IHC Debt, the Financial Services Businesses will continue to pay the foregone income tax benefit to the Closed Block Business for as long as the IHC Debt remains outstanding or any amounts are owed to the Bond Insurer as if such recharacterization or reduction of actual benefit has not occurred. The Financial Services Businesses will bear all tax liabilities not properly attributable to the Closed Block Business. Any settlement involving the Closed Block Business will be made in good faith and with due regard to the merits of the position taken by the Closed Block Business.
Charges for premium taxes, guaranty fund payments as well as state and local income taxes and franchise taxes will be allocated between the Closed Block Business and the Financial Services Businesses in the manner in which they are allocated between the Regulatory Closed Block and other than the Regulatory Closed Block within Prudential Insurance, in accordance with the Closed Block Memorandum. For purposes of calculating the state and local income tax for the Closed Block Business within Prudential Insurance, the actual Prudential Insurance state and local income tax rates will be used. For purposes of calculating the state and local income tax on the Closed Block Business outside Prudential Insurance (including the state and local income tax benefits related to the interest payable on the IHC Debt) a fixed rate of 1% will be used.
Exhibit 5.1
[LETTERHEAD OF SULLIVAN & CROMWELL]
November 14, 2001
Prudential Financial, Inc.,
751 Broad Street,
Newark, New Jersey 07102.
Ladies and Gentlemen:
In connection with the registration under the Securities Act of 1933 (the "Act") of 110,000,000 shares (the "Shares") of Common Stock, par value $.01 per share, of Prudential Financial, Inc., a New Jersey corporation (the "Company"), and 110,000,000 related rights (the "Rights") to be issued pursuant to the Rights Agreement, dated as of November 1, 2001 (the "Rights Agreement"), between the Company and EquiServe Trust Company, N.A., as Rights Agent (the "Rights Agent"), we, as your counsel, have examined such corporate records, certificates and other documents, and such questions of law, as we have considered necessary or appropriate for the purposes of this opinion. Upon the basis of such examination, we advise you that, in our opinion:
Prudential Financial, Inc.
(1) When the registration statement relating to the Shares and the Rights (the "Registration Prudential Financial, Inc. Statement") has become effective under the Act, the Company's Amended and Restated Certificate of Incorporation substantially in the form filed as an exhibit to the Registration Statement has been duly filed with the Department of Treasury of the State of New Jersey and has become effective pursuant to its terms, the terms of the sale of the Shares have been duly established in conformity with the Company's Amended and Restated Certificate of Incorporation and by-laws, the Commissioner of the Department of Banking and Insurance of the State of New Jersey has given final approval for the issuance of the Shares and the Shares have been issued in accordance with such final approval, and the Shares have been duly issued and sold as contemplated by the Registration Statement, the Shares will be validly issued, fully paid and nonassessable.
(2) Assuming that the Rights Agreement has been duly authorized, executed and delivered, when the
Prudential Financial, Inc.
Registration Statement has become effective under the Act, the Commissioner of the Department of Banking and Insurance of the State of New Jersey has given final approval for the issuance of the Shares and the Shares have been issued in accordance with such final approval and the Shares have been validly issued and sold as contemplated by the Registration Statement, the Rights attributable to the Shares will be validly issued.
In connection with our opinion set forth in paragraph (2) above, we note that the question whether the Board of Directors of the Company might be required to redeem the Rights at some future time will depend upon the facts and circumstances existing at that time and, accordingly, is beyond the scope of such opinion.
The foregoing opinion is limited to the Federal laws of the United States and the laws of the State of New Jersey, and we are expressing no opinion as to the effect of the laws of any other jurisdiction. With respect to all matters of New Jersey law, we have relied upon the opinion, dated November 14, 2001, of McCarter & English, LLP, and our opinion is subject to the same assumptions, qualifications
Prudential Financial, Inc.
and limitations with respect to such matters as are contained in such opinion of McCarter & English, LLP.
Also, we have relied as to certain matters on information obtained from public officials, officers of the Company and other sources believed by us to be responsible.
We hereby consent to the filing of this opinion as an exhibit to the
Registration Statement and to the references to us under the heading "Validity
of Common Stock" in the Prospectus. In giving such consent, we do not thereby
admit that we are in the category of persons whose consent is required under
Section 7 of the Act.
Very truly yours,
/s/ SULLIVAN & CROMWELL |
Exhibit 5.2
[LETTERHEAD OF MCCARTER & ENGLISH, LLP]
November 14, 2001
Prudential Financial, Inc.
751 Broad Street
Newark, New Jersey 07102
Ladies and Gentlemen:
In connection with the registration under the Securities Act of 1933 (the "Act") of 110,000,000 shares (the "Shares") of Common Stock, par value $.01 per share, of Prudential Financial, Inc., a New Jersey corporation (the "Company"), and 110,000,000 related rights (the "Rights") to be issued pursuant to the Rights Agreement, dated as of November 1, 2001 (the "Rights Agreement"), between the Company and EquiServe Trust Company, N.A., as Rights Agent (the "Rights Agent"), you have requested our opinion with respect to the matters set forth below.
We have examined originals, or copies certified or otherwise identified to our satisfaction, of such documents and corporate and public records as we deem necessary as a basis for the opinions hereafter expressed. With respect to such examination, we have assumed the genuineness of all signatures appearing on all documents presented to us as originals, and the conformity of the originals of all documents presented to us as conformed or reproduced copies. Where factual matters relevant to such opinion were not independently established, we have relied upon certificates of appropriate state and local officials, and upon certificates of executive officers and responsible employees and agents of the Company.
Based on the foregoing, it is our opinion that:
1. The Company is duly incorporated and existing under the laws of the State of New Jersey.
2. The Shares have been duly authorized.
Prudential Financial, Inc.
3. When the registration statement relating to the Shares and the Rights (the "Registration Statement") has become effective under the Act, the Company's Amended and Restated Certificate of Incorporation substantially in the form filed as an exhibit to the Registration Statement has been duly filed with the Department of Treasury of the State of New Jersey and has become effective pursuant to its terms, the terms of the sale of the Shares have been duly established in conformity with the Company's Amended and Restated Certificate of Incorporation and by-laws, the Commissioner of the Department of Banking and Insurance of the State of New Jersey has given final approval for the issuance of the Shares and the Shares have been issued in accordance with such final approval, and the Shares have been duly issued and sold as contemplated by the Registration Statement, the Shares will be validly issued, fully paid and nonassessable.
4. Assuming that the Rights Agreement has been duly authorized, executed and delivered by the Rights Agent, when the Registration Statement has become effective under the Act, the Commissioner of the Department of Banking and Insurance of the State of New Jersey has given final approval for the issuance of the Shares and the Shares have been issued in accordance with such final approval and the Shares have been validly issued and sold as contemplated by the Registration Statement, the Rights attributable to the Shares will be validly issued.
In connection with our opinion set forth in paragraph (4) above, we note that the question whether the Board of Directors of the Company may be required to redeem the Rights at some future time will depend upon the facts and circumstances existing at that time and, accordingly, is beyond the scope of such opinion.
The foregoing opinion is limited to the laws of the State of New Jersey, and we are expressing no opinion as to the effect of the laws of any other jurisdiction.
We hereby consent to the use of this opinion as an exhibit to the Registration Statement, and to the use of our name as your counsel in connection with the Registration Statement and in the Prospectus forming a part thereof. In giving this consent, we do not thereby concede that we come within the categories of persons whose consent is required by the Securities Act or the General Rules and Regulations promulgated thereunder.
Very truly yours,
/s/ MCCARTER & ENGLISH, LLP |
Exhibit 10.4
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
DEFERRED COMPENSATION PLAN
(UNLESS OTHERWISE NOTED,
AS AMENDED AND RESTATED EFFECTIVE AS OF JANUARY 1, 2000)
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
DEFERRED COMPENSATION PLAN
ARTICLE I--PURPOSE, EFFECTIVE DATE
1.1 Purpose
The purpose of The Prudential Insurance Company of America Deferred Compensation Plan (the "Plan") is to provide the opportunity for selected employees to defer, subject to the Plan's terms, a portion of their incentive compensation and have it accumulate on a tax-deferred basis. The Plan is intended to be, and shall be administered as, an unfunded plan maintained for the purpose of providing deferred compensation for a select group of management or highly compensated employees within the meaning of Title I of ERISA (as defined below).
1.2 Effective Date
The Plan, as hereby amended and restated, is generally effective as of January 1, 2000, unless specifically noted otherwise.
ARTICLE II--DEFINITIONS
For the purposes of this Plan, the following terms shall have the meanings indicated, unless the context clearly indicates otherwise:
"Account" means the bookkeeping convention device used by the Employer to measure and determine the amount to be paid to a Participant under the Plan.
"Annual Compensation" means, for purposes of determining general eligibility to participate in the Plan under Section 3.1(a)(iii) and for purposes of determining "Eligible Compensation" for Insurance Sales Professionals referenced at Section 3.2(a)(iv), (a) for such Insurance Sales Professionals, the total compensation received by such employee that is reportable on Form W-2 as gross income for any Plan Year; and (b) for all other Employees, such Employee's gross salary and incentive bonus (including any sales bonus) payable in any Plan Year.
"Beneficiary" or "Beneficiaries" means the person, persons or entity entitled under Article V to receive any Plan benefits payable after a Participant's death.
"Board" means the Board of Directors of the Company.
"Code" means the Internal Revenue Code of 1986, as amended from time to time (including, but not limited to, any regulations or other interpretative guidance promulgated under the Code by the U.S. Department of the Treasury or the Internal Revenue Service, as applicable, which also may be cited separately as "Treasury Regulations" for purposes of this Plan).
"Committee" shall have the meaning set forth in Section 7.1.
"Company" means The Prudential Insurance Company of America.
PAGE 2 - DEFERRED COMPENSATION PLAN
"Company Retirement Plan" means either (a) The Prudential Traditional Retirement Plan Document, or (b) the Prudential Cash Balance Pension Plan Document, both components of The Prudential Merged Retirement Plan.
"Corporate Compensation" has the meaning set forth in Section 7.1.
"Deferral Commitments" has the meaning set forth in Section 3.2(b).
"Deferral Period" means, for each Participant, the period of time commencing on the first day of the Plan Year in which Eligible Compensation would otherwise be payable unless deferred pursuant to the terms of the Plan, and ending on the date elected by the Participant (or otherwise distributed under the Plan) as provided for in Article III and Article IV.
"Disability" means the Participant's satisfaction of the criteria necessary for determination that such Participant qualifies for long-term disability benefits under the Company's Welfare Benefits Plan, or comparable long-term disability benefits plan or program sponsored by the Employer or Participating Subsidiary, if applicable.
"Eligible Compensation" shall have the meaning set forth in Section 3.2(a).
"Eligible Employee" shall have the meaning set forth in Section 3.1(a).
"Employer" means the Company and any successor of the Company as designated by the Board.
"Employee" generally means, as of any relevant date, any individual who is
compensated by the Employer or any Participating Subsidiary for services
actually rendered as either a common law employee or as a statutory employee
under Code Section 3121(d)(3) (relating to full time life insurance salesman)
including, for these purposes and to the degree not specifically described
above, agents and other insurance sales professionals of the Employer and any
Participating Subsidiary. The term "Employee," however, for purposes of
Section 3.1 of this Plan, does not include: (a) any individual who is on a paid
or unpaid leave of absence from the Company or any Participating Subsidiary; (b)
any individual who is on Disability; (c) any individual who is receiving
severance or similar benefits related to a Termination of Employment from a
severance plan or program sponsored or maintained by the Company, any
Participating Subsidiary, or any other affiliate of the Company; or (d) any
employee or agent of a subsidiary or an affiliate of the Company that is not a
Participating Subsidiary at such time as the Deferral Commitment for a
particular Plan Year must be made.
"ERISA" means the Employee Retirement Income Security Act of 1974, as amended from time to time (including, but not limited to, any regulations or other interpretative guidance promulgated under ERISA by either the U.S. Department of Labor, the Internal Revenue Service (with respect to Title II of ERISA), or the Pension Benefit Guaranty Corporation (with respect to Title IV of ERISA), as applicable).
"Financial Hardship" means severe financial hardship to the Participant resulting from a sudden and unexpected illness or accident of the Participant or of a dependent (as defined in Section 152(a) of the Code) of the Participant, loss of the Participant's property due to casualty, or other similar extraordinary and unforeseeable circumstances arising as a result of events beyond the
control of the Participant. The circumstances that will constitute an unforeseeable emergency will depend upon the facts of each case, but in any case, payment may not be made to the extent that such hardship is or may be relieved:
(a) Through reimbursement or compensation by insurance or otherwise;
PAGE 3 - DEFERRED COMPENSATION PLAN
(b) By liquidation of the Participant's or Participant spouse's assets, to the extent the liquidation of such assets would not itself cause severe financial hardship; or
(c) By cessation of deferrals under the Plan.
For purposes of the definition of the term "Financial Hardship," the term "unforeseeable emergencies" does not encompass sending a Participant's dependent to college or the desire to purchase a home, and is intended to be interpreted consistent with the definition of the term under Treasury Regulations Section 1.457-2(h)(4).
"Hardship Withdrawal" has the meaning set forth in Section 4.3.
"Institutional and Retirement Sales Professionals," "Institutional Sales Professionals," "Insurance Sales Professionals," "Investment Professionals," and "Investment Sales Professionals," as used in Article III, refer to Employees of the Employer or any Participating Subsidiary performing such functions as such terms are generally understood within the Employer or such Participating Subsidiary.
"Insurance Sales Matching Contributions" has the meaning set forth in
Section 3.2(c).
"Participant" means (a) an Employee who has satisfied the eligibility requirements of Article III for any Plan Year and (b) has amounts credited to his or her Account under the terms of Article VI.
"Participating Subsidiary" means the following affiliates of the Employer
as of the Plan's Effective Date: PruLease, PAMCO, Prudential Investment
Corporation, Prudential Bank & Trust, INTECH, Prudential Mutual Funds LLC,
Prudential Real Estate Affiliates, PTC Services, Inc., Prudential HR Management
Company, Prudential Mortgage Capital Company LLC, and Prudential Financial, Inc.
(effective as of January 1, 2002) In addition to these entities, the term
"Participating Subsidiary" means
(a) any affiliate of the Employer, including, but not limited to
(i) any member of a "controlled group of corporations" (as such term
is defined in Code Section 1563(a), without regard to the limitations
of Code Sections 1563(a)(4) and 1563(e)(3)(C)) of which the Employer
is a member,
(ii) any trade or business, whether incorporated or not, which for
any part of a Plan Year is considered to be under common control with
the Employer under Code Section 414(c),
(iii) any member of an affiliated service group (as such term is
defined under Code Section 414(m)) of which the Employer is a member;
and
(b) that the Compensation Committee of the Board as of the Effective Date or hereafter has designated as an entity whose employees may be eligible to participate under the applicable terms of the Plan.
"Participation Agreement" means the agreement submitted by a Participant to the Committee (or its representative, Corporate Compensation) prior to the beginning of the Deferral Period, with respect to a Deferral Commitment made for such Deferral Period.
"Plan" means this Deferred Compensation Plan as amended from time to time.
"Plan Year" means the calendar year.
"Prudential Cash Balance Pension Plan" means the Prudential Cash Balance Pension Plan Document, a component of the Company Retirement Plan.
PAGE 4 - DEFERRED COMPENSATION PLAN
"Prudential Traditional Retirement Plan" means The Prudential Traditional Retirement Plan Document, a component of the Company Retirement Plan.
"Retires" or "Retirement" means a Participant's cessation of employment
from the Employer or any Participating Subsidiary either (a) after he or she
reaches his or her earliest possible retirement date (as defined under the terms
of the Prudential Traditional Retirement Plan or any comparable retirement plan
sponsored by the Employer or Participating Subsidiary, if applicable) if such
Participant participates in the Prudential Traditional Retirement Plan,
regardless of whether, as of the date of such cessation of employment, the
Participant has commenced receipt of his or her Pension from the Prudential
Traditional Retirement Plan or any comparable retirement plan sponsored by the
Employer or Participating Subsidiary; or (b) the earlier of the Participant's
(i) attainment of Normal Retirement Age or (ii) Benefit Commencement Date, if
such Participant participates in the Prudential Cash Balance Pension Plan, as
both terms are defined under such Plan. To the degree that a Participant is not
covered under the terms of the Company Retirement Plan or any comparable
retirement plan sponsored by the Employer or Participating Subsidiary, the terms
"Retires" or "Retirement" means the attainment by such Participant of age 65. In
the event a Participant, as of a particular date, ceases employment with an
affiliate of the Employer that is not a Participating Subsidiary and does not
commence employment either with the Employer, a Participating Subsidiary or
another affiliate of the Employer that is not a Participating Subsidiary, the
determination of whether the Participant has Retired shall be made as of such
date.
ARTICLE III--
ELIGIBILITY, PARTICIPATION AND DEFERRAL COMMITMENTS
3.1 Eligibility and Participation
(a) Eligibility. Eligibility to participate in the Plan shall be limited to any one of the following Employees (each, an "Eligible Employee") who is:
(i) at Vice President rank (Grade 06P) and above;
(ii) at Managing Director rank and above; and/or
(iii) the following select group of management and highly compensated Employees who satisfy the Annual Compensation thresholds set forth below as of the particular Plan Year (if noted):
(A) For Plan Year 200 Deferral Commitments only:
PAGE 5 - DEFERRED COMPENSATION PLAN
(I) An Investment Professional at Senior Vice President and Vice President rank whose Annual Compensation exceeds (or is anticipated to exceed) $200,000 in any Plan Year; and
(II) An Institutional and Retirement Sales Professional at Vice President rank whose Annual Compensation exceeds (or is anticipated to exceed) $250,000 in any Plan Year;
(B) For Plan Year 2001 Deferral Commitments and beyond:
(I) An Investment Professional at Senior Vice President and Vice President rank whose Annual Compensation exceeds (or is anticipated to exceed) $200,000 in any Plan Year;
(II) An Investment Sales Professional at Regional Manager rank and above whose Annual Compensation exceeds (or is anticipated to exceed) $200,000 in any Plan Year; and
(III) An Institutional Sales Professional at Sales Manager rank and above whose Annual Compensation exceeds (or is anticipated to exceed) $200,000 in any Plan Year; and/or
(C) An Insurance Sales Professional whose Annual Compensation exceeds (or is anticipated to exceed) $100,000 for such Plan Year.
(b) Participation. An Eligible Employee may elect to participate in the Plan with respect to the Deferral Period by submitting a Participation Agreement
(i) with respect to the first Plan Year of the Plan beginning on the Effective Date, by the 17th day of December immediately preceding the beginning of such first Plan Year, and
(ii) with respect to all subsequent Plan Years, by the 31st day of October in the year preceding the Plan Year in which the Eligible Compensation would otherwise be paid or payable to the Participant.
3.2 Deferral Commitments and Insurance Sales Professionals Matching Contributions
(a) Eligible Compensation. The following compensation is eligible for deferral, in whole or in part, under the Plan by an Eligible Employee ("Eligible Compensation"):
(i) Grants under the Employer's or any Participating Subsidiary's long-term incentive award plans, the precise amounts of which, as of the time such Employee may complete a Participation Agreement, are unknown to such Employee;
(ii) Grants under the Employer's or any Participating Subsidiary's sales bonus award plans, the precise amounts of which, as of the time such Employee may complete a Participation Agreement, are unknown to such Employee;
(iii) Grants under the Employer's or any Participating Subsidiary's annual incentive award plans, the precise amounts of which, as of the time such Employee may complete a Participation Agreement, are unknown to such Employee; and
(iv) For Insurance Sales Professionals described in Section 3.1(a)(iii)(c) above, all amounts in excess of $100,000 of Annual Compensation earned or otherwise payable to such Employee during the Plan Year subsequent to the year in which
PAGE 6 - DEFERRED COMPENSATION PLAN
such Employee executes a Participation Agreement in accordance with the terms of Section 3.4.
For purposes of this Section 3.2(a), the term "Eligible Compensation" does not include any (a) salary payments made to Eligible Employees (except as may be included under the terms of Section 3.2(a)(iv) above), (b) any supplemental bonuses paid to an Eligible Employee that are not part of a compensation plan sponsored by the Employer or any Participating Subsidiary, (c) any severance payments paid to an Eligible Employee, or (d) any amounts under any such long-term incentive award, sales bonus award or annual incentive award plans or other programs or arrangements that are "guaranteed" by the Employer or any Participating Subsidiary to an Eligible Employee, whether or not as part of an employment or severance agreement with such Eligible Employee, or are otherwise known or determinable by such Employee as of the time of such Eligible Employee's enrollment in the Plan pursuant to a Participation Agreement.
(b) Form of Deferral. The amount of Eligible Compensation that Eligible Employees may defer under the Plan with respect to any subsequent Plan Year (the "Deferral Commitment") shall be indicated on any Participation Agreement as a percentage (in five percent (5%) increments up to eighty percent (80%)) for Participants that are Insurance Sales Professionals; and for all other Participants, a percentage (in five percent (5%) increments up to one hundred percent (100%).
(c) Insurance Sales Professional Matching Contribution. For any Eligible Employee who is an Insurance Sales Professional and who makes a Deferral Commitment under the Plan in any Plan Year, an Insurance Sales Professional Matching Contribution shall be made on such Participant's behalf with respect to the Deferral Commitment in an amount equal to three percent (3%) of such Deferral Commitment.
3.3 Deferral Period
Once the Eligible Employee has completed a Participation Agreement with respect to an amount of Eligible Compensation, a new Deferral Period begins on the first day of the Plan Year in which Eligible Compensation would otherwise be payable unless deferred pursuant to the terms of the Plan. Such Deferral Period will extend, at the Participant's election set forth in the Participation Agreement, to any of the following:
(a) A specified date in a year subsequent to the year in which the Eligible Compensation deferred under the terms of this Plan would otherwise have been payable to such Participant;
(b) The Participant's Retirement;
(c) January of the year following the Participant's Retirement; or
(d) The Participant's death, Disability or Termination of Employment;
3.4 Enrollment
PAGE 7 - DEFERRED COMPENSATION PLAN
(a) General Rule. In order for an Eligible Employee to become a
Participant under the Plan, the Eligible Employee must complete a
Participation Agreement and submit it to the Committee (or its
representative, Corporate Compensation) in the time frame specified in
Section 3.1(b). If a Participation Agreement is not received by Corporate
Compensation by such date, the Eligible Employee is deemed to have elected
not to defer any Eligible Compensation under the Plan for such subsequent
Plan Year. Once received by the Committee (or its representative, Corporate
Compensation), such election to defer Eligible Compensation is irrevocable
by the Eligible Employee.
(b) Limited Eligibility for Enrollment if Eligible Employee Retires in Plan Year 2000. For an otherwise Eligible Employee who Retires prior to the start of the annual enrollment period for Plan Year 2000, such Eligible Employee may complete a Participation Agreement to defer Eligible Compensation, if any, that would otherwise be payable in the following Plan Year. Under these circumstances, the Participation Agreement must be completed and returned before the earlier of his/her date of Retirement or September 30th of the year such Employee retires. If a Participation Agreement is not received by Corporate Compensation by such date, such otherwise Eligible Employee is deemed to have elected not to defer any Eligible Compensation under the Plan for Plan Year 2000.
Effective for Plan Years beginning on or after January 1, 2001, an
otherwise Eligible Employee who Retires prior to the start of the annual
enrollment period for a Plan Year will no longer be eligible to complete a
Participation Agreement to defer otherwise Eligible Compensation with
respect to such Plan Year. However, in the event that an otherwise
Eligible Employee (i) completes a Participation Agreement to defer
otherwise Eligible Compensation with respect to a particular Plan Year,
(ii) is an Employee on the day prior to the day such Plan Year commences
(December 31st) and (iii) subsequently Retires in such Plan Year prior to
the deferral of Eligible Compensation that would otherwise be credited to
the Participant's Account, such election for that Plan Year will continue
in full force and effect, and the amounts set forth under the Participation
Agreement will be credited to the Participant's Account under the Plan.
(c) Limited Eligibility for Enrollment in the Event of a Termination of Employment. An otherwise Eligible Employee who (i) is not eligible to Retire at the time that he/she incurs a Termination of Employment and (ii) incurs such Termination before completing a Participation Agreement for the subsequent Plan Year may not elect to defer any Eligible Compensation that may otherwise become payable in the subsequent Plan Year.
Effective for Plan Years beginning on or after January 1, 2001,if an otherwise Eligible Employee incurs a Termination of Employment after completing a Participation Agreement for such Plan Year, but prior to the deferral of Eligible Compensation that would
otherwise be credited to the Participant's Account, such election for that Plan Year will be deemed null and void and no amounts will be credited to the Participant's Account under the Plan.
3.5 Vesting
Participants will, at all times, be fully vested in the notional value of their Account balances under the Plan (which, due to notional gains, losses and interest, may be greater or lesser than the amount of Eligible Compensation actually deferred under the Plan).
ARTICLE IV--DISTRIBUTIONS
4.1 Distribution Election Requirements
PAGE 8 - DEFERRED COMPENSATION PLAN
Upon enrollment, the Participant must elect a payment date, a general distribution option for amounts deferred under the Plan, and a distribution option in the event of Termination of Employment in order for the Participation Agreement to be deemed valid by the Committee (or its representative, Corporate Compensation).
(a) Payment Date. Participants will elect a payment date to commence payment of amounts deferred each Plan Year that they participate in the Plan. The payment date options are:
(i) Retirement;
(ii) January of the year following Retirement; or
(iii) A future specified date in a year subsequent to the year in which the Eligible Compensation deferred under the terms of this Plan would otherwise have been payable to such Participant;
(b) General Distribution Option. Participants will choose one of the following general distribution options for payments commencing at the payment date, as follows:
(i) A single, lump sum payment;
(ii) 36 monthly installments;
(iii) 60 monthly installments; or
(iv) 120 monthly installments
(c) Distribution Option in Case of Termination. Participants will also choose a distribution option in the event of the Participant's Termination of Employment with the Employer or any Participating Subsidiary prior to Retirement, which are as follows:
(i) A single, lump sum payment payable as soon as practicable after such termination; or
(ii) 36 monthly installments beginning January of the year following the Participant's Termination of Employment.
4.2 Payments
(a) General Rule. Payments will be made as of the date or event elected in the Participation Agreement, as modified in accordance with the provision of the Plan. Payments will be made according to the distribution payment option elected.
(b) Small Account Balances - Lump Sum Cashout. Notwithstanding the foregoing , in the event the Participant's Account balance is ten thousand dollars ($10,000) or less at the time a distribution of the Participant's Account balance would commence by reason of the
PAGE 9 - DEFERRED COMPENSATION PLAN
application of Sections 4.1, 4.6 or 4.7, the amount of such Participant's
Account balance shall be paid out in a lump sum notwithstanding the form of
benefit payment elected by the Participant under the terms of Section
4.1(b) or (c), Section 4.6 or 4.7, as applicable. For purposes of this
Section 4.2(b), a Participant's Account balance shall be valued in
accordance with the general provisions of Section 6.4(a).
4.3 Hardship Withdrawal
In the event of Financial Hardship, a Participant may request the Committee for authorization to discontinue future deferrals pursuant to a Participation Agreement and/or for payment of all or a portion of the amounts credited to a Participant's Account to be accelerated (a "Hardship Withdrawal"). In the event the Participant requests that deferrals of Eligible Compensation are to be discontinued and/or payment advanced through a Hardship Withdrawal, the amount involved cannot exceed the funds required to satisfy the Financial Hardship. The Participant will be required to produce any information that the Committee finds necessary or appropriate to make a determination of Financial Hardship. Any Hardship Withdrawal payable to a Participant shall be payable in a lump sum.
In the event the Participant receives a Hardship Withdrawal, any subsequent deferrals of Eligible Compensation to be made in such Plan Year shall cease (including, if applicable, any Insurance Sales Professional Matching Contributions), and the Participant will be precluded from deferring additional Eligible Compensation in the subsequent Plan Year.
4.4 Early Distribution With Penalty
A request for an Early Distribution With Penalty of the Participant's entire Account balance may be made by submitting a Deferred Compensation Withdrawal Form at any time during a Plan Year. The Account balance distributed will be reduced by a penalty of ten percent (10%) of the Account. For purposes of any such Early Distribution With Penalty, the Account will be valued as of the last day of the month immediately preceding the date on which the request is received and will be paid in a lump sum within thirty (30) days of receipt by the Committee (or its representative, Corporate Compensation) of such Withdrawal Form.
If an Early Distribution With Penalty payment is made, all further deferrals of Eligible Compensation (including, if applicable, any Insurance Sales Professional Matching Contributions) shall cease for the remainder of the Plan Year and for the subsequent Plan Year.
Any penalty amounts withheld from the Early Distribution With Penalty are taxable income to the Participant, and may be used by the Committee in its sole discretion.
4.5 Distributions on the Participant's Death
Notwithstanding the distribution and payment options elected, payment of the entire account balance in a single lump sum will be made to the Participant's designated Beneficiary (unless the Committee, in its sole discretion, should decide otherwise)upon notification of the Participant's death. Should the Participant's death occur when monthly installments have already started, the balance of the Participant's account shall become due and payable in one single lump sum (unless the Committee, in its sole discretion, should decide otherwise) to the Beneficiary within thirty (30) days of notification of Participant's death.
4.6 Distributions on the Participant's Disability
Should the Participant incur Disability, payment(s) in the elected form specified for General Distribution Options will begin within thirty (30) days of notification of the Participant's Disability. Should Disability occur when monthly installments have already started, payments will continue for the remainder of the elected installment period.
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4.7 Distributions On the Participant's Termination of Employment
Upon a Participant's Termination of Employment for any reason other than Retirement, death, or Disability, distributions will be made in accordance with the options elected on the Participation Agreement. Should Termination of Employment occur when monthly installments have already started, payments will continue for the remainder of the elected installment period.
ARTICLE V--BENEFICIARY DESIGNATION
5.1 Beneficiary Designation
A Participant shall have the right, at any time, to designate one (1) or more persons or an entity as Beneficiary (both primary as well as secondary) to whom benefits under this Plan shall be paid in the event of Participant's death prior to complete distribution of the Participant's Account. Each Beneficiary designation shall be in writing, on a form specified by the Committee (or its representative, Corporate Compensation), and shall be filed with the Committee (or its representative, Corporate Compensation) during the Participant's lifetime, and any such election shall apply to the Participant's entire Account balance. If a Participant fails to designate a Beneficiary or if a Beneficiary does not survive the Participant, payment will be made to the Participant's estate in the event of the Participant's death.
5.2 Changing Beneficiary
A Participant may change his/her Beneficiary at any time by completing a Beneficiary designation, again in writing on a form specified by the Committee (or its representative, Corporate Compensation). The change will take effect only after it is received by the Committee (or its representative, Corporate Compensation) and determined to be in good order. Any previous Beneficiary's interest in the Participant's Account under the Plan will end as of the date the request is received and determined to be in good order, even if the Participant is not living when the request is received, and any such election to change Beneficiaries shall apply to the Participant's entire Account balance.
ARTICLE VI--ACCOUNTS
6.1 Participant Accounts
An Account shall be established on behalf of each Participant under the Plan, and all Eligible Compensation amounts that such Participant elects to defer under the terms of the Plan (as well as any Insurance Sales Professional Matching Contribution) shall be credited in such Account at the time it would have otherwise been payable to the Participant (or, in the event of any Insurance Sales Professional Matching Contribution, when the Eligible Compensation related to such Matching Contribution would have been payable to the Participant).
6.2 Earnings Indices and Investment Options for Accounts
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A Participant's Account will be credited with notional interest, earnings (and, where applicable, notional investment gain or loss) that are intended to mirror the investment performance and results of the indices/notional investment options selected by the Participant on the Participation Agreement beginning with the date of deferral (or, if attributable to Insurance Sales Professional Matching Contributions, the date such amounts are credited to the Account) until such time as payment of the entire account balance is made.
For Plan Year 2000, the available notional investment options under the Plan are intended to mirror the performance of four of the investment options available to participants of the Prudential Employee Savings Plan in 2000, as follows: (a) the Fixed Rate Fund; (b) the Prudential Stock Index Fund; (c) the Prudential Balanced Fund; and (d) the Prudential Jennison Growth Fund. For Plan Years beginning on or after January 1, 2001, the available notional investment options under the Plan are intended to mirror the performance of all of the then-current investment options available to participants of the Prudential Employee Savings Plan in such year. With respect to amounts deemed allocated to the notional Fixed Rate Fund under the Plan, such amounts will be credited with interest in the same general manner as interest would be credited to amounts actually invested in the actual Fixed Rate Fund; with respect to amounts deemed allocated to the other notional investment options under the Plan, such amounts will be credited under the Plan as if the Participant had actually purchased units of such separate account/mutual funds on the date of such deferral. To the extent that various actual investment options are added to, or removed from, the Prudential Employee Savings Plan, comparable changes shall be made in the available notional investment options under this Plan, and any such changes shall be communicated to Participants as soon as administratively practicable.
A Participant may elect any combination of the available notional investment options; provided, however, that the Participant's allocation of his or her account must be stated in five percent (5%) increments.
6.3 Changing Indices
A Participant may change how the notional amounts reflected in his or her Account are deemed invested by completing an Account Reallocation Form. Such deemed investment allocations may be changed periodically, and in no event less than once per calendar quarter. Changes will be effective as soon as administratively practicable the first day of the following month.
To the extent that additions to, or subtractions from, the number of indices/notional investment options are made under this Plan, Participants will be asked to complete an Account Reallocation Form to indicate if they wish to reallocate their notional Account balances. In the event no such Form is received, no changes to the Participant's Account will be made except that, in the event a particular indices/notional investment option is eliminated and no Form has been completed, the notional amounts credited in such eliminated index shall be credited under the notional Fixed Account Fund as of the date of such elimination (or as soon as administratively practicable thereafter).
6.4 Account Valuation and Reports
(a) Periodic Account Valuation. For purposes of Account recordkeeping, periodic updates of the notional value of each Participant's Account (and of the aggregate unfunded liabilities of the Plan as a whole) shall be made at the direction of the Committee (in any event, no less frequently than as of the end of each calendar quarter). With respect to any distribution for a Participant's Account as provided for in Article IV of the Plan, the aggregate value of any such distribution shall be calculated by reference to the notional value of the Account as of the last day of the month prior to the month in which such distribution is either anticipated to commence or has been requested to commence by the Participant (or Beneficiary, as applicable).
PAGE 12 - DEFERRED COMPENSATION PLAN
(b) Participant Statements. Quarterly statements illustrating Participant Account balances, including any notional gains or losses in such Accounts, shall be made available to Participants as soon as practicable after the end of each calendar year quarter, in a form and manner prescribed by the Committee.
ARTICLE VII--ADMINISTRATION
7.1 Administration of the Plan
The Compensation Committee of the Board shall appoint a committee (the "Committee") to administer the Plan, which shall be comprised of the Vice President - Total Compensation, the Vice President - Employee Benefits and a Vice President - Compensation of the Company. In addition, a member of the Law Department shall serve as a non-voting secretary of the Committee. The Committee shall maintain such procedures and records as will enable the Committee to determine the Participants and their Beneficiaries who are entitled to receive benefits under the Plan and the amounts thereof. Further, the Committee may elect to delegate its administrative responsibilities under the Plan (including, but not limited to, the distribution of Participation Agreements and the monitoring of the various recordkeeping services related to Accounts under the Plan) to, among other entities, the Corporate Compensation unit of the Company's Human Resources function ("Corporate Compensation"). To the degree the delegation of such responsibilities is specifically referenced under the terms of the Plan, the Committee shall be deemed to have so elected to delegate such responsibilities to Corporate Compensation.
7.2 General Powers of Administration
Subject to oversight by the Compensation Committee of the Board, the Committee shall have the exclusive right, power, and authority, in its sole, full and absolute discretion, to interpret any and all of the provisions of the Plan, to supervise the administration and operation of the Plan, and to consider and decide conclusively any questions (whether of fact or otherwise) arising in connection with the administration of the Plan or any claim for benefits arising under the Plan. Any decision or action of the Committee shall be conclusive and binding on all parties, including the Participants.
ARTICLE VIII--AMENDMENT AND TERMINATION OF PLAN
8.1 Amendment of the Plan
(a) General. The Committee shall have the authority to adopt minor amendments to the Plan without prior approval by the Compensation Committee of the Board that:
(i) are necessary or advisable for purposes of complying with applicable laws and regulations;
(ii) relate to administrative practices under the Plan;
(iii) relate to the selection or deletion of additional notional investment options for Participants in their accounts; or
(iv) have an insubstantial financial effect on the Plan.
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The Compensation Committee of the Board shall have the authority to adopt any other amendments to the Plan not encompassed under the terms of the preceding sentence. Any such amendments must be made by written instrument, and notice of such amendments shall be provided as soon as practicable to Participants after their adoption.
(b) Amendments Related to Certain Corporate Transactions. Without limiting the provisions of Section 8.1(a) above, in the event of a corporate transaction or transactions involving the sale, spin-off or other disposition of assets or equity interests in the Employer or any Participating Subsidiary to an unaffiliated entity ("Third Party Acquirer") and which, as a result of such transaction or transactions, it is anticipated that Participants may be transferred to, or be employed by, the Third Party Acquirer or other entities which, as a result of such transaction, are no longer affiliated with the Employer (the "Transferred Participants"), the Company may amend the Plan to provide for the transfer of Account liabilities rather than the distribution of Account balances to such affected Participants in accordance with the terms of Section 4.1(c) and 4.7, as follows:
(i) Both the Employer (or, if relevant, the Participating Subsidiary) and the Third Party Acquirer must agree to the transfer of Account liabilities with respect to all of the Transferred Participants transferred to, or employed by, the Third Party Acquirer or its affiliates; and
(ii) The Third Party Acquirer must agree to establish a new plan (or modify an existing deferred compensation plan) (the "Transferee Plan"), on or prior to the corporate transaction and the transfer of Account liabilities pertaining to the Transferred Participants that, in a form satisfactory to the Employer, provides, among other things, for:
(A) the assumption by the Transferee Plan of all applicable terms (other than notional investment options) of such Transferred Participant's Participation Agreements with respect to any amounts deferred or credited under the Plan on or prior to the effective date of such Account transfer;
(B) the provision of at least equivalent notional investment options to those offered under the Plan to Participants as of the proposed date of Account liability transfer; and
(C) the assumption of (and indemnification by) the Third
Party Acquirer of the Company, Employer and all
Participating Subsidiaries (including their agents,
employees, officers and other representatives) of any
and all liabilities relating to such Transferred
Participants' Account liability transferred from the
Plan to the Transferee Plan (including, but not limited
to, assumption of the Employer's responsibility under
Section 8.3 of the Plan through the adoption of
identical language in the Transferee's Plan effective as
of the transfer of such Account liabilities).
8.2 Termination of the Plan
The Company reserves the right to terminate the Plan in any respect and at any time and may do so pursuant to a written resolution of the Compensation Committee of the Board.
8.3 Limitations on Amendment or Termination of the Plan
PAGE 14 - DEFERRED COMPENSATION PLAN
(a) any amendment satisfying the terms of Section 8.1(b);
(b) any alteration of the notional investment options under the Plan as set forth under Section 8.1(a);
(c) any acceleration of payments of amounts accrued under the Plan by action of the Committee or the Compensation Committee or by operation of the Plan's terms; or
(d) any decision by the Committee or the Compensation Committee to limit participation (or other features of the Plan) prospectively under the Plan
shall not be deemed to violate this provision.
ARTICLE IX--MISCELLANEOUS
9.1 Unfunded Plan/ Participant's Rights Unsecured and Unfunded
This Plan is an unfunded plan maintained primarily to provide deferred compensation benefits for a select group of management or highly-compensated employees within the meaning of Sections 201, 301 and 401 of ERISA, and therefore is exempt from the provisions of Parts 2, 3 and 4 of Title I of ERISA. Accordingly, no assets of the Company shall be segregated or earmarked to represent the liability for accrued benefits under the Plan. Amounts referenced in Participant Account statements are only recordkeeping devices reflecting such liability for accrued benefits, and do not reflect any actual amounts credited. The right of a Participant (or his or her Beneficiary) to receive a payment hereunder shall be an unsecured claim against the general assets of the Company. All payments under the Plan shall be made from the general funds of the Company. The Company is not required to set aside money or any other property to fund its obligations under the Plan, and all amounts that may be set aside by the Company prior to the distribution of Account balances under the terms of the Plan remain the property of the Company.
Notwithstanding the foregoing, nothing in this Section 9.1 shall preclude the Company, in its sole discretion, after the Effective Date, from establishing a "rabbi trust" or other vehicle in connection with the operation of this Plan, provided that no such action shall cause the Plan to fail to be an unfunded plan designed to provide deferred compensation benefits for a select group of management or highly-compensated employees for purposes within the meaning of Title I of ERISA.
9.2 Plan Is Not a Contract of Employment
This Plan shall not constitute a contract of employment between the Employer and/or any Participating Subsidiary and the Participant. Nothing in this Plan shall give a Participant the right to be retained in the service of the Employer or to interfere with the right of the Employer to discipline or discharge a Participant at any time.
9.3 Notice
Any notice required or permitted under the Plan shall be sufficient if in writing and hand delivered, sent by first class, registered or certified mail, or by such other means as the Committee, in its sole discretion, may deem appropriate. Such notice shall be deemed as given as of the date of delivery or, if delivery is made by mail, as of the date shown on the postmark or on the receipt for
PAGE 15 - DEFERRED COMPENSATION PLAN
registration or certification. Mailed notice to the Committee shall be directed to the Company's address, c/o Corporate Compensation. Mailed notice to a Participant or Beneficiary shall be directed to the individual's last known home or office address in Employer's records.
9.4 No Guarantee of Benefits
Nothing contained in the Plan shall constitute a guaranty by the Employer or any other person or entity that the assets of the Company will be sufficient to pay any benefit hereunder.
9.5 Non-Alienation Provision
No interest of any person or entity in, or right to receive a benefit or distribution under, the Plan shall be subject in any manner to sale, transfer, assignment, pledge, attachment, garnishment, or other alienation or encumbrance of any kind; nor may such interest or right to receive a distribution be taken, either voluntarily or involuntarily for the satisfaction of the debts of, or other obligations or claims against, such person or entity, including claims for alimony, support, separate maintenance and claims in bankruptcy proceedings.
9.6 Applicable Law
The Plan shall be construed and administered under the laws of the State of New Jersey, except to the extent that such laws are preempted by ERISA.
9.7 Taxes
To the extent required by law, amounts accrued under the Plan shall be subject to federal and state income, federal social security and federal or state unemployment taxes during the year the services giving rise to such amounts were performed (or, if later, when the amounts are both determinable and not subject to a substantial risk of forfeiture). The Company, the Employer or the Participating Subsidiary (as applicable) shall withhold from any payments made pursuant to the Plan such amounts as may be required by federal, state or local law, and the Company, the Employer or the Participating Subsidiary (as applicable) further reserves the right: (a) to limit or reduce the amounts intended to be deferred under the terms of the Plan as may be necessary or appropriate in order to ensure that any required tax withholdings can be deducted; and/or (b) to require the Participant to pay any taxes owed on such amounts through payroll deduction.
9.8 Excess Payments
If the compensation, years of service, age, or any other relevant fact relating to any person is found to have been misstated, the Plan benefit payable by the Company to a Participant or Beneficiary shall be the Plan benefit which would have been provided on the basis of the correct information. Any excess payments due to such misstatement, or due to any other mistake of fact or law, shall be refunded to the Company or withheld by it from any further amounts otherwise payable under the Plan.
9.9 No Impact on Other Benefits
Amounts deferred and accrued under the Plan shall not be included in a Participant's compensation for purposes calculating benefits under any other plan, program or arrangement sponsored by the Employer or Participating Subsidiary, unless such plan, program or arrangement so provides.
PAGE 16 - DEFERRED COMPENSATION PLAN
9.10 Data
Each Participant or Beneficiary shall furnish the Committee with all proofs of dates of birth and death and proofs of continued existence necessary for the administration of the Plan, and the Company shall not be liable for the fulfillment of any Plan benefits in any way dependent upon such information unless and until the same shall have been received by the Committee in a form satisfactory to it.
9.11 Incapacity of Recipient
If a Participant or other Beneficiary entitled to a distribution under the Plan is living under guardianship or conservatorship, distributions payable under the terms of the Plan to such Participant or Beneficiary shall be paid to his or her appointed guardian or conservator and such payment shall be a complete discharge of any liability of the Company, the Employer and the Participating Subsidiary (as the case may be) under the Plan.
9.12 Usage of Terms and Headings
Words in the masculine gender shall include the feminine and the singular shall include the plural, and vice versa, unless qualified by the context. Any headings are included for ease of reference only, and are not to be construed to alter the terms of the Plan.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
By:________________________________
Dated:_____________________________
PAGE 17 - DEFERRED COMPENSATION PLAN
Exhibit 10.5
The Prudential Deferred Compensation Plan for Non-Employee Directors (the "Plan") was established by The Prudential Insurance Company of America (the "Company"), effective as of July 1, 1974, for the purpose of providing a method of deferring payment to non-employee directors of the Company (the "Non-Employee Directors") of their fees, as fixed from time to time by the Board of Directors of the Company until termination of their services on the Board. The Plan has been amended and restated effective as of May 12, 1998.
The Plan is intended to be, and shall be administered as, an unfunded plan maintained for the purpose of providing deferred compensation for the Non-Employee Directors and, as such, is not an "employee benefit plan" within the meaning of Title I of ERISA (as defined below). The Plan is also intended to comply with the provisions of New Jersey Statutes Annotated 17B:18-52.
ARTICLE I
The following capitalized terms shall have the meanings hereinafter set forth in this Plan. Other terms that are capitalized in the Plan shall be defined in the same manner as they are defined in the Non-Employee Director's Pension Plan:
"Board of Directors" or "Board" means the Board of Directors of the Company.
"Code" means the Internal Revenue Code of 1986, as amended.
"Committee" means the Committee that has been appointed by the Board of Directors pursuant to Article V of the Plan.
"Company" means The Prudential Insurance Company of America.
"Controlled Group" means the Company and (i) each corporation which is a member of a controlled group of corporations (within the meaning of Section 414(b) of the Code) which includes the Company, (ii) each trade or business (whether or not incorporated) which is under common control with the Company (within the meaning of Section 414(c) of the Code), (iii) each organization included in the same affiliated service group (within the meaning of Section 414(c) of the Code) as the Company, and (iv) each other entity required to be aggregated with the Company pursuant to regulations promulgated under Section 414(o) of the Code. Any such entity shall be treated as part of
the Controlled Group only for the period while it is a member of the controlled group or considered to be in a common control group.
"Deferred Compensation Accounts" shall have the meaning set forth in
Section 3.1 of the Plan.
"Effective Date" means July 1, 1974.
"ERISA" means the Employee Retirement Income Security Act of 1974, as
amended.
"Fees" includes all fee income payable to Non-Employee Directors for their
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service on the Board of Directors, including, but not limited to (i) annual service fees, (ii) meeting fees (including orientation meeting fees), and (iii) compensation that may be payable to such Non-Employee Directors for serving on any of the committees of the Board of Directors. The term "Fees" does not include travel payments that may be made to such Non-Employee Directors as a result of attending orientation meetings of the Board of Directors, payments that constitute reimbursement for expenses incurred by such Non-Employee Director in connection with his or her services to the Board of Directors, nor any fees that may be payable to such Non-Employee Director for service as a trustee of The Prudential Foundation.
"Hardship" means an unanticipated emergency that is caused by an event beyond the control of the Participant or beneficiary, and that would result in severe financial hardship to such Participant or beneficiary.
"Non-Employee Director" means any Director of the Company who is not a salaried officer or employee of either the Company or any entity within the Controlled Group.
"Non-Employee Director's Pension Plan" means The Pension Plan For Non-Employee Directors Of The Prudential Insurance Company Of America, as amended and restated May 12, 1998.
"Participant" means a Non-Employee Director of the Company (and, if applicable, their beneficiaries) who have elected to participate in the Plan and thereby defer all or a portion of the Fees to be earned by such Participant in the next applicable Plan Period.
"Plan Period" has the following meaning: (a) with respect to the "First Plan Period," the period commencing on July 1, 1974, and terminating on December 31, 1974, and (b) with respect to all subsequent Plan Periods, the period of time commencing on January 1 and terminating on December 31 for all successive calendar years.
"Retirement Date" means the first day of the month following the month in which the Participant terminates his services as a Non-Employee Director.
ARTICLE II
The Participants may, no later than the last day of the year prior to the year of their anticipated Retirement Date, amend their election forms for deferrals related to all Plan Periods (a) to change the previously-elected form of distribution to another distribution form permitted under Section 4.1, or (b) to change the starting date for commencement of payments under the Plan to another definitely determinable date.
ARTICLE III
September and December in such Plan Period and for services rendered during any other Plan Period shall be credited in four equal installments on or about the last day of March, June, September, and December in the Plan Period to which such service fee relates to his Deferred Compensation Account, subject to the provisions of Section 3.4.
(a) With respect to amounts credited to an applicable Participant's Deferred Compensation Account for Plan Periods commencing on the Effective Date and ending December 31, 1992, interest shall be accrued on balances in such Deferred Compensation Account at a rate compounded to yield an effective annual rate corresponding to the rate payable to Fixed Dollar Contributions under The Prudential Investment Plan; and
(b) With respect to amounts credited to an applicable Participant's Deferred Compensation Account for Plan Periods commencing on January 1, 1993, interest shall be accrued on balances in such Deferred Compensation Account at a rate compounded to yield an effective annual rate corresponding to the rate payable by the Fixed Rate Fund under The Prudential Employee Savings Plan in effect on the first day of the calendar year of the Plan Period.
Interest will accrue commencing with the date of crediting until the Participant's Retirement Date, at which time interest shall accrue on the declining unpaid balance (if any) of a Participant's Deferred Compensation Account at a rate determined in the same way.
ARTICLE IV
4.1 Timing and Form of Distribution. The Company shall pay to the Participant(or, in the event of the Participant's death, to the Participant's designated beneficiary) a sum equal to the amount then standing to his credit in his Deferred Compensation Account (plus interest as provided for under Section 3.3 herein), in the following manner:
Notwithstanding the above, if the Participant dies (either before payments commence from the Plan or while such payments are being made), the balance of the Participant's Deferred Compensation Account shall immediately become due and payable in one lump sum to the Participant's beneficiary or, if no beneficiary is designated or then living, to the Participant's estate.
ARTICLE V
ARTICLE VI
(a) Such amendment or termination must be made pursuant to a written resolution of the Committee which is approved thereafter by the Board of Directors; and
(b) Such amendment or termination resolution may not adversely affect the rights of any Participant or beneficiary to receive benefits earned and accrued under the Plan prior to such amendment or termination.
ARTICLE VII
withhold from any payments made pursuant to the Plan such amounts as may be required by federal, state or local law.
Exhibit 10.6
The Pension Plan for Non-Employee Directors of The Prudential Insurance Company of America (the "Plan") was established by The Prudential Insurance Company of America (the "Company"), effective as of April 1, 1985 (the "Effective Date"), for the purpose of providing retirement income for non-employee directors of the Company (the "Non-Employee Directors"), after termination of their services on the Board of Directors of the Company. The Plan has been amended and restated effective as of May 12, 1998.
The Plan is intended to be, and shall be administered as, an unfunded plan maintained for the purpose of providing retirement benefits for the Non-Employee Directors and, as such, is not an "employee benefit plan" within the meaning of Title I of ERISA (as defined below). The Plan is also intended to comply with the provisions of New Jersey Statutes Annotated 17B:18-52.
ARTICLE 1
The following capitalized terms shall have the meanings hereinafter set forth in this Plan. Other terms that are capitalized in the Plan shall be defined in the same manner as they are defined in the Non-Employee Director's Deferred Compensation Plan:
"Board" or "Board of Directors" means the Board of Directors of the
Company.
"Code" means the Internal Revenue Code of 1986, as amended.
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"Committee" means the Committee that has been appointed by the Board of Directors pursuant to Article V of the Plan.
"Company" means The Prudential Insurance Company of America.
"Controlled Group" means the Company and (i) each corporation which is a member of a controlled group of corporations (within the meaning of Section 414(b) of the Code) which includes the Company, (ii) each trade or business (whether or not
incorporated) which is under common control with the Company (within the meaning of Section 414(c) of the Code), (iii) each organization included in the same affiliated service group (within the meaning of Section 414(c) of the Code) as the Company, and (iv) each other entity required to be aggregated with the Company pursuant to regulations promulgated under Section 414(o) of the Code. Any such entity shall be treated as part of the Controlled Group only for the period while it is a member of the controlled group or considered to be in a common control group.
"Director" means any current or future member of the Company's Board of Directors and those former members of the Company's Board of Directors who have retired from the Board on or after attaining age seventy (70).
"Disability" means any injury or illness which in the opinion of a duly licensed physician acceptable to the Company renders it impossible for a Director to continue to perform the Director's duties as a member of the Board of Directors.
"Effective Date" means April 1, 1985.
"Employee Director" means a person serving as a Director who is concurrently an employee or officer of the Company. An individual shall cease to be an Employee Director and, assuming that they remain on the Board of Directors, become a Non-Employee Director, upon his or her retirement or other termination of employment from the Company.
"ERISA" means the Employee Retirement Income Security Act of 1974, as amended.
"Non-Employee Director" means any Director of the Company who is not a salaried officer or employee of either the Company or any entity within the Controlled Group.
"Plan" means the Pension Plan for Non-Employee Directors of The Prudential Insurance Company of America, as stated herein and as from time to time amended.
"Retirement Benefit" means the annual pension to which a Non-Employee Director may become entitled pursuant to Article III, determined under either clause (1) or (2) (but not both) as follows: (1) for any Non-Employee Director who has retired or terminated pursuant to the provisions of Sections 3.1, 3.2 or 3.3 of the Plan on or before January 1, 1996, such Non-Employee Director's annual Retirement Benefit is equal to the basic annual retainer paid to such Director immediately prior to such retirement or termination, reduced, if applicable, by the provisions of Section 3.2(b); and
(2) effective January 1, 1996, a Non-Employee Director's annual Retirement
Benefit will be equal to $30,000 (reduced, if applicable, by the provisions of
Section 3.2(b)), provided that such Director satisfies all of the requirements
set forth in Articles II, III and IV of the Plan. Such annual Retirement
Benefit shall be paid in equal monthly installments for the life of the
Non-Employee Director.
"Years of Service" means the period that begins on the date a Non-Employee Director is elected or appointed to the Company's Board of Directors and ends on the date of termination of membership on the Company's Board.
There shall be excluded from Years of Service any period during which a Non-Employee Director was an Employee Director.
ARTICLE II
ARTICLE III
Each Non-Employee Director who has become vested in a Retirement Benefit pursuant to Article IV and who retires from the Board of Directors on or after attaining age 70 (or such earlier date as may be required for a Non-Employee Director's retirement pursuant to resolutions adopted by the Board of Directors) shall be entitled to receive a Retirement Benefit. Such Retirement Benefit shall commence being paid on the first day of the month following the later of (1) such Non-Employee Director's retirement from the Board, or (2) the date this Plan is established, provided he or she is living on the date the payment of the Retirement Benefit would otherwise commence.
(a) A Non-Employee Director who has become vested in a Retirement Benefit pursuant to Article IV and who terminates his or her membership on the Board of Directors prior to attaining age 70 (or such earlier date as may be required for a Non-Employee Director's retirement pursuant to resolutions adopted by the Board of Directors) for any reason other than Disability or death shall be entitled to receive a Retirement Benefit commencing on the first day of the month coincident with or next following his or her attainment of age 70, provided he or she is living on such date.
(b) A vested Non-Employee Director who terminates his or her
membership on the Board of Directors prior to attaining age 70
may elect to receive a reduced Retirement Benefit. Such reduced
Retirement Benefit may commence on the first day of the month
coincident with or next following the Non-Employee Director's
attainment of age 60 or on the first day of any subsequent month,
provided such Director is living on such date. The reduction
shall be five (5) percent multiplied by each year that the
Retirement Benefit commences prior to age 70; provided however,
that (i) the reduction at ages less than sixty-six (66) shall be
lessened by two (2) percent for each Year of Service completed by
the Director in excess of five (5), but not to less than twenty
(20) percent, and (ii) the reduction at age 69 shall be zero (0)
percent if the Director's membership on the Board terminates at
age 69 under the election rules.
A Non-Employee Director who has become vested in a Retirement Benefit pursuant to Article IV and who incurs a termination of membership on the Board of Directors on account of Disability shall be entitled to receive a Retirement Benefit commencing on the first day of the month following his or her termination of Board membership as a result of such Disability, provided he or she is living on such date.
There are no death benefits payable under the Plan. Upon the death of a Non-Employee Director who is receiving benefits pursuant to this Article III, the payment of any Retirement Benefits shall immediately cease.
The Retirement Benefit payable to a Non-Employee Director pursuant to
Section 3.1, 3.2, or 3.3 may be increased from time to time, subject to the
approval of the Board and pursuant to the provisions of Article VI.
ARTICLE IV
Years of Service Percent Vested Less than five 0% Five or more 100% |
ARTICLE VI
(a) Such amendment or termination must be made pursuant to a written resolution of the Committee which is approved thereafter by the Board of Directors; and
(b) Such amendment or termination resolution may not retroactively reduce or adversely affect the amount of any Retirement Benefit payable to any Non- Employee Director, or (ii) adversely affect the rights of any Non-Employee Director to receive benefits vested under the Plan prior to such amendment or termination.
Company, nor does the creation and maintenance of this Plan give no further rights to any Director to continue as a member of the Board of Directors beyond those which are inherent in such Director's election or appointment as a member of the Company's Board of Directors.
Exhibit 10.7
June 2001
The Compensation Committee may, in its sole discretion, at any time and from time to time amend, modify, suspend or terminate this Plan, in whole or in part, without notice to or consent of any Participant or employee.
Table of Contents
. I. Program Concept
. II. Eligibility
. III. Granting of Performance Units
. IV. Performance Measurement
. V. Final Valuation and Payment
. VI. Termination of Employment
. VII. Plan Funding
. VIII. Plan Administration
. IX. Revocation, Amendment, and Termination
. X. Limitation on Liability
. XI. No Contract of Employment
. XII. No Right to Participate
. XIII. No Limitations on Corporate Actions
. XIV. Facilitation of Payments
. XV. Addresses; Missing Recipients
. XVI. Taxes
. XVII. Successors
. XVIII. Captions
. XIX. Third Parties
. XX. Non-Alienation Provision
Appendix A - Illustration of 2001 Funding Potential
The 2001 Prudential Long-Term Performance Unit Plan ("the Plan") has been developed to recognize and reward the contributions that Participants will make towards The Prudential Insurance Company of America's ("Prudential" or "the Company") long-term growth and success.
The Long-Term Performance Unit Plan is one of the four elements of Total Compensation applicable to designated Executives in Prudential. The other elements are: Base Salary, Annual Incentive Award, and Benefits/Perquisites. The Long-Term Incentive Award is designed to focus attention on the importance of sustained company performance over a period of years as well as to assist in the retention of eligible employees.
Employees at the Vice President or equivalent level (Grade 6P) and above are eligible to participate in this Plan ("Participants"). In addition, the Compensation Committee retains the discretion to add certain individuals below the rank of Vice President as Participants under the Plan, provided the Committee determines (i) that such individuals are included in a select group of management or highly compensated employees of the Company and (ii) that making such individuals Participants under the Plan is in the best interests of the Company.
Participants will be eligible for an annual grant of Performance Units. The decision to grant Performance Units and the number of Performance Units granted to Plan Participants will be at the discretion of the Compensation Committee. However, significant emphasis will be given to the individual's performance, market considerations, internal guidelines and the number of Performance Units available for grant in arriving at the number to be granted, if any.
The 2001 Performance Unit grants will be valued based upon Company performance from January 1, 2001 through December 31, 2003 (the "performance period"). There are, in total, 125,000 Performance Units available for grant in the 2001 Plan. Each Performance Unit will be valued at 1/125,000th of the amount allocated to the Plan at the end of the performance period.
A limited number of Performance Units are normally held in reserve to accommodate new hires and promotions during the year as well as other special circumstances. The number of Performance Units granted to new hires and those receiving promotions during 2001 shall be at the discretion of the Compensation Committee.
The value of the Performance Units at the end of the performance period will be determined by two principal performance measurements: 1) Cumulative Operating Earnings; and 2) Cumulative Operating Margin achieved over the three year performance period.
Operating Earnings is defined as Adjusted Operating Income for the Financial Services Businesses, as defined in the S-1, and also excludes Market Standards Expenses, Rightsizing/Restructuring Reserves, and unusual items as identified by management. Operating Margin is Operating Earnings as defined, divided by Revenue, as defined, for the same period, expressed as a percentage. Revenue is defined as all items in the Revenue section of a GAAP income statement for the Financial Services Businesses, including but not limited to Premiums, Policy Charges and Fees, Net Investment Income and Other Revenue, but excluding Realized Gains or Losses. The planned Cumulative Operating Earnings is $8.389 billion and the planned Cumulative Operating Margin is 13.54%. In the event of a subsequent change in accounting methodology or significant acquisition or divestiture, the above will be reviewed and amended as appropriate.
The value of the Performance Units at the end of the performance period depends on the amount allocated to the Plan. When threshold performance is achieved, $49 million will be allocated to the Plan. Threshold performance is achievement of 75% of planned Cumulative Operating Earnings amount, or $6.292 billion. If threshold performance is not achieved, allocation to the Plan will not be made. For any additional Cumulative Operating Earnings above the threshold, 2.32% of the incremental amount will be allocated to the Plan (the Basic Allocation Rate). When Cumulative Operating Earnings exceeds the planned amount, or $8.389 billion, an additional 1.56% of the amount in excess of the planned amount will be allocated to the Plan (the Premium Allocation Rate). The amount allocated to the Plan as a result of Cumulative Operating Earnings is not subject to any cap or maximum.
The allocation formulae described above (i.e., the 2.32% or 1.56%) will be increased by 0.156% for every 10% improvement in Cumulative Operating Margin over the planned Cumulative Operating Margin. Partial percentage increases will be prorated. The maximum increase is 0.78%, which corresponds to a 50% improvement in Cumulative Operating Margin over plan. This increase in the allocation rate(s) is called the Operating Margin Adjustment Factor. No negative adjustment will be made if the planned Cumulative Operating Margin is not achieved. The Operating Margin Adjustment Factor will only have a positive impact on the total amount allocated to the Plan.
To ensure that other critical performance factors are also given consideration and reflected in the final Plan allocation, the Compensation Committee may, under normal circumstances, adjust the total amount allocated to the Plan by up to plus or minus 15%. When considering this adjustment, the Compensation Committee will take into account such financial and non-financial factors as change in market share, expansion of new
distribution channels, overall changes in financial rating, reputation of management, customer satisfaction, employee satisfaction and change in most admired company status. In the event of circumstances that the Compensation Committee deems extraordinary, the Compensation Committee reserves the right to make any additional adjustment to the total amount allocated.
The following are three illustrations of how the amount allocated can potentially be impacted by Cumulative Operating Earnings and Cumulative Operating Margin. For purposes of the illustrations the calculated amounts have been rounded. For a summary of the funding potential, refer to Appendix A of this document.
Threshold Allocation Amount $49 million
Basic Allocation Rate Amount ($9.228b - $6.292b) X (2.32% + 0.156%) $73 million
Premium Allocation Rate Amount ($9.228b - $8.389b) X (1.56% + 0.156%) $14 million
-----------------
Total Amount allocated $136 million
=================
Example 2:
----------
Cumulative Operating Earnings Achieved = $9.228 billion or $2.9 billion above
threshold
Cumulative Operating Margin Achieved = 12.2% or 10% below plan
Threshold Allocation Amount $49 million
Basic Allocation Rate Amount ($9.228b - $6.292b) X 2.32% $68 million
Premium Allocation Rate Amount ($9.228b - $8.389b) X 1.56% $13 million
--------------------
Total Amount allocated $130 million
====================
Example 3:
Cumulative Operating Earnings Achieved = $8.389 billion or $2.1 billion above
threshold
Cumulative Operating Margin Achieved = 16.2% or 20% above plan
Threshold Allocation Amount $49 million
Basic Allocation Rate Amount ($8.389b - $6.292b) X (2.32% + 0.312%) $55 million
Premium Allocation Rate Amount ($8.389b - $8.389b) X (2.32% + 0.312%) $0 million
------------------
Total Amount allocated $104 million
==================
|
At the close of the performance period, the amount allocated to the Plan pursuant to the allocation formulae will be calculated and presented to the Compensation Committee for review and possible adjustment. When the final amount to be allocated is approved by the Compensation Committee, Corporate Compensation will compute the individual payment for each Participant based on the number of Performance Units granted to the Participant. When the amount to be paid each Participant under the Plan is computed, the Company will pay such amounts in a single sum to Participants who are on the active payroll on the date of payment. At the option of the Company or an affiliate, all or part of the amount payable may be paid in equivalent number of publicly traded Common Shares of the Company if they are available and legally permissible at that time. Any 2001 Performance Unit not granted or any Performance Unit canceled under the circumstances described below, and not re-granted to other Participants, shall not be paid to any Participant and any Plan allocation not paid to the Participants shall revert to the Company.
Payments made under this Plan will not be taken into account in determining benefits or contribution amounts under any employee benefit plan of the Company or any of its affiliates.
If employment is terminated prior to the payment of the Performance Units, treatment of the Performance Units will be as follows.
Participant is an active employee for 15 days or more in that month. The resulting reduced number of Performance Units shall be considered vested and payment made to the Participant following the final valuation of the Plan as described in Section V, provided that the Company reserves the right to cancel such Performance Units if the Participant, prior to the end of the applicable performance period, (i) performs any services, whether as an employee, officer, director, agent, independent contractor, partner or otherwise, for a competitor of the Company or any of its affiliates without the consent of the Administrator, as defined below, or (ii) takes any other action, including, but not limited to, interfering with the relationship between the Company or any of its affiliates and any of its employees, clients or agents, which is intended to damage or does damage to the business or reputation of the Company.
The portion of any Performance Units reduced pursuant to the first sentence of this section (and therefore not payable to a Participant under any circumstances) shall be canceled and shall not be payable. In addition, if a Participant fails to comply with the conditions of payment, the pro-rated Performance Units shall also be canceled and shall not be payable.
pursuant to this paragraph, the portion of the Performance Units eliminated shall be canceled and shall not be payable.
The Plan shall at all times be unfunded and no provision shall at any time be made with respect to segregating any assets of the Company or an affiliate for payment of any benefits under the Plan. The right of a Participant to receive payment under the Plan shall be an unsecured claim against the general assets of the Company or an affiliate, and neither the Participant nor any other person shall have any rights in or against any specific assets of the Company or an affiliate. The Company and any affiliate may establish a reserve of assets to provide funds for payments under the Plan.
The Compensation Committee shall be the administrator of the Plan. With respect to its authority to award or cancel payments under the Plan to Participants whose employment is terminated, its authority to grant Performance Units to eligible new or promoted employees below the Senior Vice President level, and with regard to the participation in the Plan of persons who are below the level of Senior Vice President, the Plan shall be administered by the Prudential Executive Vice President, Human Resources or, to the extent that the Prudential Executive Vice President, Human Resources deems appropriate, to the Vice President, Total Compensation. The Compensation Committee, the Prudential Executive Vice President, Human Resources or the Vice President, Total Compensation, as applicable, shall be referred to as the Administrator. The Administrator shall administer the Plan in accordance with its terms and shall have the discretion and authority necessary in the administration of the Plan, including the authority to interpret the Plan, to make factual determinations under the Plan and to determine Plan payments and allocations. The Administrator shall have the discretion and authority to adopt and revise rules and procedures relating to the Plan, to correct any
defect or omission or reconcile any inconsistency in this Plan or any payment hereunder, and to make any other determinations that it believes necessary or advisable in the administration of the Plan. Determinations and decisions by the Administrator shall be final and binding on all employees, Participants and all other persons.
The Compensation Committee may, in its sole discretion, at any time and from time to time amend, modify, suspend, or terminate this Plan, in whole or in part, without notice to or the consent of any Participant or employee. This Plan may be amended or terminated by resolution of the Compensation Committee and by execution of a written instrument by a duly authorized officer of the Company.
The liability of the Company or any affiliate under this Plan is limited to the obligations expressly set forth in the Plan, and no term or provision of this Plan may be construed to impose any further or additional duties, obligations, or costs on the Company, an affiliate or the Compensation Committee not expressly set forth in the Plan.
The existence of this Plan, as in effect at any time or from time to time, or any grant of Performance Units under the Plan shall not be deemed to constitute a contract of employment between Prudential, or an affiliate, and any employee or Participant, nor shall it constitute a right to remain in the employ of Prudential or an affiliate. Employment with Prudential or an affiliate is employment-at-will and either party may terminate the Participant's employment at any time, for any reason, with or without cause or notice.
Except as provided in Sections II and III, no Participant or other employee shall at any time have a right to be selected for participation in the Plan, despite having previously participated in an incentive or bonus plan of the Company or an affiliate.
Nothing contained in this Plan shall be construed to prevent the Company, or any affiliate, from taking any corporate action which is deemed by it to be appropriate, or in its best interest, whether or not such action would have an adverse effect on this Plan, or any awards made under this Plan. No employee, beneficiary, or other person, shall have any claim against the Company, or any of its affiliates, as a result of any such action.
Notwithstanding anything else in this Plan to the contrary, in the event that a payment is due to an employee, or former employee (or a beneficiary thereof), under this Plan and the recipient is a minor, mentally incompetent, or otherwise incapacitated, such payment shall be made to the recipient's legal representative, or guardian. If there is no such legal representative, or guardian, Prudential, in its sole discretion, may direct that payment be made to any person Prudential, in its sole discretion, believes, by reason of a family relationship, or otherwise, will apply. Upon such payment, for the benefit of the recipient, the Company and each of its affiliates shall be fully discharged of all obligations therefor.
A recipient of any payment under this Plan who is not a current employee of the Company, or an affiliate, shall have the obligation to inform the Company of his or her current address, or other location to which payments are to be sent. Neither the Company nor any affiliate shall have any liability to such recipient, or any other person, for any failure of such recipient, or person, to receive any payment if it sends such payment to the address provided by such recipient by first class mail, postage paid, or other comparable delivery method. Notwithstanding anything else in this Plan to the contrary, if a recipient of any payment cannot be located within 120 days following the date on which such payment is due after reasonable efforts by the Company or an affiliate, such payments and all future payments owing to such recipient shall be forfeited without notice to such recipient. If, within two years (or such longer period as Prudential, in its sole discretion, may determine), after the date as of which payment was forfeited (or, if later, is first due), the recipient, by written notice to the Company, requests that such payment and all future payments owing to such recipient be reinstated and provides satisfactory proof of their identity, such payments shall be promptly reinstated. To the extent the due date of any reinstated payment occurred prior to such reinstatement, such payment shall be made to the recipient (without any interest from its original due date) within 90 days after such reinstatement.
The Company or an affiliate shall have the right to deduct from all payments under the Plan any federal, state, or local taxes required by law to be withheld with respect to such payments.
All obligations of the Company and any affiliate under the Plan shall be binding upon and inure to the benefit of any successor to the Company or such affiliate, whether the existence of such successor is the result of a direct or indirect purchase, merger, consolidation, demutualization or otherwise.
The headings and captions appearing herein are inserted only as a matter of convenience. They do not define, limit, construe, or describe the scope or intent of the provisions of the Plan.
Nothing expressed or implied in this Plan is intended or may be construed to give any person other than eligible Participants any rights or remedies under this Plan.
Subject to the provisions of applicable law, no interest of any person or entity in any long term incentive award, or right to receive any long term incentive award or any distribution or other benefit under the Plan shall be subject in any manner to sale, transfer, assignment, pledge, attachment, garnishment, or other alienation or encumbrance of any kind; nor may such interest in any long term incentive award, or right to receive any long term incentive award or any distribution or any benefit under the Plan be taken, either voluntarily or involuntarily, for the satisfaction of the debts of, or other obligations or claims against, such person or entity, including (but not limited to) claims for alimony, support, separate maintenance and claims in bankruptcy proceedings.
Exhibit 10.8
April 2000
The Compensation Committee may, in its sole discretion, at any time and from time to time amend, modify, suspend or terminate this Plan, in whole or in part, without notice to or consent of any Participant or employee.
Table of Contents
-----------------
. I. Program Concept
. II. Eligibility
. III. Granting of Performance Units
. IV. Performance Measurement
. V. Final Valuation and Payment
. VI. Termination of Employment
. VII. Plan Funding
. VIII. Plan Administration
. IX. Revocation, Amendment, and Termination
. X. Limitation on Liability
. XI. No Contract on Employment
. XII. No Right to Participate
. XIII. No Limitations on Corporate Actions
. XIV. Facilitation of Payments
. XV. Addresses; Missing Recipients
. XVI. Taxes
. XVII. Successors
. XVIII. Captions
. XIX. Third Parties
. XX. Non-Alienation Provision
|
Appendix A - Illustration of 2000 Funding Potential
The Prudential Long-term Performance Unit Plan ("the Plan") has been developed to recognize and reward the contributions that Participants will make towards The Prudential Insurance Company of America's ("Prudential" or "the Company") long-term growth and success.
The Long-Term Performance Unit Plan is one of the four elements of Total Compensation applicable to designated Executives in Prudential. The other elements are: Base Salary, Annual Incentive Award, and Benefits/Perquisites. The Long-Term Incentive Award is designed to focus attention on the importance of sustained company performance over a period of years as well as to assist in the retention of eligible employees.
Employees at the Department Vice President or equivalent level and above are eligible to participate in this Plan ("Participants"). In addition, the Compensation Committee retains the discretion to add certain individuals below the rank of Department Vice President as Participants under the Plan, provided the Committee determines (i) that such individuals are included in a select group of management or highly compensated employees of the Company and (ii) that making such individuals Participants under the Plan is in the best interests of the Company.
Participants will be eligible for an annual grant of Performance Units. The decision to grant Performance Units and the number of Performance Units granted to Plan Participants will be at the discretion of the Compensation Committee. However, significant emphasis will be given to the individual's performance, market considerations, internal guidelines and the number of Performance Units available for grant in arriving at the number to be granted, if any.
The 2000 Performance Units grants will be valued based upon Company performance from January 1, 2000 through December 31, 2002 (the "performance period"). There are, in total, 100,000 Performance Units available for grant in the 2000 Plan. Each Performance Unit will be valued at 1/100,000th of the amount allocated to the Plan at the end of the performance period.
A limited number of Performance Units are normally held in reserve to accommodate new hires and promotions during the year as well as other special circumstances. The number of Performance Units granted to new hires and those receiving promotions during 2000 shall be at the discretion of the Compensation Committee.
The value of the Performance Units at the end of the performance period will be determined by two principal performance measurements: 1) Cumulative Operating Earnings; and 2) Cumulative Operating Margin achieved over the three year performance period.
Operating Earnings is defined as Income Before Tax, Capital Gains, Remediation Expenses, Restructuring Reserves, Market Standards and Demutualization Expenses. Capital Gains are net of the Loss Recognition Reserve and the Deferred Acquisition Cost (DAC) Amortization for Capital Gains. Operating Margin is Operating Earnings as defined, divided by Revenue, as defined, for the same period, expressed as a percentage. Revenue is defined as all items in the Revenue section of a GAAP income statement, including but not limited to Premiums, Policy Charges and Fees, Net Investment Income and Other Revenue, but excluding Realized Gain or Losses. The planned Cumulative Operating Earnings is $8.734 billion and the planned Cumulative Operating Margin is 10.33%. In the event of a subsequent change in accounting methodology or significant acquisition or divestiture, the above will be reviewed and amended as appropriate.
The value of the Performance Units at the end of the performance period depends on the amount allocated to the Plan. When threshold performance is achieved, $39 million will be allocated to the Plan. Threshold performance is achievement of 75% of planned Cumulative Operating Earnings amount, or $6.551 billion. If threshold performance is not achieved, allocation to the Plan will not be made. For any additional Cumulative Operating Earnings above the threshold, 1.78% of the incremental amount will be allocated to the Plan (the Basic Allocation Rate). When Cumulative Operating Earnings exceeds the planned amount, or $8.734 billion, an additional 1.17% of the amount in excess of the planned amount will be allocated to the Plan (the Premium Allocation Rate). The amount allocated to the Plan as a result of Cumulative Operating Earnings is not subject to any cap or maximum.
The allocation formulae described above (i.e., the 1.78% or 1.17%) will be increased by 0.117% for every 10% improvement in Cumulative Operating Margin over the planned Cumulative Operating Margin. Partial percentage increases will be prorated. The maximum increase is 0.585%, which corresponds to a 50% improvement in Cumulative Operating Margin over plan. This increase in the allocation rate(s) is called the Operating Margin Adjustment Factor. No negative adjustment will be made if the planned Cumulative Operating Margin is not achieved. The Operating Margin Adjustment Factor will only have a positive impact on the total amount allocated to the Plan.
To ensure that other critical performance factors are also given consideration and reflected in the final Plan allocation, the Compensation Committee may, under normal circumstances, adjust the total amount allocated to the Plan by up to plus or minus 15%. When considering this adjustment, the Compensation Committee will take into account such financial and non-financial factors as change in market share, expansion of new
distribution channels, overall changes in financial rating, reputation of management, customer satisfaction, employee satisfaction and change in most admired company status. In the event of circumstances that the Compensation Committee deems extraordinary, the Compensation Committee reserves the right to make any additional adjustment to the total amount allocated.
The following are three illustrations of how the amount allocated can potentially be impacted by Cumulative Operating Earnings and Cumulative Operating Margin. For purposes of the illustrations the calculated amounts have been rounded. For a summary of the funding potential, refer to Appendix A of this document.
Threshold Allocation Amount $39 million
Basic Allocation Rate Amount ($9.611b - $6.551b) X (1.78% + 0.117%) $58 million
Premium Allocation Rate Amount ($9.611b - $8.734b) X (1.17% + 0.117%) $11 million
-------------
Total Amount allocated $108 million
=============
|
Threshold Allocation Amount $39 million
Basic Allocation Rate Amount ($9.611b - $6.551b) X 1.78% $55 million
Premium Allocation Rate Amount ($9.611b - $8.734b) X 1.17% $10 million
-------------
Total Amount allocated $104 million
=============
|
Threshold Allocation Amount $39 million
Basic Allocation Rate Amount ($8.734b - $6.551b) X (1.78% + 0.234%) $44 million
Premium Allocation Rate Amount ($8.734b - $8.734b) X (1.17% + 0.234%) $0 million
-------------
Total Amount allocated $83 million
=============
|
At the close of the performance period, the amount allocated to the Plan pursuant to the allocation formulae will be calculated and presented to the Compensation Committee for review and possible adjustment. When the final amount to be allocated is approved by the Compensation Committee, Corporate Compensation will compute the individual payment for each Participant based on the number of Performance Units granted to the Participant. When the amount to be paid each Participant under the Plan is computed, the Company will pay such amounts in a single sum to Participants who are on the active payroll on the date of payment. At the option of the Company or an affiliate, up to one-half of the amount payable may be paid in equivalent number of publicly traded Common Shares of the Company if they are available and legally permissible at that time. Any 2000 Performance Unit not granted or any Performance Unit canceled under the circumstances described below, and not re-granted to other Participants, shall not be paid to any Participant and any Plan allocation not paid to the Participants shall revert to the Company.
Payments made under this Plan will not be taken into account in determining benefits or contribution amounts under any employee benefit plan of the Company or any of its affiliates.
If employment is terminated prior to the payment of the Performance Units, treatment of the Performance Units will be as follows.
period (36). A partial month worked shall be counted as a full month if the Participant is an active employee for 15 days or more in that month. The resulting reduced number of Performance Units shall be considered vested and payment made to the Participant following the final valuation of the Plan as described in Section V, provided that the Company reserves the right to cancel such Performance Units if the Participant, prior to the end of the applicable performance period, (i) performs any services, whether as an employee, officer, director, agent, independent contractor, partner or otherwise, for a competitor of the Company or any of its affiliates without the consent of the administrator, as defined below, or (ii) takes any other action, including, but not limited to, interfering with the relationship between the Company or any of its affiliates and any of its employees, clients or agents, which is intended to damage or does damage to the business or reputation of the Company.
The portion of any Performance Units reduced pursuant to the first sentence of this section (and therefore not payable to a Participant under any circumstances) shall be canceled and shall not be payable. In addition, if a Participant fails to comply with the conditions of payment, the pro-rated Performance Units shall also be canceled and shall not be payable.
pursuant to this paragraph, the portion of the Performance Units eliminated shall be canceled and shall not be payable.
The Plan shall at all times be unfunded and no provision shall at any time be made with respect to segregating any assets of the Company or an affiliate for payment of any benefits under the Plan. The right of a Participant to receive payment under the Plan shall be an unsecured claim against the general assets of the Company or an affiliate, and neither the Participant nor any other person shall have any rights in or against any specific assets of the Company or an affiliate. The Company and any affiliate may establish a reserve of assets to provide funds for payments under the Plan.
The Compensation Committee shall be the administrator of the Plan. With respect to its authority to award or cancel payments under the Plan to Participants whose employment is terminated, its authority to grant Performance Units to eligible new or promoted employees below the Senior Vice President level, and with regard to the participation in the Plan of persons who are below the level of Senior Vice President, the Plan shall be administered by the Prudential Executive Vice President, Human Resources or, to the extent that the Prudential Executive Vice President, Human Resources deems appropriate, to the Vice President, Total Compensation. The Compensation Committee, the Prudential Executive Vice President, Human Resources or the Vice President, Total Compensation, as applicable, shall be referred to as the Administrator. The Administrator shall administer the Plan in accordance with its terms and shall have the discretion and authority necessary in the administration of the Plan, including the authority to interpret the Plan, to make factual determinations under the Plan and to determine Plan payments and allocations. The Administrator shall have the discretion an authority to adopt and revise rules and procedures relating to the Plan, to correct any
defect or omission or reconcile any inconsistency in this Plan or any payment hereunder, and to make any other determinations that it believes necessary or advisable in the administration of the Plan. Determinations and decisions by the Administrator shall be final and binding on all employees. Participants and all other persons.
The Compensation committee may, in its sole discretion, at any time and from time to time amended, modify, suspend, or terminate this Plan, in whole or in part, without notice to or the consent of any Participant or employee. This Plan may be amended or terminated by resolution of the Compensation Committee and by execution of a written instrument by a duly authorized officer of the Company.
The liability of the Company or any affiliate under this Plan is limited to the obligations expressly set forth in the Plan, and no term or provision of this Plan may be construed to impose any further or additional duties, obligations, or costs on the Company, an affiliate or the Compensation Committee not expressly set forth in the Plan.
The existence of this Plan, as in effect at any time or from time to time, or any grant of Performance Units under the Plan shall not be deemed to constitute a contract of employment between Prudential, or an affiliate, and any employee or Participant, nor shall it constitute a right to remain in the employ of Prudential or an affiliate. Employment with Prudential or an affiliate is employment-at-will and either party may terminate the Participant's employment at any time, for any reason, with or without cause or notice.
Except as provided in Sections II and III, no Participant or other employee shall at any time have a right to be selected for participation in the Plan, despite having previously participated in an incentive or bonus of the Company or an affiliate.
Nothing contained in this Plan shall be construed to prevent the Company, or any affiliate, from taking any corporate action which is deemed by it to be appropriate, or in its best interest, whether or not such action would have an adverse effect on this Plan, or any awards made under this Plan. No employee, beneficiary, or other person, shall have any claim against the Company, or any of its affiliates, as a result of any such action.
Notwithstanding anything else in this Plan to the contrary, in the event that a payment is due to an employee, or former employee (or a beneficiary thereof), under this Plan and the recipient is a minor, mentally incompetent, or otherwise incapacitated, such payment shall be made to the recipient's legal representative, or guardian. If there is no such legal representative, or guardian, Prudential, in its sole discretion, may direct that payment be made to any person Prudential, in its sole discretion, believes, by reason of a family relationship, or otherwise, will apply. Upon such payment, for the benefit of the recipient, the Company and each of its affiliates shall be fully discharged of all obligations therefor.
A recipient of any payment under this Plan who is not a current employee of the Company, or an affiliate, shall have the obligation to inform the Company of his or her current address, or other location to which payments are to be sent. Neither the Company nor any affiliate shall have any liability to such recipient, or any other person, for any failure of such recipient, or person, to receive any payment if it sends such payment to the address provided by such recipient by first class mail, postage paid, or other comparable delivery method. Notwithstanding anything else in this Plan to the contrary, if a recipient of any payment cannot be located within 120 days following the date on which such payment is due after reasonable efforts by the Company or an affiliate, such payments and all future payments owing to such recipient shall be forfeited without notice to such recipient. If, within two years (or such longer period as Prudential, in its sole discretion, may determine), after the date as of which payment was forfeited (or, if later, is first due), the recipient, by written notice to the Company, requests that such payment and all future payments owing to such recipient be reinstated and provides satisfactory proof of their identity, such payments shall be promptly reinstated. To the extent the due date of any reinstated payment occurred prior to such reinstatement, such payment shall be made to the recipient (without any interest from its original due date) within 90 days after such reinstatement.
The Company or an affiliate shall have the right to deduct from all payments under the Plan any federal, state, or local taxes required by law to be withheld with respect to such payments.
The headings and captions appearing herein are inserted only as a matter of convenience. They do not define, limit, construe, or describe the scope or intent of the provisions of the Plan.
Nothing expressed or implied in this Plan is intended or may be construed to give any person other than eligible Participants any rights or remedies under this Plan.
Subject to the provisions of applicable law, no interest of any person or entity in any long term incentive award, or right to receive any long term incentive award or any distribution or other benefit under the Plan shall be subject in any manner to sale, transfer, assignment, pledge, attachment, garnishment, or other alienation or encumbrance of any kind; nor may such interest in any long term incentive award, or right to receive any long term incentive award or any distribution or any benefit under the Plan be taken, either voluntarily or involuntarily, for the satisfaction of the debts of, or other obligations or claims against, such person or entity, including (but not limited to) claims for alimony, support, separate maintenance and claims in bankruptcy proceedings.
Appendix A
[CHART]
------------------------------------------------------------------------------------------------------------------
Plan Plan Plan Plan Plan
Results At Plan Operating Operating Operating Operating Operating
Above Operating Margin + Margin + Margin + Margin + Margin +
Threshold % Margin 10% 20% 30% 40% 50%
($ billions) of Plans ($ millions) ($ millions) ($ millions) ($ millions) ($ millions) ($ millions)
------------------------------------------------------------------------------------------------------------------
$0.000 75% $39 $39 $39 $39 $39 $39
$0.437 80% $47 $47 $48 $48 $49 $49
$0.873 85% $55 $56 $57 $58 $59 $60
$1.310 90% $62 $64 $65 $67 $68 $70
$1.747 95% $70 $72 $74 $76 $78 $80
$2.184 100% $78 $80 $83 $86 $88 $91
$3.057 110% $104 $108 $113 $117 $122 $127
$3.930 120% $129 $136 $143 $149 $156 $163
$4.804 130% $155 $164 $173 $181 $190 $199
$5.677 140% $181 $192 $202 $213 $224 $235
$6.551 150% $207 $219 $232 $245 $258 $271
$7.424 160% $232 $247 $262 $277 $292 $307
$8.30 170% $258 $275 $292 $309 $326 $343
$9.17 180% $284 $303 $322 $341 $360 $379
$10.04 190% $310 $331 $352 $373 $394 $414
$10.92 200% $336 $359 $382 $404 $427 $450
|
Plan
Oper. Earn.* Plan*
---------------- -------------
2000 $2,488 Plan Operating Earnings $8,734
2001 $2,863 75% Threshold $6,551
2002 $3,383
----------------
Total $8,734 Basic Allocation Funding Rate 1.780%
================ Premium Allocation Funding Rate 1.170%
Plan
Revenue* Plan Operating Margin 10.33%
----------------
2000 $26,311
2001 $27,948 Funding rates will increases .117% for every 10% increase in Operating
2002 $30,325 Margin above plan to a maximum of .585%.
---------------
Total $84,584
===============
|
*in millions
Exhibit 10.9
November 1999
The Compensation Committee may, in its sole discretion, at any time and from time to time amend, modify, suspend or terminate this Plan, in whole or in part, without notice to or consent of any Participant or employee.
Table of Contents
-----------------
. I. Program Concept
. II. Eligibility
. III. Granting of Performance Units
. IV. Performance Measurement
. V. Final Valuation and Payment
. VI. Termination of Employment
. VII. Plan Funding
. VIII. Plan Administration
. IX. Revocation, Amendment, and Termination
. X. Limitation on Liability
. XI. No Contract of Employment
. XII. No Right to Participate
. XIII. No Limitations on Corporate Actions
. XIV. Facilitation of Payments
. XV. Addresses; Missing Recipients
. XVI. Taxes
. XVII. Successors
. XVIII. Captions
. XIX. Third Parties
. XX. Non-Alienation Provision
|
Appendix A - Illustration of 1999 Funding Potential
The 1999 Prudential Long-Term Performance Unit Plan ("the Plan") has been developed to recognize and reward the contributions that Participants will make towards The Prudential Insurance Company of America's ("Prudential" or "the Company") long-term growth and success.
The Long-Term Performance Unit Plan is one of the four elements of Total Compensation applicable to designated Executives in Prudential. The other elements are: Base Salary, Annual Incentive Award, and Benefits/Perquisites. The Long-Term Incentive Award is designed to focus attention on the importance of sustained company performance over a period of years as well as to assist in the retention of eligible employees.
Employees at the Department Vice President or equivalent level and above are eligible to participate in this Plan ("Participants"). In addition, the Compensation Committee retains the discretion to add certain individuals below the rank of Department Vice President as Participants under the Plan, provided the Committee determines (i) that such individuals are included in a select group of management or highly compensated employees of the Company and (ii) that making such individuals Participants under the Plan is in the best interests of the Company.
Participants will be eligible for an annual grant of Performance Units. The decision to grant Performance Units and the number of Performance Units granted to Plan Participants will be at the discretion of the Compensation Committee. However, significant emphasis will be given to the individual's performance, market considerations, internal guidelines and the number of Performance Units available for grant in arriving at the number to be granted, if any.
The 1999 Performance Unit grants will be valued based upon Company performance from January 1, 1999 through December 31, 2001 (the "performance period"). There are, in total, 100,000 Performance Units available for grant in the 1999 Plan. Each Performance Unit will be valued at 1/100,000th of the amount allocated to the Plan at the end of the performance period.
A limited number of Performance Units are normally held in reserve to accommodate new hires and promotions during the year as well as other special circumstances. The number of Performance Units granted to new hires and those receiving promotions during 1999 shall be at the discretion of the Compensation Committee.
The value of the Performance Units at the end of the performance period will be determined by two principal performance measurements: 1) Cumulative Operating Earnings; and 2) Cumulative Operating Margin achieved over the three year performance period.
Operating Earnings is defined as Income Before Tax, Capital Gains, Remediation Expenses, Restructuring Reserves, Market Standards and Demutualization Expenses. Capital Gains are net of the Loss Recognition Reserve and the Deferred Acquisition Cost (DAC) Amortization for Capital Gains, Operating Margin is Operating Earnings as defined, divided by Revenue, as defined, for the same period, expressed as a percentage. Revenue is defined as all items in the Revenue section of a GAAP income statement, including but not limited to Premiums, Policy Charges and Fees, Net Investment Income and Other Revenue, but excluding Realized Gains or Losses. The planned Cumulative Operating Earnings is $7.951 billion and the planned Cumulative Operating Margin is 9.55%. In the event of a subsequent change in accounting methodology or significant acquisition or divestiture, the above will be reviewed and amended as appropriate.
The value of the Performance Units at the end of the performance period depends on the amount allocated to the Plan. When threshold performance is achieved, $39 million will be allocated to the Plan. Threshold performance is achievement of 75% of planned Cumulative Operating Earnings amount, or $5.963 billion. If threshold performance is not achieved, allocation to the Plan will not be made. For any additional Cumulative Operating Earnings above the threshold, 1.96% of the incremental amount will be allocated to the Plan (the Basic Allocation Rate). When Cumulative Operating Earnings exceeds the planned amount, or $7.951 billion, an additional 1.28% of the amount in excess of the planned amount will be allocated to the Plan (the Premium Allocation Rate). The amount allocated to the Plan as a result of Cumulative Operating Earnings is not subject to any cap or maximum.
The allocation fomulae described above (i.e., the 1.96% or 1.28%) will be increased by 0.128% for every 10% improvement in Cumulative Operating Margin over the planned Cumulative Operating Margin. Partial percentage increases will be prorated. The maximum increase is 0.64%, which corresponds to a 50% improvement in Cumulative Operating Margin over plan. This increase in the allocation rate(s) is called the Operating Margin Adjustment Factor. No negative adjustment will be made if the planned Cumulative Operating Margin is not achieved. The Operating Margin Adjustment Factor will only have a positive impact on the total amount allocated to the Plan.
To ensure that other critical performance factors are also given consideration and reflected in the final Plan allocation, the Compensation Committee may, under normal circumstances, adjust the total amount allocated to the Plan by up to plus or minus 15%. When considering this adjustment, the Compensation Committee, will take into account such financial and non-financial factors as change in market share, expansion of new
distribution channels, overall changes in financial rating, reputation of management, customer satisfaction, employee satisfaction and change in most admired company status. In the event of circumstances that the Compensation Committee deems extraordinary, the Compensation Committee reserves the right to make any additional adjustment to the total amount allocated.
The following are three illustrations of how the amount allocated can potentially be impacted by Cumulative Operating Earnings and Cumulative Operating Margin. For purposes of the illustrations the calculated amounts have been rounded. For a summary of the funding potential, refer to Appendix A of this document.
Threshold Allocation Amount $39 million
Basic Allocation Rate Amount ($8.743b - $5.96b) X (1.96% + 0.128%) $58 million
Premium Allocation Rate Amount ($8.743b - $7.95b) X (1.28% + 0.128%) $11 million
------------
Total Amount allocated $108 million
============
|
Threshold Allocation Amount $39 million
Basic Allocation Rate Amount ($8.743b - $5.96b) X 1.96% $55 million
Premium Allocation Rate Amount ($8.743b - $7.95b) X 1.28% $10 million
------------
Total Amount allocated $104 million
============
|
Threshold Allocation Amount $39 million
Basic Allocation Rate Amount ($7.95b - $5.96b) X (1.96% + 0.256%) $44 million
Premium Allocation Rate Amount ($7.95b - $7.95b) X (1.28% + 0.256%) $0 million
-----------
Total Amount allocated $83 million
===========
|
At the close of the performance period, the amount allocated to the Plan pursuant to the allocation formulae will be calculated and presented to the Compensation Committee for review and possible adjustment. When the final amount to be allocated is approved by the Compensation Committee, Corporate Compensation will compute the individual payment for each Participant based on the number of Performance Units granted to the Participant. When the amount to be paid each Participant under the Plan is computed, the Company will pay such amounts in a single sum to Participants who are on the active payroll on the date of payment. At the option of the Company or an affiliate, up to one-half of the amount payable may be paid in equivalent number publicly traded Common Shares of the Company if they are available and legally permissible at that time. Any 1999 Performance Unit not granted or any Performance Unit canceled under the circumstances described below, and not re-granted to other Participants, shall not be paid to any Participant and any Plan allocation not paid to the Participants shall revert to the Company.
Payments made under this Plan will not be taken into account in determining benefits or contribution amounts under any employee benefit plan of the Company or any of is affiliates.
If employment is terminated prior to the payment of the Performance Units, treatment of the Performance Units will be as follows.
period (36). A partial month worked shall be counted as a full month if the Participant is an active employee for 15 days or more in that month. The resulting reduced number of Performance Units shall be considered vested and payment made to the Participant following the final valuation of the Plan as described in Section V, provided that the Company reserves the right to cancel such Performance Units if the Participant, prior to the end of the applicable performance period, (i) performs any services, whether as an employee, officer, director, agent, independent contractor, partner or otherwise, for a competitor of the Company or any of its affiliates without the consent of the Administrator, as defined below, or (ii) takes any other action, including, but not limited to, interfering with the relationship between the Company or any of its affiliates and any of its employees, clients or agents, which is intended to damage or does damage to the business or reputation of the Company.
The portion of any Performance Units reduced pursuant to the first sentence of this section (and therefore not payable to a Participant under any circumstances) shall be canceled and shall not be payable. In addition, if a Participant fails to comply with the conditions of payment, the pro-rated Performance Units shall also be canceled and shall not be payable.
pursuant to this paragraph, the portion of the Performance Units eliminated shall be canceled and shall not be payable.
The Plan shall at all times be unfunded and no provision shall at any time be made with respect to segregating any assets of the Company or an affiliate for payment of any benefits under the Plan. The right of a Participant to receive payment under the Plan shall be an unsecured claim against the general assets of the Company or an affiliate, and neither the Participant nor any other person shall have any rights in or against any specific assets of the Company or an affiliate. The Company and any affiliate may establish a reserve of assets to provide funds for payments under the Plan.
The Compensation Committee shall be the administrator of the Plan. With respect to its authority to award or cancel payments under the Plan to Participants whose employment is terminated, its authority to grant Performance Units to eligible new or promoted employees below the Senior Vice President level, and with regard to the participation in the Plan of persons who are below the level of Senior Vice President, the Plan shall be administered by the Prudential Executive Vice President, Human Resources or, to the extent that the Prudential Executive Vice President, Human Resources deems appropriate, to the Vice President, Total Compensation. The Compensation Committee, the Prudential Executive Vice President, Human Resources or the Vice President, Total Compensation, as applicable, shall be referred to as the Administrator. The Administrator shall administer the Plan in accordance with its terms and shall have the discretion and authority necessary in the administration of the Plan, including the authority to interpret the Plan, to make factual determinations under the Plan and to determine Plan payments and allocations. The Administrator shall have the discretion and authority to adopt and revise rules and procedures relating to the Plan, to correct any
defect or omission or reconcile any inconsistency in this Plan or any payment hereunder, and to make any other determinations that it believes necessary or advisable in the administration of the Plan. Determinations and decisions by the Administrator shall be final and binding on all employees, Participants and all other persons.
The Compensation Committee may, in its sole discretion, at any time and from time to time amend, modify, suspend, or terminate this Plan, in whole or in part, without notice to or the consent of any Participant or employee. This Plan may be amended or terminated by resolution of the Compensation Committee and by execution of a written instrument by a duly authorized officer of the Company.
The liability of the Company or any affiliate under this Plan is limited to the obligations expressly set forth in the Plan, and no term or provision of this Plan may be construed to impose any further or additional duties, obligations, or costs on the Company, an affiliate or the Compensation Committee not expressly set forth in the Plan.
The existence of this Plan, as in effect at any time or from time to time, or any grant of Performance Units under the Plan shall not be deemed to constitute a contract of employment between Prudential, or an affiliate, and any employee or Participant, nor shall it constitute a right to remain in the employ of Prudential or an affiliate. Employment with Prudential or an affiliate is employment-at-will and either party may terminate the Participant's employment at any time, for any reason, with or without cause or notice.
Except as provided in Sections II and III, no Participant or other employee shall at any time have a right to be selected for participation in the Plan, despite having previously participated in an incentive or bonus plan of the Company or an affiliate.
Nothing contained in this Plan shall be construed to prevent the Company, or any affiliate, from taking any corporate action which is deemed by it to be appropriate, or in its best interest, whether or not such action would have an adverse effect on this Plan, or any awards made under this Plan. No employee, beneficiary, or other person, shall have any claim against the Company, or any of its affiliates, as a result of any such action.
Notwithstanding anything else in this Plan to the contrary, in the event that a payment is due to an employee, or former employee (or beneficiary thereof), under this Plan and the recipient is a minor, mentally incompetent, or otherwise incapacitated, such payment shall be made to the recipient's legal representative, or guardian. If there is no such legal representative, or guardian, Prudential, in its sole discretion, may direct that payment be made to any person Prudential, in its sole discretion, believes, by reason of a family relationship, or otherwise, will apply. Upon such payment, for the benefit of the recipient, the Company and each of its affiliates shall be fully discharged of all obligations therefor.
A recipient of any payment under this Plan who is not a current employee of the Company, or an affiliate, shall have the obligation to inform the Company of his or her current address, or other location to which payments are to be sent. Neither the Company nor any affiliate shall have any liability to such recipient, or any other person, for any failure of such recipient, or person, to receive any payment if it sends such payment to the address provided by such recipient by first class mail, postage paid, or other comparable delivery method. Notwithstanding anything else in this Plan to the contrary, if a recipient of any payment cannot be located within 120 days following the date on which such payment is due after reasonable efforts by the Company or an affiliate, such payments and all future payments owing to such recipient shall be forfeited without notice to such recipient. If, within two years (or such longer period as Prudential, in its sole discretion, may determine), after the date as of which payment was forfeited (or, if later, is first due), the recipient, by written notice to the Company, requests that such payment and all future payments owing to such recipient be reinstated and provides satisfactory proof of their identity, such payments shall be promptly reinstated. To the extent the due date of any reinstated payment occurred prior to such reinstatement, such payment shall be made to the recipient (without any interest from its original due date) within 90 days after such reinstatement.
The Company or an affiliate shall have the right to deduct from all payments under the Plan any federal, state, or local taxes required by law to be withheld with respect to such payments.
All obligations of the Company and any affiliate under the Plan shall be binding upon and inure to the benefit of any successor to the Company or such affiliate, whether the existence of such successor is the result of a direct or indirect purchase, merger, consolidation, demutualization or otherwise.
The headings and captions appearing herein are inserted only as a matter of convenience. They do not define, limit, construe, or describe the scope or intent of the provisions of the Plan.
Nothing expressed or implied in this Plan is intended or may be construed to give any person other than eligible Participants any rights or remedies under this Plan.
Subject to the provisions of applicable law, no interest of any person or entity in any long term incentive award, or right to receive any long term incentive award or any distribution or other benefit under the Plan shall be subject in any manner to sale, transfer, assignment, pledge, attachment, garnishment, or other alienation or encumbrance of any kind; nor may such interest in any long term incentive award, or right to receive any long term incentive award or any distribution or any benefit under the Plan be taken, either voluntarily or involuntarily, for the satisfaction of the debts of, or other obligations or claims against, such person or entity, including (but not limited to) claims for alimony, support, separate maintenance and claims in bankruptcy proceedings.
Appendix A
[CHART]
Plan Plan Plan Plan Plan
Results At Plan Operating Operating Operating Operating Operating
Above Operating Margin + Margin + Margin + Margin + Margin +
Threshold % Margin 10% 20% 30% 40% 50%
($ billions) of Plan ($ millions) ($ millions) ($ millions) ($ millions) ($ millions) ($ millions)
------------------------------------------------------------------------------------------------------------------------------------
$0.00 75% $39 $39 $39 $39 $39 $39
$0.40 80% $47 $47 $48 $48 $49 $49
$0.80 85% $55 $56 $57 $58 $59 $60
$1.19 90% $62 $64 $65 $67 $68 $70
$1.59 95% $70 $72 $74 $76 $78 $80
$1.99 100% $78 $81 $83 $86 $88 $91
$2.78 110% $104 $108 $113 $117 $122 $127
$3.58 120% $129 $136 $143 $149 $156 $163
$4.37 130% $155 $164 $173 $181 $190 $198
$5.17 140% $181 $192 $202 $213 $224 $234
$5.96 150% $207 $219 $232 $245 $258 $270
$6.76 160% $233 $247 $262 $277 $292 $306
$7.55 170% $258 $275 $292 $309 $325 $342
$8.35 180% $284 $303 $322 $341 $359 $378
$9.14 190% $310 $331 $352 $372 $393 $414
$9.94 200% $336 $358 $381 $404 $427 $450
|
Plan
Oper. Earn.* Plan*
----------- ---------
1999 $2,109 Plan Operating Earnings $7,951
2000 $2,657 75% Threshold $5,963
2001 $3,185
-----------
Total $7,951 Basic Allocation Funding Rate 1.96%
=========== Premium Allocation Funding Rate 1.28%
Plan
Revenue* Plan Operating Margin 9.55%
-----------
1999 $25,486
2000 $27,706 Funding rates will increase .128% for every 10%
2001 $30,063 increase in Operating Margin above plan to a
----------- maximum of .64%.
Total $83,255
===========
|
* in millions
Exhibit 10.10
November 1999
The Compensation Committee may, in its sole discretion, at any time and from time to time amend, modify, suspend or terminate this Plan, in whole or in part, without notice to or consent of any Participant or employee.
Table of Contents
-----------------
. I. Program Concept
. II. Eligibility
. III. Granting of Performance Units
. IV. Performance Measurement
. V. Final Valuation and Payment
. VI. Termination of Employment
. VII. Plan Funding
. VIII. Plan Administration
. IX. Revocation, Amendment, and Termination
. X. Limitation on Liability
. XI. No Contract of Employment
. XII. No Right to Participate
. XIII. Taxes
. XIV. Successors
. XV. Captions
. XVI. Third Parties
. XVII. Non-Alienation Provision
|
Appendix A - Illustration of 1998 Funding Potential
The 1998 Prudential Long-Term Performance Unit Plan ("the Plan") has been developed to recognize and reward the contributions that Participants will make towards The Prudential Insurance Company of America's ("Prudential" or "the Company") long-term growth and success.
The Long-Term Performance Unit Plan is one of the four elements of Total Compensation applicable to designated Executives in Prudential. The other elements are: Base Salary, Annual Incentive Award, and Benefits/Perquisites. The Long-Term Incentive Award is designed to focus attention on the importance of sustained company performance over a period of years as well as to assist in the retention of eligible employees.
Employees at the Department Vice President or equivalent level and above are eligible to participate in this Plan ("Participants"). In addition, the Compensation Committee retains the discretion to add certain individuals below the rank of Department Vice President as Participants under the Plan, provided the Committee determines (i) that such individuals are included in a select group of management or highly compensated employees of the Company and (ii) that making such individuals Participants under the Plan is in the best interests of the Company.
Participants will be eligible for an annual grant of Performance Units. The decision to grant Performance Units and the number of Performance Units granted to Plan Participants will be at the discretion of the Compensation Committee. However, significant emphasis will be given to the individual's performance, market considerations, internal guidelines and the number of Performance Units available for grant in arriving at the number to be granted, if any.
The 1998 Performance Unit grants will be valued based upon Company performance from January 1, 1998 through December 31, 2000 (the "performance period"). There are, in total, 100,000 Performance Units available for grant in the 1998 Plan. Each Performance Unit will be valued at 1/100,000/th/ of the amount allocated to the Plan at the end of the performance period.
A limited number of Performance Units are normally held in reserve to accommodate new hires and promotions during the year as well as other special circumstances. The number of Performance Units granted to new hires and those receiving promotions during 1998 shall be at the discretion of the Compensation Committee.
The value of the Performance Units at the end of the performance period will be determined by two principal performance measurements: 1) Cumulative Operating Earnings; and 2) Cumulative Operating Margin achieved over the three year performance period.
Operating Earnings is defined as Income Before Tax, Capital Gains, Remediation Expenses, Restructuring Reserves, Market Standards and Demutualization Expenses. Capital Gains are net of the Loss Recognition Reserve and the Deferred Acquisition Cost (DAC) Amortization for Capital Gains. Operating Margin is Operating Earnings as defined, divided by Revenue, as defined, for the same period, expressed as a percentage. Revenue is defined as all items in the Revenue section of a GAAP income statement, including but not limited to Premiums, Policy Charges and Fees, Net Investment Income and Other Revenue, but excluding Realized Gains or Losses. The planned Cumulative Operating Earnings is $6.975 billion and the planned Cumulative Operating Margin is 8.99%. In the event of a subsequent change in accounting methodology or significant acquisition or divestiture, the above will be reviewed and amended as appropriate.
The value of the Performance Units at the end of the performance period depends on the amount allocated to the Plan. When threshold performance is achieved, $35 million will be allocated to the Plan. Threshold performance is achievement of 75% of planned Cumulative Operating Earnings amount, or $5.231 billion. If threshold performance is not achieved, allocation to the Plan will not be made. For any additional cumulative Operating Earnings above the threshold, 2.01% of the incremental amount will be allocated to the Plan (the Basic Allocation Rate). When Cumulative Operating Earnings exceeds the planned amount, or $6.975 billion, an additional 1.31% of the amount in excess of the planned amount will be allocated to the Plan (the Premium Allocation Rate). The amount allocated to the Plan as a result of Cumulative Operating Earnings is not subject to any cap or maximum.
The allocation formulae described above (i.e., the 2.01% or 1.31%) will be increased by 0.131% for every 10% improvement in Cumulative Operating Margin over the planned Cumulative Operating Margin. Partial percentage increases will be prorated. The maximum increase is 0.655%, which corresponds to a 50% improvement in cumulative Operating Margin over plan. This increase in the allocation rate(s) is called the Operating Margin Adjustment Factor. No negative adjustment will be made if the planned Cumulative Operating Margin is not achieved. The Operating Margin Adjustment Factor will only have a positive impact on the total amount allocated to the Plan.
To ensure that other critical performance factors are also given consideration and reflected in the final Plan allocation, the Compensation Committee may, under normal circumstances, adjust the total amount allocated to the Plan by up to plus or minus 15%. When considering this adjustment, the Compensation Committee will take into account such financial and non-financial factors as change in market share, expansion for new
distribution channels, overall changes in financial rating, reputation of management, customer satisfaction, employee satisfaction and change in most admired company status. In the event of circumstances that the Compensation Committee deems extraordinary, the Compensation Committee reserves the right to make any additional adjustment to the total amount allocated.
The following are three illustrations of how the amount allocated can potentially be impacted by Cumulative Operating Earnings and Cumulative Operating Margin. For purposes of the illustrations the calculated amounts have been rounded. For a summary of the funding potential, refer to Appendix A of this document.
Threshold Allocation Amount $35 million
Basic Allocation Rate Amount ($7.671b - $5.231b) X (2.01% + 0.131%) $52 million
Premium Allocation Rate Amount ($7.671b - $6.975b) X (1.31% + 0.131%) $10 million
-----------
Total Amount allocated $97 million
===========
|
Threshold Allocation Amount $35 million
Basic Allocation Rate Amount ($7.671b-$5.231b)X 2.01% $49 million
Premium Allocation Rate Amount ($7.671b-$6.975b)X 1.31% $9 million
-----------
Total Amount allocated $93 million
===========
|
Threshold Allocation Amount $35 million
Basic Allocation Rate Amount ($6.975b-$5.231b) X (2.01% + 0.262%) $40 million
Premium Allocation Rate Amount ($6.975b-$6.975b) X (1.31% + 0.262%) $0 million
-----------
Total Amount allocated $75 million
===========
|
At the close of the performance period, the amount allocated to the Plan pursuant to the allocation formulae will be calculated and presented to the Compensation Committee for review and possible adjustment. When the final amount to be allocated is approved by the Compensation Committee, Corporate Compensation will compute the individual payment for each Participant based on the number of Performance Units granted to the Participant. When the amount to be paid each Participant under the Plan is computed, the Company will pay such amounts in a single sum to Participants who are on the active payroll on the date of payment. At the option of the Company, up to one-half of the amount payable may be paid in equivalent number of publicly traded Common Shares of the Company if they are available and legally permissible at that time. Any 1998 Performance Unit not granted or any Performance Unit canceled under the circumstances described below, and not re-granted to other Participants, shall not be paid to any Participant and any Plan allocation not paid to the Participants shall revert to the Company.
Payments made under this Plan will not be taken into account in determining benefits or contribution amounts under any employee benefit plan of the Company or any of its affiliates.
If employment is terminated prior to the payment of the Performance Units, treatment of the Performance Units will be as follows.
reduced number of Performance Units shall be considered vested and payment made to the Participant following the final valuation of the Plan as described in Section V, provided that the Company reserves the right to cancel such Performance Units if the Participant, prior to the end of the applicable performance period, (i) performs any services, whether as an employee, officer, director, agent, independent contractor, partner or otherwise, for a competitor of the Company or any of its affiliates without the consent of the Administrator, as defined below, or (ii) takes any other action, including, but not limited to, interfering with the relationship between the Company or any of its affiliates and any of its employees, clients or agents, which is intended to damage or does damage to the business or reputation of the Company.
The portion of any Performance Units reduced pursuant to the first sentence of this section (and therefore not payable to a Participant under any circumstances) shall be canceled and shall not be payable. In addition, if a Participant fails to comply with the conditions of payment, the pro-rated Performance Units shall also be canceled and shall not be payable.
The Plan shall at all times be unfunded and no provision shall at any time be made with respect to segregating any assets of the Company for payment of any benefits under the Plan. The right of a Participant to receive payment under the Plan shall be an unsecured claim against the general assets of the Company, and neither the Participant nor any other person shall have any rights in or against any specific assets of the Company. The Company may establish a reserve of assets to provide funds for payments under the Plan.
The Compensation Committee shall be the administrator of the Plan. With respect to its authority to award or cancel payments under the Plan to Participants whose employment is terminated, its authority to grant Performance Units to eligible new or promoted employees below the Senior Vice President level, and with regard to the participation in the Plan of persons who are below the level of Senior Vice President, the Plan shall be administered by the Prudential Executive Vice President, Human Resources or, to the extent that the Prudential Executive Vice President, Human Resources deems appropriate, to the Vice President, Total Compensation. The Compensation Committee, the Prudential Executive Vice President, Human Resources or the Vice President, Total Compensation, as applicable, shall be referred to as the Administrator. The Administrator shall administer the Plan in accordance with its terms and shall have the discretion and authority necessary in the administration of the Plan, including the authority to interpret the Plan, to make factual determinations under the Plan and to determine Plan payments and allocations. The Administrator shall have the discretion and authority to adopt and revise rules and procedures relating to the Plan, to correct any defect or omission or reconcile any inconsistency in this Plan or any payment hereunder, and to make any other determinations that it believes necessary or advisable in the administration of the Plan. Determinations and decisions by the Administrator shall be final and binding on all employees, Participants and all other persons.
The Compensation Committee may, in its sole discretion, at any time and from time to time amend, modify, suspend, or terminate this Plan, in whole or in part, without notice to or the consent of any Participant or employee. This Plan may be amended or terminated by resolution of the Compensation Committee and by execution of a written instrument by a duly authorized officer of the Company.
The liability of the Company under this Plan is limited to the obligations expressly set forth in the Plan, and no term or provision of this Plan may be construed to impose any further or additional duties, obligations, or costs on the Company or the Compensation Committee not expressly set forth in the Plan.
The establishment of this Plan, and amendment or modification to the Plan, or any grant of Performance Units under the Plan shall not be deemed to constitute a contract of employment between Prudential and any Participant, nor shall it constitute a right to remain in the employ of Prudential. Employment with Prudential is employment-at-will and either Prudential or a Participant may terminate the Participant's employment with Prudential at any time, for any reason, with or without cause or notice.
Except as provided in Sections II and III, no Participant or other employee shall at any time have a right to be selected for participation in the Plan, despite having previously participated in an incentive or bonus plan of the Company.
The Company shall have the right to deduct from all payments under the Plan any federal,state, or local taxes required by law to be withheld with respect to such payments.
All obligations of the Company under the Plan shall be binding upon and inure to the benefit of any successor to the Company, whether the existence of such successor is the result of a direct or indirect purchase, merger, consolidation, demutualization or otherwise.
The headings and captions appearing herein are inserted only as a matter of convenience. They do not define, limit, construe, or describe the scope or intent of the provisions of the Plan.
Nothing expressed or implied in this Plan is intended or may be construed to give any person other than eligible Participants any rights or remedies under this Plan.
No interest of any person or entity in any Performance Units, or right to receive Performance Units or any distribution or other benefit under the Plan, shall be subject in any manner to sale, transfer, assignment, pledge, attachment, garnishment, or other alienation or encumbrance or any kind; nor may such interest in any Performance Units, or right to receive Performance Units or any distribution or any benefit under the Plan be taken, either voluntarily or involuntarily, for the satisfaction of the debts of, or other obligations or claims against, such person or entity, including (but not limited to) claims for alimony, support, separate maintenance and claims in bankruptcy proceedings.
Appendix A
[CHART]
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Plan Plan Plan Plan Plan
Results At Plan Operating Operating Operating Operating Operating
Above Operating Margin + Margin + Margin + Margin + Margin +
Threshold % Margin 10% 20% 30% 40% 50%
($ billions) of Plan ($ millions) ($ millions) ($ millions) ($ millions) ($ millions) ($ millions)
---------------------------------------------------------------------------------------------------------
$0.0 75% $35 $35 $35 $35 $35 $35
$0.3 80% $42 $42 $43 $43 $44 $44
$0.7 85% $49 $50 $51 $52 $53 $54
$1.0 90% $56 $57 $59 $60 $62 $63
$1.4 95% $63 $65 $67 $69 $70 $72
$1.7 100% $70 $72 $75 $77 $79 $81
$2.4 110% $93 $97 $101 $106 $110 $114
$3.1 120% $116 $122 $128 $134 $140 $146
$3.8 130% $140 $147 $155 $163 $171 $178
$4.5 140% $163 $172 $182 $191 $201 $211
$5.2 150% $186 $197 $209 $220 $232 $243
$5.9 160% $209 $222 $235 $249 $262 $275
$6.6 170% $232 $247 $262 $277 $292 $308
$7.3 180% $255 $272 $289 $306 $323 $340
$8.0 190% $278 $297 $316 $335 $353 $372
$8.7 200% $302 $322 $343 $363 $384 $404
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|
Plan
Oper. Earn.* Plan*
------------ ------------
1998 $1,919 Operating Earnings $6,975
1999 $2,293 Threshold @ 75% $5,231
2000 $2,763
------------
Total $6,975 Basic Allocation Funding Rate 2.01%
============ Premium Allocation Funding Rate 1.31%
Plan
Revenue* Plan Operating Margin 8.99%
------------
1998 $24,785
1999 $25,525 Funding rates will increase .131% for every 10%
2000 $27,291 increase in Operating Margin above plan to a
------------ maximum of .655%.
Total $77,601
============
|
* in millions
Exhibit 10.11
August 1998
The Compensation Committee may, in its sole discretion, at any time and from time to time amend, modify, suspend, or terminate this Plan, in whole or in part, without notice to or the consent of any Participant or employee.
. I. Program Concept . II. Eligbility . III. Creation of Bonus Pools . IV. Adjusting a Bonus Pool . V. Bonus Allocation . VI. Payment of Bonus . VII. Termination of Employment . VIII. Plan Administration . IX. Plan Amendment and Termination . X. No Contract of Employment . XI. Successors . XII. Taxes |
The Prudential Annual Incentive Plan effective as of January 1, 1998, was developed to recognize and reward contributions that the Participants make towards The Prudential Insurance Company of America's ("Prudential" or "the Company") annual objectives. The design, based on the "bonus pool" concept, is intended to provide greater flexibility to deliver market competitive compensation that also recognizes Company, Business Group, and individual performance.
The annual incentive award or bonus is one of the four elements of Total Compensation applicable to Executives in Prudential. The other elements are Base Salary, Long Term Incentive Award, and Benefits/Perquisites. Each element is designed to serve a specific purpose. Together, the four elements are intended to provide Total Compensation that is externally competitive given satisfactory performance.
Employees at the Department Vice President or equivalent level and above are eligible to participate in this Plan ("Participants").
A number of bonus pools are to be created to provide annual incentive awards for Participants covered by each bonus pool. The amount allocated to each bonus pool is based on the number of people included in the pool, competitive market requirements and the performance of the business or group as described below.
For 1998, the following bonus pools are to be created:
. A CEO pool. The direct reports of the CEO will be paid from this pool.
. A Business Group pool for each designated Business Group. The annual
incentive awards for all Participants working in a Business Group including
corporate functional staff assigned to the business will be paid from that
pool.
. A Corporate Function pool for each designated Corporate Center Function. The
annual incentive awards for all Participants in the Corporate Center Function
will be paid from that pool.
The aggregate of the "par" or target bonus of all Participants in the pool at the end of the performance period will be used initially to establish the target size of the bonus pool. Adjustments will be made where the "par" amounts are not in keeping with market practice. Over time, the "par" amounts will be replaced by market driven factors.
At the beginning of each calendar year, annual performance contracts are to be established for the Company, for each Business Group and for each Corporate Center Function having a separate bonus pool. The amount of the target bonus pool will be adjusted at the end of the calendar year based on the actual performance of the Company, the Business Group, or the Corporate Center Function against these performance contracts. The Company's performance will be focused primarily on financial results achieved versus pre-established targets. The performance for the Business Groups will be measured against several "performance drivers." The performance of Corporate Center Functions will be measured against performance objectives established for the year.
The results achieved are to be assessed on a scale ranging from 0 to 2.0 and assigned a score called a Performance Factor ("PF").
For the CEO bonus pool, the target bonus pool amount is to be multiplied twice by the PF to arrive at the adjusted bonus pool amount.
For each Business Group bonus pool, 25% of the bonus opportunity is to be adjusted according to the Company's PF and the remaining 75% adjusted according to the PF for the individual Business Group. The target bonus pool amount is to be multiplied by the resulting weighted PF twice to arrive at the adjusted bonus pool amount.
For each Corporate Center Function bonus pool, the target bonus pool amount is to be multiplied once by an adjusted Company PF to arrive at the adjusted bonus pool amount. The adjusted Company PF is the square of the Company PF adjusted by up to plus or minus 0.2 based on the Corporate Center Function's performance versus the performance objectives for the year.
The following is an illustration of how a Business Group's target bonus pool amount is impacted by results achieved. For the purpose of this illustration, assume that the Business Group's target bonus pool is $7 million, the Company PF is 1.10 and the Business Group's PF is 1.20.
Company weighting of 25% X PF of 1.10 = 0.275
Business Group weighting of 75% X PF of 1.20 = 0.900
-----
Weighted PF = 1.175
Weighted PF squared X 1.175
-------
Resulting PF = 1.380
Target Bonus Pool X $7 million
------------
Adjusted Bonus Pool = $9.66 million
=============
|
To illustrate the operation of the use of the adjusted PF for a Corporate Center Function, assuming a target bonus pool of $1.0 million, a Company PF of 1.10 and an adjustment factor of +0.1, the adjusted pool amount would be as follows:
Square of 1.10 Company PF (1.1 x 1.1) = 1.21
Adjustment +0.10
----
Resulting Adjusted PF = 1.31
Target Bonus Pool X $1 million
------------
Adjusted Bonus Pool = $1.31 million
=============
|
The allocation or payment of bonus awards to Participants from the adjusted bonus pool will be based on the following:
. The size of the bonus pool achieved
. The Participant's performance
. Value of the Participant's contribution
. Market value of the Participant's position
In the case of functional employees working in a Business Group, the amounts to be allocated are to be arrived at jointly between the head of the Business Group and the head of the Corporate Center Function.
Payment under this Plan is normally made within the first quarter of the year following the performance to those Participants actively employed by Prudential at the time of payment. Payments made under this Plan will be included as Earnings under The Prudential Retirement Plan Document (a component of The Prudential Merged Retirement Plan) for the year in which the payment was earned (i.e., the calendar year preceding the year in which the payment was made). These payments will also be included in determining benefits under the long-term disability coverages provided under the Company's Group Insurance Plan. These payments will not be taken into account in determining benefits or contribution amounts under any other employee benefit plan of the Company of any of its affiliates.
If employment is terminated prior to the payment of the bonus award, the bonus award shall be canceled and forfeited and no amount will be payable. If a Participant retires, dies, qualifies for Long-Term Disability, or is involuntarily terminated from employment for reasons other than failure of job performance or cause (as determined by the Compensation Committee), the Compensation Committee may, in its discretion, provide the participant with a bonus award.
The Compensation Committee shall be the administrator of the Plan. The Compensation Committee may assign all or some of its duties hereunder to Corporate Compensation or to an officer or other employee of the Company. The Compensation Committee shall administer the Plan in accordance with its terms and shall have the discretion and authority necessary in the administration of the Plan, including the authority to interpret the Plan, to make factual determinations under the Plan, to determine Plan payments, and to determine Bonus Pool targets and adjustments. The Compensation Committee shall have the discretion and authority to adopt and revise rules and procedures relating to the Plan, to correct any defect or omission or reconcile any inconsistency in this Plan or any payment hereunder, and to make any other determinations that it believes necessary or advisable in the administration of the Plan. Determinations and decisions by the Compensation Committee shall be final and binding on all employees, Participants and all other persons.
The Compensation Committee may, in its sole discretion, at any time and from time to time amend, modify, suspend, or terminate this Plan, in whole or in part, without notice to or the consent of any Participant or employee. This Plan may be amended or terminated by resolution of the Compensation Committee and by execution of a written instrument by a duly authorized officer of the Company.
The establishment of this Plan, and amendment or modification to the Plan, or any payment of a bonus award under the Plan shall not be deemed to constitute a contract of employment between Prudential and any Participant, nor shall it constitute a right to remain in the employ of Prudential. Employment with Prudential is employment-at-will and either Prudential or a Participant may terminate the Participant's employment with Prudential at any time, for any reason, with or without cause or notice.
All obligations of the Company under the Plan shall be binding upon and inure to the benefit of any successor to the Company, whether the existence of such successor is the result of a direct or indirect purchase, merger, consolidation, demutualization or otherwise.
The Company shall have the right to deduct from all payments under the Plan any federal, state, or local taxes required by law to be withheld with respect to such payments.
Exhibit 10.12
PRUDENTIAL FINANCIAL, INC.
STOCK OPTION PLAN
or any Subsidiary; commission of a crime; or any act or omission detrimental to the conduct of the business of the Company or any Subsidiary.
(i) any Person (as defined below) acquires "beneficial ownership" (within the meaning of Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing 25% or more of the combined Voting Power (as defined below) of the Company's securities; or
tandem Option and SAR award shall only be taken into account once (and not as to
both awards) for purposes of this limit (and for purposes of the provisions of
Section 4.2. The shares to be delivered under the Plan may consist, in whole or
in part, of treasury Common Stock or authorized but unissued Common Stock, not
reserved for any other purpose.
Participant which are exercisable at the date of the Participant's
termination of employment may be exercised by the Participant (or, in the
event of the Participant's death after termination of employment when the
Option is exercisable pursuant to its terms, by the Participant's estate or
as may otherwise be provided for in accordance with the requirements of
Section 9.2) at any time prior to the expiration of the term of the Options
or the ninetieth day following the Participant's termination of employment,
whichever period is shorter, and any Options that are not exercisable at
the time of termination of employment shall expire at the time of such
termination and not be exercisable thereafter.
(a) the excess, if any, of the Fair Market Value of a share of Stock at the date of exercise over the Fair Market Value of a share of Common Stock on the date of grant, by
(b) the number of shares of Common Stock with respect to which the SARs are then being exercised;
(a) be based on stock which is traded on an established securities market;
(b) provide such Participant with rights and entitlements substantially equivalent to or better than the rights, terms and conditions applicable under such Option or SAR, including, but not limited to, an identical or better exercise or vesting schedule and identical or better timing and methods of payment;
(c) have substantially equivalent economic value to such Option or SAR (determined at the time of the Change in Control); and
(d) have terms and conditions which provide that in the event that the Participant's employment is involuntarily terminated for any reason (including, but not limited to a termination due to death, Disability or for Cause) or constructively terminated (as described below), all of such Participant's Options and/or SARs shall be deemed immediately and fully exercisable and shall be settled for a payment per each share of stock subject to the Alternative Award in cash, in immediately transferable, publicly traded securities or in a combination thereof, in an amount equal to the excess of the Fair Market Value of such stock on the date of the Participant's termination over the corresponding exercise or base price per share.
For this purpose, a "constructive termination" shall mean a termination of employment by a Participant following a material reduction in the Participant's base salary or a Participant's incentive compensation opportunity, in either case without the Participant's written consent.
duties, obligations, or costs on the Company or any affiliate thereof or the Committee not expressly set forth in the Plan.
Exhibit 10.13
September 19, 1997
PRUDENTIAL SUPPLEMENTAL
RETIREMENT PLAN
(effective as of January 1, 1996,
except as otherwise provided herein)
The Prudential Supplemental Retirement Plan (the "Plan") has been established by The Prudential Insurance Company of America, effective January 1, 1996, for the purpose of providing unfunded supplemental retirement benefits for certain eligible employees (and their beneficiaries) that cannot be provided by the Retirement System (as defined below) because of limits imposed by the Code. The Plan provides Participants (and their beneficiaries) with one or more of the following categories of benefits: (1) Excluded Compensation Benefits; (2) Excess Benefits; (3) Deferred Compensation Benefits; (4) Early Retirement Benefits; (5) Death Benefits; and (6) ad hoc cost of living adjustments.
The portion of the Plan that provides Excess Benefits is intended to be, and shall be administered as, an excess benefit plan within the meaning of section 3(36) of ERISA. The remainder of the Plan is intended to be, and shall be administered as, an unfunded plan maintained for the purpose of providing deferred compensation for a select group of management or highly compensated employees within the meaning of Title I of ERISA.
The Plan is a restatement of that portion of the Prior Programs that relates to benefits under the Retirement System. That portion of the Prior Programs that relates to benefits under the Canadian Retirement Plan is not affected by this restatement. Amounts accrued, but not yet paid under the Prior Programs on December 31, 1995, that are related to benefits under the Retirement System shall be paid under this Plan; provided that Participants who incurred a Termination of Employment prior to January 1, 1996 shall receive benefits in accordance with the terms of the Prior Programs in effect at such Termination of Employment.
Article I
The following terms shall have the meanings hereinafter set forth. Other terms that are capitalized in the Plan shall be defined in the same manner as they are defined in the Retirement System.
1.1 "Board of Directors" means the Board of Directors of the Company.
1.2 "Canadian Retirement Plan" means The Prudential Insurance Company of America and Participating Affiliated Companies 1976 Retirement System for Canadian Employees, a defined benefit retirement plan maintained by the Company.
1.3 "Code" means the Internal Revenue Code of 1986, as amended.
1.4 "Committee" means the committee described in the claims and appeals section of the Retirement System.
1.5 "Company" means The Prudential Insurance Company of America.
1.6 "Controlled Group" means the Company and (i) each corporation which is a member of a controlled group of corporations (within the meaning of Section 414(b) of the Code) which includes the Company, (ii) each trade or business (whether or not incorporated) which is under common control with the Company (within the meaning of Section 414(c) of the Code, (iii) each organization included in the same affiliated service group (within the meaning of Section 414(c) of the Code) as the Company, and (iv) each other entity required to be aggregated with the Company pursuant to regulations promulgated under Section 414(o) of the Code. Any such entity shall be treated as part of the Controlled Group only for the period while it is a member of the controlled group or considered to be in a common control group.
1.7 "Death Benefits" means benefits that are payable upon the death of a Participant in accordance with Article VII of the Plan.
1.8 "Deferred Compensation Benefits" means benefits accrued by Participants in accordance with Article IV of the Plan.
1.9 "Deferred Compensation Plan" means the 1983 Deferred Compensation Plan, the 1984 Deferred Compensation Plan, the 1985 Deferred Compensation Plan and each subsequent calendar year Deferred Compensation Plan, including the Deferred Compensation Plan established effective January 1, 1992 for 1992 and subsequent calendar years maintained by the Company for the purpose of (i) providing deferred compensation for a select group of management or highly compensated employees within the meaning of Title I of ERISA, and (ii) permitting such employees to defer a portion or all of certain specified bonuses to a specified date or occurrence.
1.10 "Early Retirement Benefits" means benefits accrued by Participants in accordance with Article V of the Plan.
1.11 "Employer" means the Company and each Participating Affiliated Company in the Retirement System.
1.12 "ERISA" means the Employee Retirement Income Security Act of 1974, as amended.
1.13 "Excess Benefits" means benefits accrued by Participants in accordance with Article III of the Plan.
1.14 "Excluded Compensation Benefits" means benefits accrued by Participants in accordance with Article II of the Plan.
1.15 "Participant" means an individual who is accruing benefits under Article II, Article III, Article IV, or Article V. An individual shall be a Participant only with respect to those benefits for which the individual satisfies applicable eligibility requirements. A Participant also includes an individual who has previously accrued benefits under the terms of (i) one or more of the Prior Programs as they relate to benefits under the Retirement System, or (ii) the Plan, but in each case has not yet received all such accrued benefits.
1.16 "Plan" means this Prudential Supplemental Retirement Plan as amended from time to time.
1.17 "Prior Programs" means the Excess Benefit Retirement Income Program, the Supplemental Retirement Income Program, and the Spouse Income Program, as maintained by the Company and in effect from time to time prior to 1996.
1.18 "Retirement System" means The Retirement System for United States Employees and Special Agents, and after 1996 means The Retirement System for United States Employees and Special Agents Plan Document, a component of the Retirement System for United States Employees and Special Agents, a defined benefit retirement plan maintained by the Company.
1.19 " Termination of Employment" means the voluntary or involuntary termination of employment with the Controlled Group for any reason, including death.
ARTICLE II
(a) such Participant's hypothetical accrued retirement benefits under the Retirement System (expressed as a benefit at Normal Retirement Date), determined without regard to: (1) the limit on compensation imposed by section 401(a)(17) of the Code (as reflected in the applicable provisions of the Retirement System), and (2) the limits on benefits imposed by section 415(b) and (e) of the Code (as reflected in the applicable provisions of the Retirement System); and
(b) such Participant's hypothetical accrued retirement benefits under the Retirement System (expressed as a benefit at Normal Retirement Date), determined without regard to the limits on benefits imposed by section 415(b) and (e) of the Code (as reflected the applicable provisions of the Retirement System).
ARTICLE III
(a) such Participant's hypothetical accrued retirement benefits under the Retirement System (expressed as a benefit at Normal Retirement Date), determined without regard to the limits on benefits imposed by section 415(b) and (e) of the Code (as reflected in the applicable provisions of the Retirement System); and
(b) such Participant's accrued retirement benefits under the Retirement System.
ARTICLE IV
(a) such Participant's hypothetical accrued retirement benefits under the
Retirement System (expressed as a benefit at Normal Retirement Date),
determined by including as pensionable Earnings the amount of the
deferred compensation under the Deferred Compensation Plan and the
Prudential Supplemental Employee Savings Plan that would, but for the
deferral of payment, constitute pensionable Earnings under the
Retirement System (including such compensation that would have
constituted Earnings had it not exceeded the limit on compensation
imposed by section 401(a)(17) of the Code and determined without
regard to the limits on benefits imposed by Code section 415(b) and
(e)); and
(b) such Participant's accrued retirement benefits under the Retirement System, and such Participant's accrued benefits under Articles II and III of this Plan.
ARTICLE V
(a) such Participant's accrued retirement benefits under the Retirement System, and accrued benefits under Articles II, III, and IV of this Plan (expressed as a benefit at Normal Retirement Date), multiplied by the applicable adjustment factor in paragraphs (1), (2) or (3) set forth below:
(1) if the Participant retires on or after the first day of the month following the date he or she has both completed twenty-five (25) years of Continuous Service with the Employer and attained age sixty (60), the adjustment factor used in determining such benefits shall be equal to 1.00;
(2) if the Participant retires on or after the first day of the month following the date he or she attains age sixty (60) and before he or she has completed twenty-five (25) years of Continuous Service with the Employer, the adjustment factor used in determining such benefits shall be equal to 1.00, reduced by 5/9 of 1.00% for each full month by which the Participant's retirement date precedes the first day of the month following the date such Participant would have completed twenty-five (25) years of Continuous Service with the Employer; or
(3) if the Participant retires on or after the first day of the month following the date he or she attains age fifty-nine (59) and prior to the first day of the month following the date he or she attains age sixty (60), the adjustment factor used in determining such benefits shall be equal to 1.00,
(i) reduced by 5/9 of 1.00% for each full month by which the Participant's retirement date precedes the first day of the month following the date such Participant would have completed twenty-five (25) years of Continuous Service with the Employer, but excluding any full months by which the Participant's retirement date precedes the first day of the month following attainment of age sixty (60), and
(ii) further reduced for each remaining full month, if any, by which the Participant's retirement date precedes the first day of the month following attainment of age sixty (60) by one-twelfth of the excess of: (A) the adjustment factor set forth in subparagraph (i) above, over (B) the adjustment factor applicable at age fifty-nine (59) under the Retirement System.
(b) such Participant's accrued early retirement benefits under Article XI of the Retirement System (as in existence on January 1, 1994 or any successor provision), and such Participant's accrued benefits under Articles II, III and IV of this Plan (as adjusted to reflect the early commencement of benefits).
ARTICLE VI
(a) the variable annuity option described in the Retirement System is not available with respect to payments under the Plan, and
(b) the level income option described in the Retirement System will be applied so that payments under the Plan are adjusted, if necessary, so that the sum of the Participant's benefits under the Retirement System, Primary Insurance Benefits related to Active Service with the Company expected to become payable under Title II of the Federal Social Security Act, and benefits under the Plan are as nearly uniform as practical each month both before and after the earliest date the Participant could receive payment of such Primary Insurance Benefits.
(b) The single sum shall be paid to the Participant on such
Participant's retirement date under the Retirement System (or as soon as
practicable thereafter). Effective for any election received by the Committee on
or after March 1, 1995, the single sum shall be paid to the Participant on the
later of (i) such Participant's retirement date under the Retirement System or
(ii) the one-year anniversary of the date the Committee, or its designee,
receives such Participant's election of the single sum benefit (or as soon as
practicable thereafter). Such single sum benefit shall be in lieu of all
benefits otherwise payable to the Participant (and his or her beneficiary) under
the Plan and no death benefit (other than the death benefit described in Section
7.3) shall be payable under the Plan to the Participant's beneficiary.
(c) The amount of the single sum payment is the consideration that would be required on the Participant's retirement date under the Retirement System, or if later, on the date of payment, pursuant to the interest and mortality assumptions specified by the Committee, as applicable on the actual date of the single sum payment, to purchase all benefits otherwise payable to the Participant under Articles II through V of the Plan in the form of a single life annuity with a fifteen (15) year period certain for an unmarried Participant or a fifty percent (50%) joint and survivor annuity for a married Participant.
(d) A Participant may receive the single sum payment provided under this Section 6.3 if and only if such Participant (i) makes the election to receive the single sum (and the
Committee, or its designee, receives such election) prior to the date he or she
terminates employment with the Controlled Group, (ii) is eligible to retire
(including early retirement) under the Retirement System at the time of
termination of employment with the Controlled Group, (iii) has presented the
Committee, or its designee, with evidence of good health, within six (6) months
prior to the date of payment of the Participant's single sum, that is
satisfactory to the Committee and in accordance with the rules adopted for such
purpose and in effect at the time the evidence is submitted, and (iv) survives
until the expected payment date (such date being, as applicable, the later of:
(A) the Participant's retirement date under the Retirement System and (B) the
one-year anniversary of the date the Committee receives the Participant's single
sum election, if any).
ARTICLE VII
(i) elected to commence receiving benefits on the day before the Participant's death, if death occurs after the date the Participant attained the earliest possible Early Retirement Date under the terms of the Retirement System; or
(ii) experienced a Termination of Employment on the Participant's date of death, survived to the Participant's earliest possible Early Retirement Date under the terms of the Retirement System, and died on the following day.
ARTICLE VIII
(b) In the event a Participant who is eligible for the cost of living
adjustment granted on September 1, 1996 under the Retirement System elects to
receive a single sum distribution under Section 6.3 of this Plan, such
Participant shall not receive a cost of living adjustment under this Section
8.1. Likewise, in the event a spouse or beneficiary who is eligible for the cost
of living adjustment granted on September 1, 1996 under the Retirement System is
the spouse or beneficiary of a Participant who elected to receive a single sum
distribution under Section 6.3 of this Plan, such spouse or beneficiary shall
not receive a cost of living adjustment under this Section 8.1.
ARTICLE IX
(b) The head of the Human Resources Department of the Company may, in his or her sole discretion, exercise the authority of the Committee and act as the Committee in administering the Plan.
(b) Provisions set forth in the Retirement System with respect to claims and appeals procedures, and immunities of the Committee (as defined in the Retirement System) shall also be applicable with respect to the Plan.
ARTICLE X
Effective August 12, 1997, no amendment or termination of the Plan shall have the effect of reducing a Participant's accrued benefit under the Plan or vesting status under the Plan as in effect immediately prior to the adoption of such amendment or termination of the Plan (or, if later, the effective date of such amendment or termination of the plan); provided, however, that the Company reserves the right to amend or change any optional forms of benefit provided under the Plan in any respect and at any time.
(b) The head of the Human Resources Department of the Company may adopt minor amendments to the Plan without approval by the Compensation Committee of the Board of Directors that (i) are necessary or advisable for purposes of compliance with applicable laws and regulations, (ii) relate to administrative practices, or (iii) have an insubstantial financial effect on Plan benefits and expenses.
(c) Each Participant in service on or after January 1, 1994 (or beneficiary of such Participant) shall be fully vested in benefits accrued prior to January 1, 1994 under the Plan or under one or more of the Prior Programs.
ARTICLE XI
provided on the basis of the correct information. Any excess payments due to such misstatement, or due to any other mistake of fact or law, shall be refunded to the Company or withheld by it from any further amounts otherwise payable under the Plan.
IN WITNESS WHEREOF, The Prudential Insurance Company of America has caused this restatement to be executed as of September ___, 1997, effective January 1, 1996, except as otherwise provided herein.
THE PRUDENTIAL INSURANCE
COMPANY OF AMERICA
By:___________________________
Michele S. Darling
Executive Vice President
Exhibit 10.14
PRUDENTIAL SUPPLEMENTAL
EMPLOYEE SAVINGS PLAN
(effective as of January 1, 2001)
The Prudential Supplemental Employee Savings Plan (the "Plan") has been established by The Prudential Insurance Company of America, effective January 1, 2001 (the "Effective Date"), for the purpose of providing unfunded benefits for certain eligible employees (and their beneficiaries) that are in excess of the limits on contributions to the Prudential Employee Savings Plan ("PESP") imposed by either Sections 401(a)(17) and 415(c)(1)(A) of the Internal Revenue Code of 1986, as amended (the "Code").
The portion of the Plan that provides unfunded benefits in excess of the limits imposed by Section 415(c)(1)(A) of the Code (the "Code Contribution Limit," as hereafter defined) is intended to be, and shall be administered as, an "excess benefit plan" within the meaning of Section 3(36) of the Employee Retirement Income Security Act of 1974, as amended ("ERISA"). The remainder of the Plan is intended to be, and shall be administered as, an unfunded plan maintained for the purpose of providing deferred compensation for a select group of management or highly compensated employees within the meaning of Title I of ERISA.
This Plan is an amendment and restatement of The Prudential Insurance Company of America Defined Contribution Excess Program, The Prudential Insurance Company of America Non-Qualified Deferred Compensation Plan, and The Prudential Insurance Company of America Supplemental Savings Program (also known as The Prudential Insurance Company of America Supplemental Executive Savings Plan), each as maintained by The Prudential Insurance Company of America prior to the Effective Date (collectively, the "Prior Programs"). Amounts credited, but not yet paid under the Prior Programs prior to the Effective Date shall be paid, administered, and continue to accrue interest pursuant to the terms of this Plan.
ARTICLE I
The following terms shall have the meanings hereinafter set forth. Other terms that are capitalized in this Plan and that are not defined below shall be defined in the same manner as they are defined in PESP.
1.1 "Account" means the recordkeeping account maintained for a Participant under the Plan to credit a Participant with the amounts that he or she may become entitled under the terms of Article III of the Plan. For internal recordkeeping purposes only, each Participant's Account may be subdivided into various subaccounts by the Company, in its discretion.
1.2 "Board of Directors" means the Board of Directors of the Company.
1.3 "Code" means the Internal Revenue Code of 1986, as amended.
1.4 "Code Compensation Limit" means the requirement, set forth under Code
Section 401(a)(17), that the annual compensation of each employee taken into
account under a qualified profit sharing or retirement plan and trust for any
year cannot exceed $150,000 annually, adjusted for inflation.
1.5 "Code Contribution Limit" means the requirement, set forth under Code
Section 415(c)(1)(A), that contributions made on behalf of any participant under
a qualified defined contribution plan and trust for any year cannot exceed
$30,000 annually, adjusted for inflation.
1.6 "Committee" means the Administrative Committee described in PESP, unless otherwise exercised or designated under the provisions of Section 6.1 (b) of the Plan.
1.7 "Company" means The Prudential Insurance Company of America.
1.8 "Compensation" means "Earnings" as defined in PESP, except that Compensation shall be computed without regard to the limits imposed by the Code Compensation Limit.
1.9 "Controlled Group" means the Company and (i) each corporation which is a member of a controlled group of corporations (within the meaning of Section 414(b) of the Code) which includes the Company, (ii) each trade or business (whether or not incorporated) which is under common control with the Company (within the meaning of Section 414(c) of the Code, (iii) each organization included in the same affiliated service group (within the meaning of Section 414(m) of the Code) as the Company, and (iv) each other entity required to be aggregated with the Company pursuant to regulations promulgated under Section 414(o) of the Code. Any such entity shall be treated as part of the Controlled Group only for the period while it is a member of the controlled group or considered to be in a common control group.
1.10 "Earnings" shall have the meaning set forth in PESP.
1.11 "Effective Date" means January 1, 2001.
1.12 "Eligible Employee" means an Employee who meets the eligibility requirements of Section 2.1 of the Plan.
1.13 "Employee" means an individual employed by any Employer (including, for these purposes, any individual who is not a common law employee of such Employer) who is also a participant, as of any relevant date, in PESP.
1.14 "Employer" means the Company or an Affiliate participating in PESP.
1.15 "ERISA" means the Employee Retirement Income Security Act of 1974, as amended.
1.16 "401(a)(17) Deferral" means the amount credited to a Participant's Account under the Plan pursuant to Section 3.4 herein, including amounts credited under the Prior Program called The Prudential Insurance Company of America Non-Qualified Deferred Compensation Plan and interest thereon.
1.17 "401(a)(17) Matching Contribution" means the amount credited to a Participant's Account under the Plan pursuant to Section 3.5 herein, including contributions credited under the Prior Program called The Prudential Insurance Company of America Supplemental Savings Program and interest thereon.
1.18 "415 Crossover Matching Contribution" means the amount credited to a Participant's Account under the Plan pursuant to Section 3.3 herein, including contributions credited under the Prior Program called The Prudential Insurance Company of America Defined Contribution Excess Program and interest thereon.
1.19 "415 Deferral" means the amount credited to a Participant's Account under the Plan pursuant to Section 3.1 herein, including contributions credited under the Prior Program called The Prudential Insurance Company of America Non-Qualified Deferred Compensation Plan and interest thereon.
1.20 "415 Matching Contribution" means the amount credited to a Participant's Account under the Plan pursuant to Section 3.2 herein, including contributions credited under the Prior Program called The Prudential Insurance Company of America Defined Contribution Excess Program and interest thereon.
1.21 "Participant" means an Eligible Employee described in Article II who
is receiving credits to his or her Account under the Plan pursuant to Article
III. A Participant also includes an Eligible Employee who has previously
received credits under the Plan or one of the Prior Programs, but in each case
has not received full payment of his or her Account under the Plan or such Prior
Programs.
1.22 "PESP" means the Prudential Employee Savings Plan, as established and effective as of January 1, 1994 and most recently amended and restated effective as of
January 1, 2001, as the same may be in effect from time to time, including any successor plan.
1.23 "Plan" means this Prudential Supplemental Employee Savings Plan, as amended from time to time.
1.24 "Prior Programs" means The Prudential Insurance Company of America Defined Contribution Excess Program, The Prudential Insurance Company of America Non-Qualified Deferred Compensation Plan, and The Prudential Insurance Company of America Supplemental Savings Program (also known as The Prudential Insurance Company of America Supplemental Executive Savings Plan) as in effect from time to time prior to the Effective Date.
1.25 "Termination of Employment" means an individual's voluntary or involuntary termination of employment with the Controlled Group for any reason, including death. An individual who is receiving short-term disability benefits under the Prudential Welfare Benefits Plan shall be deemed to have incurred a Termination of Employment on the date such benefits are exhausted, unless such individual has returned to work within the Controlled Group.
ARTICLE II
(i) (A) Before-Tax or Company Matching Contributions to PESP cannot be made by reason of the limits on contributions contained in PESP for the purpose of satisfying the Code Contribution Limit and/or (B) Compensation for purposes of determining the amount of Before-Tax or Company Matching Contributions that may be allocated on his or
her behalf to PESP is limited by reason of the Code Compensation Limit; and
(ii) as of the time that either the Code Compensation Limit or Code Contribution Limit is reached, is either deferring Earnings under PESP or has either (A) been precluded from continuing to defer Earnings in any Plan Year under PESP due to the operation of the limitation on contributions of elective deferrals under Section 402(g) of the Code and/or the Code nondiscrimination test on contributions of elective deferrals under Code Section 401(k)(3) or (B) been precluded from receiving Company Matching Contribution under PESP in any Plan Year because of the operation of the nondiscrimination test on Company Matching Contributions under Code Section 401(m)(2);
shall be deemed to be an "Eligible Employee" for purposes of participating in the Plan.
ARTICLE III
with 415 Matching Contribution in the amount that would have been credited if such 415 Deferral had been timely deducted from the Participant's paycheck.
(a) The amount of Company Matching Contributions that would have been allocated to the PESP Company Matching Contribution Account of the Participant for the Plan Year if such Company Matching Contributions had been computed without regard to the limits imposed by the Code Contribution Limit; less
(b) The amount of the Company Matching Contributions actually allocated to the PESP Company Matching Account of the Participant for the Plan Year;
due to the Employer's failure to timely commence payroll deductions, such Participant shall still be credited with 401(a)(17) Matching Contribution in the amount that would have been credited if such 401(a)(17) Deferral had been timely deducted from the Participant's paycheck.
ARTICLE IV
ARTICLE V
remaining unpaid, be paid to such Participant's Beneficiary as designated or otherwise determined under PESP in a lump sum within sixty (60) days following the Participant's death, or as soon as practicable thereafter.
ARTICLE VI
(a) The Plan shall be administered by the Committee. The Committee shall maintain such procedures and records as will enable the Committee to determine the Participants and their beneficiaries who are entitled to receive a benefit under the Plan and the amounts thereof.
(b) The Executive Vice President of Human Resources of the Company may, in his or her sole discretion, (i) exercise the authority of the Committee and act as the Committee in administering the Plan, or (ii) designate either the Vice President - Total Compensation, or the Vice President - Employee Benefits of the Company to exercise the authority of the Committee and act as the Committee in administering the Plan on his or her behalf.
(a) The Committee or its designee shall have the exclusive right, power and authority to interpret, in its sole discretion, any and all of the provisions of the Plan; and to consider and decide conclusively any questions (whether of fact or otherwise) arising in connection with the administration of the Plan or any ultimate claim for benefits arising under the Plan. The Appeals Committee (as defined under PESP) shall be responsible for the claims and appeals procedures under this Plan, subject to the ultimate review of the Committee or its designee. Any decision or action of the Committee shall be conclusive, final and binding.
(b) Provisions set forth in PESP with respect to the claims and appeals procedures, and immunities of the Appeals Committee (as defined in PESP), shall also be applicable with respect to the Plan.
ARTICLE VII
(b) The Executive Vice President of Human Resources of the Company may adopt minor amendments to the Plan without approval by the Compensation Committee of the Board of Directors that (i) are necessary or advisable for purposes of compliance with applicable laws and regulations, (ii) relate to administrative practices, or (iii) have an insubstantial financial effect on Plan benefits and expenses.
ARTICLE VIII
management or highly-compensated employees within the meaning of Sections 201, 301 and 401 of ERISA, and therefore is exempt from the provisions of Parts 2,3 and 4 of Title I of ERISA. Accordingly, no assets of the Company shall be segregated or earmarked to represent the liability for accrued benefits under the Plan. Amounts referenced in Participant Account statements are only recordkeeping devices reflecting such liability for accrued benefits. The right of a Participant (or his or her Beneficiary) to receive a payment hereunder shall be an unsecured claim against the general assets of the Company. All payments under the Plan shall be made from the general funds of the Company. The Company is not required to set aside money or any other property to fund its obligations under the Plan, and all amounts that may be set aside by the Company prior to the distribution of Account balances under the terms of the Plan remain the property of the Company.
Notwithstanding the foregoing, nothing in this Section 8.1 shall preclude the Company, in its sole discretion, after the Effective Date from establishing a "rabbi trust" or other vehicle in connection with the operation of this Plan, provided that no such action shall cause the Plan to fail to be an unfunded plan designed to satisfy the requirements of ERISA Section 3(36) or provide deferred compensation benefits for a select group of management or highly-compensated employees for purposes within the meaning of Title I of ERISA.
both determinable and not subject to a substantial risk of forfeiture). The Company shall withhold from any payments made pursuant to the Plan such amounts as may be required by federal, state or local law.
IN WITNESS WHEREOF, the undersigned, pursuant to the authorization granted to her by the Compensation Committee of the Board of Directors on January 9, 2001, hereby establishes the Prudential Supplemental Employee Savings Plan, effective as of January 1, 2001.
Date: ______________
Exhibit 10.15
PRUDENTIAL SEVERANCE PLAN FOR SENIOR EXECUTIVES
(Effective as of June 16, 2000, and
Amended and Restated as of December 18, 2000)
The Prudential Severance Plan for Senior Executives (the "Plan") was established by The Prudential Insurance Company of America (the "Company"), effective as of June 16, 2000, and is hereby amended and restated as of December 18, 2000. The Plan is intended to be, and shall be administered as, an employee welfare benefit plan as defined in Section 3(1) of the Employee Retirement Income Security Act of 1974, as amended.
1.1 Except as otherwise provided in the Plan, this Plan does not provide severance pay to any terminated Employee as a matter of right, and neither the Company nor any Affiliated Company otherwise provides severance pay to terminated Employees as a matter of right.
1.2 Except as otherwise provided in the Plan, whether or not severance pay, if any, is to be paid to a terminated Employee is a matter solely within the discretion of the Company.
1.3 The purpose of this Plan is to define those circumstances under which the Company may pay severance to Eligible Employees.
2.1 "Affiliated Company" means any corporation which is a member of a controlled group of corporations (within the meaning of Section 414(b) of the Code) which includes the Company, any trade or business (whether or not incorporated) which is under common control with the Company (within the meaning of Section 414(c) of the Code), any organization included in the same affiliated service group (within the meaning of Section 414(m) of the Code) as the Company, and any other entity required to be aggregated with the Company pursuant to regulations promulgated under Section 414(o) of the Code. Any such entity shall be treated as an Affiliated Company only for the period while it is a member of the controlled group or considered to be in such common control group.
2.2 "Appeals Committee" means the committee that has been appointed pursuant to Section 2.2 of the Prudential Severance Plan, which shall review and make decisions on all appeals on denied claims for benefits pursuant to Section 5.3(b) of the Plan.
2.3 "Base Pay" means Base Pay as defined in Section 2704(b) of the Prudential Retirement Plan, as of the date of the Eligible Employee's Eligible Termination.
2.4 "Board" means the Board of Directors of the Company.
2.5 "Cause" means the following (as determined by the Company it its sole discretion): dishonesty, fraud or misrepresentation; inability to obtain or retain appropriate licenses; violation of any rule or regulation of any regulatory agency or self-regulatory agency; violation of any policy or rule of the Company or any Affiliated Company; commission of a crime; or any act or omission detrimental to the conduct of the business of the Company or any Affiliated Company.
2.6 "Claims Committee" means the committee that has been appointed by the
Compensation Committee of the Board pursuant to Section 5.1 of the Prudential
Severance Plan, which shall review and make decisions on all claims pursuant to
Section 5.3(a) of the Plan.
2.7 "Code" means the Internal Revenue Code of 1986, as amended.
2.8 "Company" means The Prudential Insurance Company of America.
(a) 2.9 "Eligible Compensation" means the sum of the following for the Eligible Employee as of the date of the Eligible Termination:
(i) Base Pay;
(ii) the total of the most recent three years' annual incentive payments, if any, made to the Eligible Employee under The Prudential Annual Incentive Plan, as amended (or the equivalent thereof as determined by the Company in its sole discretion), divided by three; provided, however, that if the Eligible Employee has been eligible for only one or two such payments during such recent three-year period, the total of such payments shall be divided by one or two, respectively, instead of three; and provided further, however, that if, in any of such years being considered, the Eligible Employee has been eligible to be considered for the payment of such an amount and such amount is determined to be zero under such plan, such zero amount will be counted for the purpose of this calculation; and
(iii) the amount, if any, that would be payable to the Eligible Employee at plan under the Prudential Long-Term Performance Unit Plan that is payable immediately after the date of the Eligible Employee's Eligible Termination.
2.10 "Eligible Employee" means an Employee of a Participating Company who at the time he or she incurs an Eligible Termination is an Employee performing services in the United States for a Participating Company.
2.11 "Eligible Termination" means an Employee's involuntary termination of employment with a Participating Company due to (i) the closing of an office or business
location, (ii) a reduction in force, (iii) a downsizing, (iv) the restructuring, reorganization or reengineering of a business group, unit or department, or (v) a job elimination; provided, however, that a termination of employment with a Participating Company for any of the following reasons shall not constitute an Eligible Termination:
(A) transfer of any Employee to any (1) Affiliated Company, or (2) entity which is controlled by the Company through the ownership of a majority of its voting stock (or other equivalent ownership interest), either directly or indirectly through one or more intermediaries;
(B) voluntary termination of employment, unless the termination results from:
(1) the Employee's participation in a voluntary separation program of a business group, unit or department; or
(2) the Employee's rejection of an offer of a new job with the Company, an Affiliated Company or an entity which is controlled by the Company through the ownership of a majority of its voting stock (or other equivalent ownership interest), either directly or indirectly through one or more intermediaries, under circumstances where his or her current job is no longer available (such as, the job was eliminated, the job or its scope was changed significantly, or the business location of the job has changed), where (a) the new position has base salary plus annual bonus at par (or the equivalent thereof) of less than 80% of the base salary plus annual bonus at par (or the equivalent thereof) of the current job, or (b) the commuting distance from the center of the Employee's town of residence to the center of the town of the new job's location is more than 49 miles, as determined by the Company in its sole discretion;
(C) voluntary retirement;
(D) death;
(E) Cause;
(F) inability to perform the basic requirements of his or her position with or without reasonable accommodation due to physical or mental incapacity and after the Employee's short-term disability benefits have expired under the terms of The Prudential Welfare Benefits Plan; or
(G) failure to return from an approved leave of absence.
Eligible Termination also shall not include an Employee's termination of employment with a Participating Company as a result of a court decree, outsourcing, sale (whether in whole or in part, of stock or assets), merger or other combination, spin-off, reorganization, or liquidation, dissolution or other winding up involving any Participating Company if such Employee receives a job offer from any employer that is involved in such outsourcing, sale, merger or other combination, spin-off, reorganization, or liquidation, dissolution or other winding up.
2.12 "Employee" means any individual who is compensated by the Company or an Affiliated Company for services actually rendered as a regular full-time or regular
part-time (but not a temporary) common law employee and who, at the time of the Eligible Termination, has attained one of the following levels or grades at the Company (or the equivalent of such level or grade as determined by the Company in its sole discretion): a level 82 or a grade 5, a level 84 or a grade 4, or a level 86 or a grade 3 or 2; provided, however, that:
(i) any such employee (A) who is a sales employee covered by the terms of a collective bargaining agreement, (B) who is a non-management sales force employee employed in Individual Financial Services Retail and/or Prudential Property and Casualty Insurance Company and/or its affiliates (or in any successor organizations thereto) and who (I) is in training, pre-production, or (II) has been appointed to sell Company products, (C) who is a marketing assistant employed in Individual Financial Services Retail and/or Prudential Property and Casualty Insurance Company and/or its affiliates (or in any successor organizations thereto), or (D) whose level or grade at the Company or at an Affiliated Company is more senior than level 86 or grade 2 at the Company (or its equivalent as determined by the Company in its sole discretion);
(ii) any individual who performs services for the Company or an Affiliated Company but is not treated by the Company or the Affiliated Company, as the case may be, at the time of performance of services as an employee for federal tax purposes (regardless of any subsequent recharacterization); and
(iii) any statutory employee of the Company or an Affiliated Company under Code Section 3121(d)(3);
shall not be an Employee (or eligible for benefits) under the Plan.
2.13 "ERISA" means the Employee Retirement Income Security Act of 1974, as amended.
2.14 "Participating Company" means (a) the Company, (b) any U.S. Affiliated Company that (i) participates in The Prudential Retirement Plan, or (ii) adopts the Plan by action of its own board of directors (or if the Affiliated Company does not have a board of directors, by other appropriate action), with the consent of the Company, and (c) The WMF Group, Ltd. or its successor that is a U.S. Affiliated Company.
2.15 "Plan" means this Prudential Severance Plan for Senior Executives, as from time to time amended.
2.16 "Prudential Retirement Plan" means The Prudential Retirement Plan Document, a component of The Prudential Merged Retirement Plan, as amended, but not including the Prudential Securities Incorporated Cash Balance Pension Plan Document, a component of The Prudential Merged Retirement Plan.
2.17 "Agreement and General Release" means a written document that includes a release of rights and claims from an Eligible Employee in a form that is satisfactory to, and approved by, the Company.
2.18 "Severance Pay" means the amount, if any, payable under Section 4 of the Plan to an Eligible Employee.
2.19 "Week of Eligible Compensation" means one fifty-second (1/52) of the Eligible Employee's Eligible Compensation.
3.1 As to each Eligible Employee who has an Eligible Termination, Severance Pay will be granted to such Eligible Employee in an amount determined in accordance with Section 4.1 or Section 4.2 of the Plan, as the case may be.
3.2 As to each Eligible Employee who has an Eligible Termination, the
determination of whether Severance Pay in addition to that provided under
Section 4.2(i) of the Plan will be granted to any Eligible Employee (or category
or group of Eligible Employees as defined by the Company) shall be made in the
sole discretion of the Company; provided, however, that as to an Eligible
Employee who is a level 82 or a grade 5, or a level 84 or a grade 4 at the
Company (or the equivalent of each such level or grade as determined by the
Company in its sole discretion) at the time of the Eligible Termination, in the
event that the Compensation Committee of the Board has reserved this discretion
to itself by means of a written resolution in accordance with the requirements
of the Company's by-laws and the Plan, such determination shall be made in the
sole discretion of the Compensation Committee of the Board; and provided
further, however, that as to an Eligible Employee who is a level 86 or a grade 3
or 2 at the Company (or the equivalent of such level or grade as determined by
the Company in its sole discretion) at the time of the Eligible Termination, in
the event that the Board has reserved this discretion to itself by means of a
written resolution, such determination shall be made in the sole discretion of
the Board.
----------------------------------- ---------------------------------
LEVEL OR GRADE AT THE COMPANY
(OR ITS EQUIVALENT) NUMBER OF WEEKS
----------------------------------- ---------------------------------
Level 82 or Grade 5 52
----------------------------------- ---------------------------------
Level 84 or Grade 4 52
----------------------------------- ---------------------------------
Level 86 or Grade 3 or 2 52
----------------------------------- ---------------------------------
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level 86 or a grade 3 or 2 at the Company (or the equivalent of such level or grade as determined by the Company in its sole discretion) at the time of the Eligible Termination, in the event that the Board has reserved this discretion to itself by means of a written resolution, such determination shall be made in the sole discretion of the Board.
(i) as to any Eligible Employee who has attained eligibility for an Additional Retirement Benefit under Article XXVII of the Prudential Retirement Plan, the Base Amount of such Additional Retirement Benefit as defined in Section 2704(a) under the Prudential Retirement Plan;
(ii) any severance payment under the Prudential Severance Plan and/or the Prudential Severance Plan for Executives;
(iii) as to any Eligible Employee who is employed in the Alternative Dispute Resolution area of the Policyowner Relations Division of Operations and Systems and has received a completion bonus, the amount of such completion bonus; and
(iv) any separation or other similar benefits of any kind from the Company or any Affiliated Company or any plan or program sponsored by the Company or any Affiliated Company (including, but not limited to, any separation provisions under an employment agreement and/or an offer letter);
for the same or a previous termination of employment, as determined by the Company in its sole discretion; provided, however, that any such reduction will not be made more than once under the Plan and under any other separation or other similar benefits of any kind from the Company or any Affiliated Company or any plan or program sponsored by the Company or any Affiliated Company (including, but not limited to, the Prudential Severance Plan, the Prudential Severance Plan for Executives and any separation provisions under an employment agreement and/or an offer letter), as determined by the Company in its sole discretion.
Notwithstanding anything to the contrary in the Plan, in no event, however, may the Severance Pay granted to any Eligible Employee under the Plan (and under any other plan or program of the Company and/or a Participating Company that provides severance benefits, including, but not limited to, the Prudential Severance Plan and/or the Prudential Severance Plan for Executives, as determined by the Company in its sole discretion) for a given Eligible Termination exceed the maximum permitted for employee welfare benefit
plans such as the Plan under Section 2510.3-2(b)(1)(ii) of Title 29 of the Code of Federal Regulations (or any successor thereto).
5.1 The Company and/or the Claims Committee, as the case may be, shall maintain such procedures and records as each deems necessary or appropriate. The plan year for keeping the records of the Plan shall be the calendar year. Notwithstanding anything in the Plan to the contrary, whenever the Company takes any action under the Plan, it shall do so as an exercise of a settlor function and shall not be acting as a fiduciary.
5.2 The Claims Committee, which shall be the Plan administrator, shall have the exclusive right, power and authority to interpret, in its sole discretion, any and all provisions of the Plan; and to consider and decide conclusively any questions (whether of fact or otherwise) arising in connection with the administration of the Plan or any claim for Severance Pay arising under the Plan. Any decision or action of the Company or the Claims Committee, as the case may be, shall be conclusive and binding.
of the Company to hear claims for benefits. In the case of a claim respecting benefits paid or payable to an Eligible Employee, a written determination granting or denying the claim shall be furnished to the claimant within 90 days of the date on which the claim is filed. If special circumstances, including, but not limited to, the advisability of a hearing, require a longer period, the claimant will be notified in writing, prior to the expiration of the 90-day period, of the reasons for an extension of time; provided, however, that no extensions will be permitted beyond 90 days after expiration of the initial 90- day period. A denial or partial denial of a claim shall be dated and signed by the Claims Committee and shall clearly set forth the following information:
(i) the specific reason or reasons for the denial;
(ii) specific reference to pertinent Plan provisions on which the denial is based;
(iii) a description of any additional material or information necessary for the claimant to perfect the claim and an explanation of why such material or information is necessary; and
(iv) an explanation of the review procedure set forth in Section 5.3(b) of the Plan.
If no written determination is furnished to the claimant, then the claim shall be deemed denied and the review procedure described in Section 5.3(b) of the Plan will become available to the claimant.
(i) to be represented by a spokesman;
(ii) to present a written statement of facts and of the appellant's interpretation of any pertinent document, statute or regulation; and
(iii) to receive a prompt written decision clearly setting forth findings of fact and the specific reasons for the decision written in a manner calculated to be understood by the appellant and containing specific references to pertinent Plan provisions on which the decision is based.
A decision shall be rendered no more than sixty (60) days after receipt of the request for review, except that such period may be extended for an additional sixty (60) days if the person or persons reviewing the appeal determine that special circumstances, including, but not limited to, the advisability of a hearing, require such extension. The Appeals Committee may appoint itself, one or more of its number, or any other person or persons whether or not connected with the Company to review an appeal, in accordance with Section 5.4 of the Plan.
(c) Claimants must follow the claims procedures described in Sections 5.3(a) and 5.3(b) of the Plan before taking action in any other forum regarding a claim for benefits under the Plan. Any suit or legal action initiated by a claimant under the Plan must be brought by the claimant no later than one year following a final decision on the claim for benefits by the Claims Committee (including the decision on any appeal of the claim by the Appeals Committee). This one-year statute of limitations on suits for benefits shall apply in any forum where a claimant initiates such suit or legal action.
5.4 The Company pursuant to action by the Executive Vice President of Human Resources of the Company (or successor thereto), the Claims Committee and the Appeals Committee shall each have the power to delegate their respective responsibilities under the Plan to one or more of its members or officers, as the case may be, or to employees or to other individuals or organizations, as the case may be, by notifying them as to the duties and responsibilities delegated. Each person to whom responsibilities are so delegated shall serve at the pleasure of the entity or person making the delegation and, if an Employee, without payment of additional compensation for such services. Any such person may resign by delivering a written resignation to the entity or person that made the delegation. Vacancies created by resignation, death or other cause may be filled by the entity or person that made the delegation or the assigned responsibility may be reassumed or redelegated by such entity or person.
6.1 The Company shall have the right to amend or terminate the Plan in any respect and at any time without notice, and may do so pursuant to a written resolution of the Compensation Committee of the Board.
6.2 The Executive Vice President of Human Resources of the Company (or successor thereto) or the Company's delegate or delegates appointed by such officer in accordance with Section 5.4 of the Plan may adopt minor amendments to the Plan without approval of the Compensation Committee of the Board that (i) are necessary or advisable for purposes of compliance with applicable laws and regulations, (ii) relate to administrative practices, or (iii) have an insubstantial financial effect on Plan benefits and expenses.
IN WITNESS WHEREOF, The Prudential Insurance Company of America has caused this Plan to be executed and adopted as of the date first above written.
THE PRUDENTIAL INSURANCE COMPANY
OF AMERICA
Dated: December , 2000 By ______________________________________
Michele S. Darling
Executive Vice President, Human Resources
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Senior Executives
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YEARS OF SERVICE* NUMBER OF WEEKS
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1 OR LESS 6
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2 6
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3 9
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4 12
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5 15
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6 18
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7 21
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8 24
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9 27
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10 30
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11 33
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12 36
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13 39
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14 42
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15 45
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16 48
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17 51
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18 54
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19 57
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20 60
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21 63
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22 66
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23 69
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24 72
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25 75
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26 OR MORE 78
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*Service is based on adjusted service date as defined in Section 402(e) of the Prudential Retirement Plan, and rounded up to the next full year of service.
DRAFT 11/7/00 (5:00 PM)
SevPlanForSrExec2000Restatement11-7-00
EXHIBIT 21.1
Unless otherwise noted, the following are subsidiaries of The Prudential Insurance Company of America as of November 5, 2001 and the states or jurisdictions in which they are organized. In connection with the demutualization, The Prudential Insurance Company of America plans to "destack" or reorganize the ownership of various subsidiaries so that they become direct or indirect subsidiaries of Prudential Financial, Inc. rather than The Prudential Insurance Company of America. The destacking may be accomplished as an extraordinary dividend concurrently with, or within 30 days following, the demutualization. Destacking requires regulatory review separate from the approval required for demutualization, and, if it is disapproved prior to demutualization, we will proceed with the demutualization without the destacking or, subject to the appropriate regulatory approvals, with a partial destacking. After the destacking, the following will be subsidiaries of Prudential Financial, Inc.
Subsidiary State or Jurisdiction ----------- --------------------- 155 Bishopsgate Partners, LP Delaware, USA 745 Property Investments Massachusetts, USA Argus Capital (General Partner) Limited Jersey, Channel Islands Argus Capital International Limited England, UK Argus Capital Limited England, UK ARGUS Capital Partners II LP England, UK ARGUS Capital Partners III LP Jersey, Channel Islands ARGUS Capital Partners IV LP England, UK ARL Holdings, Inc Delaware, USA Asian Infrastructure Mezzanine Capital Fund Cayman Islands Asian Infrastructure Mezzanine Capital Management Company Limited Cayman Islands Asset Disposition Trust New Jersey, USA Bache and Co. (Lebanon) S.A.L. Lebanon |
Subsidiary State or Jurisdiction ---------- --------------------- Bache Insurance Agency Incorporated Massachusetts, USA Bache Insurance Agency of Alabama, Inc. Alabama, USA Bache, S.A. de C.V. Mexico Big Yellow Holdings Limited Bermuda Braeloch Holdings Inc. Delaware, USA Braeloch Successor Corporation Delaware, USA Bree Investments Limited Hong Kong Brighton Claims Services, LLC Delaware, USA Capital Agricultural Property Services, Inc. Delaware, USA CB Investment, LLC Delaware, USA China Homes (Teda) Property Consulting Services, Ltd. China China Homes Limited Bermuda Circle Housing Corporation d/b/a Circle Housing Corporation of Texas Delaware, USA Circle Nominees Limited England, UK Clivwell Securities Limited England, UK Commodity Administrative Services Inc. Delaware, USA Corcarr Nominees Pty Limited Australia Corporate America Realty, Inc. New Jersey, USA Corporate Relocation France France Country Road Communications, Inc. Delaware, USA Dryden Capital Management Limited England, UK Dryden Finance II, LLC Delaware, USA Dryden Finance, Inc. Delaware, USA Dryden Holdings Corporation Delaware, USA Enhanced Investment Technologies, Inc. New Jersey, USA EPP - LLC New Jersey, USA EPP GP England, UK Flor-Ag Corporation Florida, USA FountainGlen Properties, LLC Delaware, USA Gateway Holdings, Inc New Jersey, USA Gateway Holdings, S. A. Luxembourg Gateway South New Jersey, USA Gibraltar Corretora de Seguras Ltda. Brazil Gibraltar Hong Kong Holdings Hong Kong Gibraltar Properties, Inc Delaware, USA GRA (Bermuda) Limited Bermuda GRA (Singapore) Pte Ltd Singapore GRA (Bermuda) GP Limited Bermuda |
Subsidiary State or Jurisdiction ---------- --------------------- Graham Depository Company II Delaware, USA Graham Energy, Ltd. Louisiana, USA Graham Resources, Inc. Delaware, USA HHV Holdings, LLC Nevada, USA Hochman & Baker Insurance Services, Inc. Illinois, USA Hochman & Baker Investment Advisory Services, Inc. Illinois, USA Hochman & Baker Securities, Inc. Illinois, USA Hochman & Baker, Inc. Illinois, USA Human Resource Finance Company, Inc. Delaware, USA Industrial Properties (General Partner) II Limited England, UK Industrial Properties (General Partner) Limited England, UK Jennison Associates LLC Delaware, USA Karen Deane Relocation Limited England, UK Lapine Development Corporation California, USA Lapine Holding Company Delaware, USA Lapine Technology Corporation California, USA Lothian Fifty (592) LTD Scotland, UK Luddite Associates, GP Massachusetts, USA Merastar Corporation Maryland, USA Merastar Insurance Company Tennessee, USA Mexico Commodity Funding Corp. Delaware, USA Mexico Commodity Sourcing Corp. Delaware, USA ML/MSB Acquisition, Inc. Delaware, USA Northern Retail Properties (General Partner) Limited England, UK PAFM Investments (Singapore), Ltd. Singapore P-B Finance Ltd. Cayman Islands PB Financial Services, Inc. d/b/a PB Financial Services-Metals Division, d/b/a Prudential-Bache Financial Services-Metals Division Delaware, USA PBI Fund Managers Limited England, UK PBI Group Holdings Limited England, UK PBI Holdings Ltd. England, UK PBI Limited England, UK PBI Management Limited England, UK PBIB Holdings Limited England, UK PBT Home Equity Holdings, Inc. Georgia, USA PBT Mortgage Corporation Georgia, USA PCG Finance Company I, LLC Delaware, USA PCG Finance Company II, LLC Delaware, USA |
Subsidiary State or Jurisdiction ---------- --------------------- PCM International, Inc. New Jersey, USA Perseverance Associates, LP California, USA PGA Arlington Holdings Ltd. Bermuda PGA Asian Holdings Ltd. Bermuda PGA Asian Retail Limited Bermuda PGA European Holdings, Inc. Delaware, USA PGA European Limited Bermuda PGA FountainGlen, LLC Delaware, USA PGA Kilimanjaro I Luxembourg PGA Kilimanjaro II Luxembourg PGA Kilimanjaro Limited Bermuda PGA Safeguard I, LLC Delaware, USA PGAM Finance Corporation Delaware, USA PGR Advisors I, Inc. Delaware, USA PGR Advisors, Inc. Delaware, USA PHMC Services Corporation New Jersey, USA PIC Holdings Limited UK PIC Realty Canada Limited Canada PIC Realty Corporation Delaware, USA PIFM Holdco, Inc. Delaware, USA PIM Global Financial Strategies, Inc. New Jersey, USA PIM Warehouse, Inc. Delaware, USA PIMS Holding, LLC Delaware, USA PMCC Holding Company New Jersey, USA POK Securitization Specialty Company, Ltd. Korea PREI International, Inc. Delaware, USA Premier Select Ltd. British Virgin Islands PRICOA Capital Group Limited England, UK PRICOA Capital Management Limited England, UK Pricoa China (Residential) Limited Bermuda Pricoa China (Warehouse) Limited Bermuda PRICOA Funding Limited England, UK PRICOA GA Paterson, Ltd Bermuda PRICOA General Partner II (Co-Investment) Limited England, UK PRICOA General Partner II Limited Scotland, UK PRICOA General Partner Limited Scotland, UK PRICOA Investment Company UK PRICOA Management Partner Limited England, UK |
Subsidiary State or Jurisdiction ---------- --------------------- PRICOA Mezzanine Investment Co. England, UK PRICOA P.I.M. (Regulated) Limited England, UK PRICOA PanEuropean Investment Limited UK PRICOA Private Capital Partners ID LP UK PRICOA Private Capital Partners IID LP UK PRICOA Property Asset Management Limited England, UK PRICOA Property Investment Management Limited UK PRICOA Property PLC England, UK PRICOA Property Private Equity Limited England, UK PRICOA Relocation Europe Limited f/k/a CitiCapital Europe, Limited UK PRICOA Relocation Holdings Limited England, UK PRICOA Relocation Management Limited UK PRICOA Scottish General Partner II, LP Scotland, UK PRICOA Scottish General Partner LP Scotland, UK Pru 101 Market, LLC Delaware, USA Pru 101 Wood, LLC Delaware, USA Prubache Nominees Pty Limited Australia PRUCO Life Insurance Company Arizona, USA PRUCO Life Insurance Company of New Jersey New Jersey, USA Pruco Securities Corporation d/b/a Prudential Preferred Advisors New Jersey, USA PRUCO, Inc. New Jersey, USA Prudential Agricultural Credit, Inc. Tennessee, USA Prudential Apolo, Operadora de Sociedades de Inversion S.A. de C.V. Mexico Prudential Asia Fund Management Limited Hong Kong Prudential Asia Infrastructure Investors (HK) Limited Hong Kong Prudential Asia Infrastructure Investors Limited (BVI) British Virgin Islands Prudential Asia Investments Limited British Virgin Islands Prudential Asia Management Limited British Virgin Islands Prudential Asia Management Services Limited Hong Kong Prudential Asset Management Holding Company New Jersey, USA Prudential Asset Management Japan, Inc. Japan Prudential Asset Resources, Inc. Delaware, USA Prudential Asset, LLC Delaware, USA Prudential Bradesco-Seguros S.A. Brazil Prudential Brazilian Capital Fund Brazil Prudential Capital & Investment Services, LLC Delaware, USA |
Subsidiary State or Jurisdiction ---------- ---------------------- Prudential Capital Group, L.P. Delaware, USA Prudential Carbon Mesa, Inc. Delaware, USA Prudential Commercial Insurance Company Delaware, USA Prudential Community Interaction Consulting, Inc. d/b/a Prudential Community Interaction Consulting Delaware, USA Prudential Direct Insurance Agency of Alabama, Inc. Alabama, USA Prudential Direct Insurance Agency of Massachusetts, Inc Massachusetts, USA Prudential Direct Insurance Agency of New Mexico, Inc. New Mexico, USA Prudential Direct Insurance Agency of Ohio, Inc Ohio, USA Prudential Direct Insurance Agency of Wyoming, Inc. Wyoming, USA Prudential Direct, Inc. Georgia, USA Prudential Equity Investors, Inc. New York, USA Prudential Financial Advisors Securities, Company, Ltd. Japan Prudential Financial Capital Trust I Delaware, USA Prudential Financial Securities Investment Trust Enterprise Taiwan Prudential Funding, LLC New Jersey, USA Prudential General Agency of Ohio, Inc. Ohio, USA Prudential General Insurance Agency of Florida, Inc. Florida, USA Prudential General Insurance Agency of Indiana, Inc. Indiana, USA Prudential General Insurance Agency of Kentucky, Inc. Kentucky, USA Prudential General Insurance Agency of Massachusetts, Inc. Massachusetts, USA Prudential General Insurance Agency of Mississippi, Inc. Mississippi, USA Prudential General Insurance Agency of Nevada, Inc. Nevada, USA Prudential General Insurance Agency of New Mexico, Inc. New Mexico, USA Prudential General Insurance Agency of Wyoming, Inc. Wyoming, USA Prudential General Insurance Company Delaware, USA Prudential Global Funding, Inc Delaware, USA Prudential Holdings of Japan, Inc. Japan Prudential Holdings, LLC New Jersey, USA Prudential Home Building Investment Advisers, L.P. New Jersey, USA Prudential Home Building Investors, Inc. New Jersey, USA Prudential Homes Corporation d/b/a Prudential Relocation New York, USA Prudential Human Resources Management Company, Inc Delaware, USA |
Subsidiary State or Jurisdiction ---------- --------------------- Prudential Huntoon Paige Associates, Ltd. Delaware, USA Prudential IBH Holdco, Inc. Delaware, USA Prudential Insurance Brokerage, Inc. d/b/a Prudential Insurance Service Agency d/b/a, Prudential Home Choice d/b/a, Prudential Service Insurance Agency Arizona, USA Prudential International Insurance Holdings, Ltd. Delaware, USA Prudential International Insurance Service Company Delaware, USA Prudential International Investments Corporation Delaware, USA Prudential International Investments Financial, Inc. New Jersey, USA Prudential International Investments Services Corporation Delaware, USA Prudential Investment Management Services LLC Delaware, USA Prudential Investment Management, Inc. d/b/a PRG Prudential Realty Group, Prudential Personal Investment Counsel, Prudential Real Estate Securities Investors, The Prudential Capital Markets Group, The Prudential Realty Group, The Prudential Realty Group, Inc. New Jersey, USA Prudential Investment Management (Japan), Inc. Delaware, USA Prudential Investments LLC New York, USA Prudential Investments Japan Co. Japan Prudential Japan Holdings Inc. Delaware, USA Prudential Latin American Investments, Ltd. Cayman Islands Prudential Life Insurance Company of Taiwan Inc. Taiwan Prudential Mexico, LLC Delaware, USA Prudential Mortgage Asset Corporation II Delaware, USA Prudential Mortgage Capital Asset Holding Company, LLC Delaware, USA Prudential Mortgage Capital Company I, LLC Delaware, USA Prudential Mortgage Capital Company II, LLC Delaware, USA Prudential Mortgage Capital Company, Inc. Delaware, USA Prudential Mortgage Capital Company, LLC Delaware, USA Prudential Mortgage Capital Funding, LLC Delaware, USA Prudential Mortgage Capital Holdings Corporation Delaware, USA Prudential Multi Family Asset Holding Company I, LLC Delaware, USA Prudential Multifamily Mortgage, Inc. Delaware, USA Prudential Mutual Fund Distributors, Inc. Delaware, USA Prudential Mutual Fund Services LLC New York, USA |
Subsidiary State or Jurisdiction ---------- --------------------- Prudential P&C Holdings, Inc. Delaware, USA Prudential Private Placement Investors L.P. Delaware, USA Prudential Private Placement Investors, Inc. New Jersey, USA Prudential Property and Casualty General Agency, Inc. Texas, USA Prudential Property and Casualty Insurance Company Indiana, USA Prudential Real Estate Affiliates of Canada Ltd. Canada Prudential Realty Securities II, Inc. Delaware, USA Prudential Realty Securities, Inc Delaware, USA Prudential Referral Services, Inc. Delaware, USA Prudential Relocation, LTD Canada Prudential Relocation, S. de R.L. de C.V. Mexico Prudential Relocation Canada, Ltd. Canada Prudential Relocation, Inc. f/k/a CitiCapital Relocation, Inc. Colorado, USA Prudential Relocation of Texas, Inc. Texas, USA Prudential Residential Services, Limited Partnership d/b/a Moran, Stahl & Boyer, Moran, Stahl & Boyer Limited Partnership d/b/a, Prudential Relocation d/b/a, Prudential Relocation Intercultural Services, Limited Partnership d/b/a, Prudential Relocation Limited Partnership d/b/a, Prudential Relocation, Limited Partnership, Prudential Resources Management d/b/a, Prudential Resources Management, Limited Partnership Delaware, USA Prudential Resources Management Asia Limited Hong Kong Prudential Securities (Argentina) Incorporated Delaware, USA Prudential Securities (Brasil) Ltda. Brazil Prudential Securities (Chile) Inc. Delaware, USA Prudential Securities (Japan) Limited Delaware, USA Prudential Securities (Montevideo) Usuaria de Zona Franca S.A. Uruguay Prudential Securities (Taiwan) Co., Ltd. Taiwan Prudential Securities (Uruguay) S.A. Uruguay Prudential Securities CMO Issuer Inc. Delaware, USA Prudential Securities Credit Corp., LLC d/b/a Prudential Securities Realty Funding Delaware, USA Prudential Securities Foundation New York, USA Prudential Securities Futures Management Inc. Delaware, USA Prudential Securities Group Inc. Delaware, USA |
Subsidiary State or Jurisdiction ---------- --------------------- Prudential Securities Incorporated Delaware, USA Prudential Securities Insurance Agency of Puerto Rico, Inc. Puerto Rico, USA Prudential Securities Investing Consulting (Taiwan) Co., Ltd. Taiwan Prudential Securities Municipal Derivatives, Inc. Delaware, USA Prudential Securities Secured Financing Corporation Delaware, USA Prudential Securities Structured Assets, Inc. Delaware, USA Prudential Segurous, S.A. Argentina Prudential Select Holdings, Inc. Delaware, USA Prudential Select Life Insurance Company of America Minnesota, USA Prudential Texas Residential Services Corporation Texas, USA Prudential Timber Investments, Inc. New Jersey, USA Prudential Trust Company Pennsylvania, USA Prudential-Bache Capital Funding BV Netherlands Prudential-Bache Corporate Directors Services, Inc. Cayman Islands Prudential-Bache Corporate Trustee Services, Inc. Cayman Islands Prudential-Bache Energy Corp. Delaware, USA Prudential-Bache Energy Production Inc. Delaware, USA Prudential-Bache Finance (Hong Kong) Limited Hong Kong Prudential-Bache Funding Limited England, UK Prudential-Bache Futures (Hong Kong) Limited Hong Kong Prudential-Bache Futures Asia Pacific Ltd. Delaware, USA Prudential-Bache Global Markets Inc. Delaware, USA Prudential-Bache Holdings Limited England, UK Prudential-Bache International (Hong Kong) Limited Hong Kong Prudential-Bache International (UK) Limited England, UK Prudential-Bache International Bank Limited UK Prudential-Bache International Banking Corporation New York, USA Prudential-Bache International Limited UK Prudential-Bache International Trust Company (Cayman) Cayman Islands Prudential-Bache Leasing Inc. Delaware, USA Prudential-Bache Limited England, UK Prudential-Bache Management GmbH Germany Prudential-Bache Metals GmbH & Co. KG Germany Prudential-Bache Nominees (Hong Kong) Limited Hong Kong Prudential-Bache Nominees Limited England, UK Prudential-Bache Nominees Pty. Ltd. Australia |
Subsidiary State or Jurisdiction ---------- --------------------- Prudential-Bache Program Services Inc. New York, USA Prudential-Bache Properties, Inc. d/b/a VMS National Hotel Delaware, USA Prudential-Bache Securities (Australia) Limited Australia Prudential-Bache Securities (Germany) Inc. Delaware, USA Prudential-Bache Securities (Holland) Inc. Delaware, USA Prudential-Bache Securities (Hong Kong) Limited Hong Kong Prudential-Bache Securities (Switzerland) Inc. Delaware, USA Prudential-Bache Securities (U.K.) Inc. UK Prudential-Bache Securities Agencia de Valores S.A. Spain Prudential-Bache Securities Asia Pacific Ltd. New York, USA Prudential-Bache Trade Services Inc. Delaware, USA Prudential-Bache Transfer Agent Services, Inc. New York, USA Prumerica Global Asset Management Company S.A. Luxembourg Prumerica International Real Estate and Relocation Services, Limited Bermuda Prumerica Investment Management Company S.A. Luxembourg Prumerica Life S.P.A Italy Prumerica Marketing S.r.l. Italy Prumerica Systems Ireland Limited Ireland Prumerica Towarzystwo Ubezpieczen na Zycie Spolka Akcyjna Poland PruServicos Participacoes S.A. Brazil PSI Partners Inc. Nevada, USA PTC Services, Inc. New Jersey, USA Quick Serve Auto Agency Texas, USA Residential Information Services Limited Partnership Delaware, USA Residential Information Services, Inc. Delaware, USA Residential Services Corporation of America Delaware, USA Safeguard Storage Properties, LLC Delaware, USA SCL Holdings China Seaport Futures Management, Inc. Delaware, USA Securitized Asset Sales, Inc. Delaware, USA SMP Holdings, Inc Delaware, USA South Downs Properties (General Partner) Ltd. England, UK South Downs Trading Properties (General Partner) Ltd. England, UK SouthStreet Software, L.L.C. Delaware, USA SVIIT Holdings, Inc. Delaware, USA The Gibraltar Life Insurance Company, Ltd. Japan |
The Prudential Asset Management Company Inc. d/b/a Prudential Defined Contribution Services New Jersey, USA The Prudential Assigned Settlement Services Corp. New Jersey, USA The Prudential Bank and Trust Company d/b/a The Prudential Georgia, USA Trust Company The Prudential Commercial Insurance Company of Delaware Delaware, USA The Prudential Commercial Insurance Company of New Jersey New Jersey, USA The Prudential General Insurance Company of New Jersey New Jersey, USA The Prudential Home Mortgage Company, Inc. New Jersey, USA The Prudential Home Mortgage Securities Company, Inc. Delaware, USA The Prudential Insurance Company of America New Jersey, USA The Prudential Life Insurance Company of Korea, Ltd. Korea The Prudential Life Insurance Company, Ltd. Japan The Prudential Property and Casualty Insurance Company of New Jersey New Jersey, USA The Prudential Property and Casualty New Jersey Holdings, Inc. New Jersey, USA The Prudential Property and Casualty New Jersey New Jersey, USA Insurance Brokerage, Inc. The Prudential Real Estate Affiliates, Inc. d/b/a Delaware, USA Prudential Real Estate and Relocation Services, Prudential Real Estate and Relocation Solutions, The Prudential Real Estate Affiliates, Inc. The Prudential Real Estate Financial Services Of America, Inc. California, USA The Prudential Savings Bank, F.S.B. USA The Prumerica Life Insurance Company, Inc. Philippines The Relocation Freight Corporation of America California, USA The Robert C. Wilson - Arizona Arizona, USA The Robert C. Wilson Company Texas, USA The Structured Finance Yield Fund, LLC Delaware, USA THI Holdings (Delaware) Inc. Delaware, USA Titan Auto Agency, Inc. Michigan, USA Titan Auto Insurance Nevada, USA Titan Auto Insurance of Arizona, Inc. Arizona, USA Titan Auto Insurance of New Mexico, Inc. New Mexico, USA Titan Auto Insurance of Pennsylvania, Inc. Pennsylvania, USA Titan Auto Insurance, Inc. Colorado, USA |
Titan Holdings Service Corporation Texas, USA Titan Indemnity Company Texas, USA Titan Insurance Company Michigan, USA Titan Insurance Services, Inc. Texas, USA Titan National Auto Call Center, Inc. Texas, USA TransEuropean Properties (General Partner) II Limited England, UK TransEuropean Properties (General Partner) Limited England, UK TRGOAG Company, Inc. Delaware, USA U.S. High Yield Management Company, Inc. New Jersey, USA Vector Securities International, Inc. Delaware, USA Victoria Automobile Insurance Company Indiana, USA Victoria Financial Corporation Delaware, USA Victoria Fire & Casualty Company Ohio, USA Victoria Insurance Agency Ohio, USA Victoria National Insurance Company Ohio, USA Victoria Select Insurance Company Ohio, USA Victoria Specialty Insurance Company Ohio, USA Volpe Brown Whelan & Company, LLC Delaware, USA W.I. of Florida Inc. Florida, USA Wexford Clearing Services Corporation Delaware, USA WHI of New York, Inc. New York, USA Whitehall Holdings, Inc. Texas, USA Whitehall Insurance Agency of Texas, Inc. Texas, USA Whitehall of Indiana, Inc. Indiana, USA WMF ComQuote, Inc Delaware, USA WMF Funding Corporation Delaware, USA Worldview Technology Partners IV, LP USA XBW Acquisition Corp. Delaware, USA |
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the use in this Amendment No. 4 to the Registration Statement on Form S-1 of our reports dated March 13, 2001, except for Note 18, as to which the date is April 2, 2001, relating to the financial statements and financial statement schedules of The Prudential Insurance Company of America, which appear in such Registration Statement. We also consent to the use in this Registration Statement on Form S-1 of our report dated November 12, 2001 relating to the statement of financial position of Prudential Financial, Inc., which appears in such Registration Statement. We also consent to the reference to us under the heading "Experts" in such Registration Statement.
/s/ PricewaterhouseCoopers LLP New York, New York November 14, 2001 |
EXHIBIT 23.4
[LETTERHEAD OF MILLIMAN USA]
November 14, 2001
RE: The Prudential Insurance Company of America
Consent of Milliman USA
We consent to the use in the registration statement of Mr. McCarthy's opinion letter dated December 12, 2000, as Annex A to the prospectus and to the references made to Mr. McCarthy, to such letter and to Milliman USA under the captions "Unaudited Pro Forma Condensed Consolidated Financial Information", "Demutualization and Related Transactions" and "Experts".
Milliman USA
/s/ Steven I. Schreiber
By: _________________________________
|
Steven I. Schreiber, M.A.A.A.
Principal
New York, New York
November 14, 2001
EXHIBIT 23.5
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the use in this Amendment No. 4 to the Registration Statement on Form S-1 of our report dated August 10, 2001 relating to the statement of financial position of Gibraltar Life Insurance Company, Ltd., which appears in such Registration Statement.
/s/ PricewaterhouseCoopers Tokyo, Japan November 14, 2001 |