UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K
Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Date of Report: December 31, 2002
LINCOLN NATIONAL CORPORATION
(Exact name of registrant as specified in its charter)
Indiana 1-6028 35-1140070
(State of Incorporation) (Commission File Number) (I.R.S. Employer Identification No.)
1500 Market Street, Suite 3900, Centre Square West Tower, Philadelphia, PA 19102
(Address of principal executive offices)
Registrant's telephone number 215-448-1400
Item 9
Updated Guidance for Estimated Effect of Equity Market Volatility.
Lincoln National Corporation
First Quarter 2003 Guidance for the Estimated Effect of Equity
Market Volatility
In prior periods, Lincoln National Corporation ("LNC") provided guidance on
the estimated effect of equity market volatility on its 2002 results. The
following guidance is being provided for purposes of modeling the expected
effects of equity market volatility for the first quarter 2003. As will be
explained in greater detail below, the effects on LNC's results of
significant volatility in equity markets are complex and are not expected
to be proportional for market increases and market decreases. The first
quarter 2003 information provided below is based upon market conditions and
LNC's mix of business as of the beginning of the year. This guidance can
be expected to change as actual circumstances change. Although LNC
believes this guidance provides reasonable estimates based upon conditions
as of January 1, 2003, LNC claims no responsibility for updating this
forward-looking information.
This guidance is intended to provide a general indication of the expected
effect of equity market volatility on LNC's fee income; deferred
acquisition costs ("DAC") and present value of in-force ("PVIF") intangible
assets; and guaranteed minimum death benefit ("GMDB") reserves. Excluded
from this guidance is the effect that equity market changes may have upon
LNC's realized and unrealized gains and losses on investments, and
intangible assets, other than DAC and PVIF. For example, write-downs for
impairment of goodwill and deferred dealer commission assets may be
necessary under certain market conditions. These matters are not included
within the guidance provided in this document.
Market Indices Used For Modeling LNC's Various Operating Segments
In measuring the estimated effects of changes in equity markets on its
Retirement segment, LNC uses the S&P 500 index. LNC has generally found
that the S&P 500 index is reasonably correlated to the effect of overall
equity markets performance on this segment's account values. Because LNC's
fee income earned on its variable annuity business is determined daily, the
change in the S&P 500 on a daily average basis relative to the level of the
S&P 500 at the beginning of each quarter provides a reasonable indication
of the impact quarterly changes in equity markets have on the Retirement
segment's fee income. Because end of period account values are used for
computing DAC unlocking and for incurred GMDB costs, the end of period
change in the S&P 500 is used in measuring the estimated market impact of
DAC unlocking and for the impact associated with incurred GMDB costs. In
addition, because DAC and GMDB calculations have an assumed 9% positive
annual equity market return, or a 2.25% quarterly assumption, variances in
actual market performance relative to these calculation assumptions will
generate positive or negative DAC unlocking and GMDB adjustments.
It is important to understand that the actual effect on fee income of
market changes in the current quarter of an equity market change and the
effect in the immediately following quarter will not be equal to a pro-rata
25% of the estimated annualized effect of the market change. This is due
to the fact that the actual change in fee income in the immediate quarter
during which the market changes is measured by the change in actual
variable account values from the beginning of the quarter compared to the
average balance of variable account values for the quarter. The change in
fee income due to the change from average account values to ending account
values does not occur in the immediate quarter of the market change;
rather, that change in fee income will occur in the quarter following the
market change. LNC estimates that this lagging effect for the fourth
quarter 2002 equity markets change will create a decrease of $0.5 million
in the first quarter of 2003, because average account values for the fourth
quarter of 2002 exceeded the level of ending account values at December 31,
2002.
LNC also uses the S&P 500 index when describing the general effects of
changes in equity markets for the Life Insurance segment. For the Lincoln
UK segment, the FTSE 100 index provides a reasonable measure for
approximating the effect of equity markets performance on earnings. LNC
estimates that the lagging effect for the fourth quarter 2002 equity
markets change will create a decrease of $0.1 million in fee income for
Lincoln UK in the first quarter of 2003, because average account values for
the fourth quarter of 2002 exceeded the level of ending account values at
December 31, 2002.
Additional market indices are used in measuring the effects of the market
on the results of LNC's Investment Management segment. All of the relevant
equity market indices (S&P, NASDAQ and MSCI EAFE) declined during the third
quarter, ranging from a 19.9% NASDAQ decline to a 19.7% decline in the MSCI
EAFE index. The fourth quarter increases were a 13.9% increase in the
NASDAQ and a 6.5% increase in the MSCI EAFE index. The ongoing effect of
the fourth quarter equity markets increase is expected to be a $0.1
million increase in the first quarter of 2003.
Illustrative Scenarios
The following discussion concerning the estimated effects of ongoing equity
market volatility on LNC's earnings is intended to be illustrative. Actual
effects may vary depending on a variety of factors, many of which are
outside of LNC's control, such as changing customer behaviors that might
result in changes in the mix of LNC's business between variable or fixed
annuity contracts, switching between investment alternatives available
within variable products, or changes in policy lapsation rates. The
relative effects shown in the illustrative scenarios presented below should
not be considered to be indicative of the proportional effects on earnings
that more significant changes in equity markets may generate. Such
non-proportional effects include those discussed earlier, such as incurred
GMDB costs and DAC unlocking.
Since the effects of continued equity market volatility is complex and
subject to a variety of estimates and assumptions, such as assumed rates of
long-term equity market performance, it is difficult to provide information
that can be reliably applied to predict earnings effects over a broad range
of equity markets performance alternatives. But in an effort to provide
some insight into these matters, LNC has provided below illustrative
examples of the effects that equity market volatility might be expected to
have on LNC's earnings. The underlying assumptions regarding these
illustrations are as follows:
1) The first scenario assumes that equity markets remain unchanged from
their respective levels at December 31, 2002 through the first quarter of
2003.
2) The second scenario assumes that from December 31, 2002 through the end
of the first quarter of 2003 equity markets increase smoothly by 2.5%.
3) The third scenario assumes that from December 31, 2002 through the end
of the first quarter of 2003 equity markets decline smoothly by 2.5%.
As the above assumptions indicate, actual equity market changes that may
have occurred since December 31, 2002 up to the date of issuance of this
guidance are not being considered; rather, the examples that follow are
provided to illustrate the effects of a hypothetical change in equity
markets from December 31, 2002. The following tables are examples of the
estimated effects on earnings that might be expected for each of these
scenarios.
Scenario #1:
No change in equity markets from December 31, 2002 through March 31, 2003.
Estimated Effect on First Quarter of 2003 Results- (Million $):
Market Ongoing
Effects Effects of Current Total
Reported Market Effects in Effect in
in Fourth Changes First First
Segment Quarter from Q402 Quarter Quarter
2002 on Q103 2003 2003
Retirement Fees Q1
Effect* $- $- $- $-
Fees Q4
Effect* $2.8 $(0.5) $- $(0.5)
Total Fee
Income $2.8 $(0.5) $- $(0.5)
Other $- $- $- $-
GMDB $2.5 $- $(5.9) $(5.9)
DAC $0.6 $- $- $-
Retirement Total Effect $5.9 $(0.5) $(5.9) $(6.4)
Life
Insurance Total Effect $0.6 $- $(0.2) $(0.2)
Investment
Management Total Effect $1.4 $0.1 $- $0.1
Lincoln UK Fee Income* $0.5 $(0.1) $- $(0.1)
DAC/PVIF $1.4 $- $(0.9) $(0.9)
Lincoln UK Total Effect $1.9 $(0.1) $(0.9) $(1.0)
LNC Total Total Effect $9.8 $(0.5) $(7.0) $(7.5)
* Differences exist in the market change effect on fee income for the
current quarter, as compared to the ongoing quarterly effect, because the
change in fee income in the immediate quarter is determined by the change
in beginning variable account balances to average variable account balances
for the current quarter. The change in fee income in the next subsequent
quarter is determined by the change in average account values to ending
variable account values that occurred due to the market changing in the
preceding quarter. However, in all following quarters, the ongoing effect
of changes in the market occurring in the current quarter will be
determined by the difference in beginning of quarter to end of quarter
variable account balances. For purposes of this guidance, the change in
account values is assumed to correlate with the change in the relevant
index.
Scenario #2:
2.5% increase in equity markets from December 31, 2002 to March 31, 2003
occurs smoothly during the quarter.
Estimated Effect on First Quarter of 2003 Results- (Million $):
Market Ongoing
Effects Effects of Current Total
Reported Market Effects in Effect in
in Fourth Changes First First
Segment Quarter from Q402 Quarter Quarter
2002 on Q103 2003 2003
Retirement Fees Q1
Effect* $- $- $0.6 $0.6
Fees Q4
Effect* $2.8 $(0.5) $- $(0.5)
Total Fee
Income $2.8 $(0.5) $0.6 $0.1
Other $- $- $- $-
GMDB $2.5 $- $(3.9) $(3.9)
DAC $0.6 $- $- $-
Retirement Total Effect $5.9 $(0.5) $(3.3) $(3.8)
Life
Insurance Total Effect $0.6 $- $- $-
Investment
Management Total Effect $1.4 $0.1 $0.4 $0.5
Lincoln UK Fee Income* $0.5 $(0.1) $0.1 $-
DAC/PVIF $1.4 $- $0.1 $0.1
Lincoln UK Total Effect $1.9 $(0.1) $0.2 $0.1
LNC Total Total Effect $9.8 $(0.5) $(2.7) $(3.2)
* See * under Scenario #1 for explanation.
Scenario #3:
2.5% decline in equity markets from December 31, 2002 to March 31, 2003
occurs smoothly during the quarter.
Estimated Effect on First Quarter of 2003 Results- (Million $):
Market Ongoing
Effects Effects of Current Total
Reported Market Effects in Effect in
in Fourth Changes First First
Segment Quarter from Q402 Quarter Quarter
2002 on Q103 2003 2003
Retirement Fees Q1
Effect* $- $- $(0.6) $(0.6)
Fees Q4
Effect* $2.8 $(0.5) $- $(0.5)
Total Fee
Income $2.8 $(0.5) $(0.6) $(1.1)
Other $- $- $(0.6) $(0.6)
GMDB $2.5 $- $(10.7) $(10.7)
DAC $0.6 $- $(2.4) $(2.4)
Retirement Total Effect $5.9 $(0.5) $(14.3) $(14.8)
Life
Insurance Total Effect $0.6 $- $(0.5) $(0.5)
Investment
Management Total Effect** $1.4 $0.1 $(0.4) $(0.3)
Lincoln UK Fee Income* $0.5 $(0.1) $(0.1) $(0.2)
DAC/PVIF $1.4 $- $(1.9) $(1.9)
Lincoln UK Total Effect $1.9 $(0.1) $(2.0) $(2.1)
LNC Total Total Effect $9.8 $(0.5) $(17.2) $(17.7)
* See * under Scenario #1 for explanation.
** The above table excludes the impact from an impairment of the deferred
dealer commission asset within the Investment Management segment, which, in
the event of a 10% decline in equity markets from December 31, 2002 levels
could range from a loss of $8.1 million to $12.4 million after-tax with the
application of using assumed discount rates ranging between 10 to 18% for
purposes of measuring the fair value of the deferred dealer commission
asset.
Estimated Effect of Each One-Percent Change in Equity Markets
The above examples are based upon the estimated annual effect on earnings
for each one-percentage point change in relevant equity market indices.
Taking one-fourth of this annual estimate will generate the expected effect
of the equity market change on quarterly earnings, with the exception of
DAC unlocking and GMDB incurred cost calculations where the effect is fully
reflected in one quarter. The estimated annual effect in millions of
dollars per one-percentage change and the changes in each of the relevant
market indices used in the above examples, are listed in the following
table.
----------------------------------------------------------------------------------------------------------
2.50% increase 2.50% decline in
Segment and No Change in in First Quarter First Quarter
Effect Relevant Measure Market 2003 2003
----------------------------------------------------------------------------------------------------------
Retirement - Fee Ave Daily Change in S&P $2.0 M x 0.0 $2.0 M x 1.25 $2.0 M x (1.25)
Income 500
----------------------------------------------------------------------------------------------------------
Retirement - Other Actual Change in S&P 500 $0.5 M x 0.0 $0.5 M x 0.25 $0.5 M x (4.75)
Items vs. Expected
----------------------------------------------------------------------------------------------------------
Retirement - GMDB Actual Change in S&P 500 ($5.9M) ($5.9M)+ $0.8 ($5.9M) + ($1.9
Incurred Costs vs. Expected M x 2.5 M) x (2.5)
----------------------------------------------------------------------------------------------------------
Retirement - DAC Actual Change in S&P 500 $0.0 M x 0.0 $0.0 M x 0.25 $0.5 M x (4.75)
vs. Expected
----------------------------------------------------------------------------------------------------------
Life Insurance - DAC Actual Change in S&P 500 $0.11 M x $0.11 M x 0.25 $0.11 M x (4.75)
vs. Expected (2.25)
----------------------------------------------------------------------------------------------------------
Investment Blend of Market Indices $0.6 M x 0.0 $0.6 M x 2.5 $0.6 M x (2.5)*
Management - Total *
----------------------------------------------------------------------------------------------------------
Lincoln UK - Fee Ave Daily Change in FTSE $0.2 M x 0.0 $0.2 M x 1.25 $0.2 M x (1.25)
Income 100
----------------------------------------------------------------------------------------------------------
Lincoln UK - Actual Change in FTSE $0.4 M x (2.25) $0.3 M x 0.25 $0.4 M x (4.75)
DAC/PVIF 100 vs. Expected Change
----------------------------------------------------------------------------------------------------------
* The above table excludes the impact from an impairment of the deferred
dealer commission asset within the Investment Management segment. An 8%
decline in equity markets from December 31, 2002 levels may trigger a loss,
which would range from $8.0 million to $12.3 million after-tax with the
application of using assumed discount rates ranging between 10 to 18% for
purposes of measuring the fair value of the deferred dealer commission
asset. The balance of the deferred dealer commission asset as of December
31, 2002 was $53 million.
Sensitivity Factors for Retirement Segment
As the above table indicates, the annual effect of a one percent change in
equity markets varies depending upon the severity of the change. Presented
below are estimated one million dollar effects for various market changes
that are currently used by LNC in modeling the Retirement segment. These
estimated effects are subject to ongoing modification, as they are
particularly sensitive to the mix of business and to the actual level of
variable account balances.
The following table provides the annual effect for changes in equity
markets for the Retirement segment related to fee income and other:
($Millions for each 1% Change in Relevant Market Index)
----------------------------------------------------------------------------------------------------------
20% + 11 - 20% 6 - 10% 1 to 5% No 1 to 5% 6 - 10% 11% +
Decline Decline Decline Decline Change Increase Increase
----------------------------------------------------------------------------------------------------------
Fee Income (1.6) (1.8) (1.9) (2.0) - 2.0 2.1 2.2
----------------------------------------------------------------------------------------------------------
Other (0.5) (0.5) (0.5) (0.5) - 0.5 0.5 0.5
----------------------------------------------------------------------------------------------------------
The estimated annual effects indicated in the table above are applicable
for the first quarter of 2003. For example, assume an estimate is being
computed for the quarterly effect on Retirement fee income due to a 2.50%
increase in the markets occurring in the first quarter of 2003. In this
example, the expected quarterly effect of a first quarter 2.50% increase is
estimated as: ($2.0*1.25/4) = $0.625 million.
The table provided below contains information for use in estimating the
first quarter 2003 effect for changes in equity markets for the Retirement
segment related to GMDB and DAC. For GMDB, quarterly results will include a
reserve adjustment. This is due to the fact that LNC has established the
GMDB reserves net of anticipated future GMDB fee revenues. As a result, an
adjustment will be required to increase GMDB reserves during periods where
a GMDB Net Amount At Risk exists. Based upon the Net Amount At Risk for
GMDB at December 31, 2002, the first quarter 2003 GMDB reserve adjustment
is estimated at $5.9 million (included in the no change column in the table
below).
($Millions for each 1% Change in Relevant Market Index)
----------------------------------------------------------------------------------------------------------
20% + 11 - 20% 6 - 10% 1 to 5% No 1 to 5% 6 - 10% 11% +
Decline Decline Decline Decline Change Increase Increase
----------------------------------------------------------------------------------------------------------
GMDB (2.7) (2.3) (2.1) (1.9) (5.9) 0.8 1.0 1.3
----------------------------------------------------------------------------------------------------------
DAC (0.9) (0.6) (0.6) (0.5) - - 0.3 0.4
----------------------------------------------------------------------------------------------------------
The estimated quarterly effects indicated in the table above are applicable
for the first quarter of 2003. For example, assume an estimate is being
computed for the quarterly effect on Retirement's GMDB reserve due to a
2.5% increase in the equity markets occurring in the first quarter of 2003.
The estimated quarterly effect is calculated as follows: $(5.9) + 0.8*2.5 =
$(3.9) million.
Forward-Looking Statements - Cautionary Language
The preceding information discusses factors that may affect future
financial performance. Certain statements contained in this document
are "forward-looking statements" within the meaning of the Securities
Litigation Reform Act of 1995 (the "Act"). Forward-looking statements
include, without limitation, any statement that may predict, forecast,
indicate or imply future results, performance or achievements, and may
contain words like: "believe", "anticipate", "expect", "estimate",
"project", "will", "shall" and other words or phrases with similar
meaning.
Forward-looking statements involve risks and uncertainties that may
cause actual results to differ materially from the results contained in
the forward-looking statements. These risks and uncertainties include,
among others, subsequent significant changes in: the Company (e.g.,
acquisitions and divestitures of legal entities and blocks of business -
directly or by means of reinsurance transactions); financial markets
(e.g., interest rates and securities markets); competitors and competing
products and services; LNC's ability to operate its businesses in a
relatively normal manner; legislation (e.g., corporate, individual,
estate and product taxation); the price of LNC's stock; accounting
principles generally accepted in the United States; regulations (e.g.,
insurance and securities regulations); and debt and claims-paying
ratings issued by nationally recognized statistical rating
organizations.
Other risks and uncertainties include: the risk that significant
accounting, fraud or corporate governance issues may adversely affect
the value of certain investments; whether necessary regulatory approvals
are obtained (e.g., insurance department, Hart-Scott-Rodino, etc.) and,
if obtained, whether they are obtained on a timely basis; whether
proceeds from divestitures of legal entities and blocks of business can
be used as planned; litigation, arbitration and other actions (e.g., (a)
adverse decisions in significant actions including, but not limited to
extra contractual and class action damage cases, (b) new decisions which
change the law, (c) unexpected trial court rulings, (d) unavailability
of witnesses and (e) newly discovered evidence); acts of God (e.g.,
hurricanes, earthquakes and storms); whether there will be any
significant charges or benefits resulting from the contingencies
described in the footnotes to LNC's consolidated financial statements;
acts of terrorism or war; the stability of governments in countries in
which LNC's subsidiaries do business; and other insurance risks (e.g.,
policyholder mortality and morbidity).
The risks included here are not exhaustive. LNC's annual reports on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and
other documents filed with the Securities and Exchange Commission
include additional factors which could impact LNC's business and
financial performance. Moreover, LNC operates in a rapidly changing and
competitive environment. New risk factors emerge from time to time and
it is not possible for management to predict all such risk factors.
Further, it is not possible to assess the impact of all risk factors on
LNC's business or the extent to which any factor, or combination of
factors, may cause actual results to differ materially from those
contained in any forward-looking statements. Given these risks and
uncertainties, investors should not place undo reliance on
forward-looking statements as a prediction of actual results or a
projection of earnings. In addition, LNC disclaims any obligation to
update any forward-looking statements to reflect events or circumstances
that occur after the date of this report.