-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Dnr5KSxDvf3sw6hMqYiqjPEebNpeR9bXOH/ccyzWnH/Iujg6milv5L3LOikYkQtm Upoq7RjfAo3ME+YUnRnfBg== 0000050982-97-000002.txt : 19970329 0000050982-97-000002.hdr.sgml : 19970329 ACCESSION NUMBER: 0000050982-97-000002 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970328 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: INTERCONTINENTAL LIFE CORP CENTRAL INDEX KEY: 0000050982 STANDARD INDUSTRIAL CLASSIFICATION: LIFE INSURANCE [6311] IRS NUMBER: 221890938 STATE OF INCORPORATION: NJ FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-07288 FILM NUMBER: 97567027 BUSINESS ADDRESS: STREET 1: THE AUSTIN CENTRE STREET 2: 701 BRAZOS 12TH FL CITY: AUSTIN STATE: TX ZIP: 78701 BUSINESS PHONE: 5124045050 MAIL ADDRESS: STREET 1: 701 BRAZOS STE 1400 STREET 2: ATTN KELLYE S SEEKATZ CITY: AUSTIN STATE: TX ZIP: 78701 FORMER COMPANY: FORMER CONFORMED NAME: INTERCONTINENTAL FINANCIAL CORP DATE OF NAME CHANGE: 19781019 FORMER COMPANY: FORMER CONFORMED NAME: INTERCONTINENTAL LIFE CO DATE OF NAME CHANGE: 19600201 10-K 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED) For the fiscal year ended December 31, 1996 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED) For the transition period from to Commission File Number 0-7288 INTERCONTINENTAL LIFE CORPORATION (Exact name of registrant as specified in its charter) New Jersey 22-1890938 (State of Incorporation) (I.R.S. Employer identification number) 701 Brazos, Suite 1400, Austin, Texas 78701 (Address of Principal Executive Offices) (Zip Code) (512) 404-5050 (Registrant's Telephone Number) Securities Registered pursuant to Section 12(b) of the Act: None Securities Registered pursuant to Section 12(g) of the Act: Common Stock, $.22 par value (Title of Class) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days. YES X NO The aggregate market value of the voting stock held by non-affiliates of the Registrant on March 14, 1997, based on the closing sales price in The Nasdaq Small-Cap Market ($14.50 per share), was $31,302,753. As of March 14, 1997, Registrant had 4,258,829 shares of its Common Stock outstanding (excluding shares held in Treasury and not entitled to vote). Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulations S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] PART I Item 1. Business General InterContinental Life Corporation ("ILCO", the "Company" or the "Registrant") was incorporated in 1969 under the laws of the State of New Jersey. Its executive offices are located at 701 Brazos, Suite 1400, Austin, Texas 78701. The Company is principally engaged, through its subsidiaries, in administering existing portfolios of life insurance policies, credit life and disability insurance policies and annuity products. It also administers an in-force book of health insurance business. The Company's insurance subsidiaries are also engaged in the business of marketing and underwriting individual life insurance and annuity products in 49 states and the District of Columbia. Such products are marketed through independent, non-exclusive general agents. The Company is controlled by Financial Industries Corporation ("FIC"), a life insurance holding company, through FIC's ownership of approximately 46% of the Company's outstanding Common Stock. FIC also holds options to acquire additional shares, which, if exercised, would result in FIC's owning approximately 61.5% of the Company's outstanding shares. FIC, ILCO and their insurance subsidiaries have substantially identical managements, and a majority of the directors of ILCO are also directors of FIC and ILCO's and FIC's insurance subsidiaries. Officers allocate their time between ILCO and FIC in accordance with the comparative requirements of both companies and their subsidiaries. Roy F. Mitte, Chairman, President and Chief Executive Officer of FIC, the Company and their insurance subsidiaries, owns approximately 34% of the outstanding shares of FIC's common stock. FIC owns Family Life Insurance Company, a Washington domiciled underwriter of mortgage protection life insurance. The Company was organized in 1969 to be the publicly owned holding company for InterContinental Life Insurance Company ("ILIC"). The Company acquired Standard Life Insurance Company ("Standard Life") in 1986, Investors Life Insurance Company of California ("Investors-CA") and Investors Life Insurance Company of North America ("Investors-NA") in 1988 and Meridian Life Insurance Company, now Investors Life Insurance Company of Indiana ("Investors-IN"), in February 1995. Acquisitions Strategy. The Company's strategy has been and continues to be to grow internally and through acquisitions, while maintaining an emphasis on cost controls. Management believes that, under appropriate circumstances, it is more advantageous to acquire companies with large books of in-force life insurance than to produce new business, because initial underwriting costs have already been incurred and mature business is generally less likely to terminate, making possible more predictable profit analysis. However, the Company's insurance subsidiaries do continue to market those products that are profitable, as well as develop new products and streamline distribution channels. See "Agency Operations". It is also management's belief that the continuing consolidation in the life insurance industry presents attractive opportunities for the Company to acquire life insurance companies that complement or fit within the Company's existing marketing structure and product lines. The Company's objective is to improve the profitability of acquired businesses by consolidating and streamlining the administrative functions of these businesses, eliminating unprofitable products and distribution channels, applying its marketing expertise to the acquired company's markets and agents, and benefitting from economies of scale. The Company's ability to make future acquisitions will be dependent on its being able to obtain the necessary financing. In addition, since FIC has the same acquisition strategy as ILCO, a conflict of interest could arise in the future between ILCO and FIC with respect to acquisition opportunities. Acquisition of Standard Life. In November 1986, the Company acquired Standard Life, headquartered in Jackson, Mississippi, for a gross purchase price of $54,500,000. A portion of the funds used by the new life insurance company formed by the Company to make the acquisition ("New Standard") was the proceeds of a loan extended to the Company by a national bank in the principal amount of $15,000,000 (the "Standard Term Loan"). This sum was, in turn, loaned by the Company to New Standard, and the loan was evidenced by a surplus debenture. New Standard was merged into Standard Life in June 1988. Acquisition of Investors-NA and Investors-CA. In December 1988, the Company, through Standard Life, purchased Investors-CA and Investors-NA from CIGNA Corporation for a purchase price of $140 million. The Company obtained the funds used for the acquisition from: (a) a senior loan in the amount of $125,000,000 (maturity date December 31, 1996, payable in twenty -seven quarterly installments of $4 million each, commencing on July 1, 1989, followed by four quarterly installments of $4.25 million each) provided by six financial institutions, (b) a $10,000,000 subordinated loan (a nine-year note, with an interest rate of 13.25%) provided by two insurance and financial service organizations and (c) the sale of $5,000,000 of Class A Preferred Stock (principal amount of $5 million; dividend rate of 13.25%) to CIGNA and $15,000,000 of Class B Preferred Stock (principal amount of $15 million; dividend rate of 13.25%) to the subordinated lenders. Approximately $15,000,000 of these funds were used to discharge the Standard Term Loan. The balance of these funds were loaned by the Company to Standard Life. To evidence this indebtedness, Standard Life issued a $140,000,000 surplus debenture to the Company. In connection with the subordinated debt and preferred stock financing, the Company issued detachable warrants entitling the holders to purchase 1,107,480 shares of the Company's Common Stock at $3.33 per share. In May 1990, the Company effected an exchange agreement with the holders of its Class A Preferred Stock and its Class B Preferred Stock . Under the provisions of the exchange agreement, the holders of the Class A Preferred Stock received $5 million principal amount of a 13.25% 1998 Series Subordinated Notes, due November 1, 1998, together with a make whole amount equal to 13.25% of the then outstanding balance of the Note. The holders of the Class B Preferred Stock received $15 million principal amount of a 13.25% 1999 Series Subordinated Notes, due November 1, 1999. The Company prepaid the subordinated debt and purchased the warrants in early 1993. See "Senior Loan". Acquisition of Investors-IN. On February 14, 1995, ILCO, through Investors-NA, purchased from Meridian Mutual Insurance Company the stock of Meridian Life Insurance Company, an Indianapolis-based life insurer, for a cash purchase price of $17.1 million. After the acquisition, Meridian Life changed its name to Investors Life Insurance Company of Indiana ("Investors-IN"). Investors-IN is licensed in ten states and markets a variety of individual life and annuity products through independent agents. Pending Acquisition. On March 25, 1997, ILCO and Investors-IN entered into an agreement to acquire State Auto Life Insurance Company, an Ohio domiciled life insurer, from State Automobile Mutual Insurance Company, for a cash purchase price of $11.8 million, subject to certain post-closing adjustments. In connection with this transaction, the bank group participating in the Senior Loan has agreed to defer payment of $4.5 million otherwise payable on April 1, 1997 under the terms of the Senior Loan, and to reduce the amount of the payment otherwise due on July 1, 1997 by $2.5 million. This deferral would result in extending the maturity date of the Senior Loan to October 1, 1998. Under the terms of the transaction, State Auto Life would be merged into Investors-IN. The closing of the transaction, which is expected to occur during the second quarter of 1997, is subject to regulatory approvals. Merger of Insurance Subsidiaries. Investors-NA redomesticated from Pennsylvania to Washington in December of 1992. Investors-CA merged into Investors-NA on December 31, 1992, and Standard Life merged into Investors-NA on June 29, 1993. The mergers have achieved cost savings, such as reduced auditing expenses involved in auditing one combined company; the savings of expenses and time resulting from the combined company being examined by one state insurance department (Washington), rather than three (California, Pennsylvania and Mississippi); the reduction in the number of tax returns and other annual filings with 45 states; and smaller annual fees to do business and reduced retaliatory premium taxes in most states. Management believes that these reductions in expenses have further strengthened the financial condition of the combined company. Operations The Company has developed management techniques to reduce operating expenses by centralizing, standardizing and more efficiently performing many functions common to most life insurance companies, such as underwriting and policy administration, accounting and financial reporting, marketing, regulatory compliance, actuarial services and asset management. The Company has selectively recruited personnel in sales, marketing and various administrative departments. The Company's centralized management techniques resulted in significant employee reductions and expense savings in the three life insurance companies acquired by the Company in 1986 and 1988. During 1996, the general insurance expenses of the Company's insurance subsidiaries were $12,008,160, as compared to $13,737,883 in 1995 and $12,865,000 in 1994. The increase in 1995, as compared to 1994, resulted primarily from increased marketing expenses incurred by Investors-NA in 1995 and ILCO's acquisition of Investors-IN in early 1995. The attainment of this level of cost reduction has contributed significantly to the achievement of the current level of profitability. Management is committed to maintaining the general insurance expenses of the Company's insurance subsidiaries at a level which will generate an acceptable level of profitability while maintaining the competitive pricing of their insurance products. In June 1991, FIC acquired Family Life Insurance Company. Following the acquisition of Family Life by FIC, management integrated the sales, marketing, underwriting, accounting, contract and licensing, investments, personnel, data processing, home office support and other departments of Family Life and the life insurance subsidiaries of ILCO. Management believes this integration has resulted in cost savings for ILCO's insurance subsidiaries and Family Life. During 1992, the Company's insurance operations were centralized at the Company's headquarters in Austin, Texas, with the exception of certain services performed in Seattle, Washington. Management believes that relocating administrative functions to Austin has reduced costs and improved the efficiency of the insurance companies' operations. The number of employees within the Company and its subsidiaries (including employees who also perform administrative services for Family Life) was approximately 332 at December 31, 1996. Principal Products The Company's insurance subsidiaries are engaged primarily in administering existing portfolios of life insurance and accident and health insurance policies and annuity products. Approximately 74.5% of the total collected premiums for 1996 were derived primarily from renewal premiums on insurance policies and annuity products sold by the insurance subsidiaries prior to their acquisition by the Company. The Company's insurance subsidiaries are also engaged in marketing and underwriting individual life insurance and annuity products in 49 states and the District of Columbia. These products are marketed through independent, non-exclusive general agents. The products currently being distributed include several versions of universal life insurance and interest-sensitive whole life insurance. Under a whole life insurance policy, the policyholder pays a level premium over his or her expected lifetime. The policy combines life insurance protection with a savings plan that gradually increases in amount over a period of several years. The universal and interest-sensitive whole life insurance policies of the Company's insurance subsidiaries provide permanent life insurance which credit company-declared current interest rates. The universal life insurance portfolio of the Company's insurance subsidiaries consists primarily of flexible premium universal life insurance policies. Under the flexible premium policies, policyholders may vary the amounts of their coverage (subject to minimum and maximum limits) as well as the date of payment and frequency of payments. Direct premiums received from all types of universal life products were $40.6 million in 1996, as compared to $42.3 million in 1995 and $42.0 million in 1994. Investors-NA received reinsurance premiums from Family Life of $1.6 million in 1996, pursuant to the reinsurance agreement for universal life products written by Family Life. In 1996, premium income from all life insurance products was derived from all states in which the Company's insurance subsidiaries are licensed, with significant amounts derived from Pennsylvania (14%), California (9.0%) New Jersey (9.0%). Until they discontinued sales of credit life and disability insurance in the fourth quarter of 1994, two of the Company's insurance subsidiaries generally sold that insurance to consumers through lending and credit organizations. Such insurance was generally written on an individual or group basis to (i) persons financing the purchase of new automobiles in the State of New Jersey and (ii) persons obtaining loans from banks and finance companies in southeastern states. Most policies of this type were issued for a term of 48 months or less. Direct premiums received from credit life and accident insurance, prior to reinsurance, were $4.2 million in 1994 and $6.5 million in 1993. Two of the Company's insurance subsidiaries receive premium income from health insurance policies. In 1996, premium income from all health insurance policies was $0.9 million, as compared to $1.1 million in 1995 and $1.4 million in 1994. Premium income from health insurance in 1996 was derived from all of the states in which those two insurance subsidiaries are licensed, with significant amounts derived from Pennsylvania (23%), New Jersey (23%), and California (10%). Investors-NA sponsors a variable annuity separate account, which offers single premium and flexible premium policies. The policies provide for the contract owner to allocate premium payments among four different portfolios of Putnam Capital Manager Trust ("PCM Fund"), a series fund which is managed by Putnam Investment Management, Inc. As of January 1, 1997, the PCM Fund changed its name to Putnam Variable Trust. Prior to April, 1995, the underlying investment vehicle for the variable annuity contracts was the CIGNA Annuity Funds Group. A substitution of the PCM Fund for the CIGNA Funds was completed in April, 1995. The plan of substitution was approved by the Securities and Exchange Commission. Following such approval, the plan was submitted to policyholders for approval, which was obtained. During 1996, the premium income realized in connection with these variable annuity policies was $256,294, which was received from existing contract owners. Direct deposits from the sale of fixed annuity products were $948,000 in 1996, as compared to $1,359,000 in 1995 and $1,296,000 in 1994. Investors-NA received reinsurance premiums from Family Life of $3.8 million in 1996, pursuant to the reinsurance agreement for annuity products written by Family Life. The following table sets forth, for the three years ended December 31, 1995, the combined premium income and other considerations received by the Company's insurance subsidiaries from sales of their various lines of insurance. Item 6. Selected Financial Data (in thousands, except per share data; certain restatements and adjustments are explained following this table.) Year Ended December 31, Type of Insurance 1996 1995 1994 (in thousands) Individual: Life $15,031 $16,426 $15,721 Accident & Health 1,035 1,218 1,435 Total Individual Lines 16,066 17,644 17,156 Group: Life 2,018 2,594 2,226 Accident & Health 6 105 Total Group Lines 2,018 2,600 2,331 Credit: Life (85) (222) 3,282 Accident & Health (57) 240 2,296 Total Credit Lines (142) 18 5,578 Total Premiums 17,942 20,262 25,065 Reinsurance premiums ceded (7,962) (8,568) (10,748) Total Net Premium 9,980 11,694 14,317 Amount Received on Investment Type Contracts 47,135 44,130 43,372 Total Premiums and Deposits Received $57,115 $55,824 $57,689 Investment of Assets The assets held by the Company's insurance subsidiaries must comply with applicable state insurance laws and regulations pertaining to life insurance companies. The investment portfolio of the Company's insurance subsidiaries is tailored to reflect the nature of the insurance obligations, business needs, regulatory requirements and tax considerations relating to the underlying insurance business with respect to such assets. This is particularly the case with respect to interest-sensitive life insurance and deferred annuity products, where the investment emphasis is to obtain a targeted margin of profit over the rate of interest credited to policyholders, while endeavoring to minimize the portfolio's exposure to changing interest rates. To reduce the exposure to such rate changes, portfolio investments are selected so that diversity, maturity and liquidity factors approximate the duration of associated policyholder liabilities. The investment objective of the Company's insurance subsidiaries emphasizes the selection of short to medium term high quality fixed income securities, rated Baa-3 (investment grade) or better by Moody's Investors Service, Inc. At December 31, 1996, only 3.9% of the Company's total assets were invested in mortgage loans or real estate. Non-affiliated corporate debt securities that were non-investment grade represented 1.1% of the Company's total assets at December 31, 1996. The Company had investments in debt securities of affiliated corporations aggregating approximately $59.9 million as of December 31, 1996. Investments in mortgage-backed securities included collateralized mortgage obligations ("CMOs") of $260.1 million and mortgage-backed pass-through securities of $53.7 million at December 31, 1996. Mortgage-backed pass-through securities, sequential CMOs, support bonds, and z-accrual bonds, which comprised approximately 52.3% of the book value of the Company's mortgage-backed securities at December 31, 1996, are sensitive to prepayment and extension risks. The Company has reduced the risk of prepayment associated with mortgage-backed securities by investing in planned amortization class ("PAC"), target amortization class ("TAC") instruments, accretion directed bonds and scheduled bonds. These investments are designed to amortize in a predictable manner by shifting the risk of prepayment of the underlying collateral to other investors in other tranches ("support classes") of the CMO. PAC and TAC instruments and accretion directed and scheduled bonds represented approximately 47.7% and sequential and support classes represented approximately 35.2% of the book value of the Company's mortgage-- backed securities at December 31, 1996. In addition, the Company limits the risk of prepayment of CMOs by not paying a premium for any CMOs. The Company does not invest in mortgage-backed securities with increased prepayment risk, such as interest-only stripped pass-through securities and inverse floater bonds. The Company does invest in z-accrual bonds, but they constituted only 3.4% of the book value of the Company's mortgage-backed securities at December 31, 1996. The prepayment risk that certain mortgage-backed securities are subject to is prevalent in periods of declining interest rates, when mortgages may be repaid more rapidly than scheduled as individuals refinance higher rate mortgages to take advantage of the lower current rates. As a result, holders of mortgage-backed securities may receive large prepayments on their investments which cannot be reinvested at an interest rate comparable to the rate on the prepaying mortgages. The Company did not make additional investments in CMOs during 1996, and the current investment objectives of the Company do not contemplate additions to the portfolio of CMO investments during 1997. The Company does not invest in non-agency mortgage-backed securities, which have a greater credit risk than that of agency mortgage-backed securities. The Company does not make new mortgage loans on commercial properties. Substantially all of the Company's mortgage loans were made by its subsidiaries prior to their acquisition by the Company. At December 31, 1996, 0.6% of the total book value of mortgage loans held by the Company had defaulted as to principal or interest for more than 90 days, and none of the Company's mortgage loans were in foreclosure. During 1996, none of the Company's mortgage loans were converted to foreclosed real estate or were restructured while the Company owned them. Another key element of the Company's investment strategy is to avoid large exposure in other investment categories which the Company believes carry higher credit or liquidity risks, including private placements, partnerships and bank participation. These categories accounted for approximately 1.2% of the Company's invested assets at December 31, 1996. Investors-NA is the owner and developer of an office complex known as Bridgepoint Square Offices. Once completed, the project will consist of four office buildings, with a total rentable space of 364,000 square feet, and two parking garages. Investors- NA purchased the 20 acre tract of land for this complex in January, 1995. At that time, the tract included one completed and fully leased office building, an adjacent parking garage, and sites for three more office buildings and a second parking garage. Since the purchase, Investors-NA has completed construction on the second parking garage and two of the remaining building sites. Construction is in progress on the fourth building, with a projected completion date in July, 1997. Three of the four buildings are fully occupied by tenants and the fourth is partially leased. Negotiations are in progress with two potential tenants to lease the remaining space in the fourth building. See Item 2. Properties. In May 1996, Family Life Insurance Company ("FLIC"), an indirect, 100% owned subsidiary of FIC, purchased a 7.1 acre tract adjacent to the original Bridgepoint Square tract. This second tract contained one building site and one garage site. In January, 1997, FLIC began construction on a four-story office building, with rentable space of approximately 71,500 square feet, and the parking garage, with 350 parking spaces. The projected completion date is September, 1997. Once construction on the building is completed, ILCO and its related companies will move their headquarters from the current location in the Austin Centre to the new office building. The companies will occupy approximately 50,000 square feet of the building, with the balance to be leased to a third party. The Company has established and staffed an investment department, which manages portfolio investments and investment accounting functions for ILCO's life insurance subsidiaries. Agency Operations ILCO's insurance subsidiaries collectively market through the "Investors" distribution system. Independent non-exclusive agents, general agents and brokers are recruited nation-wide to sell the products. Such agents and brokers also sell insurance products for companies in competition with ILCO's insurance subsidiaries. In order to attract agents and enhance the sale of its products, the Company's insurance subsidiaries pay competitive commission rates and provides other sales inducements. The Investors Sales distribution system is presently concentrating its efforts on the promotion and sale of universal life, interest-sensitive life, term life and fixed annuity products. Marketing and sales for all of the Company's insurance subsidiaries are directed by the Executive Vice President of Marketing and Sales. The Vice President for Investors Sales directs Regional Vice Presidents who are responsible for the recruitment and maintenance of the general agents and managing general agents for individual insurance sales. Data Processing Pursuant to a data processing agreement with a major service company, the data processing needs of ILCO's and FIC's insurance subsidiaries were provided at a central location until November 30, 1994. Since December, 1994, all of those data processing needs have been provided to ILCO's and FIC's Austin, Texas and Seattle, Washington facilities by FIC Computer Services, Inc., a new subsidiary of FIC. See Item 13.- Certain Relationships and Related Transactions with Management. Competition There are many life and health insurance companies in the United States. A significant number of casualty companies also market health insurance. Agents placing insurance business with ILCO's life insurance subsidiaries are compensated on a commission basis. However, some companies pay higher commissions and charge lower premium rates and many companies have more substantial resources. The principal cost and competitive factors that affect the Company's ability to sell its life and health insurance and annuity products on a profitable basis are: (1) the general level of premium rates for comparable products; (2) the extent of individual policy holder services required to service each product category; (3) general interest rate levels; (4) competitive commission rates and related marketing costs; (5) legislative and regulatory requirements and restrictions; (6) the impact of competing insurance and other financial products; and (7) the condition of the regional and national economies. Reinsurance and Reserves Reinsurance Ceded: In accordance with general practices in the insurance industry, the Company's insurance subsidiaries limit the maximum net losses that may arise from large risks by reinsuring with other carriers. Such reinsurance provides for a portion of the mortality risk to be retained (the "Retention") with the excess being ceded to a reinsurer at a premium set forth in a schedule based upon the age and risk classification of the insured. The reinsurance treaties provide for allowances that help the Company's insurance subsidiaries offset the expense of writing new business. ILIC generally retains the first $70,000 of risk on the life of any individual. Investors-NA generally retains the first $100,000 of risk on the life of any individual. Investors-IN generally retains the first $50,000 of risk on the life of any individual. In 1988, Investors-NA entered into a bulk reinsurance treaty under which it reinsured all of its risks under accidental death benefit policies. ILIC had previously obtained similar bulk reinsurance for accidental death benefit policies. The treaty was renegotiated with another reinsurer, with a new effective date of January 1, 1996. Effective as of January 1, 1997, the treaty was renegotiated with a different reinsurer. In 1993 ILCO's life subsidiaries entered into a quota share reinsurance treaty under which all credit life and health business issued March 1, 1993 and later is 50% reinsured. Although reinsurance does not eliminate the exposure of the Company's insurance subsidiaries to losses from risks insured, the net liability of such subsidiaries will be limited to the portion of the risk retained, provided that the reinsurers meet their contractual obligations. The Company's insurance subsidiaries carry reserves on their books to meet future obligations under their outstanding insurance policies. Such reserves are believed to be sufficient to meet policy obligations as they mature and are calculated using assumptions for interest, mortality, expenses and withdrawals in effect at the time the policies were issued. Reinsurance Assumed: In 1995, Investors-NA entered into a reinsurance agreement with Family Life pertaining to universal life insurance written by Family Life. The reinsurance agreement is on a co-insurance basis and applies to all covered business with effective dates on and after January 1, 1995. The agreement applies to only that portion of the face amount of the policy which is less than $200,000; face amounts of $200,000 or more are reinsured by Family Life with a third party reinsurer. In 1996, Investors-NA entered into a reinsurance agreement with Family Life, pertaining to annuity contracts written by Family Life. The agreement applies to contracts written on or after January 1, 1996. These reinsurance arrangements reflect management's plan to develop universal life and annuity business at Investors-NA, with Family Life concentrating on the writing of term life insurance products. FIC's Acquisition of Control of the Company In January 1985, FIC acquired 26.53% of ILCO's common stock. FIC and Family Life subsequently acquired additional shares of ILCO's common stock and as of March 14, 1997, FIC owned, directly and indirectly through Family Life, approximately 46% of the outstanding shares of ILCO's common stock. FIC holds options to acquire up to 1,702,155 additional shares of ILCO Common Stock. Giving effect to the exercise of those options, FIC would own, directly and indirectly through Family Life, approximately 61.5% of the outstanding shares of ILCO Common Stock. The exercise price of the options is equal to the average quoted market price of ILCO's common stock over the six month period immediately prior to exercise. In addition, in the event that any other party were to seek to acquire, without the prior approval of ILCO's Board of Directors, securities aggregating five percent or more of ILCO's outstanding common stock, FIC would have the right to acquire, under the same price formula, that number of shares of ILCO's common stock which, when added to the number of shares then owned by FIC, would amount to 51% of ILCO's outstanding common stock. The stock options were granted in 1986 to FIC by the Company principally in consideration for a $1,200,000 unsecured loan from FIC, FIC's agreement to guarantee up to $4,000,000 of Registrant's financial obligations and FIC's agreement to guarantee, upon demand, ILCO's performance under its lease on its headquarters building. In addition, FIC guaranteed a $15,000,000 term loan of ILCO. FIC's Acquisition of Family Life After FIC acquired control of ILCO, FIC's primary involvement in the insurance industry was its indirect investment, through ILCO, in ILCO's insurance subsidiaries. In June 1991, FIC acquired Family Life Insurance Company, ("Family Life"), based in Seattle, Washington, from Merrill Lynch Insurance Group, Inc. Family Life underwrites and sells mortgage protection life insurance to customers who are mortgage borrowers from financial institutions where Family Life has marketing relationships. Family Life distributes its insurance products primarily through a national career sales force in 49 states and the District of Columbia. The $114 million purchase price for Family Life and an additional $5 million for transaction costs, working capital and other related purposes were financed by: (a) a $50 million senior loan provided by a group of banks, (b) $44 million subordinated notes issued to the seller and its affiliates and (c) $25 million senior subordinated notes issued to Investors-CA and Investors-NA. In addition, FIC granted to Investors-CA and Investors-NA nontransferable options to purchase up to a total of 9.9% of FIC's common stock at a price of $10.50 per share, equivalent to the then current market price, subject to adjustment to prevent dilution. As a result of the five-for-one stock split implemented by FIC, effective in November, 1996, the exercise price of the options was changed to $2.10 per share. The initial terms of the option provided for their expiration on June 12, 1998, if not previously exercised. In connection with the 1996 amendments to the subordinated loans held by Investors-NA, the expiration date of the options was extended to September 12, 2006. For a discussion of the 1996 amendments, see Item 13, Certain Relationships and Related Transactions with Management, above. In July 1993 the subordinated notes held by the seller and its affiliates were prepaid. The primary source of the funds used to prepay the subordinated debt was a new subordinated loan of $34.5 million obtained from Investors-NA. See Item 13, above. Senior Loan . In January, 1993, the Company prepaid all of its subordinated indebtedness and purchased and cancelled all of the warrants held by certain of its subordinated noteholders. In addition to paying the $30 million aggregate principal amount of the subordinated notes due in 1997, 1998 and 1999 plus accrued interest, the Company paid approximately $7 million of prepayment penalty, the after-tax effect of which was a charge against earnings in 1993, and approximately $8 million for the warrants, which was a charge directly against retained earnings. The warrants had entitled the holders to purchase 1,107,480 shares of the Company's Common Stock (approximately 24% of the outstanding shares) at an exercise price of $3.33 per share. The currently estimated price that the warrant holders could have required the Company to pay for the warrants upon exercise of their put option was approximately $29.9 million. The earliest that the put option could have been exercised was December 1993, if such exercise would not have resulted in a default under the Senior Loan at that time. The purchase and cancellation of the warrants reduced the number of the Company's outstanding shares of common stock and common stock equivalents used in the computation of its earnings per share from approximately 7,147,000 shares to approximately 6,040,000 shares. This adjustment in common stock equivalents affected earnings per share for periods after January 29, 1993. The primary source of the funds used to prepay the subordinated debt and to purchase the warrants was an increase in the outstanding balance of the Company's existing senior loan obligation from $60 million to $110 million pursuant to an amended and restated credit agreement that the Company entered into on January 29, 1993 with certain banks, including the same agent bank as in the bank group which provided the senior loan used in connection with the 1988 acquisition of Investors-NA and Investors-CA (the "Senior Loan"). The Company's prepayment of subordinated debt, purchase of warrants and increase in senior bank indebtedness are referred to herein as the "Refinancing". The terms of the amended and restated credit facility ("Senior Loan") are substantially the same as the terms and provisions of the original senior loan which was provided to the Company in 1988. The interest rate on the $30 million subordinated debt that was replaced by the New Senior Loan was 13.25%. The average interest rate paid by the Company on its Senior Loan was approximately 7.04% during 1994, 8.63% during 1995 and 7.76% during 1996. The maturity date, which had been December 31, 1996, was extended to July 1, 1998 for the Senior Loan. On February 14, 1995, the Company borrowed an additional $15 million under the Senior Loan to help finance the acquisition of Investors-IN, and the maturity date of the Senior Loan was further extended to July 1, 1999. As of December 31, 1995, the outstanding principal balance of the ILCO's senior loan obligations was $59.4 million. In January, 1996, the Company made a scheduled payment of $4.5 million under its Senior Loan. In March, 1996, the Company made the scheduled payments for April 1st and July 1st, totaling $9 million. At that same time, the Company made a payment of $941,000, an additional payment under the terms of the loan applied to the principal balance. On April 1, 1996, an optional principal payment in the amount of $15 million was made, which resulted in advancing the scheduled payoff date of the Senior Loan to April 1, 1998. In July, 1996, the Company made the principal payment for October 1st ($4.5 million), plus an optional principal payment of $0.5 million. The Senior Loan is a secured and guaranteed six and one-half year term loan. A required $26 million principal payment was made on April 1, 1993. Thereafter, the principal is payable in twenty two quarterly installments of $4.5 million each, commencing on April 1, 1994 and ending on July 1, 1999. The Company is required to make mandatory payments on the Senior Loan equal to (a) 100% of the net proceeds from the issuance of the Company's capital stock or debt securities and (b) the applicable percentage of the Company's annual Excess Cash Flow: 100%, if the outstanding principal balance of the New Senior Loan exceeds $75 million; 75%, if the outstanding balance exceeds $50 million but is equal to or less than $75 million; or 50%, if the outstanding balance is equal to or less than $50 million. Excess Cash Flow is the excess of (i) the sum of the Company's cash and cash equivalents, principal and interest received by the Company from surplus debentures, cash dividends received by the Company and interest income on the Company's cash equivalents over (ii) the sum of principal and interest paid on the Company's indebtedness, operating expenses, taxes actually paid and $5 million. The Senior Loan bears interest, at the option of the Company, at a rate per annum equal to (i) the Alternate Base Rate (as defined below) plus the Applicable Margin (as defined below), or (ii) LIBOR (adjusted for reserves) for interest periods of 1, 2, 3 or 6 months plus the Applicable Margin. LIBOR is London Inter-Bank Offered Rates. The Alternate Base Rate for any day is the higher of (a) the agent bank's corporate base rate as announced from time to time and (b) the federal funds rate as published by the Federal Reserve Bank of New York plus 0.5%. The Applicable Margin, depending on the outstanding principal balance of the Senior Loan, ranges from 0.5% to 1.25% for loans that bear interest based upon the Alternate Base Rate and from 1.75% to 2.5% for loans that bear interest based upon LIBOR. The initial Applicable Margin for Alternate Base Rate loans is 1.25% and the initial Applicable Margin for LIBOR loans is 2.5%. The obligations of the Company under the Senior Loan are secured by: (1) all of the outstanding shares of stock of Investors-NA, (2) a $15,000,000 surplus debenture of Investors-NA payable to the Company, which had an outstanding principal balance of $5,706,000 as of December 31, 1996 and (3) a $140,000,000 surplus debenture of Investors-NA payable to the Company, which had an outstanding principal balance of $32,840,000 as of December 31, 1996. The obligations of the Company under the Senior Loan are guaranteed by FIC. The Senior Loan prohibits the payment by the Company of cash dividends on the Common Stock and contains covenants, including restrictive covenants that impose limitations on the Company's and its subsidiaries' ability to, among other things: (i) make investments; (ii) create or incur additional debt; (iii) engage in businesses other than their present and related businesses; (iv) create or incur additional liens; (v) incur contingent obligations; (vi) dispose of assets, (vii) enter into transactions with affiliated companies; and (viii) make capital expenditures; and various financial covenants, including covenants requiring the maintenance of a minimum cash flow coverage ratio, minimum consolidated net worth and minimum statutory surplus of subsidiaries, and a minimum ratio (360%) of (i) the sum of the statutory capital and surplus, the asset valuation reserve and one-half of the dividend liability pertaining to participating policies of each insurance company subsidiary to (ii) its respective Authorized Control Level RBC (see "Regulation"). The Senior Loan specifies events of default, including, but not limited to, failure to pay amounts under the Senior Loan documents when due; defaults or violation of covenants under other indebtedness; defaults under the loans made by Investors-NA to subsidiaries of FIC; the loss of any license of an insurance subsidiary of the Company which would have a material adverse effect on the Company; defaults under the FIC guaranty agreement; changes in ownership or control of FIC or the Company by its controlling person, Roy F. Mitte, or in the Company by FIC; and the occurrence of certain events of bankruptcy. If Mr. Mitte ceases to control the management of the Company solely by reason of (i) his death or (ii) his permanent inability to perform his usual and customary duties on a full-time basis on behalf of the Company and FIC as the result of physical or mental infirmity, a default will occur, and the banks holding in the aggregate at least 66 2/3% of the outstanding balance of the Senior Loan may, on or after 180 days after the date on which such default occurs, declare the Senior Loan immediately due and payable. Mr. Mitte's ability to communicate and his mobility are impaired as a result of a stroke he suffered in May 1991. However, Mr. Mitte continues to control the management of the Company, and Mr. Mitte's impairments did not constitute a default under the Senior Loan. See Item 10(b)-Executive Officers of the Registrant. The outstanding principal balance of the Senior Loan was $24.94 million as of December 31, 1996. Regulation General. The Company's insurance subsidiaries are subject to regulation and supervision by the states in which they are licensed to do business. Such regulation is designed primarily to protect policy owners. Although the extent of regulation varies by state, the respective state insurance departments have broad administrative powers relating to the granting and revocation of licenses to transact business, licensing of agents, the regulation of trade practices and premium rates, the approval of form and content of financial statements and the type and character of investments. These laws and regulations require the Company's insurance subsidiaries to maintain certain minimum surplus levels and to file detailed periodic reports with the supervisory agencies in each of the states in which they do business and their business and accounts are subject to examination by such agencies at any time. The insurance laws and regulations of the domiciliary states of the Company's insurance subsidiaries require that such subsidiaries be examined at specified intervals. Investors-NA and ILIC are domiciled in the states of Washington and New Jersey, respectively. In December 1992, Investors-NA redomesticated from Pennsylvania to Washington, and Investors-CA merged into Investors-NA. In June, 1993 Standard Life merged into Investors-NA. Investors-IN is domiciled in the State of Indiana. A number of states regulate the manner and extent to which insurance companies may test for acquired immune deficiency syndrome (AIDS) antibodies in connection with the underwriting of life insurance policies. To the extent permitted by law, the Company's insurance subsidiaries consider AIDS information in underwriting coverage and establishing premium rates. An evaluation of the financial impact of future AIDS claims is extremely difficult, due in part to insufficient and conflicting data regarding the incidence of the disease in the general population and the prognosis for the probable future course of the disease. Risk-Based Capital Requirements. Effective for the 1993 calendar year, the National Association of Insurance Commissioners ("NAIC") has adopted Risk-Based Capital ("RBC") requirements to evaluate the adequacy of statutory capital and surplus in relation to investment and insurance risks associated with; (i) asset quality; (ii) mortality and morbidity; (iii) asset and liability matching; and (iv) other business factors. The states will use the RBC formula as an early warning tool to discover potential weakly capitalized companies for the purpose of initiating regulatory action. The RBC requirements are not intended to be a basis for ranking the relative financial strength of insurance companies. In addition, the formula defines a new minimum capital standard which will supplement the prevailing system of low fixed minimum capital and surplus requirements on a state-by-state basis. The RBC requirements provide for four different levels of regulatory attention in those states that adopt the NAIC regulations, depending on the ratio of the company's Total Adjusted Capital (which generally consist of its statutory capital, surplus and asset valuation reserve) to its Authorized Control Level RBC. A "Company Action Level Event" is triggered if a company's Total Adjusted Capital is less than 200% but greater than or equal to 150% of its Authorized Control Level RBC, or if a negative trend has occurred (as defined by the regulations) and Total Adjusted Capital is less than 250% but more than 200% of its Authorized Control Level RBC. When a Company Action Level Event occurs, the company must submit a comprehensive plan to the regulatory authority which discusses proposed corrective actions to improve its capital position. A "Regulatory Action Level Event" is triggered if a company's Total Adjusted Capital is less than 150% but greater than or equal to 100% of its Authorized Control Level RBC. When a Regulatory Action Level Event occurs, the regulatory authority will perform a special examination of the company and issue an order specifying corrective actions that must be followed. An "Authorized Control Level Event" is triggered if a company's Total Adjusted Capital is less than 100% but greater than or equal to 70% of its Authorized Control Level RBC, and the regulatory authority may take any action it deems necessary, including placing the company under regulatory control. A "Mandatory Control Level Event" is triggered if a company's total adjusted capital is less than 70% of its Authorized Control Level RBC, and the regulatory authority is mandated to place the company under its control. Calculations using the NAIC formula and the statutory financial statements of the Company's insurance subsidiaries as of December 31, 1996 indicate that the Total Adjusted Capital of each of the Company's insurance subsidiaries is above 480% of its respective Authorized Control Level RBC. Solvency Laws Assessments. The solvency or guaranty laws of most states in which the Company's insurance subsidiaries do business may require the Company's insurance subsidiaries to pay assessments (up to certain prescribed limits) to fund policyholder losses or liabilities of insurance companies that become insolvent. Recent insolvencies of insurance companies increase the possibility that such assessments may be required. These assessments may be deferred or forgiven under most guaranty laws if they would threaten an insurer's financial strength and, in certain instances, may be offset against future premium taxes. The insurance companies record the expense for guaranty fund assessments in the period assessed. The occurrence and amount of such assessments have increased in recent years. The net amount of such assessment for the Company's insurance subsidiaries was approximately $100,165 in the year ended December 31, 1996 That amount is net of the amounts that can be offset against future premium taxes. The likelihood and amount of any other future assessments cannot be estimated and are beyond the control of the Company. Surplus Debentures and Dividends. The principal sources of cash for the Company to make payments of principal and interest on the Senior Loan are payments under the surplus debentures of Investors-NA (a Washington-domiciled corporation). The surplus debentures were originally issued by Standard Life. Upon the merger of Standard Life into Investors-NA, the obligations of the surplus debentures were assumed by Investors-NA. Since Investors-NA is domiciled in the State of Washington, the provisions of Washington insurance law apply to the surplus debentures. Under the provisions of the surplus debentures and current law, Investors-NA can pay interest and principal on the surplus debentures without having to obtain the prior approval of the Washington Insurance Commissioner; provided that, after giving effect to such payments, the statutory surplus of Investors-NA is in excess of $10 million. As of December 31, 1996, the statutory surplus of Investors-NA was $53,773,628. Investors-NA does give five-days prior notification to the Washington Insurance Department of each proposed payment on the surplus debentures in accordance with an agreement between Investors-NA and the Department. ILCO does not anticipate that Investors-NA will have any difficulty in making principal and interest payments on the surplus debentures in the amounts necessary to enable ILCO to service the Senior Loan for the foreseeable future. Pursuant to the surplus debentures Investors-NA paid to the Company principal and interest on the surplus debentures of $26,224,640 in 1994, $22,749,576 in 1995 and $36,288,469 in 1996. In addition to the payments under the terms of the Surplus Debentures, ILCO has received dividends from Standard Life (now, from Investors-NA). Washington's insurance code includes the "greater of" standard for payment of dividends to shareholders, but has requirements that prior notification of a proposed dividend be given to the Washington Insurance Commissioner and that cash dividends may be paid only from earned surplus. As of December 31, 1996, Investors-NA had earned surplus of $5,205,100. Since the law applies only to dividend payments, the ability of Investors-NA to make principal and interest payments under the Surplus Debentures is not affected. ILCO does not anticipate that Investors-NA will have any difficulty in making principal and interest payments on the Surplus Debentures in the amounts necessary to enable ILCO to service the Senior Loan for the foreseeable future. ILIC is domiciled in the State of New Jersey. Under the New Jersey insurance code, a domestic insurer may make dividend distributions upon proper notice to the Department of Insurance, as long as the distribution is reasonable in relation to adequate levels of policyholder surplus and quality of earnings. Any dividend must be paid from earned surplus. A proposed payment of a dividend or distribution which, together with dividends or distributions paid during the preceding twelve months, exceeds the greater of (i) 10% of statutory surplus as of the preceding December 31 or (ii) statutory net gain from operations for the preceding calendar year is treated as an "extraordinary dividend" and may not be paid until either it has been approved, or a waiting period shall have passed during which it has not been disapproved, by the insurance commissioner. ILIC had earned surplus of $4,566,338 at December 31, 1996. Investors-IN is domiciled in the State of Indiana. Under the Indiana insurance code, a domestic insurer may make dividend distributions upon proper notice to the Department of Insurance, as long as the distribution is reasonable in relation to adequate levels of policyholder surplus and quality of earnings. Under Indiana law the dividend must be paid from earned surplus. Extraordinary dividend approval would be required where a dividend exceeds the greater of 10% of surplus or the net gain from operations for the prior fiscal year. Investors-IN had earned surplus of $11,525,153 at December 31, 1996. Valuation Reserves. Commencing in 1992, the Mandatory Securities Valuation Reserve ("MSVR") required by the NAIC for life insurance companies was replaced by a mandatory Asset Valuation Reserve ("AVR") which is expanded to cover mortgage loans, real estate and other investments. A new mandatory Interest Maintenance Reserve ("IMR"), designed to defer realized capital gains and losses due to interest rate changes on fixed income investments and to amortize those gains and losses into future income, is also effective for 1992. Previously, realized capital gains attributable to interest rate changes were credited to the MSVR and had the effect of reducing the required MSVR contributions of ILCO's insurance subsidiaries. Effective in 1992, such realized capital gains are credited to the IMR. As a result of these changes, management believes that the Company's insurance subsidiaries are required to accrue greater aggregate asset valuation reserves. The combination of the AVR and IMR will affect statutory capital and surplus and may reduce the ability of the Company's insurance subsidiaries to pay dividends and make payments on the surplus debentures. Insurance Holding Company Regulation. Investors-NA, ILIC and Investors-IN are subject to regulation under the insurance and insurance holding company statutes of Washington, New Jersey and Indiana. The insurance holding company laws and regulations vary from jurisdiction to jurisdiction, but generally require insurance and reinsurance subsidiaries of insurance holding companies to register with the applicable state regulatory authorities and to file with those authorities certain reports describing, among other information, their capital structure, ownership, financial condition, certain intercompany transactions and general business operations. The insurance holding company statutes also require prior regulatory agency approval or, in certain circumstances, prior notice of certain material intercompany transfers of assets as well as certain transactions between insurance companies, their parent companies and affiliates. Under the Washington, New Jersey and Indiana insurance holding company laws, unless (i) certain filings are made with the respective department of insurance, (ii) certain requirements are met, including a public hearing and (iii) approval or exemption is granted by the respective insurance commissioner, no person may acquire any voting security or security convertible into a voting security of an insurance holding company, such as the Company, which controls an insurance company domiciled in that state, or merge with such a holding company, if as a result of such transaction such person would "control" the insurance holding company. "Control" is presumed to exist if a person directly or indirectly owns or controls 10% or more or the voting securities of another person. Potential Federal Regulation. Although the federal government generally does not directly regulate the insurance industry, federal initiatives often have an impact on the business. Congress and certain federal agencies are investigating the current condition of the insurance industry (encompassing both life and health and property and casualty insurance) in the United States in order to decide whether some form of federal role in the regulation of insurance companies would be appropriate. Congress is currently conducting a variety of hearings relating in general to the solvency of insurers. It is not possible to predict the outcome of any such congressional activity nor the potential effects thereof on the Company's insurance subsidiaries. Congressional initiatives directed at repeal of the McCarran- Ferguson Act (which exempts the "business of insurance" from most federal laws, including the antitrust laws, to the extent it is subject to state regulation) and judicial decisions narrowing the definition of "business of insurance" for McCarran-Ferguson Act purposes may limit the ability of insurance companies in general to share information with respect to rate-setting, underwriting and claims management practices. Current and proposed federal measures which may also significantly affect the insurance industry include minimum solvency requirements and removal of barriers preventing banks from engaging in the insurance business. Federal Income Taxation The Revenue Reconciliation Act of 1990 amended the Internal Revenue Code of 1986 to require a portion of the expenses incurred in selling insurance products to be deducted over a period of years, as opposed to an immediate deduction in the year incurred. Since this change only affects the timing of the deductions, it does not affect tax expense as shown on the Company's financial statements prepared in accordance with GAAP. However, the change will increase the tax for statutory accounting purposes in the first few years, which will reduce statutory surplus and, accordingly, may decrease the amount of cash dividends that Investors Life-NA can pay to the Company. For the years ended December 31, 1994, 1995 and 1996, the increases (decreases) in the current income tax provisions of the Company's insurance subsidiaries due to this change were $88,505, ($118,480) and ($90,413), respectively. The change has a negative tax effect for statutory accounting purposes when the premium income of the Company's insurance subsidiaries increases, but has a positive tax effect when their premium income decreases. Segment Information The principal operations of the Company's insurance subsidiaries are the underwriting of life insurance and annuities. Accordingly, no separate segment information is required to be provided by the Registrant for the three-year period ending December 31, 1996. Item 2. Properties The Registrant's headquarters are currently located at Austin Centre, 701 Brazos, Suite 1400, Austin, Texas. Investors-NA purchased Austin Centre, an office-hotel property in downtown Austin in August 1991 for a purchase price of $31,275,000 from an unrelated seller that had previously acquired the property through foreclosure. Austin Centre covers a full city block and is a sixteen story mixed use development consisting of 343,664 square feet of office/retail space (predominately office space), a 314 room hotel and 61 luxury apartments, all united by a 200 foot high glass atrium. The project was completed in October 1986. In September 1995, Investors-NA entered into a contract to sell Austin Centre to an Austin-based real estate investment firm for a purchase price of $62.675 million, less $1 million to be paid to a capital reserve account for the purchaser. The sale was consummated on March 29, 1996. A portion of the sale proceeds equal to the amount that Investors-NA presently had invested in Austin Centre were retained and reinvested by Investors-NA. The balance of the net proceeds of the sale were used to reduce ILCO's bank indebtedness by approximately $15 million. On January 31, 1995, ILCO, through Investors-NA, purchased, as an investment property, an office building project known as Bridgepoint Office Square in Austin, Texas for a cash purchase price of $9.75 million. The property consists of 20 acres of land with four office building sites and two parking structure sites. The first phase of development of the property was completed in 1986 and consists of a five-story office building with 83,474 square feet of rentable space and a 550-car parking garage. The office space is fully rented. In the fourth quarter of 1995, construction began on the second office building, containing approximately 109,000 rentable square feet, and the other parking garage containing approximately 871 spaces. That phase of the project was completed in September 1996, and is 100% leased to a major tenant in the technology business. In March 1996, construction commenced on the third office building, with approximately 81,000 rentable square feet of office space and was completed in December, 1996. Investors-NA leased approximately 43,000 square feet of the third office building to the same tenant which leased all of the space in the second building. The remaining space was leased in October, 1996 to a major tenant also in the technology business. Construction began on the fourth building in July 1996, with a projected completion date of July, 1997. The fourth building contains approximately 92,459 rentable square feet. In September of 1996, approximately 23,619 rentable square feet were leased to an oil and gas company. Another 10,000 square feet was leased in March, 1997, to a company involved in the technology field. Investors-NA is currently negotiating with two other potential tenants to lease the remainder of the rentable square feet in the fourth building. On May 3, 1996, Family Life Insurance Company, an indirect, 100% owned subsidiary of FIC, purchased a tract of land adjoining the Bridgepoint Office Square tract for a cash purchase price of $1.3 million. The property consists of 7.1 acres of land with one office building site and one parking structure site. FLIC began construction of the fifth building (known as "Bridgepoint Five") on the new site in January 1997. The building, which will have approximately 71,500 square feet of rentable space, is currently projected to be completed in September, 1997. Following completion of the building, ILCO and its related companies will vacate their current headquarters in the Austin Centre and move them to Bridgepoint Five. ILCO and its related companies will occupy approximately 50,000 rentable square feet. FLIC is currently seeking tenants to occupy the remainder of the rentable square feet in the fifth building. ILCO leases a building located at 40 Parker Road, Elizabeth, New Jersey. This building, which was formerly the Company's headquarters building, contains approximately 41,000 square feet of office space. The remaining term of the lease is 11 years, and the lease calls for a minimum base rental of $450,000 per annum. The lease provides that all costs including, but not limited to, those for maintenance, repairs, insurance and taxes be borne by ILCO. The Registrant and ILIC currently occupy a nominal portion of the space in the 40 Parker Road property and have sub-leased the remaining portion. ILIC owns three buildings which are adjacent to the 40 Parker Road building. One building, which leased to third parties, contains approximately 3,500 square feet of space. The second building contains approximately 2,500 square feet of space and is leased to persons who perform maintenance services for ILIC's and ILCO's properties in Elizabeth, New Jersey. The third building, purchased during 1985, contains approximately 3,500 square feet of space, and is partially leased to third parties and the remainder is used to provide accommodations for employees working at the New Jersey office. Investors-NA owns an office building, located at 206 West Pearl Street, Jackson, Mississippi. This building is 67 years old and contains approximately 85,000 square feet of office space. Investors-NA currently occupies a nominal portion of the space in this property and leases space to various commercial tenants. The Company believes that its properties and leased space are adequate to meet its foreseeable requirements. Item 3. Legal Proceedings The Company and Investors-NA are defendants in a lawsuit which was filed in October, 1996, in Travis County, Texas. CIGNA Corporation, an unrelated company, is also a named defendant in the lawsuit. The named plaintiffs in the suit (a husband and wife), allege that the universal life insurance policies sold to them by INA Life Insurance Company (a company which was merged into Investors-NA in 1992) utilized unfair sales practices. The named plaintiffs seek reformation of the life insurance contracts and an unspecified amount of damages. The named plaintiffs also seek a class action as to similarly situated individuals. No certification of a class has been granted as of the date hereof. The Company believes that the suit is without merit and intends to vigorously defend this matter. Item 4. Submission of Matters to a Vote of Security Holders No matter was submitted during the fourth quarter of the fiscal year ended December 31, 1996 to a vote of security holders. PART II Item 5. Market for the Registrant's Common Stock and Related Stockholder Matters A. Market Information The following table sets forth the quarterly high and low sales prices for the Company's Common Stock in The Nasdaq Small-Cap Market for 1996 and 1995. Prices High Low 1996: 1st Quarter. . . . . . . $15.50 $12.50 2nd Quarter. . . . . . . 16.25 13.375 3rd Quarter. . . . . . . 15.25 11.50 4th Quarter. . . . . . . 14.25 12.00 1995: 1st Quarter. . . . . . . $13.50 $10.00 2nd Quarter. . . . . . . 13.00 10.75 3rd Quarter. . . . . . . 12.00 10.25 4th Quarter. . . . . . . 13.25 10.25 The Common Stock of the Company is traded in The Nasdaq Small-Cap Market (NASDAQ Symbol: ILC0). Quotations are furnished by the National Association of Securities Dealers Automated Quotation System (NASDAQ). B. Holders The approximate number of record holders of the Common Stock of the Registrant as of March 14, 1997 was 1,537. C. Dividends No dividend was declared or paid by the Company during 1994, 1995 or 1996. Under the terms of its Senior Loan the Company is not permitted to declare or pay any dividends on its Common Stock during the loan term. A more detailed discussion of the Senior Loan is set forth in Item 1 hereof. The ability of an insurance holding company, such as ILCO, to pay dividends to its shareholders may be limited by the company's ability to obtain revenue, in the form of dividends and other payments, from its operating insurance subsidiaries. The right of such subsidiaries to pay dividends is generally restricted by the insurance laws of their domiciliary states. See Item 1. Business Regulation - Surplus Debentures and Dividends. Item 6. Selected Financial Data (in thousands, except per share data; certain restatements and adjustments are explained following this table.) Years Ended December 31, 1996 1995 1994 1993 1992 Revenues $ 138,244 $ 122,390 $ 114,842 $ 117,843 $ 139,009 Benefits & Expenses 96,801 105,907 99,142 100,525 117,568 Income from operations 41,443 16,483 15,700 17,318 21,441 Provision for federal income taxes 14,505 5,769 5,783 5,118 7,540 Net Income before extra- ordinary item and cumulative effect of change in accounting principle 26,938 10,714 9,917 12,200 13,901 Extraordinary Item -0- -0- -0- (6 253) -0- Net Income before cumulative effect of change in accounting principle 26,938 10,714 9,917 5,947 13,901 Cumulative effect of change in accounting principle -0- -0- -0- (2,600) -0- Net Income $ 26,938 $ 10,714 $ 9,917 $ 3,347 $ 13,901 Common Stock and Common Stock Equivalents 5,380 5,389 5,378 5,858 7,052 Net Income per share before extraordinary item and cumulative effect of change in accounting principle $ 5.12 $ 2.11 $ 1.93 $ 2.20 $ 2.06 Extraordinary Item -0- -0- -0- (1.07) -0- Net income per share before cumulative effect of change in accounting principle 5.12 2.11 1.93 1.13 2.06 Cumulative effect of change in accounting principle -0- -0- -0- (.44) -0- Net income per share $ 5.12 $ 2.11 $ 1.93 $ .69 $ 2.06 Cash Dividend -0- -0- -0- -0- -0- Long Term Debt $ 24,944 $ 59,385 $ 66,585 $ 84,000 $ 90,325 Total Assets $1,263,942 $1,315,293 $1,148,994 $1,266.941 $1,286,733 1 Net income per share for the years ended December 31, 1996, 1995, 1994, 1993 and 1992 included the dilutive effect resulting from the increase in the market price of the Company's common stock. Such increase requires that outstanding common share equivalents be taken into account in determining net income per share. See "Notes to Consolidated Financial Statements" for a description of the manner of calculation of common share equivalents. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations For the year ended December 31, 1996, ILCO's net income from operations was $26,938,000 ($5.12 per common share) as compared to $10,714,000 ($2.11 per common share) in 1995 and $9,917,000 ($1.93 per common share) in 1994. Net income for 1996 includes $15.3 million resulting from the sale of the Austin Centre, a hotel/office complex, located in Austin, Texas. The selling price was $62.675 million, less $1 million paid to a capital reserve account for the purchaser. The property was purchased in 1991 for $31.275 million. A portion of the sale proceeds, equal to the book value of the property, net of improvements and amortization ($36.8 million), was retained and reinvested by Investors Life Insurance Company of North America ("Investors-NA"). The balance of the proceeds, net of federal income tax, of the sale was used to reduce the Company's senior loan obligations by $15 million. The sale closed on March 29, 1996. The results for 1996, and for that portion of 1995 beginning on February 14th, include the operations of Investors Life Insurance Company of Indiana (formerly known as Meridian Life Insurance Company). Investors Life Insurance Company of Indiana ("Investors-IN") was purchased by ILCO and Investors Life Insurance Company of North America ("Investors-NA") for an adjusted purchase price of $17.1 million; the transaction was completed on February 14, 1995. The name change was completed in May, 1995. The statutory earnings of the Company's insurance subsidiaries, as required to be reported to insurance regulatory authorities, before interest expense, capital gains and losses, and federal income taxes were $21,624,112 at December 31, 1996, as compared to $24,511,342 at December 31, 1995 and $21,119,689 at December 31, 1994. These statutory earnings are the source to provide for the repayment of ILCO's indebtedness. The operating strategy of the Company's management emphasizes several key objectives: expense management; marketing of competitively priced insurance products which are designed to generate an acceptable level of profitability; maintenance of a high quality portfolio of investment grade securities; and the provision of quality customer service. Premium income, net of reinsurance, for the year 1996 $9.98 million, as compared to $11.69 million in 1995 and $14.31 million in 1994. Reinsurance premiums ceded were $8.0 million, as compared to $8.5 million in 1995 and $10.9 million in 1994. Earned insurance charges for the year ended December 31, 1996 were $42.24 million, as compared to $42.32 million for 1995 and $39.37 million for 1994. This source of revenues is related to the universal life insurance and annuity book of business of Investors-NA. In 1995, Investors-NA entered into a reinsurance agreement with Family Life Insurance Company (an insurance company subsidiary of Financial Industries Corporation and an affiliated company of Investors-NA), pertaining to universal life insurance written by Family Life. The reinsurance agreement is on a co-insurance basis and applies to all covered business with effective dates on and after January 1, 1995. The agreement applies to only that portion of the face amount of the policy which is less than $200,000; face amounts of $200,000 or more are reinsured by Family Life with a third party reinsurer. In 1996, Investors-NA entered into a reinsurance agreement with Family Life, pertaining to annuity contracts written by Family Life. The agreement applies to contracts written on or after January 1, 1996. These reinsurance arrangements reflect management's plan to develop universal life and annuity business at Investors-NA, with Family Life concentrating on the writing of term life insurance products. Interest expense was $2.8 million for the year 1996, as compared to $5.7 million for the year 1995 and $5.2 million in 1994. The decrease is attributable to a reduction in the average principal balance of the senior loan from $64.4 million for the year ending December 31, 1995 to $33.7 million for the year ending December 31, 1996, as well as a decrease in the average rate of interest paid on the senior loan - 7.76% for the year 1996, as compared to 8.63% for the year 1995. The decline in long-term interest rates during 1996, which was related to general economic conditions, had a positive effect upon the market value of the fixed maturities available for sale segment of the portfolio. As of December 31, 1996, the market value of the fixed maturities available for sale segment was $453.9 million as compared to an amortized cost of $451.6 million, or an unrealized gain $2.3 million. The net of tax effect of this increase has been recorded as an increase in shareholders' equity. There is no assurance that this unrealized gain will be realized in the future. Investors-NA is the owner and developer of an office complex known as Bridgepoint Square Offices. Once completed, the project will consist of four office buildings, with a total rentable space of 364,000 square feet, and two parking garages. Investors- NA purchased the 20 acre tract of land for this complex in January, 1995, for a cash purchase price of $9.75 million. At that time, the tract included one completed and fully leased office building, an adjacent parking garage, and sites for three more office buildings and a second parking garage. Since the purchase, Investors-NA has completed construction on the second parking garage and two of the remaining building sites. Construction is in progress on the fourth building, with a projected completion date in July, 1997. Three of the four buildings are fully occupied by tenants and the fourth is partially leased. Negotiations are in progress with two potential tenants to lease the remaining space in the fourth building. Upon completion of the project, the investment of Investors-NA will be approximately $46 million. Results of Operations For the year ended December 31, 1996, the Company's income from operations before Federal income taxes was $41,443,000 on revenues of $138,244,000, as compared to $16,483,000 on revenues of $122,390,000 for the year 1995 and $15,700,000 on revenues of $114,842,000 in 1994. During 1996, the lapse rate with respect to universal life insurance policies increased slightly from the lapse rate experienced in 1995. The rate in 1996 was 9.0%, as compared to 8.8% in 1995. The lapse rate with respect to traditional (non- universal) life insurance policies decreased from the levels experienced in 1995. The rate in 1996 was 8.0%. as compared to 8.8% in 1995. The lapse rates experienced during the 1996 period were within the ranges anticipated by management. Liquidity and Capital Resources: ILCO is a holding company whose principal assets consist of the common stock of Investors Life Insurance Company of North America and its subsidiaries - Investors Life Insurance Company of Indiana (formerly known as Meridian Life Insurance Company) and InterContinental Life Insurance Company ("ILIC"). ILCO's primary source of funds consists of payments under two Surplus Debentures from Investors-NA. As of December 31, 1995, the outstanding principal balance of the ILCO's senior loan obligations was $59.4 million. In January, 1996, the Company made a scheduled payment of $4.5 million under its Senior Loan. In March, 1996, the Company made the scheduled payments for April 1st and July 1st, totaling $9 million. At that same time, the Company made a payment of $941,000, an additional payment under the terms of the loan applied to the principal balance. On April 1, 1996, an optional principal payment in the amount of $15 million was made. In July, 1996, the Company made the principal payment for October 1st ($4.5 million), plus an optional principal payment of $0.5 million, thereby reducing the total amount of the outstanding Senior Loan to $24.94 million. ILCO's principal source of liquidity consists of the periodic payment of principal and interest by Investors-NA, pursuant to the terms of the Surplus Debentures. The Surplus Debentures were originally issued by Standard Life Insurance Company and their terms were previously approved by the Mississippi Insurance Commissioner. Upon the merger of Standard Life into Investors- NA, the obligations of the Surplus Debentures were assumed by Investors-NA. As of December 31, 1996, the outstanding principal balance of the Surplus Debentures was $5.7 million and $32.8 million, respectively. Since Investors-NA is domiciled in the State of Washington, the provisions of Washington insurance law apply to the Surplus Debentures. Under the provisions of the Surplus Debentures and current law, no prior approval of the Washington Insurance Commissioner is required for Investors-NA to pay interest or principal on the Surplus Debentures; provided that, after giving effect to such payments, the statutory surplus of Investors-NA is in excess of $10 million (the "surplus floor"). However, Investors-NA has voluntarily agreed with the Washington Insurance Commissioner that it will provide at least five days advance notice of payments which it will make under the surplus debenture. As of December 31, 1996, the statutory surplus of Investors-NA was $53,773,628, an amount substantially in excess of the surplus floor. The funds required by Investors- NA to meet its obligations to the Company under the terms of the Surplus Debentures are generated from operating income generated from insurance and investment operations. In addition to the payments under the terms of the Surplus Debentures, ILCO has received dividends from Standard Life (now, from Investors-NA). Washington's insurance code includes the "greater of" standard for payment of dividends to shareholders, but has a requirement that prior notification of a proposed dividend be given to the Washington Insurance Commissioner and that cash dividends may be paid only from earned surplus. As of December 31, 1996, Investors-NA had earned surplus of $5,205,148. Since the law applies only to dividend payments, the ability of Investors-NA to make principal and interest payments under the Surplus Debentures is not affected. ILCO does not anticipate that Investors-NA will have any difficulty in making principal and interest payments on the Surplus Debentures in the amounts necessary to enable ILCO to service the Senior Loan for the foreseeable future. ILIC is domiciled in the State of New Jersey. Under the New Jersey insurance code, a domestic insurer may make dividend distributions upon proper notice to the Department of Insurance, as long as the distribution is reasonable in relation to adequate levels of policyholder surplus and quality of earnings. Any dividend must be paid from earned surplus. A proposed payment of a dividend or distribution which, together with dividends or distributions paid during the preceding twelve months, exceeds the greater of (i) 10% of statutory surplus as of the preceding December 31 or (ii) statutory net gain from operations for the preceding calendar year is treated as an "extraordinary dividend" and may not be paid until either it has been approved, or a waiting period shall have passed during which it has not been disapproved, by the insurance commissioner. ILIC had earned surplus of $4,566,338 at December 31, 1996. Investors-IN is domiciled in the State of Indiana. Under the Indiana insurance code, a domestic insurer may make dividend distributions upon proper notice to the Department of Insurance, as long as the distribution is reasonable in relation to adequate levels of policyholder surplus and quality of earnings. Under Indiana law the dividend must be paid from earned surplus. Extraordinary dividend approval would be required where a dividend exceeds the greater of 10% of surplus or the net gain from operations for the prior fiscal year. Investors-IN had earned surplus of $11,525,153 at December 31, 1996. ILCO's net cash flow provided by (used in) operating activities was ($23.46) million, as compared to $10.3 million for the year ended December 31, 1995 and ($15.3) million for the same period in 1994. This change is primarily due to fluctuations in the amount of deferred federal income tax related to the market value of investment assets that are fixed maturities available for sale and the net gain realized in connection with the sale of the Austin Centre. Management believes that its cash, cash equivalents and short term investments are sufficient to meet the needs of its business and to satisfy debt service. Investments As of December 31, 1996, the book value of the Company's investment assets totaled $661.1 million, as compared to $669.5 million as of December 31, 1995. Total assets as of December 31, 1996 ($1.26 billion) decreased from the level as of December 31, 1995 ($1.32 billion). The level of short-term investments at the end of 1996 was $91.6 million, as compared to $86.0 million at the end of 1995. The fixed maturities available for sale portion of invested assets at December 31, 1996 was $453.9 million. The amortized cost of the fixed maturities available for sale segment as of December 31, 1996 was $451.6 million, representing a net unrealized gain of $2.3 million. This unrealized gain principally reflects changes in interest rates from the date the respective investments were purchased. To reduce the exposure to interest rate changes, portfolio investments are selected so that diversity, maturity and liquidity factors approximate the duration of associated policyholder liabilities. The assets held by ILCO's life insurance subsidiaries must comply with applicable state insurance laws and regulations. In selecting investments for the portfolios of its life insurance subsidiaries, the Company's emphasis is to obtain targeted profit margins, while minimizing the exposure to changing interest rates. This objectiveis implemented by selectingprimarily short- to medium-term, investment grade fixed income securities. In making such portfolio selections, the Company generally does not select new investments which are commonly referred to as "high yield" or "non-investment grade." The Company's fixed maturities portfolio (including short-term investments), as of December 31, 1996, included a non-material amount (1.1% of total fixed maturities and short-term investments) of debt securities which, in the annual statements of the companies as filed with state insurance departments, were designated under the National Association of Insurance Commissioners ("NAIC") rating system as "3" (medium quality) or below. For the year ended December 31, 1995, the comparable percentage was 1.1%. The majority of these non-investment grade investments are concentrated in the medium quality (or "3") category, with only 0.7% receiving an NAIC rating of "4" (low quality) or below as of December 31, 1996, as compared to 1.5% as of December 31, 1995. The consolidated balance sheets of the Company as of December 31, 1996 include $59.9 million of "Notes receivable from affiliates", represented by (i) a loan of $22.5 million from Investors-NA to Family Life Corporation and a $2.5 million loan from Investors-CA to Financial Industries Corporation (which is now owned by Investors-NA as a result of the merger of Investors-CA into Investors-NA) and $1.9 million of additions to the $2.5 million note made in accordance with the terms of such note; these loans were granted in connection with the 1991 acquisition of Family Life Insurance Company by a wholly-owned subsidiary of FIC (ii) a loan of $30 million by Investors-NA to Family Life Corporation made in July, 1993, in connection with the prepayment by the FIC subsidiaries of indebtedness which had been previously issued to Merrill Lynch as part of the 1991 acquisition and (iv) a loan of $4.5 million by Investors-NA to Family Life Insurance Investment Company made in July, 1993, in connection with the same transaction described above. As of June 12, 1996, the provisions of the notes from Investors-NA to FIC, FLC and FLIIC were modified as follows: (a) the $22.5 million note was amended to provide for twenty quarterly principal payments, in the amount of $1,125,000 each, to commence on December 12, 1996; the final quarterly principal payment is due on September 12, 2001; the interest rate on the note remains at 11%, (b) the $30 million note was amended to provide for forty quarterly principal payments, in the amount of $163,540 each for the period December 12, 1996 to September 12, 2001; beginning with the principal payment due on December 12, 2001, the amount of the principal payment increases to $1,336,458; the final quarterly principal payment is due on September 12, 2006; the interest rate on the note remains at 9%, (c) the $4.5 million note was amended to provide for forty quarterly principal payments, in the amount of $24,531 each for the period December 12, 1996 to September 12, 2001; beginning with the principal payment due on December 12, 2001, the amount of the principal payment increases to $200,469; the final quarterly principal payment is due on September 12, 2006; the interest rate on the note remains at 9%, (d) the $2.5 million note was amended to provide that the principal balance of the note is to be repaid in twenty quarterly installments of $125,000 each, commencing December 12, 1996 with the final payment due on September 12, 2001; the rate of interest remains at 12%, (e) the Master PIK note, which was issued to provide for the payment in kind of interest due under the terms of the $2.5 million note prior to June 12, 1996, was amended to provide that the principal balance of the note ($1,977,119) is to be paid in twenty quarterly principal payments, in the amount of $98,855.95 each, to commence December 12, 1996 with the final payment due on September 12, 2001; the interest rate on the note remains at 12%. The NAIC continued its rating of "3" to the "Notes receivable from affiliates", as amended. These loans have not been included in the preceding description of NAIC rating percentages. Management believes that the absence of any material amounts of "high-yield" or "non-investment grade" investments (as defined above) in the portfolios of its life insurance subsidiaries enhances the ability of the Company to service its debt, provide security to its policyholders and to credit relatively consistent rates of return to its policyholders. Accounting Developments Stock-Based Compensation: In October, 1995, the Financial Accounting standards Board issued Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation." This Statement encourages companies to adopt a fair value based method of accounting for employee stock options and other equity instruments awarded as compensation. Under this method, compensation expense equal to the fair value of the security at the award grant date is recognized as compensation expense over the vesting period of the awarded security. However, the Statement also allows companies to continue to account for stock-based compensation under the intrinsic value based method, as prescribed by Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees." Under the intrinsic value based method, the compensation cost is computed as the excess, if any, of the quoted market price of the equity security at the measurement date over the amount an employee must pay to acquire the security. If a company continues to account for stock-based compensation under the intrinsic value based method, it must make certain pro-forma disclosures in the footnotes to the financial statements for the difference in the fair value based method and the intrinsic value based method. This Statement is effective for stock-based compensation transactions entered into in fiscal years that begin after December 15, 1995. The Company adopted FAS No. 123 during 1996, and will continue to account for stock-based compensation under the intrinsic value based method and disclose the impact of the fair value method in the notes to its financial statements. Subsequent Event On March 25, 1997, ILCO and Investors-IN entered into an agreement to acquire State Auto Life Insurance Company, an Ohio domiciled life insurer, from State Automobile Mutual Insurance Company, for a cash purchase price of $11.8 million, subject to certain post-closing adjustments. In connection with this transaction, the bank group participating in the Senior Loan have agreed to defer payment of $4.5 million otherwise payable on April 1, 1997 under the terms of the Senior Loan, and to reduce the amount of the payment otherwise due on July 1, 1997 by $2.5 million. This deferral would result in extending the maturity date of the Senior Loan to October 1, 1998. Under the terms of the transaction, State Auto Life would be merged into Investors- IN. The closing of the transaction, which is expected to occur during the second quarter of 1997, is subject to regulatory approvals. Item 8. Financial Statements and Supplementary Data The following Financial Statements of ILCO and its consolidated subsidiaries have been filed as part of this report: 1. Report of Price Waterhouse LLP, Independent Accountants, dated March 25, 1997. . 2. Consolidated Balance Sheets, as of December 31, 1996 and December 31, 1995. 3. Consolidated Statements of Income for the years ended December 31 1996, 1995 and 1994. 4. Consolidated Statements of Changes in Shareholders' Equity for the years ended December 31, 1996, 1995 and 1994. 5. Consolidated Statements of Cash Flows for the years ended December 31, 1996, 1995 and 1994. 6. Notes to Consolidated Financial Statements. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure No independent accountant who audited the Registrant's financial statements has resigned or been dismissed during the two most recent fiscal years. PART III Item 10. Directors and Executive Officers of Registrant (a) Directors of the Registrant The names and ages of the current directors of the Registrant, their principal occupations or employment during the past five years and other data regarding them are set forth below. All of the directors, except Mr. Pruner and Mr. Demgen, were elected at the 1996 annual shareholders meeting. Mr. Pruner and Mr. Demgen were appointed as directors by the Board of Directors on August 26, 1996. The data supplied below is based on information provided by the directors, except to the extent that such data is known to the Registrant. Name Age Director Principal Occupation Since and Other Information W. Lewis Gilcrease 65 1988 Dentist practicing in San Marcos, Texas. Director of ILCO since 1988. Director of FIC from 1979 to July 6, 1991. James M. Grace 53 1984 Vice President and Treasurer of the Company since January, 1985. Executive Vice President, Treasurer and Director of InterContinental Life Insurance Company since 1989. Vice President, Treasurer and Director of Financial Industries Corporation since July, 1976. Executive Vice President and Treasurer of Investors Life Insurance Company of North America since 1989; Executive Vice President, Treasurer and Director of Family Life Insurance Company (a subsidiary of Financial Industries Corporation) since June 1991. Director, Executive Vice President and Treasurer of Investors Life Insurance Company of Indiana since February 1995. Richard A. Kosson 64 1981 Certified Public Accountant and a partner in the firm of Manheim, Kosson & Novick in Millburn, New Jersey. Roy F. Mitte 65 1984 Chairman of the Board and Chief Executive Officer of the Company and InterContinental Life Insurance Company since January, 1985. President of the Company since April, 1985. Chairman of the Board, President and Chief Executive Officer of Financial Industries Corporation since 1976. Chairman of the Board, President and Chief Executive Officer of Investors Life Insurance Company of North America since December, 1988. Chairman of the Board, President and Chief Executive Officer of Family Life Insurance Company since June 1991. Chairman of the Board, President and Chief Executive Officer of Investors Life Insurance Company of Indiana since February 1995. Chairman, ILG Securities Corporation since December 1988. Donald Shuman 72 1980 Real estate specialist, engaged in sales and management of real estate for his own company, Don Shuman Associates, a real estate brokerage and management firm. Eugene E. Payne 54 1989 Vice President of ILCO since December 1988 and Director since May 1989. Vice President and Director of Financial Industries Corporation since February 1992. Executive Vice President, Secretary and Director of Investors Life Insurance Company of North America since December 1988. Executive Vice President since December 1988 and Director since May 1989 of InterContinental Life Insurance Company. Executive Vice President, Secretary and Director of Family Life Insurance Company since June 1991. Director, Executive Vice President and Secretary of Investors Life Insurance Company of Indiana since February 1995. Theodore A. Fleron 57 1991 Vice President and Director of ILCO since May 1991. Assistant Secretary since June 1990. Vice President and Director of FIC since August 1996. Senior Vice President, General Counsel, Assistant Secretary and Director of Investors Life Insurance Company of North America and InterContinental Life Insurance Company since July 1992. General Counsel, Assistant Secretary and Director of Investors Life Insurance Company of North America and InterContinental Life Insurance Company from January 1989 to July 1992. Senior Vice President, General Counsel, Director and Assistant Secretary of Investors Life Insurance Company of Indiana since June 1995. Senior Vice President, General Counsel, Director and Assistant Secretary of Family Life Insurance Company since August 1996. Joseph F. Crowe 58 1991 Vice President of ILCO from May 1991 to January 1997, when he retired from active service with the Company. Director of ILCO since May 1991. Vice President of FIC from February 29, 1992 to January 3, 1997. Director of FIC since February 29, 1992. Executive Vice President of Investors Life Insurance Company of North America and InterContinental Life Insurance Company from June 1991 to January 1997. Director of Investors Life Insurance Company of North America and InterContinental Life Insurance Company since June 1991. Executive Vice President of Family Life Insurance Company from June 1991 to January 1997. Director of Family Life Insurance Company since June 1991. Executive Vice President of Investors Life Insurance Company of Indiana from February 1995 to January 1997. Director of Investors Life Insurance Company of Indiana since February 1995. From December 1986 to March 1991, Executive Vice President of Personal Financial Security Division of Aetna Life & Casualty Company. Steven P. Schmitt 50 1994 Senior Vice President since April 1992 and Director, Vice President and Assistant Secretary since August 1989 of Investors Life Insurance Company of North America and InterContinental Life Insurance Company. Senior Vice President since April 1992 and Director and Vice President since June 1991 of Family Life Insurance Company. Director, Senior Vice President and Assistant Secretary of Investors Life Insurance Company of Indiana since June 1995. H. Gene Pruner 69 1995 Director of ILCO since August 1996. Director of Investors- IN since February, 1995. President of Market Share, Inc. since April 1985. Jeffrey H. Demgen 44 1995 Director of FIC since May 1995. Vice President of FIC since August 1996. Vice President and Director of ILCO since August 1996. Director of Family Life Insurance Company since October 1992. Executive Vice President of Family Life Insurance Company since August 1996. Senior Vice President of Family Life Insurance Company from October 1992 to August 1996. Executive Vice President and Director of Investors Life Insurance Company of North America since August 1996. Senior Vice President and Director of Investors Life Insurance Company of North America from October 1992 to June 1995. Executive Vice President of InterContinental Life Insurance Company since August 1996. Senior Vice President of InterContinental Life Insurance Company from October 1992 to June 1995. Executive Vice President and Director of Investors Life Insurance Company of Indiana since August 1996. Senior Vice President of United Insurance Company of America from September 1984 to July 1992. Mr. Shuman was the general partner of Shuman-Carlisle Mall Associates, a partnership that owned a 400,000 square foot shopping mall located in Carlisle, Pennsylvania. In January 1993, the partnership filed a petition pursuant to Chapter 11 of the Federal Bankruptcy Code, and that bankruptcy proceeding was concluded in early 1995. The incumbent directors have been nominated for submission to vote of the shareholders for reelection at the 1997 annual shareholders' meeting. (b) Executive Officers of the Registrant The following table sets forth the names and ages of the persons who have served as Registrant's Executive Officers during 1996 together with all positions and offices held by them with the Registrant. Officers are elected to serve at the will of the Board of Directors or until their successors have been elected and qualified. Name Age Positions and Offices Roy F. Mitte 65 Chairman of the Board, President and Chief Executive Officer James M. Grace 53 Vice President and Treasurer Eugene E. Payne 54 Vice President and Secretary Joseph F. Crowe1 58 Vice President Roger H. Hamm2 52 Vice President Jeffrey H. Demgen3 44 Vice President In May 1991, Roy F. Mitte suffered a stroke, resulting in partial paralysis affecting his speech and mobility. Mr. Mitte continues to make the requisite decisions in his capacity as Chief Executive Officer, although his ability to communicate and his mobility are impaired. 1. Mr. Crowe retired from active service with the Company as of January 3, 1997. He will continue to service on the Board of Directors. 2. Mr. Hamm resigned as Director of the Company as of August 26, 1996. His appointment as a Vice President of the Company was terminated on that date. 3. Mr. Demgen was appointed a Vice President of the Company on August 26, 1996. (c) Identification of certain significant employees Not Applicable. (d) Family relationships Not Applicable. (e) Business experience All of the executive officers of the Company are members of the Board of Directors and their business experience has been outlined in Item 10(a). (f) Compliance with Section 16(a) of the Securities Exchange Act of 1934 Section 16(a) of the Securities Exchange Act of 1934 requires the Company's officers and directors, and persons who own more than ten percent of a registered class of the Company's equity securities, to file reports of beneficial ownership on Form 3 and changes in beneficial ownership on Forms 4 and 5 with the Securities and Exchange Commission. Officers, directors and greater than ten-percent shareholders are required by SEC regulation to furnish the Company with copies of all Section 16(a) forms they file. Based solely on review of the copies of such forms furnished to the Company, or written representations that no Forms 5 were required, the Company believes that for the period from January 1, 1996 through December 31, 1996 all Section 16(a) filing requirements applicable to its officers, directors and greater than ten-percent beneficial owners were complied with, except as follows: (i) Jeffrey H. Demgen filed a Form 5 in February, 1997, to report his appointment as a Director of the Company as of August 26,1996, and to report beneficial ownership of (a) 198.5076 shares of ILCO common stock through the Employee Stock Purchase Plan made available to employees of the Company and 2,803 shares of ILCO common stock through the Employee Stock Ownership Plan, a non-contributory, tax-qualified plan made available to employees of the Company; (ii) W. Lewis Gilcrease filed a Form 5 in February, 1997, to report the disposition in December, 1996 of 4,420 shares of ILCO common stock to participants in a tax-qualified retirement plan for which he served as trustee; (iii) Eugene E. Payne filed a Form 5 in February, 1997, to report the purchase in August, 1990, of 1,200 shares of ILCO common stock which had not been included in prior Form 4 filings; and (iv) Roy F. Mitte filed a Form 5 in February, 1997, to report the surrender, in December, 1996, of options to acquire 120,000 shares of ILCO common stock and the receipt of final payment from the Company of amounts payable in connection with such cancellation. H. Gene Pruner filed a Form 5 in February, 1997, to report his appointment as a Director of the Company as of August 26, 1996 and to report no beneficial ownership of ILCO common stock. Item 11. Executive Compensation Summary Compensation Table The following table sets forth information concerning the compensation of the Company's Chief Executive Officer and each of the four other persons who were serving as executive officers of the Company at the end of 1996 and received cash compensation exceeding $100,000 during 1996. Annual Compensation Long Term Compensa- tion Awards Name and Stock Principal Options All Other Position Year Salary1 Bonus1 Other2 (Shares) Compensation Roy F. Mitte, Chairman, President and Chief 1996 $286,643 -0- -0- -0- $2,446,3973 Executive 1995 $286,643 -0- -0- -0- 713,5134 Officer 1994 $251,750 $576,1595 -0- -0- 1,376,6636 James M. Grace, Vice President 1996 195,000 15,000 -0-7 -0- -0- and 1995 195,000 10,000 -0- -0- -0- Treasurer 1994 195,000 2,000 -0- -0- -0- Eugene E. Payne, Vice President 1996 195,000 15,000 -0-8 -0- -0- and 1995 195,000 10,000 -0- -0- -0- Secretary 1994 195,000 5,000 -0- -0- -0- Joseph F. Crowe, Vice 1996 196,500 15,000 -0-9 -0- -0- Presi- 1995 195,000 10,000 -0- -0- -0- dent 1994 195,000 5,500 -0- -0- -0- Jeffrey H. Demgen Vice Presi- dent10 1996 102,500 7,500 -0- -0- -0- (1) The executive officers of the Company have also been executive officers of the Company's insurance subsidiaries and FIC and FIC's insurance subsidiary, Family Life. The only executive officer who has been paid compensation by Family Life is Mr. Mitte, who received $216,857 in salary in 1996, $216,857 in salary in 1995, and $251,750 in salary and $538,080 in bonus in 1994 from Family Life, which amounts are not included in the table above. Family Life reimbursed the Company (or, in the case of Mr. Mitte paid Mr. Mitte directly) the following amounts as Family Life's share of these executive officers' cash compensation for 1994, 1995 and 1996: $789,830, $216,857 and $216,857, respectively, for Mr. Mitte; $70,590, $88,293 and $83,987, respectively, for Mr. Grace; $126,750, $79,875 and $83,987, respectively, for Dr. Payne; $68,250, 88,293 and $84,633, respectively, for Mr. Crowe; and $46,125 (1996 only) for Mr. Demgen. (2) Does not include the value of perquisites and other personal benefits because the aggregate amount of any such compensation does not exceed the lesser of $50,000 or 10 percent of the total amount of annual salary and bonus for any named individual. (3) During 1996, the Company paid Mr. Mitte: (i) $1,862,000 for the cancellation in 1996 of options to purchase 121,500 shares of the Company's common stock, plus interest at the rate of 8% per year on such amount for a one year period (for a total of $2,011,737); (ii) $120,700 for the federal income tax reimbursement relating to the cancellation in 1995 of options to purchase 50,000 shares of the Company's common stock; and (iii) $313,960 for the federal income tax reimbursement relating to the 1996 options cancellation described above in this footnote. Each of these payments was made pursuant to the contract referred to in footnote 4. (4) In 1989, the Board of Directors granted Mr. Mitte options to purchase 600,000 shares (as adjusted for the three-for-one stock split effective February 15, 1990) of the Common Stock of the Company in equal annual installments of 150,000 shares each. Each installment was subject to the approval of the Board of Directors and is exercisable for a period of ten years from the date the options become exercisable at a price of $1.00 per share (as adjusted). The Board of Directors voted to award installments of 150,000 shares in each of 1989, 1990, 1991 and 1992. In October 1992, Mr. Mitte surrendered to the Company for cancellation options to purchase 120,000 shares. The Company and Mr. Mitte entered into a contract in 1993 providing for the cancellation in 1993 of 240,000 options for an aggregate amount of $3,237,120 and the cancellation in subsequent years of the remaining options for an aggregate amount of $3,610,240. In addition, the Company agreed to pay Mr. Mitte the amount necessary to ensure that Mr. Mitte will receive the same amount, after federal income tax, that he would have received if the options had been cancelled in 1992. During 1995, Mr. Mitte was paid $836,582 for the cancellation in 1995 of options to purchase 50,000 shares of ILCO's Common Stock, $156,323 for the federal income tax reimbursement relating to the cancellation in 1994 of options to purchase 68,500 shares and $127,608 as the final payment relating to the cancellation in 1993 of options to purchase 240,000 shares. These option cancellation payments were made pursuant to the contract referred to above. FIC's Compensation Committee made a recommendation to FIC's Board of Directors, which it adopted, that, in lieu of paying Mr. Mitte a bonus as it has in the past, FIC paid $407,000 of these option cancellation payments to Mr. Mitte, with the balance of $713,513 being paid by ILCO. (5) The Company's Compensation Committee made a recommendation to the Board of Directors, which the Board adopted, that a bonus be paid to Mr. Mitte to enable him to pay off the $650,000 loan that the Company had made to Mr. Mitte in 1989 and to reimburse him for the amount of federal income tax payable on the bonus. Since the Company and FIC have usually each paid one-half of Mr. Mitte's cash compensation, FIC's Board of Directors, acting on the recommendation of its Compensation Committee, subsequently authorized FIC to pay $500,000 of that bonus to Mr. Mitte. Therefore, the Company paid $576,159, and FIC paid $500,000, of the bonus. (6) During 1994, the Company paid Mr. Mitte $997,520 for the cancellation in 1994 of options to purchase 68,500 shares of the Company's Common Stock and $379,143 for the federal income tax reimbursement relating to the cancellation in 1993 of options to purchase 240,000 shares. Both of these payments were made pursuant to the contract referred to in footnote (4). (7) Mr. Grace exercised stock options in 1996 to purchase 12,000 shares of the Company's Common Stock. See "Aggregated Option Exercises in 1996" below. (8) Dr. Payne exercised stock options in 1996 to purchase 6,000 shares of the Company's Common Stock. See "Aggregated Option Exercises in 1996" below. (9) Mr. Crowe exercised stock options in 1996 to purchase 8,000 shares of the Company's Common Stock. See "Aggregated Option Exercises in 1996" below. (10) Mr. Demgen became an executive officer of the Company in August, 1996. Option Grants in 1996 No options were granted to any executive officers of the Company during the year 1996. Aggregated Option Exercises in 1996 The following table sets forth information concerning each exercise of stock options during 1996 by each of the executive officers of the Company. Shares Acquired Value Name On Exercise (#) Realized ($) Joseph F. Crowe 8,000 $ 44,000 James M. Grace 12,000 119,040 Eugene E. Payne 6,000 58,020 Aggregated Stock Option Values The following table sets forth information with respect to the unexercised options held by the executive officers of the Company. Value of Number of Unexercised Unexercised Options In-the-Money Held at Options at December 31, 1996 December 31, 1996 Name Exercisable Unexercisable Exercisable Unexercisable James M. Grace 42,000 24,000 $ 420,840 $ 244,080 Eugene E. Payne 26,000 12,000 264,420 122,040 Joseph F. Crowe 22,000 -0- 104,500 -0- (1) Based on the closing price of the Company's Common Stock on NASDAQ on December 31, 1996 ($13.50). Members of Compensation Committee W. Lewis Gilcrease, Donald Shuman and Richard A. Kosson are the members of the Company's Compensation Committee, which makes recommendations to the Board of Directors with respect to the Chief Executive Officer's compensation. Compensation Committee Interlocks and Insider Participation Roy F. Mitte determines the compensation of all executive officers of the Company, other than the Chief Executive Officer. Mr. Mitte is the Chairman of the Board, President and Chief Executive Officer of the Company and FIC. He also determines the compensation of all executive officers of FIC, other than the Chief Executive Officer. Pension Plan Table The following table sets forth estimated annual pension benefits payable upon retirement at age of 65 under the Company's noncontributory defined benefit plan ("Pension Plan") to an employee in the final pay and years of service classifications indicated, assuming a straight life annuity form of benefit. The amounts shown in the table do not reflect the reduction related to Social Security benefits referred to below. Years of Service 30 or Remuneration 15 20 25 more $125,000 $31,250 $41,667 $52,083 $62,500 150,000 37,500 50,000 62,498 75,000 175,000 43,750 58,333 72,914 87,500 200,000 50,000 66,667 83,330 100,000 The normal retirement benefit provided under the Pension Plan is equal to 1.57% of final average eligible earnings less 0.65% of the participant's Social Security covered compensation multiplied by the number of years of credited service (up to 30 years). The compensation used in determining benefits under the Pension Plan is the highest average earnings received in any five consecutive full-calendar years during the last ten full-calendar years before the participant's retirement date. The maximum amount of annual salary and bonus that can be used in determining benefits under the Pension Plan is $200,000 for any year prior to 1994 and is $150,000 for 1994 and each subsequent year. The annual eligible earnings, for 1996 only, covered by the Pension Plan (salary and bonus up to $150,000) with respect to the individuals reported in the Summary Compensation Table were as follows, with their respective years of credited service under the Pension Plan at December 31, 1996 being shown in parentheses: Mr. Mitte, $150,000 (9 years), Mr. Grace, $150,000 (9 years), Dr. Payne, $150,000 (8 years), Mr. Crowe, $150,000 (5 years) and Mr. Demgen (4 years). Compensation of Directors Directors who are not officers or employees of the Company are paid a $5,000 annual fee, and are compensated $1,000 for each regular or special meeting of the Board of Directors which they attend in person. In the case of telephonic meetings of the Board, non-employee directors who participate in such telephonic meetings are compensated $500 for such meeting. Directors who participate via telephone in a regular or special meeting which is held by other than conference telephone are not entitled to a fee for such a meeting. Non-employee directors serving on committees of the Board are compensated in the amount of $500 for each committee meeting they attend whether such participation is in person or by telephone, provided that the committee meeting is held on a day other than that on which the Board meets. Employment Agreements and Change In Control Arrangements The terms and conditions of employment agreements that the Company would enter into upon the occurrence of certain events that result in the agreements taking effect were approved by the Board of Directors with respect to Messrs. Grace, Payne and Crowe in 1991 Each agreement would include two independent provisions with respect to the effective date and the term of each agreement. First, the term of the agreement would begin on the earlier of (i) the date of retirement (early, normal or deferred) of Roy F. Mitte from his position as Chairman, President and Chief Executive Officer of the Company or (ii) the date of death or disability of Mr. Mitte, and would terminate on the last day of the twelfth month next following the commencement date of the term of the agreement, unless extended upon mutually acceptable terms. Independently, the term of the agreement would commence upon the date that any person who is not currently a control person with respect to the Company acquires, or enters into an agreement to acquire, control of the Company, directly or indirectly, and would end on the last day of the twelfth month next following the date on which the employee receives notice of the termination of his employment with the Company or the life insurance subsidiaries of the Company. During the term of the agreement, the employee would be entitled to perform all of the duties of the position or positions held by the employee with the Company and all subsidiaries of the Company on the date immediately preceding the commencement date of the agreement. During the term of the agreement, the employee would be entitled to an annual rate of compensation which is not less than the annual rate of compensation in effect as of the date immediately preceding the commencement date of the agreement. During the term of the agreement, the employee would be entitled to participate in and benefit from all employee benefit plans and other fringe benefits on the same basis as such plans and benefits are made available to other executive personnel of the Company. The agreement may be terminated by the Company only in the event that the employee is guilty of theft of property of the Company or commits a wrongful act which has a material adverse effect upon the business of the Company and with respect to which the employee would not be entitled to indemnification under the provisions of the Bylaws of the Company in effect as of the commencement date of the agreement. The employee may terminate the agreement upon thirty days advance written notice to the Company. Item 12. Security Ownership of Certain Beneficial Owners and Management The following table presents information as of March 14, 1997 as to all persons who, to the knowledge of the Company, were beneficial owners of five (5%) percent or more of the Common Stock of the Company. Amount and Nature of Percent of Name and Address Beneficial Ownership Class Financial Industries Corp. 701 Brazos, Suite 1400 Austin, TX 78701............. 3,668,501 1 61.54% 6 Roy F. Mitte 701 Brazos, Suite 1400 Austin, TX 78701.............. 3,723,392 2,3 62.46% 6 Investors Life Insurance Company of North America 701 Brazos, Suite 1400 Austin, TX 78701................ 334,960 4 7.86% 6 InterContinental Life Insurance Company 701 Brazos, Suite 1400 Austin, TX 78701................. 281,560 5 6.61% 6 Fidelity Management & Research Company 82 Devonshire Street Boston, MA 02109................... 418,300 7 9.82% 6 1 Includes 1,966,346 shares of the Company's stock presently owned and an option to purchase up to 1,702,155 shares of the Company's authorized but unissued Common Stock which is the balance of the option granted to Financial Industries Corporation ("FIC") by the Company in December, 1985. This option may be exercised by FIC at any time at an exercise price equal to the average bid prices of the Company's Common Stock over the six-month period immediately preceding such exercise. 2 As of March 14, 1997, Mr. Mitte owned directly 25,000 shares of the Company's stock. Mr. Mitte, jointly with his wife Joann, also owns 1,866,520 common shares of Financial Industries Corporation ("FIC") which constitutes 34.39 percent of the outstanding common stock of that company, and holds the position of Chairman, President and Chief Executive Officer of FIC. Since FIC holds a controlling interest in the Company, Mr. Mitte's personal holdings in the Company have been combined with the holdings of FIC in determining the amount and percentage of Mr. Mitte's beneficial ownership of the Company. 3 Includes 14,611 shares allocated to Mr. Mitte's account under the Employee Stock Ownership Plan. 4 Represents 281,560 shares owned by ILIC and 53,400 shares owned directly by Investors-NA. ILIC is a life insurance company subsidiary of Investors-NA. All of these shares are treated as treasury shares. 5 All are directly owned by ILIC and are treated as treasury shares. 6 Assumes that outstanding stock options or warrants available to other persons have not been exercised. 7. As reported to the Company on a Schedule 13(G) filed by FMR Corporation, the parent company of Fidelity Management & Research Company ("Fidelity"). According to the Schedule 13(G), Fidelity acts as investment advisor to the Fidelity Low-Priced Stock Fund, a registered investment company, and the Fund is the owner of 418,300 shares of ILCO common stock. The following table contains information as of March 14, 1997 as to the Common Stock of the Company beneficially owned by each director, nominee and executive officer and by all executive officers and directors of the Company as a group. The information contained in the table has been obtained by the Company from each director and executive officer except for information known to the Company. Except as indicated in the notes to the table, each beneficial owner has sole voting power and sole investment power as to the shares listed opposite his name. Amount and Nature of Percent of Name Beneficial Ownership Class Joseph F. Crowe 1 38,744 3,4 * Jeffrey H. Demgen 3,001 4 * Theodore A. Fleron 14,366 4,5 * W. Lewis Gilcrease -0- James M. Grace 1 80,137 2,3,4 1.86% Richard A. Kosson 200 * Roy F. Mitte 1 3,723,292 2,4 62.46% Eugene E. Payne 1 54,199 3,4 1.26% H. Gene Pruner -0- Donald Shuman 450 * Steven P. Schmitt 13,041 4,5 * All Executive Officers and Directors as a group, all of whom are listed above 3,912,250 1,2,3,4,5 64 % * Less than 1% (1) Is an executive officer and/or director of FIC which as of March 14, 1997 beneficially owned 3,668,501 shares of the Company's Common Stock (including option rights to purchase 1,702,155 shares of the Company). In addition to the shareholdings of Mr. Mitte in FIC (see Note 2, above), Mr. Grace owns 5,600 shares of FIC Common Stock. (2) 379,738 shares of the Company's Common Stock are held by the Trustees of the Company's Employee Stock Ownership Plan ("ESOP") of which 15,180 shares are unallocated to any participant's account. Messrs. Grace and Mitte are the trustees of the ESOP and are entitled to vote such un- allocated shares. The ESOP participants have the right to direct the voting of shares allocated to their respective accounts. Beneficial ownership of these unallocated shares is disclaimed by Messrs. Grace and Mitte. The same 15,180 shares are included in the above table for each of Messrs. Grace and Mitte as required for technical compliance with the definition of beneficial ownership promulgated by the Securities and Exchange Commission, and are counted once for purposes of executive officers and directors as a group. (3) Includes 30,000 shares issuable upon exercise of options granted under the Incentive Stock Option Plan during 1987 to Mr. Grace at a price of $3.54 (as adjusted) per share and 12,000 shares issuable upon exercise of options granted under the Non-Qualified Stock Option Plan during 1988 to Mr. Grace at a price of $3.33 (as adjusted) per share, all of which are currently available for exercise. Includes 20,000 shares issuable upon exercise of options granted under the Incentive Stock Option Plan and 6,000 shares issuable upon exercise of options granted under the Non-Qualified Stock Option Plan during 1988 to Dr. Payne at a price of $3.33 (as adjusted) per share, all of which are currently available for exercise. Includes 8,000 shares issuable upon exercise of options granted under the Incentive Stock Option Plan to Mr. Crowe during 1991 at a price of $8.75 per share, which are currently available for exercise. (4) Includes shares beneficially acquired through participation in the Company's ESOP and/or the Employee Stock Purchase Plan, which are group plans for eligible employees. (5) Includes 6,000 shares issuable upon exercise of options granted under the Non-Qualified Stock Option Plan during 1988 to each of Messrs. Fleron and Schmitt at a price of $3.33 (as adjusted) per share, which are currently exercisable. Item 13. Certain Relationships and Related Transactions with Management The obligations of the Company under the Senior Loan are guaranteed by FIC. FIC presently owns 1,966,346 shares of the company's Common Stock, constituting 46.17% of such shares outstanding, and holds options to acquire an additional 1,702,155 shares at the average bid price of such shares during the six- month period preceding the date of any such purchase. In the event that such options were to be fully exercised, the total number of the Company's shares owned by FIC would constitute 61.54% of the outstanding shares of the Company's Common Stock. In May 1989, the Board of Directors of ILCO granted Roy F. Mitte the right to borrow up to $650,000 from ILCO to be used solely for the purchase of FIC common stock pursuant to Mr. Mitte's then existing options. A principal purpose of said loan was to enable Mr. Mitte to maintain his equity position in FIC, as required under the terms of the lending agreements entered into in connection with the purchase of the Investors Life Companies (see "Acquisition of Investors Life Companies"). Said loan, which was exercised on June 1, 1989, carried no interest and was payable in five years. The loan was paid in full in 1994. See Item 11. Executive Compensation. When it acquired Austin Centre, Investors-NA leased the hotel to FIC Realty Services, Inc. ("FIC Realty"), a subsidiary of FIC, pursuant to which FIC Realty pays monthly rent to Investors-NA in an amount equal to 95% of the net operating profits of the hotel for the preceding month (excess of all hotel revenues over all hotel expenses, including insurance, utilities and property taxes). Any net operating loss for a month is carried forward and deducted from the net operating profit for the next month that has such a profit. During 1996 FIC Realty paid $658,509 of rent to Investors-NA pursuant to this lease. FIC Realty has delegated the management of the hotel to an unrelated third party pursuant to a management agreement, but FIC Realty bears most of the economic risks in operating the hotel. As an inducement to FIC Realty's agreeing to bear those risks, Investors-NA has agreed to provide funds to pay expenses in operating the hotel to the extent that the cash flow from such operations is not sufficient to do so. This arrangement was terminated upon the sale of the Austin Centre in March, 1996. See Item 2. Properties. FIC Realty conducts the leasing activities for the Bridgepoint Square properties owned by Investors-NA. In payment for such services, FIC Realty receives a commission of 4% of the gross rent under each lease which is negotiated by it. During 1996, Investors-NA paid commissions in the amount of $108,811 to FIC Realty. Alcoholic beverages had been sold at the hotel by an unrelated third party pursuant to a lease it had with FIC Realty until September 30, 1994. Commencing October 1, 1994, all alcoholic beverages sales have been conducted by Atrium Beverage Corporation ("Atrium Beverage"), a new subsidiary of FIC Realty. Atrium Beverage subleases from FIC Realty space in the hotel for the storage, service and sale of alcoholic beverages pursuant to which Atrium Beverage pays monthly rent to FIC Realty of $12,500. The sublease provides that the rent paid during each calendar year will be reduced to the extent necessary to insure that Atrium Beverage's net operating profit from alcoholic beverage sales is not less than 5% of its gross receipts from such sales. Atrium Beverage and FIC Realty are also parties to a management agreement whereby FIC Realty manages Atrium Beverage's alcoholic beverage operations at the hotel for a monthly fee equal to 28% of the gross receipts from alcoholic beverages sales. During 1996, Atrium Beverage paid FIC Realty rent and management fees totalling $117,998. All of that amount was included in the hotel revenues of FIC Realty for purposes of determining its net operating profits under the hotel lease agreement with Investors- NA. Investors-NA entered into a management agreement in September 1991 with FIC Property Management, Inc. ("FIC Management"), a subsidiary of FIC, whereby it appointed FIC Management to manage, lease and operate the office tower, retail areas, underground parking garage and common areas of Austin Centre. FIC Management is paid fees in an amount equal to 5% of the net operating profit that Investors-NA receives from the properties managed and leased by FIC Management. During 1996, Investors-NA paid $33,027 of fees to FIC Management under this agreement. This arrangement was terminated upon the sale of the Austin Centre in March, 1996. See Item 2. Properties. As part of the financing arrangement for the acquisition of Family Life Insurance Company, Family Life Corporation ("FLC"), a subsidiary of FIC, entered into a senior loan agreement under which $50 million was provided by a group of banks. The balance of the financing consisted of a $30 million subordinated note issued by FLC to Merrill Lynch Insurance Group, Ins. ("Merrill Lynch") and $14 million borrowed by another subsidiary of FIC from an affiliate of Merrill Lynch and evidenced by a senior subordinated note in the principal amount of $12 million and a junior subordinated note in the principal amount of $2 million and $25 million lent by two insurance company subsidiaries of ILCO. The latter amount was represented by a $22.5 million loan from Investors-NA to FLC and a $2.5 million loan provided directly to FIC by Investors-CA. In addition to the interest provided under those loans, Investors-NA and Investors-CA were granted by FIC non-transferable options to purchase, in the amounts proportionate to their respective loans, up to a total of 9.9 percent of shares of FIC's common stock at a price of $10.50 per share ($2.10 per shares as adjusted for the five-for-one stock split in November, 1996), equivalent to the then current market price, subject to adjustment to prevent dilution. The original provisions of the options provided for their expiration on June 12, 1998 if not previously exercised. In connection with the 1996 amendments to the subordinated notes, as described below, the expiration date of the options were extended to September 12, 2006. On July 30, 1993, the subordinated indebtedness owed to Merrill Lynch and its affiliate was prepaid. The Company paid $38 million plus accrued interest to retire the indebtedness, which had a principal balance of approximately $50 million on July 30, 1993. The primary source of the funds used to prepay the subordinated debt was new subordinated loans totalling $34.5 million that FLC and another subsidiary of FIC obtained from Investors-NA. The principal amount of the new subordinated debt is payable in four equal annual installments in 2000, 2001, 2002 and 2003 and bears interest at an annual rate of 9%. The other terms of the new debt are substantially the same as those of the $22.5 million subordinated loans that Investors-NA had previously made to FLC and that continue to be outstanding. As of June 12, 1996, the provisions of the notes from Investors- NA to FIC, FLC and FLIIC were modified as follows: (a) the $22.5 million note was amended to provide for twenty quarterly principal payments, in the amount of $1,125,000 each, to commence on December 12, 1996; the final quarterly principal payment is due on September 12, 2001; the interest rate on the note remains at 11%, (b) the $30 million note was amended to provide for forty quarterly principal payments, in the amount of $163,540 each for the period December 12, 1996 to September 12, 2001; beginning with the principal payment due on December 12, 2001, the amount of the principal payment increases to $1,336,458; the final quarterly principal payment is due on September 12, 2006; the interest rate on the note remains at 9%, (c) the $4.5 million note was amended to provide for forty quarterly principal payments, in the amount of $24,531 each for the period December 12, 1996 to September 12, 2001; beginning with the principal payment due on December 12, 2001, the amount of the principal payment increases to $200,469; the final quarterly principal payment is due on September 12, 2006; the interest rate on the note remains at 9%, (d) the $2.5 million note was amended to provide that the principal balance of the note is to be repaid in twenty quarterly installments of $125,000 each, commencing December 12, 1996 with the final payment due on September 12, 2001; the rate of interest remains at 12%, (e) the Master PIK note, which was issued to provide for the payment in kind of interest due under the terms of the $2.5 million note prior to June 12, 1996, was amended to provide that the principal balance of the note ($1,977,119) is to be paid in twenty quarterly principal payments, in the amount of $98,855.95 each, to commence December 12, 1996 with the final payment due on September 12, 2001; the interest rate on the note remains at 12%. The Company believes that this restructuring of subordinated debt should enhance the value of the loans that Investors-NA has made to FIC's subsidiaries and the options it holds to purchase FIC's stock. The Company reimbursed FIC for rental expenses and certain other operating expenses incurred during 1996 on behalf of the Company. The amount of such reimbursement was approximately $305,000. Pursuant to a data processing agreement with a major service company, the data processing needs of ILCO's and FIC's insurance subsidiaries were provided at a central location until November 30, 1994. Commencing December 1, 1994, all of those data processing needs are provided to ILCO's and FIC's Austin, Texas and Seattle, Washington facilities by FIC Computer Services, Inc. ("FIC Computer"), a new subsidiary of FIC. Each of FIC's and ILCO's insurance subsidiaries has entered into a data processing agreement with FIC Computer whereby FIC Computer provides data processing services to each subsidiary for fees equal to such subsidiary's proportionate share of FIC Computer's actual costs of providing those services to all of the subsidiaries. The Company's insurance subsidiaries paid $2,243,234 and Family Life paid $1,055,639 to FIC Computer for data processing services provided during December 1996. In 1995, Investors-NA entered into a reinsurance agreement with Family Life pertaining to universal life insurance written by Family Life. The reinsurance agreement is on a co-insurance basis and applies to all covered business with effective dates on and after January 1, 1995. The agreement applies to only that portion of the face amount of the policy which is less than $200,000; face amounts of $200,000 or more are reinsured by Family Life with a third party reinsurer. In 1996, Investors-NA entered into a reinsurance agreement with Family Life, pertaining to annuity contracts written by Family Life. The agreement applies to contracts written on or after January 1, 1996. Roy F. Mitte serves as Chairman, President and Chief Executive Officer of both FIC and ILCO. James M. Grace serves as Vice President, Treasurer and Director of both companies and Secretary of FIC; Dr. Payne serves as Vice President and Director of both companies and Secretary of ILCO; Messrs. Demgen and Fleron serve as Vice Presidents and Directors of both companies; and Mr. Crowe serves as a Director of both companies and, until his retirement in January, 1997, served as a Vice President of both companies. Mr. Roy Mitte holds beneficial ownership of 34.39% of the outstanding shares of FIC (see "Security Ownership of Certain Beneficial Owners and Management"). Part IV Item 14. Exhibits, Financial Statements, Schedules, and Reports on Form 8-K (a) The following documents have been filed as part of this Report. 1. Financial Statements as identified in Item 8 above. 2. Financial Statement Schedules Required to be filed by Item 8. a. Schedule I-Summary of Investments other than Investments in Related Parties. b. Schedule II-Amounts Receivable from Related Parties, Underwriters, Promoters and Employees other than Related Parties. c. Schedule III-Condensed Financial Statements of Registrant. d. Schedule VI-Reinsurance Ceded and Assumed. 3. Exhibits filed with this report or incorporated herein by reference are as listed in the Index to Exhibits on page E-1. (b) Reports on Form 8-K: No reports on Form 8-K were filed during the last quarter of the fiscal year ended December 31, 1996. SIGNATURES Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. InterContinental Life Corporation (Registrant) By: /s/ Roy F. Mitte By:/s/ James M. Grace Roy F. Mitte, Chairman of James M. Grace, Treasurer, the Board, President and Principal Accounting Chief Executive Officer and Financial Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on March 27, 1997. /s/ Roy F. Mitte Roy F. Mitte, Director /s/ James M. Grace James M. Grace, Director /s/ Eugene E. Payne Eugene E. Payne, Director /s/ Joseph F. Crowe Joseph F. Crowe, Director /s/ Theodore A. Fleron Theodore A. Fleron, Director /s/ H. Gene Pruner H. Gene Pruner, Director /s/ Jeffrey H. Demgen __ Jeffrey H. Demgen, Director /s/ Steven P. Schmitt Steven P. Schmitt, Director /s/ W. Lewis Gilcrease W. Lewis Gilcrease, Director /s/ Richard A. Kosson Richard A. Kosson, Director /s/ Donald Shuman Donald Shuman, Director INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES FORM 10-K--ITEM 14 (a)(1) and (2) LIST OF FINANCIAL STATEMENTS TABLE OF CONTENTS The following consolidated financial statements of InterContinental Life Corporation and Subsidiaries are included in Item 8: Report of Independent Accountants.............................F-2 Consolidated Balance Sheets, December 31, 1996 and 1995.......F-3 Consolidated Statements of Income, for the years ended December 31, 1996, 1995 and 1994.............................F-5 Consolidated Statements of Changes in Shareholders' Equity, for the years ended December 31, 1996, 1995 and 1994.........F-6 Consolidated Statements of Cash Flows, for the years ended December 31, 1996, 1995 and 1994.............................F-9 Notes to Consolidated Financial Statements...................................................F-12 The following consolidated financial statement schedules of InterContinental Life Corporation and Subsidiaries are included: Schedule I - Summary of Investments Other Than Investments in Related Parties.............................................F- 42 Schedule II - Amounts Receivable From Related Parties and Underwriters, Promoters, and Employees Other Than Related Parties......................................................F-43 Schedule III - Condensed Financial Statements of Registrant...................................................F-45 Schedule VI - Reinsurance Ceded and Assumed..................F-49 All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are not applicable, and therefore have been omitted. REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Shareholders of InterContinental Life Corporation In our opinion, the consolidated financial statements listed in the index appearing under Item 14(a)(1) and (2) on page F-1 present fairly, in all material respects, the financial position of InterContinental Life Corporation and its subsidiaries (the Company) at December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. 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 generally accepted auditing standards 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 the opinion expressed above. Price Waterhouse LLP Dallas, Texas March 25, 1997 INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (in thousands of dollars) December 31, ASSETS 1996 1995 Investments: Fixed maturities, at amortized cost (market value approximates $8,374 and $14,277) $ 8,165 $ 14,420 Fixed maturities available for sale, at market value (amortized cost $451,550 and $463,701) 453,896 483,606 Equity securities, at market value (cost approximates $373 and $368) 2,304 1,559 Policy loans 53,030 53,656 Mortgage loans 13,494 14,836 Invested real estate and other invested assets 38,696 15,467 Short-term investments 91,556 85,994 Total investments 661,141 669,538 Cash and cash equivalents 3,313 6,537 Notes receivable from affiliates 59,940 61,224 Accrued investment income 7,807 8,190 Agent advances and other receivables 21,725 16,591 Reinsurance receivables 12,123 14,474 Property and equipment, net 1,785 4,460 Real estate occupied by the Company, net -0- 36,169 Deferred policy acquisition costs 26,938 24,926 Present value of future profits of acquired businesses 45,240 48,606 Deferred financing costs 636 1,597 Other assets 8,965 6,859 Separate account assets 414,329 416,122 Total Assets $1,263,942 $1,315,293 The accompanying notes are an integral part of the consolidated financial statements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS, Continued (in thousands of dollars) December 31, LIABILITIES AND SHAREHOLDERS' EQUITY 1996 1995 Liabilities: Policy liabilities and contractholder deposit funds: Future policy benefits $ 119,744 $ 128,265 Contractholder deposit funds 538,505 544,621 Unearned premiums 9,069 10,669 Other policy claims and benefits payable 5,988 6,125 673,306 689,680 Other policyholders' funds 2,720 2,700 Senior loans 24,944 59,385 Deferred federal income taxes 23,692 25,462 Other liabilities 13,835 27,105 Separate account liabilities 412,084 413,876 Total Liabilities 1,150,581 1,218,208 Commitments and Contingencies (Note 13) Redeemable preferred stock: Class A Preferred, $1 par value, 5,000,000 shares authorized, issued 5,000 5,000 Class B Preferred, $1 par value, 15,000,000 shares authorized, issued 15,000 15,000 Redeemable Preferred Stock held 20,000 20,000 in treasury (20,000) (20,000) -0- -0- Shareholders' Equity: Common stock, $.22 par value, 10,000,000 shares authorized; 5,223,739 and 5,166,239 shares issued, 4,232,829 and 4,175,329 shares out- standing in 1996 and 1995, respectively 1,150 1,137 Additional paid-in capital 3,752 3,521 Net unrealized appreciation of equity securities 1,255 748 Net unrealized gain on investments in fixed maturities available for sale 1,525 12,938 Retained earnings 108,697 81,759 Common treasury stock, at cost, 116,379 100,103 990,910 shares (3,018) (3,018) Total shareholders' equity 113,361 97,085 Total Liabilities and Shareholders' Equity $1,263,942 $1,315,293 The accompanying notes are an integral part of the consolidated financial statements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (in thousands of dollars) (except for per share data) Year Ended December 31, 1996 1995 1994 Revenues: Premiums $ 9,980 $ 11,694 $ 14,317 Net investment income 59,836 64,781 57,553 Earned insurance charges 42,238 42,324 39,370 Gain on sale of real estate 23,520 -0- -0- Other 2,670 3,591 3,602 138,244 122,390 114,842 Benefits and expenses: Policyholder benefits and expenses 40,091 42,639 41,243 Interest expense on contractholder deposit funds 32,068 32,375 29,592 Amortization of present value of future profits of acquired businesses 3,366 6,211 5,393 Amortization of deferred policy acquisition costs 2,574 3,929 4,116 Operating expenses 15,884 15,016 13,574 Interest expense 2,820 5,737 5,224 96,801 105,907 99,142 Income from operations 41,443 16,483 15,700 Provision for federal income taxes: Current 10,227 945 (465) Deferred 4,278 4,824 6,248 14,505 5,769 5,783 Net Income $ 26,938 $ 10,714 $ 9,917 Net income per share (Note 14): Common stock and common stock equivalents 5,380 5,389 5,378 Net income per share available to common shareholders $ 5.12 $ 2.11 $ 1.93 The accompanying notes are an integral part of the consolidated financial statements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (in thousands of dollars) Additional Common Stock Paid-in Shares Amount Capital Balance at December 31, 1993 5,102 $1,123 $2,786 Net income Change in net unrealized appreciation of equity securities Change in net unrealized loss on investments in fixed maturities available for sale Options exercised 5 1 68 Balance at December 31, 1994 5,107 1,124 2,854 Net Income Change in net unrealized appreciation of equity securities Change in net unrealized loss on investments in fixed maturities available for sale Options exercised 59 13 667 Balance at December 31, 1995 5,166 1,137 3,521 Net Income Change in net unrealized appreciation of equity securities Change in net unrealized gain on investments in fixed maturities available for sale Options exercised 58 13 231 Balance at December 31, 1996 5,224 $1,150 $3,752 The accompanying notes are an integral part of these consolidated financial statements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (in thousands of dollars) Net Unrealized Gain (Loss) on Invest- Net ments in Unrealized Fixed Appreciation Maturities of Equity Available Retained Balance at December 31, Securities For Sale Earnings 1993 $ 945 $ 6,323 $ 61,128 Net income 9,917 Change in net unrealized appreciation of equity securities (377) Change in net unrealized loss on investments in fixed maturities available for sale (26,589) Options exercised Balance at December 31, 1994 568 (20,266) 71,045 Net Income 10,714 Change in net unrealized appreciation of equity securities 180 Change in net unrealized loss on investments in fixed maturities available for sale 33,204 Options exercised Balance at December 31, 1995 748 12,938 81,759 Net Income 26,938 Change in net unrealized appreciation of equity securities 507 Change in net unrealized gain on investments in fixed maturities available for sale (11,413) Options exercised Balance at December 31, 1996 $ 1,255 $ 1,525 $108,697 The accompanying notes are an integral part of the consolidated financial statements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (in thousands of dollars) Common Total Treasury Shareholders Stock 'Equity Balance at December 31, 1993 $ (3,018) $ 69,287 Net income 9,917 Change in net unrealized appreciation of equity securities (377) Change in net unrealized loss on investments in fixed maturities available for sale (26,589) Options exercised 69 Balance at December 31, 1994 (3,018) 52,307 Net Income 10,714 Change in net unrealized appreciation of equity securities 180 Change in net unrealized loss on investments in fixed maturities available for sale 33,204 Options exercised 680 Balance at December 31, 1995 (3,018) 97,085 Net Income 26,938 Change in net unrealized appreciation of equity securities 507 Change in net unrealized gain on investments in fixed maturities available for sale (11,413) Options exercised 244 Balance at December 31, 1996 $ (3,018) $113,361 The accompanying notes are an integral part of the consolidated financial statements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands of dollars) Year Ended December 31, CASH FLOWS FROM OPERATING 1996 1995 1994 ACTIVITIES Net Income $ 26,938 $ 10,714 $ 9,917 Adjustments to reconcile net income to net cash (used in) provided by operating activities: Amortization of present value of future profits of acquired businesses 3,366 6,211 5,393 Amortization of deferred policy acquisition costs 2,572 3,929 4,116 Depreciation 1,356 2,610 268 Net gain on sales of investments (23,394) (418) (695) Financing costs amortized 961 865 1,411 Amortization of deferred gain on sale of real estate (110) (110) (151) Changes in assets and liabilities: Decrease (increase) in accrued investment income 383 1,759 (698) (Increase) decrease in agent advances and other receivables (2,783) 4,656 (2,467) Policy acquisition costs deferred (4,584) (3,573) (3,597) Decrease in policy liabilities and contractholder deposit funds (16,374) (27,753) (17,685) Increase (decrease) in other policy holders' funds 20 (349) 78 (Decrease) increase in other liabilities (13,270) 911 (707) (Decrease) increase in deferred federal income taxes (1,770) 4,696 (8,124) (Increase) decrease in other assets (2,106) 7,527 (1,037) Other, net 5,331 (1,388) (1,371) Net cash (used in) provided by operating activities (23,464) 10,287 (15,349) The accompanying notes are an integral part of the consolidated financial statements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands of dollars) Year Ended December 31, CASH FLOWS FROM INVESTING 1996 1995 1994 ACTIVITIES Purchase of insurance subsidiary -0- (17,492) -0- Investments purchased (55,395) (38,781) (130,710) Proceeds from sales and maturities of investments 112,791 50,181 97,019 Net change in short-term investments (5,562) 8,847 68,505 Purchases & retirements of equipment 1,319 (4,403) (655) Notes receivable from affiliates 1,284 (465) (413) Net cash provided by (used in) investing activities 54,437 (2,113) 33,746 CASH FLOWS FROM FINANCING ACTIVITIES Issuance of common stock 244 -0- -0- Issuance of senior loan -0- 15,000 -0- Repayment of debt (34,441) (22,200) (17,415) Net cash used in financing activities (34,197) (7,200) (17,415) Net (decrease) increase in cash and cash equivalents (3,224) 974 982 Cash and cash equivalents, beginning of year 6,537 5,563 4,581 Cash and cash equivalents, end of year $ 3,313 $ 6,537 $ 5,563 The accompanying notes are an integral part of the consolidated financial statements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands of dollars) Supplemental Cash Flow Disclosures: Year Ended December 31, 1996 1995 1994 Income taxes paid $ 13,567 $ 560 2,675 Interest paid $ 3,377 $5,905 $ 4,733 Supplemental Schedule of Non-Cash Investing Activities: The Company purchased the outstanding capital stock of a life insurer in the first quarter of 1995 for a cash purchase price of $17.1 million net of post closing adjustments. This purchase resulted in the Company receiving tangible assets and assuming liabilities as follows: Assets $99,642,000 Liabilities $90,816,000 The accompanying notes are an integral part of the consolidated financial statements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. Organization and Summary of Significant Accounting Policies Organization InterContinental Life Corporation (ILCO or the "Company") is principally engaged, through its subsidiaries, in administering existing portfolios of individual and group life insurance, credit life and disability insurance policies and annuity products. The Company's insurance subsidiaries are also engaged in the business of marketing and underwriting individual life insurance, credit life and disability insurance and annuity products in 49 states and the District of Columbia. Such products are marketed through independent, non-exclusive general agents. The Company also administers an in-force book of health insurance business. Principles of Consolidation The consolidated financial statements include the accounts of InterContinental Life Corporation and its subsidiaries. All significant intercompany accounts and transactions have been eliminated. Basis of Presentation The financial statements have been prepared in conformity with generally accepted accounting principles which differ from statutory accounting principles required by regulatory authorities for the Company's insurance subsidiaries. Significant accounting policies followed by the Company are: Investments The Company's general investment philosophy is to hold fixed maturity securities until maturity. However, fixed maturities may be sold prior to the maturity dates in response to changing market conditions, duration of liabilities, liquidity factors, interest rate movements and other investment factors. Accordingly, most fixed maturity investments are classified as available for sale and are carried at market value. All other fixed maturities are carried at the lower of amortized cost or net realizable value as management has the positive intent and the Company has the ability to hold such investments to maturity. Unrealized gains and losses on securities available for sale are not recognized in earnings but are reported as a separate component of equity, net of the income tax effect. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Premiums and discounts on collateralized mortgage obligations (CMOs) are amortized over the estimated redemption period as opposed to the stated maturities. An adjustment to the investment and investment income is booked on a retrospective basis to reflect the amounts that would have existed had the new effective yield been applied since the acquisition of the CMOs. Equity securities are carried at market value. Unrealized gains and losses on equity securities, net of deferred income taxes, if applicable, are reflected directly in shareholders' equity. Mortgage loans and policy loans are recorded at unpaid balances. Real estate is carried at cost less accumulated depreciation, which is generally calculated using the straight-line method over 20 to 40 years. Accumulated depreciation on investments in real estate is $5,788,424 and $5,021,082 at December 31, 1996 and 1995, respectively. Short-term investments are carried at cost, which approximates market value, and generally consist of those fixed maturities and other investments that are intended to be held less than one year from the date of purchase. Investments in real estate are carried at cost less accumulated depreciation. Interest is capitalized on funds expended for construction of facilities for the Company's own use and for facilities intended for sale or lease. Interest cost capitalized and included as a component of the historical cost of the assets was approximately $620,000 in 1996. No interest cost was capitalized in 1995 and 1994. Realized gains and losses on disposal of investments are included in net income. The cost of investments sold is determined on the specific identification basis, except for equity securities, for which the first-in, first-out method is employed. When an impairment of the value of an investment is considered other than temporary, the decrease in value is reported in net income as a realized investment loss and a new cost basis is established. Cash and Cash Equivalents Short-term investments with maturities of three months or less at the time of purchase are reported as cash equivalents. Property and Equipment and Home Office Real Estate Net income for 1996 includes $23.5 million (before federal income tax) resulting from the sale during the first quarter of 1996 of the Austin Centre, a hotel/office complex, located in Austin, Texas, which serves as the Company's home office building. The selling price was $62.672 million, less $1 million paid to a capital reserve account for the purchaser. The property was INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS purchased in 1991 for $31.275 million. The book value of the property, $36.8 million, net of improvements and amortization, was retained and reinvested by the Company. The balance of the proceeds of the sale, net of federal income tax, was used to reduce the Company's senior loan obligations by $15 million. The sale closed on March 29, 1996. The Company continues to occupy space in the building under the terms of an operating lease which expires in September 1997. Property and equipment and home office real estate is stated at cost less accumulated depreciation. Depreciation is calculated using straight-line and accelerated methods over estimated useful lives of 10 to 33 years for buildings and improvements and 10 years for furniture and equipment. Maintenance and repairs are charged to expense when incurred. Accumulated depreciation for property and equipment and home office real estate was $4,364,064 and $8,984,287 at December 31, 1996 and 1995, respectively. Deferred Acquisition Costs The cost of acquiring new and renewal business, principally first year commissions and certain expenses of the policy issuance and underwriting departments, which vary with and are primarily related to the production of new and renewal business, have been deferred to the extent recoverable. Acquisition costs related to universal life products are deferred and amortized in proportion to the ratio of estimated annual gross profits to total estimated gross profits over the expected lives of the contracts. Acquisition costs related to traditional life insurance business are deferred and amortized over the premium paying period of the related policies. Present Value of Future Profits The present value of future profits of acquired traditional life business is amortized over the premium paying period of the related policies in proportion to the ratio of the annual premium revenue to total anticipated premium revenue applicable to such policies. Interest on the unamortized balance is accreted at rates from 8.5% to 9%. For interest-sensitive products, these costs are amortized in relation to the present value, using the current credited interest rate, of expected gross profits of the policies over the anticipated coverage period. Retrospective adjustments of these amounts are made periodically upon the revision of estimates of current or future gross profits on universal life-type products to be realized from a group of INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS policies. Recoverability of present value of future profits is evaluated periodically by comparing the current estimate of future profits to the unamortized asset balances. Anticipated investment returns, including realized gains and losses, from the investment of policyholder balances are considered in determining the amortization of present value of future profits acquired. Deferred Financing Costs Financing costs associated with the Company's Senior Loan have been deferred and are being amortized over the borrowing periods using the interest method. Separate Accounts Separate account assets, carried at market value, and liabilities represent policyholder funds maintained in accounts having specific investment objectives. The net investment income, gains and losses of these accounts, less applicable contract charges, generally accrue directly to the policyholders and are not included in the Company's statement of income. Solvency Laws Assessments The solvency or guaranty laws of most states in which the Company's insurance subsidiaries do business may require the Company's insurance subsidiaries to pay assessments (up to certain prescribed limits) to fund policyholder losses or liabilities of insurance companies that become insolvent. These assessments may be deferred or forgiven under most guaranty laws if they would threaten an insurer's financial strength and, in certain instances, may be offset against future premium taxes. The Company's insurance subsidiaries record the expense for guaranty fund assessment from states which do not allow premium tax offsets in the period assessed. The Company's insurance subsidiaries recorded expenses of $100,165, $241,692 and $192,371 in the years ended December 31, 1996, 1995 and 1994, respectively, as a result of such assessments. Policy Liabilities and Contractholder Deposit Funds Liabilities for future policy benefits related to traditional life products are computed using the net level premium method or an equivalent actuarial method. Assumptions for future investment yields are incorporated in these liabilities (principally 8% for guaranteed premium products). Assumptions INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS for mortality and withdrawal, based on industry and Company experience for all products, include provisions for possible unfavorable deviations. The liability for future policy benefits for traditional life policies is graded to reserves stipulated by regulatory authorities over a 30-year period or the end of the premium paying period, if less. Contractholder deposit funds are liabilities for universal life and annuity products. These liabilities consist of deposits received from customers and accumulated net investment income on their fund balances, less administrative charges. Universal life fund balances are also assessed mortality charges. The cash value benefit for these products is based on actual crediting rates, which are lower than assumed investment yields. Liabilities for future policy benefits related to non-cancelable and guaranteed renewable accident and health contracts are computed based on industry and Company experience and estimated future investment yields ranging from 4 1/2% to 6%. Unearned premium reserves for credit life and accident and health contracts are computed on either the sum-of-the-year's digits or pro rata methods depending upon the type of coverage. Other Policy Claims and Benefits Payable The liability for other policy claims and benefits payable represents management's estimate unpaid losses on claims and other miscellaneous liabilities to policyholders reduced by amounts anticipated to be recovered from reinsurance. Estimated unpaid losses on claims are comprised of losses on claims that have been reported but not yet paid, including estimates of additional development of initial claims estimates, and claims that have been incurred but not yet reported (IBNR) to the Company. The liability for other policy claims and benefits payable is subject to the impact of changes in claim severity, frequency and other factors. Although there is considerable variability inherent in such estimates, management believes that the liability recorded is adequate. Revenue Recognition Premiums on traditional life and health products are recognized as revenue over the premium paying period when due. Credit life and health insurance premiums are recognized over the contract period on a pro rata basis, or the sum of years digits basis. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Benefits and expenses are associated with earned premiums, so as to result in recognition of profits over the lives of the contracts. Proceeds from investment-related products and universal life products are recorded as liabilities when received. Revenues for investment-related products consist of contract charges assessed against the deposit fund values and net investment income. Related benefit expenses primarily consist of interest credited to the fund values after deductions for investment and policy charges. Revenues for universal life products consist of net investment income, mortality and administration charges against deposits and fund values and surrender charges assessed against the fund values. Related benefit expenses include universal life benefit claims in excess of fund values and interest credited to universal life fund values. Net Income Per Share Net income per share is based on the weighted average number of shares of common stock and common stock equivalents outstanding during each year and net income increased by the reduction in interest expense caused by the assumed conversion of common stock equivalents. There are no significant differences between primary and fully diluted income per share amounts. Federal Income Taxes In February, 1992, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" (FAS 109). The Company adopted FAS 109 on a prospective basis effective January 1, 1993. FAS 109 mandates the asset and liability method for computing deferred income taxes. Under this method, balance sheet amounts for deferred income taxes are computed based on the tax effect of the differences between the financial reporting and federal income tax bases of assets and liabilities using the tax rates which are expected be in effect when these differences are anticipated to reverse. Under FAS 109, assets acquired and liabilities assumed in purchase business combinations are assigned their fair values assuming equal tax basis and deferred taxes are provided for lower or higher tax basis. Under Accounting Principles Board (APB) Opinion No. 22 (the previous accounting standard used by the Company to account for income taxes), values assigned to assets acquired and liabilities assumed were net-of-tax. In adopting FAS 109, the Company adjusted the carrying amounts of INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Investors-NA which was acquired in 1988. Pre-tax income from operations for the calendar year ended December 31, 1993 was not impacted. Under FAS 109, as under APB 11, the Company will disclose in its financial statements a reconciliation between the effective tax rate and the amount derived by multiplying pre-tax accounting income by the currently enacted federal income tax rate. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results will differ from those estimates. New Accounting Pronouncements: During 1995, the FASB issued FAS No. 123 "Accounting for Stock- Based Compensation," which encourages companies to adopt the fair value based method of accounting for stock-based compensation. This method requires the recognition of compensation expense equal to the fair value of such equity securities at the date of the grant. This statement also allows companies to continue to account for stock-based compensation under the intrinsic value based method, as prescribed by APB Opinion No. 25 "Accounting for Stock Issued to Employees," with footnote disclosure of the pro forma effects of the fair value based method. FAS No. 123 is effective for transactions entered into in years that begin after December 15, 1995. The Company adopted FAS No. 123 during 1996 and will continue to account for stock-based compensation under the intrinsic value method and disclose the impact of the fair value method in the footnotes to the financial statements. 2. Investments Fixed Maturities The amortized cost, gross unrealized gains and losses and market values of fixed maturities available for sale and fixed maturities held to maturity at December 31, 1996 and 1995, respectively were as follows (in thousands): INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Gross Gross Amort- Unreal- Unreal- ized ized ized Market Cost Gains Losses Value Fixed Maturities Available For Sale as of December 31, 1996: U.S. Treasury securities and obligations of U.S. government agencies and corporations $ 13,817 $ 902 $ 18 $ 14,701 Obligation of states and 4,727 163 -0- 4,890 political subdivisions Foreign government debt securities 5 -0- -0- 5 Corporate securities 120,263 2,582 3,625 119,220 Mortgage-backed securities 312,738 7,473 5,131 315,080 Total Fixed Maturities Available For Sale 451,550 11,120 8,774 453,896 Fixed maturities held to Maturity: Private Placements-Corporate 8,165 320 111 8,374 Total Fixed Maturities $459,715 $ 11,440 $ 8,885 $462,270 Fixed Maturities Available For Sale as of December 31, 1995: U.S. Treasury securities and obligations of U.S. government agencies and corporations $ 15,826 $ 1,494 $ 5 $ 17,315 Obligations of states and political subdivisions 4,686 266 -0- 4,952 Foreign government debt securities 15 -0- 1 14 Corporate securities 98,822 5,092 1,048 102,866 Mortgage-backed securities 344,352 14,600 493 358,459 Total Fixed Maturities Available For Sale 463,701 21,452 1,547 483,606 Fixed Maturities held to Maturity: Private Placements-Corporate 14,420 370 513 14,277 Total Fixed Maturities $478,121 $ 21,822 $ 2,060 $497,883 INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The amortized cost and market value of fixed maturities carried at amortized cost at December 31, 1996 is shown below by contractual maturity. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Fixed Maturities Available for Sale Amortized Market Cost (in thousands) Value Due in one year or less......$ 4,465 $ 4,502 Due after one through five years................. 16,473 17,030 Due after five through ten years...................... 18,637 19,246 Due after ten years.......... 99,237 98,038 Mortgage backed securities... 312,738 315,080 Total Fixed Maturities Available for Sale $ 451,550 $ 453,896 Fixed Maturities Held to Maturity Amortized Market Cost (in thousands) Value Due in one year or less.....$ 2,500 $ 2,547 Due after one through five years................ 3,534 3,716 Due after five through ten years..................... 1,463 1,415 Due after ten years......... Mortgage backed securities.. 668 696 Total Fixed Maturities Held to Maturity $ 8,165 $ 8,374 Proceeds from sales and maturities of investments in fixed maturities during 1996, 1995 and 1994 were approximately $53,888,000, $47,316,000, and $59,247,000. Gross gains of approximately $322,000, $578,000, and $824,000 and gross losses of approximately $100,000, $22,000, and $193,000 were realized on those sales and maturities in 1996, 1995 and 1994, respectively. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Equity Securities The change in net unrealized appreciation for equity securities was $780,000 and $277,000 for the years ended December 31, 1996 and 1995, respectively. Amounts as of December 31 were as follows: 1996 1995 (in thousands) Unrealized appreciation $ 1,946 $ 1,172 Unrealized depreciation (15) (21) Net unrealized appreciation $ 1,931 $ 1,151 Net Investment Income The components of net investment income are summarized as follows: Year Ended December 31, (in thousands) 1996 1995 1994 Fixed maturities $47,448 $49,329 $40,938 Equity securities 12 65 12 Other, including policy loans, real estate and mortgage loans 15,708 19,392 19,650 63,168 68,786 60,600 Investment expenses (3,332) (4,005) (3,047) Net investment income $59,836 $64,781 $57,553 Realized Gains and Losses Net realized gains (losses) included in net investment income are summarized below: Year Ended December 31, (in thousands) 1996 1995 1994 Fixed maturities available for sale $ 222 $ 556 $ 78 Equity securities 1 (26) 324 Other investments (256) (97) 293 (33) 433 695 Income taxes (12) 152 243 INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Net realized (losses) gains $ (21) $ 281 $ 452 Non-income producing investments The carrying value of non-income producing investments were as follows as of December 31: 1996 1995 (in thousands) Fixed maturities $ 100 $ 48 Mortgage loans 81 400 Total $ 181 $ 448 Mortgage loans and invested real estate The Company's mortgage loans and invested real estate are diversified by property type, location and issuer. Mortgage loans are collateralized by the related properties and such loans generally range from 15% to 80% of the property's value at the time the loan is made. No new mortgage loans were made during the three year period ended December 31, 1996. Financial Industries Corporation Equity securities includes a $2,158,407 investment, ($318,390 at cost), in 189,750 shares of common stock of Financial Industries Corporation (FIC) (See Note 9). This represents 3.5% of FIC's outstanding common stock at December 31, 1996. 3. Disclosures about Fair Value of Financial Instruments The estimated fair values of the Company's financial instruments at December 31, 1996 are as follows: Carrying Fair Amount Value (in thousands) Financial assets: Fixed maturities $462,061 $462,270 Policy loans 53,030 53,030 Mortgage loans 13,494 14,066 Short-term investments 91,556 91,556 Cash and cash equivalents 3,313 3,313 Notes receivable from affiliates 59,940 59,940 Carrying Fair Amount Value (in thousands) Financial liabilities: INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Deferred annuities $115,039 $114,445 Supplemental contracts 11,452 11,008 Senior loans 24,944 24,944 The following methods and assumptions were used to estimate the fair value of each class of financial instrument: Fixed maturities Fair values are based on quoted market prices or dealer quotes. Policy loans Policy loans are, generally, issued with coupon rates below market rates and are considered early payment of the life benefit. As such, the carrying amount of these financial instruments is a reasonable estimate of their fair value. Mortgage loans The fair value of mortgage loans is estimated using a discounted cash flow analysis using rates for BBB- rated bonds with similar coupon rates and maturities. Cash and cash equivalents and short-term investments The carrying amount of these instruments approximates market value. Notes receivable from affiliates The fair value is estimated based on a discounted cash flow analysis using current rates offered to the Company for debt of the same remaining maturities. Senior loans The fair value has been set at the price to call the debt. Deferred annuities and supplemental contracts The fair value of deferred annuities is estimated using cash surrender values. Fair values for supplemental contracts is estimated using a discounted cash flow analysis, based on interest rates currently offered on similar products. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 4. Present value of future profits of acquired business An analysis of the present value of future profits of acquired businesses is as follows: 1996 1995 Beginning balance $ 48,606 $ 46,153 Acquisition of insurance subsidiary -0- 8,664 Accretion of interest 4,401 4,437 Amortization (7,767) (10,648) Ending balance $ 45,240 $ 48,606 Amortization of the present value of future profits included in the consolidated statements of income is presented net of the accretion of interest. The estimated amount of present value of future profits to be amortized net of interest accretion during each of the next five years is as follows: 1997 $ 5,354 1998 $ 4,876 1999 $ 2,969 2000 $ 2,639 2001 $ 2,324 5. Acquisition of Business On February 14, 1995, the Company and Investors-NA completed the purchase of Meridian Life Insurance Company (MLIC), a life insurer domiciled in Indiana, from Meridian Mutual Insurance Company. Under the terms of the agreement, the Company acquired approximately 82% of the outstanding common stock of MLIC for $14 million. Investors-NA acquired the remaining 18% for $3 million. Immediately after finalizing the transaction, ILCO contributed its acquired shares to unassigned surplus of Investors-NA, resulting in MLIC being a wholly owned subsidiary of Investors- NA. ILCO's senior loan was increased by $15 million (through an amendment to the loan agreement) to fund its portion of the purchase price. Subsequent to the purchase, MLIC's name was officially changed to Investors' Life Insurance Company of Indiana (INVIND). The transaction was accounted for as a purchase business combination. Accordingly, the results of INVIND's operations are included in income from the date of the acquisition. The purchase price has been allocated to the fair values of the assets and liabilities acquired, including the present value of future profits disclosed in Note 4. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The pro forma unaudited results of operations for the years ended December 31, 1995 and 1994, assuming the acquisition of MLIC had been consummated as of the beginning of 1994, are as follows: Unaudited 1995 1994 (in thousands, except per share data) Total revenues $123,905 $134,431 Net income $ 10,391 $ 9,889 Net income per share available to common shareholders $ 2.05 $ 1.92 6. Senior Loans The Company's outstanding debt at December 31, 1996 and 1995 consists of a series of separate notes, each of which is payable to a member bank of a lending syndicate with principal payments beginning April 1, 1993 and a final payment on or before July 1, 1999. The balance of the notes was $24,944,000 and $59,385,000 at December 31, 1996 and 1995, respectively. Interest is payable at the Company's option based on (1) the managing bank's corporate base rate plus 1.25% declining to .5% as principal declines, or (2) LIBOR plus 2.5% declining to 1.75%. The rate in effect at December 31, 1996 and 1995 was 7.56% and 8.18%, respectively. The obligations of the Company under the Senior Loans are secured by: (1) all of the outstanding shares of stock of Investors-NA, (2) a $15,000,000 surplus debenture of Investors-NA payable to the Company, which had an outstanding principal balance of $5,706,224 as of December 31, 1996 and (3) a $140,000,000 surplus debenture of Investors-NA payable to the Company, which had an outstanding principal balance of $32,840,000 as of December 31, 1996. The obligations of the Company under the Senior Loans are guaranteed by FIC. The Senior Loans documents also require the Company to make additional mandatory principal payments which reduce the quarterly principal payments in the inverse order of their due dates. The payments are equal to (a) 100% of the net proceeds from the issuance of the Company's capital stock or debt securities and (b) the applicable percentage of the Company's annual Excess Cash Flow (as defined). Additional mandatory principal payments during 1996, 1995 and 1994 were $941,000, $4,200,000 and $3,915,000, respectively. The Senior Loan may be prepaid, in whole or in part, without penalty or premium. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Prepayments during 1996, 1995 and 1994 were $15,500,000, $-0- and $-0-, respectively. In connection with the acquisition of Meridian Life Insurance Company in February, 1995 (See Note 5), the Company borrowed an additional $15 million under the Senior Loans to help finance the purchase. In addition, the maturity schedule was extended one year to July 1, 1999. Maturities of the Senior Loans over the next three years are as follows: (in thousands) 1997 $ 18,080 1998 6,864 1999 -0- $ 24,944 7. Federal Income Taxes The Company files consolidated federal income tax returns with its non-life subsidiaries. The Company's life insurance subsidiaries file consolidated federal income tax returns. In accordance with the Company's tax allocation agreement, federal income tax expense or benefit is allocated to each member of the consolidated group as if each member were filing a separate return. The U.S. federal income tax provision (benefit) charged to continuing operations for the years ended December 31, was as follows: 1996 1995 1994 (amounts in thousands) Current tax provision $ 10,227 $ 945 $ (465) Deferred tax provision 4,278 4,824 6,248 Total provision for income taxes $ 14,505 $ 5,769 $5,783 Provision has not been made for state and foreign income tax expense since expense is minimal. The provision for income taxes differs from the amount of income tax determined by applying the U.S. statutory federal income tax rate of 35% to pre-tax income from continuing operations before extraordinary item as a result of the following differences: 1996 1995 1994 Income taxes at the statutory rate $14,505 $ 5,769 $ 5,495 Increase (decrease) in taxes resulting from: INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Deferred compensation arrangement -0- -0- 375 Other items, net -0- -0- (87) Total provision for income taxes $14,505 $ 5,769 $ 5,783 Deferred taxes are recorded for temporary differences between the financial reporting bases and the federal income tax bases of the Company's assets and liabilities. The sources of these differences and the estimated tax effect of each are as follows: Dec. 31, Dec. 31, 1996 1995 Deferred Tax Liability: Deferred policy acquisition costs $ 4,989 $ 4,058 Present value of future profits 11,715 10,201 Invested assets 769 998 Net unrealized appreciation on marketable securities 1,497 7,369 Acquisition discounts on mortgages/policy loans 1,984 2,404 Reinsurance recoverable 3,268 3,953 Other taxable temporary differences 2,876 3,135 Total deferred tax liability $27,098 $32,118 Dec. 31, Dec. 31, 1996 1995 Deferred Tax Asset: Policy Reserves $ 1,594 $ 4,757 Other deferred tax asset -0- 527 Net operating loss carry forward 1,512 828 Minimum tax credit 300 281 Deferred Compensation -0- 263 Total deferred tax asset 3,406 6,656 Net deferred tax liability $23,692 $25,462 Deferred federal income tax (benefit) expense of $(5,872,000) and $17,976,000 for 1996 and 1995, respectively, have been provided on the unrealized (depreciation) appreciation of marketable securities and included in the deferred tax liability. This decrease in deferred tax liability has been recorded as a reduction to the equity adjustment due to the net change in unrealized appreciation or depreciation and has not been reflected in the deferred income tax expense. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Under the provisions of pre-1984 life insurance company income tax regulations, a portion of "gain from operations" of ILIC and Investors-NA was not subject to current taxation but was accumulated, for tax purposes, in special tax memorandum accounts designated as "policyholders' surplus accounts". Subject to certain limitations,"policyholders' surplus" is not taxed until distributed or the insurance company no longer qualifies to be taxed as a life insurance company. The accumulation in these accounts for Investors-NA and ILIC at December 31, 1996 and 1995 was $8,225,000 and $4,357,000, respectively. Federal income tax of $2,879,000 and $1,525,000 would be due if the entire balance is distributed at a tax rate of 35%. The Company does not anticipate any transactions that would cause any part of the policyholders' surplus accounts to become taxable and, accordingly, deferred taxes have not been provided on such amounts. At December 31, 1996 and 1995, Investors-NA and ILIC have approximately $106,000,000 and $5,800,000, respectively, in the aggregate in their shareholders' surplus accounts from which distributions could be made without incurring any federal tax liability. At December 31, 1996, the Company and its non-life wholly-owned subsidiaries have net operating loss carryforwards of approximately $4.3 million. At December 31, 1996, there were no IRS examinations in progress for the Company or its subsidiaries. 8. Reinsurance The Company reinsures portions of certain policies thereby providing greater diversification of risk and minimizing exposure on larger policies. The Company's retention on any one individual ranges from $60,000 to $250,000 depending on the risk. The Company remains liable to the extent the reinsurance companies are unable to meet their obligations under the reinsurance agreements. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The amounts reported in the consolidated financial statements for reinsurance ceded are as follows: December 31, 1996 1995 (in thousands) Future policy benefits $ 7,314 $ 7,964 Unearned premiums 1,946 2,634 Other policy claims and benefits payable 76 155 Amounts recoverable on paid claims 2,787 3,721 Reinsurance receivables $ 12,123 $ 14,474 Years ended December 31, 1996 1995 1994 (in thousands) Premiums $ 7,962 $ 8,568 $ 10,907 Policyholder benefits and expenses $ 14,712 $ 14,404 $ 14,176 9. Shareholders' Equity The Company is controlled by FIC, a life insurance holding company, through FIC's ownership of approximately 46% of the Company's outstanding common stock. FIC also holds options to purchase up to an additional 1,702,155 shares of the Company's authorized but unissued common stock at a price equal to the average market value during the six months preceding the exercise date. If all of these options were exercised at December 31, 1996, FIC would own approximately 61.81% of the issued and outstanding shares of the Company's common stock, assuming no other options or warrants held by other parties were exercised. In the event that any other party seeks to acquire the Company's outstanding shares, FIC has the right to acquire, without prior approval and under the same pricing formula, the number of shares of common stock which when added to the number of shares then owned by FIC, amount to 51% of the outstanding shares of the Company. These options will remain in effect as long as any indebtedness guaranteed by FIC remains outstanding (See Note 6). The Company's ability to pay dividends to its shareholders is affected, in part, by the receipt of dividends from Investors-NA, which is organized under the laws of the state of Washington. Under current Washington law, any proposed payment of a dividend or distribution which, together with dividends or distributions paid during the preceding twelve months, exceeds the greater of (i) 10% of statutory surplus as of the preceding December 31 or (ii) statutory net gain from operations for the preceding calendar year is called an "extraordinary dividend" and may not be paid until either it has been approved, or a waiting period shall have passed during which it has not been disapproved, by the insurance commissioner. In addition, Washington Laws require that prior notification of a proposed dividend be given to the Washington Insurance Commissioner and that dividends may be paid only from earned surplus. The New Senior Loan described in Note 6 restricts the Company from paying any dividends on its common stock during its term. Net income (before surplus debenture interest expense) and capital and surplus of Investors-NA as reported to insurance regulators and as determined in accordance with statutory accounting practices are as follows: Year Ended December 31 (in thousands) 1996 1995 1994 Net Income $ 33,068 $ 23,810 $ 21,706 Capital and Surplus $ 56,174 $ 61,896 $ 53,841 The insurance regulations of the state of Washington limit the amount an insurer may invest in the obligations of any one corporation to four percent of the insurer's statutory admitted assets. Investors-NA held $51,211,460 and $52,500,000 in subordinated notes issued by Family Life Corporation, a wholly- owned subsidiary of FIC, at December 31, 1996 and 1995, respectively. This investment exceeds the limit on investments prescribed by the state of Washington by $8,787,303 and $9,282,287 at December 31, 1996 and 1995, respectively. Prior to the acquisition of these notes, Investors-NA received written approval from the Washington State Insurance Department for the inclusion of the full amount of these notes in its statutory admitted assets. At December 31, 1996 and 1995, this permitted practice increased statutory surplus by $8,787,303 and $9,282,287 over what it would have been under prescribed statutory accounting practices. In 1988, the Company authorized the issuance of 10 million shares of Class C Preferred Stock, $1.00 par value. The Company is not permitted, under the provisions of the Senior Loan Agreement (See Note 6), to issue any preferred stock except Class A and Class B issued in connection with the acquisition of the Investors Life Companies. The Company has reacquired the Class A and Class B Preferred Stock and holds the shares in treasury. 10. Retirement Plans and Employee Stock Plans Retirement Plan The Company maintains a retirement plan, ("ILCO Pension Plan"), covering substantially all employees of the Company. The plan is a non-contributory, defined benefit pension plan, which covers each eligible employee who has attained 21 years of age and has completed one year or more of service. Each participating company contributes an amount necessary (as actuarially determined) to fund the benefits provided for its participating employees. The Plan's basic retirement income benefit at normal retirement age is 1.57% of the participant's average annual earnings less 0.65% of the participant's final average earnings up to covered compensation multiplied by the number of his/her years of credited service. For participants who previously participated in the plan maintained by the Company for the benefit of former employees of the IIP Division of CIGNA Corporation (the IIP Plan), the benefit formula described above applies to service subsequent to May 31, 1996. With respect to service prior to that date, the benefit formula provided by the IIP Plan is applicable, with certain exceptions applicable to former IIP employees who are classified as highly compensated employees. Former eligible IIP employees commenced participation automatically. The Plan also provides for early retirement, postponed retirement and disability benefits to eligible employees. Participant benefits become fully vested upon completion of five years of service, as defined, or attainment of normal retirement age, if earlier. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The pension costs for all plans include the following components: 1996 1995 (in thousands) Service cost-benefits earned during the period $ 502 $ 313 Interest cost on projected benefit obligation 686 571 Return on plan assets (1,128) (1,081) Amortization (229) (269) Pension benefit $ (169) $ (466) The following summarizes the funded status of the plans at December 31: 1996 1995 (in thousands) Actuarial present value of: Vested benefit obligation $ (7,726) $ (7,495) Accumulated benefit obligation $ (7,914) $ (7,870) Projected benefit obligation $ (8,936) $ (9,155) Plan assets at market value 15,322 14,316 Plan assets in excess of projected benefit obligations $ 6,386 $ 5,161 Unrecognized prior service cost $ (926) $ (1,888) Unrecognized net (gain) loss $ (1,317) $ 700 Prepaid pension expense $ 4,143 $ 3,973 The significant assumptions for the plans are as follows: The discount rate for projected benefit obligations was 7.75% and 7.0% in 1996 and 1995, respectively. The assumed long-term rate of compensation increases was 6.0% and 6.5% for 1996 and 1995, respectively. The long-term rate of return on plan assets was 8.0% for 1996 and 1995. Assumed expenses as a percentage of plan assets were 0.5.% and 0% for 1996 and 1995, respectively. Savings and Investment Plan The Company adopted a Savings and Investment (401(k)) Plan that allows eligible employees who have met a one-year service requirement to make contributions to the Plan on a tax-deferred basis. A Plan participant may elect to contribute up to 16% of eligible earnings on a tax deferred basis, subject to certain limitations applicable to "highly compensated employees" as defined in the Internal Revenue Code. Plan participants may allocate contributions, and earnings thereon, between investment options selected by participants. The Account Balance of each Participant is 100% vested at all times. Prior to January 1, 1990, the Company made matching contributions of up to 50% of the first 6% of eligible compensation contributed by the plan participants. Vesting of such company contributions is based on number of years of service. The employer contributions were discontinued effective January 1, 1990. During 1995, the Plan was amended to allow for the addition of Family Life Insurance Company (FLIC), a wholly-owned subsidiary of FIC, as a participating employer, thus allowing FLIC employees to participate in the Plan. The amendment did not affect the Plan's tax-qualified status. Employee Stock Ownership Plan During 1979, the Company established an Employee Stock Ownership Plan and a related trust for the benefit of its employees. The Plan generally covers employees who have attained the age of 21 and have completed one year of service. Vesting of benefits to employees is based on number of years of service. No contributions were made to the Plan in 1996, 1995 or 1994. At December 31, 1996, the Plan had a total of 349,625 shares which are allocated to participants and 15,180 which remain unallocated. During 1995, the Plan was amended to allow for the addition of FLIC as a participating employer, thus allowing FLIC employees to participate in the Plan. The amendment did not affect the Plan's tax-qualified status. Stock Option Plans The Company applies APB Opinion No. 25 and related Interpretations in Accounting for its stock option plans, which are described below accordingly. No compensation cost has been recognized for its stock option plans. Had compensation cost for the Company's stock option plans been determined based on the fair market value at the grant dates for awards under those plans consistent with the method provided by FAS No. 123, the impact to the Company's net income would have been immaterial. Under the Company's Incentive Stock Option Plan, options to purchase shares of the Company's common stock, at 100% of fair market value on the date of grant, have been granted to key employees. A total of 315,000 shares of the Company's common stock are currently reserved for issuance under this plan. As of December 31, 1996, options to purchase 327,850 shares have been granted since the plan's inception. As of December 31, 1996, 161,750 options have been exercised and 86,100 options have been terminated. At December 31, 1996 72,000 options to purchase shares of the Company's common stock at prices ranging from $3.33 to $8.75 remain outstanding. The number of options exercised in 1996, 1995 and 1994 were 9,500, 11,000 and 5,500, respectively. Under the Non-Qualified Stock Option Plan for certain officers, directors, agents and others, the Board of Directors is authorized to issue options to purchase up to 600,000 shares of the Company's common stock at 100% of the fair market value on the date of grant but in no case less than $3.33 per share. In 1988, options to purchase 330,000 shares were granted at a price of $3.33 per share. In 1991, options to purchase 50,000 shares were granted at prices ranging from $8.75 to $9.25. In 1992 and 1990 options to purchase 60,000 and 30,000 shares respectively, expired. In 1995, options to purchase 60,000 shares were granted at a price of $11.12 per share. These same options, along with 20,000 other options, were terminated in 1996. There were no options granted in 1996. The number of options exercised in 1996, 1995 and 1994 were 48,000, 48,000 and -0-, respectively. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes activity under all Plans for each of the three years ended December 31, 1996: 1994 Weighted Average Shares Exercise (000's) Price Outstanding at the beginning of the year 388 $ 4.61 Granted 0 0.00 Exercised (5) 9.25 Canceled 0 0.00 Outstanding at the end of the year 383 $ 4.58 Options exercisable at year end 132 $ 4.79 Weighted average fair value of options granted during the year $ 0.00 1995 Weighted Average Shares Exercise (000's) Price Outstanding at the beginning of the year 383 $ 4.58 Granted 60 11.12 Exercised (59) 3.67 Canceled 0 0.00 Outstanding at the end of the year 384 $ 5.75 Options exercisable at year end 130 $ 4.70 Weighted average fair value of options granted during the year 60 $11.12 1996 Weighted Average Shares Exercise (000's) Price Outstanding at the beginning of the year 384 $ 5.75 Granted 0 0.00 Exercised (58) 4.24 Canceled (80) 10.65 Outstanding at the end of the year 246 $ 4.50 Options exercisable at year end 120 $ 4.38 Weighted average fair value of options granted during the year $ 0.00 INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Options outstanding weighted-average Number remaining Range of outstanding contractual exercise prices December 31, 1996 life (years) $3.33 - 3.54 194,000 1.85 $8.75 52,000 4.42 $3.33 - 8.75 246,000 2.39 Range of Weighted average exercise prices exercise price $3.33 - 3.54 $3.36 $8.75 $8.75 $3.33 - 8.75 $4.50 Range of Number exercisable Weighted average exercise prices December 31, 1996 exercise price $3.33 - 3.54 98,000 $3.39 $8.75 22,000 $8.75 $3.33 - 8.75 120,000 $4.38 INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS In 1989 options to purchase 600,000 shares of the Company's common stock at $1.00 per share were granted by the Board of Directors to the Company's Chairman of the Board. These options became exercisable upon approval of the Board of Directors in annual installments of 150,000 shares each. The last installment was granted in 1992. In 1992, the chairman surrendered for cancellation 120,000 of these options. In October of 1993, the Company entered into an agreement with the Chairman, whereby the Chairman agreed to surrender all of his remaining common stock options between 1993 and 1996. Pursuant to this agreement, all remaining options were surrendered through December 31, 1996, (see Note 12). 11. Leases The Company and its subsidiaries occupy office facilities under lease agreements which expire at various dates through 2005. Certain office space leases may be renewed at the option of the Company. Rent expense in 1996, 1995, and 1994 was $2,466,679, $2,531,085, and $1,424,946, respectively, under these lease agreements. Minimum annual future rentals are as follows: (in thousands) 1997 1,115 1998 637 1999 637 2000 637 2001 637 Thereafter 2,546 $ 6,209 12. Related Party Transactions On June 12, 1991, FIC (which owns approximately 46% of the outstanding common stock of the Registrant) completed the purchase of all the outstanding shares of Family Life Insurance Company, a Washington domiciled life insurance company, from Merrill Lynch Insurance Group, Inc. The transaction was financed, in part, by a senior subordinated loan of $22.5 million by Investors - NA to Family Life Corporation (FLC), an indirect, wholly-owned subsidiary of FIC, and a senior loan of $2.5 million by Investors - NA to FIC. In addition to the interest provided under the terms of said loans, Investors - NA was granted non- transferrable options to purchase up to a total of 9.9 percent of the common shares of FIC. The option price is $10.50 per share, equivalent to the then current market price, subject to adjustment to prevent the effect of dilution. As a result of the five-for-one stock split implemented by FIC, effective in November 1996, the exercise price of the options was changed to $2.10 per share. The initial terms of the option provided for their expiration on June 12, 1998, if not previously exercised. In connection with the 1996 amendments to the subordinated loans held by Investors-NA, the expiration date of the options was extended to September 12, 2006. On July 30, 1993, FLC prepaid its Merrill Lynch subordinated loans. The transaction was financed, in part, by a subordinated loan of $30 million by Investors - NA to FLC and by a subordinated loan of $4.5 million by Investors - NA to Family Life Insurance Investment Company, (FLIIC), a wholly-owned subsidiary of FIC and parent of FLC. Notes receivable from affiliates of $59,940,193 include $51,211,460 of senior subordinated loans by Investors - NA to FLC, a subordinated loan of $4,475,469 to FLIIC, and a senior loan of $4,253,264 to FIC. Interest earned by ILCO on the aforementioned loans totaled $6,095,877, $6,044,322 and $5,993,512 in 1996, 1995 and 1994, respectively. At December 31, 1996 and December 31, 1995 accrued interest was $297,486 and $1,459,408, respectively. Rent and certain other operating expenses aggregating approximately $305,000, $830,000, and $585,000, were incurred by FIC in 1996, 1995 and 1994, respectively, on behalf of the Company. The Company reimbursed FIC for these costs. ILCO received $14 million, $15 million, and $13 million from Family Life Insurance Company for direct costs incurred by ILCO on behalf of Family Life Insurance Company's operations in 1996, 1995 and 1994, respectively. Under an agreement between ILCO and Family Life all direct costs incurred on behalf of the other are to be reimbursed. In 1995, Investors-NA entered into a reinsurance agreement with Family Life pertaining to universal life insurance written by Family Life. The reinsurance agreement is on a co-insurance basis and applies to all covered business with effective dates on and after January 1, 1995. The agreement applies to only that portion of the face amount of the policy which is less than $200,000; face amounts of $200,000 or more are reinsured by Family Life with a third party reinsurer. In 1996, Investors-NA entered into a reinsurance agreement with Family Life, pertaining to annuity contracts written by Family Life. The agreement applies to contracts written on or after January 1, 1996. These reinsurance arrangements reflect management's plan, to develop universal life and annuity business at Investors-NA, with Family Life concentrating on the writing of term life insurance products. In October of 1993, the Company entered into an agreement with the Chairman, whereby the Chairman agreed to surrender all of his remaining common stock options for consideration of $6,847,000 (See Note 11). Prior to entering into this agreement, the Company had accrued compensation expense related to these options of $4,225,000. Upon entering into the agreement, additional compensation was recorded totaling $2,622,000 for the year ended December 31, 1993 to increase total compensation to the surrender price. Accordingly, a liability was recorded for the unpaid portion of the agreement. Pursuant to this agreement, during 1993 the Chairman was paid $3,237,120 for cancellation of 240,000 of these options and during 1994 he was paid $997,520 for cancellation of 68,500 options and $379,143 for federal income tax reimbursement relating to the cancellation of options in 1993. During 1995, the Chairman was paid $836,582 for the cancellation in 1995 of options to purchase 50,000 shares of ILCO's Common Stock, $156,323 for the federal income tax reimbursement relating to the cancellation in 1994 of options to purchase 68,500 shares and $127,608 as the final payment relating to the cancellation in 1993 of options to purchase 240,000 shares. The federal income tax reimbursements are expensed in the period when they are incurred. During 1996, the Company paid the Chairman: (i) $1,862,000 for the cancellation in 1996 of options to purchase 121,500 shares of the Company's common stock, plus interest at the rate of 8% per year on such amount for a one year period (for a total of $2,011,737); (ii) $120,700 for the federal income tax reimbursement relating to the cancellation in 1995 of options to purchase 50,000 shares of the Company's common stock; and (iii) $313,960 for the federal income tax reimbursement relating to the 1996 options cancellation. Pursuant to a data processing agreement with a major service company, the data processing needs of ILCO's and FIC's insurance subsidiaries were provided by an offsite third party until November 30, 1994. Commencing December 1, 1994, all of those data processing needs are provided to ILCO's and FIC's Austin, Texas and Seattle, Washington facilities by FIC Computer Services, Inc. ("FIC Computer"), a subsidiary of FIC. Each of FIC's and ILCO's insurance subsidiaries has entered into a data processing agreement with FIC Computer whereby FIC Computer provides data processing services to each subsidiary for fees equal to such subsidiary's proportionate share of FIC Computer's actual costs of providing those services to all of the subsidiaries. Family Life paid $1,055,639, $779,052, and $151,977 and Investors-NA, Investors-IN and ILIC paid $2,243,234, $1,655,486, and $181,971 to FIC Computer for data processing services provided during 1996, 1995 and 1994, respectively. INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 13. Commitments and Contingencies The Company and its subsidiaries are defendants in certain legal actions related to the normal business operations of the Company. Management believes that the resolution of such matters will not have a material impact on the financial statements. 14. Net Income Per Share Net income per share was determined by dividing net income available to common shareholders by the weighted average number of shares of common stock and common stock equivalents outstanding during each year. For the years ended December 31, 1996, 1995 and 1994, net income available to common shareholders is calculated as follows: 1996 1995 1994 (in thousands) Net income $26,938 $10,714 $ 9,917 Interest expense reduction, net of income tax effect 643 671 472 Net income available to common shareholders $27,581 $11,385 $10,389 Changes in the market price of the Company's common stock also impacts the number of common stock options and warrants which are considered dilutive under the treasury stock method of calculating the weighted average common stock and common stock equivalents. For the years ended December 31, 1996, 1995 and 1994, weighted average common stock and common stock equivalents is calculated as follows: INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1996 1995 1994 (In thousands) Weighted average common shares outstanding 4,233 4,139 4,116 Common stock equivalents: Common stock options 1,994 2,085 2,084 Less assumed repurchase of shares using the treasury stock method (847) (835) (822) Common stock and common stock equivalents 5,380 5,389 5,378 15. Quarterly Financial Data (unaudited) (in thousands, except per share amounts) Three Months Three Months Ended Ended March 31, June 30, 1996 1995 1996 1995 Net Operating Revenue $53,581 $29,105 $27,836 $31,017 Net Income $18,042 $ 2,589 $ 2,936 $ 2,601 Net income per share available to common shareholders $ 3.35 $ 0.51 $ 0.57 $ 0.52 Three Months Three Months Ended Ended September 30, December 31, 1996 1995 1996 1995 Net Operating Revenue $29,474 $30,453 $27,353 $31,815 Net Income $ 2,973 $ 2,498 $ 2,987 $ 3,026 Net income per share available to common shareholders $ 0.59 $ 0.50 $ 0.59 $ 0.58 INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES SCHEDULE I - SUMMARY OF INVESTMENTS OTHER THAN INVESTMENTS IN RELATED PARTIES December 31, 1996 (in thousands of dollars) Column A Column B Column C Column D Amount at Which Shown in the Balance Type of Investment Costs Value Sheet Fixed maturities available for sale: United States Government and government agencies and authorities $ 13,817 $ 14,701 $ 14,701 States, municipalities and political subdivisions 4,727 4,890 4,890 Foreign governments 5 5 5 Corporate securities 120,263 119,220 119,220 Mortgage-backed securities 312,738 315,080 315,080 Total fixed maturities available for sale 451,550 453,896 453,896 Fixed maturities held to maturity 8,165 8,374 8,165 Total fixed maturities 459,715 462,270 462,061 Equity securities: Public utilities 2 3 3 Banks, trust and financial institutions 31 85 85 Industrial, miscellaneous and all other 22 30 30 Total equity securities 55 118 118 Policy loans 53,030 53,030 53,030 Mortgage loans 13,494 14,066 13,494 Real estate 38,696 38,696 38,696 Short term investments 91,556 91,556 91,556 Total investments $656,546 $659,736 $658,955 INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES SCHEDULE II - AMOUNTS RECEIVABLE FROM RELATED PARTIES AND UNDERWRITERS, PROMOTERS, AND EMPLOYEES OTHER THAN RELATED PARTIES December 31, 1996, 1995 and 1994 Column A Column B Column C Balance at Beginning Name of Debtor of Period Additions December 31, 1996 $ -0- -0- December 31, 1995 $ -0- -0- December 31, 1994 Roy F. Mitte Non-interest bearing loan repayable in three years unless forgiven by Board of Directors $650,000 -0- INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES SCHEDULE II - AMOUNTS RECEIVABLE FROM RELATED PARTIES AND UNDERWRITERS, PROMOTERS, AND EMPLOYEES OTHER THAN RELATED PARTIES December 31, 1996, 1995 and 1994, Continued Column A Column D Column E Amounts Balance Amounts Written at End of Name of Debtor Collected Off Period December 31, 1996 -0- -0- $ -0- December 31, 1995 -0- -0- $ -0- December 31, 1994 Roy F. Mitte Non-interest bearing loan repayable in three years unless 650,000 -0- $ -0- forgiven by Board of Directors INTERCONTINENTAL LIFE CORPORATION (PARENT COMPANY) SCHEDULE III - CONDENSED FINANCIAL STATEMENTS OF REGISTRANT BALANCE SHEETS December 31, 1996 and 1995 (in thousands of dollars) ASSETS 1996 1995 Short-term investments $ 6,252 $ 7,022 Cash and cash equivalents 126 63 Subordinated debenture receivables from Investors Life Insurance Company of North America, due September 30, 1999 38,546 72,835 Investments in and advances to subsidiaries 91,601 76,730 Accounts receivable 6,117 6,117 Property, plant and equipment, net 277 279 Federal income tax receivable -0- -0- Other assets 1,022 2,237 $ 143,941 $ 165,283 INTERCONTINENTAL LIFE CORPORATION (PARENT COMPANY) SCHEDULE III - CONDENSED FINANCIAL STATEMENTS OF REGISTRANTS BALANCE SHEETS, continued December 31, 1996 and 1995 (in thousands of dollars) LIABILITIES AND SHAREHOLDERS' EQUITY 1996 1995 Liabilities: Accounts payable and accrued expenses $ 2,226 $ 5,293 Senior loans 24,944 59,385 Deferred gain on sale of real estate 956 1,066 28,126 65,744 Redeemable preferred stock: Class A preferred stock, $1 par value, shares authorized and issued 5,000 5,000 Class B preferred stock, $1 par value, shares authorized, and issued 15,000 15,000 20,000 20,000 Redeemable preferred stock, repurchased and held as treasury stock (20,000) (20,000) -0- -0- Shareholders' equity: Common stock, $.22 par value, 10,000,000 shares authorized; 5,223,739 and 5,166,239 shares issued, 4,232,829 and 4,175,329 shares outstanding in 1996 and 1995, respectively 1,150 1,137 Additional paid-in capital 3,752 3,521 Net unrealized appreciation of securities held by insurance subsidiaries 1,255 748 Net unrealized gain (loss) on investments in fixed maturities available for sale held by insurance subsidiaries 1,525 12,938 Retained earnings (including $105,628 and $78,639 of undistributed earnings of subsidiaries at December 31, 1996 and 1995, respectively) 108,697 81,759 Common treasury stock, at cost, 665,950 116,379 100,103 shares in 1996 and 1995 (564) (564) Total shareholders' equity 115,815 99,539 Total liabilities and shareholders' equity $143,941 $165,283 INTERCONTINENTAL LIFE CORPORATION (PARENT COMPANY) SCHEDULE III - CONDENSED FINANCIAL STATEMENTS OF REGISTRANT, STATEMENTS OF INCOME, continued Years Ended December 31, 1996, 1995 and 1994 (in thousands of dollars) 1996 1995 1994 Revenues charged to subsidiaries: Interest income $ 4,915 $ 8,236 $ 7,888 Other income 133 134 113 5,048 8,370 8,001 Operating expenses 2,513 1,779 1,386 Interest expense 2,613 5,469 4,914 5,126 7,248 6,300 Income (loss) from operations (78) 1,122 1,701 Federal income tax provision (27) 393 970 Net income (loss) before equity in undistributed earnings from subsidiaries extraordinary item and change in accounting principle (51) 729 731 Equity in undistributed earnings from subsidiaries 26,989 9,985 9,186 Net Income $ 26,938 $ 10,714 $ 9,917 INTERCONTINENTAL LIFE CORPORATION (PARENT COMPANY) SCHEDULE III - CONDENSED STATEMENTS OF REGISTRANT STATEMENT OF CASH FLOWS, continued (in thousands of dollars) Year ended December 31, CASH FLOWS FROM OPERATING 1996 1995 1994 ACTIVITIES: Net income $ 26,938 $ 10,714 $ 9,917 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Amortization of deferred gain on sale of real estate (110) (109) (109) Unrealized appreciation (depreciation) of equity securities held by insurance subsidiaries 507 180 (377) Decrease in accounts receivable -0- 32 615 Increase in investment in and advances to subsidiaries (26,284) (21,748) (3,742) (Decrease) increase in accounts payable and accrued expenses (3,067) 723 384 Decrease in deferred federal income taxes, net -0- -0- 83 Decrease (increase) in other assets 1,215 640 1,028 Other 2 (87) 79 Net Cash (used in) provided by operating activities (799) (9,655) 7,878 CASH FLOWS FROM INVESTING ACTIVITIES: Investments (purchased) sold 770 (1,283) (302) Net cash provided by (used in) investing activities 770 (1,283) (302) CASH FLOWS FROM FINANCING ACTIVITIES: Repayment of debt (34,441) (7,200) (17,415) Payment on subordinated debenture payable -0- (200) (50) Stock options exercised 244 680 -0- Payment received on subordinated debenture receivable 34,289 14,960 8,744 Net cash provided by (used in) financing activities 92 8,240 (8,721) Net increase in cash 63 (132) (1,145) Cash, beginning of year 63 195 1,340 Cash, end of year $ 126 $ 63 $ 195 INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES SCHEDULE VI - REINSURANCE CEDED AND ASSUMED For the years ended December 31, 1996, 1995 and 1994 (in thousands of dollars) Ceded To Assumed Direct Other From Other 1996 Amount Companies Companies Life insurance in-force $7,009,993 $1,112,318 $ 18,481 Premium: Life insurance $ 16,863 $ 8,164 $ 100 Accident-health insurance 948 (202) 31 Total $ 17,811 $ 7,962 $ 131 1995 ____ Life insurance in-force $7,693,274 $ 864,512 $ 8,124 Premium: Life insurance $ 18,561 $ 8,773 $ 127 Accident-health insurance 2,260 (205) 38 Total $ 20,821 $ 8,568 $ 165 1994 Life insurance in-force $7,056,436 $ 427,611 $ 24,073 Premium: Life insurance $ 20,712 $ 9,998 $ 676 Accident-health insurance 3,703 909 133 Total $ 24,415 $ 10,907 $ 809 INTERCONTINENTAL LIFE CORPORATION AND SUBSIDIARIES SCHEDULE VI - REINSURANCE CEDED AND ASSUMED For the years ended December 31, 1996, 1995 and 1994 (in thousands of dollars) Percentage Net Of Amount 1996 Amount Assumed Life insurance in-force 5,916,156 .31% Premium: Life insurance $ 8,799 1.15% Accident-health insurance 1,181 2.71% Total $ 9,980 1.33% 1995 Life insurance in-force $6,836,886 .12% Premium: Life insurance $ 9,915 1.24% Accident-health insurance 1,179 3.22% Total $ 11,694 6.84% 1994 Life insurance in-force $6,652,898 .36% Premium: Life insurance $ 11,390 5.94% Accident-health insurance 2,927 4.54% Total $ 14,317 5.65% Exhibit Index Exhibit Page Description Number Number 4(a) Certificate of Incorporation of Registrant filed May 22, 1969 and Amendments thereto (2) (i) Amendment filed July 16, 1973 (ii) Amendment filed August 4, 1977 (iii)Amendment filed February 10, 1983 (iv) Amendment filed December 14, 1988 (v) Amendment filed February 9, 1990 4(b) By-laws of Registrant. (3) 10(a) Registrant's Incentive Stock Option Plan. (1) 10(m) Lease dated December 20, 1085 between Registrant and Parker Road Associates for the rental of 40 Parker Road, Elizabeth, New Jersey. (4) 10(o) (i) Grid Note dated December 18, 1985 in the amount of $800,000 made by the Registrant and payable to Midlantic National Bank. (4) (ii) Demand Note dated December 18, 1985 in the amount of $491,165.03 made by Registrant and payable to Midlantic National Bank. (4) 10(ah) Credit Agreement for $125,000,000 dated as of December 28, 1988 among Registrant and certain banks identified therein. (5) 10(ai) Note Purchase Agreement dated as of December 31, 1988 between Registrant and a Rhode Island based insurance/financial services company. A Note Purchase Agreement in substantially identical form was executed with seven other entities identified in these exhibit. (5) 10(aj) Class A Preferred Stock Purchase Agreement dated as of December 1, 1988 between Registrant and Insurance Company of North America. (5) 10(ak) Class B Preferred Stock Purchase Agreement dated as of December 1, 1988 between Registrant and a Rhode Island based insurance/financial services company. A Class B Preferred Stock Purchase Agreement in substantially identical form was executed with seven other entities identified in this exhibit. (5) 10(al) Pledge Agreement dated as of December 28, 1988 between Registrant and The First National Bank of Chicago, as Agent. (5) 10(am) Surplus Debenture dated as of December 28, 1988 in the amount of $140,000,000 made by Standard to Registrant. (5) 10(an) Warrant Agreement dated as of December 29, 1988 between Registrant and a Connecticut based insurance/financial services company. A Warrant Agreement in substantially identical form was executed with seven other entities. (5) 10(aq) Registrant's Defined Benefit Pension Plan, effective as of January 1, 1988. 10(ar) Registrant's Employee Stock Purchase Plan, effective as of August 25, 1989. (6) 10(as) Registrant's Non-Qualified Stock Option Plan. (6) 10(at) Exchange and Amendment Agreement dated July 30, 1990 between Registrant and the holders of its Class A Preferred Stock and its Class B Preferred Stock. (7) 10(au) Amendment dated July 30, 1990 to Senior Loan Agreement among the Registrant and certain banks identified therein. (7) 10(av) InterCreditor Agreement dated June 12, 1991, among Investors Life Insurance Company of North America, Investors Life Insurance Company of California, Merrill Lynch Insurance Group, Inc. and Merrill Lynch & Co., Inc. (8) 10(aw) Note dated June 12, 1991 in the amount of $22.5 million made by Family Life Corporation in favor of Investors Life Insurance Company of North America. (8) 10(ax) Note dated June 12, 1991 in the amount of $2.5 million made by Financial Industries Corporation in favor of Investors Life Insurance Company of California. (8) 10(ay) InterCreditor Agreement among Investors Life Insurance Company of North America, Investors Life Insurance Company of California and the Agent under the Credit Agreement dated as of June 12, 1991. (8) 10(az) Option Agreement by Financial Industries Corporation in favor of Investors Life Insurance Company of North America and Investors Life Insurance Company of California. (8) 10(aaa) Hotel Lease Agreement dated as of August 22, 1991 between Investors Life Insurance Company of North America and FIC Realty Services, Inc. (9) 10(aab) Management Agreement dated as of September 4, 1991 between Investors Life Insurance Company of North America and FIC Property Management, Inc. (9) 10(aac) Amended and Restated Credit Agreement dated January 29, 1993 among the Registrant and certain banks identified therein. (10) 10(aad) Amended and Restated Pledge Agreement dated January 29, 1993 between the Registrant and the agent bank named therein. (10) 10(aae) Stock Option Agreement dated March 8, 1986 between Registrant and Financial Industries Corporation. (10) 10(aaf) Surplus Debenture dated as of November 13, 1986 in the amount of $15,000,000 made by New Standard to Registrant. (10) 10(aag) Terms and Conditions of Employment Contracts of James M. Grace, Eugene E. Payne and Joseph F. Crowe approved by Registrant's Board of Directors on May 16, 1991, ((10) 10(aah) Letter agreement and addendum dated July 23, 1992 between Investors Life Insurance Company of North America and Mr. and Mrs. Theodore A. Fleron. (10) 10(aai) Letter agreement dated October 15, 1992 between Roy F. Mitte and Registrant evidencing surrender and cancellation of stock options. (10) 10(aaj) Note dated July 30, 1993 in the amount of $30 million made by Family Life Corporation in favor of Investors Life Insurance Company of North America. (11) 10(aak) Note dated July 30, 1993 in the amount of $4.5 million made by Family Life Insurance Investment Company in favor of Investors Life Insurance Company of North America. (11) 10(aal) Amendment No. 1 dated July 30, 1993 between Family Life Corporation and Investors Life Insurance Company of North America amending $22.5 million note. (11) 10(aam) Cancellation of Stock Option Agreement dated October 21, 1993 between Registrant and Roy F. Mitte. (11) 10(aan) Waiver and Amendment Agreement dated as of July 23, 1993 among the Registrant and certain banks identified therein. (12) 10(aao) Amendment Agreement dated as of December 20, 1993 among the Registrant and certain banks identified therein. (12) 10(aap) Amendment Agreement dated as of March 12, 1994 among the Registrant and certain banks identified therein. (12) 10(aaq) Amendment Agreement dated as of December 22, 1994 among the Registrant and certain banks identified therein. (12) 10(aar) Amendment Agreement dated as of February 10, 1995 among the Registrant and certain banks identified therein. (12) 10(aas) Data Processing Agreement dated as of November 30, 1994 between InterContinental Life Insurance Company and FIC Computer Services, Inc. (12) 10(aat) Data Processing Agreement dated as of November 30, 1994 between Investors Life Insurance Company of North America and FIC Computer Services, Inc. (12) 10(aau) Data Processing Agreement dated as of November 30, 1994 between Family Life Insurance Company and FIC Computer Services, Inc. (12) 10(aav) Lease Agreement dated as of September 30, 1994 between FIC Realty Services, Inc. and Atrium Beverage Corporation. (12) 10(aaw) Management Agreement dated as of September 30, 1994 between HCD Austin Corporation as agent for FIC Realty Services, Inc. and Atrium Beverage Corporation. (12) 10(aax) Amendment Agreement dated as of August 8, 1995 among the Registrant and certain banks identified therein. (13) 10(aay) Amendment Agreement dated as of December 15, 1995 among the Registrant and certain banks identified therein. (13) 10(aaz) Agreement of Sale dated as of September 5, 1995 between Omni Congress Joint venture as Buyer and Investors Life Insurance Company of North America as Seller, with exhibits, amendments and assignment. (13) 10(aaaa) 121 Amendment No. 2 dated December 12, 1996, effective June 12, 1996 to the note dated June 12, 1991 in the amount of $22.5 million made by Family Life Corporation in favor of Investors Life Insurance Company of North America. 10(aaab) 125 (i) Amendment No. 1 dated December 12, 1996, effective June 12, 1996 to the note dated June 12, 1991 in the amount of $2.5 million made by Financial Industries Corporation in favor of Investors Life Insurance Company of California. 128 (ii) Amendment No. 1 dated December 12, 1996, effective June 12, 1996 to the "payment in kind" provisions of the note dated June 12, 1991 in the amount of $2.5 million made by Financial Industries Corporation in favor of Investors Life Insurance Company of North America. 10(aaac) 131 Amendment No. 1 dated December 12, 1996, effective June 12, 1996 to the note dated July 30, 1993 in the amount of $30 million made by Family Life Corporation in favor of Investors Life Insurance Company of North America. 10(aaad) 136 Amendment No. 1 dated December 12, 1996, effective June 12, 1996 to the note dated July 30, 1993 in the amount of $4.5 million made by Family Life Insurance Investment Company in favor of Investors Life Insurance Company of North America. 10(aaae) 140 Amendment Agreement dated as of April 24, 1996 between Registrant and certain banks identified therein. 10(aaaf) 144 Waiver Agreement dated as of December 12, 1996 between Registrant and certain banks identified therein. 10(aaag) 149 Amendment Agreement dated December 12, 1996 to the Option Agreement by Financial Industries Corporation in favor of Investors Life Insurance Company of North America and Investors Life Insurance Company of California 21 151 Subsidiaries of the Registrant. 23 152 Consent of Price Waterhouse, LLP. (1) Filed with the Registrant's Annual Report of Form 10-K for the fiscal year ended December 31, 1983, Commission File No. 0-7290, and incorporated herein by reference. (2) Filed with the Registrant's Registration Statement on Form S-8 (Registration No. 2085333) and incorporated herein by reference; except Amendment filed December 14, 1988 (item (iv)), which was filed with Registrant's Current Report of Form 8-K dated January 12, 1989, and incorporated herein by reference; and Amendment filed February 9, 1990, which was filed with Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1989, and incorporated herein by reference. (3) Filed with the Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1984 and incorporated herein by reference. (4) Filed with the Registrant's Annual Report of Form 10-K for the fiscal year ended December 31, 1985 and incorporated herein by reference. (5) Filed with Registrant's Annual Report of Form 10_k for the fiscal year ended December 31, 1988, and incorporated herein by reference, (6) Filed with Registrant;s Annual Report on Form 10-K for the fiscal year ended December 31, 1989, and incorporated herein by reference. (7) Filed with Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1990, and incorporated herein by reference. (8) Filed with Financial Industries Corporation's Current Report on Form 8-K dated June 25, 1991, and incorporated herein by reference. (9) Filed with Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1991, and incorporated herein by reference. (10) Filed with Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1992, and incorporated herein by reference. (11) Filed with Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1993, and incorporated herein by reference. (12) Filed with Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1994, and incorporated herein by reference. (13) Filed with Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1995, and incorporated herein by reference. Exhibit 10 (aaaa) FAMILY LIFE CORPORATION AMENDMENT NO. 2 TO 11% SUBORDINATED SENIOR NOTE DATED JUNE 12, 1991 This Waiver and Amendment Agreement (the "Agreement") is entered into effective as of June 12, 1996, by and between Family Life Corporation (the "Company") and Investors Life Insurance Company of North America (the "Payee"). WITNESSETH: WHEREAS, the Company is the obligor and Payee is the payee under that certain 11% Subordinated Senior Note dated June 12, 1991, due June 12, 1998, in the principal amount of $22,500,000 (the "1991 Note"); and WHEREAS the Company is also the obligor under that certain Senior Subordinated Note dated July 30, 1993, due July 30, 2003, in the principal amount of $30,000,000 (the "1993 Note"); and WHEREAS, the Company has proposed a modification of the payment schedule and the due dates under each of the 1991 Note and the 1993 Note; and WHEREAS, the Company has requested Payee to waive certain provisions of the 1991 Note, as and to the extent hereinafter set forth; and WHEREAS, the Company and Payee desire to amend the 1991 Note as hereinafter set forth. NOW THEREFORE, for good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto hereby agree as follows: 1. Defined Terms. Capitalized terms used herein and not otherwise defined in this Agreement shall have the meanings attributed to such terms in the 1991 Note, as previously amended. 2. Waiver. Payee hereby waives any provision of the 1991 Note and any Event of Default created thereby by reason of the amendment of the 1993 Note as set forth in Exhibit A hereto. 3. Amendment to 1991 Note. The 1991 Note is hereby amended as follows: a. The description of the 1991 Note which appears on the first page thereof is changed from "Subordinated Senior Note due June 12, 1998" to "Subordinated Senior Note due September 12, 2001". b. The Payment Schedule attached to the 1991 Note is revised in its entirety to read as follows: Unpaid Principal Principal Balance Date of Payment Amount Paid Outstanding 06/12/96 $22,500,000 12/12/96 $1,125,000 $21,375,000 03/12/97 $1,125,000 $20,250,000 06/12/97 $1,125,000 $19,125,000 09/12/97 $1,125,000 $18,000,000 12/12/97 $1,125,000 $16,875,000 03/12/98 $1,125,000 $15,750,000 06/12/98 $1,125,000 $14,624,000 09/12/98 $1,125,000 $13,500,000 12/12/98 $1,125,000 $12,375,000 03/12/99 $1,125,000 $11,250,000 06/12/99 $1,125,000 $10,125,000 09/12/99 $1,125,000 $ 9,000,000 12/12/99 $1,125,000 $ 7,875,000 03/12/00 $1,125,000 $ 6,750,000 06/12/00 $1,125,000 $ 5,625,000 09/12/00 $1,125,000 $ 4,500,000 12/12/00 $1,125,000 $ 3,375,000 03/12/01 $1,125,000 $ 2,250,000 06/12/01 $1,125,000 $ 1,125,000 09/12/01 $1,125,000 $ -0- 4. Representations and Warranty. The Company hereby represents and warrants to Payee that after giving effect to the waiver and amendment herein contained (i) all of the representations and warranties contained in the 1991 Note are true and correct as of the date hereof, (ii) no Event of Default exists or is continuing and (iii) the Company has performed all of the agreements on its part to be performed prior to the date hereof as set forth in the 1991 Note. 5. Reference to and Effect on the 1991 Note. a. On or after the date of this Agreement, each reference in the 1991 Note, as amended by Amendment No. 1 dated July 30, 1993, to "this Note", "hereof", or words of like import and each reference to the 1991 Note in other documents shall mean and be a reference to the 1991 Note as amended hereby. b. Except as specifically amended and waived above, all of the terms, conditions and covenants of the 1991 Note shall remain unaltered and in full force and effect and shall continue to be binding upon the Company in all respects and are hereby ratified and confirmed. c. The execution, delivery and effectiveness of this Agreement shall not, except as expressly provided herein, operate as a waiver of (i) any right, power or remedy of the Payee under the 1991 Note or (ii) any Event of Default under the 1991 Note. IN WITNESS WHEREOF, the Company and Payee have executed this Agreement as of the 12th day of December, 1996. FAMILY LIFE CORPORATION By: Title: INVESTORS LIFE INSURANCE COMPANY OF NORTH AMERICA By: Title: Consent of Guarantor Financial Industries Corporation, as guarantor under the Guaranty Agreement dated June 12, 1991, in favor of Investors Life Insurance Company of North America ("Investors-NA"), with respect to a loan in the amount of $22,500,000 from Investors-NA to Family Life Corporation, which loan is evidenced by a Subordinated Senior Note dated June 12, 1991 (the 1991 Guaranty") hereby consents to the Amendment Agreement dated as of June 12, 1996 and hereby confirms and agrees that the 1991 Guaranty is, and shall continue to be, in full force and effect and is hereby confirmed and ratified in all respects. This Consent is executed and delivered as of December 12, 1996. FINANCIAL INDUSTRIES CORPORATION By: Title: Exhibit 10 (aaab)(i) FINANCIAL INDUSTRIES CORPORATION AMENDMENT NO. 1 TO 12% SUBORDINATED NOTE DATED JUNE 12, 1991 This Waiver and Amendment Agreement (the "Agreement") is entered into effective as of June 12, 1996, by and between Financial Industries Corporation (the "Company") and Investors Life Insurance Company of North America, as successor to the interests of Investors Life Insurance Company of California (the "Payee"). WITNESSETH: WHEREAS, the Company is the obligor and Payee is the payee under that certain 12% Subordinated Note dated June 12, 1991, due June 12, 1998, in the principal amount of $2,500,000 (the "1991 Note"); and WHEREAS the Company is also the obligor under that certain Master Subordinated PIK Note dated June 12, 1991, due June 12, 1998 (the "PIK Note"); and WHEREAS, the Company has proposed a modification of the payment schedule and the due dates under each of the 1991 Note and the PIK Note; and WHEREAS, the Company has requested Payee to waive certain provisions of the 1991 Note, as and to the extent hereinafter set forth; and WHEREAS, the Company and Payee desire to amend the 1991 Note as hereinafter set forth. NOW THEREFORE, for good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto hereby agree as follows: 1. Defined Terms. Capitalized terms used herein and not otherwise defined in this Agreement shall have the meanings attributed to such terms in the 1991 Note, as previously amended. 2. Waiver. Payee hereby waives any provision of the 1991 Note and any Event of Default created thereby by reason of the amendment of the PIK Note as set forth in Exhibit A hereto. 3. Amendment to 1991 Note. The 1991 Note is hereby amended as follows: a. The description of the 1991 Note which appears on the first page thereof is changed from "Subordinated Note due June 12, 1998" to "Subordinated Note due September 12, 2001". b. The Payment Schedule attached to the 1991 Note is revised in its entirety to read as follows: Unpaid Principal Principal Balance Date of Payment Amount Paid Outstanding 06/12/96 $ 2,500,000 12/12/96 $ 125,000 $ 2,375,000 03/12/97 $ 125,000 $ 2,250,000 06/12/97 $ 125,000 $ 2,125,000 09/12/97 $ 125,000 $ 2,000,000 12/12/97 $ 125,000 $ 1,875,000 03/12/98 $ 125,000 $ 1,750,000 06/12/98 $ 125,000 $ 1,625,000 09/12/98 $ 125,000 $ 1,500,000 12/12/98 $ 125,000 $ 1,375,000 03/12/99 $ 125,000 $ 1,250,000 06/12/99 $ 125,000 $ 1,125,000 09/12/99 $ 125,000 $ 1,000,000 12/12/99 $ 125,000 $ 875,000 03/12/00 $ 125,000 $ 750,000 06/12/00 $ 125,000 $ 625,000 09/12/00 $ 125,000 $ 500,000 12/12/00 $ 125,000 $ 375,000 03/12/01 $ 125,000 $ 250,000 06/12/01 $ 125,000 $ 125,000 09/12/01 $ 125,000 $ -0- 4. Representations and Warranty. The Company hereby represents and warrants to Payee that after giving effect to the waiver and amendment herein contained (i) all of the representations and warranties contained in the 1991 Note are true and correct as of the date hereof, (ii) no Event of Default exists or is continuing and (iii) the Company has performed all of the agreements on its part to be performed prior to the date hereof as set forth in the 1991 Note. 5. Reference to and Effect on the 1991 Note. a. On or after the date of this Agreement, each reference in the 1991 Note to "this Note", "hereof", or words of like import and each reference to the 1991 Note in other documents shall mean and be a reference to the 1991 Note as amended hereby. b. Except as specifically amended and waived above, all of the terms, conditions and covenants of the 1991 Note shall remain unaltered and in full force and effect and shall continue to be binding upon the Company in all respects and are hereby ratified and confirmed. c. The execution, delivery and effectiveness of this Agreement shall not, except as expressly provided herein, operate as a waiver of (i) any right, power or remedy of the Payee under the 1991 Note or (ii) any Event of Default under the 1991 Note. IN WITNESS WHEREOF, the Company and Payee have executed this Agreement as of the 12th day of December, 1996. FINANCIAL INDUSTRIES CORPORATION By: Title: INVESTORS LIFE INSURANCE COMPANY OF NORTH AMERICA By: Title: Exhibit 10 (aaab) (ii) FINANCIAL INDUSTRIES CORPORATION AMENDMENT NO. 1 TO MASTER SUBORDINATED PIK NOTE DATED JUNE 12, 1991 This Waiver and Amendment Agreement (the "Agreement") is entered into effective as of June 12, 1996, by and between Financial Industries Corporation (the "Company") and Investors Life Insurance Company of North America, as successor to the interests of Investors Life Insurance Company of California (the "Payee"). WITNESSETH: WHEREAS, the Company is the obligor and Payee is the payee under that certain Master Subordinated PIK Note dated June 12, 1991, due June 12, 1998 (the "PIK Note"); and WHEREAS the Company is also the obligor under that certain 12% Subordinated Note dated June 12, 1991, due June 12, 1998, in the principal amount of $2,500,000 (the "1991 Note"); and WHEREAS, the Company has proposed a modification of the payment schedule and the due dates under each of the PIK Note and the 1991 Note; and WHEREAS, the Company has requested Payee to waive certain provisions of the PIK Note, as and to the extent hereinafter set forth; and WHEREAS, the Company and Payee desire to amend the PIK Note as hereinafter set forth. NOW THEREFORE, for good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto hereby agree as follows: 1. Defined Terms. Capitalized terms used herein and not otherwise defined in this Agreement shall have the meanings attributed to such terms in the PIK Note, as previously amended. 2. Waiver. Payee hereby waives any provision of the PIK Note and any Event of Default created thereby by reason of the amendment of the 1991 Note as set forth in Exhibit A hereto. 3. Amendment to PIK Note. The PIK Note is hereby amended as follows: a. The description of the PIK Note which appears on the first page thereof is changed from "Master Subordinated PIK Note due June 12, 1998" to "Master Subordinated PIK Note due September 12, 2001". b. The Payment Schedule attached to the PIK Note is revised in its entirety to read as follows: Unpaid Principal Principal Balance Date of Payment Amount Paid Outstanding 06/12/96 $ 1,977,119.00 12/12/96 $ 98,855.95 $ 1,878,263.05 03/12/97 $ 98,855.95 $ 1,779,407.10 06/12/97 $ 98,855.95 $ 1,680,551.15 09/12/97 $ 98,855.95 $ 1,581,695.20 12/12/97 $ 98,855.95 $ 1,482,839.25 03/12/98 $ 98,855.95 $ 1,383,983.30 06/12/98 $ 98,855.95 $ 1,285,127.35 09/12/98 $ 98,855.95 $ 1,186,271.40 12/12/98 $ 98,855.95 $ 1,087,415.45 03/12/99 $ 98,855.95 $ 988,559.50 06/12/99 $ 98,855.95 $ 889,703.55 09/12/99 $ 98,855.95 $ 790,847.60 12/12/99 $ 98,855.95 $ 691,991.65 03/12/00 $ 98,855.95 $ 593,135.70 06/12/00 $ 98,855.95 $ 494,279.75 09/12/00 $ 98,855.95 $ 395,423.80 12/12/00 $ 98,855.95 $ 296,567.85 03/12/01 $ 98,855.95 $ 197,711.90 06/12/01 $ 98,855.95 $ 98,855.95 09/12/01 $ 98,855.95 $ -0- 4. Representations and Warranty. The Company hereby represents and warrants to Payee that after giving effect to the waiver and amendment herein contained (i) all of the representations and warranties contained in the PIK Note are true and correct as of the date hereof, (ii) no Event of Default exists or is continuing and (iii) the Company has performed all of the agreements on its part to be performed prior to the date hereof as set forth in the PIK Note. 5. Reference to and Effect on the PIK Note. a. On or after the date of this Agreement, each reference in the PIK Note to "this Note", "hereof", or words of like import and each reference to the PIK Note in other documents shall mean and be a reference to the PIK Note as amended hereby. b. Except as specifically amended and waived above, all of the terms, conditions and covenants of the PIK Note shall remain unaltered and in full force and effect and shall continue to be binding upon the Company in all respects and are hereby ratified and confirmed. c. The execution, delivery and effectiveness of this Agreement shall not, except as expressly provided herein, operate as a waiver of (i) any right, power or remedy of the Payee under the PIK Note or (ii) any Event of Default under the PIK Note. IN WITNESS WHEREOF, the Company and Payee have executed this Agreement as of the 12th day of December, 1996. FINANCIAL INDUSTRIES CORPORATION By: Title: INVESTORS LIFE INSURANCE COMPANY OF NORTH AMERICA By: Title: Exhibit 10(aaac) FAMILY LIFE CORPORATION AMENDMENT NO. 1 TO 9% SUBORDINATED SENIOR NOTE DATED JULY 30, 1993 This Waiver and Amendment Agreement (the "Agreement") is entered into effective as of June 12, 1996, by and between Family Life Corporation (the "Company") and Investors Life Insurance Company of North America (the "Payee"). WITNESSETH: WHEREAS, the Company is the obligor and Payee is the payee under that certain 9% Subordinated Senior Note dated July 30, 1993, due July 30, 2003, in the principal amount of $30,000,000 (the "1993 Note"); and WHEREAS the Company is also the obligor under that certain 11% Senior Subordinated Note dated June 12, 1991, due June 12, 1998, in the principal amount of $22,500,000 (the "1991 Note"); and WHEREAS, the Company has proposed a modification of the payment schedule and the due dates under each of the 1993 Note and the 1991 Note; and WHEREAS, the Company has requested Payee to waive certain provisions of the 1993 Note, as and to the extent hereinafter set forth; and WHEREAS, the Company and Payee desire to amend the 1993 Note as hereinafter set forth. NOW THEREFORE, for good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto hereby agree as follows: 1. Defined Terms. Capitalized terms used herein and not otherwise defined in this Agreement shall have the meanings attributed to such terms in the 1993 Note, as previously amended. 2. Waiver. Payee hereby waives any provision of the 1993 Note and any Event of Default created thereby by reason of the amendment of the 1991 Note as set forth in Exhibit A hereto. 3. Amendment to 1993 Note. The 1993 Note is hereby amended as follows: a. The description of the 1993 Note which appears on the first page thereof is changed from "Subordinated Senior Note due July 30, 2003" to "Subordinated Senior Note due September 12, 2006". b. The Payment Schedule attached to the 1993 Note is revised in its entirety to read as follows: Unpaid Principal Principal Balance Date of Payment Amount Paid Outstanding 06/12/96 $30,000,000 12/12/96 $ 163,540 $29,836,460 03/12/97 $ 163,540 $29,672,920 06/12/97 $ 163,540 $29,509,380 09/12/97 $ 163,540 $29,345,840 12/12/97 $ 163,540 $29,182,300 03/12/98 $ 163,540 $29,018,760 06/12/98 $ 163,540 $28,855,220 09/12/98 $ 163,540 $28,691,680 12/12/98 $ 163,540 $28,528,140 03/12/99 $ 163,540 $28,364,600 06/12/99 $ 163,540 $28,201,060 09/12/99 $ 163,540 $28,037,520 12/12/99 $ 163,540 $27,873,980 03/12/00 $ 163,540 $27,710,440 06/12/00 $ 163,540 $27,546,900 09/12/00 $ 163,540 $27,383,360 12/12/00 $ 163,540 $27,219,820 03/12/01 $ 163,540 $27,056,280 06/12/01 $ 163,540 $26,892,740 09/12/01 $ 163,540 $26,729,200 12/12/01 $1,336,458 $25,392,742 03/12/02 $1,336,458 $24,056,284 06/12/02 $1,336,458 $22,719,826 09/12/02 $1,336,458 $21,383,368 12/12/02 $1,336,458 $20,046,910 03/12/03 $1,336,458 $18,710,452 06/12/03 $1,336,458 $17,373,994 09/12/03 $1,336,458 $16,037,536 12/12/03 $1,336,458 $14,701,078 03/12/04 $1,336,458 $13,364,620 06/12/04 $1,336,458 $12,028,162 09/12/04 $1,336,458 $10,691,704 12/12/04 $1,336,458 $ 9,355,246 Unpaid Principal Principal Balance Date of Payment Amount Paid Outstanding 03/12/05 $1,336,458 $ 8,018,788 06/12/05 $1,336,458 $ 6,682,330 09/12/05 $1,336,458 $ 5,345,872 12/12/05 $1,336,458 $ 4,009,414 03/12/06 $1,336,458 $ 2,672,956 06/12/06 $1,336,458 $ 1,336,498 09/12/06 $1,336,498 $ -0- 4. Representations and Warranty. The Company hereby represents and warrants to Payee that after giving effect to the waiver and amendment herein contained (i) all of the representations and warranties contained in the 1993 Note are true and correct as of the date hereof, (ii) no Event of Default exists or is continuing and (iii) the Company has performed all of the agreements on its part to be performed prior to the date hereof as set forth in the 1993 Note. 5. Reference to and Effect on the 1993 Note. a. On or after the date of this Agreement, each reference in the 1993 Note to "this Note", "hereof", or words of like import and each reference to the 1993 Note in other documents shall mean and be a reference to the 1993 Note as amended hereby. b. Except as specifically amended and waived above, all of the terms, conditions and covenants of the 1993 Note shall remain unaltered and in full force and effect and shall continue to be binding upon the Company in all respects and are hereby ratified and confirmed. c. The execution, delivery and effectiveness of this Agreement shall not, except as expressly provided herein, operate as a waiver of (i) any right, power or remedy of the Payee under the 1993 Note or (ii) any Event of Default under the 1993 Note. IN WITNESS WHEREOF, the Company and Payee have executed this Agreement as of the 12th day of December 1996. FAMILY LIFE CORPORATION By: Title: INVESTORS LIFE INSURANCE COMPANY OF NORTH AMERICA By: Title: Consent of Guarantor Financial Industries Corporation, as guarantor under the Guaranty Agreement dated July 30, 1993, in favor of Investors Life Insurance Company of North America ("Investors-NA"), with respect to a loan in the amount of $30,000,000 from Investors-NA to Family Life Corporation, which loan is evidenced by a Subordinated Senior Note dated July 30, 1993 (the 1993 Guaranty") hereby consents to the Amendment Agreement dated as of June 12, 1996, and hereby confirms and agrees that the 1993 Guaranty is, and shall continue to be, in full force and effect and is hereby confirmed and ratified in all respects. This Consent is executed and delivered as of December 12, 1996. FINANCIAL INDUSTRIES CORPORATION By: Title: Exhibit 10 (aaad) FAMILY LIFE INSURANCE INVESTMENT COMPANY AMENDMENT NO. 1 TO 9% SUBORDINATED SENIOR NOTE DATED JULY 30, 1993 This Amendment Agreement (the "Agreement") is entered into effective as of June 12, 1996, by and between Family Life Insurance Investment Company (the "Company") and Investors Life Insurance Company of North America (the "Payee"). WITNESSETH: WHEREAS, the Company is the obligor and Payee is the payee under that certain 9% Subordinated Senior Note dated July 30, 1993, due July 30, 2003, in the principal amount of $4,500,000 (the "1993 Note"); and WHEREAS, the Company has proposed a modification of the payment schedule and the due dates under the 1993 Note; and WHEREAS, the Company and Payee desire to amend the 1993 Note as hereinafter set forth. NOW THEREFORE, for good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto hereby agree as follows: 1. Defined Terms. Capitalized terms used herein and not otherwise defined in this Agreement shall have the meanings attributed to such terms in the 1993 Note, as previously amended. 2. Amendment to 1993 Note. The 1993 Note is hereby amended as follows: a. The description of the 1993 Note which appears on the first page thereof is changed from "Subordinated Senior Note due July 30, 2003" to "Subordinated Senior Note due September 12, 2006". b. The Payment Schedule attached to the 1993 Note is revised in its entirety to read as follows: Unpaid Principal Principal Balance Date of Payment Amount Paid Outstanding 06/12/96 $ 4,500,000 12/12/96 $ 24,531 $ 4,475,469 03/12/97 $ 24,531 $ 4,450,938 06/12/97 $ 24,531 $ 4,426,407 09/12/97 $ 24,531 $ 4,401,876 12/12/97 $ 24,531 $ 4,377,345 03/12/98 $ 24,531 $ 4,352,814 06/12/98 $ 24,531 $ 4,328,283 09/12/98 $ 24,531 $ 4,303,752 12/12/98 $ 24,531 $ 4,279,221 03/12/99 $ 24,531 $ 4,254,690 06/12/99 $ 24,531 $ 4,230,159 09/12/99 $ 24,531 $ 4,205,628 12/12/99 $ 24,531 $ 4,181,097 03/12/00 $ 24,531 $ 4,156,566 06/12/00 $ 24,531 $ 4,132,035 09/12/00 $ 24,531 $ 4,107,504 12/12/00 $ 24,531 $ 4,082,973 03/12/01 $ 24,531 $ 4,058,442 06/12/01 $ 24,531 $ 4,033,911 09/12/01 $ 24,531 $ 4,009,380 12/12/01 $ 200,469 $ 3,808,911 03/12/02 $ 200,469 $ 3,608,442 06/12/02 $ 200,469 $ 3,407,973 09/12/02 $ 200,469 $ 3,207,504 12/12/02 $ 200,469 $ 3,007,035 03/12/03 $ 200,469 $ 2,806,566 06/12/03 $ 200,469 $ 2,606,097 09/12/03 $ 200,469 $ 2,405,628 12/12/03 $ 200,469 $ 2,205,159 03/12/04 $ 200,469 $ 2,004,690 06/12/04 $ 200,469 $ 1,804,221 09/12/04 $ 200,469 $ 1,603,752 12/12/04 $ 200,469 $ 1,403,283 03/12/05 $ 200,469 $ 1,202,814 06/12/05 $ 200,469 $ 1,002,345 09/12/05 $ 200,469 $ 801,876 12/12/05 $ 200,469 $ 601,407 03/12/06 $ 200,469 $ 400,938 06/12/06 $ 200,469 $ 200,469 09/12/06 $ 200,469 $ -0- 3. Representations and Warranty. The Company hereby represents and warrants to Payee that after giving effect to the amendment herein contained (i) all of the representations and warranties contained in the 1993 Note are true and correct as of the date hereof, (ii) no Event of Default exists or is continuing and (iii) the Company has performed all of the agreements on its part to be performed prior to the date hereof as set forth in the 1993 Note. 4. Reference to and Effect on the 1993 Note. a. On or after the date of this Agreement, each reference in the 1993 Note to "this Note", "hereof", or words of like import and each reference to the 1993 Note in other documents shall mean and be a reference to the 1993 Note as amended hereby. b. Except as specifically amended and waived above, all of the terms, conditions and covenants of the 1993 Note shall remain unaltered and in full force and effect and shall continue to be binding upon the Company in all respects and are hereby ratified and confirmed. c. The execution, delivery and effectiveness of this Agreement shall not, except as expressly provided herein, operate as a waiver of (i) any right, power or remedy of the Payee under the 1993 Note or (ii) any Event of Default under the 1993 Note. IN WITNESS WHEREOF, the Company and Payee have executed this Agreement as of the 12th day of December 1996. FAMILY LIFE INSURANCE INVESTMENT COMPANY By: Title: INVESTORS LIFE INSURANCE COMPANY OF NORTH AMERICA By: Title: Consent of Guarantor Financial Industries Corporation, as guarantor under the Guaranty Agreement dated July 30, 1993, in favor of Investors Life Insurance Company of North America ("Investors-NA"), with respect to a loan in the amount of $4,500,000 from Investors-NA to Family Life Insurance Investment Company, which loan is evidenced by a Subordinated Senior Note dated July 30, 1993 (the 1993 Guaranty") hereby consents to the Amendment Agreement dated as of June 12, 1996 and hereby confirms and agrees that the 1993 Guaranty is, and shall continue to be, in full force and effect and is hereby confirmed and ratified in all respects. This Consent is executed and delivered as of December 12, 1996. FINANCIAL INDUSTRIES CORPORATION By: Title: Exhibit 10 (aaae) INTERCONTINENTAL LIFE CORPORATION AMENDMENT AGREEMENT This Amendment Agreement (the "Agreement") is entered into as of April 24, 1996 by and among InterContinental Life Corporation (the "Company"), the undersigned lenders (the "Lenders") and The First National Bank of Chicago, as agent for the Lenders (the "Agent"). W I T N E S S E T H : WHEREAS, the Company, the Lenders and the Agent are parties to that certain Amended and Restated Credit Agreement dated as of January 29, 1993 (as amended, the "Credit Agreement"); Whereas, the Company, the Lenders and the Agent desire to amend the Credit Agreement as hereinafter set forth. NOW, THEREFORE, for good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto hereby agree as follows: 1. Defined Terms. Capitalized terms used herein and not otherwise defined herein shall have the meanings attributed to such terms in the Credit Agreement. 2. Amendment to Credit Agreement. Section 6.16(b)(v) of the Credit Agreement is hereby amended by deleting the reference to "$24,000,000" contained in Section 6.16(b)(v) and inserting "$46,000,000" in lieu thereof. 3. Conditions Precedent. Section 2 of this Agreement shall not become effective unless and until the Company has furnished, or caused to be furnished, to the Agent, with sufficient copies for each Lender, the following: (i) A consent from FIC, in the form of Exhibit A to this Amendment. (ii) Copies, certified by the Secretary or Assistant Secretary of the Company, of its Board of Directors resolutions authorizing the execution of this Agreement. (iii) An incumbency certificate, executed by the Secretary or Assistant Secretary of the Company, which shall identify by name and title and bear the signature of the officers of the Company authorized to sign this Agreement, upon which certificate each Lender shall be entitled to rely until informed of any change in writing by the Company. 4. Representation and Warranty. The Company hereby represents and warrants to the Lenders that after giving effect to the amendment herein contained (i) all of the representations and warranties contained in the Credit Agreement are true and correct as of the date hereof, (ii) no Default or Unmatured Default exists or is continuing and (iii) the Company has performed all the agreements on its part to be performed prior to the date hereof as set forth in the Credit Agreement. 5. Effectiveness of Amendment. This Agreement shall become effective as of the date first above written provided that all of the conditions precedent set forth in Section 3 of this Agreement are satisfied and upon receipt by the Agent of counterparts of this Agreement duly executed by the Company and the Required Lenders. 6. Reference to and Effect on the Credit Agreement. a. Upon the effectiveness of Section 2 hereof, on or after the date hereof each reference in the Credit Agreement to "this Agreement," "hereunder," "hereof," "herein" or words of like import and each reference to the Credit Agreement in the Notes and all other documents (the "Loan Documents") delivered in connection with the Credit Agreement shall mean and be a reference to the Credit Agreement as amended hereby. b. Except as specifically amended above, all of the terms, conditions and covenants of the Credit Agreement and all other Loan Documents shall remain unaltered and in full force and effect and shall continue to be binding upon the Company in all respects and are hereby ratified and confirmed. c. The execution, delivery and effectiveness of this Agreement shall not, except as expressly provided herein, operate as a waiver of (i) any right, power or remedy of the Lenders or the Agent under the Credit Agreement or any of the Loan Documents, or (ii) any Default or Unmatured Default under the Credit Agreement. 7. Costs, Expenses and Taxes. The Company agrees to pay on demand all costs and expenses of the Agent in connection with the preparation, execution and delivery of this Agreement, including the reasonable fees and out-of-pocket expenses of counsel for the Agent with respect thereto. 8. CHOICE OF LAW. THIS AGREEMENT SHALL BE CONSTRUED IN ACCORDANCE WITH THE INTERNAL LAWS (AND NOT THE LAW OF CONFLICTS) OF THE STATE OF ILLINOIS, BUT GIVING EFFECT TO FEDERAL LAWS APPLICABLE TO NATIONAL BANKS. 9. Execution in Counterparts. This Agreement may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which taken together shall constitute one and the same agreement. IN WITNESS WHEREOF, the Company, the undersigned Lenders and the Agent have executed this Agreement as of the date first above written. INTERCONTINENTAL LIFE CORPORATION By: Title: THE FIRST NATIONAL BANK OF CHICAGO, Individually and as Agent By: Title: BARCLAYS BANK, PLC By: Title: FIRST UNION NATIONAL BANK OF NORTH CAROLINA By: Title: FLEET NATIONAL BANK OF CONNECTICUT By: Title: CORESTATES PHILADELPHIA NATIONAL BANK N.A. By: Title: EXHIBIT A CONSENT OF GUARANTOR Financial Industries Corporation, as guarantor under the Amended and Restated Guaranty dated January 29, 1993 (the "Guaranty") in favor of the Lenders party to the Amended and Restated Credit Agreement dated as of January 29, 1993 (as amended, the "Credit Agreement") hereby consents to the Amendment Agreement dated as of April 24, 1996 and hereby confirms and agrees that the Guaranty is, and shall continue to be, in full force and effect and is hereby confirmed and ratified in all respects. This Consent is executed and delivered as of April 24, 1996. FINANCIAL INDUSTRIES CORPORATION By: Title: Exhibit 10 (aaaf) INTERCONTINENTAL LIFE CORPORATION WAIVER AGREEMENT This Consent and Waiver Agreement (the "Agreement") is entered into as of December 12, 1996 by and among InterContinental Life Corporation (the "Company") the undersigned lenders (the "Lenders") and The First National Bank of Chicago, as agent for the Lenders (the "Agent"). W I T N E S S E T H : WHEREAS, the Company, the Lenders and the Agent are parties to that certain Amended and Restated Credit Agreement dated as of January 29, 1993, (as amended, the "Credit Agreement"); and WHEREAS, Family Life Corporation ("Family") and Investors - North America have proposed to amend the $22,500,000 Subordinated Senior Note dated June 12, 1991 and issued by Family to Investors-North America (as amended, the ""$22.5 Million Note"), the form of which amendment is attached hereto as Exhibit A (the "$22.5 Million Note Amendment"); and WHEREAS, Family and Investors-North America have proposed to amend the $30,000,000 Subordinated Senior Note dated July 30, 1993 and issued by Family to Investors-North America (the "$30 Million Note"), the form of which amendment is attached hereto as Exhibit B (the "$30 Million Note Amendment"); and WHEREAS, Family Life Insurance Investment Company ("Holdings") and Investors-North America have proposed to amend the $4,500,000 Subordinated Senior Note dated July 30, 1993 and issued by Holdings to Investors-North America (the "4.5 Million Note"), the form of which amendment is attached hereto as Exhibit C (the "$4.5 Million Note Amendment"); and WHEREAS, FIC and Investors-North America have proposed to amend the $2,500,000 Subordinated Note dated June 12, 1991 and issued by FIC to Investors Life Insurance Company of California ("Investors-CA"), and acquired by Investors-North America the merger of Investors-CA with and into Investors-North America (the "2.5 Million Note"), the form of which amendment is attached hereto as Exhibit D (the "$2.5 Million Note Amendment"); and WHEREAS, FIC and Investors-North America have proposed to amend the Master Subordinated PIK Note dated June 12, 1991 and issued by FIC to Investors-CA, and acquired by Investors-North America upon the merger of Investors-CA with and into Investors- North America (the "PIK Note"), the form of which amendment is attached hereto as Exhibit E (the "PIK Note Amendment");and WHEREAS, the Company has requested the Lenders to waive certain provisions of the Credit Agreement in connection with the above described amendments, as and to the extent hereinafter described. NOW, THEREFORE, for good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto hereby agree as follows: 1. Defined Terms. Capitalized terms used herein and not otherwise defined in this Agreement shall have the meanings attributed to such terms in the Credit Agreement. 2. Waiver. The Lenders hereby waive any violation of the Credit Agreement and any Default created thereby attributable solely to the Company's breach of the covenant set forth in Section 6.21 of the Credit Agreement by reason of the execution by Investors-NA of (a) the $22.5 Million Note Amendment, (b) the $30 Million Note Amendment, (c) the $4.5 Million Note Amendment, (d) the $2.5 Million Note Amendment and (e) the PIK Note Amendment. This waiver is only applicable and shall only be effective in this specific instance and for the specific purpose for which made or given. 3. Conditions Precedent. Section 2 of this Agreement shall not become effective unless and until the Company has furnished, or caused to be furnished, to the Agent, with sufficient copies for each Lender, the following: (i) A consent from FIC, in the form of Exhibit F to this Agreement; (ii) Copies, certified by the Secretary or Assistant Secretary of the Company, of its Board of Directors resolutions authorizing the execution of this Agreement; (iii) An incumbency certificate, executed by the Secretary or Assistant Secretary of the Company, which shall identify by name and title and bear the signature of the officers of the Company authorized to sign this Agreement, upon which certificate each Lender shall be entitled to rely until informed of any change in writing by the Company; (iii) Evidence satisfactory to the Agent of the execution and delivery by (1) Family of the $22.5 Million Note Amendment and the $30 Million Note Amendment, together with FIC's consent as grantor of the $22.5 Million Note and the $30 Million Note, (2) Holdings of the $4.5 Million Note Amendment and (3) FIC of the $2.5 Million Note Amendment and the PIK Note Amendment. 4. Representation and Warranty. The Company hereby represents and warrants to the Lenders that after giving effect to the waiver herein contained (i) all of the representations and warranties contained in the Credit Agreement are true and correct as the date hereof, (ii) no Default or Unmatured Default exists or is continuing and (iii) the Company has performed all the agreements on its part to be performed prior to the date hereof as set forth in the Credit Agreement. 5. Effectiveness of Waiver. This Agreement shall become effective as of the date first above written provided that all the conditions precedent set forth in Section 3 of this Agreement are satisfied and upon receipt by the Agent of counterparts of this Agreement duly executed by the Company and the Required Lenders. 6. Reference to and Effect on the Credit Agreement. a. Upon the effectiveness of Section 2 hereof, on or after the date hereof each reference in the Credit Agreement to "this Agreement," "hereunder," "hereof," "herein" or words of like import and each reference to the Credit Agreement in the Notes and all other documents (the "Loan Documents") delivered in connection with the Credit Agreement shall mean and be a reference to the Credit Agreement as affected hereby. b. Except as specifically waived above, all of the terms, conditions and covenants of the Credit Agreement and all other Loan Documents shall remain unaltered and in full force and effect and shall continue to be binding upon the Company in all respects and are hereby ratified and confirmed. c. The execution, delivery and effectiveness of this Agreement shall not, except as expressly provided herein, operate as a waiver of (i) any right, power or remedy of the Lenders or the Agent under the Credit Agreement or any of the Loan Documents, or (ii) any Default or Unmatured Default under the Credit Agreement. 7. Costs, Expenses and Taxes. The Company agrees to pay on demand all costs and expenses of the Agent in connection with the preparation, execution and delivery of this Agreement, including the reasonable fees and out-of-pocket expenses of counsel for the Agent with respect thereto. 8. CHOICE OF LAW. THIS AGREEMENT SHALL BE CONSTRUED IN ACCORDANCE WITH THE INTERNAL LAWS (AND NOT THE LAW OF CONFLICTS) OF THE STATE OF ILLINOIS, BUT GIVING EFFECT TO FEDERAL LAWS APPLICABLE TO NATIONAL BANKS. 9. Execution in Counterparts. This Agreement may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which taken together shall constitute one and the same agreement. IN WITNESS WHEREOF, the Company, the undersigned Lenders and the Agent have executed this Agreement as of the date first above written. INTERCONTINENTAL LIFE CORPORATION By: Title: THE FIRST NATIONAL BANK OF CHICAGO, Individually and as Agent By: Title: BARCLAYS BANK, PLC By: Title: FIRST UNION NATIONAL BANK OF NORTH CAROLINA By: Title: FLEET NATIONAL BANK OF CONNECTICUT By: Title: CORESTATES PHILADELPHIA NATIONAL BANK N.A. By: Title: Exhibit 10 (aaag) FINANCIAL INDUSTRIES CORPORATION AMENDMENT NUMBER 1 TO THE MARCH 21, 1991 OPTION AGREEMENT This Amendment Agreement (hereinafter the "Amendment") is made by Financial Industries Corporation ("FIC"), effective as of June 12, 1996, in favor of Investors Life Insurance Company of North America, individually and as successor-in-interest to Investors Life Insurance Company of California. Reference is made to that certain option agreement dated March 21, 1991 by FIC in favor of Investors Life Insurance Company of North America and Investors Life Insurance Company of California (the "Option Agreement"). All capitalized terms not defined herein shall have the meanings established in the Option Agreement. WITNESSETH: WHEREAS, Investors Life Insurance Company of North America and Investors Life Insurance Company of California granted loans to FIC, or subsidiaries thereof, in the amounts of $22.5 million and $2.5 million (the "Loans") in connection with the acquisition of Family Life Insurance Company by FIC. As partial consideration for said loans, FIC entered into the option agreement referenced herein, providing for a grant to Investors Life Insurance Company of North America and Investors Life Insurance Company of California of certain options to purchase a total of 9.9% of the common stock of FIC at a price of $10.50 per share; and WHEREAS, Investors Life Insurance Company of California was merged into Investors Life Insurance Company of North America, and Investors Life Insurance Company of North America thereby became the surviving organization and successor-in-interest to Investors Life Insurance Company of California; and WHEREAS, upon recommendation of the Board of Directors of FIC and the approval of a majority of the shareholders of FIC, the common stock of FIC was split on a five-for-one basis with a record date of November 12, 1996; and WHEREAS, Investors Life Insurance Company of North America (hereinafter "Investors-NA) and FIC agreed to amend the payment schedules of the Loans; and WHEREAS, Investors-NA and FIC wish to extend the period in which the options may be exercised and provide a written recognition of the effect of the five-for-one split on the per share price for the exercise of those options under the original terms of the Option Agreement. NOW THEREFORE, for good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, FIC agrees as follows: 1. The expiration date for the exercise of the options as provided in paragraph two of the Option Agreement shall be changed to June 12, 2006. Furthermore, FIC acknowledges that the price per share under the Option Agreement ($10.50) has been adjusted to account for the five-for-one split of FIC common stock in accordance with the dilution provisions in paragraph one of the Option Agreement. Therefore, the resulting price per share is $2.10. Except as otherwise noted herein, the terms and conditions of the Option Agreement will remain in full force and effect. Executed this 12th day of December, 1996 by: FINANCIAL INDUSTRIES CORPORATION By: Roy F. Mitte President EXHIBIT 21 SUBSIDIARIES OF REGISTRANT Investors Life Insurance Company of North America ILG Securities Corporation InterContinental Life Insurance Company ILG Sales Corporation InterContinental Growth Plans, Inc. InterContinental Life Agency, Inc. * Investors Life Insurance Company of Indiana *Wholly-owned subsidiary of InterContinental Growth Plans, Inc. EXHIBIT 23 CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Registration Statement on Form S-8 (No. 33-71074) of InterContinental Life Corporation of our report dated March 25, 1997 appearing on page F-2 of this Form 10-K. PRICE WATERHOUSE LLP Dallas, Texas March 25, 1997 EX-27 2
7 THE SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1996 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 YEAR DEC-31-1996 DEC-31-1996 453,896 8,165 8,374 2,304 13,494 38,696 661,141 3,313 12,123 26,938 1,263,942 119,744 9,069 538,505 5,988 24,944 0 0 1,150 112,211 1,263,942 9,980 59,836 23,520 2,670 40,091 2,574 15,884 41,443 14,505 26,938 0 0 0 26,938 5.12 5.12 0 0 0 0 0 0 0
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