INSURANCE FINANCIAL RATINGS AND IMSA CERTIFICATION
The Company's principal insurance subsidiaries are rated by various rating
agencies. Additional information regarding the rating processes and ratings
definitions for each agency is included in the Company's Annual Report on Form
10-K for the year ended December 31, 2001 in "Business -- Insurance Financial
Ratings and IMSA Certification." Each of the ratings below is unchanged from
December 31, 2001 with the exception of A.M. Best's rating for the Company's
property and casualty subsidiaries and Moody's outlook for the Company's
financial strength ratings.
On May 9, 2002 following its annual review of Horace Mann's ratings, A.M.
Best Company, Inc. ("A.M. Best") announced that it was affirming the "A
(Excellent)" financial strength rating of the Company's principal life insurance
subsidiary. A.M. Best downgraded the financial strength ratings of the Company's
property and casualty subsidiaries one notch from "A+ (Superior)" to "A
(Excellent)" reflecting capitalization of these subsidiaries being below A.M.
Best's standard for the Superior rating and the impact on earnings in 2000 and
2001 of prior years' reserve strengthening. A.M. Best has identified the outlook
for the ratings as "Stable."
As affirmed on May 2, 2002, each of HMEC's principal insurance subsidiaries
is rated "A+ (Strong)" for financial strength by Standard & Poor's Corporation
("S&P") with a ratings outlook of "Stable", with the exception of Horace Mann
Lloyds which is not yet rated by S&P.
Each of HMEC's principal insurance subsidiaries is rated "AA- (Very
Strong)" for financial strength by Fitch, Inc. ("Fitch") with a rating outlook
Moody's Investors Service, Inc. ("Moody's") has assigned a financial
strength rating of "A2 (Good)" to each of HMEC's principal subsidiaries, with
the exception of Horace Mann Lloyds which is not yet rated by Moody's. On July
25, 2002, Moody's affirmed these ratings, but revised the outlook for the
ratings to "Negative" from "Stable." This change in outlook was the result of
the Company's second quarter 2002 investment losses stemming from the impact on
the financial markets from the announced SEC investigation into the accounting
practices of WorldCom, Inc. Moody's announcement indicated that material adverse
deviations from the Company's expected level of capital growth and earnings
could trigger a subsequent ratings downgrade.
As of 2001, Horace Mann is one of only two insurance groups that have been
named to The Ward's Financial Group's ("Wards") Top 50 for both its property and
casualty and life subsidiaries in each of the last eight years. Identified
annually, the Top 50 represent benchmark groups of 50 life insurance companies
and 50 property and casualty insurance companies that, over the prior five
years, have in Ward's opinion excelled at balancing safety, consistency and
In July 2001, Horace Mann Life Insurance Company, the Company's principal
life insurance subsidiary, earned membership in the Insurance Marketplace
Standards Association ("IMSA"). HMLIC is an IMSA member for three years, after
which it must demonstrate continuous improvement and repeat the self- and
independent assessment process to retain its membership. As of June 30, 2002,
fewer than 250 companies had earned IMSA membership.
MARKET VALUE RISK
Market value risk is the risk that the Company's invested assets will
decrease in value. This decrease in value may be due to a change in (1) the
yields realized on the Company's assets and prevailing market yields for similar
assets, (2) an unfavorable change in the liquidity of the investment, (3) an
unfavorable change in the financial prospects of the issuer of the investment,
or (4) a downgrade in the credit rating of the issuer of the investment. See
also "Results of Operations -- Realized Investment Gains and Losses."
Significant changes in interest rates expose the Company to the risk of
experiencing losses or earning a reduced level of income based on the difference
between the interest rates earned on the Company's investments and the credited
interest rates on the Company's insurance liabilities.
The Company manages its market value risk by coordinating the projected
cash outflows of assets with the projected cash outflows of liabilities. For all
its assets and liabilities, the Company seeks to maintain reasonable durations,
consistent with the maximization of income without sacrificing investment
quality while providing for liquidity and diversification. The investment risk
associated with variable annuity products and the underlying mutual funds is
assumed by those contractholders, and not by the Company.
A more detailed description of the Company's exposure to market value risks
and the management of those risks is presented in the Company's 2001 Form 10-K
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Market Risk."
RECENT ACCOUNTING CHANGES
SFAS No. 143
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 143, "Accounting for
Asset Retirement Obligations," effective for fiscal years beginning after June
15, 2002. The accounting practices in this statement apply to legal obligations
associated with the retirement of long-lived assets that result from the
acquisition, construction, development and (or) the normal operation of a
long-lived asset. This statement will not have a material impact on the Company
because it does not own a significant amount of property and equipment.
SFAS No. 145
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections," effective for fiscal years beginning after May 15, 2002. Under
SFAS No. 4, all gains and losses from the extinguishment of debt, exclusive of
an exception identified in SFAS No. 64, were required to be aggregated and, if
material, classified as an extraordinary item, net of related income tax effect.
With adoption of SFAS No. 145, gains and losses from extinguishment of debt
should be classified as extraordinary only if they meet the criteria of
Accounting Principles Board Opinion No. 30, "Reporting the Results of Operations
- Reporting the Effects of Disposal of a Segment of a Business, Extraordinary,
Unusual and Infrequently Occurring Events and Transactions." Applying the
provisions of Opinion No. 30 will distinguish transactions that are part of an
entity's recurring operations from those that are unusual or infrequent or that
meet the criteria for classification as an extraordinary item. In the six months
ended June 30, 2002, the Company recorded a charge for the extinguishment of
debt and did not report this charge as an extraordinary item.
SFAS No. 44 was not applicable to the Company. Although the evaluation of
the impact of the remaining provisions of SFAS No. 145 is not yet complete, at
this time management anticipates that the impact will not be material.
SFAS No. 146
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities," effective for exit or disposal
activities that are initiated after December 31, 2002. This statement nullifies
Emerging Issues Task Force ("EITF") Issue No. 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring)." The principal difference
between SFAS No. 146 and EITF No. 94-3 relates to the requirements for
recognition of a liability for a cost associated with an exit or disposal
activity. SFAS No. 146 requires that such liability be recognized when the
liability is incurred. Under EITF No. 94-3, a liability for defined exit costs
was recognized at the date of an entity's commitment to an exit plan. Management
anticipates that the impact of this statement will not be material.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information required by Item 305 of Regulation S-K is contained in
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" contained in this Form 10-Q.