NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) Basis of Presentation
Fidelity & Guaranty Life (“FGL” and, collectively with its subsidiaries, the “Company”) is a subsidiary of HRG Group, Inc. (formerly, Harbinger Group Inc. (“HRG”)). The accompanying unaudited consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions for the Securities and Exchange Commission (“SEC”) Quarterly Report on Form 10-Q, including Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. Therefore, the information contained in the Notes to Consolidated Financial Statements included in Fidelity & Guaranty Life and Subsidiaries' Annual Report on Form 10-K, for the year ended
September 30, 2016
(“2016 Form 10-K”), should be read in connection with the reading of these interim unaudited condensed consolidated financial statements. Dollar amounts in the accompanying sections are presented in millions, unless otherwise noted.
FGL markets products through its wholly-owned insurance subsidiaries, Fidelity & Guaranty Life Insurance Company (“FGL Insurance”) and Fidelity & Guaranty Life Insurance Company of New York (“FGL NY Insurance”), which together is licensed in all fifty states and the District of Columbia.
On November 8, 2015, FGL entered into an Agreement and Plan of Merger (as amended “Merger Agreement” and the merger contemplated thereby, the "Merger"), by and among FGL, Anbang Insurance Group Co., Ltd., a joint-stock insurance company established in the People’s Republic of China (“Anbang”), AB Infinity Holding, Inc., a Delaware corporation and a wholly-owned subsidiary of Anbang (“AB Infinity”), and AB Merger Sub, Inc., a Delaware corporation and a newly formed, wholly-owned subsidiary of AB Infinity (“Merger Sub”), which was amended on November 3, 2016, to extend the outside termination date for the completion of the Merger from November 7, 2016 to February 8, 2017. Accordingly, either party may terminate the merger agreement if the closing of the merger does not occur prior to February 8, 2017. As of the date of this report, the parties were in discussions regarding an extension of the outside termination date beyond February 8, 2017. The Company expects to make an announcement on or about February 9, 2017 regarding the outcome of their discussions.
Pursuant to the Merger Agreement, at the effective time of the Merger, each issued and outstanding share of FGL common stock will be canceled and converted automatically into the right to receive
$26.80
in cash, without interest, other than any shares of common stock owned by FGL as treasury stock or otherwise or owned by Anbang, AB Infinity or Merger Sub (which will be canceled and no payment will be made with respect thereto), shares of common stock granted pursuant to FGL’s employee equity award plan and those shares of common stock with respect to which appraisal rights under Delaware law are properly exercised and not withdrawn.
At the effective time of the Merger, each, vested and unvested, FGL option to purchase shares of common stock and restricted shares of common stock will become fully vested and automatically converted into the right to receive a cash payment in an amount pursuant to the Merger Agreement. In addition, at such time, each, vested and unvested, stock option and restricted stock unit relating to shares of Fidelity & Guaranty Life Holdings, Inc., a subsidiary of FGL (“FGLH”) will become fully vested and automatically converted into the right to receive a cash payment in an amount pursuant to the Merger Agreement, and each dividend equivalent right held in respect of a share of FGLH stock (a “DER”), whether vested or unvested, will become fully vested and automatically converted into the right to receive a cash payment equal to the amount accrued with respect to such DER. All DER were vested as of March 31, 2016 and were paid out in April 2016.
The Merger is subject to closing conditions, including the receipt of regulatory approvals from the Iowa Insurance Division, New York Department of Financial Services, Vermont Department of Financial Regulation, China Insurance Regulatory Commission, and the Committee on Foreign Investment in the United States ("CFIUS"). In the event that the Merger Agreement is terminated, FGL may be required to pay a termination fee to Anbang and its subsidiaries of $
51
.
On November 8, 2015, FS Holdco II Ltd., a wholly-owned subsidiary of HRG Group, Inc. and direct holder of
47,000 thousand
shares of FGL’s common stock representing approximately
81%
of the outstanding shares of FGL’s common stock, delivered a written consent adopting, authorizing, accepting and approving in all respects the Merger Agreement and the transactions contemplated thereby, including the Merger. On November 25, 2015,
FGL obtained the requisite approval for the Merger from the Vermont Department of Financial Regulation. On March 14, 2016, FGL received notification from CFIUS that it had concluded all action under Section 721 of the Defense Production Act of 1950, as amended, and determined that there are no unresolved national security concerns with respect to the merger. The parties are not required to file a notification of the Merger under the Hart-Scott Rodino Antitrust Improvements Act of 1976, as amended, due to an available exemption. The adoption of the Merger Agreement by FGL’s shareholders required the affirmative vote or written consent of holders of at least a majority of the outstanding shares of FGL’s common stock.
In the opinion of management, these statements include all normal recurring adjustments necessary for a fair presentation of the Company’s results. Operating results for the
three months ended
December 31, 2016
, are not necessarily indicative of the results that may be expected for the full year ending
September 30, 2017
. Amounts reclassified out of other comprehensive income are reflected in net investment gains in the unaudited
Condensed Consolidated Statements of Operations
.
(2) Significant Accounting Policies and Practices
Principles of Consolidation
The accompanying unaudited condensed consolidated financial statements include the accounts of the Company and all other entities in which FGL has a controlling financial interest. All intercompany accounts and transactions have been eliminated in consolidation.
We are involved in certain entities that are considered variable interest entities ("VIEs") as defined under GAAP. Our involvement with VIEs is primarily to invest in assets that allow us to gain exposure to a broadly diversified portfolio of asset classes. A VIE is an entity that does not have sufficient equity to finance its own activities without additional financial support or where investors lack certain characteristics of a controlling financial interest. We assess our relationships to determine if we have the ability to direct the activities, or otherwise exert control to evaluate if we are the primary beneficiary of the VIE. See "Note 4. Investments" to the Company’s unaudited Condensed Consolidated Financial Statements for additional information on the Company’s investments in unconsolidated VIEs.
Adoption of New Accounting Pronouncements
Share-Based Payments When a Performance Target is Achieved after the Requisite Service Period
In June 2014, the FASB issued new guidance on Stock Compensation (ASU 2014-12,
Accounting for Share-Based Payments When the Term of an Award Provide that a Performance Target Could Be Achieved after the Requisite Service Period
), effective for fiscal years beginning after December 15, 2015 and interim periods within those years. The new guidance requires performance targets that affect vesting and that could be achieved after the requisite service period to be treated as performance conditions. Such performance targets will not be included in the grant-date fair value calculation of the award, rather compensation cost will be recorded when it is probable the performance target will be reached and should represent the compensation cost attributable to period(s) for which the requisite service has already been rendered. The Company adopted this guidance effective October 1, 2016, as required. The adoption of ASU 2014-12 will not impact the Company's consolidated financial statements or related disclosures, as the Company has historically treated the performance targets for its share-based payment awards as a performance condition that affects vesting and has not reflected the targets in the grant-date fair value calculation of the awards.
Amendments to the Consolidation Analysis
In February 2015, the FASB issued amended consolidation guidance (ASU 2015-02,
Amendments to the Consolidation Analysis
), effective for fiscal years beginning after December 15, 2015. The amended guidance changes the consolidation analysis of reporting entities with variable interest entity ("VIE") relationships by i) modifying the criteria used to evaluate whether limited partnerships and similar legal entities are VIEs or voting interest entities and revising the primary beneficiary determination of a VIE, ii) eliminating the specialized consolidation model and guidance for limited partnerships thereby removing the presumption that a general partner should consolidate a limited partnership, iii) reducing the criteria in the variable interest model contained in Accounting Standards Codification Topic 810,
Consolidation
, that is used to evaluate whether the fees paid to a decision maker or service provider represents a variable interest, and iv) exempting reporting entities from consolidating money market funds that operate in accordance with Rule 2a-7 of the Investment Company Act of
1940. The Company adopted ASU 2015-02 effective October 1, 2016, as required. The adoption of ASU 2015-02 will not impact the Company's consolidated financial statements or related disclosure as the Company determined that this new guidance does not change its conclusions regarding consolidation of its VIEs.
Presentation of Debt Issuance Costs
In April 2015, the FASB issued amended guidance (ASU 2015-03,
Interest-Imputation of Interest (Subtopic 835-30
),
Simplifying the Presentation of Debt Issuance Costs
), effective for fiscal years beginning after December 15, 2015 and interim periods within those years. The amended guidance requires debt issuance costs related to a recognized debt liability to be presented on the balance sheet as a direct deduction from the debt liability, similar to the presentation of debt discounts or premiums. The cost of issuing debt will no longer be recorded as a separate asset, except when incurred before the receipt of the funding from the associated debt liability. Instead, debt issuance costs will be presented on the balance sheet as a direct deduction from the carrying amount of the related debt liability, and the costs will be amortized to interest expense using the effective interest method. The Company adopted ASU 2015-03 effective October 1, 2016, as required. The Company retrospectively considered adjustments to adjust its historical balance sheets to present deferred debt issuance costs related to the Company's debt as a reduction of the debt liability. As the Company's debt issuance costs were fully amortized as of the period ended September 30, 2016, there is no impact to the current period financial statements.
Accounting for Fees Paid in Cloud Computing Arrangements
In April 2015, the FASB issued amended guidance (ASU 2015-05,
Customer's Accounting for Fees Paid in a Cloud Computing Arrangement
), effective for fiscal years beginning after December 15, 2015 and interim periods within those years. Previous GAAP did not include explicit guidance regarding a customer's accounting for fees paid in a cloud computing arrangement, which may include software as a service, platform as a service, infrastructure as a service, and other similar hosting arrangements. The adopted guidance addresses whether a cloud computing arrangement includes a software license. If a cloud computing arrangement includes a software license, the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. If the cloud computing arrangement does not include a software license, the customer should account for the arrangement as a service contract. The Company prospectively adopted ASU 2015-05 effective as of October 1, 2016, as required, for all new or materially modified cloud computing arrangements that contain a software license component.
Investments That Calculate Net Asset Value per Share
In May 2015, the FASB issued amended guidance (ASU 2015-07,
Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent)
), effective for fiscal years beginning after December 15, 2015 and interim periods within those years. Previous GAAP required that investments for which fair value is measured at net asset value (or its equivalent) using the practical expedient in Topic 820 be categorized within the fair value hierarchy using criteria that differ from the criteria used to categorize other fair value measurements within the hierarchy. Previously, investments valued using the practical expedient were categorized within the fair value hierarchy on the basis of whether the investment is redeemable with the investee at net asset value on the measurement date, never redeemable with the investee at net asset value, or redeemable with the investee at net asset value at a future date. For investments that are redeemable with the investee at a future date, a reporting entity will take into account the length of time until those investments become redeemable to determine the classification within the fair value hierarchy. There is diversity in practice related to how certain investments measured at net asset value with redemption dates in the future (including periodic redemption dates) are categorized within the fair value hierarchy. Under the amendments in this Update, investments for which fair value will be measured at net asset value per share (or its equivalent) using the practical expedient should not be categorized in the fair value hierarchy. Removing those investments from the fair value hierarchy not only eliminates the diversity in practice resulting from the way in which investments measured at net asset value per share (or its equivalent) with future redemption dates are classified, but also ensures that all investments categorized in the fair value hierarchy are classified using a consistent approach. Investments that calculate net asset value per share (or its equivalent), but for which the practical expedient is not applied will continue to be included in the fair value hierarchy. The Company adopted ASU 2015-07 effective October 1, 2016, as required, and has updated the fair value disclosures to reflect the amended guidance. Refer to "Note 6. Fair Value of Financial Instruments" for further details.
Future Adoption of Accounting Pronouncements
Presentation of Changes in Restricted Cash on the Cash Flow Statement
In November 2016, the FASB issued amended guidance (ASU 2016-18,
Statement of Cash Flows (Topic 230), Restricted Cash
), effective for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years. The ASU will require amounts generally described as changes in restricted cash and restricted cash equivalents to be included with cash and cash equivalents on the statement of cash flows. The amendments in this ASU may be early adopted during any period or interim period, however, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period. The amendments should be applied using a retrospective transition method to each period presented. The Company will not early adopt this standard and is currently evaluating the impact of this new accounting guidance on its consolidated financial statements.
Technical Corrections and Improvements
In December 2016, the FASB issued new guidance on the Simplification of Topics Within Insurance and Debt Restructuring (ASU 2016-19,
Technical Corrections and Improvements
), effective upon issuance for most amendments in the Update. For several items requiring transition guidance, the ASU identifies adoption dates specific to those items. The amendments cover a wide range of topics in the Accounting Standards Codification ("ASC") and will correct differences between original guidance and the ASC, clarify guidance through updated wording or corrected references, and simplify guidance through minor editing. The amendments in this ASU that do not require transition guidance were effective upon issuance, however, those that require transition guidance may be early adopted. The Company adopted the amendments that do not require transition guidance upon issuance of ASU 2016-19 with no impact on its financial statements. The Company will not early adopt the guidance in this standard that require transition guidance and is currently evaluating the impact of this new accounting guidance on its consolidated financial statements.
(3) Significant Risks and Uncertainties
Federal Regulation
In April 2016, the Department of Labor (“DOL”) released its final “fiduciary” rule which could have a material impact on the Company, its products, distribution, and business model. The final rule treats persons who provide investment advice for a fee or other compensation with respect to assets of an employer plan or individual retirement account ("IRA") as fiduciaries of that plan or IRA. Significantly, the rule expands the definition of fiduciary to apply to persons, including insurance agents, who advise and sell products to IRA owners. As a practical matter, this means commissioned insurance agents selling the Company’s IRA products must qualify for a prohibited transaction exemption which requires the agent and financial institution to meet various conditions including that an annuity sale be in the “best interest” of the client without regard for the agent’s, financial institution’s or other party’s financial or other interests, and that any compensation paid to the agent and financial institution be reasonable. The final rule was effective June 2016 and generally applicable in April 2017. The rule has generated considerable controversy and is the subject of industry efforts to block implementation both in Congress and through court actions. The success or failure of these efforts cannot be predicted. Assuming the rule is not blocked, the precise impact of the rule on the financial services industry more generally, and the impact on the Company and its business in particular, is difficult to assess. We believe however it could have an adverse effect on sales of annuity products to IRA owners particularly in the independent agent distribution channel. A significant portion of our annuity sales are to IRAs. Compliance with the prohibited transaction exemptions would likely require additional supervision of agents, cause changes to compensation practices and product offerings, and increase litigation risk, all of which could adversely impact our business, results of operations and/or financial condition. Regardless of the outcome of the court and political challenges, FGL Insurance is prepared to execute on its implementation plans on the applicability date.
Use of Estimates and Assumptions
The preparation of the Company’s unaudited Condensed Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosures 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 could differ from those estimates and assumptions used.
Concentrations of Financial Instruments
As of
December 31, 2016
and
September 30, 2016
, the Company’s most significant investment in one industry, excluding United States ("U.S.") Government securities, was its investment securities in the
banking
industry with a fair value of
$2,570
or
12%
and
$2,448
or
12%
, respectively, of the invested assets portfolio, and an amortized cost of
$2,552
and
$2,352
, respectively. As of
December 31, 2016
, the Company’s holdings in this industry include investments in
106
different issuers with the top ten investments accounting for
32%
of the total holdings in this industry. As of
December 31, 2016
and
September 30, 2016
, the Company had
no
investments in issuers that exceeded
10%
of shareholders' equity. The Company's largest concentration in any single issuer as of
December 31, 2016
and
September 30, 2016
was
Wells Fargo & Company
with a total fair value of
$166
or
1%
and
$171
or
1%
of the invested assets portfolio, respectively.
Concentrations of Financial and Capital Markets Risk
The Company is exposed to financial and capital markets risk, including changes in interest rates and credit spreads which can have an adverse effect on the Company’s results of operations, financial condition and liquidity. The Company expects to continue to face challenges and uncertainties that could adversely affect its results of operations and financial condition. The Company attempts to mitigate the risk, including changes in interest rates by investing in less rate-sensitive investments, including senior tranches of collateralized loan obligations, non-agency residential mortgage-backed securities, and various types of asset backed securities.
The Company’s exposure to such financial and capital markets risk relates primarily to the market price and cash flow variability associated with changes in interest rates. A rise in interest rates, in the absence of other countervailing changes, will decrease the net unrealized gain position of the Company’s investment portfolio and, if long-term interest rates rise dramatically within a six to twelve month time period, certain of the Company’s products may be exposed to disintermediation risk. Disintermediation risk refers to the risk that policyholders may surrender their contracts in a rising interest rate environment, requiring the Company to liquidate assets in an unrealized loss position. Management believes this risk is mitigated to some extent by surrender charge protection provided by the Company’s products.
Concentration of Reinsurance Risk
The Company has a significant concentration of reinsurance with Wilton Reassurance Company (“Wilton Re”) and Front Street Re (Cayman) Ltd. ("FSRCI"), an affiliate, that could have a material impact on the Company’s financial position in the event that Wilton Re or FSRCI fail to perform their obligations under the various reinsurance treaties. Wilton Re is a wholly owned subsidiary of Canada Pension Plan Investment Board ("CPPIB"). CPPIB has an
AAA
issuer credit rating from Standard & Poor's Ratings Services ("S&P") as of
December 31, 2016
. As of
December 31, 2016
, the net amount recoverable from Wilton Re was
$1,528
and the net amount recoverable from FSRCI was
$1,087
. The coinsurance agreement with FSRCI is on a funds withheld basis. The Company monitors both the financial condition of individual reinsurers and risk concentration arising from similar geographic regions, activities and economic characteristics of reinsurers to attempt to reduce the risk of default by such reinsurers.
(4) Investments
The Company’s fixed maturity and equity securities investments have been designated as available-for-sale and are carried at fair value with unrealized gains and losses included in accumulated other comprehensive income (loss) (“AOCI”) net of associated adjustments for deferred acquisition costs (“DAC”), value of business acquired (“VOBA”), and deferred income taxes. The Company’s consolidated investments at
December 31, 2016
and
September 30, 2016
are summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
Amortized Cost
|
|
Gross Unrealized Gains
|
|
Gross Unrealized Losses
|
|
Fair Value
|
|
Carrying Value
|
|
|
|
|
|
|
|
|
|
|
Available-for sale securities
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
2,629
|
|
|
$
|
17
|
|
|
$
|
(38
|
)
|
|
$
|
2,608
|
|
|
$
|
2,608
|
|
Commercial mortgage-backed securities
|
852
|
|
|
7
|
|
|
(22
|
)
|
|
837
|
|
|
837
|
|
Corporates
|
11,294
|
|
|
412
|
|
|
(227
|
)
|
|
11,479
|
|
|
11,479
|
|
Equities
|
691
|
|
|
17
|
|
|
(12
|
)
|
|
696
|
|
|
696
|
|
Hybrids
|
1,352
|
|
|
45
|
|
|
(64
|
)
|
|
1,333
|
|
|
1,333
|
|
Municipals
|
1,553
|
|
|
113
|
|
|
(25
|
)
|
|
1,641
|
|
|
1,641
|
|
Residential mortgage-backed securities
|
1,269
|
|
|
65
|
|
|
(25
|
)
|
|
1,309
|
|
|
1,309
|
|
U.S. Government
|
224
|
|
|
6
|
|
|
—
|
|
|
230
|
|
|
230
|
|
Total available-for-sale securities
|
19,864
|
|
|
682
|
|
|
(413
|
)
|
|
20,133
|
|
|
20,133
|
|
Derivative investments
|
218
|
|
|
104
|
|
|
(8
|
)
|
|
314
|
|
|
314
|
|
Commercial mortgage loans
|
582
|
|
|
—
|
|
|
—
|
|
|
574
|
|
|
582
|
|
Other invested assets
|
47
|
|
|
—
|
|
|
—
|
|
|
43
|
|
|
47
|
|
Total investments
|
$
|
20,711
|
|
|
$
|
786
|
|
|
$
|
(421
|
)
|
|
$
|
21,064
|
|
|
$
|
21,076
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2016
|
|
Amortized Cost
|
|
Gross Unrealized Gains
|
|
Gross Unrealized Losses
|
|
Fair Value
|
|
Carrying Value
|
|
|
|
|
|
|
|
|
|
|
Available-for-sale securities
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
2,528
|
|
|
$
|
16
|
|
|
$
|
(45
|
)
|
|
$
|
2,499
|
|
|
$
|
2,499
|
|
Commercial mortgage-backed securities
|
850
|
|
|
23
|
|
|
(9
|
)
|
|
864
|
|
|
864
|
|
Corporates
|
10,712
|
|
|
760
|
|
|
(132
|
)
|
|
11,340
|
|
|
11,340
|
|
Equities
|
640
|
|
|
47
|
|
|
(4
|
)
|
|
683
|
|
|
683
|
|
Hybrids
|
1,356
|
|
|
77
|
|
|
(47
|
)
|
|
1,386
|
|
|
1,386
|
|
Municipals
|
1,515
|
|
|
206
|
|
|
(4
|
)
|
|
1,717
|
|
|
1,717
|
|
Residential mortgage-backed securities
|
1,327
|
|
|
63
|
|
|
(28
|
)
|
|
1,362
|
|
|
1,362
|
|
U.S. Government
|
233
|
|
|
10
|
|
|
—
|
|
|
243
|
|
|
243
|
|
Total available-for-sale securities
|
19,161
|
|
|
1,202
|
|
|
(269
|
)
|
|
20,094
|
|
|
20,094
|
|
Derivative investments
|
221
|
|
|
78
|
|
|
(23
|
)
|
|
276
|
|
|
276
|
|
Commercial mortgage loans
|
595
|
|
|
—
|
|
|
—
|
|
|
614
|
|
|
595
|
|
Other invested assets
|
60
|
|
|
—
|
|
|
—
|
|
|
58
|
|
|
60
|
|
Total investments
|
$
|
20,037
|
|
|
$
|
1,280
|
|
|
$
|
(292
|
)
|
|
$
|
21,042
|
|
|
$
|
21,025
|
|
Included in AOCI were cumulative gross unrealized gains of
$1
and gross unrealized losses of
$3
related to the non-credit portion of other-than-temporary impairments ("OTTI") on non-agency residential mortgage-backed securities ("RMBS") at
December 31, 2016
and gross unrealized gains of
$1
and gross unrealized losses of
$3
related to the non-credit portion of OTTI on RMBS at
September 30, 2016
.
Securities held on deposit with various state regulatory authorities had a fair value of
$18,155
and
$18,075
at
December 31, 2016
and
September 30, 2016
, respectively. Under Iowa regulations, insurance companies are required to hold securities on deposit in an amount no less than the Company's legal reserve as prescribed by Iowa regulations.
At
December 31, 2016
and
September 30, 2016
, the company held investments that were non-income producing for a period greater than twelve months with fair values of
$0
and
$2
, respectively.
In accordance with the Company's Federal Home Loan Bank of Atlanta (“FHLB”) agreements, the investments supporting the funding agreement liabilities are pledged as collateral to secure the FHLB funding agreement liabilities. The collateral investments had a fair value of
$622
and
$649
at
December 31, 2016
and
September 30, 2016
, respectively.
The amortized cost and fair value of fixed maturity available-for-sale securities by contractual maturities, as applicable, are shown below. Actual maturities may differ from contractual maturities because issuers may have the right to call or pre-pay obligations.
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
Amortized Cost
|
|
Fair Value
|
Corporates, Non-structured Hybrids, Municipal and U.S. Government securities:
|
|
|
|
Due in one year or less
|
$
|
290
|
|
|
$
|
294
|
|
Due after one year through five years
|
1,940
|
|
|
1,978
|
|
Due after five years through ten years
|
3,189
|
|
|
3,261
|
|
Due after ten years
|
8,256
|
|
|
8,433
|
|
Subtotal
|
13,675
|
|
|
13,966
|
|
Other securities which provide for periodic payments:
|
|
|
|
Asset-backed securities
|
2,629
|
|
|
2,608
|
|
Commercial mortgage-backed securities
|
852
|
|
|
837
|
|
Structured hybrids
|
748
|
|
|
717
|
|
Residential mortgage-backed securities
|
1,269
|
|
|
1,309
|
|
Subtotal
|
5,498
|
|
|
5,471
|
|
Total fixed maturity available-for-sale securities
|
$
|
19,173
|
|
|
$
|
19,437
|
|
The Company's available-for-sale securities with unrealized losses are reviewed for potential OTTI. In evaluating whether a decline in value is other-than-temporary, the Company considers several factors including, but not limited to the following: (1) the extent and the duration of the decline; (2) the reasons for the decline in value (credit event, currency or interest-rate related, including general credit spread widening); and (3) the financial condition of and near-term prospects of the issuer. The Company also considers the ability and intent to hold the investment for a period of time to allow for a recovery of value.
The Company analyzes its ability to recover the amortized cost by comparing the net present value of cash flows expected to be collected with the amortized cost of the security. For mortgage-backed and asset-backed securities, cash flow estimates consider the payment terms of the underlying assets backing a particular security, including interest rate and prepayment assumptions, based on data from widely accepted third-party data sources or internal estimates. In addition to interest rate and prepayment assumptions, cash flow estimates also include other assumptions regarding the underlying collateral including default rates and recoveries, which vary based on the asset type and geographic location, as well as the vintage year of the security. For structured securities, the payment priority within the tranche structure is also considered. For all other fixed maturity securities, cash flow estimates are driven by assumptions regarding probability of default and estimates regarding timing and amount of recoveries associated with a default. If the net present value is less than the amortized cost of the investment, an OTTI is recognized.
Based on the results of our process for evaluating available-for-sale securities in unrealized loss positions for OTTI discussed above, the Company determined that the unrealized losses as of
December 31, 2016
increased due to upward movement in the U.S. Treasury rates. Bond prices in most sectors moved lower based on these higher Treasury yields. Based on an assessment of all securities in the portfolio in unrealized loss positions, the Company determined that the unrealized losses on the securities presented in the table below were not other-than-temporarily impaired as of
December 31, 2016
.
The fair value and gross unrealized losses of available-for-sale securities, aggregated by investment category and duration of fair value below amortized cost, were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
Less than 12 months
|
|
12 months or longer
|
|
Total
|
|
Fair Value
|
|
Gross Unrealized
Losses
|
|
Fair Value
|
|
Gross Unrealized
Losses
|
|
Fair Value
|
|
Gross Unrealized
Losses
|
Available-for-sale securities
|
|
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
439
|
|
|
$
|
(2
|
)
|
|
$
|
1,348
|
|
|
$
|
(36
|
)
|
|
$
|
1,787
|
|
|
$
|
(38
|
)
|
Commercial mortgage-backed securities
|
327
|
|
|
(8
|
)
|
|
188
|
|
|
(14
|
)
|
|
515
|
|
|
(22
|
)
|
Corporates
|
2,716
|
|
|
(88
|
)
|
|
1,191
|
|
|
(139
|
)
|
|
3,907
|
|
|
(227
|
)
|
Equities
|
232
|
|
|
(9
|
)
|
|
64
|
|
|
(3
|
)
|
|
296
|
|
|
(12
|
)
|
Hybrids
|
246
|
|
|
(15
|
)
|
|
476
|
|
|
(49
|
)
|
|
722
|
|
|
(64
|
)
|
Municipals
|
440
|
|
|
(21
|
)
|
|
36
|
|
|
(4
|
)
|
|
476
|
|
|
(25
|
)
|
Residential mortgage-backed securities
|
49
|
|
|
(1
|
)
|
|
486
|
|
|
(24
|
)
|
|
535
|
|
|
(25
|
)
|
U.S. Government
|
51
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
51
|
|
|
—
|
|
Total available-for-sale securities
|
$
|
4,500
|
|
|
$
|
(144
|
)
|
|
$
|
3,789
|
|
|
$
|
(269
|
)
|
|
$
|
8,289
|
|
|
$
|
(413
|
)
|
Total number of available-for-sale securities in an unrealized loss position less than twelve months
|
|
|
|
|
|
|
|
|
|
|
620
|
|
Total number of available-for-sale securities in an unrealized loss position twelve months or longer
|
|
|
|
|
|
|
|
|
|
|
527
|
|
Total number of available-for-sale securities in an unrealized loss position
|
|
|
|
|
|
|
|
|
|
|
1,147
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2016
|
|
Less than 12 months
|
|
12 months or longer
|
|
Total
|
|
Fair Value
|
|
Gross Unrealized
Losses
|
|
Fair Value
|
|
Gross Unrealized
Losses
|
|
Fair Value
|
|
Gross Unrealized
Losses
|
Available-for-sale securities
|
|
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
352
|
|
|
$
|
(4
|
)
|
|
$
|
1,368
|
|
|
$
|
(41
|
)
|
|
$
|
1,720
|
|
|
$
|
(45
|
)
|
Commercial mortgage-backed securities
|
44
|
|
|
(1
|
)
|
|
182
|
|
|
(8
|
)
|
|
226
|
|
|
(9
|
)
|
Corporates
|
413
|
|
|
(9
|
)
|
|
1,031
|
|
|
(123
|
)
|
|
1,444
|
|
|
(132
|
)
|
Equities
|
51
|
|
|
(1
|
)
|
|
75
|
|
|
(3
|
)
|
|
126
|
|
|
(4
|
)
|
Hybrids
|
41
|
|
|
(2
|
)
|
|
412
|
|
|
(45
|
)
|
|
453
|
|
|
(47
|
)
|
Municipals
|
69
|
|
|
(2
|
)
|
|
38
|
|
|
(2
|
)
|
|
107
|
|
|
(4
|
)
|
Residential mortgage-backed securities
|
70
|
|
|
(1
|
)
|
|
544
|
|
|
(27
|
)
|
|
614
|
|
|
(28
|
)
|
Total available-for-sale securities
|
$
|
1,040
|
|
|
$
|
(20
|
)
|
|
$
|
3,650
|
|
|
$
|
(249
|
)
|
|
$
|
4,690
|
|
|
$
|
(269
|
)
|
Total number of available-for-sale securities in an unrealized loss position less than twelve months
|
|
|
|
|
|
|
|
|
|
|
193
|
|
Total number of available-for-sale securities in an unrealized loss position twelve months or longer
|
|
|
|
|
|
|
|
|
|
|
543
|
|
Total number of available-for-sale securities in an unrealized loss position
|
|
|
|
|
|
|
|
|
|
|
736
|
|
At
December 31, 2016
and
September 30, 2016
, securities in an unrealized loss position were primarily concentrated in investment grade, corporate debt, asset-backed, and hybrid instruments.
At
December 31, 2016
and
September 30, 2016
, securities with a fair value of
$131
and
$183
, respectively, had an unrealized loss greater than
20%
of amortized cost (excluding U.S. Government and U.S. Government sponsored agency securities), which represented less than
1%
of the carrying value of all investments in both reporting periods.
The following table provides a reconciliation of the beginning and ending balances of the credit loss portion of OTTI on fixed maturity available-for-sale securities held by the Company for the
three months ended
December 31, 2016
and
2015
, for which a portion of the OTTI was recognized in AOCI:
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
December 31, 2016
|
|
December 31, 2015
|
Beginning balance
|
$
|
3
|
|
|
$
|
3
|
|
Increases attributable to credit losses on securities:
|
|
|
|
OTTI was previously recognized
|
—
|
|
|
—
|
|
OTTI was not previously recognized
|
—
|
|
|
—
|
|
Ending balance
|
$
|
3
|
|
|
$
|
3
|
|
The Company recognized
$1
of credit impairment losses in operations during the
three months ended
December 31, 2016
and
$0
of change of intent impairment losses in operations during the
three months ended
December 31, 2016
, related to fixed maturity securities with an amortized cost of
$115
and a fair value of
$114
at
December 31, 2016
. During the
three months ended
December 31, 2015
, the Company recognized
$10
of credit impairment losses in operations related to fixed maturity securities and other invested assets with an amortized cost of
$64
and a fair value of
$54
at
December 31, 2015
.
Details underlying write-downs taken as a result of OTTI that were recognized in "Net income" and included in net realized gains on securities were as follows:
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
December 31, 2016
|
|
December 31, 2015
|
OTTI Recognized in Net Income:
|
|
|
|
Asset-backed securities
|
$
|
1
|
|
|
$
|
4
|
|
Corporates
|
—
|
|
|
6
|
|
Total
|
$
|
1
|
|
|
$
|
10
|
|
The portion of OTTI recognized in AOCI is disclosed in the unaudited Condensed Consolidated Statements of Comprehensive Income (Loss).
Commercial Mortgage Loans
Commercial mortgage loans ("CMLs") represented approximately
3%
of the Company’s total investments as of
December 31, 2016
and
September 30, 2016
. The Company primarily makes mortgage loans on income producing properties including hotels, industrial properties, retail buildings, multifamily properties and office buildings. The Company diversifies its CML portfolio by geographic region and property type to attempt to reduce concentration risk. Subsequent to origination, the Company continuously evaluates CMLs based on relevant current information to ensure properties are performing at a consistent and acceptable level to secure the related debt. The distribution of CMLs, gross of valuation allowances, by property type and geographic region is reflected in the following tables:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
September 30, 2016
|
|
Gross Carrying Value
|
|
% of Total
|
|
Gross Carrying Value
|
|
% of Total
|
Property Type:
|
|
|
|
|
|
|
|
Funeral Home
|
$
|
1
|
|
|
—
|
%
|
|
$
|
1
|
|
|
—
|
%
|
Hotel
|
23
|
|
|
4
|
%
|
|
23
|
|
|
4
|
%
|
Industrial - General
|
46
|
|
|
8
|
%
|
|
58
|
|
|
10
|
%
|
Industrial - Warehouse
|
65
|
|
|
11
|
%
|
|
64
|
|
|
11
|
%
|
Multifamily
|
70
|
|
|
12
|
%
|
|
70
|
|
|
11
|
%
|
Office
|
159
|
|
|
27
|
%
|
|
160
|
|
|
27
|
%
|
Retail
|
219
|
|
|
38
|
%
|
|
220
|
|
|
37
|
%
|
Total commercial mortgage loans, gross of valuation allowance
|
$
|
583
|
|
|
100
|
%
|
|
$
|
596
|
|
|
100
|
%
|
Allowance for loan loss
|
(1
|
)
|
|
|
|
(1
|
)
|
|
|
Total commercial mortgage loans
|
$
|
582
|
|
|
|
|
$
|
595
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Region:
|
|
|
|
|
|
|
|
East North Central
|
$
|
136
|
|
|
23
|
%
|
|
$
|
137
|
|
|
23
|
%
|
East South Central
|
20
|
|
|
4
|
%
|
|
21
|
|
|
4
|
%
|
Middle Atlantic
|
86
|
|
|
15
|
%
|
|
97
|
|
|
16
|
%
|
Mountain
|
68
|
|
|
12
|
%
|
|
67
|
|
|
12
|
%
|
New England
|
14
|
|
|
2
|
%
|
|
14
|
|
|
2
|
%
|
Pacific
|
136
|
|
|
23
|
%
|
|
136
|
|
|
23
|
%
|
South Atlantic
|
67
|
|
|
12
|
%
|
|
67
|
|
|
11
|
%
|
West North Central
|
14
|
|
|
2
|
%
|
|
14
|
|
|
2
|
%
|
West South Central
|
42
|
|
|
7
|
%
|
|
43
|
|
|
7
|
%
|
Total commercial mortgage loans, gross of valuation allowance
|
$
|
583
|
|
|
100
|
%
|
|
$
|
596
|
|
|
100
|
%
|
Allowance for loan loss
|
(1
|
)
|
|
|
|
(1
|
)
|
|
|
Total commercial mortgage loans
|
$
|
582
|
|
|
|
|
$
|
595
|
|
|
|
Within the Company's CML portfolio,
100%
of all CMLs had a loan-to-value (“LTV”) ratio of less than
75%
at inception at
December 31, 2016
and
September 30, 2016
. As of
December 31, 2016
, all CMLs are current and have not experienced credit or other events which would require the recording of an impairment loss.
LTV and debt service coverage (“DSC”) ratios are measures commonly used to assess the risk and quality of mortgage loans. The LTV ratio, calculated at time of origination, is expressed as a percentage of the amount of the loan relative to the value of the underlying property. A LTV ratio in excess of
100%
indicates the unpaid loan amount exceeds the underlying collateral. The DSC ratio, based upon the most recently received financial statements, is expressed as a percentage of the amount of a property’s net income to its debt service payments. A DSC ratio of less than
1.00
indicates that a property’s operations do not generate sufficient income to cover debt payments.
The following table presents the recorded investment in CMLs by LTV and DSC ratio categories and estimated fair value by the indicated loan-to-value ratios at
December 31, 2016
and
September 30, 2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Debt Service Coverage Ratios
|
|
Total Amount
|
|
% of Total
|
|
Estimated Fair Value
|
|
% of Total
|
|
>1.25
|
|
1.00 - 1.25
|
|
< 1.00
|
|
N/A(a)
|
|
|
|
|
December 31, 2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LTV Ratios:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than 50%
|
$
|
195
|
|
|
$
|
—
|
|
|
$
|
18
|
|
|
$
|
1
|
|
|
$
|
214
|
|
|
37
|
%
|
|
$
|
210
|
|
|
37
|
%
|
50% to 60%
|
234
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
234
|
|
|
40
|
%
|
|
230
|
|
|
40
|
%
|
60% to 75%
|
112
|
|
|
7
|
|
|
16
|
|
|
—
|
|
|
135
|
|
|
23
|
%
|
|
134
|
|
|
23
|
%
|
Commercial mortgage loans
|
$
|
541
|
|
|
$
|
7
|
|
|
$
|
34
|
|
|
$
|
1
|
|
|
$
|
583
|
|
|
100
|
%
|
|
$
|
574
|
|
|
100
|
%
|
September 30, 2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LTV Ratios:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than 50%
|
$
|
158
|
|
|
$
|
18
|
|
|
$
|
—
|
|
|
$
|
1
|
|
|
$
|
177
|
|
|
29
|
%
|
|
$
|
181
|
|
|
29
|
%
|
50% to 60%
|
189
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
189
|
|
|
32
|
%
|
|
194
|
|
|
32
|
%
|
60% to 75%
|
230
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
230
|
|
|
39
|
%
|
|
239
|
|
|
39
|
%
|
Commercial mortgage loans
|
$
|
577
|
|
|
$
|
18
|
|
|
$
|
—
|
|
|
$
|
1
|
|
|
$
|
596
|
|
|
100
|
%
|
|
$
|
614
|
|
|
100
|
%
|
(a) N/A - Current DSC ratio not available.
We establish a general mortgage loan allowance based upon the underlying risk and quality of the mortgage loan portfolio using DSC ratio and LTV ratio. A higher LTV ratio will result in a higher allowance. A higher DSC ratio will result in a lower allowance. We believe that the DSC ratio is an indicator of default risk on loans. We believe that the LTV ratio is an indicator of the principal recovery risk for loans that default.
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
September 30, 2016
|
Gross balance commercial mortgage loans
|
$
|
583
|
|
|
$
|
596
|
|
Allowance for loan loss
|
(1
|
)
|
|
(1
|
)
|
Net balance commercial mortgage loans
|
$
|
582
|
|
|
$
|
595
|
|
The Company recognizes a mortgage loan as delinquent when payments on the loan are greater than 30 days past due. At
December 31, 2016
and
September 30, 2016
, we had
no
CMLs that were delinquent in principal or interest payments. The following provides the current and past due composition of our CMLs:
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
September 30, 2016
|
Current to 30 days
|
$
|
583
|
|
|
$
|
596
|
|
Past due
|
—
|
|
|
—
|
|
Total carrying value
|
$
|
583
|
|
|
$
|
596
|
|
A Troubled Debt Restructuring ("TDR") is a situation where we have granted a concession to a borrower for economic or legal reasons related to the borrower's financial difficulties that we would not otherwise consider. A mortgage loan that has been granted new terms, including workout terms as described previously, would be considered a TDR if it meets conditions that would indicate a borrower is experiencing financial difficulty and the new terms constitute a concession on our part. We analyze all loans where we have agreed to workout terms and all loans that we have refinanced to determine if they meet the definition of a TDR. We consider the following factors in determining whether or not a borrower is experiencing financial difficulty:
•
borrower is in default,
•
borrower has declared bankruptcy,
•
there is growing concern about the borrower's ability to continue as a going concern,
•
borrower has insufficient cash flows to service debt,
•
borrower's inability to obtain funds from other sources, and
•
there is a breach of financial covenants by the borrower.
If the borrower is determined to be in financial difficulty, we consider the following conditions to determine if the borrower will be granted a concession:
•
assets used to satisfy debt are less than our recorded investment,
•
interest rate is modified,
•
maturity date extension at an interest rate less than market rate,
•
capitalization of interest,
•
delaying principal and/or interest for a period of three months or more, and
•
partial forgiveness of the balance or charge-off.
Mortgage loan workouts, refinances or restructures that are classified as TDRs are individually evaluated and measured for impairment. As of
December 31, 2016
, our CML portfolio had
no
impairments, modifications or troubled debt restructuring.
Net investment income
The major sources of “
Net investment income
” on the accompanying unaudited
Condensed Consolidated Statements of Operations
were as follows:
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
December 31, 2016
|
|
December 31, 2015
|
Fixed maturity securities, available-for-sale
|
$
|
228
|
|
|
$
|
210
|
|
Equity securities, available-for-sale
|
10
|
|
|
8
|
|
Commercial mortgage loans
|
6
|
|
|
6
|
|
Related party loans
|
—
|
|
|
1
|
|
Invested cash and short-term investments
|
—
|
|
|
—
|
|
Other investments
|
1
|
|
|
1
|
|
Gross investment income
|
245
|
|
|
226
|
|
Investment expense
|
(5
|
)
|
|
(4
|
)
|
Net investment income
|
$
|
240
|
|
|
$
|
222
|
|
During the fiscal quarter ended June 30, 2015, the Company received notice that we are entitled to receive a settlement as a result of our ownership of certain RMBS that were issued by Countrywide Financial Corp. ("Countrywide"), an entity which was later acquired by Bank of America Corporation. An
$18
cash settlement was received in the fiscal quarter ended June 30, 2016 for a majority of the Countrywide securities, and another
$2
is expected to be paid in the third fiscal quarter of 2017. In compliance with the Company's accounting policy described in "Note 2. Significant Accounting Policies and Practices" of the 2016 Form 10-K, the Company updated its cash flow projections for its best estimate of the recovery as of May 31, 2016 and determined the new effective yield, with the resulting immaterial impact recognized in “Net Investment Income”.
Net investment Gains
(Losses)
Details underlying “Net investment gains (losses)” reported on the accompanying unaudited
Condensed Consolidated Statements of Operations
were as follows:
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
December 31, 2016
|
|
December 31, 2015
|
Net realized gains (losses) on fixed maturity available-for-sale securities
|
$
|
2
|
|
|
$
|
(5
|
)
|
Realized gains (losses) on equity securities
|
—
|
|
|
—
|
|
Change in fair value of other derivatives and embedded derivatives
|
—
|
|
|
2
|
|
Realized losses on other invested assets
|
(2
|
)
|
|
(2
|
)
|
Net realized (losses) gains on available-for-sale securities
|
—
|
|
|
(5
|
)
|
Realized gains (losses) on certain derivative instruments
|
1
|
|
|
(12
|
)
|
Unrealized gains (losses) on certain derivative instruments
|
38
|
|
|
53
|
|
Change in fair value of reinsurance related embedded derivative
|
12
|
|
|
27
|
|
Realized (losses) gains on hedging derivatives and reinsurance-related embedded derivatives
|
51
|
|
|
68
|
|
Net investment (losses) gains
|
$
|
51
|
|
|
$
|
63
|
|
For the
three months ended
December 31, 2016
, proceeds from the sale of fixed maturity available-for-sale securities totaled
$97
, gross gains on such sales totaled
$2
, and gross losses totaled
$2
.
For the
three months ended
December 31, 2015
, proceeds from the sale of fixed maturity available-for-sale securities, totaled
$564
, gross gains on such sales totaled
$13
, and gross losses totaled
$9
, respectively.
Unconsolidated Variable Interest Entities
The Company owns investments in VIEs that are not consolidated within the Company’s financial statements. VIEs do not have sufficient equity to finance their own activities without additional financial support and certain of its investors lack certain characteristics of a controlling financial interest. These VIEs are not consolidated in the Company’s financial statements for the following reasons: 1) FGL Insurance does not have any voting rights or notice rights; 2) the Company does not have any rights to remove the investment manager; and 3) the Company was not involved in the design of the investment. These characteristics indicate that FGL Insurance lacks the ability to direct the activities, or otherwise exert control, of the VIEs and is not considered the primary beneficiary of them.
FGL Insurance participates in loans to third parties originated by Salus. Salus is an affiliated, limited liability company indirectly owned by HRG that originates senior secured asset-based loans to unaffiliated third-party borrowers. FGL Insurance also participates in CLOs managed by Salus and owns preferred equity in Salus within the funds withheld portfolio of the FSRCI treaty. The Company’s maximum exposure to loss as a result of its investments in or with Salus is limited to the carrying value of its investments in Salus which totaled
$14
and
$22
as of
December 31, 2016
and
September 30, 2016
, respectively. FGL’s investments in or with Salus are detailed in “Note 14. Related Party Transactions” to the Company’s unaudited Condensed Consolidated Financial Statements.
During the fiscal quarter ended June 30, 2015, FGL invested in Boardwalk, an unaffiliated limited partnership fund that will invest in consumer whole loans, asset-backed investments, high yield, private investments, bank portfolio liquidations, bridge financing and other investments. The initial funding occurred March 20, 2015 with the remaining commitment expected to fund over the course of the next
3 years
. FGL has funded
$13
of a
$35
commitment as of
December 31, 2016
.
FGL also executed a commitment of
$75
to purchase common shares in an unaffiliated private business development company ("BDC"). The BDC invests in secured and unsecured fixed maturity and equity securities of middle market companies in the United States. Due to the voting structure of the transaction, FGL does not have voting power. The initial capital call occurred June 30, 2015, with the remaining commitment expected to fund through 2017. FGL has funded
$42
as of
December 31, 2016
.
During the fiscal quarter ended December 31, 2016, FGL executed a commitment to invest in two limited partnerships, Golub Capital Partners 10, L.P. and Golub Capital Partners 11, L.P, which invest in United States middle market, senior secured, floating rate loans and broadly syndicated loans primarily acquired from unaffiliated third parties. FGL has executed
$20
and
$40
commitments in Golub Capital Partners 10, L.P. and Golub Capital Partners 11, L.P, respectively,
none
of which was funded as of
December 31, 2016
.
(5) Derivative Financial Instruments
The carrying amounts of derivative instruments, including derivative instruments embedded in fixed indexed annuity (“FIA”) contracts, is as follows:
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
September 30, 2016
|
Assets:
|
|
|
|
Derivative investments:
|
|
|
|
Call options
|
$
|
314
|
|
|
$
|
276
|
|
Futures contracts
|
—
|
|
|
—
|
|
Other invested assets:
|
|
|
|
Other derivatives and embedded derivatives
|
13
|
|
|
13
|
|
Other assets:
|
|
|
|
Reinsurance related embedded derivative
|
131
|
|
|
119
|
|
|
$
|
458
|
|
|
$
|
408
|
|
|
|
|
|
|
|
|
|
|
Liabilities:
|
|
|
|
Contractholder funds:
|
|
|
|
FIA embedded derivative
|
$
|
2,250
|
|
|
$
|
2,383
|
|
Funds withheld for reinsurance liabilities:
|
|
|
|
Call options payable to FSRCI
|
12
|
|
|
11
|
|
Other liabilities:
|
|
|
|
Futures contracts
|
—
|
|
|
—
|
|
|
$
|
2,262
|
|
|
$
|
2,394
|
|
The change in fair value of derivative instruments included in the accompanying unaudited
Condensed Consolidated Statements of Operations
is as follows:
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
December 31, 2016
|
|
December 31, 2015
|
Revenues:
|
|
|
|
Net investment (losses) gains:
|
|
|
|
Call options
|
$
|
39
|
|
|
$
|
36
|
|
Futures contracts
|
—
|
|
|
5
|
|
Other derivatives and embedded derivatives
|
—
|
|
|
2
|
|
Reinsurance related embedded derivative
|
12
|
|
|
27
|
|
|
$
|
51
|
|
|
$
|
70
|
|
Benefits and other changes in policy reserves
|
|
|
|
FIA embedded derivatives
|
$
|
(133
|
)
|
|
$
|
51
|
|
Additional Disclosures
Other Derivatives and Embedded Derivatives
On June 16, 2014, FGL Insurance invested in a
$35
fund-linked note issued by Nomura International Funding Pte. Ltd. The note provides for an additional payment at maturity based on the value of an embedded derivative in AnchorPath Dedicated Return Fund (the "AnchorPath Fund") of
$11
which was based on the actual return of the fund. At
December 31, 2016
the fair value of the fund-linked note and embedded derivative were
$24
and
$13
, respectively. At maturity of the fund-linked note, FGL Insurance will receive the
$35
face value of the note plus the value of the embedded derivative in the AnchorPath Fund. The additional payment at maturity is an embedded derivative reported in "Other invested assets", while the host is an available-for-sale security reported in "Fixed maturities, available-for-sale".
FGL Insurance participates in loans to third parties originated by Salus, an affiliated VIE, indirectly owned by HRG that provides asset-based financing. These participating loans are denominated in Canadian ("CAD") currency which is different from FGL Insurance's functional currency. At September 30, 2015,
four
loan participations were denominated in CAD currency.
Three
of the
four
loans denominated in CAD currency were settled prior to June 30, 2016. Therefore, as of both
September 30, 2016
and
December 31, 2016
only
one
loan denominated in CAD currency remains.
Two
of the loan participations included a provision for reimbursement from the borrower to FGL Insurance for any net foreign exchange losses realized by FGL Insurance under the loan agreements. FGL Insurance's ability to recover the foreign exchange losses under these loan participations was such that the Company established embedded derivatives equal to FGL Insurance's cumulative net foreign exchange loss on these loan participations. The value of the embedded derivatives, which is equal to the cumulative net foreign exchange loss recognized on these loan participations, net of an allowance for counterparty credit risk, was reflected in "Other invested assets" as of the balance sheet date with changes in fair value reflected in the Company's
Condensed Consolidated Statements of Operations
. As of
September 30, 2016
, all of the loan participations were settled in full and the related embedded derivative balance was reduced to
zero
. The Company had realized losses of
$0
for the
three months ended
December 31, 2015
, related to these foreign exchange embedded derivatives included in "Net investment gains (losses)".
FGL Insurance also had
two
participating loans denominated in CAD currency which also required reimbursement from the borrower in CAD currency, but did not include a provision for reimbursement for any net foreign exchange losses from the borrower. Salus executed CAD swap agreements with FGL Insurance to convert the CAD cash flows into United States dollar ("USD") cash flows. Under these swap agreements, Salus reimbursed the Company for certain realized foreign exchange losses related to cash flows on these loan participations from origination date through the earlier of the maturity date of the loan or expiration of the swap agreement. Reimbursement under the swap agreements was reduced in the event the counterparties on the underlying loan participations were unable to fully repay amounts due on those loan participations. FGL Insurance's ability to recover the foreign exchange losses under these swap agreements was such that the Company established derivatives equal to FGL Insurance's cumulative net foreign exchange losses on these loan participations. During the year ended September 30, 2016,
one
of the loan participations was repaid in full and FGL Insurance recovered the full amount due under the related swap agreement. The other loan participation remains outstanding at
December 31, 2016
. The Company recognized an OTTI loss on the loan during the quarter ended September 30, 2016 and also recorded a reduction in the amount recoverable under the swap agreement. The related swap agreement with Salus expired in July 2016 and FGL Insurance recovered the amount due under the swap agreement. The value of these derivatives was reflected in “Other invested assets” with the changes in the fair value reflected in the Company’s
Condensed Consolidated Statements of Operations
. The value of these derivatives was
$0
and
$0
at
December 31, 2016
and
September 30, 2016
, respectively, which is equal to the cumulative net realized foreign exchange loss recognized on these loan participations, net of allowance for counterparty credit risk. The Company had realized losses of
$0
for the
three months ended
December 31, 2016
; and
$2
realized gains for the
three months ended
December 31, 2015
related to these foreign exchange derivatives included in "Net investment gains (losses)". Additionally, a subsidiary of HRG, HGI Funding LLC, executed an agreement with the Company to guarantee, subject to the terms of the agreement, the fulfillment of the accumulated foreign exchange loss recoverable from Salus. The guarantee was terminated in the quarter ended September 30, 2016 concurrent with the settlement of the Salus swap agreement.
FGL Insurance has entered into
two
CAD currency forward contracts since August 2016 to economically hedge against unfavorable movements in CAD on the
one
CAD-denominated loan participation which remains outstanding at
December 31, 2016
. Under the forward contracts, FGL Insurance sold CAD equal to the estimated recovery amounts on the loan participation and will receive USD. The forward contracts will be settled in cash. No cash was exchanged upon execution of the forward contracts. The value of these derivatives at each balance sheet date is equal to the cumulative unrealized value and is reflected in “Other invested assets” with the changes in the fair value reflected in the Company’s Consolidated Statements of Operations. The value of the forward contracts as of
December 31, 2016
was not material. The Company had realized gains of
$0
for the three months ended
December 31, 2016
related to the forward contracts included in "Net investment gains".
Credit Risk
The Company is exposed to credit loss in the event of non-performance by its counterparties on the call options and reflects assumptions regarding this non-performance risk in the fair value of the call options. The non-performance risk is the net counterparty exposure based on the fair value of the open contracts less collateral held. The Company maintains a policy of requiring all derivative contracts to be governed by an International Swaps and Derivatives Association (“ISDA”) Master Agreement.
Information regarding the Company’s exposure to credit loss on the call options it holds is presented in the following table:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
September 30, 2016
|
Counterparty
|
|
Credit Rating
(Fitch/Moody's/S&P) (a)
|
|
Notional
Amount
|
|
Fair Value
|
|
Collateral
|
|
Net Credit Risk
|
|
Notional
Amount
|
|
Fair Value
|
|
Collateral
|
|
Net Credit Risk
|
Merrill Lynch
|
|
A/*/A+
|
|
$
|
2,860
|
|
|
$
|
77
|
|
|
$
|
40
|
|
|
$
|
37
|
|
|
$
|
2,302
|
|
|
$
|
55
|
|
|
$
|
10
|
|
|
$
|
45
|
|
Deutsche Bank
|
|
A-/Baa2/BBB+
|
|
468
|
|
|
24
|
|
|
—
|
|
|
24
|
|
|
1,620
|
|
|
46
|
|
|
12
|
|
|
34
|
|
Morgan Stanley
|
|
*/A1/A+
|
|
2,530
|
|
|
84
|
|
|
68
|
|
|
16
|
|
|
2,952
|
|
|
87
|
|
|
58
|
|
|
29
|
|
Barclay's Bank
|
|
A/A1/A-
|
|
1,898
|
|
|
57
|
|
|
17
|
|
|
40
|
|
|
1,389
|
|
|
39
|
|
|
—
|
|
|
39
|
|
Canadian Imperial Bank of Commerce
|
|
AA-/Aa3/A+
|
|
2,254
|
|
|
72
|
|
|
73
|
|
|
(1
|
)
|
|
1,623
|
|
|
49
|
|
|
48
|
|
|
1
|
|
Total
|
|
|
|
$
|
10,010
|
|
|
$
|
314
|
|
|
$
|
198
|
|
|
$
|
116
|
|
|
$
|
9,886
|
|
|
$
|
276
|
|
|
$
|
128
|
|
|
$
|
148
|
|
(a) An * represents credit ratings that were not available.
Collateral Agreements
The Company is required to maintain minimum ratings as a matter of routine practice as part of its over-the-counter derivative agreements on ISDA forms. Under some ISDA agreements, the Company has agreed to maintain certain financial strength ratings. A downgrade below these levels provides the counterparty under the agreement the right to terminate the open derivative contracts between the parties, at which time any amounts payable by the Company or the counterparty would be dependent on the market value of the underlying derivative contracts. The Company’s current rating allows multiple counterparties the right to terminate ISDA agreements. No ISDA agreements have been terminated, although the counterparties have reserved the right to terminate the ISDA agreements at any time. In certain transactions, the Company and the counterparty have entered into a collateral support agreement requiring either party to post collateral when the net exposures exceed pre-determined thresholds. These thresholds vary by counterparty and credit rating. As of
December 31, 2016
and
September 30, 2016
, counterparties posted
$198
and
$128
of collateral, respectively, of which
$158
and
$118
is included in "Cash and cash equivalents" with an associated payable for this collateral included in "Other liabilities" on the unaudited
Condensed Consolidated Balance Sheets
. The remaining
$40
and
$10
of non-cash collateral was held by a third-party custodian and is not included in the Company's unaudited
Condensed Consolidated Balance Sheets
at
December 31, 2016
and
September 30, 2016
, respectively. Accordingly, the maximum amount of loss due to credit risk that the Company would incur if parties to the call options failed completely to perform according to the terms of the contracts was
$116
and
$148
at
December 31, 2016
and
September 30, 2016
, respectively.
The Company held
540
and
559
futures contracts at
December 31, 2016
and
September 30, 2016
, respectively. The fair value of the futures contracts represents the cumulative unsettled variation margin (open trade equity, net of cash settlements). The Company provides cash collateral to the counterparties for the initial and variation margin on the futures contracts which is included in "
Cash and cash equivalents
" in the accompanying unaudited
Condensed Consolidated Balance Sheets
. The amount of cash collateral held by the counterparties for such contracts was
$3
and
$3
at
December 31, 2016
and
September 30, 2016
, respectively.
(6) Fair Value of Financial Instruments
The Company’s measurement of fair value is based on assumptions used by market participants in pricing the asset or liability, which may include inherent risk, restrictions on the sale or use of an asset, or non-performance risk, which may include the Company’s own credit risk. The Company’s estimate of an exchange price is the price in an orderly transaction between market participants to sell the asset or transfer the liability (“exit price”) in the principal market, or the most advantageous market in the absence of a principal market, for that asset or liability, as opposed to the price that would be paid to acquire the asset or receive a liability (“entry price”). The Company categorizes financial instruments carried at fair value into a three-level fair value hierarchy, based on the priority of inputs to the respective valuation technique. The three-level hierarchy for fair value measurement is defined as follows:
Level 1
- Values are unadjusted quoted prices for identical assets and liabilities in active markets accessible at the measurement date.
Level 2 -
Inputs include quoted prices for similar assets or liabilities in active markets, quoted prices from those willing to trade in markets that are not active, or other inputs that are observable or can be corroborated by market data for the term of the instrument. Such inputs include market interest rates and volatilities, spreads, and yield curves.
Level 3
- Certain inputs are unobservable (supported by little or no market activity) and significant to the fair value measurement. Unobservable inputs reflect the Company’s best estimate of what hypothetical market participants would use to determine a transaction price for the asset or liability at the reporting date based on the best information available in the circumstances.
In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, an investment’s level within the fair value hierarchy is based on the lower level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the investment.
When a determination is made to classify an asset or liability within Level 3 of the fair value hierarchy, the determination is based upon the significance of the unobservable inputs to the overall fair value measurement. Because certain securities trade in less liquid or illiquid markets with limited or no pricing information, the determination of fair value for these securities is inherently more difficult. However, Level 3 fair value investments may include, in addition to the unobservable or Level 3 inputs, observable components, which are components that are actively quoted or can be validated to market-based sources.
The carrying amounts and estimated fair values of the Company’s financial instruments for which the disclosure of fair values is required, including financial assets and liabilities measured and carried at fair value on a recurring basis, with the exception of investment contracts, related party loans, portions of other invested assets and debt which are disclosed later within this footnote, are summarized according to the hierarchy previously described, as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Fair Value
|
|
Carrying Amount
|
Assets
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
$
|
632
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
632
|
|
|
$
|
632
|
|
Fixed maturity securities, available-for-sale:
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
—
|
|
|
2,411
|
|
|
197
|
|
|
2,608
|
|
|
2,608
|
|
Commercial mortgage-backed securities
|
—
|
|
|
752
|
|
|
85
|
|
|
837
|
|
|
837
|
|
Corporates
|
—
|
|
|
10,401
|
|
|
1,078
|
|
|
11,479
|
|
|
11,479
|
|
Hybrids
|
—
|
|
|
1,323
|
|
|
10
|
|
|
1,333
|
|
|
1,333
|
|
Municipals
|
—
|
|
|
1,604
|
|
|
37
|
|
|
1,641
|
|
|
1,641
|
|
Residential mortgage-backed securities
|
—
|
|
|
1,309
|
|
|
—
|
|
|
1,309
|
|
|
1,309
|
|
U.S. Government
|
54
|
|
|
176
|
|
|
—
|
|
|
230
|
|
|
230
|
|
Equity securities, available-for-sale
|
17
|
|
|
636
|
|
|
1
|
|
|
654
|
|
|
654
|
|
Derivative financial instruments
|
—
|
|
|
314
|
|
|
—
|
|
|
314
|
|
|
314
|
|
Reinsurance related embedded derivative, included in other assets
|
—
|
|
|
131
|
|
|
—
|
|
|
131
|
|
|
131
|
|
Other invested assets
|
—
|
|
|
—
|
|
|
19
|
|
|
19
|
|
|
19
|
|
Total financial assets at fair value
|
$
|
703
|
|
|
$
|
19,057
|
|
|
$
|
1,427
|
|
|
$
|
21,187
|
|
|
$
|
21,187
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
Derivatives:
|
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
2,250
|
|
|
$
|
2,250
|
|
|
$
|
2,250
|
|
Call options payable for FSRCI, included in funds withheld for reinsurance liabilities
|
—
|
|
|
12
|
|
|
—
|
|
|
12
|
|
|
12
|
|
Total financial liabilities at fair value
|
$
|
—
|
|
|
$
|
12
|
|
|
$
|
2,250
|
|
|
$
|
2,262
|
|
|
$
|
2,262
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2016
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Fair Value
|
|
Carrying Amount
|
Assets
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
$
|
864
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
864
|
|
|
$
|
864
|
|
Fixed maturity securities, available-for-sale:
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
—
|
|
|
2,327
|
|
|
172
|
|
|
2,499
|
|
|
2,499
|
|
Commercial mortgage-backed securities
|
—
|
|
|
785
|
|
|
79
|
|
|
864
|
|
|
864
|
|
Corporates
|
—
|
|
|
10,219
|
|
|
1,121
|
|
|
11,340
|
|
|
11,340
|
|
Hybrids
|
—
|
|
|
1,386
|
|
|
—
|
|
|
1,386
|
|
|
1,386
|
|
Municipals
|
—
|
|
|
1,676
|
|
|
41
|
|
|
1,717
|
|
|
1,717
|
|
Residential mortgage-backed securities
|
—
|
|
|
1,362
|
|
|
—
|
|
|
1,362
|
|
|
1,362
|
|
U.S. Government
|
61
|
|
|
182
|
|
|
—
|
|
|
243
|
|
|
243
|
|
Equity securities, available-for-sale
|
22
|
|
|
617
|
|
|
3
|
|
|
642
|
|
|
642
|
|
Derivative financial instruments
|
—
|
|
|
276
|
|
|
—
|
|
|
276
|
|
|
276
|
|
Reinsurance related embedded derivative, included in other assets
|
—
|
|
|
119
|
|
|
—
|
|
|
119
|
|
|
119
|
|
Other invested assets
|
—
|
|
|
—
|
|
|
34
|
|
|
34
|
|
|
34
|
|
Total financial assets at fair value
|
$
|
947
|
|
|
$
|
18,949
|
|
|
$
|
1,450
|
|
|
$
|
21,346
|
|
|
$
|
21,346
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
Derivatives:
|
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
2,383
|
|
|
$
|
2,383
|
|
|
$
|
2,383
|
|
Call options payable for FSRCI, included in funds withheld for reinsurance liabilities
|
—
|
|
|
11
|
|
|
—
|
|
|
11
|
|
|
11
|
|
Total financial liabilities at fair value
|
$
|
—
|
|
|
$
|
11
|
|
|
$
|
2,383
|
|
|
$
|
2,394
|
|
|
$
|
2,394
|
|
The carrying amounts of accrued investment income, and portions of other insurance liabilities, approximate fair value due to their short duration and, accordingly, they are not presented in the tables above.
Valuation Methodologies
Fixed Maturity Securities & Equity Securities
The Company measures the fair value of its securities based on assumptions used by market participants in pricing the security. The most appropriate valuation methodology is selected based on the specific characteristics of the fixed maturity or equity security, and the Company will then consistently apply the valuation methodology to measure the security’s fair value. The Company's fair value measurement is based on a market approach, which utilizes prices and other relevant information generated by market transactions involving identical or comparable securities. Sources of inputs to the market approach include a third-party pricing service, independent broker quotations, or pricing matrices. The Company uses observable and unobservable inputs in its valuation methodologies. Observable inputs include benchmark yields, reported trades, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data. In addition, market indicators and industry and economic events are monitored and further market data will be acquired when certain thresholds are met.
For certain security types, additional inputs may be used, or some of the inputs described above may not be applicable. The Company has an equity investment in a private business development company which is not traded on an exchange or valued by other sources such as analytics or brokers. The Company based the fair value of this investment on an estimated net asset value provided by the investee. Management did not make any adjustments to this valuation. The significant unobservable input used in the fair value measurement of equity securities available-for-sale for which the market approach valuation technique is employed is yields for comparable securities. Increases (decreases) in the yields would result in lower or higher, respectively, fair value measurements. For broker-quoted only securities, quotes from market makers or broker-dealers are obtained from sources recognized to be market participants. Management believes the broker quotes are prices at which trades could be executed based on historical trades executed at broker-quoted or slightly higher prices.The fair value of the Company's investment in mutual funds is based on the net asset value published by the respective mutual fund and represents the value the Company would have received if it withdrew its investment on the balance sheet date.
The Company did not adjust prices received from third parties as of
December 31, 2016
and
September 30, 2016
. However, the Company does analyze the third-party valuation methodologies and its related inputs to perform assessments to determine the appropriate level within the fair value hierarchy.
Derivative Financial Instruments
The fair value of call option assets is based upon valuation pricing models, which represents what the Company would expect to receive or pay at the balance sheet date if it canceled the options, entered into offsetting positions, or exercised the options. Fair values for these instruments are determined internally, based on valuation pricing models which use market-observable inputs, including interest rates, yield curve volatilities, and other factors.
The fair value of the reinsurance-related embedded derivative in the funds withheld reinsurance agreement with FSRCI is estimated based upon the fair value of the assets supporting the funds withheld from reinsurance liabilities. As the fair value of the assets is based on a quoted market price of similar assets (Level 2), the fair value of the embedded derivative is based on market-observable inputs and is classified as Level 2.
The fair value of futures contracts represents the cumulative unsettled variation margin (open trade equity, net of cash settlements) which represents what the Company would expect to receive or pay at the balance sheet date if it canceled the futures contract or entered into offsetting positions. These contracts are classified as Level 1.
The fair value measurement of the FIA embedded derivatives included in contractholder funds is determined through a combination of market observable information and significant unobservable inputs. The market observable inputs are the market value of option and interest swap rates. The significant unobservable inputs are the mortality multiplier, surrender rates, and non-performance spread. The mortality multiplier at
December 31, 2016
and
September 30, 2016
was applied to the Annuity 2000 mortality tables. Significant increases (decreases) in the market value of an option in isolation would result in a higher or lower, respectively, fair value measurement. Significant increases (decreases) in interest swap rates, mortality multiplier, surrender rates, or non-performance spread in isolation would result in a lower (higher) fair value measurement. Generally, a change in any one unobservable input would not directly result in a change in any other unobservable input.
Investment Contracts
Investment contracts include deferred annuities, FIAs, indexed universal life policies (“IULs”) and immediate annuities. The fair value of deferred annuity, FIA, and IUL contracts is based on their cash surrender value (i.e. the cost the Company would incur to extinguish the liability) as these contracts are generally issued without an annuitization date. The fair value of immediate annuities contracts is derived by calculating a new fair value interest rate using the updated yield curve and treasury spreads as of the respective reporting date. At
December 31, 2016
and
September 30, 2016
, this resulted in
higher
fair value reserves relative to the carrying value. The Company is not required to, and has not, estimated the fair value of the liabilities under contracts that involve significant mortality or morbidity risks, as these liabilities fall within the definition of insurance contracts that are exceptions from financial instruments that require disclosures of fair value.
Other Invested Assets
Fair value of our loan participation interest securities approximates the unpaid principal balance of the participation interest as of
December 31, 2016
. In making this assessment, the Company considered the sufficiency of the underlying loan collateral, movements in the benchmark interest rate between origination date and
December 31, 2016
, the primary market participant for these securities, and the short-term maturity of these loans (less than
1 year
).
Fair value of our loan participation interest JSN Jewellery, Inc. is based upon a best estimate of the expected liquidation value of the underlying collateral.
Fair value of the AnchorPath embedded derivative is based on an unobservable input, the net asset value of the AnchorPath fund at the balance sheet date. The embedded derivative is similar to a call option on the net asset value of the AnchorPath fund with a strike price of
zero
since FGL Insurance will not be required to make any additional payments at maturity of the fund-linked note in order to receive the net asset value of the AnchorPath fund on the maturity date. Therefore, the Black-Scholes model returns the net asset value of the AnchorPath fund as the fair value of the call option regardless of the values used for the other inputs to the option pricing model. The net asset value of the AnchorPath fund is provided by the fund manager at the end of each calendar month and represents the value an investor would receive if it withdrew its investment on the balance sheet date. Therefore, the key unobservable input used in the Black-Scholes model is the value of the AnchorPath fund. As the value of the AnchorPath fund increases or decreases, the fair value of the embedded derivative will increase or decrease.
Fair value of foreign exchange derivatives and embedded derivatives, including CAD currency forward contracts, is based on the quoted USD/CAD exchange rates.
Related Party Loans - HGI Energy Loan
The HGI Energy loan's (discussed in "Note 14. Related Party Transactions" to the Company's unaudited Consolidated Financial Statements) fair value is based on the discounted cash flows of the loan. The discount rate was set by observing the market rate on other debt instruments of the issuer with an adjustment for liquidity.
Valuation Methodologies and Associated Inputs for Financial Instruments Not Carried at Fair Value
The following discussion outlines the methodologies and assumptions used to determine the fair value of our financial instruments not carried at fair value. Considerable judgment is required to develop these assumptions used to measure fair value. Accordingly, the estimates shown are not necessarily indicative of the amounts that would be realized in a one-time, current market exchange of all of our financial instruments.
Commercial Mortgage loans
The fair value of commercial mortgage loans is established using a discounted cash flow method based on credit rating, maturity and future income. This yield-based approach was sourced from our third-party vendor. The ratings for mortgages in good standing are based on property type, location, market conditions, occupancy, debt service coverage, loan-to-value, quality of tenancy, borrower, and payment record. The carrying value for impaired mortgage loans is based on the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s market price or the fair value of the collateral if the loan is collateral-dependent. The inputs used to measure the fair value of our commercial mortgage loans are classified as Level 3 within the fair value hierarchy.
Policy Loans (included within Other Invested Assets)
Fair values for policy loans are estimated from a discounted cash flow analysis, using interest rates currently being offered for loans with similar credit risk. Loans with similar characteristics are aggregated for purposes of the calculations.
Limited Partnership Investment (included in Other Invested Assets)
Fair value of our limited partnership investment, a private equity fund, is based upon estimated net asset value information and is classified as Level 3. For further discussion about our limited partnership investment see “Note 4. Investments” to the Company's unaudited Condensed Consolidated Financial Statements.
Related Party Loans
The related party loans (discussed in "Note 14. Related Party Transactions" to the Company's Consolidated Financial Statements) carrying value at par approximates fair value, as this is the exit price for the obligation of these loans.
Debt
The fair value of debt is based on quoted market prices. The inputs used to measure the fair value of our outstanding debt are classified as Level 2 within the fair value hierarchy. Our revolving credit facility debt is classified as Level 3 within the fair value hierarchy, and the estimated fair value reflects the carrying value as the revolver has no maturity date.
Quantitative information regarding significant unobservable inputs used for recurring Level 3 fair value measurements of financial instruments carried at fair value as of
December 31, 2016
and
September 30, 2016
are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value at
|
|
Valuation
|
|
|
|
Range (Weighted average)
|
|
|
December 31, 2016
|
|
Technique
|
|
Unobservable Input(s)
|
|
December 31, 2016
|
Assets
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
|
$
|
184
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
96.93% - 100.08%
(99.32%)
|
Asset-backed securities (Salus CLO equity tranche)
|
|
13
|
|
|
Third-party Valuation
|
|
Offered quotes
|
|
21.78%
|
|
|
|
|
|
|
Discount rate
|
|
15.00%
|
|
|
|
|
|
|
Other loan recoveries
|
|
0.00% - 100.00%
|
Commercial mortgage-backed securities
|
|
81
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
100.00% - 118.00%
(110.27%)
|
Commercial mortgage-backed securities
|
|
4
|
|
|
Matrix pricing
|
|
Quoted prices
|
|
98.63% - 98.63%
(98.63%)
|
Corporates
|
|
889
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
50.00% - 111.00%
(99.50%)
|
Corporates
|
|
189
|
|
|
Matrix pricing
|
|
Quoted prices
|
|
93.01% - 116.92%
(102.58%)
|
Hybrids
|
|
10
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
23,760% - 23,760%
(23,760%) (a)
|
Municipals
|
|
37
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
109.18% - 109.18%
(109.18%)
|
Equity securities available-for-sale (Salus preferred equity)
|
|
1
|
|
|
Income-approach
|
|
Yield
|
|
0.70% - 3.10%
|
|
|
|
|
|
|
Discount rate
|
|
7.00% - 9.00%
|
|
|
|
|
|
|
Salus CLO Equity
|
|
21.78%
|
Other invested assets:
|
|
|
|
|
|
|
|
|
Available-for-sale embedded derivative
|
|
13
|
|
|
Black-Scholes model
|
|
Market value of AnchorPath fund
|
|
100.00%
|
Loan participation - JSN Jewellery, Inc.
|
|
6
|
|
|
Liquidation value – 19% recovery estimate
|
|
Recovery estimate (wind-down costs)
|
|
19.00%
|
Total
|
|
$
|
1,427
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
Derivatives:
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
|
$
|
2,250
|
|
|
Discounted cash flow
|
|
Market value of option
|
|
0.00% - 21.60%
(2.89%)
|
|
|
|
|
|
|
SWAP rates
|
|
1.98% - 2.34%
(2.16%)
|
|
|
|
|
|
|
Mortality multiplier
|
|
80.00% - 80.00%
(80.00%)
|
|
|
|
|
|
|
Surrender rates
|
|
0.50% - 75.00%
(9.60%)
|
|
|
|
|
|
|
Non-performance spread
|
|
0.25% - 0.25%
(0.25%)
|
|
|
|
|
|
|
Future option budget
|
|
1.15% - 5.57%
(2.91%)
|
Total liabilities at fair value
|
|
$
|
2,250
|
|
|
|
|
|
|
|
(a) Market value of $9,504,000 and par value of $400
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value at
|
|
Valuation
|
|
Unobservable
|
|
Range (Weighted average)
|
|
|
September 30, 2016
|
|
Technique
|
|
Input(s)
|
|
September 30, 2016
|
Assets
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
|
$
|
144
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
97.54% - 101.55%
(99.66%)
|
Asset-backed securities
|
|
9
|
|
|
Matrix Pricing
|
|
Quoted prices
|
|
98.75%
|
Asset-backed securities (Salus CLO equity tranche)
|
|
19
|
|
|
Third-Party Valuation
|
|
Offered quotes
|
|
28.37%
|
|
|
|
|
|
|
Discount rate
|
|
15.00%
|
|
|
|
|
|
|
RSH recovery
|
|
5.50%
|
|
|
|
|
|
|
Other loan recoveries
|
|
0.00% - 100.00%
|
Commercial mortgage-backed securities
|
|
75
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
104.31% - 122.19%
(114.10%)
|
Commercial mortgage-backed securities
|
|
4
|
|
|
Matrix pricing
|
|
Quoted prices
|
|
98.41% - 98.41%
(98.41%)
|
Corporates
|
|
920
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
50.00% - 118.33%
(103.37%)
|
Corporates
|
|
201
|
|
|
Matrix pricing
|
|
Quoted prices
|
|
99.00% - 150.23%
(107.65%)
|
Municipals
|
|
41
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
119.04% - 119.04%
(119.04%)
|
Equity securities available-for-sale (Salus preferred equity)
|
|
3
|
|
|
Market-approach
|
|
Yield
|
|
11.00%
|
|
|
|
|
|
|
RSH recovery
|
|
5.50%
|
|
|
|
|
|
|
Discount rate
|
|
15.00%
|
|
|
|
|
|
|
Salus CLO equity
|
|
28.37%
|
Other invested assets:
|
|
|
|
|
|
|
|
|
Available-for-sale embedded derivative
|
|
13
|
|
|
Black-Scholes Model
|
|
Market value of AnchorPath fund
|
|
100.00%
|
Loan participations - Other
|
|
2
|
|
|
Market Pricing
|
|
Offered quotes
|
|
100.00%
|
Loan participations - JSN Jewellery Inc.
|
|
17
|
|
|
Liquidation value – 52.5% recovery estimate
|
|
Recovery estimate (wind-down costs)
|
|
49.93% - 56.67%
(52.50%)
|
Loan participation - RadioShack (RSH) Corporation
|
|
2
|
|
|
Liquidation value – 5% recovery estimate
|
|
Recovery estimate (wind-down costs)
|
|
1.36% - 14.28%
|
Total
|
|
$
|
1,450
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
Derivatives:
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
|
$
|
2,383
|
|
|
Discounted cash flow
|
|
Market value of option
|
|
0.00% - 26.64%
(2.55%)
|
|
|
|
|
|
|
SWAP rates
|
|
1.18% - 1.46%
(1.31%)
|
|
|
|
|
|
|
Mortality multiplier
|
|
80.00% - 80.00%
(80.00%)
|
|
|
|
|
|
|
Surrender rates
|
|
0.50% - 75.00%
(9.59%)
|
|
|
|
|
|
|
Non-performance spread
|
|
0.25% - 0.25%
(0.25%)
|
|
|
|
|
|
|
Future option budget
|
|
1.15% - 5.57%
(2.91%)
|
Total liabilities at fair value
|
|
$
|
2,383
|
|
|
|
|
|
|
|
Changes in unrealized losses (gains), net in the Company’s FIA embedded derivatives are included in "
Benefits and other changes in policy reserves
" in the unaudited
Condensed Consolidated Statements of Operations
.
The following tables summarize changes to the Company’s financial instruments carried at fair value and classified within Level 3 of the fair value hierarchy for the
three months ended
December 31, 2016
and
2015
, respectively. This summary excludes any impact of amortization of VOBA and DAC. The gains and losses below may include changes in fair value due in part to observable inputs that are a component of the valuation methodology.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 31, 2016
|
|
Balance at Beginning
of Period
|
|
Total Gains (Losses)
|
|
Purchases
|
|
Sales
|
|
Settlements
|
|
Net transfer In (Out) of
Level 3 (a)
|
|
Balance at End of
Period
|
|
|
Included in
Earnings
|
|
Included in
AOCI
|
|
|
|
|
|
Assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturity securities available-for-sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
172
|
|
|
$
|
(1
|
)
|
|
$
|
(1
|
)
|
|
$
|
63
|
|
|
$
|
—
|
|
|
$
|
(7
|
)
|
|
$
|
(29
|
)
|
|
$
|
197
|
|
Commercial mortgage-backed securities
|
79
|
|
|
—
|
|
|
(2
|
)
|
|
8
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
85
|
|
Corporates
|
1,121
|
|
|
(1
|
)
|
|
(41
|
)
|
|
51
|
|
|
(5
|
)
|
|
(48
|
)
|
|
1
|
|
|
1,078
|
|
Hybrids
|
—
|
|
|
—
|
|
|
—
|
|
|
10
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
10
|
|
Municipals
|
41
|
|
|
—
|
|
|
(3
|
)
|
|
—
|
|
|
—
|
|
|
(1
|
)
|
|
—
|
|
|
37
|
|
Equity securities available-for-sale
|
3
|
|
|
(2
|
)
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
1
|
|
Other invested assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Available-for-sale embedded derivative
|
13
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
13
|
|
Loan participations
|
21
|
|
|
(1
|
)
|
|
—
|
|
|
—
|
|
|
—
|
|
|
(14
|
)
|
|
—
|
|
|
6
|
|
Total assets at Level 3 fair value
|
$
|
1,450
|
|
|
$
|
(5
|
)
|
|
$
|
(47
|
)
|
|
$
|
132
|
|
|
$
|
(5
|
)
|
|
$
|
(70
|
)
|
|
$
|
(28
|
)
|
|
$
|
1,427
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
$
|
2,383
|
|
|
$
|
(133
|
)
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
2,250
|
|
Total liabilities at Level 3 fair value
|
$
|
2,383
|
|
|
$
|
(133
|
)
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
2,250
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(a) The net transfers out of Level 3 during the three months ended
December 31, 2016
were exclusively to Level 2.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 31, 2015
|
|
Balance at Beginning
of Period
|
|
Total Gains (Losses)
|
|
Purchases
|
|
Sales
|
|
Settlements
|
|
Net transfer In (Out) of
Level 3 (a)
|
|
Balance at End of
Period
|
|
|
Included in
Earnings
|
|
Included in
AOCI
|
|
|
|
|
|
Assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturity securities available-for-sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
38
|
|
|
$
|
(4
|
)
|
|
$
|
—
|
|
|
$
|
22
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
23
|
|
|
$
|
79
|
|
Commercial mortgage-backed securities
|
144
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
(1
|
)
|
|
(4
|
)
|
|
139
|
|
Corporates
|
964
|
|
|
—
|
|
|
(13
|
)
|
|
44
|
|
|
—
|
|
|
(8
|
)
|
|
(15
|
)
|
|
972
|
|
Municipals
|
39
|
|
|
—
|
|
|
(1
|
)
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
38
|
|
Equity securities available-for-sale
|
9
|
|
|
—
|
|
|
2
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
11
|
|
Other invested assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Available-for-sale embedded derivative
|
10
|
|
|
1
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
11
|
|
Loan participations
|
119
|
|
|
(3
|
)
|
|
1
|
|
|
18
|
|
|
—
|
|
|
(51
|
)
|
|
—
|
|
|
84
|
|
Total assets at Level 3 fair value
|
$
|
1,323
|
|
|
$
|
(6
|
)
|
|
$
|
(11
|
)
|
|
$
|
84
|
|
|
$
|
—
|
|
|
$
|
(60
|
)
|
|
$
|
4
|
|
|
$
|
1,334
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
$
|
2,149
|
|
|
$
|
51
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
2,200
|
|
Total liabilities at Level 3 fair value
|
$
|
2,149
|
|
|
$
|
51
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
2,200
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(a) The net transfers out of Level 3 during the three months ended
December 31, 2015
were exclusively to Level 2.
The following tables provide the carrying value and estimated fair value of our financial instruments that are carried on the unaudited Condensed Consolidated Balance Sheet at amounts other than fair value, summarized according to the fair value hierarchy previously described.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total Estimated Fair Value
|
|
Carrying Amount
|
Assets
|
|
|
|
|
|
|
|
|
|
Commercial mortgage loans
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
574
|
|
|
$
|
574
|
|
|
$
|
582
|
|
Policy loans, included in other invested assets
|
—
|
|
|
—
|
|
|
10
|
|
|
10
|
|
|
14
|
|
Related party loans
|
—
|
|
|
—
|
|
|
71
|
|
|
71
|
|
|
71
|
|
Total
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
655
|
|
|
$
|
655
|
|
|
$
|
667
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
Investment contracts, included in contractholder funds
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
15,301
|
|
|
$
|
15,301
|
|
|
$
|
17,236
|
|
Debt
|
—
|
|
|
299
|
|
|
100
|
|
|
399
|
|
|
400
|
|
Total
|
$
|
—
|
|
|
$
|
299
|
|
|
$
|
15,401
|
|
|
$
|
15,700
|
|
|
$
|
17,636
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2016
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total Estimated Fair Value
|
|
Carrying Amount
|
Assets
|
|
|
|
|
|
|
|
|
|
Commercial mortgage loans
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
614
|
|
|
$
|
614
|
|
|
$
|
595
|
|
Policy loans, included in other invested assets
|
—
|
|
|
—
|
|
|
13
|
|
|
13
|
|
|
14
|
|
Related party loans
|
—
|
|
|
—
|
|
|
71
|
|
|
71
|
|
|
71
|
|
Total
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
698
|
|
|
$
|
698
|
|
|
$
|
680
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
Investment contracts, included in contractholder funds
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
14,884
|
|
|
$
|
14,884
|
|
|
$
|
16,868
|
|
Debt
|
—
|
|
|
300
|
|
|
100
|
|
|
400
|
|
|
400
|
|
Total
|
$
|
—
|
|
|
$
|
300
|
|
|
$
|
14,984
|
|
|
$
|
15,284
|
|
|
$
|
17,268
|
|
The following table includes assets that have not been classified in the fair value hierarchy as the fair value of these investments is measured using the net asset value per share practical expedient. For further discussion about this adoption see “Note 2. Significant Accounting Policies” to the Company's unaudited Condensed Consolidated Financial Statements.
|
|
|
|
|
|
|
|
|
|
Carrying Value After Measurement
|
|
December 31, 2016
|
|
September 30, 2016
|
Equity securities available-for-sale
|
$
|
42
|
|
|
$
|
41
|
|
Limited partnership investment, included in other invested assets
|
$
|
14
|
|
|
$
|
12
|
|
The Company reviews the fair value hierarchy classifications each reporting period. Changes in the observability of the valuation attributes may result in a reclassification of certain financial assets or liabilities. Such reclassifications are reported as transfers in and out of Level 3, or between other levels, at the beginning fair value for the reporting period in which the changes occur. There were
no
transfers between Level 1 and Level 2 for the
three months ended
December 31, 2016
and
2015
.
The transfers into and out of Level 3 were related to changes in the primary pricing source and changes in the observability of external information used in determining the fair value. Accordingly, the Company’s assessment resulted in gross transfers into Level 3 with valuation of
$1
related to corporate securities and gross transfers out of Level 3 with valuation of
$29
related to asset-backed securities during the
three months ended
December 31, 2016
. During the
three months ended
December 31, 2015
, there were gross transfers into Level 3 of
$23
related to asset-backed securities and gross transfers out of level 3 of
$19
, related to commercial mortgage-backed and corporate securities.
(7) Intangible Assets
Information regarding VOBA and DAC which includes deferred sales inducement, is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
VOBA
|
|
DAC
|
|
Total
|
Balance at September 30, 2016
|
|
$
|
19
|
|
|
$
|
1,007
|
|
|
$
|
1,026
|
|
Deferrals
|
|
—
|
|
|
100
|
|
|
100
|
|
Adjustments:
|
|
|
|
|
|
|
Unlocking
|
|
6
|
|
|
(6
|
)
|
|
—
|
|
Interest
|
|
2
|
|
|
11
|
|
|
13
|
|
Amortization
|
|
(31
|
)
|
|
(105
|
)
|
|
(136
|
)
|
Adjustment for unrealized investment losses (gains)
|
|
122
|
|
|
103
|
|
|
225
|
|
Balance at December 31, 2016
|
|
$
|
531
|
|
|
$
|
697
|
|
|
$
|
1,228
|
|
|
|
|
|
|
|
|
Accumulated amortization
|
|
$
|
419
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
VOBA
|
|
DAC
|
|
Total
|
Balance at September 30, 2015
|
|
$
|
187
|
|
|
$
|
801
|
|
|
$
|
988
|
|
Deferrals
|
|
—
|
|
|
80
|
|
|
80
|
|
Adjustments:
|
|
|
|
|
|
|
Unlocking
|
|
6
|
|
|
—
|
|
|
6
|
|
Interest
|
|
3
|
|
|
8
|
|
|
11
|
|
Amortization
|
|
(25
|
)
|
|
(33
|
)
|
|
(58
|
)
|
Adjustment for unrealized investment losses
|
|
1
|
|
|
134
|
|
|
135
|
|
Balance at December 31, 2015
|
|
$
|
172
|
|
|
$
|
990
|
|
|
$
|
1,162
|
|
|
|
|
|
|
|
|
Accumulated amortization
|
|
$
|
407
|
|
|
|
|
|
Amortization of VOBA and DAC is based on the historical, current and future expected gross margins or profits recognized, including investment gains and losses. The interest accrual rate utilized to calculate the accretion of interest on VOBA ranged from
4%
to
5%
. The adjustment for unrealized net investment losses (gains) represents the amount of VOBA and DAC that would have been amortized if such unrealized gains and losses had been recognized. This is referred to as the “shadow adjustments” as the additional amortization is reflected in AOCI rather than the Consolidated Statement of Operations. As of
December 31, 2016
and
September 30, 2016
, the VOBA balance included cumulative adjustments for net unrealized investment (gains) losses of
$(40)
and
$(162)
, respectively, and the DAC balances included cumulative adjustments for net unrealized investment losses (gains) of
$7
and
$(96)
, respectively.
The above DAC balances include
$86
and
$86
of deferred sales inducements, net of shadow adjustments, as of
December 31, 2016
and
September 30, 2016
, respectively.
The weighted average amortization period for VOBA is approximately
5.2
years. Estimated amortization expense for VOBA in future fiscal periods is as follows:
|
|
|
|
|
|
|
Estimated Amortization Expense
|
Fiscal Year
|
|
VOBA
|
2017
|
|
18
|
|
2018
|
|
23
|
|
2019
|
|
20
|
|
2020
|
|
16
|
|
2021
|
|
14
|
|
Thereafter
|
|
67
|
|
(8) Debt
The Company's outstanding debt as of
December 31, 2016
and
September 30, 2016
is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
September 30, 2016
|
Debt
|
|
$
|
300
|
|
|
$
|
300
|
|
Revolving credit facility
|
|
100
|
|
|
100
|
|
As of
December 31, 2016
and
September 30, 2016
, the Company has drawn
$100
on the revolver, and carried interest rates equal to
3.88%
and
5.50%
, respectively. As of both
December 31, 2016
and
September 30, 2016
, the amount available to be drawn on the revolver was
$50
, respectively.
The interest expense and amortization of debt issuance costs of the Company's debt for the
three months ended
December 31, 2016
and
2015
, respectively, were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
December 31, 2016
|
|
December 31, 2015
|
|
|
Interest Expense
|
|
Amortization
|
|
Interest Expense
|
|
Amortization
|
Debt
|
|
$
|
5
|
|
|
$
|
—
|
|
|
$
|
5
|
|
|
$
|
1
|
|
Revolving credit facility
|
|
1
|
|
|
—
|
|
|
—
|
|
|
—
|
|
(9) Equity
Share Repurchases
On September 2, 2014, the Company’s Board of Directors authorized the repurchase of up to
500 thousand
shares of the Company’s outstanding shares of common stock over the next twelve months. As of June 30, 2015, the share repurchase program was completed. The Company's share repurchase activity is shown in the table below.
|
|
|
|
|
|
|
|
|
|
|
Shares
|
|
Total Cost
|
Shares purchased pursuant to the repurchase program
|
|
500
|
|
|
$
|
11
|
|
Shares acquired to satisfy employee income tax withholding pursuant to the Company's stock compensation plan
|
|
12
|
|
|
—
|
|
Total shares of common stock at completion of repurchase program as of June 30, 2015
|
|
512
|
|
|
11
|
|
Shares acquired to satisfy employee income tax withholding pursuant to the Company's stock compensation plan during the three months ended December 31, 2015
|
|
22
|
|
|
1
|
|
Shares acquired to satisfy employee income tax withholding pursuant to the Company's stock compensation plan during the three months ended March 31, 2016
|
|
3
|
|
|
—
|
|
Shares acquired to satisfy employee income tax withholding pursuant to the Company's stock compensation plan during the three months ended December 31, 2016
|
|
28
|
|
|
1
|
|
Total shares of common stock repurchased as of December 31, 2016
|
|
565
|
|
|
$
|
13
|
|
Subsequent to the Company's repurchase of shares, HRG indirectly held
47,000 thousand
shares of FGL's outstanding common stock, representing an
80%
interest at
December 31, 2016
.
Dividends
The Company declared the following cash dividends during the
three months ended
December 31, 2016
and
2015
:
|
|
|
|
|
|
|
|
|
|
|
|
Date Declared
|
|
Date Paid
|
|
Date Shareholders of record
|
|
Shareholders of record (in thousands)
|
|
Cash Dividend declared (per share)
|
|
Total cash paid
|
November 12, 2015
|
|
December 14, 2015
|
|
November 30, 2015
|
|
58,144
|
|
$0.065
|
|
$4
|
November 10, 2016
|
|
December 12, 2016
|
|
November 28, 2016
|
|
58,245
|
|
$0.065
|
|
$4
|
On
February 2, 2017
, FGL’s Board of Directors declared a quarterly cash dividend of
$0.065
per share. The dividend will be paid on
March 6, 2017
to shareholders of record as of the close of business on
February 21, 2017
.
(10) Stock Compensation
The Merger Agreement with Anbang provides for accelerated vesting of all unvested awards under the FGL Plans and FGLH Plans and the automatic conversion into a right to receive a cash payment in an amount pursuant to the Merger Agreement for all vested and unvested awards under these Plans. See “Note 1. Basis of Presentation”. All of these awards contain a “change in control” provision which requires vesting of the awards to be accelerated if the awards are not replaced by substantially similar awards after a change in control which has not yet occurred.
The Company recognized total stock compensation expense related to the FGL Plans and FGLH Plans as follows:
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
December 31, 2016
|
|
December 31, 2015
|
FGL Plans
|
|
|
|
|
Restricted shares
|
|
1
|
|
|
1
|
|
Performance restricted stock units
|
|
—
|
|
|
1
|
|
|
|
1
|
|
|
2
|
|
FGLH Plans
|
|
|
|
|
Amended and Restated Stock Incentive Plan - stock options
|
|
—
|
|
|
1
|
|
Amended and Restated Stock Incentive Plan - restricted stock units
|
|
—
|
|
|
1
|
|
|
|
—
|
|
|
2
|
|
Total stock compensation expense
|
|
1
|
|
|
4
|
|
Related tax benefit
|
|
—
|
|
|
1
|
|
Net stock compensation expense
|
|
$
|
1
|
|
|
$
|
3
|
|
The stock compensation expense is included in "Acquisition and operating expenses, net of deferrals" in the unaudited
Condensed Consolidated Statements of Operations
.
Total compensation expense related to the FGL Plans and FGLH Plans not yet recognized as of
December 31, 2016
and the weighted-average period over which this expense will be recognized are as follows:
|
|
|
|
|
|
|
|
|
|
Unrecognized Compensation
Expense
|
|
Weighted Average Recognition
Period in Years
|
FGL Plans
|
|
|
|
|
Stock options
|
|
$
|
—
|
|
|
2
|
Restricted shares
|
|
2
|
|
|
2
|
Total unrecognized stock compensation expense
|
|
$
|
2
|
|
|
2
|
FGL Plans
FGL’s Compensation Committee is authorized to grant up to
2,838 thousand
equity awards under the FGL Plans. At
December 31, 2016
,
1,082 thousand
equity awards are available for future issuance under the FGL Plans.
FGL granted
47 thousand
and
119 thousand
stock options to a certain officer in the
three months ended
December 31, 2016
and
December 31, 2015
, respectively. These stock options vest in equal installments over a period of
3 years
and expire on the
seven
th anniversary of the grant date. The total fair value of the options granted in the
three months ended
December 31, 2016
and
2015
was
$0
and
$0
, respectively.
At
December 31, 2016
, the intrinsic value of stock options outstanding, exercisable and vested or expected to vest was
$1
,
$1
, and
$1
, respectively. At
December 31, 2016
, the weighted average remaining contractual term of stock options outstanding, exercisable and vested or expected to vest was
5 years
,
5 years
and
5 years
, respectively.
During the
three months ended
December 31, 2016
, the intrinsic value of stock options exercised, total cash received upon exercise and the related tax benefit realized was
$0
,
$0
and
$0
, respectively. During the
three months ended
December 31, 2015
, the intrinsic value of stock options exercised, total cash received upon exercise and the related tax benefit realized was
$0
,
$2
and
$0
, respectively.
A summary of FGL’s outstanding stock options as of
December 31, 2016
, and related activity during the
three months
then ended, is as follows (share amount in thousands):
|
|
|
|
|
|
|
|
|
Stock Option Awards
|
|
Options
|
|
Weighted Average
Exercise Price
|
Stock options outstanding at September 30, 2016
|
|
346
|
|
|
$
|
22.40
|
|
Granted
|
|
47
|
|
|
23.35
|
|
Exercised
|
|
(6
|
)
|
|
17.00
|
|
Forfeited or expired
|
|
(7
|
)
|
|
20.86
|
|
Stock options outstanding at December 31, 2016
|
|
380
|
|
|
22.62
|
|
Exercisable at December 31, 2016
|
|
209
|
|
|
21.10
|
|
Vested or projected to vest at December 31, 2016
|
|
380
|
|
|
22.62
|
|
The following assumptions were used in the determination of the grant date fair values using the Black-Scholes option pricing model and based on the value of FGL's common stock for stock options granted during the
three months ended
December 31, 2016
:
|
|
|
Weighted average fair value per options granted
|
$2.57
|
Risk-free interest rate
|
1.11%
|
Assumed dividend yield
|
1.12%
|
Expected option term
|
2.0 years
|
Volatility
|
20.00%
|
The dividend yield is based on the expected dividend rate during the expected life of the option. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of the grant. Expected volatility is based on the historical volatility of FGL’s stock prices after the announcement of the pending merger transaction with Anbang as well as the estimated timing of the closing of the transaction. The expected life of the options granted represents the period of time from the grant date to the estimated closing date of the merger transaction with Anbang, reflecting the midpoint of possible scenarios. Upon closing of the merger transaction the vesting of the options will be accelerated and the options will be paid out as described in “Note 1. Basis of Presentation”, and the option agreement contains a “change in control” provision which requires vesting of the options to be accelerated if the options are not replaced by substantially similar awards after the change in control.
FGL granted
29 thousand
and
26 thousand
restricted shares to a certain officer in the
three months ended
December 31, 2016
and
December 31, 2015
, respectively. These shares vest in equal installments over a period of
3 years
. The total fair value of the restricted shares granted in 2016 and 2015 was
$1
and
$1
, respectively.
A summary of FGL’s nonvested restricted shares outstanding as of
December 31, 2016
, and related activity during the
three months
then ended, is as follows (share amount in thousands):
|
|
|
|
|
|
|
|
|
Restricted Stock Awards
|
|
Shares
|
|
Weighted Average Grant
Date Fair Value
|
Nonvested restricted shares outstanding at September 30, 2016
|
|
154
|
|
|
$
|
22.91
|
|
Granted
|
|
29
|
|
|
23.35
|
|
Vested
|
|
(80
|
)
|
|
21.93
|
|
Forfeited
|
|
(3
|
)
|
|
21.54
|
|
Nonvested restricted shares outstanding at December 31, 2016
|
|
100
|
|
|
23.86
|
|
PRSUs subject to vesting are adjusted based on FGL's financial yearly performance, which is evaluated on two non-GAAP measures: (1) pre-tax adjusted operating income, and (2) return on equity. Depending on the performance results for each year, the ultimate payout of PRSUs could range from
zero
to
200%
of the target award for each year. One-half of the award is earned based on each year’s results for the awards granted in 2015. One-third of the award is earned based on each year's results for the awards granted in 2014. Based on the results achieved in 2016, a total of
11 thousand
additional PRSUs were earned and vested during the three months ended
December 31, 2016 and the total fair value of the additional PRSUs earned in 2016 was
$0
. A summary of nonvested PRSUs outstanding as of December 31, 2016, and related activity during the period then ended, is as follows (share amount in thousands):
|
|
|
|
|
|
|
|
|
Performance Restricted Stock Units (PRSUs)
|
|
Shares
|
|
Weighted Average Grant
Date Fair Value
|
PRSUs outstanding at September 30, 2016
|
|
—
|
|
|
$
|
—
|
|
Granted
|
|
11
|
|
|
17.82
|
|
Vested
|
|
(11
|
)
|
|
17.82
|
|
Forfeited or expired
|
|
—
|
|
|
—
|
|
PRSUs outstanding at December 31, 2016
|
|
—
|
|
|
—
|
|
In fourth quarter 2016, FGL decided to settle the Performance Restricted Stock Unit (“PRSU”) awards granted under the FGL Plans in cash upon vesting and, therefore, reclassified these awards from equity to Other Liabilities. The liability for the PRSUs was valued at fair value (market value of the underlying stock) upon reclassification. A total of
634 thousand
PRSUs became fully vested as of September 30, 2016 with a total cash payment of
$15
made in November 2016 based on the fair value of the award at the time of settlement, which was
$23.30
per PRSU.
FGLH Plans
A summary of FGLH's outstanding stock options as of
December 31, 2016
, and related activity during the
three months
then ended, is as follows (share amount in thousands):
|
|
|
|
|
|
|
|
|
|
|
FGLH
|
Stock Option Awards
|
|
Options
|
|
Weighted Average
Exercise Price
|
Stock options outstanding at September 30, 2016
|
|
82
|
|
|
$
|
44.82
|
|
Granted
|
|
—
|
|
|
—
|
|
Exercised
|
|
—
|
|
|
—
|
|
Forfeited or expired
|
|
—
|
|
|
—
|
|
Stock options outstanding at December 31, 2016
|
|
82
|
|
|
44.82
|
|
Vested and exercisable at December 31, 2016
|
|
82
|
|
|
44.82
|
|
At
December 31, 2016
, the liability for vested or expected to vest stock options was based on the fair values of the outstanding options. The following assumptions were used in the determination of these fair values using the Black-Scholes option pricing model and based on the value of FGLH's common stock:
|
|
|
|
|
|
Weighted average stock option fair value
|
|
$
|
76.73
|
|
FGLH common stock fair value
|
|
$
|
123.16
|
|
FGL common stock fair value
|
|
$
|
23.70
|
|
Risk-free interest rate
|
|
1.22
|
%
|
Assumed dividend yield
|
|
1.12
|
%
|
Expected option term
|
|
2.00
|
|
Volatility
|
|
20.00
|
%
|
The primary input used in the determination of the fair value of FGLH's common stock is the value of the Company's common stock and a discount for lack of liquidity which was increased to
7.5%
from the historical assumption of
5%
to reflect the estimated timing of the closing of the pending merger transaction with Anbang. The dividend yield is based on the expected dividend rate during the expected life of the option. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at December 31, 2016. Expected volatility is based on the historical volatility of FGL’s stock prices after the announcement of the pending merger transaction with Anbang as well as the estimated timing of the closing of the transaction. The expected life of the options granted represents the period of time from December 31, 2016 to the estimated closing date of the merger transaction with Anbang, reflecting the midpoint of possible scenarios. Upon closing of the merger transaction, the vesting of the options will be accelerated and the options will be paid out as described in “Note 1. Basis of Presentation”, and the option agreements contain a “change in control” provision which requires vesting of the options to be accelerated if the options are not replaced by substantially similar awards after the change in control.
At
December 31, 2016
, the intrinsic value of stock options outstanding, exercisable and vested or expected to vest was
$6
,
$6
and
$6
, respectively. At
December 31, 2016
, the weighted average remaining contractual term of stock options outstanding, exercisable and vested or expected to vest was
3
years,
3
years and
3
years, respectively. The intrinsic value of stock options exercised and the amount of cash paid upon exercise during the
three months
ended
December 31, 2016
and
2015
was
$0
and
$0
, respectively.
The amount of cash paid upon vesting for restricted stock units which vested during the
three months ended
December 31, 2016
and
2015
was
$0
and
$2
, respectively.
(11) Income Taxes
The provision for income taxes represents federal income taxes. The effective tax rate for the
three months ended
December 31, 2016
was
34%
. The effective tax rate for the
three months ended
December 31, 2015
was
34%
. The effective tax rate on pre-tax income for the current three month period differs from the U.S Federal statutory rate primarily due to the impact of favorable permanent adjustments. The effective tax rate on pre-tax income for the three month period ended
December 31, 2015
differed from the U.S Federal statutory rate primarily due to the impact of favorable permanent adjustments.
The Company maintains a valuation allowance against the deferred tax assets of its non-life insurance company subsidiaries. The non-life insurance company subsidiaries have a history of losses and insufficient sources of future income in order to recognize any portion of their deferred tax assets. All other deferred tax assets are more likely than not to be realized based on expectations as to our future taxable income and considering all other available evidence, both positive and negative.
The valuation allowance is reviewed quarterly and will be maintained until there is sufficient positive evidence to support a release. At each reporting date, management considers new evidence, both positive and negative, that could impact the future realization of deferred tax assets. Management will consider a release of the valuation allowance once there is sufficient positive evidence that it is more likely than not that the deferred tax assets will be realized. Any release of the valuation allowance will be recorded as a tax benefit increasing net income or other comprehensive income.
As of
December 31, 2016
, the Company had a partial valuation allowance of
$51
against its gross deferred tax assets of
$118
. The valuation allowance is an offset to the non-life company deferred tax assets that are considered more likely than not to be unrecoverable due to insufficient sources of future income.
(12) Commitments and Contingencies
Commitments
The Company has unfunded investment commitments as of
December 31, 2016
based upon the timing of when investments are executed compared to when the actual investments are funded, as some investments require that funding occur over a period of months or years. A summary of unfunded commitments by invested asset class are included below:
|
|
|
|
|
Asset Type
|
December 31, 2016
|
Other invested assets
|
$
|
82
|
|
Equity securities, available-for-sale
|
33
|
|
Other assets
|
29
|
|
Total
|
$
|
144
|
|
Contingencies
Regulatory and Litigation Matters
FGL is involved in various pending or threatened legal proceedings, including purported class actions, arising in the ordinary course of business. In some instances, these proceedings include claims for unspecified or substantial punitive damages and similar types of relief in addition to amounts for alleged contractual liability or requests for equitable relief. In the opinion of FGL management and in light of existing insurance and other potential indemnification, reinsurance and established accruals, such litigation is not expected to have a material adverse effect on FGL’s financial position, although it is possible that the results of operations and cash flows could be materially affected by an unfavorable outcome in any one period.
FGL is assessed amounts by the state guaranty funds to cover losses to policyholders of insolvent or rehabilitated insurance companies. Those mandatory assessments may be partially recovered through a reduction in future premium taxes in certain states. At
December 31, 2016
, FGL has accrued
$2
for guaranty fund assessments that is expected to be offset by estimated future premium tax deductions of
$2
.
The Company has received inquiries from a number of state regulatory authorities regarding its use of the U.S. Social Security Administration’s Death Master File (the "Death Master File") and compliance with state claims practices regulation. Legislation requiring insurance companies to use the Death Master File to identify potential claims has been enacted in a number of states. As a result of these legislative and regulatory developments, in May
2012, the Company undertook an initiative to use the Death Master File and other publicly available databases to identify persons potentially entitled to benefits under life insurance policies, annuities and retained asset accounts. In addition, FGL has received audit and examination notices from several state agencies responsible for escheatment and unclaimed property regulation in those states and in some cases has challenged the audits including litigation against the Controller for the State of California which is subject to a stay. FGL believes its current accrual will cover the reasonably estimated liability arising out of these developments, however costs that cannot be reasonably estimated as of the date of this filing are possible as a result of ongoing regulatory developments and other future requirements related to these matters.
Except for the
Eddie L. Cressy v. Fidelity Guaranty
[sic]
Life Insurance Company, et. al.
("Cressy")
,
which has been settled, and the putative class action complaint filed by Dale R. Ludwick, discussed below, there have been no material updates to our legal proceedings during the period. See "Note 12. Commitments and Contingencies" in our 2016 Form 10-K for a detailed discussion of our legal proceedings.
On July 5, 2013, Plaintiff Eddie L. Cressy filed a putative class Complaint captioned
Cressy v. Fidelity Guaranty
[sic]
Life Insurance Company, et. al.
in the
Superior Court of California, County of Los Angeles (the "Court"), Case No. BC-514340. The Complaint was filed after the Plaintiff was unable to maintain an action in federal court. The Complaint asserts,
inter alia,
that the Plaintiff and members of the putative class relied on Defendants’ advice in purchasing allegedly unsuitable equity-indexed insurance policies.
On January 2, 2015, the Court entered Final Judgment in
Cressy
, certifying the class for settlement purposes, and approving the class settlement reached on April 4, 2014. On August 10, 2015, the Company tendered
$1
to the Settlement Administrator for a claim review fund. The Company implemented an interest enhancement feature for certain policies as part of the class settlement, which enhancement began on October 12, 2015. On October 24, 2016, the parties filed a Joint Motion to amend the January 2, 2015 Final Order and Judgment, to extend the deadline for settlement completion from October 24, 2016 to December 5, 2016. On December 5, 2016, Plaintiff Cressy filed a Notice of Filing Declaration of Settlement Administrator and Status of Completion of Settlement; the Declaration of Settlement Administrator included a certification by the Settlement Administrator that the Company had complied in all respects with the class settlement and that all eligible claims had been paid and the interest enhancement had been implemented pursuant to the terms of the class settlement.
At
December 31, 2016
, the Company estimated the total cost for the settlement, legal fees and other costs related to
Cressy
would be
$9
, with a liability for the unpaid portion of the estimate of less than
$1
. The Company has incurred and paid
$6
related to legal fees and other costs and
$3
related to settlement costs as of
December 31, 2016
. Based on the information currently available the Company does not expect the actual cost for settlement, legal fees and other related costs to differ materially from the amount accrued.
On January 7, 2015, a putative class action complaint was filed in the United States District Court, Western District of Missouri (the "District Court"), captioned Dale R. Ludwick, on behalf of Herself and All Others Similarly Situated v. Harbinger Group Inc., Fidelity & Guaranty Life Insurance Company, Raven Reinsurance Company, and Front Street Re (Cayman) Ltd. The complaint alleges violations of the Racketeer Influenced and Corrupt Organizations Act ("RICO"), requests injunctive and declaratory relief and seeks unspecified compensatory damages for the putative class in an amount not presently determinable, treble damages, and other relief, and claims Plaintiff Ludwick overpaid at least
$0
for her annuity. On April 13, 2015, the Company joined in the filing of a Joint Motion to Dismiss the complaint. On February 12, 2016, the District Court granted the defendants’ Joint Motion to Dismiss. Judgment was entered on February 12, 2016. On March 3, 2016, Plaintiff Ludwick filed a Notice of Appeal to the United States Court of Appeals for the Eighth Circuit (the “Court of Appeals”) from the District Court’s Order and Judgment. As of
December 31, 2016
, the Company did not have sufficient information to determine whether the Company is exposed to any losses that would be either probable or reasonably estimable beyond an expense contingency estimate of
$2
, which was accrued during the year ended September 30, 2016.
(13) Reinsurance
The effect of reinsurance on premiums earned and benefits incurred and reserve changes (net benefits incurred) for the
three months ended December 31, 2016
and
2015
were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
December 31, 2016
|
|
December 31, 2015
|
|
Net Premiums Earned
|
|
Net Benefits Incurred
|
|
Net Premiums Earned
|
|
Net Benefits Incurred
|
Direct
|
$
|
57
|
|
|
$
|
69
|
|
|
$
|
64
|
|
|
$
|
247
|
|
Assumed
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Ceded
|
(46
|
)
|
|
(49
|
)
|
|
(49
|
)
|
|
(66
|
)
|
Net
|
$
|
11
|
|
|
$
|
20
|
|
|
$
|
15
|
|
|
$
|
181
|
|
Amounts payable or recoverable for reinsurance on paid and unpaid claims are not subject to periodic or maximum limits. During the
three months ended December 31, 2016
and
2015
, the Company did not write off any reinsurance balances. During the
three months ended December 31, 2016
and
2015
, the Company did not commute any ceded reinsurance.
Effective September 1, 2016, Security Life of Denver ("SLD") recaptured a certain block of life insurance ceded to Swiss Re and simultaneously ceded this business to Wilton Re.
No
policies issued by the Company have been reinsured with any foreign company, which is controlled, either directly or indirectly, by a party not primarily engaged in the business of insurance.
The Company has not entered into any reinsurance agreements in which the reinsurer may unilaterally cancel any reinsurance for reasons other than non-payment of premiums or other similar credit issues.
(14) Related Party Transactions
FSRCI
We have reinsured certain of our liabilities and obligations to FSRCI. As we are not relieved of our liability to our policyholders for this business, the liabilities and obligations associated with the reinsured policies remain on our unaudited Condensed Consolidated Balance Sheets with a corresponding reinsurance recoverable from FSRCI. In addition to various remedies that we would have in the event of a default by FSRCI, we continue to hold assets in support of the transferred reserves.
At
December 31, 2016
and
September 30, 2016
, the Company's reinsurance recoverable included
$1,087
and
$1,120
, respectively, and funds withheld for reinsurance liabilities included
$1,142
and
$1,172
, respectively, related to FSRCI.
Below are the ceded operating results to FSRCI for the
three months ended December 31, 2016
and
2015
:
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
Revenues:
|
|
December 31, 2016
|
|
December 31, 2015
|
Premiums
|
|
$
|
—
|
|
|
$
|
—
|
|
Net investment income
|
|
11
|
|
|
17
|
|
Net investment (losses) gains
|
|
(3
|
)
|
|
1
|
|
Insurance and investment product fees
|
|
1
|
|
|
1
|
|
Total revenues
|
|
9
|
|
|
19
|
|
|
|
|
|
|
Benefits and expenses:
|
|
|
|
|
Benefits and other changes in policy reserves
|
|
(2
|
)
|
|
(13
|
)
|
Acquisition & operating expenses, net of deferrals
|
|
(1
|
)
|
|
(1
|
)
|
Total benefits and expenses
|
|
(3
|
)
|
|
(14
|
)
|
|
|
|
|
|
Operating income
|
|
$
|
6
|
|
|
$
|
5
|
|
FGL Insurance invested in CLO securities issued by Fortress Credit Opportunities III CLO LP ("FCO III") and also invested in securities issued by Fortress Credit BSL Limited ("Fortress BSL"). The parent of both FCO III and Fortress BSL is Fortress Investment Group LLC, which acquired interests greater than
10%
ownership in HRG as of September 30, 2014. In March 2016, Hildene Leveraged Credit, LLC (“HLC”) sold
four
CLOs to Fortress Investment Group LLC. The
four
Hildene CLOs are now managed by an affiliate of Fortress Investment Group LLC, Fortress Credit Advisors, LLC. As of
December 31, 2016
, the Company held
two
of these CLOs at par with a carrying value of
$25
. In August 2016, FGL purchased
$15
of a commercial real estate CLO from Fortress Investment Group LLC. In October 2016, FGL purchased
$2
bonds of Spectrum Brands, Inc., a wholly owned subsidiary of HRG Group.
FGL Insurance participates in loans to third parties originated by Salus, an affiliated, limited liability company indirectly owned by HRG. Salus is also considered a VIE as described in “Note 4. Investments” to the Company’s unaudited Condensed Consolidated Financial Statements. Salus originated senior secured asset-based loans to unaffiliated third-party borrowers. In January 2014, FSRCI acquired preferred equity interests in Salus which have a
10%
per annum return and a total par value of
$30
which is included in the FSRCI funds withheld portfolio. Accordingly, all income on this asset is ceded to FSRCI. The Company’s maximum exposure to loss as a result of its investments in Salus is limited to the carrying value of the preferred equity interests. The carrying value of these investments in Salus as of
December 31, 2016
and
September 30, 2016
are disclosed in the tables below.
On February 27, 2015, FGL Insurance entered into a transaction with Salus whereby Salus transferred
$14
of loan participations and
$16
of CLO subordinated debt (i.e., equity tranche) to FGL Insurance in exchange for retirement of the
$20
promissory note and
$10
revolving loan owed by Salus to FGL Insurance resulting in the termination of these facilities. Additionally, FGL Insurance also entered into a transaction with the Salus CLO whereby FGL Insurance transferred
$29
of loan participations into the CLO in exchange for
$27
of CLO subordinated notes (i.e., equity tranche) and a promissory note of
$3
from Salus. Both transactions qualified as sales of financial assets accounted for at fair value and therefore did not result in any gain or loss. FGL Insurance also concluded that it was not the primary beneficiary of the Salus CLO before and after these two transactions as FGL Insurance lacks the power to direct the activities that significantly affect the economic performance of the CLO and, to a lesser extent, FGL Insurance continues to own less than a majority ownership of the CLO subordinated notes after the two transactions. On June 13, 2016, the Salus promissory note was repaid for
$2
and all obligations under the note were satisfied.
Please refer to "Note 5. Derivative Financial Instruments" to the Company’s unaudited Condensed Consolidated Financial Statements for disclosure of a Canadian dollar foreign exchange swap agreement for
one
of our Salus loan participations.
In August of 2015 and October of 2015, FGL entered into separate engagement letters with Credit Suisse and Jefferies, respectively, pursuant to which Credit Suisse and Jefferies agreed (on a non-exclusive basis) to
provide financial advisory services to FGL in connection with a transaction involving a merger or other similar transaction with respect to at least a majority of the capital stock of FGL. HRG, the holder of a majority of shares of outstanding common stock of FGL, is also a party to each engagement letter. Under each engagement letter, Credit Suisse and Jefferies, respectively, are entitled to receive a fee which represents a percentage of the value of the transaction, plus reimbursement for all reasonable out-of-pocket expenses incurred by Credit Suisse or Jefferies, as applicable, in connection with their engagement. FGL has also agreed to indemnify Credit Suisse and Jefferies for certain liabilities in connection with their engagement. Under each engagement letter, HRG is required to reimburse FGL for compensation paid by FGL to Credit Suisse or Jefferies under certain circumstances. Specifically, if compensation to Credit Suisse or Jefferies becomes payable in respect of a transaction that involves a disposition of shares of FGL held by HRG (and not other stockholders of FGL), HRG will reimburse FGL for the full amount of such compensation. If compensation to Credit Suisse or Jefferies becomes payable in respect of a transaction that involves a disposition of shares of FGL held by HRG and a disposition of not more than
50%
of the shares of FGL held by stockholders of FGL other than HRG, HRG will reimburse FGL for its pro rata portion of such compensation (based on its relative number of shares compared to those held by stockholders of FGL other than HRG).
The Company’s related party investments as of
December 31, 2016
and
September 30, 2016
, and related net investment income for the
three months ended December 31, 2016
and
2015
are summarized as follows:
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December 31, 2016
|
Type
|
|
Balance Sheet Classification
|
|
Asset carrying value
|
|
Accrued Investment Income
|
|
Total carrying value
|
Salus CLOs
|
|
Fixed maturities, available-for-sale
|
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$
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13
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$
|
—
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$
|
13
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Fortress Investment Group CLOs
|
|
Fixed maturities, available-for-sale
|
|
226
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3
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|
229
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Spectrum Brands, Inc.
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Fixed maturities, available for sale
|
|
2
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|
—
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2
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|
Salus preferred equity (a)
|
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Equity securities, available-for-sale
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|
1
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—
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1
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Salus participations (b)
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Other invested assets
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6
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—
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6
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HGI energy loan (c)
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Related party loans
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71
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—
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|
71
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|
(a) Salus preferred equity is included in the FSRCI funds withheld portfolio, accordingly all income on this asset is ceded to FSRCI.
(b) Includes loan participations with
3
different borrowers with an average loan fair value of
$2
as of
December 31, 2016
.
(c) The HGI energy loan is included in the FSRCI funds withheld portfolio, accordingly the income related to this portion is ceded to FSRCI.
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September 30, 2016
|
Type
|
|
Balance Sheet Classification
|
|
Asset carrying value
|
|
Accrued Investment Income
|
|
Total carrying value
|
Salus CLOs
|
|
Fixed maturities, available for sale
|
|
$
|
19
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|
$
|
—
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|
$
|
19
|
|
Fortress Investment Group CLOs
|
|
Fixed maturities, available for sale
|
|
225
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|
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2
|
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227
|
|
Salus preferred equity(a)
|
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Equity securities, available for sale
|
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3
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—
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3
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Salus participations (b)
|
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Other invested assets
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21
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—
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21
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|
HGI energy loan (c)
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Related party loans
|
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71
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|
—
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|
71
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|
(a) Salus preferred equity is included in the FSRCI funds withheld portfolio, accordingly all income on this asset is ceded to FSRCI.
(b) Includes loan participations with
4
different borrowers with an average loan fair value of
$5
as of
September 30, 2016
.
(c) The HGI energy loan is included in the FSRCI funds withheld portfolio, accordingly the income related to this portion is ceded to FSRCI.
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Three months ended
|
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|
December 31, 2016
|
|
December 31, 2015
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Type
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Investment Income Classification
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Net investment income
|
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Net investment income
|
Salus CLOs
|
|
Fixed maturities
|
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$
|
1
|
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$
|
3
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Fortress Investment Group CLOs
|
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Fixed maturities
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3
|
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|
2
|
|
Salus participations
|
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Other invested assets
|
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—
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1
|
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HGI energy loan
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Related party loans
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—
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|
1
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The Company had net realized foreign exchange losses of
$1
and
$2
for the
three months ended
December 31, 2016
and
December 31, 2015
, respectively, related to its CAD denominated loan participations originated by Salus. Additionally, the Company had net foreign exchange derivative and embedded derivative losses of
$0
and gains of
$2
, including losses on CAD currency forward contracts, for the
three months ended
December 31, 2016
and
December 31, 2015
, respectively, included in net investment gains (losses). See "Note 5. Derivative Financial Instruments" to the Company’s unaudited Condensed Consolidated Financial Statements for further details.
In August 2016, FGL Insurance exchanged the
$71
2013 HGI Energy Loan issued by HGI Energy for new notes issued by HGI Energy for the same fair value with an August 2017 maturity date. The new notes issued are held in the FSRCI funds withheld portfolio
.
The Company had net realized gains of
$1
and
$0
on the Salus Participations within other invested assets for the
three months ended
December 31, 2016
and
December 31, 2015
, respectively.
The Company had net realized impairment losses of
$1
and
$4
on the Salus CLO within available-for-sale fixed maturity securities for the
three months ended
December 31, 2016
and
December 31, 2015
, respectively.
During the
three months ended
December 31, 2016
, the Company has investment management agreements with Salus, a wholly-owned subsidiary of HGI Asset Management Holdings, LLC, which is also a wholly owned subsidiary of HRG. During the
three months ended
December 31, 2015
, the Company has investment management agreements with Salus, CorAmerica Capital, LLC and Energy & Infrastructure Capital, LLC ("EIC"), all wholly-owned subsidiaries of HGI Asset Management Holdings, LLC, which is also a wholly owned subsidiary of HRG. The agreement for EIC was terminated in July 2016, and CorAmerica is no longer a wholly-owned subsidiary of HGI Asset Management Holdings. The Company paid management fees to these entities for the services provided under these agreements which are usual and customary for these types of services. The Company paid Salus
$0
and
$0
during the
three months ended
December 31, 2016
and
December 31, 2015
, respectively, paid CorAmerica Capital, LLC
$1
and
$1
three months ended
December 31, 2016
and
December 31, 2015
, respectively and paid EIC
$0
during the
three months ended
December 31, 2015
.
(15) Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per share (share amounts in thousands):
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Three months ended
|
|
December 31, 2016
|
|
December 31, 2015
|
Net income attributable to common shares - basic
|
$
|
108
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|
|
$
|
48
|
|
|
|
|
|
Weighted-average common shares outstanding - basic
|
58,281
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|
58,219
|
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Dilutive effect of unvested restricted stock & PRSU
|
57
|
|
|
294
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|
Dilutive effect of stock options
|
28
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|
30
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|
Weighted-average shares outstanding - diluted
|
58,366
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|
58,543
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|
Net income per common share:
|
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|
Basic
|
$
|
1.85
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$
|
0.82
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Diluted
|
$
|
1.85
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$
|
0.82
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|
The number of shares of common stock outstanding used in calculating the weighted average thereof reflects the actual number of FGL shares of common stock outstanding, excluding unvested restricted stock and shares held in treasury.
The calculation of diluted earnings per share for the
three months ended
December 31, 2016
and
2015
excludes the incremental effect related to certain outstanding stock options and restricted shares due to their anti-dilutive effect. The number of weighted average equivalent shares excluded is
31 thousand
and
4 thousand
shares for the three months ended
December 31, 2016
and
2015
, respectively. In the fourth quarter 2016, we decided to settle the performance restricted stock units in cash upon vesting and, therefore, the performance restricted stock units are excluded from the computation of diluted earnings per share in the three months ended December 31, 2016. Also, stock-based compensation awards under the FGLH Plans are settled in cash and, therefore, are excluded from the computation of diluted earnings per share.
(16) Insurance Subsidiary Financial Information and Regulatory Matters
FGL Insurance’s statutory carrying value of Raven Re reflects the effect of permitted practices Raven Re received to treat the available amount of a letter of credit as an admitted asset which increased Raven Re’s statutory capital and surplus by
$195
and
$201
at
December 31, 2016
and
September 30, 2016
, respectively. Raven Re is also permitted to follow Iowa prescribed statutory accounting practice for its reserves on reinsurance assumed from FGL Insurance which increased Raven Re’s statutory capital and surplus by
$4
at
December 31, 2016
and
September 30, 2016
. Without such permitted statutory accounting practices Raven Re’s statutory capital and surplus would be
$8
and
$5
as of
December 31, 2016
and
September 30, 2016
, respectively, and its risk-based capital would fall below the minimum regulatory requirements. The letter of credit facility is collateralized by National Association of Insurance Commissioners (“NAIC”) 1 rated debt securities. If the permitted practice was revoked, the letter of credit could be replaced by the collateral assets with Nomura’s consent. FGL Insurance’s statutory carrying value of Raven Re at
December 31, 2016
and
September 30, 2016
was
$207
and
$210
, respectively.
On November 1, 2013, FGL Insurance re-domesticated from Maryland to Iowa. After re-domestication, FGL Insurance elected to apply Iowa-prescribed accounting practices that permit Iowa-domiciled insurers to report equity call options used to economically hedge FIA index credits at amortized cost for statutory accounting purposes and to calculate FIA statutory reserves such that index credit returns will be included in the reserve only after crediting to the annuity contract. This resulted in
no
increase to statutory capital and surplus at
December 31, 2016
. Also, the Iowa Insurance Division granted FGL Insurance a permitted statutory accounting practice to reclassify its negative unassigned surplus balance of
$806
(unaudited) to additional paid in capital as of April 6, 2011, the date the Company acquired FGL Insurance, which had the effect of setting FGL Insurance’s statutory unassigned surplus to
zero
as of this date. The prescribed and permitted statutory accounting practices have no impact on the Company’s unaudited Condensed Consolidated Financial Statements which are prepared in accordance with GAAP.