NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(Amounts in thousands, except share and per share figures)
(1) Basis of Presentation and Nature of Business
Fidelity & Guaranty Life (formerly, Harbinger F&G, LLC (“HFG”)) (“FGL” and, collectively with its subsidiaries, the “Company”) is a direct, subsidiary of Harbinger Group Inc. (“HGI”). HGI is a diversified holding company focused on obtaining controlling equity stakes in companies that operate across a diversified set of industries. FGL and HGI’s shares of common stock trade on the New York Stock Exchange (“NYSE”) under the symbols “FGL” and “HRG,” respectively. Subsequent to the Company's initial public offering in December 2013, HGI held
47,000,000
shares of FGL's outstanding common stock, representing an
80.7%
intere
st.
In January of
2014, HGI transferred HGI’s ownership interest in FGL common shares to FS Holdco, Ltd, which is a direct wholly-owned subsidiary of HGI.
FGL’s primary business is the sale of individual life insurance products and annuities through independent agents, managing general agents, and specialty brokerage firms and in selected institutional markets. FGL’s principal products are deferred annuities (including fixed indexed annuity (“FIA”) contracts), immediate annuities and life insurance products. 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 are licensed in all fifty states and the District of Columbia.
Basis of Presentation
The accompanying unaudited Condensed Consolidated Financial Statements of the Company included herein have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). The financial statements reflect all adjustments that are, in the opinion of management, necessary for a fair statement of such information. All such adjustments are of a normal recurring nature. Although the Company believes that the disclosures are adequate to make the information presented not misleading, certain information and footnote disclosures, including a description of significant accounting policies normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”), have been condensed or omitted pursuant to such rules and regulations. These interim financial statements should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto included in the Company’s Registration Statement on Form S-1/A filed with the SEC on December 3, 2013 (the “Form S-1”). The results of operations for the three months ended December 31, 2013 are not necessarily indicative of the results for any subsequent periods or the entire fiscal year ending September 30, 2014.
The Company’s fiscal quarters end on the last calendar day of the months of December, March, June and September.
Dollar amounts in the accompanying footnotes are presented in thousands, unless otherwise noted.
(2) Significant Accounting Policies and Practices
Principles of Consolidation
The accompanying unaudited condensed consolidated financial statements include the accounts of FGL and all other entities in which FGL has a controlling financial interest (none of which are variable interest entities). All intercompany accounts and transactions have been eliminated in consolidation.
Recent Accounting Pronouncements
Offsetting Assets and Liabilities
In December 2011, the Financial Accounting Standards Board (“FASB”) issued amended disclosure requirements for offsetting financial assets and financial liabilities to allow investors to better compare financial statements prepared under US GAAP with financial statements prepared under International Financial Reporting Standards. The new standards are effective for the Company beginning in the first quarter of its fiscal year ending September 30, 2014. ASU 2011-11
Disclosures about Offsetting Assets and Liabilities
- was adopted by the
Company effective October 1, 2013. FGL does not offset any of its derivative transactions, including bifurcated embedded derivatives, in its statement of financial position. The Company only enters into purchased equity options and long futures contracts. The Company has not entered into any repurchase and reverse repurchase agreements or securities borrowing and lending transactions. Accordingly, no additional disclosures are required.
Investments in Qualified Affordable Housing Projects
In January 2014, the FASB issued amended guidance which allows investors in Low Income Housing Tax Credit (“LIHTC”) programs that meet specified conditions to present the net tax benefits (net of the amortization of the cost of the investment) within income tax expense. The cost of the investments that meet the specified conditions will be amortized in proportion to (and over the same period as) the total expected tax benefits, including the tax credits and other tax benefits, as they are realized on the tax return. The guidance is required to be applied retrospectively, if investors elect the proportional amortization method. However, if investors have existing LIHTC investments accounted for under the effective-yield method at adoption, they may continue to apply that method for those existing investments. The new standards will become effective for the Company beginning in the first quarter of its fiscal year ending September 30, 2016. The Company is currently evaluating the impact of this new accounting guidance on its consolidated financial position and results of operations.
(3) Significant Risks and Uncertainties
Use of Estimates
The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Due to the inherent uncertainty involved in making estimates, actual results in future periods could differ from those estimates.
The Company’s significant estimates which are susceptible to change in the near term relate to (1) recognition of deferred tax assets and related valuation allowances, (2) fair value of certain invested assets and derivatives including embedded derivatives (see Notes 4 and 5), (3) Other than temporary impairment “OTTI”of available-for-sale investments (see Note 4), (4) amortization of intangibles (see Note 7), (5) estimates of reserves for loss contingencies, including litigation and regulatory reserves (see Note 12) and (6) reserves for future policy benefits and product guarantees.
Concentrations of Financial Instruments
As of
December 31, 2013
and
September 30, 2013
, the Company’s most significant investment in one industry, excluding U.S. Government securities, was its investment securities in the banking industry with a fair value of $
1,973,981
, or
11.5%
and $
1,892,103
or
11.7%
, respectively, of the invested assets portfolio. The Company’s holdings in this industry include investments in
82
different issuers with the top ten investments accounting for
37.8%
of the total holdings in this industry. As of
December 31, 2013
and
September 30, 2013
, the Company had investments in
3
and
6
issuers that exceeded
10%
of stockholders equity with a fair value of $
410,924
and $
788,696
, or
2.4%
and
4.9%
of the invested assets portfolio, respectively. Additionally, the Company’s largest concentration in any single issuer as of
December 31, 2013
and
September 30, 2013
, had a fair value of $
140,532
and $
150,716
or
0.8%
and
0.9%
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’s exposure to interest rate 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. This risk is mitigated to some extent by the high level of 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 and FSRCI fail to perform their obligations under the various reinsurance treaties. As of
December 31, 2013
, the net amount recoverable from Wilton Re was
$1,350,092
and the net amount recoverable from FSRCI is $
1,341,497
. 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 reduce the risk of default by such reinsurers.
(4) Investments
The Company’s debt and equity securities have been designated as available-for-sale and are carried at fair value with unrealized gains and losses included in accumulated other comprehensive income (“AOCI”) net of associated adjustments for value of business acquired (“VOBA”), deferred acquisition costs (“DAC”) and deferred income taxes. The Company’s consolidated investments at
December 31, 2013
and
September 30, 2013
are summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2013
|
|
|
Amortized Cost
|
|
Gross Unrealized Gains
|
|
Gross Unrealized Losses
|
|
Fair Value
|
|
Carrying Value
|
|
|
|
|
|
|
|
|
|
|
|
|
Available-for sale securities
|
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
1,830,206
|
|
|
$
|
20,737
|
|
|
$
|
(8,165
|
)
|
|
$
|
1,842,778
|
|
|
$
|
1,842,778
|
|
|
Commercial mortgage-backed securities
|
422,575
|
|
|
25,236
|
|
|
(3,182
|
)
|
|
444,629
|
|
|
444,629
|
|
|
Corporates
|
9,963,806
|
|
|
272,090
|
|
|
(189,278
|
)
|
|
10,046,618
|
|
|
10,046,618
|
|
|
Equities
|
293,940
|
|
|
6,810
|
|
|
(13,828
|
)
|
|
286,922
|
|
|
286,922
|
|
|
Hybrids
|
400,547
|
|
|
20,755
|
|
|
(3,228
|
)
|
|
418,074
|
|
|
418,074
|
|
|
Municipals
|
1,121,207
|
|
|
45,199
|
|
|
(44,980
|
)
|
|
1,121,426
|
|
|
1,121,426
|
|
|
Agency residential mortgage-backed securities
|
88,948
|
|
|
2,192
|
|
|
(91
|
)
|
|
91,049
|
|
|
91,049
|
|
|
Non-agency residential mortgage-backed securities
|
1,564,094
|
|
|
99,209
|
|
|
(11,276
|
)
|
|
1,652,027
|
|
|
1,652,027
|
|
|
U.S. Government
|
711,453
|
|
|
5,796
|
|
|
(6,233
|
)
|
|
711,016
|
|
|
711,016
|
|
|
Total available-for-sale securities
|
16,396,776
|
|
|
498,024
|
|
|
(280,261
|
)
|
|
16,614,539
|
|
|
16,614,539
|
|
|
Derivative investments
|
148,310
|
|
|
147,034
|
|
|
(813
|
)
|
|
294,531
|
|
|
294,531
|
|
|
Other invested assets
|
316,552
|
|
|
—
|
|
|
—
|
|
|
316,552
|
|
|
316,552
|
|
|
Total investments
|
$
|
16,861,638
|
|
|
$
|
645,058
|
|
|
$
|
(281,074
|
)
|
|
$
|
17,225,622
|
|
|
$
|
17,225,622
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2013
|
|
|
Amortized Cost
|
|
Gross Unrealized Gains
|
|
Gross Unrealized Losses
|
|
Fair Value
|
|
Carrying Value
|
|
|
|
|
|
|
|
|
|
|
|
|
Available-for-sale securities
|
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
1,745,241
|
|
|
$
|
24,529
|
|
|
$
|
(5,176
|
)
|
|
$
|
1,764,594
|
|
|
$
|
1,764,594
|
|
|
Commercial mortgage-backed securities
|
431,265
|
|
|
24,660
|
|
|
(1,596
|
)
|
|
454,329
|
|
|
454,329
|
|
|
Corporates
|
9,314,661
|
|
|
288,702
|
|
|
(185,054
|
)
|
|
9,418,309
|
|
|
9,418,309
|
|
|
Equities
|
274,647
|
|
|
6,683
|
|
|
(10,255
|
)
|
|
271,075
|
|
|
271,075
|
|
|
Hybrids
|
412,640
|
|
|
19,481
|
|
|
(3,304
|
)
|
|
428,817
|
|
|
428,817
|
|
|
Municipals
|
998,832
|
|
|
49,013
|
|
|
(40,835
|
)
|
|
1,007,010
|
|
|
1,007,010
|
|
|
Agency residential mortgage-backed securities
|
96,452
|
|
|
2,397
|
|
|
(252
|
)
|
|
98,597
|
|
|
98,597
|
|
|
Non-agency residential mortgage-backed securities
|
1,304,007
|
|
|
77,410
|
|
|
(13,394
|
)
|
|
1,368,023
|
|
|
1,368,023
|
|
|
U.S. Government
|
998,530
|
|
|
7,174
|
|
|
(3,857
|
)
|
|
1,001,847
|
|
|
1,001,847
|
|
|
Total available-for-sale securities
|
15,576,275
|
|
|
500,049
|
|
|
(263,723
|
)
|
|
15,812,601
|
|
|
15,812,601
|
|
|
Derivatives Instruments
|
141,664
|
|
|
88,461
|
|
|
(8,367
|
)
|
|
221,758
|
|
|
221,758
|
|
|
Other invested assets
|
188,180
|
|
|
—
|
|
|
—
|
|
|
188,180
|
|
|
188,180
|
|
|
Total investments
|
$
|
15,906,119
|
|
|
$
|
588,510
|
|
|
$
|
(272,090
|
)
|
|
$
|
16,222,539
|
|
|
$
|
16,222,539
|
|
Included in AOCI were cumulative unrealized gains of
$851
and unrealized losses of
$1,880
related to the non-credit portion of OTTI on non-agency residential mortgage-backed securities ("RMBS") at
December 31, 2013
and
September 30, 2013
. The non-agency RMBS unrealized gains and losses represent the difference between book value and fair value on securities that were previously impaired. There have been no impairments or write downs on any of the 2013 purchased non-agency RMBS.
Securities held on deposit with various state regulatory authorities had a fair value of
$13,727,760
and $
19,350
at
December 31, 2013
and
September 30, 2013
, respectively. The increase in securities held on deposits is due to the FGL Insurance's re-domestication from Maryland to Iowa. 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.
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 $
591,783
and $
604,899
at
December 31, 2013
and
September 30, 2013
, 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, 2013
|
|
|
Amortized Cost
|
|
Fair Value
|
|
Corporates, Non-structured Hybrids, Municipal and U.S. Government securities:
|
|
|
|
|
Due in one year or less
|
$
|
345,545
|
|
|
$
|
348,092
|
|
|
Due after one year through five years
|
3,059,155
|
|
|
3,133,238
|
|
|
Due after five years through ten years
|
3,315,121
|
|
|
3,332,054
|
|
|
Due after ten years
|
5,444,439
|
|
|
5,448,255
|
|
|
Subtotal
|
12,164,260
|
|
|
12,261,639
|
|
|
Other securities which provide for periodic payments:
|
|
|
|
|
Asset-backed securities
|
1,830,206
|
|
|
1,842,778
|
|
|
Commercial-mortgage-backed securities
|
422,575
|
|
|
444,629
|
|
|
Structured hybrids
|
32,753
|
|
|
35,495
|
|
|
Agency residential mortgage-backed securities
|
88,948
|
|
|
91,049
|
|
|
Non-agency residential mortgage-backed securities
|
1,564,094
|
|
|
1,652,027
|
|
|
Total fixed maturity available-for-sale securities
|
$
|
16,102,836
|
|
|
$
|
16,327,617
|
|
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 debt 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 impairment is recognized. FGL has concluded that the fair values of the securities presented in the table below were not OTTI as of
December 31, 2013
.
The fair value and gross unrealized losses of available-for-sale securities, aggregated by investment category, were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2013
|
|
|
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
|
$
|
496,893
|
|
|
$
|
(6,931
|
)
|
|
$
|
127,497
|
|
|
$
|
(1,234
|
)
|
|
$
|
624,390
|
|
|
$
|
(8,165
|
)
|
|
Commercial-mortgage-backed securities
|
29,419
|
|
|
(507
|
)
|
|
5,926
|
|
|
(2,675
|
)
|
|
35,345
|
|
|
(3,182
|
)
|
|
Corporates
|
3,355,410
|
|
|
(162,999
|
)
|
|
477,879
|
|
|
(26,279
|
)
|
|
3,833,289
|
|
|
(189,278
|
)
|
|
Equities
|
131,677
|
|
|
(13,772
|
)
|
|
6,909
|
|
|
(56
|
)
|
|
138,586
|
|
|
(13,828
|
)
|
|
Hybrids
|
106,254
|
|
|
(3,119
|
)
|
|
8,256
|
|
|
(109
|
)
|
|
114,510
|
|
|
(3,228
|
)
|
|
Municipals
|
478,220
|
|
|
(28,368
|
)
|
|
168,055
|
|
|
(16,612
|
)
|
|
646,275
|
|
|
(44,980
|
)
|
|
Agency residential mortgage-backed securities
|
11,871
|
|
|
(78
|
)
|
|
526
|
|
|
(13
|
)
|
|
12,397
|
|
|
(91
|
)
|
|
Non-agency residential mortgage-backed securities
|
354,502
|
|
|
(10,554
|
)
|
|
55,235
|
|
|
(722
|
)
|
|
409,737
|
|
|
(11,276
|
)
|
|
U.S. Government
|
337,957
|
|
|
(6,233
|
)
|
|
—
|
|
|
—
|
|
|
337,957
|
|
|
(6,233
|
)
|
|
Total available-for-sale securities
|
$
|
5,302,203
|
|
|
$
|
(232,561
|
)
|
|
$
|
850,283
|
|
|
$
|
(47,700
|
)
|
|
$
|
6,152,486
|
|
|
$
|
(280,261
|
)
|
|
Total number of available-for-sale securities in an unrealized loss position less than twelve months
|
|
|
|
|
|
|
|
|
|
|
634
|
|
|
Total number of available-for-sale securities in an unrealized loss position twelve months or longer
|
|
|
|
|
|
|
|
|
|
|
109
|
|
|
Total number of available-for-sale securities in an unrealized loss position
|
|
|
|
|
|
|
|
|
|
|
743
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2013
|
|
|
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
|
$
|
329,319
|
|
|
$
|
(4,496
|
)
|
|
$
|
81,483
|
|
|
$
|
(680
|
)
|
|
$
|
410,802
|
|
|
$
|
(5,176
|
)
|
|
Commercial-mortgage-backed securities
|
26,575
|
|
|
(525
|
)
|
|
4,860
|
|
|
(1,071
|
)
|
|
31,435
|
|
|
(1,596
|
)
|
|
Corporates
|
3,457,206
|
|
|
(174,989
|
)
|
|
185,956
|
|
|
(10,065
|
)
|
|
3,643,162
|
|
|
(185,054
|
)
|
|
Equities
|
118,609
|
|
|
(9,120
|
)
|
|
32,240
|
|
|
(1,135
|
)
|
|
150,849
|
|
|
(10,255
|
)
|
|
Hybrids
|
52,027
|
|
|
(3,304
|
)
|
|
—
|
|
|
—
|
|
|
52,027
|
|
|
(3,304
|
)
|
|
Municipals
|
333,278
|
|
|
(27,359
|
)
|
|
144,365
|
|
|
(13,476
|
)
|
|
477,643
|
|
|
(40,835
|
)
|
|
Agency residential mortgage-backed securities
|
9,791
|
|
|
(117
|
)
|
|
1,148
|
|
|
(135
|
)
|
|
10,939
|
|
|
(252
|
)
|
|
Non-agency residential mortgage-backed securities
|
325,170
|
|
|
(12,224
|
)
|
|
69,910
|
|
|
(1,170
|
)
|
|
395,080
|
|
|
(13,394
|
)
|
|
U.S government
|
753,899
|
|
|
(3,857
|
)
|
|
—
|
|
|
—
|
|
|
753,899
|
|
|
(3,857
|
)
|
|
Total available-for-sale securities
|
$
|
5,405,874
|
|
|
$
|
(235,991
|
)
|
|
$
|
519,962
|
|
|
$
|
(27,732
|
)
|
|
$
|
5,925,836
|
|
|
$
|
(263,723
|
)
|
|
Total number of available-for-sale securities in an unrealized loss position less than twelve months
|
|
|
|
|
|
|
|
|
|
|
588
|
|
|
Total number of available-for-sale securities in an unrealized loss position twelve months or longer
|
|
|
|
|
|
|
|
|
|
|
78
|
|
|
Total number of available-for-sale securities in an unrealized loss position
|
|
|
|
|
|
|
|
|
|
|
666
|
|
At
December 31, 2013
and
September 30, 2013
, securities in an unrealized loss position were primarily concentrated in investment grade corporate debt instruments and municipals. Total unrealized losses were $
280,261
and $
263,723
at
December 31, 2013
and
September 30, 2013
, respectively.
At
December 31, 2013
and
September 30, 2013
, securities with a fair value of
$77,074
and $
60,931
, respectively, were depressed 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 values of all investments.
The following table provides a reconciliation of the beginning and ending balances of the credit loss portion of OTTI on fixed maturity securities held by the Company for the three months ended
December 31, 2013
, and December 31,
2012
, for which a portion of the OTTI was recognized in AOCI:
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 31,
|
|
|
2013
|
|
2012
|
|
Beginning balance
|
$
|
2,681
|
|
|
$
|
2,681
|
|
|
Increases attributable to credit losses on securities:
|
|
|
|
|
Other-than-temporary impairment was previously recognized
|
—
|
|
|
—
|
|
|
Other-than-temporary impairment was not previously recognized
|
—
|
|
|
—
|
|
|
Ending balance
|
$
|
2,681
|
|
|
$
|
2,681
|
|
For the
three months ended
December 31, 2013
, the Company recognized impairment losses in operations totaling
$34
, including credit impairments of
$0
and change-of-intent impairments of
$34
and had an amortized cost of
$229
and a fair value of
$195
at the time of impairment. For the
three months ended
December 31, 2012
, the Company recognized impairment losses in operations totaling
$509
, including credit impairments of $
155
, and change-of-intent impairments of $
354
and had an amortized cost of
$1,608
and a fair value of
$1,099
at
December 31, 2012
.
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,
|
|
|
2013
|
|
2012
|
|
OTTI recognized in net income:
|
|
|
|
|
Non-agency residential mortgage-backed securities
|
$
|
34
|
|
|
$
|
509
|
|
|
Total OTTI
|
$
|
34
|
|
|
$
|
509
|
|
The portion of OTTI recognized in AOCI is disclosed in the Statement of Comprehensive Income.
Net Investment Income
The major sources of “
Net investment income
” on the accompanying
Condensed Consolidated Statements of Operations
were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 31,
|
|
|
2013
|
|
2012
|
|
Fixed maturity available-for-sale securities
|
$
|
175,286
|
|
|
$
|
165,415
|
|
|
Equity available-for-sale securities
|
4,390
|
|
|
5,351
|
|
|
Related party loans
|
1,877
|
|
|
2,183
|
|
|
Policy loans
|
168
|
|
|
266
|
|
|
Invested cash and short-term investments
|
74
|
|
|
835
|
|
|
Other investments
|
5,194
|
|
|
346
|
|
|
Gross investment income
|
186,989
|
|
|
174,396
|
|
|
Investment expense
|
(3,552
|
)
|
|
(4,098
|
)
|
|
Net investment income
|
$
|
183,437
|
|
|
$
|
170,298
|
|
Net investment gains
Details underlying “
Net investment gains
” reported on the accompanying
Condensed Consolidated Statements of Operations
were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 31,
|
|
|
2013
|
|
2012
|
|
Net realized gains on fixed maturity available-for-sale securities
|
$
|
13,564
|
|
|
$
|
172,033
|
|
|
Realized (losses) on equity securities
|
(1,613
|
)
|
|
—
|
|
|
Net realized gains on securities
|
11,951
|
|
|
172,033
|
|
|
Realized gains on certain derivative instruments
|
54,880
|
|
|
15,717
|
|
|
Unrealized gains (losses) on certain derivative instruments
|
60,972
|
|
|
(41,285
|
)
|
|
Change in fair value of reinsurance related embedded derivative
|
(4,314
|
)
|
|
—
|
|
|
Realized gains (losses) on derivatives and reinsurance related embedded derivative
|
111,538
|
|
|
(25,568
|
)
|
|
Realized (losses) gains on other invested assets
|
(72
|
)
|
|
10
|
|
|
Net investment gains
|
$
|
123,417
|
|
|
$
|
146,475
|
|
For the
three months ended
December 31, 2013
, principal repayments, calls, tenders, and proceeds from the sale of fixed maturity available-for-sale securities totaled $
1,663,700
, gross gains on such sales totaled
$14,390
and gross losses totaled
$826
, respectively.
For the
three months ended
December 31, 2012
, principal repayments, calls, tenders, and proceeds from the sale of fixed maturity available-for-sale securities, totaled $
2,415,143
, gross gains on such sales totaled $
177,972
and gross losses totaled
$463
, respectively.
(5) Derivative Financial Instruments
The carrying amounts (which equal fair value) of derivative instruments, including derivative instruments embedded in FIA contracts, is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2013
|
|
September 30, 2013
|
|
Assets:
|
|
|
|
|
Derivative investments:
|
|
|
|
|
Call options
|
$
|
294,094
|
|
|
$
|
221,758
|
|
|
Futures contracts
|
437
|
|
|
—
|
|
|
Other Assets:
|
|
|
|
|
Reinsurance related embedded derivative
|
113,710
|
|
|
118,025
|
|
|
|
$
|
408,241
|
|
|
$
|
339,783
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities:
|
|
|
|
|
Contractholder funds:
|
|
|
|
|
FIA embedded derivative
|
$
|
1,644,724
|
|
|
$
|
1,544,447
|
|
|
Funds withheld for reinsurance liabilities:
|
|
|
|
|
Call options payable to FSRCI
|
28,328
|
|
|
22,833
|
|
|
Other liabilities:
|
|
|
|
|
Futures contracts
|
—
|
|
|
1,028
|
|
|
|
$
|
1,673,052
|
|
|
$
|
1,568,308
|
|
The change in fair value of derivative instruments included in the accompanying Condensed Consolidated Statements of Operations is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
December 31, 2013
|
|
December 31, 2012
|
|
Revenues:
|
|
|
|
|
Net investment gains (losses):
|
|
|
|
|
Call options
|
$
|
102,742
|
|
|
$
|
(20,889
|
)
|
|
Futures contracts
|
13,110
|
|
|
(4,679
|
)
|
|
Reinsurance related embedded derivative
|
(4,314
|
)
|
|
—
|
|
|
|
$
|
111,538
|
|
|
$
|
(25,568
|
)
|
|
Benefits and other changes in policy reserves:
|
|
|
|
|
FIA embedded derivatives
|
$
|
100,277
|
|
|
$
|
(33,754
|
)
|
Additional Disclosures
Reinsurance Related Embedded Derivatives
Effective December 31, 2012, FGL Insurance entered into a modified coinsurance arrangement with FSRCI, meaning that funds were withheld by FGL Insurance. This arrangement creates an obligation for FGL Insurance to pay FSRCI at a later date, which resulted in an embedded derivative. This embedded derivative is considered a total return swap with contractual returns that are attributable to the assets and liabilities associated with this reinsurance arrangement. The fair value of the total return swap is based on the change in fair value of the underlying assets held in the funds withheld portfolio. Investment results for the assets that support the coinsurance with funds withheld reinsurance arrangement, including gains and losses from sales, are passed directly to the reinsurer pursuant to
contractual terms of the reinsurance arrangement. The reinsurance related embedded derivative is reported in “Other assets” on the Condensed Consolidated Balance Sheets and the related gains or losses are reported in “Net investment gains” on the Condensed Consolidated Statements of Operations.
Information regarding the Company’s exposure to credit loss on the call options it holds is presented in the following table:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2013
|
|
September 30, 2013
|
|
Counterparty
|
|
Credit Rating
(Moody's/S&P) (a)
|
|
Notional
Amount
|
|
Fair Value
|
|
Collateral
|
|
Net Credit Risk
|
|
Notional
Amount
|
|
Fair Value
|
|
Collateral
|
|
Net Credit Risk
|
|
Merrill Lynch
|
|
NA/A
|
|
$
|
2,157,932
|
|
|
$
|
99,627
|
|
|
$
|
45,103
|
|
|
$
|
54,524
|
|
|
$
|
2,037,781
|
|
|
$
|
70,695
|
|
|
$
|
—
|
|
|
$
|
70,695
|
|
|
Deutsche Bank
|
|
A2/A
|
|
1,706,800
|
|
|
70,379
|
|
|
—
|
|
|
70,379
|
|
|
1,620,404
|
|
|
51,667
|
|
|
23,000
|
|
|
28,667
|
|
|
Morgan Stanley
|
|
A3/A
|
|
2,379,038
|
|
|
103,087
|
|
|
74,739
|
|
|
28,348
|
|
|
2,264,136
|
|
|
75,729
|
|
|
49,000
|
|
|
26,729
|
|
|
Royal Bank of Scotland
|
|
A3/A
|
|
245,300
|
|
|
16,899
|
|
|
—
|
|
|
16,899
|
|
|
364,300
|
|
|
20,313
|
|
|
—
|
|
|
20,313
|
|
|
Barclay's Bank
|
|
A2/A
|
|
117,835
|
|
|
4,102
|
|
|
—
|
|
|
4,102
|
|
|
120,789
|
|
|
3,354
|
|
|
—
|
|
|
3,354
|
|
|
|
|
|
|
$
|
6,606,905
|
|
|
$
|
294,094
|
|
|
$
|
119,842
|
|
|
$
|
174,252
|
|
|
$
|
6,407,410
|
|
|
$
|
221,758
|
|
|
$
|
72,000
|
|
|
$
|
149,758
|
|
(a) Credit rating as of December 31, 2013.
Collateral Agreements
The Company is required to maintain minimum ratings as a matter of routine practice under its over-the-counter derivative agreements on forms International Swaps and Derivatives Association, Inc (“ISDA”). 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, 2013
and
September 30, 2013
, counterparties posted $
119,842
and $
72,000
of collateral of which
74,739
and
72,000
is included in "Cash and cash equivalents" with an associated payable for this collateral included in "Other liabilities" on the Condensed Consolidated Balance Sheet. The remaining,
$45,103
of non-cash collateral was held by a third-party custodian at
December 31, 2013
.
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 $
174,252
and $
149,758
at
December 31, 2013
and
September 30, 2013
, respectively.
The Company held
1,190
and
1,693
futures contracts at
December 31, 2013
and
September 30, 2013
, 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
Condensed Consolidated Balance Sheets
. The amount of collateral held by the counterparties for such contracts was
$4,835
and
$5,861
at
December 31, 2013
and
September 30, 2013
, 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, are summarized according to the hierarchy previously described, as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2013
|
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Fair Value
|
|
Carrying Amount
|
|
Assets
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
$
|
759,471
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
759,471
|
|
|
$
|
759,471
|
|
|
Fixed maturity securities, available-for-sale:
|
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
—
|
|
|
1,591,978
|
|
|
250,800
|
|
|
1,842,778
|
|
|
1,842,778
|
|
|
Commercial mortgage-backed securities
|
—
|
|
|
438,653
|
|
|
5,976
|
|
|
444,629
|
|
|
444,629
|
|
|
Corporates
|
—
|
|
|
9,439,479
|
|
|
607,139
|
|
|
10,046,618
|
|
|
10,046,618
|
|
|
Hybrids
|
—
|
|
|
418,074
|
|
|
—
|
|
|
418,074
|
|
|
418,074
|
|
|
Municipals
|
—
|
|
|
1,087,052
|
|
|
34,374
|
|
|
1,121,426
|
|
|
1,121,426
|
|
|
Agency residential mortgage-backed securities
|
—
|
|
|
91,049
|
|
|
—
|
|
|
91,049
|
|
|
91,049
|
|
|
Non-agency residential mortgage-backed securities
|
—
|
|
|
1,652,027
|
|
|
—
|
|
|
1,652,027
|
|
|
1,652,027
|
|
|
U.S. Government
|
502,531
|
|
|
208,485
|
|
|
—
|
|
|
711,016
|
|
|
711,016
|
|
|
Equity securities available-for-sale
|
—
|
|
|
286,922
|
|
|
—
|
|
|
286,922
|
|
|
286,922
|
|
|
Derivative financial instruments
|
—
|
|
|
294,531
|
|
|
—
|
|
|
294,531
|
|
|
294,531
|
|
|
Reinsurance related embedded derivative
|
—
|
|
|
113,710
|
|
|
—
|
|
|
113,710
|
|
|
113,710
|
|
|
Related party loans
|
—
|
|
|
—
|
|
|
96,442
|
|
|
96,442
|
|
|
96,442
|
|
|
Other invested assets
|
—
|
|
|
—
|
|
|
316,552
|
|
|
316,552
|
|
|
316,552
|
|
|
Total financial assets at fair value
|
$
|
1,262,002
|
|
|
$
|
15,621,960
|
|
|
$
|
1,311,283
|
|
|
$
|
18,195,245
|
|
|
$
|
18,195,245
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
Derivatives:
|
|
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractor funds
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,644,724
|
|
|
$
|
1,644,724
|
|
|
$
|
1,644,724
|
|
|
Investment contracts, included in contractholder funds
|
—
|
|
|
—
|
|
|
12,513,803
|
|
|
12,513,803
|
|
|
13,874,998
|
|
|
Call options payable for FSRCI, included in funds withheld for reinsurance liabilities
|
—
|
|
|
28,328
|
|
|
—
|
|
|
28,328
|
|
|
28,328
|
|
|
Debt
|
—
|
|
|
300,000
|
|
|
—
|
|
|
300,000
|
|
|
300,000
|
|
|
Total financial liabilities at fair value
|
$
|
—
|
|
|
$
|
328,328
|
|
|
$
|
14,158,527
|
|
|
$
|
14,486,855
|
|
|
$
|
15,848,050
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2013
|
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Fair Value
|
|
Carrying Amount
|
|
Assets
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
$
|
1,204,334
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,204,334
|
|
|
$
|
1,204,334
|
|
|
Fixed maturity securities, available-for-sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
—
|
|
|
1,518,066
|
|
|
246,528
|
|
|
1,764,594
|
|
|
1,764,594
|
|
|
Commercial mortgage-backed securities
|
—
|
|
|
448,694
|
|
|
5,635
|
|
|
454,329
|
|
|
454,329
|
|
|
Corporates
|
—
|
|
|
8,957,196
|
|
|
461,113
|
|
|
9,418,309
|
|
|
9,418,309
|
|
|
Hybrids
|
—
|
|
|
428,817
|
|
|
—
|
|
|
428,817
|
|
|
428,817
|
|
|
Municipals
|
—
|
|
|
1,007,010
|
|
|
—
|
|
|
1,007,010
|
|
|
1,007,010
|
|
|
Agency residential mortgage-backed securities
|
—
|
|
|
98,597
|
|
|
—
|
|
|
98,597
|
|
|
98,597
|
|
|
Non-agency residential mortgage-backed securities
|
—
|
|
|
1,368,023
|
|
|
—
|
|
|
1,368,023
|
|
|
1,368,023
|
|
|
U.S. Government
|
790,926
|
|
|
210,921
|
|
|
—
|
|
|
1,001,847
|
|
|
1,001,847
|
|
|
Equity securities available-for-sale
|
—
|
|
|
271,075
|
|
|
—
|
|
|
271,075
|
|
|
271,075
|
|
|
Derivative financial instruments
|
—
|
|
|
221,758
|
|
|
—
|
|
|
221,758
|
|
|
221,758
|
|
|
Reinsurance related embedded derivative
|
—
|
|
|
118,025
|
|
|
—
|
|
|
118,025
|
|
|
118,025
|
|
|
Related party loans
|
—
|
|
|
—
|
|
|
119,044
|
|
|
119,044
|
|
|
119,044
|
|
|
Other invested assets
|
—
|
|
|
—
|
|
|
188,180
|
|
|
188,180
|
|
|
188,180
|
|
|
Total financial assets at fair value
|
$
|
1,995,260
|
|
|
$
|
14,648,182
|
|
|
$
|
1,020,500
|
|
|
$
|
17,663,942
|
|
|
$
|
17,663,942
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
Derivatives:
|
|
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,544,447
|
|
|
$
|
1,544,447
|
|
|
$
|
1,544,447
|
|
|
Derivative instruments: futures contracts
|
—
|
|
|
1,028
|
|
|
—
|
|
|
1,028
|
|
|
1,028
|
|
|
Investment contracts, included in contractholder funds
|
—
|
|
|
—
|
|
|
12,378,645
|
|
|
12,378,645
|
|
|
13,703,769
|
|
|
Call options payable for FSRCI, included in funds withheld for reinsurance liabilities
|
—
|
|
|
22,833
|
|
|
—
|
|
|
22,833
|
|
|
22,833
|
|
|
Debt
|
—
|
|
|
300,000
|
|
|
—
|
|
|
300,000
|
|
|
300,000
|
|
|
Total financial liabilities at fair value
|
$
|
—
|
|
|
$
|
323,861
|
|
|
$
|
13,923,092
|
|
|
$
|
14,246,953
|
|
|
$
|
15,572,077
|
|
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. 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 Company did not adjust prices received from third parties as of
December 31, 2013
and
September 30, 2013
. 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 derivative assets and liabilities 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. The fair value of futures contracts represents the cumulative unsettled variation margin (open trade equity, net of cash settlements). Fair values for these instruments are determined externally by an independent actuarial firm using market-observable inputs, including interest rates, yield curve volatilities, and other factors. Credit risk related to the counterparty is considered when estimating the fair values of these derivatives. The fair values of the embedded derivatives in the Company’s FIA products are derived using market indices, pricing assumptions and historical data. The fair value of the reinsurance related embedded derivative in the funds withheld reinsurance agreement with FSRCI is estimated based upon the change in 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 (Level 2), the fair value of the embedded derivative is based on market-observable inputs and is classified as Level 2.
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, 2013
and
September 30, 2013
, this resulted in lower 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 has been assessed to be equal to the unpaid principal balance of the participation interest as of
December 31, 2013
. 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, 2013
, the primary market participant for these securities and the short-term maturity of these loans (less than 1 year).
All of the other financial instruments included in other investments, primarily commercial mortgage loans ("CMLs") and policy loans, are carried at amortized cost which approximates fair value. Information on determining the carry value of these investments is described below:
In September 2013, the Company initiated a commercial loan program with Principal Real Estate Investors ("Principal"). The Company has funded seven commercial mortgage loans ("CMLs") originated and serviced by Principal with a fair value of
$103,283
at December 31, 2013 which is equal to amortized cost as these loans were recently originated. Principal monitors the status of the payment obligations, the credit quality of the borrower and the property as well as for other events that may impact the performance and principal repayment of the CMLs. Additionally, the Company reviews Principal's valuation methodologies and processes as disclosed in their SSAE 16 to perform assessments. A CMLs' good standing and payment obligations are material factors in evaluating CMLs carrying value. At December 31, 2013, all seven CMLs are performing in good standing and there are no credit or other events which would require impairment evaluation.
Also included in other invested assets are policy loans. We have not attempted to determine the fair values associated with our policy loans, as we believe any differences between carrying value and the fair values afforded these instruments are immaterial to our consolidated financial position and, accordingly, the cost to provide such disclosure does not justify the benefit to be derived.
Related Party Loans & Related Party Investments
The related party loans (discussed in Note 14) carrying value at par approximates fair value, as this is the exit price for the obligation of these loans.
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, 2013
and
September 30, 2013
are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value at
|
|
|
|
|
|
Range (Weighted average)
|
|
|
|
December 31,
2013
|
|
Valuation Technique
|
|
Unobservable Input(s)
|
|
December 31,
2013
|
|
Assets
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
|
$
|
250,800
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
98.00% - 106.98% (100.61%)
|
|
Corporates
|
|
540,918
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
0.00% - 115.00% (91.54%)
|
|
Corporates
|
|
66,221
|
|
|
Market Pricing
|
|
Quoted prices
|
|
91.38%-131.62% (98.72%)
|
|
Municipal
|
|
34,374
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
98.21%
|
|
Commercial mortgage-backed securities
|
|
5,976
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
101.64%
|
|
Other invested assets
|
|
199,636
|
|
|
Market Pricing
|
|
Offered quotes
|
|
100.00%
|
|
Total
|
|
$
|
1,097,925
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
Derivatives:
|
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
|
$
|
1,644,724
|
|
|
Discounted cash flow
|
|
Market value of option
|
|
0% - 43.28% (4.78%)
|
|
|
|
|
|
|
|
SWAP rates
|
|
1.79% - 3.09% (2.45%)
|
|
|
|
|
|
|
|
Mortality multiplier
|
|
80%
|
|
|
|
|
|
|
|
Surrender rates
|
|
0.50% - 75% (7%)
|
|
|
|
|
|
|
|
Non-performance spread
|
|
0.25%
|
|
Total liabilities at fair value
|
|
$
|
1,644,724
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value at
|
|
|
|
|
|
Range (Weighted average)
|
|
|
|
September 30,
2013
|
|
Valuation Technique
|
|
Unobservable Input(s)
|
|
September 30, 2013
|
|
Assets
|
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
|
$
|
246,528
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
100.00% - 107.25% (100.91%)
|
|
Corporates
|
|
404,508
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
0.00% - 113.00% (90.45%)
|
|
Corporates
|
|
56,605
|
|
|
Market Pricing
|
|
Quoted prices
|
|
90.06% - 130.92% (97.19%)
|
|
Commercial mortgage-backed securities
|
|
5,635
|
|
|
Broker-quoted
|
|
Offered quotes
|
|
95.50%
|
|
Other invested assets
|
|
157,000
|
|
|
Market Pricing
|
|
Offered quotes
|
|
100.00%
|
|
Total
|
|
$
|
870,276
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
Derivatives:
|
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
|
$
|
1,544,447
|
|
|
Discounted cash flow
|
|
Market value of option
|
|
0% - 38.24% (3.82%)
|
|
|
|
|
|
|
|
SWAP rates
|
|
1.54% - 2.77% (2.16%)
|
|
|
|
|
|
|
|
Mortality multiplier
|
|
80%
|
|
|
|
|
|
|
|
Surrender rates
|
|
0.50% - 75% (7%)
|
|
|
|
|
|
|
|
Non-performance spread
|
|
0.25%
|
|
Total liabilities at fair value
|
|
$
|
1,544,447
|
|
|
|
|
|
|
|
The significant unobservable inputs used in the fair value measurement of FIA embedded derivatives included in contractholder funds are market value of option, interest swap rates, mortality multiplier, surrender rates, and non-performance spread. The mortality multiplier at
December 31, 2013
and
September 30, 2013
, is based on the 2000 and 1983 annuity tables, respectively and assumes the contractholder population is
50%
female and
50%
male. Significant increases (decreases) in the market value of option in isolation would result in a higher or lower,
respectively, fair value measurement. Significant increases or decreases in interest swap rates, mortality multiplier, surrender rates, or non-performance spread in isolation would result in a lower or higher, respectively, fair value measurement. Generally, a change in any one unobservable input would not result in a change in any other unobservable input.
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
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, 2013
and December 31,
2012
, 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, 2013
|
|
|
Balance at Beginning
of Period
|
|
Total Gains (Losses)
|
|
Net 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
|
$
|
246,528
|
|
|
$
|
—
|
|
|
$
|
(747
|
)
|
|
$
|
5,019
|
|
|
$
|
—
|
|
|
$
|
250,800
|
|
|
Commercial mortgage-backed securities
|
5,635
|
|
|
—
|
|
|
363
|
|
|
(22
|
)
|
|
—
|
|
|
5,976
|
|
|
Corporates
|
461,113
|
|
|
(27
|
)
|
|
(6,098
|
)
|
|
152,151
|
|
|
—
|
|
|
607,139
|
|
|
Municipals
|
—
|
|
|
—
|
|
|
(626
|
)
|
|
35,000
|
|
|
—
|
|
|
34,374
|
|
|
Other invested assets
|
157,000
|
|
|
—
|
|
|
—
|
|
|
42,636
|
|
|
—
|
|
|
199,636
|
|
|
Total assets at Level 3 fair value
|
$
|
870,276
|
|
|
$
|
(27
|
)
|
|
$
|
(7,108
|
)
|
|
$
|
234,784
|
|
|
$
|
—
|
|
|
$
|
1,097,925
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
FIA embedded derivatives, included in contractholder funds
|
$
|
1,544,447
|
|
|
$
|
100,277
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,644,724
|
|
|
Total liabilities at Level 3 fair value
|
$
|
1,544,447
|
|
|
$
|
100,277
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,644,724
|
|
|
|
|
|
(a)
|
There were no net transfers in and/or out of Level 3 during the
three months ended December 31, 2013
.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 31, 2012
|
|
|
Balance at Beginning
of Period
|
|
Total Gains (Losses)
|
|
Net 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
|
$
|
15,855
|
|
|
$
|
—
|
|
|
$
|
(43
|
)
|
|
$
|
(18
|
)
|
|
$
|
(10,500
|
)
|
|
$
|
5,294
|
|
|
Commercial mortgage-backed securities
|
5,023
|
|
|
—
|
|
|
81
|
|
|
1,006
|
|
|
—
|
|
|
6,110
|
|
|
Corporates
|
135,296
|
|
|
(180
|
)
|
|
(1,964
|
)
|
|
122,890
|
|
|
80
|
|
|
256,122
|
|
|
Hybrids
|
8,873
|
|
|
—
|
|
|
(175
|
)
|
|
—
|
|
|
(3,723
|
)
|
|
4,975
|
|
|
Related party investments
|
32,000
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
32,000
|
|
|
Total assets at Level 3 fair value
|
$
|
197,047
|
|
|
$
|
(180
|
)
|
|
$
|
(2,101
|
)
|
|
$
|
123,878
|
|
|
$
|
(14,143
|
)
|
|
$
|
304,501
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed indexed annuities
|
$
|
1,550,805
|
|
|
$
|
(33,754
|
)
|
|
|
|
|
|
|
|
$
|
1,517,051
|
|
|
AFS embedded derivatives
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
Total liabilities at Level 3 fair value
|
$
|
1,550,805
|
|
|
$
|
(33,754
|
)
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,517,051
|
|
|
|
|
|
(a)
|
The net transfers in and out of Level 3 during the
three months ended December 31, 2012
were exclusively to or from Level 2.
|
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, 2013
and December 31,
2012
, respectively.
There were no transfers in or out of Level 3 during the
three months ended December 31, 2013
. Primary market issuance and secondary market activity for certain asset-backed, hybrid and corporate securities during the
three months ended December 31, 2012
increased the market observable inputs used to establish fair values for similar securities. These factors, along with more consistent pricing from third-party sources, resulted in the Company concluding that there is sufficient trading activity in similar instruments to support classifying these securities as Level 2 as of
December 31, 2012
. Accordingly, the Company’s assessment resulted in net transfers out of Level 3 of
$14,143
related to asset-backed securities, corporates, hybrids, municipals and residential mortgage-backed securities during
three months ended December 31, 2012
.
The following tables present the gross components of purchases, sales, and settlements, net, of Level 3 financial instruments for the
three months ended December 31, 2013
and
December 31, 2012
, respectively. There were
no
issuances during these periods.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 31, 2013
|
|
|
Purchases
|
|
Sales
|
|
Settlements
|
|
Net Purchases, Sales, & Settlements
|
|
Assets
|
|
|
|
|
|
|
|
|
Fixed maturity securities available-for-sale:
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
5,038
|
|
|
$
|
—
|
|
|
$
|
(19
|
)
|
|
$
|
5,019
|
|
|
Commercial mortgage-backed securities
|
—
|
|
|
—
|
|
|
(22
|
)
|
|
(22
|
)
|
|
Corporates
|
152,684
|
|
|
—
|
|
|
(533
|
)
|
|
152,151
|
|
|
Municipal
|
35,000
|
|
|
—
|
|
|
—
|
|
|
35,000
|
|
|
Other invested assets
|
77,755
|
|
|
—
|
|
|
(35,119
|
)
|
|
42,636
|
|
|
Total assets at fair value
|
$
|
270,477
|
|
|
$
|
—
|
|
|
$
|
(35,693
|
)
|
|
$
|
234,784
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 30, 2012
|
|
|
Purchases
|
|
Sales
|
|
Settlements
|
|
Net Purchases, Sales, & Settlements
|
|
Assets
|
|
|
|
|
|
|
|
|
Fixed maturity securities available-for-sale:
|
|
|
|
|
|
|
|
|
Asset-backed securities
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
(18
|
)
|
|
$
|
(18
|
)
|
|
Commercial mortgage-backed securities
|
1,026
|
|
|
—
|
|
|
(20
|
)
|
|
1,006
|
|
|
Corporates
|
133,175
|
|
|
(9,561
|
)
|
|
(724
|
)
|
|
122,890
|
|
|
Total assets at fair value
|
$
|
134,201
|
|
|
$
|
(9,561
|
)
|
|
$
|
(762
|
)
|
|
$
|
123,878
|
|
(7) Intangible Assets
Information regarding VOBA and DAC, DSI, is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
VOBA
|
|
DAC
|
|
Total
|
|
Balance at September 30, 2012
|
|
$
|
104,320
|
|
|
$
|
169,223
|
|
|
$
|
273,543
|
|
|
Deferrals
|
|
—
|
|
|
35,697
|
|
|
35,697
|
|
|
Less: Amortization related to:
|
|
|
|
|
|
|
|
Unlocking
|
|
9,310
|
|
|
2,100
|
|
|
11,410
|
|
|
Interest
|
|
5,347
|
|
|
2,327
|
|
|
7,674
|
|
|
Other amortization
|
|
(73,536
|
)
|
|
(15,059
|
)
|
|
(88,595
|
)
|
|
Add: Adjustment for unrealized investment gains/losses
|
|
31,173
|
|
|
(3,212
|
)
|
|
27,961
|
|
|
Balance at December 31, 2012
|
|
$
|
76,614
|
|
|
$
|
191,076
|
|
|
$
|
267,690
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
VOBA
|
|
DAC
|
|
Total
|
|
Balance at September 30, 2013
|
|
$
|
225,289
|
|
|
$
|
338,469
|
|
|
$
|
563,758
|
|
|
Deferrals
|
|
—
|
|
|
52,552
|
|
|
52,552
|
|
|
Less: Amortization related to:
|
|
|
|
|
|
|
|
Unlocking
|
|
11,656
|
|
|
3,427
|
|
|
15,083
|
|
|
Interest
|
|
3,686
|
|
|
3,339
|
|
|
7,025
|
|
|
Other amortization
|
|
(29,218
|
)
|
|
(15,782
|
)
|
|
(45,000
|
)
|
|
Add: Adjustment for unrealized investment gains/losses
|
|
1,741
|
|
|
6,285
|
|
|
8,026
|
|
|
Balance at December 31, 2013
|
|
$
|
213,154
|
|
|
$
|
388,290
|
|
|
$
|
601,444
|
|
Amortization of VOBA and DAC is based on the amount of gross margins or profits recognized, including investment gains and losses. The adjustment for unrealized net investment 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 statement of operations. As of
December 31, 2013
and
September 30, 2013
, the VOBA balance included cumulative adjustments for net unrealized investment gains/losses of
$79,700
and
$81,442
respectively, and the DAC balances included cumulative adjustments for net unrealized investment gains/losses of
$24,889
and
$18,604
, respectively.
The above DAC balances include
$29,564
and
$26,159
of DSI, net of shadow adjustments, as of
December 31, 2013
and
September 30, 2013
, respectively.
The weighted average amortization period for VOBA is approximately
4.8
years. Estimated amortization expense for VOBA in future fiscal periods is as follows:
|
|
|
|
|
|
|
|
|
|
Estimated Amortization Expense
|
|
Fiscal Year
|
|
VOBA
|
|
2014
|
33,446
|
|
|
2015
|
|
44,769
|
|
|
2016
|
|
39,452
|
|
|
2017
|
|
32,244
|
|
|
2018
|
|
25,946
|
|
|
Thereafter
|
|
116,998
|
|
(8) Long Term Debt
In March 2013, FGL's wholly owned subsidiary, Fidelity & Guaranty Life Holdings, Inc. ("FGLH"), issued
$300,000
aggregate principal amount of its
6.375%
senior notes (“Notes offering”) due April 1, 2021, at par value, which FGLH may elect to redeem after April 1, 2015. Interest payments are due semi-annually, April 1 and October 1, commencing October 1, 2013, and total interest expense was
$4,781
for the
three months ended December 31, 2013
.
In connection with the Notes offering, FGL capitalized
$10,195
of debt issue costs. The fees are classified as “Other assets” in the accompanying Condensed Consolidated Balance Sheets as of
December 31, 2013
and are being are amortized over the redemption date using the straight-line method over the remaining term of the debt, of which $
843
has been amortized for the
three months ended December 31, 2013
.
(9) Equity
On November 26, 2013, the Company’s board of directors increased the number of authorized shares of the Company’s common stock, par value $
0.01
per share, from
100,000
to
500,000,000
and approved a stock split of the issued and outstanding shares of common stock at a ratio of
4,700
-for-
1
, resulting in
47,000,000
shares outstanding. Net income per common share and the weighted average common shares used in computing net income per share for the three months ended
December 31, 2013
and 2012, included in the Company’s Consolidated Statement of Operations, have been adjusted to give effect to the stock split. Likewise, the amount of shares authorized, issued, and outstanding disclosed in the Company’s Consolidated Balance sheets have also been adjusted.
In December of 2013 the Company issued
9,750,000
shares of common stock as well as
58,322
unrestricted shares to its directors in connection with its initial public offering ("IPO") and began trading on the New York Stock Exchange under the ticker symbol "FGL." FGL also granted the underwriters an option to purchase an additional
1,462,500
shares of common stock that was subsequently exercised. Subsequent to the offering HGI held
47,000,000
shares of FGL's outstanding common stock, representing an
80.7%
interest.
On December 18, 2013, the Company received net proceeds from the IPO of $
172,996
. A portion of the proceeds were used to pay a special dividend of $
42,993
to HGI.
(10) Stock Compensation
In conjunction with the IPO, on November 7, 2013, FGL’s Board of Directors adopted a long term stock-based incentive plan (the “FGL 2013 Stock Incentive Plan” or the “Omnibus Plan”) under which certain officers, employees, directors and consultants are eligible to receive equity based awards. The Omnibus Plan was approved by the stockholder on November 19, 2013, became effective on December 12, 2013 and expires in December 2023. FGL’s Compensation Committee approved the granting of awards under the Omnibus Plan to certain employees, officers and directors (other than the members of the Compensation Committee).
In addition, FGL’s Board of Directors approved the granting of awards to members of FGL’s Compensation Committee (the “Compensation Committee Awards”). The Compensation Committee Awards were not made under the Omnibus Plan; however, these awards will be construed and administered as if subject to the terms of the Omnibus Plan. FGL’s Board of Directors and stockholder also approved the granting of unrestricted common shares to its directors in lieu of cash compensation at the election of each individual director (the “Unrestricted Share Awards”). The Omnibus Plan, Compensation Committee Awards and the Unrestricted Share Awards are collectively referred to as the “FGL Plans” and are accounted for as equity plans. Prior to the initial public offering, FGL did not offer stock-based compensation plans to any of its directors, employees or the directors or employees of its subsidiaries.
FGL’s principal subsidiary, FGLH, sponsors stock-based incentive plans and dividend equivalent plans (“DEPs”) for its employees (the “FGLH Plans”). Awards under the FGLH Plans are based on the common stock of FGLH. In 2013, FGLH determined that all equity awards will be settled in cash when exercised and therefore are classified as liability plans.
The Company recognized total stock compensation expense related to the FGL Plans and FGLH Plans as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
|
December 31, 2013
|
|
December 31, 2012
|
|
FGL Plans
|
|
|
|
|
|
Stock options
|
|
$
|
11
|
|
|
$
|
—
|
|
|
Restricted shares
|
|
32
|
|
|
—
|
|
|
Performance restricted stock units
|
|
148
|
|
|
—
|
|
|
Unrestricted shares
|
|
991
|
|
|
—
|
|
|
|
|
1,182
|
|
|
—
|
|
|
FGLH Plans
|
|
|
|
|
|
Stock Incentive Plan - stock options
|
|
2,765
|
|
|
690
|
|
|
2011 DEP
|
|
261
|
|
|
207
|
|
|
Amended and Restated Stock Incentive Plan - stock options
|
|
2,290
|
|
|
—
|
|
|
Amended and Restated Stock Incentive Plan - restricted stock units
|
|
719
|
|
|
—
|
|
|
2012 DEP
|
|
113
|
|
|
—
|
|
|
Total stock compensation expense
|
|
7,330
|
|
|
897
|
|
|
Related tax benefit
|
|
2,566
|
|
|
314
|
|
|
Net stock compensation expense
|
|
$
|
4,764
|
|
|
$
|
583
|
|
The stock compensation expense is included in "Acquisition and operating expenses, net of deferrals" in the
Condensed Consolidated Statements of Operations
.
Total compensation expense related to the FGL Plans and FGLH Plans not yet recognized as of
December 31, 2013
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
|
|
$
|
620
|
|
|
3
|
|
Restricted shares
|
|
1,793
|
|
|
3
|
|
Performance restricted stock units
|
|
7,824
|
|
|
2.8
|
|
Unrestricted shares
|
|
—
|
|
|
N/A
|
|
|
|
10,237
|
|
|
|
|
FGLH Plans
|
|
|
|
|
|
Stock Incentive Plan
|
|
1,960
|
|
|
0.7
|
|
2011 DEP
|
|
277
|
|
|
0.2
|
|
Amended and Restated Stock Incentive Plan - stock options
|
|
2,784
|
|
|
1.8
|
|
Amended and Restated Stock Incentive Plan - restricted stock units
|
|
2,091
|
|
|
2
|
|
2012 DEP
|
|
1,082
|
|
|
2.2
|
|
|
|
8,194
|
|
|
0
|
|
Total unrecognized stock compensation expense
|
|
$
|
18,431
|
|
|
2.3
|
FGL Plans
On December 12, 2013, FGL granted
181 thousand
stock options to certain officers and directors under the Omnibus Plan and
10 thousand
stock options to Compensation Committee members. These stock options vest in equal installments over a period of three years and expire on the seventh anniversary of the grant date. The total fair value of the option grants on the grant date was $
631
.
A summary of FGL’s outstanding stock options as of
December 31, 2013
, and related activity during the three month period, is as follows (share amount in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock Option Awards
|
|
Options
|
|
Weighted Average Exercise Price
|
|
Weighted
Average Grant
Date Fair Value
|
|
Stock options outstanding at September 30, 2013
|
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
Granted
|
|
191
|
|
|
17.00
|
|
|
3.30
|
|
|
Forfeited or expired
|
|
—
|
|
|
—
|
|
|
—
|
|
|
Stock options outstanding at December 31, 2013
|
|
191
|
|
|
17.00
|
|
|
3.30
|
|
|
Exercisable at December 31, 2013
|
|
—
|
|
|
—
|
|
|
—
|
|
|
Vested or expected to vest at December 31, 2013
|
|
191
|
|
|
17.00
|
|
|
3.30
|
|
The following assumptions were used in the determination of these grant date fair values using the Black-Scholes option pricing model and based on the value of FGL's common stock:
|
|
|
|
|
|
|
2013
|
|
Risk-free interest rate
|
1.4%
|
|
Assumed dividend yield
|
1.5%
|
|
Expected option term
|
4.5 years
|
|
Volatility
|
25%
|
On December 12, 2013, FGL also granted
96 thousand
restricted shares to certain officers and directors under the Omnibus Plan and
11 thousand
restricted shares to Compensation Committee members. These shares vest in equal installments over a period of three years and expire on the seventh anniversary of the grant date. The total fair value of the restricted shares granted on their grant dates was $
1,824
.
A summary of FGL’s restricted shares outstanding as of
December 31, 2013
, and related activity during the
three months
then ended, are as follows (share amount in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Restricted Stock Awards
|
|
Shares
|
|
Average Grant
Date Fair Value
|
|
Restricted shares outstanding at September 30, 2013
|
|
—
|
|
|
$
|
—
|
|
|
Granted
|
|
107
|
|
|
17.00
|
|
|
Forfeited or expired
|
|
—
|
|
|
—
|
|
|
Restricted shares outstanding at December 31, 2013
|
|
107
|
|
|
17.00
|
|
|
Exercisable at December 31, 2013
|
|
—
|
|
|
—
|
|
|
Vested or expected to vest at December 31, 2013
|
|
107
|
|
|
17.00
|
|
On December 12, 2013, FGL also granted
469 thousand
performance restricted stock units (“PRSUs”) to senior executive officers under the Omnibus Plan. These units vest on September 30, 2016, contingent on the satisfaction of performance criteria and on the officer's continued employment unless, otherwise noted in the agreement. The total fair value of the PRSUs on the grant date was $
7,973
.
PRSUs subject to vesting are adjusted based on yearly performance, which is evaluated on two non-US GAAP measures: (1) adjusted operating income, and (2) return on equity.
A summary of PRSUs outstanding as of
December 31, 2013
, and related activity during the
three months
then ended, is as follows (share amount in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Performance Restricted Stock Units (PRSUs)
|
|
Shares
|
|
Average grant date fair value
|
|
PRSUs outstanding at September 30, 2013
|
|
—
|
|
|
$
|
—
|
|
|
Granted
|
|
469
|
|
|
17.00
|
|
|
Forfeited or expired
|
|
—
|
|
|
—
|
|
|
PRSUs outstanding at December 31, 2013
|
|
469
|
|
|
17.00
|
|
|
Exercisable at December 31, 2013
|
|
—
|
|
|
—
|
|
|
Vested or expected to vest at December 31, 2013
|
|
469
|
|
|
17.00
|
|
Additionally, on December 12, 2013, FGL granted unrestricted shares totaling
58 thousand
to certain directors in payment for services rendered. Total fair value of the unrestricted shares on the grant date was $
991
.
FGLH Plans
A summary of FGLH's outstanding stock options as of
December 31, 2013
and changes during the
three months
then ended are as follows (share amount in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
FGLH
|
|
Stock Option Awards
|
|
Options
|
|
Weighted Average Exercise Price (a)
|
|
Stock options outstanding at September 30, 2013
|
|
335
|
|
|
$
|
44.23
|
|
|
Granted
|
|
—
|
|
|
—
|
|
|
Exercised
|
|
(28
|
)
|
|
41.79
|
|
|
Forfeited or expired
|
|
(1
|
)
|
|
45.55
|
|
|
Stock options outstanding at December 31, 2013
|
|
306
|
|
|
44.44
|
|
|
Exercisable at December 31, 2013
|
|
129
|
|
|
42.56
|
|
|
Vested or expected to vest at December 31, 2013
|
|
296
|
|
|
44.40
|
|
|
|
|
|
(a)
|
The exercise price is based on the value of FGLH’s common stock, not the value of the Company’s common stock. The fair value of FGLH stock at December 31, 2013 is
$83.67
.
|
A summary of FGLH's restricted stock units outstanding as of
December 31, 2013
and related activity during the
three months
then ended is as follows (share amount in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Restricted Stock Awards
|
|
Shares
|
|
Average Grant
Date Fair Value (a)
|
|
Restricted shares outstanding at September 30, 2013
|
|
46
|
|
|
$
|
49.60
|
|
|
Granted
|
|
—
|
|
|
—
|
|
|
Exercised
|
|
(15
|
)
|
|
49.45
|
|
|
Forfeited or expired
|
|
—
|
|
|
—
|
|
|
Restricted shares outstanding at December 31, 2013
|
|
31
|
|
|
49.68
|
|
|
Exercisable at December 31, 2013
|
|
—
|
|
|
—
|
|
|
Restricted stock vested or expected to vest at December 31, 2013
|
|
28
|
|
|
49.58
|
|
|
|
|
|
(a)
|
Fair value is based on the value of FGLH’s common stock, not the value of the Company’s common stock.
|
(11) Income Taxes
The provision for income taxes represents federal income taxes. The effective tax rate for the three month period ended December 31, 2013 was
34.0%
. The effective tax rate for the three month period ended December 31, 2012 was
32.7%
. The effective tax rate (“ETR”) on pre-tax income differs from the U.S Federal statutory rate primarily due to current period changes to the Company’s valuation allowance offsetting its deferred tax asset position.
The Company’s tax provision changes quarterly based on recurring and non-recurring factors, including but not limited to, enacted tax legislation, tax audit settlements and changes in judgment from the evaluation of new information resulting in the recognition or de-recognition and/or re-measurement of a tax position taken in a prior period. Changes in judgment related to a tax position are generally recognized in the quarter in which any such change occurs.
(12) Commitments and Contingencies
Contingencies
Regulatory and Litigation Matters
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, 2013
, FGL has accrued $
4,763
for guaranty fund assessments which is expected to be offset by estimated future premium tax deductions of $
4,591
.
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. To date, the Company has received inquiries from authorities in Maryland, Minnesota and New York. The New York Insurance Department issued a letter and subsequent regulation requiring life insurers doing business in New York to use the Death Master File or similar databases to determine if benefits were payable under life insurance policies, annuities, and retained asset accounts. Legislation requiring insurance companies to use the Death Master File to identify potential claims has recently been enacted in Maryland and other 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. During fiscal 2012, the Company incurred an $
11,000
benefit expense, net of reinsurance, to increase reserves to cover potential benefits payable resulting from this ongoing effort. Based on its analysis to date, and management’s estimate, the Company believes the remaining accrual will cover the reasonably estimated liability arising out of these developments. In addition, the Company has received audit and examination notices from several state agencies responsible for escheatment and unclaimed property regulation in those states. The Company has established a contingency of
$
2,000
, the mid-point of an estimated range of
$
1,000
to
$
3,000
, related to the external legal costs and administrative costs of said audits and examinations. Additional 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 this matter.
The Company 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 management and in light of existing insurance and other potential indemnification, reinsurance and established reserves, such litigation is not expected to have a material adverse effect on the Company’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.
Guarantees
The First Amended and Restated Stock Purchase Agreement, dated February 17, 2011 (the “F&G Stock Purchase Agreement”) between HFG and OM Group (UK) Limited ("OMGUK") includes a Guarantee and Pledge Agreement which creates certain obligations for FGLH as a grantor and also grants a security interest to OMGUK of FGLH’s equity interest in FGL Insurance in the event that HFG fails to perform in accordance with the terms
of the F&G Stock Purchase Agreement. The Company is not aware of any events or transactions that resulted in non-compliance with the Guarantee and Pledge Agreement.
(13) Reinsurance
The Company reinsures portions of its policy risks with other insurance companies. The use of reinsurance does not discharge an insurer from liability on the insurance ceded. The insurer is required to pay in full the amount of its insurance liability regardless of whether it is entitled to or able to receive payment from the reinsurer. The portion of risks exceeding the Company's retention limit is reinsured with other insurers. The Company seeks reinsurance coverage in order to limit its exposure to mortality losses and enhance capital management. The Company follows reinsurance accounting when there is adequate risk transfer. Otherwise, the deposit method of accounting is followed. The Company also assumes policy risks from other insurance companies.
The effect of reinsurance on premiums earned, benefits incurred and reserve changes for the
three months ended December 31, 2013
and
December 31, 2012
were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
December 31, 2013
|
|
December 31, 2012
|
|
|
Net Premiums Earned
|
|
Net Benefits Incurred
|
|
Net Premiums Earned
|
|
Net Benefits Incurred
|
|
Direct
|
$
|
67,753
|
|
|
$
|
296,480
|
|
|
$
|
72,448
|
|
|
$
|
139,560
|
|
|
Assumed
|
9,271
|
|
|
6,086
|
|
|
12,097
|
|
|
6,559
|
|
|
Ceded
|
(63,319
|
)
|
|
(85,710
|
)
|
|
(70,749
|
)
|
|
(62,475
|
)
|
|
Net
|
$
|
13,705
|
|
|
$
|
216,856
|
|
|
$
|
13,796
|
|
|
$
|
83,644
|
|
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, 2013
and
December 31, 2012
, the Company did not write off any reinsurance balances. During the
three months ended December 31, 2013
and
December 31, 2012
, the Company did not commute any ceded reinsurance.
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
Since its inception, the Company has utilized the services of the management and staff of HGI and also shares office space with HGI. The Company recorded approximately $
0
and $
7
as contributed capital for such services for the three months ended December 31, 2013 and 2012, respectively. The Company believes these allocations were made on a reasonable basis; however, they do not necessarily represent the costs that would have been incurred by the Company on a stand-alone basis.
FSRCI
Effective December 31, 2012, FGL Insurance entered into a reinsurance treaty with FSRCI, an indirectly wholly-owned subsidiary of HGI, FGL’s parent, whereby FGL ceded
10%
of its June 30, 2012 in-force annuity block business not already reinsured on a funds withheld basis. Under the terms of the agreement, FSRCI paid FGL Insurance an initial ceding allowance of $
15,000
. A study prepared by an independent third party actuarial firm determined that the initial ceding allowance of
$15,000
is a fair and reasonable valuation. The coinsurance agreement was on a funds withheld basis, meaning that funds were withheld by FSRCI from the coinsurance premium owed to Front Street Re Ltd. ("Front Street"), a Bermuda-based reinsurer, as collateral for FSRCI’s payment obligations. Accordingly, the collateral assets remain under the ultimate ownership of FGL Insurance.
At December 31, 2013 and September 30, 2013, the Company's reinsurance recoverable included $
1,334,724
and $
1,364,965
, respectively, related to FSRCI and funds withheld for reinsurance liabilities included $
1,341,497
and $
1,368,322
, respectively, related to FSRCI.
Below are the ceded operating results to FSRCI’s for the three months ended December 31, 2013:
|
|
|
|
|
|
|
|
|
Revenues:
|
|
Three months ended December 31, 2013
|
|
Premiums
|
|
$
|
232
|
|
|
Net investment income
|
|
15,154
|
|
|
Net investment gains
|
|
7,848
|
|
|
Insurance and investment product fees
|
|
1,310
|
|
|
Total Revenues
|
|
24,544
|
|
|
|
|
|
|
Benefits and expenses:
|
|
|
|
Benefits and other changes in policy reserves
|
|
(18,605
|
)
|
|
Acquisition & operating expenses, net of deferrals
|
|
(2,559
|
)
|
|
Amortization of intangibles
|
|
—
|
|
|
Total benefits and expenses
|
|
(21,164
|
)
|
|
|
|
|
|
Operating income
|
|
$
|
3,380
|
|
Salus
FGL Insurance participates in loans to third parties originated by Salus, an affiliated company indirectly owned by HGI that provides asset-based financing. In addition to the participation in loans originated by Salus Capital Partners, LLC ("Salus"), FGLH also agreed to provide Salus with financing in the form of a revolving loan.
The Company’s consolidated related party investments as of December 31, 2013 and September 30,2013, and related net investment income for the three months ended December 31, 2013 and 2012 summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2013
|
|
Type
|
|
Balance Sheet Classification
|
|
Asset carrying value
|
|
Accrued Investment Income
|
|
Total carrying value
|
|
|
Salus collateralized loan obligation (“CLO”)
|
|
Fixed Maturities, available for sale
|
|
$
|
241,019
|
|
|
$
|
635
|
|
|
$
|
241,654
|
|
|
|
Salus 2013 participations
|
|
Other Invested Assets
|
|
199,636
|
|
|
1,517
|
|
|
201,153
|
|
|
|
HGI energy loan
|
|
Related Party Loans, including accrued investment income
|
|
70,000
|
|
|
—
|
|
|
70,000
|
|
|
|
Salus 2012 participations
|
|
Related Party Loans, including accrued investment income
|
|
5,944
|
|
|
83
|
|
|
6,027
|
|
|
|
Salus promissory note
|
|
Related Party Loans, including accrued investment income
|
|
20,000
|
|
|
368
|
|
|
20,368
|
|
|
|
Salus revolver
|
|
Related Party Loans, including accrued investment income
|
|
—
|
|
|
46
|
|
|
46
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2013
|
|
Type
|
|
Balance Sheet Classification
|
|
Asset carrying value
|
|
Accrued Investment Income
|
|
Total carrying value
|
|
|
Salus collateralized loan obligation (“CLO”)
|
|
Fixed Maturities, available for sale
|
|
$
|
241,482
|
|
|
$
|
427
|
|
|
$
|
241,909
|
|
|
|
Salus 2013 participations
|
|
Other Invested Assets
|
|
157,000
|
|
|
1,517
|
|
|
158,517
|
|
|
|
HGI energy loan
|
|
Related Party Loans, including accrued investment income
|
|
70,000
|
|
|
1,575
|
|
|
71,575
|
|
|
|
Salus 2012 participations
|
|
Related Party Loans, including accrued investment income
|
|
27,287
|
|
|
124
|
|
|
27,411
|
|
|
|
Salus promissory note
|
|
Related Party Loans, including accrued investment income
|
|
20,000
|
|
|
12
|
|
|
20,012
|
|
|
|
Salus revolver
|
|
Related Party Loans, including accrued investment income
|
|
—
|
|
|
46
|
|
|
46
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 31,
|
|
|
|
|
|
|
2013
|
|
2012
|
|
|
Type
|
|
Investment Income Classification
|
|
Net investment income
|
|
Net investment income
|
|
|
Salus collateralized loan obligation (“CLO”)
|
|
Fixed Maturities
|
|
$
|
2,829
|
|
|
$
|
—
|
|
|
|
Salus 2013 participations
|
|
Other Invested Assets
|
|
4,367
|
|
|
—
|
|
|
|
HGI energy loan
|
|
Related Party Loans
|
|
1,575
|
|
|
—
|
|
|
|
Salus 2012 participations
|
|
Related Party Loans
|
|
261
|
|
|
1,803
|
|
|
|
Salus promissory note
|
|
Related Party Loans
|
|
353
|
|
|
353
|
|
|
|
Salus revolver
|
|
Related Party Loans
|
|
139
|
|
|
27
|
|
|
The Company’s pre-closing and closing obligations under the F&G Stock Purchase Agreement, including payment of the purchase price, were guaranteed by the Master Fund. Pursuant to the Transfer Agreement, HGI entered into a Guaranty Indemnity Agreement (the “Guaranty Indemnity”) with the Master Fund, pursuant to which HGI agreed to indemnify the Master Fund for any losses incurred by it or its representatives in connection with the Master Fund’s guaranty of the Company’s pre-closing and closing obligations under the F&G Stock Purchase Agreement.
(15) Earnings Per Share
The following table sets forth the computation of basic and diluted EPS (share amounts in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended December 31,
|
|
|
2013
|
|
2012
|
|
Net income attributable to common shares - basic and diluted
|
$
|
42,694
|
|
|
$
|
110,605
|
|
|
|
|
|
|
|
Weighted-average common shares outstanding - basic
|
49,142
|
|
|
47,000
|
|
|
Dilutive effect of unvested restricted stock and unvested performance restricted stock
|
119
|
|
|
—
|
|
|
Dilutive effect of stock options
|
3
|
|
|
—
|
|
|
Weighted-average shares outstanding - diluted
|
49,264
|
|
|
47,000
|
|
|
|
|
|
|
|
Net income per common share:
|
|
|
|
|
Basic
|
$
|
0.87
|
|
|
$
|
2.35
|
|
|
Diluted
|
$
|
0.87
|
|
|
$
|
2.35
|
|
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.
(16) Insurance Subsidiary Financial Information and Regulatory Matters
The Company’s insurance subsidiaries file financial statements with state insurance regulatory authorities and the National Association of Insurance Commissioners (“NAIC”) that are prepared in accordance with Statutory Accounting Principles (“SAP”) prescribed or permitted by such authorities, which may vary materially from US GAAP. Prescribed SAP includes the Accounting Practices and Procedures Manual of the NAIC as well as state laws, regulations and administrative rules. Permitted SAP encompasses all accounting practices not so prescribed. The principal differences between statutory financial statements and financial statements prepared in accordance with US GAAP are that statutory financial statements do not reflect DAC and VOBA, some bond portfolios may be carried at amortized cost, assets and liabilities are presented net of reinsurance, contractholder liabilities are generally valued using more conservative assumptions and certain assets are non-admitted. Accordingly, statutory operating results and statutory capital and surplus may differ substantially from amounts reported in the US GAAP basis financial statements for comparable items
On November 1, 2013, Fidelity and Guaranty Life Insurance Company ("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 a
$11,517
decrease to statutory capital and surplus. Also, the Iowa Insurance Division granted FGL Insurance a permitted statutory accounting practice to reclassify its negative unassigned surplus balance of
$805,818
(unaudited) to additional paid in capital as of April 6, 2011, the date the Company acquired FGL Insurance, which will have the effect of setting FGL Insurance’s statutory unassigned surplus to zero as of this date. The prescribed and permitted statutory accounting practice will have no impact on the Company’s consolidated financial statements which are prepared in accordance with US GAAP.
As of
December 31, 2013
Fidelity and Guaranty Life Insurance Company of New York ("FGL NY Insurance")does not follow any prescribed or permitted statutory accounting practices that differ from the NAIC’s statutory accounting practices. However, FGL Insurance’s statutory carrying value of Raven Re reflects the effect of permitted practices Raven Re received. Raven Re is also permitted to follow Iowa prescribed practice statutory accounting for its reserves on reinsurance assumed from FGL Insurance. Without such permitted statutory accounting Raven Re’s statutory capital and surplus would be negative and its risk-based capital would fall below the minimum regulatory requirements.
On October 7, 2013 the New York State Department of Financial Services (“NYDFS”) announced an agreement with Philip A. Falcone, the Chairman and Chief Executive Officer of HGI (FGL’s ultimate parent company), HGI, FGL and FGL NY Insurance that Mr. Falcone will not exercise control, within the meaning of New York insurance law, over FGL NY Insurance or any other New York-licensed insurer for
seven years
(the “NYDFS commitment”). Under the NYDFS commitment agreement, FGL agreed to maintain FGL NY Insurance’s risk based capital ("RBC") level at no less than
225%
company action level RBC ratio, and established a trust account funded with
$18,500
of cash or eligible securities to support that agreement.