Table
of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON,
D. C. 20549
FORM 10-Q
x
Quarterly
Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the quarterly period ended
June 30, 2008
or
o
Transition
Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the transition period from
to
Commission File Number
001-11339
Protective
Life Corporation
(Exact
name of registrant as specified in its charter)
Delaware
|
|
95-2492236
|
(State or other jurisdiction of
incorporation or organization)
|
|
(IRS Employer Identification
No.)
|
2801 Highway 280 South
Birmingham, Alabama 35223
(Address
of principal executive offices and zip code)
(205) 268-1000
(Registrants
telephone number, including area code)
Indicate by check mark whether the
registrant (1) has filed all reports required to be filed by Section 13
or 15(d) of the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing requirements
for the past 90 days.
Yes
x
No
o
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer, a non-accelerated filer, or a smaller reporting
company. See definitions of large accelerated filer, accelerated filer, and
smaller reporting company in Rule 12b-2 of the Exchange Act. (Check
one):
Large
accelerated filer
x
|
Accelerated
filer
o
|
Non-accelerated
filer
o
|
Smaller
reporting company
o
|
|
|
(Do
not check if a smaller
reporting company)
|
|
Indicate by check mark whether the
registrant is a shell company (as defined in Rule 12b-2 of the Exchange
Act). Yes
o
No
x
Number of shares of Common Stock,
$0.50 par value, outstanding as of August 6, 2008: 69,881,676
Table of Contents
PROTECTIVE LIFE CORPORATION
QUARTERLY REPORT ON FORM 10-Q
FOR QUARTER ENDED JUNE 30, 2008
TABLE OF CONTENTS
2
Table
of Contents
PROTECTIVE LIFE CORPORATION
CONSOLIDATED
CONDENSED STATEMENTS OF INCOME
(Unaudited)
|
|
Three Months Ended
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
June 30,
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
(Dollars In Thousands, Except Per Share Amounts)
|
|
Revenues
|
|
|
|
|
|
|
|
|
|
Premiums and policy fees
|
|
$
|
678,873
|
|
$
|
691,165
|
|
$
|
1,341,277
|
|
$
|
1,348,182
|
|
Reinsurance ceded
|
|
(423,774
|
)
|
(422,766
|
)
|
(794,846
|
)
|
(793,763
|
)
|
Net of reinsurance ceded
|
|
255,099
|
|
268,399
|
|
546,431
|
|
554,419
|
|
Net investment income
|
|
438,941
|
|
410,436
|
|
847,406
|
|
826,118
|
|
Realized investment (losses) gains:
|
|
|
|
|
|
|
|
|
|
Derivative financial instruments
|
|
65,087
|
|
76,281
|
|
63,430
|
|
73,990
|
|
All other investments
|
|
(112,411
|
)
|
(66,609
|
)
|
(140,456
|
)
|
(53,315
|
)
|
Other income
|
|
47,983
|
|
57,452
|
|
93,492
|
|
131,244
|
|
Total revenues
|
|
694,699
|
|
745,959
|
|
1,410,303
|
|
1,532,456
|
|
Benefits and expenses
|
|
|
|
|
|
|
|
|
|
Benefits and settlement expenses, net of
reinsurance ceded:
(three months: 2008 - $403,096; 2007 - $469,449
six months: 2008 - $774,829; 2007 - $762,347)
|
|
470,344
|
|
458,949
|
|
965,020
|
|
926,734
|
|
Amortization of deferred policy acquisition
costs and value of business acquired
|
|
71,450
|
|
78,036
|
|
139,820
|
|
154,416
|
|
Other operating expenses, net of
reinsurance ceded:
(three months: 2008 - $56,290; 2007 - $72,368
six months: 2008 - $108,668; 2007 - $137,671)
|
|
95,426
|
|
107,533
|
|
194,395
|
|
216,537
|
|
Total benefits and expenses
|
|
637,220
|
|
644,518
|
|
1,299,235
|
|
1,297,687
|
|
Income before income tax
|
|
57,479
|
|
101,441
|
|
111,068
|
|
234,769
|
|
Income tax expense
|
|
19,295
|
|
36,336
|
|
37,002
|
|
79,081
|
|
Net income
|
|
$
|
38,184
|
|
$
|
65,105
|
|
$
|
74,066
|
|
$
|
155,688
|
|
|
|
|
|
|
|
|
|
|
|
Net income per share - basic
|
|
$
|
0.54
|
|
$
|
0.92
|
|
$
|
1.04
|
|
$
|
2.19
|
|
Net income per share - diluted
|
|
$
|
0.53
|
|
$
|
0.91
|
|
$
|
1.04
|
|
$
|
2.18
|
|
Cash dividends paid per share
|
|
$
|
0.235
|
|
$
|
0.225
|
|
$
|
0.46
|
|
$
|
0.44
|
|
|
|
|
|
|
|
|
|
|
|
Average share outstanding - basic
|
|
71,116,961
|
|
71,074,976
|
|
71,098,832
|
|
71,046,489
|
|
Average share outstanding - diluted
|
|
71,442,599
|
|
71,490,467
|
|
71,448,211
|
|
71,488,786
|
|
See Notes to Consolidated Condensed Financial
Statements
3
Table
of Contents
PROTECTIVE LIFE CORPORATION
CONSOLIDATED
CONDENSED BALANCE SHEETS
(Unaudited)
|
|
June 30,
|
|
December 31,
|
|
|
|
2008
|
|
2007
|
|
|
|
(Dollars In Thousands)
|
|
Assets
|
|
|
|
|
|
Investments:
|
|
|
|
|
|
Fixed maturities, at fair market value
(amortized cost: 2008 - $24,948,834; 2007 - $23,448,784)
|
|
$
|
24,097,693
|
|
$
|
23,389,069
|
|
Equity securities, at fair market value
(cost: 2008 - $381,883; 2007 - $112,406)
|
|
357,672
|
|
117,037
|
|
Mortgage loans
|
|
3,523,121
|
|
3,284,326
|
|
Investment real estate, net of accumulated
depreciation (2008 - $369; 2007 - $283)
|
|
7,834
|
|
8,026
|
|
Policy loans
|
|
805,105
|
|
818,280
|
|
Other long-term investments
|
|
222,770
|
|
185,892
|
|
Short-term investments
|
|
839,973
|
|
1,236,443
|
|
Total investments
|
|
29,854,168
|
|
29,039,073
|
|
Cash
|
|
107,367
|
|
146,152
|
|
Accrued investment income
|
|
294,908
|
|
291,734
|
|
Accounts and premiums receivable, net of
allowance for uncollectible amounts (2008 - $2,605; 2007 - $3,587)
|
|
139,123
|
|
87,883
|
|
Reinsurance receivables
|
|
5,203,089
|
|
5,089,100
|
|
Deferred policy acquisition costs and value
of business acquired
|
|
3,629,243
|
|
3,400,493
|
|
Goodwill
|
|
116,307
|
|
117,366
|
|
Property and equipment, net of accumulated
depreciation (2008 - $114,066; 2007 - $111,213)
|
|
40,924
|
|
42,795
|
|
Other assets
|
|
163,752
|
|
144,296
|
|
Income tax receivable
|
|
120,248
|
|
165,741
|
|
Assets related to separate accounts
|
|
|
|
|
|
Variable annuity
|
|
2,641,203
|
|
2,910,606
|
|
Variable universal life
|
|
325,745
|
|
350,802
|
|
Total Assets
|
|
$
|
42,636,077
|
|
$
|
41,786,041
|
|
Liabilities
|
|
|
|
|
|
Policy liabilities and accruals
|
|
$
|
17,994,864
|
|
$
|
17,429,307
|
|
Stable value product account balances
|
|
5,442,022
|
|
5,046,463
|
|
Annuity account balances
|
|
8,886,520
|
|
8,708,383
|
|
Other policyholders funds
|
|
405,653
|
|
307,950
|
|
Securities sold under repurchase agreements
|
|
360,000
|
|
|
|
Other liabilities
|
|
1,321,202
|
|
1,204,018
|
|
Deferred income taxes
|
|
317,531
|
|
512,156
|
|
Non-recourse funding obligations
|
|
1,375,000
|
|
1,375,000
|
|
Liabilities related to variable interest
entities
|
|
400,000
|
|
400,000
|
|
Long-term debt
|
|
559,852
|
|
559,852
|
|
Subordinated debt securities
|
|
524,743
|
|
524,743
|
|
Liabilities related to separate accounts
|
|
|
|
|
|
Variable annuity
|
|
2,641,203
|
|
2,910,606
|
|
Variable universal life
|
|
325,745
|
|
350,802
|
|
Total liabilities
|
|
40,554,335
|
|
39,329,280
|
|
Commitments and contingent liabilities -
Note 3
|
|
|
|
|
|
Shareowners equity
|
|
|
|
|
|
Preferred Stock; $1 par value, shares
authorized: 4,000,000; Issued: None
|
|
|
|
|
|
Common Stock, $.50 par value, shares
authorized: 2008 and 2007 - 160,000,000 shares issued: 2008 and 2007 -
73,251,960
|
|
36,626
|
|
36,626
|
|
Additional paid-in-capital
|
|
447,914
|
|
444,765
|
|
Treasury stock, at cost (2008 - 3,387,442
shares; 2007 - 3,102,898 shares)
|
|
(27,334
|
)
|
(11,140
|
)
|
Unallocated stock in Employee Stock
Ownership Plan (2008 - 143,461 shares ; 2007 - 251,231 shares)
|
|
(474
|
)
|
(852
|
)
|
Retained earnings (includes FAS157
cumulative effect adjustment - $1,470)
|
|
2,111,232
|
|
2,067,891
|
|
Accumulated other comprehensive income
(loss):
|
|
|
|
|
|
Net unrealized (losses) gains on
investments, net of income tax: (2008 - $(252,670); 2007 - $(26,675))
|
|
(458,426
|
)
|
(45,339
|
)
|
Accumulated gain (loss) - hedging, net of
income tax: (2008 - $(3,025); 2007 - $(6,185))
|
|
(5,461
|
)
|
(12,222
|
)
|
Postretirement benefits liability
adjustment, net of income tax: (2008 - $(11,158); 2007 - $(11,622))
|
|
(22,335
|
)
|
(22,968
|
)
|
Total shareowners equity
|
|
2,081,742
|
|
2,456,761
|
|
Total liabilities and shareowners equity
|
|
$
|
42,636,077
|
|
$
|
41,786,041
|
|
See Notes to Consolidated Condensed Financial
Statements
4
Table
of Contents
PROTECTIVE LIFE CORPORATION
CONSOLIDATED
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
|
2008
|
|
2007
|
|
|
|
(Dollars In Thousands)
|
|
Cash flows from operating activities
|
|
|
|
|
|
Net income
|
|
$
|
74,066
|
|
$
|
155,688
|
|
Adjustments to reconcile net income to net
cash provided by operating activities:
|
|
|
|
|
|
Realized investment losses (gains)
|
|
77,026
|
|
(20,675
|
)
|
Amortization of deferred policy acquisition
costs and value of business acquired
|
|
139,820
|
|
154,416
|
|
Capitalization of deferred policy
acquisition costs
|
|
(190,145
|
)
|
(247,015
|
)
|
Depreciation expense
|
|
5,487
|
|
5,649
|
|
Deferred income tax
|
|
48,949
|
|
47,335
|
|
Accrued income tax
|
|
44,969
|
|
66,403
|
|
Interest credited to universal life and
investment products
|
|
510,718
|
|
494,214
|
|
Policy fees assessed on universal life and
investment products
|
|
(276,200
|
)
|
(276,383
|
)
|
Change in reinsurance receivables
|
|
(113,989
|
)
|
(263,516
|
)
|
Change in accrued investment income and
other receivables
|
|
(54,414
|
)
|
(12,062
|
)
|
Change in policy liabilities and other
policyholders funds of traditional life and health products
|
|
219,571
|
|
166,875
|
|
Trading securities:
|
|
|
|
|
|
Maturities and principal reductions of
investments
|
|
285,594
|
|
202,938
|
|
Sale of investments
|
|
615,725
|
|
1,043,473
|
|
Cost of investments acquired
|
|
(736,632
|
)
|
(1,381,788
|
)
|
Other net change in trading securities
|
|
(105
|
)
|
59,067
|
|
Change in other liabilities
|
|
287,026
|
|
185,561
|
|
Other, net
|
|
(84,930
|
)
|
(34,610
|
)
|
Net cash provided by operating activities
|
|
852,536
|
|
345,570
|
|
Cash flows from investing activities
|
|
|
|
|
|
Investments available for sale:
|
|
|
|
|
|
Maturities and principal reductions of
investments
|
|
1,028,935
|
|
719,465
|
|
Sale of investments
|
|
1,665,517
|
|
1,435,080
|
|
Cost of investments acquired
|
|
(4,766,802
|
)
|
(2,438,738
|
)
|
Mortgage loans:
|
|
|
|
|
|
New borrowings
|
|
(443,432
|
)
|
(470,517
|
)
|
Repayments
|
|
204,337
|
|
230,988
|
|
Change in investment real estate, net
|
|
181
|
|
33,990
|
|
Change in policy loans, net
|
|
13,175
|
|
20,115
|
|
Change in other long-term investments, net
|
|
10,747
|
|
(686
|
)
|
Change in short-term investments, net
|
|
325,263
|
|
484,607
|
|
Purchase of property and equipment
|
|
(3,685
|
)
|
(11,238
|
)
|
Sales of property and equipment
|
|
787
|
|
4,094
|
|
Net cash (used in) provided by investing
activities
|
|
(1,964,977
|
)
|
7,160
|
|
Cash flows from financing activities
|
|
|
|
|
|
Borrowings under line of credit
arrangements and long-term debt
|
|
|
|
69,000
|
|
Principal payments on line of credit
arrangement and long-term debt
|
|
|
|
(103,280
|
)
|
Net proceeds from securities sold under
repurchase agreements
|
|
360,000
|
|
295,051
|
|
Payments on liabilities related to variable
interest entities
|
|
|
|
(20,395
|
)
|
Issuance of non-recourse funding
obligations
|
|
|
|
175,000
|
|
Dividends to share owners
|
|
(32,196
|
)
|
(30,817
|
)
|
Investments product deposits and change in
universal life deposits
|
|
2,730,191
|
|
1,310,001
|
|
Investment product withdrawals
|
|
(1,939,231
|
)
|
(1,747,821
|
)
|
Excess tax benefits on stock based
compensation
|
|
|
|
1,653
|
|
Other financing activities, net
|
|
(45,108
|
)
|
(9,509
|
)
|
Net cash provided by (used in) financing
activities
|
|
1,073,656
|
|
(61,117
|
)
|
Change in cash
|
|
(38,785
|
)
|
291,613
|
|
Cash at beginning of period
|
|
146,152
|
|
69,516
|
|
Cash at end of period
|
|
$
|
107,367
|
|
$
|
361,129
|
|
See Notes to Consolidated Condensed Financial
Statements
5
Table
of Contents
PROTECTIVE LIFE CORPORATION
NOTES TO
CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
1.
BASIS
OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying unaudited consolidated condensed financial statements
of Protective Life Corporation and subsidiaries (the Company) have
been prepared in accordance with accounting principles generally accepted in
the United States of America (U.S. GAAP) for interim financial
information and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they
do not include all of the disclosures required by U.S. GAAP for complete
financial statements. In the opinion of
management, the accompanying financial statements reflect all adjustments
(consisting only of normal recurring items) necessary for a fair statement of
the results for the interim periods presented.
Operating results for the three and six month periods ended June 30,
2008 are not necessarily indicative of the results that may be expected for the
year ending December 31, 2008. The
year-end consolidated condensed balance sheet data was derived from audited
financial statements, but does not include all disclosures required by
U.S. GAAP. For further information,
refer to the consolidated financial statements and notes thereto included in
the Companys Annual Report on Form 10-K for the year ended December 31,
2007.
Accounting Pronouncements Recently Adopted
Financial Accounting Standards Board (FASB)
Statement No. 157,
Fair Value Measurement
(SFAS No. 157)
.
In September 2006, the FASB issued SFAS No. 157. On January 1, 2008, the Company
adopted this Statement, which defines fair value, establishes a framework for
measuring fair value, establishes a fair value hierarchy based on the quality
of inputs used to measure fair value and enhances disclosure requirements for
fair value measurements. The adoption of
SFAS No. 157 did not have a material impact on the Companys consolidated
financial statements. Additionally, on January 1,
2008, the Company elected the partial adoption of SFAS No. 157 under the
provisions of FASB Staff Position (FSP) FAS 157-2, which amends SFAS No. 157
to allow an entity to delay the application of this Statement until periods
beginning January 1, 2009 for certain non-financial assets and
liabilities. Under the provisions of
this FSP, the Company will delay the application of SFAS No. 157 for fair
value measurements used in the impairment testing of goodwill and
indefinite-lived intangible assets and eligible non-financial assets and
liabilities included within a business combination. In January 2008, FASB also issued
proposed FSP FAS 157-c that would amend SFAS No. 157 to clarify the
principles on fair value measurement of liabilities. Management is monitoring the status of this
proposed FSP for any impact on the Companys consolidated financial statements.
SFAS No. 157 defines fair value as the price that would be
received to sell an asset or paid to transfer a liability in an orderly
transaction between market participants at the measurement date. In determining fair value, the Company uses
various methods including market, income and cost approaches. The Company utilizes valuation techniques
that maximize the use of observable inputs and minimizes the use of
unobservable inputs. For more
information, see Note 10,
Fair Value of Financial
Instruments
.
FASB Statement No. 159,
The Fair Value Option for Financial Assets and Financial Liabilities
(SFAS No. 159)
.
In February 2007, the FASB issued SFAS No. 159. This Statement provides entities the option
to measure certain financial assets and financial liabilities at fair value
with changes in fair value recognized in earnings each period. SFAS No. 159 permits the fair value
option election on an instrument-by-instrument basis at initial recognition of
an asset or liability or upon an event that gives rise to a new basis of
accounting for that instrument. The
Company adopted SFAS No. 159 as of January 1, 2008. The Company has elected not to apply the
provisions of SFAS No. 159 to its eligible financial assets and financial
liabilities on the date of adoption. Accordingly, the initial application of
SFAS No. 159 had no effect on the Companys consolidated results of
operations or financial position.
6
Table
of Contents
FASB Staff Position (FSP) FIN 39-1,
Amendment of FASB Interpretation No. 39 (FSP FIN39-1)
.
As of January 1, 2008, the Company
adopted FSP FIN39-1. This FSP amends FIN
39,
Offsetting of Amounts Related to Certain Contracts
,
to allow fair value amounts recognized for collateral to be offset against fair
value amounts recognized for derivative instruments that are executed with the
same counterparty under certain circumstances.
The FSP also requires an entity to disclose the accounting policy
decision to offset, or not to offset, fair value amounts in accordance with FIN
39, as amended. The Company does not,
and has not previously, offset the fair value amounts recognized for
derivatives with the amounts recognized as collateral.
Accounting
Pronouncements Not Yet Adopted
FASB Statement No. 141(R),
Business Combinations (SFAS No. 141(R))
.
In December of
2007, the FASB issued SFAS No. 141(R).
This Statement is a revision to the original Statement and continues the
movement toward a greater use of fair values in financial reporting. It changes
how business acquisitions are accounted for and will impact financial
statements at the acquisition date and in subsequent periods. Further, certain of the changes will
introduce more volatility into earnings and thus may impact a companys
acquisition strategy. SFAS No. 141(R) will
also impact the annual goodwill impairment test associated with acquisitions
that close both before and after the effective date of this Statement. Thus, any potential goodwill impact from an
acquisition that closed prior to the effective date of the Statement will need
to be assessed under the provisions of SFAS No. 141(R). This Statement applies prospectively to
business combinations for which the acquisition date is on or after the
beginning of the first annual reporting period beginning on or after December 15,
2008.
FASB Statement No. 160,
Noncontrolling Interests in Consolidated Financial Statements (SFAS No. 160)
. In December of 2007, the FASB issued
SFAS No. 160. This Statement applies
to all entities that prepare consolidated financial statements, except
not-for-profit organizations, but will affect only those entities that have an
outstanding noncontrolling interest in one or more subsidiaries or that
deconsolidate a subsidiary. This
statement is effective for fiscal years, and interim periods within those
fiscal years, beginning on or after December 15, 2008 (that is, January 1,
2009, for entities with calendar year-ends).
The Company does not expect this Statement to have a significant impact
on its consolidated results of operations or financial position.
FASB
Statement No. 161,
Disclosures about
Derivative Instruments and Hedging Activities (SFAS No. 161)
. In March of 2008, the FASB issued SFAS No. 161. This Statement requires enhanced disclosures
about how and why an entity uses derivative instruments, how derivative
instruments and related hedged items are accounted for under FASB Statement No. 133,
Accounting Derivative Instruments and Hedging
Activities
(SFAS No. 133). This statement is effective for fiscal years
and interim periods beginning after November 15, 2008. The Statement will be effective for the
Company beginning January 1, 2009.
The Company is currently evaluating the impact, if any, that SFAS No. 161
will have on its consolidated results of operations or financial position.
FSP
No. 140-3,
Accounting for Transfers of Financial Assets
and Repurchase Financing Transactions (FAS No. 140-3)
.
In February of 2008, the FASB issued FSP
No. 140-3 to provide guidance on accounting for a transfer of a financial
asset and a repurchase financing, which is not directly addressed by FASB
Statement No. 140,
Accounting for Transfers
and
Servicing of Financial Assets and
Extinguishments of Liabilities
(SFAS No. 140). This FSP is effective for fiscal years
beginning after November 15, 2008, and interim periods within those fiscal
years. The FSP will be effective for the
Company beginning January 1, 2009.
The Company is currently evaluating the impact, if any, that this FSP
will have on its consolidated results of operations or financial position.
FSP
No. 142-3,
Determination of the Useful Life of
Intangible Assets (FAS No. 142-3)
.
In April of 2008, the FASB issued FSP No. 142-3
to improve consistency between the useful life of a recognized intangible asset
under SFAS No. 142,
Goodwill and Other
Intangible Assets
, and the period of expected cash flows used to
measure the fair value of the asset under SFAS No. 141 (revised 2007),
Business Combinations, and other guidance under U.S. GAAP. This FSP is effective for fiscal years
beginning after December 15, 2008, and interim periods within those fiscal
years. The FSP will be effective for the
Company beginning January 1, 2009.
The Company does not expect this FSP to have a significant impact on its
consolidated results of operations or financial position.
FASB Statement No. 162,
The Hierarchy of Generally Accepted Accounting Principles (SFAS No. 162)
. In May of 2008, the FASB issued SFAS No. 162. This Statement identifies the sources of
accounting principles and the framework for selecting the principles to be used
in the preparation of financial statements of nongovernmental entities that are
presented in conformity with generally accepted accounting principles (GAAP)
in the United States (the GAAP hierarchy).
This Statement is effective sixty days following the United States
Securities and Exchange Commissions approval of the Public Company Accounting
Oversight Board amendments to AU Section 411,
The Meaning
of Present
7
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Fairly in Conformity With Generally Accepted
Accounting Principles
.
The Company does not expect this Statement to have a significant impact
on its consolidated results of operations or financial position.
FASB
Statement No. 163,
Accounting for Financial
Guarantee Insurance Contracts (SFAS No. 163)
. In May of 2008, the FASB issued SFAS No. 163. This Statement requires that an insurance
enterprise recognize a claim liability prior to an event of default (insured
event) when there is evidence that credit deterioration has occurred in an
insured financial obligation. This
Statement also clarifies how FASB Statement No. 60,
Accounting
and Reporting by Insurance Enterprises
, (SFAS No. 60),
applies to financial guarantee insurance contracts, including the recognition
and measurement to be used to account for premium revenue and claim
liabilities. It also requires expanded
disclosures about financial guarantee insurance contracts. This Statement does not apply to financial
guarantee insurance contracts that would be within the scope of SFAS No. 133. This Statement is effective for fiscal years
and interim periods beginning after December 15, 2008. The standard will be effective for the
Company beginning January 1, 2009. The Company does not expect this Statement to
have a significant impact on its consolidated results of operations or
financial position.
FSP EITF
03-6-1, Determining Whether Instruments Granted in Share-Based Payment
Transactions Are Participating Securities (FSP EITF 03-6-1)
.
In June of
2008, the FASB issued FSP EITF 03-6-1.
This FSP addresses whether instruments granted in share-based payment
transactions are participating securities prior to vesting and, therefore, need
to be included in the earnings allocation in computing earnings per share
(EPS) under the two-class method described in paragraphs 60 and 61 of FASB
Statement No. 128,
Earnings per Share
. The FSP will be effective for financial
statements issued for fiscal years and interim periods beginning after December 15,
2008. All prior period EPS data
presented shall be adjusted retrospectively to conform to the provisions of
this FSP. The Company is currently
evaluating the impact of this FSP, but does not expect it to have a significant
impact on its consolidated results of operations or financial position.
Reclassifications
Certain reclassifications have been made in the previously reported
financial statements and accompanying notes to make the prior period amounts
comparable to those of the current period.
Such reclassifications had no effect on previously reported net income
or shareowners equity.
Significant Accounting Policies
Valuation of investment securities
The fair value for fixed maturity, short
term, and equity securities, is determined by management after considering and
evaluating one of three primary sources of information: third party pricing
services, independent broker quotations, or pricing matrices. Security pricing is applied using a
waterfall approach whereby publicly available prices are first sought from
third party pricing services, the remaining unpriced securities are submitted
to independent brokers for prices, or lastly, securities are priced using a
pricing matrix. Typical inputs used by
these three pricing methods include, but are not limited to: reported trades,
benchmark yields, issuer spreads, bids, offers, and/or estimated cash flows and
rates of prepayments. Based on the
typical trading volumes and the lack of quoted market prices for fixed
maturities, third party pricing services will normally derive the security
prices through recent reported trades for identical or similar securities
making adjustments through the reporting date based upon available market
observable information as outlined above.
If there are no recent reported trades, the third party pricing services
and brokers may use matrix or model processes to develop a security price where
future cash flow expectations are developed based upon collateral performance
and discounted at an estimated market rate.
Included in the pricing of asset backed securities (ABS), collateralized
mortgage obligations (CMOs), and mortgage-backed securities (MBS) are
estimates of the rate of future prepayments of principal over the remaining
life of the securities. Such estimates are derived based on the characteristics
of the underlying structure and rates of prepayments previously experienced at
the interest rate levels projected for the underlying collateral.
8
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Determining whether a decline in the current fair value of invested
assets is an other-than-temporary decline in value can involve a variety of
assumptions and estimates, particularly for investments that are not actively
traded in established markets. For
example, assessing the value of certain investments requires that we perform an
analysis of expected future cash flows or rates of prepayments. Other investments, such as collateralized
mortgage or bond obligations, represent selected tranches of a structured
transaction, supported in the aggregate by underlying investments in a wide
variety of issuers. Management considers
a number of factors when determining the impairment status of individual
securities. These include the economic
condition of various industry segments and geographic locations and other areas
of identified risks. Although it is
possible for the impairment of one investment to affect other investments, we
engage in ongoing risk management to safeguard against and limit any further
risk to our investment portfolio.
Special attention is given to correlative risks within specific
industries, related parties, and business markets. We generally consider a
number of factors in determining whether the impairment is other-than-temporary. These include, but are not limited to:
1) actions taken by rating agencies, 2) default by the issuer,
3) the significance of the decline in fair value, 4) the intent and
ability to hold the investment until recovery, 5) the time period during
which the decline has occurred, 6) an economic analysis of the issuers
industry, and 7) the financial strength, liquidity, and recoverability of
the issuer. Management performs a
security-by-security review each quarter in evaluating the need for any
other-than-temporary impairments.
Although no set formula is used in this process, the investment
performance, collateral position, and continued viability of the issuer are
significant measures considered.
For the six months ended June 30, 2008, the Company recorded
pre-tax other-than-temporary impairments of $80.0 million in our investments
compared to less than $0.1 million for the six months ended June 30,
2007. The impairments occurred during
the three months ended June 30, 2008, and related to residential
mortgage-backed securities collateralized by Alt-A mortgages. The decline in
the estimated fair value of these securities resulted from factors including
downgrades in rating, interest rate changes, and the current distressed credit
markets. These other-than-temporary impairments resulted from our analysis of
circumstances and our belief that credit events, loss severity, changes in
credit enhancement, and/or other adverse conditions of the respective issuers
have caused, or will lead to, a deficiency in the contractual cash flows
related to these investments. For more
information on impairments, refer to Item 2,
Managements Discussion and Analysis of Financial Condition and Results
of Operations.
Reinsurance
The Company uses reinsurance extensively in
certain of its segments. The following summarizes some of the key aspects of
the Companys accounting policies for reinsurance:
Reinsurance
Accounting Methodology
The Company accounts for reinsurance under the provisions of FASB
Statement No. 113,
Accounting and Reporting
for Reinsurance of Short-Duration and Long-Duration Contracts
(SFAS
No. 113). The methodology for
accounting for the impact of reinsurance on the Companys life insurance and
annuity products is determined by whether the specific products are subject to
SFAS No. 60 or FASB Statement No. 97,
Accounting
and Reporting by Insurance Enterprises for Certain Long-Duration Contracts and
for Realized Gains and Losses from the Sale of Investments
(SFAS No. 97).
The Companys traditional life insurance
products are subject to SFAS No. 60 and the recognition of the impact of
reinsurance costs on the Companys financial statements reflect the
requirements of that pronouncement. Ceded premiums are treated as an offset to
direct premium and policy fee revenue and are recognized when due to the
assuming company. Ceded claims are treated as an offset to direct benefits and
settlement expenses and are recognized when the claim is incurred on a direct
basis. Ceded policy reserve changes are also treated as an offset to benefits
and settlement expenses and are recognized during the applicable financial
reporting period. Expense allowances paid by the assuming companies are treated
as an offset to other operating expenses. Since reinsurance treaties typically
provide for allowance percentages that decrease over the lifetime of a policy,
allowances in excess of the ultimate or final level allowance are
capitalized. Amortization of capitalized reinsurance expense allowances is
treated as an offset to direct amortization of deferred policy acquisition
costs or value of business acquired (VOBA). Amortization of deferred expense
allowances is calculated as a level percentage of expected premiums in all
durations given expected future lapses and mortality and accretion due to
interest.
9
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The Companys short duration insurance
contracts (primarily issued through the Asset Protection segment) are also subject
to SFAS No. 60 and the recognition of the impact of reinsurance costs on
the Companys financial statements also reflect the requirements of that
pronouncement.
Reinsurance
allowances include such acquisition costs as commissions and premium
taxes. A ceding fee is also collected to
cover other administrative costs and profits for the Company. Reinsurance allowances received are
capitalized and charged to expense in proportion to premiums earned. Ceded unamortized acquisition costs are
netted with direct unamortized acquisition costs in the balance sheet.
The Companys universal life, variable
universal life, bank-owned life insurance (BOLI), and annuity products are
subject to SFAS No. 97 and the recognition of the impact of reinsurance
costs on the Companys financial statements reflect the requirements of that
pronouncement. Ceded premiums and policy
fees on SFAS No. 97 products reduce premiums and policy fees recognized by
the Company. Ceded claims are treated as an offset to direct benefits and
settlement expenses and are recognized when the claim is incurred on a direct
basis. Ceded policy reserve changes are also treated as an offset to benefits
and settlement expenses and are recognized during the applicable valuation
period. Commission and expense allowances paid by the assuming companies are
treated as an offset to other operating expenses. Since reinsurance treaties
typically provide for allowance percentages that decrease over the lifetime of
a policy, allowances in excess of the ultimate or final level allowance are
capitalized. Amortization of
capitalized reinsurance expense allowances are amortized based on future
expected gross profits according to SFAS No. 97. Unlike with SFAS No. 60
products, assumptions for SFAS No. 97 regarding mortality, lapses and
interest are continuously reviewed and may be periodically changed. These
changes will result in unlocking which change the balance in the ceded
deferred amortization cost and can affect the amortization of deferred
acquisition cost and VOBA. Ceded unearned revenue liabilities are also
amortized based on expected gross profits. Assumptions for SFAS No. 97
products are based on the best current estimate of expected mortality, lapses
and interest spread. The Company complies with AICPA Statement of Position
03-1,
Accounting and Reporting by Insurance Enterprises
for Certain Nontraditional Long-Duration Contracts and for Separate Accounts
,
which impacts the timing of direct and ceded earnings on certain blocks of the
Companys SFAS No. 97 business.
Reinsurance Allowances -
The amount and timing of reinsurance
allowances (both first year and renewal allowances) are contractually
determined by the applicable reinsurance contract
and
may or may not bear a relationship to the amount and incidence of expenses
actually paid by the ceding company.
Many of the Companys reinsurance treaties do, in fact, have ultimate
renewal allowances that exceed the direct ultimate expenses. Additionally, allowances are intended to
reimburse the ceding company for some portion of the ceding companys
commissions, expenses, and taxes. As a
result, first year expenses paid by the Company may be higher than first year
allowances paid by the reinsurer, and reinsurance allowances may be higher in
later years than renewal expenses paid by the Company.
The Company recognizes allowances according
to the prescribed schedules in the reinsurance contracts, which may or may not
bear a relationship to actual expenses incurred by the Company. A portion of these allowances is deferred
while the non-deferrable allowances are recognized immediately as a reduction
of other operating expenses. The
Companys practice is to defer reinsurance allowances in excess of the ultimate
allowance. This practice is consistent
with the Companys practice of capitalizing direct expenses. While the recognition of reinsurance
allowances is consistent with U.S. GAAP, in some cases non-deferred
reinsurance allowances may exceed non-deferred direct costs, which may cause
net other operating expenses to be negative.
Ultimate reinsurance allowances are defined
as the lowest allowance percentage paid by the reinsurer in any policy duration
over the lifetime of a universal life policy (or through the end of the level
term period for a traditional life policy).
The Company determines ultimate allowances as the final amount to be
paid over the life of a contract after higher acquisition related expenses
(whether first year or renewal) are completed.
Ultimate reinsurance allowances are determined by the reinsurer and set
by the individual contract of each treaty during the initial negotiation of
each such contract. Ultimate reinsurance
allowances and other treaty provisions are listed within each treaty and will
differ between agreements since each reinsurance contract is a separately
negotiated agreement. The Company uses
the ultimate reinsurance allowances set by the reinsurers and contained within
each treaty agreement to complete its accounting responsibilities.
10
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Amortization of Reinsurance Allowances -
Reinsurance allowances do not affect the
methodology used to amortize DAC and VOBA, or the period over which such DAC
and VOBA are amortized. Reinsurance
allowances offset the direct expenses capitalized, reducing the net amount that
is capitalized. The amortization pattern
varies with changes in estimated gross profits arising from the
allowances. DAC and VOBA on SFAS No. 60
policies are amortized based on the pattern of estimated gross premiums of the
policies in force. Reinsurance
allowances do not affect the gross premiums, so therefore they do not impact
SFAS No. 60 amortization patterns.
DAC and VOBA on SFAS No. 97 products are amortized based on the
pattern of estimated gross profits of the policies in force. Reinsurance allowances are considered in the
determination of estimated gross profits, and therefore do impact SFAS No. 97
amortization patterns.
Reinsurance Liabilities -
Claim liabilities and policy benefits are
calculated consistently for all policies in accordance with U.S. GAAP,
regardless of whether or not the policy is reinsured. Once the claim liabilities and policy
benefits for the underlying policies are estimated, the amounts recoverable
from the reinsurers are estimated based on a number of factors including the
terms of the reinsurance contracts, historical payment patterns of reinsurance
partners, and the financial strength and credit worthiness of reinsurance
partners. Liabilities for unpaid
reinsurance claims are produced from claims and reinsurance system records,
which contain the relevant terms of the individual reinsurance contracts. The
Company monitors claims due from reinsurers to ensure that balances are settled
on a timely basis. Incurred but not reported claims are reviewed by the
Companys actuarial staff to ensure that appropriate amounts are ceded.
The Company analyzes and monitors the credit
worthiness of each of its reinsurance partners to minimize collection issues.
For newly executed reinsurance contracts with reinsurance companies that do not
meet predetermined standards, the Company requires collateral such as assets
held in trusts or letters of credit.
Components of Reinsurance Cost -
The following income statement lines are
affected by reinsurance cost:
Premiums and policy fees
(reinsurance ceded on the Companys financial statements)
represent consideration paid to the assuming
company for accepting the ceding companys risks. Ceded premiums and policy
fees increase reinsurance cost.
Benefits and settlement
expenses
include incurred claim amounts ceded and changes in policy reserves. Ceded
benefits and settlement expenses decrease reinsurance cost.
Amortization of deferred policy
acquisition cost and VOBA
reflects the amortization of capitalized reinsurance allowances. Ceded amortization decreases reinsurance
cost.
Other expenses
include reinsurance allowances paid by
assuming companies to the Company less amounts capitalized. Non-deferred reinsurance allowances decrease
reinsurance cost.
The Companys reinsurance programs do not
materially impact the other income line of the Companys income statement. In
addition, net investment income generally has no direct impact on the Companys
reinsurance cost. However, it should be noted that by ceding business to the
assuming companies, the Company forgoes investment income on the reserves ceded
to the assuming companies. Conversely, the assuming companies will receive
investment income on the reserves assumed which will increase the assuming
companies profitability on business assumed from the Company.
11
Table
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Insurance liabilities and reserves
Establishing an adequate liability for the Companys obligations to
policyholders requires the use of assumptions.
Estimating liabilities for future policy benefits on life and health
insurance products requires the use of assumptions relative to future
investment yields, mortality, morbidity, persistency and other assumptions
based on the Companys historical experience, modified as necessary to reflect
anticipated trends and to include provisions for possible adverse
deviation. Determining liabilities for
the Companys property and casualty insurance products also requires the use of
assumptions, including the projected levels of used vehicle prices, the
frequency and severity of claims, and the effectiveness of internal processes
designed to reduce the level of claims.
The Companys results depend significantly upon the extent to which its
actual claims experience is consistent with the assumptions the Company used in
determining its reserves and pricing its products. The Companys reserve assumptions and
estimates require significant judgment and, therefore, are inherently
uncertain. The Company cannot determine
with precision the ultimate amounts that it will pay for actual claims or the
timing of those payments. In addition, effective January 1, 2007, the
Company adopted FASB Statement No. 155,
Accounting
for Certain Hybrid Financial Instruments an amendment of FASB Statements No. 133
and 140
(SFAS No. 155)
,
related to
its equity indexed annuity product. SFAS No. 155 requires that the Company
determine a fair value for the liability related to this block of business at
each balance sheet date, with changes in the fair value recorded through
earnings. Changes in this liability may
be significantly affected by interest rate fluctuations.
As a result
of the adoption of SFAS No. 157 at January 1, 2008, the Company made
certain modifications to the method used to determine fair value for its
liability related to equity indexed annuities to take into consideration
factors such as policyholder behavior, the Companys credit rating and other
market considerations. The impact of
adopting SFAS No. 157 is discussed further in Note 10,
Fair Value of Financial Instruments
.
Guaranteed minimum withdrawal benefits
The Company also establishes liabilities for guaranteed minimum
withdrawal benefits (GMWB) on its variable annuity products. The GMWB is valued in accordance with SFAS No. 133
which requires the liability to be marked-to-market using current implied
volatilities for the equity indices. The
methods used to estimate the liabilities employ assumptions, primarily about
mortality and lapses, equity market and interest returns, market volatility and
the Companys credit rating. The Company
assumes mortality of 65% of the National Association of Insurance Commissioners
1994 Variable Annuity GMDB Mortality Table. Differences between the actual experience and
the assumptions used result in variances in profit and could result in losses.
As a result of the adoption of SFAS
No. 157 at January 1, 2008, the Company made certain modifications to
the method used to determine fair value for its liability related embedded
derivatives related to annuities with guaranteed minimum withdrawal benefits to
take into consideration factors such as policyholder behavior, the Companys
credit rating and other market considerations.
See Note 10,
Fair Value of Financial
Instruments
for more information related to the impact of adopting
SFAS No. 157.
12
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2.
NON-RECOURSE
FUNDING OBLIGATIONS
Non-recourse
funding obligations outstanding as of June 30, 2008, listed by issuer, are
reflected in the following table:
|
|
|
|
|
|
Year-to-Date
|
|
|
|
|
|
|
|
Weighted-Avg
|
|
Issuer
|
|
Balance
|
|
Maturity Year
|
|
Interest Rate
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
Golden Gate Captive Insurance Company
|
|
$
|
800,000
|
|
2037
|
|
5.13
|
%
|
Golden Gate II Captive Insurance Company
|
|
575,000
|
|
2052
|
|
4.03
|
%
|
Total
|
|
$
|
1,375,000
|
|
|
|
|
|
3.
COMMITMENTS
AND CONTINGENT LIABILITIES
The Company is contingently liable to obtain a $20 million letter
of credit under indemnity agreements with directors. Such agreements provide insurance protection
in excess of the directors and officers liability insurance in force at the
time up to $20 million. Should
certain events occur constituting a change in control, the Company must obtain
the letter of credit upon which directors may draw for defense or settlement of
any claim relating to performance of their duties as directors. The Company has similar agreements with
certain of its officers providing up to $10 million in indemnification
that are not secured by the obligation to obtain a letter of credit. These obligations are in addition to the
customary obligation to indemnify officers and directors contained in our
bylaws.
Under insurance guaranty fund laws, in most states insurance companies
doing business therein can be assessed up to prescribed limits for policyholder
losses incurred by insolvent companies.
The Company does not believe such assessments will be materially
different from amounts already provided for in the financial statements. Most of these laws do provide, however, that
an assessment may be excused or deferred if it would threaten an insurers own
financial strength.
A number of
civil jury verdicts have been returned against insurers, broker dealers and
other providers of financial services involving sales, refund or claims
practices, alleged agent misconduct, failure to properly supervise
representatives, relationships with agents or persons with whom the insurer
does business, and other matters. Often
these lawsuits have resulted in the award of substantial judgments that are
disproportionate to the actual damages, including material amounts of punitive
and non-economic compensatory damages.
In some states, juries, judges, and arbitrators have substantial
discretion in awarding punitive non-economic compensatory damages which creates
the potential for unpredictable material adverse judgments or awards in any
given lawsuit or arbitration.
Arbitration awards are subject to very limited appellate review. In addition, in some class action and other
lawsuits, companies have made material settlement payments. The Company, like other financial service
companies, in the ordinary course of business, is involved in such litigation
and arbitration. Although the Company
cannot predict the outcome of any such litigation or arbitration, the Company
does not believe that any such outcome will have a material impact on the
financial condition or results of the operations of the Company.
13
Table of Contents
4.
STOCK-BASED COMPENSATION
Performance shares awarded during the first six months of 2008 and
2007, and their estimated fair value at grant date are as follows:
Year
|
|
Performance
|
|
Estimated
|
|
Year
|
|
Performance
|
|
Estimated
|
|
Awarded
|
|
Shares
|
|
Fair Value
|
|
Awarded
|
|
Shares
|
|
Fair Value
|
|
(Dollars In Thousands, Except Share Amounts)
|
|
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
75,900
|
|
$
|
2,900
|
|
2007
|
|
64,700
|
|
$
|
2,800
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The criteria for payment of performance awards is based primarily upon
a comparison of the Companys average return on average equity (earlier upon
the death, disability, or retirement of the executive, or in certain
circumstances, upon a change in control of the Company) to that of a comparison
group of publicly held life and multi-line insurance companies. If the Companys results are below the median
of the comparison group (25
th
percentile for 2008 awards), no
portion of the award is earned. If the
Companys results are at or above the 90
th
percentile, the
award maximum is earned. Awards are paid
in shares of the Companys Common Stock.
During the first six months of 2008, stock appreciation
rights (SARs) were granted to certain officers of the Company to provide
long-term incentive compensation based solely on the performance of the
Companys Common Stock. The SARs are
exercisable in four equal annual installments beginning one year after the date
of grant (earlier upon the death, disability, or retirement of the officer, or
in certain circumstances, upon a change in control of the Company) and expire
after ten years or upon termination of employment. The SARs activity as well as weighted average
base price for the first six months of 2008 is as follows:
|
|
Weighted-Average
|
|
Number of
|
|
|
|
Base Price
|
|
SARs
|
|
Balance at December 31, 2007
|
|
$
|
31.98
|
|
1,262,704
|
|
SARs granted
|
|
38.59
|
|
327,500
|
|
SARs exercised
|
|
33.33
|
|
(29,006
|
)
|
Balance at June 30, 2008
|
|
$
|
33.34
|
|
1,561,198
|
|
The SARs issued in 2008 had estimated fair values at grant date of
$2.2 million. The fair value of the
2008 SARs was estimated using a Black-Scholes option pricing model. Significant assumptions used in the model for
the 2008 SARs were as follows: expected
volatility ranged from 16.4% to 22.1%, the risk-free interest rate ranged from
2.7% to 3.3%, a dividend rate of 2.1%, a 4.0% forfeiture rate, and the expected
exercise date ranged from 2013 to 2016.
The Company will pay an amount in stock equal to the difference between
the specified base price of the Companys Common Stock and the market value at
the exercise date for each SAR.
Additionally during 2008, the Company issued 13,100 restricted stock
units at an average fair value of $39.07 per unit. These awards, with a total fair value of
$0.5 million, vest ten years after the date of grant.
14
Table
of Contents
5.
DEFINED BENEFIT
PENSION PLAN AND UNFUNDED EXCESS BENEFITS PLAN
Components of the net periodic benefit cost of the Companys defined benefit
pension plan and unfunded excess benefits plan are as follows:
|
|
Three Months Ended
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
June 30,
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
|
|
|
|
|
|
Service cost - Benefits earned during the
period
|
|
$
|
2,131
|
|
$
|
2,016
|
|
$
|
5,038
|
|
$
|
4,641
|
|
Interest cost on projected benefit
obligations
|
|
2,290
|
|
2,454
|
|
5,415
|
|
4,994
|
|
Expected return on plan assets
|
|
(2,542
|
)
|
(2,645
|
)
|
(6,011
|
)
|
(5,538
|
)
|
Amortization of prior service cost
|
|
49
|
|
53
|
|
115
|
|
106
|
|
Amortization of actuarial losses
|
|
739
|
|
761
|
|
1,748
|
|
1,610
|
|
Net periodic benefit cost
|
|
$
|
2,667
|
|
$
|
2,639
|
|
$
|
6,305
|
|
$
|
5,813
|
|
The Company has not yet determined the amount, if any, that it will
contribute to its defined benefit pension plan during 2008. As of June 30, 2008, no contributions
have been made to the defined benefit pension plan.
In addition to
pension benefits, the Company provides life insurance benefits to eligible
retirees and limited healthcare benefits to eligible retirees who are not yet eligible
for Medicare. The cost of these plans
for the six months ended June 30, 2008 and 2007 was immaterial to the
Companys financial position.
15
Table of Contents
6.
EARNINGS PER SHARE
Basic earnings per share is computed by dividing net income by the
weighted-average number of common shares outstanding during the period,
including shares issuable under various deferred compensation plans. Diluted earnings per share is computed
by dividing net income by the weighted-average number of common shares and
dilutive potential common shares outstanding during the period, including
shares issuable under various stock-based compensation plans and stock purchase
contracts.
A reconciliation of the numerators and denominators of the basic and
diluted earnings per share is presented below:
|
|
Three Months Ended
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
June 30,
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
(Dollars In Thousands, Except Per Share Amounts)
|
|
Calculation of basic earnings per share:
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
38,184
|
|
$
|
65,105
|
|
$
|
74,066
|
|
$
|
155,688
|
|
|
|
|
|
|
|
|
|
|
|
Average share issued and outstanding
|
|
70,113,046
|
|
70,030,154
|
|
70,106,690
|
|
70,013,392
|
|
Issuable under various deferred
compensation plans
|
|
1,003,915
|
|
1,044,822
|
|
992,142
|
|
1,033,097
|
|
Weighted shares outstanding - Basic
|
|
71,116,961
|
|
71,074,976
|
|
71,098,832
|
|
71,046,489
|
|
|
|
|
|
|
|
|
|
|
|
Basic earnings per share
|
|
$
|
0.54
|
|
$
|
0.92
|
|
$
|
1.04
|
|
$
|
2.19
|
|
|
|
|
|
|
|
|
|
|
|
Calculation of diluted earnings per share:
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
38,184
|
|
$
|
65,105
|
|
$
|
74,066
|
|
$
|
155,688
|
|
|
|
|
|
|
|
|
|
|
|
Weighted shares outstanding - Basic
|
|
71,116,961
|
|
71,074,976
|
|
71,098,832
|
|
71,046,489
|
|
Stock appreciation rights (SARs)
(1)
|
|
198,789
|
|
251,586
|
|
188,704
|
|
258,050
|
|
Issuable under various other stock-based compensation
plans
|
|
126,849
|
|
163,905
|
|
160,675
|
|
184,247
|
|
Weighted shares outstanding - Diluted
|
|
71,442,599
|
|
71,490,467
|
|
71,448,211
|
|
71,488,786
|
|
|
|
|
|
|
|
|
|
|
|
Diluted earnings per share
|
|
$
|
0.53
|
|
$
|
0.91
|
|
$
|
1.04
|
|
$
|
2.18
|
|
(1)
|
Excludes 680,920 and
331,450 SARs as of June 30, 2008 and 2007, respectively, that are
antidilutive. In the event the average
market price exceeds the issue price of the SARs, such right would be
dilutive to the Companys earnings per share and will be included in the
Companys calculation of the diluted average shares outstanding.
|
16
Table
of Contents
7.
COMPREHENSIVE
INCOME
The following table sets forth the Companys comprehensive income
(loss) for the periods presented below:
|
|
Three Months Ended
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
June 30,
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
(Dollars In Thousands)
|
|
Net income
|
|
$
|
38,184
|
|
$
|
65,105
|
|
$
|
74,066
|
|
$
|
155,688
|
|
Change in net unrealized gains on
investments, net of income tax:
(three months: 2008 - $(90,822); 2007 - $(94,717)
six months: 2008 - $(246,404); 2007 - $(80,332))
|
|
(167,889
|
)
|
(172,728
|
)
|
(450,670
|
)
|
(146,496
|
)
|
Change in accumulated gain-hedging, net of
income tax:
(three months: 2008 - $9,363; 2007 - $(2,162)
six months: 2008 - $3,418; 2007 - $(947))
|
|
17,468
|
|
(3,899
|
)
|
6,760
|
|
(1,708
|
)
|
Minimum pension liability adjustment, net
of income tax:
(three months: 2008 - $160; 2007 - $0
six months: 2008 - $316; 2007 - $0)
|
|
317
|
|
|
|
633
|
|
|
|
Reclassification adjustment for investment
amounts included in net income, net of income tax:
(three months: 2008 - $23,440; 2007 - $(118)
six months: 2008 - $20,409; 2007 - $(1,743))
|
|
43,093
|
|
(215
|
)
|
37,583
|
|
(3,178
|
)
|
Reclassification adjustment for hedging
amounts included in net income, net of income tax:
(three months: 2008 - $601; 2007 - $(136)
six months: 2008 - $338; 2007 - $(101))
|
|
737
|
|
(244
|
)
|
1
|
|
(181
|
)
|
Comprehensive income (loss)
|
|
$
|
(68,090
|
)
|
$
|
(111,981
|
)
|
$
|
(331,627
|
)
|
$
|
4,125
|
|
8.
OPERATING
SEGMENTS
The Company operates several business segments each having a strategic
focus. An operating segment is generally
distinguished by products and/or channels of distribution. A brief description of each segment follows.
·
The Life
Marketing segment markets level premium term insurance (traditional),
universal life (UL), variable universal life and BOLI products on a national
basis primarily through networks of independent insurance agents and brokers,
stockbrokers, and independent marketing organizations.
·
The Acquisitions
segment focuses on acquiring, converting, and servicing policies acquired from
other companies. The segments primary
focus is on life insurance policies and annuity products that were sold to individuals.
·
The Annuities
segment manufactures, sells, and supports fixed and variable annuity
products. These products are primarily
sold through stockbrokers, but are also sold through financial institutions and
independent agents and brokers.
·
The Stable Value
Products segment sells guaranteed funding agreements to special purpose
entities that in turn issue notes or certificates in smaller, transferable
denominations. The segment also markets
fixed and floating rate funding agreements directly to the trustees of
municipal bond proceeds, institutional investors, bank trust departments, and
money market funds. Additionally, the
segment markets guaranteed investment contracts (GICs) to 401(k) and
other qualified retirement savings plans.
·
The Asset
Protection segment primarily markets extended service contracts and credit life
and disability insurance to protect consumers investments in automobiles,
watercraft, and recreational vehicles.
In addition, the segment markets a guaranteed asset protection product
and an inventory protection product.
17
Table
of Contents
·
The Corporate
and Other segment primarily consists of net investment income and expenses not
attributable to the segments above (including net investment income on capital
and interest on debt). This segment also
includes earnings from several non-strategic lines of business (primarily
cancer insurance, residual value insurance, surety insurance, and group
annuities), various investment-related transactions, and the operations of
several small subsidiaries.
The Company uses the same accounting policies and procedures to measure
segment operating income and assets as it uses to measure consolidated net
income and assets. Segment operating
income is generally income before income tax excluding net realized investment
gains and losses (net of the related amortization of DAC/VOBA and participating
income from real estate ventures), and the cumulative effect of change in
accounting principle. Periodic
settlements of derivatives associated with corporate debt and certain
investments and annuity products are included in realized gains and losses but
are considered part of operating income because the derivatives are used to
mitigate risk in items affecting consolidated and segment operating
income. Segment operating income
represents the basis on which the performance of the Companys business is
internally assessed by management.
Premiums and policy fees, other income, benefits and settlement
expenses, and amortization of DAC/VOBA are attributed directly to each
operating segment. Net investment income
is allocated based on directly related assets required for transacting the
business of that segment. Realized
investment gains (losses) and other operating expenses are allocated to the
segments in a manner that most appropriately reflects the operations of that
segment. Investments and other assets
are allocated based on statutory policy liabilities, while DAC/VOBA and
goodwill are shown in the segments to which they are attributable.
There were no significant intersegment transactions.
18
Table
of Contents
The following tables summarize financial information for the Companys
segments. Asset adjustments represent
the inclusion of assets related to discontinued operations:
|
|
Three Months Ended
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
June 30,
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
(Dollars In Thousands)
|
|
Revenues
|
|
|
|
|
|
|
|
|
|
Life Marketing
|
|
$
|
235,067
|
|
$
|
235,205
|
|
$
|
495,986
|
|
$
|
505,744
|
|
Acquisitions
|
|
200,942
|
|
227,448
|
|
406,577
|
|
459,152
|
|
Annuities
|
|
95,956
|
|
77,724
|
|
178,216
|
|
151,478
|
|
Stable Value Products
|
|
79,570
|
|
70,895
|
|
163,364
|
|
151,421
|
|
Asset Protection
|
|
75,343
|
|
82,218
|
|
148,276
|
|
162,241
|
|
Corporate and Other
|
|
7,821
|
|
52,469
|
|
17,884
|
|
102,420
|
|
Total revenues
|
|
$
|
694,699
|
|
$
|
745,959
|
|
$
|
1,410,303
|
|
$
|
1,532,456
|
|
Segment Operating Income
|
|
|
|
|
|
|
|
|
|
Life Marketing
|
|
$
|
38,127
|
|
$
|
37,834
|
|
$
|
84,576
|
|
$
|
103,114
|
|
Acquisitions
|
|
34,514
|
|
30,814
|
|
68,090
|
|
63,063
|
|
Annuities
|
|
9,487
|
|
6,669
|
|
11,976
|
|
12,275
|
|
Stable Value Products
|
|
17,545
|
|
12,355
|
|
33,761
|
|
24,541
|
|
Asset Protection
|
|
6,664
|
|
11,522
|
|
16,516
|
|
21,606
|
|
Corporate and Other
|
|
(2,093
|
)
|
(1,300
|
)
|
(32,066
|
)
|
477
|
|
Total segment operating income
|
|
104,244
|
|
97,894
|
|
182,853
|
|
225,076
|
|
Realized investment gains (losses) - investments
(1)
|
|
(111,916
|
)
|
(71,146
|
)
|
(141,035
|
)
|
(62,198
|
)
|
Realized investment gains (losses) -
derivatives
(2)
|
|
65,151
|
|
74,693
|
|
69,250
|
|
71,891
|
|
Income tax expense
|
|
(19,295
|
)
|
(36,336
|
)
|
(37,002
|
)
|
(79,081
|
)
|
Net income
|
|
$
|
38,184
|
|
$
|
65,105
|
|
$
|
74,066
|
|
$
|
155,688
|
|
(1)
Realized
investment gains (losses) - investments
|
|
$
|
(112,411
|
)
|
$
|
(66,609
|
)
|
$
|
(140,456
|
)
|
$
|
(53,315
|
)
|
Less: participating income from real estate
ventures
|
|
|
|
3,707
|
|
|
|
6,857
|
|
Less: related amortization of DAC
|
|
(495
|
)
|
830
|
|
579
|
|
2,026
|
|
|
|
$
|
(111,916
|
)
|
$
|
(71,146
|
)
|
$
|
(141,035
|
)
|
$
|
(62,198
|
)
|
|
|
|
|
|
|
|
|
|
|
(2)
Realized
investment gains (losses) - derivatives
|
|
$
|
65,087
|
|
$
|
76,281
|
|
$
|
63,430
|
|
$
|
73,990
|
|
Less: settlements on certain interest rate
swaps
|
|
1,786
|
|
237
|
|
2,270
|
|
494
|
|
Less: derivative activity related to
certain annuities
|
|
(1,850
|
)
|
1,351
|
|
(8,090
|
)
|
1,605
|
|
|
|
$
|
65,151
|
|
$
|
74,693
|
|
$
|
69,250
|
|
$
|
71,891
|
|
19
Table
of Contents
|
|
Operating Segment Assets
|
|
|
|
June 30, 2008
|
|
|
|
(Dollars In Thousands)
|
|
|
|
Life
|
|
|
|
|
|
Stable Value
|
|
|
|
Marketing
|
|
Acquisitions
|
|
Annuities
|
|
Products
|
|
Investments and other assets
|
|
$
|
10,530,794
|
|
$
|
11,135,217
|
|
$
|
8,775,463
|
|
$
|
5,678,756
|
|
Deferred policy acquisition costs and value
of business acquired
|
|
2,239,820
|
|
932,035
|
|
309,196
|
|
17,377
|
|
Goodwill
|
|
10,192
|
|
43,553
|
|
|
|
|
|
Total assets
|
|
$
|
12,780,806
|
|
$
|
12,110,805
|
|
$
|
9,084,659
|
|
$
|
5,696,133
|
|
|
|
Asset
|
|
Corporate
|
|
|
|
Total
|
|
|
|
Protection
|
|
and Other
|
|
Adjustments
|
|
Consolidated
|
|
Investments and other assets
|
|
$
|
1,088,258
|
|
$
|
1,654,674
|
|
$
|
27,365
|
|
$
|
38,890,527
|
|
Deferred policy acquisition costs and value
of business acquired
|
|
125,786
|
|
5,029
|
|
|
|
3,629,243
|
|
Goodwill
|
|
62,479
|
|
83
|
|
|
|
116,307
|
|
Total assets
|
|
$
|
1,276,523
|
|
$
|
1,659,786
|
|
$
|
27,365
|
|
$
|
42,636,077
|
|
|
|
Operating Segment Assets
|
|
|
|
December 31, 2007
|
|
|
|
(Dollars In Thousands)
|
|
|
|
Life
|
|
|
|
|
|
Stable Value
|
|
|
|
Marketing
|
|
Acquisitions
|
|
Annuities
|
|
Products
|
|
Investments and other assets
|
|
$
|
9,830,156
|
|
$
|
11,218,519
|
|
$
|
7,732,288
|
|
$
|
5,035,479
|
|
Deferred policy acquisition costs and value
of business acquired
|
|
2,071,508
|
|
950,174
|
|
221,516
|
|
16,359
|
|
Goodwill
|
|
10,192
|
|
44,741
|
|
|
|
|
|
Total assets
|
|
$
|
11,911,856
|
|
$
|
12,213,434
|
|
$
|
7,953,804
|
|
$
|
5,051,838
|
|
|
|
Asset
|
|
Corporate
|
|
|
|
Total
|
|
|
|
Protection
|
|
and Other
|
|
Adjustments
|
|
Consolidated
|
|
Investments and other assets
|
|
$
|
1,360,218
|
|
$
|
3,063,927
|
|
$
|
27,595
|
|
$
|
38,268,182
|
|
Deferred policy acquisition costs and value
of business acquired
|
|
140,568
|
|
368
|
|
|
|
3,400,493
|
|
Goodwill
|
|
62,350
|
|
83
|
|
|
|
117,366
|
|
Total assets
|
|
$
|
1,563,136
|
|
$
|
3,064,378
|
|
$
|
27,595
|
|
$
|
41,786,041
|
|
9.
GOODWILL
During the six months ended June 30, 2008, the Company decreased
its goodwill balance by approximately $1.1 million. The decrease was due to a
$1.2 million decrease in the Acquisitions segment related to tax benefits
realized during the first six months of 2008 on the portion of tax goodwill in
excess of GAAP basis goodwill and a $0.3 million decrease in the Asset
Protection segment related to the sale of a small insurance subsidiary during
the first quarter of 2008, partially offset by a $0.4 million increase in the
Asset Protection segment related to the purchase of a small administrative
subsidiary. As of June 30, 2008,
the Company had an aggregate goodwill balance of $116.3 million.
20
Table of Contents
10.
FAIR
VALUE OF FINANCIAL INSTRUMENTS
Effective January 1,
2008, the Company determined the fair value of its financial instruments based
on the fair value hierarchy established in SFAS No. 157 which requires an
entity to maximize the use of observable inputs and minimize the use of
unobservable inputs when measuring fair value.
In compliance with SFAS No. 157, the
Company has categorized its financial instruments, based on the priority of the
inputs to the valuation technique, into a three level hierarchy. The fair value hierarchy gives the highest
priority to quoted prices in active markets for identical assets or liabilities
(Level 1) and the lowest priority to unobservable inputs (Level 3). If the inputs used to measure fair value fall
within different levels of the hierarchy, the category level is based on the
lowest priority level input that is significant to the fair value measurement
of the instrument.
Financial assets and liabilities recorded at
fair value on the Consolidated Balance Sheets are categorized as follows:
·
Level 1:
Unadjusted quoted prices for identical assets or
liabilities in an active market.
·
Level 2:
Quoted prices in markets that are not active or
significant inputs that are observable either directly or indirectly. Level 2
inputs include the following:
a)
Quoted prices for
similar assets or liabilities in active markets
b)
Quoted prices for
identical or similar assets or liabilities in non-active markets
c)
Inputs other than
quoted market prices that are observable
d)
Inputs that are
derived principally from or corroborated by observable market data through correlation
or other means.
·
Level 3:
Prices or valuation techniques that require inputs
that are both unobservable and significant to the overall fair value
measurement. They reflect managements own assumptions about the assumptions a
market participant would use in pricing the asset or liability.
As a result of
the adoption of SFAS No. 157, the Company recognized the following
adjustment to opening retained earnings for its Equity Indexed Annuities that
were previously accounted for under SFAS No. 155:
|
|
Carrying
|
|
Carrying
|
|
|
|
|
|
Value
|
|
Value
|
|
Transition
|
|
|
|
Prior to
|
|
After
|
|
Adjustment to
|
|
|
|
Adoption
|
|
Adoption
|
|
Retained Earnings
|
|
|
|
January 1, 2008
|
|
January 1, 2008
|
|
gain (loss)
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
|
|
|
|
Equity-indexed annuity reserves, net
|
|
$
|
145,912
|
|
$
|
143,634
|
|
$
|
2,278
|
|
Pre-tax cumulative effect of adoption of SFAS
No. 157
|
|
|
|
|
|
2,278
|
|
Change in deferred income taxes
|
|
|
|
|
|
(808
|
)
|
Cumulative effect of adoption of SFAS
No. 157
|
|
|
|
|
|
$
|
1,470
|
|
|
|
|
|
|
|
|
|
|
|
|
In addition, the Company recognized a
transition adjustment for the embedded derivative liability related to
annuities with guaranteed minimum withdrawal benefits. The impact of this
adjustment, net of DAC amortization, reduced income before income taxes by $0.4
million during the first quarter of 2008.
21
Table
of Contents
The
following table presents the Companys hierarchy for its assets and liabilities
measured at fair value on a recurring basis as of June 30, 2008:
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total
|
|
|
|
(Dollars In Thousands)
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
Fixed maturity securities - available for
sale
|
|
|
|
|
|
|
|
|
|
Mortgage and asset-backed securities
|
|
$
|
|
|
$
|
5,724,277
|
|
$
|
2,117,728
|
|
$
|
7,842,005
|
|
US government and authorities
|
|
57,197
|
|
22,917
|
|
|
|
80,114
|
|
State, municipalities and political subdivisions
|
|
|
|
22,348
|
|
9,025
|
|
31,373
|
|
Public utilities
|
|
|
|
1,602,500
|
|
190,164
|
|
1,792,664
|
|
All other corporate bonds
|
|
|
|
8,178,172
|
|
2,427,207
|
|
10,605,379
|
|
Redeemable preferred stocks
|
|
|
|
47
|
|
36
|
|
83
|
|
Convertible bonds with warrants
|
|
|
|
|
|
39
|
|
39
|
|
Total fixed maturity securities - available
for sale
|
|
57,197
|
|
15,550,261
|
|
4,744,199
|
|
20,351,657
|
|
Fixed maturity securities - trading
|
|
184,670
|
|
2,984,942
|
|
576,424
|
|
3,746,036
|
|
Total fixed maturity securities
|
|
241,867
|
|
18,535,203
|
|
5,320,623
|
|
24,097,693
|
|
Equity securities
|
|
288,106
|
|
|
|
69,566
|
|
357,672
|
|
Other long-term investments
(1)
|
|
|
|
19,060
|
|
44,422
|
|
63,482
|
|
Short-term investments
|
|
532,038
|
|
262,217
|
|
45,718
|
|
839,973
|
|
Total investments
|
|
1,062,011
|
|
18,816,480
|
|
5,480,329
|
|
25,358,820
|
|
Cash
|
|
107,367
|
|
|
|
|
|
107,367
|
|
Other assets
|
|
5,394
|
|
|
|
|
|
5,394
|
|
Assets related to separate acccounts
|
|
|
|
|
|
|
|
|
|
Variable annuity
|
|
2,641,203
|
|
|
|
|
|
2,641,203
|
|
Variable universal life
|
|
325,745
|
|
|
|
|
|
325,745
|
|
Total assets measured at fair value on a
recurring basis
|
|
$
|
4,141,720
|
|
$
|
18,816,480
|
|
$
|
5,480,329
|
|
$
|
28,438,529
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
Annuity account balances
(2)
|
|
$
|
|
|
$
|
|
|
$
|
146,579
|
|
$
|
146,579
|
|
Other liabilities
(1)
|
|
255
|
|
34,261
|
|
6,459
|
|
40,975
|
|
Total liabilities measured at fair value on
a recurring basis
|
|
$
|
255
|
|
$
|
34,261
|
|
$
|
153,038
|
|
$
|
187,554
|
|
(1)
Includes certain freestanding and embedded
derivatives.
(2)
Represents liabilities related to equity indexed annuities.
22
Table
of Contents
The
following table presents a reconciliation, for the three months ended June 30,
2008, of the beginning and ending balances for fair value measurements for
which we have used significant unobservable inputs (Level 3):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gains
(losses)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
included
in
|
|
|
|
|
|
Total
Realized and Unrealized
|
|
|
|
|
|
|
|
Earnings
|
|
|
|
|
|
Gains
(losses)
|
|
|
|
|
|
|
|
related
to
|
|
|
|
|
|
|
|
Included in
|
|
Purchases,
|
|
|
|
|
|
Instruments
|
|
|
|
|
|
|
|
Other
|
|
Issuances, and
|
|
Transfers in
|
|
|
|
still held at
|
|
|
|
Beginning
|
|
Included in
|
|
Comprehensive
|
|
Settlements
|
|
and/or out of
|
|
Ending
|
|
the Reporting
|
|
|
|
Balance
|
|
Earnings
|
|
Income
|
|
(net)
|
|
Level 3
|
|
Balance
|
|
Date
|
|
|
|
(Dollars In Thousands)
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturity
securities - available for sale
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mortgage-backed
and asset-backed securities
|
|
$
|
2,142,256
|
|
$
|
|
|
$
|
35,301
|
|
$
|
(47,895
|
)
|
$
|
(11,934
|
)
|
$
|
2,117,728
|
|
$
|
|
|
State,
municipalities and politicalsubdivisions
|
|
9,294
|
|
|
|
(266
|
)
|
(3
|
)
|
|
|
9,025
|
|
|
|
Public utilities
|
|
176,532
|
|
|
|
(4,798
|
)
|
18,430
|
|
|
|
190,164
|
|
|
|
All other
corporate bonds
|
|
2,318,786
|
|
|
|
(57,623
|
)
|
164,054
|
|
1,990
|
|
2,427,207
|
|
|
|
Redeemable
preferred stocks
|
|
36
|
|
|
|
|
|
|
|
|
|
36
|
|
|
|
Convertible bonds
with warrants
|
|
37
|
|
|
|
1
|
|
1
|
|
|
|
39
|
|
|
|
Total fixed
maturity securities - available for sale
|
|
4,646,941
|
|
|
|
(27,385
|
)
|
134,587
|
|
(9,944
|
)
|
4,744,199
|
|
|
|
Fixed maturity
securities - trading
|
|
728,719
|
|
(13,572
|
)
|
|
|
(26,999
|
)
|
(111,724
|
)
|
576,424
|
|
(12,040
|
)
|
Total fixed maturity
securities
|
|
5,375,660
|
|
(13,572
|
)
|
(27,385
|
)
|
107,588
|
|
(121,668
|
)
|
5,320,623
|
|
(12,040
|
)
|
Equity securities
|
|
18,046
|
|
|
|
1
|
|
51,541
|
|
(22
|
)
|
69,566
|
|
|
|
Other long-term
investments
(1)
|
|
8,460
|
|
35,962
|
|
|
|
|
|
|
|
44,422
|
|
35,962
|
|
Short-term investments
|
|
46,323
|
|
|
|
|
|
|
|
(605
|
)
|
45,718
|
|
|
|
Total investments
|
|
5,448,489
|
|
22,390
|
|
(27,384
|
)
|
159,129
|
|
(122,295
|
)
|
5,480,329
|
|
23,922
|
|
Total assets
measured at fair value ona recurring basis
|
|
$
|
5,448,489
|
|
$
|
22,390
|
|
$
|
(27,384
|
)
|
$
|
159,129
|
|
$
|
(122,295
|
)
|
$
|
5,480,329
|
|
$
|
23,922
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Annuity account
balances
(2)
|
|
$
|
146,017
|
|
$
|
1,557
|
|
$
|
|
|
$
|
(2,119
|
)
|
$
|
|
|
$
|
146,579
|
|
$
|
1,557
|
|
Other liabilities
(1)
|
|
18,091
|
|
11,632
|
|
|
|
|
|
|
|
6,459
|
|
11,632
|
|
Total liabilities
measured at fair value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
on a recurring
basis
|
|
$
|
164,108
|
|
$
|
13,189
|
|
$
|
|
|
$
|
(2,119
|
)
|
$
|
|
|
$
|
153,038
|
|
$
|
13,189
|
|
(1)
Represents certain freestanding and embedded derivatives
(2)
Represents liabilities related to equity indexed annuities
Certain
changes have been made to the January 1, 2008 and March 31, 2008 balances in
the tables above and below from the amounts reported in the previous quarter to
make the amounts comparable to those of the current quarter. These changes had
no effect on the Companys consolidated condensed balance sheets or
consolidated condensed statements of income and cash flows. The changes resulted
in an increase to the amount of assets categorized as Level 3 by $324.1 million
and $1.2 billion at January 1, 2008 and March 31, 2008, respectively, and a corresponding
decrease that was predominately to the amount of assets in Level 2. There were
immaterial changes to the amount of liabilities categorized as Level 3 at
January 1, 2008 and March 31, 2008.
23
Table of Contents
The
following table presents a reconciliation, for the six months ended June 30,
2008, of the beginning and ending balances for fair value measurements for
which we have used significant unobservable inputs (Level 3):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gains
(losses)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
included
in
|
|
|
|
|
|
Total
Realized and Unrealized
|
|
|
|
|
|
|
|
Earnings
|
|
|
|
|
|
Gains
(losses)
|
|
|
|
|
|
|
|
related
to
|
|
|
|
|
|
|
|
Included in
|
|
Purchases,
|
|
|
|
|
|
Instruments
|
|
|
|
|
|
|
|
Other
|
|
Issuances, and
|
|
Transfers in
|
|
|
|
still held at
|
|
|
|
Beginning
|
|
Included in
|
|
Comprehensive
|
|
Settlements
|
|
and/or out of
|
|
Ending
|
|
the Reporting
|
|
|
|
Balance
|
|
Earnings
|
|
Income
|
|
(net)
|
|
Level 3
|
|
Balance
|
|
Date
|
|
|
|
(Dollars In Thousands)
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturity
securities - available for sale
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mortgage-backed
and asset-backed securities
|
|
$
|
1,290,299
|
|
$
|
|
|
$
|
(153,696
|
)
|
$
|
849,739
|
|
$
|
131,386
|
|
$
|
2,117,728
|
|
$
|
|
|
State,
municipalities and political subdivisions
|
|
9,126
|
|
|
|
(98
|
)
|
(3
|
)
|
|
|
9,025
|
|
|
|
Public utilities
|
|
176,473
|
|
|
|
(4,588
|
)
|
18,279
|
|
|
|
190,164
|
|
|
|
All other
corporate bonds
|
|
2,248,703
|
|
|
|
(101,303
|
)
|
277,817
|
|
1,990
|
|
2,427,207
|
|
|
|
Redeemable
preferred stocks
|
|
36
|
|
|
|
|
|
|
|
|
|
36
|
|
|
|
Convertible bonds
with warrants
|
|
227
|
|
|
|
(46
|
)
|
(142
|
)
|
|
|
39
|
|
|
|
Total fixed
maturity securities - available for sale
|
|
3,724,864
|
|
|
|
(259,731
|
)
|
1,145,690
|
|
133,376
|
|
4,744,199
|
|
|
|
Fixed maturity
securities - trading
|
|
874,380
|
|
(25,490
|
)
|
|
|
(163,598
|
)
|
(108,868
|
)
|
576,424
|
|
(23,902
|
)
|
Total fixed
maturity securities
|
|
4,599,244
|
|
(25,490
|
)
|
(259,731
|
)
|
982,092
|
|
24,508
|
|
5,320,623
|
|
(23,902
|
)
|
Equity securities
|
|
18,135
|
|
|
|
(88
|
)
|
51,540
|
|
(21
|
)
|
69,566
|
|
|
|
Other long-term
investments
(1)
|
|
2,951
|
|
41,471
|
|
|
|
|
|
|
|
44,422
|
|
41,471
|
|
Short-term
investments
|
|
66,327
|
|
|
|
|
|
|
|
(20,609
|
)
|
45,718
|
|
|
|
Total investments
|
|
4,686,657
|
|
15,981
|
|
(259,819
|
)
|
1,033,632
|
|
3,878
|
|
5,480,329
|
|
17,569
|
|
Total assets
measured at fair value on a recurring basis
|
|
$
|
4,686,657
|
|
$
|
15,981
|
|
$
|
(259,819
|
)
|
$
|
1,033,632
|
|
$
|
3,878
|
|
$
|
5,480,329
|
|
$
|
17,569
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Annuity account
balances
(2)
|
|
$
|
143,634
|
|
$
|
(169
|
)
|
$
|
|
|
$
|
(2,776
|
)
|
$
|
|
|
$
|
146,579
|
|
$
|
(169
|
)
|
Other liabilities
(1)
|
|
39,168
|
|
32,709
|
|
|
|
|
|
|
|
6,459
|
|
32,709
|
|
Total liabilities
measured at fair value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
on a recurring
basis
|
|
$
|
182,802
|
|
$
|
32,540
|
|
$
|
|
|
$
|
(2,776
|
)
|
$
|
|
|
$
|
153,038
|
|
$
|
32,540
|
|
(1)
Represents certain freestanding and embedded
derivatives
(2)
Represents liabilities related to equity indexed annuities
Total realized and unrealized gains (losses)
on Level 3 assets and liabilities are primarily reported in either realized
investment gains (losses) within the consolidated statements of income or other
comprehensive income (loss) within shareowners equity based on the appropriate
accounting treatment for the item.
Purchases, sales, issuances and settlements,
net, represent the activity that occurred during the period that results in a
change of the asset or liability but does not represent changes in fair value
for the instruments held at the beginning of the period. Such activity
primarily relates to purchases and sales of fixed maturity securities, and
issuances and settlements of equity indexed annuities accounted for under SFAS No. 155.
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 at the beginning fair value for the reporting period in which
the changes occur.
The amount of total gains (losses) for assets
and liabilities still held as of the reporting date primarily represents
changes in fair value of trading securities and certain derivatives that exist
as of the reporting date, and the change in fair value of equity indexed
annuities accounted for under SFAS No. 155.
24
Table
of Contents
11.
INCOME
TAXES
There have been no material changes to the balance of unrecognized
income tax benefits which impacted earnings for the first six months ended June 30,
2008. The IRS has completed its examination of the Companys 2004 and 2005
federal income tax returns. The Company does not expect to have any material
adjustments, within the next twelve months, to its balance of unrecognized
income tax benefits in any of the tax jurisdictions in which it conducts its
business operations.
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Item 2. Managements
Discussion and Analysis of Financial Condition and Results of Operations
The following Managements Discussion and
Analysis of Financial Condition and Results of Operations (MD&A)
should be read in conjunction with our consolidated condensed financial
statements included under Part I, Item 1,
Financial
Statements (Unaudited)
, of this Quarterly Report on Form 10-Q
and our audited consolidated financial statements for the year ended December 31,
2007, included in our Annual Report on Form 10-K.
For a more complete understanding of our
business and current period results, please read the following Managements
Discussion and Analysis of Financial Condition and Results of Operations in
conjunction with our latest Annual Report on Form 10-K and other filings
with the United States Securities and Exchange Commission (the SEC).
Certain reclassifications have been made in
the previously reported financial statements and accompanying notes to make the
prior period amounts comparable to those of the current period. Such
reclassifications had no effect on previously reported net income or
shareowners equity.
FORWARD-LOOKING STATEMENTS CAUTIONARY
LANGUAGE
This report reviews our financial condition
and results of operations including our liquidity and capital resources. Historical
information is presented and discussed and where appropriate, factors that may
affect future financial performance are also identified and discussed. Certain
statements made in this report include forward-looking statements within the
meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking
statements include any statement that may predict, forecast, indicate or imply
future results, performance or achievements instead of historical facts and may
contain words like believe, expect, estimate, project, budget, forecast,
anticipate, plan, will, shall, may, and other words, phrases, or
expressions with similar meaning. Forward-looking statements involve risks and
uncertainties, which may cause actual results to differ materially from the
results contained in the forward-looking statements, and we cannot give
assurances that such statements will prove to be correct. Given these risks and
uncertainties, investors should not place undue reliance on forward-looking
statements as a prediction of actual results.
OVERVIEW
Our business
We are a holding company headquartered in
Birmingham, Alabama, whose subsidiaries provide financial services through the
production, distribution, and administration of insurance and investment
products. Founded in 1907, Protective Life Insurance Company is our largest
operating subsidiary. Unless the context otherwise requires, we, us, or our
refers to the consolidated group of Protective Life Corporation and our
subsidiaries.
We operate several business segments, each
having a strategic focus. An operating segment is generally distinguished by
products and/or channels of distribution. We periodically evaluate our
operating segments in light of the segment reporting requirements prescribed by
the Financial Accounting Standards Board (FASB) Statement No. 131,
Disclosures about Segments of an Enterprise and Related Information
(SFAS
No. 131), and make adjustments to our segment reporting as needed.
Our operating segments are Life Marketing,
Acquisitions, Annuities, Stable Value Products, Asset Protection, and Corporate
and Other.
·
Life Marketing
-
We market level premium term insurance (traditional
life), universal life (UL), variable universal life, and bank owned
life insurance (BOLI) products on a national basis primarily through
networks of independent insurance agents and brokers, stockbrokers, and
independent marketing organizations.
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·
Acquisitions
- We focus on acquiring, converting, and servicing policies acquired from other
companies. The segments primary focus is on life insurance policies and
annuity products sold to individuals. In the ordinary course of business, the
Acquisitions segment regularly considers acquisitions of blocks of policies or
smaller insurance companies. The level of the segments acquisition activity is
predicated upon many factors, including available capital, operating capacity,
and market dynamics. Policies acquired through the Acquisition segment are
typically closed blocks of business (no new policies are being marketed). Therefore,
earnings and account values are expected to decline as the result of lapses,
deaths, and other terminations of coverage unless new acquisitions are made.
·
Annuities
- We manufacture, sell,
and support fixed and variable annuity products. These products are primarily
sold through broker-dealers, but are also sold through financial institutions
and independent agents and brokers.
·
Stable Value Products
- We sell
guaranteed funding agreement (GFAs) to special purpose entities that in
turn issue notes or certificates in smaller, transferable denominations. The
segment also markets fixed and floating rate funding agreements directly to the
trustees of municipal bond proceeds, institutional investors, bank trust
departments, and money market funds. Additionally, the segment markets
guaranteed investment contracts (GICs) to 401(k) and other qualified
retirement savings plans.
·
Asset Protection
- We primarily
market extended service contracts and credit life and disability insurance to
protect consumers investments in automobiles, watercraft, and recreational
vehicles. In addition, the segment markets a guaranteed asset protection (GAP)
product and an inventory protection product (IPP).
·
Corporate and Other
- This segment
primarily consists of net investment income and expenses not attributable to
the segments above (including net investment income on capital and interest on
debt). This segment also includes earnings from several non-strategic lines of
business (primarily cancer insurance, residual value insurance, surety
insurance, and group annuities), various investment-related transactions, and
the operations of several small subsidiaries.
Reinsurance
Ceded
For approximately 10 years prior to mid-2005,
we entered into reinsurance contracts in which we ceded a significant
percentage, generally 90%, of our newly written business on a first dollar
quota share basis. Our traditional life insurance was ceded under coinsurance
contracts and universal life insurance was ceded under yearly renewable term (YRT)
contracts. During this time, we utilized coinsurance on our traditional life
business to lock in mortality costs at favorable rates, while reducing the
amount of capital deployed and increasing overall returns. We continue to
reinsure 90% of the mortality risk, but not the account values, on our newly
written universal life insurance.
During recent years, the life reinsurance
market continued the process of consolidation and tightening, resulting in a
higher net cost of reinsurance for much of our life insurance business. We have
also been challenged by changes in the reinsurance market which have impacted
management of capital, particularly in our traditional life business which is
required to hold reserves pursuant to Regulation XXX. In response to these
challenges, in 2005 we reduced our overall reliance on reinsurance by changing
from coinsurance to YRT reinsurance arrangements for newly issued traditional
life products. Additionally in 2005, for newly issued traditional life
products, we increased, from $500,000 to $1,000,000, the amount of insurance we
will retain on any one life. During 2008, we have increased our retention limit
to $2,000,000 on certain of our traditional life products. These YRT
arrangements are utilized to limit our exposure to large claims, and are not a
significant factor in capital management or the overall profitability of the
business.
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In order to fund the additional statutory reserves required as a result
of these changes in our reinsurance arrangements, we established a surplus notes
facility under which we issued an aggregate of $800 million of
non-recourse funding obligations through December 2007. In addition,
during 2007, we established a surplus notes facility relative to our universal
life products. Under this facility, we issued
$575 million of non-recourse funding obligations that will be used to fund
statutory reserves required by the Valuation of Life Insurance Policies Model
Regulation (Regulation XXX), as clarified by Actuarial Guideline 38
(commonly known as AXXX). We have received regulatory approval to issue
additional series of our floating rate surplus notes up to an aggregate of
$675 million principal amount. Our maximum retention for newly issued
universal life products is $1,000,000.
During 2006, immediately after the closing of our acquisition of the
Chase Insurance Group, we entered into agreements with Commonwealth Annuity and
Life Insurance Company (formerly known as Allmerica Financial Life Insurance
and Annuity Company) (CALIC) and Wilton Reassurance Company and Wilton
Reinsurance Bermuda Limited (collectively, the Wilton Re Group), whereby
CALIC reinsured 100% of the variable annuity business of the Chase Insurance
Group and the Wilton Re Group reinsured approximately 42% of the other
insurance business of the Chase Insurance Group.
EXECUTIVE SUMMARY
Operating earnings decreased $42.2 million for the first six months of
2008 compared to the first six months of 2007, primarily as a result of
mark-to-market losses realized during the first quarter of 2008 on a trading
portfolio, a reduction in investment income during 2008 related to our
participating mortgage program, and a $15.7 million gain recognized during the
first six months of 2007 resulting from the sale of a direct marketing
subsidiary.
We experienced net realized losses of $77.0 million during the first
six months of 2008, versus net realized gains of $20.7 million in the first six
months of 2007. The 2008 losses were primarily the result of $80.0 million of
other-than-temporary impairment charges related to residential mortgage-backed
securities collateralized by Alt-A mortgages.
The decline in the estimated fair value of these securities resulted
from factors including downgrades in rating, interest rate changes, and the
current distressed credit markets. These other-than-temporary impairments
resulted from our analysis of circumstances and our belief that credit events,
loss severity, changes in credit enhancement, and/or other adverse conditions
of the respective issuers have caused, or will lead to, a deficiency in the
contractual cash flows related to these investments.
The interest rate and credit environment continues to
present a significant challenge. Historically low interest rates and market
illiquidity continued to create challenges for our products that generate
investment spread profits, such as fixed annuities and stable value
contracts. However, active management of
crediting rates on these products allowed us to mitigate spread compression
effects and strong sales allowed us to take advantage of wider credit spreads
on investments.
Despite tightened capital market conditions, we were
able to enter into an amended and restated credit agreement in April of
2008, which increased our access to short term capacity from $200 million to
$500 million. Additionally, during the
six months ended June 30, 2008, we joined the Federal Home Loan Bank of
Cincinnati (FHLB). FHLB advances
provide an attractive funding source for short-term borrowing and the sale of
funding agreements. As of June 30,
2008 we had $250 million of short-term advances and $375 million of funding
agreement-related advances outstanding under the FHLB program.
Strong competitive pressures on pricing, particularly in our life
insurance business, continued to present a challenge from a new sales
perspective. However, our continued
focus on delivering value to consumers and broadening our base of distribution
allowed for solid product sales during the quarter, as highlighted in our
Annuities segment key indicators.
Additionally, as a result of current market conditions and to optimize
profit emergence and returns on capital, we expect to place a greater strategic
emphasis on universal life sales.
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Current costs of reinsurance continue to present challenges from both a
new product pricing and capital management perspective. In response to these challenges, during 2005
we reduced our reliance on reinsurance by changing from coinsurance to yearly
renewable term reinsurance and increased the maximum amount retained on any one
life from $500,000 to $1,000,000 on certain of our newly written traditional
life products. During the first six
months of 2008, we increased our retention limit to $2,000,000 on certain newly
written traditional life products.
Significant financial information related to
each of our segments is included in
Results of Operations
.
KNOWN TRENDS AND UNCERTAINTIES
The factors which could affect
our future results include, but are not limited to, general economic conditions
and the following known trends and uncertainties:
General
·
exposure to the
risks of natural disasters, pandemics, malicious and terrorist acts could
adversely affect our operations;
·
computer viruses
or network security breaches could affect our data processing systems or those
of our business partners and could damage our business and adversely affect our
financial condition and results of operations;
·
actual
experience may differ from managements assumptions and estimates and
negatively affect our results;
·
we may not
realize our anticipated financial results from our acquisitions strategy;
·
we may not be able
to achieve the expected results from our recent acquisitions;
·
we are dependent
on the performance of others;
·
our risk
management policies and procedures may leave us exposed to unidentified or unanticipated
risk, which could negatively affect our business or result in losses;
Financial environment
·
interest rate
fluctuations could negatively affect our spread income or otherwise impact our
business;
·
our investments
are subject to market and credit risks;
·
equity market
volatility could negatively impact our business;
·
credit market
volatility or the inability to access financing solutions could adversely
impact our financial condition or results from operations;
·
our ability to
grow depends in large part upon the continued availability of capital;
·
we could be
forced to sell investments at a loss to cover policyholder withdrawals;
Industry
·
insurance
companies are highly regulated and subject to numerous legal restrictions and
regulations;
·
changes to tax
law or interpretations of existing tax law could adversely affect our ability
to compete with non-insurance products or reduce the demand for certain
insurance products;
·
financial
services companies are frequently the targets of litigation, including class
action litigation, which could result in substantial judgments;
·
publicly held
companies in general and the financial services industry in particular are
sometimes the target of law enforcement investigations and the focus of
increased regulatory scrutiny;
·
new accounting rules or
changes to existing accounting rules could negatively impact us;
·
reinsurance
introduces variability in our statements of income;
·
our reinsurers
could fail to meet assumed obligations, increase rates or be subject to adverse
developments that could affect us;
·
policy claims
fluctuate from period to period resulting in earnings volatility;
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Competition
·
operating in a
mature, highly competitive industry could limit our ability to gain or maintain
our position in the industry and negatively affect profitability;
·
our ability to
maintain competitive unit costs is dependent upon the level of new sales and
persistency of existing business; and
·
a ratings
downgrade could adversely affect our ability to compete.
CRITICAL ACCOUNTING
POLICIES
Our accounting policies inherently require the use of judgments relating
to a variety of assumptions and estimates, in particular expectations of
current and future mortality, morbidity, persistency, expenses, and interest
rates. Because of the inherent
uncertainty when using the assumptions and estimates, the effect of certain
accounting policies under different conditions or assumptions could be
materially different from those reported in the consolidated financial
statements. A discussion of various
critical accounting policies is presented below. For a more complete listing of our critical
accounting policies, refer to our Annual Report on Form 10-K for the year
ended December 31, 2007.
Evaluation of Other-Than-Temporary
Impairments
- One of the significant estimates
related to available-for-sale securities is the evaluation of investments for
other-than-temporary impairments. If a decline in the fair value of an
available-for-sale security is judged to be other-than-temporary, a charge is
recorded in net realized investment losses equal to the difference between the
fair value and cost or amortized cost basis of the security. The fair value of the other-than-temporarily
impaired investment becomes its new cost basis. For fixed maturities, we
accrete the new cost basis to par or to the estimated future value over the
expected remaining life of the security by adjusting the securitys yields.
Determining whether a decline in the current fair value of invested
assets is an other-than-temporary decline in value can involve a variety of
assumptions and estimates, particularly for investments that are not actively
traded in established markets. For
example, assessing the value of certain investments requires that we perform an
analysis of expected future cash flows or rates of prepayments. Other investments, such as collateralized
mortgage or bond obligations, represent selected tranches of a structured
transaction, supported in the aggregate by underlying investments in a wide
variety of issuers. Management considers
a number of factors when determining the impairment status of individual
securities. These include the economic
condition of various industry segments and geographic locations and other areas
of identified risks. Although it is
possible for the impairment of one investment to affect other investments, we
engage in ongoing risk management to safeguard against and limit any further
risk to our investment portfolio.
Special attention is given to correlative risks within specific
industries, related parties, and business markets.
For certain securitized financial assets with contractual cash flows
including asset-backed securities (ABS), Emerging Issues Task Force (EITF)
Issue No. 99-20,
Recognition of Interest
Income and Impairment on Purchased Beneficial Interests and Beneficial
Interests That Continued to Be Held by a Transferor in Securitized Financial
Assets
(EITF Issue No. 99-20), requires us to periodically
update our best estimate of cash flows over the life of the security. If the
fair value of a securitized financial asset is less than its cost or amortized
cost and there has been a decrease in the present value of the estimated cash
flows since the last revised estimate, considering both timing and amount, an
other-than-temporary impairment charge is recognized. Estimating future cash flows is a
quantitative and qualitative process that incorporates information received
from third party sources along with certain internal assumptions and judgments
regarding the future performance of the underlying collateral. Projections of
expected future cash flows may change based upon new information regarding the
performance of the underlying collateral.
In addition, we consider our intent and ability to retain a temporarily
depressed security until recovery.
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Securities not subject to EITF Issue No. 99-20 that are in an
unrealized loss position, are reviewed at least quarterly to determine if an other-than-temporary
impairment is present based on certain quantitative and qualitative
factors. We generally consider a number
of factors in determining whether the impairment is other than temporary. These include, but are not limited to:
1) actions taken by rating agencies, 2) default by the issuer,
3) the significance of the decline, 4) the intent and ability to hold
the investment until recovery, 5) the time period during which the decline
has occurred, 6) an economic analysis of the issuers industry, and
7) the financial strength, liquidity, and recoverability of the
issuer. Management performs a
security-by-security review each quarter in evaluating the need for any
other-than-temporary impairments.
Although no set formula is used in this process, the investment
performance, collateral position, and continued viability of the issuer are
significant measures that we consider.
Based on our analysis, during the three months ended June 30, 2008,
we concluded that approximately $80.0 million of pretax unrealized losses were
other-than-temporarily impaired related to residential mortgage-backed
securities collateralized by Alt-A mortgages, resulting in a charge to net
realized investment losses.
Reinsurance
-
For each of our reinsurance contracts,
we must determine if the contract provides indemnification against loss or
liability relating to insurance risk, in accordance with applicable accounting
standards. We must review all contractual features, particularly those that may
limit the amount of insurance risk to which we are subject or features that
delay the timely reimbursement of claims. If we determine that the possibility
of a significant loss from insurance risk will occur only under remote
circumstances, we record the contract under a deposit method of accounting with
the net amount payable/receivable reflected in other reinsurance assets or
liabilities on our consolidated balance sheets. Fees earned on the contracts
are reflected as other revenues, as opposed to premiums, on our consolidated statements
of income.
The balance of
the reinsurance is due from a diverse group of reinsurers. The collectability
of reinsurance is largely a function of the solvency of the individual
reinsurers. We perform periodic credit reviews on our reinsurers, focusing on,
among other things, financial capacity, stability, trends and commitment to the
reinsurance business. We also require assets in trust, letters of credit or
other acceptable collateral to support balances due from reinsurers not
authorized to transact business in the applicable jurisdictions. Despite these
measures, a reinsurers insolvency, inability or unwillingness to make payments
under the terms of a reinsurance contract, could have a material adverse effect
on our results of operations and financial condition. As of June 30, 2008 our third-party
reinsurance receivables amounted to $5.2 billion. These amounts include ceded reserve balances
and ceded benefit payments.
We account for
reinsurance as required by FASB Statement No. 113,
Accounting
and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts
(SFAS
No. 113). In addition to SFAS No. 113,
we rely on FASB Statement No. 60
Accounting and Reporting
by Insurance Enterprises
(SFAS No. 60) and FASB Statement No. 97
Accounting and Reporting by Insurance Enterprises
for Certain Long-Duration Contracts and for Realized Gains and Losses from the
Sale of Investments
(SFAS No. 97) as applicable. In
accordance with those pronouncements, costs for reinsurance are amortized as a
level percentage of premiums for SFAS No. 60 products and a level
percentage of estimated gross profits for SFAS No. 97 products.
Accordingly, ceded reserve and deferred acquisition cost balances are
established using methodologies consistent with those used in establishing
direct policyholder reserves and deferred acquisition costs. Establishing these balances requires the use
of various assumptions including investment returns, mortality, persistency,
and expenses. The assumptions made for
establishing ceded reserves and ceded deferred acquisition costs are consistent
with those used for establishing direct policyholder reserves and deferred
acquisition costs.
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Assumptions are also made regarding future reinsurance premium rates
and allowance rates. Assumptions made for mortality, persistency, and expenses
are consistent with those used for establishing direct policyholder reserves
and deferred acquisition costs.
Assumptions made for future reinsurance premium and allowance rates are
consistent with rates provided for in our various reinsurance agreements. For certain of our reinsurance agreements, premium
and allowance rates may be changed by reinsurers on a prospective basis,
assuming certain contractual conditions are met (primarily that rates are
changed for all companies with which the reinsurer has similar agreements). We do not anticipate any changes to these
rates and, therefore, have assumed continuation of these non-guaranteed
rates. To the extent that future rates
are modified, these assumptions would be revised and both current and future
results would be affected. For products subject to SFAS No. 60,
assumptions are not changed unless projected future revenues are expected to be
less than future expenses. For products subject to SFAS No. 97,
assumptions are periodically updated whenever actual experience and/or
expectations for the future differ from that assumed. When assumptions are updated, changes are
reflected in the income statement as part of an unlocking process. For the
three years ending December 31, 2007, there were no changes to reinsurance
premium and allowance rates that would require an update of assumptions and
subsequent unlocking of balances under SFAS No. 97.
RESULTS OF OPERATIONS
In the following discussion, segment operating income is defined as
income before income tax excluding net realized investment gains and losses
(net of the related amortization of deferred policy acquisition
costs (DAC) and value of business acquired (VOBA) and
participating income from real estate ventures), and the cumulative effect of
change in accounting principle. Periodic
settlements of derivatives associated with corporate debt and certain
investments and annuity products are included in realized gains and losses but
are considered part of segment operating income because the derivatives are
used to mitigate risk in items affecting segment operating income. Management believes that segment operating
income provides relevant and useful information to investors, as it represents
the basis on which the performance of our business is internally assessed. Although the items excluded from segment
operating income may be significant components in understanding and assessing
our overall financial performance, management believes that segment operating
income enhances an investors understanding of our results of operations by
highlighting the income (loss) attributable to the normal, recurring operations
of our business. However, segment
operating income should not be viewed as a substitute for accounting principles
generally accepted in the United States of America (U.S. GAAP) net
income. In addition, our segment
operating income measures may not be comparable to similarly titled measures
reported by other companies.
32
Table
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The following table presents a summary of results and reconciles
segment operating income to consolidated net income:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
(Dollars In Thousands)
|
|
Segment Operating Income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Life Marketing
|
|
$
|
38,127
|
|
$
|
37,834
|
|
0.8
|
%
|
$
|
84,576
|
|
$
|
103,114
|
|
(18.0
|
)%
|
Acquisitions
|
|
34,514
|
|
30,814
|
|
12.0
|
|
68,090
|
|
63,063
|
|
8.0
|
|
Annuities
|
|
9,487
|
|
6,669
|
|
42.3
|
|
11,976
|
|
12,275
|
|
(2.4
|
)
|
Stable Value Products
|
|
17,545
|
|
12,355
|
|
42.0
|
|
33,761
|
|
24,541
|
|
37.6
|
|
Asset Protection
|
|
6,664
|
|
11,522
|
|
(42.2
|
)
|
16,516
|
|
21,606
|
|
(23.6
|
)
|
Corporate and Other
|
|
(2,093
|
)
|
(1,300
|
)
|
(61.0
|
)
|
(32,066
|
)
|
477
|
|
n/m
|
|
Total segment operating income
|
|
104,244
|
|
97,894
|
|
6.5
|
|
182,853
|
|
225,076
|
|
(18.8
|
)
|
Realized investment gains (losses) -
investments
(1)
|
|
(111,916
|
)
|
(71,146
|
)
|
|
|
(141,035
|
)
|
(62,198
|
)
|
|
|
Realized investment gains (losses) -
derivatives
(2)
|
|
65,151
|
|
74,693
|
|
|
|
69,250
|
|
71,891
|
|
|
|
Income tax expense
|
|
(19,295
|
)
|
(36,336
|
)
|
|
|
(37,002
|
)
|
(79,081
|
)
|
|
|
Net income
|
|
$
|
38,184
|
|
$
|
65,105
|
|
(41.4
|
)
|
$
|
74,066
|
|
$
|
155,688
|
|
(52.4
|
)
|
(1)
Realized investment gains (losses) - investments
|
|
$
|
(112,411
|
)
|
$
|
(66,609
|
)
|
|
|
$
|
(140,456
|
)
|
$
|
(53,315
|
)
|
|
|
Less: participating income from real estate
ventures
|
|
|
|
3,707
|
|
|
|
|
|
6,857
|
|
|
|
Less: related amortization of DAC
|
|
(495
|
)
|
830
|
|
|
|
579
|
|
2,026
|
|
|
|
|
|
$
|
(111,916
|
)
|
$
|
(71,146
|
)
|
|
|
$
|
(141,035
|
)
|
$
|
(62,198
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2)
Realized investment gains (losses) - derivatives
|
|
$
|
65,087
|
|
$
|
76,281
|
|
|
|
$
|
63,430
|
|
$
|
73,990
|
|
|
|
Less: settlements on certain interest rate
swaps
|
|
1,786
|
|
237
|
|
|
|
2,270
|
|
494
|
|
|
|
Less: derivative activity related to
certain annuities
|
|
(1,850
|
)
|
1,351
|
|
|
|
(8,090
|
)
|
1,605
|
|
|
|
|
|
$
|
65,151
|
|
$
|
74,693
|
|
|
|
$
|
69,250
|
|
$
|
71,891
|
|
|
|
33
Table of Contents
Three Months Ended June 30, 2008
compared to Three Months Ended June 30, 2007
Net income for the three months ended June 30, 2008 reflects a
$6.4 million, or 6.5%, increase in segment operating income. The increase
was primarily related to a $5.2 million increase in operating earnings in the
Stable Value segment, a $3.7 million increase in the Acquisitions segment, and
a $2.8 million increase in the Annuities segment. These increases were partially offset by a
$4.9 million decrease in operating earnings in the Asset Protection
segment. Changes in fair value related
to the Corporate and Other trading portfolio and the Annuities segment
increased operating earnings by $6.0 million in the three months ended June 30,
2008.
We experienced net realized losses of $47.3 million during the three
months ended June 30, 2008, versus net realized gains of $9.7 million for
the same period of 2007. The losses realized during the three months ended June 30,
2008 were caused by $80.0 million of other-than-temporary impairment charges
related to residential mortgage-backed securities collateralized by Alt-A
mortgages. These losses were partially
offset by mark-to-market gains on various derivative instruments, including
embedded derivatives related to reinsurance arrangements, credit default swaps
and interest rate futures.
·
Life Marketing
segment operating income was $38.1 million for the three months ended June 30,
2008, representing an increase of $0.3 million, or 0.8%, from the three months
ended June 30, 2007. The increase
was primarily due to more favorable mortality results and lower insurance
company operating expenses, which were substantially offset by lower marketing
company earnings and lower investment income on universal life products due to
the introduction of the AXXX securitization transaction in the third quarter of
2007 that transferred approximately $4 million per quarter of investment income
to the Corporate and Other segment.
·
Acquisitions
segment operating income was $34.5 million and increased $3.7 million, or
12.0%, for the three months ended June 30, 2008 compared to the three
months ended June 30, 2007. The
increase was primarily due to lower operating expenses on the Chase Insurance
Group block and improved mortality results, partially offset by the expected
runoff of other acquired blocks of business.
·
Annuities
segment operating income was $9.5 million for the three months ended June 30,
2008, representing an increase of $2.8 million, or 42.3%, compared to the three
months ended June 30, 2007. This
increase was primarily due to $1.7 million of positive fair value changes on
the equity indexed annuity product line during the three months ended June 30,
2008 and mark-to-market gains on embedded derivatives associated with the
variable annuity GMWB rider. The
remaining increase was primarily driven by the continued growth of the single
premium deferred annuity (SPDA) line which accounted for a $1.3 million
increase in earnings.
·
Stable Value
Products segment operating income was $17.5 million and increased
$5.2 million, or 42.0%, for the three months ended June 30, 2008
compared to the three months ended June 30, 2007. The increase resulted from a combination of
higher average account balances and improved operating spreads. Lower liability costs resulted from replacing
several large high-coupon maturing contracts with attractively priced funding
agreements. As a result, the operating
spread increased 30 basis points to 134 basis points during the three
months ended June 30, 2008, compared to an operating spread of 104 basis
points during the three months ended June 30, 2007. We continually review our investment
portfolio for opportunities to increase the net investment income yield in an
effort to maintain or increase interest spread.
·
Asset Protection segment operating
income was $6.7 million, representing a decrease of $4.9 million, or 42.2%, for
the three months ended June 30, 2008 compared to the three months ended June 30,
2007. The decrease was primarily the
result of a $2.9 million decrease in service contract income due to lower
volume and higher loss ratios in certain product lines. Also contributing to
the decrease was $0.9 million of lower IPP earnings in 2008 due to the loss of
a significant customer during the second quarter of 2007 and $0.9 million of
lower earnings in the GAP line due to an increase in legal expenses during the
second quarter of 2008.
34
Table
of Contents
·
Corporate and Other segment operating
income decreased $0.8 million for the three months ended June 30,
2008, compared to the three months ended June 30, 2007, due primarily to
$3.4 million of lower participating income and $2.6 million of lower prepayment
fee income. These decreases were offset
by mark-to-market adjustments on a $418 million portfolio of securities
designated for trading. This trading portfolio positively impacted the three
months ended June 30, 2008 by approximately $5.3 million, a $6.0 million
more favorable impact than in the three months ended June 30, 2007.
Six Months Ended June 30, 2008 compared
to Six Months Ended June 30, 2007
Net income for the six months ended June 30, 2008 reflects a
$42.2 million, or 18.8%, decrease in segment operating income. The
decrease was primarily related to a $32.5 million decrease in operating
earnings in the Corporate and Other segment and an $18.5 million decrease in
the Life Marketing segment. These
decreases were partially offset by a $9.2 million increase in operating
earnings in the Stable Value segment.
Changes in fair value related to the Corporate and Other trading
portfolio and the Annuities segment reduced operating earnings by $20.0 million
in the first six months of 2008. We
experienced net realized losses of $77.0 million during the first six months of
2008, versus realized net gains of $20.7 million in the first six months of
2007. The losses realized during the six months ended June 30, 2008 were
caused by $80.0 million of other-than-temporary impairment charges related to
residential mortgage-backed securities collateralized by Alt-A mortgages.
·
Life Marketing
segment operating income was $84.6 million for the six months ended June 30,
2008, representing a decrease of $18.5 million, or 18.0%, from the six months
ended June 30, 2007. The decrease
was primarily due to a $15.7 million gain recognized during the first quarter
of 2007 on the sale of the segments direct marketing subsidiary combined with
lower investment income on universal life products due to the introduction of
the AXXX securitization transaction in the third quarter of 2007 that transferred
approximately $4 million per quarter of investment income to the Corporate and
Other segment.
·
Acquisitions
segment operating income was $68.1 million and increased $5.0 million, or
8.0%, for the six months ended June 30, 2008 compared to the six months
ended June 30, 2007, primarily due to lower operating expenses on the
Chase Insurance Group block and improved mortality results, partially offset by
the expected runoff of the acquired blocks of business.
·
Annuities
segment operating income declined $0.3 million, or 2.4%, for the six months
ended June 30, 2008 compared to the six months ended June 30, 2007,
which included $4.0 million of negative fair value changes on the equity
indexed annuity product and on embedded derivatives associated with the
variable annuity GMWB rider. Included in
the mark-to-market adjustment is a SFAS No. 157 transition adjustment loss
for the embedded derivative related to the variable annuity GMWB rider of $0.4
million before income taxes. These items
were partially offset by the continued growth of the SPDA line which accounted
for a $2.9 million increase in operating income.
·
Stable Value
Products segment operating income was $33.8 million and increased $9.2 million,
or 37.6%, for the six months ended June 30, 2008 compared to the six
months ended June 30, 2007. The
increase in operating earnings resulted from a combination of higher average
balances, higher asset yields and lower liability costs. Lower liability costs were the result of
replacing several large high-coupon maturing contracts with attractively priced
funding agreements.
·
Asset Protection
segment operating income was $16.5 million, representing a decrease of
$5.1 million, or 23.6%, for the six months ended June 30, 2008
compared to the six months ended June 30, 2007. Earnings from core product lines decreased
$5.3 million, or 23.3%, for the six months ended June 30, 2008 compared to
the six months ended June 30, 2007. Within the segments core product
lines, credit insurance earnings increased $0.6 million, or 82.8%, for the six
months ended June 30, 2008 compared to the six months ended June 30, 2007. The increase in credit insurance earnings
resulted primarily from a $0.6 million gain related to the sale of a small
insurance subsidiary and its related operations during the first quarter of
2008. Service contract earnings declined $2.8 million, or 14.8%, for the six
months ended June 30, 2008 compared to the six months ended June 30,
2007. The service contract line was unfavorably impacted by lower marine and
auto sales and higher loss ratios in certain product lines. Earnings from other
products declined $3.1 million, or 100.6%, for the six months ended June 30,
2008 compared to the same period in 2007. The decline in other products related
primarily to lower volume in the IPP line resulting from the loss of a
significant customer and lower GAP earnings due to higher legal expenses in
2008.
35
Table
of Contents
·
Corporate and Other segment operating
income declined $32.5 million for the six months ended June 30, 2008,
compared to the six months ended June 30, 2007, due primarily to a $14.1
million negative impact in 2008 from the $418 million portfolio of securities
designated for trading, representing a $14.1 million less favorable impact than
in the first six months of 2007. In
addition, the segment experienced lower participating mortgage income of $10.2
million and lower prepayment fee income of $5.8 million in the securities and
mortgage investment portfolios.
36
Table
of Contents
Life Marketing
Segment results of operations
Segment results were as follows:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
(Dollars In Thousands)
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross premiums and policy fees
|
|
$
|
377,807
|
|
$
|
361,624
|
|
4.5
|
%
|
$
|
736,590
|
|
$
|
707,309
|
|
4.1
|
%
|
Reinsurance ceded
|
|
(255,739
|
)
|
(239,702
|
)
|
6.7
|
|
(463,604
|
)
|
(447,316
|
)
|
3.6
|
|
Net premiums and policy fees
|
|
122,068
|
|
121,922
|
|
0.1
|
|
272,986
|
|
259,993
|
|
5.0
|
|
Net investment income
|
|
86,989
|
|
82,291
|
|
5.7
|
|
171,945
|
|
163,394
|
|
5.2
|
|
Other income
|
|
26,010
|
|
30,992
|
|
(16.1
|
)
|
51,055
|
|
82,357
|
|
(38.0
|
)
|
Total operating revenues
|
|
235,067
|
|
235,205
|
|
(0.1
|
)
|
495,986
|
|
505,744
|
|
(1.9
|
)
|
BENEFITS AND EXPENSES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Benefits and settlement expenses
|
|
161,861
|
|
152,147
|
|
6.4
|
|
339,639
|
|
301,476
|
|
12.7
|
|
Amortization of deferred policy acquisition
costs
|
|
27,234
|
|
25,564
|
|
6.5
|
|
54,157
|
|
54,262
|
|
(0.2
|
)
|
Other operating expenses
|
|
7,845
|
|
19,660
|
|
(60.1
|
)
|
17,614
|
|
46,892
|
|
(62.4
|
)
|
Total benefits and expenses
|
|
196,940
|
|
197,371
|
|
(0.2
|
)
|
411,410
|
|
402,630
|
|
2.2
|
|
OPERATING INCOME
|
|
38,127
|
|
37,834
|
|
0.8
|
|
84,576
|
|
103,114
|
|
(18.0
|
)
|
INCOME BEFORE INCOME TAX
|
|
$
|
38,127
|
|
$
|
37,834
|
|
0.8
|
|
$
|
84,576
|
|
$
|
103,114
|
|
(18.0
|
)
|
37
Table
of Contents
The following table summarizes key data for the Life Marketing segment:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
(Dollars In Thousands)
|
|
Sales By Product
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Traditional
|
|
$
|
26,881
|
|
$
|
43,955
|
|
(38.8
|
)%
|
$
|
53,889
|
|
$
|
77,447
|
|
(30.4
|
)%
|
Universal life
|
|
12,581
|
|
18,515
|
|
(32.0
|
)
|
27,244
|
|
32,712
|
|
(16.7
|
)
|
Variable universal life
|
|
1,679
|
|
2,181
|
|
(23.0
|
)
|
3,283
|
|
4,009
|
|
(18.1
|
)
|
|
|
$
|
41,141
|
|
$
|
64,651
|
|
(36.4
|
)
|
$
|
84,416
|
|
$
|
114,168
|
|
(26.1
|
)
|
Sales By Distribution Channel
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Brokerage general agents
|
|
$
|
23,545
|
|
$
|
41,210
|
|
(42.9
|
)
|
$
|
47,941
|
|
$
|
71,089
|
|
(32.6
|
)
|
Independent agents
|
|
9,331
|
|
10,629
|
|
(12.2
|
)
|
18,183
|
|
18,957
|
|
(4.1
|
)
|
Stockbrokers / banks
|
|
7,307
|
|
9,452
|
|
(22.7
|
)
|
15,754
|
|
17,945
|
|
(12.2
|
)
|
BOLI / other
|
|
958
|
|
3,360
|
|
(71.5
|
)
|
2,538
|
|
6,177
|
|
(58.9
|
)
|
|
|
$
|
41,141
|
|
$
|
64,651
|
|
(36.4
|
)
|
$
|
84,416
|
|
$
|
114,168
|
|
(26.1
|
)
|
Average Life Insurance In-force
(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Traditional
|
|
$
|
472,364,865
|
|
$
|
425,847,790
|
|
10.9
|
|
$
|
468,422,436
|
|
$
|
418,070,072
|
|
12.0
|
|
Universal life
|
|
52,515,937
|
|
51,028,227
|
|
2.9
|
|
52,735,093
|
|
51,135,756
|
|
3.1
|
|
|
|
$
|
524,880,802
|
|
$
|
476,876,017
|
|
10.1
|
|
$
|
521,157,529
|
|
$
|
469,205,828
|
|
11.1
|
|
Average Account Values
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Universal life
|
|
$
|
5,253,016
|
|
$
|
4,927,779
|
|
6.6
|
|
$
|
3,137,075
|
|
$
|
4,904,775
|
|
(36.0
|
)
|
Variable universal life
|
|
325,049
|
|
332,251
|
|
(2.2
|
)
|
333,633
|
|
324,121
|
|
2.9
|
|
|
|
$
|
5,578,065
|
|
$
|
5,260,030
|
|
6.0
|
|
$
|
3,470,708
|
|
$
|
5,228,896
|
|
(33.6
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Traditional Life Mortality Experience
(2)
|
|
$
|
(1,291
|
)
|
$
|
(2,949
|
)
|
|
|
$
|
919
|
|
$
|
2,205
|
|
|
|
Universal Life Mortality Experience
(2)
|
|
$
|
531
|
|
$
|
716
|
|
|
|
$
|
763
|
|
$
|
1,385
|
|
|
|
(1)
Amounts are not adjusted for reinsurance
ceded.
(2)
Represents the estimated pretax earnings
impact resulting from mortality variances. Excludes results related to the
Chase Insurance Group which was acquired in the third quarter of 2006 and
excludes results related to the BOLI product line.
38
Table
of Contents
Operating expenses detail
Other operating expenses for the segment were as follows:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
(Dollars In Thousands)
|
|
Insurance Companies:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
First year commissions
|
|
$
|
49,739
|
|
$
|
70,347
|
|
(29.3
|
)%
|
$
|
103,251
|
|
$
|
128,852
|
|
(19.9
|
)%
|
Renewal commissions
|
|
9,414
|
|
9,385
|
|
0.3
|
|
18,565
|
|
18,104
|
|
2.5
|
|
First year ceding allowances
|
|
(5,047
|
)
|
(4,829
|
)
|
4.5
|
|
(10,576
|
)
|
(8,844
|
)
|
19.6
|
|
Renewal ceding allowances
|
|
(59,302
|
)
|
(58,847
|
)
|
0.8
|
|
(113,436
|
)
|
(112,595
|
)
|
0.7
|
|
General & administrative
|
|
40,897
|
|
47,699
|
|
(14.3
|
)
|
81,430
|
|
92,857
|
|
(12.3
|
)
|
Taxes, licenses, and fees
|
|
7,669
|
|
8,277
|
|
(7.3
|
)
|
14,732
|
|
16,173
|
|
(8.9
|
)
|
Other operating expenses incurred
|
|
43,370
|
|
72,032
|
|
(39.8
|
)
|
93,966
|
|
134,547
|
|
(30.2
|
)
|
Less commissions, allowances &
expenses capitalized
|
|
(59,363
|
)
|
(82,023
|
)
|
(27.6
|
)
|
(124,230
|
)
|
(152,154
|
)
|
(18.4
|
)
|
Other insurance company operating expenses
|
|
(15,993
|
)
|
(9,991
|
)
|
60.1
|
|
(30,264
|
)
|
(17,607
|
)
|
71.9
|
|
Marketing Companies:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commissions
|
|
19,754
|
|
24,606
|
|
(19.7
|
)
|
39,762
|
|
49,178
|
|
(19.1
|
)
|
Other operating expenses
|
|
4,084
|
|
5,045
|
|
(19.0
|
)
|
8,116
|
|
15,321
|
|
(47.0
|
)
|
Other marketing company operating expenses
|
|
23,838
|
|
29,651
|
|
(19.6
|
)
|
47,878
|
|
64,499
|
|
(25.8
|
)
|
Other operating expenses
|
|
$
|
7,845
|
|
$
|
19,660
|
|
(60.1
|
)
|
$
|
17,614
|
|
$
|
46,892
|
|
(62.4
|
)
|
Three Months Ended June 30, 2008
compared to Three Months Ended June 30, 2007
Segment operating income
Operating income was $38.1 million for the three months ended June 30,
2008, representing an increase of $0.3 million, or 0.8%, from the three months
ended June 30, 2007. The increase was primarily due to more favorable
mortality results and lower insurance company operating expenses, which were
substantially offset by lower marketing company earnings and lower investment
income on universal life products due to the introduction of the AXXX
securitization transaction in the third quarter of 2007 that transferred
approximately $4 million per quarter of investment income to the Corporate and
Other segment.
Operating revenues
Total revenues for the three months ended June 30, 2008 decreased
$0.1 million or 0.1%, compared to the three months ended June 30, 2007.
This decrease was the result of lower other income due to the sale of a non-insurance
subsidiary in late 2007 offset by higher investment income due to increases in in-force
volume and higher overall yields. Investment income increased in spite of the
approximately $4 million per quarter reduction of investment income related to
the AXXX securitization transaction.
Net premiums and policy fees
Net premiums and policy fees increased by $0.1 million, or 0.1%, for
the three months ended June 30, 2008 compared to the three months ended June 30,
2007, due to the growth in both traditional and universal life insurance
in-force achieved over the last several quarters combined with an increase in
retention levels on certain traditional life products. Beginning in the third
quarter of 2005, we reduced our reliance on reinsurance by changing from
coinsurance to yearly renewable term reinsurance agreements and increased the
maximum amount retained on any one life from $500,000 to $1,000,000 on certain
of our newly written traditional life products (products written during the
third quarter of 2005 and later.) In addition to increasing net premiums, this
change results in higher benefits and settlement expenses, and causes greater
variability in financial results due to fluctuations in mortality results. Our
maximum retention level for newly issued universal life products is generally
$1,000,000. During 2008, we increased our retention limit to $2,000,000 on
certain of our traditional life products.
39
Table of Contents
Net investment income
Net
investment income in the segment increased $4.7 million, or 5.7%, for the three
months ended June 30, 2008 compared to the three months ended June 30,
2007. The increase reflects the growth
of the segment assets caused by growth related to traditional and universal
life products, partly offset by a decrease due to the funding of statutory
reserves required by Regulation XXX, as clarified by AXXX. Our AXXX securitization transaction on
universal life products was effective in the third quarter of 2007. See the Recent Developments section for
additional information concerning AXXX requirements.
Other income
Other
income decreased $5.0 million, or 16.1%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007. The decrease relates primarily to the sale of
a non-insurance subsidiary in the fourth quarter of 2007 and lower
broker-dealer revenues compared to 2007 levels.
Benefits and settlement expenses
Benefits
and settlement expenses were $9.7 million, or 6.4%, higher for the three months
ended June 30, 2008 than for the three months ended June 30, 2007,
due to growth in life insurance in-force, increased retention levels on certain
newly written traditional life products and higher credited interest on UL
products resulting from increases in account values. The estimated mortality
impact on earnings for the three months ended June 30, 2008 related to traditional
and universal life products was an unfavorable $0.8 million, which was
approximately $1.5 million more favorable than the estimated mortality
impact on earnings for the three months ended June 30, 2007.
Amortization of DAC
DAC
amortization increased $1.7 million or 6.5% for the three months ended June 30,
2008 compared to the three months ending June 30, 2007. Increases in
amortization due to growth in the traditional block were offset by decreases in
universal life and BOLI amortization, mainly due to more favorable
retrospective DAC unlocking in 2008, as compared to the same period in 2007.
Other operating expenses
Other
operating expenses decreased $11.8 million or 60.1% for the three months ended June 30,
2008 compared to the three months ended June 30, 2007. This decrease related to sale of a
non-insurance subsidiary in the fourth quarter of 2007 and reduced
administrative expenses in our insurance operations.
Sales
Sales for the segment decreased $23.5 million, or 36.4%, for the three
months ended June 30, 2008 compared to the three months ended June 30,
2007, primarily due to a decrease in traditional product sales. Lower sales
levels of traditional products are primarily the result of pricing changes
implemented on certain of our products at the beginning of 2008. Universal life
sales declined $5.9 million, or 32.0% for the three months ended June 30,
2008 compared to the three months ended June 30, 2007, primarily due to
competitive pressures in the brokerage general agent, independent general agent
and stockbroker channels. In addition, BOLI sales are subject to significant
fluctuation and were $2.4
million lower in the quarter ending June 30, 2008 compared to the quarter
ending June 30, 2007.
40
Table of Contents
Six Months Ended June 30, 2008 compared to Six Months Ended June 30,
2007
Segment operating income
Operating
income was $84.6 million for the six months ended June 30, 2008,
representing a decrease of $18.5 million, or 18.0%, from the six months ended June 30,
2007. The decrease was primarily due to
a $15.7 million gain recognized during the first quarter of 2007 on the sale of
the segments direct marketing subsidiary combined with lower investment income
on universal life products due to the introduction of the AXXX securitization
transaction in the third quarter of 2007 that transferred approximately $4
million per quarter of investment income to the Corporate and Other segment.
Operating revenues
Excluding
the $15.7 million gain on the sale of a subsidiary which is included in
other income, total revenues for the six months ended June 30, 2008
increased $6.0 million, or 1.2%, compared to the six months ended June 30,
2007. This increase was the result of
growth of life insurance in-force and growth in our traditional block leading
to higher net premiums and policy fees and higher investment income due to
increases in-inforce volume and higher yields, offset by reduced other income
due to the sales of two non-insurance subsidiaries in 2007. Investment income increased in spite of the
approximately $4 million per quarter reduction of investment income related to
the AXXX securitization transaction.
Net premiums and policy fees
Net
premiums and policy fees increased by $13.0 million, or 5.0%, for the six
months ended June 30, 2008 compared to the six months ended June 30,
2007, due in part to the growth in both traditional and universal life insurance
in-force achieved over the last several quarters combined with an increase in
retention levels on certain traditional life products.
Net investment income
Net
investment income in the segment increased $8.6 million, or 5.2%, for the
six months ended June 30, 2008 compared to the six months ended June 30,
2007. The increase reflects the growth
of the segment assets caused by growth related to traditional and universal
life products, partly offset by a decrease due to the previously mentioned
funding of statutory reserves required by Regulation XXX.
Other income
Other
income decreased $31.3 million, or 38.0%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007. The decrease relates primarily to a
$15.7 million gain recognized on the sale of the segments direct
marketing subsidiary in the first quarter of 2007. In addition, marketing
revenue was reduced after the sale of another subsidiary in the fourth quarter
of 2007. Broker-dealer revenues also decreased compared to 2007 levels.
Benefits and settlement expenses
Benefits
and settlement expenses increased $38.2 million, or 12.7%, for the six months
ended June 30, 2008 compared to the six months ended June 30, 2007,
due to growth in life insurance in-force, increased retention levels on certain
newly written traditional life products and higher credited interest on UL
products resulting from increases in account values. The estimated mortality
impact on earnings for the six months ended June 30, 2008 related to traditional
and universal life products was a favorable $1.7 million, which was
approximately $1.9 million less favorable than the estimated mortality
impact on earnings for the six months ended June 30, 2007.
Amortization of DAC
DAC
amortization decreased $0.1 million or 0.2% for the six months ended June 30,
2008 compared to the six months ending June 30, 2007. Increases in
amortization due to growth in the traditional block were offset by decreases in
universal life and BOLI amortization, mainly due to more favorable
retrospective DAC unlocking in 2008, as compared to the same period in 2007.
41
Table of Contents
Other operating expenses
Other
operating expenses decreased $29.3 million or 62.4% for the six months ended June 30,
2008 compared to the six months ended June 30, 2007. This decrease primarily relates to the impact
of the sale of two marketing subsidiaries during 2007 and lower broker dealer
sales compared to the six months ended June 30, 2007. The marketing
companies contributed approximately $16.6 million to the decrease in the six
months ended June 30, 2008 compared to the six months ended June 30,
2007. In addition, reduced operating expenses in the insurance companies
contributed to the overall decrease.
Sales
Sales for the segment decreased $29.8 million, or 26.1%, for the six
months ended June 30, 2008 compared to the six months ended June 30,
2007, primarily due to a decrease in traditional product sales. Lower sales
levels of traditional products are primarily the result of pricing changes
implemented on certain of our products at the beginning of 2008. Universal life sales declined $5.5 million,
or 16.7% for the six months ended June 30, 2008 compared to the six months
ended June 30, 2007, primarily due to competitive pressures in the
brokerage general agent, independent general agent and stockbroker channels. In
addition, BOLI sales are subject to significant fluctuation and were $3.6
million lower in the quarter ending June 30, 2008 compared to the quarter
ending June 30, 2007.
Reinsurance
Currently,
the Life Marketing segment reinsures significant amounts of its life insurance
in-force. Pursuant to the underlying
reinsurance contracts, reinsurers pay allowances to the segment as a percentage
of both first year and renewal premiums.
Reinsurance allowances represent the amount the reinsurer is willing to
pay for reimbursement of acquisition costs incurred by the direct writer of the
business. A portion of reinsurance
allowances received is deferred as part of DAC and a portion is recognized
immediately as a reduction of other operating expenses. As the non-deferred
portion of allowances reduces operating expenses in the period received, these
amounts represent a net increase to operating income during that period.
Reinsurance allowances do not affect the methodology used to amortize
DAC or the period over which such DAC is amortized. However, they do affect the
amounts recognized as DAC amortization. DAC on FASB Statement No. 97,
Accounting and Reporting by Insurance Enterprises for
Certain Long-Duration Contracts and for Realized Gains and Losses from the Sale
of Investments
(SFAS No. 97) is amortized based on the
estimated gross profits of the policies in-force. Reinsurance allowances are
considered in the determination of estimated gross profits, and therefore
impact SFAS No. 97 DAC amortization.
Deferred reinsurance allowances on FASB Statement No. 60,
Accounting and Reporting by Insurance Enterprises
(SFAS
No. 60) policies are recorded as ceded DAC, which is amortized over
estimated ceded premiums of the policies in force. Thus, deferred reinsurance allowances on
SFAS No. 60 policies impact SFAS No. 60 DAC
amortization. A more detailed discussion
of the accounting for reinsurance allowances can be found in the Reinsurance
section of Note 1,
Basis of Presentation and
Summary of Significant Accounting Policies.
42
Table of Contents
Impact of reinsurance
Reinsurance
impacted the Life Marketing segment line items as shown in the following table:
|
|
Three Months Ended
June 30,
|
|
Six Months Ended
June 30,
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
(Dollars
In Thousands)
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
Reinsurance ceded
|
|
$
|
(255,739
|
)
|
$
|
(239,702
|
)
|
$
|
(463,604
|
)
|
$
|
(447,316
|
)
|
BENEFITS AND EXPENSES
|
|
|
|
|
|
|
|
|
|
Benefit and settlement expenses
|
|
(283,811
|
)
|
(263,092
|
)
|
(524,754
|
)
|
(459,143
|
)
|
Amortization of deferred policy acquisition
costs
|
|
(11,720
|
)
|
(17,891
|
)
|
(20,098
|
)
|
(35,692
|
)
|
Other operating expenses
(1)
|
|
(37,223
|
)
|
(34,701
|
)
|
(70,870
|
)
|
(66,627
|
)
|
Total benefits and expenses
|
|
(332,754
|
)
|
(315,684
|
)
|
(615,722
|
)
|
(561,462
|
)
|
|
|
|
|
|
|
|
|
|
|
NET IMPACT OF REINSURANCE
(2)
|
|
$
|
77,015
|
|
$
|
75,982
|
|
$
|
152,118
|
|
$
|
114,146
|
|
|
|
|
|
|
|
|
|
|
|
Allowances received
|
|
$
|
(64,349
|
)
|
$
|
(63,675
|
)
|
$
|
(124,012
|
)
|
$
|
(121,438
|
)
|
Less: Amount deferred
|
|
27,126
|
|
28,974
|
|
53,142
|
|
54,811
|
|
Allowances recognized
|
|
|
|
|
|
|
|
|
|
(ceded other operating expenses)
(1)
|
|
$
|
(37,223
|
)
|
$
|
(34,701
|
)
|
$
|
(70,870
|
)
|
$
|
(66,627
|
)
|
(1)
Other
operating expenses ceded per the income statement are equal to reinsurance
allowances recognized after capitalization.
(2)
Assumes
no investment income on reinsurance. Foregone investment income would
substantially reduce the favorable impact of reinsurance. The Company estimates
that the impact of foregone investment income would reduce the net impact of reinsurance
by 85% to 95%.
The
table above does not reflect the impact of reinsurance on our net investment
income. By ceding business to the
assuming companies, we forgo investment income on the reserves ceded. Conversely, the assuming companies will
receive investment income on the reserves assumed which will increase the
assuming companies profitability on the business we cede. The net investment income impact to us and
the assuming companies has not been quantified.
The impact of including foregone investment income would be to substantially
reduce the favorable net impact of reinsurance reflected above. We estimate
that the impact of foregone investment income would be to reduce the net impact
of reinsurance presented in the table above by 85% to 95%. The Life Marketing segments reinsurance
programs do not materially impact the other income line of our income
statement.
As
shown above, reinsurance had a favorable impact on the Life Marketing segments
operating income for the periods presented above. The impact of reinsurance is
largely due to our quota share coinsurance program in place prior to mid-2005.
Under that program, 90% of the segments traditional premiums were ceded to
reinsurers. Since mid-2005, a much smaller percentage of overall term premiums
are ceded due to our change in reinsurance strategy on traditional business
discussed previously. As a result of that change, the relative impact of
reinsurance on the Life Marketing segments overall results is expected to
decrease over time. While the significance of reinsurance is expected to
decline over time, the overall impact of reinsurance for a given year may
fluctuate due to variations in mortality and unlocking of balances under SFAS No. 97.
43
Table of Contents
Premiums
and policy fees ceded had been rising over a number of years with increases in
our in-force blocks of traditional and universal life business. Beginning in
mid-2005, we changed our reinsurance approach in our traditional life product
lines. Instead of generally ceding 90% of premiums on new business issued
before that date, we began purchasing yearly renewable term on risks in excess
of $1 million (now increased to $2 million). This had the effect of reducing
reinsurance on new policies issued. The increase in ceded premiums above for
the three and six months ended June 30, 2008 compared to the same periods in
2007, was caused primarily by growth in ceded universal life premiums and
policy fees of $10.8 million and $20.3 million, respectively.
Ceded
benefits and settlement expenses increased for the first six months of 2008
compared to the first six months of 2007 primarily due to higher death benefits
ceded. Term ceded benefits increased $13.8 million for the three months ending June 30,
2008 compared to the three months ending June 30, 2007 and $29.2 million
for the six months ending June 30, 2008 compared to the six months ending June 30,
2007 as higher death benefits ceded more than offset decreases in reserve
changes ceded. Universal life ceded benefits increased $5.7 million for the
three months ending June 30, 2008 compared to the three months ending June 30,
2007 and $36.5 million for the six months ending June 30, 2008 compared to
the six months ending June 30, 2007 due to higher first quarter 2008
claims and higher change in ceded reserves associated with growth in the
business throughout the year. Second quarter 2008 ceded universal life claims
were lower than second quarter 2007 ceded universal life claims. Ceded
universal life claims were $17.3 million higher for the six months ending June 30,
2008 compared to the six months ending June 30, 2007. Ceded benefits and
settlement expenses will fluctuate over time, largely as a function of the
segments overall variations in death benefits incurred.
Ceded
amortization of deferred policy acquisitions costs decreased in 2008 compared
to 2007 primarily due to unlocking in the universal life line which was
substantially offset by unlocking in direct deferred acquisition costs. Ceded
amortization will fluctuate over time largely as a function of changes to
assumptions or fluctuations in results on direct deferred policy acquisition
costs.
Ceded
other operating expenses are based on allowances received from reinsurers.
Total allowances received in 2008 increased from 2007 as increases associated
with growth in the universal life line more than offset decreases associated
with the change in our term life reinsurance strategy from 90% first dollar
quota share coinsurance to use of yearly renewable term reinsurance on amounts
in excess of $1,000,000. Term allowances have decreased since mid-2005 as new
YRT reinsurance replaces the 90% coinsured business.
44
Table of Contents
Acquisitions
Segment results of operations
Segment
results were as follows:
|
|
Three Months Ended
June 30,
|
|
|
|
Six Months Ended
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross premiums and policy fees
|
|
$
|
193,516
|
|
$
|
214,465
|
|
(9.8
|
)%
|
$
|
385,008
|
|
$
|
408,946
|
|
(5.9
|
)%
|
Reinsurance ceded
|
|
(125,079
|
)
|
(137,371
|
)
|
(8.9
|
)
|
(240,842
|
)
|
(255,612
|
)
|
(5.8
|
)
|
Net premiums and policy fees
|
|
68,437
|
|
77,094
|
|
(11.2
|
)
|
144,166
|
|
153,334
|
|
(6.0
|
)
|
Net investment income
|
|
134,482
|
|
145,263
|
|
(7.4
|
)
|
270,695
|
|
294,249
|
|
(8.0
|
)
|
Other income
|
|
1,847
|
|
2,525
|
|
(26.9
|
)
|
3,268
|
|
4,773
|
|
(31.5
|
)
|
Total operating revenues
|
|
204,766
|
|
224,882
|
|
(8.9
|
)
|
418,129
|
|
452,356
|
|
(7.6
|
)
|
Realized gains (losses) - investments
|
|
(50,323
|
)
|
(69,216
|
)
|
|
|
(86,641
|
)
|
(61,283
|
)
|
|
|
Realized gains (losses) - derivatives
|
|
46,499
|
|
71,782
|
|
|
|
75,089
|
|
68,079
|
|
|
|
Total revenues
|
|
200,942
|
|
227,448
|
|
|
|
406,577
|
|
459,152
|
|
|
|
BENEFITS AND EXPENSES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Benefits and settlement expenses
|
|
142,801
|
|
158,284
|
|
(9.8
|
)
|
297,221
|
|
320,188
|
|
(7.2
|
)
|
Amortization of deferred policy acquisition
costs and value of business acquired
|
|
20,512
|
|
19,200
|
|
6.8
|
|
39,014
|
|
39,148
|
|
(0.3
|
)
|
Other operating expenses
|
|
6,939
|
|
16,584
|
|
(58.2
|
)
|
13,804
|
|
29,957
|
|
(53.9
|
)
|
Operating benefits and expenses
|
|
170,252
|
|
194,068
|
|
(12.3
|
)
|
350,039
|
|
389,293
|
|
(10.1
|
)
|
Amortization of DAC / VOBA related to realized
gains (losses) - investments
|
|
(535
|
)
|
777
|
|
|
|
559
|
|
1,383
|
|
|
|
Total benefits and expenses
|
|
169,717
|
|
194,845
|
|
(12.9
|
)
|
350,598
|
|
390,676
|
|
(10.3
|
)
|
INCOME BEFORE INCOME TAX
|
|
31,225
|
|
32,603
|
|
(4.2
|
)
|
55,979
|
|
68,476
|
|
(18.3
|
)
|
Less: realized gains (losses)
|
|
(3,824
|
)
|
2,566
|
|
|
|
(11,552
|
)
|
6,796
|
|
|
|
Less: related amortization of DAC
|
|
535
|
|
(777
|
)
|
|
|
(559
|
)
|
(1,383
|
)
|
|
|
OPERATING INCOME
|
|
$
|
34,514
|
|
$
|
30,814
|
|
12.0
|
|
$
|
68,090
|
|
$
|
63,063
|
|
8.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
45
Table of Contents
The
following table summarizes key data for the Acquisitions segment:
|
|
Three Months Ended
June 30,
|
|
|
|
Six Months Ended
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
Average Life Insurance In-Force
(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Traditional
|
|
$
|
213,300,425
|
|
$
|
227,101,220
|
|
(6.1
|
)%
|
$
|
214,263,619
|
|
$
|
228,343,004
|
|
(6.2
|
)%
|
Universal life
|
|
30,360,961
|
|
32,052,947
|
|
(5.3
|
)
|
30,597,436
|
|
32,258,739
|
|
(5.1
|
)
|
|
|
$
|
243,661,386
|
|
$
|
259,154,167
|
|
(6.0
|
)
|
$
|
244,861,055
|
|
$
|
260,601,743
|
|
(6.0
|
)
|
Average Account Values
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Universal life
|
|
$
|
2,958,583
|
|
$
|
3,001,495
|
|
(1.4
|
)
|
$
|
2,967,501
|
|
$
|
3,014,433
|
|
(1.6
|
)
|
Fixed annuity
(2)
|
|
4,516,192
|
|
5,354,811
|
|
(15.7
|
)
|
4,603,164
|
|
5,401,199
|
|
(14.8
|
)
|
Variable annuity
|
|
181,698
|
|
199,898
|
|
(9.1
|
)
|
187,941
|
|
197,513
|
|
(4.8
|
)
|
|
|
$
|
7,656,473
|
|
$
|
8,556,204
|
|
(10.5
|
)
|
$
|
7,758,606
|
|
$
|
8,613,145
|
|
(9.9
|
)
|
Interest Spread - UL & Fixed
Annuities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income yield
(4)
|
|
6.06
|
%
|
6.19
|
%
|
|
|
6.03
|
%
|
6.27
|
%
|
|
|
Interest credited to policyholders
|
|
4.14
|
|
4.07
|
|
|
|
4.11
|
|
4.10
|
|
|
|
Interest spread
|
|
1.92
|
%
|
2.12
|
%
|
|
|
1.92
|
%
|
2.17
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mortality Experience
(3)
|
|
$
|
1,394
|
|
$
|
389
|
|
|
|
$
|
1,246
|
|
$
|
46
|
|
|
|
(1)
Amounts are not adjusted for reinsurance
ceded.
(2)
Includes general account balances held
within variable annuity products and is net of reinsurance ceded.
(3)
Represents
the estimated pretax earnings impact resulting from mortality variance to
pricing. Excludes results related to the
Chase Insurance Group which was acquired in the third quarter of 2006.
(4)
Includes
available-for-sale and trading portfolios. Available-for-sale portfolio yields
were 6.33% and 6.31%, respectively, for the three and six months ended
June 30, 2008 compared to 6.24% and 6.23%, respectively, for the same
periods ended June 30, 2007.
Three Months Ended June 30, 2008 compared to Three Months Ended June 30,
2007
Segment operating income
Operating
income increased $3.7 million, or 12.0%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007, primarily due to
lower operating expenses on the Chase Insurance Group block and improved
mortality results, partially offset by the expected runoff of other acquired
blocks of business.
Revenues
Net
premiums and policy fees decreased $8.7 million, or 11.2%, for the three
months ended June 30, 2008 compared to the three months ended June 30,
2007, primarily due to the runoff of the acquired blocks. Investment income decreased $10.8 million, or
7.4%, for the three months ended June 30, 2008 compared to the three
months ended June 30, 2007, primarily due to a decline in annuity account
values in the Chase Insurance Group block, resulting in a reduction of invested
assets and lower investment income.
Benefits and expenses
Total
benefits and expenses decreased $25.1 million, or 12.9%, for the three months
ended June 30, 2008 compared to the three months ended June 30, 2007.
The decrease related primarily to the
runoff of the acquired blocks, fluctuations in mortality, and lower operating
expenses.
Six Months Ended June 30, 2008 compared to Six Months Ended June 30,
2007
Segment operating income
Operating
income increased $5.0 million, or 8.0%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007, primarily due to
lower operating expenses on the Chase Insurance Group block and improved
mortality results, partially offset by the expected runoff of the acquired
blocks of business.
46
Table of Contents
Revenues
Net premiums and policy fees
decreased $9.2 million, or 6.0%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007, primarily due to the
runoff of the acquired blocks. Investment income decreased $23.6 million,
or 8.0%, for the six months ended June 30, 2008 compared to the six months
ended June 30, 2007, primarily due to the runoff of the remaining acquired
closed blocks and a decline in annuity account values in the Chase Insurance
block.
Benefits
and expenses
Total benefits and expenses
decreased $40.1 million, or 10.3%, for the six months ended June 30, 2008
compared to the six months ended June 30, 2007. The decrease related primarily to the runoff
of the acquired closed blocks, fluctuations in mortality, and lower operating
expenses.
Reinsurance
The
Acquisitions segment currently reinsures portions of both its life and annuity
in-force. The cost of reinsurance to the
segment is reflected in the chart shown below.
A more detailed discussion of the components of reinsurance can be found
in the Reinsurance section of Note 1,
Basis
of Presentation and Summary of Significant Accounting Policies.
Impact of
reinsurance
Reinsurance impacted the
Acquisitions segment line items as shown in the following table:
Acquisitions Segment
Line Item Impact of Reinsurance
|
|
Three Months Ended
June 30,
|
|
Six Months Ended
June 30,
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
|
|
(Dollars
In Thousands)
|
|
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
Reinsurance ceded
|
|
$
|
(125,079
|
)
|
$
|
(137,371
|
)
|
$
|
(240,842
|
)
|
$
|
(255,612
|
)
|
BENEFITS AND EXPENSES
|
|
|
|
|
|
|
|
|
|
Benefit and settlement expenses
|
|
(95,249
|
)
|
(65,009
|
)
|
(204,513
|
)
|
(240,127
|
)
|
Amortization of deferred policy acquisition costs
|
|
(8,330
|
)
|
(1,935
|
)
|
(15,914
|
)
|
(3,438
|
)
|
Other operating expenses
|
|
(17,471
|
)
|
(26,007
|
)
|
(34,865
|
)
|
(51,565
|
)
|
Total Benefits and Expenses
|
|
(121,050
|
)
|
(92,951
|
)
|
(255,292
|
)
|
(295,130
|
)
|
|
|
|
|
|
|
|
|
|
|
NET IMPACT OF REINSURANCE
|
|
$
|
(4,029
|
)
|
$
|
(44,420
|
)
|
$
|
14,450
|
|
$
|
39,518
|
|
The segments reinsurance
programs do not materially impact the other income line of the income
statement. In addition, net investment income generally has no direct impact on
reinsurance cost. However, it should be noted that by ceding business to the
assuming companies, we forgo investment income on the reserves ceded to the
assuming companies. Conversely, the assuming companies will receive investment
income on the reserves assumed which will increase the assuming companies
profitability on business assumed from the Company. For business ceded under
modified coinsurance arrangements, the amount of investment income attributable
to the assuming company is included as part of the overall change in policy
reserves and, as such, is reflected in benefit and settlement expenses. The net
investment income impact to the Company and the assuming companies has not been
quantified as it is not fully reflected in our consolidated financial
statements.
The net impact of
reinsurance decreased $40.4 million, or 90.9%, and $25.1 million, or 63.4% for
the three and six months ended June 30, 2008, respectively, compared to
the same periods in 2007, primarily as a result of fluctuations in ceded claims
volume on the Chase Insurance Group block of business.
47
Table of Contents
Annuities
Segment results of operations
Segment results were as
follows:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
|
|
|
|
(Dollars
In Thousands)
|
|
|
|
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
|
|
Gross premiums and policy fees
|
|
$
|
8,449
|
|
$
|
8,633
|
|
(2.1
|
)%
|
$
|
16,640
|
|
$
|
16,895
|
|
(1.5
|
)%
|
Reinsurance ceded
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net premiums and policy fees
|
|
8,449
|
|
8,633
|
|
(2.1
|
)
|
16,640
|
|
16,895
|
|
(1.5
|
)
|
Net investment income
|
|
85,007
|
|
64,890
|
|
31.0
|
|
162,293
|
|
125,751
|
|
29.1
|
|
Realized gains (losses) - derivatives
|
|
(1,850
|
)
|
1,351
|
|
|
|
(8,090
|
)
|
1,605
|
|
|
|
Other income
|
|
3,255
|
|
2,797
|
|
16.4
|
|
6,258
|
|
5,510
|
|
13.6
|
|
Total operating revenues
|
|
94,861
|
|
77,671
|
|
22.1
|
|
177,101
|
|
149,761
|
|
18.3
|
|
Realized gains (losses) - investments
|
|
1,095
|
|
53
|
|
|
|
1,115
|
|
1,717
|
|
|
|
Total revenues
|
|
95,956
|
|
77,724
|
|
23.5
|
|
178,216
|
|
151,478
|
|
17.7
|
|
BENEFITS AND EXPENSES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Benefits and settlement expenses
|
|
71,842
|
|
56,101
|
|
28.1
|
|
139,258
|
|
112,050
|
|
24.3
|
|
Amortization of deferred policy acquisition
|
|
|
|
|
|
|
|
|
|
|
|
|
|
costs and value of business acquired
|
|
7,199
|
|
9,856
|
|
(27.0
|
)
|
13,120
|
|
14,394
|
|
(8.9
|
)
|
Other operating expenses
|
|
6,333
|
|
5,045
|
|
25.5
|
|
12,747
|
|
11,042
|
|
15.4
|
|
Operating benefits and expenses
|
|
85,374
|
|
71,002
|
|
20.2
|
|
165,125
|
|
137,486
|
|
20.1
|
|
Amortization of DAC / VOBA related to realized gains (losses) -
investments
|
|
40
|
|
53
|
|
|
|
20
|
|
643
|
|
|
|
Total benefits and expenses
|
|
85,414
|
|
71,055
|
|
|
|
165,145
|
|
138,129
|
|
|
|
INCOME BEFORE INCOME TAX
|
|
10,542
|
|
6,669
|
|
58.1
|
|
13,071
|
|
13,349
|
|
(2.1
|
)
|
Less: realized gains (losses)
|
|
1,095
|
|
53
|
|
|
|
1,115
|
|
1,717
|
|
|
|
Less: related amortization of DAC
|
|
(40
|
)
|
(53
|
)
|
|
|
(20
|
)
|
(643
|
)
|
|
|
OPERATING INCOME
|
|
$
|
9,487
|
|
$
|
6,669
|
|
42.3
|
|
$
|
11,976
|
|
$
|
12,275
|
|
(2.4
|
)
|
48
Table of Contents
The following table
summarizes key data for the Annuities segment:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
|
|
|
|
(Dollars
In Thousands)
|
|
|
|
|
|
Sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed annuity
|
|
$
|
436,788
|
|
$
|
305,554
|
|
42.9
|
%
|
$
|
956,036
|
|
$
|
541,745
|
|
76.5
|
%
|
Variable annuity
|
|
115,448
|
|
123,263
|
|
(6.3
|
)
|
208,240
|
|
202,245
|
|
3.0
|
|
|
|
$
|
552,236
|
|
$
|
428,817
|
|
28.8
|
|
$
|
1,164,276
|
|
$
|
743,990
|
|
56.5
|
|
Average Account Values
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed annuity
(1)
|
|
$
|
5,485,382
|
|
$
|
4,249,579
|
|
29.1
|
|
$
|
5,274,717
|
|
$
|
4,142,530
|
|
27.3
|
|
Variable annuity
|
|
2,582,909
|
|
2,704,860
|
|
(4.5
|
)
|
2,574,947
|
|
2,642,535
|
|
(2.6
|
)
|
|
|
$
|
8,068,291
|
|
$
|
6,954,439
|
|
16.0
|
|
$
|
7,849,664
|
|
$
|
6,785,065
|
|
15.7
|
|
Interest Spread - Fixed Annuities
(2)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income yield
|
|
6.14
|
%
|
6.01
|
%
|
|
|
6.10
|
%
|
5.97
|
%
|
|
|
Interest credited to policyholders
|
|
5.03
|
|
5.27
|
|
|
|
5.00
|
|
5.25
|
|
|
|
Interest spread
|
|
1.11
|
%
|
0.74
|
%
|
|
|
1.10
|
%
|
0.72
|
%
|
|
|
|
|
|
|
|
|
|
|
As of
|
|
|
|
|
|
|
|
|
|
|
|
June 30,
|
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
GMDB - Net amount at risk
(3)
|
|
|
|
|
|
|
|
$
|
275,062
|
|
$
|
81,748
|
|
236.5
|
%
|
GMDB - Reserves
|
|
|
|
|
|
|
|
|
|
3,308
|
|
n/m
|
|
S&P 500® Index
|
|
|
|
|
|
|
|
1,280
|
|
1,503
|
|
(14.8
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
Includes
general account balances held within variable annuity products.
(2)
Interest
spread on average general account values.
(3)
Guaranteed
death benefits in excess of contract holder account balance.
Three Months Ended June 30, 2008 compared to Three
Months Ended June 30, 2007
Segment
operating income
Operating income
increased $2.8 million, or 42.3%, for the three months ended June 30, 2008
compared to the three months ended June 30, 2007, which included $1.7
million of positive fair value changes on the equity indexed annuity product
and on embedded derivatives associated with the variable annuity GMWB
rider. The remaining increase was
primarily driven by the continued growth of the single premium deferred annuity
(SPDA) line which accounted for a $1.3 million increase in earnings.
Operating
revenues
Segment operating
revenues increased $17.2 million, or 22.1%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007, primarily due to an
increase in net investment income.
Average account balances grew 16.0% in the three months ended June 30,
2008, resulting in higher investment income.
The additional income resulting from the larger account balances was
partially reduced in the three months ended June 30, 2008 by losses on
derivatives. The segment continually
monitors and adjusts credited rates as appropriate in an effort to maintain
and/or improve its interest spread.
Benefits
and expenses
Operating benefits and
expenses increased $14.4 million, or 20.2%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007. This increase was primarily the result of
higher credited
interest and unfavorable mortality fluctuations. Mortality was unfavorable by $6.3 million
in the three months ended June 30, 2008 compared to unfavorable mortality
of $2.7 million in the three months ended June 30, 2007, an
unfavorable change of $3.6 million.
The unfavorable mortality variances primarily relate to sales of large
single premium immediate annuity (SPIA) cases. Because this SPIA block has not reached a
critical size relative to the total amount of annuities in-force, volatility in
mortality results is expected.
49
Table
of Contents
Amortization
of DAC
The decrease in DAC
amortization (not related to realized capital gains and losses) for the three
months ended June 30, 2008 compared to the three months ended June 30,
2007 was primarily due to the adoption of SFAS No. 157, as this standard
replaced the DAC component with the fair value calculation for the equity
indexed annuity product. DAC
amortization also decreased significantly on the variable annuity line due to
fair value losses, but was offset by higher DAC amortization in other annuity
lines of business. We periodically review and update as appropriate our key
assumptions including future mortality, expenses, lapses, premium persistency,
investment yields and interest spreads.
Changes to these assumptions result in adjustments which increase or
decrease DAC amortization. The periodic
review and updating of assumptions is referred to as unlocking. Retrospective DAC unlocking in the market
value adjusted annuity line, although favorable in the three months ended June 30,
2008, was not as favorable as retrospective unlocking in the three months ended
June 30, 2007. For the three months
ended June 30, 2008, DAC amortization for the Annuities segment was
reduced by $0.6 million due to favorable retrospective DAC unlocking in
the market value adjusted annuity line.
Favorable retrospective DAC unlocking of $0.3 million was recorded
by the segment during the three months ended June 30, 2007.
Sales
Total sales increased
$123.4 million, or 28.8%, for the three months ended June 30, 2008
compared to the three months ended June 30, 2007. Sales of fixed annuities increased
$131.2 million, or 42.9%, for the three months ended June 30, 2008 compared
to the three months ended June 30, 2007.
The increase in fixed annuity sales was primarily due to strong sales in
the single premium deferred annuity and market value adjusted annuity products,
as well as our continued efforts to increase wholesale distribution. The continuation of new annuity sales through
the Chase distribution system contributed $185.5 million in fixed annuity
sales in the three months ended June 30, 2008 compared to $114.3 million
for the three months ended June 30, 2007.
Sales of variable annuities decreased $7.8 million, or 6.3% for the
three months ended June 30, 2008 compared to the three months ended June 30,
2007. A general decline in the equity
markets has increased the net amount at risk with respect to guaranteed minimum
death benefits as of June 30, 2008 compared to June 30, 2007.
Six Months Ended June 30, 2008 compared to Six Months
Ended June 30, 2007
Segment
operating income
Operating income declined
$0.3 million, or 2.4%, for the six months ended June 30, 2008 compared to
the six months ended June 30, 2007, which included $4.0 million of
negative fair value changes on the equity indexed annuity product and on
embedded derivatives associated with the variable annuity GMWB rider. Included in the mark-to-market adjustment is
a SFAS No. 157 transition adjustment loss for the embedded derivative
related to the variable annuity GMWB rider of $0.4 million before income
taxes. These items were partially offset
by the continued growth of the SPDA line which accounted for a $2.9 million
increase in operating income.
Operating
revenues
Segment operating
revenues increased $27.3 million, or 18.3%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007, primarily due to an
increase in net investment income.
Average account balances grew 15.7% for the six months ended June 30,
2008, resulting in higher investment income.
The additional income resulting from the larger account balances was
partially reduced in the first six months of 2008 by losses on derivatives.
Benefits
and expenses
Operating benefits and
expenses increased $27.6 million, or 20.1%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007. This increase was primarily the result of
higher credited interest and unfavorable mortality fluctuations. Mortality was unfavorable by
$11.1 million for the six months ended June 30, 2008 compared to
unfavorable mortality of $5.1 million for the six months ended June 30,
2007, an unfavorable change of $6.0 million. The unfavorable mortality variances primarily
relate to sales of large SPIA cases previously mentioned.
50
Table of Contents
Amortization
of DAC
The decrease in DAC
amortization (not related to realized capital gains and losses) for the six
months ended June 30, 2008 compared to the six months ended June 30,
2007 was due to the adoption of SFAS No. 157, as this standard replaced
the DAC component with the fair value calculation for the equity indexed
annuity product. DAC amortization also
decreased significantly on the variable annuity line due to fair value losses,
but was offset by higher DAC amortization in other annuity lines of business.
Retrospective DAC unlocking in the market value adjusted annuity line, although
favorable for the six months ended June 30, 2008, was not as favorable as
retrospective unlocking for the six months ended June 30, 2007. For the six months ended June 30, 2008,
DAC amortization for the Annuities segment was reduced by $0.9 million due to
favorable retrospective DAC unlocking in the market value adjusted annuity
line. Favorable retrospective DAC
unlocking of $1.5 million was recorded by the segment for the six months
ended June 30, 2007.
Sales
Total sales increased
$420.3 million, or 56.5%, for the six months ended June 30, 2008
compared to the six months ended June 30, 2007. Sales of fixed annuities increased
$414.3 million, or 76.5%, for the six months ended June 30, 2008
compared to the six months ended June 30, 2007. The increase in fixed annuity sales was
primarily due to strong sales in the single premium immediate annuity, single
premium deferred annuity, and market value adjusted annuity products, as well
as our continued efforts to increase wholesale distribution. The continuation of new annuity sales through
the Chase distribution system contributed $267.4 million in fixed annuity sales
for the six months ended June 30, 2008 compared to $184.2 million for six
months ended June 30, 2007. Sales
of variable annuities increased $6.0 million, or 3.0% for the six months ended June 30,
2008 compared to the six months ended June 30, 2007.
51
Table of Contents
Stable
Value Products
Segment results of operations
Segment results were as
follows:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income
|
|
$
|
77,747
|
|
$
|
71,478
|
|
8.8
|
%
|
$
|
156,108
|
|
$
|
150,579
|
|
3.7
|
%
|
Realized gains (losses)
|
|
1,823
|
|
(583
|
)
|
|
|
7,256
|
|
842
|
|
|
|
Total revenues
|
|
79,570
|
|
70,895
|
|
|
|
163,364
|
|
151,421
|
|
|
|
BENEFITS AND EXPENSES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Benefits and settlement expenses
|
|
57,485
|
|
57,097
|
|
0.7
|
|
117,414
|
|
121,816
|
|
(3.6
|
)
|
Amortization of deferred policy acquisition costs
|
|
1,095
|
|
987
|
|
10.9
|
|
2,162
|
|
2,155
|
|
0.3
|
|
Other operating expenses
|
|
1,622
|
|
1,039
|
|
56.1
|
|
2,771
|
|
2,067
|
|
34.1
|
|
Total benefits and expenses
|
|
60,202
|
|
59,123
|
|
1.8
|
|
122,347
|
|
126,038
|
|
(2.9
|
)
|
INCOME BEFORE INCOME TAX
|
|
19,368
|
|
11,772
|
|
64.5
|
|
41,017
|
|
25,383
|
|
61.6
|
|
Less: realized gains (losses)
|
|
1,823
|
|
(583
|
)
|
|
|
7,256
|
|
842
|
|
|
|
OPERATING INCOME
|
|
$
|
17,545
|
|
$
|
12,355
|
|
42.0
|
|
$
|
33,761
|
|
$
|
24,541
|
|
37.6
|
|
The following table
summarizes key data for the Stable Value Products segment:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
Sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GIC
|
|
$
|
11,113
|
|
$
|
75,000
|
|
(85.2
|
)%
|
$
|
85,345
|
|
$
|
77,500
|
|
10.1
|
%
|
GFA - Direct Institutional
|
|
425,000
|
|
|
|
n/m
|
|
425,000
|
|
|
|
n/m
|
|
GFA - Registered Notes - Institutional
|
|
|
|
50,000
|
|
n/m
|
|
450,000
|
|
50,000
|
|
n/m
|
|
GFA - Registered Notes - Retail
|
|
151,725
|
|
10,014
|
|
n/m
|
|
265,129
|
|
23,134
|
|
n/m
|
|
|
|
$
|
587,838
|
|
$
|
135,014
|
|
335.4
|
|
$
|
1,225,474
|
|
$
|
150,634
|
|
713.5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average Account Values
|
|
$
|
5,139,017
|
|
$
|
4,780,565
|
|
|
|
$
|
5,139,290
|
|
$
|
5,119,688
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Spread
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income yield
|
|
5.94
|
%
|
5.99
|
%
|
|
|
6.02
|
%
|
5.97
|
%
|
|
|
Interest credited
|
|
4.39
|
|
4.78
|
|
|
|
4.53
|
|
4.83
|
|
|
|
Operating expenses
|
|
0.21
|
|
0.17
|
|
|
|
0.19
|
|
0.17
|
|
|
|
Operating spread
|
|
1.34
|
%
|
1.04
|
%
|
|
|
1.30
|
%
|
0.97
|
%
|
|
|
52
Table of Contents
Three Months Ended June 30, 2008 compared to Three
Months Ended June 30, 2007
Segment
operating income
Operating income
increased $5.2 million, or 42.0%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007. The increase in operating earnings resulted
from a combination of higher average balances and lower liability costs. Lower liability costs resulted from replacing
several large high-coupon maturing contracts with attractively priced funding
agreements. As a result, the operating
spread increased 30 basis points to 134 basis points during the three
months ended June 30, 2008, compared to an operating spread of 104 basis
points during the three months ended June 30, 2007. We continually review our investment
portfolio for opportunities to increase the net investment income yield in an
effort to maintain or increase interest spread.
Sales
Total sales increased
$452.8 million for the three months ended June 30, 2008 compared to the
three months ended June 30, 2007.
The increase was primarily due to our re-entry into the institutional
funding agreement market.
Six Months Ended June 30, 2008 compared to Six Months
Ended June 30, 2007
Segment
operating income
Operating income
increased $9.2 million, or 37.6%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007. The increase in operating earnings resulted
from a combination of higher average balances, higher asset yields and lower
liability costs. Lower liability costs
were the result of replacing several large high-coupon maturing contracts with
attractively priced funding agreements.
Sales
Total sales increased
$1.1 billion, for the six months ended June 30, 2008 compared to the six
months ended June 30, 2007. The
increase was primarily due to our re-entry into the institutional funding
agreement market.
53
Table of Contents
Asset
Protection
Segment results of operations
Segment results were as
follows:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross premiums and policy fees
|
|
$
|
91,110
|
|
$
|
97,985
|
|
(7.0
|
)%
|
$
|
186,445
|
|
$
|
197,405
|
|
(5.6
|
)%
|
Reinsurance ceded
|
|
(42,954
|
)
|
(45,689
|
)
|
(6.0
|
)
|
(90,397
|
)
|
(90,827
|
)
|
(0.5
|
)
|
Net premiums and policy fees
|
|
48,156
|
|
52,296
|
|
(7.9
|
)
|
96,048
|
|
106,578
|
|
(9.9
|
)
|
Net investment income
|
|
9,808
|
|
9,467
|
|
3.6
|
|
19,713
|
|
18,679
|
|
5.5
|
|
Other income
|
|
17,379
|
|
20,455
|
|
(15.0
|
)
|
32,515
|
|
36,984
|
|
(12.1
|
)
|
Total operating revenues
|
|
75,343
|
|
82,218
|
|
(8.4
|
)
|
148,276
|
|
162,241
|
|
(8.6
|
)
|
BENEFITS AND EXPENSES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Benefits and settlement expenses
|
|
27,662
|
|
26,113
|
|
5.9
|
|
52,428
|
|
51,928
|
|
1.0
|
|
Amortization of deferred policy acquisition
|
|
|
|
|
|
|
|
|
|
|
|
|
|
costs
|
|
15,341
|
|
21,464
|
|
(28.5
|
)
|
29,673
|
|
42,167
|
|
(29.6
|
)
|
Other operating expenses
|
|
25,676
|
|
23,119
|
|
11.1
|
|
49,659
|
|
46,540
|
|
6.7
|
|
Total benefits and expenses
|
|
68,679
|
|
70,696
|
|
(2.9
|
)
|
131,760
|
|
140,635
|
|
(6.3
|
)
|
INCOME BEFORE INCOME TAX
|
|
6,664
|
|
11,522
|
|
(42.2
|
)
|
16,516
|
|
21,606
|
|
(23.6
|
)
|
OPERATING INCOME
|
|
$
|
6,664
|
|
$
|
11,522
|
|
(42.2
|
)
|
$
|
16,516
|
|
$
|
21,606
|
|
(23.6
|
)
|
The following
table summarizes key data for the Asset Protection segment:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
|
|
Sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit insurance
|
|
$
|
18,381
|
|
$
|
31,579
|
|
(41.8
|
)%
|
$
|
41,171
|
|
$
|
59,661
|
|
(31.0
|
)%
|
Service contracts
|
|
82,199
|
|
90,588
|
|
(9.3
|
)
|
153,862
|
|
165,395
|
|
(7.0
|
)
|
Other products
|
|
19,055
|
|
28,046
|
|
(32.1
|
)
|
35,317
|
|
58,232
|
|
(39.4
|
)
|
|
|
$
|
119,635
|
|
$
|
150,213
|
|
(20.4
|
)
|
$
|
230,350
|
|
$
|
283,288
|
|
(18.7
|
)
|
Loss Ratios
(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit insurance
|
|
37.1
|
%
|
30.3
|
%
|
|
|
36.5
|
%
|
32.4
|
%
|
|
|
Service contracts
|
|
71.0
|
|
69.0
|
|
|
|
68.0
|
|
65.6
|
|
|
|
Other products
|
|
39.4
|
|
32.7
|
|
|
|
36.1
|
|
31.3
|
|
|
|
(1)
Incurred claims as a percentage of earned
premiums
54
Table of Contents
Three Months Ended June 30, 2008 compared to Three
Months Ended June 30, 2007
Segment
operating income
Operating income was $6.7
million, representing a decrease of $4.9 million, or 42.2%, for the three
months ended June 30, 2008 compared to the three months ended June 30,
2007. The decrease was primarily the
result of a $2.9 million decrease in service contract income due to lower
volume and higher loss ratios in certain product lines. Also contributing to
the decrease was $0.9 million of lower IPP earnings in 2008 due to the loss of
a significant customer during the second quarter of 2007 and $0.9 million of
lower earnings in the GAP line due to an increase in legal expenses during the
second quarter of 2008.
Net
premiums and policy fees
Net premiums and policy
fees decreased $4.1 million, or 7.9%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007. Credit insurance
premiums decreased $8.2 million, or 54.0%, due to the sale of a small insurance
subsidiary and its related operations during the first quarter of 2008 and
lower auto sales. Net premiums in the service contract line increased $2.1
million, or 8.1%, for the three months ended June 30, 2008 compared to the
three months ended June 30, 2007 due to an increase in in-force business.
Within the other product lines, net premiums increased $2.0 million, or 18.1%,
for the three months ended June 30, 2008 compared to the prior year, due
to an increase in the GAP product line related to growth over the past few
years, partially offset by declines in the IPP line.
Other
income
Other income decreased
$3.1 million, or 15.0%, for the three months ended June 30, 2008 compared
to the three months ended June 30, 2007, primarily due to a decline in
service contract volume.
Benefits
and settlement expenses
Benefits and settlement
expenses increased $1.5 million, or 5.9%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007. Credit insurance
claims for the three months ended June 30, 2008 compared to the prior year
decreased $2.0 million, or 43.4%, primarily as a result of a $1.5 million
decrease related to the sale of a small insurance subsidiary and its related
operations. Service contract claims increased $2.0 million, or 11.1%, due to
higher loss ratios in certain product lines and an increase in in-force business.
Other products claims increased $1.5 million, or 42.3%, primarily attributable
to higher GAP claims.
Amortization
of DAC and Other Operating Expenses
Amortization of DAC was
$6.1 million, or 28.5%, lower for the three months ended June 30, 2008 compared
to the three months ended June 30, 2007, mainly due to lower premium in
the credit insurance lines and a $2.6 million decrease resulting from the sale
of a small insurance subsidiary and its related operations during the first
quarter of 2008. Other operating expenses increased $2.6 million, or 11.1%, for
the three months ended June 30, 2008, primarily due to higher legal
expenses related to the credit insurance and GAP lines compared to the three
months ended June 30, 2007.
Sales
Total segment sales
decreased $30.6 million, or 20.4%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007. The decrease in credit insurance sales are
primarily the result of the sale of a small insurance subsidiary and its
related operations during the first quarter of 2008 and lower auto sales. Service contract sales are lower primarily due
to declines in auto and marine sales. The decline in the other products line is
primarily the result of lower GAP sales, which was primarily due to price
increases, tighter underwriting controls, and lower auto sales.
55
Table of Contents
Six Months Ended June 30, 2008 compared to Six Months
Ended June 30, 2007
Segment
operating income
Operating income was
$16.5 million, representing a decrease of $5.1 million, or 23.6%, for the
six months ended June 30, 2008 compared to the six months ended June 30,
2007. Earnings from core product lines
decreased $5.3 million, or 23.3%, for the six months ended June 30, 2008
compared to the six months ended June 30, 2007. Within the segments core
product lines, credit insurance earnings increased $0.6 million, or 82.8%, for
the six months ended June 30, 2008 compared to the six months ended June 30,
2007. The increase in credit insurance
earnings resulted primarily from a $0.6 million gain related to the sale of a
small insurance subsidiary and its related operations during the first quarter
of 2008. Service contract earnings declined $2.8 million, or 14.8%, for the six
months ended June 30, 2008 compared to the six months ended June 30,
2007. The service contract line was unfavorably impacted by lower marine and
auto sales and higher loss ratios in certain product lines. Earnings from other
products declined $3.1 million, or 100.6%, for the six months ended June 30,
2008 compared to the same period in 2007. The decline in other products related
primarily to lower volume in the IPP line resulting from the loss of a
significant customer and lower GAP earnings due to higher legal expenses in
2008.
Net
premiums and policy fees
Net premiums and policy
fees decreased $10.5 million, or 9.9%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007. Credit insurance
earned premiums decreased $15.6 million, or 51.2%, mainly due to the sale of a
small insurance subsidiary during the first quarter of 2008. Net premiums in
the service contract line increased $2.3 million, or 4.3%, for the six months
ended June 30, 2008 compared to the six months ended June 30, 2007
due to an increase in in-force business. Within the other product lines, net
premiums increased $2.8 million, or 12.7%, for the six months ended June 30,
2008 compared to the prior year, due to an increase in the GAP product line
related to growth over the past few years, partially offset by declines in the
IPP line.
Other
income
Other income decreased $4.5 million, or 12.1%, for the
six months ended June 30, 2008 compared to the six months ended June 30,
2007, primarily due to a decline in service contract volume.
Benefits
and settlement expenses
Benefits and settlement
expenses increased $0.5 million, or 1.0%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007. The credit insurance
and related claims for the six months ended June 30, 2008 compared to the
prior year decreased $4.5 million, or 45.2%, as a result of lower volume and a
$2.1 million decrease related to the sale of a small insurance subsidiary and
its related operations. Service contract claims increased $2.8 million, or
8.1%, due to higher loss ratios in some product lines and an increase in
in-force business. Other products claims increased $2.2 million, or 29.9%,
primarily attributable to higher GAP claims.
Amortization
of DAC and Other Operating Expenses
Amortization of DAC
decreased $12.5 million, or 29.6%, for the six months ended June 30, 2008
compared to the six months ended June 30, 2007, primarily due to lower
premium in the credit insurance products and a $5.6 million decrease resulting
from the sale of a small insurance subsidiary and its related operations during
the first quarter of 2008. Other operating expenses increased $3.1 million, or
6.7%, for the six months ended June 30, 2008, primarily due to higher
legal expenses related to the credit insurance and GAP lines compared to the
six months ended June 30, 2007.
Sales
Total segment sales
decreased $52.9 million, or 18.7%, for the six months ended June 30, 2008
compared to the six months ended June 30, 2007. The decrease in credit insurance sales are
primarily the result of the sale of a small insurance subsidiary and its
related operations during the first quarter of 2008 and lower auto sales. Service contract sales are lower primarily
due to declines in auto and marine sales. The decline in the other products
line is primarily the result of lower GAP sales, which was primarily due to
price increases, tighter underwriting controls, and lower auto sales.
56
Table of Contents
Reinsurance
The majority of the Asset
Protection segments reinsurance activity relates to the cession of single
premium credit life and credit accident and health insurance, credit property,
vehicle service contracts and guaranteed asset protection insurance to producer
affiliated reinsurance companies (PARCs). These arrangements are coinsurance
contracts ceding the business on a first dollar quota share basis at levels
ranging from 50% to 100% to limit our exposure and allow the PARCs to share in
the underwriting income of the product. Reinsurance contracts do not relieve us
from our obligations to our policyholders. Failure of reinsurers to honor their
obligations could result in losses to the Company or our affiliates. A more
detailed discussion of the components of reinsurance can be found in the
Reinsurance section of Note 1,
Basis of
Presentation and Summary of Significant Accounting Policies.
Reinsurance impacted the
Asset Protection segment line items as shown in the following table:
Asset Protection Segment
Line Item Impact of Reinsurance
|
|
Three Months Ended
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
June 30,
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
|
|
(Dollars
In Thousands)
|
|
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
Reinsurance ceded
|
|
$
|
(42,954
|
)
|
$
|
(45,689
|
)
|
$
|
(90,397
|
)
|
$
|
(90,827
|
)
|
BENEFITS AND EXPENSES
|
|
|
|
|
|
|
|
|
|
Benefit and settlement expenses
|
|
(22,580
|
)
|
(23,506
|
)
|
(43,325
|
)
|
(45,727
|
)
|
Amortization of deferred policy acquisition costs
|
|
(6,393
|
)
|
(1,302
|
)
|
(16,245
|
)
|
(3,601
|
)
|
Other operating expenses
|
|
(1,572
|
)
|
(7,418
|
)
|
(3,328
|
)
|
(15,769
|
)
|
Total Benefits and Expenses
|
|
(30,545
|
)
|
(32,226
|
)
|
(62,898
|
)
|
(65,097
|
)
|
|
|
|
|
|
|
|
|
|
|
NET IMPACT OF REINSURANCE
|
|
$
|
(12,409
|
)
|
$
|
(13,463
|
)
|
$
|
(27,499
|
)
|
$
|
(25,730
|
)
|
Reinsurance premiums
ceded decreased $2.7 million, or 6.0%, and $0.4 million, or 0.5%, for the three
and six months ended June 30, 2008, respectively, compared to the three
and six months ended June 30, 2007. The current quarter decrease was
primarily due to the discontinuation of the marketing of credit insurance
products through financial institutions in 2005 in which a majority of this
business was ceded to PARCs. This was
somewhat offset by an increase in ceded premiums in the service contract line.
The year-to-date decrease in ceded premiums was due to the discontinuation of
credit business marketed through financial institutions mostly offset by the
cession of a block of credit business sold through a small insurance
subsidiary, prior to the sale of that company in the first quarter. Ceded unearned premium reserves and claim
reserves with PARCs are generally secured by trust accounts, letters of credit
or on a funds withheld basis.
Benefits and settlement
expenses ceded decreased $0.9 million, or 3.9%, and $2.4 million, or 5.3%, for
the three and six months ended June 30, 2008, respectively, compared to
the three and six months ended June 30, 2007. The current quarter and year-to-date
decreases are mainly due to decreases in losses ceded related to the Lenders
Indemnity program in runoff and the credit business, somewhat offset by
increases in the service contract line.
Amortization of DAC ceded
increased $5.1 million, or 391.0%, and $12.6 million, or 351.1%, for the three
and six months ended June 30, 2008, respectively, compared to the three
and six months June 30, 2007, mainly as the result of increases in the
credit insurance line.
Other operating expenses
ceded decreased $5.8 million, or 78.8%, and $12.4 million, or 78.9%, for the
three and six months ended June 30, 2008, respectively compared to the
three and six months ended June 30, 2007. The fluctuation is partly
attributable to the decline in credit insurance products sold through financial
institutions and an overall decline in credit insurance sales.
Net investment income has
no direct impact on reinsurance cost. However, it should be noted that by
ceding business to the assuming companies, we forgo investment income on the
reserves ceded to the assuming
companies. Conversely, the assuming companies will
receive investment income on the reserves assumed which
57
Table of Contents
will increase the
assuming companies profitability on business assumed from the Company. The net
investment income impact to the Company and the assuming companies has not been
quantified as it is not reflected in our consolidated financial statements.
58
Table of Contents
Corporate
and Other
Segment results of operations
Segment results were as
follows:
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross premiums and policy fees
|
|
$
|
7,991
|
|
$
|
8,458
|
|
(5.5
|
)%
|
$
|
16,594
|
|
$
|
17,627
|
|
(5.9
|
)%
|
Reinsurance ceded
|
|
(2
|
)
|
(4
|
)
|
(50.0
|
)
|
(3
|
)
|
(8
|
)
|
(62.5
|
)
|
Net premiums and policy fees
|
|
7,989
|
|
8,454
|
|
(5.5
|
)
|
16,591
|
|
17,619
|
|
(5.8
|
)
|
Net investment income
|
|
44,908
|
|
37,047
|
|
21.2
|
|
66,652
|
|
73,466
|
|
(9.3
|
)
|
Realized gains (losses) - investments
|
|
|
|
3,707
|
|
|
|
|
|
6,857
|
|
|
|
Realized gains (losses) - derivatives
|
|
1,786
|
|
237
|
|
653.6
|
|
2,270
|
|
494
|
|
359.5
|
|
Other income
|
|
(508
|
)
|
683
|
|
(174.4
|
)
|
396
|
|
1,620
|
|
(75.6
|
)
|
Total operating revenues
|
|
54,175
|
|
50,128
|
|
8.1
|
|
85,909
|
|
100,056
|
|
(14.1
|
)
|
Realized gains (losses) - investments
|
|
(64,652
|
)
|
(674
|
)
|
|
|
(61,612
|
)
|
2,718
|
|
|
|
Realized gains (losses) - derivatives
|
|
18,298
|
|
3,015
|
|
|
|
(6,413
|
)
|
(354
|
)
|
|
|
Total revenues
|
|
7,821
|
|
52,469
|
|
(85.1
|
)
|
17,884
|
|
102,420
|
|
(82.5
|
)
|
BENEFITS AND EXPENSES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Benefits and settlement expenses
|
|
8,693
|
|
9,207
|
|
(5.6
|
)
|
19,060
|
|
19,276
|
|
(1.1
|
)
|
Amortization of deferred policy acquisition costs
|
|
564
|
|
135
|
|
317.8
|
|
1,115
|
|
264
|
|
322.3
|
|
Other operating expenses
|
|
47,011
|
|
42,086
|
|
11.7
|
|
97,800
|
|
80,039
|
|
22.2
|
|
Total benefits and expenses
|
|
56,268
|
|
51,428
|
|
9.4
|
|
117,975
|
|
99,579
|
|
18.5
|
|
(LOSS) INCOME BEFORE INCOME TAX
|
|
(48,447
|
)
|
1,041
|
|
n/m
|
|
(100,091
|
)
|
2,841
|
|
n/m
|
|
Less: realized gains (losses) - investments
|
|
(64,652
|
)
|
(674
|
)
|
|
|
(61,612
|
)
|
2,718
|
|
|
|
Less: realized gains (losses) - derivatives
|
|
18,298
|
|
3,015
|
|
|
|
(6,413
|
)
|
(354
|
)
|
|
|
OPERATING (LOSS) INCOME
|
|
$
|
(2,093
|
)
|
$
|
(1,300
|
)
|
(61.0
|
)
|
$
|
(32,066
|
)
|
$
|
477
|
|
n/m
|
|
Three Months Ended June 30, 2008 compared to Three
Months Ended June 30, 2007
Segment
operating (loss) income
The Corporate and Other
segment operating income decreased $0.8 million for the three months ended
June 30, 2008, compared to the three months ended June 30, 2007, due
primarily to $3.4 million of lower participating mortgage income and $2.6
million of lower prepayment fee income in the securities and mortgage
investment portfolios. These decreases
were offset by mark-to-market adjustments on a $418 million portfolio of
securities designated for trading. This trading portfolio positively impacted
the three months ended June 30, 2008 by approximately $5.3 million, a $6.0
million more favorable impact than in the three months ended June 30,
2007.
Operating
revenues
Operating revenues for
the Corporate and Other segment are primarily comprised of net investment
income on capital and net premiums and policy fees related to several
non-strategic lines of business. Net
investment income for this segment increased $7.9 million, or 21.2%, for the
three months ended June 30, 2008 compared to the three months ended June 30,
2007, and net premiums and policy fees declined $0.5 million, or
5.5%. The increase in net investment
income was primarily the result of mark-to-market changes on the trading
portfolio, an increase in yields on unallocated capital and additional
investments related to issuances of non-recourse funding obligations, partially
offset by a decline in participating mortgage income and prepayment fee income
in the securities and mortgage investment portfolios.
59
Table of Contents
Benefits
and expenses
Benefits and expenses
increased $4.8 million, or 9.4%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007. The increase was primarily due to an increase
in interest expense of $7.8 million, or 28.5%, for the three months ended June 30,
2008 compared to the three months ended June 30, 2007. Of this increase in interest expense,
approximately $6.6 million relates to additional issuances of non-recourse
funding obligations. This increase was
partially offset by a decline in claims from discontinued lines of business.
Six Months Ended June 30, 2008 compared to Six Months
Ended June 30, 2007
Segment
operating (loss) income
The Corporate and Other
segment operating income declined $32.5 million for the six months ended June 30,
2008, compared to the six months ended June 30, 2007, due primarily to a
$14.1 million negative impact in 2008 from the $418 million portfolio of
securities designated for trading, representing a $14.1 million less favorable
impact than in the first six months of 2007.
In addition, the segment experienced lower participating mortgage income
of $10.2 million and lower prepayment fee income of $5.8 million in the
securities and mortgage investment portfolios.
Operating
revenues
Net investment income for
this segment decreased $6.8 million, or 9.3%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007, and net premiums and
policy fees declined $1.0 million, or 5.8%. The decrease in net investment income was
primarily the result of mark-to-market changes on the trading portfolio, a
decline in participating mortgage income and prepayment fee income in the
securities and mortgage investment portfolios, partially offset by an increase
in yields on unallocated capital and additional investments related to
issuances of non-recourse funding obligations.
Benefits
and expenses
Benefits and expenses
increased $18.4 million, or 18.5%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007. The increase was primarily due to an increase
in interest expense of $17.9 million, or 34.8%, for the six months ended June 30,
2008 compared to the six months ended June 30, 2007. Of this increase in interest expense,
approximately $16.5 million relates to additional issuances of non-recourse
funding obligations.
60
Table of Contents
CONSOLIDATED INVESTMENTS
Portfolio Description
As of June 30, 2008, our investment portfolio equaled
approximately $29.9 billion. The types
of assets in which we may invest are influenced by various state laws which
prescribe qualified investment assets.
Within the parameters of these laws, we invest in assets giving
consideration to such factors as liquidity needs, investment quality,
investment return, matching of assets and liabilities, and the overall
composition of the investment portfolio by asset type and credit exposure.
A significant portion of our bond portfolio is invested in residential
mortgage-backed securities, commercial mortgage-backed securities, and
asset-backed securities. These holdings
at June 30, 2008 equaled approximately $9.1 billion. Mortgage-backed securities are constructed
from pools of mortgages and may have cash flow volatility as a result of
changes in the rate at which prepayments of principal occur with respect to the
underlying loans. Prepayments of
principal on the underlying loans can be expected to accelerate with decreases
in market interest rates and diminish with increases in interest rates. In addition, we have entered into derivative
contracts at times to partially offset the volatility in the market value of
these securities.
Residential mortgage-backed securities -
The
tables below show a breakdown of our residential mortgage-backed securities
portfolio by type and rating at June 30, 2008. As of June 30, 2008, these holdings were
approximately $6.6 billion. Planned amortization class securities (PACs)
pay down according to a schedule.
Sequentials receive payments in order until each class is paid off. Pass through securities receive principal as
principal of the underlying mortgages is received.
|
|
Percentage of
|
|
|
|
Residential
|
|
|
|
Mortgage-Backed
|
|
Type
|
|
Securities
|
|
Sequential
|
|
63.3
|
%
|
PAC
|
|
14.2
|
|
Pass Through
|
|
12.7
|
|
Other
|
|
9.8
|
|
|
|
100.0
|
%
|
|
|
Percentage of
|
|
|
|
Residential
|
|
|
|
Mortgage-Backed
|
|
Rating
|
|
Securities
|
|
AAA
|
|
98.6
|
%
|
AA
|
|
0.7
|
|
A
|
|
0.1
|
|
BBB
|
|
0.1
|
|
Below investment grade
|
|
0.5
|
|
|
|
100.0
|
%
|
61
Table
of Contents
As of June 30, 2008, we held $754.7 million, or 2.5% of invested
assets, of securities supported by collateral classified as Alt-A. As of March 31, 2008 and December 31,
2007, we held securities with a market value of $663.9 million and $274.5
million, respectively, of securities supported by collateral classified as
Alt-A.
As of June 30, 2008, we had residential mortgage-backed securities
with a total market value of $72.8 million, or 0.2% of total invested assets,
that were supported by collateral classified as sub-prime. $34.0 million, or
46.7%, of these securities were rated AAA.
As of March 31, 2008 and December 31, 2007, we held securities
with a market value of $78.8 million and $89.9 million, respectively, of
securities supported by collateral classified as sub-prime.
The following table shows the percentage of our collateral classified
as Alt-A, as of June 30, 2008, grouped by rating category:
|
|
Percentage of
|
|
|
|
Alt-A
|
|
Rating
|
|
Securities
|
|
AAA
|
|
92.5
|
%
|
AA
|
|
2.3
|
|
BBB
|
|
0.6
|
|
Below investment grade
|
|
4.6
|
|
|
|
100.0
|
%
|
The following tables categorize the estimated fair value and unrealized
gain/loss of our mortgage-backed securities collateralized by Alt-A and
sub-prime mortgage loans by rating as of June 30, 2008:
Alt-A Collateralized Holdings
|
|
Fair
|
|
Unrealized
|
|
Rating
|
|
Value
|
|
Gain/(Loss)
|
|
|
|
(Dollars
In Millions)
|
|
AAA
|
|
$
|
698.4
|
|
$
|
(15.0
|
)
|
AA
|
|
17.4
|
|
5.9
|
|
Subtotal
|
|
$
|
715.8
|
|
$
|
(9.1
|
)
|
A
|
|
|
|
|
|
BBB
|
|
4.3
|
|
(3.4
|
)
|
Below investment grade
|
|
34.6
|
|
(81.2
|
)
|
Total mortgage-backed securities collateralized
by Alt-A mortgage loans
|
|
$
|
754.7
|
|
$
|
(93.7
|
)
|
Sub-prime Collateralized Holdings
|
|
Fair
|
|
Unrealized
|
|
Rating
|
|
Value
|
|
Gain/(Loss)
|
|
|
|
(Dollars
In Millions)
|
|
AAA
|
|
$
|
34.0
|
|
$
|
(4.6
|
)
|
AA
|
|
22.4
|
|
(6.2
|
)
|
Subtotal
|
|
$
|
56.4
|
|
$
|
(10.8
|
)
|
A
|
|
14.7
|
|
(3.5
|
)
|
BBB
|
|
1.0
|
|
(0.9
|
)
|
Below investment grade
|
|
0.7
|
|
(0.3
|
)
|
Total mortgage-backed securities collateralized
by sub-prime mortgage loans
|
|
$
|
72.8
|
|
$
|
(15.5
|
)
|
The tables
above referencing our holdings collateralized by Alt-A and sub-prime mortgage
loans exclude approximately $30.8 million of securities collateralized by Alt-A
mortgage loans and approximately $11.6 million of securities collateralized by
sub-prime mortgage loans, which are part of a modified coinsurance trading
portfolio. The reinsurer bears the ultimate investment risk related to these
securities.
62
Table
of Contents
Commercial mortgage-backed securities
-
Our commercial mortgage-backed security (CMBS) portfolio consists of
commercial mortgage-backed securities issued in securitization
transactions. Portions of the CMBS are
sponsored by the Company, in which we securitized portions of our mortgage loan
portfolio. As of June 30, 2008, the CMBS holdings were approximately $1.2
billion. Of this amount, $821.8 million
related to retained beneficial interests of commercial mortgage loan
securitizations the Company completed. The following table shows the
percentages of our CMBS holdings, at June 30, 2008, grouped by rating
category:
|
|
Percentage of
|
|
|
|
Commercial
|
|
|
|
Mortgage-Backed
|
|
Rating
|
|
Securities
|
|
AAA
|
|
85.5
|
%
|
AA
|
|
7.5
|
|
A
|
|
3.6
|
|
BBB
|
|
1.2
|
|
Below investment grade
|
|
2.2
|
|
|
|
100.0
|
%
|
Asset-backed securities -
Asset-backed
securities (ABS) pay down based on cash flow received from the underlying
pool of assets, such as receivables on auto loans, student loans, credit cards,
etc. As of June 30, 2008, these holdings were approximately $1.3
billion. The following table shows the
percentages of our ABS holdings, at June 30, 2008, grouped by rating
category:
|
|
Percentage of
|
|
|
|
Asset-Backed
|
|
Rating
|
|
Securities
|
|
AAA
|
|
88.7
|
%
|
AA
|
|
1.1
|
|
A
|
|
7.4
|
|
BBB
|
|
2.0
|
|
Below investment grade
|
|
0.8
|
|
|
|
100.0
|
%
|
We obtained
ratings of our fixed maturities from Moodys Investors Service, Inc. (Moodys),
Standard & Poors Corporation (S&P) and Fitch
Ratings (Fitch). If a bond is not
rated by Moodys, S&P, or Fitch, we use ratings from the Securities
Valuation Office of the National Association of Insurance
Commissioners (NAIC), or we rate the bond based upon a comparison of the
unrated issue to rated issues of the same issuer or rated issues of other
issuers with similar risk characteristics.
At June 30, 2008, over 99.0% of our bonds were rated by Moodys,
S&P, Fitch, and/or the NAIC.
63
Table
of Contents
Fixed Maturity Investments
As of June 30, 2008, our fixed maturity investment holdings were
approximately $24.1 billion. The approximate percentage distribution of our
fixed maturity investments by quality rating at June 30, 2008, is as
follows:
|
|
Percentage of
|
|
|
|
Fixed Maturity
|
|
Rating
|
|
Investments
|
|
AAA
|
|
40.9
|
%
|
AA
|
|
7.3
|
|
A
|
|
18.1
|
|
BBB
|
|
28.4
|
|
Below investment grade
|
|
5.3
|
|
|
|
100.0
|
%
|
Our portfolio consists primarily of fixed maturity securities (bonds
and redeemable preferred stocks) and commercial mortgage loans. Within our fixed maturity securities, we
maintain portfolios classified as available for sale and trading. We generally purchase our investments with
the intent to hold to maturity by purchasing investments that match future cash
flow needs. However, we may sell any of
our investments to maintain proper matching of assets and liabilities. Accordingly, we classified $20.4 billion or
84.4% of our fixed maturities as available for sale as of June 30,
2008. These securities are carried at
fair value on our Consolidated Balance Sheets.
Changes in fair value, net of related DAC and VOBA, are charged or
credited directly to shareowners equity.
Changes in fair value that are other-than-temporary are recorded as
realized losses in the Consolidated Statements of Income. For more information regarding our evaluation
of other-than-temporary losses, refer to
Critical Accounting
Policies.
Our trading portfolio, which accounts for $3.7 billion or 15.6% of
our fixed maturities as of June 30, 2008, consists of two major
categories. First, we consolidate a
special-purpose entity, in accordance with FASB Interpretation (FIN) No. 46,
Consolidation of Variable Interest Entities
,
whose investments are managed by the Company.
As of June 30, 2008, fixed maturities with a market value of $421.5
million and short-term investments with a market value of $2.0 million were
classified as trading securities related to this special-purpose entity. Additionally, as of June 30, 2008, we
held fixed maturities with a market value of $3.3 billion and short-term
investments with a market value of $60.8 million, which were added as part
of the Chase Insurance Group acquisition.
Investment results for the Chase Insurance Group portfolios, including
gains and losses from sales, are passed to the reinsurers through the
contractual terms of the reinsurance arrangements. Trading securities are carried at fair value
and changes in fair value are recorded in net income as they occur. Offsetting these amounts are corresponding
changes in the fair value of the embedded derivative liability associated with
the underlying reinsurance arrangement.
Our investments in debt and equity securities are reported at market
value, and investments in mortgage loans are reported at amortized cost. As of June 30, 2008, our fixed maturity
investments (bonds and redeemable preferred stocks) had a market value of
$24.1 billion, which was 3.2% below amortized cost of
$24.9 billion. We had
$3.5 billion in mortgage loans as of June 30, 2008. While our mortgage loans do not have quoted
market values, as of June 30, 2008, we estimated the market value of
our mortgage loans to be $3.7 billion (using discounted cash flows from
the next call date), which was 5.4% greater than the amortized cost. Most of our mortgage loans have significant
prepayment fees. These assets are
invested for terms approximately corresponding to anticipated future benefit
payments. Thus, market fluctuations are
not expected to adversely affect liquidity.
64
Table of Contents
The following table shows the reported values of our invested assets:
|
|
June 30, 2008
|
|
December 31, 2007
|
|
|
|
(Dollars In Thousands)
|
|
Publicly-issued bonds
|
|
$
|
19,732,349
|
|
66.1
|
%
|
$
|
19,588,486
|
|
67.5
|
%
|
Privately issued bonds
|
|
4,365,261
|
|
14.6
|
|
3,800,505
|
|
13.1
|
|
Redeemable preferred stock
|
|
83
|
|
0.0
|
|
78
|
|
0.0
|
|
Fixed maturities
|
|
24,097,693
|
|
80.7
|
|
23,389,069
|
|
80.6
|
|
Equity securities
|
|
357,672
|
|
1.2
|
|
117,037
|
|
0.4
|
|
Mortgage loans
|
|
3,523,121
|
|
11.8
|
|
3,284,326
|
|
11.3
|
|
Investment real estate
|
|
7,834
|
|
0.0
|
|
8,026
|
|
0.0
|
|
Policy loans
|
|
805,105
|
|
2.7
|
|
818,280
|
|
2.8
|
|
Other long-term investments
|
|
222,770
|
|
0.8
|
|
185,892
|
|
0.6
|
|
Short-term investments
|
|
839,973
|
|
2.8
|
|
1,236,443
|
|
4.3
|
|
Total invesments
|
|
$
|
29,854,168
|
|
100.0
|
%
|
$
|
29,039,073
|
|
100.0
|
%
|
Included in the preceding table are $3.7 billion and $4.0 billion
of fixed maturities and $62.8 million and $67.0 million of short-term
investments classified as trading securities as of June 30, 2008 and December 31,
2007, respectively.
Market values for private, non-traded securities are determined as
follows: 1) we obtain estimates from independent pricing services and
2) we estimate market value based upon a comparison to quoted issues of
the same issuer or issues of other issuers with similar terms and risk
characteristics. We analyze the
independent pricing services valuation methodologies and related inputs,
including an assessment of the observability of market inputs. Upon obtaining
this information related to market value, management makes a determination as
to the appropriate valuation amount. The market value of private, non-traded
securities was $4.4 billion as of June 30, 2008, representing 14.6% of our
total invested assets.
65
Table
of Contents
The industry segment composition of our fixed maturity securities is
presented in the following table:
|
|
As of
|
|
% Market
|
|
As of
|
|
% Market
|
|
|
|
June 30, 2008
|
|
Value
|
|
December 31, 2007
|
|
Value
|
|
|
|
(Dollars In Thousands)
|
|
Non-Agency Mortgages
|
|
$
|
5,294,920
|
|
22.0
|
%
|
$
|
5,543,339
|
|
23.7
|
%
|
Other Finance
|
|
2,813,013
|
|
11.7
|
|
2,114,596
|
|
9.0
|
|
Electric
|
|
2,269,446
|
|
9.4
|
|
1,971,961
|
|
8.4
|
|
Banking
|
|
2,080,696
|
|
8.6
|
|
2,123,100
|
|
9.1
|
|
Agency Mortgages
|
|
1,707,803
|
|
7.1
|
|
2,441,993
|
|
10.4
|
|
Natural Gas
|
|
1,449,756
|
|
6.0
|
|
1,185,115
|
|
5.1
|
|
Insurance
|
|
1,169,896
|
|
4.9
|
|
992,470
|
|
4.2
|
|
Energy
|
|
1,106,608
|
|
4.6
|
|
907,093
|
|
3.9
|
|
Communications
|
|
1,039,512
|
|
4.3
|
|
973,607
|
|
4.2
|
|
Basic Industrial
|
|
771,436
|
|
3.2
|
|
692,937
|
|
3.0
|
|
Brokerage
|
|
734,938
|
|
3.0
|
|
768,656
|
|
3.3
|
|
Consumer Noncyclical
|
|
722,630
|
|
3.0
|
|
668,293
|
|
2.9
|
|
Consumer Cyclical
|
|
635,285
|
|
2.6
|
|
625,923
|
|
2.7
|
|
Finance Companies
|
|
539,501
|
|
2.2
|
|
616,278
|
|
2.6
|
|
Capital Goods
|
|
485,938
|
|
2.0
|
|
437,013
|
|
1.9
|
|
Transportation
|
|
450,027
|
|
1.9
|
|
446,264
|
|
1.9
|
|
U.S. Govt Agencies
|
|
218,610
|
|
0.9
|
|
190,430
|
|
0.7
|
|
Other Industrial
|
|
182,761
|
|
0.8
|
|
157,582
|
|
0.7
|
|
U.S. Government
|
|
136,053
|
|
0.6
|
|
165,527
|
|
0.7
|
|
Technology
|
|
133,727
|
|
0.6
|
|
152,491
|
|
0.7
|
|
Real Estate
|
|
49,950
|
|
0.2
|
|
55,371
|
|
0.2
|
|
Canadian Governments
|
|
48,107
|
|
0.2
|
|
108,006
|
|
0.5
|
|
Other Utility
|
|
23,119
|
|
0.1
|
|
19,796
|
|
0.1
|
|
Municipal Agencies
|
|
18,967
|
|
0.1
|
|
25,427
|
|
0.1
|
|
Other Government Agencies
|
|
9,104
|
|
0.0
|
|
|
|
0.0
|
|
Foreign Governments
|
|
5,890
|
|
0.0
|
|
5,801
|
|
0.0
|
|
Total
|
|
$
|
24,097,693
|
|
100.0
|
%
|
$
|
23,389,069
|
|
100.0
|
%
|
We participate in securities lending, primarily as an investment yield
enhancement, whereby securities that are held as investments are loaned to
third parties for short periods of time.
We require initial collateral of 102% of the market value of the loaned
securities to be separately maintained.
The loaned securities market value is monitored on a daily basis. As of June 30, 2008, securities with a
market value of $328.8 million were loaned under these agreements. As collateral for the loaned securities, we
receive short-term investments, which are recorded in short-term investments
with a corresponding liability recorded in other liabilities to account for
our obligation to return the collateral.
As of June 30, 2008, the fair market value of the collateral
related to these agreements equaled $327.7 million.
66
Table
of Contents
Mortgage
Loans
We invest a significant portion of our investment portfolio in
commercial mortgage loans. As of June 30,
2008, our mortgage loan holdings equaled approximately $3.5 billion. We
generally do not lend on speculative properties and have specialized in making
loans on either credit-oriented commercial properties or credit-anchored strip
shopping centers and apartments. Our
underwriting procedures relative to our commercial loan portfolio are based on
a conservative, disciplined approach. We
concentrate our underwriting expertise on a small number of commercial real
estate asset types associated with the necessities of life (retail,
multi-family, professional office buildings, and warehouses). We believe these
asset types tend to weather economic downturns better than other commercial
asset classes in which we have chosen not to participate. We believe this
disciplined approach has helped to maintain a relatively low delinquency and
foreclosure rate throughout our history.
We record mortgage loans net of an allowance for credit losses. This allowance is calculated through analysis
of specific loans that are believed to be at a higher risk of becoming impaired
in the near future. As of June 30,
2008 and December 31, 2007, our allowance for mortgage loan credit losses
was $0.5 million and $0.5 million, respectively.
Our mortgage lending criteria generally require that the loan-to-value
ratio on each mortgage be at or less than 75% at the time of origination. Projected rental payments from credit anchors
(i.e., excluding rental payments from smaller local tenants) generally
exceed 70% of the propertys projected operating expenses and debt
service. We also offer a commercial loan
product under which we will permit a loan-to-value ratio of up to 85% in
exchange for a participating interest in the cash flows from the underlying
real estate. Approximately
$673.5 million of our mortgage loans have this participation feature.
Many of our mortgage loans have call or interest rate reset provisions
between 3 and 10 years.
However, if interest rates were to significantly increase, we may be
unable to call the loans or increase the interest rates on our existing
mortgage loans commensurate with the significantly increased market rates.
As of June 30, 2008, delinquent mortgage loans and foreclosed
properties were less than 0.1% of invested assets. We do not expect these investments to
adversely affect our liquidity or ability to maintain proper matching of assets
and liabilities. As of June 30,
2008, $7.4 million, or 0.2%, of the mortgage loan portfolio was
nonperforming. It is our policy to cease
to carry accrued interest on loans that are over 90 days delinquent. For loans less than 90 days delinquent,
interest is accrued unless it is determined that the accrued interest is not
collectible. If a loan becomes over
90 days delinquent, it is our general policy to initiate foreclosure
proceedings unless a workout arrangement to bring the loan current is in place.
Between 1996 and 1999, we securitized $1.4 billion of our mortgage
loans. We sold the senior tranches while retaining the subordinate
tranches. We continue to service the
securitized mortgage loans. During 2007,
we securitized an additional $1.0 billion of our mortgage loans. We sold the highest rated tranche for
approximately $218.3 million, while retaining the remaining tranches. We continue to service the securitized
mortgage loans. At June 30, 2008,
we had investments related to retained beneficial interests of mortgage loan
securitizations of $821.8 million.
67
Table of Contents
Risk
Management and Impairment Review
We monitor the overall credit quality of our portfolio within
established guidelines. The following
table shows our available for sale fixed maturities by credit rating as of June 30,
2008:
|
|
|
|
Percent of
|
|
S&P or Equivalent Designation
|
|
Market Value
|
|
Market Value
|
|
|
|
(Dollars In Thousands)
|
|
|
|
AAA
|
|
$
|
8,183,528
|
|
40.2
|
%
|
AA
|
|
1,495,591
|
|
7.4
|
|
A
|
|
3,591,430
|
|
17.6
|
|
BBB
|
|
5,855,409
|
|
28.8
|
|
Investment grade
|
|
19,125,958
|
|
94.0
|
|
BB
|
|
797,324
|
|
3.9
|
|
B
|
|
321,809
|
|
1.6
|
|
CCC or lower
|
|
105,578
|
|
0.5
|
|
In or near default
|
|
904
|
|
0.0
|
|
Below investment grade
|
|
1,225,615
|
|
6.0
|
|
Redeemable preferred stock
|
|
83
|
|
0.0
|
|
Total
|
|
$
|
20,351,656
|
|
100.0
|
%
|
Not included in the table above are $3.7 billion of investment grade
and $46.7 million of less than investment grade fixed maturities
classified as trading securities.
Limiting bond exposure to any creditor group is another way we manage
credit risk. The following table
summarizes our ten largest fixed maturity exposures to an individual creditor
group as of June 30, 2008:
Creditor
|
|
Market Value
|
|
|
|
(Dollars In Millions)
|
|
AT&T Corporation
|
|
$
|
164.7
|
|
Metlife Inc.
|
|
140.2
|
|
Toyota
|
|
137.3
|
|
Citigroup Inc.
|
|
135.8
|
|
Bank of America Corp.
|
|
131.7
|
|
JP Morgan Chase & Company
|
|
129.4
|
|
Prudential Financial
|
|
128.8
|
|
Wachovia Corp.
|
|
122.2
|
|
American International Group
|
|
122.0
|
|
Wells Fargo & Co.
|
|
116.5
|
|
|
|
|
|
|
Determining whether a decline in the current fair value of invested
assets is an other-than-temporary decline in value can involve a variety of
assumptions and estimates, particularly for investments that are not actively
traded in established markets. We review
our positions on a monthly basis for possible credit concerns and review our
current exposure, credit enhancement, and delinquency experience. Management considers a number of factors when
determining the impairment status of individual securities. These include the economic condition of
various industry segments and geographic locations and other areas of
identified risks. Although it is
possible for the impairment of one investment to affect other investments, we
engage in ongoing risk management to safeguard against and limit any further
risk to our investment portfolio.
Special attention is given to correlative risks within specific
industries, related parties, and business markets.
68
Table
of Contents
For certain securitized financial assets with contractual cash flows
including ABS, EITF Issue No. 99-20 requires us to periodically update our
best estimate of cash flows over the life of the security. If the fair value of
a securitized financial asset is less than its cost or amortized cost and there
has been a decrease in the present value of the estimated cash flows since the
last revised estimate, considering both timing and amount, an other-than-temporary
impairment charge is recognized.
Estimating future cash flows is a quantitative and qualitative process
that incorporates information received from third party sources along with
certain internal assumptions and judgments regarding the future performance of
the underlying collateral. Projections
of expected future cash flows may change based upon new information regarding
the performance of the underlying collateral.
In addition, we consider our intent and ability to retain a temporarily
depressed security until recovery.
Securities not subject to EITF Issue No. 99-20 that are in an
unrealized loss position, are reviewed at least quarterly to determine if an
other-than-temporary impairment is present based on certain quantitative and
qualitative factors. We generally
consider a number of factors in determining whether the impairment is
other-than-temporary. These include, but
are not limited to: 1) actions taken by rating agencies, 2) default
by the issuer, 3) the significance of the decline, 4) the intent and
ability to hold the investment until recovery, 5) the time period during
which the decline has occurred, 6) an economic analysis of the issuers
industry, and 7) the financial strength, liquidity, and recoverability of
the issuer. Management performs a
security-by-security review each quarter in evaluating the need for any
other-than-temporary impairments.
Although no set formula is used in this process, the investment
performance, collateral position, and continued viability of the issuer are
significant measures considered. Based
on our analysis, during the three months ended June 30, 2008, we concluded
that approximately $80.0 million of pretax unrealized losses were
other-than-temporarily impaired related to residential mortgage-backed
securities collateralized by Alt-A mortgages, resulting in a charge to net
realized investment losses.
There are certain risks and uncertainties associated with determining
whether declines in market values are other-than-temporary. These include significant changes in general
economic conditions and business markets, trends in certain industry segments,
interest rate fluctuations, rating agency actions, changes in significant
accounting estimates and assumptions, commission of fraud, and legislative
actions. We continuously monitor these
factors as they relate to the investment portfolio in determining the status of
each investment.
Realized Gains and Losses
The following table sets forth realized investment gains and losses for
the periods shown.
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
|
June 30,
|
|
|
|
June 30,
|
|
|
|
|
|
2008
|
|
2007
|
|
Change
|
|
2008
|
|
2007
|
|
Change
|
|
|
|
(Dollars In Thousands)
|
|
Fixed maturity gains - sales
|
|
$
|
12,952
|
|
$
|
1,661
|
|
$
|
11,291
|
|
$
|
22,014
|
|
$
|
3,863
|
|
$
|
18,151
|
|
Fixed maturity losses - sales
|
|
(181
|
)
|
(1,789
|
)
|
1,608
|
|
(702
|
)
|
(4,806
|
)
|
4,104
|
|
Equity gains - sales
|
|
60
|
|
460
|
|
(400
|
)
|
60
|
|
5,911
|
|
(5,851
|
)
|
Equity losses - sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Impairments on fixed maturity securities
|
|
(79,986
|
)
|
|
|
(79,986
|
)
|
(79,986
|
)
|
(48
|
)
|
(79,938
|
)
|
Impairments on equity securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Modco trading portfolio trading activity
|
|
(50,527
|
)
|
(70,765
|
)
|
20,238
|
|
(86,523
|
)
|
(65,269
|
)
|
(21,254
|
)
|
Other
|
|
5,271
|
|
3,824
|
|
1,447
|
|
4,681
|
|
7,034
|
|
(2,353
|
)
|
Total realized gains (losses) - investments
|
|
$
|
(112,411
|
)
|
$
|
(66,609
|
)
|
$
|
(45,802
|
)
|
$
|
(140,456
|
)
|
$
|
(53,315
|
)
|
$
|
(87,141
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign currency swaps
|
|
$
|
(309
|
)
|
$
|
396
|
|
$
|
(705
|
)
|
$
|
2,862
|
|
$
|
4,972
|
|
$
|
(2,110
|
)
|
Foreign currency adjustments on stable
value contracts
|
|
143
|
|
(366
|
)
|
509
|
|
(2,864
|
)
|
(809
|
)
|
(2,055
|
)
|
Derivatives related to mortgage loan
commitments
|
|
8,700
|
|
|
|
8,700
|
|
(4,893
|
)
|
|
|
(4,893
|
)
|
Embedded derivatives related to reinsurance
|
|
48,201
|
|
73,246
|
|
(25,045
|
)
|
77,566
|
|
70,409
|
|
7,157
|
|
Derivatives related to corporate debt
|
|
(2,764
|
)
|
(8,812
|
)
|
6,048
|
|
3,729
|
|
(7,490
|
)
|
11,219
|
|
Credit default swaps
|
|
13,148
|
|
(739
|
)
|
13,887
|
|
(2,002
|
)
|
(739
|
)
|
(1,263
|
)
|
Other derivatives
|
|
(2,032
|
)
|
12,556
|
|
(14,588
|
)
|
(10,968
|
)
|
7,647
|
|
(18,615
|
)
|
Total realized gains - derivatives
|
|
$
|
65,087
|
|
$
|
76,281
|
|
$
|
(11,194
|
)
|
$
|
63,430
|
|
$
|
73,990
|
|
$
|
(10,560
|
)
|
69
Table of Contents
Realized gains and losses on investments reflect
portfolio management activities designed to maintain proper matching of assets
and liabilities and to enhance long-term investment portfolio performance. The change in net realized investment gains
(losses), excluding impairments, during the six months ended June 30, 2008
primarily reflects the normal operation of our asset/liability program within
the context of the changing interest rate and spread environment.
Realized losses are comprised of both
write-downs on other-than-temporary impairments and actual sales of
investments. For the six months ended June 30,
2008, there were pre-tax other-than-temporary impairments of $80.0 million in
our investments compared to less than $0.1 million for the six months ended June 30,
2007. The impairments occurred during
the three months ended June 30, 2008, and related to residential
mortgage-backed securities collateralized by Alt-A mortgages. The decline in
the estimated fair value of these securities resulted from factors including
downgrades in rating, interest rate changes, and the current distressed credit
markets. These other-than-temporary impairments resulted from our analysis of
circumstances and our belief that credit events, loss severity, changes in
credit enhancement, and/or other adverse conditions of the respective issuers
have caused, or will lead to, a deficiency in the contractual cash flows
related to these investments.
As previously discussed, management considers several factors when
determining other-than-temporary impairments.
Although we generally intend to hold securities until maturity, we may
change our position as a result of a change in circumstances. Any such decision is consistent with our
classification of all but a specific portion of our investment portfolio as
available for sale. For the six months
ended June 30, 2008, we sold securities in an unrealized loss position
with a market value of $99.6 million resulting in a realized loss of
$0.7 million. The remaining security sales that generated realized losses
included a significant number of US Treasury and government obligations and
were sold as a result of normal portfolio rebalancing activity and tax
planning. No single security sold during
the six months ended June 30, 2008 incurred a loss greater than $0.1
million. For such securities, the proceeds, realized loss, and total time
period that the security had been in an unrealized loss position are presented
in the table below:
|
|
Proceeds
|
|
% Proceeds
|
|
Realized Loss
|
|
% Realized Loss
|
|
|
|
(Dollars In Thousands)
|
|
<= 90 days
|
|
$
|
72,817
|
|
73.1
|
%
|
$
|
(205
|
)
|
29.2
|
%
|
>90 days but <= 180 days
|
|
7,000
|
|
7.0
|
|
(129
|
)
|
18.4
|
|
>180 days but <= 270 days
|
|
4,446
|
|
4.5
|
|
(72
|
)
|
10.3
|
|
>270 days but <= 1 year
|
|
12,490
|
|
12.5
|
|
(167
|
)
|
23.8
|
|
>1 year
|
|
2,871
|
|
2.9
|
|
(129
|
)
|
18.3
|
|
Total
|
|
$
|
99,624
|
|
100.0
|
%
|
$
|
(702
|
)
|
100.0
|
%
|
The $4.7 million of other realized gains recognized for the six months
ended June 30, 2008 includes foreign exchange gains of $6.0 million
and other losses totaling $1.3 million.
As of June 30, 2008, net losses of $86.5 million primarily related
to mark-to-market changes on our modified coinsurance (Modco) trading
portfolios associated with the Chase Insurance Group acquisition were also
included in realized gains and losses.
Of this amount, approximately $1.9 million of losses were realized
through the sale of certain securities, which will be reimbursed to us over
time through the reinsurance settlement process for this block of business.
Additional details on our investment performance and evaluation are provided in
the sections below.
Realized investment gains and losses related to derivatives represent
changes in the fair value of derivative financial instruments and
gains (losses) on derivative contracts closed during the period. We have entered into foreign currency swaps
to mitigate the risk of changes in the value of principal and interest payments
to be made on certain of our foreign currency denominated stable value
contracts. We recorded net realized
losses of $0.2 million and an immaterial loss from these securities for
the three and six months ended June 30, 2008, respectively. These losses were the result of differences
in the related foreign currency spot and forward rates used to value the stable
value contracts and foreign currency swaps.
We have taken short positions in U.S. Treasury futures to mitigate
interest rate risk related to our mortgage loan commitments. The net gains for the three months ended June 30,
2008 were the result of $5.7 million of gains related to closed positions and
$3.0 million of mark-to-market gains.
The net losses for the six months ended June 30, 2008 were the
result of $5.0 million of losses related to closed positions, partially offset
by $0.1 million of mark-to-market gains.
70
Table
of Contents
We also have in place various modified coinsurance and funds withheld
arrangements that, in accordance with DIG B36 (Embedded Derivatives:
Modified Coinsurance Arrangements and Debt Instruments That Incorporate Credit
Risk Exposures That Are Unrelated or Only Partially Related to the
Creditworthiness of the Obligor under Those Instruments), contain embedded
derivatives. The $48.2 million and $77.6
million of gains on these embedded derivatives in the three and six months
ended June 30, 2008, respectively, were a result of spread widening,
partially offset by lower interest rates.
In the three and six months ended June 30, 2008, the investment
portfolios that support the related modified coinsurance reserves and funds
withheld arrangements had mark-to-market losses that offset the gains on these
embedded derivatives.
We use interest rate swaps to mitigate interest rate risk related to
certain Senior Notes, Medium-Term Notes, and subordinated debt securities. These positions resulted in losses of
$2.8 million and gains of $3.7 million for the three and six months ended June 30,
2008, respectively.
We reported net gains of $13.1 million and net losses of $2.0 million
related to credit default swaps for the three and six months ended June 30,
2008, respectively. The net gains for
the three months ended June 30, 2008 were primarily the result of $8.6
million of mark-to-market gains and $4.2 million of gains related to closed
positions. The net losses for the six
months ended June 30, 2008 were primarily the result of $7.9 million of
mark-to-market losses, partly offset by $4.2 million of gains related to closed
positions. We entered into these credit
default swaps to enhance the return on our investment portfolio.
We also use various swaps, options, and swaptions to mitigate risk
related to other interest rate exposures.
We realized losses of $0.6 million and $3.1 million on swaptions
for the three and six months ended June 30, 2008, respectively. Equity call options generated losses of
$1.2 million and $4.7 million for the three and six months ended June 30,
2008, respectively. The GMWB rider
embedded derivatives on certain variable deferred annuities had realized losses
of $0.6 million and $3.4 million for the three and six months ended June 30,
2008, respectively. Other derivative
contracts generated net gains of $0.4 million and $0.2 million for the three
and six months ended June 30, 2008, respectively.
Unrealized
Gains and Losses Available for Sale Securities
The information presented below relates to investments at a certain
point in time and is not necessarily indicative of the status of the portfolio
at any time after June 30, 2008, the balance sheet date. Information about unrealized gains and losses
is subject to rapidly changing conditions, including volatility of financial
markets and changes in interest rates.
As indicated above, management considers a number of factors in
determining if an unrealized loss is other-than-temporary, including our
ability and intent to hold the security until recovery. Furthermore, since the timing of recognizing
realized gains and losses is largely based on managements decisions as to the
timing and selection of investments to be sold, the tables and information
provided below should be considered within the context of the overall
unrealized gain (loss) position of the portfolio. As of June 30, 2008, we had an overall
pre-tax net unrealized loss of $875.4 million.
Credit markets have experienced reduced liquidity, higher volatility
and widening credit spreads across numerous asset classes over the past several
quarters, primarily as a result of marketplace uncertainty arising from higher
defaults in sub-prime and Alt-A residential mortgage loans and a weakening of
the overall economy. In connection with
this uncertainty, we believe investors have departed from many investments in
asset-backed securities including those associated with sub-prime and Alt-A
residential mortgage loans, as well as types of debt investments with fewer
lender protections or those with reduced transparency and/or complex features
which may hinder investor understanding. We believe these factors have
contributed to an increase in our net unrealized investment losses through
declines in market values. We expect to
experience continued volatility in connection with the valuation of our fixed
maturity investments.
71
Table of Contents
For traded and private fixed maturity and equity securities held that
are in an unrealized loss position as of June 30, 2008, the estimated
market value, amortized cost, unrealized loss, and total time period that the
security has been in an unrealized loss position are presented in the table
below:
|
|
Estimated
|
|
% Market
|
|
Amortized
|
|
% Amortized
|
|
Unrealized
|
|
% Unrealized
|
|
|
|
Market Value
|
|
Value
|
|
Cost
|
|
Cost
|
|
Loss
|
|
Loss
|
|
|
|
(Dollars In Thousands)
|
|
<= 90 days
|
|
$
|
4,145,142
|
|
28.9
|
%
|
$
|
4,276,103
|
|
27.7
|
%
|
$
|
(130,961
|
)
|
12.1
|
%
|
>90 days but <= 180 days
|
|
5,356,797
|
|
37.3
|
|
5,609,019
|
|
36.3
|
|
(252,222
|
)
|
23.3
|
|
>180 days but <= 270 days
|
|
1,435,776
|
|
10.1
|
|
1,629,346
|
|
10.6
|
|
(193,570
|
)
|
17.8
|
|
>270 days but <= 1 year
|
|
690,078
|
|
4.8
|
|
789,893
|
|
5.1
|
|
(99,815
|
)
|
9.2
|
|
>1 year but <= 2 years
|
|
1,413,623
|
|
9.8
|
|
1,628,505
|
|
10.6
|
|
(214,882
|
)
|
19.8
|
|
>2 years but <= 3 years
|
|
1,004,156
|
|
7.0
|
|
1,141,178
|
|
7.4
|
|
(137,022
|
)
|
12.6
|
|
>3 years but <= 4 years
|
|
183,115
|
|
1.3
|
|
205,848
|
|
1.3
|
|
(22,733
|
)
|
2.1
|
|
>4 years but <= 5 years
|
|
62,828
|
|
0.4
|
|
81,702
|
|
0.5
|
|
(18,874
|
)
|
1.7
|
|
>5 years
|
|
57,010
|
|
0.4
|
|
71,723
|
|
0.5
|
|
(14,713
|
)
|
1.4
|
|
Total
|
|
$
|
14,348,525
|
|
100.0
|
%
|
$
|
15,433,317
|
|
100.0
|
%
|
$
|
(1,084,792
|
)
|
100.0
|
%
|
The unrealized losses as of June 30, 2008, primarily relate to the
widening of credit spreads and fluctuations in treasury rates during the
quarter. Factors such as credit enhancements within the deal structures and the
underlying collateral performance/characteristics support the recoverability of
the investments. We do not consider these unrealized loss positions to be
other-than-temporary, based on the factors discussed and because we have the
ability and intent to hold these investments until maturity or until the fair
values of the investments have recovered.
As of June 30, 2008, there were estimated unrealized losses of $93.7
million and $15.5 million, related to our mortgage-backed securities
collateralized by Alt-A mortgage loans and sub-prime mortgage loans,
respectively. Gross unrealized losses in
our securities collateralized by sub-prime and Alt-A residential mortgage loans
as of June 30, 2008, were primarily the result of continued widening spreads
during 2008, representing marketplace uncertainty arising from higher defaults
in sub-prime and Alt-A residential mortgage loans and rating agency downgrades
of securities collateralized by sub-prime and Alt-A residential mortgage
loans. For the six months ended June 30,
2008, we recorded $80.0 million of pre-tax other-than-temporary impairments on
residential mortgage-backed securities collateralized by Alt-A mortgages. The decline in the estimated fair value of
these securities resulted from factors including downgrades in rating, interest
rate changes, and the current distressed credit markets. These
other-than-temporary impairments resulted from our analysis of circumstances
and our belief that credit events, loss severity, changes in credit
enhancement, and/or other adverse conditions of the respective issuers have
caused, or will lead to, a deficiency in the contractual cash flows related to
these investments. Excluding the
securities on which other-than-temporary impairments were recorded, we expect
these investments to continue to perform in accordance with their original
contractual terms. We have the ability and intent to hold these investments
until maturity or until the fair values of the investments have recovered,
which may be at maturity. Additionally,
we do not expect these investments to adversely affect our liquidity or ability
to maintain proper matching of assets and liabilities.
As of June 30, 2008, securities with a market value of
$720.7 million and unrealized losses of $123.3 million were issued in
commercial mortgage loan securitizations that we sponsored, including
$7.7 million of unrealized losses greater than five years. We do not consider these unrealized positions
to be other-than-temporary because the underlying mortgage loans continue to
perform consistently with our original expectations. Our underwriting procedures relative to our
commercial loan portfolio are based on a conservative, disciplined
approach. We concentrate our
underwriting expertise on a small number of commercial real estate asset types
associated with the necessities of life (retail, multi-family, professional
office buildings, and warehouses). We believe these asset types tend to weather
economic downturns better than other commercial asset classes that we have
chosen to avoid. We believe this disciplined approach has helped to maintain a
relatively low delinquency and foreclosure rate throughout our history.
In assessing whether or not these unrealized positions should be
considered other-than-temporary, we review the underlying cash flows, as well as
the associated values of the real estate collateral for the loans included in
our commercial mortgage loan securitizations.
72
Table
of Contents
We have no
material concentrations of issuers or guarantors of fixed maturity
securities. The industry segment
composition of all securities in an unrealized loss position held as of June 30,
2008, is presented in the following table:
|
|
Estimated
|
|
% Market
|
|
Amortized
|
|
% Amortized
|
|
Unrealized
|
|
% Unrealized
|
|
|
|
Market Value
|
|
Value
|
|
Cost
|
|
Cost
|
|
Loss
|
|
Loss
|
|
|
|
(Dollars In Thousands)
|
Agency Mortgages
|
|
$
|
626,313
|
|
4.4
|
%
|
$
|
639,776
|
|
4.1
|
%
|
$
|
(13,463
|
)
|
1.2
|
%
|
Banking
|
|
1,446,071
|
|
10.1
|
|
1,642,995
|
|
10.6
|
|
(196,924
|
)
|
18.2
|
|
Basic Industrial
|
|
382,189
|
|
2.7
|
|
425,925
|
|
2.8
|
|
(43,736
|
)
|
4.0
|
|
Brokerage
|
|
457,203
|
|
3.2
|
|
501,075
|
|
3.2
|
|
(43,872
|
)
|
4.0
|
|
Capital Goods
|
|
178,542
|
|
1.2
|
|
189,559
|
|
1.2
|
|
(11,017
|
)
|
1.0
|
|
Communications
|
|
443,641
|
|
3.1
|
|
486,143
|
|
3.2
|
|
(42,502
|
)
|
3.9
|
|
Consumer Cyclical
|
|
334,092
|
|
2.3
|
|
377,563
|
|
2.5
|
|
(43,471
|
)
|
4.0
|
|
Consumer Noncyclical
|
|
368,167
|
|
2.6
|
|
384,715
|
|
2.5
|
|
(16,548
|
)
|
1.5
|
|
Electric
|
|
1,143,947
|
|
8.0
|
|
1,209,728
|
|
7.8
|
|
(65,781
|
)
|
6.1
|
|
Energy
|
|
361,901
|
|
2.5
|
|
375,559
|
|
2.4
|
|
(13,658
|
)
|
1.3
|
|
Finance Companies
|
|
322,480
|
|
2.2
|
|
349,835
|
|
2.3
|
|
(27,355
|
)
|
2.5
|
|
Insurance
|
|
782,786
|
|
5.5
|
|
851,577
|
|
5.5
|
|
(68,791
|
)
|
6.3
|
|
Municipal Agencies
|
|
1,585
|
|
0.0
|
|
1,612
|
|
0.0
|
|
(27
|
)
|
0.0
|
|
Natural Gas
|
|
685,098
|
|
4.8
|
|
725,700
|
|
4.7
|
|
(40,602
|
)
|
3.7
|
|
Non-Agency Mortgages
|
|
4,298,181
|
|
30.0
|
|
4,627,811
|
|
30.0
|
|
(329,630
|
)
|
30.4
|
|
Other Finance
|
|
1,943,162
|
|
13.5
|
|
2,045,927
|
|
13.2
|
|
(102,765
|
)
|
9.5
|
|
Other Industrial
|
|
120,917
|
|
0.8
|
|
126,509
|
|
0.8
|
|
(5,592
|
)
|
0.5
|
|
Other Utility
|
|
17,757
|
|
0.1
|
|
19,044
|
|
0.1
|
|
(1,287
|
)
|
0.1
|
|
Real Estate
|
|
11,807
|
|
0.1
|
|
12,476
|
|
0.1
|
|
(669
|
)
|
0.1
|
|
Technology
|
|
89,995
|
|
0.6
|
|
94,045
|
|
0.6
|
|
(4,050
|
)
|
0.4
|
|
Transportation
|
|
226,516
|
|
1.6
|
|
235,523
|
|
1.5
|
|
(9,007
|
)
|
0.8
|
|
U.S. Government
|
|
3,641
|
|
0.0
|
|
3,670
|
|
0.0
|
|
(29
|
)
|
0.0
|
|
U.S. Govt Agencies
|
|
102,534
|
|
0.7
|
|
106,550
|
|
0.9
|
|
(4,016
|
)
|
0.5
|
|
Total
|
|
$
|
14,348,525
|
|
100.0
|
%
|
$
|
15,433,317
|
|
100.0
|
%
|
$
|
(1,084,792
|
)
|
100.0
|
%
|
The range of maturity dates for securities in an unrealized loss
position as of June 30, 2008, varies, with 13.0% maturing in less than
5 years, 22.2% maturing between 5 and 10 years, and 64.8% maturing
after 10 years. The following table
shows the credit rating of securities in an unrealized loss position as of June 30,
2008:
S&P or Equivalent
|
|
Estimated
|
|
% Market
|
|
Amortized
|
|
% Amortized
|
|
Unrealized
|
|
% Unrealized
|
|
Designation
|
|
Market Value
|
|
Value
|
|
Cost
|
|
Cost
|
|
Loss
|
|
Loss
|
|
|
|
(Dollars In Thousands)
|
AAA/AA/A
|
|
$
|
10,141,033
|
|
70.7
|
%
|
$
|
10,747,519
|
|
69.6
|
%
|
$
|
(606,486
|
)
|
55.9
|
%
|
BBB
|
|
3,318,293
|
|
23.1
|
|
3,558,850
|
|
23.1
|
|
(240,557
|
)
|
22.2
|
|
Investment grade
|
|
13,459,326
|
|
93.8
|
|
14,306,369
|
|
92.7
|
|
(847,043
|
)
|
78.1
|
|
BB
|
|
585,191
|
|
4.1
|
|
674,714
|
|
4.4
|
|
(89,523
|
)
|
8.3
|
|
B
|
|
239,290
|
|
1.7
|
|
337,116
|
|
2.2
|
|
(97,826
|
)
|
9.0
|
|
CCC or lower
|
|
64,718
|
|
0.4
|
|
115,118
|
|
0.7
|
|
(50,400
|
)
|
4.6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Below investment grade
|
|
889,199
|
|
6.2
|
|
1,126,948
|
|
7.3
|
|
(237,749
|
)
|
21.9
|
|
Total
|
|
$
|
14,348,525
|
|
100.0
|
%
|
$
|
15,433,317
|
|
100.0
|
%
|
$
|
(1,084,792
|
)
|
100.0
|
%
|
As of June 30, 2008, securities in an unrealized loss position
that were rated as below investment grade represented 6.2% of the total market
value and 21.9% of the total unrealized loss.
Unrealized losses related to below investment grade securities that had
been in an unrealized loss position for more than twelve months were $103.3
million. Securities in an unrealized
loss position rated below investment grade were 3.0% of invested assets. We generally purchase our investments with
the intent to hold to maturity. We do
not expect these investments to adversely affect our liquidity or ability to
maintain proper matching of assets and liabilities.
73
Table of Contents
The following
table shows the estimated market value, amortized cost, unrealized loss, and
total time period that the security has been in an unrealized loss position for
all below investment grade securities:
|
|
Estimated
|
|
% Market
|
|
Amortized
|
|
% Amortized
|
|
Unrealized
|
|
% Unrealized
|
|
|
|
Market Value
|
|
Value
|
|
Cost
|
|
Cost
|
|
Loss
|
|
Loss
|
|
|
|
(Dollars In Thousands)
|
<= 90 days
|
|
$
|
226,649
|
|
25.5
|
%
|
$
|
240,261
|
|
21.3
|
%
|
$
|
(13,612
|
)
|
5.7
|
%
|
>90 days but <= 180 days
|
|
136,106
|
|
15.3
|
|
173,583
|
|
15.4
|
|
(37,477
|
)
|
15.8
|
|
>180 days but <= 270 days
|
|
171,198
|
|
19.3
|
|
213,774
|
|
19.0
|
|
(42,576
|
)
|
17.9
|
|
>270 days but <= 1 year
|
|
58,892
|
|
6.6
|
|
99,634
|
|
8.8
|
|
(40,742
|
)
|
17.1
|
|
>1 year but <= 2 years
|
|
96,341
|
|
10.8
|
|
128,260
|
|
11.4
|
|
(31,919
|
)
|
13.4
|
|
>2 years but <= 3 years
|
|
138,691
|
|
15.6
|
|
175,610
|
|
15.6
|
|
(36,919
|
)
|
15.5
|
|
>3 years but <= 4 years
|
|
29,995
|
|
3.4
|
|
41,925
|
|
3.7
|
|
(11,930
|
)
|
5.0
|
|
>4 years but <= 5 years
|
|
15,349
|
|
1.7
|
|
30,728
|
|
2.7
|
|
(15,379
|
)
|
6.5
|
|
>5 years
|
|
15,978
|
|
1.8
|
|
23,173
|
|
2.1
|
|
(7,195
|
)
|
3.1
|
|
Total
|
|
$
|
889,199
|
|
100.0
|
%
|
$
|
1,126,948
|
|
100.0
|
%
|
$
|
(237,749
|
)
|
100.0
|
%
|
As of June 30, 2008, below investment grade securities with a
market value of $26.1 million and $10.4 million of unrealized losses were
issued in commercial mortgage loan securitizations that we sponsored, including
securities in an unrealized loss position greater than five years with a market
value of $14.7 million and $6.0 million of unrealized losses. We do not consider these unrealized positions
to be other-than-temporary, because the underlying mortgage loans continue to
perform consistently with our original expectations. In addition, of the total below investment
grade securities, approximately $752.8 million and $73.5 million, respectively,
relate to corporate securities and public utility securities.
LIQUIDITY
AND CAPITAL RESOURCES
Liquidity
We meet our
liquidity requirements primarily through positive cash flows from our operating
subsidiaries. Primary sources of cash
from the operating subsidiaries are premiums, deposits for policyholder
accounts, investment sales and maturities, and investment income. Primary uses of cash for the operating
subsidiaries include benefit payments, withdrawals from policyholder accounts,
investment purchases, policy acquisition costs, and other operating expenses.
While we
generally anticipate that the cash flow of our operating subsidiaries will be
sufficient to meet our investment commitments and operating cash needs, we
recognize that investment commitments scheduled to be funded may, from time to
time, exceed the funds then available.
Therefore, we have established repurchase agreement programs for certain
of our insurance subsidiaries to provide liquidity when needed. We expect that the rate received on our
investments will equal or exceed our borrowing rate. As of June 30, 2008, we had $360.0
million related to such borrowings. Additionally, we may, from time to time,
sell short-duration stable value products to complement our cash management
practices. We may also use
securitization transactions involving our commercial mortgage loans to increase
liquidity for the operating subsidiaries.
During the second
quarter of 2008, we joined the FHLB of Cincinnati. FHLB advances provide an attractive funding
source for short-term borrowing and for the sale of funding agreements. Membership in the FHLB requires that we
purchase FHLB capital stock based on a minimum requirement and a percentage of
the dollar amount of advances outstanding.
We held $50.8 million of common stock as of June 30, 2008, which is
included in equity securities. In
addition, our obligations under the advances must be collateralized. We maintain control over any such pledged
assets, including the right of substitution.
As of June 30, 2008 we had $250 million of short-term advances and
$375 million of funding agreement-related advances outstanding under the FHLB
program.
74
Table of Contents
Under a
revolving line of credit arrangement, we have the ability to borrow on an
unsecured basis at an interest rate of LIBOR plus 0.30%, up to a maximum
principal amount of $500 million (the New Credit Facility). This replaced our previously existing $200
million revolving line of credit. We
have the right in certain circumstances to request that the commitment under
the New Credit Facility be increased up to a maximum principal amount of $600
million. Balances outstanding under the New Credit Facility accrue interest at
a rate equal to (i) either the prime rate or the London Interbank Offered
Rate (LIBOR), plus (ii) a spread based on the ratings of our senior
unsecured long-term debt. The Credit Agreement provides that we are liable for
the full amount of any obligations for borrowings or letters of credit,
including those of PLICO, under the New Credit Facility. The maturity date on
the New Credit Facility is April 16, 2013.
There was no balance outstanding under the New Credit Facility as of June 30,
2008. However, approximately $32 million of capacity has been utilized to issue
intercompany letters of credit relating to certain reinsurance arrangements. In addition, the Company was in compliance
with all financial debt covenants as of June 30, 2008.
Our positive
cash flows from operations are used to fund an investment portfolio that
provides for future benefit payments. We
employ a formal asset/liability program to manage the cash flows of our
investment portfolio relative to our long-term benefit obligations. The life insurance subsidiaries were
committed as of June 30, 2008, to fund mortgage loans in the amount of
$786.0 million. Our subsidiaries
held $900.5 million in cash and short-term investments as of June 30,
2008. We had an additional
$6.9 million in cash and short-term investments available for general
corporate purposes.
Sources and
Uses of Cash
Our primary
sources of funding are dividends from our operating subsidiaries; revenues from
investment, data processing, legal, and management services rendered to
subsidiaries; investment income; and external financing. These sources of cash support our general
corporate needs including our common stock dividends and debt service. The states in which our insurance
subsidiaries are domiciled impose certain restrictions on the insurance
subsidiaries ability to pay us dividends.
These restrictions are generally based in part on the prior years
statutory income and surplus. Generally,
these restrictions pose no short-term liquidity concerns. We plan to retain substantial portions of the
earnings of our insurance subsidiaries in those companies primarily to support
their future growth.
The following
chart shows the cash flows provided by or used in operating, investing, and
financing activities for the six months ended June 30, 2008 and June 30,
2007:
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
2008
|
|
2007
|
|
|
|
(Dollars In Thousands)
|
|
|
|
|
|
|
|
Net cash provided by operating activities
|
|
$
|
852,536
|
|
$
|
345,570
|
|
Net cash (used in) provided by investing
activities
|
|
(1,964,977
|
)
|
7,160
|
|
Net cash provided by (used in) financing
activites
|
|
1,073,656
|
|
(61,117
|
)
|
Total
|
|
$
|
(38,785
|
)
|
$
|
291,613
|
|
Six Months Ended June 30, 2008 compared
to Six Months Ended June 30, 2007
Net cash
provided by operating activities
-
Cash
flows from operating activities are affected by the timing of premiums
received, fees received, investment income, and expenses paid. Principal
sources of cash include sales of our products and services. As an insurance
business, we typically generate positive cash flows from operating activities,
as premiums and deposits collected from our insurance and investment products
exceed benefits paid and redemptions, and we invest the excess. Accordingly, in
analyzing our cash flows we focus on the change in the amount of cash available
and used in investing activities.
Net cash
(used in) provided by investing activities
-
The variance
in net cash used in investing activities for the six months ended June 30,
2008 compared to June 30, 2007 was primarily the result of activity
related to our investment portfolio.
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Table of Contents
Net cash
provided by (used in) financing activities
-
Changes in cash from financing activities primarily relate
to the issuance and repayment of borrowings, dividends to our stockholders and
other capital transactions, as well as the issuance of, and redemptions and
benefit payments on, investment contracts. The increase for the six months
ended June 30, 2008 compared to June 30, 2007 was primarily the
result of fluctuations in investment product deposits and withdrawals and
repurchase agreement activity.
Capital
Resources
To give us
flexibility in connection with future acquisitions and other funding needs, we
have registered debt securities, preferred and common stock, and stock purchase
contracts of Protective Life Corporation, and additional preferred securities
of special purpose finance subsidiaries under the Securities Act of 1933 on a
delayed (or shelf) basis.
As of June 30,
2008, our capital structure consisted of Medium-Term Notes, Senior Notes,
Subordinated Debentures, and shareowners equity. We also have a $500 million revolving
line of credit, under which we could borrow funds at an interest rate of LIBOR
plus 0.30%, with balances due April 16, 2013. We have the right in certain circumstances to
request that the commitment under the New Credit Facility be increased up to a
maximum principal amount of $600 million.
No compensating balances are required to maintain the line of
credit. The line of credit arrangement
contains, among other provisions, requirements for maintaining certain
financial ratios and restrictions on the indebtedness that we and our
subsidiaries can incur. Additionally,
the line of credit arrangement precludes us, on a consolidated basis, from
incurring debt in excess of 40% of our total capital. There is currently no balance outstanding
under the New Credit Facility. However,
approximately $32 million of capacity has been utilized to issue intercompany
letters of credit relating to certain reinsurance arrangements. We were in compliance with all debt covenants
as of June 30, 2008.
Golden Gate
Captive Insurance Company (Golden Gate), a special purpose
financial captive insurance company wholly owned by Protective Life, our
largest operating subsidiary, had $800.0 million of non-recourse funding
obligations outstanding as of June 30, 2008, the maximum amount available
under a surplus notes facility established with certain purchasers. These non-recourse funding obligations bear a
floating rate of interest and mature in 2037.
As the block of business grows and ages, unless additional funding
mechanisms are put into place, reserving increases will reduce our available
statutory capital and surplus. We also
have experienced higher proportional borrowing costs associated with the
non-recourse funding obligations supporting the business reinsured to Golden
Gate. The maximum rate we could be
required to pay under these obligations is LIBOR plus 425 basis points. These costs have been partially mitigated by
a drop in LIBOR during the six months ended June 30, 2008.
Golden
Gate II Captive Insurance Company (Golden Gate II), a special
purpose financial captive insurance company wholly owned by
Protective Life, had $575.0 million of non-recourse funding
obligations outstanding as of June 30, 2008. These non-recourse funding obligations mature
in 2052. We do not anticipate having to
pursue additional funding related to this block of business; however, we have
contingent approval to issue an additional $100 million of obligations if
necessary. We have experienced higher
proportional borrowing costs associated with certain of our non-recourse
funding obligations supporting the business reinsured to Golden Gate II. These
higher costs are the result of higher interest costs associated with the
illiquidity of the current market for auction rate securities, as well as a
rating downgrade of our guarantor by certain rating agencies. The maximum rate we could be required to pay
under these obligations is LIBOR plus 200 basis points. These costs have been partially mitigated by
a drop in LIBOR during the six months ended June 30, 2008.
On May 7,
2007, our Board of Directors extended our previously authorized
$100 million share repurchase program.
The current authorization extends through May 6, 2010. During the
first three months of 2008, we repurchased approximately 450,800 shares, at a
total cost of approximately $17.1million. We did not repurchase any additional
shares during the months of April through June, 2008. For additional information, see Part II,
Item 2,
Unregistered Sales of Equity Securities and Use of
Proceeds
. Future activity
will be dependent upon many factors, including capital levels, rating agency
expectations, and the relative attractiveness of alternative uses for capital.
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Table of Contents
A life
insurance companys statutory capital is computed according to rules prescribed
by the National Association of Insurance Commissioners (NAIC), as
modified by state law. Generally
speaking, other states in which a company does business defer to the
interpretation of the domiciliary state with respect to NAIC rules, unless
inconsistent with the other states law.
Statutory accounting rules are different from U.S. GAAP and
are intended to reflect a more conservative view, for example, requiring
immediate expensing of policy acquisition costs. The NAICs risk-based capital requirements
require insurance companies to calculate and report information under a risk-based
capital formula. The achievement of
long-term growth will require growth in the statutory capital of our insurance
subsidiaries. The subsidiaries may
secure additional statutory capital through various sources, such as retained
statutory earnings or equity contributions by us.
We cede material amounts of insurance and
transfer related assets to other insurance companies through reinsurance. However, notwithstanding the transfer of
related assets, we remain liable with respect to ceded insurance should any
reinsurer fail to meet the obligations that such reinsurer assumed. We evaluate the financial condition of our
reinsurers and monitor the concentration of credit risk arising from them. During the three and six months ended June 30,
2008, we ceded premiums to third-party reinsurers amounting to $423.8 million
and $794.8 million, respectively. In
addition, we had receivables from reinsurers amounting to $5.2 billion as of June 30,
2008. We review reinsurance receivable
amounts for collectability and establish appropriate bad debt reserves if
deemed appropriate.
As of June 30,
2008, we reported approximately $705.0 million (fair value) of Auction Rate
Securities (ARSs), which were all rated AAA.
These holdings are student loan-backed auction rate securities, which
are guaranteed by the Federal Family Education Loan Program. While the auction
rate market has experienced certain liquidity constraints, we believe that
based on our current liquidity position and our operating cash flows, any lack
of liquidity in the ARS market will not have a material impact on our
liquidity, financial condition, or cash flows.
As of June 30,
2008, we reported residential mortgage-backed securities with a total market
value of $72.8 million, or 0.2% of total invested assets, that were supported
by collateral classified as sub-prime. $34.0 million, or 46.7%, of these
securities were rated AAA. Additionally,
as of June 30, 2008, we held $754.7 million, or 2.5% of invested assets,
of securities supported by collateral classified as Alt-A. While the estimated
fair market values of certain of these securities have experienced significant
declines, we believe that based on our current liquidity position and our
operating cash flows, continuing to hold these securities until the fair value
recovers will not have a material impact on our liquidity, financial condition,
or cash flows.
As of June 30,
2008, we reported $400.0 million of liabilities related to variable interest
entities. During June 2008, we received notification of the intent to
terminate the notes in existence under the trust facility. Management is in the
process of reviewing the implications of this termination of the trust, which
is consolidated on our financial statements in accordance with FASB
Interpretation No. 46 (revised December 2003),
Consolidation
of Variable Interest Entities, an interpretation of ARB No. 51
(FIN 46(R)). Based on our current
liquidity position and our operating cash flows, we do not believe the
termination of this variable interest entity will have a material impact on our
liquidity, financial condition, or cash flows.
Liabilities
Many of our
products contain surrender charges and other features that reward persistency
and penalize the early withdrawal of funds.
Certain stable value and annuity contracts have market-value adjustments
that protect us against investment losses if interest rates are higher at the
time of surrender than at the time of issue.
As of June 30,
2008, we had policy liabilities and accruals of approximately $18.0
billion. Our interest-sensitive life
insurance policies have a weighted average minimum credited interest rate of
approximately 3.71%.
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Table
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Contractual
Obligations
The table
below sets forth future maturities of debt, non-recourse funding obligations,
subordinated debt securities, stable value products, notes payable, operating
lease obligations, other property lease obligations, mortgage loan commitments,
liabilities related to variable interest entities, policyholder obligations,
and defined benefit pension obligations.
As of June 30,
2008, in accordance with FASB Interpretation No. 48,
Accounting
for Uncertainty in Income Taxes-an Interpretation of FASB Statement 109
,
we recorded a $33.4 million liability for uncertain tax positions,
including interest on unrecognized tax benefits. These amounts are not included in the
long-term contractual obligations table because of the difficulty in making
reasonably reliable estimates of the occurrence or timing of cash settlements
with the respective taxing authorities.
|
|
Payments due by period
|
|
|
|
|
|
Less than
|
|
|
|
|
|
More than
|
|
|
|
Total
|
|
1 year
|
|
1-3 years
|
|
3-5 years
|
|
5 years
|
|
|
|
(Dollars In Thousands)
|
Long-term debt
(1)
|
|
$
|
752,481
|
|
$
|
28,396
|
|
$
|
56,793
|
|
$
|
314,342
|
|
$
|
352,950
|
|
Non-recourse funding obligations
(2)
|
|
3,685,672
|
|
69,614
|
|
139,228
|
|
139,228
|
|
3,337,602
|
|
Subordinated debt securities
(3)
|
|
1,919,815
|
|
37,147
|
|
74,294
|
|
74,294
|
|
1,734,080
|
|
Stable value products
(4)
|
|
6,508,150
|
|
1,500,004
|
|
2,365,710
|
|
1,156,886
|
|
1,485,550
|
|
Operating leases
(5)
|
|
30,320
|
|
6,671
|
|
11,296
|
|
6,685
|
|
5,668
|
|
Home office lease
(6)
|
|
88,177
|
|
2,392
|
|
4,790
|
|
4,783
|
|
76,212
|
|
Mortgage loan commitments
|
|
786,049
|
|
786,049
|
|
|
|
|
|
|
|
Liabilities related to variable interest entities
(7)
|
|
402,758
|
|
402,758
|
|
|
|
|
|
|
|
Policyholder obligations
(8)
|
|
21,221,433
|
|
1,527,988
|
|
2,908,675
|
|
2,702,487
|
|
14,082,283
|
|
Defined benefit pension obligations
(9)
|
|
2,326
|
|
2,326
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
Long-term debt
includes all principal amounts owed on note agreements and expected interest
payments due over the term of notes.
(2)
Non-recourse
funding obligations include all principal amounts owed on note agreements and
expected interest payments due over the term of the notes.
(3)
Subordinated
debt securities includes all principal amounts owed to our non-consolidated
special purpose finance subsidiaries and interest payments due over the term of
the obligations.
(4)
Anticipated
stable value products cash flows including interest.
(5)
Includes all lease payments required
under operating lease agreements.
(6)
The
lease payments shown assume we exercise our option to purchase the building at
the end of the lease term. Additionally, the payments due by period above were
computed based on the terms of the renegotiated lease agreement, which was
entered in January 2007.
(7)
Liabilities
related to variable interest entities are not our legal obligations, but will
be repaid with cash flows generated by the variable interest entities. The
amounts represent scheduled principal and expected interest payments.
(8)
Estimated contractual policyholder
obligations are based on mortality, morbidity, and lapse assumptions comparable
to our historical experience, modified for recent observed trends. These
obligations are based on current balance sheet values and include expected interest
crediting, but do not incorporate an expectation of future market growth, or
future deposits. Due to the significance of the assumptions used, the amounts
presented could materially differ from actual results. As separate account
obligations are legally insulated from general account obligations, the
separate account obligations will be fully funded by cash flows from separate
account assets. We expect to fully fund the general account obligations from
cash flows from general account investments.
(9)
Estimated
2008 contributions to our defined benefit pension plan and unfunded excess
benefit plan approximate the projected expense to be recognized in 2008. Due to
the significance of the assumptions used, this amount could differ from actual
results. No estimate has been made of amounts to be contributed to these plans
in years subsequent to 2008.
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Table
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FAIR VALUE OF FINANCIAL INSTRUMENTS
On January 1, 2008, we adopted SFAS No. 157. This standard defines fair value, establishes
a framework for measuring fair value, establishes a fair value hierarchy based
on the quality of inputs used to measure fair value and enhances disclosure
requirements for fair value measurements.
The term fair value as used in this document is defined in accordance
with SFAS No. 157. The cumulative effect of adopting this standard
resulted in an increase to January 1, 2008 retained earnings of $1.5
million and a decrease in income before income taxes of $0.4 million for the
six months ended June 30, 2008. The
standard describes three levels of inputs that may be used to measure fair
value. For more information, see Note 1
,
Basis of Presentation and Summary of Significant Accounting Policies
and Note 10,
Fair Value
of Financial Instruments.
Available-for-sale securities and trading
account securities are recorded at fair value, which is primarily based on
actively traded markets where prices are based on either direct market quotes
or observed transactions. Liquidity is a significant factor in the
determination of the fair value for these securities. Market price quotes may not be readily
available for some positions, or for some positions within a market sector
where trading activity has slowed significantly or ceased. Situations of illiquidity generally are
triggered by the markets perception of credit uncertainty regarding a single
company or a specific market sector. In these instances, fair value is
determined based on limited available market information and other factors,
principally from reviewing the issuers financial position, changes in credit
ratings, and cash flows on the investments.
As of June 30, 2008, $5.5 billion of available-for-sale and trading
account assets were classified as level three fair value assets.
The fair values of derivative assets and
liabilities include adjustments for market liquidity, counterparty credit
quality and other deal specific factors, where appropriate. The fair values of
derivative assets and liabilities traded in the over-the-counter market are
determined using quantitative models that require the use of multiple market
inputs including interest rates, prices and indices to generate continuous
yield or pricing curves and volatility factors, which are used to value the
position. The predominance of market inputs are actively quoted and can be
validated through external sources. Estimation risk is greater for derivative
asset and liability positions that are either option-based or have longer
maturity dates where observable market inputs are less readily available or are
unobservable, in which case quantitative based extrapolations of rate, price or
index scenarios are used in determining fair values. At June 30, 2008, the
level three fair values of derivative assets and liabilities determined by
these quantitative models was $44.4 million and $6.5 million. These amounts
reflect the full fair value of the derivatives as defined in accordance with
SFAS No. 157 and do not isolate the discrete value associated with the
specific subjective valuation variable.
The liabilities of certain of our annuity
account balances are calculated at fair value using actuarial valuation models.
These models use various observable and unobservable inputs including projected
future cash flows, policyholder behavior, the Companys credit rating and other
market conditions. At June 30,
2008, the level three fair value of these liabilities was $146.6 million. This
amount reflects the full fair value of the liabilities as defined in accordance
with SFAS No. 157 and does not isolate the discrete value associated with
the specific subjective valuation variable.
MARKET
RISK EXPOSURES AND OFF-BALANCE SHEET ARRANGEMENTS
Our financial position and
earnings are subject to various market risks including changes in interest
rates, changes in the yield curve, changes in spreads between risk-adjusted and
risk-free interest rates, changes in foreign currency rates, changes in used
vehicle prices, and equity price risks.
We analyze and manage the risks arising from market exposures of financial
instruments, as well as other risks, through an integrated asset/liability
management process. Our asset/liability
management programs and procedures involve the monitoring of asset and
liability durations for various product lines; cash flow testing under various
interest rate scenarios; and the continuous rebalancing of assets and
liabilities with respect to yield, risk, and cash flow characteristics. These programs also incorporate the use of
derivative financial instruments primarily to reduce our exposure to interest
rate risk, inflation risk, currency exchange risk, and equity market risk.
The primary focus of our asset/liability program is the management of
interest rate risk within the insurance operations. This includes monitoring the duration of both
investments and insurance liabilities to maintain an appropriate balance
between risk and profitability for each product category, and for us as a
whole. It is our policy to generally
maintain asset and liability durations within one-half year of one another,
although, from time to time, a broader interval may be allowed.
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Table
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Derivative instruments that are used as part of our interest rate risk
management strategy include interest rate swaps, interest rate futures,
interest rate options and interest rate swaptions. Our inflation risk management strategy
involves the use of swaps that require us to pay a fixed rate and receive a
floating rate that is based on changes in the Consumer Price
Index (CPI). We use foreign
currency swaps to manage our exposure to changes in the value of foreign
currency denominated stable value contracts.
We also use S&P 500
®
options to mitigate our
exposure to the value of equity indexed annuity contracts.
We have sold credit derivatives to enhance the return on our investment
portfolio. These credit default swaps
create credit exposure similar to an investment in publicly-issued fixed
maturity cash investments. As of June 30,
2008, the notional amount of these credit default swaps was $65.0 million and
the swaps were in an unrealized loss position of $7.6 million,
respectively. As a result of the ongoing
disruption in the credit markets, the fair value of these derivatives is
expected to fluctuate in response to changing market conditions. We believe that the unrealized loss recorded
on these credit default swaps is not indicative of the economic value of the
investment. We expect the unrealized loss to reverse over the remaining life of
the credit default swap portfolio.
Derivative instruments expose us to credit and market risk and could
result in material changes from quarter-to-quarter. We minimize our credit risk by entering into
transactions with highly rated counterparties.
We manage the market risk associated with interest rate and foreign
exchange contracts by establishing and monitoring limits as to the types and
degrees of risk that may be undertaken.
We monitor our use of derivatives in connection with our overall
asset/liability management programs and procedures.
In the ordinary course of our commercial mortgage lending operations,
we will commit to provide a mortgage loan before the property to be mortgaged
has been built or acquired. The mortgage
loan commitment is a contractual obligation to fund a mortgage loan when called
upon by the borrower. The commitment is
not recognized in our financial statements until the commitment is actually
funded. The mortgage loan commitment
contains terms, including the rate of interest, which may be different than
prevailing interest rates. As of June 30,
2008, we had outstanding mortgage loan commitments of $786.0 million at an
average rate of 6.33%.
We believe our asset/liability management programs and procedures and
certain product features provide protection against the effects of changes in
interest rates under various scenarios.
Additionally, we believe our asset/liability management programs and
procedures provide sufficient liquidity to enable us to fulfill our obligation
to pay benefits under our various insurance and deposit contracts. However, our asset/liability management
programs and procedures incorporate assumptions about the relationship between
short-term and long-term interest rates (i.e., the slope of the yield
curve), relationships between risk-adjusted and risk-free interest rates,
market liquidity, spread movements and other factors, and the effectiveness of
our asset/liability management programs and procedures may be negatively
affected whenever actual results differ from those assumptions.
RECENTLY ISSUED ACCOUNTING STANDARDS
See Note 1,
Basis of Presentation and
Summary of Significant Accounting Policies
, to the Consolidated
Condensed Financial Statements for information regarding recently issued
accounting standards.
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Table
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RECENT DEVELOPMENTS
Credit markets have experienced reduced liquidity, higher volatility
and widening credit spreads across numerous asset classes over the past several
quarters, primarily as a result of marketplace uncertainty arising from higher
defaults in sub-prime and Alt-A residential mortgage loans and a weakening of
the overall economy. In connection with
this uncertainty, we believe investors and lenders have retreated from many
investments in asset-backed securities including those associated with
sub-prime and Alt-A residential mortgage loans, as well as types of debt
investments with weak lender protections or those with limited transparency
and/or complex features which hinder investor understanding. We believe such
uncertainty has contributed to an increase in our net unrealized investment
losses through declines in market values.
We expect to experience continued volatility in connection with the
valuation of our fixed maturity investments. However, we believe that the
current credit environment also provides us with opportunities to invest in
select asset classes and sectors that may enhance our investment yields over
time.
Revised Actuarial Guideline 38 was approved by the NAIC, with an
effective date of July 1, 2005.
Actuarial Guideline 38, also known as AXXX, sets forth the reserve
requirements for universal life insurance with secondary guarantees
(ULSG). The changes to Actuarial
Guideline 38 increased the reserve levels required for many ULSG products,
and potentially make those products more expensive and less competitive as
compared to other products including term and whole life products. To the extent that the additional reserves
are generally considered to be economically redundant, capital market or other
solutions may emerge to reduce the impact of the amendment. The NAIC has issued additional changes to
AG38 and Regulation XXX, which had the effect of modestly decreasing the
reserves required for certain traditional and universal life policies that are
issued on January 1, 2007, and later.
In addition, accounting and actuarial groups within the NAIC are
studying whether to change the accounting standards that relate to certain
reinsurance credits, and whether, if changes are made, they are to be applied
retrospectively, prospectively only, or in a phased-in manner; a requirement to
reduce the reserve credit on ceded business, if applied retroactively, would
have a negative impact on our statutory capital. The NAIC is also currently working to reform
state regulation in various areas, including comprehensive reforms relating to
life insurance reserves.
Our ability to implement financing solutions designed to fund a portion
of our statutory reserves on both the traditional and universal life blocks of
business is dependent on factors such as our ratings, the size of the blocks of
business affected, our mortality experience, credit market guarantors, and
other factors. We cannot predict the
continued availability of such solutions or the form that the solution may
take. To the extent that such solutions
are not available, our financial position could be adversely affected through
impacts including, but not limited to, higher borrowing costs, surplus strain,
lower sales capacity and possible reduced earnings expectations. Management continues to monitor options
related to these financing solutions.
During 2006, the NAIC made the determination that certain securities
previously classified as preferred securities had both debt and equity
characteristics and because of this, required unique reporting treatment. Under
a short-term solution, NAIC guidance mandated that certain of these
securities may have to carry a lower rating for asset valuation reserve and
risk based capital calculations. As
a result, certain securities receive a lower rating classification for asset
valuation reserve and risk based capital calculations.
Our insurance subsidiaries currently invest in hybrid securities. As of June 30, 2008, we (including both
insurance and non-insurance subsidiaries) held approximately $1.3 billion
(statutory carrying value) in securities that meet the aforementioned
notch-down criteria, based on evaluation of the underlying characteristics of
the securities. The NAIC has since
established a long-term solution, which effective January 1, 2009,
provides for the classification of these hybrid securities as debt securities.
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Table
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During 2006, the NAICs Reinsurance Task Force adopted a proposal
suggesting broad changes to the United States reinsurance market, with the
stated intent to establish a regulatory system that distinguishes financially
strong reinsurers from weak reinsurers, without relying exclusively on their
state or country of domicile, with collateral to be determined as
appropriate. The task force recommended
that regulation of reinsurance procedures be amended to focus on broad based
risk and credit criteria and not solely on U.S. licensure status. Evaluation of this proposal will be taken
under consideration by the NAICs Financial Condition (E) Committee, the
Reinsurance Task Forces parent committee, as one of its charges during
2007. We cannot provide any assurance as
to what impact such changes to the United States reinsurance industry will have
on the availability, cost, or collateral restrictions associated with ongoing
or future reinsurance transactions.
The NAIC adopted amendment(s) to the Unfair Trade Practices Act
regarding the use of travel in insurance underwriting. The amendment states that the denial of life
insurance based upon an individuals past lawful travel experiences or future
lawful travel plans, is prohibited unless (i) the risk of loss for
individuals traveling to a specified destination at a specified time is
reasonably anticipated to be greater than if the individuals did not travel to
that destinations at that time, and (ii) the risk of traveling to a
specific destination is based on sound actuarial principles and actual or
reasonably anticipated experience. We
cannot predict at this time what impact, if any, such changes would have on us.
The California Department of Insurance has promulgated proposed
regulations that would characterize some life insurance agents as brokers and
impose certain obligations on those agents that may conflict with the interests
of insurance carriers or require the agent to, among other things, advise the
client with respect to the best available insurer. We cannot predict the outcome of this
regulatory proposal or whether any other state will propose or adopt similar
actions.
In connection with our discontinued lenders indemnity product, we have
discovered facts and circumstances that support allegations against third
parties (including policyholders and the administrator of the associated loan
program), and we have instituted litigation to establish the rights and
liabilities of various parties; we have also received claims seeking to assert
liability against us for various matters, including claims alleging payments
owing for bad faith refusal to pay and payments with respect to policies for
which premiums were not received by us and this matter is addressed by the
pending litigation matters. In addition,
we are defending an arbitration claim by the reinsurer of this lenders
indemnity product. The reinsurer asserts
that it is entitled to a return of most of the lenders indemnity claims that
were paid on behalf of us by the administrator, claiming that the claims were
not properly payable under the terms of the policies. The reinsurer was under common ownership with
the program administrator, and we are vigorously defending this
arbitration. Although we cannot predict
the outcome of any litigation or arbitration, we do not believe that the
outcome of these matters will have a material impact on our financial condition
or results of operations.
IMPACT OF INFLATION
Inflation increases the need for life insurance. Many policyholders who once had adequate
insurance programs may increase their life insurance coverage to provide the
same relative financial benefit and protection.
Higher interest rates may result in higher sales of certain of our
investment products.
The higher interest rates that have traditionally accompanied inflation
could also affect our operations. Policy
loans increase as policy loan interest rates become relatively more
attractive. As interest rates increase,
disintermediation of stable value and annuity account balances and individual
life policy cash values may increase.
The market value of our fixed-rate, long-term investments may decrease,
we may be unable to implement fully the interest rate reset and call provisions
of our mortgage loans, and our ability to make attractive mortgage loans,
including participating mortgage loans, may decrease. In addition, participating mortgage loan
income may decrease. The difference
between the interest rate earned on investments and the interest rate credited
to life insurance and investment products may also be adversely affected by
rising interest rates.
82
Table
of Contents
Item 3.
QUANTITATIVE
AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
There has been no material change from the disclosures in the Companys
Annual Report on Form 10-K for the year ended December 31, 2007.
Item 4.
CONTROLS
AND PROCEDURES
(a)
Disclosure controls and
procedures
In order to ensure that the information the Company must disclose in
its filings with the Securities and Exchange Commission is recorded, processed,
summarized and reported on a timely basis, the Companys management, under the
direction of its Chief Executive Officer and Chief Financial Officer, evaluated
its disclosure controls and procedures (as such term is defined in Rules 13a-15(e) under
the Securities Exchange Act of 1934, as amended (the Exchange Act)) as of the
end of the period covered by this report. Based on that evaluation, our Chief
Executive Officer and Chief Financial Officer concluded that the Companys
disclosure controls and procedures were effective for the purposes set forth in
the definition thereof in Exchange Act Rule 13a-15(e) as of such
date. It should be noted that any system
of controls, no matter how well designed and operated, can provide only
reasonable, not absolute, assurance that the control systems objectives will
be met. Further, the design of any
control system is based in part upon certain judgments, including the costs and
benefits of controls and the likelihood of future events. Because of these and other inherent
limitations of control systems, no evaluation of controls can provide absolute
assurance that all control issues, if any, within the Company have been detected.
(b)
Changes in internal
control over financial reporting
There have been no changes in the Companys internal control over
financial reporting that occurred during the period ended June 30, 2008
that have materially affected, or are reasonably likely to materially affect,
such internal control over financial reporting.
The Companys internal controls exist within a dynamic environment and
the Company continually strives to improve its internal controls and procedures
to enhance the quality of its financial reporting.
PART II
Item 1A.
Risk
Factors
The operating results of companies in the insurance industry have
historically been subject to significant fluctuations. The factors which could affect the Companys
future results include, but are not limited to, general economic conditions and
the known trends and uncertainties. In
addition to other information set forth in this report, you should carefully
consider the factors discussed in Part I, Item 1A, Risk Factors and
Cautionary Factors that may Affect Future Results in the Companys Annual
Report on Form 10-K for the year ended December 31, 2007, which could
materially affect the Companys business, financial condition, or future
results of operations.
Item 2.
Unregistered
Sales of Equity Securities and Use of Proceeds
During the quarter ended June 30, 2008, the Company issued no
securities in transactions which were not registered under the Securities Act
of 1933, as amended (the Act).
Issuer Purchases of Equity Securities
In May 2004, the Company announced the
initiation of its $100 million share repurchase program, which commenced
execution on February 12, 2008. On May 7,
2007, the Board of Directors extended the share repurchase program through May 6,
2010. In the first quarter of 2008, the
Company purchased 450,800 shares as part of the publicly announced program, at
an average price of $38.00. There were
no shares repurchased during the second quarter of 2008. The approximate value of shares that may yet
be purchased under the program is $82.9 million.
83
Table
of Contents
Item 4.
Submission
of Matters to a Vote of Security Holders
The Annual Meeting of Shareowners of Protective Life Corporation (the
Company) was held on May 5, 2008. Shares entitled to vote at the Annual
Meeting totaled 70,227,995 of which 65,835,213 shares were represented.
At the Annual Meeting the following directors were elected. The number
of shares cast for and authorized withheld for each nominee is shown below:
|
|
Number of
|
|
Number of
|
|
|
|
Shares
|
|
Shares
|
|
Name of Director
|
|
Voted For
|
|
Withheld
|
|
James S. M. French
|
|
59,172,448
|
|
5,431,966
|
|
Thomas L. Hamby
|
|
62,656,248
|
|
1,948,166
|
|
John D. Johns
|
|
58,809,475
|
|
5,794,939
|
|
Vanessa Leonard
|
|
62,881,277
|
|
1,723,137
|
|
Charles D. McCrary
|
|
57,267,176
|
|
7,337,238
|
|
John J. McMahon, Jr.
|
|
59,168,454
|
|
5,435,960
|
|
Malcolm Portera
|
|
62,882,590
|
|
1,721,824
|
|
C. Dowd Ritter
|
|
62,745,569
|
|
1,858,845
|
|
William A. Terry
|
|
62,883,254
|
|
1,721,160
|
|
W. Michael Warren, Jr.
|
|
62,880,458
|
|
1,723,956
|
|
Vanessa Wilson
|
|
62,878,797
|
|
1,725,617
|
|
Shareowners approved a proposal to ratify the appointment by the Board
of Directors of the Company of PricewaterhouseCoopers LLP as the independent public
accountants for the Company and its subsidiaries for 2008. Shares voting for this proposal were
61,487,323, shares voting against were 4,282,927, and shares abstaining were
64,961.
Shareowners also approved the Companys Long-Term Incentive Plan (as
Amended and Restated as of May 5, 2008) as presented to the shareowners at
the meeting. Shares voting for this
proposal were 52,098,276, shares voting against were 8,513,348, and shares
abstaining were 157,213.
Item 6.
Exhibits
Exhibit 10(a)
|
-
|
Amended and
Restated Protective Life Corporation Long-Term Incentive Plan
|
|
|
|
Exhibit 31(a)
|
-
|
Certification
Pursuant to §302 of the Sarbanes Oxley Act of 2002.
|
|
|
|
Exhibit 31(b)
|
-
|
Certification
Pursuant to §302 of the Sarbanes Oxley Act of 2002.
|
|
|
|
Exhibit 32(a)
|
-
|
Certification
Pursuant to 18 U.S.C. §1350, as Adopted Pursuant to Section 906 of the Sarbanes
Oxley Act of 2002.
|
|
|
|
Exhibit 32(b)
|
-
|
Certification
Pursuant to 18 U.S.C. §1350, as Adopted Pursuant to Section 906 of the Sarbanes
Oxley Act of 2002.
|
|
|
|
Exhibit 99
|
-
|
Safe Harbor
for Forward Looking Statements.
|
|
|
|
84
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
|
PROTECTIVE LIFE CORPORATION
|
|
|
Date:
|
August 8, 2008
|
/s/ Steven G. Walker
|
|
Steven G. Walker
|
|
Senior Vice President, Controller
|
|
and Chief Accounting Officer
|
|
|
|
85
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