PRI_10Q_9.30.2011
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
ý QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2011
OR
¨ 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: 001-34680
Primerica, Inc.
(Exact name of registrant as specified in its charter)
|
| |
Delaware | 27-1204330 |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
| |
3120 Breckinridge Boulevard Duluth, Georgia | 30099 |
(Address of principal executive offices) | (ZIP Code) |
(770) 381-1000
(Registrant’s telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last report)
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. ý Yes ¨ No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). ý Yes ¨ No
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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
|
| | | |
Large accelerated filer | ¨ | Accelerated filer | ¨ |
Non-accelerated filer | ý (Do not check if a smaller reporting company) | 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 ý No
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. |
| | |
Class | | As of November 4, 2011 |
Common Stock, $.01 Par Value | | 73,797,103 shares |
TABLE OF CONTENTS
PART I – FINANCIAL INFORMATION
| |
Item 1. | Financial Statements. |
PRIMERICA, INC. AND SUBSIDIARIES
Condensed Balance Sheets
|
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (unaudited) | |
| (In thousands, except per-share amounts) |
Assets | | | |
Investments: | | | |
Fixed-maturity securities available for sale, at fair value (amortized cost: $1,949,100 in 2011 and $1,929,757 in 2010) | $ | 2,098,065 |
| | $ | 2,081,361 |
|
Equity securities available for sale, at fair value (cost: $18,396 in 2011 and $17,394 in 2010) | 22,102 |
| | 23,213 |
|
Trading securities, at fair value (cost: $19,958 in 2011 and $22,619 in 2010) | 19,685 |
| | 22,767 |
|
Policy loans | 25,979 |
| | 26,229 |
|
Other invested assets | 14 |
| | 14 |
|
Total investments | 2,165,845 |
| | 2,153,584 |
|
Cash and cash equivalents | 154,027 |
| | 126,038 |
|
Accrued investment income | 24,372 |
| | 22,328 |
|
Due from reinsurers | 3,819,738 |
| | 3,731,634 |
|
Deferred policy acquisition costs, net | 1,004,545 |
| | 853,211 |
|
Premiums and other receivables | 181,190 |
| | 168,026 |
|
Intangible assets | 72,778 |
| | 75,357 |
|
Other assets | 308,307 |
| | 307,342 |
|
Separate account assets | 2,276,705 |
| | 2,446,786 |
|
Total assets | $ | 10,007,507 |
| | $ | 9,884,306 |
|
Liabilities and Stockholders’ Equity | | | |
Liabilities: | | | |
Future policy benefits | $ | 4,557,535 |
| | $ | 4,409,183 |
|
Unearned premiums | 6,477 |
| | 5,563 |
|
Policy claims and other benefits payable | 242,363 |
| | 229,895 |
|
Other policyholders’ funds | 340,986 |
| | 357,253 |
|
Note payable | 300,000 |
| | 300,000 |
|
Income taxes | 136,028 |
| | 136,226 |
|
Other liabilities | 390,297 |
| | 386,182 |
|
Payable under securities lending | 185,483 |
| | 181,726 |
|
Separate account liabilities | 2,276,705 |
| | 2,446,786 |
|
Total liabilities | 8,435,874 |
| | 8,452,814 |
|
Stockholders’ equity: | | | |
Common stock of $.01 par value. Authorized 500,000 in 2011 and 2010 and issued 73,740 shares in 2011 and 72,843 shares in 2010 | 737 |
| | 728 |
|
Paid-in capital | 898,945 |
| | 883,168 |
|
Retained earnings | 526,847 |
| | 395,057 |
|
Accumulated other comprehensive income, net of income tax: | | | |
Unrealized foreign currency translation gains | 48,210 |
| | 56,492 |
|
Net unrealized investment gains (losses): | | | |
Net unrealized investment gains not other-than-temporarily impaired | 99,257 |
| | 98,322 |
|
Net unrealized investment losses other-than-temporarily impaired | (2,363 | ) | | (2,275 | ) |
Total stockholders’ equity | 1,571,633 |
| | 1,431,492 |
|
Total liabilities and stockholders’ equity | $ | 10,007,507 |
| | $ | 9,884,306 |
|
See accompanying notes to condensed financial statements.
PRIMERICA, INC. AND SUBSIDIARIES
Condensed Statements of Income - Unaudited
|
| | | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended | |
| September 30, | | September 30, | |
| 2011 | | 2010 | | 2011 | | 2010 | |
| (In thousands, except per-share amounts) |
Revenues: | | | | | | | | |
Direct premiums | $ | 560,739 |
| | $ | 547,444 |
| | $ | 1,673,689 |
| | $ | 1,632,744 |
| |
Ceded premiums | (425,643 | ) | | (437,054 | ) | | (1,283,445 | ) | | (1,032,386 | ) | |
Net premiums | 135,096 |
| | 110,390 |
| | 390,244 |
| | 600,358 |
| |
Commissions and fees | 100,883 |
| | 89,737 |
| | 315,697 |
| | 274,652 |
| |
Net investment income | 27,103 |
| | 27,855 |
| | 82,958 |
| | 138,423 |
| |
Realized investment (losses) gains, including other-than-temporary impairment losses | (178 | ) | | 1,015 |
| | 2,184 |
| | 32,445 |
| |
Other, net | 12,887 |
| | 12,239 |
| | 36,155 |
| | 36,598 |
| |
Total revenues | 275,791 |
| | 241,236 |
| | 827,238 |
| | 1,082,476 |
| |
Benefits and expenses: | | | | | | | | |
Benefits and claims | 64,101 |
| | 49,811 |
| | 179,008 |
| | 265,670 |
| |
Amortization of deferred policy acquisition costs | 30,532 |
| | 23,844 |
| | 83,473 |
| | 138,499 |
| |
Sales commissions | 46,971 |
| | 42,264 |
| | 147,490 |
| | 129,657 |
| |
Insurance expenses | 15,465 |
| | 11,999 |
| | 44,171 |
| | 59,616 |
| |
Insurance commissions | 4,909 |
| | 5,099 |
| | 14,128 |
| | 15,701 |
| |
Interest expense | 7,000 |
| | 6,968 |
| | 20,995 |
| | 13,896 |
| |
Other operating expenses | 42,962 |
| | 39,372 |
| | 124,816 |
| | 140,817 |
| |
Total benefits and expenses | 211,940 |
| | 179,357 |
| | 614,081 |
| | 763,856 |
| |
Income before income taxes | 63,851 |
| | 61,879 |
| | 213,157 |
| | 318,620 |
| |
Income taxes | 23,250 |
| | 22,284 |
| | 76,066 |
| | 113,731 |
| |
Net income | $ | 40,601 |
| | $ | 39,595 |
| | $ | 137,091 |
| | $ | 204,889 |
| |
Earnings per share: | | | | | | | | |
Basic | $ | 0.54 |
| | $ | 0.53 |
| | $ | 1.81 |
| | $ | 2.73 |
| (1) |
Diluted | $ | 0.53 |
| | $ | 0.52 |
| | $ | 1.79 |
| | $ | 2.70 |
| (1) |
Weighted-average shares used in computing earnings per share: | | | | | | | | |
Basic | 73,658 |
| | 72,259 |
| | 73,265 |
| | 72,052 |
| (1) |
Diluted | 74,199 |
| | 72,919 |
| | 74,095 |
| | 72,833 |
| (1) |
(1) Pro forma basis using weighted-average shares, including the shares issued or issuable upon lapse of restrictions following our April 1, 2010 corporate reorganization as though they had been issued and outstanding on January 1, 2010. |
Supplemental disclosures: | | | | | | | | |
Total impairment losses | $ | (1,117 | ) | | $ | (268 | ) | | $ | (1,450 | ) | | $ | (12,637 | ) | |
Impairment losses recognized in other comprehensive income before income taxes | 136 |
| | — |
| | 136 |
| | 553 |
| |
Net impairment losses recognized in earnings | (981 | ) | | (268 | ) | | (1,314 | ) | | (12,084 | ) | |
Other net realized investment gains | 803 |
| | 1,283 |
| | 3,498 |
| | 44,529 |
| |
Realized investment (losses) gains, including other-than-temporary impairment losses | $ | (178 | ) | | $ | 1,015 |
| | $ | 2,184 |
| | $ | 32,445 |
| |
See accompanying notes to condensed financial statements.
PRIMERICA, INC. AND SUBSIDIARIES
Condensed Statements of Stockholders’ Equity - Unaudited
|
| | | | | | | |
| Nine months ended |
| September 30, |
| 2011 | | 2010 |
| (In thousands, except per-share amounts) |
Common stock: | | | |
Balance, beginning of period | $ | 728 |
| | $ | — |
|
Net issuance of common stock | 9 |
| | 727 |
|
Balance, end of period | 737 |
| | 727 |
|
Paid-in capital: | | | |
Balance, beginning of period | 883,168 |
| | 1,124,096 |
|
Share-based compensation | 19,302 |
| | 39,376 |
|
Net issuance of common stock | (9 | ) | | (727 | ) |
Net capital contributed (to) from Citi | (3,516 | ) | | 172,806 |
|
Issuance of warrants to Citi | — |
| | 18,464 |
|
Issuance of note payable to Citi | — |
| | (300,000 | ) |
Tax election under Section 338(h)(10) of the Internal Revenue Code | — |
| | (171,339 | ) |
Balance, end of period | 898,945 |
| | 882,676 |
|
Retained earnings: | | | |
Balance, beginning of period | 395,057 |
| | 3,648,801 |
|
Net income | 137,091 |
| | 204,889 |
|
Dividends to stockholders ($0.07 per share in 2011 and $0.01 in 2010) | (5,301 | ) | | (750 | ) |
Distributions of warrants to Citi | — |
| | (18,464 | ) |
Distributions to Citi | — |
| | (3,491,556 | ) |
Balance, end of period | 526,847 |
| | 342,920 |
|
Accumulated other comprehensive income: | | | |
Balance, beginning of period | 152,539 |
| | 170,876 |
|
Change in foreign currency translation adjustment, net of income tax expense of $0 in 2011 and $4,630 in 2010 | (8,282 | ) | | 11,034 |
|
Change in net unrealized investment gains (losses) during the period, net of income taxes: | | | |
Change in net unrealized investment gains (losses) not-other-than temporarily impaired, net of income tax expense (benefit) of $710 in 2011 and $(12,510) in 2010 | 935 |
| | (25,156 | ) |
Change in net unrealized investment gains (losses) other-than-temporarily impaired, net of income tax expense of $(48) in 2011 and $6,973 in 2010 | (88 | ) | | 13,237 |
|
Balance, end of period | 145,104 |
| | 169,991 |
|
Total stockholders’ equity | $ | 1,571,633 |
| | $ | 1,396,314 |
|
See accompanying notes to condensed financial statements.
PRIMERICA, INC. AND SUBSIDIARIES
Condensed Statements of Comprehensive Income - Unaudited
|
| | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
| (In thousands) |
Net income | $ | 40,601 |
| | $ | 39,595 |
| | $ | 137,091 |
| | $ | 204,889 |
|
Other comprehensive (loss) income before income taxes: | | | | | | | |
Unrealized investment gains (losses): | | | | | | | |
Change in unrealized gains on investment securities | (9,839 | ) | | 39,371 |
| | 2,604 |
| | 147,239 |
|
Reclassification adjustment for realized investment gains included in net income | (125 | ) | | (911 | ) | | (2,419 | ) | | (32,009 | ) |
Reclassification adjustment for unrealized gains on investment securities transferred | — |
| | — |
| | — |
| | (132,688 | ) |
Foreign currency translation adjustments: | | | | | | | |
Change in unrealized foreign currency translation gains | (12,106 | ) | | 3,640 |
| | (8,282 | ) | | 15,665 |
|
Total other comprehensive (loss) income before income taxes | (22,070 | ) | | 42,100 |
| | (8,097 | ) | | (1,793 | ) |
Income tax (benefit) expense related to items of other comprehensive (loss) income | (3,486 | ) | | 14,196 |
| | (662 | ) | | (908 | ) |
Other comprehensive (loss) income, net of income taxes | (18,584 | ) | | 27,904 |
| | (7,435 | ) | | (885 | ) |
Total comprehensive income | $ | 22,017 |
| | $ | 67,499 |
| | $ | 129,656 |
| | $ | 204,004 |
|
See accompanying notes to condensed financial statements.
PRIMERICA, INC. AND SUBSIDIARIES
Condensed Statements of Cash Flows - Unaudited
|
| | | | | | | |
| Nine months ended |
| September 30, |
| 2011 | | 2010 |
| (In thousands) |
Cash flows from operating activities: | | | |
Net income | $ | 137,091 |
| | $ | 204,889 |
|
Adjustments to reconcile net income to cash provided by operating activities: | | | |
Change in future policy benefits and other policy liabilities | 63,336 |
| | 72,142 |
|
Deferral of policy acquisition costs | (232,831 | ) | | (228,620 | ) |
Amortization of deferred policy acquisition costs | 83,473 |
| | 138,499 |
|
Change in income taxes | 523 |
| | (22,795 | ) |
Realized investment gains, including other-than-temporary impairments | (2,184 | ) | | (32,445 | ) |
Accretion and amortization of investments | (2,330 | ) | | (1,735 | ) |
Depreciation and amortization | 7,856 |
| | 7,411 |
|
Change in due from reinsurers | (970 | ) | | (26,617 | ) |
Change in due to/from affiliates | — |
| | (44,012 | ) |
Change in premiums and other receivables | (13,882 | ) | | (33,010 | ) |
Trading securities acquired, net | (6,388 | ) | | (7,030 | ) |
Share-based compensation | 7,724 |
| | 30,214 |
|
Other, net | (33,988 | ) | | (35,405 | ) |
Net cash provided by operating activities | 7,430 |
| | 21,486 |
|
Cash flows from investing activities: | | | |
Available-for-sale investments sold, matured or called: | | | |
Fixed-maturity securities - sold | 53,445 |
| | 979,710 |
|
Fixed-maturity securities - matured or called | 299,112 |
| | 414,262 |
|
Equity securities | 3,026 |
| | 35,471 |
|
Available-for-sale investments acquired: | | | |
Fixed-maturity securities | (329,145 | ) | | (702,460 | ) |
Equity securities | (110 | ) | | (5,525 | ) |
Change in policy loans | 250 |
| | 826 |
|
Purchases of furniture and equipment, net | (1,634 | ) | | (6,577 | ) |
Cash collateral received (returned) on loaned securities, net | 3,757 |
| | (301,336 | ) |
(Purchases) sales of short-term investments using securities lending collateral, net | (3,757 | ) | | 301,336 |
|
Net cash provided by investing activities | 24,944 |
| | 715,707 |
|
Cash flows from financing activities: | | | |
Dividends to stockholders | (5,301 | ) | | (750 | ) |
Net distributions to Citi | — |
| | (1,288,391 | ) |
Net cash used in financing activities | (5,301 | ) | | (1,289,141 | ) |
Effect of foreign exchange rate changes on cash | 916 |
| | 24,185 |
|
Change in cash and cash equivalents | 27,989 |
| | (527,763 | ) |
Cash and cash equivalents, beginning of period | 126,038 |
| | 602,522 |
|
Cash and cash equivalents, end of period | $ | 154,027 |
| | $ | 74,759 |
|
See accompanying notes to condensed financial statements.
PRIMERICA, INC. AND SUBSIDIARIES
Notes to Condensed Financial Statements—Unaudited
| |
(1) | Summary of Significant Accounting Policies |
Description of Business. Primerica, Inc. (the Parent Company) together with its subsidiaries (collectively, we or the Company) is a leading distributor of financial products to middle income households in the United States and Canada. We assist our clients in meeting their needs for term life insurance, which we underwrite, and mutual funds, annuities and other financial products, which we distribute primarily on behalf of third parties. Our primary subsidiaries include the following entities: Primerica Financial Services, Inc., a general agency and marketing company; Primerica Life Insurance Company (Primerica Life), our principal life insurance company; Primerica Financial Services (Canada) Ltd., a holding company for our Canadian operations, which includes Primerica Life Insurance Company of Canada (Primerica Life Canada); and PFS Investments, Inc., an investment products company and broker-dealer. Primerica Life, domiciled in Massachusetts, owns National Benefit Life Insurance Company (NBLIC), a New York life insurance company. Each of these entities was indirectly wholly owned by Citigroup Inc. (together with its non-Primerica affiliates, Citi) through March 31, 2010.
On March 31, 2010, Primerica Life, Primerica Life Canada and NBLIC entered into significant coinsurance transactions with Prime Reinsurance Company, Inc. (Prime Re) and two affiliates of Citi (collectively, the Citi reinsurers). In April 2010, Citi transferred the legal entities that comprise our business to us and we completed a series of transactions including the distribution of Prime Re to Citi and an initial public offering of our common stock by Citi pursuant to the Securities Act of 1933 (the Offering).
Basis of Presentation. We prepare our financial statements in accordance with U.S. generally accepted accounting principles (GAAP). These principles are established primarily by the Financial Accounting Standards Board (FASB). The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect financial statement balances, revenues and expenses and cash flows as well as the disclosure of contingent assets and liabilities. Management considers available facts and knowledge of existing circumstances when establishing the estimates included in our financial statements.
The most significant items that involve a greater degree of accounting estimates and actuarial determinations subject to change in the future are the valuation of investments, deferred policy acquisition costs (DAC), future policy benefit reserves and income taxes. Estimates for these and other items are subject to change and are reassessed by management in accordance with GAAP. Actual results could differ from those estimates.
The accompanying unaudited condensed consolidated and combined financial statements include the accounts of the Company and those entities required to be consolidated or combined under applicable accounting standards. All material intercompany profits, transactions, and balances among the consolidated or combined entities have been eliminated. Financial statements for dates subsequent to or periods beginning after March 31, 2010 have been consolidated while financial statements for periods ended before April 1, 2010 have been combined. These financial statements include those assets, liabilities, revenues, and expenses directly attributable to the Company’s operations.
The accompanying unaudited condensed consolidated and combined financial statements contain all adjustments, consisting of normal recurring accruals, which are necessary to fairly present the balance sheets as of September 30, 2011 and December 31, 2010, and the statements of income and comprehensive income for the three and nine months ended September 30, 2011 and 2010, and the statements of stockholders' equity and cash flows for the nine months ended September 30, 2011 and 2010. Results of operations for interim periods are not necessarily indicative of results for the entire year and, due to the transactions effected in connection with the Offering, are not necessarily indicative of the results to be expected in future periods.
These unaudited condensed financial statements have been prepared pursuant to the rules and the regulations of the Securities and Exchange Commission (the SEC). Certain information and note disclosures normally included in annual financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to those rules and regulations, although the Company believes that the disclosures made are adequate to make the information not misleading. These condensed financial statements should be read in conjunction with the consolidated and combined financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2010 (the 2010 Annual Report).
Reclassifications. Certain reclassifications have been made to prior-period amounts to conform to current-period reporting classifications. These reclassifications had no impact on net income or total stockholders’ equity.
Significant Accounting Policies. All significant accounting policies remain unchanged from the 2010 Annual Report.
Future Application of Accounting Principles
Accounting for Deferred Policy Acquisition Costs. In October 2010, the FASB issued ASU 2010-26, Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts (ASU 2010-26). The update creates a more limited definition than the current guidance, which defines deferred policy acquisition costs as those that vary with, and primarily relate to, the acquisition of insurance contracts. Under the revised definition, deferred acquisition costs include incremental direct costs of successful contract acquisitions that result directly from and are essential to the contract transaction(s) and would not have been incurred had the contract transaction(s) not occurred. All other acquisition-related costs - including unsuccessful acquisition and renewal efforts - will be charged to expense as incurred. Administrative costs, rent, depreciation, occupancy, equipment, and all other general overhead costs are considered indirect costs and will be charged to expense as incurred. We anticipate retrospectively adopting ASU 2010-26 for our fiscal year beginning January 1, 2012.
Through the nine months ended September 30, 2011, we have deferred approximately $239.7 million of acquisition costs. Approximately 81% of that amount, or $193.3 million, relates to agent compensation. Following adoption of this update, we currently do not anticipate a significant change in the amount of agent compensation that we will defer. However, we are still analyzing the impact of this update on several past agent compensation programs, most of which are inactive. If any of these past programs do not meet the new deferral criteria, we will be required to reverse any remaining past deferrals by recognizing the related expenses in the prior periods in which they were incurred.
Through the nine months ended September 30, 2011, we have deferred approximately $8.9 million of acquisition costs related to sales representative meetings and incentive trips. We believe that these costs will not meet the criteria for deferral following implementation of the update. Therefore, we expect to reverse any remaining prior deferrals and expense future costs in the periods incurred.
Through the nine months ended September 30, 2011, we have deferred approximately $37.5 million of acquisition costs primarily related to underwriting and processing costs. We are still analyzing which of these costs directly relate to successful policy acquisitions. As such, we are currently unable to quantify the retrospective and prospective impact of this update on these costs.
We also continue to analyze the extent to which this update will reduce DAC and stockholders' equity, as well as the corresponding reduction in amortization of DAC resulting from a retrospective reduction of prior period deferrals. While we currently are unable to quantify the comprehensive impact of adopting this update, we expect that it will have a material adverse effect on our results of operations, as we will be required to accelerate the recognition of certain expenses associated with acquiring life insurance business. The update will have no impact on cash flows or required capital. The update will only impact the timing of expense recognition for certain acquisition costs.
For additional information on new accounting pronouncements and their impact, if any, on our financial position or results of operations, see Note 1 of the notes to the consolidated and combined financial statements in our 2010 Annual Report.
| |
(2) | Corporate Reorganization |
We were incorporated in Delaware in 2009 by Citi to serve as a holding company for the life insurance and financial product distribution businesses that we have operated for more than 30 years. At such time, we issued 100 shares of common stock to Citi. These businesses, which prior to April 1, 2010 were wholly owned indirect subsidiaries of Citi, were transferred to us on April 1, 2010. In conjunction with our reorganization, we issued to a wholly owned subsidiary of Citi (i) 74,999,900 shares of our common stock (of which 24,564,000 shares of common stock were subsequently sold by Citi in the Offering; 16,412,440 shares of common stock were subsequently sold by Citi in April 2010 to certain private equity funds managed by Warburg Pincus LLC (Warburg Pincus) (the private sale); and 5,021,412 shares of common stock were immediately contributed back to us for equity awards granted to our employees and sales force leaders in connection with the Offering), (ii) warrants to purchase from us an aggregate of 4,103,110 shares of our common stock (which were subsequently transferred by Citi to Warburg Pincus pursuant to the private sale), and (iii) a $300.0 million note payable due on March 31, 2015 bearing interest at an annual rate of 5.5% (the Citi note). Prior to our corporate reorganization, we had no material assets or liabilities. Upon completion of the corporate reorganization, we became a holding company with our primary asset being the capital stock of our operating subsidiaries and our primary liability being the Citi note.
Reinsurance Transactions
As part of the corporate reorganization and prior to completion of the Offering, we formed a new subsidiary, Prime Re, to which we made an initial capital contribution. On March 31, 2010, we entered into a series of coinsurance agreements with the Citi reinsurers. Under these agreements, we ceded between 80% and 90% of the risks and rewards of our term life insurance policies in force at year-end 2009. Because these agreements were part of a business reorganization among entities under common control, they did not generate any deferred gain or loss upon their execution. Concurrent with signing these agreements, we transferred the corresponding account balances in respect of the coinsured policies along with the assets to support the statutory liabilities assumed by the Citi reinsurers. On April 1, 2010, as part of our corporate reorganization, we transferred all of the issued and outstanding capital stock of Prime Re to Citi. Each of the transferred account balances, including the invested assets and the distribution of Prime Re, were transferred at book value with no gain or loss recorded in net income.
Three of the Citi coinsurance agreements satisfy GAAP risk transfer rules. Under these agreements, we ceded between 80% and 90% of our term life future policy benefit reserves, and we transferred a corresponding amount of assets to the Citi reinsurers. These transactions did not impact our future policy benefit reserves. As such, we have recorded an asset for the same amount of risk transferred in due from reinsurers. We also reduced DAC by a corresponding amount, which reduces future amortization expenses. In addition, we are transferring between 80% and 90% of all future premiums and benefits and claims associated with these policies to the corresponding reinsurance entities. We receive ongoing ceding allowances, which are reflected as a reduction to insurance expenses, to cover policy and claims administration expenses as well as certain corporate overhead charges under each of these reinsurance contracts.
A fourth coinsurance agreement relates to a 10% reinsurance transaction that includes an experience refund provision. This agreement does not satisfy GAAP risk transfer rules. As a result, we have accounted for this contract using deposit method accounting and have recognized a deposit asset in other assets on our balance sheet for assets backing the economic reserves. The deposit assets held in support of this agreement were $52.4 million at September 30, 2011, with no associated liability. We make contributions to the deposit asset during the life of the agreement to fulfill our responsibility of funding the economic reserve. The market return on these deposit assets is reflected in net investment income during the life of the agreement. Prime Re is responsible for ensuring that there are sufficient assets to meet all statutory requirements. We pay Prime Re a 3% finance charge for any statutory reserves required above the economic reserves. This finance charge is reflected in interest expense in our statements of income.
The net impact of these transactions was reflected as an increase in paid-in capital. Because the agreements were executed on March 31, 2010, but transferred the economic impact of the agreements retroactive to January 1, 2010, we recognized the earnings attributable to the underlying policies through March 31, 2010 in our statement of income. The corresponding impact on retained earnings was equally offset by a return of capital to Citi.
Tax Separation Agreement
During the first quarter of 2010, our federal income tax return was included as part of Citi’s consolidated federal income tax return. In March 2010, in anticipation of our corporate reorganization, we entered into a tax separation agreement with Citi. In accordance with the tax separation agreement, Citi is responsible for and shall indemnify and hold the Company harmless from and against any consolidated, combined, affiliated, unitary or similar federal, state or local income tax liability with respect to the Company for any taxable period ending on or before April 2010. After the closing date of the Offering, the Company was no longer part of Citi’s consolidated federal income tax return.
We have two primary operating segments — Term Life Insurance and Investment and Savings Products. We also have a Corporate and Other Distributed Products segment. Information regarding assets by segment follows:
|
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Assets: | | | |
Term life insurance segment | $ | 6,068,228 |
| | $ | 5,738,219 |
|
Investment and savings products segment | 2,456,177 |
| | 2,615,916 |
|
Corporate and other distributed products segment | 1,483,102 |
| | 1,530,171 |
|
Total assets | $ | 10,007,507 |
| | $ | 9,884,306 |
|
The Investment and Savings Products segment includes assets held in separate accounts. Excluding separate accounts, Investment and Savings Products segment assets were as follows:
|
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Investment and savings products segment assets, excluding separate accounts | $ | 180,598 |
| | $ | 170,326 |
|
Although we do not view our business in terms of geographic segmentation, our Canadian businesses’ percentage of total assets were as follows:
|
| | | |
| September 30, 2011 | | December 31, 2010 |
Canadian assets as a percent of total assets | 29% | | 31% |
Canadian assets as a percent of total assets, excluding separate accounts | 9% | | 9% |
Information regarding operations by segment follows:
|
| | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
| (In thousands) |
Revenues: | | | | | | | |
Term life insurance segment | $ | 141,713 |
| | $ | 115,933 |
| | $ | 410,316 |
| | $ | 671,500 |
|
Investment and savings products segment | 97,486 |
| | 83,874 |
| | 302,918 |
| | 258,785 |
|
Corporate and other distributed products segment | 36,592 |
| | 41,429 |
| | 114,004 |
| | 152,191 |
|
Total revenues | $ | 275,791 |
| | $ | 241,236 |
| | $ | 827,238 |
| | $ | 1,082,476 |
|
Income (loss) before income taxes: | | | | | | | |
Term life insurance segment | $ | 48,088 |
| | $ | 42,582 |
| | $ | 151,517 |
| | $ | 247,044 |
|
Investment and savings products segment | 26,746 |
| | 26,578 |
| | 88,255 |
| | 78,760 |
|
Corporate and other distributed products segment | (10,983 | ) | | (7,281 | ) | | (26,615 | ) | | (7,184 | ) |
Total income before income taxes | $ | 63,851 |
| | $ | 61,879 |
| | $ | 213,157 |
| | $ | 318,620 |
|
The increase in total revenues and total income before income taxes for the three months ended September 30, 2011 largely reflects the growth in our Term Life Insurance segment following the Citi reinsurance transactions and growth in our Investment and Savings Products segment. The decline in total revenues and total income before income taxes for the nine months ended September 30, 2011 primarily reflects the effects of the reinsurance and reorganization transactions on the Term Life Insurance and Corporate and Other Distributed Products segments as discussed in Note 2.
Information regarding operations by country follows:
|
| | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
| (In thousands) |
Revenues by country: | | | | | | | |
United States | $ | 224,559 |
| | $ | 200,361 |
| | $ | 669,871 |
| | $ | 904,408 |
|
Canada | 51,232 |
| | 40,875 |
| | 157,367 |
| | 178,068 |
|
Total revenues | $ | 275,791 |
| | $ | 241,236 |
| | $ | 827,238 |
| | $ | 1,082,476 |
|
Income before income taxes by country: | | | | | | | |
United States | $ | 47,769 |
| | $ | 46,099 |
| | $ | 163,247 |
| | $ | 249,951 |
|
Canada | 16,082 |
| | 15,780 |
| | 49,910 |
| | 68,669 |
|
Total income before income taxes | $ | 63,851 |
| | $ | 61,879 |
| | $ | 213,157 |
| | $ | 318,620 |
|
The contribution to results of operations by our Canadian businesses were as follows:
|
| | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
Canadian revenues as a percent of total revenues | 19% | | 17% | | 19% | | 16% |
Canadian income before income taxes as a percent of total income before income taxes | 25% | | 26% | | 23% | | 22% |
For the nine months ended September 30, 2010, total revenues and total income before income taxes reflected three months of operations prior to the Citi reinsurance and reorganization transactions, a substantial portion of which were recognized by our U.S. operations. As a result, Canadian revenues and income before income taxes accounted for a smaller percentage of total revenues and total income before income taxes in the first nine months of 2010 than in periods following the Citi reinsurance and reorganization transactions.
The period-end cost or amortized cost, gross unrealized gains and losses, and fair value of fixed-maturity and equity securities in our available-for-sale portfolio follow:
|
| | | | | | | | | | | | | | | |
| September 30, 2011 |
| Cost or amortized cost | | Gross unrealized gains | | Gross unrealized losses | | Fair value |
| (In thousands) |
Securities available for sale, carried at fair value: | | | | | | | |
Fixed-maturity securities: | | | | | | | |
U.S. government and agencies | $ | 16,489 |
| | $ | 1,104 |
| | $ | — |
| | $ | 17,593 |
|
Foreign government | 88,390 |
| | 11,966 |
| | (389 | ) | | 99,967 |
|
States and political subdivisions | 27,283 |
| | 2,654 |
| | — |
| | 29,937 |
|
Corporates (1) | 1,338,339 |
| | 114,068 |
| | (8,631 | ) | | 1,443,776 |
|
Mortgage- and asset-backed securities | 478,599 |
| | 31,895 |
| | (3,702 | ) | | 506,792 |
|
Total fixed-maturity securities | 1,949,100 |
| | 161,687 |
| | (12,722 | ) | | 2,098,065 |
|
Equity securities | 18,396 |
| | 4,262 |
| | (556 | ) | | 22,102 |
|
Total fixed-maturity and equity securities | $ | 1,967,496 |
| | $ | 165,949 |
| | $ | (13,278 | ) | | $ | 2,120,167 |
|
____________________
| |
(1) | Includes $3.6 million of other-than-temporary impairment losses recognized in AOCI. |
|
| | | | | | | | | | | | | | | |
| December 31, 2010 |
| Cost or amortized cost | | Gross unrealized gains | | Gross unrealized losses | | Fair value |
| (In thousands) |
Securities available for sale, carried at fair value: | | | | | | | |
Fixed-maturity securities: | | | | | | | |
U.S. government and agencies | $ | 21,596 |
| | $ | 667 |
| | $ | (61 | ) | | $ | 22,202 |
|
Foreign government | 81,367 |
| | 13,182 |
| | (8 | ) | | 94,541 |
|
States and political subdivisions | 26,758 |
| | 754 |
| | (293 | ) | | 27,219 |
|
Corporates (1) | 1,276,906 |
| | 112,821 |
| | (3,806 | ) | | 1,385,921 |
|
Mortgage- and asset-backed securities | 523,130 |
| | 31,366 |
| | (3,018 | ) | | 551,478 |
|
Total fixed-maturity securities | 1,929,757 |
| | 158,790 |
| | (7,186 | ) | | 2,081,361 |
|
Equity securities | 17,394 |
| | 5,826 |
| | (7 | ) | | 23,213 |
|
Total fixed-maturity and equity securities | $ | 1,947,151 |
| | $ | 164,616 |
| | $ | (7,193 | ) | | $ | 2,104,574 |
|
____________________
| |
(1) | Includes $3.5 million of other-than-temporary impairment losses recognized in AOCI. |
We also maintain a portfolio of fixed-maturity securities that are classified as trading securities. The carrying value of these securities was as follows:
|
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Fixed-maturity securities classified as trading, carried at fair value | $ | 19,685 |
| | $ | 22,767 |
|
During the three months ended September 30, 2011, we transferred approximately $8.9 million of securities from the trading portfolio to the available-for-sale portfolio. Because the securities were transferred at fair value, no gain or loss was recognized.
All of our available-for-sale mortgage- and asset-backed securities represent variable interests in variable interest entities (VIEs). We are not the primary beneficiary of these VIEs, because we do not have the power to direct the activities that most significantly impact the entities’ economic performance. The maximum exposure to loss as a result of our involvement in these VIEs equals the carrying value of the securities.
As required by law, the Company has investments on deposit with governmental authorities and banks for the protection of policyholders. The fair values of investments on deposit were as follows:
|
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Fair value of investments on deposit with governmental authorities | $ | 19,113 |
| | $ | 18,984 |
|
We participate in securities lending transactions with broker-dealers and other financial institutions to increase investment income with minimal risk. We require minimum collateral on securities loaned equal to 102% of the fair value of the loaned securities. We accept collateral in the form of securities, which we are not able to sell or encumber, and to the extent the collateral declines in value below 100%, we require additional collateral from the borrower. Any securities collateral received is not reflected on our balance sheet. We also accept collateral in the form of cash, all of which we reinvest. We primarily invest the cash collateral in short-term, highly rated securities. The cash collateral received is reflected as a payable under securities lending on our balance sheet with an offsetting asset in other assets on our balance sheet. Cash collateral received and reinvested was as follows:
|
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Securities lending collateral | $ | 185,483 |
| | $ | 181,726 |
|
The scheduled maturity distribution of the available-for-sale fixed-maturity portfolio at September 30, 2011 follows.
|
| | | | | | | |
| Amortized cost | | Fair value |
| (In thousands) |
Due in one year or less | $ | 158,718 |
| | $ | 161,897 |
|
Due after one year through five years | 679,626 |
| | 722,812 |
|
Due after five years through 10 years | 580,943 |
| | 648,869 |
|
Due after 10 years | 51,214 |
| | 57,695 |
|
| 1,470,501 |
| | 1,591,273 |
|
Mortgage- and asset-backed securities | 478,599 |
| | 506,792 |
|
Total fixed-maturity securities | $ | 1,949,100 |
| | $ | 2,098,065 |
|
Expected maturities may differ from scheduled contractual maturities because issuers of securities may have the right to call or prepay obligations with or without call or prepayment penalties.
Investments in fixed-maturity and equity securities with a cost basis in excess of their fair values were as follows:
|
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Fixed-maturity and equity security investments with cost basis in excess of fair value | $ | 340,171 |
| | $ | 258,947 |
|
The following tables summarize, for all securities in an unrealized loss position, the aggregate fair value and the gross unrealized loss by length of time such securities have continuously been in an unrealized loss position:
|
| | | | | | | | | | | | | | | | | | | | | |
| September 30, 2011 |
| Less than 12 months | | 12 months or longer |
| Fair value | | Unrealized losses | | Number of securities | | Fair value | | Unrealized losses | | Number of securities |
| (Dollars in thousands) |
Fixed-maturity securities: | | | | | | | | | | | |
U.S. government and agencies | $ | — |
| | $ | — |
| | — |
| | $ | — |
| | $ | — |
| | — |
|
Foreign government | 10,050 |
| | (389 | ) | | 16 |
| | — |
| | — |
| | — |
|
States and political subdivisions | 338 |
| | — |
| | 1 |
| | — |
| | — |
| | — |
|
Corporates | 219,419 |
| | (8,012 | ) | | 159 |
| | 2,901 |
| | (619 | ) | | 4 |
|
Mortgage- and asset-backed securities | 61,651 |
| | (1,003 | ) | | 42 |
| | 30,274 |
| | (2,699 | ) | | 20 |
|
Total fixed-maturity securities | 291,458 |
| | (9,404 | ) | | | | 33,175 |
| | (3,318 | ) | | |
Equity securities | 2,228 |
| | (551 | ) | | 9 |
| | 32 |
| | (5 | ) | | 2 |
|
Total fixed-maturity and equity securities | $ | 293,686 |
| | $ | (9,955 | ) | | | | $ | 33,207 |
| | $ | (3,323 | ) | | |
|
| | | | | | | | | | | | | | | | | | | | | |
| December 31, 2010 |
| Less than 12 months | | 12 months or longer |
| Fair value | | Unrealized losses | | Number of securities | | Fair value | | Unrealized losses | | Number of securities |
| (Dollars in thousands) |
Fixed-maturity securities: | | | | | | | | | | | |
U.S. government and agencies | $ | 6,350 |
| | $ | (61 | ) | | 2 |
| | $ | — |
| | $ | — |
| | — |
|
Foreign government | 2,478 |
| | (8 | ) | | 1 |
| | — |
| | — |
| | — |
|
States and political subdivisions | 11,015 |
| | (293 | ) | | 29 |
| | — |
| | — |
| | — |
|
Corporates | 151,291 |
| | (2,961 | ) | | 104 |
| | 12,690 |
| | (845 | ) | | 14 |
|
Mortgage- and asset-backed securities | 30,685 |
| | (365 | ) | | 25 |
| | 37,215 |
| | (2,653 | ) | | 20 |
|
Total fixed-maturity securities | 201,819 |
| | (3,688 | ) | | | | 49,905 |
| | (3,498 | ) | | |
Equity securities | — |
| | — |
| | — |
| | 30 |
| | (7 | ) | | 2 |
|
Total fixed-maturity and equity securities | $ | 201,819 |
| | $ | (3,688 | ) | | | | $ | 49,935 |
| | $ | (3,505 | ) | | |
The net effect on stockholders’ equity of unrealized gains and losses from investment securities was as follows:
|
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Net unrealized investment gains including foreign currency translation adjustment and other-than-temporary impairments: | | | |
Fixed-maturity and equity securities | $ | 152,671 |
| | $ | 157,423 |
|
Currency swaps | 40 |
| | 1,059 |
|
Less foreign currency translation adjustment | (3,644 | ) | | (9,600 | ) |
Other-than-temporary impairments | 3,636 |
| | 3,500 |
|
Net unrealized investment gains excluding foreign currency translation adjustment and other-than-temporary impairments | 152,703 |
| | 152,382 |
|
Less deferred income taxes | 53,446 |
| | 54,060 |
|
Net unrealized investment gains excluding foreign currency translation adjustment and other-than-temporary impairments, net of tax | $ | 99,257 |
| | $ | 98,322 |
|
Investment Income
The components of net investment income were as follows:
|
| | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
| (In thousands) |
Fixed-maturity securities | $ | 27,413 |
| | $ | 28,350 |
| | $ | 83,888 |
| | $ | 139,960 |
|
Equity securities | 170 |
| | 189 |
| | 523 |
| | 1,591 |
|
Policy loans and other invested assets | 441 |
| | 326 |
| | 1,088 |
| | 1,041 |
|
Cash and cash equivalents | 63 |
| | 103 |
| | 198 |
| | 489 |
|
Market return on deposit asset underlying 10% reinsurance agreement | 449 |
| | 624 |
| | 1,608 |
| | 2,175 |
|
Gross investment income | 28,536 |
| | 29,592 |
| | 87,305 |
| | 145,256 |
|
Investment expenses | 1,433 |
| | 1,737 |
| | 4,347 |
| | 6,833 |
|
Net investment income | $ | 27,103 |
| | $ | 27,855 |
| | $ | 82,958 |
| | $ | 138,423 |
|
The components of net realized investment gains (losses) as well as details on gross realized investment gains and losses and proceeds from sales or other redemptions were as follows:
|
| | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
| (In thousands) |
Gross realized investment gains (losses): | | | | | | | |
Gains from sales | $ | 1,172 |
| | $ | 1,486 |
| | $ | 4,127 |
| | $ | 46,312 |
|
Losses from sales | (66 | ) | | (307 | ) | | (394 | ) | | (2,219 | ) |
Other-than-temporary impairment losses | (981 | ) | | (268 | ) | | (1,314 | ) | | (12,084 | ) |
(Losses) gains from bifurcated options | (303 | ) | | 104 |
| | (235 | ) | | 436 |
|
Net realized investment (losses) gains | $ | (178 | ) | | $ | 1,015 |
| | $ | 2,184 |
| | $ | 32,445 |
|
Gross realized investment gains reclassified from accumulated other comprehensive income | $ | 125 |
| | $ | 911 |
| | $ | 2,419 |
| | $ | 32,009 |
|
Proceeds from sales or other redemptions | $ | 84,975 |
| | $ | 150,427 |
| | $ | 355,583 |
| | $ | 1,429,443 |
|
Other-Than-Temporary Impairment
We conduct a review each quarter to identify and evaluate impaired investments that have indications of possible other-than-temporary impairment (OTTI). An investment in a debt or equity security is impaired if its fair value falls below its cost. Factors considered in determining whether an unrealized loss is temporary include the length of time and extent to which fair value has been below cost, the financial condition and near-term prospects for the issue, and our ability and intent to hold the investment for a period of time sufficient to allow for any anticipated recovery, which may be maturity.
Our review for other-than-temporary impairment generally entails:
| |
• | Analysis of individual investments that have fair values less than a pre-defined percentage of amortized cost, including consideration of the length of time the investment has been in an unrealized loss position; |
| |
• | Analysis of corporate fixed-maturity securities by reviewing the issuer’s most recent performance to date, including analyst reviews, analyst outlooks and rating agency information; |
| |
• | Analysis of commercial mortgage-backed securities based on an assessment of performance to date, credit enhancement, risk analytics and outlook, underlying collateral, loss projections, rating agency information and available third-party reviews and analytics; |
| |
• | Analysis of residential mortgage-backed securities based on loss projections provided by models compared to current credit enhancement levels; |
| |
• | Analysis of our other fixed-maturity and equity security investments, as required based on the type of investment; and |
| |
• | Analysis of downward credit migrations that occurred during the quarter. |
The amortized cost and fair value of available-for-sale fixed-maturity securities in default were as follows:
|
| | | | | | | | | | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| Amortized cost | | Fair value | | Amortized cost | | Fair value |
| (In thousands) |
Fixed-maturity securities in default | $ | 420 |
| | $ | 870 |
| | $ | 970 |
| | $ | 1,558 |
|
Impairment charges recognized in earnings on available-for-sale securities were as follows:
|
| | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
| (In thousands) |
Impairments on fixed-maturity securities in default | $ | 173 |
| | $ | 21 |
| | $ | 177 |
| | $ | 22 |
|
Impairments on fixed-maturity securities not in default | 808 |
| | 137 |
| | 1,132 |
| | 11,800 |
|
Impairments on equity securities | — |
| | 110 |
| | 5 |
| | 262 |
|
Total impairment charges | $ | 981 |
| | $ | 268 |
| | $ | 1,314 |
| | $ | 12,084 |
|
The fixed-maturity and equity securities noted above were considered to be other-than-temporarily impaired due to adverse credit events, such as news of an impending filing for bankruptcy; analyses of the issuer’s most recent financial statements or other information in which liquidity deficiencies, significant losses and large declines in capitalization were evident; and analyses of rating agency information for issuances with severe ratings downgrades that indicated a significant increase in the possibility of default. During the nine months ended September 30, 2011, we recognized impairment charges primarily as a result of further declines in the fair value of previously impaired corporate and mortgage-backed securities. During the nine months ended September 30, 2010, we recognized impairments primarily as a result of our intent to sell certain corporate and mortgage-backed securities in anticipation of the reinsurance and reorganization transactions discussed in Note 2.
As of September 30, 2011, the unrealized losses on our invested asset portfolio were largely caused by interest rate sensitivity and changes in credit spreads. We believe that fluctuations caused by interest rate movement have little bearing on the recoverability of our investment. Because the decline in fair value is attributable to changes in interest rates and not credit quality, and because we have the ability to hold these investments until a market price recovery or maturity as well as no present intention to dispose of them, we do not consider these investments to be other-than-temporarily impaired.
Net impairment losses recognized in earnings were as follows:
|
| | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
| (In thousands) |
Impairment losses related to securities which the Company does not intend to sell or is more-likely-than-not that it will not be required to sell: | | | | | | | |
Total OTTI losses recognized | $ | 360 |
| | $ | — |
| | $ | 362 |
| | $ | 1,402 |
|
Less portion of OTTI loss recognized in accumulated other comprehensive income (loss) | (136 | ) | | — |
| | (136 | ) | | (553 | ) |
Net impairment losses recognized in earnings for securities that the Company does not intend to sell or is more-likely-than-not that it will not be required to sell before recovery | 224 |
| | — |
| | 226 |
| | 849 |
|
OTTI losses recognized in earnings for securities that the Company intends to sell or more-likely-than-not will be required to sell before recovery | 757 |
| | 268 |
| | 1,088 |
| | 11,235 |
|
Net impairment losses recognized in earnings | $ | 981 |
| | $ | 268 |
| | $ | 1,314 |
| | $ | 12,084 |
|
The roll-forward of the credit-related losses recognized in income for all fixed-maturity securities still held at September 30, 2011 follows.
|
| | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
| (In thousands) |
Cumulative OTTI credit losses recognized for securities still held, beginning of period | $ | 39,890 |
| | $ | 42,611 |
| | $ | 41,129 |
| | $ | 98,528 |
|
Additions for OTTI securities where no credit losses were recognized prior to the beginning of the period | 133 |
| | 123 |
| | 137 |
| | 9,844 |
|
Additions for OTTI securities where credit losses have been recognized prior to the beginning of the period | 848 |
| | 35 |
| | 1,172 |
| | 1,978 |
|
Reductions due to sales, maturities or calls of credit impaired securities | (119 | ) | | (1,350 | ) | | (1,686 | ) | | (68,931 | ) |
Cumulative OTTI credit losses recognized for securities still held, end of period | $ | 40,752 |
| | $ | 41,419 |
| | $ | 40,752 |
| | $ | 41,419 |
|
Fair Value
Fair value is the price that would be received to sell an asset in an orderly transaction between market participants at the measurement date. Fair value measurements are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our view of market assumptions in the absence of observable market information. All invested assets carried at fair value are classified and disclosed in one of the following three categories:
| |
• | Level 1. Quoted prices for identical instruments in active markets. Level 1 primarily consists of financial instruments whose value is based on quoted market prices in active markets, such as exchange-traded common stocks and actively traded mutual fund investments. |
| |
• | Level 2. Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets. Level 2 includes those financial instruments that are valued using industry-standard pricing methodologies, models or other valuation methodologies. Various inputs are considered in deriving the fair value of the underlying financial instrument, including interest rate, credit spread, and foreign exchange rates. All significant inputs are observable, or derived from observable information in the marketplace or are supported by observable levels at which transactions are executed in the marketplace. Financial instruments in this category primarily include: certain public and private corporate fixed-maturity and equity securities; government or agency securities; certain mortgage- and asset-backed securities and certain non-exchange-traded derivatives, such as currency swaps and forwards. |
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• | Level 3. Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable. Level 3 consists of financial instruments whose fair value is estimated based on industry-standard pricing methodologies and models using significant inputs not based on, nor corroborated by, readily available market information. Valuations for this category primarily consist of non-binding broker quotes. Financial instruments in this category primarily include less liquid fixed-maturity corporate securities. |
As of each reporting period, all assets and liabilities recorded at fair value are classified in their entirety based on the lowest level of input (level 3 being the lowest) that is significant to the fair value measurement. Significant levels of estimation and judgment are required to determine the fair value of certain of our investments. The factors influencing these estimations and judgments are subject to change in subsequent reporting periods.
The estimated fair value and hierarchy classifications were as follows:
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| | | | | | | | | | | | | | | |
| September 30, 2011 |
| Level 1 | | Level 2 | | Level 3 | | Total |
| (In thousands) |
Fair value assets: | | | | | | | |
Fixed-maturity securities: | | | | | | | |
U.S. government and agencies | $ | — |
| | $ | 17,593 |
| | $ | — |
| | $ | 17,593 |
|
Foreign government | — |
| | 99,967 |
| | — |
| | 99,967 |
|
States and political subdivisions | — |
| | 29,937 |
| | — |
| | 29,937 |
|
Corporates | — |
| | 1,436,435 |
| | 7,341 |
| | 1,443,776 |
|
Mortgage- and asset-backed securities | — |
| | 493,126 |
| | 13,666 |
| | 506,792 |
|
Total fixed-maturity securities | — |
| | 2,077,058 |
| | 21,007 |
| | 2,098,065 |
|
Equity securities | 16,382 |
| | 5,669 |
| | 51 |
| | 22,102 |
|
Trading securities | — |
| | 19,685 |
| | — |
| | 19,685 |
|
Separate accounts | — |
| | 2,276,705 |
| | — |
| | 2,276,705 |
|
Total fair value assets | $ | 16,382 |
| | $ | 4,379,117 |
| | $ | 21,058 |
| | $ | 4,416,557 |
|
Fair value liabilities: | | | | | | | |
Currency swaps | $ | — |
| | $ | 2,343 |
| | $ | — |
| | $ | 2,343 |
|
Separate accounts | — |
| | 2,276,705 |
| | — |
| | 2,276,705 |
|
Total fair value liabilities | $ | — |
| | $ | 2,279,048 |
| | $ | — |
| | $ | 2,279,048 |
|
|
| | | | | | | | | | | | | | | |
| December 31, 2010 |
| Level 1 | | Level 2 | | Level 3 | | Total |
| (In thousands) |
Fair value assets: | | | | | | | |
Fixed-maturity securities: | | | | | | | |
U.S. government and agencies | $ | — |
| | $ | 22,202 |
| | $ | — |
| | $ | 22,202 |
|
Foreign government | — |
| | 94,541 |
| | — |
| | 94,541 |
|
States and political subdivisions | — |
| | 27,219 |
| | — |
| | 27,219 |
|
Corporates | — |
| | 1,366,774 |
| | 19,147 |
| | 1,385,921 |
|
Mortgage- and asset-backed securities | — |
| | 549,188 |
| | 2,290 |
| | 551,478 |
|
Total fixed-maturity securities | — |
| | 2,059,924 |
| | 21,437 |
| | 2,081,361 |
|
Equity securities | 15,110 |
| | 4,542 |
| | 3,561 |
| | 23,213 |
|
Trading securities | — |
| | 22,767 |
| | — |
| | 22,767 |
|
Separate accounts | — |
| | 2,446,786 |
| | — |
| | 2,446,786 |
|
Total fair value assets | $ | 15,110 |
| | $ | 4,534,019 |
| | $ | 24,998 |
| | $ | 4,574,127 |
|
Fair value liabilities: | | | | | | | |
Currency swaps | $ | — |
| | $ | 2,228 |
| | $ | — |
| | $ | 2,228 |
|
Separate accounts | — |
| | 2,446,786 |
| | — |
| | 2,446,786 |
|
Total fair value liabilities | $ | — |
| | $ | 2,449,014 |
| | $ | — |
| | $ | 2,449,014 |
|
In assessing fair value of our investments, we use a third-party pricing service for approximately 95% of our securities. The remaining securities are primarily thinly traded securities valued using models based on observable inputs on public corporate spreads having similar tenors (e.g., sector, average life and quality rating) and liquidity and yield based on quality rating, average life and treasury yields. All observable data inputs are corroborated by independent third-party data. In the absence of sufficient observable inputs, we utilize non-binding broker quotes, which are reflected in our Level 3 classification.
We perform reasonableness assessments on fair value determinations within our portfolio. If a fair value appears unusual, we will re-examine the inputs and may challenge a fair value assessment made by the pricing service. If there is a known pricing error, we will request a reassessment by the pricing service. If the pricing service is unable to perform the reassessment on a timely basis, we will determine the appropriate price by requesting a reassessment from an alternative pricing service or other qualified source as necessary. We do not adjust quotes or prices except in a rare circumstance to resolve a known error.
Because many fixed-maturity securities do not trade on a daily basis, fair value is determined using industry-standard methodologies by applying available market information through processes such as U.S. Treasury curves, benchmarking of similar securities, sector groupings, quotes from market participants and matrix pricing. Observable information is compiled and integrates relevant credit information, perceived market movements and sector news. Additionally, security prices are periodically back-tested to validate and/or refine models as conditions warrant. Market indicators and industry and economic events are also monitored as triggers to obtain additional data. For certain structured securities with limited trading activity, industry-standard pricing methodologies use adjusted market information, such as index prices or discounting expected future cash flows, to estimate fair value. If these measures are not deemed observable for a particular security, the security will be classified as Level 3 in the fair value hierarchy.
Where specific market information is unavailable for certain securities, pricing models produce estimates of fair value primarily using Level 2 inputs along with certain Level 3 inputs. These models include matrix pricing. The pricing matrix uses current treasury rates and credit spreads received from third-party sources to estimate fair value. The credit spreads incorporate the issuer’s industry- or issuer-specific credit characteristics and the security’s time to maturity, if warranted. Remaining un-priced securities are valued using an estimate of fair value based on indicative market prices that include significant unobservable inputs not based on, nor corroborated by, market information, including the utilization of non-binding broker quotes.
We obtain independent pricing quotes based on observable inputs as of the end of the reporting period for all securities in Level 2. Those inputs include benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, market bids/offers, and other relevant data. We monitor these inputs for market indicators, industry and economic events. We recognize transfers into new levels and out of previous levels as of the end of the reporting period, including interim reporting periods, as applicable. There were no significant transfers between Level 1 and Level 2 during the three- and nine-month periods ended September 30, 2011 and 2010.
The roll-forward of the Level 3 asset category was as follows:
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| | | | | | | | | | | | | | | |
| Three months ended | | Nine months ended |
| September 30, | | September 30, |
| 2011 | | 2010 | | 2011 | | 2010 |
| (In thousands) |
Level 3 assets, beginning of period | $ | 12,265 |
| | $ | 25,555 |
| | $ | 24,998 |
| | $ | 771,271 |
|
Net unrealized losses through other comprehensive income | (454 | ) | | 1,295 |
| | (735 | ) | | (1,891 | ) |
Net realized gains (losses) through realized investment gains, including OTTI | 158 |
| | (955 | ) | | 1,624 |
| | (145 | ) |
Purchases | 13,609 |
| | 5,203 |
| | 17,609 |
| | 7,573 |
|
Sales | — |
| | (4,007 | ) | | (3,823 | ) | | (36,932 | ) |
Settlements | (193 | ) | | — |
| | (1,655 | ) | | — |
|
Transfers into level 3 | 488 |
| | 728 |
| | 4,991 |
| | 41,518 |
|
Transfers out of level 3 | (4,815 | ) | | (3,761 | ) | | (21,951 | ) | | (234,964 | ) |
Transfers due to funding of reinsurance transactions | — |
| | — |
| | — |
| | (522,372 | ) |
Level 3 assets, end of period | $ | 21,058 |
| | $ | 24,058 |
| | $ | 21,058 |
| | $ | 24,058 |
|
Level 3 purchases in the third quarter of 2011 reflect newly issued securities for which we were unable to obtain an independent pricing quote as of September 30, 2011. These securities were subsequently priced early in the fourth quarter of 2011 using Level 2 inputs. They will be transferred to Level 2 in the fourth quarter of 2011.
Invested assets included in the transfer from Level 2 to Level 3 in both the three and nine month periods ended September 30, 2011 and 2010 primarily were fixed-maturity investments for which we were unable to corroborate independent broker quotes with observable market data. Invested assets included in the transfer from Level 3 to Level 2 in the three months ended September 30, 2011 and 2010 primarily were fixed-maturity investments for which we were able to corroborate independent broker quotes with observable market data. Invested assets included in the transfer from Level 3 to Level 2 during the nine months ended September 30, 2011 primarily were fixed-maturity investments with embedded options for which we were able to obtain independent pricing quotes based on observable inputs. Invested assets included in the transfer from Level 3 to Level 2 during the nine months ended September 30, 2010 primarily were non-agency mortgage-backed securities. There were no significant transfers between Level 1 and Level 3 during the three- and nine-month periods ended September 30, 2011 and 2010.
Derivatives
We use foreign currency swaps to reduce our foreign exchange risk due to direct investment in foreign currency-denominated debt securities. The aggregate notional balance and fair value of these currency swaps follow.
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| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Aggregate notional balance of currency swaps | $ | 5,878 |
| | $ | 5,878 |
|
Aggregate fair value of currency swaps | (2,343 | ) | | (2,228 | ) |
The change in fair value of these currency swaps is reflected in other comprehensive income as they effectively hedge the variability in cash flows from these foreign currency-denominated debt securities.
The embedded conversion options associated with fixed-maturity securities are bifurcated from the fixed-maturity security host contracts and separately recognized as equity securities. The change in fair value of these bifurcated conversion options is reflected in realized investment gains, including OTTI losses. The fair value of these bifurcated options follows. |
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Aggregate fair value of embedded conversion options | $ | 5,665 |
| | $ | 3,269 |
|
We have a deferred loss related to closed forward contracts that were used to mitigate our exposure to foreign currency exchange rates that resulted from the net investment in our Canadian operations. The amount of deferred loss included in accumulated other comprehensive income was as follows:
|
| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (In thousands) |
Deferred loss related to closed forward contracts | $ | 26,385 |
| | $ | 26,385 |
|
While we have no current intention to do so, these deferred losses will not be recognized until such time as we sell or substantially liquidate our Canadian operations.
Fair Value Option
In connection with our corporate reorganization, in the first quarter of 2010, we transferred to Citi or sold to third parties all of the securities that had previously been accounted for using the fair value option. On January 1, 2010, these securities had a fair value of approximately $7.7 million. Fair value gains included in net investment income for the nine months ended September 30, 2010 were approximately $667,000.
The carrying values and estimated fair values of our financial instruments were as follows:
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| | | | | | | | | | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| Carrying value | | Estimated fair value | | Carrying value | | Estimated fair value |
| (In thousands) |
Assets: | | | | | | | |
Fixed-maturity securities | $ | 2,098,065 |
| | $ | 2,098,065 |
| | $ | 2,081,361 |
| | $ | 2,081,361 |
|
Equity securities | 22,102 |
| | 22,102 |
| | 23,213 |
| | 23,213 |
|
Trading securities | 19,685 |
| | 19,685 |
| | 22,767 |
| | 22,767 |
|
Policy loans | 25,979 |
| | 25,979 |
| | 26,229 |
| | 26,229 |
|
Other invested assets | 14 |
| | 14 |
| | 14 |
| | 14 |
|
Deposit asset underlying 10% reinsurance agreement | 52,446 |
| | 52,446 |
| | 50,099 |
| | 50,099 |
|
Separate accounts | 2,276,705 |
| | 2,276,705 |
| | 2,446,786 |
| | 2,446,786 |
|
Liabilities: | | | | | | | |
Note payable | $ | 300,000 |
| | $ | 324,818 |
| | $ | 300,000 |
| | $ | 323,670 |
|
Currency swaps | 2,343 |
| | 2,343 |
| | 2,228 |
| | 2,228 |
|
Separate accounts | 2,276,705 |
| | 2,276,705 |
| | 2,446,786 |
| | 2,446,786 |
|
The fair values of financial instruments presented above are estimates of the fair values at a specific point in time using various sources and methods, including market quotations and a complex matrix system that takes into account issuer sector, quality, and spreads in the current marketplace.
Estimated fair values of investments in fixed-maturity securities are principally a function of current spreads and interest rates that are corroborated by independent third-party data. Therefore, the fair values presented are indicative of amounts we could realize or settle at the respective balance sheet date. We do not necessarily intend to dispose of or liquidate such instruments prior to maturity. Trading securities, which primarily consist of fixed-maturity securities, are carried at fair value. Equity securities, including common and non-redeemable preferred stocks, are carried at fair value. The carrying value of policy loans and other invested assets approximates fair value. The fair value of our note payable is based on prevailing interest rates and an estimated spread based on notes of comparable issuers and maturity. Currency swaps are stated at fair value. Segregated funds in separate accounts are carried at the underlying value of the variable insurance contracts, which is fair value.
The carrying amounts for cash and cash equivalents, receivables, accrued investment income, accounts payable, cash collateral and payables for security transactions approximate their fair values due to the short-term nature of these instruments. Consequently, such instruments are not included in the above table.
Reinsurance ceded arrangements do not relieve the Company of its primary obligation to the policyholder. We monitor the concentration of credit risk we have with any reinsurer, as well as the financial condition of the reinsurers. Details on in-force life insurance follow.
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| | | | | | | |
| September 30, 2011 | | December 31, 2010 |
| (Dollars in millions) |
Direct life insurance in force | $ | 671,429 |
| | $ | 662,135 |
|
Amounts ceded to other companies | (600,306 | ) | | (600,807 | ) |
Net life insurance in force | $ | 71,123 |
| | $ | 61,328 |
|
Percentage of reinsured life insurance in force | 89 | % | | 91 | % |
Due from reinsurers includes ceded reserve balances and ceded claim liabilities. Reinsurance receivable and financial strength ratings by reinsurer were as follows:
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| | | | | | | | | | | |
| September 30, 2011 | | December 31, 2010 |
Reinsurance receivable | | A.M. Best rating | | Reinsurance receivable | | A.M. Best rating |
(In millions) |
Prime Reinsurance Company (1) | $ | 2,420 |
| | NR | | $ | 2,353 |
| | NR |
Financial Reassurance Company 2010, Ltd. (1) | 326 |
| | NR | | 333 |
| | NR |
American Health and Life Insurance Company (1) | 163 |
| | A | | 156 |
| | A |
Due from related party reinsurers | 2,909 |
| | | | 2,842 |
| | |
Swiss Re Life & Health America Inc. | 246 |
| | A | | 242 |
| | A |
SCOR Global Life Reinsurance Companies | 143 |
| | A | | 139 |
| | A |
Generali USA Life Reassurance Company | 115 |
| | A | | 112 |
| | A |
Transamerica Reinsurance Companies | 103 |
| | A+ | | 103 |
| | A+ |
Munich American Reassurance Company | 99 |
| | A+ | | 97 |
| | A+ |
Korean Reinsurance Company | 85 |
| | A | | 83 |
| | A- |
RGA Reinsurance Company | 68 |
| | A+ | | 64 |
| | A+ |
All other reinsurers | 52 |
| | — | | 50 |
| | — |
Due from reinsurers (2) | $ | 3,820 |
| | | | $ | 3,732 |
| | |
____________________ NR – not rated
| |
(1) | Amounts shown are net of their share of the reinsurance recoverable from other reinsurers. |
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(2) | Totals may not add due to rounding. |
In October 2010, a routine reinsurance audit identified payments to reinsurers that exceeded our obligations under our reinsurance agreements. We were uncertain of our ability to recover past ceded premiums, but in the fourth quarter of 2010, we approached our reinsurers and reached agreements to recover certain of these past ceded premiums for post-issue underwriting class upgrades. As a result, in the first quarter of 2011 we reduced ceded premiums by approximately $8.7 million related to agreements obtained with certain reinsurers to recover ceded premiums. The $8.7 million of recoveries recognized during the nine months ended September 30, 2011 reflects the agreements signed in 2011. Further recoveries, if any, are not expected to be significant.
In April 2010, we issued to Citi a $300.0 million note as part of our corporate reorganization in which Citi transferred to us the businesses that comprise our operations. Prior to the issuance of the Citi note, we had no outstanding debt. The Citi note bears interest at an annual rate of 5.5%, payable semi-annually in arrears on January 15 and July 15, and matures March 31, 2015. We have the option to redeem the Citi note in whole or in part at a redemption price equal to 100% of the principal amount to be redeemed plus accrued and unpaid interest to the date of redemption. In the event of a change in control, the holder of the Citi note has the right to require us to repurchase it at a price equal to 101% of the outstanding principal amount plus accrued and unpaid interest.
The Citi note also requires us to use our commercially reasonable efforts to arrange and consummate an offering of investment-grade debt securities, trust preferred securities, surplus notes, hybrid securities or convertible debt that generates sufficient net cash proceeds to repay the note in full at certain mutually agreeable dates, based on certain conditions.
We were in compliance with all of the covenants of the Citi note at September 30, 2011. No events of default or defaults occurred during the nine months ended September 30, 2011.
Prior to April 1, 2010, we had 100 shares of outstanding common stock. In the second quarter of 2010, we issued common stock as part of our corporate reorganization (see Note 2). A reconciliation of the number of shares of our common stock follows.
|
| | | | | |
| Nine months ended |
| September 30, |
| 2011 | | 2010 (1) |
| (In thousands) |
Common stock, beginning of period | 72,843 |
| | — |
|
Shares issued to Citi in connection with the Offering | — |
| | 75,000 |
|
New shares of common stock issued, net | 348 |
| | 9 |
|
Shares of common stock issued upon lapse of restricted stock units (RSUs) | 718 |
| | 8 |
|
Common stock retired | (169 | ) | | — |
|
Treasury stock retired | — |
| | (2,290 | ) |
Common stock, end of period | 73,740 |
|