SYMETRA FINANCIAL CORP – 10-K – Management’s Discussion and Analysis of Financial Condition and Results of Operations
| Edgar Online, Inc.</td> |
This discussion contains forward-looking statements that involve risk and uncertainties. Our actual results may differ materially from those discussed in or implied by any of the forward-looking statements as a result of various factors, including but not limited to those listed under "Forward-Looking Statements" and Item 1A - "Risk Factors." You should read the following discussion in conjunction with the consolidated financial statements and accompanying notes included in Item 8 - "Financial Statements and Supplementary Data" included in this Form 10-K, as well as the discussion under Item 6 - "Selected Financial Data." Management considers certain non-GAAP financial measures, including adjusted operating income; adjusted operating income per common share; adjusted book value; adjusted book value, as converted; adjusted book value per common share; adjusted book value per common share, as converted; average adjusted book value; and operating return on average equity (ROAE) to be useful to investors in evaluating our financial performance and condition. These measures have been reconciled to their most comparable GAAP financial measures. For a definition of these non-GAAP measures, see "- Use of non-GAAP Financial Measures."
All amounts, except share and per share data, are in millions unless otherwise stated.
Overview We are a financial services company in the life insurance industry providing employee benefits, annuities and life insurance through a national network of benefits consultants, financial institutions and independent agents and advisers. Our operations date back to 1957 and many of our distribution relationships have been in place for decades. We are headquartered inBellevue, Washington and employ approximately 1,100 people in 18 offices acrossthe United States , serving approximately 1.6 customers.
Our Operations
We manage our business through three divisions composed of four business segments:
Benefits Division
• Benefits. We offer medical stop-loss insurance, limited benefit medical
plans, group life insurance, accidental death and dismemberment insurance
and disability income insurance mainly to employer groups of 50 to 5,000
individuals. In addition to our insurance products, we offer MGU services.
Retirement Division
• Deferred Annuities. We offer fixed and variable deferred annuities to
consumers who want to accumulate tax-deferred assets for retirement.
• Income Annuities. We offer SPIAs to customers seeking a reliable source of
retirement income or to protect against outliving their assets during
retirement, and structured settlement annuities to fund third party
personal injury settlements. In addition, we offer funding services
options to existing structured settlement clients.
Life Division • Life. We offer a wide array of insurance products such as term and universal life insurance, including single premium life insurance and BOLI.
In addition, we also have our Other segment which consists of unallocated corporate income, composed primarily of investment income on unallocated surplus, unallocated corporate expenses, interest expense on debt, earnings related to our limited partnership interests, the results of small, non-insurance businesses that are managed outside of our divisions, and inter-segment elimination entries.
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See Note 19 to the Consolidated Financial Statements for financial results of our segments, including our operating revenues, for each of the last three fiscal years.
Current Outlook
As we continue to lay the groundwork for future growth, we, and the life insurance industry as a whole, face a difficult environment in managing both capital and risk. The ongoing concerns over European sovereign debt and credit markets, the prolonged low-interest rate environment,the United States' growing deficit, prolonged high-levels of unemployment and the slow economic recovery continue to put pressure on financial services companies. We remain proactive in maintaining our spreads and capital levels in 2012 to continue creating stockholder value. Interest rates continue to be extremely low. The United States Federal Reserve recently announced they have no plans to increase interest rates through 2014. Low interest rates and tight credit spreads continue to be a challenge for our interest-sensitive asset-based businesses, particularly sales of fixed annuities, SPIAs and universal life insurance policies. To mitigate the risk of unfavorable consequences in this environment, such as spread compression on our in force business, we remain proactive in our investment and product strategies, interest crediting strategies and overall asset-liability management practices. We feel that these strategies not only help us in the current low interest rate environment, but also could reduce the risk in rising interest rate scenarios where policyholders may increasingly lapse existing policies in favor of investing in new policies with higher credited rates. To improve our asset yield in this environment, we have been and plan to continue increasing our investments in commercial mortgage loans we underwrite. While interest rates on recently written loans have decreased consistent with the overall level of interest rates, they continue to be an attractive investment opportunity. During 2011, we originated mortgage loans of$956.9 with an average yield of approximately 5.6%. This asset class comprised 9.6% of our invested assets as ofDecember 31, 2011 , up from 7.3% as ofDecember 31, 2010 . To manage our way through this uncertain environment and grow profitably, we will continue to focus on the strategies outlined in Item 1 - "Business - Our Strategies." In 2011, we made progress on our Grow & Diversify initiatives, including the following:
• Acquired the renewal rights to a
• Filled key leadership positions and began infrastructure development to
expand our presence in the group life and disability income marketplace;
• Launched a new FIA product, Symetra Edge Pro®; • Started product and infrastructure development to offer a new variable
annuity product; and • Launched new individual life products. Our 2012 focus is to continue executing on our Grow & Diversify initiatives, while at the same time remaining focused on our core businesses and maintaining our financial strength ratings. We believe the Grow & Diversify initiatives will help us expand into less interest sensitive products and markets. In 2012, we are targeting the following: • Produce$25.0 of group life and disability income sales; • Build out the infrastructure to offer disability claims processing;
• Launch our new variable annuity product and produce
sales of our variable annuity and FIA product, and other products launched
since 2011; and
• Expand our Life segment distribution channel and produce
UL, BOLI and COLI sales. 54
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We believe we have adequate levels of capital to support our current business and to fund organic and transactional growth. We continue to look for acquisition opportunities that fit our strategies and help us drive improved earnings. However, the success of these and other strategies may be affected by the factors discussed in Item 1A - "Risk Factors" and other factors as discussed herein.
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to adopt accounting policies and make estimates and assumptions that affect amounts reported and disclosed in the consolidated financial statements. The accounting policies discussed in this section are those that we consider to be particularly critical to an understanding of our consolidated financial statements because their application places the most significant demands on our ability to judge the effect of inherently uncertain matters on our financial results. In applying the Company's accounting policies, management makes subjective and complex judgments that frequently require estimates about matters that are inherently uncertain. Many of these policies, estimates and related judgments are common in the insurance and financial services industries; others are specific to the Company's businesses and operations. For all of these policies, we caution that future events rarely develop exactly as forecast, and our management's best estimates may require adjustment.
Other-Than-Temporary Impairments (OTTI)
One of the significant estimates related to available-for-sale securities is the evaluation of investments for OTTI. We record an OTTI on fixed maturity securities in an unrealized loss position when one of the following occurs:
• we do not expect to recover the amortized cost basis of the security,
based on our estimate of cash flows expected to be collected; or • we intend to sell a security; or it is more likely than not that we will
be required to sell a security prior to recovery of its amortized cost basis. Making the determinations as to whether one or more of these conditions exist often requires judgment. As part of this process, we analyze investments in an unrealized loss position to determine whether the decline in value is other-than-temporary. The impairment review involves the investment management team, including our portfolio asset managers. To make this determination, we consider both quantitative and qualitative criteria including:
• how long and by how much the fair value has been below cost or amortized
cost; • the financial condition and near-term prospects of the issuer of the
security, including any specific events that may affect its operations or
earnings potential, or compliance with terms and covenants of the security;
• changes in the financial condition of the security's underlying collateral;
• any downgrades of the security by a rating agency; • any reduction or elimination of dividends or nonpayment of scheduled
interest; • any regulatory developments; and • any decisions to reposition our security portfolio for liquidity needs. For securities which are considered to have an OTTI, it is required that the losses be separated into the amount representing the decrease in cash flows expected to be collected ("credit loss"), which is recognized in earnings, and the amount related to all other factors ("noncredit loss"), which is recognized in other comprehensive income (loss), or OCI. For securities we intend to sell or for which it is more likely than not that we will be required to sell before recovery, the impairment charge is equal to the difference between the fair 55
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value and the amortized cost basis of the security in the period of determination. In determining our intent to sell a security or whether it is more likely than not that we will be required to sell a security, we evaluate facts and circumstances such as decisions to reposition our security portfolio, sales of securities to meet cash flow needs and sales of securities to capitalize on favorable pricing. If we do not intend to sell a security, but believe we will not recover all the security's contractual cash flows, the amortized cost is written down to our estimated recovery value and recorded as a realized loss in our consolidated statements of income, as this is determined to be a credit loss. The remainder of the decline in fair value is recorded as OTTI on fixed maturities not related to credit losses in OCI as this is determined to be a noncredit or recoverable loss. We determine the estimated recovery values by using discounted cash flow models that consider estimated cash flows under current and expected future economic conditions with various assumptions regarding the timing and amount of principal and interest payments. The recovery value is based on our best estimate of expected future cash flows discounted at the security's effective yield prior to impairment. Our best estimate of future cash flows is based on assumptions, including various performance indicators, such as historical default and recovery rates, credit ratings, current delinquency rates and the structure of the issuer/security. These assumptions require the use of significant judgment and include the probability of issuer default and estimates regarding timing and amount of expected recoveries. In addition, projections of expected future fixed maturity security cash flows may change based upon new information regarding the performance of the issuer and/or underlying collateral. Future impairments may develop if actual results underperform current cash flow modeling assumptions, which may be the result of macroeconomic factors, changes in assumptions used and specific deterioration in certain industry sectors or company failures. As ofDecember 31, 2011 and 2010, the fair value of our available-for-sale fixed maturity securities that were below cost or amortized cost by 20% or more was$260.0 and$163.0 , respectively. Included in the gross unrealized losses are losses attributable to both movements in market interest rates as well as movements in credit spreads. Net income for the year endedDecember 31, 2011 would be reduced by approximately$107.3 on a pre-tax basis if all the securities in an unrealized loss position of more than 20% were deemed to be other than temporarily impaired and all of the unrealized loss was credit related.
For further discussion of our evaluation of investments for OTTI, see Note 6 to the Consolidated Financial Statements.
Assets at Fair Value
We carry certain assets on our consolidated balance sheets at fair value. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (an "exit price"). U.S. GAAP establishes a fair value hierarchy that distinguishes between inputs based on market data from independent sources ("observable inputs") and a reporting entity's internal assumptions based upon the best information available when external market data is limited or unavailable ("unobservable inputs"). The fair value hierarchy prioritizes fair value measurements into three levels based on the nature of the inputs. The level in the fair value hierarchy within which the fair value measurement falls is determined based on the lowest level input that is significant to the fair value measurement. For further discussion of the levels of the fair value hierarchy, see Note 6 to the Consolidated Financial Statements. 56
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The availability of market observable information is the principal factor in determining the level that our investments are assigned in the fair value hierarchy. The following tables summarize our assets carried at fair value and the respective fair value hierarchy, based on input levels: As of December 31, 2011 Fair Value Level 1 Level 2 Level 3 Level 3 % Types of Investments Fixed maturities, available-for-sale: U.S. government and agencies $ 64.1 $ - $ 64.1 $ - - State and political subdivisions 635.3 - 635.3 - - Corporate securities 16,204.3 - 15,450.3 754.0 3.1 % Residential mortgage-backed securities 3,625.0 - 3,625.0 - - Commercial mortgage-backed securities 1,837.0 - 1,821.1 15.9 0.1 Other debt obligations 539.5 - 388.4 151.1 0.6 Total fixed maturities, available-for-sale 22,905.2 - 21,984.2 921.0 3.8 Marketable equity securities, available-for-sale 50.3 0.5 44.8 5.0 0.1 Marketable equity securities, trading 381.7 381.1 - 0.6 - Investments in limited partnerships (1) 27.8 - - 27.8 0.1 Other invested assets 15.8 2.8 8.2 4.8 - Total investments carried at fair value 23,380.8 384.4 22,037.2 959.2 4.0 Separate account assets 795.8 795.8 - - - Total $ 24,176.6 $ 1,180.2 $ 22,037.2 $ 959.2 4.0 %
(1) Includes investments in private equity and hedge funds.
As of December 31, 2010 Fair Value Level 1 Level 2 Level 3 Level 3 % Types of Investments Fixed maturities, available-for-sale: U.S. government and agencies $ 33.1 $ - $ 33.1 $ - - State and political subdivisions 452.8 - 452.8 - - Corporate securities 14,541.4 - 13,786.8 754.6 3.3 % Residential mortgage-backed securities 3,801.6 - 3,801.6 - - Commercial mortgage-backed securities 1,887.3 - 1,868.2 19.1 0.1 Other debt obligations 565.6 - 412.4 153.2 0.7 Total fixed maturities, available-for-sale 21,281.8 - 20,354.9 926.9 4.1 Marketable equity securities, available-for-sale 45.1 0.6 42.7 1.8 - Marketable equity securities, trading 189.3 188.7 - 0.6 - Investments in limited partnerships (1) 36.5 - - 36.5 0.2 Other invested assets 6.4 2.6 - 3.8 - Total investments carried at fair value 21,559.1 191.9 20,397.6 969.6 4.3 Separate account assets 881.7 881.7 - - - Total $ 22,440.8 $ 1,073.6 $ 20,397.6 $ 969.6 4.3 %
(1) Includes investments in private equity and hedge funds.
Valuation of Fixed Maturities
Fixed maturities include bonds, mortgage-backed securities and redeemable preferred stock. We classify all fixed maturities as available-for-sale and carry them at fair value. We report net unrealized investment gains and
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losses related to our available-for-sale securities, which is equal to the difference between the fair value and the amortized cost, in AOCI in stockholders' equity. We report net realized investment gains and losses in the consolidated statements of income.
We determine the fair value of fixed maturities primarily by obtaining prices from third-party independent pricing services, which as ofDecember 31, 2011 and 2010, priced 95.9% and 95.6%, respectively, of our fixed maturities. The third-party independent pricing services we use have policies and processes to ensure that they are using objectively verifiable, observable market data, including documentation on the observable market inputs used to determine the prices, by major security type. Securities are priced using evaluated pricing models that vary by asset class. The standard inputs for security evaluations include benchmark yields, reported trades, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers and other reference data, including market research publications. Because many fixed income securities do not trade on a daily basis, evaluated pricing models apply available information through processes such as benchmark curves, benchmarking of like securities, sector groupings and matrix pricing to prepare evaluations. In addition, models are used to develop prepayment and interest rate scenarios, which take into account market convention. Our pricing services routinely review the inputs for the securities they cover; however, they do not provide an independent auditor's report on controls over valuation. We analyze the prices received from the pricing services to ensure they represent a reasonable estimate of fair value, as well as the overall reasonableness and consistent use of inputs. We perform analytical reviews of changes in prices between reporting periods, periodic deep-dive analyses into pricing of selected securities, and back-testing of selected sales activity to determine whether there are any significant differences between the market price used to value the security prior to sale and the actual sales price. Annually, we review documentation of the pricing methodologies and inputs used, by asset class, and participate in due diligence procedures, including walkthroughs of security pricing procedures and corroboration of prices with multiple pricing services for selected securities. Based upon our procedures, we believe that the values provided by our pricing services are accurate and determined in accordance with U.S. GAAP. We have engaged our pricing services in discussion regarding the valuation of a security; however, it has not been our practice to adjust their prices. We use our judgment in assigning our fixed maturities to a level within the fair value hierarchy by determining whether significant pricing inputs are observable and if the market for a given security is active. When we have significant observable market inputs, which is the case when the security is priced by our pricing services, it is classified as a Level 2 measurement. If our pricing services determine that they do not have sufficient objectively verifiable information about a security, they will not provide a valuation for that security, and the security's fair value is determined internally. The internal pricing models typically utilize significant, unobservable market inputs or inputs that are difficult to corroborate with observable market data, and the resulting fair values are classified as Level 3 measurements. This is generally the case for private placement securities, which account for 92.6% of our Level 3 fixed maturities. As ofDecember 31, 2011 and 2010,$936.4 , or 4.1%, and$892.9 , or 4.2%, respectively, of our fixed maturities portfolio was invested in private placement securities, a significant portion of which are not actively traded. The fair values of these assets are typically determined using a discounted cash flow approach. The valuation model requires the use of inputs that are not market-observable and involves significant judgment. The discount rate is based on the current Treasury curve adjusted for credit and liquidity factors. The appropriate illiquidity adjustment is estimated based on illiquidity spreads observed in transactions involving other similar securities. In limited situations, private placement securities are valued through the use of a single broker quote because the security is very thinly traded. In such situations, we consider the fair value a Level 3 measurement. 58
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Fixed maturities categorized as Level 3 investments were$921.0 and$926.9 as ofDecember 31, 2011 and 2010, respectively. As ofDecember 31, 2011 and 2010, we had net unrealized gains of$75.2 and$57.9 , respectively, on our Level 3 fixed maturities. For the year endedDecember 31, 2011 and 2010, we reported net realized losses of$4.5 and$5.0 , respectively, on our Level 3 fixed maturities. We believe that the amount we may realize upon settlement or maturity of our fixed maturities may differ significantly from the current estimated fair value of the security, as we do not actively trade our fixed maturity portfolio. Our investment management objective is to support the expected cash flows of our liabilities and to produce stable returns over the long term. To meet this objective, we typically hold our fixed maturities until maturity or until market conditions are favorable for the sale of such investments.
Deferred Policy Acquisition Costs (DAC) and Deferred Sales Inducements (DSI)
We defer as assets certain policy acquisition costs, including commissions, distribution costs and other underwriting costs, that vary with, and are primarily related to, the production of new and renewal business. We limit our deferral to acquisition expenses contained in our product pricing assumptions. When our DAC asset is amortized, it reduces income. We also defer as assets certain sales inducements, including inducement interest, which are included within other assets on our Consolidated Balance Sheets. When our DSI asset is amortized it increases interest credited and reduces income. The following table summarizes our DAC asset balances by segment: As of December 31, 2011 2010 Benefits $ 3.7 $ 3.6 Deferred Annuities 302.9 283.2 Income Annuities 37.9 31.2 Life 74.5 69.4
Total unamortized balance at end of period 419.0 387.4
Accumulated effect of net unrealized gains (203.6 ) (137.4 )
Balance at end of period $ 215.4 $
250.0
The following table summarizes our DSI asset balances by segment:
As of December 31, 2011 2010 Deferred Annuities $ 141.0 $ 104.7 Life 1.0 1.1
Total unamortized balance at end of period 142.0 105.8
Accumulated effect of net unrealized gains (87.8 ) (44.0 )
Balance at end of period $ 54.2 $
61.8 Amortization of DAC and DSI
In our Benefits segment, the DAC amortization period for medical stop-loss policies is one year as these policies are one year policies and are renewed and repriced on an annual basis.
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In our Deferred Annuities, Income Annuities and Life segments, we amortize DAC and DSI over the premium paying period or over the lives of the policies in proportion to the future estimated gross profits, or EGPs, of each of these product lines, as follows:
• Deferred Annuities. The DAC amortization period is typically 20 years for
deferred annuities, although most of the DAC amortization occurs within
the first 10 years because the EGPs are highest during such period. It is
common for deferred annuity policies to lapse after the surrender charge
period expires. To amortize DSI, we use the same methodology, assumptions
and amortization period as used in amortizing DAC. • Income Annuities. The DAC amortization period for SPIAs, including
structured settlement annuities, is the benefit payment period. The
benefit payment periods vary by policy; however, nearly all benefits are
paid within 80 years of contract issue.
• Life. The DAC amortization period related to universal life policies is
typically 25 years. DAC amortization related to our term life insurance
policies is the premium paying period, which ranges from 10 to 30 years.
To determine the EGPs, we make assumptions as to lapse and withdrawal rates, expenses, interest margins, mortality experience, long-term equity market returns and investment performance. Estimating future gross profits is a complex process requiring considerable judgment and forecasting of events well into the future. Changes to assumptions can have a significant impact on DAC and DSI amortization. In the event actual experience differs from our assumptions or our future assumptions are revised, we adjust our EGPs, which could result in a significant increase in amortization expense. EGPs are adjusted quarterly to reflect actual experience to date. For example, for our deferred annuity products, if renewal crediting rates are greater or lower than the renewal crediting rates we assumed in our DAC and DSI asset amortization models, we would record a change in amortization expense to reflect the change in our EGPs. For future assumptions we complete a study and refine our estimates of future gross profits annually during the third quarter. Upon completion of an assumption study, we revise our assumptions to reflect our current best estimate, thereby changing our estimate of projected EGPs used in the DAC and DSI asset amortization models. We also revise future assumptions as needed throughout the year if a significant transaction or trend is identified that would warrant a change in those assumptions. For the year endedDecember 31, 2011 , we recorded net pre-tax adjustments totaling$(3.5) related to DAC and DSI unlocking. The following would generally cause an increase in DAC and DSI amortization expense: increases to lapse and withdrawal rates in the current period, increases to expected renewal crediting rates, which may decrease interest margins, increases to expected future lapse and withdrawal rates, increases to future expected expense levels, increases to interest margins in the current period, decreases to expected future interest margins and significant investment prepayment activity and decreases to current or expected equity market returns. We regularly conduct DAC and DSI recoverability analyses, where we compare the current DAC asset balances with the estimated present value of future profitability of the underlying business. The DAC and DSI asset balances are considered recoverable if the present value of future profits is greater than the current DAC and DSI asset balances. In connection with our recoverability analyses, we perform sensitivity analyses on our most significant DAC and DSI asset balances, which currently relate to our deferred annuity, universal life, and BOLI products, to capture the effect that certain key assumptions have on DAC asset balances. The sensitivity tests are performed independently, without consideration for any correlation among the key assumptions. The following depicts the sensitivities for our deferred annuity, universal life andBOLI DAC asset balances: if we changed our future lapse and withdrawal rate assumptions by a factor of 10%, the effect on the DAC asset balance is approximately$6.4 ; if we changed our future expense assumptions by a factor of 10%, the effect on the DAC asset balance is$0.4 . 60
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The following depicts the sensitivities for our DSI asset balance: if we changed our future lapse and withdrawal rate assumptions by a factor of 10%, the effect on the DSI asset balance is approximately$2.3 ; if we changed our future expense assumptions by a factor of 10%, the effect on the DSI asset balance is$0.2 . Subsequent to theJanuary 1, 2012 restatement of our DAC balance (discussed below), we expect the DAC and DSI asset balance to grow during 2012 as we write new business, and as this occurs, we expect the sensitivities discussed above to grow accordingly. In addition, depending on the amount and the type of new business written in the future, we may determine that other assumptions may produce significant variations in our financial results. We adjust the unamortized DAC and DSI balances for the accumulated effect of net unrealized gains or losses, which is recorded net of taxes in AOCI. This adjustment reflects the impact on estimated future gross profits as if the unrealized investment gains and losses had been realized as of the balance sheet date. Currently, our available-for-sale portfolio is in a net unrealized gain position, primarily due to the low interest rate environment, and the corresponding adjustment decreases our DAC and DSI balances and AOCI. In periods of rising interest rates, the fair value of our fixed maturities would generally decrease, and this may result in net unrealized investment losses. In such circumstances, the DAC and DSI adjustments would increase our DAC and DSI balances and increase AOCI. However, this adjustment is limited to cumulative capitalized acquisition costs plus interest, which would be$139.5 , net of taxes of$75.1 , in our Deferred Annuities segment and$11.6 , net of taxes of$6.2 , in our Life segment as ofDecember 31, 2011 . For DSI, this adjustment is limited to cumulative capitalized interest costs plus interest, which would be$51.5 , net of taxes of$27.7 .
Adoption of Accounting Standards Update (ASU)
During 2010, the FASB issued an ASU that limits deferrable acquisition costs to incremental costs directly related to the successful acquisition of an insurance contract. The standard does not change the methodology for amortizing DAC and does not impact the accounting for DSI. The adoption of this standard will result in more distribution, new business processing and underwriting costs being expensed as incurred and less amortization expense on a smaller DAC balance. Additionally, upon adoption, policy acquisition costs in our Benefits segment are no longer being deferred, as the application of the new standard to the short-duration contracts in this segment resulted in an immaterial net impact of deferral of acquisition costs. We retrospectively adopted this standard onJanuary 1, 2012 . The impact of adoption is not reflected in our consolidated financial statements included herein. In future financial statements issued after adoption, beginning with first quarter 2012, we will restate our financial information for all periods presented. The following table summarizes the impact of adoption: As of Restatement December 31, 2011 Upon Adoption Reduction (1) % Deferred policy acquisition costs (2) $ 215.4 $ 186.0 $ (29.4 ) (13.6 )% Book value 3,134.0 3,114.9 (19.1 ) (0.6 ) Adjusted book value 2,120.5 2,087.6 (32.9 ) (1.6 )
(1) The reductions in book value and adjusted book value are presented net of
taxes of
(2) Amounts are presented net of the accumulated effect of net unrealized
investment gains of$(203.6) ,$(182.3) and$21.3 , respectively. For the year ended Restatement December 31, 2011 Upon Adoption Reduction % Net income $ 199.6 $ 195.8 $ (3.8 ) (1.9 )%
Further, we expect this ASU will decrease 2012 net income and adjusted operating income by an amount comparable to the 2011 reduction in restated net income.
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The adoption of this standard in 2012 will not impact our deferral of commissions, premium taxes or premium-based assessments, as they are considered incremental direct costs and continue to be deferrable under the new guidance. For the year endedDecember 31, 2011 ,$89.9 , or approximately 75%, of our total$118.8 deferred acquisition costs was related to commissions, premium taxes and premium-based assessments. The most significant reduction in deferrals relates to costs for our wholesaler distribution structure. For the year endedDecember 31, 2011 , these accounted for$13.0 , or 11%, of total deferred acquisition costs. A significant portion of our wholesaler distribution expense is related to relationship management with key distributors such as financial institutions or BGAs. While we considered these activities critical to our distribution model, they do not meet the accounting standard criteria for direct contract selling activities and are not deferrable under the new standard. Upon adoption, we expect these deferrals will decrease by approximately 80%, which was$10.4 for the year endedDecember 31, 2011 . Future Policy Benefits We compute liabilities for future policy benefits under traditional individual life and group life insurance policies on the level premium method, which uses a level premium assumption to fund reserves. We select the level of premiums at issuance so that the actuarial present value of future benefits equals the actuarial present value of future premiums. We set the interest, mortality and persistency assumptions in the year of issue and include provisions for adverse deviations. These liabilities are contingent upon the death of the insured while the policy is in force. We derive mortality assumptions from both company-specific and industry statistics. We discount future benefits at interest rates that vary by year of policy issue. These interest rates are set initially at a rate consistent with portfolio rates at the time of issue, and grade to a lower rate, such as the statutory valuation interest rate, over time. Assumptions are made at the time each policy is issued, and do not change over time unless the liability amount is determined to be inadequate to cover future policy benefits. The provisions for adverse deviations are intended to provide coverage for the risk that actual experience may be worse than locked-in best-estimate assumptions. We periodically compare our actual experience with our estimates of actuarial liabilities for future policy benefits. To the extent that actual policy benefits differ from the reserves established for future policy benefits, such differences are recorded in the consolidated statements of income in the period in which the variances occur, which could result in a decrease in profits, or possibly losses. No revisions to assumptions within the future policy benefits liabilities have been necessary and therefore we have not experienced any significant impact in our financial results due to changes in assumptions.
Policy and Contract Claims
Liabilities for policy and contract claims primarily represent liabilities for claims under group medical coverages and are established on the basis of reported losses. We also provide for claims incurred but not reported, or IBNR, based on expected loss ratios, claims paying completion patterns and historical experience. We continually review estimates for reported but unpaid claims and IBNR. Any necessary adjustments are recorded in the consolidated statements of income in the period in which the variance occurs. If expected loss ratios increase or expected claims paying completion patterns extend, the IBNR amount increases. New Accounting Standards
For a discussion of recently adopted and not yet adopted accounting pronouncements, see Note 2 to the Consolidated Financial Statements.
Sources of Revenues and Expenses
Our primary sources of revenues from our insurance operations are premiums, net investment income and policy fees and contract charges. Our primary sources of expenses from our insurance operations are policyholder benefits and claims, interest credited to policyholder reserves and account balances, and general 62
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business and operating expenses, net of DAC. We allocate shared service operating expenses to each segment using multiple factors, including employee headcount, allocated investments, account values and time study results. We also generate net realized investment gains (losses) on sales or impairment of our investments and changes in fair value on our equity trading portfolio. Each of our four operating segments maintains its own portfolio of invested assets, which are managed in accordance with specific guidelines. The net investment income and realized investment gains (losses) are reported in the segment in which they occur. We also allocate surplus net investment income to each segment using a risk-based capital formula. The unallocated portion of net investment income is reported in the Other segment.
Revenues
Premiums
Premiums consist primarily of premiums from our medical stop-loss and individual term and whole life insurance products.
Net investment income
Net investment income represents the income earned on our investments, net of investment expenses, including prepayment related income such as bond make-whole payments. Net investment income also includes gains or losses from changes in the fair value of our investments in private equity fund limited partnerships and interest expense from amortization of tax credit investments.
Policy fees, contract charges and other
Policy fees, contract charges and other includes cost of insurance (COI) charges on our universal life insurance and BOLI policies, mortality expense, surrender and other administrative charges to policyholders, revenues from our non-insurance businesses, and reinsurance allowance fees.
Net realized investment gains (losses)
Net realized investment gains (losses) mainly consists of realized gains (losses) from sales of our investments, realized losses from investment impairments and changes in fair value on our trading portfolio and FIA options.
Benefits and Expenses
Policyholder benefits and claims
Policyholder benefits and claims consist of benefits paid and reserve activity on medical stop-loss and individual life and BOLI products.
Interest credited
Interest credited represents interest credited to policyholder reserves and contract holder general account balances, the impact of mortality and funding services activity within our Income Annuities segment, and the amortization of deferred sales inducement assets.
Other underwriting and operating expenses
Other underwriting and operating expenses represent non-deferrable costs related to the acquisition and ongoing maintenance of insurance and investment contracts, including certain non-deferrable commissions, policy issuance expenses and other business and administrative operating costs.
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Interest expense
Interest expense primarily includes interest on corporate debt, the impact of interest rate hedging activities on the debt and amortization of debt issuance costs.
Amortization of deferred policy acquisition costs
We defer as assets certain commissions, distribution costs and other underwriting costs, that vary with, and are primarily related to, the production of new and renewal business. Amortization of previously capitalized DAC is recorded as an expense.
Use of non-GAAP Financial Measures
Certain tables and related disclosures in this report include non-GAAP financial measures. We believe these measures provide useful information to investors in evaluating our financial performance or condition. The non-GAAP financial measures discussed below are not a substitute for their most directly comparable GAAP measures. The adjustments made to derive these non-GAAP measures are important to understanding our overall results of operations and financial position and, if evaluated without proper context, these non-GAAP measures possess material limitations. Therefore, our management and board of directors also separately review the items excluded from or added to the most directly comparable GAAP measures to arrive at these non-GAAP measures. In addition, management and our board of directors also analyze each of the comparable GAAP measures in connection with their review of our results of operations and financial position. Many of the non-GAAP measures, including adjusted book value, adjusted book value per common share, adjusted book value per common share, as converted, and operating ROAE are included specifically for the purpose of excluding AOCI from the GAAP measure stockholders' equity. We present each of these non-GAAP measures because we believe investors find useful financial measures that remove the temporary and unrealized changes in the fair values of our investments, and the related effects on AOCI. This allows investors to assess our financial condition based on our general practice of holding our fixed investments to maturity. For example, we believe it is important that an investor not assume that an increase in stockholders' equity driven by unrealized gains means our company has grown in value and alternatively, it is important that an investor not assume that a decrease in stockholders' equity driven by unrealized losses means our company's value has decreased.
In the following paragraphs, we provide definitions of our non-GAAP measures. For a reconciliation of these non-GAAP measures to their most directly comparable GAAP measures, see Item 6 - "Selected Financial Data".
Adjusted Operating Income, Pre-tax Adjusted Operating Income, Adjusted Operating Income per Common Share - Basic, and Adjusted Operating Income per Common Share - Diluted
Adjusted Operating Income and Pre-tax Adjusted Operating Income
Adjusted operating income consists of net income, less after-tax net realized investment gains (losses), plus after-tax net investment gains (losses) on our fixed indexed annuity (FIA) options. Net income is the most directly comparable GAAP measure to adjusted operating income. Net income for any period presents the results of our insurance operations, as well as our net realized investment gains (losses). We consider investment income generated by our invested assets to be part of the results of our insurance operations because they are acquired and generally held to maturity to generate income that we use to meet our obligations. Conversely, we do not consider the activities reported through net realized investment gains (losses), with the exception of our FIA options, to be reflective of the performance of our insurance operations, as discussed below.
Pre-tax adjusted operating income is adjusted operating income on a pre-tax basis. It also represents the cumulative total of segment pre-tax adjusted operating income, which at the segment level is a GAAP measure. Income from operations before income taxes is the most directly comparable GAAP measure to pre-tax adjusted operating income.
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We believe investors find it useful to review a measure of the results of our insurance operations separate from the gain and loss activity attributable to most of our investment portfolio because it assists an investor in determining whether our insurance-related revenues, composed primarily of premiums, net investment income and policy fees, contract charges and other, have been sufficient to generate operating earnings after meeting our insurance-related obligations, composed primarily of claims paid to policyholders, investment returns credited to policyholder accounts, and other operating costs. In presenting adjusted operating income, we are excluding after-tax net realized investment gains (losses). In presenting pre-tax adjusted operating income, we are excluding pre-tax net realized investment gains (losses). The timing and amount of these gains and losses are driven by investment decisions and external economic developments unrelated to our management of the insurance and underwriting aspects of our business. The one exception to the exclusion of realized investment gains and losses is the gains (losses) on our FIA options in our Deferred Annuities segment. Each year, we use the realized gains from our FIA options, similar to the way we use investment income, to meet our obligations associated with our FIA product, which credits interest to policyholder accounts based on equity market performance.
In addition to using adjusted operating income to evaluate our insurance operations, our management and board of directors have other uses for this measure, including managing our insurance liabilities and assessing achievement of our financial plan.
Adjusted Operating Income per Common Share - Basic and Adjusted Operating Income per Common Share - Diluted
Adjusted operating income per common share - basic, and adjusted operating income per common share - diluted, consist of adjusted operating income, divided by the GAAP-basis weighted average basic and diluted shares outstanding, respectively. Net income per common share - basic, and net income per common share - diluted, are the most directly comparable GAAP measures. See "Adjusted operating income" above, for an explanation of the differences between net income, which is the numerator for the GAAP measures, and adjusted operating income, the numerator for these non-GAAP measures. We believe investors find it useful to review a per share measure of the results of our insurance operations separate from the gain and loss activity attributable to most of our investment portfolio, in order to evaluate their proportionate stake in the earnings of the insurance operations. In addition to using adjusted operating income per common share - basic, and adjusted operating income per common share - diluted, to evaluate our insurance operations, our management and board of directors have other uses for this measure, including assessing achievement of our financial plan.
Adjusted Book Value and Adjusted Book Value per Common Share
Adjusted book value consists of stockholders' equity, less AOCI. Adjusted book value per common share is calculated as adjusted book value, divided by outstanding common shares. This measure does not include shares subject to outstanding warrants because the warrant holders only participate in dividends and would not be entitled to proceeds in the event of a liquidation or winding down of our company should such event precede the exercise of the outstanding warrants. Stockholders' equity is the most directly comparable GAAP measure to adjusted book value. AOCI, which is primarily composed of the net unrealized gains (losses) on our fixed maturities, net of taxes, is a component of stockholders' equity. Book value per common share is the most directly comparable GAAP measure to adjusted book value per common share. Book value per common share is calculated as stockholders' equity divided by the sum of our common shares outstanding and shares issuable pursuant to outstanding warrants. 65
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We purchase fixed maturities with durations and cash flows that match our estimate of when our insurance liabilities and other obligations will come due. We typically expect to hold our fixed maturities to maturity, using the principal and interest cash flows to pay our obligations over time. Since we expect to collect the contractual cash flows on these fixed maturities, we do not expect to realize the unrealized gains (losses) that are included in our AOCI balance as of any particular date. AOCI primarily fluctuates based on changes in the fair value of our fixed maturities, which is driven by factors outside of our control, including the movement of interest rates, credit spreads and the impact of credit market conditions. We believe investors find it useful if we present them with a financial measure that removes from stockholders' equity these temporary and unrealized changes in the fair values of our investments, and the related effects on AOCI. By evaluating our adjusted book value, an investor can assess our financial condition based on our general practice of holding our fixed investments to maturity. Additionally, by translating this measure into adjusted book value per common share, we allow the investor to assess its proportionate stake in our adjusted book value as of the dates presented, and the change in such measures over time. In addition to using adjusted book value and adjusted book value per common share to evaluate our financial condition, our management and board of directors have other uses for these measures, including reviewing debt levels as a percentage of adjusted book value to monitor compliance with revolving credit facility covenants and to evaluate and review our ratings from rating agencies. Finally, our board of directors uses adjusted book value as a basis to measure the success of our Company over historical periods and reviews management's financial plans based on the projected growth in adjusted book value.
Adjusted Book Value per Common Share, as converted
Adjusted book value, as converted consists of adjusted book value, plus the assumed proceeds from the exercise of outstanding warrants. This measure is used to calculate adjusted book value per common share, as converted which gives effect to the exercise of our outstanding warrants. Adjusted book value per common share, as converted, is calculated as adjusted book value plus the assumed proceeds from the warrants, divided by the sum of outstanding common shares and shares subject to outstanding warrants. It assumes a full cash exercise of the warrants, regardless of the stock price. Book value per common share is the most directly comparable GAAP measure and is calculated as stockholders' equity divided by the sum of our common shares outstanding and shares issuable pursuant to outstanding warrants. We believe investors find it useful if we present them with adjusted book value per common share, as converted, to remove AOCI from stockholders' equity and give effect to the exercise of our outstanding warrants. This allows the investor to assess its proportionate stake in our adjusted book value, while understanding the effect of the exercise of outstanding warrants, as of the dates presented, and the change in such measures over time, based on our practice of holding our fixed maturities to maturity. In addition to using adjusted book value per common share, as converted to evaluate our financial condition on a per common share basis, our management and board of directors use this measure to assess our financial performance and to compare the value and the change in value over time of our common shares to that of our peer companies. Operating ROAE Operating return on average equity, or operating ROAE, consists of adjusted operating income for the most recent four quarters, divided by average adjusted book value, both of which are non-GAAP measures as described above. We measure average adjusted book value by averaging adjusted book value for the most recent five quarters. 66
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Return on stockholders' equity, or ROE, is the most directly comparable GAAP measure. Return on stockholders' equity for the most recent four quarters is calculated as net income for such period divided by the average stockholders' equity for the most recent five quarters. We believe investors find it useful to review the results of our insurance operations separate from the gain and loss activity attributable to most of our investment portfolio because it highlights trends in the performance of our insurance operations. In addition, we believe investors find it useful if we present them with a financial measure that removes from stockholders' equity the temporary and unrealized changes in the fair values of our investments, and the related effects on AOCI, because we do not expect to realize the unrealized gains (losses) that are included in our AOCI balance as of any particular date. By referring to operating ROAE, an investor can form a judgment as to how effectively our management uses funds invested by our stockholders to generate adjusted operating income growth. Thus, we present operating ROAE for a period to measure the rate of return produced by our adjusted operating income in such period based on our average adjusted book value for such period. 67
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Results of Operations
The following discussion should be read in conjunction with our consolidated financial statements and related Notes.
Set forth below is a summary of our consolidated financial results. The variances noted in the total company and segment tables should be interpreted as increases and (decreases), respectively.
Years Ended December 31, Variance (%) 2011 2010 2009 2011 vs. 2010 2010 vs. 2009 Revenues: Premiums $ 540.5 $ 473.0 $ 470.1 14.3 % 0.6 % Net investment income 1,270.9 1,199.4 1,113.6 6.0 7.7 Policy fees, contract charges, and other 180.7 166.3 159.9 8.7 4.0 Net realized investment gains (losses): Net impairment losses recognized in earnings (14.1 ) (20.9 ) (86.5 ) 32.5 75.8 Other net realized investment gains 21.1 60.7 57.2 (65.2 ) 6.1 Total net realized investment gains (losses) 7.0 39.8 (29.3 ) (82.4 ) * Total revenues 1,999.1 1,878.5 1,714.3 6.4 9.6 Benefits and expenses: Policyholder benefits and claims 381.4 335.1 350.5 13.8 (4.4 ) Interest credited 925.9 899.5 846.8 2.9 6.2 Other underwriting and operating expenses 296.1 256.7 252.7 15.3 1.6 Interest expense 32.1 31.9 31.8 0.6 0.3 Amortization of deferred policy acquisition costs 84.6 66.2 51.4 27.8 28.8 Total benefits and expenses 1,720.1 1,589.4 1,533.2 8.2 3.7 Income from operations before income taxes 279.0 289.1 181.1 (3.5 ) 59.6 Total provision for income taxes 79.4 88.2 52.8 (10.0 ) 67.0 Net income $ 199.6 $ 200.9 $ 128.3 (0.6 )% 56.6 % Net income per common share (1): Basic $ 1.45 $ 1.48 $ 1.15 (2.0 )% 28.7 % Diluted $ 1.45 $ 1.48 $ 1.15 (2.0 ) 28.7 Weighted-average common shares outstanding: Basic 137.491 135.609 111.622 1.4 21.5 Diluted 137.503 135.618 111.626 1.4 21.5 Non-GAAP Financial Measures: Adjusted operating income $ 194.1 $ 175.2 $ 147.9 10.8 % 18.5 % Adjusted operating income per common share: Basic $ 1.41 $ 1.29 $ 1.32 9.3 % (2.3 )% Diluted $ 1.41 $ 1.29 $ 1.32 9.3 (2.3 ) Reconciliation to net income: Net income $ 199.6 $ 200.9 $ 128.3 (0.6 ) 56.6 Less: Net realized investment gains (losses) (net of taxes of $2.4, $13.9 and $(10.2)) 4.6 25.9 (19.1 ) (82.2 ) * Add: Net investment gains (losses) on FIA options (net of taxes of $(0.5), $0.1 and $0.3) (0.9 ) 0.2 0.5 * (60.0 ) Adjusted operating income $ 194.1 $ 175.2 $ 147.9 10.8 % 18.5 % 68
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* Represents percentage variances that are not meaningful or are explained
through the discussion of other variances.
(1) Basic and diluted net income per common share includes all participating
securities, such as warrants and unvested restricted shares, based on the
application of the two-class method. Diluted net income per common share also
includes the dilutive impact of non-participating securities, such as stock
options and shares estimated to be issued under the employee stock purchase
plan, based on application of the treasury stock method. Antidilutive awards
were excluded from the computation of diluted net income per share.
The following table sets forth pre-tax adjusted operating income, by segment: Years Ended December 31, Variance (%) 2011 2010 2009 2011 vs. 2010 2010 vs. 2009 Segment pre-tax adjusted operating income (loss): Benefits $ 79.2 $ 71.6 $ 55.4 10.6 % 29.2 % Deferred Annuities 102.1 81.3 58.6 25.6 38.7 Income Annuities 35.1 33.2 42.4 5.7 (21.7 ) Life 64.9 74.9 66.3 (13.4 ) 13.0 Other (10.7 ) (11.4 ) (11.5 ) 6.1 0.9 Pre-tax adjusted operating income (1) $ 270.6 $ 249.6 $ 211.2 8.4 18.2 Add: Net realized investment gains (losses), excluding FIA options 8.4 39.5 (30.1 ) (78.7 ) * Income from operations before income taxes $ 279.0 $ 289.1 $ 181.1 (3.5 )% 59.6 %
* Represents percentage variances that are not meaningful or are explained
through the discussion of other variances.
(1) Represents a non-GAAP measure. For a definition of this measure, see - "Use
of non-GAAP Financial Measures."
Year Ended
Summary of Results
Net income decreased$1.3 as a result of lower net realized investment gains partially offset by higher pre-tax adjusted operating income. In addition, the provision for income taxes decreased$8.8 primarily due to lower pre-tax income and an increase in tax credits, which drove a lower effective tax rate, 28.5% for the year endedDecember 31, 2011 compared to 30.5% for 2010. Net realized investment gains decreased$32.8 . This was driven by net equity losses related to fair value declines, partially offset by lower impairments of$6.8 . Net equity losses were$(9.1) in 2011, compared to net gains of$32.6 for the same period in 2010. For further discussion of our investment results and portfolio, including a discussion of our impairment losses, refer to "- Investments" below.
Further discussion of pre-tax adjusted operating income drivers:
Pre-tax adjusted operating income increased on higher profitability in three of our four operating segments. Included in our 2011 segment results is$23.0 of net investment income, received mainly in the fourth quarter of 2011, related to investment prepayments (primarily bond make-whole premiums from investments in our Deferred Annuities and Life segments, and our prepayment speed adjustment), offset by related DAC and DSI unlocking expenses totaling$4.8 . This compares to$14.5 of prepayment related income in 2010. In addition, other underwriting and operating expenses increased$39.4 over prior year levels, primarily due to higher employee-related expenses and professional services expenses, including costs related to our Grow and Diversity initiatives, as well as operational expenses related to the American United Life (AUL) business (discussed further below). 69
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Our Benefits segment's profitability increased$7.6 due to an improved stop-loss loss ratio on a larger block of medical stop-loss business. OnJuly 1, 2011 , we assumed medical stop-loss policies from AUL and acquired the renewal rights for their stop-loss business. The AUL transaction accounts for the majority of the increase in premiums and policyholder benefits and claims. For the full year 2011, the loss ratio decreased to 63.1%, from 64.9%, in 2010. Our Deferred Annuities segment's profitability increased$20.8 as our account values grew to$10.6 billion , resulting in a$35.8 increase in the investment margin (net investment income less interest credited). Also contributing to the increase was$9.2 of investment prepayment related income, net of DAC and DSI unlocking. The increase in fixed account values also drove an offsetting$13.4 increase in DAC amortization. Our Income Annuities segment's profitability increased$1.9 on mortality gains and funding services activity that more than offset the impact of lower reserves and lower prepayment speed adjustment income on mortgage-backed securities (MBS). Our Life segment's profitability decreased$10.0 primarily due to the favorable impact of a$7.4 reserve release in the first quarter of 2010 and a$3.6 increase in individual claims. These items were partially offset by increased income on higher BOLI account values and$5.0 of investment prepayment related income.
Year Ended
Summary of Results
Net income increased$72.6 as a result of net realized investment gains and higher pre-tax adjusted operating income, which also led to an increase in our tax provision. Pre-tax adjusted operating income increased on higher profitability in three of our four operating segments as discussed below in more detail. Net realized investment gains (losses) increased$69.1 to a$39.8 net gain from a$(29.3) net loss. This was primarily driven by a reduction in impairments, which were$20.9 for the year endedDecember 31, 2010 , versus$86.5 for the same period in 2009, an improvement of$65.6 . For further discussion of our investment results and portfolio refer to "- Investments" below. The provision for income taxes increased$35.4 primarily due to higher income from operations before income taxes during the year endedDecember 31, 2010 , compared to the same period in 2009. Our effective tax rate was 30.5% and 29.2%, for the years endedDecember 31, 2010 and 2009, respectively.
Further discussion of pre-tax adjusted operating income drivers:
Our Benefits segment's profitability increased$16.2 as our loss ratio improved to 64.9% for the year endedDecember 31, 2010 from 68.3% for the same period in 2009. This improvement was driven by medical stop-loss pricing increases initiated in late 2009, and improved limited benefit medical underwriting results on increased premiums. Our Deferred Annuities segment's profitability increased$22.7 as the investment margin increased$38.2 on a$1.6 billion increase in our fixed account values, driven by strong sales for the three years ended 2010. Partially offsetting the increase in the investment margin was a$16.0 increase in DAC amortization also related to the increase in fixed account values as our DAC balances grew from increased sales.
Our Income Annuities segment's results decreased
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Our Life segment's profitability increased$8.6 on impacts related to decreased individual insurance claims. Life's results for the year endedDecember 31, 2010 also included a$7.4 benefit related to the release of bonus interest reserves and decreased amortization of deferred acquisition costs as the credited interest rate on our universal life products was adjusted downward to the guaranteed minimum over 2010. This was partially offset by a decrease in the BOLI return on assets (ROA) driven by a decrease in the PGAAP reserve amortization, and an increase in BOLI general account claims.
Division Operating Results
The results of operations and selected operating metrics for our five segments (Benefits, Deferred Annuities, Income Annuities, Life and Other) for the years endedDecember 31, 2011 , 2010 and 2009 are set forth in the following respective sections. Benefits The following table sets forth the results of operations relating to our Benefits segment: Years Ended December 31, Variance (%) 2011 2010 2009 2011 vs. 2010 2010 vs. 2009 Operating revenues: Premiums $ 501.1 $ 433.2 $ 432.2 15.7 % 0.2 % Net investment income 18.1 18.7 17.8 (3.2 ) 5.1 Policy fees, contract charges, and other 14.1 11.7 14.9 20.5 (21.5 ) Total operating revenues 533.3 463.6 464.9 15.0 (0.3 ) Benefits and expenses: Policyholder benefits and claims 316.1 281.3 295.4 12.4 (4.8 ) Other underwriting and operating expenses 129.8 102.6 106.2 26.5 (3.4 ) Amortization of deferred policy acquisition costs 8.2 8.1 7.9 1.2 2.5 Total benefits and expenses 454.1 392.0 409.5 15.8 (4.3 ) Segment pre-tax adjusted operating income $ 79.2 $ 71.6 $ 55.4 10.6 % 29.2 %
The following table sets forth selected historical operating metrics relating to our Benefits segment as of, or for the years ended:
December 31, 2011 2010 2009 Loss ratio (1) 63.1 % 64.9 % 68.3 % Expense ratio (2) 26.5 24.7 24.5 Combined ratio (3) 89.6 89.6 92.8 Medical stop-loss - loss ratio (4) 64.7 66.6 69.8 Total sales (5) $ 118.7 $ 95.5 $ 91.3
(1) Loss ratio represents policyholder benefits and claims incurred divided by
premiums earned.
(2) Expense ratio is equal to other underwriting and operating expenses of our
insurance operations and amortization of DAC divided by premiums earned.
(3) Combined ratio is equal to the sum of the loss ratio and the expense ratio.
(4) Medical stop-loss - loss ratio represents medical stop-loss policyholder
benefits and incurred claims divided by medical stop-loss premiums earned.
(5) Total sales represents annualized first-year premiums net of first year
policy lapses. 71
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Year Ended
Summary of Results
Segment pre-tax adjusted operating income increased$7.6 , primarily the result of an improved loss ratio and the AUL transaction. For the year endedDecember 31, 2011 , the loss ratio improved to 63.1%, compared to 64.9% for the same period in 2010, which was driven by a focus on pricing discipline during our 2010 and 2011 policy year renewals.
In addition to the drivers discussed above, we consider the following information regarding operating revenues and benefits and expenses useful in understanding our results.
Operating Revenues Premiums increased$67.9 driven by the AUL transaction and a$9.2 increase in limited benefit medical premiums, a result of higher sales. Policy fees, contract charges, and other increased$2.4 primarily due to growth in our MGU business. Benefits and Expenses Policyholder benefits and claims increased$34.8 primarily driven by the AUL transaction. Overall, the loss ratio decreased from 2010, which reflects a lower frequency and severity of claims as well as our pricing discipline during our 2010 and 2011 policy year renewals. The increase in other underwriting and operating expenses of$27.2 was primarily related to the AUL transaction. Also contributing to the increase were higher employee related costs, increased commissions and$3.0 of expenses related to the expansion of our group life and disability operations as part of the Grow & Diversify strategy.
Year Ended
Summary of Results
Segment pre-tax adjusted operating income increased$16.2 as a result of an improved loss ratio, reflecting medical stop-loss pricing actions initiated in late 2009. In addition, we experienced an overall decrease in the number of medical stop-loss claims, as well as strong underwriting results on our limited benefit medical product.
In addition to the drivers discussed above, we consider the following information regarding operating revenues and benefits and expenses useful in understanding our results.
Operating Revenues
Policy fees, contract charges, and other decreased
Benefits and Expenses
The
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Deferred Annuities
The following table sets forth the results of operations relating to our Deferred Annuities segment: Years Ended December 31, Variance (%) 2011 2010 2009 2011 vs. 2010 2010 vs. 2009 Operating revenues: Net investment income $ 527.6 $ 462.9 $ 388.0 14.0 % 19.3 % Policy fees, contract charges, and other 20.3 19.3 16.8 5.2 14.9 Net investment gains (losses) on FIA options (1.4 ) 0.3 0.8 * (62.5 ) Total operating revenues 546.5 482.5 405.6 13.3 19.0 Benefits and expenses: Policyholder benefits and claims 0.2 0.1 (2.2 ) 100.0 * Interest credited 322.5 293.6 256.9 9.8 14.3 Other underwriting and operating expenses 55.9 55.1 55.9 1.5 (1.4 ) Amortization of deferred policy acquisition costs 65.8 52.4 36.4 25.6 44.0 Total benefits and expenses 444.4 401.2 347.0 10.8 15.6 Segment pre-tax adjusted operating income $ 102.1 $ 81.3 $ 58.6 25.6 % 38.7 %
* Represents percentage variances that are not meaningful or are explained
through the discussion of other variances.
The following table sets forth selected historical operating metrics relating to our Deferred Annuities segment as of, or for the years ended:
December 31, 2011 2010 2009
Account values - Fixed annuities
Account values - Variable annuities 713.8 791.1 755.7 Interest spread (1) 1.94 % 1.87 % 1.81 % Base interest spread (2) 1.82 % 1.80 % 1.80 % Total sales (3) $ 1,815.3 $ 1,810.7 $
2,228.4
(1) Interest spread is the difference between the net investment yield and the
credited rate to policyholders. The net investment yield is the approximate
yield on invested assets in the general account attributed to the segment.
The credited rate is the approximate rate credited on policyholder fixed
account values. Interest credited is subject to contractual terms, including
minimum guarantees.
(2) Base interest spread is the interest spread adjusted to exclude items that
can vary significantly from period to period due to a number of factors and,
therefore, may contribute to yields that are not indicative of the underlying
trends. This is primarily the impact of asset prepayments, such as bond make
whole premiums, net of any related deferred sales inducement unlocking, and
the MBS prepayment speed adjustment.
(3) Total sales represent deposits for new policies net of first year policy
lapses and/or surrenders.
Year Ended
Summary of Results
Segment pre-tax adjusted operating income increased$20.8 primarily driven by higher fixed annuities account values, which increased$1.4 billion to$10.6 billion . Also contributing to the increase in income was$9.2 of investment prepayment related income, net of unlocking, the majority of which was received in the fourth 73
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quarter of 2011. As a result of the low interest rate environment, fixed maturity yields decreased; however, base interest spreads were slightly higher year-over-year, reflecting disciplined pricing on new business and management of renewal crediting rates on existing business.
In addition to the drivers discussed above, we consider the following information regarding operating revenues and benefits and expenses useful in understanding our results.
Operating Revenues
Net investment income increased
Benefits and Expenses
Interest credited increased$28.9 , primarily due to a$1.4 billion increase in fixed annuities account values. The higher account values also led to a$13.4 increase in DAC amortization. Included in the interest credited and DAC amortization increases is$4.8 of DAC and DSI unlocking expense recorded in the fourth quarter of 2011 related to the investment prepayment income, offset by a$2.5 benefit from DAC unlocking in the third quarter of 2011.
Year Ended
Summary of Results
Segment pre-tax adjusted operating income increased$22.7 driven by an increase in fixed account values and$4.9 of additional investment prepayment related income received in 2010, resulting in an increased investment margin. This was partially offset by an increase in DAC amortization which is also related to an increase in account value driven by higher sales.
In addition to the drivers discussed above, we consider the following information regarding operating revenues and benefits and expenses useful in understanding our results.
Operating Revenues Net investment income increased$74.9 , which was driven by a$1.5 billion increase in average invested assets from increased fixed annuities account values. Further growth of net investment income was limited in 2009 and, to a lesser extent, 2010 as sales during a tight credit market resulted in us carrying higher cash balances, which earn lower yields than we would during more normal economic periods. During 2010, we began investing in U.S. Treasury securities as a strategy to help reduce cash levels and increase yields. Policy fees, contract charges, and other increased$2.5 primarily due to higher in force account values. Fees from our variable annuities increased$1.5 due to improved market conditions resulting in an increase in our variable annuities account values. The remaining increase is primarily due to an increase in surrender charges on higher withdrawals, which was expected given the growth in account values. Benefits and Expenses Interest credited increased$36.7 primarily due to a$1.6 billion increase in fixed account values driven by strong sales of fixed deferred annuity products in 2008 through 2010.
Amortization of DAC increased
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Income Annuities
The following table sets forth the results of operations relating to our Income Annuities segment: Years Ended December 31, Variance (%) 2011 2010 2009 2011 vs. 2010 2010 vs. 2009 Operating revenues: Net investment income $ 413.1 $ 422.7 $ 422.4 (2.3 )% 0.1 % Policy fees, contract charges, and other 1.8 0.8 0.5 * 60.0 Total operating revenues 414.9 423.5 422.9 (2.0 ) 0.1 Benefits and expenses: Interest credited 353.0 366.3 357.9 (3.6 ) 2.3 Other underwriting and operating expenses 24.3 22.0 21.0 10.5 4.8 Amortization of deferred policy acquisition costs 2.5 2.0 1.6 25.0 25.0 Total benefits and expenses 379.8 390.3 380.5 (2.7 ) 2.6 Segment pre-tax adjusted operating income $ 35.1 $ 33.2 $ 42.4 5.7 % (21.7 )%
* Represents percentage variances that are not meaningful or are explained
through the discussion of other variances.
The following table sets forth selected historical operating metrics relating to our Income Annuities segment as of, or for the years ended:
December 31, 2011 2010 2009 Reserves (1) $ 6,608.3 $ 6,676.8 6,726.3
Interest spread (2) 0.53 % 0.57 % 0.53 % Base interest spread (3) 0.50 0.49 0.49 MBS prepayment speed adjustment (4) $ 1.2 $ 3.0 $ 2.4 Mortality gains (losses) (5) 0.3 (2.6 ) 5.1 Total sales (6) 221.9 260.0 251.8
(1) Reserves represent the present value of future income annuity benefits and
assumed expenses, discounted by the assumed interest rate. This metric
represents the amount of our in-force book of business.
(2) Interest spread is the difference between the net investment yield and the
credited rate to policyholders. The net investment yield is the approximate
yield on invested assets in the general account attributed to the segment.
The credited rate is the approximate rate credited on policyholder reserves.
(3) Base interest spread is the interest spread adjusted to exclude items that
can vary significantly from period to period due to a number of factors and,
therefore, may contribute to yields that are not indicative of the underlying
trends. This is primarily the impact of asset prepayments, such as bond make
whole premiums and the MBS prepayment speed adjustment.
(4) MBS prepayment speed adjustment is the impact to net investment income due to
the change in prepayment speeds on the underlying collateral of
mortgage-backed securities.
(5) Mortality gains (losses) represents the difference between actual and
expected reserves released on our life contingent annuities.
(6) Total sales represent deposits for new policies net of first year policy lapses and/or surrenders. 75
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Year Ended
Summary of Results
Segment pre-tax adjusted operating income increased$1.9 on mortality gains and funding services activity that more than offset the impact of lower reserves and lower MBS prepayment speed adjustment income. In addition to the driver discussed above, we consider the following information regarding operating revenues and benefits and expenses useful in understanding our results. Operating Revenues Net investment income decreased$9.6 due to declines in average invested assets on lower reserves and lower year-over-year investment prepayment related income. In addition, we experienced lower investment yields on fixed maturity purchases and mortgage loan originations.
Benefits and Expenses
Interest credited decreased$13.3 due to favorable changes in mortality experience, increased funding services activity and lower reserves. We experienced mortality gains of$0.3 for 2011, compared to losses of$2.6 for 2010. Funding services increased$5.9 during 2011 driven by an increase in the number of cases factored.
Year Ended
Summary of Results
Segment pre-tax adjusted operating income decreased$9.2 primarily due to mortality losses of$2.6 for the year endedDecember 31, 2010 compared to mortality gains of$5.1 for the same period in 2009. In addition, we experienced a$3.9 decrease in the benefit from funding services activity. This was offset by improvement in the interest spread from increased originations of mortgage loans and a reduction in interested credited.
In addition to the drivers discussed above, we consider the following information regarding operating revenues and benefits and expenses useful in understanding our results.
Operating Revenues Net investment income increased slightly, the net effect of$5.8 of additional income from mortgage loans offset by a$5.5 reduction due to a smaller fixed maturities portfolio related to decreased reserves. The increase in income from mortgage loans was due to increased originations, which increased our average assets invested in mortgage loans in this segment by$74.9 to $386.4 .
Benefits and Expenses
Interest credited increased$8.4 primarily driven by a$7.7 unfavorable fluctuation in our mortality experience as we experienced mortality losses of$2.6 in 2010 versus mortality gains of$5.1 in 2009. The gains from the first quarter of 2009 were the highest quarterly mortality gains we have experienced over the past five years. In addition, the$3.9 reduction in benefit from funding services activity was driven by a decrease in the number of cases factored due to strong competition in this market. Offsetting these increases was a$3.1 reduction in interest credited due to lower reserves. 76
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Life
The following table sets forth the results of operations relating to our Life segment: Years Ended December 31, Variance (%) 2011 2010 2009 2011 vs. 2010 2010 vs. 2009 Operating revenues: Premiums $ 39.4 $ 39.8 $ 37.9 (1.0 )% 5.0 % Net investment income 288.5 271.3 265.2 6.3 2.3 Policy fees, contract charges, and other 124.1 118.3 116.7 4.9 1.4 Total operating revenues 452.0 429.4 419.8 5.3 2.3 Benefits and expenses: Policyholder benefits and claims 65.1 53.7 57.3 21.2 (6.3 ) Interest credited 253.0 242.7 235.3 4.2 3.1 Other underwriting and operating expenses 60.9 54.4 55.4 11.9 (1.8 ) Amortization of deferred policy acquisition costs 8.1 3.7 5.5 * (32.7 ) Total benefits and expenses 387.1 354.5 353.5 9.2 0.3 Segment pre-tax adjusted operating income $ 64.9 $ 74.9 $ 66.3 (13.4 )% 13.0 %
* Represents percentage variances that are not meaningful or are explained
through the discussion of other variances.
The following table sets forth selected historical operating metrics relating to our Life segment as of, or for the years ended:
December 31, 2011 2010 2009
Individual insurance:
Individual insurance in force (1)
Individual claims (2) 54.3 50.7 $ 53.5 Annualized mortality rate (3) 0.15 % 0.13 % 0.14 % UL account value (4) $ 678.9 $ 607.0 583.8 UL interest spread (5) 1.31 % 1.50 % 1.20 % Individual sales (6) $ 11.7 $ 10.2 $ 10.5 BOLI: BOLI insurance in force (1) $ 12,584.0 $ 12,667.5 11,346.6 BOLI account value (4) 4,491.5 4,365.4 3,789.1 BOLI ROA (7) 1.02 % 1.03 % 1.08 % BOLI base ROA (8) 0.98 % 0.97 % 1.04 % BOLI sales (9) $ - $ 46.1 $ 2.5
(1) Insurance in force represents dollar face amounts of policies without
adjustment for reinsurance.
(2) Individual claims represents incurred claims, net of reinsurance, on our term
and universal life policies.
(3) Annualized mortality rate is defined as annualized individual claims divided
by insurance in force.
(4) UL account value and BOLI account value represent our liabilities to our
policyholders.
(5) UL interest spread is the difference between the net investment yield and the
credited rate to policyholders. The net investment yield is the approximate
yield on invested assets in the general account attributed to UL policies.
The credited rate is the approximate rate credited on UL policyholder fixed
account values. Interest credited is subject to contractual terms, including
minimum guarantees. The UL interest spread is decreasing as the SPL product
becomes a larger portion of the total UL account value. The SPL product's
cost of insurance and mortality and expense fee revenue is not reflected in
the interest spread. The credited rate to 77
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policyholders for the year ended
exclude UL reserve adjustments. Without these adjustment, the 2011 and 2010
UL interest spreads would have been 1.04% and 2.50%, respectively.
(6) Individual sales represents annualized first year premiums for recurring
premium products, and 10% of new single premium deposits net of first year
policy lapses and/or surrenders.
(7)
metric is calculated as the difference between our BOLI revenue earnings rate
and our BOLI policy benefits rate. The revenue earnings rate is calculated as
revenues divided by average invested assets. The policy benefits rate is
calculated as total policy benefits divided by average account value. The
policy benefits used in this metric do not include expenses.
(8) BOLI base ROA is
significantly from period to period due to a number of factors and,
therefore, may contribute to yields that are not indicative of the underlying
trends. This is primarily the impact of asset prepayments, such as bond make
whole premiums, the MBS prepayment speed adjustment, and reserve adjustments.
(9) BOLI sales represent 10% of new BOLI total deposits.
Year Ended
Summary of Results
Segment pre-tax adjusted operating income decreased$10.0 primarily due to a$7.4 reserve release in the first quarter of 2010 causing a reduction in benefits and expenses. In addition, year-over-year individual claims were higher and we recorded unfavorable reserve modifications in 2011. Also contributing to the decrease was an increase in other underwriting and operating expenses due primarily to expenses related to our Grow & Diversify initiative and employee-related expenses. These items were partially offset by increased income on higher BOLI account values and investment prepayment related income.
In addition to the drivers discussed above, we consider the following information regarding operating revenues and benefits and expenses useful in understanding our results.
Operating Revenues Net investment income increased$17.2 due to an increase in average invested assets, primarily related to higher BOLI account values which grew from strong persistency and sales in the fourth quarter of 2010, and$5.0 of investment prepayment related income received primarily in the fourth quarter of 2011, compared to$3.1 in 2010.
Benefits and Expenses
Benefits and expenses increased$32.6 partially due to a bonus reserve decrease in 2010, which reduced total benefits and expenses by$7.4 , which included the impact on DAC amortization. Excluding the effects of the bonus reserve decrease, interest credited and policyholder benefits and claims increased$15.7 . This was primarily due to an increase in BOLI account value, which also contributed to an increase in DAC amortization. Reserve modifications reduced policyholder benefits and claims by$2.1 and increased interest credited$4.0 , for a net impact of$1.9 . In addition, other underwriting and operating expenses increased$6.5 due primarily to employee-related expenses.
Year Ended
Summary of Results
Segment pre-tax adjusted operating income increased$8.6 primarily due to a$2.8 reduction in individual insurance claims, and a$7.4 benefit related to a 2010 first quarter credited rate reduction, discussed in further detail below. 78
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In addition to the drivers discussed above, we consider the following information regarding operating revenues and benefits and expenses useful in understanding our results.
Operating Revenues
Premiums increased
Net investment income increased
Benefits and Expenses
Due to the low interest rate environment, the credited interest rate on a universal life product was adjusted downward beginning first quarter 2010 to the guaranteed minimum rate. For this product, bonus interest is not earned if the credited rate is equal to the guaranteed minimum. As a result, during the first quarter of 2010, we released bonus interest reserves of$6.0 recorded in policyholder benefits and claims, benefited from a$1.7 reduction in DAC amortization due to the unlocking of future assumptions and recorded a$(0.3) adjustment to policy fees, contract charges and other. In addition, policyholder benefits and claims decreased due to individual insurance claims, decreasing$2.8 .
Interest credited increased
Other
The following table sets forth the results of operations relating to our Other segment: Years Ended December 31, Variance (%) 2011 2010 2009 2011 vs. 2010 2010 vs. 2009 Operating revenues: Net investment income $ 23.6 $ 23.8 $ 20.2 (0.8 )% 17.8 % Policy fees, contract charges, and other 20.4 16.2 11.0 25.9 47.3 Total operating revenues 44.0 40.0 31.2 10.0 28.2 Benefits and expenses: Interest credited (2.6 ) (3.1 ) (3.3 ) 16.1 6.1 Other underwriting and operating expenses 25.2 22.6 14.2 11.5 59.2 Interest expense 32.1 31.9 31.8 0.6 0.3 Total benefits and expenses 54.7 51.4 42.7 6.4 20.4 Segment pre-tax adjusted operating loss $ (10.7 ) $ (11.4 ) $ (11.5 ) 6.1 % 0.9 %
Year Ended
Summary of Results
Our Other segment's pre-tax adjusted operating loss of$(10.7) for the year endedDecember 31, 2011 improved$0.7 from a loss of$(11.4) for the same period in 2010. Policy fees, contract charges, and other increased$4.2 due to higher broker-dealer concession revenue and advisory fees, which were partially offset by a$3.2 increase in related commissions. 79
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Year Ended
Summary of Results
Our Other segment reported pre-tax adjusted operating losses of$(11.4) and$(11.5) for the years endedDecember 31, 2010 and 2009, respectively. Contributing to the 2010 losses were other underwriting and operating expenses, which increased$8.4 due to$3.4 of transition expenses, primarily severance, related to the change in our CEO and other management positions in 2010. The remaining increase relates to higher broker-dealer commission expense on higher sales, which is offset by a$5.2 increase in policy fees, contract charges, and other. The$3.6 increase in net investment income was due to an increase in invested assets in the surplus portfolio, offset by a decrease in private equity and hedge fund income. Investments Our investment portfolio is structured with the objective of supporting the expected cash flows of our liabilities and producing stable returns over the long term. The composition of our portfolio reflects our asset management philosophy of protecting principal and receiving appropriate reward for risk. Our investment portfolio mix as ofDecember 31, 2011 consisted in large part of high quality fixed maturities and commercial mortgage loans we originated, as well as a smaller allocation of high yield fixed maturities, marketable equity securities, investments in limited partnerships (primarily tax credit investments and private equity funds) and other investments. Our marked-to-market portfolio of equity securities, also referred to as our equity investments, support investment strategies, as well as asset and liability matching strategies for certain long-duration insurance products. The equity investments include common stock, investments in REITs, and convertible bonds. We believe that prudent levels of equity investments offer enhanced long term, after-tax total returns to support a portion of our longest duration liabilities.
The following table presents the composition of our investment portfolio:
As of December 31, 2011 As of December 31, 2010 Amount % of Total Amount % of Total Types of Investments Fixed maturities, available-for-sale: Public $ 21,968.8 83.9 % $ 20,388.9 86.8 % Private 936.4 3.6 892.9 3.8 Marketable equity securities, available-for-sale (1) 50.3 0.2 45.1 0.2 Marketable equity securities, trading (2) 381.7 1.4 189.3 0.8 Mortgage loans, net 2,517.6 9.6 1,713.0 7.3 Policy loans 69.0 0.3 71.5 0.3 Investments in limited partnerships (3): Private equity funds 27.8 0.1 36.5 0.1 Tax credit investments 199.1 0.8 150.4 0.6 Other invested assets 21.0 0.1 12.6 0.1 Total $ 26,171.7 100.0 % $ 23,500.2 100.0 %
(1) Primarily includes non-redeemable preferred stock.
(2) Includes investments in common stock, including REITs.
(3) Investments in private equity funds are carried at fair value, while our
limited partnership interests related to tax credit investments are carried
at amortized cost.
The increase in invested assets during the year endedDecember 31, 2011 is primarily due to portfolio growth generated by sales of fixed deferred annuities and a net increase in the fair value of our fixed maturities. As ofDecember 31, 2011 we had net unrealized gains of$1.8 billion on our fixed maturities compared with$865.3 of net unrealized gains as ofDecember 31, 2010 . Contributing to the increase in net unrealized gains is a rise in market prices on older, higher-yielding fixed maturities in the current lower yield environment. 80
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Table of Contents Investment Returns Net Investment Income Return on invested assets is an important element of our financial results. The following table sets forth the income yield and net investment income, excluding realized investment gains (losses) for each major investment category: For the Years Ended December 31, 2011 2010 2009 Yield (1) Amount
Yield (1) Amount Yield (1) Amount Types of Investments Fixed maturities, available-for-sale 5.51 %
5.72 % $ 1,119.9 5.89 % $ 1,048.1 Marketable equity securities, available-for-sale 6.45 3.4 6.44 3.4 6.43 3.4 Marketable equity securities, trading 2.57 7.7 1.84 3.0 1.60 2.5 Mortgage loans, net 6.40 133.3 6.44 89.1 6.35 67.4 Policy loans 4.86 3.4 5.93 4.3 5.90 4.4 Investments in limited partnerships: Private equity and hedge funds 15.21 4.4 15.64 5.4 15.52 8.9 Affordable housing (2) (6.59 ) (14.1 )
(6.59 ) (9.7 ) (8.42 ) (9.0 ) Other income producing assets (3)
1.95 6.3 1.22 4.9 1.53 7.5 Gross investment income before investment expenses 5.41 1,296.3 5.59 1,220.3 5.72 1,133.2 Investment expenses (0.11 ) (25.4 ) (0.10 ) (20.9 ) (0.10 ) (19.6 ) Net investment income 5.30 % $ 1,270.9 5.49 % $ 1,199.4 5.62 % $ 1,113.6
(1) Yields are determined based on monthly averages calculated using beginning
and end-of-period balances. Yields for fixed maturities and private equity
funds are based on amortized cost. Yields for equity securities are based on
cost. Yields for all other asset types are based on carrying values.
(2) The negative yield from affordable housing investments is offset by U.S.
federal income tax benefits. The total impact to net income was
and
(3) Other income producing assets includes other invested assets, short-term
investments and cash and cash equivalents.
For the year endedDecember 31, 2011 net investment income increased 6.0% compared to 2010. This increase was driven by higher invested assets on strong sales of our fixed deferred annuities in 2009 through 2011. The income increase driven by growth in invested assets was partially offset by a decrease in the total net investment yields, which decreased to 5.30% in 2011 from 5.49% in 2010. The reduction in yields is the effect of the prolonged low interest rate environment as we have experienced lower yields on purchases and reinvestment of fixed maturities. Overall yields on fixed maturity purchases in 2011 were 198 basis points (bps) lower than the average yield on existing fixed maturities. Our yields would have been lower without the impact of prepayment related income. Included in our fixed maturity yields is the impact of bond prepayments and corporate action activity, such as make-whole and consent fees on early calls of fixed maturities. During 2011, these generated 8 bps of yield, compared to 4 bps in 2010. To improve our overall yields, we continued to increase our underwriting of commercial mortgage loans throughout 2011 and 2010.
For the year ended
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For the years endedDecember 31, 2011 and 2010, the Company had average daily cash balances of$243.4 and$302.3 , respectively. The decrease in the average daily cash balance is primarily driven by an improvement in our ability to acquire high quality, attractive yielding investments as credit markets improve.
Net Realized Investment Gains (Losses)
For the year endedDecember 31, 2011 , our portfolio produced net realized gains of$7.0 , compared to gains of$39.8 for the same period in 2010. We experienced a$(41.7) marked-to-market decline in the performance of our equity investments, which generated losses of$(9.1) in 2011 compared to gains of$32.6 in 2010, which is discussed further in our "- Return on Equity Investments" section. Partially offsetting this decline was a$6.8 improvement in impairments. For the year endedDecember 31, 2010 , our portfolio produced net realized gains of$39.8 , compared to losses of$(29.3) for the same period in 2009. This improvement was driven by a$65.6 decline impairments, which were$20.9 in 2010 compared to$86.5 in 2009. The following table sets forth the detail of our net realized investment gains (losses) before taxes: Years Ended December 31, 2011 2010 2009 Gross realized gains on sales of fixed maturities $ 38.9 $
31.3
Gross realized losses on sales of fixed maturities (8.1 ) (10.1 ) (23.3 ) Impairments: Public fixed maturities (1) (4.5 ) (6.9 ) (50.9 ) Private fixed maturities (1.0 ) (8.4 ) (6.9 ) Total credit-related (5.5 ) (15.3 ) (57.8 ) Other (8.6 ) (5.6 ) (28.7 ) Total impairments (14.1 ) (20.9 ) (86.5 ) Net gains (losses) on marketable equity securities, trading (9.1 ) 32.6 36.4 Other net investment gains (losses) (2): Other gross gains 29.2 27.5 32.1 Other gross losses (29.8 ) (20.6 ) (13.5 ) Net realized investment gains (losses) before taxes $ 7.0 $ 39.8 $ (29.3 )
(1) Public fixed maturities includes publicly traded securities and highly
marketable private placements for which there is an actively traded market.
(2) This primarily consists of changes in fair value on derivatives instruments,
gains (losses) on calls and redemptions, and the impact of net realized
investment gains (losses) on DAC and DSI.
Impairments
We monitor our investments for indicators of possible credit-related impairments, with a focus on securities that represent a significant risk of impairment. This is primarily securities for which the fair value has declined below amortized cost by 20% or more for a period of six months or more, or for which we have concerns about the creditworthiness of the issuer based on qualitative information. When evaluating a security for possible impairment, we consider several factors, which are described in more detail in Note 4 to the accompanying Consolidated Financial Statements. 82
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Impairments for the years endedDecember 31, 2011 , 2010 and 2009 were$14.1 ,$20.9 and$86.5 , respectively. The continued decline in impairments is primarily attributable to improved economic conditions in 2011 and 2010 compared to 2009, and reduced credit concerns as credit-related impairments decreased$9.8 from 2010 to 2011, and$42.5 from 2009 to 2010. For those issuers for which we recorded an impairment during 2011, we had remaining holdings with an amortized cost of$446.6 and a fair value of$445.9 as ofDecember 31, 2011 . We believe the amortized cost of these securities is recoverable based on market prices or our estimated recovery values for these securities.
Fixed maturities represented approximately 88% and 91% of invested assets as ofDecember 31, 2011 and 2010, respectively. As ofDecember 31, 2011 , publicly traded and privately placed fixed maturities represented 95.9% and 4.1%, respectively, of our total fixed maturity portfolio at fair value. We invest in privately placed fixed maturities to enhance the overall value of the portfolio, increase diversification and obtain higher yields than can ordinarily be obtained with comparable public market securities.
Fixed Maturity Securities Credit Quality
The Securities Valuation Office, or SVO, of the NAIC, evaluates the investments of insurers for regulatory reporting purposes and assigns fixed maturities to one of the six categories called "NAIC Designations." NAIC designations of "1" or "2" include fixed maturities considered investment grade, which generally include securities rated BBB- or higher by Standard & Poor's. NAIC designations of "3" through "6" are referred to as below investment grade, which generally include securities rated BB+ or lower by Standard & Poor's. In recent years, the NAIC adopted a modeling approach to determine the NAIC designation for RMBS and CMBS securities. The following table presents our fixed maturities by NAIC designation and S&P equivalent credit ratings, as well as the percentage of total fixed maturities, based upon fair value that each designation comprises: As of December 31, 2011 As of December 31, 2010 Amortized Fair % of Total Amortized Fair % of Total Cost Value Fair
Value Cost Value Fair Value NAIC: S&P Equivalent:
1 AAA, AA, A $ 12,684.8 $ 13,987.6 61.1 % $ 12,453.2 $ 13,042.4 61.3 % 2 BBB 6,792.9 7,409.5 32.3 6,642.1 6,981.9 32.8 Total investment grade 19,477.7 21,397.1 93.4 19,095.3 20,024.3 94.1 3 BB 902.9 897.8 3.9 700.3 679.0 3.2 4 B 549.4 507.5 2.2 420.6 393.8 1.8 5 CCC & lower 124.4 96.2 0.4 178.4 164.8 0.8 6 In or near default 7.0 6.6 0.1 21.9 19.9 0.1 Total below investment grade 1,583.7 1,508.1 6.6 1,321.2 1,257.5 5.9 Total $ 21,061.4 $ 22,905.2 100.0 % $ 20,416.5 $ 21,281.8 100.0 % Below investment grade securities comprised 6.6% and 5.9% of our fixed maturities portfolio as ofDecember 31, 2011 and 2010, respectively. To enhance our overall net investment yields, we strategically increased purchases of higher yield, S&P equivalent B and BB rated fixed maturities. We held NAIC 5 and 6 designated securities with gross unrealized losses of$30.7 as ofDecember 31, 2011 , of which$26.2 , or 82.1%, related to six issuers. These issuers are current on their contractual payments and our analysis supports the recoverability of amortized cost. 83
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Certain of our fixed maturities are supported by guarantees from monoline bond insurers. The credit ratings of our fixed maturities set forth in the table above reflect, where applicable, the guarantees provided by monoline bond insurers. As ofDecember 31, 2011 , fixed maturities with monoline guarantees had an amortized cost of$513.4 and a fair value of$543.4 , with gross unrealized losses of$4.2 . As ofDecember 31, 2010 , fixed maturities with monoline guarantees had an amortized cost of$555.1 and a fair value of$547.5 , with gross unrealized losses of$19.3 . The majority of these securities were municipal bonds. As ofDecember 31, 2011 ,$508.3 , or 93.5%, of the fair value of fixed maturities supported by guarantees from monoline bond insurers had investment grade credit ratings both when including and excluding the effect of the monoline insurance.
The following table sets forth the fair value of our fixed maturities by sector, as well as the associated gross unrealized gains and losses and the percentage of total fixed maturities that each sector comprises as of the dates indicated: As of December 31, 2011 Cost or Gross Gross % of Amortized Unrealized Unrealized Fair Total Fair OTTI Cost Gains Losses Value Value in AOCI Security Sector Corporate securities: Consumer discretionary $ 1,578.6 $ 138.5 $ (8.1 ) $ 1,709.0 7.5 % $ (0.7 ) Consumer staples 2,409.3 308.3 (6.9 ) 2,710.7 11.8 (1.4 ) Energy 768.4 94.9 (4.0 ) 859.3 3.8 - Financials 1,882.1 90.5 (93.3 ) 1,879.3 8.2 (0.7 ) Health care 1,280.3 156.6 (3.3 ) 1,433.6 6.3 (1.8 ) Industrials 2,887.3 344.0 (10.8 ) 3,220.5 14.0 0.4 Information technology 355.2 39.0 (0.2 ) 394.0 1.7 - Materials 1,270.3 110.5 (24.9 ) 1,355.9 5.9 (11.4 ) Telecommunication services 666.4 66.9 (17.6 ) 715.7 3.1 (0.8 ) Utilities 1,719.2 223.0 (15.9 ) 1,926.3 8.4 (0.1 ) Total corporate securities 14,817.1 1,572.2 (185.0 ) 16,204.3 70.7 (16.5 ) U.S. government and agencies 60.3 3.8 - 64.1 0.3 (0.1 ) State and political subdivisions 609.1 28.0 (1.8 ) 635.3 2.8 (0.1 ) Residential mortgage-backed securities: Agency 3,019.5 243.8 (0.5 ) 3,262.8 14.2 - Non-agency: Prime 278.3 8.3 (13.8 ) 272.8 1.2 (25.7 ) Alt-A 90.6 2.1 (3.3 ) 89.4 0.4 (8.2 ) Total residential mortgage-backed securities 3,388.4 254.2 (17.6 ) 3,625.0 15.8 (33.9 ) Commercial mortgage-backed securities 1,698.1 143.0 (4.1 ) 1,837.0 8.0 (2.6 ) Other debt obligations 488.4 52.9 (1.8 ) 539.5 2.4 (4.1 ) Total $ 21,061.4 $ 2,054.1 $ (210.3 ) $ 22,905.2 100.0 % $ (57.3 ) During the year endedDecember 31, 2011 , we increased our investments in corporate securities with cash generated from sales, primarily of fixed deferred annuities. We have mainly purchased investment grade corporate securities, with a focus on obtaining appropriate yields and duration to match our policyholder liabilities while retaining quality.
Our fixed maturities holdings are diversified by industry and issuer. As of
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subordinated, hybrid, and preferred securities. Hybrid securities represented approximately half of the financial sector gross unrealized losses in 2011. These securities' prices reflect relatively wide financial sector credit spreads, combined with additional subordination and illiquidity risk premiums. Based on our analysis of each individual issuer's financial condition, we expect to recover the entire amortized cost. The portfolio does not have significant exposure to any single issuer. As ofDecember 31, 2011 and 2010, the fair value of our ten largest corporate securities holdings was$1,505.0 and$1,276.9 , or 9.3% and 8.8% of the portfolio, respectively. The fair value of our largest exposure to a single issuer of corporate securities was$221.5 , or 1.4% of the portfolio, as ofDecember 31, 2011 . All of the securities related to this issuer have an NAIC rating of 2 or higher. As ofDecember 31, 2010 , the fair value of our largest exposure to a single issuer of corporate securities was$140.4 , or 1.0%, all of which had an NAIC rating of 2 or higher. As of December 31, 2010 Cost or Gross Gross % of Amortized Unrealized Unrealized Fair Total Fair OTTI Cost Gains Losses Value Value in AOCI Security Sector Corporate securities: Consumer discretionary $ 1,526.6 $ 77.4 $ (15.0 ) $ 1,589.0 7.4 % $ (2.8 ) Consumer staples 2,085.3 145.9 (15.1 ) 2,216.1 10.4 (1.4 ) Energy 675.5 49.1 (4.3 ) 720.3 3.4 - Financials 2,028.9 68.7 (83.9 ) 2,013.7 9.5 (0.7 ) Health care 1,218.9 99.6 (6.2 ) 1,312.3 6.2 (1.8 ) Industrials 2,446.8 176.4 (19.6 ) 2,603.6 12.2 (5.8 ) Information technology 450.9 40.2 (1.7 ) 489.4 2.3 - Materials 1,176.7 64.8 (30.6 ) 1,210.9 5.7 (12.7 ) Telecommunication services 569.3 32.6 (10.1 ) 591.8 2.8 (0.9 ) Utilities 1,712.8 100.6 (19.1 ) 1,794.3 8.4 (0.1 ) Total corporate securities 13,891.7 855.3 (205.6 ) 14,541.4 68.3 (26.2 ) U.S. government and agencies 30.3 2.8 - 33.1 0.2 (0.1 ) State and political subdivisions 462.9 5.3 (15.4 ) 452.8 2.1 (0.2 ) Residential mortgage-backed securities: Agency 3,239.9 139.3 (18.6 ) 3,360.6 15.8 - Non-agency: Prime 351.6 6.1 (28.0 ) 329.7 1.5 (31.3 ) Alt-A 115.7 3.5 (7.9 ) 111.3 0.5 (8.7 ) Total residential mortgage-backed securities 3,707.2 148.9 (54.5 ) 3,801.6 17.8 (40.0 ) Commercial mortgage-backed securities 1,782.2 115.2 (10.1 ) 1,887.3 8.9 (3.3 ) Other debt obligations 542.2 35.8 (12.4 ) 565.6 2.7 (6.4 ) Total $ 20,416.5 $ 1,163.3 $ (298.0 ) $ 21,281.8 100.0 % $ (76.2 ) 85
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The following table summarizes our exposure to fixed maturities inEuropean Union countries, separated into sovereign debt, financial industry and other corporate debt. The country designation is based on the issuer's country of incorporation. As of December 31, 2011 Sovereign Financial Other Total Fair % of Amortized Debt Industry Corporate Value Exposure Cost European Union Countries: United Kingdom $ - $ 27.9 $ 491.7 $ 519.6 37.4 % $ 475.6 Netherlands - - 361.0 361.0 25.9 329.4 Luxembourg - - 150.6 150.6 10.8 143.4 Switzerland - 100.8 - 100.8 7.2 102.2 France - 15.2 83.5 98.7 7.1 101.4 Sweden - - 49.2 49.2 3.5 43.0 Germany - 12.5 9.8 22.3 1.6 27.7 Austria - - 19.8 19.8 1.4 19.8 Italy - - 18.9 18.9 1.4 17.7 Spain - - 18.5 18.5 1.3 18.9 Finland - - 9.3 9.3 0.7 10.2 Norway - 0.7 7.8 8.5 0.6 7.7 Belgium - - 7.8 7.8 0.6 7.1 Greece - - 5.6 5.6 0.4 5.8 Portugal 0.6 - - 0.6 0.1 1.0 Total $ 0.6 $ 157.1 $ 1,233.5 $ 1,391.2 100.0 % $ 1,310.9 As ofDecember 31, 2011 , the fair value of our fixed maturities inEuropean Union countries was$1,391.2 , or 6.1% of our total fixed maturities portfolio. These fixed maturities had gross unrealized losses of$32.9 as ofDecember 31, 2011 . The fair value of our ten largestEuropean Union country holdings was$836.1 , or 3.7% of the fixed maturities portfolio. The fair value of our largest single issuer exposure to aEuropean Union country was$116.0 , or 0.5% of the portfolio.
As ofDecember 31, 2011 and 2010, approximately 24% and 27%, respectively, of the fair value of our fixed maturity portfolio was held in mortgaged-backed securities, and 23% and 24% of the remaining securities was due after ten years, which we consider to be longer duration assets. Fixed maturities in these categories primarily back long duration reserves in our Income Annuities segment, which can exceed a period of 30 years. As ofDecember 31, 2011 and 2010, approximately 78% and 75%, respectively, of the gross unrealized losses on our investment portfolio related to these longer duration assets, which fluctuate more significantly with changes in interest rates and credit spreads.
As ofDecember 31, 2011 , our fixed maturity securities portfolio included$5.5 billion of residential and commercial mortgage-backed securities at fair value. Approximately 69% of these securities are agency securities and approximately 23% are AAA rated non-agency securities in the most senior tranche of the structure type. All of our RMBS and CMBS securities have prepayment options. Prepayments that vary in amount or timing from our estimates cause fluctuations in our yields due to an acceleration or deceleration of unamortized 86
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premium or discount associated with the securities in our portfolio. This adjustment is recorded in net investment income in our results of operations. These adjustments, which relate primarily to RMBS, create volatility in our net investment income. Refer to the RMBS section below for additional discussion.
We classify our investments in RMBS as agency, prime, Alt-A, and subprime. Agency RMBS are guaranteed or otherwise supported by the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation, or the
The following table sets forth the fair value of the Company's investment in agency, prime, and Alt-A RMBS and the percentage of total invested assets they represent: As of December 31, 2011 As of December 31, 2010 % of Total Fair % of Total Fair Value Invested Assets Value Invested Assets Agency $ 3,262.8 12.5 % $ 3,360.6 14.3 % Non-agency: Prime 272.8 1.0 329.7 1.4 Alt-A 89.4 0.3 111.3 0.5 Subtotal non-agency 362.2 1.3 441.0 1.9 Total $ 3,625.0 13.8 % $ 3,801.6 16.2 % The following table sets forth the total fair value, and amortized cost of our non-agency RMBS by credit quality and year of origination (vintage). There were two securities with a total amortized cost and fair value of$4.4 and$4.4 , respectively, that were rated below investment grade by either Moody's, S&P or Fitch, while at least one other agency rated them investment grade. As of December 31, 2011 Highest Rating Agency Rating Total as of BB and December 31, AAA AA A BBB Below Total 2010 Vintage: 2007 $ - $ - $ - $ - $ 21.4 $ 21.4 $ 41.1 2006 - - - - 94.5 94.5 127.9 2005 - - 4.4 - 100.3 104.7 115.2 2004 and prior 99.8 17.0 8.7 10.4 12.4 148.3 183.1 Total amortized cost $ 99.8 $ 17.0 $ 13.1 $
10.4
Net unrealized gains (losses) 2.7 0.5 0.3 0.5 (10.7 ) (6.7 ) (26.3 ) Total fair value $ 102.5 $ 17.5 $ 13.4 $ 10.9 $ 217.9 $ 362.2 $ 441.0 On a fair value basis as ofDecember 31, 2011 , our Alt-A portfolio was 88.5% fixed rate collateral and 11.5% hybrid adjustable rate mortgages, or ARMs, with no exposure to option ARMs. Generally, fixed rate mortgages have performed better with lower delinquencies and defaults on the underlying collateral than both option ARMs and hybrid ARMs in the current economic environment. As ofDecember 31, 2011 and 2010, respectively,$47.8 , or 53.4%, and$62.6 , or 56.2%, of the total Alt-A portfolio had an S&P equivalent credit rating of AAA. 87
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As ofDecember 31, 2011 , our Alt-A, prime and total non-agency RMBS had an estimated weighted-average credit enhancement of 13.1%, 8.2% and 9.4%, respectively. Credit enhancement refers to the weighted-average percentage of the outstanding capital structure that is subordinate in the priority of cash flows and absorbs losses first. We monitor delinquency rates associated with these securities, and as ofDecember 31, 2011 , we believe that our credit enhancements are sufficient to cover potential delinquencies. As ofDecember 31, 2011 and 2010, 59.9% and 58.8%, respectively, of the fair value of our non-agency RMBS had super senior subordination. The super senior class has priority over all principal and interest cash flows and will not experience any loss of principal until lower levels are written down to zero. Therefore, the majority of our RMBS investments have less exposure to defaults and delinquencies in the underlying collateral than if we held the more subordinated classes. As ofDecember 31, 2011 , our RMBS had gross unamortized premiums and discounts of$66.2 and$73.7 , respectively. Changes in prepayment speeds, which are based on prepayment activity of the underlying mortgages, create volatility in our net investment income because they accelerate or decelerate our amortization of the unamortized premiums and discounts. The impact to net investment income is dependent both on whether the securities are at a discount or premium and whether the prepayment speeds increase or decrease. 88
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The following table provides additional information on our RMBS prepayment exposure, by type and year of origination (vintage):
Prepayment Speed As of December 31, 2011 Adjustment Twelve Months Unrealized Average Ended Amortized Gains/ Fair Gross Gross Mortgage December 31, Cost (Losses) Value Discount Premium Loan Rate 2011 Agency: CMO: 2011 $ 212.8 $ 14.5 $ 227.3 $ 11.9 $ (1.5 ) 3.6 % $ 0.1 2010 571.1 50.3 621.4 15.2 (13.0 ) 4.6 0.5 2009 211.9 22.4 234.3 2.1 (2.9 ) 4.8 - 2008 5.7 0.2 5.9 - - 5.8 - 2007 31.4 1.6 33.0 1.0 - 6.6 - 2006 52.3 2.0 54.3 0.1 - 6.6 - 2005 59.2 7.4 66.6 0.4 - 6.2 - 2004 and prior 593.9 75.7 669.6 15.9 (6.1 ) 6.2 1.5 Total Agency CMO $ 1,738.3 $ 174.1 $ 1,912.4 $ 46.6 $ (23.5 ) 5.2 % $ 2.1 Passthrough: 2011 $ 43.8 $ 0.9 $ 44.7 $ 0.1 $ (1.6 ) 4.1 % $ - 2010 284.4 11.3 295.7 0.1 (9.5 ) 4.7 0.1 2009 769.3 39.6 808.9 - (29.0 ) 5.7 - 2008 49.6 4.5 54.1 - (1.0 ) 6.3 - 2007 34.4 3.0 37.4 0.2 (0.8 ) 6.4 - 2006 12.0 1.3 13.3 0.1 - 6.5 - 2005 13.1 1.5 14.6 0.7 (0.1 ) 5.2 - 2004 and prior 74.6 7.1 81.7 1.2 (0.5 ) 5.8 -
Total Agency Passthrough
$ 2.4 $ (42.5 ) 5.5 % $ 0.1 Total Agency RMBS $ 3,019.5 $ 243.3 $ 3,262.8 $ 49.0 $ (66.0 ) 5.3 % $ 2.2 Non-Agency: 2008-2011 $ - $ - $ - $ - $ - - % $ - 2007 21.4 1.3 22.7 6.2 - 6.1 0.1 2006 94.5 (3.1 ) 91.4 12.3 - 6.0 - 2005 104.7 (9.0 ) 95.7 2.7 - 5.7 0.1 2004 and prior 148.3 4.1 152.4 3.5 (0.2 ) 5.9 -
Total Non-Agency RMBS
$ 24.7 $ (0.2 ) 5.9 % $ 0.2 Total RMBS $ 3,388.4 $ 236.6 $ 3,625.0 $ 73.7 $ (66.2 ) 5.4 % $ 2.4 In our RMBS portfolio, certain vintage years have overall higher interest rates than current market rates. Certain agency RMBS collateralized mortgage obligations (CMOs) with a 2003 vintage year have caused the most volatility in our net investment income. During the second quarter of 2011, we strategically sold$177.0 of these CMOs to reduce the volatility in net investment income related to prepayment speed adjustments. The securities we sold had an associated gross discount of$14.0 . We plan to continue monitoring the remaining CMOs within our RMBS portfolio in order to reduce the income volatility related to prepayment speed adjustments.
There have been various government initiatives through the Obama administration's Making Home Affordable program that may increase prepayment risk on our RMBS portfolio. Recent changes to HARP (Home
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Table of Contents Affordable Refinance Program), which targets borrowers whose mortgages are owned or guaranteed by Freddie Mac or Fannie Mae, are current on their mortgages, and have loan-to-values exceeding 80% among other qualifying requirements, increases the risk of prepayment on our agency RMBS. Also, recent changes to HAMP (Home Affordable Modification Program) which targets employed borrowers facing financial hardship to reduce their mortgage payments may increase prepayments. Finally,
The following table sets forth the fair value of our investment in CMBS and the percentage of total invested assets they represent:
As of December 31, 2011 As of December 31, 2010 % of Total % of Total Fair Value Invested Assets Fair Value Invested Assets Agency $ 521.0 2.0 % $ 607.4 2.6 % Non-Agency 1,316.0 5.0 1,279.9 5.4 Total $ 1,837.0 7.0 % $ 1,887.3 8.0 % The disruptions in the CMBS market spanning from 2009 through early 2010 were attributable to weakness in commercial real estate market fundamentals and previously reduced underwriting standards by some originators of commercial mortgage loans, particularly within the more recent vintage years (2006 through 2008). This reduced market liquidity and availability of capital, which led to the repricing of risk. During 2011, market conditions improved, and prices of our CMBS have largely recovered and are currently in a net unrealized gain position of$138.9 , or 8.2% of amortized cost, as ofDecember 31, 2011 . On an amortized cost basis, 97.6% of our CMBS portfolio was rated AAA, 1.3% was rated AA or A, and 1.1% was rated B and below as ofDecember 31, 2011 . Our CMBS portfolio is highly concentrated in the most senior tranches, with 95.3% of our AAA-rated securities in the most senior tranche with significant credit enhancement. The following table sets forth the total fair value, and amortized cost of our non-agency CMBS by credit quality and year of origination (vintage). There were 12 securities having a fair value of$278.4 and an amortized cost of$306.3 that were rated A by S&P, while Moody's and/or Fitch rated them AAA. As of December 31, 2011 Highest Rating Agency Rating Total as of BB and December 31, AAA AA A BBB Below Total 2010 Vintage: 2011 $ 115.7 $ - $ - $ - $ - $ 115.7 $ - 2010 1.2 - - - - 1.2 - 2009 - - - - - - - 2008 51.1 18.6 - - - 69.7 69.5 2007 422.1 - - - - 422.1 444.4 2006 158.5 - - - 11.5 170.0 168.5 2005 258.7 - - - - 258.7 283.6 2004 and prior 154.8 - 2.7 - 7.5 165.0 224.8 Total amortized cost $ 1,162.1 $ 18.6 $ 2.7 $ - $ 19.0 $ 1,202.4 $ 1,190.8
Net unrealized gains (losses) 112.9 2.4 - -
(1.7 ) 113.6 89.1 Total fair value $ 1,275.0 $ 21.0 $ 2.7 $ - $ 17.3 $ 1,316.0 $ 1,279.9 90
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U.S. CMBS have historically utilized a senior/subordinate credit structure to allocate cash flows and losses. The structure was changed in late 2004 and was in transition into early 2005 when fully implemented to include super-senior, mezzanine and junior AAA tranches. This change resulted in increasing the credit enhancement (subordination) on the most senior tranche (super-senior) to 30%. The mezzanine AAAs were structured to typically have 20% credit enhancement and the junior AAAs 14% credit enhancement. Credit enhancement refers to the weighted-average percentage of outstanding capital structure that is subordinate in the priority of cash flows and absorbs losses first. Credit enhancement does not include any equity interest or property value in excess of outstanding debt. The super senior class has priority over the mezzanine and junior classes to all principal and interest cash flows and will not experience any loss of principal until both the entire mezzanine and junior tranches are written down to zero. Since 2010, new issues of U.S. CMBS (referred to as "CMBS 2.0") have simpler structures. The CMBS 2.0 AAA credit enhancement averages approximately 17%, and the division of the AAA class into super-senior, mezzanine, and junior tranches is no longer present.
The following tables set forth the amortized cost of our AAA non-agency CMBS by type and year of origination (vintage):
As of December 31, 2011 Super Senior Other Structures Total AAA Securities at Super Other Other Amortized Senior Mezzanine Junior Senior Subordinate Other Cost Vintage: 2011 $ - $ - $ - $ 115.7 $ - $ - $ 115.7 2010 - - - 1.2 - - 1.2 2009 - - - - - - - 2008 51.1 - - - - - 51.1 2007 418.1 - - 4.0 - - 422.1 2006 158.5 - - - - - 158.5 2005 132.7 27.1 - 98.9 - - 258.7 2004 and prior - - - 127.2 27.6 - 154.8 Total $ 760.4 $ 27.1 $ - $ 347.0 $ 27.6 $ - $ 1,162.1 As of December 31, 2010 Total $ 787.0 $ 30.6 $ - $ 298.3 $ 28.9 $ - $ 1,144.8 The weighted-average credit enhancement of our CMBS was 29.2% as ofDecember 31, 2011 . Adjusted to remove defeased loans, which are loans whose cash flows have been replaced by U.S. Treasury securities, the weighted-average credit enhancement of our CMBS as ofDecember 31, 2011 was 30.5%. We believe this additional credit enhancement provides us significant protection in a deep real estate downturn during which industry losses would be expected to increase substantially. 91
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The following table provides additional information on our CMBS prepayment exposure by type and year of origination (vintage):
Prepayment Speed As of December 31, 2011 Adjustment Twelve Months Unrealized Average Ended Amortized Gains/ Fair Gross Gross Mortgage December 31, Cost (Losses) Value Discount Premium Loan Rate 2011 Agency: CMO: 2011 $ 44.9 $ 1.3 $ 46.2 $ - $ (1.4 ) 4.9 % $ - 2010 21.7 1.6 23.3 - (1.8 ) 5.0 (0.1 ) 2009 10.2 1.5 11.7 - - 6.5 - 2008 40.0 0.7 40.7 - (1.6 ) 5.1 (0.1 ) 2007 55.6 1.5 57.1 - (3.4 ) 5.6 - 2006 62.7 0.1 62.8 - (3.7 ) 5.7 (0.4 ) 2005 32.7 1.2 33.9 - (1.7 ) 5.8 (0.1 ) 2004 and prior 133.6 12.2 145.8 - (4.4 ) 6.8 (0.7 ) Total Agency CMO $ 401.4 $ 20.1 $ 421.5 $ - $ (18.0 ) 5.9 % $ (1.4 ) Passthrough: 2005 through 2011 $ - $ - $ - $ - $ - - % $ - 2004 and prior 94.3 5.2 99.5 0.2 (3.2 ) 7.5 - Total Agency Passthrough $ 94.3 $ 5.2 $ 99.5 $ 0.2 $ (3.2 ) 7.5 % $ - Total Agency CMBS $ 495.7 $ 25.3 $ 521.0 $ 0.2 $ (21.2 ) 6.2 % $ (1.4 ) Non-Agency: 2011 $ 115.7 $ 2.4 $ 118.1 $ - $ (0.9 ) 5.5 % $ - 2010 1.2 - 1.2 - - 4.0 - 2008 69.7 6.5 76.2 1.5 (0.2 ) 6.1 - 2007 422.1 50.2 472.3 16.7 (0.4 ) 5.8 0.2 2006 170.0 20.3 190.3 7.9 (1.0 ) 5.9 0.3 2005 258.7 30.8 289.5 8.2 (0.1 ) 5.4 0.1 2004 and prior 165.0 3.4 168.4 1.1 (1.8 ) 6.5 - Total Non-Agency CMBS $ 1,202.4 $ 113.6 $ 1,316.0 $ 35.4 $ (4.4 ) 5.8 % $ 0.6 Total CMBS $ 1,698.1 $ 138.9 $ 1,837.0 $ 35.6 $ (25.6 ) 5.9 % $ (0.8 )
Return on Equity Investments
Prospector Partners, LLC , or Prospector, manages our portfolio of equity and equity-like investments, the majority of which are publicly traded common stock and convertible securities. We believe that these investments are suitable for funding certain long duration liabilities in our Income Annuities segment and, on a limited basis, in our surplus portfolio. These securities are recorded at fair value, with changes in fair value recorded in net realized investment gains (losses). The common stock securities are included in trading marketable equity securities and the convertible securities are included in fixed maturities on our consolidated balance sheets. 92
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The following table compares our total gross return on the equity component of our Prospector portfolio to the benchmark S&P 500 Total Return Index for the years endedDecember 31, 2011 , 2010 and 2009. Years Ended December 31, 2011 2010 2009 Common stock (0.7 )% 22.6 % 32.4 % Convertible securities (7.9 ) 16.5 26.4 S&P 500 Total Return Index 2.1 15.1 26.5
Return on Real Estate-Related Investments
Beginning in the second quarter of 2011, we implemented a new investment strategy focusing on real estate-related investments to enhance funding of the long duration liabilities in our Income Annuities segment. The investments for this strategy primarily consist of investments in REITs, which are included in trading marketable equity securities on our consolidated balance sheets. As ofDecember 31, 2011 , the real estate-related investments had a fair value of$147.7 and a total gross return of 2.7%.
Mortgage Loans
Our mortgage loan department originates commercial mortgages and manages our existing commercial mortgage loan portfolio. The commercial mortgage loan holdings are secured by first-mortgage liens on income-producing commercial real estate, primarily in the retail, industrial and office building sectors. All loans are underwritten consistently to our standards based on loan-to-value (LTV) ratios and debt service coverage ratios (DSCR) based on income and detailed market, property and borrower analysis using our long-term experience in commercial mortgage lending. A large majority of our loans have personal guarantees and all loans are inspected and evaluated annually. We diversify our mortgage loans by geographic region, loan size and scheduled maturities. On our consolidated balance sheets, mortgage loans are reported net of an allowance for losses, deferred loan origination costs, unearned mortgage loan fees and a purchase accounting adjustment; however, the following tables exclude these items. The stress experienced in the U.S. financial markets during the economic downturn and unfavorable credit market conditions led to a decrease in overall liquidity and availability of capital in the commercial mortgage loan market, which has led to greater opportunities for more selective loan originations, especially those loans in our range of specialization,$1.0 to $5.0 . We believe a disciplined increase in our mortgage loan portfolio will help maintain the overall quality of our investment portfolio and obtain appropriate yields to match our policyholder liabilities. We continue to increase our investments in mortgage loans to improve our overall investment yields. This strategy has resulted in increased net investment yields when compared to fixed maturity investments. We originated$956.9 of mortgage loans during the year endedDecember 31, 2011 and expect to continue this pace of originations during 2012. As ofDecember 31, 2011 and 2010, 71.6% and 73.6%, respectively, of our mortgage loans were under$5.0 and our average loan balance was$2.4 and$2.2 , respectively. As ofDecember 31, 2011 and 2010, our largest loan balance was$12.4 and$13.0 , respectively. 93
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Credit Quality
We use the LTV and DSCR ratios as our primary metrics to assess mortgage loan quality. The following table sets forth the LTV ratios for our gross mortgage loan portfolio: As of December 31, 2011 As of December 31, 2010 Carrying % of Carrying % of Value Total Value Total Loan-to-Value Ratio: < or = 50% $ 805.7 31.9 % $ 596.2 34.7 % 51% - 60% 689.3 27.3 369.8 21.5 61% - 70% 720.6 28.5 463.7 26.9 71% - 75% 121.1 4.8 120.4 7.0 76% - 80% 58.8 2.3 46.3 2.7 81% - 100% 89.6 3.6 90.7 5.3 > 100% 40.1 1.6 33.1 1.9 Total $ 2,525.2 100.0 % $ 1,720.2 100.0 % The LTV ratio compares the amount of the loan to the estimated fair value of the underlying property collateralizing the loan. In the year of funding, LTV ratios are calculated using independent appraisals performed by Member of theAppraisal Institute or MAI designated appraisers. Subsequent to the year of funding, LTV ratios are updated annually using internal valuations based on property income and estimated market capitalization rates. Property income estimates are typically updated during the third quarter of each year. Market capitalization rates are updated during the first quarter based on geographic region, property type and economic climate. LTV ratios greater than 100% indicate that the loan amount is greater than the collateral value. A smaller LTV ratio generally indicates a higher quality loan. During 2011, we originated$956.9 in mortgage loans. At the same time, we also maintained our disciplined approach to mortgage loan origination. As ofDecember 31, 2011 and 2010, the mortgage loan portfolio had weighted-average LTV ratios of 57.1% and 57.0%, respectively. The weighted average LTV ratio was 57.1% and 55.2% for loans funded during the year endedDecember 31, 2011 and 2010, respectively. For loans originated in the year endedDecember 31, 2011 , 23.2% had an LTV ratio of 50% or less, and no loans had an LTV ratio of more than 75%. For loans originated in the year endedDecember 31, 2010 , 31.7% had an LTV ratio of 50% or less, and no loans had an LTV ratio of more than 75%. The following table sets forth the DSCR for our gross mortgage loan portfolio: As of December 31, 2011 As of December 31, 2010 Carrying % of Carrying % of Value Total Value Total Debt Service Coverage Ratio: > or = 1.60 $ 1,310.8 51.9 % $ 896.4 52.1 % 1.40 - 1.59 566.5 22.4 327.1 19.0 1.20 - 1.39 369.7 14.7 295.7 17.2 1.00 - 1.19 157.4 6.3 117.7 6.8 0.85 - 0.99 39.0 1.5 32.0 1.9 < 0.85 81.8 3.2 51.3 3.0 Total $ 2,525.2 100.0 % $ 1,720.2 100.0 % The DSCR compares the amount of rental income a property is generating to the amount of the mortgage payments due on the property. DSCRs are calculated using the most current annual operating history for the collateral. As ofDecember 31, 2011 and 2010, the mortgage loan portfolio had weighted-average DSCRs of 1.72 94
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and 1.73, respectively. For loans originated during the years endedDecember 31, 2011 and 2010, 56.0% and 58.4%, respectively, had a DSCR of 1.60 or more. As ofDecember 31, 2011 , there were 70 loans with an aggregate carrying value of$120.8 that had a DSCR of less than 1.00. The average outstanding principal balance of these loans was$1.7 and these borrowers were current with respect to their loan payments.
Composition of Mortgage Loans
The following table sets forth the gross carrying value of our investments in mortgage loans by geographic region:
As of December 31, 2011 As of December 31, 2010 Carrying % of Carrying % of Value Total Value Total Region: California $ 813.7 32.2 % $ 533.6 31.0 % Washington 304.8 12.1 270.4 15.7 Texas 265.2 10.5 168.9 9.8 Oregon 114.8 4.5 95.6 5.6 Illinois 105.6 4.2 45.7 2.7 Other 921.1 36.5 606.0 35.2 Total $ 2,525.2 100.0 % $ 1,720.2 100.0 %
The following table sets forth the gross carrying value of our investments in mortgage loans by property type:
As of December 31, 2011 As of December 31, 2010 Carrying % of Carrying % of Value Total Value Total
Property Type: Shopping centers and retail $ 1,190.6 47.1 % $ 735.7 42.8 % Office buildings 628.9 24.9 460.8 26.8 Industrial 503.7 19.9 433.9 25.2 Multi-family 113.4 4.5 46.8 2.7 Other 88.6 3.6 43.0 2.5 Total $ 2,525.2 100.0 % $ 1,720.2 100.0 %
Maturity Date of Mortgage Loans
The following table sets forth our gross carrying value of our investments in mortgage loans by contractual maturity date:
As ofDecember 31, 2011 Carrying % of Value Total Years to Maturity:
Due in one year or less $ 18.7
0.7 %
Due after one year through five years 154.0
6.1
Due after five years through ten years 1,322.5
52.4 Due after ten years 1,030.0 40.8 Total $ 2,525.2 100.0 % 95
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For more information and further discussion of our allowance of mortgage loans, see Note 5 to our consolidated financial statements.
Investments in Limited Partnerships - Tax Credit Investments
We invest in limited partnership interests related to tax credit investments, which are typically 15-year investments that provide tax credits in the first ten years. We increased our holdings in these tax credit investments during 2011, and continue to look for further tax credit investment opportunities. For more information about our tax credit investments, see Note 2 to our consolidated financial statements. Although these investments decrease our net investment income over time on a pre-tax basis, they provide us with significant tax benefits, which decrease our effective tax rate. The following table sets forth the impact the amortization of our investments and related tax credits had on net income: Years EndedDecember 31, 2011
2010 2009 Amortization related to tax credit investments, net of taxes
$ (9.2 ) $ (6.3 ) $ (5.9 ) Realized losses related to tax credit investments, net of taxes (2.0 ) - - Tax credits 17.4 10.9 9.6 Impact to net income $ 6.2 $ 4.6 $ 3.7
The following table provides the future estimated impact to net income:
Impact to Net Income 2012$ 16.9 2013 17.8 2014 17.6 2015 and beyond 48.5 Estimated impact to net income$ 100.8 The tax credits from our investments in limited partnerships occur in the first 10 years, with the largest portions provided in the middle years. A significant amount of our investments are entering these middle years and we expect the future impact to net income to grow significantly from 2011 levels.
Liquidity and Capital Resources
Symetra conducts its operations through its operating subsidiaries, and our liquidity requirements primarily have been and will continue to be met by funds from such subsidiaries. Dividends from its subsidiaries are Symetra's principal sources of cash to pay dividends and meet its obligations, including payments of principal and interest on notes payable and tax obligations. We have and intend to pay quarterly cash dividends on our common stock and warrants. During 2011, we declared and paid cash dividends of$0.23 per common share. The declaration and payment of future dividends to holders of our common stock will be at the discretion of our board of directors. See "- Dividends" below for further discussion. Lingering effects of the credit market crisis that began in 2008 are still impacting the economy. During 2011, the pace of the economic growth continued to be slow with ongoing concerns overthe United States' growing deficit, European sovereign debt markets and continued high levels of unemployment. The credit 96
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markets remain tight and interest rates have fallen to historic low levels with no indicators of increasing in the near future, as evidenced by the announcement of the United States Federal Reserve that it expects rates to continue at this low level through late 2014. In managing our business under the challenging market conditions over the past few years, we benefitted from our strong financial fundamentals. We actively manage our liquidity in light of changing market, economic and business conditions and we believe that our liquidity levels are more than adequate to cover our exposures, as evidenced by the following:
• We continued to generate strong cash inflows on our deposit contracts
(annuities and universal life policies) for the year ended December 31,
2011 despite the low interest rate environment, which has reduced the market demand for fixed annuities. • While certain lapses and surrenders occur in the normal course of business, these lapses and surrenders have not deviated materially from management expectations.
• As of
basis, up to a maximum principal amount of
of credit arrangement.
• We continued to generate strong cash flows from operations, which were
$987.5 for 2011,$925.7 for 2010 and$798.4 for 2009. • The amount of AOCI, net of taxes, on our balance sheet increased to
primary driver was an increase in the fair value of our available-for-sale
securities, due to the low interest rate environment.
• As of
level provides more than adequate capital levels for growth of our
business.
During the fourth quarter 2011 we completed our cash flow testing to assess statutory reserve adequacy during a prolonged period of record low interest rates. As a result of our analysis, we established a$60.0 statutory cash-flow testing reserve as ofDecember 31, 2011 . This analysis assumed that interest rates remain near current low levels for the next 45 years. After the establishment of the additional reserve, the Company believes that the statutory reserves are adequate under a set of moderately adverse scenarios. This level of statutory reserve decreased statutory capital by$39.0 and reduced our risk-based capital ratio by nine points. We believe this is a very manageable reserve increase and does not impact our ability to pursue our Grow & Diversify initiatives. This reserve does not impact our consolidated GAAP financial statements.
Liquidity Requirements and Sources of Liquidity
The liquidity requirements of Symetra's insurance subsidiaries principally relate to the liabilities associated with their insurance and investment products, operating costs and expenses, the payment of dividends to the holding company, and payment of income taxes. Liabilities arising from insurance and investment products include the payment of benefits, as well as cash payments in connection with policy and contract surrenders and withdrawals and policy loans. Historically, Symetra's insurance subsidiaries have used cash flows from operations, cash flows from invested assets and sales of investment securities to fund their liquidity requirements. 97
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In managing the liquidity of our insurance operations, we also consider the risk of policyholder and contract holder withdrawals of funds earlier than assumed when selecting assets to support these contractual obligations. We use surrender charges and other contract provisions to mitigate the extent, timing and profitability impact of withdrawals of funds by customers from annuity contracts and deposit liabilities. The following table sets forth withdrawal characteristics of our general account policyholder liabilities, composed of annuity reserves, deposit liabilities and policy and contract claim liabilities, net of reinsurance recoverables: As of December 31, 2011 As of December 31, 2010 % of % of Amount Total Amount Total Illiquid Liabilities Structured settlements & other SPIAs (1) $ 6,605.4 29.0 % $ 6,670.4 31.4 % Deferred annuities with 5-year payout provision or MVA (2) 372.3 1.6 377.1 1.8 Traditional insurance (net of reinsurance) (3) 180.1 0.8 185.6 0.9 Group health & life (net of reinsurance) (3) 127.5 0.6 95.9 0.4 Total illiquid liabilities 7,285.3 32.0 7,329.0 34.5 Somewhat Liquid Liabilities Bank-owned life insurance (BOLI) (4) 4,575.9 20.1 4,444.0 20.9 Deferred annuities with surrender charges of 5% or higher 6,984.4 30.7 6,176.8 29.1 Universal life with surrender charges of 5% or higher 250.5 1.0 181.7 0.9 Total somewhat liquid liabilities 11,810.8 51.8 10,802.5 50.9 Fully Liquid Liabilities Deferred annuities with surrender charges of: 3% up to 5% 710.7 3.1 462.6 2.2 Less than 3% 142.9 0.6 231.2 1.1 No surrender charges (5) 2,346.9 10.3 1,946.9 9.2 Universal life with surrender charges less than 5% 444.8 2.0 439.9 2.0 Other (6) 37.3 0.2 21.9 0.1 Total fully liquid liabilities 3,682.6 16.2 3,102.5 14.6 Total (7) $ 22,778.7 100.0 % $ 21,234.0 100.0 %
(1) These contracts cannot be surrendered. The benefits are specified in the
contracts as fixed amounts, primarily to be paid over the next several
decades.
(2) In a liquidity crisis situation, we could invoke the five-year payout
provision so that the contract value with interest is paid out ratably over
five years.
(3) The surrender value on these contracts is generally zero. Represents incurred
but not reported claim liabilities.
(4) The biggest deterrent to surrender is the taxation on the gain within these
contracts, which includes a 10% non-deductible penalty tax. Banks can
exchange certain of these contracts with other carriers, tax-free. However, a
significant portion of this business does not qualify for this tax-free
treatment due to the employment status of the original covered employees and
charges may be applicable.
(5) Approximately half of the account value has been with us for many years, due
to guaranteed minimum interest rates of 4.0 - 4.5% that are significantly
higher than those currently offered on new business, which range from 1.0 -
1.5%. Given the current low interest rate environment, we do not expect
significant changes in the persistency of this business.
(6) Represents BOLI, traditional insurance, and Group health and life reported
claim liabilities.
(7) Represents the sum of funds held under deposit contracts, future policy
benefits and policy and contract claims on the consolidated balance sheets,
excluding other policyholder related liabilities and reinsurance recoverables
of$232.9 and$234.3 as ofDecember 31, 2011 and 2010, respectively. 98
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Liquid Assets
Symetra's insurance subsidiaries maintain investment strategies intended to provide adequate funds to pay benefits without forced sales of investments. Products having liabilities with longer durations, such as certain life insurance policies and structured settlement annuities, are matched with investments having similar estimated lives such as long-term fixed maturities, mortgage loans and marketable equity securities. Shorter-term liabilities are matched with fixed maturities that have short- and medium-terms. In addition, our insurance subsidiaries hold highly liquid, high quality, shorter-term investment securities and other liquid investment-grade fixed maturities and cash equivalents to fund anticipated operating expenses, surrenders and withdrawals. We define liquid assets to include cash, cash equivalents, short-term investments, publicly traded fixed maturities and public equity securities. As ofDecember 31, 2011 and 2010, our insurance subsidiaries had liquid assets of$22.5 billion and$20.8 billion , respectively, and Symetra had liquid assets of$114.6 and$89.7 , respectively. The portion of total company liquid assets comprised of cash and cash equivalents and short-term investments was$245.1 and$277.1 as ofDecember 31, 2011 and 2010, respectively. The increase in our insurance subsidiaries' liquid assets was primarily the result of sales of deferred annuities during 2011. We consider attributes of the various categories of liquid assets (for example, type of asset and credit quality) in evaluating the adequacy of our insurance operations' liquidity under a variety of stress scenarios. We believe that the liquidity profile of our assets is sufficient to satisfy liquidity requirements, including under foreseeable stress scenarios. Given the size and liquidity profile of our investment portfolio, we believe that claim experience varying from our projections does not constitute a significant liquidity risk. Our asset/liability management process takes into account the expected cash flows on investments and expected claim payments as well as the specific nature and risk profile of the liabilities. Historically, there has been limited variation between the expected cash flows on our investments and the payment of claims.
Capitalization
Our capital structure consists of notes payable and stockholders' equity. The following table summarizes our capital structure:
As of December 31, 2011 2010 Notes payable $ 449.2 $ 449.0 Stockholders' equity 3,134.0 2,380.6 Total capital $ 3,583.2 $ 2,829.6 Our capitalization increased$753.6 as ofDecember 31, 2011 , as compared toDecember 31, 2010 due to an increase in stockholders' equity from our net income of$199.6 and a$581.0 increase in AOCI, primarily driven by an improvement in the fair value of our available-for-sale securities. We believe our capital level positions us well to capitalize on organic growth as well as pursue any potentially favorable acquisition opportunities. 99
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Debt
The following table summarizes our debt instruments:
Maximum Amount Amount Available Outstanding Maturity As of December 31, As of December 31, Date 2011 2010 2011 2010 Description: Senior notes payable 4/1/2016 $ 300.0 $ 300.0 $ 300.0 $ 300.0 Capital Efficient Notes (CENts) 10/15/2067 150.0 150.0 150.0 150.0 Revolving credit facility: Bank of America, N.A. 8/16/2012 - 200.0 - - JPMorgan Chase Bank, N.A. 12/14/2015 300.0 - - - Total notes payable and revolving credit facility $ 750.0 $ 650.0 $ 450.0 $ 450.0 Senior Notes Due 2016 OnMarch 30, 2006 , we issued$300.0 of 6.125% senior notes dueApril 1, 2016 , which were issued at a discount yielding$298.7 . Interest on the senior notes is payable semiannually in arrears, beginning onOctober 2, 2006 . The senior notes do not contain any financial covenants or any provisions restricting us from purchasing or redeeming capital stock, paying dividends or entering into a highly leveraged transaction, reorganization, restructuring, merger or similar transaction. In addition, we are not required to repurchase, redeem or modify the terms of any of the senior notes upon a change of control or other event involving Symetra.
For a description of additional terms of this facility, see Note 12 to the Consolidated Financial Statements.
Capital Efficient Notes Due 2067
OnOctober 10, 2007 , we issued$150.0 aggregate principal amount CENts with a scheduled maturity date ofOctober 15, 2037 and, subject to certain limitations, with a final maturity date ofOctober 15, 2067 . We issued the CENts at a discount yielding$149.8 . For the initial ten-year period following the original issuance date, to but not includingOctober 15, 2017 , the CENts carry a fixed interest rate of 8.300% payable semi-annually. FromOctober 15, 2017 until the final maturity date ofOctober 15, 2067 , interest on the CENts will accrue at a variable annual rate equal to the three-monthLIBOR plus 4.177%, payable quarterly. We applied the net proceeds from the issuance to pay a special cash dividend to stockholders onOctober 19, 2007 .
For a description of additional terms of this facility, see Note 12 to the Consolidated Financial Statements.
Revolving Credit Facility
OnDecember 14, 2011 , we entered into a$300.0 senior unsecured revolving credit agreement with a syndicate of lending institutions led byJPMorgan Chase Bank, N.A. The credit facility also provides access up to an additional$100.0 of financing, subject to the availability of additional commitments. The credit facility matures onDecember 14, 2015 , and loans under this facility bear interest at a variable annual rate based on adjustedLIBOR or the alternate base rate ("ABR") plus an applicable margin. This facility requires us to maintain specified financial ratios, and includes other customary restrictive and affirmative covenants. This revolving credit facility is available to provide support for working capital, capital expenditures and other general corporate purposes. 100
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EffectiveDecember 14, 2011 , concurrently with the$300.0 senior unsecured revolving credit agreement discussed above, the prior$200.0 credit agreement, datedAugust 16, 2007 was terminated. This credit facility was set to mature inAugust 2012 .
For a description of additional terms of this facility, see Note 12 to the Consolidated Financial Statements.
Dividends and Regulatory Requirements
The payment of dividends and other distributions to Symetra by its insurance subsidiaries is controlled by insurance laws and regulations. In general, dividends in excess of prescribed limits are deemed "extraordinary" and require insurance regulatory approval. During the year endedDecember 31, 2011 , Symetra received dividends of$52.0 from its insurance subsidiaries. Symetra received dividends of$40.0 from its insurance subsidiaries in 2010. Symetra received no dividends from its insurance subsidiaries in 2009. Based on our statutory results, as ofDecember 31, 2011 , Symetra's insurance subsidiaries may pay it dividends of up to$182.3 during 2012 without needing to obtain regulatory approval. We declared and paid a quarterly dividend of$0.05 per common share during the first quarter of 2011 and$0.06 per common share during the second, third and fourth quarters of 2011, for a total payout of$31.6 . OnFebruary 28, 2012 , we declared a quarterly dividend of$0.07 per common share to shareholders and warrant holders as ofMarch 13, 2012 , for an approximate total of$9.6 to be paid on or aboutMarch 30, 2012 .
Cash Flows
The following table sets forth a summary of our consolidated cash flows for the dates indicated. Years Ended December 31, 2011 2010 2009 Net cash flows provided by operating activities $ 987.5 $ 925.7 $ 798.4 Net cash flows used in investing activities (1,647.9 ) (2,456.8 ) (2,142.3 ) Net cash flows provided by financing activities 628.1 1,547.9 1,133.7 Operating Activities Cash flows from our operating activities are primarily driven by the amounts and timing of cash received for premiums on our medical stop-loss, group life and term life insurance products, income on our investments, including dividends and interest, as well as the amounts and timing of cash disbursed for our payment of policyholder benefits and claims, underwriting and operating expenses and income taxes. The following discussion highlights key drivers in the level of cash flows generated from our operating activities:
• Years Ended
activities for 2011 was$987.5 , a$61.8 increase over 2010. This was primarily the result of increased net investment income driven by an
increase in average assets. In addition, the increase in premiums from our
medical stop-loss and limited benefits medical products outpaced the increase in claims.
• Years Ended
activities for 2010 was
primarily driven by increased net investment income driven by an increase
in average assets, a decline in paid commissions related to our deferred
annuity products on lower sales, and a decrease in group medical stop-loss
paid claims. 101
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Investing Activities
Cash flows from our investing activities are primarily driven by the amounts and timing of cash received from sales of investments and from maturities and calls of fixed maturity securities, as well as the amounts and timing of cash disbursed for purchases of investments and funding of mortgage loan originations. The following discussion highlights key drivers in the level of cash flows used in our investing activities:
• Years Ended
activities for 2011 was
in 2010. This decrease was primarily the result of decreased purchases of
fixed maturities, partially offset by increased mortgage loans
originations. In addition, we strategically sold certain CMO securities
during 2011 due to prepayment volatility and lower yielding fixed
maturities, and increased our investments in mortgage loans to improve
overall yields. • Years EndedDecember 31, 2010 and 2009. Net cash used in investing
activities for 2010 was
in 2009. This increase was primarily the result of increased purchases of
fixed maturities and higher originations of mortgage loans, as we deployed
cash generated from sales of fixed deferred annuities and BOLI, as well as
net proceeds from our IPO. These were partially offset by an increase in
cash received from prepayments, maturities and calls on fixed maturities,
and strategic sales of fixed maturities.
Financing Activities
Cash flows from our financing activities are primarily driven by the amounts and timing of cash received from deposits into certain life insurance and annuity policies and proceeds from our issuances of common stock, as well as the amounts and timing of cash disbursed to fund withdrawals from certain life insurance and annuity policies, and dividend distributions to our stock and warrant holders. The following discussion highlights key drivers in the level of cash flows generated from our financing activities:
• Years Ended
activities for 2011 was
2010. This was primarily driven by lower policyholder deposits as there
were no BOLI deposits in 2011, compared to
deferred annuity policyholder withdrawals, which we anticipate as polices
on a growing block of business move out of the surrender charge period. In
addition, we received net IPO proceeds of
of 2010. • Years EndedDecember 31, 2010 and 2009. Net cash provided by financing
activities for 2010 was
in 2009. This was primarily due to net IPO proceeds of
during the first quarter of 2010 and an increase in policyholder deposits,
primarily related to increased BOLI deposits offset by decreased fixed annuity deposits. 102
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Contractual Obligations and Commitments
We enter into obligations with third parties in the ordinary course of our operations. The estimated cash payments related to these obligations as ofDecember 31, 2011 are set forth in the table below. The estimated payments reflected in this table are based on management's estimates and assumptions, which are necessarily subjective. Actual cash out flows in future periods will vary, possibly materially. Further, we do not believe that our cash flow requirements can be assessed based upon an analysis of these obligations as the funding of these future cash obligations will be from future cash flows from premiums, deposits, fees and investment income that are not reflected in the table below. In addition, our operations involve significant expenditures that are not based upon commitments, including expenditures for payroll and income taxes. Payments Due by Year 2017 and Total 2012 2013-2014 2015-2016 thereafter Contractual Obligations: Insurance obligations (1) $ 41,286.0 $ 2,132.3 $ 4,342.9 $ 4,367.3 $ 30,443.5 Notes payable 450.0 - - 300.0 150.0 Interest on notes payable 157.4 30.8 61.7 52.5 12.4 Purchase obligations: Investments in limited partnerships (2) 81.1 61.1 19.9 0.1 - Servicing fees (3) 28.5 11.3 17.2 - - Other (4) 110.0 105.5 4.5 - - Operating lease obligations (5) 32.7 8.3 16.2 5.5 2.7 Total $ 42,145.7 $ 2,349.3 $ 4,462.4 $ 4,725.4 $ 30,608.6
(1) Includes estimated claim and benefit, policy surrender, reinsurance premiums
and commission obligations on in force insurance policies and deposit
contracts. Estimated claim and benefit obligations are based on mortality,
morbidity and lapse assumptions comparable with our historical experience. In
contrast to this table, our obligations recorded in our consolidated balance
sheets do not incorporate future credited interest for deposit contracts or
tabular interest for insurance policies. Therefore, the estimated obligations
for insurance liabilities presented in this table significantly exceed the
liabilities recorded in reserves for future annuity and contract benefits and
the liability for policy and contract claims. Due to the significance of the
assumptions used, the amounts presented could materially differ from actual
results. We have not included the variable separate account obligations as
these obligations are legally insulated from general account obligations and
will be fully funded by cash flows from separate account assets.
(2) We have investments in limited partnership interests related to tax credit
investments and private equity partnerships. We will provide capital
contributions to our private equity partnerships through 2016 with a
remaining committed amount of
subject to certain contribution limits. Since the timing of payment is
uncertain, the unfunded amount has been included in the payment due in less
than one year. For more information, see Note 14 to the Consolidated
Financial Statements. Amounts recorded on the balance sheets are included in
"other liabilities."
(3) Includes contractual commitments for a service agreement to outsource the
majority of our information technology infrastructure. For more information,
see Note 14 to the Consolidated Financial Statements.
(4) Primarily comprised of unfunded mortgage loan commitments of
(5) Includes minimum rental commitments on leases for office space and certain
equipment. For more information, see Note 14 to the Consolidated Financial
Statements.
Off-balance Sheet Transactions
We do not have any off-balance sheet arrangements that are reasonably likely to have a material effect on our financial condition, results of operations, liquidity, or capital resources.
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Thomas J. Guilfoil, influential lawyer and counsel to football Cardinals, dies [St. Louis Post-Dispatch]
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