Volatility in credit and investment markets. Market conditions showed lower volatility and continued signs of improvement in the fourth quarter of 2009. Early signs of recovery in the U.S. economy and generally favorable third quarter of 2009 corporate earnings led to greater investor confidence and another quarter of positive equity and credit market performance. Rising demand for fixed-income products during the fourth quarter of 2009 led to further compression in credit spreads. Market stability was further reflected in the muted response to bankruptcy and default events during the fourth quarter of 2009 as compared to more volatile responses to such events in 2008 and earlier in 2009. The market for asset-backed securities also improved as risk sensitivity declined and demand for higher-yielding short-term investments returned. As a result, liquidity premiums were lower in many sectors and a clear differentiation between the performance of individual credits returned. Despite overall market improvement, challenging levels of unemployment and continued economic uncertainty still weigh on commercial real estate and consumer-related asset performance, although the rate of decline for the consumer-related asset sectors continues to slow.
The amortization of DAC for mortgage insurance is based on expected gross margins. Expected gross margins, defined as premiums less losses, are set based on assumptions for future persistency and loss development of the business. These assumptions are updated for actual experience to date or as our expectations of future experience are revised based on experience studies. Due to the inherent uncertainties in making assumptions about future events, materially different experience from expected results in persistency or loss development could result in a material increase or decrease to DAC amortization for this business. For the years ended December 31, 2009, 2008 and 2007, key assumptions were unlocked in our international and U.S. mortgage insurance businesses to reflect our current expectation of future persistency and loss projections.
In our U.S. Mortgage Insurance segment, the majority of our insurance contracts have recurring premiums. We recognize recurring premiums over the terms of the related insurance policy on a pro-rata basis (i.e., monthly). Changes in market conditions could cause a decline in mortgage originations, mortgage insurance penetration rates and our market share, all of which could impact new insurance written. For example, a decline in flow new insurance written of $1.0 billion would result in approximately a $6 million reduction in earned premiums in the first full year. Likewise, if flow persistency declined on our existing insurance in-force by 10%, earned premiums would decline by approximately $57 million during the first full year, potentially offset by lower reserves due to policies no longer being in-force.
Insurance and investment product fees and other. Insurance and investment product fees and other consist primarily of fees assessed against policyholder and contractholder account values, surrender charges, cost of insurance assessed on universal life insurance policies, advisory and administration service fees assessed on investment contractholder account values, broker/dealer commission revenues and other fees.
Net income (loss) available to Genworth Financial, Inc.’s common stockholders. The decrease in the net loss available to Genworth Financial, Inc.’s common stockholders was largely the result of higher investment and goodwill impairments recorded in 2008. For a discussion of our Retirement and Protection, International and U.S. Mortgage Insurance segments and Corporate and Other activities, see the “-Results of Operations and Selected Financial and Operating Performance Measures by Segment.” Included in the net loss available to Genworth Financial, Inc.’s common stockholders was a decrease of $33 million, net of taxes, attributable to changes in foreign exchange rates.
Our Retirement and Protection segment increased $262 million attributable to an increase of $132 million in our long-term care insurance business, an increase of $83 million in our retirement income business and an increase of $47 million in our life insurance business.
Our Retirement and Protection segment increased $54 million from an increase of $30 million in our retirement income business, an increase of $20 million in our life insurance business and an increase of $8 million in our long-term care insurance business. These increases were partially offset by a decrease of $4 million in our wealth management business.
Our long-term care insurance business increased $12 million primarily due to growth in the in-force block, partially offset by the final purchase accounting adjustments related to the Continental Life acquisition in 2007 that accelerated amortization of PVFP.
Goodwill impairment. Our retirement income business increased $243 million from impairment charges related to goodwill recorded in the fourth quarter of 2008, of which $185 million related to our spread-based products and $58 million related to our fee-based products.
The following table sets forth selected operating performance measures regarding our life insurance business as of or for the dates indicated:
Wealth management results represent GFWM, Genworth Financial Advisors Corporation, Genworth Financial Trust Company and Quantuvis Consulting, Inc.
The decrease in our lifestyle protection insurance business was primarily associated with an increase in claims particularly in Spain, Ireland and the U.K. as a result of slowing economic conditions. In addition, premiums were lower from reduced levels of consumer lending, lower single premium sales in the U.K. related to new business regulations and a slowing economic environment. However, in the fourth quarter of 2009, net operating income available to Genworth Financial, Inc.’s common stockholders was $23 million as new claim registrations continued to decline and we completed various re-pricing actions.
The decrease in our lifestyle protection insurance business was attributable to reduced levels of consumer lending in the U.K. and a decrease in structured transactions, partially offset by growth in Europe.
(2) Included loans where we were in a secondary loss position for which no reserve was established due to an existing deductible. Excluding these loans, bulk delinquent loans were 3,154, 1,431 and 646 as of December 31, 2009, 2008 and 2007, respectively.
Gross written premiums, premium equivalents and deposits, gross of ceded reinsurance and cancellations, decreased mainly attributable to a decline in the U.K., Spain and Ireland as a result of slowing economic conditions and new regulations in the U.K. resulting in lower single premium sales. The year ended December 31, 2009 included a decrease of $173 million attributable to changes in foreign exchange rates.
The increase in our lifestyle protection insurance business was largely a result of growth in Europe and new markets. Partially offsetting this increase was lower single premium sales as a result of pending anticipated clarifications of related new business regulations in the U.K. and a decrease from our runoff block of business. Additionally, reinsurance arrangements accounted for under the deposit method increased resulting in lower premiums. The year ended December 31, 2008 included an increase of $31 million attributable to changes in foreign exchange rates.
The expense ratio increased as a result of an increase in amortization of DAC and intangibles as a result of a write-down of DAC and an impairment charge related to goodwill, partially offset by increased premiums written primarily from growth in primary insurance in-force and favorable policy persistency. Excluding the effects of the write-down of DAC, goodwill impairment and the restructuring charge in 2008, the expense ratio would have been 22%.
While the rate of increase in delinquencies and foreclosures has slowed in 2009, delinquency and foreclosure levels remain high, particularly in our 2005, 2006 and 2007 books of business, as the U.S. continues to experience an economic recession and weakness in its housing markets. These trends continue to be especially evident in Florida, California, Arizona and Nevada, as well as in our A minus, Alt-A, ARMs and certain 100% loan-to-value products and we are beginning to see such trends in our other products.
The increase in the net operating loss available to Genworth Financial, Inc.’s common stockholders was primarily from lower net investment income and the run-off of our non-core businesses. These decreases were partially offset by lower interest expense and a goodwill impairment recorded in 2008.
Net investment losses were primarily a result of impairments recorded in 2008.
quarter of 2008 and the U.S. government’s response, our strategy for these securities changed. All holdings in issuers of these securities that could not be sold in the third quarter of 2008 were written down as other-than-temporarily impaired in the third quarter of 2008 due to decline, and concerns about further declines, in value. Of the securities that were sold at a loss in 2007, there were no individual transactions that produced losses considered material to the consolidated financial statements.
Prior to adoption of new accounting guidance related to the recognition and presentation of other-than-temporary impairments on April 1, 2009, we generally recognized an other-than-temporary impairment on debt securities in an unrealized loss position when we did not expect full recovery of value or did not have the intent and ability to hold such securities until they had fully recovered their amortized cost. The recognition of other-than-temporary impairments prior to April 1, 2009 represented the entire difference between the amortized cost and fair value with this difference being recorded in net income (loss) as an adjustment to the amortized cost of the security.
Long-Duration Contracts. Acquisition costs include commissions in excess of ultimate renewal commissions, solicitation and printing costs, sales material and some support costs, such as underwriting and contract and policy issuance expenses. Amortization for traditional long-duration insurance products is determined as a level proportion of premium based on commonly accepted actuarial methods and reasonable
Basic and diluted earnings (loss) per share are calculated by dividing net income (loss) for the years ended December 31, 2009, 2008 and 2007 by 451.1 million, 433.2 million and 439.7 million weighted-average basic shares outstanding and by 451.1 million, 433.2 million and 447.6 million weighted-average diluted shares outstanding, respectively.
Net unrealized gains and losses on investment securities classified as available-for-sale and other invested assets are reduced by deferred income taxes and adjustments to DAC, PVFP and sales inducements that would have resulted had such gains and losses been realized. Net unrealized gains and losses on available-for-sale investment securities reflected as a separate component of accumulated other comprehensive income (loss) were as follows as of December 31:
Of the $2,125 million unrealized losses in structured securities, 39% were in commercial mortgage-backed securities and 38% were in residential mortgage-backed securities with the remainder in other asset-backed securities. Approximately 59% of the total unrealized losses in structured securities were on securities that have retained investment grade ratings. Most of these securities have been in an unrealized loss position for 12 months or more. Given the current market conditions and limited trading on these securities, the fair value of these securities has declined due to widening credit spreads and high premiums for illiquidity. We examined the performance of the underlying collateral and developed our estimate of cash flows expected to be collected. In doing so, we identified certain securities where the non-credit portion of other-than-temporary impairments was recorded in OCI. Based on this evaluation, we determined that the unrealized losses on our mortgage-backed and asset-backed securities represented temporary impairments as of December 31, 2009.
Under these principles, we may have two types of “impaired” loans: loans requiring specific allowances for losses ($21 million and $4 million as of December 31, 2009 and 2008, respectively) and loans expected to be fully recoverable because the carrying amount has been reduced previously through charge-offs or deferral of income recognition (none as of December 31, 2009 and 2008).
All of our master swap agreements contain credit downgrade provisions that allow either party to assign or terminate derivative transactions if the other party’s long-term unsecured debt rating or financial strength rating is below the limit defined in the applicable agreement. If the downgrade provisions had been triggered as of December 31, 2009 and 2008, we could have been allowed to claim up to $102 million and $407 million, respectively, from counterparties and required to disburse up to $1 million and $4 million, respectively. This represents the net fair value of gains and losses by counterparty, less available collateral held.
During 2009, 2008 and 2007, we strengthened reserves by $421 million, $514 million and $101 million, respectively, as a result of changes in estimates related to prior year insured events and the development of information and trends not previously known when establishing the reserves in prior periods. In 2009, we strengthened claims reserves related to our long-term care insurance business by $211 million from $2,791 million as of December 31, 2008. Consistent with our reserving methodology, the strengthening includes a reclassification from future policy benefit reserves, which includes a provision for expected claims from policy inception. This provision is reclassified to claim reserves upon commencement of actual claim activity. Additionally, the strengthening includes refinements to our estimated claims reserves for timing, amount and duration of claims associated with observed loss development. We also strengthened reserves related to our international mortgage insurance business in 2009 by $125 million from $366 million as of December 31, 2008. This strengthening was primarily related to an increase in delinquencies, particularly in Canada and Europe, as a result of slowing economies, rising unemployment, falling real estate values and reduced consumer spending in those countries that were experienced at the end of 2008. The impact of these market and economic events could not have been predicted at the time these reserves were established. For our other businesses, the remaining unfavorable development related to refinements on both reported and unreported insured events occurring in the prior year as part of our reserving process.
In September 2005, we issued senior notes having an aggregate principal amount of $350 million, with an interest rate equal to 4.95% per year payable semi-annually, and maturing in October 2015 (“2015 Notes”). The 2015 Notes are our direct, unsecured obligations and will rank equally with all of our existing and future unsecured and unsubordinated obligations. We have the option to redeem all or a portion of the 2015 Notes, at any time with proper notice to the note holders at a price equal to the greater of 100% of principal or the sum of the present value of the remaining scheduled payments of principal and interest discounted at the then-current treasury rate plus an applicable spread. The net proceeds of $348 million from the issuance of the 2015 Notes were used to reduce our outstanding commercial paper borrowings.
As part of our corporate formation, we issued $100 million of 5.25% Series A Preferred Stock (“Series A Preferred Stock”) to GEFAHI. GEFAHI sold all of our Series A Preferred Stock in a public offering concurrent with our IPO. Two million shares of our authorized preferred stock have been designated 5.25% Cumulative Series A Preferred Stock. As of December 31, 2008, two million shares of our Series A Preferred Stock were outstanding. During the fourth quarter of 2009, we repurchased 734,500 shares of our Series A Preferred Stock for $36 million. As of December 31, 2009, approximately 1.3 million shares of our Series A Preferred Stock were outstanding.
portion of the GE consolidated return allocated to such companies is still subject to IRS examination. Certain issues from the 2000 through 2004 audit cycle are agreed upon with the IRS appeals division and are in the process of being prepared for review by the Joint Committee of Taxation. HM Revenue and Customs is currently reviewing our U.K. income tax returns for 2003 and later years.
(1) Grants and forfeitures of shares subject to option in 2009 included awards cancelled and replacement options granted following completion of a stockholder approved voluntary equity exchange program in 2009 as further described below.
The following table summarizes information about stock options outstanding as of December 31, 2009:
In 2007, we granted approximately 937,300 performance stock unit awards (“PSUs”) which were included in RSUs in the table above, with fair values ranging from $26.59 to $34.85. The PSUs were granted at market price as of the grant date. The PSUs could be earned over a three-year period based upon the achievement of certain performance goals relating to our operating return on equity and net operating income and were payable in Genworth Class A Common Stock in March 2010 provided we attained or exceeded threshold levels related to the performance goals. However, during 2008, it was determined that threshold levels of performance would not be achieved for the three-year period. Therefore, none of the PSUs will vest and all expenses related to the PSUs were reversed in 2008. We terminated 68,000 PSUs in 2009 and 27,000 PSUs in 2008. We did not grant any PSUs in 2009 or 2008.
Purchases, sales, issuances and settlements, net, presented for policyholder account balances represents the issuances and settlements of embedded derivatives associated with our GMWB liabilities where: issuances are characterized as the change in fair value associated with the product fees recognized that are attributed to the embedded derivative to equal the expected future benefit costs upon issuance and settlements are characterized as
Sales of securitized assets to QSPEs typically result in a gain or loss amounting to the net of sales proceeds, the carrying amount of net assets sold, the fair value of servicing rights and retained interests and an allowance for losses. There were no off-balance sheet securitizations in 2009, 2008 and 2007. However, we had $36 million of impairment related to a retained interest in securitized assets in the current year. Based on revised assumptions regarding cash flows from the assets underlying this securitization transaction, we concluded the value of our retained interest was zero and recognized the full impairment.
Amounts recognized in our consolidated financial statements related to our historical securitization activity with QSPEs were as follows as of December 31:
For regulatory purposes, our mortgage insurance subsidiaries are required to maintain a statutory contingency reserve. Annual additions to the statutory contingency reserve must equal the greater of: (i) 50% of earned premiums or (ii) the required level of policyholders position, as defined by state insurance laws. These contingency reserves generally are held until the earlier of: (i) the time that loss ratios exceed 35% or (ii) ten years. The statutory contingency reserves as of December 31, 2009 for our U.S. mortgage insurance subsidiaries were approximately $928 million.
The following is a summary of our segments and Corporate and Other activities as of or for the years ended December 31:
On July 7, 2009, Genworth Canada, our indirect subsidiary, completed the initial public offering (the “Offering”) of its common shares. Of the 44.7 million common shares of Genworth Canada that were sold in the Offering, 5.1 million common shares were sold by Genworth Canada and 39.6 million common shares were sold by Brookfield Life Assurance Company Limited (the “Selling Shareholder”), our indirect wholly-owned subsidiary. Following completion of the Offering, we beneficially owned 61.8% of the common shares of Genworth Canada. In addition, the Selling Shareholder granted to the underwriters of the Offering an option (the “Over-Allotment Option”), that was exercisable for a period of 30 days after the closing of the Offering, to purchase up to an additional 6.7 million common shares from the Selling Shareholder. On July 30, 2009, 5.0 million common shares were sold by the Selling Shareholder pursuant to the Over-Allotment Option. Following the exercise and closing of the Over-Allotment Option, we beneficially own 57.5% of the common shares of Genworth Canada. The Offering and the Over-Allotment Option generated gross proceeds of approximately $820 million. We paid $50 million of expenses directly related to the transaction, including underwriting commissions and other items. The gross proceeds included $22 million of cash remaining in Genworth Canada. In December 2009, a dividend of $10 million was paid to the noncontrolling interests.
Genworth Financial, Inc. (“Genworth”) was incorporated in Delaware on October 23, 2003. In connection with its corporate formation, Genworth issued 1,000 shares of common stock for $1,000 to GE Financial Assurance Holdings, Inc. (“GEFAHI”), an indirect subsidiary of General Electric Company (“GE”).
On March 25, 2009, River Lake Insurance Company IV Limited, our wholly-owned subsidiary, repaid $12 million of its total outstanding $40 million Class B Floating Rate Subordinated Notes due May 25, 2028 following an early redemption event, in accordance with the priority of payments.