Globe Life leases 34,000 square feet of an office building located in Oklahoma City, Oklahoma. Globe Marketing Services, a subsidiary of Globe Life, owns a 133,000 square foot facility in Oklahoma City that houses the Globe Life Direct Response operation. Globe Life also leases a 10,000 square foot storage facility in Allen, Texas.
Family Heritage owns 50% of a partnership that owns a 66,000 square foot building in Broadview Heights, Ohio (a suburb of Cleveland). Family Heritage leases 24,157 square feet of the building for various corporate operations. The partnership also leases a portion of the building to unrelated tenants.
See discussion of tax legislation impact in 2017 in the Results of Operations.
See discussion under the caption Capital Resources in Management’s Discussion and Analysis in this report concerning the effect this rule has on Torchmark’s equity.
How Torchmark Views Its Operations. Torchmark is the holding company for a group of insurance companies that market primarily individual life and supplemental health insurance to lower middle to middle income households throughout the United States. We view our operations by segments, which are the insurance product lines of life, health, and annuities, and the investment segment that supports the product lines. Segments are aligned based on their common characteristics, comparability of the profit margins, and management techniques used to operate each segment.
Insurance Product Line Segments. The insurance product line segments involve the marketing, underwriting, and administration of policies. Each product line is further segmented by the various distribution units that market the insurance policies. Each distribution unit operates in a niche market offering insurance products designed for that particular market. Whether analyzing profitability of a segment as a whole, or the individual distribution units within the segment, the measure of profitability used by management is the underwriting margin, which is:
During 2018, the Company repurchased 4.4 million shares at a total cost of $372 million for an average share price of $84.38.
In 2017, tax legislation revised the corporate income tax rate from 35% to 21% effective January 1, 2018. See Note 5-Income Taxes for further discussion. In 2018, income tax expense was calculated based on the 21% rate as compared with a 35% rate for 2017.
Net income was $701 million in 2018, compared with $1.5 billion in 2017. This decrease was primarily due to an $874 million increase to net income in 2017, relating to new tax legislation as described above. Net income increased in 2017 from $550 million in 2016. On a diluted per common share basis, 2018 net income fell 50% to $6.09 after a 172% increase in 2017. Net income per diluted common share in 2017 rose to $12.22 from $4.49 in 2016. As previously noted, 2017 net income per diluted common share includes the effect of the adjustment to net income relating to new tax legislation. The percentage growth in net income per share results continues to exceed the growth in dollar amounts due to our share repurchase program. Each year’s net income per share was affected by realized gains (losses), which were $(0.01), $0.15, and $(0.06), in 2018, 2017 and 2016, respectively. More information concerning realized gains and losses can be found under the caption Realized Gains and Losses in this report.
Net operating income from continuing operations rose each year over the prior year from $549 million in 2016 to $574 million in 2017 to $707 million in 2018. Net operating income is the consolidated total of segment profits after tax and
as such is considered a non-GAAP measure. Net income is the most directly comparable GAAP measure. We do not consider realized gains and losses to be a component of our core insurance operations or operating segments. Additionally, net income was affected by certain significant and unusual non-operating items in each of the years 2016 through 2018. We do not view these items as components of core operating results because they are not indicative of past performance or future prospects of the insurance operations. We remove items such as these that relate to prior periods or are non-operating items when evaluating the results of current operations, and therefore exclude such items from our segment analysis for current periods.
Total revenues rose 4% or $148 million in 2018 to $4.3 billion from the prior year. Life premium rose 4% or $100 million in 2018 to $2.4 billion. Life premium increased $117 million in 2017 to $2.3 billion. Health premium increased 4% to $1.0 billion in 2018 and contributed $39 million to 2018 revenue growth, after having gained 3% to $976 million in 2017. Health premium contributed $29 million to 2017 revenue growth. Net investment income rose 4% or $35 million in 2018, and rose 5% or $41 million in 2017.
Life insurance premium and underwriting margins have grown in each of the last three years ended December 31, 2018. The increase in life premium was driven by sales growth and improvements in persistency. Life underwriting
margin as a percent of premium increased in 2018 to 27%, after remaining flat at 26% in 2016 and 2017. Net life sales decreased $4 million in 2018 to $413 million. The decline is primarily attributable to flat sales in the American Income Exclusive Agency due to lack of growth in agent count and productivity, and a decline in sales in our Globe Life Direct Response unit as a result of operational changes intended to improve profitability on new business. Net life sales increased between 2016 and 2017. The life insurance segment is discussed further in this report under the caption Life Insurance.
We do not currently market stand-alone fixed or deferred annuities. See the caption Annuities for discussion of the Annuity segment.
Insurance administrative expenses were up 6.3% in 2018 when compared with the prior year period, and increased to 6.5% as a percentage of premium from 6.4% in 2017 and 6.3% in 2016. The increase in administrative expenses is primarily due to an increase in other employee costs and investments in information technology. See further discussion under the caption Administrative expenses.
With the significant pullback of the overall stock market in December, the Company accelerated approximately $25 million of repurchases from 2019 to 2018 at an average price of approximately $76.00. The repurchases were paid from cash at the Parent Company and issuance of commercial paper.
Throughout the remainder of this discussion, share purchases refer only to those made from excess cash flow at the Parent Company.
Life insurance premium rose 4% to $2.4 billion in 2018 after having increased 5% in 2017 to $2.3 billion. Life insurance products are marketed through several distribution channels. Premium income by distribution channel for each of the last three years is as follows:
Annualized life premium in force was $2.5 billion at December 31, 2018, an increase of 4% over $2.4 billion a year earlier. Annualized life premium in force was $2.3 billion at December 31, 2016.
While American Income Exclusive Agency has historically marketed primarily to members of labor unions, this agency has diversified in recent years by focusing heavily on other affinity groups, third party internet vendor leads, and referrals to help ensure sustainable growth. This agency is Torchmark’s largest contributor to life premium of any distribution channel at 45% of Torchmark’s 2018 total. This agency produced premium income of $1.1 billion, an increase of 8% over the prior year total of $999 million, after having risen 9% in 2017. First-year collected premium was $191 million compared with $183 million in 2017, an increase of 4%. First-year collected premium rose 5% in 2017. Net sales increased to $224 million in 2018 over the 2017 total of $223 million. Net sales increased 6% in 2017 over the 2016 total of $210 million. Sales growth in our captive agencies is generally dependent on growth in the size of the agency force. The American Income Exclusive Agency's average producing agent count rose slightly to 6,971 in 2018, compared with 6,962 in 2017. The average producing agent count is based on the actual count at the end of each week during the period.
Globe Life Direct Response’s life premium income rose 2% to $829 million, representing 34% of Torchmark’s total life premium during 2018. Life premium in this channel increased 4% in 2017 to $813 million over the 2016 total of $783 million. Net sales of $126 million for this group decreased 7% from $136 million in 2017, after a 10% decrease in 2017 due to operational changes designed to maximize underwriting margin dollars. In 2019, we expect sales to be relatively flat or increase slightly. First-year collected premium decreased 10% to $82 million in 2018 after having decreased 7% in 2017.
The Other Agencies distribution channels offering life insurance include the Military Agency, the UA Independent Agency (which predominantly writes health insurance), and various smaller distribution channels. The Other Agencies contributed $217 million of life premium income, or 9% of Torchmark’s total in 2018, but contributed only 3% of net sales for the year.
Health insurance sold by Torchmark includes primarily Medicare Supplement insurance, critical illness coverage, accident coverage, and other limited-benefit supplemental health products. In this analysis, all health coverage plans other than Medicare Supplement are classified as limited-benefit plans.
Health premium accounted for 30% of our total premium in 2018, while the health underwriting margin accounted for 26% of total underwriting margin, reflective of the lower underwriting margin as a percent of premium for health compared with life insurance. As noted under the caption Life Insurance, we have emphasized life insurance sales relative to health, due to life’s superior profitability and its greater contribution to excess investment income.
The following table presents the summary of results for health insurance.
Health premium increased 4% from $976 million in 2017 to $1.0 billion in 2018. Health underwriting margin increased 8% from $220 million in 2017 to $236 million in 2018. Further discussion is included below by distribution channels.
We market supplemental health insurance products through a number of distribution channels. The following table presents net sales by distribution channel for the last three years.
The UA Independent Agency consists of independent agencies appointed with Torchmark who may also sell for other companies. The UA Independent Agency was Torchmark’s largest health agency in terms of health premium income. In 2018, premium income was $381 million, representing 38% of Torchmark’s total health premium. Net sales were $70 million, or 41% of Torchmark’s health sales. This agency is also Torchmark’s largest producer of Medicare Supplement insurance, with Medicare Supplement premium income of $370 million. The UA Independent Agency represents 75% of all Torchmark Medicare Supplement premium and 94% of Medicare Supplement net sales. Medicare Supplement premium in this agency rose 5% in 2018. Total health premium increased 5% in 2018 and 3% in 2017. Medicare Supplement net sales increased 15% in 2018 from the prior year, primarily as a result of an increase in individual sales.
The Family Heritage Exclusive Agency primarily markets limited-benefit supplemental health insurance in non-urban areas. Most of their policies include a cash-back feature, such as a return of premium, where any excess of premiums over claims paid is returned to the policyholder at the end of a specified period stated within the insurance policy. Management expects to grow this agency through geographic expansion and continuing incorporation of Torchmark’s recruiting systems. The Family Heritage Agency contributed $60 million in net sales in 2018, compared with $57 million in 2017 and $51 million in 2016. Health premium income was $273 million in 2018, representing 27% of Torchmark’s health premium. This compared with $254 million or 26% of health premium in 2017 and $236 million or 25% in 2016.
Underwriting margin as a percent of premium was 24%, up from 22% for the year ended December 31, 2017. The increase was primarily attributed to the runoff of older business and the growing portion of new business sold at higher margins. The average producing agent count was 1,064 for the year ended December 31, 2018, compared with 995 for the same period in 2017, an increase of 7%.
The Liberty National Exclusive Agency represented 19% of all Torchmark health premium income at $191 million in 2018. The Liberty Agency markets limited-benefit supplemental health products consisting primarily of critical illness insurance. Much of Liberty’s health business is now generated through work site marketing targeting small businesses of 10 to 25 employees. In 2018, health premium income declined 2% after declining 3% during 2017. Liberty’s health premium decline is primarily attributable to its declining Medicare Supplement block. Liberty's first-year collected premium increased 8% to $18 million in 2018 compared with an increase of 2% in 2017, reflecting the steady increase in net sales of limited-benefit plans in the agency.
Other distribution. Certain of our other distribution channels market health products, although their main emphasis is on life insurance. On a combined basis, they accounted for 16% of health premium in 2018 and 17% in 2017. The American Income Exclusive Agency primarily markets accident plans. The Direct Response group markets primarily Medicare Supplements to employer or union-sponsored groups. Direct Response added $5 million of Medicare Supplement net sales in 2018 and $6 million in 2017 and 2016.
Operating expenses are included in the Corporate and Other segment and are classified into two categories: insurance administrative expenses and expenses of the Parent Company. Insurance administrative expenses generally include those expenses incurred after a policy has been issued. Expenses associated with the issuance of our insurance policies are reflected as acquisition expenses and included in the determination of underwriting margin. The following table is an analysis of operating expenses for the three years ended December 31, 2018.
The 6.3% increase in insurance administrative expenses was primarily due to an increase in other employee costs and information technology salaries and expenses. Other employee costs increased primarily due to higher pension expense driven by lower interest rates. The increase in information technology costs reflects investments related to data analytics capabilities, administrative systems modernizations, and information security programs. The increase in stock-based compensation expense was primarily due to higher expense associated with equity awards, reflecting Torchmark's higher share price as compared with the same period a year ago.
We manage our capital resources including investments, debt, and cash flow through the investment segment. Excess investment income represents the profit margin attributable to investment operations and is the measure that we use to evaluate the performance of the investment segment as described in Note 14-Business Segments. It is defined as net investment income less both the required interest on net policy liabilities and the interest cost associated with capital funding or “financing costs.”
Required interest on net insurance policy liabilities reduces net investment income as it is the amount of net investment income considered by management necessary to “fund” the required interest included in the insurance segments. As such, it is removed from the investment segment and applied to the insurance segments to offset the effect of the required interest from the insurance segments. As discussed in Note 14-Business Segments, management believes this provides a more meaningful analysis of the investment and insurance segments. Required interest is based on the actuarial interest assumptions used in discounting the benefit reserve liability and the amortization of deferred acquisition costs for our insurance policies in force.
Since actuarial discount rates are locked in for life on essentially all of our business, benefit reserves and deferred acquisition costs are not affected by interest rate fluctuations unless a loss recognition event occurs. Due to the strength of our underwriting margins, we do not expect an extended low-interest-rate environment to cause a loss recognition event.
Therefore, gains or losses which occur in protecting the portfolio or its yield, or which result from events that are beyond our control, are only secondary to our core insurance operations of providing insurance coverage to policyholders.
The following table summarizes our tax-effected realized gains (losses) by component for each of the years in the three-year period ended December 31, 2018.
New cash flow available for investment has been primarily provided through our insurance operations, cash received on existing investments, and proceeds from dispositions. While calls increase funds available for investment, as noted earlier in this discussion, they can also have a negative impact on investment income if the proceeds from the calls are reinvested in bonds that have lower yields than those of the bonds that were called. Issuer calls were $146 million in 2018, $371 million in 2017, and $182 million in 2016.
We are not a party to any credit default swaps or other derivative contracts. We do not participate in securities lending, we have no off-balance sheet investments, and we do not have any exposure to European sovereign debt at December 31, 2018. In the prior year, it was announced by the head of the United Kingdom's Financial Conduct Authority that they plan to phase out the floating rate, London Interbank Offered Rate (LIBOR), by the end of 2021. Uncertainty remains as to what will be the replacement floating rate. As of December 31, 2018, Torchmark had limited assets and liabilities that utilize LIBOR as a benchmark rate. We will continue to monitor the progress towards the establishment of a new floating rate.
Corporate securities, which consist of bonds and redeemable preferred stocks, were the largest component of the fixed maturity portfolio, representing 88% of amortized cost and 87% of fair value. The remainder of the portfolio is invested primarily in securities issued by the U.S. government and U.S. municipalities. The Company holds insignificant amounts in foreign government bonds, collateralized debt obligations, asset-backed securities, and agency mortgage-backed securities. Corporate securities are diversified over a variety of industry sectors and issuers. As shown in the chart above, financial, utility, and energy sectors represented approximately 47% of the portfolio.
For more information about our fixed maturity portfolio by component at December 31, 2018 and 2017, including a discussion of other-than-temporary impairments, an analysis of unrealized investment losses and a schedule of maturities, see Note 4-Investments.
Our investment policy regarding fixed maturities is to acquire only investment-grade obligations. Thus, any increases in below investment-grade issues are a result of ratings downgrades of existing holdings.
Market Risk Sensitivity. Torchmark’s investment securities are exposed to interest rate risk, meaning the effect of changes in financial market interest rates on the current fair value of the company’s investment portfolio. Since 95% of the book value of our investments is attributable to fixed maturity investments (and virtually all of these investments are fixed-rate investments), the portfolio is highly subject to market risk. Declines in market interest rates generally result in the fair value of the investment portfolio rising, and increases in interest rates cause the fair value to decline. Under normal market conditions, we are not concerned about unrealized losses that are interest rate driven since we would not expect to realize them. We have the intent, and more importantly, the ability to hold our investments to maturity. The long-term nature of our insurance policy liabilities and strong cash-flow operating position substantially
Parent Company Liquidity. Cash flows from the insurance subsidiaries are used to pay interest and principal repayments on Parent Company debt, operating expenses of the Parent Company, and Parent Company dividends to Torchmark shareholders.
For more information on the restrictions on the payment of dividends by subsidiaries, see the Restrictions section of Note 12-Shareholders’ Equity. Although these restrictions exist, dividend availability from subsidiaries historically has been more than sufficient for the cash flow needs of the Parent Company.
Short-Term Borrowings. An additional source of Parent Company liquidity is a line of credit facility with a group of lenders which allows unsecured borrowings and stand-by letters of credit up to $750 million, which could be extended up to $1 billion. While Torchmark can request the extension, it is not guaranteed. In May 2016, Torchmark amended the facility to extend the maturity date to May 2021. The amendment also allowed for an additional $100 million term loan as discussed under the caption Credit Facility in Note 11-Debt. The facility is further designated as a back-up line of credit for a commercial paper program as well as the stand-by letters of credit as discussed below. As of December 31, 2018, we had available $293 million of additional borrowing capacity under this facility, compared with $249 million a year earlier. There have been no difficulties in accessing the commercial paper market during the three years ended December 31, 2018.
Torchmark expects to have readily available funds for 2019 and the foreseeable future to conduct its operations and to maintain target capital ratios in the insurance subsidiaries through internally generated cash flow and the credit facility. In the unlikely event that more liquidity is needed, the Company could generate additional funds through multiple sources including, but not limited to, the issuance of debt, an additional short-term credit facility, and intercompany borrowing.
Off-Balance Sheet Arrangements. As a part of its aforementioned credit facility, Torchmark had outstanding $155 million in stand-by letters of credit at December 31, 2018. On March 14, 2018, the letters of credit were amended to reduce the amount outstanding from $177 million as of December 31, 2017. These letters are issued among our subsidiaries, one of which is an offshore captive reinsurer, and have no impact on company obligations as a whole. Any future regulatory changes that restrict the use of off-shore captive reinsurers might require Torchmark to obtain third-party financing, which could cause an insignificant increase in financing costs.
The following table presents information about future payments under our contractual obligations for the selected periods as of December 31, 2018.
Purchase obligations include various long-term non-cancelable purchase commitments as well as commitments to provide capital for low-income housing tax credit interests.
Pension obligations are primarily liabilities in trust funds that are calculated in accordance with the terms of the pension plans. They are offset by invested assets in the trusts, which are funded through periodic contributions by Torchmark in a manner which will provide for the settlement of the obligations as they become due. Therefore, our obligations are offset by those assets when reported on Torchmark’s Consolidated Balance Sheets. At December 31, 2018, these pension obligations were $556 million, but there were also assets of $393 million in the pension entities. The schedule of pension benefit payments covers ten years and is based on the same assumptions used to measure the pension obligations, except there is no interest assumption because the payments are undiscounted. Please refer to Note 9-Postretirement Benefits for more information on pension obligations.
On September 27, 2018, Torchmark completed the issuance and sale of $550 million in aggregate principal of Torchmark’s 4.55% Senior Notes due 2028. The notes were sold pursuant to Torchmark’s shelf registration statement on Form S-3. The net proceeds from the sale of the notes were $543 million, after giving effect to the underwriting discounts and commissions and offering expenses payable by Torchmark. Torchmark used the net proceeds from the sale of the notes to redeem the $293 million outstanding principal amount on Torchmark’s 9.25% Senior Notes on October 29, 2018, the payment of $11 million for the make-whole premium plus accrued and unpaid interest of $10 million, and to fund $150 million of additional capital to its insurance subsidiaries. Torchmark used the remaining net proceeds to repay outstanding commercial paper and for general corporate purposes. Torchmark received the following credit ratings on the new debt from:
On November 17, 2017, Torchmark completed the issuance and sale of $125 million in aggregate principal of Torchmark’s 5.275% Junior Subordinated Debentures due 2057. The debentures were sold in a private placement pursuant to exemptions from the registration requirements of the Securities Act of 1933. The initial purchaser of the debentures was outside the United States. The net proceeds from the sale of the debentures were $123.3 million, after giving effect to the discount payable to the initial purchaser and expenses of the offering of the debentures. Torchmark used the net proceeds from the offering of the debentures to repay the $125 million outstanding principal of the 5.875% Junior Subordinated Debentures that were due December 15, 2052 and that were callable beginning December 15, 2017.
Subsidiary Capital: The National Association of Insurance Commissioners (NAIC) has established a risk-based factor approach for determining threshold risk-based capital levels for all insurance companies. This approach was designed to assist the regulatory bodies in identifying companies that may require regulatory attention. A Risk-Based Capital (RBC) ratio is typically determined by dividing adjusted total statutory capital by the amount of risk-based capital determined using the NAIC’s factors. If a company’s RBC ratio approaches two times the RBC amount, the company must file a plan with the NAIC for improving their capital levels (this level is commonly referred to as “Company Action Level” RBC). Companies typically hold a multiple of the Company Action Level RBC depending on their particular business needs and risk profile.
Our goal is to maintain statutory capital within our insurance subsidiaries at levels necessary to support our current ratings. For 2018, Torchmark targeted a consolidated Company Action Level RBC ratio of 300% to 320%. The Company believes this capital level is more than adequate and is sufficient to support its current ratings given the nature of its business and its risk profile. Due to changes in the insurance company’s capital levels as a result of the new tax legislation effective January 1, 2018, the Parent Company used approximately $150 million of the net proceeds from the issuance of senior notes in 2018 to provide additional capital to its insurance subsidiaries. As of December 31, 2018, our consolidated Company Action Level RBC ratio was 326%, slightly above our targeted range.
Shareholder's Equity: As noted under the caption Analysis of Share Purchases within this report, we have an ongoing share repurchase program.
Torchmark has continually increased the quarterly dividend on its common shares over the past three years.
Shareholders’ equity was $5.4 billion at December 31, 2018, compared with $6.2 billion at December 31, 2017, a decrease of $816 million or 13%. During the twelve months since December 31, 2017, shareholders’ equity was reduced
by $1.1 billion of after-tax unrealized losses as well as $372 million in share purchases under the repurchase program and an additional $50 million in share purchases to offset the dilution from stock option exercises. Shareholder's equity was increased by $701 million of net income during this period.
Due to the size of our policy liabilities in relation to our shareholders’ equity, this inconsistency in measurement usually has a material impact on the reported value of shareholders’ equity. Fluctuations in interest rates cause undue volatility in the period-to-period presentation of our shareholders’ equity, capital structure, and financial ratios which would be essentially removed if interest-bearing liabilities were valued in the same manner as assets. From time to time, the market value of our fixed maturity portfolio may be depressed as a result of bond market illiquidity which could result in a significant decrease in shareholders’ equity. Due to the long-term nature of our fixed maturities and liabilities and the strong cash flows consistently generated by our insurance subsidiaries, we have the intent and ability to hold our securities to maturity. As such, we do not expect to incur losses due to fluctuations in market value of fixed maturities caused by interest rate changes and temporarily illiquid markets. Accordingly, our management, credit rating agencies, lenders, many industry analysts, and certain other financial statement users prefer to remove the effect of this accounting rule when analyzing our balance sheet, capital structure, and financial ratios.
Torchmark’s debt covenants require that the effect of the accounting guidance requiring revaluation be removed to determine this ratio. This ratio is computed by dividing total debt by the sum of debt and shareholders’ equity.
Torchmark’s ratio of earnings before interest and taxes to interest requirements (times interest earned) was 10.6 times in 2018, compared with 10.8 times in 2017 and 10.3 times in 2016 based on continuing operations. This times-interest-earned ratio is computed by dividing interest expense into the sum of pre-tax income from continuing operations and interest expense. A discussion of our interest expense is included in the discussion of financing costs under the caption Investments in this report.
Approximately 88% of our liabilities for future policy benefits at December 31, 2018 were traditional insurance liabilities where the liability is determined as the present value of future benefits less the present value of the portion of the gross premium required to pay for such benefits. The assumptions used in estimating the future benefits for this portion of business are set at the time of contract issue. These assumptions are “locked in” and are not revised for the lifetime of the contracts, except where there is a premium deficiency, as defined in Note 1-Significant Accounting Policies under the caption Future Policy Benefits. Otherwise, variability in the accrual of policy reserve liabilities after policy issuance is caused only by variability of the inventory of in force policies.
Over 99% of our recorded amounts for deferred acquisition costs at December 31, 2018 were related to traditional products and are being amortized over the premium-paying period in proportion to the present value of actual historic and estimated future gross premiums. The projection assumptions for this business are set at the time of contract issue. These assumptions are “locked-in” at that time and, except where there is a loss recognition issue, are not revised for the lifetime of the contracts. Absent a premium deficiency, variability in amortization after policy issuance is caused only by variability in premium volume. We have not recorded a deferred acquisition cost loss recognition event for assets related to this business for any period in the three years ended December 31, 2018.
Valuation of Fixed Maturities. We hold a substantial investment in high-quality fixed maturities to provide for the funding of our future policy contractual obligations over long periods of time. While these securities are generally expected to be held to maturity, they are classified as available for sale and are sold from time to time, primarily to
Impairment of Investments. We continually monitor our investment portfolio for investments where fair value has declined below carrying value and that have become impaired in value. While the values of the investments in our portfolio constantly fluctuate due to market conditions, an other-than-temporary impairment charge is recorded only when a security has experienced a decline in fair market value which is deemed to be other than temporary. The policies and procedures that we use to evaluate and account for impairments of investments are disclosed in Note 1-Significant Accounting Policies and the discussions under the captions Investments and Realized Gains and Losses in this report. While every effort is made to make the best estimate of status and value with the information available regarding an other-than-temporary impairment, it is difficult to predict the future prospects of a distressed or impaired security.
Defined benefit pension plans. We maintain funded defined benefit plans covering most full-time employees. We also have an unfunded nonqualified defined benefit plan covering certain key and other employees. Our obligations under these plans are determined actuarially based on specified actuarial assumptions. In accordance with GAAP, an expense is recorded each year as these pension obligations grow due to the increase in the service period of employees and the interest cost associated with the passage of time. These obligations are offset, at least in part, by the growth in value of the assets in the funded plans. At December 31, 2018, our gross liability under these plans was $556 million, but was offset by assets of $393 million.
Forward-looking statements are based upon estimates and assumptions that are subject to significant business, economic and competitive uncertainties, many of which are beyond our control. If these estimates or assumptions prove to be incorrect, the actual results may differ materially from the forward-looking statements made on the basis of such estimates or assumptions. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable events or developments, which may be national in scope, related to the insurance industry generally, or applicable to Torchmark specifically. Such events or developments could include, but are not necessarily limited to:
Reported amounts in the consolidated financial statements which are based on our estimates and judgments which may differ from the actual amounts ultimately realized.
These financial statements are the responsibility of Torchmark’s management. Our responsibility is to express an opinion on Torchmark’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to Torchmark in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
Discontinued Operations: When a component of Torchmark’s business is sold or expected to be sold during the ensuing year, Torchmark considers whether the criteria of ASC 205-20, Discontinued Operations, have been met, which includes evaluating if the disposal of a component represents a strategic shift that has, or will have, a major effect on the Company. If the disposal meets the criteria for discontinued operations, the assets and liabilities are segregated and recorded in the Consolidated Balance Sheets as "Assets and Liabilities related to discontinued operations" for all periods presented. If the carrying amount of the business exceeds its estimated fair value, a loss is recognized. The results of operations for the discontinued component are reported in "Income from discontinued operations, net of tax" in the Consolidated Statements of Operations for current and prior periods. Discontinued operations are reported commencing in the period in which the business is either disposed of or meets the accounting criteria for discontinued operations, including any gain or loss recognized on the sale or adjustment of the carrying amount to the estimated fair value less cost to sell.
Torchmark sold one of its operating segments, Medicare Part D, during 2016. The financial results of this business are excluded from Torchmark's continuing operations including the Notes to the Consolidated Financial Statements.
Investments: Torchmark classifies all of its fixed maturity investments as available for sale. Investments classified as available for sale are carried at fair value with unrealized gains and losses, net of deferred taxes, reflected directly in accumulated other comprehensive income. Policy loans are carried at unpaid principal balances. Other long-term investments include equity securities, real estate, commercial mortgage loan participations, and limited partnerships.
Investments in equity securities are reported at fair value with changes in fair value, net of deferred taxes, reflected directly in "Realized Gains (Losses)" in the Consolidated Statements of Operations. Investments in real estate are reported at cost less allowances for depreciation. Depreciation is calculated on the straight-line method. Investments in certain limited partnerships are accounted for using the fair value option and fluctuations in fair value are reported in "Realized Gains (Losses)." Short-term investments include investments in interest-bearing assets with original maturities of twelve months or less. Gains and losses realized on the disposition of investments are determined on a specific identification basis.
Commercial mortgage loan participations, a type of investment where the mortgage loan is shared among investors, are accounted for as financing receivables. The commercial mortgage loan participations are managed by a third party. The Company purchased the legal rights to interests in commercial mortgage loans which are secured by properties such as hotels, retail, multiple family, or offices. The commercial mortgage loans typically have a term of three years with the option to extend up to two years. The commercial mortgages loans are recorded at unpaid principal balance, net of unamortized origination fees and net of allowance for loan losses, if applicable. Interest income, net of the amortization of origination fees, is recorded in "Net Investment Income" under the effective yield method. The Company evaluates the performance and credit quality of each individual commercial mortgage on a quarterly basis, or as needed, by utilizing common metrics such as loan-to-value and debt service coverage ratios as well as evaluating the fair value of the underlying collateral. The fair value of the underlying collateral is based on a third party appraisal of the property. The Company will also determine the probability of estimated losses for each commercial mortgage loan and record an allowance if conclusions are reached that collection of principal and interest are not probable. The allowance for loan losses are based on estimates, historical experience, probability of loss, value of the underlying collateral, and macro factors that affect the collectability of the loan. All assumptions are reviewed and updated as necessary.
Level 3-fair values are based on inputs that are considered unobservable where there is little, if any, market activity for the asset or liability as of the measurement date. In this circumstance, the Company has to rely on values derived by independent brokers or internally-developed assumptions. Unobservable inputs are developed based on the best information available to the Company which may include the Company’s own data or bid and ask prices in the dealer market.
For all asset classes within Torchmark’s significant security types, third-party pricing services use a common valuation technique to model the price of the investments using observable market data. The foundation for these models consists of developing yield spreads based on multiple observable market inputs, including but not limited to: benchmark yield curves, actual trading activity, new issue yields, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, sector-specific data, economic data, and other inputs that are corroborated in the market. Pricing vendors monitor and review their pricing data continuously with current market and economic data feeds, augmented by ongoing communication within the dealer community.
When valuations have been obtained for all securities in the portfolio, management reviews and analyzes the prices to ensure their reasonableness, taking into account available observable information. When two or more valuations are available for a security and the variance between the prices is 10% or less, the close correlation suggests similar observable inputs were used in deriving the price, and the mean of the prices is used. Securities valued in this manner are classified as Level 2. When the variance between two or more valuations for a security exceeds 10%, additional analysis is performed to determine the most appropriate value for that security, using resources such as broker quotes, prices on comparable securities, recent trades, and any other observable market data. Further review is performed on the available valuations to determine if they can be corroborated within reasonable tolerance to any other observable evidence. If one of the valuations or the mean of the available valuations for a security can be corroborated with other observable evidence, then the corroborated value is used and reported as Level 2. The Company uses information and analytical techniques deemed appropriate for determining the point within the range of reasonable fair value estimates that is most representative of fair value under current market conditions. Valuations that cannot be corroborated within a reasonable tolerance are classified as Level 3.
Torchmark invests in a portfolio of private placement fixed maturities that are not actively traded. This portfolio is managed by third parties. The portfolio managers provide valuations for the bonds based on a pricing matrix utilizing observable inputs, such as the benchmark treasury rate and published sector indices, and unobservable inputs such as an internally-developed credit rating. If they cannot be corroborated, the fair values are classified as Level 3.
Fair Value Measurements, Other Financial Instruments: Fair values for cash, short-term investments, short-term debt, commercial mortgage loan participations, limited partnerships, receivables, and payables approximate carrying value. Fair values of mortgage loans are determined based upon expected cash flows discounted at an appropriate risk-adjusted rate. The fair value of investments in limited partnerships that provide low-income housing tax credits is based on discounted projected cash flows. The commercial mortgage loan participations and the limited partnerships are classified as level 3. Policy loans are an integral part of Torchmark’s subsidiaries’ life insurance policies in force and their fair values cannot be valued separately and apart from the insurance contracts.
The fair values of Torchmark’s long-term debt issues are based on the same methodology as investments in fixed maturities. At December 31, 2018, observable inputs were available for these debt securities and as such were classified
As described in Note 9-Postretirement Benefits, Torchmark maintains a nonqualified supplemental retirement plan. Therefore the assets, that support the liability for this plan, are considered general assets of the Company. These assets consist of the cash value of corporate-owned life insurance policies (COLI) and exchange traded funds (ETFs). The fair value of the insurance cash values approximates carrying value. Fair values for the ETFs are derived from direct quotes and are considered Level 1 in the valuation hierarchy.
Impairment of Investments: Torchmark’s portfolio of fixed maturities fluctuates in value due to changes in interest rates in the financial markets as well as other factors. Fluctuations caused by market interest rate changes have little bearing on whether or not the investment will be ultimately recoverable. Therefore, Torchmark considers these declines in value resulting from changes in market interest rates to be temporary. In certain circumstances, however, Torchmark determines that the decline in the value of a security is other-than-temporary and writes the book value of the security down to its fair value, realizing an investment loss. The evaluation of Torchmark’s securities for other-than-temporary impairments is a process that is undertaken at least quarterly and is overseen by a team of investment and accounting professionals. Each security, which is impaired because the fair value is less than the cost or amortized cost, is identified and evaluated. The determination that an impairment is other-than-temporary is highly subjective and involves the careful consideration of many factors. Among the factors considered are:
security is written down to fair value and is treated as a realized loss in the period the determination is made. The written-down security will be amortized and revenue recognized in accordance with estimated future cash flows.
Other Receivables: Other receivables consist mostly of agent debit balances that primarily represent commissions advanced to insurance agents. These balances are repaid to the Company over time as the premiums associated with the advanced commissions are collected by the Company and the agents' commissions on such premiums are retained. The balances were $396 million and $378 million at December 31, 2018 and 2017, respectively. Management believes these balances are recoverable as they are less than the estimated present value of future commissions.
Future Policy Benefits: The liability for future policy benefits for annuity and universal life-type products is represented by policy account value. The liability for future policy benefits for all other life and health products, approximately 88%
of total liabilities for future policy benefits, is determined on the net level premium method. This method provides for the present value of expected future benefit payments less the present value of expected future net premiums, based on estimated investment yields, mortality, morbidity, persistency, and other assumptions which were considered appropriate at the time the policies were issued. For limited-payment contracts, a deferred profit liability is also recorded which causes profits to emerge over the life of the contract in proportion to policies in force.
Policy Claims and Other Benefits Payable: Torchmark establishes a liability for known policy benefits payable and an estimate of claims that have been incurred but not yet reported to the Company. Torchmark makes an estimate of unreported claims after careful evaluation of all information available to the Company. This estimate is based on prior experience and is reviewed quarterly. However, there is no certainty the stated liability for claims and other benefits, including the estimate of unsubmitted claims, will be Torchmark’s ultimate obligation. See Note 7-Liability for Unpaid Claims for disclosures.
Income Taxes: Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the consolidated financial statement book values and tax bases of assets and liabilities. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
On December 22, 2017, the Tax Cuts and Jobs Act (Tax Legislation) was enacted into law which changed existing tax law, including a reduction of the corporate income tax rate from 35% to 21% effective January 1, 2018. In 2017, the Company recorded $874 million in net income, primarily as a result of remeasuring its deferred assets and liabilities using the lower corporate tax rate as of the date of enactment. In the fourth quarter of 2018, the Company completed its analysis of the tax legislation and recorded an additional $798 thousand adjustment related to the remeasurement of the deferred tax assets and liabilities based on the 21% rate. More information concerning income taxes is provided in Note 8-Income Taxes.
Recognition of Premium Revenue and Related Expenses: Premium income for traditional long-duration life and health insurance products is recognized evenly over the contract period and when due from the policyholder. Premiums for short-duration health contracts are recognized as revenue over the contract period in proportion to the insurance protection provided. Premiums for universal life-type and annuity contracts are added to the policy account value, and revenues for such products are recognized as charges to the policy account value for mortality, administration, and surrenders (retrospective deposit method). Life premium includes policy charges of $16 million, $17 million, and $18 million for the years ended December 31, 2018, 2017, and 2016, respectively. Other premium consists of annuity policy charges in each year. For most insurance products, the related benefits and expenses are matched with revenues by means of the provision of future policy benefits and the amortization of DAC in a manner which recognizes profits as they are earned over the revenue recognition period. For limited-payment life insurance products, the profits are recognized over the contract period.
operations. Basic EPS is computed by dividing income available to common shareholders by the weighted average common shares outstanding for the period. Diluted EPS is calculated by adding to shares outstanding the additional net effect of potentially dilutive securities or contracts, such as stock options, which could be exercised or converted into common shares. For more information on earnings per share, see Note 12-Shareholders’ Equity.
An analysis in the change in balance by component of Accumulated Other Comprehensive Income is as follows for each of the years 2016 through 2018.
Reclassification adjustments out of Accumulated Other Comprehensive Income are presented below for each of the years 2016 through 2018.
Fair value measurements: The following tables represent the fair value of fixed maturities measured on a recurring basis at December 31, 2018 and 2017:
The following table represents changes in fixed maturities measured at fair value on a recurring basis using significant unobservable inputs (Level 3).
Other-than-temporary impairments (OTTI): Based on the Company's evaluation of its fixed maturities available for sale in an unrealized loss position in accordance with the OTTI policy as described in Note 1-Significant Accounting Policies, the Company concluded that there was an other-than-temporary impairment of $245 thousand ($159 thousand, net of tax) during the year ended December 31, 2017. For the years ended December 31, 2018 and 2016, there were no other-than-temporary impairments.
As of year-end 2018, previously written down securities remaining in the portfolio were carried at a fair value of $60 million, or less than 0.4% of the fair value of the fixed maturity portfolio. Torchmark is continuously monitoring the market conditions impacting its portfolio. While adverse market conditions for an extended duration could lead to some ratings downgrades in certain sectors, Torchmark has the ability and intent to hold these investments to recovery, and does not intend to sell or expect to be required to sell any of its securities in such a position.
Additional information about fixed maturities available for sale in an unrealized loss position is as follows:
As of December 31, 2018, securities of state and municipal governments represented 8% of invested assets at fair value. Such investments are made throughout the U.S. At yearend 2018, the state and municipal bond portfolio at fair value was invested in securities issued within the following states: Texas (30%), Washington (7%), Ohio (7%), Florida (6%), Illinois (6%), and Michigan (4%). Otherwise, there was no concentration within any given state greater than 4%.
At year end 2018, 3% of invested assets at fair value were represented by fixed maturities rated below investment grade. Par value of these investments was $757 million, amortized cost was $666 million, and fair value was $601 million. While these investments could be subject to additional credit risk, such risk should generally be reflected in their fair value.
As of December 31, 2018 and 2017, the Company evaluated the commercial mortgage loan portfolio on a loan-by-loan basis to determine any allowance for loss. Factors considered include, but are not limited to, collateral value, loan-to-value ratio, debt service coverage ratio, local market conditions, credit quality of the borrower and tenants, and loan performance. As of December 31, 2018 and 2017, there was no allowance for loss.
Insurance affiliates also assume insurance risks of other external companies. Life reinsurance assumed represented 1.6% of life insurance in force at December 31, 2018 and reinsurance assumed on life and accident and health products represented 0.6% of premium income for 2018.
Rental expense for operating leases for each of the three years ended December 31, 2018 is as follows:
Future minimum rental commitments required under operating leases having remaining noncancelable lease terms in excess of one year at December 31, 2018 were as follows:
Investments: As of December 31, 2018, Torchmark is committed to purchase $154 million of commercial mortgage loan participations from a third party by 2021 and $250 million to fund investments related to a limited partnership by 2022.
Guarantees: At December 31, 2018, Torchmark had in place three guarantee agreements, of which were either Parent Company guarantees of subsidiary obligations to a third party, or Parent Company guarantees of obligations between wholly-owned subsidiaries. As of December 31, 2018, Torchmark had no liability with respect to these guarantees.
current amount outstanding to $155 million from $177 million as of December 31, 2017. As of December 31, 2018, the letters of credit outstanding were $155 million.
Equipment leases: Torchmark has guaranteed performance of certain subsidiaries as lessees under two aviation leasing arrangements. At December 31, 2018, total remaining undiscounted payments under the leases were approximately $8 million. The Parent Company would be responsible for any subsidiary obligation in the event the subsidiary did not make payments or otherwise perform under the terms of the lease.
On October 18, 2018, putative class action litigation was filed against Torchmark Corporation and American Income Life Insurance Company in California’s Los Angeles County Superior Court (Golz v. American Income Life Insurance Company, et al Case No. 18STCV01354). American Income removed the case to the United States District Court for the Central District of California (Case No. 2:18-cv-09879 R (SSx)). An amended complaint was filed on February 5, 2019. The amended complaint alleges that the putative class members are employees and asserts claims under the California Labor Code and California Business and Professions Code. The complaint alleges that plaintiff was an American Income insurance agent trainee in California who seeks to represent a class of individuals in California whom American Income classified as independently contracted agent trainees. The class period is alleged to begin four years prior to the complaint’s filing. The complaint seeks compensatory damages, penalties, and attorney fees on claims for
On December 14, 2018, putative class action litigation was filed against American Income Life Insurance Company in United States District Court for the Northern District of California (Hamilton v. American Income Life Insurance Company, Case No. 4:18-cv-7535-KAW). An amended complaint was filed on January 23, 2019. The plaintiffs, former insurance sales agents of American Income, are suing on behalf of all current and former sales agents who sold insurance for American Income in the state of California for the last four years prior to the filing of the complaint. The lawsuit alleges that putative class members are employees and asserts claims under the California Labor Code, California Business and Professions Code, and California Private Attorney General Act. The complaint seeks compensatory damages, penalties and attorney fees on claims for failure to pay minimum wage and overtime, failure to provide meal and rest breaks, failure to appropriately pay agents at termination, failure to provide itemized wage statements, failure to reimburse expenses, and unfair business practices. The Company continues to assess the amount and thus does not have a reasonable estimate of any potential liability.
On January 16, 2019, putative class action litigation was filed against American Income Life Insurance Company in Orange County, California Superior Court (Putros v. American Income Life Insurance Company, Case No. 30-2019-01044772-CU-OE-CXC). The plaintiff, a former insurance sales agent of American Income, is suing on behalf of all current and former sales agents who sold insurance for American Income in the state of California for the last four years prior to the filing of the complaint. The lawsuit alleges that putative class members are employees and asserts claims under the California Labor Code, California Business and Professions Code, and California Private Attorney General Act. The complaint seeks compensatory damages, penalties and attorney fees on claims for failure to pay minimum wage, failure to provide meal and rest breaks, failure to appropriately pay agents at termination, failure to provide itemized wage statements, failure to reimburse expenses, and unfair business practices. The Company continues to assess the amount and thus does not have a reasonable estimate of any potential liability.
The effective income tax rate differed from the expected U.S. federal statutory rate of 21% for 2018 and 35% for prior years as shown below:
Income Tax Return: Torchmark and all of its subsidiaries file a life-nonlife consolidated federal income tax return for the year ended December 31, 2018. Family Heritage Life Insurance Company (Family Heritage) filed its federal income tax return on a separate company basis for the taxable years prior to 2018. The statutes of limitations for the Internal Revenue Service's examination and assessment of additional tax are closed for all tax years prior to 2015 with respect to Torchmark’s consolidated as well as Family Heritage's federal income tax returns. Management believes that adequate provision has been made in the consolidated financial statements for any potential assessments that may result from current or future tax examinations and other tax-related matters for all open years.
Valuations: Torchmark has net operating loss carryforwards of approximately $35.3 million at December 31, 2018 that will begin to expire in 2033 if not otherwise used to offset future taxable income. A valuation allowance is to be provided when it is more likely than not that deferred tax assets will not be realized by the Company. No valuation allowance has been recorded relating to Torchmark’s deferred tax assets as management believes Torchmark will more likely than not have sufficient taxable income in future periods to fully realize its existing deferred tax assets.
Torchmark has qualified noncontributory defined benefit pension plans and contributory savings plans that cover substantially all employees. There is also a nonqualified noncontributory supplemental executive retirement plan (SERP) that covers a limited number of employees. The total cost of these retirement plans charged to operations was as follows:
Pension Plans: Cost for the defined benefit pension plans has been calculated on the projected unit credit actuarial cost method. All plan measurements for the defined benefit plans are as of December 31 of the respective year. The defined benefit pension plans covering the majority of employees are qualified and funded. Contributions are made to funded pension plans subject to minimums required by regulation and maximums allowed for tax purposes. Torchmark's SERP provides to a limited number of executives an additional supplemental defined pension benefit. The supplemental benefit is based on the participant’s qualified plan benefit without consideration to the regulatory limits on compensation and benefit payments applicable to qualified plans, except that eligible compensation is capped at $1 million. The SERP is nonqualified and unfunded. However, a Rabbi Trust has been established to support the liability for this plan. The trust consists of life insurance policies on the lives of plan participants with an unaffiliated insurance carrier as well as an investment account.
The following table includes premiums paid for the SERP for the three years ended December 31, 2018 and investments of the Rabbi Trust for the two years ended December 31, 2018.
Representing a guaranteed annuity contract issued by Torchmark's subsidiary, American Income Life Insurance Company, to fund the obligations of the American Income Pension Plan.
Torchmark's equity securities include an exchange traded fund that mirrors the S&P 500 index which better aligns with a passive approach rather than an actively managed portfolio. At December 31, 2018, there were no restricted investments contained in the portfolio. Plan contributions have been invested primarily in fixed maturity and equity securities during the three years ended December 31, 2018.
The discount rate is determined based on the expected duration of plan liabilities. A yield is then derived based on the current market yield of a hypothetical portfolio of higher-quality corporate bonds that match the liability duration. The rate of compensation increase is projected based on Company experience, modified as appropriate for future expectations. The expected long-term rate of return on plan assets is management’s best estimate of the average rate of earnings expected to be received on the assets invested in the plan over the benefit period. In determining this assumption, consideration is given to the historical rate of return earned on the assets, the projected returns over future periods, and the discount rate used to compute benefit obligations.
Torchmark has estimated its expected pension benefits to be paid over the next ten years as of December 31, 2018. These estimates use the same assumptions that measure the benefit obligation at December 31, 2018, taking estimated future employee service into account. Those estimated benefits are as follows:
Commercial paper has priority over all other debt except the term loan.
Contractual Debt Obligations: The following table presents expected scheduled principal payments under our contractual debt obligations:
On November 17, 2017, Torchmark completed the issuance and sale of $125 million in aggregate principal of Torchmark’s 5.275% Junior Subordinated Debentures due 2057. The debentures were sold in a private placement pursuant to exemptions from the registration requirements of the Securities Act of 1933. The initial purchaser of the debentures was outside the United States. The net proceeds from the sale of the debentures were $123 million, after giving effect to the discount payable to the initial purchaser and expenses of the offering of the debentures. Torchmark used the net proceeds from the offering of the debentures to repay the $125 million outstanding principal, plus accrued interest of $143 thousand on the 5.875% Junior Subordinated Debentures on December 22, 2017. The Debentures were due December 15, 2052 and were callable beginning December 15, 2017. The Company recorded a $4 million loss on redemption of debt to Realized gains (losses) on the Consolidated Statements of Operations for the removal of unamortized debt issuance cost.
There was no activity related to the preferred stock in years 2016 through 2018.
Restrictions: Restrictions exist on the flow of funds to Torchmark from its insurance subsidiaries. Statutory regulations require life insurance subsidiaries to maintain certain minimum amounts of capital and surplus. Dividends from insurance subsidiaries of Torchmark are restricted based on regulations by their states of domicile. Additionally, insurance company distributions are generally not permitted in excess of statutory surplus. Subsidiaries are also subject to certain minimum capital requirements. Subsidiaries of Torchmark paid cash dividends to the Parent Company in the amount of $448 million in 2018, $454 million in 2017, and $438 million in 2016. As of December 31, 2018, dividends and transfers from insurance subsidiaries to Parent available to be paid in 2019 are limited to the amount of $396 million without regulatory approval, such that $1.0 billion was considered restricted net assets of the subsidiaries. Dividends exceeding these limitations may be available during the year pending regulatory approval. While there are no legal restrictions on the payment of dividends to shareholders from Torchmark’s retained earnings, retained earnings as of December 31, 2018 were restricted by lenders’ covenants which require the Company to maintain and not distribute $3.8 billion from its total consolidated retained earnings of $5.2 billion.
Torchmark’s stock-based compensation consists of stock options, restricted stock, restricted stock units, and performance shares. Certain employees and directors have been granted fixed equity options to buy shares of Torchmark stock at the market value of the stock on the date of grant, under the provisions of the Torchmark stock option plans. The options are exercisable during the period commencing from the date they vest until expiring according to the terms of the grant. Options generally expire the earlier of employee termination or option contract term, which are either seven-year or ten-year terms. Options generally vest in accordance with the following schedule:
A summary of stock compensation activity for each of the three years ended December 31, 2018 is presented below:
No equity awards were cash settled during the three years ended December 31, 2018.
Options: The following table summarizes information about stock options outstanding at December 31, 2018.
An analysis of option activity for each of the three years ended December 31, 2018 is as follows:
Additional information about Torchmark’s stock option activity as of December 31, 2018 and 2017 is as follows:
Selected stock option activity for the three years ended December 31, 2018 is presented below:
Restricted Stock: Restricted stock grants consist of time-vested grants, restricted stock units, and performance shares. Time-vested restricted stock is available to both senior executives and directors. The employee grants generally vest over five years and the director grants vest over six months. Restricted stock units are available only to directors. They vest over six months and are not converted to shares until the directors’ retirement, death, or disability. Director restricted stock and restricted stock units are generally granted on the first work day of the year. Performance shares are granted to a limited number of senior executives. Performance shares have a three-year contract life and are not settled in shares until the termination of the three-year contract period. While the grant specifies a stated target number of shares, the determination of the actual settlement in shares will be based on the achievement of certain performance objectives of Torchmark over the respective three-year contract periods. Certain executive restricted stock and performance share grants contain terms related to age that could accelerate vesting.
Below is the final determination of the performance share grants in 2014 to 2016:
For the 2017 and 2018 performance share grants, actual shares that could be distributed range from 0 to 306 thousand for the 2017 grants and 0 to 318 thousand shares for the 2018 grants.
Time-vested restricted stockholders, both employees and directors, are entitled to dividend payments on the unvested stock. Restricted stock unit holders are entitled to dividend equivalents. These equivalents are granted in the form of additional restricted stock units and vest immediately upon grant. Dividend equivalents are applicable only to restricted stock units. Performance shareholders are not entitled to dividend equivalents and are not entitled to dividend payments until the shares are vested and settled.
In 2017, the Company recorded $8.7 million ($5.6 million, net of tax) in administrative settlements where claims were not properly filed or information to support the validity of the claim had not been properly submitted. These administrative settlements were included in "Policyholder benefits" in the Consolidated Statements of Operations.
In 2017, the Company recorded $1.8 million ($1.2 million, net of tax) in unrecoverable guaranty fund assessments. See Note 6-Commitment and Contingencies for further discussion.
In 2016, the Company recorded $3.8 million in administrative settlements related to benefits paid for deaths occurring in prior years where claims had not been filed. These administrative settlements were included in "Policyholder benefits" in the Consolidated Statements of Operations.