The Company leases five floors, or approximately 67,000 square feet, in a 41-story office building in Chicago for its corporate headquarters and Property & Casualty Insurance segment’s headquarters. The lease expires in September 2023. Kemper’s Property & Casualty Insurance segment leases facilities with an aggregate square footage of approximately 462,000 at 14 locations in nine states. The latest expiration date of the existing leases is in June 2025. Kemper’s Life & Health Insurance segment leases facilities with aggregate square footage of approximately 472,000 at 127 locations in 28 states. The latest expiration date of the existing leases is in January 2025. Kemper’s corporate data processing operation leases facilities with aggregate square footage of approximately 36,000 square feet at two locations in two states. The latest expiration date of the existing leases is in December 2018.
Selected financial information as of and for the years ended December 31, 2016, 2015, 2014, 2013 and 2012 is presented below.
Net Income was $16.8 million ($0.33 per unrestricted common share) for the year ended December 31, 2016, compared to $85.7 million ($1.65 per unrestricted common share) for the year ended December 31, 2015. Income from Continuing Operations was $12.7 million ($0.25 per unrestricted common share) in 2016, compared to $80.2 million ($1.55 per unrestricted common share) in 2015.
The Company’s net income decreased by $28.8 million in 2015, compared to 2014. In the Property & Casualty Insurance segment, segment net operating income increased by $1.8 million due primarily to a lower amount of write-offs of internal use software, lower insurance expenses as a percentage of earned premiums and lower incurred catastrophe losses and LAE (excluding reserve development), partially offset by higher underlying losses and LAE as a percentage of earned premiums and a lower level of favorable loss and LAE reserve development. See MD&A, “Property & Casualty Insurance,” beginning on page 30 for additional discussion of the segment’s results. See MD&A, “Write-offs of Long-lived Assets,” beginning on page 51 for additional information related to the internal use software write-offs. In the Life & Health Insurance segment, segment
Net Investment Income decreased by $4.3 million in 2016 due primarily to lower investment returns from Alternative Investments, lower levels and lower returns on investments in equity securities excluding alternative investments, and higher level of investments in fixed income securities, partially offset by lower yields on fixed income securities. Net Investment Income from Alternative Investments which consist of Equity Method Limited Liability Investments, Fair Value Option Investments and other limited liability investments included in Equity Securities decreased by $9.2 million. Alternative investment income from Equity Method Limited Liability Investments and Fair Value Option Investments decreased by
Earned Premiums were $2,009.6 million in 2015, compared to $1,862.2 million in 2014, an increase of $147.4 million. Earned Premiums increased by $165.7 million in the Property & Casualty Insurance segment and decreased by $18.3 million. in the Life & Health Insurance segment. See MD&A, “Property & Casualty Insurance,” beginning on page 30 and MD&A, “Life & Health Insurance,” beginning on page 40 for discussion the changes in each segment’s earned premiums.
Net Realized Gains on Sales of Investments were $52.1 million in 2015, compared to $39.1 million in 2014. See MD&A, “Investment Results,” under the sub-caption “Net Realized Gains on Sales of Investments” beginning on page 46 for additional discussion. Net Impairment Losses Recognized in Earnings were $27.2 million in 2015, compared to $15.2 million in 2014. See MD&A, “Investment Results,” under the sub-caption “Net Impairment Losses Recognized in Earnings” beginning on page 47 for additional discussion. The Company cannot predict when or if similar investment gains or losses may occur in the future.
The number of catastrophic events and catastrophe losses and LAE (excluding loss and LAE reserve development) by range of loss and business segment for the years ended December 31, 2016, 2015 and 2014 are presented below.
As shown in the preceding table, catastrophe losses and LAE decreased for the year ended December 31, 2015, compared to 2014, due primarily to two significant catastrophe events in 2014 (one event with losses and LAE of $33.9 million and another event with losses and LAE of $13.1 million), compared to no such events exceeding $10 million in 2015, partially offset by higher frequency of events below $5 million of losses in 2015, compared to 2014. The event in the preceding table with $33.9 million in catastrophe losses and LAE in 2014 was incurred in multiple states, particularly Montana. The event in the preceding table with $13.1 million in catastrophe losses and LAE in 2014 was primarily related to hail in Texas.
See MD&A, “Property & Casualty Insurance,” MD&A, “Life & Health Insurance,” and Note 6, “Property and Casualty Insurance Reserves,” to the Consolidated Financial Statements for additional information on the Company’s reserve development. See MD&A, “Critical Accounting Estimates,” of this 2016 Annual Report for additional information pertaining to the Company’s process of estimating property and casualty insurance reserves for losses and LAE, and the estimated variability thereof, development of property and casualty insurance losses and LAE, and a discussion of some of the variables that may impact them.
These non-GAAP financial measures should not be considered a substitute for the comparable GAAP financial measures, as they do not fully recognize the overall profitability of the Company’s businesses.
4) Significant non-recurring or infrequent items that may not be indicative of ongoing operations.
Significant non-recurring items are excluded when (a) the nature of the charge or gain is such that it is reasonably unlikely to recur within two years, and (b) there has been no similar charge or gain within the prior two years. The most directly comparable GAAP financial measure is Income from Continuing Operations. There were no applicable significant non-recurring items that the Company excluded from the calculation of Consolidated Net Operating Income for the years ended December 31, 2016, 2015 and 2014.
The Property & Casualty Insurance segment reported Segment Net Operating Income of $26.7 million for the year ended December 31, 2015, compared to $24.9 million in 2014. Segment Net Operating Income improved by $1.8 million due primarily to the impact of write-offs of internal use software, lower insurance expenses as a percentage of earned premiums and lower incurred catastrophe losses and LAE (excluding reserve development), partially offset by higher underlying losses and LAE as a percentage of earned premiums and a lower level of favorable loss and LAE reserve development.
Underlying losses and LAE as a percentage of earned premiums were 73.2% in 2015, an increase of 5.5 percentage points, compared to 2014. Alliance United, which runs at a higher underlying losses and LAE ratio but lower insurance expense ratio, added 4.8 percentage points to the overall underlying losses and LAE ratio. Excluding the impact of Alliance United, underlying losses and LAE as a percentage of earned premiums were 68.4% in 2015, compared to 67.7% in 2014, or an increase of 0.7 percentage points, as nonstandard personal automobile insurance, homeowners insurance and commercial automobile insurance deteriorated, while preferred personal automobile insurance and other personal insurance improved. Underlying incurred losses and LAE exclude the impact of catastrophes and loss and LAE reserve development. Catastrophe losses and LAE (excluding reserve development) were $64.5 million in 2015, compared to $96.5 million in 2014, which is a decrease of $32.0 million due primarily to two catastrophe events in 2014 that exceeded $10.0 million of losses and LAE, compared to no such events in 2015, partially offset by an increase in the number of catastrophe events in 2015 with losses and LAE less than $5 million. Excluding the impact of Alliance United, favorable loss and LAE reserve development (including favorable catastrophe reserve development of $7.9 million in 2015 and $15.8 million in 2014) was $20.6 million in 2015, compared to $54.4 million in 2014.
Selected financial information for the preferred personal automobile insurance product line follows.
Earned premiums in preferred personal automobile insurance decreased by $25.3 million in 2016, compared to 2015, as lower volume accounted for a decrease of $28.3 million, while higher average earned premium accounted for an increase of $3.0 million. The run-off of the direct-to-consumer business accounted for 60% of the decrease in earned premiums attributed to lower volume. Incurred losses and LAE were $324.2 million, or 76.4% of earned premiums, in 2016, compared to $307.3 million, or 68.3% of earned premiums, in 2015. Incurred losses and LAE as a percentage of earned premiums increased due to an unfavorable change in loss and LAE reserve development, higher incurred catastrophe losses and LAE (excluding reserve development) and higher underlying losses and LAE as a percentage of earned premiums. Underlying losses and LAE as a percentage of related earned premiums were 72.6% in 2016, compared to 70.9% in 2015, which was a deterioration of 1.7 percentage points due primarily to slightly higher severity of losses on most coverages. Catastrophe losses and LAE (excluding reserve development) were $11.6 million in 2016, compared to $3.0 million in 2015. This increase was driven primarily by the two aforementioned hailstorms in Texas in 2016. Loss and LAE reserve development was adverse by $4.6 million in 2016, compared to favorable development of $15.2 million in 2015.
Earned premiums in preferred personal automobile insurance decreased by $76.0 million in 2015, compared to 2014, as lower volume accounted for a decrease of $80.2 million, while higher average earned premium accounted for an increase of $4.2 million. The run-off of the direct-to-consumer business accounted for approximately 30% of the decrease in earned premiums attributed to lower volume. Incurred losses and LAE were $307.3 million, or 68.3% of earned premiums, in 2015, compared to $354.5 million, or 67.4% of earned premiums, in 2014. Incurred losses and LAE as a percentage of earned premiums increased due to a lower level of favorable loss and LAE reserve development, partially offset by lower incurred catastrophe losses and LAE (excluding reserve development) and lower underlying losses and LAE as a percentage of earned premiums. Underlying losses and LAE as a percentage of earned premiums were 70.9% in 2015, compared to 71.8% in 2014, which was an improvement of 0.9 percentage points due primarily to higher average earned premium and lower frequency of claims on bodily
Selected financial information for the nonstandard personal automobile insurance product line for the years ended December 31, 2016, 2015 and 2014 is presented in the following table. The results for the year ended December 31, 2015 for Alliance United include only the last eight months of the period, which is the period since the date of acquisition.
and LAE (excluding reserve development) were $5.7 million in 2016, compared to $3.7 million in 2015. Excluding Alliance United, adverse loss and LAE reserve development was $1.6 million in 2016, compared to $5.7 million in 2015.
Earned Premiums on nonstandard personal automobile insurance increased by $272.3 million in 2015, compared to 2014,. Excluding the impact from Alliance United, Earned Premiums decreased by $0.6 million as lower volume accounted for a decrease of $8.8 million, while higher average earned premium accounted for an increase of $8.2 million. Incurred losses and LAE were $518.0 million, or 89.7% of earned premiums, in 2015, compared to $242.6 million, or 79.4% of earned premiums, in 2014. Excluding Alliance United, incurred losses and LAE were $257.0 million, or 84.3% of related earned premiums, in 2015, compared to $242.6 million, or 79.4% of related earned premiums, in 2014. Excluding the impact of Alliance United, incurred losses and LAE as a percentage of earned premiums increased due to higher underlying losses and LAE as a percentage of earned premiums and a higher level of adverse loss and LAE reserve development. Excluding Alliance United, underlying losses and LAE as a percentage of related earned premiums were 81.2% in 2015, compared to 78.1% in 2014, which was a deterioration of 3.1 percentage points due primarily to higher frequency of claims across all coverages and higher severity of property damage losses, partially offset by higher average earned premium and lower severity of bodily injury losses. Catastrophe losses and LAE (excluding reserve development) were $3.7 million in 2015, compared to $3.8 million in 2014. Excluding Alliance United, adverse loss and LAE reserve development was $5.7 million in 2015, compared to $0.2 million in 2014.
Earned premiums in homeowners insurance decreased by $26.1 million in 2015, compared to 2014, as lower volume accounted for a decrease of $32.0 million, while higher average earned premium accounted for an increase of $5.9 million. Incurred losses and LAE were $189.7 million, or 66.3% of earned premiums, in 2015, compared to $222.5 million, or 71.2% of earned premiums, in 2014. Incurred losses and LAE as a percentage of earned premiums decreased due to lower incurred catastrophe losses and LAE (excluding reserve development), partially offset by a lower level of favorable loss and LAE reserve development and higher underlying losses and LAE as a percentage of earned premiums. Underlying losses and LAE as a percentage of earned premiums were 50.7% in 2015, compared to 50.1% in 2014, which was a deterioration of 0.6 percentage points due primarily to higher severity of losses, partially offset by lower frequency of claims and higher average earned premium. Catastrophe losses and LAE (excluding reserve development) were $55.4 million in 2015, compared to $80.8 million in 2014. Favorable loss and LAE reserve development was $10.8 million in 2015, compared to $14.8 million in 2014.
Other personal insurance products include umbrella, dwelling fire, inland marine, earthquake, boat owners and other liability coverages. Selected financial information for other personal insurance product lines follows.
Net Investment Income decreased by $1.0 million in 2016, compared to 2015, due primarily to lower yields on investments in fixed income securities and lower levels of Alternative Investments, partially offset by higher levels of investments in non-alternative investments. The weighted-average book yield on the Company’s life and health insurance subsidiaries’ investments in fixed maturities was approximately 5.5% and 5.8% at December 31, 2016 and 2015, respectively. A protracted low interest rate environment, relative to the Life & Health Insurance segment’s fixed income portfolio, could adversely impact the
weighted-average book yield on these subsidiaries’ investments in fixed maturities. For example, the weighted-average book yield on the subsidiaries’ investments in fixed maturities will decline if new money is invested at yields below the portfolio rate. Also, the weighted-average book yield on the subsidiaries’ investments in fixed maturities will decline, to the extent that investments maturing are not used for such purposes as paying claims and expenses, if the reinvested portion is at a yield that is lower than the book yield of the maturing investment. To help illustrate the potential impact, the subsidiaries’ investments in fixed maturities that are maturing over the next five years totaled $666.2 million at December 31, 2016. The weighted-average book yield on such investments was 7.6% at December 31, 2016. The reinvestment rate for the subsidiaries’ investments in fixed maturities was approximately 4.9% in 2016 with an average duration of 7.1 years at December 31, 2016.
Earned Premiums in the Life & Health Insurance segment decreased by $18.3 million for the year ended December 31, 2015, compared to the same period in 2014 due in part to the $7.6 million adjustment recorded in 2015 to correct deferred premium reserves on certain limited pay life insurance policies. Excluding the adjustment, earned premiums decreased by $10.7 million due primarily lower earned premiums on life insurance and accident and health insurance, and, to a lesser extent, property insurance.
Net Investment Income decreased by $4.5 million in 2015, compared to 2014, due primarily to lower investment income from Alternative Investments, partially offset by higher investment income from fixed income securities. Investment income from Alternative Investments in 2014 included dividend income of $21.4 million from one company that had sold substantially all of its operations.
Earned premiums on accident and health insurance increased by $4.5 million in 2016, compared to 2015, due primarily to higher volume. Incurred accident and health insurance losses were $80.3 million, or 53.7% of accident and health insurance earned premiums, in 2016, compared to $80.8 million, or 55.8% of accident and health insurance earned premiums, in 2015. Incurred accident and health insurance losses decreased as a percentage of earned premiums due primarily to lower average claim costs in other supplemental products and a lower level of hospitalization exposure, partially offset by higher frequency and higher average claim costs in Medicare Supplement. Insurance Expenses increased by $3.8 million in 2016, compared to 2015, due primarily to the impact of an adjustment made in 2015 to Reserve National’s deferred policy acquisition costs and the higher level of earned premiums.
Earned premiums on accident and health insurance decreased by $3.7 million in 2015, compared to 2014, due primarily to lower volume resulting from the non-renewal and run-off of certain health insurance products largely due to the impact of the Health Care Acts, partially offset by higher volume of supplemental health insurance products and higher average earned premium. In particular, provisions, effective in 2014, prohibiting the renewal of certain policies issued by Reserve National after the issuance of the Health Care Acts and also establishing health insurance exchanges, and a provision that sets minimum loss ratios for certain health insurance policies have adversely impacted Reserve National’s business. Such affected health insurance products (the “HCA Affected Products”) accounted for $20.4 million, or 14%, of the segment’s accident and health insurance earned premiums in 2015 and $30.8 million, or 21%, of the segment’s accident and health insurance earned premiums in 2014. Incurred accident and health insurance losses were $80.8 million, or 55.8% of accident and health insurance earned premiums, in 2015, compared to $81.1 million, or 54.6% of accident and health insurance earned premiums, in 2014. Incurred accident and health insurance losses increased as a percentage of earned premiums due primarily to higher average claim costs, partially offset by the impact of a change in business mix resulting from the non-renewal and run-off of certain health insurance products with higher loss ratios and the issuance of supplemental insurance products with lower loss ratios. Insurance Expenses decreased by $2.0 million in 2015, compared to 2014, due in part to the impact of an adjustment made in 2015 to Reserve National’s deferred policy acquisition costs.
Earned premiums on property insurance decreased by $1.1 million in 2015, compared to 2014, due primarily to lower volume of insurance, partially offset by higher premium rates in a few states. Incurred losses and LAE on property insurance were $25.6 million, or 34.0% of property insurance earned premiums, in 2015, compared to $24.6 million, or 32.2% of property insurance earned premiums, in 2014. Underlying losses and LAE on property insurance were $20.4 million, or 27.1% of property insurance earned premiums, in 2015, compared to $21.7 million, or 28.4% of property insurance earned premiums, in 2014. and decreased due primarily to lower frequency and severity of fire insurance losses, partially offset by higher severity of losses from storms that were not large enough to be classified as a catastrophe by ISO. Catastrophe losses and LAE (excluding development) were $3.8 million in 2015, compared to $2.0 million in 2014. Unfavorable loss and LAE reserve development was $1.4 million in 2015, compared to $0.9 million in 2014.
Net Investment Income decreased by $6.5 million for the year ended December 31, 2015, compared to 2014, due primarily to lower income from Alternative Investments and lower dividends on equity securities excluding Alternative Investments, partially offset by higher investment income from fixed income securities. Net investment income from Alternative Investments decreased by $12.2 million in 2015. Investment income from Alternative Investments in 2014 included dividend income of $21.8 million from one company that had sold substantially all of its operations. Investment income from Equity Method Limited Liability Investments, included in Alternative Investments, increased by $10.0 million in 2015 due primarily to higher returns on two distressed debt funds. Investment income from fixed income securities increased by $8.8 million due primarily to higher yields.
The components of Net Realized Gains on Sales of Investments for the years ended December 31, 2016, 2015 and 2014 were:
Other sales activity in 2016, 2015 and 2014 was due to normal portfolio management.
Information pertaining to Net Impairment Losses Recognized in Earnings reported in the Consolidated Statements of Income for the years ended December 31, 2016, 2015 and 2014 is presented below.
The Company’s fixed maturity investment portfolio is comprised primarily of high-grade municipal, corporate and agency bonds. At December 31, 2016, 90% of the Company’s fixed maturity investment portfolio was rated investment-grade, which is defined as a security having a rating of AAA, AA, A or BBB from S&P; a rating of Aaa, Aa, A or Baa from Moody’s; or a rating from the NAIC of 1 or 2.
The following table summarizes the credit quality of the fixed maturity investment portfolio at December 31, 2016 and 2015:
Gross unrealized losses on the Company’s investments in below-investment-grade fixed maturities were $12.7 million and $16.5 million at December 31, 2016 and 2015, respectively.
The following table summarizes the fair value of the Company’s investments in non-governmental fixed maturities by range of amount invested at December 31, 2016.
At the time of borrowing, the repurchase agreements generally require the borrower to provide collateral to the Company at least equal to the amount borrowed from the Company. The Company bears some investment risk in the event that a borrower defaults and the value of collateral falls below the amount borrowed.
In June 2015, the Company decided to cease funding for and abandon a computer software development project for the Company’s Property & Casualty Insurance segment. Accordingly, the Company recorded a charge of $11.1 million before taxes to write off such software in 2015.
Interest and Other Expenses was $90.3 million, $107.6 million and $91.7 million for the years ended December 31, 2016, 2015 and 2014, respectively. Interest expense was $44.4 million, $46.5 million and $46.9 million for the years ended December 31, 2016, 2015 and 2014, respectively. Other Corporate Expenses were $45.9 million, $61.1 million and $44.8 million for the years ended December 31, 2016, 2015 and 2014, respectively. Other Corporate Expenses decreased by $15.2 million for the year ended December 31, 2016, compared to 2015, due primarily to lower pension expense from the effect of freezing benefit accruals under the Company’s defined benefit pension plans and lower amortization of accumulated unrecognized pension losses related to the Company’s defined benefit pension plans. See Note 16 “Pension Benefits” to the Consolidated Financial Statements. Other Corporate Expenses increased by $16.3 million for the year ended December 31, 2015, compared to 2014, due primarily to higher postretirement benefit costs and, to a lesser extent, higher compensation expense.
In 2016, the Company changed its method for estimating the interest and service cost components of expense recognized for its pension and other postretirement employee benefit plans. As a result, the Company elected to use a full yield curve approach to estimate these components of benefit cost by applying the specific spot rates along the yield curve used in the determination of the benefit obligation to the relevant projected cash flows. Historically, the interest and service cost components were estimated using a single weighted-average discount rate derived from the yield curve used to measure the projected benefit obligation or accumulated postretirement benefit obligation, as relevant, at the beginning of the period. The change provides a more precise measurement of interest and service costs by improving the correlation between projected benefit cash flows to the corresponding spot yield curve rates. The Company has accounted for this change as a change in accounting estimate that is inseparable from a change in accounting principle and, accordingly, recognized the effect prospectively in 2016. The change in method for estimating the interest and service cost components decreased pension expense by $2.7 million in 2016, compared to 2015, but had no impact on the measurement of benefit obligations.
Kemper has a $225.0 million, unsecured, revolving credit agreement expiring June 2, 2020. The credit agreement provides for fixed and floating rate advances for periods up to six months at various interest rates. The credit agreement contains various financial covenants, including limits on total debt to total capitalization, consolidated net worth and minimum risk-based capital ratios for Kemper’s largest insurance subsidiaries, United Insurance and Trinity Universal Insurance Company (“Trinity”). Proceeds from advances under the credit agreement may be used for general corporate purposes, including repayment of existing indebtedness. Kemper did not borrow under its credit agreement during 2016, 2015 and 2014. There were no outstanding borrowings under the credit agreement at December 31, 2016, and accordingly, $225.0 million was available for future borrowings.
The outstanding principal balance, net of unamortized issuance costs, of Kemper’s debt was $751.6 million at December 31, 2016, of which, $360 million is scheduled to mature on May 15, 2017 (the “2017 Debt”), $250 million is scheduled to mature on February 15, 2025 (the “2025 Debt”) and $150 million is scheduled to mature on February 27, 2054 (the “2054 Debt”). The 2017 Debt and 2025 Debt are currently redeemable at Kemper’s option at specified redemption prices. The 2054 Debt was issued in 2014 and is subordinated to the 2017 Debt and 2025 Debt. Kemper cannot redeem the 2054 Debt prior to February 27, 2019 unless certain tax or rating agency events have occurred. See Note 7, “Debt,” to the Consolidated Financial Statements for additional information regarding Kemper’s debt.
During 2016, Kemper repurchased approximately 0.1 million shares of its common stock at an aggregate cost of $3.8 million in open market transactions under the 2014 Repurchase Program. During 2015, Kemper repurchased approximately 1.2 million shares of its common stock at an aggregate cost of $43.5 million in open market transactions under the 2014 Repurchase Program. During 2014, Kemper repurchased approximately 3.2 million shares of its common stock at an aggregate cost of $115.5 million in open market transactions under the two repurchase programs. The Company had $243.7 million of remaining capacity under the 2014 Repurchase Program at December 31, 2016.
The primary sources of funds for Kemper’s insurance subsidiaries are premiums, investment income and proceeds from the sales and maturity of investments, advances from the FHLBs of Dallas and Chicago, and capital contributions from Kemper. The primary uses of funds are the payment of policyholder benefits under life insurance contracts, claims and claims-related expenses under property and casualty insurance contracts and accident and health insurance contracts, the payment of commissions and general expenses, the purchase of investments, repayments of advances from the FHLBs of Dallas and Chicago and payment of dividends to Kemper. Generally, there is a time lag between when premiums are collected and when policyholder benefits and insurance claims are paid. In the third quarter of 2016, the Company’s Life & Health segment voluntarily began implementing a comprehensive process under which it will cross-reference its life insurance policies against the DMF and other death verification databases to identify potential situations where the beneficiaries may not have filed a claim following the death of an insured and initiate an outreach process to identify and contact beneficiaries and settle claims. The Company expects to pay approximately $80 million in claims over the next several years to complete the initial outreach process. During periods of growth, insurance companies typically experience positive operating cash flows and are able to invest a portion of their operating cash flows to fund future policyholder benefits and claims. During periods in which premium revenues decline, insurance companies may experience negative cash flows from operations and may need to sell investments to fund payments to policyholders and claimants. In addition, if the Company’s property and casualty insurance subsidiaries experience several significant catastrophic events over a relatively short period of time, investments may have to be sold in advance of their maturity dates to fund payments, which could result in either investment gains or losses. Management believes that its property and casualty insurance subsidiaries maintain adequate levels of liquidity in the event that they were to experience several future catastrophic events over a relatively short period of time.
Net Cash Provided by Operating Activities increased by $25.5 million for the year ended December 31, 2016, compared to 2015. Net Cash Provided by Operating Activities increased by $81.4 million for the year ended December 31, 2015, compared to 2014.
Net Cash Used by Financing Activities was $100.8 million for the year ended December 31, 2015, compared to $19.7 million for the same period in 2014. Kemper used $357.3 million of cash to repay debt for the year ended December 31, 2015, of which $258.8 million was used to redeem the 2015 Senior Notes and $98.5 million to repay the FHLB advances. Net proceeds from the issuance of debt provided $345.8 million of cash for the year ended December 31, 2015, of which $247.3 million was related to the issuance of the 2025 Senior Notes and $98.5 million from FHLB advances, compared to net proceeds of $144.0 million related to the issuance of the 2054 Subordinated Debentures in 2014. Kemper used $45.0 million of cash in 2015, including $1.5 million of cash to settle repurchases made at the end of 2014, to repurchase shares of its common stock, compared to using $114.0 million of cash to repurchase shares of its common stock in 2014. Kemper used $49.7 million of cash to pay dividends for the year ended December 31, 2015, compared to $51.8 million in 2014. The quarterly dividend rate was $0.24 per common share for each quarter of 2015 and 2014.
Cash available for investment activities in total is dependent on cash flow from Operating Activities and Financing Activities and the level of cash the Company elects to maintain. Net Cash Used by Investing Activities was $238.1 million for the year ended December 31, 2016, compared to $28.6 million in 2015. Net cash used by acquisitions of short-term investments was $18.0 million for the year ended December 31, 2016, compared to net cash provided by dispositions of short term investments of $104.9 million in 2015. Fixed Maturities investing activities used net cash of $318.0 million for the year ended December 31, 2016, compared to $53.5 million in 2015. Equity Securities investing activities provided net cash of $68.8 million for the year ended December 31, 2016, compared to $104.4 million in 2015. Equity Method Limited Liability Investments investing activities provided net cash of $6.4 million for the year ended December 31, 2016, compared to $0.5 million in 2015. Net cash provided by Fair Value Option Investments investing activities was $51.2 million for the year ended December 31, 2016, compared to net cash used of $111.0 million in 2015. Net cash used to acquire Alliance United was $57.6 million for the year ended December 31, 2015. Purchases of Corporate-owned Life Insurance were $7.5 million for both the year ended December 31, 2016 and the year ended December 31, 2015.
In addition to the purchase obligations included above, the Company had certain investment commitments totaling $214.7 million at December 31, 2016. The funding of such investment commitments is dependent on a number of factors, the timing of which is indeterminate. The contractual obligations reported above also exclude the Company’s liability of $5.1 million for unrecognized tax benefits. The Company cannot make a reasonably reliable estimate of the amount and period of related future payments, if any, for such liability. Other Contractual Obligations Reflected in Long Term Liabilities on the Consolidated Balance Sheet under GAAP primarily consist of interest obligations related to Long Term Debt Obligations.
The reported value of the Company’s investments was $6,607.5 million at December 31, 2016, of which $5,723.3 million, or 87%, was reported at fair value, $175.9 million, or 3%, was reported under the equity method of accounting, $294.2 million, or 4%, was reported at unpaid principal balance and $414.1 million, or 6%, was reported at cost or depreciated cost. Investments, in general, are exposed to various risks, such as interest rate risk, credit risk and overall market volatility risk. Accordingly, it is reasonably possible that changes in the fair values of the Company’s investments reported at fair value will occur in the near term and such changes could materially affect the amounts reported in the financial statements. Also, it is reasonably possible that changes in the carrying values of the Company’s Equity Method Limited Liability Investments will occur in the near term and such changes could materially affect the amounts reported in the financial statements because these issuers follow specialized industry accounting rules which require that they report all of their investments at fair value (See Item 1A., “Risk
The Company’s Property and Casualty Insurance Reserves are reported using the Company’s estimate of its ultimate liability for losses and LAE for claims that occurred prior to the end of any given accounting period but have not yet been paid. The Company had $931.4 million and $862.8 million of gross loss and LAE reserves at December 31, 2016 and 2015, respectively.
Property and Casualty Insurance Reserves for the Company’s business segments at December 31, 2016 and 2015 were:
In estimating the Company’s Property and Casualty Insurance Reserves, the Company’s actuaries exercise professional judgment and must consider, and are influenced by, many variables that are difficult to quantify. Accordingly, the process of estimating and establishing the Company’s Property and Casualty Insurance Reserves is inherently uncertain, and the actual ultimate net cost of known and unknown claims may vary materially from the estimated amounts reserved. The reserving process is particularly imprecise for claims involving asbestos, environmental matters, construction defect and other emerging and/or long-tailed exposures which may not be discovered or reported until years after the insurance policy period has ended. Property and Casualty Insurance Reserves related to the Company’s discontinued operations are predominantly long-tailed exposures, $16.7 million of which was related to asbestos, environmental matters and construction defect exposures at December 31, 2016.
The Company’s actuaries generally review the results of at least four of the estimation methodologies, two based on paid data and two based on incurred data, to initially estimate the ultimate losses and LAE for the current accident quarter and re-estimate the ultimate losses and LAE for previous accident quarters to determine if changes in the previous estimates of the ultimate
Development for the years ended December 31, 2016, 2015 and 2014, was:
Although development will emerge in all of the Company’s product lines, development in the Company’s personal automobile insurance product line could have the most significant impact due to the relative size of its loss and LAE reserves. To further illustrate the sensitivity of the Company’s reserves for personal automobile insurance losses and LAE to changes in the cumulative development factors, for each quarterly evaluation point the Company’s actuaries calculated the variability of cumulative development factors observed in the incurred loss development methodology using one standard deviation. The Company believes that one standard deviation of variability is a reasonably likely scenario to measure variability for its loss and LAE reserves under the incurred development method for personal automobile insurance. Assuming that the Company’s personal automobile insurance loss and LAE reserves were based solely on the incurred loss development methodology and the variability in the cumulative development factors occurred within one standard deviation, the Company estimates that the Company’s personal automobile insurance loss and LAE reserves could have varied by $66.8 million in either direction at December 31, 2016 for all accident years combined under this scenario. In addition to the factors described above, other factors may also impact loss reserve development in future periods. These factors include governmental actions, including court decisions interpreting existing laws, regulations or policy provisions, developments related to insurance policy claims and coverage issues, adverse or favorable outcomes in pending claims litigation, the number and severity of insurance claims, the impact of inflation on insurance claims and the impact of required participation in windpools and joint underwriting associations and residual market assessments. Although the Company’s actuaries do not make specific numerical assumptions about these factors, changes in these factors from past patterns will impact historical loss development factors and, in turn, future loss reserve development. Significant favorable changes in one or more factors will lead to favorable future loss reserve development, which could result in the actual loss developing closer to, or even below, the lower end of the Company’s estimated reserve variability. Significant unfavorable changes in one or more factors will lead to unfavorable loss reserve development, which could result in the actual loss developing closer to, or even above, the higher end of the Company’s estimated reserve variability. Accordingly, due to these factors and the other factors enumerated throughout the MD&A and the inherent limitations of the loss reserving estimation methodologies, the estimated and illustrated reserve variability may not necessarily be indicative of the Company’s future reserve variability, which could ultimately be greater than the estimated and illustrated variability. In addition, as previously noted, development will emerge in all of the Company’s product lines over time. Accordingly, the Company’s future reserve variability could ultimately be greater than the illustrated variability. Additional information pertaining to the estimation of, and development of, the Company’s Property and Casualty Insurance Reserves is contained in Item 1 of Part I of this 2016 Annual Report under the heading “Property and Casualty Loss and Loss Adjustment Expense Reserves.”
While the Company believes that none of its reporting units with material Goodwill are at risk of failing step one of the goodwill impairment test, the process of determining whether or not an asset, such as Goodwill, is impaired or recoverable relies on projections of future cash flows, operating results and market conditions. Such projections are inherently uncertain and, accordingly, actual future cash flows may differ materially from projected cash flows. In evaluating the recoverability of Goodwill, the Company performs a discounted cash flow analysis for each of the Company’s reporting units carrying Goodwill. The discounted cash value may be different from the fair value that would result from an actual transaction between a willing buyer and a willing seller. Such analyses are particularly sensitive to changes in discount rates and investment rates. Changes to these rates might result in material changes in the valuation and determination of the recoverability of Goodwill. For example, an increase in the rate used to discount cash flows will decrease the discounted cash value. There is likely to be a similar, but not necessarily as large as, increase in the investment rate used to project the cash flows resulting from investment income earned on the Company’s investments. Accordingly, an increase in the investment rate would increase the discounted cash value.
A change in any one or more of these assumptions is likely to result in a projected benefit obligation or pension cost that differs from the actuarial estimates at December 31, 2016. Such changes in estimates may be material. For example, a one-percentage point decrease in the Company’s estimated discount rate would increase the pension benefit obligation at December 31, 2016 by $87.5 million, while a one-percentage point increase in the rate would decrease the pension benefit obligation at December 31, 2016 by $69.8 million. A one-percentage point decrease in the Company’s estimated long-term rate of return on plan assets would increase the pension expense for the year ended December 31, 2016 by $5.2 million, while a one-percentage point increase in the rate would decrease pension expense by $5.2 million for the same period.
Consolidated Statements of Income for the Years Ended December 31, 2016, 2015 and 2014
Consolidated Statements of Shareholders’ Equity for the Years Ended December 31, 2016, 2015 and 2014
The fair values of the Company’s Investments in Fixed Maturities, Investments in Equity Securities, Fair Value Option Investments, Short-term Investments, Trading Securities, derivative instrument included in Other Assets and Debt are estimated using a hierarchical framework which prioritizes and ranks market price observability. The carrying amounts reported in the Consolidated Balance Sheets approximate fair value for Cash, Short-term Investments and certain other assets and other liabilities because of their short-term nature. The actual value at which financial instruments could be sold or settled with a willing buyer or seller may differ from estimated fair values depending on a number of factors, including, but not limited to, current and future economic conditions, the quantity sold or settled, the presence of an active market and the availability of a willing buyer or seller.
Unrealized appreciation or depreciation, net of applicable deferred income taxes, on fixed maturities and equity securities classified as available for sale is reported in Accumulated Other Comprehensive Income (“AOCI”) included in Shareholders’ Equity.
For traditional life insurance products, the reserves for future policy benefits are estimated on the net level premium method using assumptions as of the issue date for mortality, interest, policy lapses and expenses, including provisions for adverse mortality. These assumptions vary by such characteristics as plan, age at issue and policy duration. Mortality assumptions are based on the Company’s historical experience and industry standards. Interest rate assumptions principally range from 3% to 7%. Lapse rate assumptions are based on actual and industry experience. Insurance Reserves for life insurance products are comprised of reserves for future policy benefits plus an estimate of the Company’s liability for unpaid life insurance claims and claims adjustment expenses, which includes an estimate for IBNR life insurance claims. Prior to the third quarter of 2016, except when required by applicable law, the Company did not utilize the database of reported deaths maintained by the Social Security Administration or any other comparable database (a “Death Master File” or “DMF”) in its operations, including to determine its IBNR liability for life insurance products. Instead of using such a database, the Company calculated its IBNR liability for life insurance products using Company-specific historical information, which included analyzing average paid claims and the average lag between date of death and the date reported to the Company for claims for which proof of death had been provided. In the third quarter of 2016, the Company initiated a voluntary enhancement of its claims handling procedures for its life insurance policies. The Company is now utilizing a DMF to identify potential situations where the Company has yet to be notified of an insured’s death and, as appropriate, initiating an outreach process to identify and contact beneficiaries and settle claims. Policyholders’ Benefits and Incurred Losses and Loss Adjustment Expenses for the year ended December 31, 2016 include a charge of $77.8 million to recognize the initial impact of using a DMF in the Company’s operations, including to determine its IBNR liability for unpaid claims and claims adjustment expenses for life insurance products.
Other Assets primarily include property and equipment, internal use software, insurance licenses acquired in business combinations, the value of other intangible assets acquired, corporate-owned life insurance and prepaid expenses.
The Company accounts for the present value of the future profits embedded in life insurance in force acquired (“Life VIF”) based on actuarial estimates of the present value of estimated net cash flows. Life VIF was $28.9 million and $32.5 million at December 31, 2016 and 2015, respectively. Life VIF is amortized using the effective interest method using interest rates consistent with the rates in the underlying insurance contracts. The Company estimates that it will record Life VIF amortization, net of interest, of $3.1 million in 2017, $2.8 million in 2018, $2.4 million in 2019, $2.0 million in 2020 and $1.8 million in 2021. The Company evaluates the Life VIF for recoverability annually.
The Company accounts for the present value of the future profits embedded in Property and Casualty Insurance Customer Relationships Acquired (“P&C Customer Relationships”) based on the present value of estimated future cash flows from the customer relationships acquired. P&C Customer Relationships was $9.0 million and $11.2 million at December 31, 2016 and 2015, respectively. P&C Customer Relationships is amortized using the effective interest method. P&C Customer Relationships is tested for recoverability using undiscounted projections of future cash flows and written down to estimated fair value if the carrying value exceeds the sum of such projections of undiscounted cash flows.
The Company accounts for the present value of the future profits embedded in Property and Casualty Insurance Broker Relationships Acquired (“P&C Broker Relationships”) based on the present value of estimated future cash flows from the broker relationships acquired. P&C Broker Relationships was $16.8 million and $18.1 million at December 31, 2016 and 2015, respectively. P&C Broker Relationships is amortized on a straight-line basis over 15 years. P&C Broker Relationships is tested for recoverability using undiscounted projections of future cash flows and written down to estimated fair value if the carrying value exceeds the sum of such projections of undiscounted cash flows.
Deferred income tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred income tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. A valuation allowance, if any, is maintained for the portion of deferred income tax assets that the Company does not expect to recover. Increases, if any, in the valuation allowance for deferred income tax assets are recognized as income tax expense. Decreases, if any, in the valuation allowance for deferred income tax assets are recognized as income tax benefit. The effect on deferred income tax assets and liabilities of a change in tax rates is recognized in income in the period in which the change is enacted.
particularly on the liability for unpaid claims and claim adjustment expenses. Insurers are required to disclose tables showing incurred and paid claims development information by accident year for the number of years that claims typically remain outstanding, although not to exceed ten years, as well as a reconciliation of this information to the balance sheet. Additional disclosures are also required on the total of IBNR liabilities, including expected development on reported claims, reserving methodologies, quantitative information about claim frequency, qualitative description of the methodologies used for determining claim frequency and average annual percentage payout of incurred claims by age. ASU 2015-09 is effective for annual periods beginning after December 31, 2015 and interim periods within annual periods beginning after December 15, 2016. Except for the additional disclosure requirements, adoption of ASU 2015-09 did not impact the Company’s financial statements.
The Company has completed the allocation of the purchase price to the assets acquired and liabilities assumed. The final allocation of the purchase price to the fair values of the assets acquired and liabilities assumed is presented below.
Under the purchase agreement, the Company is indemnified up to $12.5 million on an after-tax basis for, among other things, breaches of customary representations and warranties, loss and LAE reserve development and pre-closing income taxes. In addition, the Company is indemnified up to $5.0 million on an after-tax basis, for certain employment related matters. Other Receivables in the preceding table include an indemnification receivable of $5.4 million. Other Receivables in the Consolidated Balance Sheets at December 31, 2016 and 2015 include an indemnification receivable of $16.0 million and $15.9 million, respectively.
The carrying amount, net of accumulated amortization, of the intangible assets acquired by class at December 31, 2016, December 31, 2015 and the acquisition date are presented below.
P&C Broker Relationships are being amortized over 15 years on a straight-line basis. Value of In Force Policies (“P&C VIF”) was amortized pro ratably as premiums were earned over the remaining terms of the underlying policies. Other intangible assets acquired are generally being amortized on a straight-line basis over 2 years to 5 years.
Maturities of $2.7 million at December 31, 2016. There were no unsettled sales of Investments in Fixed Maturities at December 31, 2015.
An aging of unrealized losses on the Company’s Investments in Fixed Maturities and Equity Securities at December 31, 2016 is presented below.
Equity Method Limited Liability Investments include investments in limited liability investment companies and limited partnerships in which the Company’s interests are not deemed minor and are accounted for under the equity method of accounting. The Company’s investments in Equity Method Limited Liability Investments are generally of a passive nature in that the Company does not take an active role in the management of the investment entity. In 2016 and 2015, aggregate investment income (losses) from Equity Method Limited Liability Investments exceeded 10% of the Company’s pretax consolidated net income. Accordingly, the Company is disclosing aggregated summarized financial data for its Equity Method Limited Liability Investments. Such aggregated summarized financial data does not represent the Company’s proportionate share of the Equity Method Limited Liability Investment assets or earnings. Aggregate total assets of the Equity Method Limited Liability Investments in which the Company invested totaled $2,618.1 million and $3,801.7 million as of December 31, 2016 and 2015, respectively. Aggregate total liabilities of the Equity Method Limited Liability Investments in which the Company invested totaled $828.0 million and $879.1 million as of December 31, 2016 and 2015, respectively. Aggregate net income of the Equity Method Limited Liability Investments in which the Company invested totaled $85.0 million, $159.6 million and $96.2 million for the years ended December 31, 2016, 2015 and 2014, respectively. The aggregate summarized financial data is based on the most recent and sufficiently-timely financial information available to the Company as of the respective reporting dates and periods. The Company’s maximum exposure to loss at December 31, 2016 is limited to the total carrying value of $175.9 million. In addition, the Company had outstanding commitments totaling approximately $76.3 million to fund Equity Method Limited Liability Investments at December 31, 2016.
Goodwill balances by business segment at December 31, 2016 and 2015 were:
The Company’s actuaries’ quarterly selections are summed by product and/or coverage levels to create the actuarial indication of the ultimate losses and LAE. Paid amounts are then subtracted from the ultimates to compute the reserves for property and casualty insurance losses and LAE. These results are reviewed by the Company’s corporate actuary and corporate management who apply their collective judgment and determine the appropriate estimated level of reserves to record. Numerous factors are considered in this determination process, including, but not limited to, the assessed reliability of key loss trends and assumptions that may be significantly influencing the current actuarial indications, changes in claim handling practices or other changes that affect the timing of payment or development patterns, changes in the mix of business, the maturity of the accident year, pertinent trends observed over the recent past, the level of volatility within a particular line of business, the improvement or deterioration of actuarial indications in the current period as compared to prior periods, and the amount of reserves related to third party pools for which the Company does not have access to the underlying data and, accordingly, relies on calculations provided by such pools.
The Company’s goal is to ensure that its total reserves for property and casualty insurance losses and LAE are adequate to cover all costs, while sustaining minimal variation from the time reserves for losses and LAE are initially estimated until losses and
The following table reconciles the net incurred and paid claims development tables presented above to the Company's liability for Property and Casualty Insurance Reserves included in the Consolidated Balance Sheet at December 31, 2016.
Property and Casualty Insurance Reserve activity for the years ended December 31, 2016, 2015 and 2014 was:
In 2016, the Company reduced its property and casualty insurance reserves by $20.7 million to recognize favorable development of loss and LAE reserves from prior accident years. Personal lines insurance loss and LAE reserves developed favorably by $16.8 million, and commercial lines insurance loss and LAE reserves developed favorably by $3.9 million. Personal automobile insurance loss and LAE reserves developed adversely by $11.3 million due primarily to the emergence of loss patterns that were worse than expected for liability insurance for the 2015 and 2014 accident years and, to a lesser extent, the 2013 and 2012 accident years. Homeowners insurance loss and LAE reserves developed favorably by $20.0 million due primarily to $16.8 million of favorable development on catastrophes primarily for the 2015 accident year and, to a lesser extent, the 2014 accident year. Other personal lines loss and LAE reserves developed favorably by $8.1 million due primarily to the emergence of more favorable loss patterns than expected for the 2015, 2014, 2013 and 2012 accident years. Commercial lines insurance loss and LAE reserves included adverse development of $2.4 million from continuing operations and favorable development of $6.3 million from discontinued operations.
insurance loss and LAE reserves developed favorably by $13.3 million and commercial lines insurance loss and LAE reserves developed favorably by $6.8 million. Personal automobile insurance loss and LAE reserves developed favorably by $1.8 million, net of the adverse development related to Alliance United, homeowners insurance loss and LAE reserves developed favorably by $10.8 million, and other personal lines loss and LAE reserves developed favorably by $0.7 million. Excluding the adverse development related to Alliance United for periods prior to the date of its acquisition, personal lines insurance losses and LAE reserves developed favorably by $21.0 million due primarily to the emergence of more favorable loss patterns than expected for the 2013, 2012 and 2011 accident years. Commercial lines insurance loss and LAE reserves included adverse development of $1.8 million from continuing operations and favorable development of $8.6 million from discontinued operations.
Trinity and United Insurance are members of the FHLB of Dallas and Chicago, respectively. During 2016 and 2015, Trinity borrowed and repaid $10.0 million and $77.5 million, respectively, under its agreement with the FHLB of Dallas. During 2015, United Insurance borrowed and repaid $21.0 million under its agreement with the FHLB of Chicago. There were no advances from the FHLB of Dallas or Chicago outstanding at either December 31, 2016 or December 31, 2015.
On February 24, 2015, Kemper issued $250.0 million of its 4.35% senior notes due February 15, 2025 (the “2025 Senior Notes”). The net proceeds of the issuance were $247.3 million, net of discount and transaction costs, for an effective yield of 4.49%. The 2025 Senior Notes are unsecured and may be redeemed in whole at any time or in part from time to time at Kemper’s option at specified redemption prices. Kemper used the net proceeds from the sale of the 2025 Senior Notes, together with available cash, to redeem in full the $250.0 million outstanding principal amount of its 6.00% senior notes due November 30, 2015. Kemper recognized a loss of $9.1 million before income taxes in the first quarter of 2015 from the early redemption of these senior notes.
The Company anticipates issuing at least $250.0 million in 10-year senior notes in the second quarter of 2017 to replace its Senior Notes due May 15, 2017. For risk management purposes, during the fourth quarter of 2016, the Company entered into a derivative transaction to hedge the risk of changes in the debt cash flows attributable to changes in the benchmark U.S. Treasury interest rate during the period leading up to the probable debt issuance (“Treasury Lock”). The Treasury Lock was formally designated as a cash flow hedge at inception and qualified for hedge accounting treatment. As such, the effective portion of the gain or loss on the derivative instrument is reported as a component of Other Comprehensive Income and will be amortized into earnings in the same periods that the hedged items affect earnings. The amortization will be included in Interest and Other Expenses, which is the same line item associated with the forecasted transaction. The ineffective portion of the change in fair value of the derivative instrument, if any, is recognized immediately in earnings. The fair value of the Treasury Lock of $1.6 million at December 31, 2016 has been included in Other Assets in the Consolidated Balance Sheet. As the entire amount of the change in fair value during the year was deemed effective, all of the change has been included entirely in Other Comprehensive Income for the year ended December 31, 2016. As the hedged transaction has yet to occur, no amounts have been reclassified from Other Comprehensive Income into earnings. If debt is issued in the second quarter of 2017 and its terms are consistent with what has been anticipated, the Company expects to reclassify $0.1 million of net gains on derivative instruments from AOCI to earnings for the year ended December 31, 2017 as interest expense on the debt is recognized.
Net rental expense for operating leases for the years ended December 31, 2016, 2015 and 2014 was:
Future minimum lease payments under capital and operating leases at December 31, 2016 were:
Kemper is authorized to issue 20 million shares of $0.10 par value preferred stock and 100 million shares of $0.10 par value common stock. No preferred shares were issued or outstanding at December 31, 2016 and 2015. There were 51,270,940 shares and 51,326,751 shares of common stock outstanding at December 31, 2016 and 2015, respectively. Common stock outstanding included 16,000 shares and 80,848 shares at December 31, 2016 and 2015, respectively, that have been issued, subject to certain vesting and other requirements, in connection with the Company’s long-term equity compensation plans. See Note 10, “Long-Term Equity-based Compensation,” to the Consolidated Financial Statements for a discussion of the restrictions and vesting provisions.
Kemper repurchased and retired 0.1 million shares of its common stock in open market transactions at an aggregate cost of $3.8 million in 2016. Kemper repurchased and retired 1.2 million shares of its common stock in open market transactions at an aggregate cost of $43.5 million in 2015. Kemper repurchased and retired 3.2 million shares of its common stock in open market transactions at an aggregate cost of $115.5 million in 2014.
Various state insurance laws restrict the amount that an insurance subsidiary may pay in the form of dividends, loans or advances without the prior approval of regulatory authorities. Also, that portion of an insurance subsidiary’s net equity which results from differences between statutory insurance accounting practices and GAAP would not be available for cash dividends, loans or advances. Kemper’s insurance subsidiaries paid dividends of $104.5 million to Kemper in 2016. In 2017, Kemper’s insurance subsidiaries would be able to pay $133 million in dividends to Kemper without prior regulatory approval. Kemper’s insurance subsidiaries had net assets of $2.4 billion, determined in accordance with GAAP, that were restricted from payment to Kemper without prior regulatory approval at December 31, 2016.
Kemper’s insurance subsidiaries are also required to hold minimum levels of statutory capital and surplus to satisfy regulatory requirements. The minimum statutory capital and surplus, or company action level RBC, necessary to satisfy regulatory requirements for the Company’s life and health insurance subsidiaries collectively was $121.4 million at December 31, 2016. The minimum statutory capital and surplus necessary to satisfy regulatory requirements for the Company’s property and casualty insurance subsidiaries collectively was $334.1 million at December 31, 2016. Company action level RBC is the level at which a company is required to file a corrective action plan with its regulators and is equal to 200% of the authorized control level RBC.
In addition to the annual DSU awards under the Non-employee Director compensation programs in effect for 2015 and 2014, each Non-employee Director received an initial option award to purchase 4,000 shares of Kemper common stock immediately upon becoming a director, and in addition, received an annual option award to purchase 4,000 shares of common stock on the date of each annual meeting of Kemper’s shareholders. Grants of such option awards were fully vested and exercisable on the date of grant at an exercise price equal to the fair value of Kemper’s common stock on the date of grant and expire ten years from the date of grant.
Prior to approval of the Omnibus Plan, the Company’s previous stock option plans included provisions, subject to certain limitations, to automatically grant restorative, or reload stock options (“Restorative Options”), to replace shares of previously owned Kemper common stock that an exercising option holder surrenders, either actually or constructively, to satisfy the exercise price and/or tax withholding obligations relating to the exercise. The restorative feature was eliminated prospectively for original option awards granted on or after February 3, 2009. However, Restorative Options could still be granted, subject to certain limitations, in connection with the exercise of original options granted before February 3, 2009. Following the exercise in 2016 of original options previously granted prior to February 3, 2009 and the automatic grant of Restorative Options in
The weighted-average grant-date fair values of Tandem Awards granted during 2016, 2015 and 2014 were $5.17, $7.85 and $10.49, respectively. Total intrinsic value of Tandem Awards exercised was $2.0 million, $4.6 million and $0.4 million for the years ended December 31, 2016, 2015 and 2014, respectively. Cash received from exercises of Tandem Awards was $3.5 million, $3.9 million and $0.5 million for the years ended December 31, 2016, 2015 and 2014, respectively. Total tax benefit realized for tax deductions from exercises of Tandem Awards was $0.7 million, $1.6 million and $0.1 million for the years ended December 31, 2016, 2015 and 2014, respectively.
Information pertaining to Tandem Awards outstanding at December 31, 2016 is presented below.
Prior to February 3, 2009, only awards of time-vested restricted stock had been granted. Beginning on February 3, 2009, in addition to time-vested restricted stock granted to certain employees and officers, the Company began making performance-based restricted awards to certain officers and employees. The initial number of shares or RSUs awarded to each participant of a performance-based award represents the shares that would vest, or, in the case of a RSU, that would vest and would be issued, if the performance level attained were to be at the “target” performance level. For performance above the target level, each participant would receive a grant of additional shares of stock up to a maximum of 100% of the initial number of shares or RSUs awarded to the participant. The final payout of these awards, and any forfeitures of shares for performance below the “target” performance level, will be determined based on the Company’s performance. If, at the end of the applicable performance period, the Company’s performance:
Half of the performance-based RSUs granted in 2016 are measured using a market performance condition. Fair value for these awards was estimated using the Monte Carlo simulation method described above. Final payout for these awards, and any forfeitures of shares for performance below the “target” performance level, will be based on Kemper’s total shareholder return, relative to a peer group comprised of all the companies in the S&P Supercomposite Insurance Index, over a three-year performance period ending on February 28, 2019. Compensation cost for these awards is recognized ratably over the requisite service period. In the event that the market performance condition is not satisfied, previously recognized compensation cost would not reverse, but it would reverse if the requisite service period is not met.
The total fair value of time-vested and performance-based restricted stock and RSUs that vested during the year ended December 31, 2016 was $1.3 million. The tax benefits for tax deductions realized from such shares was $0.5 million. The total fair value of the shares of time-vested and performance-based restricted stock that vested during the year ended December 31, 2015 was $1.4 million. The tax benefits for tax deductions realized from such shares was $0.5 million. The total fair value of the shares of time-vested and performance-based restricted stock that vested during the year ended December 31, 2014 and the 2011 Additional Shares was $3.6 million. The tax benefits for tax deductions realized from such shares was $1.2 million.
The components of Other Comprehensive Income (Loss) Before Income Taxes for the years ended December 31, 2016, 2015 and 2014 were:
The components of Other Comprehensive Income Tax Benefit (Expense) for the years ended December 31, 2016, 2015 and 2014 were:
Components of AOCI were reclassified to the following lines of the Consolidated Statements of Income for the years ended December 31, 2016, 2015 and 2014:
The components of Net Impairment Losses Recognized in Earnings reported in the Consolidated Statements of Income for the years ended December 31, 2016, 2015 and 2014 were:
The tax effects of temporary differences that give rise to significant portions of the Company’s Net Deferred Income Tax Assets and Deferred Income Tax Liabilities at December 31, 2016 and 2015 were:
The expiration of federal net operating loss (“NOL”) carryforwards and their related deferred income tax assets at December 31, 2016 is presented below by year of expiration.
Except for the NOL carryforward scheduled to expire in 2031 through 2036, all of the NOL carryforwards were acquired in connection with business acquisitions made in prior years and are subject to annual usage limitations under the Internal Revenue Code. The Company expects to fully utilize these federal NOL carryforwards.
A reconciliation of the beginning and ending amount of Unrecognized Tax Benefits for the years ended December 31, 2016, 2015 and 2014 is presented below.
Income tax refunds received, net of income taxes paid, were $0.5 million in 2016. Net income taxes paid were $44.4 million and $37.2 million in 2015 and 2014, respectively.
The Company sponsors a qualified defined benefit pension plan (the “Pension Plan”). The Pension Plan covers approximately 9,200 participants and beneficiaries, of which 1,800 are active employees. The Pension Plan is closed to new employees hired after January 1, 2006. The Pension Plan is generally non-contributory, but participation requires or required some employees to contribute 3% of pay, as defined, per year. Benefits for participants who are or were required to contribute to the Pension Plan are based on compensation during plan participation and the number of years of participation. Benefits for the vast majority of participants who are not required to contribute to the Pension Plan are based on years of service and final average pay, as defined. The Company funds the Pension Plan in accordance with the requirements of ERISA.
The weighted-average discount rate and rate of increase in future compensation levels used to estimate the components of the Projected Benefit Obligation for the Pension Plan at December 31, 2016 and 2015 were:
Additional information pertaining to the changes in the fair value of the Pension Plan’s assets classified as Level 3 in the two preceding tables for the years ended December 31, 2016 and 2015 is presented below.
The unfunded liability related to the Supplemental Plan was $25.4 million and $30.4 million at December 31, 2016 and 2015, respectively. Pension income for the Supplemental Plan was $1.0 million for the year ended December 31, 2016, compared to pension expense of $2.1 million and $1.8 million for the years ended December 31, 2015, and 2014, respectively. An actuarial gain of $4.8 million before taxes, an actuarial gain of $1.5 million before taxes and an actuarial loss of $7.0 million before taxes are included in Other Comprehensive Income (Loss) for the years ended December 31, 2016, 2015 and 2014, respectively.
The weighted-average discount rate and rate of increase in future compensation levels used to develop the components of the Accumulated Postretirement Benefit Obligation at December 31, 2016 and 2015 were:
thereafter for medical benefits and 11.0% for 2016, gradually declining to 5.0% in the year 2024 and remaining at that level thereafter for prescription drug benefits.
The Company estimates that OPEB Expense for the year ended December 31, 2017 will include income of $3.1 million resulting from the amortization of the related accumulated actuarial gain and prior service credit included in AOCI at December 31, 2016.
The Company expects to contribute $1.8 million, net of the expected Medicare Part D subsidy, to its OPEB Plan to fund benefit payments in 2017.
Earned Premiums by product line for the years ended December 31, 2016, 2015 and 2014 were:
Segment Revenues, including a reconciliation to Total Revenues, for the years ended December 31, 2016, 2015 and 2014 were:
Segment Net Operating Income, including a reconciliation to Income from Continuing Operations, for the years ended December 31, 2016, 2015 and 2014 was:
In 2008, the Company sold its Unitrin Business Insurance operations. The Company retained Property and Casualty Insurance Reserves for unpaid insured losses that occurred prior to the date of the sale. Property and Casualty Insurance Reserves reported in the Company’s Consolidated Balance Sheets include $38.3 million and $50.3 million at December 31, 2016 and 2015, respectively, for the retained liabilities. In accordance with GAAP, changes in the Company’s estimate of such retained liabilities after the sale are reported as a separate component of the results of discontinued operations. See Note 6, “Property and Casualty Insurance Reserves,” to the Consolidated Financial Statements for information pertaining cash used by operating activities to pay losses and LAE related to discontinued operations.
The Property & Casualty Insurance segment’s catastrophe reinsurance in 2016, 2015 and 2014 also included reinsurance coverage from the Florida Hurricane Catastrophe Fund (the “FHCF”) for hurricane losses in Florida at retentions lower than those described above. The Life & Health Insurance segment also purchases reinsurance from the FHCF for hurricane losses in Florida. Except for the coverage provided by the FHCF, the Life & Health Insurance segment has not carried any other catastrophe reinsurance since 2012, primarily due to actions taken by the Life & Health Insurance segment to reduce its exposures to catastrophes.
Reinsurance premiums for the Company’s primary catastrophe reinsurance programs and the FHCF Program reduced earned premiums for the years ended December 31, 2016, 2015 and 2014 by the following:
Catastrophe losses and LAE (including reserve development), net of reinsurance recoveries, for the years ended December 31, 2016, 2015 and 2014 by business segment are presented below.
In addition to the reinsurance programs described in Note 20, “Catastrophe Reinsurance,” to the Consolidated Financial Statements, Kemper’s insurance subsidiaries utilize other reinsurance arrangements to limit their maximum loss, provide greater diversification of risk and to minimize exposures on larger risks. The ceding of insurance does not discharge the primary liability of the original insurer. Accordingly, insurance reserve liabilities are reported gross of any estimated recovery from reinsurers in the Consolidated Balance Sheets. Amounts recoverable from reinsurers are estimated in a manner consistent with the insurance reserve liability and are included in Other Receivables in the Consolidated Balance Sheets.
The valuation of assets measured at fair value in the Company’s Consolidated Balance Sheet at December 31, 2016 is summarized below.
At December 31, 2016, the Company had unfunded commitments to invest an additional $135.2 million in certain limited liability investment companies and limited partnerships that will be included in Other Equity Interests when funded.
as benchmark curves, benchmarking of like securities, sector groupings, and matrix pricing to prepare evaluations. In addition, the provider uses model processes to develop prepayment and interest rate scenarios. The pricing provider’s models and processes also take into account market convention. For each asset class, teams of its evaluators gather information from market sources and integrate relevant credit information, perceived market movements and sector news into the evaluated pricing applications and models. The Company generally validates the measurements obtained from its primary pricing provider by comparing them with measurements obtained from one additional pricing provider that provides either prices from recent market transactions or quotes in inactive markets or evaluations based on its own proprietary models.
The Company’s other investments that are classified as Level 3 primarily consist of Limited Liability Companies and Limited Partnerships, but also certain Preferred Stocks and Common Stocks. The Company either uses valuations provided by third party fund managers, third party appraisers, or that are generated internally. These valuations typically employ various valuation techniques commonly used in the industry, including earnings multiples based on comparable public securities, industry-specific non-earnings based multiples, market yields based on comparable public securities and discounted cash flow models.
Information by security type pertaining to the changes in the fair value of the Company’s investments classified as Level 3 for the year ended December 31, 2016 is presented below.
Mr. Christopher B. Sarofim, a director of Kemper, is Vice Chairman and a member of the board of directors of Fayez Sarofim & Co. (“FS&C”), a registered investment advisory firm. FS&C provided investment management services with respect to certain assets of Kemper’s subsidiary, Trinity, under an agreement between the parties. Trinity had $85.8 million in assets managed by FS&C at December 31, 2014. In 2014, Trinity began reducing the amount of assets managed by FS&C. Trinity completed the disposal of all the assets managed by FS&C in 2015. Investment Expenses incurred in connection with such agreement were $0.1 million and $0.3 million for the years ended December 31, 2015, and 2014, respectively.
With respect to the Company’s defined contribution plans, until November 4, 2014, one of the alternative investment choices afforded to participating employees was the Dreyfus Appreciation Fund, an open-end, diversified managed investment fund. FS&C provides investment management services to the Dreyfus Appreciation Fund as a sub-investment advisor. The Company did not compensate FS&C for services provided to the Dreyfus Appreciation Fund.