(2) There is an accounting rule requiring available-for-sale fixed maturities to be revalued at fair value each period. The effect of this rule on diluted equity per share reflects the amount added or (deducted) under this rule to produce GAAP Shareholders’ equity per share. Please see the explanation and 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.
The following discussion should be read in conjunction with the Selected Financial Data and Torchmark’s Consolidated Financial Statements and Notes thereto appearing elsewhere in this report.
Discontinued Operations: As described in Note 3-Discontinued Operations in the Notes to the Consolidated Financial Statements, we sold our subsidiary United Investors Life Insurance Company (United Investors) as of December 31, 2010. Because of the sale, United Investors’ financial results are excluded from this discussion since those operations are discontinued.
How Torchmark Views Its Operations: Torchmark is the holding company for a group of insurance companies which market primarily individual life and supplemental health insurance, and to a limited extent annuities, to middle income households throughout the United States. We view our operations by segments, which are the major 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.
The tables in Note 14-Business Segments reconcile Torchmark’s revenues and expenses by segment to its major income statement line items for each of the years in the three-year period ending December 31, 2010. Additionally, this Note provides a summary of the profitability measures that demonstrates year-to-year comparability and which reconciles to net income. That summary is reproduced below from the Consolidated Financial Statements to present our overall operations in the manner that we use to manage the business.
lower sales of new health products. Health underwriting margins were flat at $170 million in 2010 after having declined $24 million or 12% in 2009.
While life insurance premium has grown steadily in each of the three years ending December 31, 2010, margins as a percentage of premium have also held steady each year at 27% of premium. Life net sales rose 1% in 2010 to $330 million and 10% in 2009 to $326 million. Life insurance segment results are discussed further under the caption Life Insurance.
The interest required on net policy liabilities is deducted from net investment income, and generally grows in conjunction with the insurance policy reserves that are supported by the invested assets. Financing costs, which consist of the interest required for debt service on our long and short-term debt, are also deducted from net investment income. In 2010, interest expense on our long-term debt rose $9 million after increasing $11 million in 2009. As noted earlier during 2009, we issued our $300 million 9 1/4% Senior Notes but repaid our $99 million 8 1/4% Senior Debentures, resulting in a higher balance of debt outstanding at a
higher interest rate. However, this segment has benefited from lower short-term financing costs in each successive year, as these costs have declined primarily due to lower rates on our short-term debt.
Torchmark’s current investment policy limits new investment acquisitions to investment-grade fixed maturities generally with longer maturities (often exceeding twenty years) that meet our quality and yield objectives. Approximately 94% of our invested assets at fair value consists of fixed maturities of which 93% was investment grade at December 31, 2010. The average quality rating of the portfolio was BBB+. The portfolio contains no securities backed by sub prime or Alt-A mortgages, no direct investment in residential mortgages, no counterparty risks, no credit default swaps, or derivative contracts. See the analysis of excess investment income and investment activities under the caption Investments in this report and Note 4-Investments in the Notes to Consolidated Statements of Operations for a more detailed discussion of this segment.
As described earlier in this summary, we wrote down certain fixed maturity and equity securities in each of the years 2008 through 2010, as these securities met our criteria for other-than-temporary impairment. The pretax impairment losses were $5 million, $143 million, and $106 million in 2010, 2009, and 2008, respectively. Please refer to Note 4-Investments in the Notes to Consolidated Financial Statements under the caption Other-than-temporary impairments and under the caption Realized Gains and Losses in this report for more information on these writedowns and our criteria for consideration of other-than-temporary impairment. Including the writedowns, we had total after-tax realized investment gains of $24 million in 2010 ($.30 per share), realized investment losses of $85 million in 2009 ($1.03 per share), and $70 million in 2008 ($.79 per share). Realized investment gains and losses can vary significantly from period to period and may have a material positive or negative impact on net income. Under the caption Realized Gains and Losses in this report, we present a complete analysis and discussion of our realized gains and losses including the writedowns. Also, as explained in Note 14-Business Segments in the Notes to the Consolidated Financial Statements, we do not consider realized gains and losses to be a component of our core insurance operations or operating segments.
In each of the years 2008 and 2009, income from continuing operations was affected by certain significant, unusual, and nonrecurring nonoperating items. 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. A discussion of these items follows.
As reported in Note 1-Significant Accounting Policies in the Notes to Consolidated Financial Statements under the caption Litigation and Tax Settlements, we have been involved in certain litigation issues in 2008 and 2009 in which we either received settlements net of expenses or incurred settlement losses and expenses. These issues resulted in a net after-tax charge of $770 thousand in 2008. Additionally, as described under the same caption of Note 1, we received tax settlements in each year in the amounts of $2.9 million in 2009 and $10.8 million in 2008. All of these litigation and tax issues pertained to issues arising many years ago and are not considered by management to relate to our current operations. Legal and litigation expenses pertaining to current operations are included in either insurance administrative expenses or parent expenses, as appropriate, in our segment analysis. Income from litigation settlements is included in other income. As explained in Note 4-Investments under the caption Other-than-temporary impairments, we wrote down certain company-occupied property to fair value during both 2009 and 2008. The write downs resulted in after-tax charges of $231 thousand in 2009 and $1.4 million in 2008.
Torchmark has in place an ongoing share repurchase program which began in 1986. With no specified authorization amount, we determine the amount of repurchases based on the amount of the Company’s excess cash flow, general market conditions, and other alternative uses. The majority of these
purchases are made from excess operating cash flow when market prices are favorable. Additionally, when stock options are exercised, proceeds from these exercises and the tax benefit are used to repurchase additional shares on the open market to minimize dilution as a result of the option exercises. Due to economic conditions in late 2008 and early 2009, we temporarily suspended our share repurchase program in the first quarter of 2009. However, in the first quarter of 2010, the Board of Directors reactivated the Company’s previously suspended share repurchase program in amounts and with timing that management, in consultation with the Board, determines to be in the best interest of the Company. The following chart summarizes share purchase activity for each of the three years ended December 31, 2010.
Life Insurance. Life insurance is our largest insurance segment, with 2010 life premium representing 63% of total premium. Life underwriting income before other income and administrative expense represented 73% of the total in 2010. Additionally, investments supporting the reserves for life products result in the majority of excess investment income attributable to the investment segment.
We have been in the process of combining selected United American (UA) Exclusive Agency Branch Offices with the Liberty National Exclusive Agency. For this reason, all data will be reported on a combined basis in this report.
annualized premium issued, net of cancellations in the first thirty days after issue, except in the case of Direct Response where net sales is annualized premium issued at the time the first full premium is paid after any introductory offer period has expired. We believe that net sales is a superior indicator of the rate of premium growth relative to annualized premium issued. First-year collected premium is defined as the premium collected during the reporting period for all policies in their first policy year. First-year collected premium takes lapses into account in the first year when lapses are more likely to occur, and thus is a useful indicator of how much new premium is expected to be added to premium income in the future.
The insert media area targets primarily the adult market. It involves placing insurance solicitations as advertising inserts into a variety of media, such as coupon packets, newspapers, bank statements, and billings.
Index to Financial Statements The Direct Response operation accounted for 34% of our life insurance premium during 2010, the largest of any distribution group. Life premium for this channel rose 6% in 2010 and 5% in 2009. Net sales rose 4% in 2010 to $137 million after a 7% gain in 2009 to $132 million. First-year collected premium increased 6% in 2010 to $90 million after a 6% gain in 2009.
As previously mentioned, we have combined selected UA Exclusive Agency Branch Offices into the Liberty National Exclusive Agency. This Agency markets primarily low-face amount life insurance and supplemental health insurance to middle-income customers. Life premium income for this agency was $295 million in 2010, a 1% decrease compared with $298 million in 2009. Life premium for this agency declined 2% in 2009 from 2008. First-year collected premium on a combined basis declined 1% to $35 million in 2010, after having increased 6% in 2009.
The Liberty Agency’s net sales declined 19% to $45 million in 2010, after having increased 1% a year earlier. This agency had 2,001 producing agents at December 31, 2010, compared with 2,471 a year earlier, a decline of 19%. The agent count at Liberty had also declined 51% in 2009 from 5,020. The decrease in agent count has been due in part to the closing of several offices which have had low production. In addition, agent compensation issues that arose in 2009 have negatively impacted agent counts. A two-tier bonus threshold proved more difficult for producing agents to meet than anticipated. Management reverted to a level bonus threshold later in 2009. Also, due to deteriorating first-year persistency on business written during 2008 and early 2009, management modified compensation incentives in 2009 to place more emphasis on the persistency of newly issued policies. This resulted in the departure of a number of the less productive agents but improved first year persistency.
We also offer life insurance through Other Agencies consisting of the Military Agency, the United American Independent Agency, and other small miscellaneous sales agencies. The Military Agency consists of a nationwide independent agency whose sales force is comprised primarily of former military officers who have historically sold primarily to commissioned and noncommissioned military officers and their families. This business consists of whole-life products with term insurance riders. Military premium represented 12% of life premium. The United American Independent Agency represented less than 2% of Torchmark’s total life premium. This agency is focused on health insurance, with life sales being incidental.
First-year collected premium for Medicare Part D represents only premium collected from new first-time enrollees in their first policy year.
Health insurance, excluding Medicare Part D. As noted under the caption Life Insurance, we have emphasized life insurance sales relative to health, due to life’s superior margins and other benefits. Our health distribution groups have also encountered increased competition in recent periods. The increased competition has led to losses in agents in our Liberty Exclusive Agency and Independent Agencies. Agent turnover has increased as lower premium, lower margin products offered by competitors have provided agents with products that are easier to sell. Turnover has also increased due to the Company’s decision to deemphasize the marketing of certain limited-benefit products as previously discussed. The marketing of these products was discontinued altogether after September, 2010. Declines in these agent counts have resulted in lower net sales, which in turn have pressured premium growth. Health premium, excluding Part D premium, fell 7% to $779 million in 2010, after declining 12% in 2009. Medicare Supplement premium declined 1% to $452 million in 2010, compared with a 6% decline in 2009. Other limited-benefit health premium dropped 14% in 2010 to $327 million, after a decline of 18% in 2009 and 9% in 2008. Net sales, excluding Medicare Part D, declined 33% to $64 million in 2010. Net sales fell 30% in 2009 to $97 million. Medicare Supplement net sales fell 21% in 2010, but rose 64% in 2009. Other health net sales continued to decline, falling 45% in 2010 and 54% in 2009. First year collected premium also declined in both 2010 and 2009.
number of enrollees. Enrollment for all Part D coverages ends on December 31 of the previous year, except for enrollees who reach age 65 in the current year. At December 31, 2010, United American had approximately 144 thousand enrollees for the 2011 Part D plan, compared with 158 thousand for the 2010 plan year and 147 thousand for the 2009 plan year. Our Medicare Part D product is sold primarily through the Direct Response operation, but is also sold to groups through the UA Independent agency. Part D net sales were $39 million in 2010, compared with $43 million in 2009 and $28 million in 2008. We count only sales to new first-time enrollees in net sales, and the majority of premium income was from previous enrollees.
We believe that the Medicare Part D program is a meaningful component of our health product offerings because of our experience with the senior-age market and with Medicare Supplements, the government assurances with regard to the risk-sharing agreements for participating insurers, the incremental income added to our health insurance margins, and the renewal of the business every year. Due to our experience with service to the senior-age market and the use of our existing Direct Response marketing system, entry to this business required little new investment. However, we do not expect significant growth in the Part D product in the near future, as most Medicare beneficiaries have already chosen a plan. Additionally, as with any government-sponsored program, the possibility of regulatory changes could change the outlook for this market.
Index to Financial Statements Torchmark’s health insurance underwriting margin before other income and administrative expense declined 12% in 2009 to $170 million but stabilized in 2010, remaining flat at $170 million. As a percentage of premium income, margins were stable in all periods at approximately 17%.
Our fixed annuity balances at the end of 2010, 2009, and 2008 were $1.24 billion, $959 million, and $817 million, respectively.
Index to Financial Statements Administrative expenses. Operating expenses are included in the Other and Corporate Segments and are classified into two categories: insurance administrative expenses and expenses of the parent company. The following table is an analysis of operating expenses for the three years ended December 31, 2010.
Insurance administrative expenses rose 4% in 2010, after having declined 4% in 2009. As a percentage of premium, they increased to 5.9% in 2010 from 5.8% in both 2009 and 2008. The 2010 increase was caused primarily by higher employee costs, mostly related to higher employee health benefit costs. Partially offsetting the increase in employee costs was a decline in legal costs, as we favorably settled certain previously reserved litigation during 2010. In 2009, increases in salaries were more than offset by declines in other administrative costs and other employee costs. As a result of the effort to achieve greater consistency in expense classification among our subsidiaries, we deferred $12 million more of deferrable administrative expense to acquisition expense in 2009 compared with 2008. These reductions in administrative expense were partially offset by increases in pension and other employee benefit costs during the period.
Investments. 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. It is the measure that we use to evaluate the performance of the investment segment as described in Note 14-Business Segments in the Notes to the Consolidated Financial Statements. It is defined as net investment income less both the interest credited to net policy liabilities and the interest cost associated with capital funding or “financing costs.” We also view excess investment income per diluted share as an important and useful measure to evaluate the performance of the investment segment. It is defined as excess investment income divided by the total diluted weighted average shares outstanding, representing the contribution by the investment segment to the consolidated earnings per share of the Company. Since implementing our share repurchase program in 1986, we have used over $4.2 billion of cash flow to repurchase Torchmark shares after determining that the repurchases provided a greater return than other investment alternatives. Share repurchases reduce excess investment income because of the foregone earnings on the cash that would otherwise have been invested in interest-bearing assets, but they also reduce the number of shares outstanding. In order to put all capital resource uses on a comparable basis, we believe that excess investment income per diluted share is an appropriate measure of the investment segment.
* Deconsolidation of trusts liable for Trust Preferred Securities required by accounting guidance. See Note 11-Debt in the Notes to Consolidated Financial Statements.
Index to Financial Statements Excess investment income is reduced by interest credited to net insurance policy liabilities and the interest paid on corporate debt. Information about interest credited to policy liabilities is shown in the following table.
The average interest crediting rate has risen in each of the last three years. In 2001, as part of our normal review of policy reserve assumptions, we increased the interest rate assumption 100 basis points (1%) on policies issued after January 1, 2001. As this group of policies becomes a larger proportion of our business, the average crediting rate will continue to increase. For more specific information on life and health crediting rates, please refer to Note 6-Future Policy Benefit Reserves in the Notes to Consolidated Financial Statements.
Index to Financial Statements The following table summarizes selected information for fixed-maturity purchases. The effective annual yield shown in the table is the yield calculated to the potential termination date that produces the lowest yield. This date is commonly known as the “worst call date.” Two different average life calculations are shown, average life to the next call date and average life to the maturity date.
We prefer to invest primarily in bonds that are not callable (on other than a make-whole basis) prior to maturity, but we periodically invest some funds in callable bonds when the incremental yield available on such bonds warrants doing so. For investments in callable bonds, the actual life of the investment will depend on whether or not (and if so, when) the issuer calls the investment prior to the maturity date. Given our investments in callable bonds, the actual average life of our investments can not be known at the time of the investment. However, the average life will not be less than the average life to next call and will not exceed the average life to maturity. Data for both of these average life measures is provided in the above chart. The average life of funds invested in 2009 (to both next call and maturity) was lower than that of funds invested during 2008 and 2010 due to actions taken for statutory capital management purposes and the limited availability of longer term investments.
During the three years 2008 through 2010, we have invested primarily in investment-grade corporate bonds. During 2008, we invested a considerable amount of the funds in trust preferred securities and redeemable preferred stocks with longer scheduled maturity dates, often exceeding 30 years. In virtually all cases, such securities are callable many years prior to the scheduled maturity date. During 2009 and 2010, we acquired a significant amount of taxable municipal bonds, primarily Build America Bonds authorized by the American Recovery and Retirement Act of 2009. In assessing the creditworthiness of these bonds, we took into account the geographic location of the municipalities. The investments in these municipal bonds consisted almost exclusively of general obligation bonds and revenue bonds for essential services.
New cash flow available to us for investment has been affected by issuer calls as a result of the low-interest environment experienced during the past three years, although this effect has diminished each successive year. Issuers are more likely to call bonds when rates are low because they often can refinance them at a lower cost. Calls increase funds available for investment, but they can have a negative impact on investment income if the proceeds from the calls are reinvested in bonds that have lower yields than that of the bonds that were called. Issuer calls were $109 million in 2010, $181 million in 2009, and $238 million in 2008. The higher level of acquisitions in 2009 was primarily due to the additional cash flow available from the special sales transactions noted below.
Portfolio Analysis. Because Torchmark has recently invested almost exclusively in fixed-maturity securities, the relative percentage of our assets invested in various types of investments varies from industry norms. The following table presents a comparison of Torchmark’s components of invested assets at amortized cost as of December 31, 2010 with the latest industry data.
At December 31, 2010, approximately 94% of our investments at book value were in a diversified fixed-maturity portfolio. Policy loans, which are secured by policy cash values, made up an additional 3%. The remaining balance was comprised of other investments including equity securities, mortgage loans, and other long-term and short-term investments.
Index to Financial Statements Credit Risk Sensitivity. Credit risk is the level of certainty that a security’s issuer will maintain its ability to honor the terms of that security until maturity. Approximately 87% of our fixed-maturity holdings at book value are in corporate securities (including redeemable preferred and asset-backed securities). As we continue to invest in corporate bonds with relatively long maturities, credit risk is a concern. We mitigate this ongoing risk, in part, by acquiring investment-grade bonds and by analyzing the financial fundamentals of each prospective issuer. We continue to monitor the status of issuers on an ongoing basis. We also seek to reduce credit risk by maintaining investments in a large number of issuers over a wide range of industry sectors.
The following table presents the relative percentage of our fixed maturities by industry sector at December 31, 2010.
At December 31, 2010, approximately 35% of the fixed maturity assets at amortized cost (34% at fair value) were in the financial sector, including 16% in life and health or property casualty insurance companies and 14% in banks at amortized cost. Financial guarantors, mortgage insurers, and insurance brokers comprised approximately 5% of the portfolio. After financials, the next largest sector was utilities, which comprised 15% of the portfolio at amortized cost. The balance of the portfolio is spread among 268 issuers in a wide variety of sectors. As previously noted, gross unrealized losses were $368 million at December 31, 2010, declining from $699 million a year earlier. As shown in the chart above, the portfolio was in a net unrealized gain position at December 31, 2010, compared with a net unrealized loss position at the prior year end. Approximately 60% of the change in the fair value relative to amortized cost in 2010 was attributable to improvements in the financial sectors, while the remaining 40% was in the non-financial sectors. As discussed in Note 4-Investments, we believe much of the unrealized losses experienced in 2008 and 2009 were attributable to illiquidity in the financial markets. We expect to recover the full book value of our investments in impaired securities.
Our current investment policy is to acquire only investment-grade obligations. Thus, any increases in below investment-grade issues are a result of ratings downgrades of existing holdings.
The following table illustrates the market risk sensitivity of our interest-rate sensitive fixed-maturity portfolio at December 31, 2010 and 2009. This table measures the effect of a change in interest rates (as represented by the U.S. Treasury curve) on the fair value of the fixed-maturity portfolio. The data measures the change in fair value arising from an immediate and sustained change in interest rates in increments of 100 basis points.
Index to Financial Statements 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, 2010.
Additionally, as described in Note 4, we wrote down a real estate investment to fair value in 2008, resulting in a loss of $1.1 million ($718 thousand after tax). We wrote down an additional $205 thousand ($133 thousand after tax) in 2009 on this investment. In 2010, we acquired $7.3 million book value of our 9 1/4% Senior Notes at a cost of $8.9 million, resulting in an after-tax loss on debt redemption of $1.1 million.
Insurance Subsidiary Liquidity. The operations of our insurance subsidiaries have historically generated substantial cash inflows in excess of immediate cash needs. Sources of cash flows for the insurance subsidiaries include primarily premium and investment income. Cash outflows from operations include policy benefit payments, commissions, administrative expenses, and taxes. The funds to provide for policy benefits, the majority of which are paid in future periods, are invested primarily in long-term fixed maturities to meet these long-term obligations. In addition to investment income, maturities and scheduled repayments in the investment portfolio are sources of cash. Excess cash available from the insurance subsidiaries’ operations is generally distributed as a dividend to the Parent Company, subject to regulatory restriction. The dividends are generally paid in amounts equal to the subsidiaries’ prior year earnings calculated on a statutory basis.
Index to Financial Statements The following table presents certain information about our short-term borrowings, all of which was commercial paper during the two years ending December 31, 2010 and December 31, 2009.
Consolidated Liquidity. Consolidated net cash inflows provided from operations were $1.03 billion in 2010, compared with $976 million in 2009, and $731 million in 2008. In addition to cash inflows from operations, our companies have received $321 million in investment calls and tenders and $318 million of scheduled maturities or repayments during 2010. Maturities, tenders, and calls totaled $761 million in 2009 and $581 million in 2008.
(1) Funded debt is itemized in Note 11-Debt in the Notes to Consolidated Financial Statements and includes short-term commercial paper.
(3) 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, 2010, these pension obligations were $286 million, but there were also assets of $237 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 10-Postretirement Benefits in the Notes to Consolidated Financial Statements for more information on pension obligations.
Shareholders’ equity was $4.0 billion at December 31, 2010, compared with $3.4 billion at December 31, 2009. During the twelve months since December 31, 2009, shareholders’ equity was reduced by the $204 million in share purchases but has been increased by after tax unrealized gains of $345 million in the fixed maturity portfolio as conditions in financial markets have improved. As explained in Note 4-Investments-unrealized loss analysis, unrealized losses in 2008 and early 2009 resulted primarily from illiquidity in the financial markets as a result of general economic conditions.
Index to Financial Statements We maintain a significant available-for-sale fixed-maturity portfolio to support our insurance policyholders’ liabilities. Current accounting guidance requires that we revalue our portfolio to fair market value at the end of each accounting period. The period-to-period changes in fair value, net of their associated impact on deferred acquisition costs and income tax, are reflected directly in shareholders’ equity. Changes in the fair value of the portfolio can result from changes in interest rates and liquidity in financial markets. While invested assets are revalued, accounting rules do not permit interest-bearing insurance policy liabilities to be valued at fair value in a consistent manner as assets, with changes in value applied directly to shareholders’ equity. 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. If these liabilities were revalued in the same manner as the assets, the effect on equity would be largely offset. 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. Recently, the market value of our fixed maturity portfolio had been depressed as a result of bond market illiquidity resulting in a significant decrease in shareholders’ equity. Because of the long-term nature of our fixed maturities and liabilities and the strong cash flows 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.
Credit Ratings. The chart below presents Torchmark’s credit ratings as of December 31, 2010.
Information regarding related party transactions is found in Note 16-Related Party Transactions in the Notes to Consolidated Financial Statements.
Approximately 78% of our liabilities for future policy benefits at December 31, 2010 were traditional insurance liabilities whereby 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 in the Notes to Consolidated Financial Statements 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. A premium deficiency event for Torchmark’s traditional business is very rare, and did not occur during the three years ended December 31, 2010.
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 maintain our investment quality and diversification standards. We report this portfolio at fair value. Fair value is the price that we would expect to receive upon sale of the asset in an orderly transaction. The fair value of the fixed-maturity portfolio is primarily affected by changes in interest rates in financial markets, having a greater impact on longer-term maturities. Because of the size of our fixed-maturity portfolio, small changes in rates can have a significant effect on the portfolio and the reported financial position of the Company. This impact is disclosed in 100 basis point increments under the caption Market Risk Sensitivity in this report. However, as discussed under the caption Financial Condition in this report, we believe these unrealized fluctuations in value have no meaningful impact on our actual financial condition and, as such, we remove them from consideration when viewing our financial position and financial ratios.
Impairment of Investments. We continually monitor our investment portfolio for investments that have become impaired in value, where fair value has declined below carrying 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 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 Note 4-Investments in the Notes to Consolidated Financial Statements 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.
return on assets, and projected salary increase assumptions are disclosed and the criteria used to determine those assumptions are discussed in Note 10-Postretirement Benefits in the Notes to Consolidated Financial Statements. The assumptions are reviewed annually and revised, if necessary, based on more current information available to us. Note 10 also contains information about pension plan assets, investment policies, and other related data.
2) Federal and state legislative and regulatory developments, particularly those impacting taxes and changes to the federal Medicare program that would affect Medicare Supplement and Medicare Part D insurance;
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Torchmark Corporation and subsidiaries as of December 31, 2010 and 2009, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2010, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Torchmark’s internal control over financial reporting as of December 31, 2010, based on the criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 28, 2011 expressed an unqualified opinion on Torchmark’s internal control over financial reporting.
Basis of Presentation: The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (GAAP), under guidance issued by the Financial Accounting Standards Board (FASB). The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
When a component of Torchmark’s business is sold or expected to be sold during the ensuing year, Torchmark reports the assets and liabilities of the component as assets and liabilities of subsidiaries held for sale. Assets or liabilities of subsidiaries held for sale are segregated and are recorded in the Consolidated Balance Sheets at the lower of the carrying amount or estimated fair value less cost to sell. If the carrying amount of the business exceeds its estimated fair value, a loss is recognized. Major classes of assets and liabilities of subsidiaries held for sale are separately disclosed in the Notes to the Consolidated Financial Statements.
Torchmark reports the results of operations of a business as discontinued operations when the component is sold or expected to be sold, the operations and cash flows of the business have been or will be eliminated from the ongoing operations as a result of the disposal transaction, and Torchmark will not have any significant continuing involvement in the operations of the business after the disposal transaction. The results of discontinued operations are reported in discontinued operations in the
Gains and losses realized on the disposition of investments are determined on a specific identification basis. Income attributable to investments is included in Torchmark’s net investment income. Net investment income for the years ended December 31, 2010, 2009, and 2008 included $522 million, $487 million, and $451 million, respectively, which was allocable to policyholder reserves or accounts. Realized investment gains and losses are not allocated to insurance policyholders’ liabilities.
adjustment to accumulated other comprehensive income. The revisions were effective for interim and annual periods ending after June 15, 2009, but early adoption was permitted for periods ending after March 15, 2009. Disclosures for earlier periods for comparative purposes were not required until the comparative period’s end after initial adoption.
Torchmark elected to early adopt the amended guidance for the periods beginning January 1, 2009. Adoption resulted in no cumulative effect adjustment to opening retained earnings or to accumulated other comprehensive income as of January 1, 2009. Invested assets, total assets, and total shareholders’ equity were not affected by adoption. Application of the new guidance resulted in an after-tax increase in net income of $13.5 million in 2009, because the portion of other-than-temporary impairment loss related to factors other than credit was recorded in other comprehensive income instead of being reflected in net income. See Note 4-Investments under the caption Other-than-temporary impairments for a full discussion and disclosures related to other-than-temporary impairments.
Future Policy Benefits: The liability for future policy benefits for universal life-type products is represented by policy account value. The liability for future policy benefits for all other life and health products, approximately 78% of total future policy benefits, is provided on the net level premium method based on estimated investment yields, mortality, morbidity, persistency and other assumptions which were considered appropriate at the time the policies were issued. Assumptions used are based on Torchmark’s previous experience with similar products. Once established, assumptions for these products are generally not changed. An additional provision is made on most products to allow for possible adverse deviation from the assumptions. These estimates are periodically reviewed and compared with actual experience. If it is determined that existing contract liabilities, together with the present value of future gross premiums, will not be sufficient to cover the present value of future benefits and to recover unamortized acquisition costs, then a premium deficiency exists. Such a deficiency would be recognized immediately by a charge to earnings and either a reduction of unamortized acquisition costs or an increase in the liability for future policy benefits. From that point forward, the liability for future policy benefits would be based on the revised assumptions.
Property and Equipment: Property and equipment, included in “Other assets,” is reported at cost less allowances for depreciation. Depreciation is recorded primarily on the straight line method over the estimated useful lives of these assets which range from two to ten years for equipment and five to forty years for buildings and improvements. Ordinary maintenance and repairs are charged to income as incurred. Impairments, if any, are recorded when, based on events and circumstances, it becomes evident that the fair value of the asset is less than its carrying amount. Original cost of property and equipment was $119 million and $111 million at December 31, 2010 and 2009, respectively. Accumulated depreciation was $65 million at year end 2010 and $60 million at the end of 2009. Depreciation expense was $6.0 million in 2010, $4.6 million in 2009, and $5.0 million in 2008. During 2008, Torchmark completed the construction of an office building adjacent to the home office building of its subsidiary United American Insurance Company (United American) in McKinney, Texas. The Company spent approximately $23 million on the building and land, and approximately $3 million on equipment. Liberty National Life Insurance Company (Liberty), a wholly-owned Torchmark subsidiary, has sold the majority of its agency office buildings. In 2008, five offices were sold for proceeds of $787 thousand, recording a realized gain of $278 thousand before tax. In 2008, Globe Life And Accident Insurance Company (Globe), a wholly-owned Torchmark subsidiary, sold two office buildings in Oklahoma City, Oklahoma for proceeds of $7.5 million, recording a gain on the sale of $2.6 million. No buildings were sold in 2009 or 2010.
were recorded in “Income tax expense.” All state premium tax benefits, net of the related amortization, are recorded in “Net investment income.” At December 31, 2010, $269 million was included in “Other assets” with the remaining $14 million included in “Other invested assets.” At December 31, 2009, the comparable amounts were $149 million and $20 million, respectively. Any unpaid commitments to invest are recorded in “Other liabilities.”
Litigation and Tax Settlements: The Company recorded a $2.9 million tax settlement benefit in 2009 primarily resulting from the favorable settlements of U.S. Federal income tax issues that related to prior tax years. The Company also recorded a $10.8 million settlement benefit in 2008 related to litigation that occurred in prior years as a result of the favorable resolution of litigation concerning tax liabilities asserted by Canadian tax authorities covering several years. More information on these tax settlements is provided in Note 9-Income Taxes.
Postretirement Benefits: Torchmark accounts for its defined benefit pension plans by recognizing the funded status of its postretirement benefit plans on its Consolidated Balance Sheets in accordance with accounting guidance. Periodic gains and losses attributable to changes in plan assets and liabilities that are not recognized as components of net periodic benefit costs are recognized as components of other comprehensive income, net of tax. As of December 31, 2009, Torchmark adopted new accounting guidance requiring new disclosures about assets in its pension plans. The new disclosures include information about how investment decisions are made, categories of assets, information about how assets are valued, and concentrations of risk. More information concerning the accounting and disclosures for postretirement benefits is found in Note 10-Postretirement Benefits.
Significant assets and liabilities held for sale at December 31, 2009 were as follows:
Proceeds from sales of fixed maturities available for sale were $315 million in 2010, $831 million in 2009, and $100 million in 2008. Gross gains realized on those sales were $30 million in 2010, $69 million in 2009, and $3 million in 2008. Gross losses were $13 million in 2010, $56 million in 2009, and $3 million in 2008. Proceeds from sales of equity securities were $1.1 million in 2009. There were no equities sold in 2008, and 2010 sales were immaterial. Gross gains realized on those sales were zero in all three years. Gross losses realized on the 2009 sales were $862 thousand.
The great majority of the Company’s fixed maturities are not actively traded and direct quotes are not generally available. Management therefore determines the fair values of these securities after consideration of data provided by third-party pricing services and independent broker/dealers. Over 99% of the fair value reported at December 31, 2010 was determined using data provided by third-party pricing services. Prices provided by third-party pricing services are not binding offers but are estimated exit values. They are based on observable market data inputs which can vary by security type. Such inputs include benchmark yields, available trades, broker/dealer quotes, issuer spreads, benchmark securities, bids, offers, and other market data. Where possible, these prices were corroborated against other independent sources. When corroborated prices produce small variations, the close correlation indicates observable inputs, and the median value is used. When corroborated prices present greater variations, additional analysis is required to determine which value is the most appropriate. When only one price is available, management evaluates observable inputs and performs additional analysis to confirm that the price is appropriate. All fair value measurements based on prices determined with observable market data are reported as Level 1 or Level 2 measurements.
When third-party vendor prices are not available, the Company attempts to obtain at least three quotes from broker/dealers for each security. When at least three quotes are obtained, and the standard deviation of such quotes is less than 3%, (suggesting that the independent quotes were likely derived using similar observable inputs), the Company uses the median quote and classifies the measurement as Level 2. At December 31, 2010 and 2009, there were no assets valued as Level 2 in this manner with broker quotes.
When the standard deviation is 3% or greater, or the Company cannot obtain three quotes, then additional information and management judgment are required to establish the fair value. The measurement is then classified as Level 3. The Company uses information and valuation 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. As of December 31, 2010 and 2009, fair value measurements classified as Level 3 represented 1% of total fixed maturities and equity securities.
The following tables represent the fair value of assets measured on a recurring basis at December 31, 2010 and 2009:
In 2008 and 2009, respectively, $111 million and $53 million of fixed maturities transferred in to Level 3 from Level 2 due to the lack of observable market data. There were no transfers into Level 3 in 2010. In 2008, $29 million of fixed maturities transferred out of Level 3 into Level 2 due to the availability of valuations based on observable data. In 2009, $149 million of fixed maturities transferred out of Level 3 into Level 2 due to the use of an additional pricing vendor whose valuations gave us an additional source of observable data. In 2010, $14 million of fixed maturities transferred out of Level 3 into Level 2 due to the availability of observable market data.
within the Level 3 classification by reporting purchases, sales, issuances, and settlements on a gross rather than net basis; proper classification of assets and liabilities; and complete information about valuation inputs and techniques. The disclosure of the additional detail regarding the Level 3 activity was not required for Torchmark until 2011. However, Torchmark early adopted this guidance as of January 1, 2010 as permitted.
During 2010, the Company determined that certain of its holdings in fixed maturities were other-than-temporarily impaired, resulting in writedowns of $4.9 million ($3.2 million after tax) on a CDO and on three corporate bonds. The pretax writedowns included the writedown of the CDO with a carrying amount of $1.7 million to a fair value of zero ($1.1 million after tax). The corporate bonds were written down $3.2 million ($2.1 million after tax).
The following tables disclose unrealized investment losses by class of investment at December 31, 2010 and December 31, 2009. Torchmark considers these investments to be only temporarily impaired.
Torchmark subsidiaries held 234 issues (CUSIP numbers) at December 31, 2010 that had been in an unrealized loss position for less than twelve months, compared with 184 issues a year earlier. Additionally, 133 and 279 issues had been in an unrealized loss position twelve months or longer at December 31, 2010 and 2009, respectively. Torchmark’s entire fixed-maturity and equity portfolio consisted of 1,430 issues at December 31, 2010 and 1,455 issues at December 31, 2009. The weighted average quality rating of all unrealized loss positions as of December 31, 2010 was BBB+.
The following table presents an analysis of the changes in Torchmark’s amounts related to credit loss positions for the year 2010.
The estimated fair value of mortgage loans, based on discounted cash flows, was approximately $14.3 million at December 31, 2010 and $15.2 million at December 31, 2009. Accumulated depreciation on investment real estate was $1.8 million at both December 31, 2010 and 2009.
A summary of the assumptions used in determining the liability for future policy benefits at December 31, 2010 is as follows:
The overall average interest assumption for determining the liability for future life and health insurance benefits in 2010 was 6.1%.
Torchmark and its subsidiaries file a life-nonlife consolidated Federal income tax return.
In each of the years 2008 through 2010, deferred income tax expense was incurred because of certain differences between net income before income taxes as reported on the Consolidated Statements of Operations and taxable income as reported on Torchmark’s income tax returns. As explained in Note 1-Significant Accounting Policies, these differences caused the financial statement book values of some assets and liabilities to be different from their respective tax bases.
deposited with the tax authorities. In 2009, the Company recorded $441 thousand of additional interest income, net of Federal income tax, on amounts remaining to be refunded. No tax years are currently under examination by Canadian tax authorities.
Torchmark has net operating loss carryforwards of approximately $35 million at December 31, 2010 which will begin to expire in 2021 if not otherwise used to offset future taxable income. In addition, Torchmark had a net capital loss carryover of $36.8 million at December 31, 2009 which was utilized in 2010 to offset capital gains. 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 since, in management’s judgment, Torchmark will more likely than not have sufficient taxable income in future periods to fully realize its existing deferred tax assets.
Torchmark’s tax liability is adjusted to include the provision for uncertain tax positions taken or expected to be taken in a tax return. A reconciliation of the beginning and ending amount of unrecognized tax benefits (excluding effects of accrued interest, net of Federal tax benefits) for the years 2008 through 2010 is as follows:
Torchmark’s continuing practice is to recognize interest and/or penalties related to income tax matters in income tax expense. The Company recognized interest income of $124 thousand, $1.7 million, and $11.9 million, net of federal income tax benefits, in its Consolidated Statements of Operations for 2010, 2009, and 2008, respectively. The Company had an accrued interest receivable of $4.1 million and $3.9 million, net of Federal income tax benefits, as of 2010 and 2009, respectively. The Company had no accrued penalties at December 31, 2010 or 2009.
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 funded. Contributions are made to funded pension plans subject to minimums required by regulation and maximums allowed for tax purposes. Defined benefit plan contributions were $13 million in 2010, $15 million in 2009, and $63 million in 2008. Torchmark estimates as of December 31, 2010 that it will contribute an amount not to exceed $20 million to these plans in 2011. The actual amount of contribution may be different from this estimate.
Torchmark has a Supplemental Executive Retirement Plan (SERP), which 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 unfunded. However, life insurance policies on the lives of plan participants have been established for this plan with an unaffiliated insurance carrier. The premiums for this coverage paid in 2010 and 2009 were $2 million and $11 million, respectively, and the cash value at December 31, 2010 was $12 million. Additionally, a Rabbi Trust was established for this plan in 2010 in the amount of $21 million to support the liability for this plan. Because this plan is unqualified, the Rabbi Trust and the policyholder value of these policies is not included as defined benefit plan assets but as assets of the Company. The liability for this SERP at December 31, 2010 was $38 million and was $32 million a year earlier.
The other supplemental benefit pension plan is limited to a very select group of employees and was closed as of December 31, 1994. It provides the full benefits that an employee would have otherwise received from a defined benefit plan in the absence of the limitation on benefits payable under a qualified plan. This plan is unfunded. Liability for this closed plan was $4 million at both December 31, 2010 and December 31, 2009. Pension cost for both supplemental defined benefit plans is determined in the same manner as for the qualified defined benefit plans.
Plan assets in the funded plans consist primarily of investments in marketable fixed maturities and equity securities and are valued at fair value. Torchmark measures the fair value of its financial assets, including the assets in its benefit plans, in accordance with accounting guidance which establishes a hierarchy for asset values and provides a methodology for the measurement of value. Please refer to Note 4-Investments under the caption Fair Value Measurements for a complete discussion of valuation procedures. The following table presents the assets of Torchmark’s defined benefit pension plans for the years ended December 31, 2010 and 2009.
The following table discloses the assumptions used to determine Torchmark’s pension liabilities and costs for the appropriate periods. The discount and compensation increase rates are used to determine current year projected benefit obligations and subsequent year pension expense. The long-term rate of return is used to determine current year expense. Differences between assumptions and actual experience are included in actuarial gain or loss.
The portion of other comprehensive income that is expected to be reflected in pension expense in 2011 is as follows:
Torchmark has estimated its expected pension benefits to be paid over the next ten years as of December 31, 2010. These estimates use the same assumptions that measure the benefit obligation at December 31, 2010, taking estimated future employee service into account. Those estimated benefits are as follows:
Postretirement Benefit Plans Other Than Pensions: Torchmark provides a small postretirement life insurance benefit for most retired employees, and also provides additional postretirement life insurance benefits for certain key employees. The majority of the life insurance benefits are accrued over the working lives of active employees. Otherwise, Torchmark does not provide postretirement benefits other than pensions and the life insurance benefits described above.
The amount of debt that becomes due during each of the next five years is: 2011-$199 million; 2012-$0; 2013-$94 million; 2014-$0; 2015-$0 and thereafter-$832 million.
Funded debt: During 2006, Torchmark established Torchmark Capital Trust III (Trust III) to facilitate the public offering of 4.8 million shares of $25 par value Trust Preferred Securities. Trust III completed the offering on June 8, 2006 for total proceeds of $120 million. It then exchanged $3.7 million of its common stock and the $120 million of proceeds from the offering for $123.7 million of Torchmark Junior Subordinated Debentures, due June 1, 2046. Trust III pays quarterly dividends on the Trust Preferred Securities at an annual rate of 7.1%, and receives quarterly payments at the same annual rate from Torchmark on the Junior Subordinated Debentures. All payments due to be paid by Trust III on the Trust Preferred Securities are guaranteed by Torchmark (see Note 15). The securities are redeemable on June 1, 2046, and first callable by Trust III on June 1, 2011.
Retirement of Treasury Stock: Torchmark retired 4 million shares of treasury stock in December, 2010, 2 million in 2009, and 9 million in 2008.
An analysis of option activity for each of the three years ended December 31, 2010 is as follows:
A summary of restricted stock and restricted stock units granted during each of the years in the three year period ended December 31, 2010 is presented in the table below. Restricted stock holders are entitled to dividends on the stock and holders of restricted stock units are entitled to dividend equivalents. Executive grants vest over five years and director grants vest over six months.
Restricted stock units outstanding at each of the year ends 2010, 2009, and 2008 were 19,915; 9,618; and 3,062, respectively. Restricted stock units are only available to directors, and are not converted to shares until the director’s retirement, death, or disability. There were no unvested director restricted shares outstanding at the end of any of the years 2008 through 2010. Director restricted stock and restricted stock units are generally granted on the first working day of the year and vest in six months. Dividend equivalents are earned on restricted stock units only. They are granted in the form of additional restricted stock units and vest immediately upon grant.
Additional information about Torchmark’s stock-based compensation as of December 31, 2010 and 2009 is as follows:
The following table summarizes information about stock options outstanding at December 31, 2010.
Assets for each segment are reported based on a specific identification basis. The insurance segments’ assets contain deferred acquisition costs (including the value of insurance purchased). The investment segment includes the investment portfolio, cash, and accrued investment income. Goodwill is assigned to the insurance segments at the time of purchase based on the excess of cost over the fair value of assets acquired for the benefit of that segment. All other assets, representing less than 4% of total assets, are included in the other category. The table below reconciles segment assets to total assets as reported in the consolidated financial statements.
Reinsurance: Insurance affiliates of Torchmark reinsure that portion of insurance risk which is in excess of their retention limits. Retention limits for ordinary life insurance range up to $2.0 million per life. Life insurance ceded represented .5% of total life insurance in force at December 31, 2010. Insurance ceded on life and accident and health products represented .3% of premium income for 2010. Torchmark would be liable for the reinsured risks ceded to other companies to the extent that such reinsuring companies are unable to meet their obligations.
As of December 31, 2010, securities of state and municipal governments represented 11% of invested assets at fair value. Such investments are made throughout the U.S. At year-end 2010, 5% or more of the state and municipal bond portfolio at fair value was invested in securities issued within the following states: Texas (34%), Washington (7%), Ohio (7%), Illinois (6%), and Alabama (5%). Otherwise, there was no significant concentration within any given state.
Corporate debt and equity investments are made in a wide range of industries. Below are the ten largest industry concentrations held in the corporate portfolio at December 31, 2010, based on fair value:
Trust Preferred Securities: Torchmark entered into a performance guarantee for the obligations of the Torchmark Capital Trust III when the trust preferred securities were issued by that trust. It guarantees payment of distributions and the redemption price of the securities until the securities are redeemed in full, or all obligations have been satisfied should Trust III default on an obligation. The total redemption price of the trust preferred securities is $120 million.
Letters of Credit: Torchmark has guaranteed letters of credit in connection with its credit facility with a group of banks. The letters of credit were issued by TMK Re, Ltd., a wholly-owned subsidiary, to secure TMK Re, Ltd.’s obligation for claims on certain policies reinsured by TMK Re, Ltd. that were sold by other Torchmark insurance companies. These letters of credit facilitate TMK Re, Ltd.’s ability to reinsure the business of Torchmark’s insurance carriers. The agreement expires in 2015. The maximum amount of letters of credit available is $250 million. Torchmark (parent company) would be liable to the extent that TMK Re, Ltd. does not pay the reinsured party. At December 31, 2010, $198 million of letters of credit were outstanding.
Equipment leases: Torchmark has guaranteed performance of a subsidiary as lessee under two leasing arrangements for aviation equipment. One of the leases commenced in 2003 for a lease term of approximately 10 years and the other was entered into in 2009 also for 10 years. Torchmark has certain renewal and early termination options under the first lease. At December 31, 2010, total remaining undiscounted payments under the leases were approximately $9.3 million. Torchmark (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.
Additionally, Torchmark has loaned Mr. Baxley’s wife $883 thousand secured by a mortgage on a building sold to her in 1997. Prior to 2006, interest was charged at a rate of 7.7%. This loan was originally due to be repaid in 2007 with a balloon payment, but in January, 2006, the outstanding balance of $734 thousand was refinanced and extended until January of 2023. The interest rate was revised to 5.5%. Scheduled cash payments are made to amortize the loan. At December 31, 2010 and 2009, the outstanding balance of this loan was $587 thousand and $620 thousand, respectively.