We lease our headquarters in Bellevue, Washington, which consists of 222,000 square feet in the Symetra Center building and 72,000 square feet in the adjacent Key Center building. Leases for both facilities expire in 2015 with multiple options to renew. Our headquarters in Bellevue serves as the primary location for operations of all of our divisions. In addition to our headquarters, we lease 18 other properties throughout the U.S. which comprise a total of 80,000 square feet.
We believe our properties are suitable and adequate for our business as presently conducted.
This discussion contains forward-looking statements that involve risk and uncertainties. Our actual results may differ materially from those discussed in or implied by any of the forward-looking statements as a result of various factors, including but not limited to those listed under “Forward-Looking Statements” and Item 1A - “Risk Factors.” You should read the following discussion in conjunction with the consolidated financial statements and accompanying notes included in Item 8 - “Financial Statements and Supplementary Data” included in this Form 10-K, as well as the discussion under Item 6 - “Selected Financial Data.”
Management considers certain non-GAAP financial measures, including adjusted operating income; adjusted operating income per common share; adjusted book value; adjusted book value, as converted; adjusted book value per common share; adjusted book value per common share, as converted; average adjusted book value; and operating return on average equity (ROAE) to be useful to investors in evaluating our financial performance and condition. These measures have been reconciled to their most comparable GAAP financial measures. For a definition of these non-GAAP measures, see “- Use of non-GAAP Financial Measures.”
All amounts, except share and per share data, are in millions unless otherwise stated.
We are a financial services company in the life insurance industry providing employee benefits, annuities and life insurance through a national network of benefits consultants, financial institutions and independent agents and advisers. Our operations date back to 1957 and many of our distribution relationships have been in place for decades. We are headquartered in Bellevue, Washington and employ approximately 1,100 people in 18 offices across the United States, serving approximately 1.6 customers.
Income Annuities. We offer SPIAs to customers seeking a reliable source of retirement income or to protect against outliving their assets during retirement, and structured settlement annuities to fund third party personal injury settlements. In addition, we offer funding services options to existing structured settlement clients.
Life. We offer a wide array of insurance products such as term and universal life insurance, including single premium life insurance and BOLI.
In addition, we also have our Other segment which consists of unallocated corporate income, composed primarily of investment income on unallocated surplus, unallocated corporate expenses, interest expense on debt, earnings related to our limited partnership interests, the results of small, non-insurance businesses that are managed outside of our divisions, and inter-segment elimination entries.
Interest rates continue to be extremely low. The United States Federal Reserve recently announced they have no plans to increase interest rates through 2014. Low interest rates and tight credit spreads continue to be a challenge for our interest-sensitive asset-based businesses, particularly sales of fixed annuities, SPIAs and universal life insurance policies. To mitigate the risk of unfavorable consequences in this environment, such as spread compression on our in force business, we remain proactive in our investment and product strategies, interest crediting strategies and overall asset-liability management practices. We feel that these strategies not only help us in the current low interest rate environment, but also could reduce the risk in rising interest rate scenarios where policyholders may increasingly lapse existing policies in favor of investing in new policies with higher credited rates.
To manage our way through this uncertain environment and grow profitably, we will continue to focus on the strategies outlined in Item 1 - “Business - Our Strategies.” In 2011, we made progress on our Grow & Diversify initiatives, including the following:
Launch our new variable annuity product and produce $250.0 in combined sales of our variable annuity and FIA product, and other products launched since 2011; and
The preparation of financial statements in conformity with U.S. GAAP requires management to adopt accounting policies and make estimates and assumptions that affect amounts reported and disclosed in the consolidated financial statements. The accounting policies discussed in this section are those that we consider to be particularly critical to an understanding of our consolidated financial statements because their application places the most significant demands on our ability to judge the effect of inherently uncertain matters on our financial results. In applying the Company’s accounting policies, management makes subjective and complex judgments that frequently require estimates about matters that are inherently uncertain. Many of these policies, estimates and related judgments are common in the insurance and financial services industries; others are specific to the Company’s businesses and operations. For all of these policies, we caution that future events rarely develop exactly as forecast, and our management’s best estimates may require adjustment.
For securities which are considered to have an OTTI, it is required that the losses be separated into the amount representing the decrease in cash flows expected to be collected (“credit loss”), which is recognized in earnings, and the amount related to all other factors (“noncredit loss”), which is recognized in other comprehensive income (loss), or OCI. For securities we intend to sell or for which it is more likely than not that we will be required to sell before recovery, the impairment charge is equal to the difference between the fair
As of December 31, 2011 and 2010, the fair value of our available-for-sale fixed maturity securities that were below cost or amortized cost by 20% or more was $260.0 and $163.0, respectively. Included in the gross unrealized losses are losses attributable to both movements in market interest rates as well as movements in credit spreads. Net income for the year ended December 31, 2011 would be reduced by approximately $107.3 on a pre-tax basis if all the securities in an unrealized loss position of more than 20% were deemed to be other than temporarily impaired and all of the unrealized loss was credit related.
We carry certain assets on our consolidated balance sheets at fair value. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (an “exit price”). U.S. GAAP establishes a fair value hierarchy that distinguishes between inputs based on market data from independent sources (“observable inputs”) and a reporting entity’s internal assumptions based upon the best information available when external market data is limited or unavailable (“unobservable inputs”). The fair value hierarchy prioritizes fair value measurements into three levels based on the nature of the inputs. The level in the fair value hierarchy within which the fair value measurement falls is determined based on the lowest level input that is significant to the fair value measurement. For further discussion of the levels of the fair value hierarchy, see Note 6 to the Consolidated Financial Statements.
We use our judgment in assigning our fixed maturities to a level within the fair value hierarchy by determining whether significant pricing inputs are observable and if the market for a given security is active. When we have significant observable market inputs, which is the case when the security is priced by our pricing services, it is classified as a Level 2 measurement. If our pricing services determine that they do not have sufficient objectively verifiable information about a security, they will not provide a valuation for that security, and the security’s fair value is determined internally. The internal pricing models typically utilize significant, unobservable market inputs or inputs that are difficult to corroborate with observable market data, and the resulting fair values are classified as Level 3 measurements. This is generally the case for private placement securities, which account for 92.6% of our Level 3 fixed maturities.
In our Benefits segment, the DAC amortization period for medical stop-loss policies is one year as these policies are one year policies and are renewed and repriced on an annual basis.
Life. The DAC amortization period related to universal life policies is typically 25 years. DAC amortization related to our term life insurance policies is the premium paying period, which ranges from 10 to 30 years.
Changes to assumptions can have a significant impact on DAC and DSI amortization. In the event actual experience differs from our assumptions or our future assumptions are revised, we adjust our EGPs, which could result in a significant increase in amortization expense. EGPs are adjusted quarterly to reflect actual experience to date. For example, for our deferred annuity products, if renewal crediting rates are greater or lower than the renewal crediting rates we assumed in our DAC and DSI asset amortization models, we would record a change in amortization expense to reflect the change in our EGPs. For future assumptions we complete a study and refine our estimates of future gross profits annually during the third quarter. Upon completion of an assumption study, we revise our assumptions to reflect our current best estimate, thereby changing our estimate of projected EGPs used in the DAC and DSI asset amortization models. We also revise future assumptions as needed throughout the year if a significant transaction or trend is identified that would warrant a change in those assumptions. For the year ended December 31, 2011, we recorded net pre-tax adjustments totaling $(3.5) related to DAC and DSI unlocking.
The following would generally cause an increase in DAC and DSI amortization expense: increases to lapse and withdrawal rates in the current period, increases to expected renewal crediting rates, which may decrease interest margins, increases to expected future lapse and withdrawal rates, increases to future expected expense levels, increases to interest margins in the current period, decreases to expected future interest margins and significant investment prepayment activity and decreases to current or expected equity market returns.
In connection with our recoverability analyses, we perform sensitivity analyses on our most significant DAC and DSI asset balances, which currently relate to our deferred annuity, universal life, and BOLI products, to capture the effect that certain key assumptions have on DAC asset balances. The sensitivity tests are performed independently, without consideration for any correlation among the key assumptions. The following depicts the sensitivities for our deferred annuity, universal life and BOLI DAC asset balances: if we changed our future lapse and withdrawal rate assumptions by a factor of 10%, the effect on the DAC asset balance is approximately $6.4; if we changed our future expense assumptions by a factor of 10%, the effect on the DAC asset balance is $0.4.
We adjust the unamortized DAC and DSI balances for the accumulated effect of net unrealized gains or losses, which is recorded net of taxes in AOCI. This adjustment reflects the impact on estimated future gross profits as if the unrealized investment gains and losses had been realized as of the balance sheet date. Currently, our available-for-sale portfolio is in a net unrealized gain position, primarily due to the low interest rate environment, and the corresponding adjustment decreases our DAC and DSI balances and AOCI. In periods of rising interest rates, the fair value of our fixed maturities would generally decrease, and this may result in net unrealized investment losses. In such circumstances, the DAC and DSI adjustments would increase our DAC and DSI balances and increase AOCI. However, this adjustment is limited to cumulative capitalized acquisition costs plus interest, which would be $139.5, net of taxes of $75.1, in our Deferred Annuities segment and $11.6, net of taxes of $6.2, in our Life segment as of December 31, 2011. For DSI, this adjustment is limited to cumulative capitalized interest costs plus interest, which would be $51.5, net of taxes of $27.7.
During 2010, the FASB issued an ASU that limits deferrable acquisition costs to incremental costs directly related to the successful acquisition of an insurance contract. The standard does not change the methodology for amortizing DAC and does not impact the accounting for DSI. The adoption of this standard will result in more distribution, new business processing and underwriting costs being expensed as incurred and less amortization expense on a smaller DAC balance. Additionally, upon adoption, policy acquisition costs in our Benefits segment are no longer being deferred, as the application of the new standard to the short-duration contracts in this segment resulted in an immaterial net impact of deferral of acquisition costs.
We retrospectively adopted this standard on January 1, 2012. The impact of adoption is not reflected in our consolidated financial statements included herein. In future financial statements issued after adoption, beginning with first quarter 2012, we will restate our financial information for all periods presented. The following table summarizes the impact of adoption:
Premiums consist primarily of premiums from our medical stop-loss and individual term and whole life insurance products.
Policyholder benefits and claims consist of benefits paid and reserve activity on medical stop-loss and individual life and BOLI products.
Interest credited represents interest credited to policyholder reserves and contract holder general account balances, the impact of mortality and funding services activity within our Income Annuities segment, and the amortization of deferred sales inducement assets.
We defer as assets certain commissions, distribution costs and other underwriting costs, that vary with, and are primarily related to, the production of new and renewal business. Amortization of previously capitalized DAC is recorded as an expense.
Many of the non-GAAP measures, including adjusted book value, adjusted book value per common share, adjusted book value per common share, as converted, and operating ROAE are included specifically for the purpose of excluding AOCI from the GAAP measure stockholders’ equity. We present each of these non-GAAP measures because we believe investors find useful financial measures that remove the temporary and unrealized changes in the fair values of our investments, and the related effects on AOCI. This allows investors to assess our financial condition based on our general practice of holding our fixed investments to maturity. For example, we believe it is important that an investor not assume that an increase in stockholders’ equity driven by unrealized gains means our company has grown in value and alternatively, it is important that an investor not assume that a decrease in stockholders’ equity driven by unrealized losses means our company’s value has decreased.
In presenting adjusted operating income, we are excluding after-tax net realized investment gains (losses). In presenting pre-tax adjusted operating income, we are excluding pre-tax net realized investment gains (losses). The timing and amount of these gains and losses are driven by investment decisions and external economic developments unrelated to our management of the insurance and underwriting aspects of our business. The one exception to the exclusion of realized investment gains and losses is the gains (losses) on our FIA options in our Deferred Annuities segment. Each year, we use the realized gains from our FIA options, similar to the way we use investment income, to meet our obligations associated with our FIA product, which credits interest to policyholder accounts based on equity market performance.
Return on stockholders’ equity, or ROE, is the most directly comparable GAAP measure. Return on stockholders’ equity for the most recent four quarters is calculated as net income for such period divided by the average stockholders’ equity for the most recent five quarters.
Set forth below is a summary of our consolidated financial results. The variances noted in the total company and segment tables should be interpreted as increases and (decreases), respectively.
(1) Basic and diluted net income per common share includes all participating securities, such as warrants and unvested restricted shares, based on the application of the two-class method. Diluted net income per common share also includes the dilutive impact of non-participating securities, such as stock options and shares estimated to be issued under the employee stock purchase plan, based on application of the treasury stock method. Antidilutive awards were excluded from the computation of diluted net income per share.
Our Deferred Annuities segment’s profitability increased $20.8 as our account values grew to $10.6 billion, resulting in a $35.8 increase in the investment margin (net investment income less interest credited). Also contributing to the increase was $9.2 of investment prepayment related income, net of DAC and DSI unlocking. The increase in fixed account values also drove an offsetting $13.4 increase in DAC amortization.
Net realized investment gains (losses) increased $69.1 to a $39.8 net gain from a $(29.3) net loss. This was primarily driven by a reduction in impairments, which were $20.9 for the year ended December 31, 2010, versus $86.5 for the same period in 2009, an improvement of $65.6. For further discussion of our investment results and portfolio refer to “- Investments” below.
The provision for income taxes increased $35.4 primarily due to higher income from operations before income taxes during the year ended December 31, 2010, compared to the same period in 2009. Our effective tax rate was 30.5% and 29.2%, for the years ended December 31, 2010 and 2009, respectively.
Our Benefits segment’s profitability increased $16.2 as our loss ratio improved to 64.9% for the year ended December 31, 2010 from 68.3% for the same period in 2009. This improvement was driven by medical stop-loss pricing increases initiated in late 2009, and improved limited benefit medical underwriting results on increased premiums.
The results of operations and selected operating metrics for our five segments (Benefits, Deferred Annuities, Income Annuities, Life and Other) for the years ended December 31, 2011, 2010 and 2009 are set forth in the following respective sections.
The following table sets forth the results of operations relating to our Benefits segment:
The following table sets forth selected historical operating metrics relating to our Benefits segment as of, or for the years ended:
(2) Expense ratio is equal to other underwriting and operating expenses of our insurance operations and amortization of DAC divided by premiums earned.
Segment pre-tax adjusted operating income increased $7.6, primarily the result of an improved loss ratio and the AUL transaction. For the year ended December 31, 2011, the loss ratio improved to 63.1%, compared to 64.9% for the same period in 2010, which was driven by a focus on pricing discipline during our 2010 and 2011 policy year renewals.
Premiums increased $67.9 driven by the AUL transaction and a $9.2 increase in limited benefit medical premiums, a result of higher sales. Policy fees, contract charges, and other increased $2.4 primarily due to growth in our MGU business.
Policy fees, contract charges, and other decreased $3.2 primarily due to a reduction in revenue from our third party administrator, which was sold in the third quarter of 2009. This reduction in revenue was fully offset by a corresponding reduction in operating expenses.
* Represents percentage variances that are not meaningful or are explained through the discussion of other variances.
(1) Interest spread is the difference between the net investment yield and the credited rate to policyholders. The net investment yield is the approximate yield on invested assets in the general account attributed to the segment. The credited rate is the approximate rate credited on policyholder fixed account values. Interest credited is subject to contractual terms, including minimum guarantees.
Segment pre-tax adjusted operating income increased $20.8 primarily driven by higher fixed annuities account values, which increased $1.4 billion to $10.6 billion. Also contributing to the increase in income was $9.2 of investment prepayment related income, net of unlocking, the majority of which was received in the fourth
quarter of 2011. As a result of the low interest rate environment, fixed maturity yields decreased; however, base interest spreads were slightly higher year-over-year, reflecting disciplined pricing on new business and management of renewal crediting rates on existing business.
Net investment income increased $74.9, which was driven by a $1.5 billion increase in average invested assets from increased fixed annuities account values. Further growth of net investment income was limited in 2009 and, to a lesser extent, 2010 as sales during a tight credit market resulted in us carrying higher cash balances, which earn lower yields than we would during more normal economic periods. During 2010, we began investing in U.S. Treasury securities as a strategy to help reduce cash levels and increase yields.
Interest credited increased $36.7 primarily due to a $1.6 billion increase in fixed account values driven by strong sales of fixed deferred annuity products in 2008 through 2010.
Amortization of DAC increased $16.0, which was driven by a growing block of business and corresponding growth in our DAC asset.
(5) Mortality gains (losses) represents the difference between actual and expected reserves released on our life contingent annuities.
In addition to the driver discussed above, we consider the following information regarding operating revenues and benefits and expenses useful in understanding our results.
Segment pre-tax adjusted operating income decreased $9.2 primarily due to mortality losses of $2.6 for the year ended December 31, 2010 compared to mortality gains of $5.1 for the same period in 2009. In addition, we experienced a $3.9 decrease in the benefit from funding services activity. This was offset by improvement in the interest spread from increased originations of mortgage loans and a reduction in interested credited.
Net investment income increased slightly, the net effect of $5.8 of additional income from mortgage loans offset by a $5.5 reduction due to a smaller fixed maturities portfolio related to decreased reserves. The increase in income from mortgage loans was due to increased originations, which increased our average assets invested in mortgage loans in this segment by $74.9 to $386.4.
Interest credited increased $8.4 primarily driven by a $7.7 unfavorable fluctuation in our mortality experience as we experienced mortality losses of $2.6 in 2010 versus mortality gains of $5.1 in 2009. The gains from the first quarter of 2009 were the highest quarterly mortality gains we have experienced over the past five years. In addition, the $3.9 reduction in benefit from funding services activity was driven by a decrease in the number of cases factored due to strong competition in this market. Offsetting these increases was a $3.1 reduction in interest credited due to lower reserves.
The following table sets forth selected historical operating metrics relating to our Life segment as of, or for the years ended:
(1) Insurance in force represents dollar face amounts of policies without adjustment for reinsurance.
(3) Annualized mortality rate is defined as annualized individual claims divided by insurance in force.
policyholders for the year ended December 31, 2011 and 2010 were adjusted to exclude UL reserve adjustments. Without these adjustment, the 2011 and 2010 UL interest spreads would have been 1.04% and 2.50%, respectively.
(7) BOLI ROA is a measure of the gross margin on our BOLI book of business. This metric is calculated as the difference between our BOLI revenue earnings rate and our BOLI policy benefits rate. The revenue earnings rate is calculated as revenues divided by average invested assets. The policy benefits rate is calculated as total policy benefits divided by average account value. The policy benefits used in this metric do not include expenses.
(8) BOLI base ROA is BOLI ROA adjusted to exclude items that can vary significantly from period to period due to a number of factors and, therefore, may contribute to yields that are not indicative of the underlying trends. This is primarily the impact of asset prepayments, such as bond make whole premiums, the MBS prepayment speed adjustment, and reserve adjustments.
Net investment income increased $17.2 due to an increase in average invested assets, primarily related to higher BOLI account values which grew from strong persistency and sales in the fourth quarter of 2010, and $5.0 of investment prepayment related income received primarily in the fourth quarter of 2011, compared to $3.1 in 2010.
Excluding the effects of the bonus reserve decrease, interest credited and policyholder benefits and claims increased $15.7. This was primarily due to an increase in BOLI account value, which also contributed to an increase in DAC amortization. Reserve modifications reduced policyholder benefits and claims by $2.1 and increased interest credited $4.0, for a net impact of $1.9. In addition, other underwriting and operating expenses increased $6.5 due primarily to employee-related expenses.
Net investment income increased $6.1. Of this increase, $14.0 was due to an increase in average invested assets, which increased to $5.2 billion from $4.9 billion mainly due to growth in the BOLI account value. This was partially offset by a negative rate variance of $7.9 as yields declined.
Our Other segment reported pre-tax adjusted operating losses of $(11.4) and $(11.5) for the years ended December 31, 2010 and 2009, respectively. Contributing to the 2010 losses were other underwriting and operating expenses, which increased $8.4 due to $3.4 of transition expenses, primarily severance, related to the change in our CEO and other management positions in 2010. The remaining increase relates to higher broker-dealer commission expense on higher sales, which is offset by a $5.2 increase in policy fees, contract charges, and other. The $3.6 increase in net investment income was due to an increase in invested assets in the surplus portfolio, offset by a decrease in private equity and hedge fund income.
Return on invested assets is an important element of our financial results. The following table sets forth the income yield and net investment income, excluding realized investment gains (losses) for each major investment category:
(1) Yields are determined based on monthly averages calculated using beginning and end-of-period balances. Yields for fixed maturities and private equity funds are based on amortized cost. Yields for equity securities are based on cost. Yields for all other asset types are based on carrying values.
For the year ended December 31, 2010 net investment income increased 7.7% compared to 2009. This increase was also driven by higher invested assets on strong sales of our fixed deferred annuities in 2009 through 2010. Net investment income growth was limited by declining net investment yields, a result of the low interest rate environment.
For the years ended December 31, 2011 and 2010, the Company had average daily cash balances of $243.4 and $302.3, respectively. The decrease in the average daily cash balance is primarily driven by an improvement in our ability to acquire high quality, attractive yielding investments as credit markets improve.
For the year ended December 31, 2011, our portfolio produced net realized gains of $7.0, compared to gains of $39.8 for the same period in 2010. We experienced a $(41.7) marked-to-market decline in the performance of our equity investments, which generated losses of $(9.1) in 2011 compared to gains of $32.6 in 2010, which is discussed further in our “- Return on Equity Investments” section. Partially offsetting this decline was a $6.8 improvement in impairments.
We monitor our investments for indicators of possible credit-related impairments, with a focus on securities that represent a significant risk of impairment. This is primarily securities for which the fair value has declined below amortized cost by 20% or more for a period of six months or more, or for which we have concerns about the creditworthiness of the issuer based on qualitative information. When evaluating a security for possible impairment, we consider several factors, which are described in more detail in Note 4 to the accompanying Consolidated Financial Statements.
Impairments for the years ended December 31, 2011, 2010 and 2009 were $14.1, $20.9 and $86.5, respectively. The continued decline in impairments is primarily attributable to improved economic conditions in 2011 and 2010 compared to 2009, and reduced credit concerns as credit-related impairments decreased $9.8 from 2010 to 2011, and $42.5 from 2009 to 2010. For those issuers for which we recorded an impairment during 2011, we had remaining holdings with an amortized cost of $446.6 and a fair value of $445.9 as of December 31, 2011. We believe the amortized cost of these securities is recoverable based on market prices or our estimated recovery values for these securities.
Fixed maturities represented approximately 88% and 91% of invested assets as of December 31, 2011 and 2010, respectively. As of December 31, 2011, publicly traded and privately placed fixed maturities represented 95.9% and 4.1%, respectively, of our total fixed maturity portfolio at fair value. We invest in privately placed fixed maturities to enhance the overall value of the portfolio, increase diversification and obtain higher yields than can ordinarily be obtained with comparable public market securities.
Certain of our fixed maturities are supported by guarantees from monoline bond insurers. The credit ratings of our fixed maturities set forth in the table above reflect, where applicable, the guarantees provided by monoline bond insurers. As of December 31, 2011, fixed maturities with monoline guarantees had an amortized cost of $513.4 and a fair value of $543.4, with gross unrealized losses of $4.2. As of December 31, 2010, fixed maturities with monoline guarantees had an amortized cost of $555.1 and a fair value of $547.5, with gross unrealized losses of $19.3. The majority of these securities were municipal bonds. As of December 31, 2011, $508.3, or 93.5%, of the fair value of fixed maturities supported by guarantees from monoline bond insurers had investment grade credit ratings both when including and excluding the effect of the monoline insurance.
During the year ended December 31, 2011, we increased our investments in corporate securities with cash generated from sales, primarily of fixed deferred annuities. We have mainly purchased investment grade corporate securities, with a focus on obtaining appropriate yields and duration to match our policyholder liabilities while retaining quality.
subordinated, hybrid, and preferred securities. Hybrid securities represented approximately half of the financial sector gross unrealized losses in 2011. These securities’ prices reflect relatively wide financial sector credit spreads, combined with additional subordination and illiquidity risk premiums. Based on our analysis of each individual issuer’s financial condition, we expect to recover the entire amortized cost.
The following table summarizes our exposure to fixed maturities in European Union countries, separated into sovereign debt, financial industry and other corporate debt. The country designation is based on the issuer’s country of incorporation.
As of December 31, 2011 and 2010, approximately 24% and 27%, respectively, of the fair value of our fixed maturity portfolio was held in mortgaged-backed securities, and 23% and 24% of the remaining securities was due after ten years, which we consider to be longer duration assets. Fixed maturities in these categories primarily back long duration reserves in our Income Annuities segment, which can exceed a period of 30 years. As of December 31, 2011 and 2010, approximately 78% and 75%, respectively, of the gross unrealized losses on our investment portfolio related to these longer duration assets, which fluctuate more significantly with changes in interest rates and credit spreads.
The following table sets forth the total fair value, and amortized cost of our non-agency RMBS by credit quality and year of origination (vintage). There were two securities with a total amortized cost and fair value of $4.4 and $4.4, respectively, that were rated below investment grade by either Moody’s, S&P or Fitch, while at least one other agency rated them investment grade.
As of December 31, 2011, our Alt-A, prime and total non-agency RMBS had an estimated weighted-average credit enhancement of 13.1%, 8.2% and 9.4%, respectively. Credit enhancement refers to the weighted-average percentage of the outstanding capital structure that is subordinate in the priority of cash flows and absorbs losses first. We monitor delinquency rates associated with these securities, and as of December 31, 2011, we believe that our credit enhancements are sufficient to cover potential delinquencies.
As of December 31, 2011, our RMBS had gross unamortized premiums and discounts of $66.2 and $73.7, respectively. Changes in prepayment speeds, which are based on prepayment activity of the underlying mortgages, create volatility in our net investment income because they accelerate or decelerate our amortization of the unamortized premiums and discounts. The impact to net investment income is dependent both on whether the securities are at a discount or premium and whether the prepayment speeds increase or decrease.
The disruptions in the CMBS market spanning from 2009 through early 2010 were attributable to weakness in commercial real estate market fundamentals and previously reduced underwriting standards by some originators of commercial mortgage loans, particularly within the more recent vintage years (2006 through 2008). This reduced market liquidity and availability of capital, which led to the repricing of risk. During 2011, market conditions improved, and prices of our CMBS have largely recovered and are currently in a net unrealized gain position of $138.9, or 8.2% of amortized cost, as of December 31, 2011. On an amortized cost basis, 97.6% of our CMBS portfolio was rated AAA, 1.3% was rated AA or A, and 1.1% was rated B and below as of December 31, 2011. Our CMBS portfolio is highly concentrated in the most senior tranches, with 95.3% of our AAA-rated securities in the most senior tranche with significant credit enhancement.
The weighted-average credit enhancement of our CMBS was 29.2% as of December 31, 2011. Adjusted to remove defeased loans, which are loans whose cash flows have been replaced by U.S. Treasury securities, the weighted-average credit enhancement of our CMBS as of December 31, 2011 was 30.5%. We believe this additional credit enhancement provides us significant protection in a deep real estate downturn during which industry losses would be expected to increase substantially.
The following table provides additional information on our CMBS prepayment exposure by type and year of origination (vintage):
As of December 31, 2011 and 2010, 71.6% and 73.6%, respectively, of our mortgage loans were under $5.0 and our average loan balance was $2.4 and $2.2, respectively. As of December 31, 2011 and 2010, our largest loan balance was $12.4 and $13.0, respectively.
The LTV ratio compares the amount of the loan to the estimated fair value of the underlying property collateralizing the loan. In the year of funding, LTV ratios are calculated using independent appraisals performed by Member of the Appraisal Institute or MAI designated appraisers. Subsequent to the year of funding, LTV ratios are updated annually using internal valuations based on property income and estimated market capitalization rates. Property income estimates are typically updated during the third quarter of each year. Market capitalization rates are updated during the first quarter based on geographic region, property type and economic climate. LTV ratios greater than 100% indicate that the loan amount is greater than the collateral value. A smaller LTV ratio generally indicates a higher quality loan.
During 2011, we originated $956.9 in mortgage loans. At the same time, we also maintained our disciplined approach to mortgage loan origination. As of December 31, 2011 and 2010, the mortgage loan portfolio had weighted-average LTV ratios of 57.1% and 57.0%, respectively. The weighted average LTV ratio was 57.1% and 55.2% for loans funded during the year ended December 31, 2011 and 2010, respectively. For loans originated in the year ended December 31, 2011, 23.2% had an LTV ratio of 50% or less, and no loans had an LTV ratio of more than 75%. For loans originated in the year ended December 31, 2010, 31.7% had an LTV ratio of 50% or less, and no loans had an LTV ratio of more than 75%.
We invest in limited partnership interests related to tax credit investments, which are typically 15-year investments that provide tax credits in the first ten years. We increased our holdings in these tax credit investments during 2011, and continue to look for further tax credit investment opportunities. For more information about our tax credit investments, see Note 2 to our consolidated financial statements.
The tax credits from our investments in limited partnerships occur in the first 10 years, with the largest portions provided in the middle years. A significant amount of our investments are entering these middle years and we expect the future impact to net income to grow significantly from 2011 levels.
As of December 31, 2011, our primary life insurance company, Symetra Life Insurance Company, had a risk-based capital ratio of 457%. This capital level provides more than adequate capital levels for growth of our business.
In managing the liquidity of our insurance operations, we also consider the risk of policyholder and contract holder withdrawals of funds earlier than assumed when selecting assets to support these contractual obligations. We use surrender charges and other contract provisions to mitigate the extent, timing and profitability impact of withdrawals of funds by customers from annuity contracts and deposit liabilities. The following table sets forth withdrawal characteristics of our general account policyholder liabilities, composed of annuity reserves, deposit liabilities and policy and contract claim liabilities, net of reinsurance recoverables:
(6) Represents BOLI, traditional insurance, and Group health and life reported claim liabilities.
(7) Represents the sum of funds held under deposit contracts, future policy benefits and policy and contract claims on the consolidated balance sheets, excluding other policyholder related liabilities and reinsurance recoverables of $232.9 and $234.3 as of December 31, 2011 and 2010, respectively.
We define liquid assets to include cash, cash equivalents, short-term investments, publicly traded fixed maturities and public equity securities. As of December 31, 2011 and 2010, our insurance subsidiaries had liquid assets of $22.5 billion and $20.8 billion, respectively, and Symetra had liquid assets of $114.6 and $89.7, respectively. The portion of total company liquid assets comprised of cash and cash equivalents and short-term investments was $245.1 and $277.1 as of December 31, 2011 and 2010, respectively. The increase in our insurance subsidiaries’ liquid assets was primarily the result of sales of deferred annuities during 2011.
On October 10, 2007, we issued $150.0 aggregate principal amount CENts with a scheduled maturity date of October 15, 2037 and, subject to certain limitations, with a final maturity date of October 15, 2067. We issued the CENts at a discount yielding $149.8. For the initial ten-year period following the original issuance date, to but not including October 15, 2017, the CENts carry a fixed interest rate of 8.300% payable semi-annually. From October 15, 2017 until the final maturity date of October 15, 2067, interest on the CENts will accrue at a variable annual rate equal to the three-month LIBOR plus 4.177%, payable quarterly. We applied the net proceeds from the issuance to pay a special cash dividend to stockholders on October 19, 2007.
On December 14, 2011, we entered into a $300.0 senior unsecured revolving credit agreement with a syndicate of lending institutions led by JPMorgan Chase Bank, N.A. The credit facility also provides access up to an additional $100.0 of financing, subject to the availability of additional commitments. The credit facility matures on December 14, 2015, and loans under this facility bear interest at a variable annual rate based on adjusted LIBOR or the alternate base rate (“ABR”) plus an applicable margin. This facility requires us to maintain specified financial ratios, and includes other customary restrictive and affirmative covenants. This revolving credit facility is available to provide support for working capital, capital expenditures and other general corporate purposes.
We declared and paid a quarterly dividend of $0.05 per common share during the first quarter of 2011 and $0.06 per common share during the second, third and fourth quarters of 2011, for a total payout of $31.6. On February 28, 2012, we declared a quarterly dividend of $0.07 per common share to shareholders and warrant holders as of March 13, 2012, for an approximate total of $9.6 to be paid on or about March 30, 2012.
Cash flows from our operating activities are primarily driven by the amounts and timing of cash received for premiums on our medical stop-loss, group life and term life insurance products, income on our investments, including dividends and interest, as well as the amounts and timing of cash disbursed for our payment of policyholder benefits and claims, underwriting and operating expenses and income taxes. The following discussion highlights key drivers in the level of cash flows generated from our operating activities:
Years Ended December 31, 2011 and 2010. Net cash provided by operating activities for 2011 was $987.5, a $61.8 increase over 2010. This was primarily the result of increased net investment income driven by an increase in average assets. In addition, the increase in premiums from our medical stop-loss and limited benefits medical products outpaced the increase in claims.
Cash flows from our investing activities are primarily driven by the amounts and timing of cash received from sales of investments and from maturities and calls of fixed maturity securities, as well as the amounts and timing of cash disbursed for purchases of investments and funding of mortgage loan originations. The following discussion highlights key drivers in the level of cash flows used in our investing activities:
(1) Includes estimated claim and benefit, policy surrender, reinsurance premiums and commission obligations on in force insurance policies and deposit contracts. Estimated claim and benefit obligations are based on mortality, morbidity and lapse assumptions comparable with our historical experience. In contrast to this table, our obligations recorded in our consolidated balance sheets do not incorporate future credited interest for deposit contracts or tabular interest for insurance policies. Therefore, the estimated obligations for insurance liabilities presented in this table significantly exceed the liabilities recorded in reserves for future annuity and contract benefits and the liability for policy and contract claims. Due to the significance of the assumptions used, the amounts presented could materially differ from actual results. We have not included the variable separate account obligations as these obligations are legally insulated from general account obligations and will be fully funded by cash flows from separate account assets.
(2) We have investments in limited partnership interests related to tax credit investments and private equity partnerships. We will provide capital contributions to our private equity partnerships through 2016 with a remaining committed amount of $14.2 at the discretion of the general partner, subject to certain contribution limits. Since the timing of payment is uncertain, the unfunded amount has been included in the payment due in less than one year. For more information, see Note 14 to the Consolidated Financial Statements. Amounts recorded on the balance sheets are included in “other liabilities.”
(3) Includes contractual commitments for a service agreement to outsource the majority of our information technology infrastructure. For more information, see Note 14 to the Consolidated Financial Statements.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Symetra Financial Corporation’s internal control over financial reporting as of December 31, 2011, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 29, 2012 expressed an unqualified opinion thereon.
On January 27, 2010, the Company completed the initial public offering (IPO) of its common stock. The IPO included 25.260 newly issued shares of common stock sold by the Company and 9.700 existing shares of common stock sold by selling stockholders. The Company received net proceeds from the offering of approximately $282.5. The Company did not receive any proceeds from the sale of shares by the selling stockholders.
The Company has 750.000 authorized shares of common stock, $0.01 par value per share, and 10.000 authorized shares of preferred stock, $0.01 par value per share. The Company’s Board of Directors has the authority to designate the preferred stock into series and to designate the voting powers, preferences and other rights of the shares of each series without further stockholder approval. The Company also has warrants outstanding as of December 31, 2011, which are recorded in stockholders’ equity. The warrants are exercisable at any time until August 2, 2014, to acquire 18.976 shares of common stock at an exercise price of $11.49 per share and can be net-share settled at the option of the warrant holder.
The consolidated financial statements include the accounts of Symetra. All significant intercompany transactions and balances have been eliminated. Certain reclassifications have been made to prior year financial information for it to conform to the current period presentation.
Deposits related to universal life insurance, including BOLI and single-premium life, and investment-type products are credited to policyholder account balances and reflected as liabilities, rather than as premium income, when received. Revenues from these contracts consist of net investment income on the policyholders’ fund balances, and amounts assessed during the period for cost of insurance, policy administration, and surrender charges. The Company includes such amounts in policy fees, contract charges, and other in the consolidated statements of income. Expenses that are charged to operations for these products include interest credited and benefit claims incurred in excess of related policyholder account balances.
Fees for variable annuity and variable life products include mortality and expense charges, policy administration charges and surrender charges. These fees are charged to policyholders’ accounts based upon the daily net assets of the policyholders’ account values, and are recognized in policy fees, contract charges, and other on the consolidated statements of income when charged.
The Company reports net unrealized investment gains (losses) related to its available-for-sale securities in accumulated other comprehensive income (loss) (AOCI) in stockholders’ equity, net of related DAC, DSI and deferred income taxes. The cost of securities sold is determined using the specific-identification method.
The Company reports interest and dividends earned, including prepayment fees or interest-related make whole payments in net investment income. Interest income for fixed maturities is recognized using the effective yield method. When the collectability of interest income for fixed maturities is considered doubtful, any accrued but uncollectible interest is deducted from investment income in the current period. The Company then places the securities on nonaccrual status, and they are not restored to accrual status until all delinquent interest and principal are paid. For mortgage-backed securities, the Company recognizes income using a constant effective yield based on anticipated prepayments and the estimated economic life of the securities. Quarterly, the Company compares actual prepayments to anticipated prepayments and recalculates the effective yield to reflect actual payments plus anticipated future payments. The Company includes any resulting adjustment in net investment income in the current period.
An impairment is recorded on an available-for-sale security when a decline in fair value below a security’s amortized cost is judged to be other-than-temporary. The Company’s review of investment securities includes both quantitative and qualitative criteria. Quantitative criteria include the length of time and amount that each security is in an unrealized loss position and, for fixed maturities, whether the issuer is in compliance with the terms and covenants of the security. See Note 4 for additional discussion about the Company’s process for identifying and recording OTTI.
The Company invests in limited partnerships that operate affordable housing projects, state tax credit funds and other types of assets that provide tax benefits (collectively, “tax credit investments”). These investments are accounted for under the equity method and recorded at amortized cost, with amortization recorded in net investment income. The present value of any unfunded commitments related to these investments is recorded in other liabilities.
Investments in limited partnerships also include investments in private equity funds recorded at fair value. The impact of changes in the fair value of private equity funds is recorded in net investment income.
The limited partnerships that the Company invests in meet the definition of a VIE. Because the Company, as a limited partner, lacks the ability to direct the activities of any of these partnerships, it is not considered the “primary beneficiary” and therefore has not consolidated them. The maximum exposure to loss in these VIEs was $250.1 and $208.0 as of December 31, 2011 and 2010, respectively. The maximum exposure to loss includes commitments to provide future capital contributions as described in Note 14.
The Company’s recognition of changes in fair value of a derivative depends on the intended use of the derivative and the extent to which it is effective as part of a hedging transaction. Derivative financial instruments currently held consist primarily of S&P 500 index options, interest rate swaps and foreign currency forwards, and
The Company amortizes acquisition costs for traditional individual life insurance policies over the premium paying period of the related policies, using assumptions consistent with those used in computing policy benefit liabilities. The Company amortizes acquisition costs for immediate annuities using a constant yield approach. Acquisition costs for medical stop-loss policies are amortized over the policy period of one year.
Intangible assets are reported net of accumulated amortization as other assets on the consolidated balance sheets. Intangible assets are reviewed at least annually for indicators of impairment and are tested for impairment when events or circumstances indicate the carrying amount may not be recoverable. Goodwill is not amortized but is tested for impairment at least annually. No impairment was recorded for goodwill or intangible assets for the years ended December 31, 2011, 2010 or 2009.
For variable annuity contracts with GMDB, the Company contractually guarantees total deposits, less any partial withdrawals, in the event of death. The Company reinsures nearly all of the GMDB risk on its individual variable annuity contracts.
The Company computes liabilities for future policy benefits under traditional individual life and group life and long-term disability insurance policies on the level premium method, which uses a level premium assumption to fund reserves. The Company selects the level premiums so that the actuarial present value of future benefits equals the actuarial present value of future premiums. The Company sets the interest, mortality, and persistency assumptions in the year of issue and includes a provision for adverse deviation. The provision for adverse deviation is intended to provide coverage for the risk that actual experience may be worse than locked-in best-estimate assumptions. These liabilities are contingent upon the death of the insured while the policy is in force. The Company derives mortality assumptions from both company-specific and industry statistics. The Company discounts future benefits at interest rates that vary by year of policy issue. These rates are initially set to be consistent with portfolio rates at the time of issue, and are graded to a lower rate, such as the statutory valuation interest rate, over time. Assumptions are set at the time each product is introduced and are not updated for actual experience unless the total product liability amount is determined to be inadequate to cover future policy benefits.
In April 2010, the FASB issued ASU 2010-15, Financial Services - Insurance (Topic 944) - How Investments Held through Separate Accounts Affect an Insurer’s Consolidation Analysis of Those Investments. This ASU clarifies that an insurer should only consider its ownership interests held within its general account when determining if it holds a controlling interest, thus excluding interests held in a separate account from the analysis. The Company adopted this standard on January 1, 2011, which did not change the Company’s existing practice.
In April 2011, the FASB issued ASU 2011-02, Receivables (Topic 310) - A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring. This ASU clarifies the criteria for whether a troubled debt restructuring has occurred when a creditor modifies a financing receivable for a borrower. The Company elected to early adopt this standard, effective April 1, 2011, with retrospective application to January 1, 2011. Upon adoption of ASU 2011-02, the additional disclosures required by ASU 2010-20, Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses were also adopted by the Company. The adoption of this standard did not have a material impact on the financial statements as there were an immaterial amount of troubled debt restructurings in 2011.
In October 2010, the FASB issued ASU 2010-26, Financial Services - Insurance (Topic 944) - Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts. This ASU limits the amount of deferrable acquisition costs to those incremental costs directly related to the successful acquisition of an insurance contract and clarifies which costs are included in that definition. The Company’s adoption of this standard will result in more distribution and new business processing and underwriting costs being expensed as incurred.
The Company retrospectively adopted this standard on January 1, 2012. The Company believes retrospective adoption provides users the most useful financial information, because it is comparable between financial periods. In future financial statements issued after adoption beginning with first quarter 2012, the Company will restate its financial information for all periods presented. Upon adoption, the Company reduced its DAC asset, including the impact from the accumulated effect from net unrealized investment gains, by $29.4 and recorded a total cumulative effect of adoption of $19.1, net of taxes of $10.3, as a decrease to total stockholders’ equity as of December 31, 2011. As a result of adoption, net income for the year ended December 31, 2011 decreased by approximately 2% and the Company expects a comparable decrease to its 2012 net income. The impact described above is not reflected in the consolidated financial statements included herein and will be reflected in the 2012 consolidated financial statements.
ASU 2011-05, Presentation of Comprehensive Income and ASU 2011-12, Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income
In June 2011, the FASB issued ASU 2011-05, Comprehensive Income (Topic 220) - Presentation of Comprehensive Income. This ASU eliminates the current option to report other comprehensive income (OCI) and its components in the statement of shareholders’ equity, and instead requires the components of net income and OCI to be presented either in one continuous statement, referred to as the statement of comprehensive income, or in two separate but consecutive statements. While the new standard changes the presentation of comprehensive income, there are no changes to the components that are recognized in net income or OCI under current accounting standards.
In December 2011, the FASB issued ASU 2011-12, Comprehensive Income (Topic 220) - Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05. This ASU indefinitely defers the requirement to present reclassification adjustments out of AOCI by component in both the statement in which net income is presented and the statement in which OCI is presented.
The Company adopted the standard, except for the deferred provisions, on January 1, 2012. As the ASU only amend the presentation of the components of comprehensive income, the adoption will not have an impact on the amounts reported in the Company’s financial statements.
The Company’s outstanding warrants, exercisable for 18.976 common shares, are considered participating securities, which are potential common stock securities that are included in weighted-average common shares outstanding for purposes of computing basic and diluted earnings per share using the two-class method. The warrants are considered participating securities because the terms of the agreements entitle the holders to receive any dividends declared on the common stock concurrently with the holders of outstanding shares of common stock, on a one-to-one basis.
The Company has issued equity instruments to employees that are included in the computation of earnings per share, weighted for the portion of the period the shares were outstanding. These instruments include restricted stock, stock options and shares issued under the employee stock purchase plan. Refer to Note 9 for discussion of these plans. The restricted shares are considered participating securities because the holders are entitled to receive any dividends declared on the common stock concurrently with the holders of outstanding shares of common stock, on a one-to-one basis. Participating restricted stock is included in basic and diluted earnings per share based on the application of the two-class method. Estimated shares to be issued under the employee stock purchase plan were included in diluted earnings per share based on the application of the treasury stock method.
The following tables summarize the Company’s available-for-sale fixed maturities and marketable equity securities. The OTTI in AOCI represent the amount of cumulative non-credit OTTI losses recorded in AOCI for securities that also had a credit-related impairment.
The following table summarizes the contractual years to maturity as of December 31, 2011. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without penalties.
(2) This includes net gains (losses) on changes in fair value of trading securities held as of period end, totaling $(7.5), $34.5 and $28.3 for the years ended December 31, 2011, 2010 and 2009, respectively.
While all securities are monitored for impairment, the Company’s experience indicates that securities for which the cost or amortized cost exceeds fair value by less than 20% do not represent a significant risk of impairment and, often, fair values recover over time as the factors that caused the declines improve. If the estimated fair value has declined and remained below cost or amortized cost by 20% or more for at least six months, the Company further analyzes the decrease in fair value to determine whether it is an other-than-temporary decline. To make this determination for each security, the Company considers, among other factors:
To determine the recovery value, credit loss for a structured security, including residential mortgage-, commercial mortgage- and other asset-backed securities, the Company performs an analysis related to the underlying issuer including, but not limited to, the following:
Changes in the amount of credit-related OTTI recognized in net income where the portion related to other factors was recognized in other comprehensive income were as follows:
(1) Represents circumstances where the Company determined in the current period that it intends to sell the security prior to recovery of its amortized cost.
Medium Risk Loans - Loans that have an LTV ratio of less than 65% but a DSCR below 1.50, or loans with an LTV ratio between 65% and 80%, and a DSCR of greater than 1.50.
(1) As of December 31, 2011 a reserve of $0.3 was established for loans specifically evaluated for impairment.
Specific reserves are established for impaired loans, for which the Company considers it probable that amounts due according to the terms of the loan agreement will not be collected, and for loans with terms modified in a troubled debt restructuring.
Non-performing loans, defined as those more than 90 days past due, are placed on non-accrual status. As of December 31, 2011 and December 31, 2010, no loans were considered non-performing. As of December 31, 2009 one loan, with an unpaid principal balance of $3.9, was considered non-performing.
Level 1 - Unadjusted quoted prices in active markets for identical instruments. This level primarily consists of exchange-traded marketable equity securities and actively traded mutual fund investments.
Level 2 - Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-derived valuations whose inputs are observable or whose significant value drivers are observable. This level includes those financial instruments that are valued using industry-standard pricing methodologies or models. All significant inputs are observable or derived from observable information in the marketplace. Financial instruments in this category primarily include certain corporate fixed maturities, government or agency securities and certain mortgage-backed securities.
The vast majority of the Company’s fixed maturities have been classified as Level 2 measurements. To make this assessment, the Company determines whether the market for a security is active and if significant pricing inputs are observable. The Company predominantly utilizes third party independent pricing services to assist management in determining the fair value of its fixed maturity securities. As of December 31, 2011 and 2010, respectively, pricing services provided prices for 95.9% and 95.6% of the Company’s fixed maturities.
The pricing services provide prices where observable inputs are available, utilizing evaluated pricing models that vary by asset class. If sufficient objectively verifiable information about a security’s valuation is not available, the pricing services will not provide a valuation for the security. In these situations, the security’s fair value is determined using internal pricing models. These models typically utilize significant, unobservable market inputs or inputs that are difficult to corroborate with observable market data, and the resulting value is considered a Level 3 measurement. This is generally the case for private placement securities and other securities the pricing services are unable to price.
As of December 31, 2011, 98.9% of corporate securities classified as Level 3 were privately placed securities. These securities were issued by entities primarily in the industrial sector, 26.7%, the consumer discretionary sector, 15.4%, and the financial sector, 14.7%.
The valuation of these privately placed Level 3 corporate securities requires significant judgment due to the absence of quoted market prices, the inherent lack of liquidity and the duration of such assets. The fair values of these securities were determined using a discounted cash flow approach. The discount rate was based on the current Treasury curve, adjusted for credit and liquidity factors. The credit factor adjustment, which is based on credit spreads to the Treasury curve for similar securities, varies for each security based on its quality and industry or sector. The illiquidity adjustment is estimated based on illiquidity spreads observed in transactions involving similar securities. As of December 31, 2011 and 2010 the range of illiquidity adjustments varied from 0 to 50 basis points.
As of December 31, 2011 and 2010, the fair value of the Company’s residential mortgage-backed securities (RMBS) classified as Level 2 measurements was $3,625.0 and $3,801.6, respectively. These securities were primarily fixed-rate, with a weighted-average coupon rate of 4.87% and 5.13% as of December 31, 2011 and 2010, respectively. Agency securities comprised 90.0% and 88.4% of the Company’s Level 2 RMBS as of December 31, 2011 and 2010, respectively.
As of December 31, 2011 and 2010, the Company’s non-agency Level 2 RMBS had a weighted-average credit enhancement of 9.4% and 9.8%, respectively. As of December 31, 2011 and 2010, $152.3 and $181.8, or 42.0% and 41.2%, respectively, of the Company’s non-agency Level 2 RMBS had an origination or vintage year of 2004 and prior.
As of December 31, 2011 and 2010, the fair value of the Company’s commercial mortgage-backed securities (CMBS) classified as Level 2 measurements was $1,821.1 and $1,868.2, respectively. These were primarily non-agency securities, which comprised 72.1% and 68.3% of Level 2 CMBS as of December 31, 2011 and 2010, respectively. The non-agency CMBS had an estimated weighted-average credit enhancement of 29.2% and 28.5% as of December 31, 2011 and 2010, respectively, and 94.9% and 94.3% were in the most senior tranche as of December 31, 2011 and 2010, respectively.
Marketable equity securities are investments in common stock, including real estate investment trusts (REITs), and certain nonredeemable preferred stocks, which primarily consist of investments in publicly traded companies and actively traded mutual fund investments. When the fair values of the Company’s marketable equity securities are primarily based on quoted market prices in active markets for identical assets they are classified as Level 1 measurements. The fair values of nonredeemable preferred stocks are valued by our independent pricing services that utilize evaluated pricing models and are classified as Level 2 measurements. These valuations are created based on benchmark curves using industry standard inputs plus exchange prices of underlying securities and common stock of the same issuer.
Investments in limited partnerships recorded at fair value are investments in private equity funds. The Company utilizes the fair value option for these investments, regardless of ownership percentage, to standardize the related accounting and reporting.
The following table presents additional information about assets measured at fair value on a recurring basis and for which significant unobservable inputs (Level 3) were utilized to determine fair value for the year ended December 31, 2011:
(3) Realized and unrealized gains and losses for investments in limited partnerships are included in net investment income.
Investments in limited partnerships associated with tax credit investments are carried at amortized cost. Fair value was estimated based on the discounted cash flows over the remaining life of the tax credits, using the original internal rate of return for each investment.
The following table provides a reconciliation of the beginning and ending balance for deferred sales inducements, which are included in other assets on the consolidated balance sheets:
(1) Net of taxes of $347.3, $305.6 and $599.5 for the years ended December 31, 2011, 2010 and 2009, respectively.
(5) Net of taxes of $2.8 for the year ended December 31, 2011.
(1) Represents shares repurchased and subsequently retired to satisfy employee income tax withholding pursuant to the Company’s Equity Plan.
Stock-based compensation expense for restricted shares, recognized in other underwriting and operating expenses on the consolidated statements of income, was $2.1, $2.0, and $0.2 for the years ended December 31, 2011, 2010 and 2009, respectively. The related income tax benefit for the years ended December 31, 2011, 2010 and 2009 was $0.7, $0.7 and $0.1, respectively.
The following table summarizes the Company’s restricted stock activity for the three years ended December 31, 2011:
As of December 31, 2011, unrecognized compensation cost for restricted stock was $3.6 and is expected to be recognized over the weighted average of 1.6 years.
The Company issued 2.950 options for the year ended December 31, 2010, with an exercise price of $28.00. These options vest on June 30, 2017 and expire one year thereafter. The weighted average fair value of awards granted during the year ended December 31, 2010 was $2.73 per share. No options were granted in 2011 or 2009.
As of both December 31, 2011 and 2010, 2.950 options were outstanding, none of which were exercisable. Stock-based compensation expense for stock options was $1.0 and $0.5 for the years ended December 31, 2011 and 2010, respectively, and the related tax benefit was $0.4 and $0.2.
The Company evaluates the financial condition of its reinsurers to minimize its exposure to losses from reinsurer insolvencies. The Company is not aware of any of its major reinsurers currently experiencing material financial difficulties. The Company analyzes reinsurance recoverables according to the credit ratings of its reinsurers. Of the total amount due from reinsurers as of both December 31, 2011 and 2010, 99.6% were with reinsurers rated A- or higher by A.M. Best. The Company had no reserve for uncollectible reinsurance in 2011 or 2010.
(1) The increase in the percentage of assumed to total premiums and other amounts assessed to policy holders is related to the reinsurance agreement executed with American United Life Insurance Company during 2011.
(2) Total policy fees and contract charges represents amounts charged to policyholders other than premiums and recorded in policy fees, contract charges, and other on the consolidated statements of income. This primarily consists of cost of insurance charges.
Borrowings under the agreement will bear interest at a variable annual rate based on adjusted LIBOR or the alternate base rate (“ABR”) plus, in each case, an applicable margin. The Company is required to pay facility fees ranging from 0.10% to 0.30%, depending on the Company’s rating with Moody’s or S&P, on the daily amount of the commitment. Under the terms of the agreement, the Company is required to maintain a debt-to-capitalization ratio, excluding AOCI, below 35%, and each of the Company’s material insurance subsidiaries must maintain a risk-based capital ratio of at least 225%, as well as other customary affirmative covenants.
As of December 31, 2011 and 2010, and during the years ended December 31, 2011, 2010 and 2009, the Company had no borrowings outstanding under its revolving credit facilities and was in compliance with all covenants.
Included in the 2011 deferred tax assets were gross federal net operating loss carry-forwards attributable to the non-life companies in the amount of $44.6, due to expire under current law during 2027 through 2031. The Company is required to establish a valuation allowance for any portion of the deferred tax assets that management believes will not be realized. Based on an analysis of the Company’s tax position, management believes that it is more likely than not that the results of future operations will generate sufficient taxable income to enable the Company to utilize all of its deferred tax assets. Accordingly, no valuation allowance for deferred tax assets has been established as of December 31, 2011 and 2010.
The Company invests in limited partnership interests related to tax credit investments. The Company unconditionally committed to provide capital contributions for these investments of $262.6, of which $65.7 was related to partnerships entered into during the year ended December 31, 2011. Capital contributions of $181.5 were paid as of December 31, 2011, with the remaining expected cash capital contributions as follows:
The Company has also committed to invest up to $52.5 in private equity funds, of which the Company has remaining commitments of $14.2 as of December 31, 2011. The remaining term of these commitments ends in 2016. The Company will provide capital contributions to the partnerships, up to the committed amount, at the discretion of the general partners, subject to certain incremental contribution limits.
Rent expense was $7.7, $7.1, and $7.9 for the years ended December 31, 2011, 2010 and 2009, respectively.
The Company sponsors a defined contribution 401(k) plan for all eligible employees that includes a matching contribution of 100% of a participant’s contributions up to 6% of eligible compensation. The expense for the matching contributions was $5.4, $4.8 and $4.5 for the years ended December 31, 2011, 2010 and 2009, respectively.
During 2011 and 2010, the Company granted 0.065 and 0.072 performance units, respectively, to various members of management under the Equity Plan. The value of each performance unit is determined at the discretion of the Company’s Board of Directors based on the success of the Company over a three-year period. These are accounted for as liability awards, as the Company intends or is required to settle such awards in cash. The Company recognized $2.5 and $1.5 in expense related to performance units granted under the Equity Plan for the years ended December 31, 2011 and 2010, respectively. The Company also granted restricted stock and stock options under the Equity Plan, as discussed in Note 9.
Life and health insurance companies are subject to certain risk-based capital requirements as specified by the NAIC. Under those requirements, the amount of capital and surplus maintained by a life and health insurance company is to be determined based on various risk factors related to it. At December 31, 2011 and 2010, Symetra Life Insurance Company and its subsidiaries exceeded the minimum risk-based capital requirements.
The Company offers a broad range of products and services that include retirement, group health and employee benefits products and life insurance. These operations are managed separately as three divisions, consisting of four business segments based on product groupings, and a fifth reportable segment consisting primarily of unallocated corporate items and surplus investment income. The five segments are: Benefits (formerly Group), Deferred Annuities, Income Annuities, Life and Other.
Benefits. Benefits offers medical stop-loss insurance, limited benefit medical plans, group life insurance, accidental death and dismemberment insurance and disability income insurance mainly to employer groups of 50 to 5,000 individuals. In addition to insurance products Benefits offers managing general underwriting, or MGU, services.
Income Annuities. Income Annuities offers single premium immediate annuities, or SPIAs, to customers seeking a reliable source of retirement income or to protect against outliving their assets during retirement, and structured settlement annuities to fund third party personal injury settlements. In addition, Income Annuities offers funding services options to existing structured settlement clients.
measure the risk in the business and to provide a basis upon which capital is deployed. This model accounts for the unique and specific nature of the risks inherent in the Company’s segments and a portion of net investment income on surplus investments are allocated to the segments based on the level of allocated capital.
(1) Quarterly earnings per share amounts may not add to the full year amounts due to share weighting and rounding.