The Company occupies over 3,000,000 square feet of space at four principal operating centers in Chattanooga, Tennessee; Portland, Maine; Worcester, Massachusetts; and Columbia, South Carolina. The Company occupies two connected buildings totaling 840,000 square feet in Chattanooga, Tennessee. The office building and substantially all of the surrounding 25 acres of land used for employee parking are owned by the Company in fee along with a 27-unit apartment building for corporate use. In addition, approximately 35,000 square feet of office space is leased and occupied in a nearby office building.
This discussion of consolidated operating results and operating results by segment excludes net realized investment gains and losses from revenue and income (loss) before taxes. The Company's investment focus has been on investment income to support its insurance liabilities as opposed to the generation of realized investment gains. Due to the nature of the Company's business, a long-term focus is necessary to maintain profitability over the life of the business. The realization of investment gains and losses will impact future earnings levels as the underlying business is long-term in nature and requires that the Company be able to sustain the assumed interest rates in its liabilities. However, income excluding realized investment gains and losses does not replace net income as a measure of the Company's profitability.
The trends in new annualized sales in the Employee Benefits, Individual, and Voluntary Benefits segments are indicators of the Company's potential for growth in its respective markets and the level of market acceptance of price changes and new products. The Company has closely linked its various incentive compensation programs to the achievement of its goals for new sales.
During 2000, the Company completed a series of strategic transactions designed to more closely focus its operations on its core businesses, increase its financial flexibility, support its present credit and claims-paying ratings, increase the risk-based capital ratios of the insurance subsidiaries involved, and lower its leverage ratios. The primary transaction involved agreements under which Reassure America Life Insurance Company (Reassure America), an affiliate of Swiss Re Life & Health America Inc. (Swiss Re), reinsured on a 100 percent indemnity coinsurance basis substantially all of the individual life insurance and corporate-owned life insurance policies written by the Company's insurance subsidiaries, as well as a small block of individually underwritten group life insurance. The reinsurance agreements were effective as of July 1, 2000.
During 2000, the Company entered into a reinsurance agreement with Manulife Reinsurance Limited and SCOR Reinsurance Company under which one of the Company's insurance subsidiaries will cede through a net quota share reinsurance agreement 50 percent of the group life volume above the aggregate retention limit. The treaties are five-year quota share treaties ceding 25 percent of premium, life volume, and paid claims to each reinsurer. The reinsurance agreements were effective as of October 1, 2000.
Also in 2000, the Company purchased a single premium annuity for its retirees. The pension plan transaction allowed the Company to provide a higher level of administrative service for its retirees while also locking in favorable pension plan performance. The proceeds from the transaction were partially offset by actions to further strengthen the Company's financial position, namely reserve adjustments of $65.6 million in the Company's long-term disability business and $21.9 million in the reinsurance operations, asset write-offs and loss provisions of $15.5 million in the reinsurance operations, and consolidation and benefit accruals of $9.4 million. See the discussions of segment operating results contained herein for further information.
The review resulted in an increase in the benefits and reserves for future benefits for the Company's domestic group long-term disability unpaid claim liabilities. As a result of the review, the Company increased its policy and contract benefit liabilities $359.2 million in the third quarter of 1999, which reduced 1999 results $359.2 million before tax and $233.5 million after tax.
In the following discussions of operating results by segment, "revenue" includes premium income, net investment income, and other income. "Income" or "loss" excludes net realized investment gains and losses and federal income taxes.
Sales related to employee benefits can fluctuate significantly due to large case size and timing of sales submissions. Several factors contributed to the decrease in 2000 sales compared to 1999 and 1998, including rate increases and turnover in the field sales force during the first half of 2000. The Company has a number of initiatives underway to help maintain the sales momentum achieved during the last half of 2000, including targeted incentive plans, organizational changes to create a greater focus on the customer, and enhanced communication with producers. In order to give the appropriate focus to the Company's primary business markets, the Company has established national practice groups to focus on large employers, executive benefits, and voluntary benefits. These national practice groups partner with the Company's sales force and representatives from claims, customer service, and underwriting to present coverage solutions to potential customers and to manage existing customer accounts. The
Company expects that these actions will continue to favorably impact sales growth, but management intends to maintain pricing discipline to balance sales growth and profitability, which may slow the rate of long-term sales growth.
The Company monitors persistency and reflects adverse changes in persistency in the current period's amortization of deferred policy acquisition costs. Actual persistency experienced during 2000 for group disability, group life, and accidental death and dismemberment products compared unfavorably to the persistency expected, resulting in additional amortization of $34.1 million during 2000. The adverse persistency during 2000 relates primarily to large case terminations and an aggressive 2000 renewal program that was heavily concentrated in the first half of the year. It is expected that persistency for the foreseeable future will continue to be lower than historical levels for group disability as well as group life. The Company's 2000 renewal program was generally successful at retaining business that is relatively more profitable than business that terminated. It is expected that the additional premium and related profits associated with this renewal activity will emerge throughout 2001. The Company intends to maintain a disciplined approach in the re-pricing of renewal business, while balancing the need to maximize persistency and retain producer relationships. This approach may lead to lower profit margins on affected cases than originally planned.
Group disability reported income of $211.0 million for 2000 compared to a loss of $225.7 million for 1999. Included in the income for 2000 was an increase of $65.6 million in group long-term disability claim reserves, which represents approximately 1.2 percent of total group long-term disability claim reserves. The increase, which resulted from lengthening the projected average claim duration for certain of the Company's group long-term disability claims, was not a result of deteriorating experience but was believed appropriate based on the Company's assessment of the ultimate settlement of these claims. The 1999 loss of $225.7 million was the result of the $191.7 million charge resulting from lowering the discount rate used to calculate certain of Unum's disability claim reserves to conform with Provident's process and assumptions and the $359.2 million charge resulting from the revision in the underlying assumptions used to estimate the ultimate cost of unpaid group long-term disability claims, as discussed in the preceding "Results of Operations."
Income in 2000 was positively impacted by a 5.7 percent revenue increase and an improvement in both the commission and operating expense ratios.
In the fourth quarter of 1998, the Company recorded a $50.3 million charge for the group long-term disability line of business in the Employee Benefits segment for the expected increase in claims durations due to management's expectation that productivity in the claims organization would be impacted as a result of planning, consolidation, and integration efforts related to the merger. Management expected the claims integration efforts to have some benefits, primarily related to claims incurred in future periods, as well as the potential for improved customer satisfaction and lower ultimate claim costs as best practices in return-to-work and claims management were implemented. As benefits related to the integration become known, reserve assumptions will be revised, if appropriate. Insurance policies that are impacted by the temporary change in claim resolution rates will not perform as anticipated when priced. Since the cause of the additional claim cost is of a temporary nature, it is not anticipated to have an effect on future policy pricing.
During 1999, the claim operations integration activities progressed as assumed. At December 31, 1998, management assumed the revised group disability claim resolution rates for the first, second, third, and fourth quarters of 1999 to be 90, 90, 81, and 86 percent of assumptions, respectively, before adjusting for the impact of the claim operations integration activities. The actual experience was 89 percent for the first quarter of 1999, 90 percent for the second quarter, 67 percent for the third quarter, and 81 percent for the fourth quarter. If the impact of merger-related claim operations integration activities on claim durations had not been anticipated at December 31, 1998, the 1999 loss for the group long-term disability line of business would have been negatively impacted by $50.3 million. However, the shortfall of the actual 1999 experience below that assumed resulted in a negative effect on 1999 results of $18.1 million. As discussed in Note 2 of the "Notes to Consolidated Financial Statements," claim resolution assumptions underlying existing claim reserves were revised in the third quarter of 1999, resulting in an increase in benefit liabilities of $194.8 million. In selecting the revised claim resolution assumptions, consideration was given to claims operations integration activities referenced here as well as other factors expected to impact the future effectiveness of the claims operations. See Notes 2 and 7 of the "Notes to Consolidated Financial Statements" for further discussion.
The Company, similar to all financial institutions, has some exposure if a severe and prolonged recession occurs, but management believes that the Company is well positioned if a weaker economy were to occur. Many of the Company's products can be repriced, which would allow the Company to reflect in its pricing any fundamental change which might occur in the risk associated with a particular industry or company within an industry. The Company has a well diversified book of insurance exposure, with no unusual concentrations of risk in any one industry. Because of improvements made in the claims organization in recent years, the Company believes it can respond to increased levels of submitted claims which might result from a slowing economy.
Group life, accidental death and dismemberment, and long-term care reported income of $214.0 million in 2000 compared to $239.5 million in 1999. New annualized sales on a submitted date basis decreased to $380.4 million in 2000 as compared to $395.3 million in 1999. On an effective date basis, new annualized sales were $301.5 million in 2000 compared to $427.7 million for 1999.
New annualized sales on a submitted date basis increased to $395.3 million in 1999 compared to $363.2 million in 1998. On an effective date basis, sales were $427.7 million in 1999 and $340.2 million in 1998. Premium persistency for group life in 1999 was lower than historical levels, and subsequently the amortization of deferred policy acquisition costs for 1999 includes $1.0 million of additional amortization due to the higher than expected level of terminations.
New annualized sales in the individual disability line of business were $116.1 million in 2000 compared to $124.1 million in 1999 and $136.6 million in 1998. As discussed in the "Employee Benefits Segment Operating Results," several factors have contributed to the decrease in sales. However, persistency of existing individual disability income business remained high during 1999 and 2000. The Company has developed a new individual disability product portfolio which was released for sale in approved states early in the fourth quarter of 2000. This product line consolidates the current offerings of the Company's insurance subsidiaries into one new simplified product portfolio. The new portfolio utilizes a modular approach offering customers a range of product options and features. This portfolio was designed to combine the best features from prior Company offerings and includes return-to-work incentives and optional long-term care conversion benefits and/or benefits for catastrophic disabilities. Management expects that premium income in the individual disability line will grow on a year-over-year basis, contingent on further state approvals of the new product portfolio, as the portfolio transition produces increasing levels of new sales of individual disability products and as a result of an increased focus on integrated disability sales in group and individual, as well as other sales initiatives discussed under "Employee Benefits Segment Operating Results."
Income in the individual disability line of business was $285.3 million in 2000, an increase of $28.6 million from the prior year. As discussed in the preceding "Results of Operations," in the second quarter of 1999 the Company lowered the discount rate used to calculate certain of Unum's disability claim reserves to conform with Provident's process and assumptions, which decreased individual disability income by $38.9 million in 1999. Excluding this 1999 adjustment, individual disability income decreased $10.3 million in 2000 compared to 1999. This line reported an increase in the benefit ratio for 2000 compared to last year's ratio, excluding the 1999 discount rate change. Submitted incidence for 2000 is slightly higher than the average for the year 1999, while paid incidence has improved relative to the prior year. The claim acceptance rate has been declining throughout 1999 and 2000, and the net claim resolution rate for 2000 compares favorably with 1999. Offsetting these favorable trends was an increase in reserves for existing claims and claims in dispute. Individual disability benefited from improved commission and operating expense ratios for 2000 as compared to 1999. The amortization of value of business acquired increased in 2000 primarily as a result of the amortization on the block of inforce business reinsured effective January 1, 2000.
As noted in the "Employee Benefits Segment Operating Results," claim resolution rates were revised downward in the fourth quarter of 1998 for claim operations integration activities related to the merger. The Company recorded a $100.3 million charge in the fourth quarter of 1998 in the Individual segment related to the revised claim resolution rates for individual disability. At December 31, 1998, management assumed the revised individual disability claim resolution rates for the first, second, third, and fourth quarters of 1999 to be 90, 90, 85, and 90 percent of assumptions, before adjusting for the impact of the claim operations integration activities. The actual experience for the Company was 89 percent in the first quarter, 90 percent in the second quarter, 93 percent in the third quarter, and 95 percent in the fourth quarter of 1999. If the impact of merger-related claim operations integration activities on claim durations had not been anticipated at December 31, 1998, income for the individual disability line of business would have been negatively impacted by $100.3 million in 1999. In addition, the excess of the actual 1999 experience over that assumed resulted in a positive effect on income of $25.6 million. See Note 7 of the "Notes to Consolidated Financial Statements" for further discussion.
Income for 2000 was $12.8 million, compared to losses of $2.6 million in 1999 and $2.7 million in 1998. The increase in revenue, as well as improvements in both the benefit ratio and operating expense ratios, contributed to the year over year increases.
The Voluntary Benefits segment includes the results of products sold to employees through payroll deduction at the workplace. These products include life insurance and health products, primarily disability, accident and sickness, and cancer.
Revenue in the Voluntary Benefits segment increased to $859.3 million in 2000 from $804.5 million in 1999 and $770.4 million in 1998. Sales growth and continued favorable persistency were the primary factors contributing to the increase in premium income. New annualized sales in this segment were $265.0 million in 2000, $245.3 million in 1999, and $233.8 million in 1998. Management continues its efforts to increase sales through the sales initiatives discussed under "Employee Benefits Segment Operating Results." The investment income growth in 2000 as compared to 1999 was due to the repositioning of the investment portfolio subsequent to the merger.
As previously discussed, during 2000 the Company reinsured substantially all of the individual life and corporate-owned life insurance blocks of business. The Company ceded approximately $3.3 billion of reserves to the reinsurer. The $388.2 million before-tax and $252.3 million after-tax gain on these transactions was deferred and is being amortized into income based upon expected future premium income on the traditional insurance policies ceded and estimated future gross profits on the interest-sensitive insurance policies ceded. The Company recognized a 2000 before-tax realized investment loss of $25.9 million on the fixed maturity securities transferred to the reinsurer. In connection with this realized loss, the Company retrospectively adjusted deferred policy acquisition costs and value of business acquired related to interest-sensitive individual life policies with credits to current period amortization of $9.4 million and $1.5 million, respectively, to reflect investment experience. See "Investments" for further discussion of the realized investment loss.
The reinsurance pools and management reported a loss of $279.7 million in 1999 compared to income of $10.0 million in 1998. The 1999 loss was the result of charges related to the decision to exit the reinsurance operations, as discussed in the preceding paragraphs. These charges totaled $270.1 million in 1999, with an additional $57.7 million recorded in the Corporate segment related to the write-off of goodwill. See "Results of Operations" contained herein in Item 7 and Note 13 of the "Notes to Consolidated Financial Statements" in Item 8 for further discussion of the 1999 charges related to the reinsurance operations.
In the fourth quarter of 1998, the Company recorded a $2.4 million charge related to the revised claim resolution rates for group long-term disability reinsurance. If the impact of merger-related claim operations integration activities on claim duration had not been anticipated at December 31, 1998, 1999 income for the reinsurance pools and management line of business would have been negatively impacted by $2.4 million. See Note 7 of the "Notes to Consolidated Financial Statements" for further discussion.
In 1998, the Company closed the sale of Provident's in-force individual and tax-sheltered annuity business to affiliates of American General Corporation (American General). The sale was effected by reinsurance in the form of 100 percent coinsurance agreements. The in-force business sold consisted primarily of individual fixed annuities and tax-sheltered annuities. In addition, American General acquired a number of miscellaneous group pension lines of business sold in the 1970s and 1980s which were no longer actively marketed. The sale did not include Provident's block of guaranteed investment contracts or group single premium annuities, which will continue in a run-off mode. In consideration for the transfer of the approximately $2.4 billion of statutory reserves, American General paid the Company a ceding commission of approximately $58.0 million. The before-tax gain included in other income for 1998 was $12.2 million.
Effective January 1, 1998, the Company entered into an agreement with Connecticut General Life Insurance Company (Connecticut General) for Connecticut General to reinsure, on a 100 percent coinsurance basis, its in-force medical stop-loss insurance coverages sold to clients of CIGNA Healthcare and its affiliates (CIGNA). This reinsured block constitutes substantially all of the Company's medical stop-loss insurance business. The small portion remaining consists of medical stop-loss coverages sold to clients other than those of CIGNA. The medical stop-loss business produced revenue of $14.1 million in 1998.
As previously discussed, during 1999 the Company recognized $310.6 million of before-tax expenses related to the merger and the early retirement offer to employees. These expenses are as follows (in millions):
Subsequent to the June 30, 1999 merger and continuing through the first half of 2000, the Company actively pursued its strategy of extending the duration of its investments and shifting the mix of assets for approximately $2.1 billion of its investments in order to reduce vulnerability to interest rate risk in the future and increase investment income. Excluding net investment income attributable to the individual life and corporate-owned life insurance blocks of business ceded effective as of July 1, 2000, net investment income for 2000 increased 8.6 percent over 1999 due to increased yields and growth in the asset base.
During 2000, the Company reported net realized investment losses before tax of $14.6 million, including the realized investment loss of $25.9 million on the investment-grade fixed maturity securities transferred to the reinsurer in connection with the individual life and corporate-owned life reinsurance transactions. The loss on these transferred securities was driven by a change in market interest rates and was not attributable to any credit deterioration. Excluding the reinsurance transaction related loss, the Company reported 2000 net gains of $51.0 million from the sale of fixed maturity and equity securities. Offsetting these gains was a $94.0 million realized investment loss recognized as a result of management's determination that the value of certain fixed maturity investments had other than temporarily declined.
December 31 ------------------- 2000 1999 ---- ---- Investment-Grade Fixed Maturity Securities 78.3% 76.1% Below-Investment-Grade Fixed Maturity Securities 6.6 8.1 Equity Securities 0.1 0.2 Mortgage Loans 4.3 4.8 Real Estate 0.4 0.8 Policy Loans 9.1 8.7 Other Invested Assets 1.2 1.3 ----- ----- Total 100.0% 100.0% ===== =====
The Company's investment in mortgage-backed securities was approximately $3.5 billion and $3.1 billion on an amortized cost basis at December 31, 2000 and 1999, respectively. At December 31, 2000, the mortgage-backed securities had an average life of 12.6 years and effective duration of 11.2 years. The mortgage-backed securities are valued on a monthly basis using valuations supplied by the brokerage firms that are dealers in these securities. The primary risk involved in investing in mortgage-backed securities is the uncertainty of the timing of cash flows from the underlying loans due to prepayment of principal. The Company uses models which incorporate economic variables and possible future interest rate scenarios to predict future prepayment rates. The Company has not invested in mortgage-backed derivatives, such as interest-only, principal-only or residuals, where market values can be highly volatile relative to changes in interest rates.
The Company's mortgage loan portfolio was $1,135.6 million and $1,278.1 million at December 31, 2000 and 1999, respectively. The Company uses a comprehensive rating system to evaluate the investment and credit risk of each mortgage loan and to identify specific properties for inspection and reevaluation. The Company establishes an investment valuation allowance for mortgage loans based on a review of individual loans and the overall loan portfolio, considering the value of the underlying collateral.
At December 31, 2000 and 1999, impaired loans totaled $17.7 million and $18.1 million, respectively. Included in the impaired loans at December 31, 2000 were $6.5 million of loans which had a related, specific investment valuation allowance of $2.4 million and $11.2 million of loans which had no related, specific allowance. Impaired mortgage loans are not expected to have a material impact on the Company's liquidity, financial position, or results of operations.
Restructured mortgage loans totaled $8.5 million and $8.7 million at December 31, 2000 and 1999, respectively, and represent loans that have been refinanced with terms more favorable to the borrower. Interest lost on restructured loans was immaterial for 2000 and 1999.
Real estate was $116.7 million and $211.2 million at December 31, 2000 and 1999. Investment real estate is carried at cost less accumulated depreciation. Real estate acquired through foreclosure is valued at fair value at the date of foreclosure and may be classified as investment real estate if it meets the Company's investment criteria. If investment real estate is determined to be permanently impaired, the carrying amount of the asset is reduced to fair value. Occasionally, investment real estate is reclassified to real estate held for sale when it no longer meets the Company's investment criteria. Real estate held for sale, which is valued net of a valuation allowance that reduces the carrying value to the lower of cost or fair value less estimated cost to sell, amounted to $18.3 million at December 31, 2000, and $79.4 million at December 31, 1999.
Investment valuation allowances for mortgage loans and real estate held for sale are established based on a review of specific assets as well as on an overall portfolio basis, considering the value of the underlying assets and collateral. If a decline in value is considered to be other than temporary or if the asset is deemed permanently impaired, the investment is reduced to estimated net realizable value, and the reduction is recorded as a realized investment loss. Management monitors the risk associated with the invested asset portfolio and regularly reviews and adjusts the investment valuation allowance. As a result of management's most recent review of the overall mortgage loan portfolio and based on management's expectation that delinquencies and problem loans will remain low, the valuation allowance on mortgage loans was reduced $20.0 million during 2000. At December 31, 2000, the balance in the valuation allowance for mortgage loans and real estate was $12.9 million and $25.6 million, respectively.
The Company's exposure to non-current investments totaled $45.0 million at December 31, 2000, or 0.2 percent of invested assets. These non-current investments are foreclosed real estate held for sale and fixed income securities and mortgage loans that became more than thirty days past due in principal and interest payments.
The Company's liquidity requirements are met primarily by cash flows provided from operations, principally in its insurance subsidiaries. Premium and investment income, as well as maturities and sales of invested assets, provide the primary sources of cash. Cash is applied to the payment of policy benefits, costs of acquiring new business (principally commissions), and operating expenses as well as purchases of new investments. The Company has established an investment strategy that management believes will provide for adequate cash flows from operations. Cash flows from operations were $1,211.5 million for the year ended December 31, 2000, as compared to $1,566.7 million and $1,719.3 million for the comparable periods of 1999 and 1998, respectively.
Restrictions under applicable insurance laws limit the amount of dividends that can be paid to the Company from its insurance subsidiaries without prior approval by regulatory authorities. Generally, for life insurance subsidiaries domiciled or commercially domiciled in the United States, that limitation equals the greater of: (i) ten percent of an insurer's statutory surplus with respect to policyholders as of the preceding year end; or (ii) the statutory net gain from operations, excluding realized investment gains and losses, of the preceding year.
. in 2000, $267.6 million was available for the payment of dividends to the Company from its domestic insurance subsidiaries, and approximately $24.9 million was available for the payment of dividends from Unum Limited, and
In October 2000, the Company entered into $1.0 billion senior revolving credit facilities with a group of banks. The facilities, which are split into five-year revolver and 364-day portions, replaced a 364-day revolver which expired in October 2000 and a five-year revolver which has been canceled. The new facilities are available for general corporate purposes, including support of the Company's $1.0 billion commercial paper program, and contain certain covenants that, among other provisions, include a minimum tangible net worth requirement, a maximum leverage ratio restriction, and a limitation on debt relative to the consolidated statutory earnings of the Company's insurance subsidiaries.
In April 2000, the Company issued $200.0 million of variable rate notes, due in April 2001, in a privately negotiated transaction. The notes were used to refinance other short-term debt and had a weighted average interest rate of 7.33 percent during 2000. The current interest rate on these notes is 6.49 percent.
In March 1998, the Company completed a public offering of $200.0 million of 7.25% senior notes due March 15, 2028. In March 1998, Provident Financing Trust I, a wholly-owned subsidiary trust of the Company, issued $300.0 million of 7.405% capital securities in a public offering. These capital securities, which mature on March 15, 2038, are fully and unconditionally guaranteed by the Company, have a liquidation value of $1,000 per capital security, and have a mandatory redemption feature under certain circumstances. The Company issued $300.0 million of 7.405% junior subordinated deferrable interest debentures, which mature on March 15, 2038, to the subsidiary trust in connection with the capital securities offering. The sole assets of the subsidiary trust are the junior subordinated debt securities.
In July 1998, the Company completed a public offering of $200.0 million of 6.375% senior notes due July 15, 2005, and $200.0 million of 7.0% senior notes due July 15, 2018. In December 1998, the Company issued $250.0 million of 6.75 % senior notes, which mature in 2028.
On August 23, 2000, Moody's lowered the senior debt rating of the Company to Baa1 from A3, lowered the financial strength ratings of the Company's insurance subsidiaries to A2 from A1, and confirmed the short-term rating at Prime-2. The Company has not experienced a material impact on its new sales or persistency of existing business as a result of these ratings changes. In March 2001, in connection with the Company's issuance of $575.0 million of 7.625% senior notes due March 1, 2011, S&P, Moody's, and Fitch affirmed the senior debt and financial strength ratings at the existing levels.
The table below reflects the most recent debt ratings for the Company and the financial strength ratings for the U.S. domiciled insurance company subsidiaries.
In our opinion, based on our audits and the report of other auditors, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of UnumProvident Corporation and subsidiaries at December 31, 2000 and 1999, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2000 after giving retroactive effect to the merger of Unum Corporation, as described in the notes to the consolidated financial statements, in conformity with accounting principles generally accepted in the United States. Also in our opinion, based on our audits and the report of other auditors, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
In our opinion, the consolidated statements of income, comprehensive income, stockholders' equity and cash flows of Unum Corporation and its subsidiaries (not presented separately herein) present fairly, in all material respects, the results of their operations and their cash flows for the year ended December 31, 1998, in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Corporation's management; our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for the opinion expressed above. We have not audited any financial statements of the Unum Corporation subsequent to December 31, 1998.
Policy Loans are presented at unpaid balances directly related to policyholders. Included in policy loans are $2,237.6 million and $35.6 million of policy loans ceded to reinsurers at December 31, 2000 and 1999, respectively. See Note 13.
Changes in the fair value of available-for-sale fixed maturity securities and equity securities are reported as other comprehensive income (loss). These amounts are net of federal income taxes and valuation adjustments to reserves for future policy and contract benefits which would have been recorded had the related unrealized gains or losses on these securities been realized.
The Company discontinues the accrual of investment income on invested assets when it is determined that collectability is doubtful. The Company recognizes investment income on impaired loans when the income is received.
Derivative Financial Instruments: Interest Rate Swap Agreements are agreements in which two parties agree to exchange, at specified intervals, interest payment streams calculated on an agreed-upon notional principal amount. The underlying notional principal is not exchanged between the parties for agreements other than foreign currency swaps. The Company has certain forward interest rate swap agreements where the exchange of interest payments does not begin until a specified future date. The Company intends to settle the forward interest rate swap agreements prior to the commencement of the exchange of interest payment streams.
The fair values of interest rate swap agreements which hedge available-for-sale securities are reported in the consolidated statements of financial condition as a component of fixed maturity securities. The fair values of interest rate swap agreements which hedge liabilities are not reported in the consolidated statements of financial condition. Amounts to be paid or received pursuant to interest rate swap agreements are accrued and recognized in the consolidated statements of operations as an adjustment to net investment income for asset hedges or as an adjustment to policyholder benefits for liability hedges.
Goodwill: Goodwill is the excess of the amount paid to acquire a business over the fair value of the net assets acquired. Goodwill is amortized on a straight- line basis over a period not to exceed 40 years. The accumulated amortization for goodwill was $85.9 million and $64.1 million as of December 31, 2000 and 1999, respectively. The carrying amount of goodwill is reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount might not be recoverable. If estimated future undiscounted net cash flows expected to be generated from the operations to which the goodwill relates are less than the carrying amount of the unamortized goodwill, the carrying amount is reduced with a corresponding charge to expense.
Revenue Recognition: Traditional life and accident and health products are long duration contracts, and premium income is recognized as revenue when due from policyholders. If the contracts are experience rated, the estimated ultimate premium is recognized as revenue over the period of the contract. The estimated ultimate premium, which is revised to reflect current experience, is based on estimated claim costs, expenses, and profit margins. For interest-sensitive products, the amounts collected from policyholders are considered deposits, and only the deductions during the period for cost of insurance, policy administration, and surrenders are included in revenue. Policyholders' funds represent funds deposited by contract holders and are not included in revenue.
Reserves for future policy and contract benefits on group single premium annuities have been provided on a net single premium method. The reserves are calculated based upon assumptions as to interest, mortality, and retirement that were appropriate at the date of issue. Mortality assumptions are based upon industry standards adjusted as appropriate to reflect actual Company experience. The assumptions vary by year of issue and include a provision for adverse deviation.
Federal Income Taxes: Deferred taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial statement purposes and the amounts used for income tax purposes. Deferred taxes have been measured using enacted statutory income tax rates and laws that are currently in effect. A valuation allowance is established for deferred tax assets when it is more likely than not that an amount will not be realized.
Translation of Foreign Currency: Revenues and expenses of the Company's foreign operations, principally Canada and the United Kingdom, are translated at average exchange rates. Assets and liabilities are translated at the rate of exchange on the balance sheet date. The translation gain or loss is generally reported in accumulated other comprehensive income (loss), net of deferred tax.
Accounting for Participating Individual Life Insurance: Participating policies issued by one of the Company's subsidiaries prior to its 1986 conversion from a mutual to a stock life insurance company will remain participating as long as the policies remain in force. A Participation Fund Account (PFA) was established for the benefit of all of such individual participating life and annuity policies and contracts. The assets of the PFA provide for the benefit, dividend, and certain expense obligations of the participating individual life insurance policies and annuity contracts. The experience of the PFA and its operations have been excluded from the consolidated statements of operations. The PFA was $361.6 million and $362.2 million at December 31, 2000, and 1999, respectively, and represented approximately 0.9 percent of consolidated assets for both years and 1.0 percent and 1.1 percent of consolidated liabilities for December 31, 2000 and 1999, respectively.
Accounting for Stock-Based Compensation: The Company measures compensation cost for stock-based compensation under the expense recognition provisions of Accounting Principles Board Opinion No. 25 (Opinion 25), Accounting for Stock Issued to Employees and related interpretations. Under this method, compensation cost is the excess, if any, of the quoted market price at grant date or other measurement date over the amount an employee must pay to acquire the stock.
Statement of Position 98-7 (SOP 98-7), Deposit Accounting: Accounting for Insurance and Reinsurance Contracts That Do Not Transfer Insurance Risk Effective January 1, 2000, the Company adopted the provisions of SOP 98-7 which provide guidance on applying the deposit method of accounting to insurance and reinsurance contracts that do not transfer insurance risk. The effect of the adoption of SOP 98-7 on the Company's financial position and results of operations was immaterial.
In 1998, the FASB issued SFAS 133 which establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives), and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial condition and measure those instruments at fair value. SFAS 133 specifies a special method of accounting for certain hedging transactions, prescribes the type of items and transactions that may be hedged, and provides the criteria which must be met in order to qualify for hedge accounting.
SFAS 138, issued in 2000, addresses several issues that apply to derivative instruments and hedging activities and amends certain accounting and reporting standards of SFAS 133.
The Company will adopt the provisions of SFAS 133 and SFAS 138 effective January 1, 2001. The adoptions of these pronouncements are not expected to have a material impact on the Company's financial position or results of operations.
Statement of Financial Accounting Standards No. 140 (SFAS 140), Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities SFAS 140 was issued in September 2000 and replaces Statement of Financial Accounting Standards No. 125. SFAS 140 revises the standards for accounting and reporting for transfers and servicing of financial assets and extinguishments of liabilities. SFAS 140 is effective for transfers occurring after March 31, 2001. The adoption of SFAS 140 is not expected to have a material impact on the Company's financial position or results of operations.
During 1999, the Company recognized expenses related to the merger and the early retirement offer to employees as follows (in millions):
Exit activities related to duplicate facilities/asset abandonments consisted of closing of duplicate offices and the write-off of redundant computer hardware and software. The cost associated with these office closures was approximately $25.6 million, which represents the cost of future minimum lease payments less any estimated amounts recovered under subleases. Also, certain physical assets, primarily computer equipment, redundant systems, and systems incapable of supporting the combined entity, were abandoned as a result of the merger, resulting in a write-down of the assets' book values by approximately $41.8 million.
The increase in policy and contract benefit liabilities that results from the revised claim termination rates is attributable to two elements. The first element is the claim resolution assumption, which is the portion of claim terminations related to the disabled returning to work or the expiration of the benefit period. The second element is the mortality assumption, which is the portion of claim terminations that result from death of the disabled. The effect of these two elements on the increase in policy and contract benefit liabilities is discussed below.
The review also examined assumptions for mortality. Revision of mortality assumptions resulted in an increase in benefit liabilities of approximately $177.8 million. Mortality is a critical factor influencing the length of time a claimant receives monthly disability benefits. Mortality has been improving for the general population, and this improvement is now considered permanent. Life expectancy has been extended dramatically for individuals suffering from acquired immune deficiency syndrome (AIDS). Early observations of this trend and related medical literature raised questions concerning the long-term sustainability of the mortality improvements. The Company also assumed that, if the trend did continue, many of the individuals responding positively to treatment could be returned to productive employment.
The second component of the increase in benefit liabilities is the provision for claims incurred but not yet reported, which resulted in an increase in benefit liabilities of $101.4 million. This provision is an estimate of the outstanding liability related to claims that have been incurred by individual insureds as of the valuation date, but the claims have not yet been reported to the Company. This liability is affected by the estimate of the number of outstanding claims. Because of the long elimination periods, generally 90 to 180 days or longer, the development of the factors must cover a period of sufficient length to mitigate the effects of random fluctuations and to establish the presence of trends. Recent trends indicate an increase in new claim rates which results in an increase in the estimate of outstanding claims. Another item affecting this liability is the estimate of the average cost of each outstanding claim. The lengthening of time a claimant receives monthly benefits resulting from the factors noted above also results in an increase in the estimate of the average cost of each claim.
The results of operations for the separate companies and the combined amounts for the periods prior to the merger were as follows:
Mortgage Loans: Fair values are estimated using discounted cash flow analyses, using interest rates currently being offered for similar mortgage loans to borrowers with similar credit ratings and maturities. Mortgage loans with similar characteristics are aggregated for purposes of the calculations.
Policy Loans: At December 31, 2000, the carrying amounts approximate fair value. At December 31, 1999, fair values were estimated using discounted cash flow analyses based on interest rates current at that time.
Short-term Investments, Cash and Bank Deposits, and Deposit Assets: Carrying amounts approximate fair value.
Policyholders' Funds: The carrying amount for deferred annuity products approximate fair value. Other policyholders' funds include guaranteed investment contacts (GICs) and supplementary contracts without life contingencies. Fair values for GICs are estimated using discounted cash flow calculations, based on current market interest rates available for similar contracts with maturities consistent with those remaining for the contracts being valued. The carrying amount for supplementary contracts without life contingencies approximates fair value.
The amortized cost and fair values of securities by security type are as follows:
The basic types of risks associated with derivatives are market risk (that the value of the derivative will be adversely impacted by changes in the market, primarily the change in interest and exchange rates) and credit risk (that the counterparty will not perform according to the terms of the contract). The market risk of the derivatives should generally offset the market risk associated with the hedged financial instrument or liability.
At December 31, 2000 and 1999, the Company had an unrealized gain of $123.1 million and $0.3 million, respectively, on the open interest rate swaps, forwards, and futures. These derivatives are scheduled to be terminated in the years 2000 through 2003 as assets are purchased with the future anticipated cash flows.
In 1999, the Company entered into a foreign currency interest rate swap to hedge its currency risk in Japan. The notional amount of this swap was $8.2 million and terminated as scheduled in 2000. Additionally, the Company entered into several foreign currency interest rate swaps to hedge the currency risk of certain foreign currency denominated fixed income securities purchased in 1999 and 2000. The notional amount outstanding for these currency hedges was $28.1 million and $12.3 million, at December 31, 2000 and 1999, respectively. The derivatives are scheduled for termination in the years 2006 through 2010. The unrealized gain on these swaps at December 31, 2000 and 1999 was $4.1 million and $0.2 million, respectively.
In 1999, the Company entered into an interest rate swap to convert a variable rate security into a fixed rate security. The notional amount for this interest rate swap is $60.0 million and is scheduled for termination in 2007. Income from settlements of payment streams on this interest rate swap agreement was $0.2 million and $0.8 million for 2000 and 1999, respectively. At December 31, 2000 and 1999, the Company had an unrealized gain of $4.7 million and an unrealized loss of $2.9 million, respectively, on this swap.
In 1998 and 1997, the Company opened interest rate futures contracts and wrote options on interest rate futures in order to hedge the borrowing rate on the anticipated refinancing of long-term debt. The Company realized a $10.3 million before-tax investment loss when these contracts were terminated. The loss on these contracts was deferred and is being amortized as an adjustment to interest and debt expense.
Gains or losses on termination of these forwards and futures are deferred and reported as an adjustment of the carrying amount of the hedged asset or liability and amortized into earnings over the lives of the hedged items. The net deferred gain associated with this activity was $25.4 million and $26.7 million at December 31, 2000 and 1999, respectively.
The deferred gain amortized into earnings was $1.3 million for each of the years ended December 31, 2000, 1999, and 1998.
The majority of the net balances are related to disabled lives claims with long- tail payouts on which interest earned on assets backing liabilities is an integral part of pricing and reserving. Interest accrued on prior year reserves has been calculated on the opening reserve balance less one-half year's cash payments at the average reserve discount rate used by the Company during 2000, 1999, and 1998. During 1999, unpaid claims incurred for prior years increased primarily due to changes in reserves as disclosed in Notes 2 and 13.
During the fourth quarter of 1998, the Company recorded a $153.0 million increase in the reserve for individual and group disability claims incurred as of December 31, 1998. Incurred claims include claims known as of that date and an estimate of those claims that have been incurred but not yet reported. Claims that have been incurred but not yet reported are considered liabilities of the Company. These claims were expected to be reported during 1999 and were expected to be affected by the claims operations integration activities. The $153.0 million claim reserve increase represented the estimated value of cash payments to be made to these claimants over the life of the claims as a result of the claims operations integration activities.
Management believed the reserve adjustment was required based upon the integration plans it had in place and to which it had committed and based upon its ability to develop a reasonable estimate of the financial impact of the expected disruption to the claims management process. Claims management is an integral part of the disability operations. Disruptions in that process can create material, short-term increases in claim costs. The merger had a near-term adverse impact on the efficiency and effectiveness of the Company's claims management function resulting in some delay in claim resolutions and additional claim payments to policyholders. Claims personnel were distracted from normal claims management activities as a result of planning and implementing the integration of the two companies' claims organizations. In addition, employee turnover and additional training reduced resources and productivity. An important part of the claims management process is assisting disabled policyholders with rehabilitation efforts. This complex activity is important to the policyholders because it can assist them in returning to productive work and lifestyles more quickly, and it is important to the Company because it shortens the duration of claim payments and thereby reduces the ultimate cost of settling claims.
Note 7--Liability for Unpaid Claims and Claim Adjustment Expenses - Continued
The reserving process begins with the assumptions indicated by past experience and is modified for current trends and other known factors. The Company anticipated the merger-related developments discussed above would generate a significant change in claims department productivity, reducing claim resolution rates, a key assumption when establishing reserves. Management developed actions to mitigate the impact of the merger on claims department productivity, including the hiring of additional claims staff and the restriction of early retirement elections by claims personnel. Where feasible, management also planned to obtain additional claims management resources through outsourcing. All such costs were expensed in the period incurred and were not material in relation to results of operations. Management reviewed its integration plans and the actions intended to mitigate the impact of the integration with claims managers to determine the extent of disruption in normal activities. Considering all of the above, the revised claim resolution rates, as a percentage of original assumptions (i.e., before adjusting for the effect of the claims operations integration activities), were 90 percent for the first and second quarters of 1999, 84 percent for the third quarter, and 89 percent for the fourth quarter of 1999. The revised claim resolution rates for the third quarter and fourth quarter were lower than the first and second quarters because all claims personnel were expected to be involved in the implementation and training efforts. The effect of integration activities on new claim resolution rates was not material after December 31, 1999.
In order to validate these assumptions, the Company also examined the historical level and pattern of claims management effectiveness as reflected in claim resolution rates for the insurance subsidiaries of The Paul Revere Corporation (Paul Revere) which was acquired in 1997. Subsequent to the Paul Revere acquisition and integration, management has been able to develop experience studies for the Paul Revere business. These studies are prepared for pricing purposes and to identify trends or changes in the business.
These studies, which were not available for the Paul Revere business at the time of the acquisition, allowed management to gain a greater understanding of the impact of the claims integration activities on the claim resolution rates of the Paul Revere business. These studies showed that the Paul Revere business experienced a decline in its claim resolution rates from a base in 1995 of 100 percent to 90.4 percent in 1996 and 80.3 percent in 1997. Changes in morbidity and other factors were considered and reviewed to determine that a primary cause of the reduced claim resolution rates was the disruption caused by the change in the claims management process. Although the circumstances of the merger were very different from the Paul Revere acquisition, the claims integration activities were similar, and the Paul Revere experience was relevant. The primary circumstances that created claims disruption for Paul Revere were the initial lack of clarity of the organization, process, and structure, the need to plan for a significant transition to new claims processes, and the training and implementation related to those changes. All of those elements impacted the Company as a result of the merger. One primary difference was that the duration of the potential disruption in the merger was not expected to be as long as was the case with the Paul Revere acquisition. The Company's revised claim resolution rates assumed for the first two quarters of 1999 were compared to the Paul Revere experience in 1996, the period preceding the acquisition. It was determined that the revised assumptions appeared to be reasonable. During the third and fourth quarters of 1999, the claims integration plans provided for increased activity due to training and implementation of new processes. The Company's revised claim resolution rates for the third and fourth quarters of 1999 were compared to the Paul Revere experience in 1997 during the implementation and training phase of the Paul Revere claims organization when claims resolution rates declined to 80.3 percent of prior levels. Management judged that it was reasonable to assume that the impact to the Company would be less than it was to Paul Revere since some of the Company's claims management practices would not change. The historical experience of Paul Revere provided a statistical reference for the expected experience for the Company when adjusted for the projected effects of the claims integration plans.
Claim reserves at December 31, 1998 included $153.0 million as the estimated value of projected additional claim payments resulting from these claims operations integration activities. This 1998 reserve increase was reflected as a $142.6 million increase in benefits and reserves for future benefits and a $10.4 million reduction in other income. Quarterly information concerning the estimated and actual impact of the claims operations integration activities is shown below. The $7.5 million favorable variance from assumptions for the year was reflected in 1999 earnings.
Under the Life Insurance Company Tax Act of 1959, life companies were required to maintain a policyholders' surplus account containing the accumulated portion of current income which had not been subjected to income tax in the year earned. The Deficit Reduction Act of 1984 requires that no future amounts be added after 1983 to the policyholders' surplus account. Further, any future distributions from the account would become subject to federal income taxes at the general corporate federal income tax rate then in effect. The amount of the policyholders' surplus account at December 31, 2000, is approximately $233.4 million. Future distributions from the policyholders' surplus account are deemed to occur if a statutorily prescribed maximum for the account is less than the value of the account or if dividend distributions exceed the total amount accumulated as currently taxable income in the year earned. If the entire policyholders' surplus account were deemed distributed in 2001, this would result in a tax of approximately $81.7 million. No current or deferred federal income taxes have been provided on these amounts because management considers the conditions under which such taxes would be paid to be remote.
Federal income taxes paid during 2000, 1999, and 1998 were $165.6 million, $77.8 million, and $104.8 million, respectively.
In October 2000, the Company entered into $1.0 billion senior revolving credit facilities with a group of banks. The facilities, which are split into five-year revolver and 364-day portions, replaced a 364-day revolver which expired in October 2000 and a five-year revolver which has been canceled. Interest is variable based upon a London Interbank Offered Rate (LIBOR) plus a margin or an alternate base rate. At December 31, 2000, approximately $551.0 million was available for additional financing under the Company's revolving credit facilities.
Commercial paper debt is due within one year, but has been classified as long- term at December 31, 2000 because the Company has the ability through the new senior revolving credit facilities to convert this obligation into longer-term debt. The Company intends to refinance the commercial paper either by issuing additional commercial paper or by replacing commercial paper debt with long-term debt issued under the currently effective shelf registration statement.
Of the $1,615.5 million of long-term debt at December 31, 2000, $449.0 million will mature in 2001, $35.0 million will mature in 2002, $20.0 million will mature in 2003, and $1,111.5 million will mature in 2005 and thereafter.
Interest paid on short-term and long-term debt during 2000, 1999, and 1998 was $156.9 million, $115.2 million, and $100.5 million, respectively.
In March 1998, Provident Financing Trust I, a wholly-owned subsidiary trust of the Company, issued $300.0 million of 7.405% capital securities in a public offering. These capital securities, which mature on March 15, 2038, are fully and unconditionally guaranteed by the Company, have a liquidation value of $1,000 per capital security, and have a mandatory redemption feature under certain circumstances. The Company issued $300.0 million of 7.405% junior subordinated deferrable interest debentures which mature on March 15, 2038, to the subsidiary trust in connection with the capital securities offering. The sole assets of the subsidiary trust are the junior subordinated debt securities.
The Company sponsors several defined benefit pension and postretirement plans for its employees, including non-qualified pension plans. The following tables provide the changes in the benefit obligation and fair value of plan assets and statements of the funded status of the plans.
At December 31, 2000, the plan assets include 448,784 shares of the Company's common stock with a fair value of $12.1 million. The amount of dividends paid during 2000 was not material.
A one percent increase or decrease in the assumed health care cost trend rate at December 31, 2000 and 1999 would have an insignificant impact on the net periodic postretirement benefit cost and postretirement benefit obligation.
In computing earnings per share assuming dilution, only potential common shares that are dilutive (those that reduce earnings per share) are included. Potential common shares are not used when computing earnings per share assuming dilution if the results would be antidilutive, such as when a net loss is reported or if options are out of the money. Approximately 10.7 million, 3.7 million, and 2.4 million options for the years ended December 31, 2000, 1999 and 1998, respectively, were not considered dilutive due to the options being out of the money. In-the-money options to purchase approximately 3.1 million common shares for the year ended December 31, 1999, were not considered dilutive due to net losses being reported for the period.
Substantially all of the Company's employees are eligible to participate in an ESPP. Under the plan, up to 1,460,000 shares of the Company's common stock are authorized for issuance. Stock may be purchased at the end of each financial quarter at a purchase price of 85 percent of the lower of its beginning or end of quarter market prices. The Company sold 201,626; 86,497; and 75,575 shares to employees with a weighted average exercise price of $16.73, $31.71, and $39.00 in 2000, 1999, and 1998, respectively.
The weighted average assumptions used in estimating compensation cost for the Company during 2000 and 1999 and for the Provident plans in 1998 are as follows:
Reinsurance activity is accounted for on a basis consistent with the terms of the reinsurance contracts and the accounting used for the original policies issued. Premium income and policyholder benefits are presented in the consolidated statements of operations net of reinsurance ceded. The total amounts deducted for reinsurance ceded are as follows:
Year Ended December 31 2000 1999 1998 (in millions of dollars) -----------------------------------------
During 2000 the Company entered into a 100 percent indemnity coinsurance agreement to cede the future claim payments on one of its insurance subsidiaries' long duration group long-term disability claims which were incurred prior to January 1, 1996. Total policy reserves ceded were approximately $177.9 million. The agreement was effective January 1, 2000. The gain on the transaction was immaterial.
The following discloses the various layers in the agreement at December 31, 2000 (in millions):
Included in miscellaneous assets in the consolidated statements of financial condition at December 31, 2000, is a deposit asset for this reinsurance arrangement of approximately $410.6 million. The deposit asset is comprised of the Company's experience layer and unrealized gains or losses on the marketable securities held in the trust. Unrealized gains or losses on marketable securities held in the trust and the related effects on claim reserves are included in other comprehensive income (loss) in the equity section of the Company's consolidated statements of financial condition.
Also included in the 1999 charge was $3.0 million to recognize the estimated cost of potential uncollectible reinsurance recoveries for two reinsurers who reinsure certain of the Company's reinsurance facilities and who, as the losses have increased, have experienced financial difficulties.
The periodic method of accounting is followed for Lloyd's syndicate participation, which requires premiums to be recognized as revenue over the policy term and claims, including the estimate of claims incurred but not reported, to be recognized as incurred. Throughout 1999, the Company received updated estimates and information about the Lloyd's market from various sources, including managing agents and underwriters of syndicates and published information from Moody's Investors Service. Consistent with overall market trends, the information and loss estimates received indicated significant deterioration in the
During 2000, the Company recognized $37.4 million of additional charges related to the run-off of the Company's London accident reinsurance pool participation. During 1999, the Company recorded charges resulting from its decision to exit these pools, but at that time there was insufficient information to fully evaluate all of the exposures. Working with the pool managers in London, the Company revised its estimates to reflect current and expected trends in claims experience and expenses. The 2000 charge included an increase of $21.9 million in claim reserves for certain of the reinsurance pools and $15.5 million related to uncollectible receivables and loss provisions.
As a result of the impairment, the Company calculated the estimated fair value of these operations. In estimating the fair value, two valuation techniques were utilized, a discount free cash flow model and a multiple of earnings model. The Company believed that these valuation techniques were appropriate for this type of business as these techniques were what the Company would use in evaluating a potential acquisition of this type of business. The results of the two valuation techniques created a range of fair values from $47.0 million to $64.0 million. The Company evaluated the range of values produced by the valuation techniques and using internal management judgement of the potential liquidation value, the Company determined its best estimate of fair value of its investment to be the midpoint of the range. The estimated fair value was compared to the book value for the investment, resulting in a write-down of goodwill in the amount of $27.0 million in the first quarter of 1999.
In the second quarter of 1999, the Company stated its intent to sell its reinsurance management operations, assuming the transaction would achieve the Company's financial objectives. The Company estimated the fair value of the management operations using the held-for-sale model, which compares the carrying value of the asset with the fair value less costs to sell. This resulted in an additional write-down of goodwill in the amount of $2.0 million.
The Company has provided its best estimate of the cost of known losses. Under this exit strategy, the Company retained certain risks, including the exposure associated with disputes arising from reinsurance pools disclosed in Note 15.
In 1997 two alleged class action lawsuits were filed in Superior Court in Worcester, Massachusetts (Superior Court) against UnumProvident and several of its subsidiaries, The Paul Revere Corporation, The Paul Revere Life Insurance Company, The Paul Revere Variable Annuity Insurance Company, The Paul Revere Protective Life Insurance Company, and the Company. One of the lawsuits purports to represent all career agents of subsidiaries of The Paul Revere Corporation (Paul Revere) whose employment relationships ended on June 30, 1997 and were offered contracts to sell insurance policies as independent producers. The other purports to represent independent brokers who sold certain Paul Revere individual disability income policies with benefit riders. Motions filed by UnumProvident and affiliates to dismiss most of the counts in the complaints, which allege various breach of contract and statutory claims, have been denied. A hearing to determine class certification was heard on December 20, 1999 in Superior Court. The court certified a class for the independent brokers and has denied class certification for the career agents. UnumProvident and affiliates appealed the class certification for the independent brokers, but the appeal was denied. Summary judgment motions were heard on November 10, 2000, and all motions from plaintiffs and defendants were denied. A trial date for the class action is set for March 26, 2001. UnumProvident and affiliates have filed a conditional counterclaim in the class action which requests a substantial return of commissions should the Superior Court agree with the plaintiffs' interpretation of the contracts. The career agent plaintiffs have re-filed, but not served, their complaint seeking class
action status by limiting the issues to those in the certified broker class action. UnumProvident and affiliates believe that they have strong defenses to both lawsuits and plans to vigorously defend their position.
In addition, the same plaintiffs' attorney who had initially filed the class action lawsuits has filed 50 individual lawsuits on behalf of current and former Paul Revere sales managers alleging various breach of contract claims. UnumProvident and affiliates filed a motion in federal court to compel arbitration for 17 of the plaintiffs who are licensed by the National Association of Securities Dealers and have executed the Uniform Application for Registration or Transfer in the Securities Industry (Form U-4). The federal court denied 15 of those motions and granted two. UnumProvident and affiliates appealed the denial of the 15 motions before the First Circuit Court of Appeals, but the District Court decision was affirmed. The two cases set for arbitration should be heard in 2001, but plaintiffs have appealed the arbitration ruling to the First Circuit Court of Appeals. Oral argument has been set for March 7, 2001. Eight of the other cases are tentatively set to begin trials in 2002. UnumProvident and affiliates believe that they have strong defenses and plans to vigorously defend their position in these cases. Although the individual lawsuits described above are in the early stages, management does not currently expect these suits to materially affect the financial position or results of operations of the Company.
During September and October 1999, the Company and several of its officers were named as defendants in five class action lawsuits filed in the United States District Court for the District of Maine. On January 3, 2000, the Maine district court appointed a lead class action plaintiff and ordered plaintiffs to file a consolidated amended complaint. On January 27, 2000, a sixth complaint against the same defendants was filed in the Southern District of New York. On March 7, 2000, the sixth action was transferred to the District of Maine, and that action was voluntarily dismissed by the plaintiff on June 12, 2000. On February 23, 2000, two consolidated amended class action complaints were filed against the same defendants. The first amended class action complaint asserts a variety of claims under the Securities Exchange Act of 1934, as amended, on behalf of a putative class of shareholders who purchased or otherwise acquired stock in the Company or Unum between February 4, 1998 and February 9, 2000. The second amended complaint asserts a variety of claims under the Securities Act of 1933 and the Securities Exchange Act of 1934, as amended, on behalf of a putative class of shareholders who exchanged the common stock of Unum or Provident for the Company's stock pursuant to the joint proxy/registration statement issued in connection with the merger between Unum and Provident. The complaints allege that the defendants made false and misleading public statements concerning, among other things, Unum's and the Company's reserves for disability insurance and pricing policies, the Company's merger costs, and the adequacy of the due diligence reviews performed in connection with the merger. The complaints seek money damages on behalf of all persons who purchased or otherwise acquired Company or Unum stock in the class period or who were issued Company stock pursuant to the merger.
On February 16, 2001, each defendant answered the complaint by denying generally the material allegations of the complaint. On January 30, 2001, the district court issued an Amended Scheduling Order that, among other things, ordered all discovery to be complete by July 10, 2001, and directed that the case be prepared for trial in November 2001. Pre-trial discovery is now underway. The Company disputes the claims alleged in the complaint and plans to vigorously contest them.
The Company's insurance subsidiaries' statutory net income (loss), as reported in conformity with statutory accounting practices prescribed by state regulatory authorities, for the years ended December 31, 2000, 1999, and 1998, was $353.5 million, $(233.7) million, and $227.0 million, respectively. Statutory net gain (loss) from operations was $414.8 million, $(220.7) million, and $266.2 million for the years ended December 31, 2000, 1999, and 1998, respectively. Excluding the expenses related to the merger and early retirement offer and the changes in reserves as discussed in Note 2, the federal income tax refund activity, and the reinsurance operations charges, the Company's insurance subsidiaries' statutory net gain from operations was $21.0 million for the year ended 1999. Statutory capital and surplus at December 31, 2000 and 1999, was $3,263.0 million and $2,718.1 million, respectively.
Regulatory restrictions limit the amount of dividends available for distribution to the Company from its insurance subsidiaries without prior approval by regulatory authorities. Generally, that limitation equals the greater of ten percent of an insurer's statutory surplus as regards policyholders as of the preceding year end or the statutory net gain from operations, excluding realized investment gains and losses, of the preceding year. Based on the applicable restrictions, $359.9 million will be available for the payment of dividends to the Company from its top-tier domestic insurance subsidiaries during 2001. The Company also has the ability to draw a dividend from its United Kingdom subsidiary, Unum Limited. Such dividends are limited based on insurance company legislation in the United Kingdom, which requires a minimum solvency margin. The amount available under current law for payment of dividends to the Company from Unum Limited during 2001 is approximately $20.9 million. Regulatory restrictions do not limit the amount of dividends available for distribution to the Company from its non-insurance subsidiaries.
The Company's insurance subsidiaries prepare their statutory-basis financial statements in accordance with accounting practices prescribed or permitted by the National Association of Insurance Commissioners (NAIC) and the applicable state regulatory authorities. Prescribed statutory accounting practices include state laws, regulations, and general administrative rules, as well as a variety of publications of the NAIC. Currently, permitted statutory accounting practices encompass all accounting practices that are not prescribed; such practices may differ from state to state, may differ from company to company within a state, and may change in the future. At December 31, 2000, the Company had not applied any permitted accounting practices that differed from prescribed statutory accounting practices that had a material impact on the financial position or results of operations of the insurance subsidiaries.
The NAIC and the insurance subsidiaries' states of domicile have approved a codification of statutory accounting practices effective January 1, 2001, which will serve as a comprehensive and standardized guide to statutory accounting principles. The codification changes, to some extent, the accounting practices that the Company's insurance subsidiaries use to prepare their statutory financial statements. The cumulative effect of changes in accounting principles adopted to conform to the codification of statutory accounting principles will be reported as an adjustment to statutory surplus as of January 1, 2001. Based on preliminary estimates, the Company believes that these accounting changes will have a positive impact on consolidated statutory surplus for the Company's insurance subsidiaries.