We occupy approximately 3.1 million square feet of space at four principal operating centers in Chattanooga, Tennessee; Portland, Maine; Worcester, Massachusetts; and Columbia, South Carolina.
We lease and occupy approximately 89,000 square feet of office space in Glendale, California. Additionally, we lease other office space, for periods principally from five to ten years, for use by our affiliates and sales forces.
(2) Included are costs related to early retirement of debt of $58.8 million and $25.8 million in 2007 and 2006, respectively.
(3) Includes the net increase in deferred acquisition costs, compensation expense, and other expenses. Included in these expenses are regulatory claim reassessment charges (credits) and broker compensation settlement expenses of $(12.8) million, $33.5 million, $22.3 million, and $42.5 million in 2007, 2006, 2005, and 2004, respectively, and, in 2004, charges related to the impairment of the individual disability - closed block deferred acquisition costs, value of business acquired, and goodwill balances of $282.2 million, $367.1 million, and $207.1 million, respectively.
(5) Amounts reported for 2004 and 2003 include after-tax losses of $71.3 million and $196.9 million, respectively, from the Canadian branch sale and write-downs.
Continue to improve the profitability of our Unum US group disability line of business;
Ensure that all of our other product lines and businesses that are performing well continue to do so;
Our primary focus for Unum US during 2007 was continued improvement of our claims management performance in our group disability line of business, and we are pleased with the progress made during the year. We finished 2007 with a group disability benefit ratio of 91.5 percent for the fourth quarter of 2007, consistent with the goals we established for improved claim operational effectiveness. Our 2007 priorities also included improved profitability in certain of our supplemental products and the maintenance of current performance levels in our other lines, and our operating results generally reflect achievement of these priorities. Compared to the prior year, operating income during 2007 improved 22.0 percent in our group life and accidental death and dismemberment product lines and 11.2 percent in our supplemental and voluntary product lines. Positive trends for our Unum US group lines of business include favorable pricing trends, renewal profit improvement, and the management of case persistency. For all of our Unum US lines of business, we are aggressively managing our operating expenses and are continuing to make improvements in our operating effectiveness. Although sales for Unum US in 2007 were lower than in 2006, sales growth gained momentum during the second half of the year. Throughout the year we maintained our disciplined pricing, and our overall sales mix continues to be generally in line with our target mix. The number of new accounts in the group core market segment, which we define for Unum US as employee groups with less than 2,000 lives, increased over the prior year, which we believe is a clear indication of our strong focus in this segment. During the third quarter of 2007, Unum US introduced Simply Unum, a new product offering and administrative platform designed to better meet the needs of our group core market segment and our voluntary market. The new platform represents substantial changes in existing technologies and workflow processes, from quote and proposal to billing and administration and ultimately to the payment of claims. The initial market rollout was limited to four pilot sales offices, with the full rollout expected to occur during the first and second quarters of 2008.
Our Colonial Life segment also had excellent operating results for 2007, with an increase in segment operating income of 23.7 percent compared to the prior year. Colonial Life’s sales increased 6.3 percent in 2007 over the prior year. Most notable were sales increases in the public sector market for educators and in the commercial market segment for employee groups with less than 100 lives. The number of new accounts increased over the prior year, although the average new case size was smaller than expected. We are focused on maintaining profitable and sustainable sales growth for this segment. During the latter part of 2007, we introduced a new hospital confinement indemnity insurance plan that gives businesses the opportunity to offer their employees a solution to help fill coverage gaps in their major medical plan and help protect employees against increasing out-of-pocket expenses. We also introduced a group limited benefit plan that provides businesses a product offering for their employees who do not have major medical coverage. After completion of brand research and development in the fourth quarter of 2007, we introduced the new Colonial Life brand in January 2008. The new brand includes an updated logo and tag line and is supported by a national advertising campaign.
Maintain a risk based capital (RBC) ratio of 300 percent or greater for our traditional U.S. insurance subsidiaries. This is to be measured on a weighted average basis using the National Association of Insurance Commissioners (NAIC) Company Action Level formula.
Maintain excess capital at our holding companies sufficient to cover one year of fixed charges (measured as interest expense plus common stock dividends) plus a capital fund which will vary with business and economic conditions.
We consider any capital above that needed to achieve and maintain these metrics to be excess capital available to fund share repurchases, business growth, or acquisitions. Our goal in allocating excess capital is to maximize risk-adjusted shareholder returns over a three to five year time period, with share repurchase used as the benchmark for evaluating uses for excess capital.
In February, we purchased and retired $150.0 million of our adjustable conversion-rate equity security units.
Also during 2007, we made principal payments of $17.5 million on our senior secured non-recourse variable rate notes issued by Tailwind Holdings and purchased and retired $52.0 million aggregate principal amount of other outstanding debt.
We executed a settlement agreement resolving the plan beneficiary class action, or 401(k) case, which is one of the multidistrict litigation matters discussed in our litigation footnote. The settlement agreement was finalized and approved by the court in the fourth quarter of 2007. The entire cost of the settlement was covered by insurance proceeds. In addition, we executed an agreement, subject to court approval, to settle all claims in the case entitled In re UnumProvident Corp. Securities Litigation. The amount of the settlement was $40.0 million, of which $28.4 million was covered by insurance proceeds. The net expense of $11.6 million was included in our second quarter of 2007 operating results.
During 2008, we intend to continue our focus on a number of key areas. Objectives for 2008 include:
Continued innovation throughout our businesses. Within Unum US, we plan to more broadly launch Simply Unum in the small to mid sized employer marketplace. We also plan to capitalize on the introduction of a number of health related products for Colonial, as well as the launch of a pilot voluntary benefits program in our Unum UK business.
Professional development of our employees. We have an increased focus on training and development as well as talent management and building bench strength throughout our Company.
While we are confident in our business outlook, recent market and economic trends indicate the potential for an economic slowdown. We believe the steps we have previously taken, such as product diversification across sectors and locations; the shift in our business mix; our disciplined underwriting, pricing, claims, and expense management; the positioning of our investment portfolio; and the implementation of a capital management strategy which we believe provides financial flexibility will somewhat mitigate the potential impact of an economic slowdown on our operating results.
As previously noted, we implemented a claim reassessment process as a result of the settlement agreements we entered into with various state insurance regulators in the fourth quarter of 2004 and the settlement agreement we entered into with the California Department of Insurance (DOI) in the third quarter of 2005. In the second quarter of 2007, we increased our provision for the estimated cost of this claim reassessment process $53.0 million before tax and $34.5 million after tax based on changes in our emerging experience for the number of decisions being overturned and the average cost per reassessed claim.
The revised second quarter of 2007 estimate was based on the cost of approximately 99 percent of the potential inventory of claim reassessment information forms returned to us, with our claim reassessment on approximately 88 percent of the forms completed at that time. At the time of our second quarter of 2007 revision, we had not yet finalized our claim reassessment on the remaining forms but had performed a financial review and included that information in our analysis of emerging experience. Additional information regarding the second quarter revision to our estimate is as follows:
3. The average incurred cost per reassessed claim during the first six months of 2007 was above the assumption we used for our third quarter 2006 revision.
4. Our assumption concerning the total number of claims projected to be reassessed remained at approximately 23,000, with slightly more claims for group long-term disability and fewer for individual disability.
7. We decreased our previous estimate for the additional incremental direct claim reassessment operating expenses $12.8 million due to our projections for an earlier completion of the reassessment process. We released $10.3 million for Unum US group long-term disability and $2.5 million for our Individual Disability - Closed Block segment.
We have now completed the claims reassessment process, with no further adjustments to our provision for the estimated claim reassessment costs. See “2006 Significant Transactions and Events” and “2005 Significant Transactions and Events” contained herein for further discussion of the claim reassessment process and the settlement agreements.
The scheduled remarketing of the senior note element of our 2004 adjustable conversion-rate equity units (units) occurred in February 2007, as stipulated by the terms of the original offering, and we reset the interest rate on $300.0 million of senior notes due May 15, 2009 to 5.859%. We purchased $150.0 million of the senior notes in the remarketing which were subsequently retired. In May 2007, we settled the purchase contract element of the 2004 units by issuing 17.7 million shares of common stock. We received proceeds of approximately $300.0 million from the transaction.
On October 31, 2007, Northwind Holdings, a newly formed Delaware limited liability company and a wholly-owned subsidiary of Unum Group, issued $800.0 million of floating rate, insured, senior, secured notes due 2037 in a private offering. The notes bear interest at a floating rate equal to the three month London Interbank Offered Rate (LIBOR) plus 0.78%. Recourse for the payment of principal, interest, and other amounts due on the notes will be dependent principally on the receipt of dividends from Northwind Re, the sole subsidiary of Northwind Holdings. The ability of Northwind Re to pay dividends to Northwind Holdings will depend on its satisfaction of applicable regulatory requirements and on the performance of the business of Paul Revere Life, Provident, and Unum America (collectively, the ceding insurers) reinsured by Northwind Re. None of Unum Group, the ceding insurers, Northwind Re, or any other affiliate of Northwind Holdings is an obligor or guarantor on the notes. See “Liquidity and Capital Resources” contained herein in Item 7 and Notes 9 and 16 of the “Notes to Consolidated Financial Statements” contained in Item 8 for additional information on Northwind Holdings and Northwind Re.
During December 2007, pursuant to a tender offer, we purchased and retired $23.5 million aggregate liquidation amount of the 7.405% junior subordinated debt securities due 2038; $99.9 million aggregate principal amount of the 7.625% notes due 2011; $210.5 million aggregate principal amount of the 7.375% notes due 2032; and $66.1 million
aggregate principal amount of the 6.75% notes due 2028. We also called and retired all $150.0 million principal amount of our outstanding 7.25% notes scheduled to mature in 2032.
Throughout 2007, we made principal payments of $17.5 million on our senior secured non-recourse notes issued by our wholly-owned subsidiary Tailwind Holdings.
The income tax rate in the U.K. will be reduced from 30 percent to 28 percent in April 2008. In accordance with U.S. generally accepted accounting principles (GAAP), we are required to adjust deferred tax assets and liabilities through income on the date of enactment of a rate change, which occurred during the third quarter of 2007. Therefore, we recorded a reduction of $1.7 million to our income tax expense in the third quarter of 2007 to reflect the impact of the rate change on our net deferred tax liability related to our U.K. operations.
Effective January 1, 2007, we adopted the provisions of Statement of Position 05-1 (SOP 05-1), Accounting by Insurance Enterprises for Deferred Acquisition Costs in Connection With Modifications or Exchanges of Insurance Contracts. SOP 05-1 provides guidance on accounting by insurance enterprises for deferred acquisition costs (DAC) on internal replacements of insurance and investment contracts other than those specifically described in Statement of Financial Accounting Standards No. 97, Accounting and Reporting by Insurance Enterprises for Certain Long-Duration Contracts and for Realized Gains and Losses from the Sale of Investments. The cumulative
In June 2004, we received a subpoena from the NYAG requesting documents and information relating to compensation arrangements between insurance brokers or intermediaries and us and our subsidiaries. In November 2006 we entered into a settlement agreement on broker compensation with the NYAG in the form of an assurance of discontinuance that provided for a national restitution fund of $15.5 million and a fine of $1.9 million. We expect that the restitution fund will be fully distributed by December 2008.
The scheduled remarketing of the senior note element of our 2003 units occurred in February 2006, as stipulated by the terms of the original offering, and we reset the interest rate on $575.0 million of senior notes due May 15, 2008 to 5.997%. We purchased $400.0 million of the senior notes in the remarketing which were subsequently retired. In May 2006, we settled the purchase contract element of the units by issuing 43.3 million shares of common stock. We received proceeds of approximately $575.0 million from the transaction.
In the second quarter of 2006, we purchased and retired $50.0 million aggregate liquidation amount of our outstanding 7.405% junior subordinated debt securities due 2038 and $250.0 million aggregate principal amount of our outstanding 7.625% notes due 2011. In the fourth quarter of 2006, we purchased $32.0 million aggregate principal amount of our outstanding 6.850% notes due 2015.
In November 2006, Tailwind Holdings, a Delaware limited liability company and a wholly-owned subsidiary of Unum Group, issued $130.0 million of floating rate, insured, senior, secured notes in a private offering. The payment of principal, interest, and other amounts due on the notes will be dependent principally on the receipt of dividends from Tailwind Reinsurance Company (Tailwind Re), the sole subsidiary of Tailwind Holdings. The ability of Tailwind Re to pay dividends to Tailwind Holdings will depend on its satisfaction of applicable regulatory requirements and on the performance of the reinsured claims of Unum America reinsured by Tailwind Re. None of Unum Group, Unum America, Tailwind Re, or any other affiliate of Tailwind Holdings is an obligor or guarantor on the notes. See “Liquidity and Capital Resources” contained herein in Item 7 and Notes 9 and 16 of the “Notes to Consolidated Financial Statements” contained in Item 8 for additional information on Tailwind Holdings and Tailwind Re.
Included in 2006 operating results is income of $2.6 million before tax and approximately $3.9 million after tax attributable to the receipt of interest and tax refunds on prior year tax items in excess of what was previously provided.
Additionally, in 2006 we recognized an income tax benefit of approximately $91.9 million as the result of the reversal of tax liabilities related primarily to group relief benefits recognized from the use of net operating losses in a foreign jurisdiction in which our businesses operate.
Effective January 1, 2006, we adopted Statement of Financial Accounting Standards No. 123 (revised 2004) (SFAS 123(R)), Share-Based Payment, which is a revision to Statement of Financial Accounting Standards No. 123 (SFAS 123), Accounting for Stock-Based Compensation. SFAS 123(R) focuses primarily on accounting for transactions in which an entity obtains employee service in exchange for share-based payments. Under SFAS 123(R), share-based awards that do not require future service (i.e., vesting awards) are expensed immediately. Share-based employee awards that require future service are amortized over the relevant service period. We adopted SFAS 123(R) using the modified prospective transition method. Under this method, the provisions are generally applied only to share-based awards granted after adoption. The adoption of SFAS 123(R) did not have a material effect on our financial position or results of operations. Additional information concerning the adoption of SFAS 123(R) can be found in Notes 1 and 12 of the “Notes to Consolidated Financial Statements” contained in Item 8.
Effective December 31, 2006, we adopted the provisions of Statement of Financial Accounting Standards No. 158 (SFAS 158), Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106, and 132(R). SFAS 158 requires an employer to recognize the overfunded or underfunded status of defined benefit pension and other postretirement plans as an asset or liability in its balance sheet and to recognize changes in that funded status through comprehensive income. Also, under SFAS 158, defined benefit pension and other postretirement plan assets and obligations are to be measured as of the date of the employer’s fiscal year-end. The adoption of SFAS 158, which resulted in an $84.1 million decrease in accumulated other comprehensive income in stockholders’ equity, had no effect on our results of operations.
California Settlement Agreement and Amendment of the Multistate Market Conduct Examination Settlement Agreements
In October 2005, certain of our insurance subsidiaries entered into a settlement agreement with the California DOI in connection with a market conduct examination and investigation of the subsidiaries’ disability claims handling practices. The California DOI had chosen not to join the fourth quarter of 2004 multistate settlement agreements our insurance subsidiaries entered into with state insurance regulators of 48 states upon conclusion of a multistate market conduct examination. The 2004 multistate examination resulted in a report and regulatory settlement agreements that became effective on December 21, 2004.
We amended the multistate settlement agreements to include mailing a notice of eligibility to participate in the claim reassessment process to approximately 29,500 individuals whose claims were denied or terminated between January 1, 1997, and December 31, 1999. Under the original multistate settlement agreements, claimants during this period could request participation in the reassessment process, but they were not sent a notice. Those claimants who were eligible to participate but did not receive notice pursuant to the amendment remained eligible to request participation until June 30, 2006.
Separately, we offered to reassess private label, acquired, and reinsured block claims, as well as claims administered on behalf of certain employers from January 1, 1997, through January 18, 2005 (and through September 30, 2005 for California residents). These approximately 24,000 claims were not included in the 2004 multistate settlement agreements, but the offer to reassess generally followed the reassessment procedures contained in those agreements.
During 2005, Unum UK completed the sale of its Netherlands branch. The gain on the sale was approximately $4.0 million after tax.
During 2005, we disposed of our remaining 40 percent ownership position in our Argentinean operation and recognized an after tax gain of approximately $0.4 million.
The amount of the policyholders’ surplus accounts of our U.S. insurance subsidiaries at December 31, 2004, was approximately $228.8 million. Distributions made during 2005 by these life insurance subsidiaries, including dividend distributions, were deemed to occur first from the policyholders’ surplus accounts. As a result, our U.S. life insurance subsidiaries distributed as dividends the remaining balance of their policyholders’ surplus accounts to the holding company during 2005. This resulted in the elimination of a future potential tax of approximately $80.1 million which had not previously been provided for in current or deferred taxes because management considered the conditions under which such a tax would be paid to be remote. This will also allow us to engage in transactions in the future without concern for triggering a tax liability related to distributions from the policyholders’ surplus accounts.
In April 2005, the Internal Revenue Service (IRS) completed its examination of tax years 1999 through 2001 and issued its revenue agent’s report (RAR). Income tax liabilities of approximately $32.0 million that related primarily to interest on the timing of expense deductions were released in the first quarter of 2005, all of which was reflected as a reduction to income tax expense. In the fourth quarter of 2005, we paid the IRS proposed adjustments for its 1999 through 2001 tax years and subsequently filed claims for refund on disputed issues.
We prepare our financial statements in accordance with GAAP. The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect amounts reported in our financial statements and accompanying notes. The accounting estimates we deem to be most critical to our results of operations and balance sheets are those related to reserves for policy and contract benefits, deferred acquisition costs, investments, and income taxes. Estimates and assumptions could change in the future as more information becomes known, which could impact the amounts reported and disclosed in our financial statements.
For additional information, refer to our significant accounting policies in Note 1 of the “Notes to Consolidated Financial Statements” in Part II, Item 8.
Our largest liabilities are reserves for claims that we estimate we will eventually pay to our policyholders. The two primary categories of reserves are policy reserves for claims not yet incurred and claim reserves for claims that have been incurred or are estimated to have been incurred but not yet reported to us. These reserves equaled $36.9 billion at December 31, 2007 and 2006, or approximately 80 percent of our total liabilities. Reserves ceded to reinsurers were $6.6 billion and $7.6 billion at December 31, 2007 and 2006, respectively, and are reported as a reinsurance recoverable in our consolidated balance sheets.
Policy reserves for Unum US, Unum UK, and Colonial Life products, which at December 31, 2007 represented approximately 31.8 percent, 0.2 percent, and 9.0 percent, respectively, of our total gross policy reserves, are determined using the net level premium method as prescribed by GAAP. In applying this method, we use, as applicable by product type, morbidity and mortality incidence rate assumptions, claim resolution rate assumptions, and policy persistency assumptions, among others, to determine our expected future claim payments and expected future premium income. We then apply an interest, or discount, rate to determine the present value of the expected future claims, commissions, and expenses we will pay and the expected future premiums we will receive, with a provision for profit allowed.
Policy reserves for our Individual Disability - Closed Block segment, which at December 31, 2007, represented approximately 13.6 percent of our total gross policy reserves, are determined using the gross premium valuation method based on assumptions established as of January 1, 2004, the date of loss recognition. Key assumptions are policy persistency, claim incidence, claim resolution rates, commission rates, and maintenance expense rates. We then apply an interest, or discount, rate to determine the present value of the expected future claims, commissions, and expenses we will pay as well as the expected future premiums we will receive. There is no provision for profit. The interest rate is based on our expected net investment returns on the investment portfolio supporting the reserves for this segment. Under the gross premium valuation method, we do not include an embedded provision for the risk of adverse deviation from these assumptions. Gross premium valuation assumptions do not change after the date of loss recognition unless reserves are again determined to be deficient. We perform loss recognition tests on the policy reserves for this block of business quarterly.
The Other segment includes products no longer actively marketed, the majority of which have been reinsured. Policy reserves for this segment represent $5.5 billion on a gross basis, or approximately 45.4 percent, of our total policy reserves. We have ceded $3.9 billion of the related policy reserves to reinsurers. The ceded reserve balance is reported in our consolidated balance sheets as a reinsurance recoverable. We continue to service a block of group pension products, which we have not ceded, and the policy reserves for these products are based on expected mortality rates and retirement rates. Expected future payments are discounted at interest rates reflecting the anticipated investment returns for the assets supporting the liabilities.
Claim reserves supporting our Unum US group and individual disability and group and individual long-term care lines of business and our Individual Disability - Closed Block segment represent approximately 38.5 percent and 42.0 percent, respectively, of our total claim reserves at December 31, 2007. We use a tabular reserve methodology for group and individual long-term disability and group and individual long-term care claims that have been reported. Under the tabular reserve methodology, reserves for reported claims are based on certain characteristics of the actual reported claimants, such as age, length of time disabled, and medical diagnosis. We believe the tabular reserve method is the most accurate to calculate long-term liabilities and allows us to use the most available known facts about each claim. IBNR claim reserves for our long-term products are calculated using the count and severity method using historical patterns of the claims to be reported and the associated claim costs. For group short-term disability products, an estimate of the value of future payments to be made on claims already submitted, as well as IBNR claims, is determined in aggregate rather than on the individual claimant basis that we use for our long-term products, using historical patterns of claim incidence as well as historical patterns of aggregate claim resolution rates. The average length of time between the event triggering a claim under a policy and the final resolution of those claims is much shorter for these products than for our long-term liabilities and results in less estimation variability.
The majority of the Colonial Life segment lines of business have short-term benefits, which have less estimation variability than our long-term products because of the shorter claim payout period. Our claim reserves for Colonial Life’s lines of business, which approximate 1.4 percent of our total claim reserves at December 31, 2007, are predominantly determined using the incurred loss development method based on our own experience. The incurred loss development method uses the historical patterns of payments by loss date to predict future claim payments for each loss date. Where the incurred loss development method may not be appropriate, we estimate the incurred claims using an expected claim cost per policy or other measure of exposure. The key assumptions for claim reserves for the Colonial Life lines of business are: 1) the timing, rate, and amount of estimated future claim payments; and 2) the estimated expenses associated with the payment of claims.
3. The incidence rate, used for policy reserves and IBNR claim reserves, is the rate at which new claims are submitted to us. The incidence rate is affected by many factors including the age of the insured, the insured’s occupation or industry, the benefit plan design, and certain external factors such as consumer confidence and levels of unemployment. We establish our incidence assumption using a historical review of actual incidence results along with an outlook of future incidence expectations.
We monitor and test our reserves for adequacy relative to all of our assumptions in the aggregate. In our estimation, scenarios based on reasonably possible variations in each of our reserve assumptions, when modeled together in aggregate, could produce a potential result, either positive or negative, in our Unum US group disability line of business that would change our reserve balance by +/- 2.4 percent. Using our actual claim reserve balance at December 31, 2007, this variation would have resulted in an approximate change (either positive or negative) of $200 million to our claim reserves. Using the same sensitivity analysis approach for our Individual Disability - Closed Block segment, the claim reserve balance could potentially vary by +/-1.9 percent of our reported balance, which at December 31, 2007, would have resulted in an approximate change (either positive or negative) of $200 million to our claim reserves. The major contributor to the variance for both the group long-term disability line of business and the Individual Disability - Closed Block segment is the claim resolution rate. We believe that these ranges provide a reasonable estimate of the possible changes in reserve balances for those product lines where we believe it is possible that variability in the assumptions, in the aggregate, could result in a material impact on our reserve levels, but we record our reserves based on our long-term best estimate. Because these product lines have long-term claim payout periods, there is a greater potential for significant variability in claim costs, either positive or negative.
Our review procedures include, but are not limited to, monthly meetings of certain members of our senior management personnel to review reports on the entire portfolio, identifying investments with changes in market value of five percent or more, investments with changes in rating either by external rating agencies or internal analysts, investments segmented by issuer, industry, and foreign exposure levels, and any other relevant investment information to help identify our exposure to possible credit losses.
Private placement fixed maturity securities had a fair value of approximately $3.9 billion, or 10.9 percent of total fixed maturity securities, at December 31, 2007. Private placement fixed maturity securities do not have readily determinable market prices. For these securities, we use internally prepared valuations combining matrix pricing with vendor purchased software programs, including valuations based on estimates of future profitability, to estimate the fair value. Additionally, we obtain prices from independent third-party brokers to establish valuations for certain of these securities. Our ability to liquidate our positions in some of these securities could be impacted to a significant degree by the lack of an actively traded market, and we may not be able to dispose of these investments
Current Baa corporate bond spreads ranging from 1.81 percent to 2.15 percent plus an additional 20 basis points were added to the risk free rate to reflect the lack of liquidity.
An additional five basis points were added to the risk free rates for foreign investments.
Changes in the fair value of fixed maturity securities, other than declines that are determined to be other than temporary, are reported as a component of other comprehensive income in stockholders’ equity. If we subsequently determine that any of these securities are other than temporarily impaired, the impairment loss is reported as a realized investment loss in our consolidated statements of income. The recognition of the impairment loss does not affect total stockholders’ equity to the extent that the decline in value had been previously reflected in other comprehensive income.
Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106, and 132(R) in our financial reporting and accounting for our pension and postretirement benefit plans. See Note 10 of the “Notes to Consolidated Financial Statements” in Part II, Item 8 for further discussion.
The discount rate we used to determine our 2008 net periodic benefit costs for our U.S. pension plans was 6.50 percent. For 2007, the discount rate was 6.10 percent prior to the remeasurement date of March 1, 2007, at which time it changed to 5.90 percent. No other assumptions were materially changed in the remeasurement, which resulted from the sale of GENEX and the curtailment of the pension plan benefits for the employees of GENEX. See Note 10 of the “Notes to Consolidated Financial Statements” for further discussion of the curtailment and remeasurement.
Reducing the discount rate assumption by 50 basis points would have resulted in an increase in our 2007 pension expense of approximately $13.0 million, before tax, and an increase in our benefit obligation of approximately $115.3 million as of December 31, 2007, resulting in an after-tax decrease in stockholders’ equity of approximately $74.9 million as of December 31, 2007. A 50 basis point reduction in the discount rate assumption would increase our annual OPEB costs by approximately $0.1 million before tax.
Increasing the discount rate assumption by 50 basis points would have resulted in a decrease in our 2007 pension expense of approximately $11.7 million, before tax, and a decrease in our benefit obligation of approximately $101.0 million as of December 31, 2007, resulting in an after-tax increase in stockholders’ equity of approximately $65.7 million as of December 31, 2007. A 50 basis point increase in the discount rate assumption would not change our annual OPEB costs.
investment-grade and below-investment-grade fixed income securities. Assets for our U.K. pension plan are invested in pooled funds, with approximately 56 percent in diversified growth assets including global equities, hedge funds, commodities, below-investment-grade fixed income securities, and currencies. The remainder of the assets for our U.K. plan is predominantly invested in fixed interest bonds and index linked bonds. Assets for our OPEB plan are invested primarily within life insurance contracts issued by one of our insurance subsidiaries. The terms of these contracts are consistent in all material respects with those the subsidiary offers to unaffiliated parties that are similarly situated.
The fair value of plan assets in our U.S. qualified defined benefit pension plan was $784.3 million at December 31, 2007, compared to $658.5 million at year end 2006. The plan contribution in 2007, coupled with the liability
decrease due to increasing discount rates, has improved the year end funding level in the plan such that it has a deficit of $43.8 million as of December 31, 2007, compared to $151.6 million as of December 31, 2006. The fair value of plan assets in our OPEB plan was $12.0 million at December 31, 2007 and 2006. These assets represent life insurance reserves to fund the life insurance benefit portion of our OPEB plan. Our OPEB plan represents a non-vested, non-guaranteed obligation, and current regulations do not require specific funding levels for these benefits, which are comprised of retiree life, medical, and dental benefits. It is our practice to use general assets to pay medical and dental claims as they come due in lieu of utilizing plan assets for the medical and dental benefit portions of our OPEB plan. We expect to receive subsidies under the Medicare Prescription Drug, Improvement and Modernization Act of 2003 to partially offset these payments.
Consolidated premium income for both 2007 and 2006 includes premium growth, relative to the preceding year, for Unum US supplemental and voluntary lines of business, Unum UK, and Colonial Life. Unum US group disability and group life and accidental death and dismemberment lines of business experienced year over year declines in premium income during 2007 and 2006, as expected, due primarily to our continued pricing discipline for our Unum US group business and our strategy of developing a more balanced business mix. Premium persistency for our Unum US group market segment declined in 2007 relative to 2006, as expected and due to a decline in persistency in the large case market segment, but case persistency is above the level of the prior year and is consistent with our expectations. Premium income in the Individual Disability - Closed Block segment decreased in 2007 relative to 2006 due primarily to the expected decline in this block of closed business, although this segment’s premium income increased in 2006 relative to the prior year due to the recapture of a ceded block of business in the third quarter of 2005.
The reported ratio of benefits and change in reserves for future benefits to premium income was 88.4 percent in 2007 compared to 95.3 percent in 2006 and 90.6 percent for 2005. As noted above, our reported benefits and change in reserves for future benefits include charges pertaining to our claim reassessment process required by the 2004 and 2005 regulatory settlement agreements. Excluding these charges, the ratio of benefits and change in reserves for future benefits to premium income was 87.6 percent for 2007, compared to 90.3 percent for 2006 and 90.0 percent for 2005. See “Segment Results” as follows for discussions of line of business risk results and claims management performance in each of our segments.
Interest and debt expense continues to decline year over year due to the reduction in our outstanding debt.
Cost related to early retirement of debt includes costs associated with our $769.5 million and $732.0 million debt repurchases during 2007 and 2006. See “Debt” contained herein in Item 7 for additional information.
Excluding amounts related to claim reassessment and broker compensation settlements, our expense ratio improved in 2006 relative to 2005 but increased in 2007. The increase was due primarily to the decrease in premium income, as well as the second quarter of 2007 litigation settlement expense and additional expenses associated with the development of new product offerings in our core lines of business. We intend to aggressively manage our expenses while continuing to increase the effectiveness of our operating processes.
Sales results shown in the preceding chart generally represent the annualized premium or annualized fee income on new sales which we expect to receive and report as premium income or fee income during the next 12 months following or beginning in the initial quarter in which the sale is reported, depending on the effective date of the new sale. Sales do not correspond to premium income or fee income reported as revenue in accordance with GAAP. This is because new annualized sales premiums reflect current sales performance and what we expect to recognize as premium or fee income over a 12 month period, while premium income and fee income reported in our financial statements are reported on an “as earned” basis rather than an annualized basis and also include renewals and persistency of in force policies written in prior years as well as current new sales.
Premiums for fully insured products are reported as premium income. Fees for ASO products (those where the risk and responsibility for funding claim payments remain with the customer and we only provide services) are included in other income. Sales, persistency of the existing block of business, and the effectiveness of the renewal program are indicators of growth in our premium and fee income. Trends in new sales, as well as existing market share, also indicate our potential for growth in our respective markets and the level of market acceptance of price changes and new product offerings. Sales results may fluctuate significantly due to case size and timing of sales submissions.
Our reporting segments are comprised of the following: Unum US, Unum UK, Colonial Life, Individual Disability - Closed Block (previously referred to as Individual Income Protection - Closed Block), Other, and Corporate. In the following segment financial data and discussions of segment results, “operating revenue” excludes net realized investment gains and losses. “Operating income” or “operating loss” excludes net realized investment gains and losses and income tax. These are considered non-GAAP financial measures. A non-GAAP financial measure is a numerical measure of a company’s performance, financial position, or cash flows that excludes or includes amounts that are not normally excluded or included in the most directly comparable measure calculated and presented in accordance with GAAP.
A reconciliation of total operating revenue by segment to total consolidated revenue and total operating income by segment to consolidated net income is as follows:
As previously noted, included in the before-tax operating income by segment shown above are before-tax charges of $53.0 million, $411.4 million, and $75.0 million in 2007, 2006, and 2005, respectively, related to the claim reassessment process and $18.5 million in 2006 for the broker compensation settlement.
The Unum US segment includes group long-term and short-term disability insurance, group life and accidental death and dismemberment products, and supplemental and voluntary lines of business. The supplemental and voluntary lines of business are comprised of recently issued disability insurance, group and individual long-term care insurance, and voluntary benefits products.
We anticipate that sales for our group core market segment and our voluntary products will increase during 2008. Because our focus for our 2007 renewal program was aimed primarily at improving the profitability of our large case group business, sales and persistency for the large case market segment declined during 2007, as expected. As previously noted, during the third quarter of 2007, we introduced Simply Unum, a new product offering and administrative platform designed to better meet the needs of our group core market segment and our voluntary market. The initial market rollout was limited to four pilot sales offices, with the full rollout expected to occur during the first and second quarters of 2008.
Approximately 90 percent of total 2006 sales for our individual disability line of business occurred in the multi-life market. Long-term care sales were generally in line with our strategy for this product line, with growth in the group product and a decline in sales for individual long-term care. Voluntary benefits sales increased in 2006 in comparison to 2005 as we continued to focus on the voluntary product lines for future growth.
A continuing part of our strategy for Unum US group business involves executing our renewal programs and managing persistency in our existing blocks of business. Our renewal programs have generally been successful in retaining business that is relatively more profitable than business that terminated. While we believe the additional premium and related profits associated with renewal activity will continue to emerge, we intend to balance the renewal program with the need to maximize persistency and retain broker relationships. Persistency, measured in both premium dollars and in number of cases, for the large case group market segment declined during 2007 relative to the prior year because of our 2007 strategy for this market. Premium persistency was also lower for our core group market segment, but case persistency for this market segment improved over the level of 2006. During 2006, persistency for each of our product lines was generally higher than or consistent with 2005.
In January 2006, we began a process of filing a request with various state insurance departments for rate adjustments on one older series of individual long-term care policies. The rate adjustment brings the rates for this policy series closer to today’s market, better reflecting current interest rates, higher expected future claims, persistency, experience, and other factors related to pricing individual long-term care coverage. In states for which a rate increase is submitted and approved, customers are also given options for coverage changes or other approaches that might fit their current financial and insurance needs. Higher premium income associated with the rate increases has begun to emerge and is expected to continue to do so during 2008.
(1) Included in these ratios are charges of $76.5 million, $349.2 million, and $27.3 million in 2007, 2006, and 2005, respectively, related to the claim reassessment process. Excluding these charges, the benefit ratios for 2007, 2006, and 2005 would have been 92.4%, 94.8%, and 93.8%, respectively.
(2) Included in these ratios are increases (decreases) of $(10.3) million, $15.0 million, and $10.1 million in 2007, 2006 and 2005, respectively, related to the claim reassessment process. Excluding these items, the other expense ratios for 2007, 2006, and 2005 would have been 24.0%, 23.1% and 22.6%, respectively.
(3) Included in these ratios are charges of $66.2 million, $364.2 million, and $37.4 million in 2007, 2006, and 2005, respectively, related to the claim reassessment process. Excluding these charges, the before-tax operating income ratio for 2007, 2006, and 2005 would have been 7.2%, 2.5%, and 2.7%, respectively.
Premium income for group disability decreased in 2007 relative to the prior year, as expected, due primarily to our more disciplined approach to pricing, renewals, and risk selection. Premium persistency and case persistency are both consistent with our expectations given our business mix strategy. Net investment income increased in 2007 in comparison to the prior year due to the growth in the level of assets supporting these lines of business, partially offset by the impact of the lower yield resulting from the lower interest rate environment and a decrease in bond call premiums. Other income includes ASO fees of $65.2 million and $60.9 million for 2007 and 2006, respectively.
Our claim operational effectiveness continues to improve as a result of our organizational and process changes. While additional performance improvement is expected to occur during 2008, the operational improvement we have projected may occur at a slower rate, and we may incur higher than anticipated claim costs.
Premium income for group disability decreased in 2006 relative to 2005 due to our pricing, renewal, and risk selection strategy. Net investment income increased slightly in comparison to 2005 due to the growth in the level of assets supporting these lines of business and an increase in bond call premiums partially offset by the impact of the lower yield resulting from the lower interest rate environment. Other income includes ASO fees of $60.9 million for 2006 and $59.0 million for 2005.
The other expense ratio, excluding the adjustments to our claim reassessment incremental operating expense estimate increased in 2006 compared to 2005 due to the implementation of additional resources and process changes and also due to the decrease in premium income.
Premium income for group life decreased in 2007 relative to the prior year due primarily to our more disciplined approach to pricing, renewals, and risk selection. Premium persistency and case persistency are both consistent with our expectations. The decrease in net investment income relative to the prior year resulted primarily from a decline in the level of assets supporting these lines of business.
Similar to our group disability products, amortization of DAC is lower this year relative to last year due to the adoption of SOP 05-1. The other expense ratio increased in 2007 in comparison to the prior year due to the decline in premium income.
Commissions and the deferral of acquisition costs decreased in 2006 in comparison to 2005 due primarily to the decrease in sales in comparison to the prior year and a buy-out of a block of business from a commissioned sales agency in 2005. Operating expenses decreased in 2006 relative to 2005, enabling the operating expense ratio to remain stable against the decline in premium income.
(3) Included in these ratios is a charge of $3.3 million in 2005 related to the claim reassessment process. Excluding this charge, the before-tax operating income ratio for 2005 would have been 13.8%.
The increase in premium income for 2007 relative to the prior year is due to sales growth and overall stable persistency, although premium persistency for certain of the product lines declined compared to the prior year. Net investment income increased relative to the prior year primarily from growth in the level of assets supporting these lines of business.
The interest adjusted loss ratio for the individual disability - recently issued business decreased in 2007 relative to the prior year due primarily to a decrease in the submitted claim incidence rate as well as an increase in the claim recovery rate. The interest adjusted loss ratio for long-term care was higher in 2007 than in the prior year due primarily to an increase in the submitted claim incidence rate and a decrease in the claim recovery and mortality rates. The benefit ratio for voluntary benefits decreased in comparison to the prior year due primarily to a lower rate of paid claim incidence for the voluntary benefits disability line of business partially offset by a higher mortality rate for the voluntary life line of business.
The amortization of DAC increased in 2007 relative to the prior year due to the acceleration of amortization for certain of the product lines with lower than anticipated persistency. The other expense ratio remained level with the prior year due to the growth in premium income and the corresponding growth in operating expenses.
The increase in premium income for 2006 relative to 2005 is due to sales growth and stable persistency. Net investment income increased relative to 2005 primarily from growth in the level of assets supporting these lines of business and due to higher investment yields resulting from a greater portion of the investment portfolio being invested in longer-term investments than in 2005.
The interest adjusted loss ratio for the individual disability - recently issued business decreased slightly in 2006 relative to 2005, excluding the 2005 reserve charge, due primarily to an increase in the claim recovery rate, offset partially by an increase in the claim reopen rate. The interest adjusted loss ratio for long-term care was higher in 2006 than in 2005 due primarily to the aging of the block of business. The benefit ratio for voluntary benefits decreased in comparison to 2005 due to favorable mortality and paid incidence.
Amortization of DAC was higher for 2006 due primarily to the growth of the deferred asset for the multi-life individual disability and voluntary benefits product lines relative to the other supplemental product lines. The amortization period for multi-life individual disability and voluntary benefits products is generally shorter than that of the other supplemental products.
Our primary focus in 2008 will be continued improvement of our claims management performance in our group disability line of business along with growth in our core group market and our supplemental and voluntary lines of business. We expect our overall benefit ratio for group disability to gradually improve to the 88 to 89 percent range by late 2008 to early 2009.
We are focused on diversifying our product portfolio through new initiatives such as Simply Unum and increased focus on our group core market and voluntary product sales. Simply Unum combines group and voluntary coverages on one fully-integrated platform and represents substantial changes in existing technologies and workflow processes, from quote and proposal to billing and administration and ultimately to the payment of claims. The initial market rollout in the third quarter of 2007 was limited to four pilot sales offices. Marketplace reaction from brokers and customers has been very positive. We expect the national rollout to occur during the first and second quarters of 2008.
The lower benefit ratio in 2006 in comparison to 2005 was attributable to favorable claim experience in all lines of business. Group long-term disability continued to have favorable claim incidence and claim resolution experience, although to a lesser extent than in recent periods because of a lower level of claim resolutions on an acquired block of group long-term disability business. Group life reported favorable paid claim experience. Individual disability had favorable claim resolution experience during 2006.
Commissions decreased in 2006 due to the ongoing increase in the proportion of business sold on a no-commission-basis and lower individual disability commissions following the sale of the Netherlands branch in 2006.
If the British pound to dollar exchange rate weakens during 2008 relative to the prior year, it will unfavorably impact Unum UK’s reported financial results and our consolidated financial results relative to the results reported for 2007.
Although we continue to focus on expense management, the other expense ratio for 2007 increased in comparison to the prior year due primarily to our investment in brand and product promotion and the development of additional product offerings. Also, during 2006 we reported a one-time adjustment to commissions and operating expenses that increased reported commissions and reduced other expenses for that year.
The other expense ratio for 2006 decreased in comparison to 2005 due primarily to our expense management focus and the increase in premium income as well as the commission and expense adjustment noted above.
The Individual Disability - Closed Block segment generally consists of those individual disability policies in force before the substantial changes in product offerings, pricing, distribution, and underwriting, which generally occurred during the period 1994 through 1998. A small amount of new business continued to be sold after these changes, but we stopped selling new policies in this segment at the beginning of 2004 other than update features contractually allowable on existing policies.
(2) Included in these ratios are increases (decreases) of $(2.5) million and $11.2 million in 2007 and 2005, respectively, related to the claim reassessment process. Excluding these items, the other expense ratio for 2007 and 2005 would have been 14.0% and 14.6%, respectively.
(3) Included in these ratios are charges (credits) of $(13.2) million, $47.2 million, and $34.3 million in 2007, 2006, and 2005, respectively, related to the claim reassessment process. Excluding these charges and credits, the before-tax operating income ratio for 2007, 2006, and 2005 would have been 10.4%, 11.1%, and 11.3%, respectively.
reinsurance recapture of a small block of business, with an effective date of January 1, 2007, and an annualized premium income of approximately $7.0 million. Neither the contract modification nor the recapture had a material effect on operating results for this segment.
Net investment income decreased slightly in 2007 compared to the prior year due to a decrease in the level of assets supporting this business and the decline in the overall portfolio yield rate. As previously noted, during the fourth quarter of 2007, we entered into an intercompany reinsurance transaction whereby approximately 95 percent of our Individual Disability - Closed Block segment was ceded from Paul Revere Life, Provident, and Unum America to Northwind Re. With the risk transfer to Northwind Re, we released excess statutory capital previously supporting this reinsured closed block business. As a result, the capital allocated to our Individual Disability - Closed Block segment declined, with a resulting decrease in net investment income due to the lower asset levels needed to support allocated capital. Because this is an intercompany reinsurance arrangement, reported results remain unchanged for this segment other than the lower net investment income.
Other income includes the underlying results of certain blocks of reinsured business.
Excluding the reserve charges noted previously, the 2006 interest adjusted loss ratio of 92.9 percent was higher than the prior year ratio of 87.3 percent due primarily to higher submitted claim incidence and a lower rate of claim recoveries.
The Other operating segment includes results from Unum US insured products not actively marketed (with the exception of certain individual disability products), including individual life and corporate-owned life insurance, reinsurance pools and management operations, group pension, health insurance, and individual annuities. We expect operating revenue and income resulting from the products that are not actively marketed to decline over time as these business lines wind down, and we expect to reinvest the capital supporting these lines of business in the future growth of our Unum US, Unum UK, and Colonial Life segments.
termination of this fully ceded business had no impact on our operating results and will not materially affect the amortization of the deferred gain.
Group pension, health insurance, individual annuities, and other closed lines of business had combined operating revenue of $103.6 million in both 2007 and 2006 and $110.4 million in 2005. These closed lines of business had combined operating income (losses) of $(3.3) million, $(1.9) million, and $2.2 million.
Operating revenue in the Corporate segment was $46.3 million in 2007 compared to $60.5 million in 2006 and $61.2 million in 2005.
Interest and debt expense, excluding the costs related to early retirement of debt, was $186.3 million in 2007 compared to $191.8 million in 2006 and $208.0 million in 2005. See “Debt” contained herein in Item 7 for further discussion.
The weighted average credit quality rating of the portfolio should be BBB or higher.
The maximum investment per issuer group is limited based on internal limits established by our board of directors and is more restrictive than the five percent limit generally allowed by the state insurance departments which regulate the type of investments our insurance subsidiaries are allowed to own. These internal limits are as follows:
The allocation of assets and the selection and timing of the acquisition and disposition of investments are subject to ratification, on a weekly basis, by an investment subcommittee appointed by our board of directors. These actions are also reviewed and approved by the finance committee of our board of directors on a quarterly basis.
We recognize impairment losses when we determine that the value of certain fixed maturity securities has other than temporarily declined during the applicable reporting period, as well as when there are further declines in the values of fixed maturity securities that were initially written down in a prior period. See “Critical Accounting Estimates” contained herein in Item 7 for a complete discussion of the valuation of fixed maturity securities.
We also report changes in the fair values of certain embedded derivatives as realized investment gains and losses, as required under the provisions of Statement of Financial Accounting Standards No. 133 Implementation Issue B36 (DIG Issue B36), Embedded Derivatives: Modified Coinsurance Arrangements and Debt Instruments That Incorporate Credit Risk Exposure That Are Unrelated or Only Partially Related to the Creditworthiness of the Obligor Under Those Instruments. During 2007, changes in the fair value of the embedded derivatives in certain reinsurance contracts resulted in net realized losses of $57.3 million, which resulted primarily from a widening of credit spreads in the overall investment market, not from credit deterioration of the investments held in the portfolios supporting the modified coinsurance reserves. Fair value changes in 2005 include an embedded derivative that was terminated when the associated reinsurance contract was recaptured in 2005. Under our remaining reinsurance contracts for which DIG Issue B36 is applicable, we believe that fair value changes will be minimal.
One of the factors we evaluate in determining when a decline in fair value below amortized cost of a fixed maturity security is other than temporary is our ability and intent to retain the security for a sufficient period of time for it to recover. During the third quarter of 2007, we recognized losses of $18.4 million related to the decline in fair value below amortized cost for certain securities for which it was determined during the third quarter of 2007 that we no longer had the intent to hold to recovery or maturity due to anticipated changes in our capital requirements, as previously discussed.
Realized Investment Losses $10.0 Million or Greater from Other than Temporary Impairments
During 2007, we recognized an other than temporary impairment loss of $15.0 million on bonds issued by a large media company. The company was the subject of a leveraged buyout that placed a large amount of debt on the balance sheet during 2007. Because of our outlook for the future business prospects of this issuer, the length of time these securities had been in an unrealized loss position, and a change in our intent to retain the security for a sufficient period of time for it to recover, we determined that an other than temporary impairment had occurred. These securities were investment grade at the time of purchase but were downgraded to below-investment-grade in the second quarter of 2006. At the time of the impairment, these securities had been in an unrealized loss position for a period of greater than two years. The circumstances of this impaired investment have no impact on other investments.
During 2005, we recognized an other than temporary impairment loss of $10.3 million on certificates issued by a trust backed by leases to a U.S. based airline. Although the airline had filed for bankruptcy in the third quarter of 2004, the bonds were secured by aircraft owned by the trust and had remained current on all interest payments to date. However, due to the lack of clarity regarding the value of aircraft collateralizing these securities and the length of time these securities had been in an unrealized loss position, we determined that an other than temporary impairment had occurred. These securities were investment-grade at the time of purchase but were downgraded to below-investment-grade in the first quarter of 2000. At the time of the impairment, these securities had been continuously in an unrealized loss position for a period of greater than three years. The circumstances of this impaired investment have no impact on other investments.
We had no individual realized investments losses $10.0 million or greater from the sale of fixed maturity securities during 2007.
During 2006, we recognized a loss of $13.1 million on the sale of securities issued by a U.S. based automotive parts supplier. In an October 2005 press release, this company confirmed that due to accounting errors it would restate its previously released 2004 and first and second quarter 2005 earnings and delay third and fourth quarter 2005 earnings releases. In a first quarter of 2006 press release, the company reported third quarter 2005 results which were significantly below expectations and also withdrew guidance of positive free cash flow for its fiscal year 2005. Trade creditors put into place more stringent credit terms in response to the weaker financial results, which forced the company into bankruptcy in the first quarter of 2006. A portion of these securities had an investment-grade rating at the time of purchase, and a portion was purchased after the securities had been downgraded to below-investment-grade in the second quarter of 2001. At the time of sale, these securities had been continuously in an unrealized loss position for a period of greater than three years. The circumstances of this investment have no impact on other investments.
Of the $913.3 million in gross unrealized losses at December 31, 2007, $781.5 million, or 85.6 percent, are related to investment-grade fixed maturity bonds and result primarily from increases in interest rates or changes in market or sector credit spreads which occurred subsequent to acquisition of the bonds. The following table shows the length of time the investment-grade fixed maturity bonds had been in a gross unrealized loss position as of December 31, 2007.
The following table shows the length of time the below-investment-grade fixed maturity bonds had been in a gross unrealized loss position as of December 31, 2007. The relationships of the current fair value to amortized cost are not necessarily indicative of the fair value to amortized cost relationships for the securities throughout the entire time that the securities have been in an unrealized loss position nor are they necessarily indicative of the relationships after December 31, 2007.
As of December 31, 2007, we held four securities with a gross unrealized loss of $10.0 million or greater, as shown in the chart below.
Unrealized losses on investment-grade fixed maturity securities principally relate to changes in interest rates or changes in market or sector credit spreads which occurred after the acquisition of the securities. These changes are generally temporary and are not recognized as realized investment losses unless the securities are sold, it becomes unlikely that we will hold the securities until recovery based on relevant facts and circumstances, or the securities become other than temporarily impaired. Generally, below-investment-grade fixed maturity securities are more likely to develop credit concerns. In determining whether a decline in fair value below amortized cost of a fixed maturity security is other than temporary, we utilize a formal, well-defined, and disciplined process to monitor and evaluate our fixed income investment portfolio. The process results in a thorough evaluation of problem investments and the recording of realized losses on a timely basis for investments determined to have an other than temporary impairment.
The fair value of the securities of the United Kingdom based financial institution declined due to a significant decrease in its liquidity, although The Bank of England has guaranteed the institution’s deposits and senior debt securities. In addition, at the time of the decrease in liquidity, the regulatory authority of the U.K. financial services industry stated that the financial institution exceeded regulatory requirements and had a good quality loan book. Two private-sector bidders have presented offers to purchase the institution at prices that give equity value to the company. We believe that the decline in fair value of these securities is temporary. We have the ability to hold these securities to the earlier of recovery or maturity.
The fixed maturity bonds of the U.S. based automobile manufacturer are securities issued by the manufacturer and its captive finance subsidiary. The reduction in market value of these securities is due primarily to a decline in profitability and cash flow due to the competitive environment, a loss of market share, the shift in consumer demand, and an increase in the cost of raw materials and employee healthcare and pension benefits. The company and its finance subsidiary both have substantial liquidity, and the company has non-core automotive brands available for sale. Given this available liquidity, we believe that the decline in fair value of these securities is temporary. We have the ability to hold these securities to the earlier of recovery or maturity.
We have 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. All of our mortgage-backed securities are fixed rate. The credit quality of our mortgage-backed securities portfolio has not been negatively impacted by the
As of December 31, 2007, our exposure to below-investment-grade fixed maturity securities was $2,023.8 million, approximately 5.3 percent of the fair value of invested assets excluding ceded policy loans, compared to 5.8 percent at the end of 2006. Below-investment-grade bonds are inherently more risky than investment-grade bonds since the risk of default by the issuer, by definition and as exhibited by bond rating, is higher. Also, the secondary market for certain below-investment-grade issues can be highly illiquid. Additional downgrades may occur, but we do not anticipate any liquidity problem caused by our investments in below-investment-grade securities, nor do we expect these investments to adversely affect our ability to hold our other investments to maturity.
We have a significant interest in, but are not the primary beneficiary of, a special purpose entity which is a collateralized bond obligation asset trust (CBO) in which we hold interests in several of the tranches and for which we act as investment manager of the underlying high-yield securities. This entity is a cash flow CBO and was fully funded at the time of issuance. Our potential losses in this CBO are limited to our investment in the entity. Our investment in this entity is reported at fair value with fixed maturity securities in the consolidated balance sheets. The fair value of this investment was derived from the fair value of the underlying assets. The fair value and amortized cost of this investment were $12.0 million and $11.8 million, respectively, at December 31, 2007, and $18.8 million and $18.4 million, respectively, at December 31, 2006.
Real estate was $18.2 million and $17.9 million at December 31, 2007 and 2006, respectively. 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 our 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 our 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, was $8.9 million and $6.5 million at December 31, 2007 and 2006, respectively.
We use derivative financial instruments to manage reinvestment risk, duration, and currency risk. Historically, we have utilized interest rate futures contracts, current and forward interest rate swaps and options on forward interest rate swaps, current and forward currency swaps, interest rate forward contracts, forward treasury locks, currency
Our current credit exposure on derivatives, which is limited to the value of those contracts in a net gain position less collateral held, was $47.9 million at December 31, 2007. The carrying value of fixed maturity securities pledged as collateral to our counterparties was $265.8 million at December 31, 2007. See Note 5 of the “Notes to Consolidated Financial Statements” contained herein in Item 8 for additional information.
Our exposure to non-current investments, on a fair value basis, totaled $2.6 million at December 31, 2007, compared to $12.5 million at December 31, 2006.
We have an investment program where we simultaneously enter into repurchase agreement transactions and reverse repurchase agreement transactions with the same party. We net the related receivables and payables in the consolidated balance sheets since these transactions meet the requirements for the right of offset. We did not have any of these agreements in an open position at December 31, 2007. We also use the repurchase agreement market as a source of short-term financing, but had no contracts for this purpose outstanding at December 31, 2007.
Our liquidity requirements are met primarily by cash flows provided from operations, principally in our insurance subsidiaries. Premium and investment income, as well as maturities and sales of invested assets, provide the primary sources of cash. Debt and/or securities offerings provide an additional source of liquidity. Cash is applied to the payment of policy benefits, costs of acquiring new business (principally commissions), operating expenses, and taxes, as well as purchases of new investments. We have established an investment strategy that we believe will provide for adequate cash flows from operations.
Our policy benefits are primarily in the form of claim payments, and we have minimal exposure to the policy withdrawal risk associated with deposit products such as individual life policies or annuities. A decrease in demand for our insurance products or an increase in the incidence of new claims or the duration of existing claims could negatively impact our cash flows from operations. Deterioration in the credit market, which could delay our ability to sell our positions in certain of our fixed maturity securities in a timely manner, could also negatively impact our cash flows. We believe our cash resources are sufficient to meet our liquidity requirements for the next 12 months.
During January 2008, we repurchased approximately $350.0 million of our outstanding common stock, pursuant to the share repurchase authorization, using an accelerated share repurchase agreement. Under the terms of the repurchase agreement, we may receive, or be required to pay, a price adjustment based on the volume weighted average price of our common stock during the term of the agreement. Any price adjustment payable to us will be settled in shares of our common stock. Any price adjustment we are required to pay will be settled, at our option, in either cash or common stock. We expect the price adjustment to settle on or before the completion of the agreement in May 2008.
During 2008, we intend to retain sufficient capital in our traditional U.S. insurance subsidiaries to maintain a weighted average RBC ratio in excess of our stated long-term objective of 300 percent. We also intend to maintain
We had lower proceeds from sales and maturities of available-for-sale securities in 2007 compared to 2006, primarily due to a decrease in scheduled maturities of fixed maturity securities as well as a lower level of proceeds from principal prepayments on mortgage-backed securities. Somewhat offsetting this decline was the sale of a block of available-for-sale securities to generate the liquidity needed to repurchase debt in the fourth quarter as part of our capital redeployment plan.
Purchases of available-for-sale securities increased during 2007, in part due to the investing of the net cash inflows of $98.8 million from the sale of GENEX and the $211.4 million cash inflows from the reinsurance recapture.
As noted above, the proceeds from dispositions in 2007 relate to the sale of GENEX. During 2005, we had cash inflows of $8.8 million related to the sale of Unum UK’s Netherlands branch and cash outflows of $3.5 million related to the GENEX acquisition of Independent Review Services, Inc.
During 2006, we received proceeds of approximately $130.0 million, less debt issuance costs of $4.1 million, from the issuance of $130.0 million aggregate principal amount of debt by Tailwind Holdings. We also repurchased and/or made principal payments of $732.0 million aggregate principal amounts of outstanding debt during 2006, for an aggregate cash outflow of $749.9 million including debt repurchase costs of $17.9 million.
Unum Group and certain of its intermediate holding company subsidiaries and/or finance subsidiaries depend on payments from subsidiaries to pay dividends to stockholders, to pay debt obligations, and/or to pay expenses. These payments by our insurance and non-insurance subsidiaries may take the form of interest payments on loans from the parent to a subsidiary, operating and investment management fees, and/or dividends. At December 31, 2007, Unum Group had outstanding from one of its insurance subsidiaries a $100.0 million 8.25% surplus debenture due in 2027. Semi-annual interest payments are conditional upon the approval by the insurance department of the applicable state of domicile. During 2006, Unum Group received $150.0 million from one of its insurance subsidiaries for the repayment of a surplus debenture issued to Unum Group in December 1996 with a maturity date of December 2006.
The amount available during 2007 for the payment of ordinary dividends from Unum Group’s traditional U.S. insurance subsidiaries was $506.2 million, of which $262.7 million was declared and paid. The traditional U.S. insurance subsidiaries also declared extraordinary dividends of $1,374.2 million in conjunction with the Northwind Re transaction, $1,346.0 million of which were paid in 2007 and $28.2 million in January 2008. The amount available during 2007 from Unum Limited was £102.2 million, of which £100.3 million was declared and paid.
At December 31, 2007, we had long-term debt, including senior secured notes and junior subordinated debt securities, totaling $2,515.2 million and short-term debt of $175.0 million due in May 2008. Our leverage ratio, when calculated excluding the non-recourse debt and associated capital of Tailwind Holdings and Northwind Holdings and also allowing 50 percent equity credit for the adjustable conversion-rate equity security units that were still outstanding at the beginning of the year, was 21.4 percent at the end of 2007, compared to 26.2 percent at the beginning of 2007, subsequent to our cumulative effect adjustment to equity for the adoption of the new accounting policies related to deferred acquisition costs and income taxes. Our leverage ratio, when calculated using consolidated debt to total consolidated capital, was 26.4 percent at the end of 2007, compared to 28.8 percent at the beginning of 2007.
On October 31, 2007, Northwind Holdings issued $800.0 million floating rate, insured, senior, secured notes in a private offering. Recourse for the payment of principal, interest, and other amounts due on the notes will be limited to the assets of Northwind Holdings, consisting primarily of the stock of its sole subsidiary Northwind Re, a Vermont special purpose financial captive insurance company. Northwind Holdings’ ability to meet its payment obligations under the notes will be dependent principally upon its receipt of dividends from Northwind Re. The ability of Northwind Re to pay dividends to Northwind Holdings will depend on its satisfaction of applicable regulatory requirements and on the performance of the reinsured claims of Provident, Paul Revere and Unum America (the ceding insurers) reinsured by Northwind Re. None of Unum Group, the ceding insurers, Northwind Re or any other affiliate of Northwind Holdings is an obligor or guarantor on the notes.
On November 1, 2006, Tailwind Holdings issued $130.0 million floating rate, insured, senior, secured notes in a private offering. Recourse for the payment of principal, interest, and other amounts due on the notes will be limited to the assets of Tailwind Holdings, consisting primarily of the stock of its sole subsidiary Tailwind Re, a South Carolina special purpose financial captive insurance company. Tailwind Holdings’ ability to meet its payment obligations under the notes will be dependent principally upon its receipt of dividends from Tailwind Re. The ability of Tailwind Re to pay dividends to Tailwind Holdings will depend on its satisfaction of applicable regulatory requirements and on the performance of the reinsured claims of Unum America reinsured by Tailwind Re. None of Unum Group, Unum America, Tailwind Re or any other affiliate of Tailwind Holdings is an obligor or guarantor on the notes. The balance outstanding on these notes was $112.5 million at December 31, 2007.
Also in 2007, in open market transactions, we purchased $34.5 million of our outstanding 6.85% notes due 2015 and $17.5 million of our outstanding senior secured notes issued by Tailwind Holdings. In February 2007, the scheduled remarketing of the senior note element of the 2004 units occurred, as stipulated by the terms of the original offering, and we reset the interest rate of $300.0 million of senior notes due May 15, 2009 to 5.859%. We purchased $150.0 million of the senior notes in the remarketing which were subsequently retired. In May 2007, we settled the purchase contract element of the units by issuing 17.7 million shares of common stock. We received proceeds of approximately $300.0 million from the transaction.
During the fourth quarter of 2005, Unum Group repatriated $454.8 million in unremitted foreign earnings from its U.K. subsidiaries, and as part of its repatriation plan, issued $400.0 million of 6.85% senior debentures due November 15, 2015 in a private offering. The aggregate principal amount outstanding was $333.5 million at December 31, 2007.
In 2001, Unum Group issued $575.0 million of 7.625% senior notes due March 1, 2011. The aggregate principal amount outstanding was $225.1 million at December 31, 2007.
In 1998, Unum Group completed public offerings of $200.0 million of 7.25% senior notes due March 15, 2028, $200.0 million of 7.0% senior notes due July 15, 2018, and $250.0 million of 6.75% senior notes due December 15, 2028. None of these amounts have been reduced other than the 6.75% notes, which have an aggregate principal amount outstanding of $166.4 million at December 31, 2007.
Unum Group has a shelf registration, which became effective in 2005, with the Securities and Exchange Commission to issue various types of securities, including common stock, preferred stock, debt securities, depository shares, stock purchase contracts, units and warrants, or preferred securities of wholly-owned finance trusts up to an aggregate of $1.0 billion. If utilized, the shelf registration will enable us to raise funds from the offering of any individual security covered by the shelf registration as well as any combination thereof, subject to market conditions and our capital needs.
See Note 9 of the “Notes to Consolidated Financial Statements” contained herein in Item 8 for additional information.
The following table summarizes contractual obligations and our reinsurance recoverable by period as of December 31, 2007 (in millions of dollars). Excluded from the table are tax liabilities of approximately $168.5 million for which we are unable to make reasonably reliable estimates of the period of potential cash settlements, if any, with taxing authorities.
Short-term and long-term debt includes contractual principal and interest payments and therefore exceeds the amount shown in the consolidated balance sheet. See Note 9 of the “Notes to Consolidated Financial Statements” contained in Item 8 for additional information.
Purchase obligations include commitments of $35.9 million to fund certain private placement fixed maturity and equity securities and $22.8 million for commercial mortgage loan originations. These are shown in the table above based on the expiration date of the commitments. The funds will be due upon satisfaction of contractual notice from the trustee or issuer of the private placement securities or at closing of the mortgage loans. The amounts may or may not be funded. Also included are noncancelable obligations with outside parties for computer data processing services and related functions and software maintenance agreements. The aggregate obligation remaining under these agreements was $14.4 million at December 31, 2007.
As part of our regular investing strategy, we receive collateral from unaffiliated third parties through transactions which include both securities lending and also short-term agreements to purchase securities with the agreement to resell them at a later, specified date. For both types of transactions, we require that a minimum of 102 percent of the fair value of the securities loaned or securities purchased under repurchase agreements be maintained as collateral. Generally, cash is received as collateral under these agreements. In the event that securities are received as collateral, we are not permitted to sell or repledge them. We also pledge our fixed maturity securities as collateral to unaffiliated third parties through transactions including both securities lending and also short-term agreements to sell securities with the agreement to repurchase them at a later, specified date. At December 31, 2007, the carrying value of fixed maturity securities pledged as collateral to third parties under these programs was $2.0 million.
To help limit the credit exposure of the derivatives, we enter into master netting agreements with our counterparties whereby contracts in a gain position can be offset against contracts in a loss position. We also typically enter into bilateral, cross-collateralization agreements with our counterparties to help limit the credit exposure of the derivatives. These agreements require the counterparty in a loss position to submit acceptable collateral with the other counterparty in the event the net loss position meets or exceeds an agreed upon amount. Our current credit exposure on derivatives, which is limited to the value of those contracts in a net gain position less collateral held, was $47.9 million at December 31, 2007. The carrying value of fixed maturity securities pledged as collateral to our counterparties was $265.8 million at December 31, 2007.
A.M. Best Company (AM Best), Fitch Ratings (Fitch), Moody’s Investors Service (Moody’s), and Standard & Poor’s Corporation (S&P) are among the third parties that assign issuer credit ratings to Unum Group and financial strength ratings to our insurance subsidiaries. Issuer credit ratings reflect an agency’s opinion of the overall financial capacity of a company to meet its senior debt obligations. Financial strength ratings are specific to each individual insurance subsidiary and reflect each rating agency’s view of the overall financial strength (capital levels, earnings, growth, investments, business mix, operating performance, and market position) of the insuring entity and its ability to meet its obligations to policyholders. Both the issuer credit ratings and financial strength ratings incorporate quantitative and qualitative analyses by rating agencies and are routinely reviewed and updated on an ongoing basis.
We compete based in part on the financial strength ratings provided by rating agencies. A downgrade of our financial strength ratings can be expected to adversely affect us and could potentially, among other things, adversely affect our relationships with distributors of our products and services and retention of our sales force, negatively impact persistency and new sales, particularly large case group sales and individual sales, and generally adversely affect our ability to compete. A downgrade in the issuer credit rating assigned to Unum Group can be expected to adversely affect our cost of capital or our ability to raise additional capital.
We maintain an ongoing dialogue with the four rating agencies in order to inform them of progress we are making regarding our strategic objectives and financial plans, as well as other pertinent issues. A significant component of our communications includes an annual review meeting, as well as other meetings not limited to quarterly updates regarding our business. During the second quarter of 2007, we conducted our annual review with Moody’s, S&P, and Fitch. Our annual review meeting with AM Best took place in the fourth quarter of 2007.
See “Ratings” in Part 1, Item 1 and “Risk Factors - Issuer Credit Ratings and Financial Strength Ratings” in Part 1, Item 1A, contained herein for further discussion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Unum Group and subsidiaries at December 31, 2007 and 2006, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2007, in conformity with U.S. generally accepted accounting principles. Also in our opinion, 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.
We have three major business segments: Unum US, Unum UK, and Colonial Life. Our other segments are the Individual Disability - Closed Block (previously referred to as Individual Income Protection - Closed Block) segment, the Other segment, and the Corporate segment. See Note 14 for further discussion of our operating segments.
Available-for-Sale Fixed Maturity Securities, which include bonds and redeemable preferred stocks, are reported at fair value. Interest income is recorded as part of net investment income when earned, using an effective yield method giving effect to amortization of premium and accretion of discount. Payment terms specified for fixed maturity securities may include a prepayment penalty for unscheduled payoff of the investment. Prepayment penalties are recognized as investment income when received.
Real Estate classified as 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. If investment real estate is determined to be other than temporarily 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 our investment criteria. Real estate held for sale is valued net of a valuation allowance that reduces the carrying value to the lower of cost less accumulated depreciation or fair value less estimated cost to sell. Accumulated depreciation on real estate was $9.7 million and $9.5 million as of December 31, 2007 and 2006, respectively.
Other Long-term Investments, primarily private equity fund limited partnerships, are generally carried at cost plus our share of changes in the investee’s ownership equity since acquisition.
We discontinue the accrual of investment income on invested assets when collection is uncertain. We recognize investment income on impaired investments when the income is received.
Gains or losses on the termination of ineffective hedges are reported in current earnings. In the event a hedged item is disposed of or the anticipated transaction being hedged is no longer likely to occur, we will terminate the related derivative and recognize the gain or loss on termination in current earnings.
Deferred acquisition costs related to traditional policies are amortized over the premium paying period of the related policies in proportion to the ratio of the present value of annual expected premium income to the present value of total expected premium income. Such amortization is adjusted annually to reflect the actual policy persistency as compared to the anticipated experience.
Internal replacement transactions wherein the modification does not substantially change the policy are accounted for as continuations of the replaced contracts. Unamortized deferred acquisition costs from the original policy continue to be amortized over the expected life of the new policy, and the costs of replacing the policy are accounted for as policy maintenance costs and expensed as incurred. Internal replacement transactions, principally on group contracts, that result in a policy that is substantially changed are accounted for as an extinguishment of the original
Loss recognition is generally performed on an annual basis. Insurance contracts are grouped for each major product line within a segment when we perform the loss recognition tests. If loss recognition testing indicates that deferred acquisition costs are not recoverable, the deficiency is charged to expense. The assumptions used in loss recognition testing represent our best estimates of future experience.
Property and Equipment: Property and equipment is reported at cost less accumulated depreciation, which is calculated on the straight-line method over the estimated useful life. The accumulated depreciation for property and equipment was $539.8 million and $496.4 million as of December 31, 2007 and 2006, respectively.
Policy and Contract Benefits: Policy and contract benefits represent amounts paid and expected to be paid based on reported losses and estimates of incurred but not reported losses for traditional life and accident and health products. For interest-sensitive products, benefits are the amounts paid and expected to be paid on insured claims in excess of the policyholders’ policy fund balances.
Policy reserves for group single premium annuities have been provided on a net single premium method. The reserves are calculated based on 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 our actual experience and future expectations. The assumptions vary by year of issue.
Accounting for Participating Individual Life Insurance: Participating policies issued by one of our 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 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 PFA was $362.0 million and $349.8 million at December 31, 2007 and 2006, respectively, and represented approximately 0.7 percent of consolidated assets and 0.8 and 0.7 percent of consolidated liabilities at December 31, 2007 and 2006, respectively.
awards that require future service are amortized over the relevant service period. We adopted SFAS 123(R) using the modified prospective transition method. In accordance with the modified prospective transition method, the provisions are generally applied only to share-based awards granted subsequent to adoption. Prior to adoption of SFAS 123(R), the unrecognized compensation cost related to nonvested stock awards was reported as additional paid-in capital and deferred compensation, a contra equity account. The value of this contra equity account at the adoption of SFAS 123(R) was $13.8 million. The adoption of SFAS 123(R) did not have a material effect on our financial position or results of operations.
Had we applied the fair value recognition provisions of SFAS 123 as of its original effective date, pro forma net income for the year ended December 31, 2005 would have been $513.1 million, and net income per common share - basic would have been $1.73. Net income per common share - assuming dilution would not have changed.
As discussed in Note 1, the sale of GENEX closed effective March 1, 2007, and we recognized an after-tax gain of $6.2 million on the sale, which is included in income from discontinued operations in our statements of income. We intend to continue to purchase certain disability management services for a period of up to five years from the effective date of the sale. The cost of the services to be purchased was negotiated in an arms-length transaction. Intercompany amounts paid to GENEX for these types of services was $2.3 million for the two months ended February 28, 2007, and $15.4 million and $15.7 million for the years ended December 31, 2006 and 2005, respectively. The cost of these services is not significant to our results of operations.
Assets and liabilities for discontinued operations as reported in the accompanying consolidated balance sheets are comprised of the following at December 31, 2006 (in millions of dollars):
Fixed Maturity Securities: Fair values are based on quoted market prices, where available. For fixed maturity securities not actively traded, fair values are estimated using values obtained from independent pricing services. For private placements, fair values are estimated using internally prepared valuations combining matrix pricing with vendor purchased software programs, including valuations based on estimates of future profitability. Additionally, we obtain prices from independent third-party brokers to establish valuations for certain of these securities. See Note 4 for the amortized cost and fair values of securities by security type and by maturity date.
Derivatives: Fair values are based on market quotes or pricing models and represent the net amount of cash we would have received or paid if the contracts had been settled or closed as of the last day of the year.
Short-term Investments: Carrying amounts for short-term investments, which generally consist of investment-grade corporate commercial paper, U.S. Treasury bills, and bank term deposits, approximate fair value.
Policyholders’ Funds: Carrying amounts for deferred annuity products and other policyholders’ funds, which include guaranteed investment contracts (GICs) and supplementary contracts without life contingencies, approximate fair value.
The carrying values of financial instruments such as cash and bank deposits, accounts and premiums receivable, accrued investment income, and accounts payable approximate the fair values due to the short-term nature of the instruments. As such, these financial instruments are not included in the following chart.
The gross unrealized loss on below-investment-grade fixed maturity securities was $145.0 million at December 31, 2007, or 15.4 percent, of the total gross unrealized loss on fixed maturity securities. Generally, below-investment-grade fixed maturity securities are more likely to develop credit concerns.
The following charts indicate the length of time our fixed maturity securities had been in a gross unrealized loss position as of December 31, 2007 and 2006.
As of December 31, 2007, we held 482 individual investment-grade fixed maturity securities and 89 individual below-investment-grade fixed maturity securities that were in an unrealized loss position, of which 353 investment-grade fixed maturity securities and 33 below-investment-grade fixed maturity securities had been in an unrealized loss position continuously for over one year.
In the normal course of business, we receive collateral from unaffiliated third parties through transactions which include both securities lending and also short-term agreements to purchase securities with the agreement to resell them at a later, specified date. For both types of transactions, we require that a minimum of 102 percent of the fair value of the securities loaned or securities purchased under repurchase agreements be maintained as collateral. Generally, cash is received as collateral under these agreements. In the event that securities are received as collateral, we are not permitted to sell or repledge them. We also pledge our fixed maturity securities as collateral to unaffiliated third parties through transactions including both securities lending and also short-term agreements to sell securities with the agreement to repurchase them at a later, specified date. At December 31, 2007, the carrying value of fixed maturity securities pledged as collateral to third parties under these programs was $2.0 million. See Note 5 for discussion of collateral pledged to our derivatives counterparties.
At December 31, 2007, mortgage loans were collateralized by office buildings (39.1 percent), industrial buildings (30.9 percent), retail stores (16.5 percent), and other properties (13.5 percent). Our mortgage loan portfolio is geographically dispersed within the United States, with the largest concentrations in Pennsylvania (13.2 percent) and California (13.9 percent).
Mortgage loans are impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement. We did not have any impaired mortgage loans as of December 31, 2007. At December 31, 2006, impaired mortgage loans totaled $2.8 million.
The following table summarizes the timing of anticipated settlements of interest rate swaps outstanding at December 31, 2007, whereby we receive a fixed rate and pay a variable rate. The weighted average interest rates assume current market conditions.
We have executed a series of cash flow hedges for certain of our long-term product portfolios using forward starting interest rate swaps and forward contracts. The purpose of these hedges is to lock in the reinvestment rates on future anticipated cash flows through the year 2013 and protect us from the potential adverse impact of declining interest rates on the associated policy reserves. We plan on terminating these forward interest rate swaps and forward contracts at the time the projected cash flows are used to purchase fixed income securities. As of December 31, 2007 and 2006, we had $1,645.0 million and $2,125.0 million, respectively, notional amount of the forward starting interest rate swaps outstanding under this program. We did not have any forward contracts outstanding under this program as of December 31, 2007 or 2006.
As of December 31, 2007 and 2006, we had $612.1 million and $658.4 million, respectively, notional amount of open current and forward foreign currency swaps to hedge fixed income foreign dollar denominated securities.
As of December 31, 2007 and 2006, we had $333.5 million and $367.8 million, respectively, notional amount of currency swaps and $216.3 million notional amount of forward currency contracts to hedge the foreign currency risk associated with the U.S. dollar denominated debt issued by one of our U.K. subsidiaries.
We have invested in certain structured fixed maturity securities that contain embedded derivatives with a notional amount of $98.8 and $176.6 million as of December 31, 2007 and 2006, respectively. These embedded derivatives represent forward contracts and are accounted for as cash flow hedges. The purpose of these forward contracts is to hedge the risk of changes in cash flows related to the anticipated purchase of certain equity securities in the years 2020 through 2022.
We also have embedded derivatives in modified coinsurance contracts recognized under DIG Issue B36. Due to the change in fair value of these embedded derivatives, we recognized $57.3 million, $5.3 million, and $7.9 million of net realized investment losses during 2007, 2006, and 2005, respectively. One of the reinsurance contracts for which DIG Issue B36 was applicable was recaptured during 2005. Prior to recapture, we included in other assets a deposit asset for the applicable reinsurance contract. At the time of recapture, the receivable in the deposit asset was settled, the derivative was terminated, and the assets were recorded using the market value of $1,621.7 million that existed on that date. The difference in the book value transferred out of the deposit asset account, which was $1,472.7 million, and the market value recorded equaled the embedded derivative market value component of $149.0 million. The time value component of $9.4 million was recognized as a realized investment loss. The fair value of the embedded derivative related to the remaining applicable reinsurance contract was $(68.8) million as of December 31, 2007.
In March 2007, we completed the sale of GENEX. See Note 2 for further discussion.
During 2005, we completed the sale of Unum UK’s Netherlands branch. The gain on the sale was $5.7 million before tax and $4.0 million after tax.
The majority of the net balances are related to disability 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 our average reserve discount rate used during 2007, 2006, and 2005.
“Incurred Related to Prior Years - All Other Incurred” for 2007, 2006, and 2005 relates primarily to the recent variability in our claim resolution rate experience. Claim resolution rates are very sensitive to operational and environmental changes and can be volatile over short periods of time. During 2005 and 2006, we experienced quarter to quarter variability in our claim resolution rates. We believe this variability was primarily the result of a short-term reduction in the operating effectiveness of our Unum US and Individual Disability - Closed Block segment claims management performance. During 2007, we gained more stability in our claims management performance, and our claim resolution rates were more consistent with our long-term assumptions. Our claim resolution rate assumption used in determining reserves is our expectation of the resolution rate we will experience over the life of the block of business and will vary from actual experience in any one period, both favorably and unfavorably.
The unrealized adjustment to reserves for future policy and contract benefits reflects the changes that would be necessary to policyholder liabilities if the unrealized investment gains and losses related to the available-for-sale securities had been realized. Changes in these adjustments are reported as a component of other comprehensive income.
The amount of the policyholders’ surplus accounts of our U.S. insurance subsidiaries at December 31, 2004, was approximately $228.8 million. Distributions made during 2005 by these life insurance subsidiaries, including dividend distributions, were deemed to occur first from the policyholders’ surplus accounts. As a result, our U.S. life insurance subsidiaries distributed as dividends the remaining balance of their policyholders’ surplus account to the holding company during 2005. This resulted in the elimination of a future potential tax of approximately $80.1 million which had not previously been provided for in current or deferred taxes because we considered the conditions under which such a tax would be paid to be remote.
The Homeland Investment Act of 2004 also provided a deduction of 85 percent of certain foreign earnings that were repatriated during 2005, up to a maximum of $500.0 million. For the portion of unremitted foreign earnings of our non-U.S. operations that had been considered to be permanently reinvested, we had not previously provided U.S. income taxes. During 2005, we repatriated $454.8 million in unremitted foreign earnings from our U.K. subsidiary. We recorded current taxes payable of approximately $15.3 million on those previously unremitted foreign earnings and recorded a tax benefit of approximately $18.6 million as a result of the reversal of the deferred tax liability related to the unremitted earnings. We consider the remaining amounts of unremitted earnings as permanently invested in our foreign subsidiaries. The determination of the tax liability related to the remaining unremitted earnings is not practicable.
The cumulative effect of applying the provisions of FIN 48 as of January 1, 2007 resulted in a $22.7 million decrease in our liability for unrecognized tax benefits, net of associated deferred tax assets. Our consolidated statements of income include the following changes in unrecognized tax benefits during 2007 (in millions of dollars):
Included at January 1, 2007 are unrecognized tax benefits of approximately $19.2 million that, if recognized, would impact our effective tax rate. Included in the balance at January 1 and December 31, 2007, are $48.2 million and $145.8 million, respectively, of unrecognized tax benefits for tax positions for which the ultimate deductibility is highly certain but for which there is uncertainty about the timing of such deductibility. Other than potential interest
We recognize interest expense and penalties related to unrecognized tax benefits in tax expense net of federal income tax. The total amounts of accrued interest and penalties in the consolidated balance sheets as of January 1, 2007 and December 31, 2007 are $5.5 million and $7.5 million, respectively. We recognized $2.0 million of interest expense and penalties related to unrecognized tax expense in our consolidated statements of income during 2007. We had no changes to uncertain tax positions as a result of settlements or lapses in statutes of limitations during 2007. We do not expect a significant change in our existing liability for unrecognized tax benefits during the next 12 months.
Total income taxes paid during 2007, 2006, and 2005 were $189.9 million, $129.2 million, and $93.4 million, respectively.
In October 2007, Northwind Holdings, LLC (Northwind Holdings), a wholly-owned subsidiary of Unum Group, issued $800.0 million of insured, senior, secured notes due 2037 (the Northwind notes) in a private offering. The Northwind notes bear interest at a floating rate equal to the three-month London Interbank Offered Rate (LIBOR) plus 0.78%. Northwind Holdings contributed the $800.0 million proceeds from the issuance of the Northwind notes to Northwind Reinsurance Company (Northwind Re), the sole subsidiary of Northwind Holdings, as a capital contribution. Northwind Re deposited the funds in a funding sub account (the Northwind Re funding sub account). No further deposits will be made into the Northwind Re funding sub account.
Northwind Holdings’ ability to meet its obligations to pay principal, interest, and other amounts due on the Northwind notes will be dependent principally on its receipt of dividends from Northwind Re. The ability of Northwind Re to pay such dividends will depend on its satisfaction of applicable regulatory requirements and the performance of the reinsured policies.
Recourse for the payment of principal, interest, and other amounts due on the Northwind notes is limited to the collateral for the Northwind notes and the other assets, if any, of Northwind Holdings. The collateral consists of a first priority, perfected security interest in (a) the debt service coverage account (Northwind DSCA) that is required to be maintained in accordance with the indenture pursuant to which the Northwind notes were issued (the Northwind indenture), (b) the capital stock of Northwind Re and the dividends and distributions on such capital stock, and (c) Northwind Holdings’ rights under the transaction documents related to the Northwind notes to which Northwind Holdings is a party. At December 31, 2007 the amounts in the Northwind DSCA was $43.7 million. None of Unum Group, the ceding insurers, Northwind Re, or any other affiliate of Northwind Holdings is an obligor or guarantor with respect to the Northwind notes.
In November 2006, Tailwind Holdings, LLC (Tailwind Holdings), a wholly-owned subsidiary of Unum Group, issued $130.0 million of insured, senior, secured notes due 2036 (the Tailwind notes) in a private offering. The Tailwind notes bear interest at a floating rate equal to the three-month LIBOR plus 0.35%. Tailwind Holdings contributed the $130.0 million proceeds from the issuance of the Tailwind notes to Tailwind Reinsurance Company (Tailwind Re), the sole subsidiary of Tailwind Holdings, as a capital contribution. Tailwind Re deposited the funds in a funding sub account (the Tailwind Re funding sub account). No further deposits will be made into the Tailwind Re funding sub account.
Recourse for the payment of principal, interest, and other amounts due on the Tailwind notes is limited to the collateral for the Tailwind notes and the other assets, if any, of Tailwind Holdings. The collateral consists of a first priority, perfected security interest in (a) the debt service coverage account (Tailwind DSCA) that is required to be maintained in accordance with the indenture pursuant to which the Tailwind notes were issued (the Tailwind indenture), (b) the capital stock of Tailwind Re and the dividends and distributions on such capital stock, and (c) Tailwind Holdings’ rights under the transaction documents related to the Tailwind notes to which Tailwind Holdings is a party. At December 31, 2007 the amounts in the Tailwind DSCA was $12.5 million. None of Unum Group, Unum America, Tailwind Re, or any other affiliate of Tailwind Holdings is an obligor or guarantor with respect to the Tailwind notes.
Tailwind Holdings is required to repay a portion of the outstanding principal under the Tailwind notes at par on the quarterly scheduled payment dates under the Tailwind notes in an amount equal to the lesser of (i) a targeted amortization amount as defined in the Tailwind indenture and (ii) the amount of the remaining available funds in the Tailwind DSCA minus an amount equal to the minimum balance that is required to be maintained in the Tailwind DSCA under the Tailwind indenture, provided that Tailwind Holdings has sufficient funds available to pay its other expenses, including interest payments on the Tailwind notes, and to maintain the minimum balance in the Tailwind DSCA as required under the Tailwind indenture. During 2007, Tailwind Holdings made principal payments of $17.5 million on the Tailwind notes.
In November 2005, UnumProvident Finance Company plc, a wholly-owned subsidiary of Unum Group, issued $400.0 million of 6.85% senior debentures due 2015 in a private offering and received net proceeds of $399.6 million. These debentures are fully and unconditionally guaranteed by Unum Group. In June 2007 and December 2006, $34.5 million and $32.0 million of these debentures were redeemed, respectively.
In 1998, Provident Financing Trust I (the trust) 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 Unum Group, have a liquidation value of $1,000 per capital security, and have a mandatory redemption feature under certain circumstances. Unum Group issued 7.405% junior subordinated deferrable interest debentures which mature on March 15, 2038, to the trust in connection with the capital securities offering. The sole assets of the trust are the junior subordinated debt securities.
In December 2007, we entered into $400.0 million 364 day unsecured revolving credit facility. Borrowings under the facility are for general corporate uses and are subject to financial covenants, negative covenants, and events of default that are customary. The facility provides for interest rates based on either the prime rate or LIBOR, as adjusted. At December 31, 2007, there were no amounts outstanding on the facility.
Unum Group has a shelf registration, which became effective in 2005, with the Securities and Exchange Commission to issue various types of securities, including common stock, preferred stock, debt securities, depository shares, stock purchase contracts, units and warrants, or preferred securities of wholly-owned finance trusts up to an aggregate of $1.0 billion. If utilized, the shelf registration will enable us to raise funds from the offering of any individual security covered by the shelf registration as well as any combination thereof, subject to market conditions and our capital needs. At December 31, 2007, we had $1.0 billion remaining on our shelf registration.
The cost related to early retirement of debt during 2007 and 2006 decreased income approximately $58.8 million and $25.8 million, respectively, before tax, or $38.3 million and $16.9 million, respectively, after tax.
Information presented as follows for our non U.S. plans previously included plans for the employees of our Canadian branch operation which was sold in 2004. In the third quarter of 2007, we terminated the Canadian defined pension plans which were frozen in 2004. The termination of these plans resulted in a reduction in our pension assets and pension liabilities of $15.1 million and a settlement cost of $0.3 million recognized in our net periodic benefit cost for 2007.
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.
The expected return assumption for the life insurance reserve for the postretirement benefits plan was 5.75 percent, which was based on full investment in fixed income securities with an average book yield of 6.30 percent and 6.39 percent for 2007 and 2006, respectively.
We settled the purchase contract element of the 2004 and 2003 units in May 2007 and 2006 by issuing 17.7 million and 43.3 million shares of common stock, respectively. See Note 9 for further discussion.
Unum Group has 25,000,000 shares of preferred stock authorized with a par value of $0.10 per share. No preferred stock has been issued to date.
We use the treasury stock method to account for the effect of the purchase contract element of the units, outstanding stock options, and nonvested stock awards on the computation of dilutive earnings per share. Under this method, these potential common shares will each have a dilutive effect, as individually measured, when the average market price of Unum Group’s common stock during the period exceeds the threshold appreciation price of the purchase contract element of the units, as described in Note 9, the exercise price of the stock options, as described in Note 12, or the grant price of the nonvested stock awards.
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 not included in the computation of dilutive earnings per share because their impact would be antidilutive, based on current market prices, approximated 6.2 million, 8.2 million, and 12.1 million shares of common stock for the years ended December 31, 2007, 2006, and 2005, respectively.
Under the stock incentive plan of 2007, up to 35,000,000 shares of common stock are available for awards to our employees, officers, consultants, and directors. Awards may be in the form of stock options, stock appreciation rights, restricted stock, restricted stock units, performance units, and other stock-based awards. Each full value award, defined as any award other than a stock option or stock appreciation right, shall be counted as 2.7 shares. The exercise price for stock options issued cannot be less than the fair market value of the underlying common stock
as of the grant date. Stock options have a maximum term of ten years after the date of grant and generally vest after three years. At December 31, 2007, 31,486,483 shares were available for future grants.
Substantially all of our employees are eligible to participate in an employee stock purchase plan (ESPP). Under the plan, up to 3,460,000 shares of common stock are authorized for issuance, of which 1,611,500 remain available for issuance at December 31, 2007. 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.
In September 2007, we issued 1,247,500 PRSUs with a grant date fair value of $15.99. Vesting for this grant is contingent upon meeting various company threshold performance and stock price conditions. Dividend equivalents on PRSUs are accrued in the form of additional restricted stock units. We had 1,251,385 PRSUs outstanding at December 31, 2007, all of which are nonvested.
At December 31, 2007, we had $15.8 million of unrecognized compensation cost related to PRSUs that will be recognized over a weighted average period of 2.5 years. The PRSU expense and unrecognized compensation cost assume the performance goals are attained at 100 percent. Actual performance may result in zero to 100 percent of the units ultimately being earned. We used the accelerated method of amortization for recognizing compensation expense, which treats each of the three vesting tranches as a separate award over the expected life of the unit.
Risk-free interest rate of 3.97 percent, based on the yield of treasury bonds at the date of grant.
The weighted average grant date fair value of options granted during 2007 was $8.61. No stock options were granted during 2006 and 2005. We estimated the fair value on the date of grant using the Black-Scholes valuation model. The following assumptions were used to value the 2007 grants:
Expected volatility of 44 percent, based on our historical daily stock prices.
Expected dividend yield of 1.57 percent, based on the dividend rate at the date of grant.
Compensation expense for the stock plans, as reported in the consolidated statements of income, is as follows:
The reinsurance recoverable at December 31, 2007 relates to 89 companies. Thirteen major companies account for approximately 90 percent of the reinsurance recoverable at December 31, 2007, and are all companies rated A or better by A.M. Best Company or are fully securitized by letters of credit or investment-grade fixed maturity securities held in trust. Virtually all of the remaining ten percent of the reinsurance recoverable relates to business reinsured either with companies rated A- or better by A.M. Best Company, with overseas entities with equivalent ratings or backed by letters of credit or trust agreements, or through reinsurance arrangements wherein we retain the assets in our general account. Less than one percent of the reinsurance recoverable is held by companies either rated below A- by A.M. Best Company or not rated.
During 2000, we reinsured substantially all of our individual life and corporate-owned life insurance blocks of business, with a resulting gain which was deferred and is being amortized into income. A portion of the ceded corporate-owned life insurance block of business surrendered during 2007. The termination of this fully ceded business, which is reported in our Other segment, had no impact on our operating results and will not materially affect the amortization of the deferred gain. The termination resulted in a balance sheet only decrease in reserves for future policy and contract benefits of $1,094.0 million and policy loans of $1,013.7 million, with corresponding offsets to each in the reinsurance recoverable. The termination of this fully ceded business had no impact on our cash flows.
The Unum US segment includes group long-term and short-term disability insurance, group life and accidental death and dismemberment products, and supplemental and voluntary lines of business, comprised of individual disability - recently issued, group and individual long-term care, and brokerage voluntary benefits products. These products are marketed through our field sales personnel who work in conjunction with independent brokers and consultants. For the sale of individual disability and individual long-term care products, we use a distribution model which provides independent brokers and consultants with the option of direct access to a sales support center centrally located in our corporate offices.
The Other operating segment includes results from Unum US insured products not actively marketed (with the exception of the individual disability products in the Individual Disability - Closed Block segment), including individual life and corporate-owned life insurance, reinsurance pools and management operations, group pension, health insurance, and individual annuities.
The Corporate segment consists of revenue earned on corporate assets not specifically allocated to a line of business, interest expense on corporate debt, and certain corporate income and expense not allocated to a line of business.
A reconciliation of total operating revenue and operating income by segment to revenue and net income as reported in the consolidated statements of income follows:
The lawsuits described below are for the most part in very preliminary stages, and the outcome of the matters is uncertain. An estimated loss is accrued when it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Unless indicated otherwise, reserves have not been established for these matters.
On September 4, 2007, the District Court certified a (b)(2) class consisting of all plan participants and beneficiaries insured under ERISA governed long-term disability insurance policies/plans issued by Unum Group and the insuring subsidiaries of Unum Group throughout the United States who have had a long-term disability claim denied, terminated, or suspended on or after June 30, 1999 by Unum Group or one or more of its insuring subsidiaries after being subjected to any of the practices alleged in the complaint. The class as certified seeks, among other forms of relief, an opportunity to have denied or terminated claims re-assessed by so-called independent reviewers. The District Court has yet to rule on pending motions by the Company for judgment on the pleading, or for summary judgment. The Sixth Circuit Court of Appeals has since granted the Company’s petition for leave to appeal the class certification order on an interlocutory basis.
During 2004 and 2005, certain of our insurance subsidiaries entered into settlement agreements with various regulators related to disability claims handling practices. The agreements provide for changes in certain of our claims handling procedures and a claim reassessment process available to certain claimants whose claims were denied or closed during specified periods. The agreements will remain in place until the later of January 1, 2007, or the completion of an examination of claims handling practices and an examination of the reassessment process, both of which will be conducted by the lead state regulators. The settlement agreements also provide for a contingent fine of up to $145.0 million on our U.S. insurance subsidiaries in the event that we fail to satisfactorily meet the performance standards in the settlement agreements relating to the examinations referred to above. The parties to the agreements subsequently agreed to extend the reassessment process until December 31, 2007. We have now completed the claims reassessment process, as required by the regulatory settlement agreements. The lead regulators began the examinations described above in June 2007 and on February 20, 2008, met with members of our board of directors and management to report the results and to advise that no fines will be assessed. The final report for the examinations under the regulatory settlement agreements is expected to be completed by mid-2008.
We and our insurance company subsidiaries, as part of our normal operations in managing disability claims, are engaged in claim litigation where disputes arise as a result of a denial or termination of benefits. Most typically these lawsuits are filed on behalf of a single claimant or policyholder, and in some of these individual actions punitive damages are sought, such as claims alleging bad faith in the handling of insurance claims. For our general claim litigation, we maintain reserves based on experience to satisfy judgments and settlements in the normal course. We expect that the ultimate liability, if any, with respect to general claim litigation, after consideration of the reserves maintained, will not be material to our consolidated financial condition. Nevertheless, given the inherent unpredictability of litigation, it is possible that an adverse outcome in certain claim litigation involving punitive damages could, from time to time, have a material adverse effect on our consolidated results of operations in a period, depending on the results of operations for the particular period. We are unable to estimate a range of reasonably possible punitive losses.
additional states including Connecticut, Florida, Maine, Massachusetts, North Carolina, South Carolina, and Tennessee. The subpoenas and/or information requests relate to, among other things, compliance with ERISA relating to our interactions with insurance brokers and to regulations concerning insurance information provided by us to plan administrators of ERISA plans, as well as compliance with state and federal laws with respect to quoting processes, producer compensation, solicitation activities, policies sold to state or municipal entities, and information regarding compensation arrangements with brokers. We will continue to cooperate fully with all investigations.
We are a defendant in an action styled, Palm Tree Computers Systems, Inc. v. ACE USA, et al., which was filed in the Florida state Circuit Court on February 16, 2005. The complaint contains allegations similar to those made in the multidistrict litigation referred to above. The case was removed to federal court and, on October 20, 2005, the case was transferred to the District of New Jersey multidistrict litigation. A motion to remand the case to the state court in Florida remains pending, but no further action has been taken in the case subsequent to the transfer.
opportunity to investigate the allegations and prosecute the action if they believed that the case had merit and warranted their attention. The government declined to prosecute the case and the case became a matter of public record on December 23, 2004. The complaint alleges that we defrauded the government by inducing and or assisting disability claimants to apply for disability benefits from the Social Security Administration (SSA) when we allegedly knew that the claimants were not disabled under SSA criteria. A motion to dismiss the complaint was unsuccessful. We intend to vigorously defend the action.
Given the complexity and scope of our litigation and regulatory matters, it is not possible to predict the ultimate outcome of all pending investigations or legal proceedings or provide reasonable estimates of potential losses, except where noted in connection with specific matters. It is possible that our results of operations or cash flows in a particular period could be materially affected by an ultimate unfavorable outcome of pending litigation or regulatory matters depending, in part, on our results of operations or cash flows for the particular period. We believe, however, that the ultimate outcome of all pending litigation and regulatory matters, after consideration of applicable reserves and rights to indemnification, should not have a material adverse effect on our financial position.
Statutory net income for U.S. life insurance companies is reported in conformity with statutory accounting principles prescribed by the National Association of Insurance Commissioners (NAIC) and adopted by applicable domiciliary state laws. For the years ended December 31, 2007, 2006, and 2005, our U.S. insurance subsidiaries’ statutory combined net income, excluding Tailwind Re and Northwind Re, was $530.8 million, $307.4 million, and $641.8 million, respectively, and statutory combined net gain from operations was $589.1 million, $371.5 million, and $650.0 million, respectively. Statutory capital and surplus, excluding Tailwind Re and Northwind Re, was $2,975.3 million and $4,232.0 million at December 31, 2007 and 2006, respectively. Tailwind Re and Northwind Re, our special purpose financial captive U.S. insurance subsidiaries, had a statutory combined net loss of $111.5 million and a statutory combined net loss from operations of $111.9 million for the year ended December 31, 2007. Statutory capital and surplus for Tailwind Re and Northwind Re at December 31, 2007 was $1,378.7 million. Tailwind Re had statutory net income and statutory net gain from operations of $14.1 million for the year ended December 31, 2006 and statutory capital and surplus of $136.2 million at December 31, 2006.
We also have the ability to draw a dividend from our United Kingdom insurance 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 from Unum Limited during 2008 is approximately £202.1 million, subject to regulatory approval. Regulatory restrictions do not limit the amount of dividends available for distribution from our non-insurance subsidiaries.
Pursuant to the common stock repurchase program previously discussed in Note 11, on January 31, 2008, we repurchased approximately 14.0 million shares for $350.0 million through an accelerated stock repurchase program with a financial counterparty. The repurchased shares will be held in treasury, until such time as they may be reissued or retired.