Our principal domestic office locations include the Wilde Building located at 900 Cottage Grove Road in Bloomfield, Connecticut (our corporate headquarters), Two Liberty Place located at 1601 Chestnut Street in Philadelphia, Pennsylvania, and Evernorth's corporate offices located at and around One Express Way in St. Louis, Missouri. The Wilde Building measures approximately 893,000 square feet and is owned. Express Scripts’ campus measures approximately 1.2 million square feet of leased space and Two Liberty Place measures approximately 322,000 square feet and is leased space.
The pharmacy operations consist of ten order processing pharmacies, five patient contact centers, 26 specialty branch pharmacies and 11 high-volume automated home delivery and specialty dispensing pharmacies located throughout the United States. Dispensing pharmacies are located in Arizona, Delaware, Florida, Indiana, Massachusetts, Missouri, New Jersey, Pennsylvania and Tennessee.
Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to provide information to assist you in better understanding and evaluating our financial condition as of December 31, 2020 compared with December 31, 2019 and our results of operations for 2020 compared with 2019 and 2018 and is intended to help you understand the ongoing trends in our business. We encourage you to read this MD&A in conjunction with our Consolidated Financial Statements included in Part II, Item 8 of this Annual Report on Form 10-K ("Form 10-K") and the “Risk Factors” contained in Part I, Item 1A of this Form 10-K. For comparisons of our results of operations for 2019 compared with 2018, please refer to the previously filed MD&A included in Part II, Item 7 of our Form 10-K for the year ended December 31, 2019.
Unless otherwise indicated, financial information in this MD&A is presented in accordance with accounting principles generally accepted in the United States of America (“GAAP”). See Note 3 to the Consolidated Financial Statements in this Form 10-K for additional information regarding the Company’s significant accounting policies. In some of our financial tables in this MD&A, we present either percentage changes or “N/M” when those changes are so large as to become not meaningful. Changes in percentages are expressed in basis points (“bps”).
We use adjusted income from operations as our principal financial measure of operating performance because management believes it best reflects the underlying results of our business operations and permits analysis of trends in underlying revenue, expenses and profitability. We define adjusted income from operations as shareholders’ net income (or income before taxes for the segment metric) excluding realized investment gains and losses, amortization of acquired intangible assets, special items and prior to 2020, results of Anthem, Inc. and Coventry Health Care Inc. (“Coventry”) (collectively, the “transitioning clients”) (see the “Key Transactions and Business Developments” section of this MD&A for further discussion of transitioning clients). Cigna’s share of certain realized investment results of its joint ventures reported in the International Markets segment using the equity method of accounting are also excluded. Income or expense amounts excluded from adjusted income from operations because they are not indicative of underlying performance or the responsibility of operating segment management include:
The novel strain of coronavirus (“COVID-19”) was declared a pandemic by the World Health Organization in March 2020. From the onset of the COVID-19 pandemic we have taken actions to drive affordability, reduce uncertainty and make health care easier. For customers, these actions include COVID-19 related cost share waivers, expanded access to virtual care, support for access to medication and advocating for whole person health through various behavioral health initiatives. We have supported the medical community by simplifying processes and donating medications for a COVID-19 clinical trial. Cigna and the Cigna Foundation have assisted our communities through several initiatives including the launch of the Brave of Heart Fund that provides financial assistance to survivors of front-line U.S. health care workers who gave their lives in the fight against COVID-19. Cigna also provides emotional support services to their families. The Evernorth team launched ParachuteRx, a drug cost assistance program to certain customers without health coverage due to furlough or job loss. Cigna Medical Group was among the first in the United States to administer antibody therapies to high-risk COVID-19 patients in a non-hospital setting. Cigna also partnered with other organizations on digital access to vaccination records for those who have received the COVID-19 vaccine to facilitate return to work and daily activities.
We have continued to support our workforce by enabling remote work where appropriate, and implemented enhanced safety protocols and programs that support the health and mental well-being of our employees. We have continued to execute our business continuity plans over our operations such as leveraging purchasing volume across the pharmaceutical supply chain in order to mitigate risk associated with prescription drug supply. We did not incur significant disruptions to our operations during 2020 from COVID-19.
While it is difficult to predict the impact of the COVID-19 pandemic on our results beyond 2020, we believe that such results may be impacted by, among other things, higher medical costs to treat those affected by the virus, lower customer volumes due to rising unemployment, lower future risk adjustment revenue due to disrupted care impeding appropriate documentation of customer risk profiles in our Medicare Advantage business, the return of costs for those who had previously deferred care, vaccine costs, continued cost share waivers, the potential for continued deferral of care, or lower investment returns.
The situation surrounding COVID-19 remains fluid, and we are actively managing our response and assessing impacts to our financial position and operating results, as well as adverse developments in our business.
See Note 1 to the Consolidated Financial Statements for a description of our segments. Unless otherwise specified, the commentary provided below describes our results for the year ended December 31, 2020 compared with the year ended December 31, 2019. Results for 2018 only include Express Scripts for the period following the acquisition on December 20, 2018.
Summarized below are certain key measures of our performance by segment for the years ended December 31:
Unless indicated otherwise, the commentary presented below, and in the segment discussions that follow, compare results for the year ended December 31, 2020 with results for the year ended December 31, 2019.
Shareholders’ net income increase was driven by the gain on sale of the Group Disability and Life business, lower amortization charges and higher adjusted income from operations, partially offset by the absence of earnings from transitioning clients.
Pharmacy revenues increased, reflecting the transition of U.S. Medical's customers to Evernorth, higher claims volumes, driven by the Evernorth collaboration with Prime Therapeutics and an increase in pricing, primarily due to inflation on branded drugs. These factors were substantially offset by the absence of revenues from the transitioning clients and, to a lesser extent, an increase in the generic fill rate. See the "Evernorth segment" section of this MD&A for further discussion of pharmacy revenues.
Pharmacy and other service costs increased, reflecting the transition of U.S. Medical's customers to Evernorth, higher claims volumes, driven by the Evernorth collaboration with Prime Therapeutics and an increase in pricing, primarily due to inflation on branded drugs. These factors were substantially offset by the impact of the absence of the transitioning clients and, to a lesser extent, effective management of supply chain and the favorable impact of the mix of claims.
Selling, general and administrative expenses were essentially flat, primarily reflecting lower charges in 2020 for the organizational efficiency plan and the risk corridors claim recovery recognized in the third quarter of 2020 (see the "Risk Mitigation Programs - Individual ACA Business" section of this MD&A and Note 21 to the Consolidated Financial Statements for further discussion), offset by the return of the health insurance industry tax.
Risk Adjustment. At the end of each program year the risk adjustment balances are subject to audit by CMS through the RADV program. RADV audits for the 2017 and 2018 benefit years have been completed, subject to the error rates appeal period. Final settlement for the 2017 and 2018 benefit years is expected in 2021 and 2022, respectively. Based on the information currently available, we have adjusted our risk adjustment balances to reflect our estimate of expected outcome as of December 31, 2020 and December 31, 2019.
Risk adjustment program charges of $(26) million pre-tax were fully offset by RADV adjustment favorability of $26 million pre-tax for 2020, compared with net charges of $162 million pre-tax ($126 million after-tax) in 2019 and $147 million pre-tax ($116 million after-tax) in 2018.
Dividends from our insurance, Health Maintenance Organization (“HMO”) and foreign subsidiaries are subject to regulatory restrictions. See Note 19 to the Consolidated Financial Statements for additional information regarding these restrictions. Most of Evernorth's subsidiaries are not subject to regulatory restrictions regarding dividends and therefore provide significant financial flexibility to Cigna.
Cash flows for the years ended December 31 were as follows:
The following discussion explains variances in the various categories of cash flows for the year ended December 31, 2020 compared with the same period in 2019.
Cash flows from investing activities increased, primarily due to the net proceeds from the sale of the Group Disability and Life business, partially offset by higher net investment purchases.
At December 31, 2020, our debt-to-capitalization ratio was 39.5%, a decline from 45.2% at December 31, 2019.
In connection with the sale of the Group Disability and Life business that closed on December 31, 2020, we deployed approximately $3.0 billion to debt repayment by: (i) repaying in full our $1.4 billion 364-Day Term Loan Credit Agreement entered into on April 1, 2020, on December 31, 2020; (ii) redeeming in full the $1.0 billion aggregate principal amount of Cigna’s Senior Floating Rate Notes due 2021 on January 15, 2021 at a redemption price calculated in accordance with the terms and conditions of the indenture governing the Notes; and (iii) repaying certain of our outstanding commercial paper balances in January 2021.
Cigna also maintains a commercial paper program and may issue short-term, unsecured commercial paper notes privately placed on a discount basis through certain broker dealers at any time not to exceed $4.25 billion. The net proceeds of issuances have been and are expected to be used for general corporate purposes. The commercial paper program had approximately $1.0 billion outstanding at December 31, 2020 at an average interest rate of 0.2%.
See Note 7 to the Consolidated Financial Statements for further information on our credit agreements and commercial paper program.
We maintain sufficient liquidity to meet our cash needs through our cash and cash equivalents balances, cash flows from operations, commercial paper program, credit agreements and the issuance of long-term debt and equity securities. As of December 31, 2020, we had $4.25 billion of undrawn committed capacity under our revolving credit agreements (which amounts are available for general corporate purposes, including providing liquidity support for our commercial paper program), $3.2 billion of remaining capacity under our commercial paper program and $10.5 billion in cash and short-term investments, approximately $5.2 billion of which was held by the parent company or certain nonregulated subsidiaries. We actively monitor our debt obligations and engage in issuance or redemption activities as needed in accordance with our capital management strategy. A description of our outstanding debt can be found in Note 7 to the Consolidated Financial Statements.
On January 6, 2021, Cigna initiated a quarterly cash dividend and declared the first quarterly cash dividend of $1.00 per share of Cigna common stock to be paid on March 25, 2021 to shareholders of record as of March 10, 2021. Cigna currently intends to pay regular quarterly dividends, with future declarations subject to approval by its Board of Directors and the Board's determination that the declaration of dividends remains in the best interests of Cigna and its shareholders. The decision of whether to pay future dividends and the amount of any such dividends will be based on the Company's financial position, results of operations, cash flows, capital requirements, the requirements of applicable law and any other factors the Board of Directors may deem relevant.
As of December 31, 2020, our unfunded pension liability was $977 million, an increase of $104 million from December 31, 2019, primarily attributable to a decrease in discount rates of approximately 80 basis points, partially offset by investment asset returns. In 2020, we made an immaterial pension contribution as required under the Pension Protection Act of 2006. We expect the required contributions for 2021 to be immaterial. See Note 15 to the Consolidated Financial Statements for additional information.
Risks to our liquidity and capital resources outlook include cash projections that may not be realized and the demand for funds could exceed available cash if our ongoing businesses experience unexpected shortfalls in earnings or we experience material adverse effects from one or more risks or uncertainties described more fully in the "Risk Factors" section of this Form 10-K. Though we believe we have adequate sources of liquidity, significant disruption or volatility in the capital and credit markets could affect our ability to access those markets for additional borrowings or increase costs. In addition to the sources of liquidity discussed above, the parent company can borrow an additional $1.7 billion from its subsidiaries without further approvals as of December 31, 2020.
(1)Amounts include scheduled interest payments and current maturities of long-term debt. Finance leases are included in long-term debt and primarily represent obligations for information technology network storage, servers and equipment. See Note 18 to the Consolidated Financial Statements for information regarding finance leases. See Note 7 to the Consolidated Financial Statements for information regarding our long-term debt.
•Long-term debt includes scheduled interest payments and current maturities of long-term debt. See Note 7 to the Consolidated Financial Statements for information regarding long-term debt. Finance leases are included in long-term debt and primarily represent obligations for information technology network storage, servers and equipment. See Note 18 to the Consolidated Financial Statements for information regarding finance leases.
The table above excludes the liabilities for uncertain tax positions because we cannot reasonably estimate the timing of such future payments. In the event we are unable to sustain all of our $1.2 billion of uncertain tax positions it could result in future tax payments of approximately $900 million. See Note 20 to the Consolidated Financial Statements for additional information on uncertain tax positions.
(1)See Note 11 to the Consolidated Financial Statements for additional information.
Our estimated future service commitments primarily represent contracts for certain outsourced business processes and information technology maintenance and support. We generally have the ability to terminate these agreements, but do not anticipate doing so at this time. Purchase obligations exclude contracts that are cancellable without penalty and those that do not contractually require minimum levels of goods or services to be purchased.
We are contingently liable for various financial and other guarantees provided in the ordinary course of business. See Note 21 to the Consolidated Financial Statements for additional information on guarantees.
•it requires assumptions to be made that were uncertain at the time the estimate was made; and
•changes in the estimate or different estimates that could have been selected could have a material effect on our consolidated results of operations or financial condition.
As discussed in the executive overview of this MD&A, the COVID-19 pandemic has pervasively impacted the economy, financial markets and the global health care delivery systems. If the impact of the COVID-19 pandemic beyond 2020 is worse than management's current projections, these adverse effects to our business could impact the estimated fair value of our reporting units.
The Company conducts its quantitative evaluation for goodwill impairment at least annually during the third quarter at the reporting unit level and performs qualitative impairment assessments on a quarterly basis to determine if events or changes in circumstances indicate that it is more likely than not that the carrying value of a reporting unit exceeds its estimated fair value.
We completed our normal annual evaluations for impairment of goodwill and intangible assets during the third quarter of 2020. The evaluations indicated that the fair value estimates of our reporting units exceed their carrying values by significant margins. Changes in assumptions concerning future financial results or other underlying assumptions, including macroeconomic factors, government legislation, changes in the competitive landscape or other market conditions could impact our ability to achieve profitability projections. If we consistently do not achieve our earnings and cash flow projections or our cost of capital rises significantly, the assumptions and estimates underlying the goodwill and intangible asset impairment evaluations could be adversely affected and result in future impairment charges that would negatively impact our operating results and financial position.
We evaluate tax positions to determine whether the benefits are more likely than not to be sustained on audit based on their technical merits. The Company establishes a liability if the probability that the position will be sustained is 50% or less. For uncertain positions that management believes are more likely than not to be sustained, the Company recognizes a liability based upon management's estimate of the most likely settlement outcome with the taxing authority. These amounts primarily relate to federal and state uncertain positions of the value and timing of deductions and uncertain positions of attributing taxable income to states
Balances that are included in the Consolidated Balance Sheets are as follows (in millions):
Unpaid claims and claim expenses in U.S. Medical are primarily impacted by assumptions related to completion factors and medical cost trend. Variation of actual results from either assumption could impact the unpaid claims balance as noted below. A large number of factors may cause the medical cost trend to vary from the Company’s estimates, including: changes in health management practices, changes in the level and mix of benefits offered and services utilized, and changes in medical practices. Completion factors may be affected if actual claims submission rates from providers differ from estimates (that can be influenced by a number of factors, including provider mix and electronic versus manual submissions), or if changes to the Company’s internal claims processing patterns occur.
A 100 basis point increase in the medical cost trend rate would increase this liability by approximately $45 million, resulting in a decrease in net income of approximately $35 million after-tax, and a 50 basis point decrease in completion factors would increase this liability by approximately $90 million, resulting in a decrease in net income of approximately $70 million after-tax.
If the derived interest rates used to calculate fair value increased by 100 basis points, the fair value of the total debt security portfolio of $18 billion would decrease by approximately $1.3 billion, resulting in an after-tax decrease to shareholders’ equity of approximately $0.8 billion as of December 31, 2020.
Evernorth includes a broad range of coordinated and point solution health services, including pharmacy solutions, benefits management solutions, care solutions and intelligence solutions. As described in the introduction to Segment Reporting, Evernorth performance is measured using the below metrics:
•Adjusted gross profit and pre-tax adjusted income from operations, which exclude the impact of special items.
•Adjusted pharmacy script volume is calculated by multiplying the total non-specialty network scripts filled through 90-day programs and home delivery scripts by three and counting all other network and specialty scripts as one script.
•Generic fill rate is defined as the total number of generic scripts divided by the total overall scripts filled. Generally, higher generic fill rates reduce revenues, as generic drugs are typically priced lower than the branded drugs they replace. However, as ingredient cost paid to pharmacies on generic drugs is incrementally lower than the price charged to our clients, higher generic fill rates generally have a favorable impact on our gross profit. The home delivery generic fill rate is currently lower than the network generic fill rate as fewer generic substitutions are available among maintenance medications (such as therapies for chronic conditions) commonly dispensed from home delivery pharmacies as compared to acute medications that are primarily dispensed by pharmacies in our retail networks.
The key factors that impact Evernorth revenues and costs of revenues are volume, mix of claims and price. These key factors are discussed further below. See Note 3 to the Consolidated Financial Statements included in this Form 10-K for additional information on revenue and cost recognition policies for this segment.
•As our clients’ claim volumes increase or decrease, our resulting revenues and cost of revenues correspondingly increase or decrease. Our gross profit could also increase or decrease as a result of changes in purchasing discounts.
•Our client contract pricing is impacted by our ongoing ability to negotiate supply chain contracts for pharmacy network, pharmaceutical and wholesaler purchasing and manufacturer rebates. As we seek to improve the effectiveness of our integrated solutions for the benefit of our clients, we are continuously innovating and optimizing the supply chain. Our gross profit could also increase or decrease as a result of supply chain initiatives implemented. Inflation also impacts our pricing because most of our contracts provide that we bill clients and pay pharmacies based on a generally recognized price index for pharmaceuticals. Therefore, the rate of inflation for prescription drugs and our efforts to manage this inflation for our clients can affect our revenues and cost of revenues.
(2)Non-specialty network scripts filled through 90-day programs and home delivery scripts are multiplied by three. All other network and specialty scripts are counted as one script.
Adjusted network revenues. The increase reflected the transition of U.S. Medical’s customers, higher claims volume, due to our collaboration with Prime Therapeutics, and increased prices due to inflation on branded drugs. These favorable effects were partially offset by claims mix due to the increase in the generic fill rate.
•percentage of Medicare Advantage customers in plans eligible for quality bonus payments;
Adjusted revenues. The increase for the year ended December 31, 2020 compared with 2019 reflects customer growth in our Medicare Advantage and U.S. Commercial insured businesses, as well as higher premium rates due to anticipated underlying medical cost trend and the resumption of the health insurance industry tax. These favorable effects were partially offset by the impact of premium relief programs for clients beginning in the second quarter of 2020 in response to significantly lower than historical utilization as individuals deferred care due to the COVID-19 pandemic.
Our unpaid claims and claim expenses liability was higher as of December 31, 2020 compared with December 31, 2019, primarily due to customer growth in our Medicare Advantage and U.S. Commercial insured businesses.
•has access to our provider network for covered services under their medical plan; or
•selling, general and administrative expense as a percentage of revenues (expense ratio and acquisition cost ratio); and
Adjusted revenues increased mainly due to business growth in Asia and Europe, partially offset by premium relief programs, primarily in Europe and unfavorable foreign currency movements.
The expense ratio (excluding acquisition costs) increased, reflecting strategic investments and the unfavorable impact of premium relief programs.
Sale of U.S. Group Disability and Life Business. As discussed further in the Executive Overview section of this MD&A, we sold our U.S. Group Disability and Life business on December 31, 2020. Because this business constituted the vast majority of the segment, going forward, we would expect a substantial decline in adjusted revenues and adjusted income from operations in this segment.
The following table presents our investment asset portfolio excluding separate account assets as of December 31, 2020 and December 31, 2019. Additional information regarding our investment assets is included in Notes 11, 12, 13 and 14 to the Consolidated Financial Statements.
(1)On December 31, 2020, Cigna completed the sale of its U.S. Group Disability and Life business and transferred a total of $8.4 billion of investments to New York Life Insurance Company as part of this divestiture. The investment assets transferred to New York Life were primarily debt securities and, to a lesser extent, commercial mortgage loans. The table above includes $7.7 billion as of December 31, 2019 of investments associated with this business that was previously held for sale.
Investments in debt securities include publicly-traded and privately-placed bonds, mortgage and other asset-backed securities and preferred stocks redeemable by the investor. These investments are classified as available for sale and are carried at fair value on our balance sheet. Additional information regarding valuation methodologies, key inputs and controls is included in Note 12 to the Consolidated Financial Statements. More detailed information about debt securities by type of issuer and maturity dates is included in Note 11 to the Consolidated Financial Statements.
The following table reflects our portfolio of debt securities by type of issuer as of December 31, 2020 and December 31, 2019.
As a result of the U.S. Group Disability and Life business divestiture, $7.8 billion of debt securities were transferred to New York Life on December 31, 2020, see Note 5 to the Consolidated Financial Statements for further information. The debt securities transferred to New York Life were primarily Corporate and State and local government sectors. This decrease in our debt securities portfolio was partially offset by an increase in valuations due to decreasing yields and net purchase activity during the year.
As a result of the U.S. Group Disability and Life business divestiture, $0.6 billion of commercial mortgage loans were transferred to New York Life on December 31, 2020, see Note 5 to the Consolidated Financial Statements for further information. Loans are secured by high quality commercial properties, located in strong institutional markets, and are generally made at less than 65% of the property’s value at origination of the loan. Property value, debt service coverage, quality, building tenancy and stability of cash flows are all important financial underwriting considerations. We hold no direct residential mortgage loans and do not originate or service securitized mortgage loans.
We participate in an insurance joint venture in China with a 50% ownership interest. We account for this joint venture on the equity method of accounting and report our share of the net assets of $0.8 billion in Other assets. Our 50% share of the investment portfolio supporting the joint venture's business is approximately $5.6 billion, primarily invested in Chinese corporate and government debt securities diversified by issuer, industry and geography, as appropriate. To a lesser extent and consistent with its investment strategy, the joint venture is invested in Chinese equity investments comprised of approximately 50% equity mutual funds, with the remainder invested in equity securities and private equity partnerships. We participate in the approval of the joint venture's investment strategy and continuously review its execution. There were no investments with a material unrealized loss as of December 31, 2020.
The impact of COVID-19 on the economy, despite unprecedented monetary and fiscal support, and the uncertainty as to the strength and sustainability of the recovery prior to a widely available vaccine, continues to dominate financial markets. The low interest rate environment continues to pressure income from both short-term and longer-term investments. U.S. treasury rates remain near all-time lows and the wider market credit spreads experienced during the beginning of the second quarter of 2020 have meaningfully narrowed, resulting in historically low yields for investment grade assets. We continue to actively monitor the economic impact of the pandemic, as well as fiscal and monetary responses, and their potential impact on the portfolio. Net investment income projections into 2021 reflect continued market volatility and portfolio impacts, particularly in certain sectors such as aviation, hospitality and energy, as well as other areas most severely impacted by COVID-19. Future realized and unrealized investment results will be driven largely by market conditions that exist when a transaction occurs or at the reporting date. These future conditions are not reasonably predictable; however, we believe that the vast majority of our investments will continue to perform under their contractual terms. Based on our strategy to match the duration of invested assets to the duration of insurance and contractholder liabilities, we expect to hold a significant portion of these assets for the long-term. Although future impairment losses resulting from interest rate movements and credit deterioration due to both investment-specific and the global economic uncertainties discussed above remain possible, we do not expect these losses to have a material adverse effect on our financial condition or liquidity.
•changes in the fair values of insurance-related assets and liabilities because their primary risks are insurance rather than market risk;
•changes in the fair values of investments recorded using the equity method of accounting and liabilities for pension and other postretirement and postemployment benefit plans (and related assets); and
•Foreign currency exchange rate risk of the U.S. dollar, net of derivatives used for hedging, is primarily to the South Korean won, Chinese yuan renminbi and New Zealand dollar. An unfavorable change in exchange rates reduces the carrying value of net assets denominated in foreign currencies.
•Investment/liability matching. We generally select investment assets with characteristics (such as duration, yield, currency and liquidity) that correspond to the underlying characteristics of our related insurance and contractholder liabilities so that we can match the investments to our obligations. Shorter-term investments generally support shorter-term life and health liabilities. Medium-term, fixed-rate investments support interest-sensitive and health liabilities. Longer-term investments generally support products with longer payout periods such as annuities.
As described in Note 17 to the consolidated financial statements, as of December 31, 2020, goodwill is primarily reported in the Evernorth segment ($33.8 billion), the U.S. Medical segment ($10.4 billion) and, to a lesser extent, the International Markets segment ($0.4 billion). Management conducts its annual quantitative evaluation for goodwill impairment during the third quarter at the reporting unit level and writes it down through shareholders’ net income if impaired. On a quarterly basis, management performs a qualitative impairment assessment to determine if events or changes in circumstances indicate that it is more likely than not that the carrying value of a reporting unit exceeds its estimated fair value. Fair value of a reporting unit is generally estimated based on either a market approach or a discounted cash flow analysis using assumptions that management believes a hypothetical market participant would use to determine a current transaction price. The significant assumptions and estimates used in determining fair value include the discount rate and future cash flows. A discount rate is selected to correspond with each reporting unit's weighted average cost of capital, consistent with that used for investment decisions considering the specific and detailed operating plans and strategies within that reporting unit. Projections of future cash flows for each reporting unit are consistent with management’s annual planning process for revenues, pharmacy costs, benefits expenses, operating expenses, taxes, capital levels and long-term growth rates.
Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures included testing the effectiveness of controls relating to management’s goodwill impairment assessment, including controls over management’s methodology, inputs and assumptions used in its goodwill impairment assessment of the Evernorth and U.S. Medical reporting units. These procedures also included, among others, testing management’s process for determining the fair value estimate of the reporting units; evaluating the appropriateness of the discounted cash flow analysis; testing the completeness and accuracy of underlying data used in the discounted cash flow analysis; and evaluating the key inputs and significant assumptions related to the discount rate and the projections of future cash flows. The underlying inputs and assumptions used in the development of the discount rate and the projections of future cash flows that were evaluated related to the weighted average cost of capital, revenues, pharmacy costs, benefits expenses, operating expenses, capital levels and long-term growth rates. Evaluating the reasonableness of management’s inputs and assumptions involved considering (i) the current and past performance of the reporting unit, (ii) the consistency of the discount rate and long-term growth rates with external market and industry data, and (iii) whether these assumptions were consistent with evidence obtained in other areas of the audit. Professionals with specialized skill and knowledge were used to assist in the evaluation of certain significant assumptions related to the discount rate.
(1)Par value per share, $0.01; shares issued, 390 million as of December 31, 2020 and 386 million as of December 31, 2019; authorized shares, 600 million.
(1)See Note 3 for further information about the Company's adoption of new credit loss guidance (ASU 2016-13).
(1)Includes $743 million reported in Assets of business held for sale as of January 1, 2020. See table below for Cash, cash equivalents and restricted cash reconciliation.
The following table provides a reconciliation of cash, cash equivalents and restricted cash and cash equivalents reported within the Consolidated Balance Sheets to the totals above:
In connection with the launch of Evernorth in the third quarter 2020, two reporting segments were re-named: Health Services was renamed as Evernorth and Integrated Medical was renamed as U.S. Medical. In addition, two of our operating segments were re-named: Commercial and Government were renamed as U.S. Commercial and U.S. Government, respectively. There were no changes to the underlying businesses reported in the segments.
U.S. Medical includes Cigna’s U.S. Commercial and U.S. Government businesses that provide comprehensive medical and coordinated solutions to clients and customers. U.S. Commercial products and services include medical, pharmacy, behavioral health, dental, vision, health advocacy programs and other products and services for insured and self-insured clients. U.S. Government solutions include Medicare Advantage, Medicare Supplement, and Medicare Part D plans for seniors, Medicaid plans, and individual health insurance plans both on and off the public exchanges.
International Markets includes supplemental health, life and accident insurance products and health care coverage in our international markets, as well as health care benefits for globally mobile employees of multinational organizations.
•Group Disability and Life provides group long-term and short-term disability, group life, accident, voluntary and specialty insurance products and related services. On December 31, 2020, Cigna completed the sale of its U.S. Group Disability and Life business to New York Life Insurance Company. See Note 5 for additional information.
•Corporate-Owned Life Insurance (“COLI”) offers permanent insurance contracts sold to corporations to provide coverage on the lives of certain employees for the purpose of financing employer-paid future benefit obligations.
Corporate reflects amounts not allocated to operating segments, including net interest expense (defined as interest on corporate debt less net investment income on investments not supporting segment and other operations), certain litigation matters, expense associated with our frozen pension plans, charitable contributions, severance, certain overhead and project costs and intersegment eliminations for products and services sold between segments.
All aspects of our business were impacted in fiscal year 2020 by the ongoing coronavirus ("COVID-19") pandemic. The Company initiated several actions to assist our customers, clients, health care providers and employees in this time of crisis. As described below, management has taken a number of steps to assess the impact on our business, including the financial reporting implications associated with this pandemic.
Amounts recorded in the Consolidated Financial Statements necessarily reflect management’s estimates and assumptions about medical costs, investment and receivable valuations, interest rates and other factors. Significant estimates are discussed throughout these Notes; however, actual results could differ from those estimates. The impact of a change in estimate is generally included in earnings in the period of adjustment.
The Company adopted Accounting Standards Update (“ASU”) No. 2016-13, Measurement of Credit Losses on Financial Instruments, and its related amendments, as of January 1, 2020, using the modified retrospective transition method. The new standard requires the use of a current expected credit loss impairment model to develop and recognize credit losses for financial instruments at amortized cost when the asset is first originated or acquired, and each subsequent reporting period. The new standard also eliminates the concept
The Company adopted ASU 2017-04, Simplifying the Test for Goodwill Impairment, as of January 1, 2020, on a prospective basis. The new standard eliminates the need to determine the fair value of individual assets and liabilities of a reporting unit to measure a goodwill impairment. There was no impact of adopting this new standard to the Company’s financial statements because our quarterly qualitative assessments did not result in a triggering event for impairment of goodwill, and the results of our annual quantitative evaluation performed in the third quarter of 2020 indicated that the estimated fair value of each of our reporting units exceeded their carrying values by significant margins.
•Optional, effective upon issuance (March 12, 2020) through December 31, 2022.
•Provides temporary optional relief to ease the potential burden of accounting for reference rate reform under existing GAAP. Amendments are elective and apply to all entities that have contracts, hedging relationships and other transactions that reference interbank offered rates, including LIBOR, expected to be discontinued for new contracts by December 31, 2021.
•Permits optional expedients and exceptions to simplify the accounting for contract modifications, hedging arrangements and held-to-maturity investments, when certain changes are made to a contract or instrument to facilitate reference rate reform.
To date, the Company has identified minimal exposure to LIBOR and does not anticipate that LIBOR’s phase-out will have a material impact on its operations or financial results.
•Effective date of January 1, 2023 for Cigna (early adoption permitted) and requires the following key provisions (for insurance entities that issue long-duration contracts)
•Deferred policy acquisition costs ("DAC") related to long-duration insurance contracts to be amortized on a constant-level basis over the expected term of the related contracts. Other related deferred or capitalized balances (such as unearned revenue liability and value of business acquired) may use this simplified amortization method.
•Changes to the liability for future policy benefits to use a modified retrospective approach applied to all outstanding contracts on the basis of their existing carrying amounts as of the beginning of the earliest period presented, with an option to elect a full retrospective transition under certain criteria. Remeasuring the future policy benefits liability for the discount rate to be recorded through accumulated other comprehensive income at transition.
•DAC to follow the transition method used for future policyholder benefits.
•DAC amortization will be on a constant level basis over the expected term of the related contracts, and no longer tied to the emergence of profit on such contracts.
•The Company continues to monitor developing implementation guidance, particularly with respect to reinsured blocks of business.
•Universal life products are deferred and amortized in proportion to the present value of total estimated gross profits over the expected lives of the contracts.
Other current assets consist primarily of prepaid expenses, accrued investment income and the current portion of reinsurance recoverables. Other non-current assets consist primarily of GMIB assets, operating lease right-of-use assets and various other insurance-related assets. See Note 10 for the Company’s accounting policy for GMIB assets and Note 18 for the Company's accounting policy related to leases. Additionally, other non-current assets include the carrying value of our equity-method investments in joint ventures in China, India, the U.S. and other foreign jurisdictions.
The Company classifies assets and liabilities as held for sale (“disposal group”) when management commits to a plan to sell the disposal group, the sale is probable within one year and the disposal group is available for immediate sale in its present condition. The Company considers various factors, particularly whether actions required to complete the plan indicate it is unlikely that significant changes to the plan will be made or the plan will be withdrawn. Assets held for sale are measured at the lower of carrying value or fair value less costs to sell. Any loss resulting from the measurement is recognized in the period the held for sale criteria are met. Conversely, gains are not recognized until the date of the sale. When the disposal group is classified as held for sale, depreciation and amortization ceases and the Company tests the assets for impairment.
Redeemable noncontrolling interest on our Consolidated Balance Sheets represents the noncontrolling shareholders preferred and common stock interests of the Company's consolidated less than fully owned subsidiaries. Those shareholders may choose to require the Company to purchase their redeemable noncontrolling interest. We also have the right to require those shareholders to sell their redeemable noncontrolling interest to us. The redeemable noncontrolling interest was recorded at fair value as of the date of purchase. When the estimated redemption value for a redeemable noncontrolling interest exceeds its carrying value, an adjustment to increase the redeemable noncontrolling interest is recorded with an offsetting reduction to retained earnings or additional paid-in capital in the absence of retained earnings. When an adjustment is made to the carrying value of the redeemable noncontrolling interest, the calculation of shareholders’ net income per share will be adjusted if the redemption value exceeds fair value.
Accrued expenses (current) primarily includes financial and performance guarantee liabilities under pharmacy contracts (see section I), management compensation and various insurance-related liabilities, including experience-rated refunds, reinsurance contracts and the risk adjustment and minimum medical loss ratio rebate accruals under The Patient Protection and Affordable Care Act (the “ACA”). Other non-current liabilities include obligations for pension (see Note 15), GMIB contract liabilities (see Note 10), lease liabilities (see Note 18) and self-insured exposures not expected to be settled within one year.
The Company accrues for legal and regulatory matters when a loss contingency is both probable and estimable. The estimated loss is generally recorded in Selling, general and administrative expenses and represents the Company’s best estimate of the loss contingency. If the loss estimate is a range, the Company accrues the minimum amount in the range if no amount is better than any other estimated amount in the range. Legal costs to defend the Company’s litigation and arbitration matters are expensed as incurred in cases that the Company cannot reasonably estimate the ultimate cost to defend. If the Company can reasonably estimate the cost to defend, a liability for these costs is accrued when the claim is reported. Litigation and legal or regulatory matters that the Company has identified with a reasonable possibility of material loss are described in Note 21.
The Company generally conducts its international business through foreign operating entities that maintain assets and liabilities in local currencies that are their functional currencies. The Company uses exchange rates as of the balance sheet date to translate assets and liabilities into U.S. dollars. Translation gains or losses on functional currencies, net of applicable taxes, are recorded in Accumulated other comprehensive income (loss). The Company uses average monthly exchange rates during the year to translate revenues and expenses into U.S. dollars.
Premium revenue also includes an adjustment to reflect the estimated effect of rebates due to customers under the commercial minimum medical loss ratio provisions of the ACA. These rebates are settled in the subsequent calendar year.
Premiums received for the Company’s Medicare Advantage plans and Medicare Part D products from the Centers for Medicare and Medicaid Services (“CMS”) and customers are recognized as revenue ratably over the contract period. CMS provides risk-adjusted premium payments for Medicare Advantage Plans and Medicare Part D products based on our customer demographics and wellness. The Company recognizes periodic changes to risk-adjusted premiums as revenue when the amounts are determinable and collection is reasonably assured. Additionally, Medicare Part D premiums include payments from CMS for risk-sharing adjustments. These
adjustments are estimated quarterly based on claim experience by comparing actual incurred drug benefit costs to estimated costs submitted in original contracts. These adjustments may result in more or less revenue from CMS. Final revenue adjustments are determined and settled with CMS in the year following the contract year. Premium revenue may also include an adjustment to reflect the estimated effect of rebates due to CMS under the Medicare Advantage and Medicare Part D minimum medical loss ratio provisions of the ACA.
The ACA prescribed three programs to mitigate the risk for participating health insurance companies selling coverage on the public exchanges: risk adjustment, reinsurance and risk corridor. The reinsurance and ACA risk corridor programs expired at the end of 2016, while the permanent risk-adjustment program continues.
•Charges for mortality, administration and policy surrender are recognized in premiums as earned. Administrative fees are considered earned when services are provided.
In return for fees from these clients, the Company provides access to our participating provider networks and other services supporting benefit management, including claims administration, behavioral health services, disease management, utilization management and cost containment programs. In general, the Company considers these services to be a combined performance obligation to provide cost effective administration of plan benefits over the contract period. Fees are billed, due and recognized monthly at contracted rates based on current membership or utilization. This recognition pattern aligns with the benefits from services provided to clients. These revenues are reported in Fees and other revenues in the Consolidated Statements of Income.
Certain health benefit management contracts require the Company to share the results of medical cost experience that differ from specified targets. This variable consideration is estimated at contract inception and adjusted through the contract period. The estimated profits and costs are recognized net in Fees and other revenues.
Accounting policy. The Company's accounts receivable balances primarily include amounts due from clients, third-party payors, customers and pharmaceutical manufacturers, and are presented net of allowances. The Company's adoption of ASU 2016-13, Measurement of Credit Losses on Financial Instruments (ASU 2016-13), as of January 1, 2020 did not have a material impact on our accounts receivable credit loss allowance, as there were no substantive changes to our methodology for this class of assets. The allowance for expected credit losses for current accounts receivable is based primarily on past collections experience relative to the length of time receivables are past due; however, when available evidence reasonably supports an assumption that counterparty credit risk over the expected payment period will differ from current and historical payment collections, a forecasting adjustment is reflected in the allowance for expected credit losses.
All other (non-credit) allowances are based on the current status of each customer's receivable balance as well as current economic and market conditions and a variety of other factors, including the length of time the receivables are past due, the financial health of customers and our past experience. We bill pharmaceutical manufacturers based on management's interpretation of contractual terms and estimate a contractual allowance based on the best information available at the time a claim is processed. Contractual allowances for certain rebates receivable from pharmaceutical manufacturers are determined by reviewing payment experience and specific known items that could be adjusted under contract terms. The Company's estimation process for contractual allowances for pharmaceutical manufacturer receivables generally results in an allowance for balances outstanding greater than 90 days. Contractual allowances for certain receivables from third-party payors are based on their contractual terms and are estimates based on the Company's best information available at the time revenue is recognized.
These receivables are reported net of our allowances of $1.2 billion as of December 31, 2020 and $778 million as of December 31, 2019. The allowances as of December 31, 2020 include contractual allowances for certain rebates receivable with pharmaceutical manufacturers of $757 million and contractual allowances from third-party payors of $208 million based upon the contractual payment terms. The remaining allowances of $224 million include allowances, discounts and claims adjustments issued to customers in the form of client credits, an allowance for current expected credit losses and other non-credit adjustments.
On December 31, 2020, Cigna completed the sale of its U.S. Group Disability and Life business to New York Life Insurance Company for cash proceeds of $6.2 billion. The Company recognized a gain of $4.2 billion pre-tax ($3.2 billion after-tax), which includes recognition of previously unrealized capital gains on investments sold (see Note 14 for further information).
The assets and liabilities of business held for sale were as follows:
On December 20, 2018, Cigna acquired Express Scripts Holding Company (“Express Scripts") through a series of mergers for a purchase price of $52.8 billion, which consisted of cash and stock consideration. The purchase price was allocated to the tangible and intangible net assets acquired based on management’s final estimates of their fair values. Total goodwill of $38.4 billion was recorded, of which $33.7 billion resides in the Company’s Evernorth segment, with the remainder in the Company’s U.S. Medical segment. The results of Express Scripts have been included in the Company’s Consolidated Financial Statements from the date of the acquisition. Revenues of Express Scripts included in the Company’s results for 2018 approximated $2.6 billion and Express Scripts’ results of operations were immaterial to Cigna’s net income.
The Company has incurred costs detailed in the table below related to the acquisition and integration of Express Scripts, the terminated merger with Anthem, Inc. (“Anthem”), the sale of the U.S. Group Disability and Life business and other transactions.
The following outstanding employee stock options were not included in the computation of diluted earnings per share because their effect was anti-dilutive.
Debt Exchange. In the fourth quarter of 2019, the Company settled an exchange of approximately $12.7 billion of Notes issued by Express Scripts Holding Company, Medco Health Solutions, Inc. and Cigna Holding Company (formerly named Cigna Corporation) for privately placed Notes issued by Cigna with the same interest rates and maturities and comparable other terms. We initiated an exchange offer to register such debt in the second quarter of 2020 and completed the exchange in July 2020.
Debt Repayment. In 2020, the Company repaid $8.0 billion of long-term debt, including the $3.5 billion debt tender and redemption described above. On December 31, 2020 Cigna issued a notice of full redemption to the holders of Cigna’s Senior Floating Rate Notes due 2021 (the “Notes”) pursuant to which Cigna redeemed the entire $1.0 billion aggregate principal amount of the Notes outstanding on January 15, 2021 at a redemption price calculated in accordance with the terms and conditions of the indenture governing the Notes.
Revolving Credit Agreements. Cigna has a revolving credit and letter of credit agreement that matures in April 2023 and is diversified among 23 banks. Cigna can borrow up to $3.25 billion for general corporate purposes, with up to $500 million available for issuance of letters of credit. This revolving credit agreement also includes an option to increase the facility amount up to $500 million and an option to extend the termination date for additional one-year periods, subject to consent of the banks.
Commercial Paper. Under our commercial paper program we may issue short-term, unsecured commercial paper notes privately placed on a discount basis through certain broker dealers at any time not to exceed $4.25 billion. Amounts available under the program may be borrowed, repaid and re-borrowed from time to time. The net proceeds of issuances have been and are expected to be used for general corporate purposes. The commercial paper program had approximately $1.0 billion outstanding at December 31, 2020 at an average interest rate of 0.2%.
The Company was in compliance with its debt covenants as of December 31, 2020.
On December 20, 2018 Cigna acquired Express Scripts through a series of mergers (collectively, the "Merger"). Cigna Holding Company (formerly named Cigna Corporation and referred to as "Old Cigna") and Express Scripts each merged with and into a wholly-owned subsidiary of Cigna. As a result of these transactions, Cigna became the parent of the combined company. Old Cigna shareholders exchanged each of their shares for a share of Cigna common stock and shareholders of Express Scripts received 0.2434 of a share of Cigna (and $48.75 in cash) for each share of Express Scripts. Following the Merger, Old Cigna was de-listed and shares of Cigna were listed on the New York Stock Exchange for trading.
(1)Amounts classified as Liabilities of business held for sale primarily include $4.9 billion of unpaid claims, $717 million of contractholder deposit funds and $653 million of future policy benefits as of December 31, 2019.
Accounting Policy - Future Policy Benefits. Future policy benefits represent the present value of estimated future obligations under long-term life and supplemental health insurance policies and annuity products currently in force. These obligations are estimated using actuarial methods and consist primarily of reserves for annuity contracts, life insurance benefits, GMDB contracts (GMDB contracts are fully reinsured, see Note 10 for additional information) and certain health, life and accident insurance products of our International Markets segment.
Accounting Policy - Unearned Premium. The unrecognized portion of premiums received is recorded as unearned premiums included in insurance and contractholder liabilities.
The Company relies more heavily on medical cost trend analysis that reflects expected claim payment patterns and other relevant operational considerations for more recent months. Medical cost trend is primarily impacted by medical service utilization and unit costs that are affected by changes in the level and mix of health benefits offered, including inpatient, outpatient and pharmacy, the impact of copays and deductibles, changes in provider practices and changes in consumer demographics and consumption behavior.
Variances in incurred costs related to prior years’ unpaid claims and claim expenses that resulted from the differences between actual experience and the Company’s key assumptions for the years ended December 31 were as follows:
(2)Percentage of current year incurred costs as reported for the year ended December 31, 2018.
Favorable prior year development in both years reflects lower than expected utilization of medical services.
The following table depicts the incurred and paid claims development as of December 31, 2020 (net of reinsurance), claims frequency metrics and incurred but not reported liabilities reported in the U.S. Medical segment. The information about incurred and paid claims development for the year ended December 31, 2019 is presented as supplementary information and is unaudited.
The Company also establishes a liability for the expected present value of future benefit payments for known claims that have recently been resolved but may reopen in the future, based on Company experience. Prior to a claim becoming known, the Company establishes a liability for incurred but not reported claims using standard actuarial techniques and calculations based on completion factors and loss ratio assumptions using the Company’s experience combined with an analysis of current trends and operational factors. Completion factors are impacted by several key items including changes in claim inventory levels, claim payment patterns, changes in business volume and other factors. Loss ratio assumptions are developed using historical Company experience, adjusted prospectively for expected changes in the underlying business including rate actions, persistency and inforce growth.
Liability balance details. The liability details for unpaid claims and claim expenses for the years ended December 31 are as follows:
Group Disability and Life balances as of December 31, 2020 include reserves associated with retained business and amounts reinsured to New York Life as part of the sale of the Group Disability and Life business.
The Company discounts certain liabilities, predominantly long-term disability liabilities, because benefits payments are made over extended periods. Discount rate assumptions for these liabilities are based on projected investment returns for the supporting asset portfolios.
Details of the Company’s Group Disability and Life unpaid claim discounted liability balance as of December 31, 2019 were as follows:
Activity in the Company’s liabilities for unpaid claims and claim expenses, excluding Other Operations, are presented in the following table. Liabilities associated with Other Operations are excluded because they pertain to obligations for long-duration insurance contracts or, if short-duration, the liabilities have been fully reinsured.
(1)Includes unpaid claims amounts classified as Liabilities of business held for sale.
The Company’s insurance subsidiaries enter into agreements with other insurance companies to assume and cede reinsurance. Reinsurance is ceded primarily in acquisition and disposition transactions when the underwriting company is not being acquired. Reinsurance is also used to limit losses from large exposures and to permit recovery of a portion of direct or assumed losses. Reinsurance does not relieve the originating insurer of liability. Therefore, reinsured liabilities must continue to be reported along with the related reinsurance recoverables. The Company regularly evaluates the financial condition of its reinsurers and monitors concentrations of its credit risk.
Accounting policy. Reinsurance recoverables represent amounts due from reinsurers for both paid and unpaid claims of the Company’s insurance businesses. Most reinsurance recoverables are classified as non-current assets. The current portion of reinsurance recoverables is reported in Other current assets and consists primarily of recoverables on paid claims expected to be settled within one year. Reinsurance recoverables are presented net of allowances for uncollectible reinsurance that, effective with adopting ASU 2016-13 on January 1, 2020, consists primarily of an allowance for expected credit losses. $31 million was recorded as a cumulative effect adjustment to retained earnings at adoption. Estimates of the allowance for expected credit losses are based on internal and external data used to develop expected loss rates over the anticipated duration of the recoverable asset that vary by external credit rating and collateral level. The Company's allowance for credit losses on reinsurance recoverables was $32 million as of December 31, 2020, of which $31 million was recorded as a cumulative effect adjustment to retained earnings at adoption.
(1)Includes A- equivalent and higher current ratings certified by a nationally recognized statistical rating organization ("NRSRO")
(3)Includes collateral provisions requiring the reinsurer to fully collateralize its obligation if its external credit rating is downgraded to a specified level
Collateral levels are defined internally based on the fair value of the collateral relative to the carrying amount of the reinsurance recoverable, the frequency at which collateral is required to be replenished and the potential for volatility in the collateral’s fair value.
The Company bears the risk of loss if its reinsurers and retrocessionaires do not meet or are unable to meet their reinsurance obligations to the Company. The Company reviews its reinsurance arrangements and establishes reserves against the recoverables, as further described above.
The Company reinsured contracts with issuers of GMIB products. The Company’s exposure represents the excess of a contractually guaranteed amount over the level of variable annuity account values. Payment by the Company depends on the actual account value in the related underlying mutual funds and the level of interest rates when the contractholders elect to receive minimum income payments that can only occur within 30 days of a policy anniversary after the appropriate waiting period. The Company has purchased retrocessional coverage (“GMIB assets”) for these contracts including retrocessional coverage from Berkshire.
Amounts included in shareholders’ net income for GMIB assets and liabilities were not material in 2020, 2019 and 2018.
Cigna’s investment portfolio consists of a broad range of investments including debt securities, equity securities, commercial mortgage loans, policy loans, other long-term investments, short-term investments and derivative financial instruments. The sections below provide more detail regarding our investment balances and realized investment gains and losses. See Note 12 for information about the valuation of the Company’s investment portfolio. Debt securities, commercial mortgage loans, derivative financial instruments and short-term investments with contractual maturities during the next twelve months are classified on the balance sheet as current investments, unless they are held as statutory deposits or restricted for other purposes and then they are classified in Long-term investments. Equity securities may include exchange traded funds that are used in our cash management strategy and are classified as current investments. All other investments are classified as Long-term investments. The following table summarizes the Company's investments by category and current or long-term classification.
As of January 1, 2020, the Company adopted ASU 2016-13 that included certain targeted improvements to the accounting for available-for-sale debt securities. The new guidance resulted in certain policy changes related to the process used by the Company to review declines in fair value from a security’s amortized cost basis to determine whether a credit loss exists. For example, the length of time that a debt security has been impaired is no longer a criterion for this review. In addition, under this new guidance, the Company recognizes an allowance for credit loss with a corresponding charge to credit loss expense, presented in Realized investment gains and losses in the Company’s income statement. Prior to this new guidance, the Company recorded a direct write-down of the instrument’s amortized cost basis. The allowance for credit loss represents the excess of amortized cost over the greater of its fair value or the net present value of the debt security's projected future cash flows (based on qualitative and quantitative factors, including the probability of default, and the estimated timing and amount of recovery). Each period, the allowance for credit loss is adjusted through credit loss expense.
The Company elected the expedient to not measure an allowance for credit losses for accrued interest receivables. Consistent with prior practice, when interest payments are delinquent based on contractual terms or when certain terms (interest rate or maturity date) of the investment have been restructured, accrued interest, reported in Other current assets, is written off through a charge to Net investment income, and interest income is recognized on a cash basis.
The amortized cost and fair value by contractual maturity periods for debt securities were as follows at December 31, 2020:
Gross unrealized appreciation (depreciation) on debt securities by type of issuer is shown below. As a result of the U.S. Group Disability and Life business divestiture, debt securities with a fair value of $7.8 billion, primarily in the Corporate and State and local government sectors, were transferred to New York Life on December 31, 2020. These debt securities included unrealized appreciation of $864 million and unrealized depreciation of $2 million. See Note 5 for further information.
(1)Net unrealized appreciation for these investments is excluded from accumulated other comprehensive income.
Review of declines in fair value. Management reviews impaired debt securities to determine whether a credit loss allowance is needed based on criteria that include:
•changes in the regulatory, economic or general market environment of the issuer’s industry or geographic region.
The table below summarizes debt securities with a decline in fair value from amortized cost for which an allowance for credit losses has not been recorded, by investment grade and the length of time these securities have been in an unrealized loss position. These debt securities are primarily corporate securities with a decline in fair value that reflects an increase in market yields since purchase. See discussion of Realized Investment Gains and Losses below for further information on the credit loss expense recorded for the Company's investments.
The following table provides the values of the Company's equity security investments as of December 31, 2020 and December 31, 2019.
Accounting policy. Commercial mortgage loans are carried at unpaid principal balances. Beginning January 1, 2020 with the adoption of ASU 2016-13, unpaid principal balances are presented net of an allowance for expected credit losses. Changes in the allowance for expected credit losses are recognized as credit loss expense and presented in Realized investment gains and losses in the Company’s income statement. Each period, the Company establishes (or adjusts) its allowance for expected credit losses for commercial mortgage loans. The allowance for expected credit losses is based on a credit risk category that is assigned to each loan at origination using key credit quality indicators, including debt service coverage and loan-to-value ratios. Credit risk categories are updated as key credit quality indicators change. An expected loss rate, assigned based on the credit risk category, is applied to each loan's unpaid principal balance to develop an aggregate allowance for expected credit losses. Prior to adoption, impaired commercial mortgage loans were written down to the lower of unpaid principal or fair value of the underlying collateral when it became probable that the Company
In the event of a foreclosure, the allowance for credit losses is based on the excess of the carrying value of the mortgage loan over the fair value of its underlying collateral.
Mortgage loans held by the Company are made exclusively to commercial borrowers and are diversified by property type, location and borrower. Loans are generally issued at fixed rates of interest and are secured by high quality, primarily completed and substantially leased operating properties. Commercial mortgage loans are classified as either current or long-term investments based on their contractual maturities.
Credit quality. The Company regularly evaluates and monitors credit risk, beginning with the initial underwriting of a mortgage loan and continuing throughout the investment holding period. Mortgage origination professionals employ an internal credit quality rating system designed to evaluate the relative risk of the transaction at origination that is then updated each year as part of the annual portfolio loan review. The Company evaluates and monitors credit quality on a consistent and ongoing basis.
The following table summarizes the credit risk profile of the Company’s commercial mortgage loan portfolio based on loan-to-value and debt service coverage ratios as of December 31, 2020 and December 31, 2019. As a result of the U.S. Group Disability and Life business divestiture, $0.6 billion of commercial mortgage loans were transferred to New York Life on December 31, 2020, see Note 5 for further information.
Other long-term investments also include investment real estate carried at depreciated cost less any impairment write-downs to fair value when cash flows indicate that the carrying value may not be recoverable. Depreciation is generally recorded using the straight-line method based on the estimated useful life of each asset. Investment real estate as of December 31, 2020 and 2019 is expected to be held longer than one year and may include real estate acquired through the foreclosure of commercial mortgage loans.
Additionally, statutory and other restricted deposits, healthcare related investment partnerships and foreign currency swaps carried at fair value are reported in the table below as Other. See discussion below for information on the Company’s accounting policies for derivative financial instruments.
Other long-term investments and related commitments are diversified by issuer, property type and geographic regions. A majority of these investments are unconsolidated variable entities, see Note 13 for additional information. The following table provides unfunded commitment and carrying value information for these investments. The Company expects to disburse approximately 38% of the committed amounts in 2021.
Short-term investments and cash equivalents included the following types of issuers. The increase since prior year end is substantially attributable to proceeds received on December 31, 2020 from the U.S. Group Disability and Life business divestiture, see Note 5 for further information.
The Company uses derivative financial instruments to manage the characteristics of investment assets (such as duration, yield, currency and liquidity) to meet the varying demands of the related insurance and contract holder liabilities. The Company also uses derivative financial instruments to hedge the risk of changes in the net assets of certain of its foreign subsidiaries due to changes in foreign currency exchange rates. The Company has written and purchased GMIB reinsurance contracts in its run-off reinsurance business that are accounted for as freestanding derivatives as discussed in Note 10. Derivatives in the Company’s separate accounts
Derivative instruments used by the Company typically include foreign currency swap contracts and foreign currency forward contracts. Foreign currency swap contracts periodically exchange cash flows between two currencies for principal and interest. Foreign currency forward contracts require the Company to purchase a foreign currency in exchange for the functional currency of its operating unit at a future date.
The Company manages the credit risk of these derivative instruments by diversifying its portfolio among approved dealers of high credit quality and through routine monitoring of credit risk exposures. Certain of the Company’s over-the-counter derivative instruments require either the Company or the counterparty to post collateral or demand immediate payment depending on the amount of the net liability position of the derivative instrument and predefined financial strength or credit rating thresholds. These collateral posting requirements vary by counterparty. The Company may incur a loss if dealers failed to perform under derivative contracts, however collateral has been posted by dealers to cover substantially all of the net fair values owed at December 31, 2020 and December 31, 2019. The fair value of collateral posted by the Company was not significant as of December 31, 2020 or December 31, 2019.
Accounting policy. Derivatives are recorded on our balance sheet at fair value and are classified as current or non-current according to their contractual maturities. Further information on our policies for determining fair value are discussed in Note 12. The Company applies hedge accounting when derivatives are designated, qualified and highly effective as hedges. Under hedge accounting, the changes in fair value of the derivative and the hedged risk are generally recognized together and offset each other when reported in Shareholders’ net income. Various qualitative or quantitative methods appropriate for each hedge are used to formally assess and document hedge effectiveness at inception and each period throughout the life of a hedge.
The Company did not have a concentration of investments in a single issuer or borrower exceeding 10% of shareholders' equity as of December 31, 2020 or 2019.
Accounting policy. When interest and principal payments on investments are current, the Company recognizes interest income when it is earned. The Company recognizes interest income on a cash basis when interest payments are delinquent based on contractual terms or when certain terms (interest rate or maturity date) of the investment have been restructured. For unconsolidated entities that are included in Other long-term investments, investment income is generally recognized according to the Company’s share of the reported income or loss on the underlying investments. Investment income attributed to the Company’s separate accounts is excluded from our earnings because associated gains and losses generally accrue directly to separate account policyholders.
Accounting policy. Realized investment gains and losses are based on specifically identified assets and result from sales, investment asset write-downs, change in the fair value of certain derivatives and equity securities and changes in valuation reserves on commercial mortgage loans. Commencing January 1, 2020, realized gains and losses also include credit loss expense resulting from the impact of changes in the allowances for credit losses on debt securities and commercial mortgage loan investments under ASU 2016-13.
Net realized investment gains, excluding credit loss expense and asset write-downs for the year ended December 31, 2020 was primarily driven by mark-to-market gains on equity securities and sales of debt securities, while this activity for the year ended December 31, 2019 was primarily driven by gains on the sales of real estate partnerships and debt securities. Net realized investment losses, excluding credit loss expense and asset write-downs in 2018 represented mark-to-market losses on equity securities and
The following table presents sales information for available-for-sale debt securities. Gross gains on sales and gross losses on sales exclude amounts required to adjust future policy benefits for the run-off settlement annuity business.
Inputs for instruments classified in Level 2 include quoted prices for similar assets or liabilities in active markets, quoted prices from those willing to trade in markets that are not active or other inputs that are market observable or can be corroborated by market data for the term of the instrument. Such other inputs include market interest rates and volatilities, spreads and yield curves. An instrument is classified in Level 2 if the Company determines that unobservable inputs are insignificant.
Short-term investments are carried at fair value that approximates cost. The Company compares market prices for these securities to recorded amounts on a regular basis to validate that current carrying amounts approximate exit prices. The short-term nature of the investments and corroboration of the reported amounts over the holding period support their classification in Level 2.
Corporate and government debt securities. The significant unobservable input used to value the following corporate and government debt securities is an adjustment for liquidity. This adjustment is needed to reflect current market conditions and issuer circumstances when there is limited trading activity for the security.
(2)Sales in 2020 include $108 million of Level 3 debt securities transferred to New York Life Insurance Company on December 31, 2020 as part of the U.S. Group Disability and Life business divestiture. See Note 5 for further details.
Total gains and losses included in Shareholders’ net income in the tables above are reflected in the Consolidated Statements of Income as Net realized investment gains (losses) and Net investment income.
Gains and losses included in Other comprehensive income in the tables above are reflected in Net unrealized (depreciation) appreciation on securities and derivatives in the Consolidated Statements of Comprehensive Income.
Transfers into or out of the Level 3 category occur when unobservable inputs, such as the Company’s best estimate of what a market participant would use to determine a current transaction price, become more or less significant to the fair value measurement. Market
(1)Non-guaranteed separate accounts included $4.2 billion as of December 31, 2020 and $4.0 billion as of December 31, 2019 in assets supporting the Company’s pension plans, including $0.3 billion classified in Level 3 as of December 31, 2020 and $0.2 billion classified in Level 3 as of December 31, 2019.
Separate account assets classified as Level 1 primarily include exchange-listed equity securities. Level 2 assets primarily include:
•corporate and structured bonds valued using recent trades of similar securities or pricing models that discount future cash flows at estimated market interest rates as described above; and
Separate account investments in securities partnerships, real estate and hedge funds are generally valued based on the separate account’s ownership share of the equity of the investee (NAV as a practical expedient) including changes in the fair values of its underlying investments. Substantially all of these assets support the Cigna Pension Plans. The following table provides additional information on these investments.
Some financial assets and liabilities are not carried at fair value each reporting period, but may be measured using fair value only under certain conditions such as when investments become impaired, including investment real estate and commercial mortgage loans and certain equity securities with no readily determinable fair value. For 2020 and 2019, there were no such impairments. Equity securities with no readily determinable fair value are also measured at fair value when there are observable price changes from orderly transactions with the same issuer. There were $75 million in 2020 and $22 million in 2019 of realized investment gains relating to price changes for equity securities with no readily determinable fair value. Carrying values represented less than 1% of total investments as of both 2020 and 2019.
C.Fair Value Disclosures for Financial Instruments Not Carried at Fair Value
Off-balance sheet financial instruments include commitments to purchase debt securities or fund commercial mortgage loans at fixed rates of interest. The fair values of off-balance sheet financial instruments were not material as of December 31, 2020 and 2019.
•the risks and rewards created by, and shared through, the entity; and
Securities limited partnerships and real estate limited partnerships. The Company owns interests in securities limited partnerships and real estate limited partnerships that are defined as unconsolidated variable interest entities. These partnerships invest in the equity or mezzanine debt of privately-held companies and real estate properties. General partners unaffiliated with the Company control decisions that most significantly impact the partnership’s operations and the limited partners do not have substantive kick-out or participating rights. The Company’s investments in approximately 150 limited partnerships that have a carrying value of $2.1 billion as of December 31, 2020 and are reported in Long-term investments. We have commitments to contribute an additional $1.9 billion to these entities. The Company's maximum exposure to loss from these investments is $4.0 billion, calculated as the sum of our carrying value and the additional funding commitments. Our noncontrolling interest in each of these limited partnerships is generally less than 15% of the partnership ownership interests. See Note 11 for further information on the Company's accounting policy for long-term investments.
Other asset-backed and corporate securities. In the normal course of its investing activities, the Company also makes passive investments in certain asset-backed and corporate securities that are issued by variable interest entities whose sponsors or issuers are unaffiliated with the Company. These investments provide the Company fixed-rate cash flows and are accounted for as debt securities. As of December 31, 2020 the carrying value of these investments is $0.5 billion, which represents the Company's maximum exposure related to these instruments. Our combined ownership interests are insignificant relative to the total principal amounts issued by these entities. See Note 11 for further information on the Company's accounting policy for debt securities.
Accounting policy. The Company measures the assets and liabilities of its domestic pension plans as of December 31. Benefit obligations are measured at the present value of estimated future payments based on actuarial assumptions. The Company uses the “corridor” method to account for changes in the benefit obligation when actual results differ from those assumed, or when assumptions change. These changes are called net unrecognized actuarial gains (losses). Under the corridor method, net unrecognized actuarial gains (losses) are initially recorded in accumulated other comprehensive income. When the unrecognized gain (loss) exceeds 10% of the benefit obligation, that excess is amortized to expense over the expected remaining lives of plan participants. The net plan expense is reported in Interest expense and other in the Consolidated Statements of Income.
The following table summarizes the projected benefit obligations and assets related to our U.S. and non-U.S. pension plans as of, and for the years ended December 31:
(1)2020 Loss reflects a decrease in the discount rate, partially offset by a favorable change in the mortality assumption; 2019 loss reflects a decrease in the discount rate and an unfavorable change in the mortality assumption.
Amounts reflected in the pension liabilities shown above that have not yet been reported in net income and, therefore, have been included in Accumulated other comprehensive loss consisted of the following as of December 31:
Old Cigna and the Cigna Pension Plan (the “Plan”) were defendants in a class action lawsuit related to the Plan’s conversion of certain employees from an annuity to a cash balance benefit in 1997. In the fourth quarter of 2018, the Plan was ordered to pay $32 million representing the attorney fee portion of the settlement. This payment was recognized as an expense in 2018. In the first quarter of 2019, the Plan implemented the court order resulting in an increase to the pension liability of $142 million. The Company reversed a litigation reserve for the expenses recognized for this matter in both 2019 and 2018 aggregating to the same amount resulting in no impact on net income.
The expected long-term return on plan assets was developed considering historical long-term actual returns, expected long-term market conditions, plan asset mix and management's plan asset investment strategy.
As of December 31, 2020, pension assets included $4.2 billion invested in the separate accounts of Connecticut General Life Insurance Company, a subsidiary of the Company, as well as an additional $0.4 billion, primarily invested directly in funds offered by an unaffiliated insurance company.
Securities partnerships, real estate and hedge funds are valued using NAV as a practical expedient and are excluded from the fair value hierarchy. See Note 12 for additional disclosures related to these assets invested in the separate accounts of the Company’s subsidiaries. Certain securities as described in Note 12, as well as commercial mortgage loans and guaranteed deposit account contracts, are classified in Level 3 because unobservable inputs used in their valuation are significant.
The People Resources Committee (the “Committee”) of the Board of Directors awards stock options, restricted stock grants, restricted stock units, deferred stock and strategic performance shares to certain employees.
Prior to the acquisition of Express Scripts, the Company issued shares from Treasury stock for these awards. Following the acquisition, original issue shares were used.
Shares of common stock available for award at December 31, were as follows:
Accounting policy. The Company awards options to purchase Cigna common stock at the market price of the stock on the grant date except for rollover option awards issued to Express Scripts employees in connection with the acquisition. Options vest over periods ranging from one year to three years and expire no later than 10 years from grant date. Fair value is estimated using the Black-Scholes option-pricing model by applying the assumptions presented below. That fair value is reduced by options expected to be forfeited during the vesting period. The Company estimates forfeitures at the grant date based on our experience and adjusts the expense to reflect actual forfeitures over the vesting period. The fair value of options, net of forfeitures, is recognized in Selling, general and administrative expenses on a straight-line basis over the vesting period.
Compensation expense of $66 million related to unvested stock options at December 31, 2020 will be recognized over the next two years (weighted average period).
Accounting policy. Fair value of restricted stock awards is equal to the market price of Cigna’s common stock on the date of grant. This fair value is reduced by awards that are expected to forfeit. At the grant date, the Company estimates forfeitures based on experience and adjusts the expense to reflect actual forfeitures over the vesting period. This fair value, net of forfeitures, is recognized in Selling, general and administrative expenses over the vesting period on a straight-line basis.
The following table shows the status of, and changes in, SPSs during the last three years:
Approximately 1,500 employees held 808,000 SPSs at the end of 2020 and $63 million of related compensation expense is expected to be recognized over the next two years. The amount of expense for “performance condition” SPSs will vary based on actual performance in 2021 and 2022.
The Company records tax benefits in shareholders’ net income during the vesting period based on the amount of expense being recognized. The difference between tax benefits based on the expense and the actual tax benefit realized are also recorded in net income when stock options are exercised, or when restricted stock and SPSs vest.
There were no material impairments in the years ended December 31, 2020, 2019 or 2018.
Cigna adopted ASU 2016-2, Leases, as of January 1, 2019. As permitted by the standard, the Company did not restate its Consolidated Financial Statements for periods prior to the adoption date and the required disclosures presented below are prospective from the date of adoption. The Company’s leases are primarily for office space and certain computer and other equipment, and have terms of up to 34 years.
The Company has lease agreements with lease and non-lease components that are accounted for as a single lease component. Variable lease payments are expensed as incurred and represent amounts that are neither fixed in nature, such as maintenance and other services provided by the lessor, nor tied to an index or rate.
Operating and finance lease ROU assets and lease liabilities were as follows:
The Company’s HMO and life, accident and health insurance subsidiaries are also subject to minimum statutory surplus requirements and may be required to maintain investments on deposit with state departments of insurance or other regulatory bodies. Additionally, these subsidiaries may be subject to regulatory restrictions on the amount of annual dividends or other distributions (such as loans or cash advances) that insurance companies may extend to their parent companies without prior approval. As of December 31, 2020, these amounts, including restricted GAAP net assets of the Company’s subsidiaries, were as follows:
Accounting policy. Deferred income taxes are reflected in the Consolidated Balance Sheets for differences between the financial and income tax reporting bases of the Company’s underlying assets and liabilities, and established based upon enacted tax rates and laws. Deferred income tax assets are recognized when available evidence indicates that realization is more likely than not, and a valuation allowance is established to the extent this standard is not met. The deferred income tax provision generally represents the net change in deferred income tax assets and liabilities during the reporting period excluding adjustments to accumulated other comprehensive income or amounts recorded in connection with a business combination. The current income tax provision generally represents estimated amounts due on income tax returns for the year reported to various jurisdictions plus the effect of any uncertain tax positions. The Company recognizes a liability for uncertain tax positions if management believes the probability that the positions will be sustained is 50% or less. For uncertain positions that management believes are more likely than not to be sustained, the Company recognizes a liability based upon management's estimate of the most likely settlement outcome with the taxing authority. The
Total income taxes for the years ended December 31 were different from the amount computed using the nominal federal income tax rate for the following reasons:
Consolidated pre-tax income from the Company’s foreign operations was approximately 14% of the Company’s pre-tax income in 2020, 12% in 2019 and 15% in 2018.
Deferred income tax assets and liabilities as of December 31, were as follows:
The Company classifies net interest expense on uncertain tax positions as a component of income tax expense and in Accrued expenses and other liabilities on the balance sheet. In addition to the amounts in the table above, the liability for net interest expense on uncertain tax positions was approximately $127 million as of December 31, 2020, $100 million as of December 31, 2019 and immaterial for 2018.
The statute of limitations for Cigna's consolidated federal income tax returns through 2015 have closed. However, Cigna filed an amended return for the 2015 tax year, and it is being reviewed by the Internal Revenue Service (IRS). Additionally, the IRS has opened an examination of Cigna's 2017 return. It is expected that the IRS will add tax years 2016 and 2018 to the existing Cigna cycle. The IRS has examined Express Scripts’ tax returns for 2010 through 2012, for which there is a significant disputed tax matter, and is currently examining returns for 2013 through 2017. In addition, the Company has pending refund claims for various years.
The Company does not expect that these financial guarantees will have a material effect on the Company’s consolidated results of operations, liquidity or financial condition.
The Company had indemnification obligations as of December 31, 2020 in connection with acquisition and disposition transactions. These indemnification obligations are triggered by the breach of representations or covenants provided by the Company, such as representations for the presentation of financial statements, filing of tax returns, compliance with law or identification of outstanding litigation. These obligations are typically subject to various time limitations, defined by the contract or by operation of law, such as statutes of limitation. In some cases, the maximum potential amount due is subject to contractual limitations based on a percentage of the transaction purchase price, while in other cases limitations are not specified or applicable. The Company does not believe that it is possible to determine the maximum potential amount due under these obligations because not all amounts due under these indemnification obligations are subject to limitation. There were no liabilities for these indemnification obligations as of December 31, 2020.
There were no material effects for existing or new guaranty fund assessments for the year ended December 31, 2020.
The Company is routinely involved in numerous claims, lawsuits, regulatory inquiries and audits, government investigations, including under the federal False Claims Act and state false claims acts initiated by a government investigating body or by a qui tam relator’s filing of a complaint under court seal, and other legal matters arising, for the most part, in the ordinary course of managing a global health service business. Additionally, the Company has received and is cooperating with subpoenas or similar processes from various governmental agencies requesting information, all arising in the normal course of its business. Disputed tax matters arising from audits by the Internal Revenue Service or other state and foreign jurisdictions, including those resulting in litigation, are accounted for under GAAP guidance for uncertain tax positions. See Note 20 for additional information on income tax matters.
Cigna Litigation with Anthem. In February 2017, the Company filed suit against Anthem, Inc. in the Delaware Court of Chancery (the “Chancery Court”) seeking, among other relief, payment of the $1.85 billion reverse termination fee under the parties’ 2015 merger agreement and damages. Anthem countersued, alleging its own claims for damages. A trial was held during the first quarter of 2019. In August 2020, the Chancery Court issued an opinion finding that, although Cigna breached its contractual obligation to use reasonable best efforts to support the Anthem/Cigna merger, its actions did not cause the merger to fail. The Court denied claims by both parties for damages and further denied Cigna’s claim for the reverse termination fee. The Company filed a Notice of Appeal with the Delaware Supreme Court on October 30, 2020, and seeks reversal of the portion of the Chancery Court’s decision denying Cigna the reverse termination fee. Briefing on the appeal was completed on January 29, 2021 and oral arguments are scheduled for April 14, 2021.
•Results of transitioning clients, for periods prior to 2020, because those results were not indicative of ongoing results.
•Special items, if any, that management believes are not representative of the underlying results of operations due to the nature or size of these matters.
Adjusted revenues is defined as revenues excluding: 1) revenue contribution from transitioning clients for periods prior to 2020; 2) the Company’s share of certain realized investment results of its joint ventures reported in the International Markets segment using the equity method of accounting; and 3) special items, if any.
(1)Includes the Company's share of certain realized investment gains (losses) of its joint ventures reported using the equity method of accounting.
Foreign and U.S. revenues from external customers for the three years ended December 31 are shown below. The Company’s foreign revenues are generated by its foreign operating entities. In the periods shown, no foreign country contributed more than 5% of consolidated revenues from external customers.