We own our headquarters facility in Richmond, Virginia, which consists of approximately 461,187 square feet in four buildings, as well as several facilities in Lynchburg, Virginia with approximately 450,361 square feet. In addition, we lease approximately 593,099 square feet of office space in 38 locations throughout the U.S. We also own one building outside the U.S. with approximately 4,560 square feet, and we lease approximately 428,351 square feet in 49 locations outside the U.S.
Most of our leases in the U.S. and other countries have lease terms of three to five years, although some leases have terms of up to 12 remaining years. Our aggregate annual rental expense under all leases was $26 million during the year ended December 31, 2009.
We believe our properties are adequate for our business as presently conducted.
Retirement and Protection. We offer and manage a variety of protection, wealth management and retirement income products. Our primary protection products include: life, long-term care and Medicare supplement insurance. Additionally, we offer other senior supplemental products, as well as care coordination services for our long-term care policyholders. Our wealth management and retirement income products include: a variety of managed account programs and advisor services, financial planning services, fixed and variable deferred and immediate individual annuities and group variable annuities offered through retirement plans. For the year ended December 31, 2009, our Retirement and Protection segment’s net loss available to Genworth Financial, Inc.’s common stockholders was $60 million while net operating income available to Genworth Financial, Inc.’s common stockholders was $424 million.
International. We are a leading provider of mortgage insurance products in Canada, Australia, Mexico and multiple European countries. Our products predominantly insure prime-based, individually underwritten residential mortgage loans, also known as flow mortgage insurance. On a limited basis, we also provide mortgage insurance on a structured, or bulk, basis that aids in the sale of mortgages to the capital markets and helps lenders manage capital and risk. Additionally, we offer services, analytical tools and technology that enable lenders to operate efficiently and manage risk. We also offer payment protection coverages in multiple European countries, Canada and Mexico. Our lifestyle protection insurance products help consumers meet specified payment obligations should they become unable to pay due to accident, illness, involuntary unemployment, disability or death. For the year ended December 31, 2009, our International segment’s net income available to Genworth Financial, Inc.’s common stockholders and net operating income available to Genworth Financial, Inc.’s common stockholders were $380 million and $385 million, respectively.
U.S. Mortgage Insurance. In the U.S., we offer mortgage insurance products predominantly insuring prime-based, individually underwritten residential mortgage loans, also known as flow mortgage insurance. We selectively provide mortgage insurance on a structured, or bulk, basis with essentially all of our bulk writings prime-based. Additionally, we offer services, analytical tools and technology that enable lenders to operate efficiently and manage risk. For the year ended December 31, 2009, our U.S. Mortgage Insurance segment’s net loss available to Genworth Financial, Inc.’s common stockholders and net operating loss available to Genworth Financial, Inc.’s common stockholders were $427 million and $459 million, respectively.
The financial information in this Annual Report on Form 10-K has been derived from our consolidated financial statements. Our consolidated financial statements included our group life and health insurance business that was presented in our consolidated financial statements as discontinued operations until sold in May 2007. See note 8 to our consolidated financial statements under “Item 8 - Financial Statements and Supplementary Data” for further discussion of our discontinued operations.
insurance and investment product fees and other, including surrender charges, mortality and expense risk charges, primarily from variable annuity contracts and universal life insurance policies, management fees and commissions from wealth management products, and other administrative charges.
net investment income and net investment gains (losses) on the separate investment portfolio held by our international mortgage and lifestyle protection insurance businesses; and
Corporate and Other. The revenues in Corporate and Other consist primarily of:
Financial and economic environment. As a financial security company, the stability of both the financial markets and global economies in which we operate impacts our sales, revenue growth and trends in profitability of our businesses. Beginning in 2008, we saw slowing economies, rising unemployment, falling real estate values and reduced consumer spending in virtually all the markets in which we operate. In 2009, Canada and Australia have seen improvements in their economies and rising real estate values leading to stabilization and improvements in their housing markets. In the U.S., modest economic growth has returned in the second half of 2009. Economies in Europe have remained weak and have only recently begun to show signs of stabilization. However, financial markets have improved during the second half of 2009, with solid performance, lower volatility in equity markets, narrowing spreads and better credit performance in many sectors of the debt markets, reversing a significant percentage of the declines experienced in 2008. Despite continued stress in the U.S. housing market and variations in performance by sub-market, there have been early signs of stabilization in housing prices in the third and fourth quarters of 2009 as compared to earlier in the year.
We believe that the market conditions experienced since 2008 combined with slow economic growth have influenced, and will continue to influence, investment and spending decisions as both consumers and businesses adjust their consumption, debt and risk profiles in response to those conditions. We have seen an adverse impact on sales, revenues and profitability trends of certain insurance and investment products in 2009 related to some of these market conditions. Other factors such as government spending, monetary policies, regulatory initiatives, the volatility and strength of the capital markets, anticipated tax policy changes and the uncertainty surrounding U.S. healthcare reform can affect economic and business outlooks and consumer behaviors.
In our retirement and protection insurance businesses, we saw consumers more willing to return to investing in equity markets and purchase or evaluate other protection and retirement offerings. In certain markets, we have seen an increase in sales and assets under management which indicate select trends may be improving. However, we could experience an increase in lapses or surrenders of policies in our life and long-term care insurance businesses if our policyholders have cash needs.
In our U.S. Mortgage Insurance and International segments, stressed economic conditions have been evident in lower mortgage originations and the decrease in consumer lending in the majority of our target markets. However, the conditions have recently improved in certain markets. In late 2007, we began to experience increased levels of delinquencies in our U.S. and international mortgage insurance businesses and an elevated incidence of claims in our lifestyle protection insurance business that continued into 2009. In the second half of 2009, we began to see a slowdown in the rate of new delinquencies in our international mortgage insurance business and the rate of claims in our lifestyle protection insurance business resulting in a corresponding reduction in loss ratios.
In response to recent market conditions, we tightened underwriting guidelines to reduce risk or exposure in our mortgage insurance globally. We increased pricing in multiple targeted markets and products. We have also adjusted our investment and asset-liability management strategies in an attempt to reduce risk during recent economic and financial market conditions. In addition, we refined our product and distribution management strategies to best fit with our strengths, profitability targets and risk tolerance. These and other company actions seek to enhance our competitive position as well as our capital flexibility and liquidity as discussed under “-Liquidity and Capital Resources.”
Since late 2008, the U.S. government, Federal Reserve and other legislative and regulatory bodies have taken a variety of other actions to stabilize the capital markets and provide needed liquidity to promote economic growth. These include various mortgage restructuring programs under consideration or implemented by the GSEs, lenders and the U.S. government. Outside of the U.S., various governments have taken actions to stimulate economies, stabilize financial systems and improve market liquidity. There can be no assurance as to what impact any of these actions will or have had on the economic and financial markets, including levels of volatility. A prolonged economic recovery period or global recessionary setback could materially and adversely affect our business, financial condition and results of operations.
While the marketplace is still experiencing a decline in the performance of collateral underlying certain structured securities, corporate impairments have decreased significantly in 2009. We recorded net other-than-temporary impairments of $1,058 million during the year ended December 31, 2009. Impairments recorded in the latter portion of 2009 were lower than the levels experienced in the second half of 2008 and the first quarter of 2009 as market improvements have continued and we expect losses to trend down. Additionally, for the year ended December 31, 2009, losses related to limited partnerships increased to $160 million. However, in the second half of 2009, we saw a decline in losses related to limited partnerships from the second quarter of 2009. Although economic conditions may continue to negatively impact our investment valuation, the underlying collateral associated with assets that have not been impaired continues to perform.
During 2009, certain competitors have increased prices and exited certain product features in the life insurance market, particularly in policies with longer guarantee periods and no lapse guarantees, which could benefit our competitiveness and returns over time. Competitors have made pricing adjustments, in part, to address Regulations XXX and AXXX which require insurers to establish additional statutory reserves for term life insurance policies with long-term premium guarantees and certain universal life insurance policies with secondary guarantees, which increase the capital required to write these products. The solutions for the increased reserve requirements on some of our in-force books of business have become more limited and expensive which has and may continue to negatively impact the respective product margins, and therefore, our results of operations. Related to our in-force contracts, we have committed funding sources for approximately 95% of our anticipated peak level reserves required under Regulations XXX and AXXX so unfunded reserve exposure is minimal. In addition, as noted above, we have also introduced product modifications to our universal life insurance products which provide shorter guarantee periods, thereby reducing the capital requirements and mitigating the level of future additional statutory reserve funding requirements. We have introduced a new term universal life insurance product that is designed to replace new sales of our existing term life insurance products. The new term universal life insurance product offers death benefit guarantee premiums that are competitive with traditional term insurance premiums for comparable durations and provides greater flexibility typically associated with universal life coverage. These new products are designed to reduce capital requirements and limit financing costs associated with existing products and thereby improve the profitability of new business.
In 2008, the impact of lower termination rates, in particular lapse rates on older issued policies, some with expiring reinsurance coverage, caused higher benefits and other changes in policy reserves, resulting in lower results of operations for older blocks of business. However, in the first half of 2009, termination rates increased on the new and old blocks of business resulting in lower benefits and other changes in policy reserves that contributed to higher results of operations. During the second half of 2009, termination rates have returned to more normal levels.
In response to these trends, we continue pursuing multiple growth initiatives, investing in case management improvements, maintaining tight expense management, actively exploring reinsurance strategies, executing effective investment strategies and, if appropriate, considering other actions to improve profitability of the
overall block, including potential future rate increases. In addition, proposed changes in regulations or government programs, such as certain aspects of healthcare reform, if enacted, could impact our long-term care insurance business positively or negatively. We continue to actively monitor regulatory developments.
Wealth management. Results of our wealth management business are impacted by demand for asset management products and related support services, investment performance and equity market conditions. In the second half of 2008 through early 2009, the decline and volatility in the equity markets negatively impacted the asset management industry overall, as well as our assets under management, net flows, the performance of certain mutual funds we offer and associated fee income. With the improvement in the equity markets beginning in the second quarter of 2009, along with the introduction of new investment strategies, we had higher sales, net flows and assets under management in each of the last three quarters of 2009. Depending upon the direction of equity markets in the future, we would expect to see a correlated impact on performance in these areas.
Recent product changes and sales of annuity products reflect a more targeted growth strategy. We have scaled back certain product features that reduce risk in our variable annuity products and have more selectively targeted distributors and sales personnel supporting our annuity products due to the adverse market conditions and our risk appetite, profitability and capital strategies reflecting this more targeted growth strategy. In addition, in late 2008 and early 2009, due to adverse market conditions, our operating results and ratings downgrades, certain firms elected to suspend sales of fixed and variable annuity products issued by one or more of our subsidiaries. The largest impact of these suspensions was on our fixed annuity offerings through large financial institutions. As a result of the market recovery and our improved financial performance, several firms have lifted their suspension and are once again offering our products. Additionally, in the second half of 2009, we have expanded our distribution relationships with new financial institutions, independent financial planners and BGAs and we expect to continue to expand with the BGA and independent financial planner channels and introduce new product offerings.
We continue to offer variable annuity products with living benefit features, such as those described above. However, in response to the volatility in equity markets, certain product features have been scaled back to reduce risk and costs have been increased to the consumer. These product changes are similar to actions taken by many
of our competitors. We believe the benefits offered by these products remain attractive to consumers within our target markets as we experienced increased sales in these products during the second half of 2009.
International mortgage insurance. Results of our international mortgage insurance business are affected by changes in regulatory environments, employment and other economic and housing market trends, including interest rate trends, home price appreciation, mortgage origination volume, levels of mortgage delinquencies and movements in foreign currency exchange rates. Since early 2008, we have generally seen a slowdown in high loan-to-value mortgage origination levels and an increase in unemployment in all of our international markets. Accordingly, we have experienced lower levels of new insurance written in most markets and increased losses, which have adversely impacted the growth of our revenues and our results of operations with variations seen by individual country.
Canada and Australia comprise approximately 97% of our international mortgage insurance risk in-force with an estimated average effective loan-to-value ratio of 67% as of December 31, 2009. We expect that these established markets will continue to be key drivers of revenues and earnings in our international mortgage insurance business. Our entry and growth in developing international markets will be selective.
In Australia, as a result of lower interest rates during the first nine months of 2009 and specific government programs, there was an increase in mortgage originations by first-time home buyers and an associated increase in our new insurance written in 2009. The Australian government extended its enhanced first-time home buyer program benefits through the end of 2009, although at reduced levels. We expect that lower levels of government support to first-time home buyers and increased interest rates in the fourth quarter of 2009 may reduce the level of high loan-to-value originations and our level of new insurance written in 2010.
In contrast to the second half of 2008 and the first half of 2009, when unemployment rates increased rapidly, we have seen a slowdown in the rate of increase in unemployment over the past several months across Europe. Consequently, we experienced a significant decline in new claim registrations on unemployment-related policies, particularly in Spain, Ireland and the U.K. since March 2009. We continue to expect unemployment rates in Europe to increase slowly in 2010, in line with the rate of change witnessed in the second half of 2009. The reduction in new unemployment claim registrations was offset by increasing duration pressure from high levels of persistent unemployment.
During 2009, significant progress was made in improving profitability with pricing and coverage or distribution contract changes on both new and eligible in-force policies. These actions are expected to continue into 2010. Collectively, these strategies will help absorb the impact of continued high unemployment as well as an expected decline in new structured transactions. In addition, significant claims handling resources have been added to ensure that all claims are handled as required, in a timely and accurate fashion.
Even though various government-sponsored and lender foreclosure moratoria have been suspended, we are seeing a lag in the rate at which delinquent loans are both entering into foreclosure as well as progressing through the foreclosure process. Consequently, we expect to see an increase in the number of foreclosure starts and in the rate at which foreclosures progress to claim. As these loans go through foreclosure, our paid claims will increase. At
the same time, there are several programs related to the U.S. housing market being implemented by the U.S. government, GSEs and various lenders, which may mitigate losses on loans we insure. We are actively participating in and supporting these various programs. The increased number of delinquent loans has strained the resources of servicers, in some cases reducing or limiting their ability to undertake loss mitigation efforts that could help limit our claim loss exposure. These programs are expected to limit increases in paid claims and we continue to pursue ways to support the servicers in their efforts to increase the impact from our loss mitigation activities.
Our loss mitigation activities, including those relating to workouts, loan modifications, pre-sales and rescissions, have resulted in a reduction of expected losses of approximately $847 million for the year ended December 31, 2009. In the process, we approved approximately 25,800 workouts, loan modifications and pre-sales during this period resulting in a reduction of loss exposure of approximately $264 million. The workouts and loan modifications could be subject to potential re-default by the underlying borrowers. In addition, as a result of investigation activities on certain insured delinquent loans, we found significant levels of misrepresentation and non-compliance with certain terms and conditions of our underlying master insurance policies, as well as fraud. These findings resulted in rescission actions that reduced our loss exposure at the time of rescission by approximately $583 million for the year ended December 31, 2009. Our investigations process and rescission actions along with expanded loan modification efforts given various related lender and government programs, have had a significant benefit and are expected to continue; however, going forward, there is no assurance regarding what specific level of benefits will result.
We also participate in reinsurance programs in which we share portions of our premiums associated with flow insurance written on loans originated or purchased by lenders with captive insurance entities of these lenders in exchange for an agreed upon level of loss coverage above a specified attachment point. For the year ended December 31, 2009, we recorded reinsurance recoveries of $673 million where cumulative losses have exceeded the attachment points in captive reinsurance arrangements, primarily related to our 2005, 2006 and 2007 books of business. We have exhausted certain captive reinsurance tiers for these book years based on worsening loss development trends. Once the captive reinsurance or trust assets are exhausted, we are responsible for additional losses incurred. We have begun to experience constraints on the recognition of captive benefit recovery due to the amount of funds held in certain captive trusts and the exhaustion of captive loss tiers for certain reinsurers. As of January 1, 2009, we no longer participate in excess loss of captive reinsurance transactions and we will only participate in quota share reinsurance arrangements. The majority of our excess of loss captive reinsurance arrangements are in runoff with no new books of business being added going forward; however, we will continue to benefit from captive reinsurance on our 2005, 2006 and 2007 books of business.
We continue controlling the quality of our new business through tight underwriting guidelines, which we may modify from time to time when circumstances warrant such changes. We are also seeing the benefit of the previously announced rate increase of 20% on average for our flow products and a reduction in captive cession which equates to an effective pricing improvement of approximately 15%. We previously exited certain product lines, such as A minus, Alt-A and 100% loan-to-value products. We also continue to monitor our declining market policy, which among various restrictions, limited coverages to loans with 90% loan-to-value and below and to adjust those markets accordingly as areas of the U.S. housing market begin to stabilize. Recently, we reduced the number of markets subject to our declining market policy to allow coverage of loans up to 95% loan-to-value in additional markets given improving housing market conditions, which resulted in increased new business written and should positively impact new production going forward.
In September 2008, we announced that we were exploring strategic alternatives regarding our U.S. mortgage insurance business; however, we are no longer actively exploring strategic alternatives related to this business. We are operating our U.S. mortgage insurance business with sound risk and capital management practices to maintain a self-sufficient capital plan capable of absorbing the impact of continued stressed economic conditions. We are benefiting from recent changes in regulation, such as the clarification to adjust the risk-to-capital calculation to exclude the risk in-force with an established loss reserve, which have increased flexibility in the current environment. Legislation was signed into law recently in North Carolina granting discretion to the regulator through mid-2011 allowing a well capitalized mortgage insurer to exceed the 25:1 requirement under certain circumstances.
The following table sets forth the fair value of our fixed maturity securities portfolio by pricing source as of December 31, 2009:
Amortization of DAC for annuity contracts without significant mortality risk and for investment and universal life insurance products is based on expected gross profits. Expected gross profits are adjusted quarterly to reflect actual experience to date or for the unlocking of underlying key assumptions based on experience studies such as mortality, withdrawal or lapse rates, investment margin or maintenance expenses. The estimation of expected gross profits is subject to change given the inherent uncertainty as to the underlying key assumptions employed and the long duration of our policy or contract liabilities. Changes in expected gross profits reflecting
the unlocking of underlying key assumptions could result in a material increase or decrease in the amortization of DAC depending on the magnitude of the change in underlying assumptions. Significant factors that could result in a material increase or decrease in DAC amortization for these products include material changes in withdrawal or lapse rates, investment spreads or mortality assumptions. For the years ended December 31, 2009, 2008 and 2007, key assumptions were unlocked in our Retirement and Protection segment to reflect our current expectation of future investment spreads, lapse rates, mortality and reinsurance costs.
Continued low interest rates have reduced the recoverability margins on our immediate annuity products. Additional adverse variations in interest rates and/or mortality that we considered reasonably likely to occur in the future could result in the DAC associated with our immediate annuity products being no longer fully recoverable as well as requiring the establishment of additional benefit reserves. As of December 31, 2009, adverse variation that we consider reasonably likely would result in additional charge to income of approximately $25 million. However, more adverse variation could result in additional amortization of DAC or the establishment of additional benefit reserves, while any favorable variation would result in additional margin in our DAC loss recognition analysis and would result in higher income recognition over the remaining duration of the in-force block. We expect future sales of profitable immediate annuities will improve margins, which would reduce the likelihood that adverse variation in key assumptions would result in lower margin in our DAC loss recognition analysis.
As of December 31, 2009, we believe all of our other businesses have sufficient future income where the related DAC would be recoverable under adverse variations in morbidity, mortality, claim loss development, withdrawal or lapse rate, maintenance expense or interest rates that could be considered reasonably likely to occur. See notes 2 and 6 in our consolidated financial statements under “Item 8 - Financial Statements and Supplementary Data” for additional information related to DAC.
Goodwill. Goodwill represents the excess of the amounts paid to acquire a business over the fair value of its net assets at the date of acquisition. Subsequent to acquisition, goodwill could become impaired if the fair value
of a reporting unit as a whole were to decline below the value of its individually identifiable assets and liabilities. This may occur for various reasons, including changes in actual or expected income or cash flows of a reporting unit or generation of income by a reporting unit at a lower rate of return than similar businesses.
For the operating income model, we determine fair value based on the present value of the most recent income projections for each reporting unit and calculate a terminal value utilizing a terminal growth rate. The significant assumptions in the operating income model include: income projections, including the underlying assumptions; discount rate; and terminal growth rate.
There were no goodwill impairment charges recorded in 2009. However, continued deteriorating or adverse market conditions for certain businesses may have a significant impact on the fair value of our reporting units and could result in future impairments of goodwill. More specifically, our risks associated with future goodwill impairments relate to our businesses with significant goodwill balances, including long-term care insurance, life insurance, wealth management and lifestyle protection insurance.
In addition to the sensitivities discussed above, our more recent books of business in both our U.S. and international mortgage insurance businesses have experienced higher losses than our previous book years as a result of the global economic environment. In our U.S. mortgage insurance business, our 2005, 2006 and 2007 books of business have been experiencing delinquencies and incurred losses substantially higher than those generated from previous book years we have written. Early loss development patterns from these book years indicate that we would expect a higher level of total losses generated. Variations we consider reasonably likely could include an increase of 5% in these expected losses over a three-year period ending December 31, 2012 that would result in a decrease in after-tax operating results of approximately $85 million. Additional adverse
variation could result in additional negative impacts while favorable variations would result in improved margins. Regardless of the ultimate loss development pattern on these books, we expect they will continue to generate significant paid and incurred losses for at least the next two years and thus will continue to have a significant adverse impact on our operating results over these same periods.
In our international mortgage insurance business, we anticipate reduced levels of losses as a result of improving housing markets and economies. However, if housing markets and economies do not improve as anticipated, we may experience increased losses. Variations we consider reasonably likely to occur could include an increase in projected losses for our international mortgage insurance business of between 25% and 35% over the next three-year period. If changes at these levels were to occur, operating results could be negatively impacted by approximately $180 million to approximately $250 million over this same period based on current foreign exchange rates. The potential for either additional adverse loss development or favorable loss development exists that could further impact our business underwriting margins.
As of December 31, 2009 and 2008, we had $4.7 billion of unearned premiums, of which $3.1 billion and $2.8 billion, respectively, related to our international mortgage insurance business. We recognize international mortgage insurance unearned premiums over a period of up to 25 years, most of which are recognized between three and seven years from issue date. The recognition of earned premiums for our international mortgage insurance business involves significant estimates and assumptions as to future loss development and policy cancellations. These assumptions are based on our historical experience and our expectations of future performance, which are highly dependent on assumptions as to long-term macroeconomic conditions including interest rates, home price appreciation and the rate of unemployment. We periodically review our expected pattern of risk emergence and make adjustments based on actual experience and changes in our expectation of future performance with any adjustments reflected in current period income. For the years ended December 31, 2009, 2008 and 2007, increases to earned premiums in our international mortgage insurance business as a result of adjustments made to our expected pattern of risk emergence and policy cancellation assumptions were $32 million, $53 million and $45 million, respectively.
Our expected pattern of risk emergence for our international mortgage insurance business is subject to change given the inherent uncertainty as to the underlying loss development and policy cancellation assumptions and the long duration of our international mortgage insurance policy contracts. Actual experience that is different than assumed for loss development or policy cancellations could result in a material increase or decrease in the recognition of earned premiums depending on the magnitude of the difference between actual and assumed experience. Loss development and policy cancellation variations that could be considered reasonably likely to occur in the future could result in an increase in operating results of up to $65 million or a decrease in operating results of up to $47 million, depending on the magnitude of variation experienced. It is important to note that the variation discussed above is not meant to be a best-case or worst-case scenario, and therefore, it is possible that future variation may exceed the amounts discussed above.
The remaining portion of our unearned premiums relates to our lifestyle protection and long-term care insurance businesses where the underlying assumptions as to risk emergence are not subject to significant uncertainty. Accordingly, changes in underlying assumptions as to premium recognition we consider being reasonably likely for these businesses would not result in a material impact on our results of operations.
Deferred taxes on permanently reinvested foreign income. We do not record U.S. deferred taxes on foreign income that we do not expect to remit or repatriate to U.S. corporations within our consolidated group. Under U.S. GAAP, we are generally required to record U.S. deferred taxes on the anticipated repatriation of foreign income as the income is recognized for financial reporting purposes. An exception under certain accounting guidance permits us not to record a U.S. deferred tax liability for foreign income that we expect to reinvest in its foreign operations and for which remittance will be postponed indefinitely. If it becomes apparent that some or all undistributed income will be remitted in the foreseeable future, the related deferred taxes are recorded in that period. In determining indefinite reinvestment we regularly evaluate the capital needs of our domestic and foreign operations considering all available information, including operating and capital plans, regulatory capital requirements, parent company financing and cash flow needs, as well as, the applicable tax laws to which our domestic and foreign subsidiaries are subject. Our estimates are based on our historical experience and our expectation of future performance. Our judgments and assumptions are subject to change given the inherent uncertainty in predicting future capital needs, which are impacted by such things as regulatory requirements, policyholder behavior, competitor pricing, new product introductions, and specific industry and market conditions. As of December 31, 2009, U.S. deferred income taxes were not provided on approximately $1,384 million of unremitted foreign income we considered permanently reinvested.
exposure. Accounting standards require that a liability be recorded if management determines that it is probable that a loss has occurred and the loss can be reasonably estimated. In addition, it must be probable that the loss will be confirmed by some future event. As part of the estimation process, management is required to make assumptions about matters that are by their nature highly uncertain.
Net investment income for the year ended December 31, 2009 included a $160 million loss related to limited partnerships as compared to a $70 million loss for the year ended December 31, 2008 reflecting current year losses from limited partnerships accounted for under the equity method. In addition, net investment income for the year ended December 31, 2009 included $27 million of investment income related to bond calls and commercial mortgage loan prepayments as compared to $33 million for the year ended December 31, 2008.
Goodwill impairment. Charges for impairment of goodwill are as a result of declines in the fair value of the reporting units.
Interest expense. Interest expense represents interest related to our borrowings that are incurred at our holding company level and our non-recourse funding obligations and interest expense related to certain reinsurance arrangements being accounted for as deposits.
Provision (benefit) for income taxes. The effective tax rate increased to 49.6% for the year ended December 31, 2009 from 39.3% for the year ended December 31, 2008. This increase in the effective tax rate was primarily attributable to the impairment of non-deductible goodwill in 2008. The year ended December 31, 2009 included a decrease of $13 million attributable to changes in foreign exchange rates.
Our Retirement and Protection segment increased $165 million primarily attributable to a $132 million increase in our long-term care insurance business, a $28 million increase in our life insurance business and a $6 million increase in our retirement income business.
Our International segment increased $160 million as a result of a $123 million increase in our international mortgage insurance business and a $37 million increase from our lifestyle protection insurance business. The year ended December 31, 2008 included an increase of $39 million attributable to changes in foreign exchange rates.
Weighted-average investment yields decreased to 5.2% for the year ended December 31, 2008 from 5.9% for the year ended December 31, 2007. The decrease in weighted-average investment yields was primarily attributable to lower yields on floating rate investments and reduced yields from holding higher cash and short-term investment balances to cover near term obligations and portfolio repositioning activities, as well as lower valuation marks on limited partnerships.
Our International segment increased $31 million attributable to a $5 million increase in our international mortgage insurance business and a $26 million increase in our lifestyle protection insurance business. The year ended December 31, 2008 included an increase of $14 million attributable to changes in foreign exchange rates.
Our Retirement and Protection segment decreased $39 million primarily related to our life insurance business.
Net income (loss) available to Genworth Financial, Inc.’s common stockholders. The net loss available to Genworth Financial, Inc.’s common stockholders was largely the result of investment and goodwill impairments recorded during 2008 and losses incurred in our U.S. Mortgage Insurance segment. For a discussion of our Retirement and Protection, U.S. Mortgage Insurance and International segments and Corporate and Other, see the “-Results of Operations and Selected Financial and Operating Performance Measures by Segment.” Included in the net loss available to Genworth Financial, Inc.’s common stockholders was an increase of $20 million, net of taxes, attributable to changes in foreign exchange rates.
(1) Under applicable accounting guidance, companies in a loss position are required to use basic weighted-average common shares outstanding in the calculation of diluted loss per share. Therefore, as a result of our net loss for December 31, 2009 and 2008, the inclusion of 1.9 million and 1.7 million, respectively, of shares for stock options, RSUs and SARs would have been antidilutive to the calculation. If we had not incurred a net loss for 2009 and 2008, dilutive potential common shares would have been 453.0 million and 434.9 million, respectively.
Weighted-average shares outstanding increased reflecting a public offering of 55.2 million shares of our Class A Common Stock in the third quarter of 2009. The balance also reflects repurchases of 38.2 million shares from January 2007 through the first quarter of 2008. In May 2007, we repurchased 16.5 million shares of our common stock under an accelerated share repurchase transaction with a broker/dealer counterparty. Also in May 2007, our Equity Unit holders purchased 25.5 million of newly issued shares of our Class A Common Stock pursuant to the stock purchase contract component of the Equity Units; therefore, the stock purchase contracts underlying Equity Units were only dilutive through May 2007. Diluted weighted-average shares outstanding for 2007 reflect the effects of potentially dilutive securities including stock options, RSUs and other equity-based compensation.
Our chief operating decision maker evaluates segment performance and allocates resources on the basis of “net operating income (loss) available to Genworth Financial, Inc.’s common stockholders.” We define net operating income (loss) available to Genworth Financial, Inc.’s common stockholders as income (loss) from continuing operations excluding net income attributable to noncontrolling interests, after-tax net investment gains (losses) and other adjustments and infrequent or unusual non-operating items. We exclude net investment gains (losses) and infrequent or unusual non-operating items because we do not consider them to be related to the operating performance of our segments and Corporate and Other activities. A significant component of our net investment gains (losses) is the result of impairments, the size and timing of which can vary significantly depending on market credit cycles. In addition, the size and timing of other investment gains (losses) are often subject to our discretion and are influenced by market opportunities, as well as asset-liability matching considerations. Infrequent or unusual non-operating items are also excluded from net operating income (loss) available to Genworth Financial, Inc.’s common stockholders if, in our opinion, they are not indicative of overall operating trends. While some of these items may be significant components of net income (loss) available to Genworth Financial, Inc.’s common stockholders in accordance with U.S. GAAP, we believe that net operating income (loss) available to Genworth Financial, Inc.’s common stockholders, and measures that are derived from or incorporate net operating income (loss) available to Genworth Financial, Inc.’s common stockholders, are appropriate measures that are useful to investors because they identify the income (loss) attributable to the ongoing operations of the business. However, net operating income (loss) available to Genworth Financial, Inc.’s common stockholders is not a substitute for net income (loss) available to Genworth Financial, Inc.’s common stockholders determined in accordance with U.S. GAAP. In addition, our definition of net operating income (loss) available to Genworth Financial, Inc.’s common stockholders may differ from the definitions used by other companies. See note 20 in our consolidated financial statements under “Item 8 - Financial Statements and Supplementary Data” for a reconciliation of net operating income (loss) available to Genworth Financial, Inc.’s common stockholders of our segments and Corporate and Other activities to net income (loss) available to Genworth Financial, Inc.’s common stockholders.
The following table sets forth net operating income available to Genworth Financial, Inc.’s common stockholders for the businesses included in our Retirement and Protection segment:
Our retirement income business decreased $410 million primarily attributable to lower life-contingent sales of our spread-based products in the current market environment.
Our life insurance business decreased $157 million mainly due to lower yields on the assets backing our non-recourse funding obligations supporting certain term and universal life insurance reserves. Net investment income in 2009 also included $27 million of higher losses related to limited partnerships accounted for under the equity method.
Our retirement income business decreased $122 million primarily as a result of limited partnership losses and lower yields from holding higher cash balances to cover near term obligations and portfolio repositioning activities. Net investment income in 2009 included $43 million of higher losses related to limited partnerships accounted for under the equity method.
Net investment losses in our life insurance business decreased $183 million primarily related to lower impairments recorded in 2009 and an increase in net investment gains from the sale of investment securities in 2009 from portfolio repositioning.
Net investment losses in our retirement income business decreased $566 million. Net investment losses in our spread-based products decreased $409 million primarily attributable to lower impairments recorded in 2009. Our fee-based products had net investment gains of $78 million in 2009 primarily from gains related to embedded derivatives associated with our variable annuity products with GMWBs compared to losses of $79 million in 2008.
Our wealth management business decreased $51 million primarily attributable to lower average assets under management from unfavorable market impacts in the second half of 2008 and the first quarter of 2009.
Our life insurance business decreased $5 million principally attributable to our universal life insurance products from prior year unfavorable reserve adjustments to reflect the underlying experience and a system implementation in the prior year. Our term life insurance products remained relatively flat as lower production and higher ceded reinsurance in 2009 was offset by in-force growth. In addition, the prior year included an increase in reserves related to a policy valuation system input correction in a small block of term life insurance policies.
Our retirement income business decreased $406 million largely attributable to our life-contingent spread-based products driven by a decline in sales in 2009. Our fee-based products also decreased related to our guaranteed minimum benefit liabilities for our variable annuity contracts driven by improved market performance, partially offset by an increase in GMDB claims during 2009.
Our life insurance business decreased $39 million primarily related to our universal life insurance products from a favorable adjustment in 2009 to estimated gross profits of $44 million and lower amortization of $5 million from a favorable unlocking related to estimated gross profit assumptions in 2009 as compared to 2008. These decreases were partially offset by increases in amortization related to our term life insurance products driven by growth of the in-force block and higher lapses in 2009.
Interest expense. Interest expense decreased $75 million primarily related to our life insurance business from a decrease in average floating rates paid on our non-recourse funding obligations reflecting the decline in the underlying index rate in 2009.
Provision (benefit) for income taxes. The effective tax rate increased to 52.4% for the year ended December 31, 2009 from (11.5)% for the year ended December 31, 2008. This increase in the effective tax rate was primarily attributable to the impairment of non-deductible goodwill in 2008, partially offset by changes in uncertain tax positions in 2009.
Our long-term care insurance business increased $8 million primarily attributable to growth in the in-force block and favorable adjustments in 2008. These increases were offset by lower investment yields from holding higher cash balances to cover near term obligations and portfolio repositioning activities and negative valuation marks on limited partnership investments in 2008.
Our wealth management business remained relatively flat as positive net flows and lower asset-based expenses were offset by declines in the equity markets.
Our long-term care insurance business increased $131 million mainly attributable to growth in the in-force block from new sales and renewal premiums. In addition, there was a $10 million decrease in 2007 related to the write-down of a premiums receivable resulting from the settlement of a reinsurance dispute that did not recur.
Our retirement income business increased $6 million primarily attributable to higher sales of life-contingent immediate annuities as these products have become more attractive in the current environment, as well as rate actions on certain immediate annuities. These increases were partially offset by the runoff of our life-contingent structured settlement annuities.
Our life insurance business decreased $91 million mainly due to lower yields on the assets backing our non-recourse funding obligations supporting certain term and universal life insurance reserves. Net investment income in 2008 included a $6 million loss related to limited partnerships as compared to a $19 million gain in 2007 reflecting current year losses from limited partnerships accounted for under the equity method. Additionally, we received less investment income from bond calls and commercial mortgage loan prepayments in 2008.
Our retirement income business decreased $114 million primarily as a result of lower investment yields and a decline in average invested assets in our spread-based products. Net investment income in 2008 included a $38 million loss related to limited partnerships as compared to a $20 million gain in 2007 reflecting current year losses from limited partnerships accounted for under the equity method. The lower investment yields were primarily a result of portfolio repositioning activities, as well as holding higher cash balances to cover near term obligations. Additionally, we received less investment income from bond calls and commercial mortgage loan prepayments in 2008.
Our retirement income business decreased $666 million primarily due to impairments related to our spread-based products and from derivative losses in embedded derivative liabilities associated with our variable annuity products with GMWBs exceeding the change in value of derivative instruments used for mitigating this risk.
Interest credited. Our retirement income business decreased $36 million largely from lower account values on fixed annuities associated with surrenders more than offsetting sales. Additionally, crediting rates were reset to lower rates as certain annuities reached the end of their initial crediting rate guarantee period.
Our long-term care insurance business increased $8 million and included $4 million of non-operating expenses recorded in the fourth quarter of 2008 related to the plan for workforce reduction and other restructuring actions. The remaining increase was due to growth in our in-force business.
Our wealth management business decreased $4 million attributable to lower average assets under management as a result of declines in the equity markets.
Our life insurance business increased $6 million driven by continued growth of insurance in-force, higher mortality, increased lapses and a policy valuation system input correction in a small block of term life insurance policies in 2008. These increases were offset by lower amortization of $15 million from a revision to estimated gross profit assumptions in our universal life insurance products in 2008 as compared to $7 million in 2007.
Provision (benefit) for income taxes. The effective tax rate decreased to (11.5)% for the year ended December 31, 2008 from 31.6% for the year ended December 31, 2007. This decrease in the effective tax rate was primarily attributable to a pre-tax loss, the impairment of non-deductible goodwill and lower favorable examination developments on the loss in 2008.
Net earned premiums increased mainly attributable to growth in our in-force block from new sales and renewal premiums and rate actions, partially offset by an unfavorable reinsurance adjustment of $16 million in 2009.
The decrease in these assets was primarily due to unfavorable equity market performance in the current year. Gross flows continue to outpace redemptions; however, given the current market conditions, redemptions increased significantly and gross flows slowed during the second half of 2008.
We experienced an increase in our Income Distribution Series products attributable to continued sales growth of our GMWB rider, partially offset by unfavorable performance of the equity markets.
In our traditional variable annuities, the decrease was principally the result of the unfavorable performance of the equity markets, partially offset by continued sales.
Account value of our fixed annuities decreased as surrenders exceeded deposits as initial bonus crediting rates have begun to enter their rate reset period resulting in lower crediting rates. Sales of this product have slowed significantly in 2009 given market conditions and as a result of company actions related to future risk, profitability and capital considerations.
The year ended December 31, 2009 included decreases of $36 million and $1 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The year ended December 31, 2009 included decreases of $72 million and $109 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The year ended December 31, 2009 included decreases of $23 million and $15 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The year ended December 31, 2009 included decreases of $37 million and $44 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The increase in our lifestyle protection insurance business was largely a result of higher claims frequency and an increase in claim reserves, particularly in Spain and Ireland, as a result of increasing unemployment rates. This was partially offset by favorable reserve adjustments in 2009.
The year ended December 31, 2009 included decreases of $5 million and $22 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The decrease in our lifestyle protection insurance business was largely attributable to a decrease in the U.K. from lower single premium sales related to new business regulations and a decrease from our runoff block of business.
The year ended December 31, 2008 included increases of $10 million and $9 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The increase in our lifestyle protection insurance business was largely a result of growth in Europe and new markets. Partially offsetting this increase was lower single premium sales as a result of pending anticipated clarifications of related new business regulations in the U.K. and a decrease from our runoff block of business. Additionally, reinsurance arrangements accounted for under the deposit method increased resulting in lower premiums.
The year ended December 31, 2008 included increases of $2 million and $4 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The increase in our international mortgage insurance business was largely due to an increase in average invested assets as a result of growth of the business.
The increase in our lifestyle protection insurance business was principally attributable to an increase in average invested assets as a result of growth in new business, an increase in reinsurance arrangements accounted for under the deposit method and increased yields.
The increase in our international mortgage insurance business was primarily driven by higher losses in Canada and Australia as large in-force books season and delinquencies increased in a slowing economic environment. There were also increased losses in Europe, particularly in Spain and Ireland, from higher delinquencies and an increase in paid claims, partially offset by a favorable reserve release related to ongoing loss mitigation activities in Spain.
Provision for income taxes. The effective tax rate decreased to 26.8% for the year ended December 31, 2008 from 28.7% for the year ended December 31, 2007. This decrease in the effective tax rate was primarily attributable to an increase in lower taxed foreign income. The year ended December 31, 2008 also included an increase of $3 million attributable to changes in foreign exchange rates for our lifestyle protection insurance business.
The following tables set forth selected operating performance measures regarding our international mortgage insurance business as of or for the dates indicated:
Most of our international mortgage insurance policies provide for single premiums at the time that loan proceeds are advanced. We initially record the single premiums to unearned premium reserves and recognize the premiums earned over time in accordance with the expected pattern of risk emergence. As of December 31, 2009, our unearned premium reserves were $3.1 billion, including an increase of $521 attributable to changes in foreign exchange rates, compared to $2.8 billion as of December 31, 2008. Excluding the effects of foreign exchange, our unearned premium reserves decreased primarily related to the recognition of premiums earned in 2009, lower net written premiums in Canada and loss mitigation activities in Europe.
Most of our international mortgage insurance policies provide for single premiums at the time that loan proceeds are advanced. We initially record the single premiums to unearned premium reserves and recognize the premiums earned over time in accordance with the expected pattern of risk emergence. As of December 31, 2008, our unearned premium reserves decreased to $2.8 billion, including a decrease of $656 million attributable to changes in foreign exchange rates, from $3.4 billion as of December 31, 2007.
Net premiums earned increased primarily from the seasoning of our in-force block of business and growth, partially offset by rescissions related to loss mitigation activities in Spain. Premiums also included $53 million related to a release of unearned premiums as a result of a periodic update to the Canadian, Australian and European premium recognition factors in 2008 as compared to $45 million in 2007. The year ended December 31, 2008 included an increase of $8 million attributable to changes in foreign exchange rates.
The increase in the loss ratio was primarily driven by higher losses in Canada and Australia as their large in-force books of business have seasoned in periods of higher unemployment giving rise to increased levels of losses. Losses in Europe declined primarily related to ongoing loss mitigation activities. This decrease was partially offset by increased losses, particularly in Spain and Italy, from higher delinquencies and seasoning of the books of business.
The following table sets forth selected financial information regarding the effective risk in-force of our international mortgage insurance loan portfolio as of December 31:
Flow loans in-force increased as a result of our continued growth in Australia and Canada, partially offset by our loss mitigation efforts in Europe. Bulk loans in-force decreased primarily driven by our loss mitigation activities in Europe and limited opportunities in the bulk market during 2009. Delinquent loans increased as our large in-force books of business have seasoned in a slowing economic environment and in periods of higher unemployment.
The decrease was primarily attributable to reduced levels of consumer lending, lower single premium sales related to new business regulations in the U.K. and a slowing economic environment, primarily in Spain, Italy and Portugal. There was also a decrease from our runoff block of business. These decreases were partially offset by a favorable impact from our re-pricing actions taken in the second half of 2009. The year ended December 31, 2009 included a decrease of $109 million attributable to changes in foreign exchange rates.
Premiums decreased primarily driven by refunds related to policy coverage rescission activity and lower new insurance written as a result of lower mortgage insurance market penetration, despite an increase in the second half of 2009. Our flow persistency was 84% for the year ended December 31, 2009 compared to 85% in the prior year.
Amortization of deferred acquisition costs and intangibles decreased primarily attributable to a lower average DAC balance in 2009 from a decrease in production as a result of the current economic recession and a $30 million write-down of DAC and a $14 million acceleration of amortization of DAC in 2008 that did not recur. We also recorded an impairment charge of $22 million related to goodwill in 2008.
The effective tax rate increased to 40.7% for the year ended December 31, 2009 from 39.7% for the year ended December 31, 2008. This increase in the effective tax rate was primarily attributable to the impairment of non-deductible goodwill in 2008.
Benefits and other changes in policy reserves increased due to higher incurred losses as a result of a $512 million net change in reserves and a $288 million increase in paid claims. The increase in reserves continued to be driven by higher delinquencies and foreclosures, as well as continued deterioration of the underlying cure rates associated with certain delinquencies offset in part by loss mitigation efforts, as well as policy coverage rescissions. There has been a continued increase in the number of delinquencies that progress to foreclosure, particularly in Florida, California, Arizona and Nevada resulting in a strengthening of reserves in our 2006 and 2007 books of business. This remains evident across all of our products, particularly our A minus, Alt-A, ARMs and certain 100% loan-to-value products. The increase in paid claims was attributable to an increase in average claim payments reflecting higher loan balances in more recent book years and higher claim counts, particularly in the Southeast, South Central and Pacific regions. These increases were offset by a reinsurance credit of $504 million under certain of our captive reinsurance arrangements. We continued to experience an increase in delinquencies and associated reserves relating to adjustable rate loans in our bulk business, particularly from our 2005, 2006 and 2007 books of business.
The effective tax rate increased to 39.7% for the year ended December 31, 2008 from 22.3% for the year ended December 31, 2007. This increase in the effective tax rate was primarily attributable to the current year pre-tax loss and its proportion to tax-exempt investment income.
New insurance written decreased primarily driven by tighter mortgage insurance guidelines and mortgage lender underwriting standards which have contributed to a decline in our mortgage insurance market share and penetration as a result of a weak housing market and limited mortgage credit liquidity, although we have experienced an increase in market share in the second half of 2009.
The following table sets forth the loss and expense ratios for our U.S. Mortgage Insurance segment for the dates indicated:
The following table sets forth selected financial information regarding our U.S. primary mortgage insurance loan portfolio as of December 31:
The claim process in our U.S. Mortgage Insurance segment is similar to the process we follow in our international mortgage insurance business except that in the U.S., the master policies generally require an insured to notify us of a delinquency no later than ten days after the borrower has been in default by three monthly payments. See “-International Mortgage Insurance-Delinquent loans and claims.” The following table sets forth the number of loans insured, the number of delinquent loans and the delinquency rate for our U.S. mortgage insurance portfolio as of December 31:
(1) Included loans where we were in a secondary loss position for which no reserve was established due to an existing deductible. Excluding these loans, bulk delinquent loans were 11,319, 4,450 and 2,404 as of December 31, 2009, 2008 and 2007, respectively.
Primary insurance delinquency rates differ from region to region in the U.S. at any one time depending upon economic conditions and cyclical growth patterns. The two tables below set forth our primary delinquency rates for the various regions of the U.S. and the ten largest states by our risk in-force as of December 31, 2009. Delinquency rates are shown by region based upon the location of the underlying property, rather than the location of the lender.
(1) Alabama, Arkansas, Florida, Georgia, Mississippi, North Carolina, South Carolina and Tennessee.
The ratio of the claim paid to the current risk in-force for a loan is referred to as “claim severity.” The current risk in-force is equal to the unpaid principal amount multiplied by the coverage percentage. The main determinants of claim severity are the age of the mortgage loan, the value of the underlying property, accrued interest on the loan, expenses advanced by the insured and foreclosure expenses. These amounts depend partly upon the time required to complete foreclosure, which varies depending upon state laws. Pre-foreclosure sales, acquisitions and other early workout efforts help to reduce overall claim severity. Our average primary flow mortgage insurance claim severity was 108%, 105% and 99% for the years ended December 31, 2009, 2008 and 2007, respectively.
Insurance and investment product fees and other decreased primarily as a result of lower income from the early retirement of institutional contracts at a discount to contract values in 2009, partially offset by higher gains from our long-term debt repurchases in 2009.
The decrease in interest expense mainly related to the repayment of senior notes in May and June 2009 and repurchases of senior notes during 2009, partially offset by borrowings on our credit facilities that occurred in the fourth quarter of 2008 and the issuance of senior notes in the fourth quarter of 2009.
The decrease in the net operating loss was primarily attributable to income from the early retirement of institutional contracts at a discount to contract values, a gain on the repurchase of debt and an increase in the income tax benefit. These increases were partially offset by lower net investment income and higher interest expense.
Lower net investment income was a result of lower yields on floating rate investments and a decline in average invested assets. Lower yields were also a result of holding higher cash balances to cover near term obligations. Additionally, we had negative valuation marks on limited partnership investments and received less investment income from bond calls and commercial mortgage loan prepayments in 2008.
The goodwill impairment charge related to our institutional products from an impairment charge recorded in the third quarter of 2008 of $12 million. The increase in interest expense was primarily due to an additional debt issuance in the second quarter of 2008.
The effective tax rate increased to 35.4% for the year ended December 31, 2008 from 34.7% for the year ended December 31, 2007 primarily attributable to changes in uncertain tax positions.
The decrease in overall investment yield in 2009 was primarily attributable to lower yields on floating rate investments and reduced yields from holding higher cash and short-term investment balances to cover near term obligations and portfolio repositioning activities. Lower valuation marks on limited partnerships and a decrease in policy loans from a bankruptcy-related lapse in 2009 of a large group corporate-owned life insurance policy also contributed to lower yields. Net investment income for years ended December 31, 2009 and 2008 included $160 million and $70 million, respectively, of losses related to limited partnerships accounted for under the equity method. Bond calls and commercial mortgage loan prepayments were $27 million and $33 million for the years ended December 31, 2009 and 2008, respectively.
The decrease in overall investment yield in 2008 was primarily attributable to lower yields on floating rate investments supporting floating rate policyholder liabilities and non-recourse funding obligations. Additionally,
we held higher cash and short-term investment balances to cover near term obligations and portfolio repositioning strategies that resulted in reduced yields on our investment portfolio. Also contributing to decreased yields were lower valuation marks on limited partnership investments. Net investment income for year ended December 31, 2008 included $70 million of losses related to limited partnerships accounted for under the equity method as compared to $44 million of gains related to limited partnerships accounted for under the equity method for the year ended December 31, 2007. Bond calls and commercial mortgage loan prepayments were $33 million and $59 million for the years ended December 31, 2008 and 2007, respectively.
We have fixed maturity, equity and trading securities, derivatives, embedded derivatives, securities held as collateral and certain other financial instruments, which are carried at fair value. Fair value is the price that would be received to sell an asset in an orderly transaction between market participants at the measurement date. See note 2 in our consolidated financial statements under “Item 8 - Financial Statements and Supplementary Data” for additional information regarding fair value measurement and classification of fair value measurements into level categories. As of December 31, 2009, approximately 16% of our investment holdings recorded at fair value were based on significant inputs that were not market observable and were classified as Level 3 measurements.
The following tables set forth our investments that are measured at fair value on a recurring basis as of December 31:
For the securities classified as Level 3 at the end of the period, the current market conditions for these securities have resulted in little or no trading activity or other market observable data and requires the use of significant unobservable inputs to estimate fair value. Accordingly, these resulting fair value measurements have been classified as Level 3.
As of December 31, 2009, the amortized cost or cost, gross unrealized gains (losses) and fair value of our fixed maturity and equity securities classified as available-for-sale were as follows:
Fixed maturity securities increased $6.9 billion primarily as a result of lower unrealized losses primarily from an improvement in market performance and an increase in purchases of fixed maturity securities as we reinvested cash.
We allocate net unrealized investment gains (losses) from Corporate and Other activities to our Retirement and Protection segment using an approach based principally upon the investment portfolio established to support the segment’s products and targeted capital levels. We do not allocate net unrealized investment gains (losses) from Corporate and Other activities to our International and U.S. Mortgage Insurance segments because they have their own separate investment portfolios, and net unrealized investment gains (losses) from those portfolios are reflected in the International and U.S. Mortgage Insurance segment balance sheets, respectively. The majority of our unrealized losses related to securities held within our Retirement and Protection segment. Our U.S. Mortgage Insurance segment had gross unrealized losses of $134 million and $308 million as of December 31, 2009 and 2008, respectively.
As of December 31, 2009, the amortized cost or cost, gross unrealized gains (losses) and fair value of our mortgage-backed and asset-backed securities collateralized by sub-prime residential mortgage loans were as follows:
Our sub-prime securities are principally backed by first lien mortgages. We do not have any exposure to interest margin deals, highly leveraged transactions or collateralized debt obligation-squared investments.
As of December 31, 2009, the fair value of our mortgage-backed and asset-backed securities collateralized by sub-prime residential mortgage loans by vintage and fair value level were as follows:
As of December 31, 2009, the amortized cost or cost, gross unrealized gains (losses) and fair value of our mortgage-backed and asset-backed securities collateralized by Alt-A residential mortgage loans were as follows:
As of December 31, 2009, the fair value of our mortgage-backed and asset-backed securities collateralized by Alt-A residential mortgage loans by vintage and fair value level were as follows:
As of December 31, 2009, the amortized cost or cost, gross unrealized gains (losses) and fair value of our commercial mortgage-backed securities were as follows:
As of December 31, 2009, the fair value of our commercial mortgage-backed securities by vintage and fair value level were as follows:
As of December 31, 2009, the fair value of all mortgage-backed and asset-backed securities not collateralized by sub-prime residential mortgage loans, Alt-A residential mortgage loans or commercial mortgage loans by vintage and fair value level were as follows:
Of the unrealized losses of $3,523 million, $2,125 million were related to structured securities and $770 million were related to corporate securities in the finance and insurance sector. Of the remaining gross unrealized
Of the investment securities in an unrealized loss position for 12 months or more as of December 31, 2009, 743 securities were 20% or more below cost, of which 257 securities were also below investment grade (rated “BB+” and below) and accounted for unrealized losses of $729 million. These securities were primarily structured securities or securities issued by corporations in the finance and insurance sector. Included in this amount are other-than-temporarily impaired securities where the non-credit loss of $96 million was recorded in OCI.
As of December 31, 2009, we expect to recover our amortized cost on the securities included in the chart above and we do not intend to sell, or it is not more likely than not that we will be required to sell, these securities prior to recovering our amortized cost.
(2) Loan balance represents reverse mortgage originations not sold as of December 31, 2009 and number of loans represents total reverse mortgage loan originations for 2009.
The allowance for losses included reserve adjustments associated with commercial mortgage loans that were classified as held-for-sale in our commercial mortgage warehouse facility. The increase in the provision during 2009 was related to a change in reserving assumptions to reflect the current market environment. During 2008, we transferred the loans within the commercial mortgage warehouse facility to our general account and reclassified the loans as held-for-investment and, as a result, the lower of cost or market reserve was released.
Our investments in derivatives and derivative counterparty collateral decreased primarily as a result of an increase in long-term interest rates. Securities lending collateral decreased primarily from our decision to decrease the program size. Limited partnership investments decreased primarily from sales and unrealized depreciation and returned capital, partially offset by calls on outstanding commitments. The increase in short-term investments was related to additional purchases in 2009.
The activity associated with derivative instruments can generally be measured by the change in notional value over the periods presented. However, for equity index options, the change between periods is best illustrated by the number of contracts, and for GMWB embedded derivatives, the change between periods is best illustrated by the number of policies. The following tables represent activity associated with derivative instruments as of the dates indicated:
The increase in the notional value of derivatives was primarily due to a $6.0 billion notional increase in qualifying cash flow hedges related to our interest rate hedging strategy associated with our long-term care insurance products, a $3.6 billion notional increase in non-qualifying exchange-traded futures associated with our GMWB hedging strategy related to the downgrade in credit ratings in the second quarter of 2009 and a $0.5 billion notional increase in credit default swaps utilized to increase our diversification and portfolio yield. The increases were partially offset by a $7.0 billion notional decrease in swaps and swaptions related to a derivative strategy to mitigate interest rate risk associated with our statutory capital position and a $1.1 billion notional decrease in interest rate swaps and exchange-traded equity futures associated with our GMWB hedging strategy.
Total assets. Total assets increased $0.8 billion from $107.4 billion as of December 31, 2008 to $108.2 billion as of December 31, 2009.
and an increase in purchases of fixed maturity securities as we reinvested cash. Cash decreased $2.3 billion from the purchases of investments, the scheduled maturities and early retirement of institutional contracts and repayment of our senior notes and preferred stock, partially offset by proceeds from the initial public offering of our Canadian mortgage insurance business and our equity offering. Other invested assets decreased $2.7 billion primarily driven by a decrease in derivatives and derivatives counterparty collateral. Commercial mortgage loans decreased $0.8 billion as collections exceeded originations and policy loans decreased $0.4 billion primarily from the bankruptcy-related lapse of a large group corporate-owned life insurance policy.
The deferred tax asset decreased $0.9 billion primarily related to a decrease in unrealized investment losses.
Long-term borrowings decreased $0.6 billion primarily as a result of the repayment of principal of $660 million of our senior notes that matured in the second quarter of 2009. Additionally, during 2009, we repurchased principal of $207 million of our senior notes and $37 million of our preferred stock. These decreases were partially offset by the issuance of senior notes with an aggregate principal amount of $300 million in December 2009.
Separate account liabilities increased $1.8 billion primarily as a result of favorable market performance of the underlying securities.
Accumulated other comprehensive loss decreased $2.9 billion primarily attributable to a decrease of $2.6 billion in net unrealized investment losses from improved market performance during 2009. Also, during 2009, the U.S. dollar weakened against other currencies resulting in higher foreign currency translation adjustments.
Noncontrolling interests increased $1.1 billion related to the initial public offering of our Canadian mortgage insurance business in July 2009 which reduced our ownership percentage to 57.5%.
The following table sets forth our condensed consolidated cash flows for the years ended December 31:
In analyzing our cash flow, we focus on the change in the amount of cash available and used in investing activities. Cash flows from investing activities decreased in 2009 as purchases of investments exceeded proceeds from maturities and sales of fixed maturity securities. In 2008, we were holding higher cash balances to cover near term obligations; however, in 2009, we began reinvesting this cash, including $1.5 billion in the fourth quarter of 2009.
Insurance laws and regulations regulate the payment of dividends and other distributions to us by our insurance subsidiaries. In general, dividends in excess of prescribed limits are deemed “extraordinary” and require insurance regulatory approval. Based on estimated statutory results as of December 31, 2009, in accordance with applicable dividend restrictions, our subsidiaries could pay dividends of approximately $1.1 billion to us in 2010 without obtaining regulatory approval. However, we do not expect our insurance subsidiaries to pay dividends to us in 2010 at this level as they retain capital for growth and to meet capital requirements.
During the years ended December 31, 2009, 2008 and 2007, we received dividends from our subsidiaries of $904 million, $509 million and $895 million, respectively. Our holding companies received dividends from our domestic insurance subsidiaries of $50 million ($24 million of which were deemed “extraordinary”), $300 million (none of which were deemed “extraordinary”) and $750 million ($163 million of which were deemed “extraordinary”), respectively, during the years ended December 31, 2009, 2008 and 2007.
A capital support agreement of up to $300 million with one of our insurance subsidiaries domiciled in Bermuda to fund claims under an intercompany reinsurance agreement to support our life insurance business;
A capital support agreement of up to $260 million with one of our insurance subsidiaries to fund claims to support our international mortgage insurance business in Mexico; and
In connection with our IPO, we entered into a Tax Matters Agreement with GE, which represents an obligation by us to GE. The balance of this obligation was $351 million as of December 31, 2009.
In November 2008, our Board of Directors decided to suspend the payment of dividends on our common stock indefinitely. The declaration and payment of future dividends to holders of our common stock will be at the discretion of our Board of Directors and will be dependent on many factors including the receipt of dividends from our operating subsidiaries, our financial condition and operating results, the capital requirements of our subsidiaries, legal requirements, regulatory constraints, our credit and financial strength ratings and such other factors as the Board of Directors deems relevant.
Cash flows from operating activities are primarily affected by the dividends from our subsidiaries and the timing of investment income and expenses paid. The increase in cash from operating activities was primarily attributable to higher dividends received from our subsidiaries in 2009.
Cash flows from investing activities are principally affected by the capital contributions paid to subsidiaries and investment activity. During 2009, we made $97 million of capital contributions to our subsidiaries as compared to $634 million in 2008. For the year ended December 31, 2009, there was no significant investing activity.
Our insurance subsidiaries maintain investment strategies intended to provide adequate funds to pay benefits without forced sales of investments. Products having liabilities with longer durations, such as certain life insurance and long-term care insurance policies, are matched with investments having similar estimated lives such as long-term fixed maturity securities and commercial mortgage loans. Shorter-term liabilities are matched with fixed maturity securities that have short- and medium-term fixed maturities. In addition, our insurance subsidiaries hold highly liquid, high quality short-term investment securities and other liquid investment grade fixed maturity securities to fund anticipated operating expenses, surrenders and withdrawals. As of December 31, 2009, our total cash, cash equivalents and invested assets were $68.5 billion. Our investments in privately placed fixed maturity securities, commercial mortgage loans, policy loans, limited partnership investments and select mortgage-backed and asset-backed securities are relatively illiquid. These asset classes represented approximately 38% of the carrying value of our total cash, cash equivalents and invested assets as of December 31, 2009.
All of our life insurance subsidiaries have RBC ratios that exceed the minimum levels required by applicable insurance regulations. However, in January 2010, our holding company contributed $200 million of capital to our U.S. life insurance companies in support of growth opportunities in our life and long-term care insurance businesses which further strengthened the life companies’ capital base and increased the reported 2009 year end statutory RBC ratio.
As of December 31, 2009, we had approximately $943 million of GICs outstanding. Substantially all of these contracts allow for the payment of benefits at contract value to ERISA plans prior to contract maturity in the event of death, disability, retirement or change in investment election. These contracts also provide for early termination by the contractholder but are subject to an adjustment to the contract value for changes in the level of interest rates from the time the GIC was issued plus an early withdrawal penalty. We carefully underwrite these risks before issuing a GIC to a plan and historically have been able to effectively manage our exposure to these benefit payments. Our GICs typically credit interest at a fixed interest rate and have a fixed maturity generally ranging from two to nine years. We did not experience any significant levels of early termination requests in 2009.
During 2005, certain of our domestic life insurance subsidiaries transferred primarily foreign-issued investment securities to an affiliated special purpose entity (“SPE”) that is consolidated in our financial statements and whose sole purpose is to securitize these investment securities and issue secured notes to various affiliated insurance companies. The securitized investments are owned in their entirety by the SPE and, therefore, are not available to satisfy the claims of our creditors. These securitized investments provide collateral to the notes issued by the SPE to the insurance companies. The fair value of those securities as of December 31, 2009 was $916 million.
two facilities contain minimum consolidated net worth requirements. Consolidated net worth, as defined in these agreements, means all amounts that would be included on a consolidated balance sheet of the borrower and its subsidiaries under stockholders’ equity, excluding AOCI.
Additionally, during 2009, we completed several transactions to increase our liquidity and capital flexibility. We reduced sales of certain insurance products. In December 2008, we announced a plan to reduce costs by eliminating approximately 1,000 jobs globally which we completed in the first quarter of 2009 and implemented cost saving initiatives throughout the organization to reduce operating expenses. Additionally, we continued to utilize reinsurance arrangements throughout 2009 to provide some additional capital capacity to our insurance subsidiaries. We have also initiated a number of strategies to begin reinvesting the substantial cash balances we maintained through the recent uncertain market conditions to enhance investment yields with approximately $1.5 billion reinvested in the fourth quarter of 2009.
We have obligations to third parties that we entered into in the ordinary course of our operations. These obligations, as of December 31, 2009, are set forth in the table below. However, we do not believe that our cash flow requirements can be assessed based upon this analysis of these obligations as the funding of these future cash obligations will be from future cash flows from premiums, deposits, fees and investment income that are not reflected herein. Future cash outflows, whether they are contractual obligations or not, also will vary based upon our future needs. Although some outflows are fixed, others depend on future events. Examples of fixed obligations include our obligations to pay principal and interest on fixed-rate borrowings. Examples of obligations that will vary include obligations to pay interest on variable-rate borrowings and insurance liabilities that depend on future interest rates and market performance. Many of our obligations are linked to cash-generating contracts. These obligations include payments to contractholders that assume those contractholders will continue to make deposits in accordance with the terms of their contracts. In addition, our operations involve significant expenditures that are not based upon “commitments.”
(1) Includes payments of principal and interest on our short- and long-term borrowings, non-recourse funding obligations and dividend payments on our mandatorily redeemable Series A Preferred Stock, as described in note 13 to our consolidated financial statements under “Item 8 - Financial Statements and Supplementary Data.” For our U.S. domiciled insurance companies, any payment of principal, including by redemption, or interest on our non-recourse funding obligations are subject to regulatory approval. River Lake Insurance Company IV Limited, a Bermuda domiciled insurance company, may repay principal of up to 15% of its capital without prior approval. The total amount for borrowings and interest in this table does not equal the amounts on our consolidated balance sheet due to interest included in the table that is expected to be payable in future years.
(3) The timing for the return of the collateral associated with our securities lending program is uncertain; therefore, the return of collateral is reflected as being due in 2010.
(4) Includes amounts we are committed to fund interests in limited partnerships.
(5) Includes estimated claim and benefit, policy surrender and commission obligations offset by expected future deposits and premiums on in-force insurance policies and investment contracts. Also includes amounts established for recourse and indemnification related to our U.S. mortgage insurance contract underwriting business. Estimated claim and benefit obligations are based on mortality, morbidity and lapse assumptions comparable with our historical experience. The obligations in this table have not been discounted at present value. In contrast to this table, our obligations reported in our consolidated balance sheets are recorded in accordance with U.S. GAAP where the liabilities are discounted consistent with the present value concept under accounting guidance related to accounting and reporting by insurance enterprises, as applicable. Therefore, the estimated obligations for insurance liabilities presented in this table significantly exceed the liabilities recorded in reserves for future policy benefits and the liability for policy and contract claims. Due
The transactions we have used involved securitizations of some of our receivables and investments that were secured by commercial mortgage loans, fixed maturity securities or other receivables, consisting primarily of policy loans. Total securitized assets remaining as of December 31, 2009 and 2008 were $0.9 billion and $1.5 billion, respectively.
Securitization transactions typically result in gains or losses that are included in net investment gains (losses) in our consolidated financial statements. There were no off-balance sheet securitization transactions executed in 2009, 2008 and 2007. However, we recorded a $36 million impairment related to a retained interest in securitized assets in 2009. Based on revised assumptions regarding cash flows from the assets underlying this securitization transaction, we concluded the value of our retained interest was zero and recognized the full impairment.
We have entered into credit support arrangements in connection with our securitization transactions. Pursuant to these arrangements, as of December 31, 2009, we provided limited recourse for a maximum of $117 million of credit losses. In 2009, we paid $1 million associated with one of these arrangements. The related securitization structure terminated in the fourth quarter of 2009 upon final payments made by the structure. As of December 31, 2009, we have not been required to make any payments under the credit support agreements for the two remaining arrangements. These agreements will remain in place throughout the life of the related entities.
In general, our business as a whole is not seasonal in nature. However, in our U.S. Mortgage Insurance segment, the level of delinquencies, which increases the likelihood of losses, generally tends to decrease in the first and second quarters of the calendar year and increase in the third and fourth quarters. As a result, we typically experience lower levels of losses resulting from delinquencies in the first and second quarters, as compared with those in the third and fourth quarters. However, as a result of the current downturn in the U.S. housing market, delinquencies were higher in the first and second quarters of 2009. In addition, while the U.S. housing market is beginning to show signs of stabilization, we may continue to see higher delinquencies in the first and second quarters of 2010 until the housing market returns to a more normal development pattern. See “-Business trends and conditions” for additional information related to our U.S. Mortgage Insurance segment.
In addition, incurred claims for our Medicare supplement insurance are seasonal in nature due to the timing of healthcare usage and payment of Medicare deductibles, which are both higher in the first half of the year.
Consolidated Statements of Changes in Stockholders’ Equity for the years ended December 31, 2009, 2008 and 2007
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Genworth Financial, Inc.’s internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated February 26, 2010 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
In December 2009, we began reporting our institutional and corporate-owned life insurance products, previously included in our Retirement and Protection segment, in Corporate and Other activities, as they were deemed non-strategic. The corporate-owned life insurance product was previously included in our long-term care insurance business in our Retirement and Protection segment. All prior period amounts have been re-presented. In January 2009, we also began reporting our equity access business in our long-term care insurance business included in our Retirement and Protection segment. Our equity access business includes our wholly-owned subsidiary that originates reverse mortgage loans, and was previously reported in Corporate and Other activities. The amounts associated with this business were not material and the prior period amounts have not been re-presented.
Our consolidated financial statements have been prepared on the basis of U.S. generally accepted accounting principles (“U.S. GAAP”). Preparing financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect reported amounts and related disclosures. Actual results could differ from those estimates. All significant intercompany accounts and transactions have been eliminated in consolidation. Certain prior year amounts have been reclassified to conform to the current year presentation. Any material subsequent events have been considered for disclosure through the filing date of this Annual Report on Form 10-K.
Investment income on mortgage-backed and asset-backed securities is initially based upon yield, cash flow and prepayment assumptions at the date of purchase. Subsequent revisions in those assumptions are recorded using the retrospective or prospective method. Under the retrospective method, used for mortgage-backed and asset-backed securities of high credit quality (ratings equal to or greater than “AA” or that are backed by a U.S. agency) which cannot be contractually prepaid, amortized cost of the security is adjusted to the amount that would have existed had the revised assumptions been in place at the date of purchase. The adjustments to amortized cost are recorded as a charge or credit to net investment income. Under the prospective method, which is used for all other mortgage-backed and asset-backed securities, future cash flows are estimated and interest income is recognized going forward using the new internal rate of return.
Variable product fees are charged to variable annuity contractholders and variable life insurance policyholders based upon the daily net assets of the contractholder’s and policyholder’s account values and are recognized as revenue when charged. Policy surrender fees are recognized as income when the policy is surrendered.
At the time of purchase, we designate our investment securities as either available-for-sale or trading and report them in our consolidated balance sheets at fair value. Our portfolio of fixed maturity securities is comprised primarily of investment grade securities. Changes in the fair value of available-for-sale investments, net of the effect on deferred acquisition costs (“DAC”), present value of future profits (“PVFP”) and deferred income taxes, are reflected as unrealized investment gains or losses in a separate component of accumulated other comprehensive income (loss). Realized and unrealized gains and losses related to trading securities are reflected in net investment gains (losses). Trading securities are included in other invested assets in our consolidated balance sheets.
Beginning on April 1, 2009, we recognize other-than-temporary impairments on debt securities in an unrealized loss position when one of the following circumstances exists:
Total other-than-temporary impairments are calculated as the difference between the amortized cost and fair value that emerged in the current period. For other-than-temporarily impaired securities where we do not intend to sell the security and it is not more likely than not that we will be required to sell the security prior to recovery, total other-than-temporary impairments are adjusted by the portion of other-than-temporary impairments recognized in OCI (“non-credit”). Net other-than-temporary impairments recorded in net income (loss) represent the credit loss on the other-than-temporarily impaired securities with the offset recognized as an adjustment to the amortized cost to determine the new amortized cost basis of the securities.
Level 2-Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.
Level 3 is comprised of financial instruments whose fair value is estimated based on industry-standard pricing methodologies and internally developed models utilizing significant inputs not based on, nor corroborated by, readily available market information. In limited instances, this category may also utilize non-binding broker quotes. This category primarily consists of certain less liquid fixed maturity, equity and trading securities and certain derivative instruments where we cannot corroborate the significant valuation inputs with market observable data.
The vast majority of our fixed maturity and equity securities use Level 2 inputs for the determination of fair value. These fair values are obtained primarily from industry-standard pricing methodologies based on market observable information. Certain structured securities valued using industry-standard pricing methodologies utilize significant unobservable inputs to estimate fair value, resulting in the fair value measurements being classified as Level 3. We also utilize internally developed pricing models to produce estimates of fair value primarily utilizing Level 2 inputs along with certain Level 3 inputs. The internally developed models include matrix pricing where we discount expected cash flows utilizing market interest rates obtained from market sources based on the credit quality and duration of the instrument to determine fair value. For securities that may
assumptions about mortality, morbidity, lapse rates, expenses and future yield on related investments established when the contract or policy is issued. Amortization is adjusted each period to reflect policy lapse or termination rates as compared to anticipated experience. Amortization for annuity contracts without significant mortality risk and for investment and universal life insurance products is based on estimated gross profits. Estimated gross profits are adjusted quarterly to reflect actual experience to date or for the unlocking of underlying key assumptions based on experience studies.
Short-Duration Contracts. Acquisition costs consist primarily of commissions and premium taxes and are amortized ratably over the terms of the underlying policies.
We regularly review all of these assumptions and periodically test DAC for recoverability. For deposit products, if the current present value of estimated future gross profits is less than the unamortized DAC for a line of business, a charge to income is recorded for additional DAC amortization, and for certain products, an increase in benefit reserves may be required. For other products, if the benefit reserve plus anticipated future premiums and interest income for a line of business are less than the current estimate of future benefits and expenses (including any unamortized DAC), a charge to income is recorded for additional DAC amortization or for increased benefit reserves. For the years ended December 31, 2009 and 2008, we recorded a charge to DAC as a result of our loss recognition and DAC recoverability testing of $54 million and $85 million, respectively. For the year ended December 31, 2007, there were no charges to income recorded as a result of our DAC recoverability or loss recognition testing.
For the years ended December 31, 2009 and 2007, no charges were recorded as a result of our goodwill impairment testing. In 2008, we recorded goodwill impairments of $277 million as a result of our goodwill impairment testing. See note 8 for additional information related to goodwill impairments recorded.
We include investment-type contracts and our universal life insurance contracts in the liability for policyholder account balances. Investment-type contracts are broadly defined to include contracts without significant mortality or morbidity risk. Payments received from sales of investment contracts are recognized by providing a liability equal to the current account value of the policyholders’ contracts. Interest rates credited to investment contracts are guaranteed for the initial policy term with renewal rates determined as necessary by management.
GAAP, we begin to provide for the ultimate claim payment relating to a potential claim on a defaulted loan when the status of that loan first goes delinquent. Over time, as the status of the underlying delinquent loan moves toward foreclosure and the likelihood of the associated claim loss increases, the amount of the loss reserve associated with that potential claim may also increase. The loss reserve factor assumptions related to our U.S. mortgage insurance business are reviewed quarterly. The loss reserve factors are adjusted when required to reflect changes in current and projected market and economic conditions that affect the underlying loss reserve factor assumptions.
Management considers the liability for policy and contract claims provided to be satisfactory to cover the losses that have occurred. Management monitors actual experience, and where circumstances warrant, will revise its assumptions. The methods of determining such estimates and establishing the reserves are reviewed continuously and any adjustments are reflected in operations in the period in which they become known. Future developments may result in losses and loss expenses greater or less than the liability for policy and contract claims provided.
For single premium insurance contracts, we recognize premiums over the policy life in accordance with the expected pattern of risk emergence. We recognize a portion of the revenue in premiums earned in the current period, while the remaining portion is deferred as unearned premiums and earned over time in accordance with the expected pattern of risk emergence. If single premium policies are cancelled and the premium is non-refundable, then the remaining unearned premium related to each cancelled policy is recognized to earned premiums upon notification of the cancellation. Expected pattern of risk emergence on which we base premium recognition is inherently judgmental and is based on actuarial analysis of historical experience. We periodically review our premium earnings recognition models with any adjustments to the estimates reflected in current period income. For the years ended December 31, 2009, 2008 and 2007, we updated our premium recognition factors for our international mortgage insurance business. These updates included the consideration of recent and projected loss experience, policy cancellation experience and refinement of actuarial methods. In 2009, 2008 and 2007, adjustments associated with this update resulted in an increase in earned premiums of $32 million, $53 million and $45 million, respectively.
estimates over the average future service period of participants. We recognize the overfunded or underfunded status of a defined benefit plan as an asset or liability in our consolidated balance sheets and recognize changes in that funded status in the year in which the changes occur through OCI.
For periods prior to our corporate reorganization, our non-life insurance entities were included in the consolidated federal income tax return of GE and subject to a tax sharing arrangement that allocates tax on a separate company basis, but provides benefit for current utilization of losses and credits. For periods prior to 2004, our U.S. life insurance entities filed a consolidated life insurance federal income tax return separate from GE and are subject to a separate tax sharing agreement, as approved by state insurance regulators, which also allocates taxes on a separate company basis but provides benefit for current utilization of losses and credits. For 2004, through the date of our corporate reorganization, our U.S. life insurance entities were included in the consolidated federal income tax return of GE, and subject to separate company principles similar to those applicable to our non-life insurance entities. Effective with our corporate reorganization, our U.S. non-life insurance entities are included in the consolidated federal income tax return of Genworth and subject to a tax sharing arrangement that allocates tax on a separate company basis, but provides benefit for current utilization of losses and credits. Also effective with our corporate reorganization, our U.S. life insurance entities file a consolidated life insurance federal income tax return, and are subject to a separate tax sharing agreement, as approved by state insurance regulators, which allocates taxes on a separate company basis but provides benefit for current utilization of losses and credits. Intercompany balances under all agreements are settled at least annually.
On July 1, 2009, we adopted new accounting guidance related to the codification of accounting standards and the hierarchy of U.S. GAAP established by the Financial Accounting Standards Board (the “FASB”). This accounting guidance established two levels of U.S. GAAP, authoritative and nonauthoritative. The FASB Accounting Standards Codification (the “Codification”) is the source of authoritative, nongovernmental U.S. GAAP, except for rules and interpretive releases of the SEC, which are also sources of authoritative U.S. GAAP for SEC registrants. All other accounting literature is nonauthoritative. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
On June 30, 2009, we adopted new accounting guidance related to accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. This
accounting guidance required the disclosure of the date through which an entity has evaluated subsequent events and the basis for that date. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
On April 1, 2009, we adopted new accounting guidance related to the recognition and presentation of other-than-temporary impairments. This accounting guidance amended the other-than-temporary impairment guidance for debt securities and modified the presentation and disclosure requirements for other-than-temporary impairment disclosures for debt and equity securities. This accounting guidance also amended the requirement for management to positively assert the ability and intent to hold a debt security to recovery to determine whether an other-than-temporary impairment exists and replaced this provision with the assertion that we do not intend to sell or it is not more likely than not that we will be required to sell a security prior to recovery. Additionally, this accounting guidance modified the presentation of other-than-temporary impairments for certain debt securities to only present the impairment loss in net income (loss) that represents the credit loss associated with the other-than-temporary impairment with the remaining impairment loss being presented in OCI. On April 1, 2009, we recorded a net cumulative effect adjustment of $355 million to retained earnings with an offset to accumulated other comprehensive income (loss) of $349 million related to the adoption of this new accounting guidance. The following summarizes the components for the cumulative effect adjustment:
On January 1, 2009, we adopted new accounting guidance related to fair value measurements of certain nonfinancial assets and liabilities, such as impairment testing of goodwill and indefinite-lived intangible assets. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
On October 14, 2008, the Office of the Chief Accountant at the U.S. Securities and Exchange Commission, issued a letter to the FASB that stated, given the debt characteristics of hybrid securities, they would not object to the application of a debt impairment model to hybrid investments provided there has been no evidence of deterioration in credit of the issuer. A debt impairment model could be used for filings subsequent to October 14, 2008, until the FASB further addresses the appropriate impairment model. As a result, management began using and will continue to use the debt impairment model as long as there has been no evidence of deterioration in credit of the issuer as of the balance sheet date.
On January 1, 2008, we adopted new accounting guidance related to fair value measurements. This accounting guidance defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements. Additionally, on January 1, 2008, we elected the partial adoption of this accounting guidance to allow an entity to delay the application until January 1, 2009 for certain non-financial assets and liabilities. Under the provisions of the accounting guidance, we will delay the application for fair value measurements used in the impairment testing of goodwill and indefinite-lived intangible assets and eligible non-financial assets and liabilities included within a business combination. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
Amendment To Guidance For Offsetting of Amounts Related To Certain Contracts
On January 1, 2007, we adopted new accounting guidance related to accounting for uncertainty in income taxes. This accounting guidance clarifies the criteria that must be satisfied to recognize the financial statement benefit of a position taken in our tax returns. The criteria for recognition in the consolidated financial statements require an affirmative determination that it is more likely than not, based on a tax position’s technical merits, that we are entitled to the benefit of that position.
Upon adoption of this new accounting guidance on January 1, 2007, the total amount of unrecognized tax benefits was $362 million, of which, $190 million, if recognized, would affect the effective tax rate on continuing operations.
On September 21, 2009, we completed the public offering of 55.2 million shares of our Class A Common Stock, par value $0.001 per share (including the exercise in full of the underwriters’ option to purchase up to an additional 7.2 million shares of our Class A Common Stock). Net proceeds were $622 million.
losses on other-than-temporarily impaired securities. Of the total unrealized losses on other-than-temporarily impaired securities, $186 million have been in an unrealized loss position for more than 12 months.
Of the unrealized losses of $3,523 million, $2,125 million were related to structured securities and $770 million were related to corporate securities in the finance and insurance sector. Of the remaining gross unrealized losses of $628 million, $222 million were related to U.S. government, agencies and government-sponsored enterprises, tax-exempt and government-non-U.S. securities and $406 million was related to corporate securities that was spread evenly across all other sectors with no individual sector exceeding $63 million.
Of the $770 million unrealized losses in the finance and insurance sector, most have been in an unrealized loss position for 12 months or more. Most of these securities have retained a credit rating of investment grade. A portion of the unrealized losses included securities where an other-than-temporary impairment was recorded in OCI. The remaining unrealized losses in our U.S. and non-U.S. corporate securities were evenly distributed across all other major industry types that comprise our corporate bond holdings. Given the current market conditions, including current financial industry events and uncertainty around global economic conditions, the fair value of these securities has declined due to widening credit spreads. In our examination of these securities, we considered all available evidence, including the issuers’ financial condition and current industry events to develop our conclusion on the amount and timing of the cash flows expected to be collected. A subset of the securities issued by banks and other financial institutions represent investments in financial hybrid securities on which a debt impairment model was employed. All of these securities retain a credit rating of investment grade. The majority of these securities were issued by foreign financial institutions. The fair value of these securities has been impacted by widening credit spreads which reflect current financial industry events including uncertainty surrounding the level and type of government support of European financial institutions, potential capital restructuring of these institutions, the risk that income payments may be deferred and the risk that these institutions could be nationalized. Based on this evaluation, we determined that the unrealized losses on these securities represented temporary impairments as of December 31, 2009.
As of December 31, 2009, $5,490 million of our investments (excluding mortgage and asset-backed securities) were subject to certain call provisions.
As of December 31, 2009, securities issued by finance and insurance, utilities and energy, and consumer-non-cyclical industry groups represented approximately 28%, 21% and 12% of our domestic and foreign corporate fixed maturity securities portfolio, respectively. No other industry group comprised more than 10% of our investment portfolio. This portfolio is widely diversified among various geographic regions in the U.S. and internationally, and is not dependent on the economic stability of one particular region.
Average investment in specifically impaired loans was $10 million, $1 million and $1 million for the years ended December 31, 2009, 2008 and 2007, respectively, and there was no interest income recognized on these loans while they were considered impaired.
As a result of rating agency actions taken in April 2009, credit downgrade provisions were triggered in our master swap agreements with certain derivative counterparties and we terminated $6.9 billion notional value, of which $2.3 billion was replaced or renegotiated. Approximately $1.1 billion of notional value remained with counterparties that can be terminated at the option of the derivative counterparty and represented a net fair value
The total of derivatives designated as cash flow hedges of $802 million, net of taxes, recorded in stockholders’ equity as of December 31, 2009 is expected to be reclassified to future net income (loss), concurrently with and primarily offsetting changes in interest expense and interest income on floating-rate instruments and interest income on future fixed-rate bond purchases. Of this amount, $(2) million, net of taxes, is expected to be reclassified to net income (loss) in the next 12 months. Actual amounts may vary from this amount as a result of market conditions. All forecasted transactions associated with qualifying cash flow hedges are expected to occur by 2045. No amounts were reclassified to net income (loss) during the year ended December 31, 2009 in connection with forecasted transactions that were no longer considered probable of occurring. During 2008, we terminated a large portion of our forward starting interest rate swaps, which were designated as cash flow hedges, related to our long-term care insurance business to reduce our counterparty credit exposure and increase liquidity. The respective balance in OCI related to these derivatives will be reclassified into net income (loss) when the forecasted transactions affect net income (loss), as the forecasted transactions are still probable of occurring.
For the years ended December 31, 2008 and 2007, there was $(4) million and $2 million, respectively, of ineffectiveness related to our fair value hedges. There were no amounts excluded from the measure of effectiveness in either year.
We also enter into certain non-qualifying derivative instruments such as: (i) interest rate swaps, swaptions and financial futures to mitigate interest rate risk as part of managing regulatory capital positions; (ii) credit default swaps to enhance yield and replicate characteristics of investments with similar terms and credit risk; and (iii) equity index options, interest rate swaps and financial futures to mitigate the risks associated with liabilities that have guaranteed minimum benefits. Additionally, we provide GMWBs on certain products that are required to be bifurcated as embedded derivatives.
The following table provides the pre-tax gain (loss) recognized in net income (loss) for the effects of derivatives not designated as hedges for the years ended December 31:
We sell protection under single name credit default swaps and credit default swap index tranches in combination with purchasing securities to replicate characteristics of similar investments based on the credit quality and term of the credit default swap. Credit default triggers for both indexed reference entities and single name reference entities follow the Credit Derivatives Physical Settlement Matrix published by the International Swaps and Derivatives Association. Under these terms, credit default triggers are defined as bankruptcy, failure to pay or restructuring, if applicable. Our maximum exposure to credit loss equals the notional value for credit default swaps and the par value of debt instruments with embedded credit derivatives. If a credit event occurs, we are typically required to pay the protection holder the full notional value less a recovery rate determined at auction. For debt instruments with embedded credit derivatives, the security’s principal is typically reduced by the net amount of default for any referenced entity defaults.
(2) The current attachment/detachment as of December 31, 2009 was 9% - 12%.
(4) The current attachment/detachment as of December 31, 2009 and 2008 was 12% - 22%.
The following table sets forth our holding of available-for-sale fixed maturity securities that include embedded credit derivatives and the fair values as of December 31:
(1) On April 1, 2009, we adopted a new accounting standard related to the recognition of other-than-temporary impairments. The adoption of this standard had a net favorable impact of $7 million on DAC.
We regularly review DAC to determine if it is recoverable from future income. In the first quarter of 2009, loss recognition testing of our fee-based products in our retirement income business resulted in an increase in amortization of DAC of $54 million reflecting unfavorable equity market performance. As of December 31, 2009, we believe all of our other businesses have sufficient future income where the related DAC is recoverable.
In 2008, loss recognition testing of our fee-based products in our retirement income business resulted in an increase in amortization of DAC of $55 million reflecting unfavorable equity market performance. In addition, based on management’s assessment of the claim loss development in the existing 2006 and 2007 books of
(2) Relates to the sale of one of our Mexican subsidiaries in 2009.
On June 20, 2008, we acquired National Eldercare Referral Systems, Inc., a leading provider of long-term care support services in the United States, for approximately $12 million. The results of operations have been included in our consolidated results beginning June 20, 2008. This acquisition was accounted for using the purchase method and $9 million was recorded as goodwill.
Prior to our IPO, we entered into several significant reinsurance transactions (“Reinsurance Transactions”) with UFLIC. In these transactions, we ceded to UFLIC in-force blocks of structured settlements, substantially all of our in-force blocks of variable annuities and a block of long-term care insurance policies that we reinsured in 2000 from MetLife Insurance Company of Connecticut. Although we remain directly liable under these contracts and policies as the ceding insurer, the Reinsurance Transactions have the effect of transferring the financial results of the reinsured blocks to UFLIC. As of December 31, 2009 and 2008, we had a reinsurance recoverable of $14,827 million and $14,849 million, respectively, associated with those Reinsurance Transactions.
(a) The 1983 Individual Annuitant Mortality Table or 2000 U.S. Annuity Table, or 1983 Group Annuitant Mortality Table and the 1985 National Nursing Home Study and company experience.
(c) Principally modifications of the 1965-70 or 1975-80 Select and Ultimate Tables, 1958, 1980 and 2001 Commissioner’s Standard Ordinary Tables, 1980 Commissioner’s Extended Term table and (IA) Standard Table 1996 (modified).
permit contractholders to have the option to purchase through riders, at an additional charge, enhanced death benefits. Our separate account guarantees are primarily death benefits; we also have some guaranteed minimum withdrawal benefits (“GMWBs”) and guaranteed annuitization benefits.
As of December 31, 2009 and 2008, our liability associated with certain nontraditional long-duration contracts was approximately $7,962 million and $6,963 million, respectively.
Net investment income, net investment gains (losses) and the related liability changes associated with the separate account are offset within the same line item in the consolidated statements of income. There were no gains or losses on transfers of assets from the general account to the separate account.
We provide retiree health benefits to domestic employees hired prior to January 1, 2005 who meet certain service requirements. Under this plan, retirees over 65 years of age receive Medigap policy coverage, and retirees under 65 years of age receive medical benefits similar to our employees’ medical benefits. In December 2009, we announced that eligibility for retiree medical benefits will be limited to associates who are within 10 years of retirement eligibility as of January 1, 2010. This resulted in a negative plan amendment which will be amortized over the average future service of the participants. We also provide retiree life insurance benefits, which were provided through our group life and health insurance business prior to its sale in May 2007. The amount of fees recorded by the group life and health insurance business related to the retiree life insurance benefits was insignificant for 2007. The plans are funded as claims are incurred. As of December 31, 2009 and 2008, the accumulated postretirement benefit obligation associated with these benefits was $69 million and $83 million, respectively, which we accrued in other liabilities in the consolidated balance sheets. During 2009, we recognized an increase in OCI of $23 million. During 2008, we recognized a decrease in OCI of $3 million.
We provide health and welfare benefits to our employees, including health, life, disability, dental and long-term care insurance. Prior to its sale in May 2007, our dental insurance was provided through our group life and health insurance business. Our long-term care insurance is provided through our group long-term care insurance business. The premiums recorded by these businesses related to these benefits were insignificant during 2009, 2008 and 2007.
We have a $1.0 billion commercial paper program whereby notes are offered pursuant to an exemption from registration under the Securities Act of 1933 and may have a maturity of up to 364 days from the date of issue.
However, during the second half of 2008, the unfavorable liquidity environment impacted our ability to issue commercial paper and the downgrade of our holding company resulted in us being ineligible to participate in the Federal Reserve’s Commercial Paper Funding Facility (“CPFF”) which went into effect in October 2008. The $203 million of outstanding commercial paper as of December 31, 2008 was held by CPFF until maturity and was fully repaid in February 2009. As of December 31, 2008, the weighted-average interest rate on commercial paper outstanding was 2.85% and the weighted-average maturity was 76 days. In the current market environment, we do not anticipate issuing commercial paper.
As of December 31, 2009 and 2008, we had borrowings of $930 million under these facilities. As of December 31, 2009, we utilized $407 million under these facilities primarily for the issuance of letters of credit for the benefit of one of our life insurance subsidiaries. As of December 31, 2008, we utilized $184 million under these facilities primarily for the issuance of letters of credit for the benefit of one of our U.S. mortgage insurance subsidiaries. In 2008, we used a portion of the proceeds from these facilities to repurchase $361 million in principal of our senior notes that matured in 2009 at a discount.
In December 2009, we issued senior notes having an aggregate principal amount of $300 million, with an interest rate equal to 8.625% per year payable semi-annually, and maturing in December 2016 (“2016 Notes”). The 2016 Notes are our direct, unsecured obligations and will rank equally with all of our existing and future unsecured and unsubordinated obligations. We have the option to redeem all or a portion of the 2016 Notes at any time with proper notice to the note holders at a price equal to the greater of 100% of principal or the sum of the present value of the remaining scheduled payments of principal and interest discounted at the then-current treasury rate plus an applicable spread. The net proceeds of $298 million from the issuance of the 2016 Notes were used for general corporate purposes.
In June 2004, we issued senior notes having an aggregate principal amount of $1.9 billion. As a result of hedging arrangements entered into with respect to these securities, our effective interest rates will be 4.48% on the 2009 Notes, 5.51% on the 2014 Notes and 6.35% on the 2034 Notes. These Notes are direct unsecured obligations and will rank without preference or priority among themselves and equally with all of our existing
In June 2001, GEFAHI issued ¥60.0 billion of senior notes through a public offering at a price of ¥59.9 billion. ¥3.0 billion of the notes were retired during 2004. We entered into arrangements to swap our obligations under these notes to a U.S. dollar obligation with a notional principal amount of $478 million and bearing interest at a rate of 4.84% per annum. The notes are unsecured and mature at par in 2011. As of December 31, 2009, we had $1 million of accrued interest relating to these notes. We assumed this obligation under these notes in 2004 in connection with our corporation formation and IPO.
Dividends on the Series A Preferred Stock are fixed at an annual rate equal to 5.25% of the sum of (1) the stated liquidation value of $50 per share plus (2) accumulated and unpaid dividends. Dividends are payable quarterly in arrears on March 1, June 1, September 1 and December 1 of each year. For each of the years ended December 31, 2009, 2008 and 2007, we paid dividends of $5 million which has been recorded as interest expense in the consolidated statements of income.
We are required to redeem the Series A Preferred Stock on June 1, 2011 in whole at a price of $50 per share, plus unpaid dividends accrued to the date of redemption. There are no provisions for early redemption. Except under certain conditions or otherwise required by applicable law, the holders of the Series A Preferred Stock have no voting rights.
We issued non-recourse funding obligations in connection with our capital management strategy related to our term and universal life insurance products.
Any payment of principal, including by redemption, or interest on the notes may only be made with the prior approval of the Director of Insurance of the State of South Carolina in accordance with the terms of its licensing orders and in accordance with applicable law, except for non-recourse funding obligations issued by River Lake Insurance Company IV Limited (“River Lake IV”), a Bermuda domiciled insurance company. River Lake IV may repay principal up to 15% of its capital without prior approval. The holders of the notes have no rights to accelerate payment of principal of the notes under any circumstances, including without limitation, for nonpayment or breach of any covenant. Each issuer reserves the right to repay the notes that it has issued at any
time, subject to prior regulatory approval. On March 25, 2009, River Lake IV repaid $12 million of its total outstanding $40 million Class B Floating Rate Subordinated Notes due May 25, 2028 following an early redemption event, in accordance with the priority of payments.
Of these obligations, $1.7 billion were guaranteed by third-party financial guaranty insurance companies and the interest rates on these obligations are subject to rate resets triggered by negative rating agency actions on the third-party financial guaranty insurance companies that guarantee these obligations. During 2008, the rates on those $1.7 billion of non-recourse funding obligations were contractually reset to the highest margin to the related underlying index rates.
The weighted-average interest rate on the non-recourse funding obligations as of December 31, 2009 and 2008 was 1.49% and 3.76%, respectively, reflecting the decline in the underlying index rate.
a $25 ownership interest in our senior notes that were due in 2009 with quarterly interest payable at the annual rate of 3.84% of the principal amount of the notes.
As part of this transaction, we simultaneously entered into a forward contract indexed to the price of our Class A Common Stock, which subjects the transaction to a future price adjustment. Upon settlement of the contract, the price adjustment was calculated based on the arithmetic mean of the volume weighted-average price of our Class A Common Stock during the term of the agreement, less a discount. In October 2007, this forward contract was settled resulting in the broker/dealer counterparty’s delivery of $72 million in shares of Class A Common Stock to us in the fourth quarter of 2007.
facility was to finance the purchase of commercial mortgage loans with the intent to securitize such loans in the future. This facility had a variable interest rate based on one-month LIBOR plus a margin. In February 2008, Genworth Financial Commercial Warehouse LLC terminated this facility and repaid all amounts outstanding.
Borrowings under our credit facilities, long-term borrowings (including senior notes and mandatorily redeemable preferred stock) and non-recourse funding obligations by maturity were as follows as of December 31, 2009:
Our liquidity requirements are principally met through our revolving credit facilities and cash flows from operations. As of December 31, 2009, we had an unused credit capacity within our revolving credit facilities of $523 million.
Our current income tax payable was $76 million and $120 million as of December 31, 2009 and 2008, respectively, and was included in other liabilities in the consolidated balance sheets.
The above valuation allowances of $153 million and $123 million related to state deferred tax assets and foreign net operating losses as of December 31, 2009 and 2008, respectively. The state deferred tax assets related primarily to the future deductions associated with the Section 338 elections and non-insurance net operating loss (“NOL”) carryforwards. Based on our analysis, we believe it is more likely than not that the results of future operations and the implementation of tax planning strategies will generate sufficient taxable income to enable us to realize the deferred tax assets for which we have not established valuation allowances.
U.S. deferred income taxes are not provided on unremitted foreign income that is considered permanently reinvested, which as of December 31, 2009, amounted to approximately $1,384 million. It is not practicable to determine the income tax liability that might be incurred if all such income was remitted to the U.S.
We file U.S. federal income tax returns and various state and local and foreign income tax returns. With few exceptions, we are no longer subject to U.S. federal or foreign income tax examinations for years prior to 2000. Potential state and local examinations for those years are generally restricted to results that are based on closed U.S. federal examinations. The Internal Revenue Service (“IRS”) is currently reviewing our U.S. income tax returns for the 2007 and 2008 tax years. Certain issues from 2005 and 2006 have been timely protested and will be subject to review by the IRS appeals division. For those companies that filed consolidated returns with our former parent, GE, in 2003 and 2004 before our IPO (which included the pre-IPO related transactions), the
Net cash paid for taxes was $200 million, $198 million and $59 million and cash paid for interest was $327 million, $406 million and $435 million for the years ended December 31, 2009, 2008 and 2007, respectively.
For purposes of determining the fair value of stock-based payment awards on the date of grant, we typically use the Black-Scholes Model (“Black-Scholes Model”). The Black-Scholes Model requires the input of certain assumptions that involve judgment. Management periodically evaluates the assumptions and methodologies used to calculate fair value of share-based compensation. Circumstances may change and additional data may become available over time, which could result in changes to these assumptions and methodologies.
For purposes of determining the fair value of 1.4 million shares of performance-accelerated SARs and 0.2 million shares of performance-accelerated non-qualified options that were issued in August 2009, we used the Monte-Carlo Simulation. Monte-Carlo Simulation is a technique used to simulate future stock price movements in order to determine the fair value due to unique vesting and exercising provisions. The performance-accelerated SARs and options grant-date fair value was $5.28, which will be amortized over a 1.4 year derived service period. The performance-accelerated SARs and options vest on the fourth anniversary of the grant date but are subject to earlier vesting in one-third increments based on the closing price of our Class A Common Stock exceeding certain specified amounts ($12.00, $16.00 and $20.00, respectively) for 20 consecutive trading days.
A summary of the status of our other equity-based awards was as follows as of December 31, 2009 and 2008:
retirement, business disposition, death, disability or layoff (in which cases a portion or all may become vested in accordance with the 2004 Genworth Financial, Inc. Omnibus Incentive Plan, as amended). There was no additional incremental compensation expense resulting from the exchange.
Commercial mortgage loans. Based on recent transactions and/or discounted future cash flows, using current market rates.
We have fixed maturity, equity and trading securities, derivatives, embedded derivatives, securities held as collateral, separate account assets and certain other financial instruments, which are carried at fair value.
To determine whether the use of the swap curve was the appropriate discount rate to reflect the non-performance risk of the GMWB liabilities, we evaluate the non-performance risk in our liabilities based on a hypothetical exit market transaction as there is no exit market for these types of liabilities. A hypothetical exit market can be viewed as a hypothetical transfer of the liability to another similarly rated insurance company which would closely resemble a reinsurance transaction. Another hypothetical exit market transaction can be viewed as a hypothetical transaction from the perspective of the GMWB policyholder. After considering all relevant factors in assessing whether any additional adjustment to the discount rate for non-performance risk was necessary, including assumptions we expect market participants would utilize in a hypothetical exit market transaction, we determined that no incremental adjustment to the discount rate was necessary for our GMWB liabilities that are recorded at fair value. We believe that a hypothetical exit market participant would use a similar discount rate to value the liabilities and would not incorporate changes in non-performance risk in the discount rate other than the implied credit spread incorporated in the swap curve.
(3) Represents embedded derivatives associated with our GMWB liabilities, excluding the impact of reinsurance. The balance as of December 31, 2008 has been revised to exclude the impact of reinsurance.
(4) Total liabilities have been revised to exclude the reinsured portion of our GMWB liabilities.
(1) Represents embedded derivatives associated with the reinsured portion of our GMWB liabilities. The balance as of January 1, 2009 has been revised to include this amount.
The amount presented for unrealized gains (losses) for assets and liabilities still held as of the reporting date primarily represents impairments for available-for-sale securities, accretion on certain fixed maturity securities, changes in fair value of trading securities and certain derivatives and changes in fair value of embedded derivatives associated with our GMWB liabilities that existed as of the reporting date, which were recorded in net investment gains (losses).
We hold investments in bank loans that are recorded at the lower of cost or fair value and are recorded in other invested assets. As of December 31, 2009, no bank loans were recorded at fair value as cost was lower than their respective fair values, and therefore, there were no fair value loss adjustments for the year ended December 31, 2009. As of December 31, 2008, we recorded $78 million of bank loans at fair value which was lower than their respective cost. Accordingly, for the year ended December 31, 2008, we recorded $27 million of fair value loss adjustments which were included in net investment gains (losses) in the consolidated statement of income. Fair value for bank loans was determined using inputs based on market observable information and was classified as Level 2.
We evaluated the economic, liquidity and credit risk related to the above QSPEs and believed that the likelihood was remote that any such arrangements could have had a significant adverse effect on our financial position, results of operations or liquidity. Financial support for certain QSPEs was provided under credit support
Retained interests. In certain securitization transactions, we retained an interest in transferred assets. Those interests take various forms and may be subject to credit, prepayment and interest rate risks. When we securitized receivables, we determined the fair value based on discounted cash flow models that incorporate, among other things, assumptions including credit losses, prepayment speeds and discount rates. These assumptions were based on our experience, market trends and anticipated performance related to the particular assets securitized. Our retained interests are reflected as available-for-sale fixed maturity securities.
Our holding companies received dividends from our domestic insurance subsidiaries of $50 million ($24 million of which were deemed “extraordinary”), $300 million (none of which were deemed “extraordinary”) and $750 million ($163 million of which were deemed “extraordinary”) during 2009, 2008 and 2007, respectively.
The tables below include the combined statutory net income (loss) and statutory capital and surplus for our U.S. domiciled insurance subsidiaries:
We allocate net investment gains (losses) from Corporate and Other activities to our Retirement and Protection segment using an approach based principally upon the investment portfolio established to support the segment’s products and targeted capital levels. We do not allocate net investment gains (losses) from Corporate and Other activities to our International and U.S. Mortgage Insurance segments, because they have their own separate investment portfolios, and net investment gains (losses) from those portfolios are reflected in the International and U.S. Mortgage Insurance segment results, respectively.
(c) Net Operating Income (Loss) Available To Genworth Financial, Inc.’s Common Stockholders
calculation of the diluted loss per share, as the inclusion of shares for stock options, RSUs and SARs of 53,858 and 1.2 million, respectively, would have been antidilutive to the calculation. If we had not incurred a net loss, dilutive potential common shares would have been 433.2 million and 434.4 million for the three months ended March 31 and June 30, 2009, respectively.
(2) Included in the three months ended December 31, 2008 were: increased losses in our U.S. mortgage insurance business; a goodwill impairment charge of $243 million; an increase in DAC amortization from loss recognition testing; and restructuring charges of $38 million.
We face the risk of litigation and regulatory investigations and actions in the ordinary course of operating our businesses, including class action lawsuits. Our pending legal and regulatory actions include proceedings specific to us and others generally applicable to business practices in the industries in which we operate. In our insurance operations, we are, have been, or may become subject to class actions and individual suits alleging, among other things, issues relating to sales or underwriting practices, payment of contingent or other sales commissions, bidding practices in connection with our management and administration of a third-party’s municipal guaranteed investment contract business, claims payments and procedures, product design, product disclosure, administration, additional
Litigation. Certain plaintiffs have filed a consolidated amended complaint that names as a defendant only our subsidiary. However, in 2009, plaintiffs in these actions amended their complaints and those amended complaints do not presently name any Genworth subsidiary as a defendant.
In December 2009, one of our non-insurance subsidiaries, one of the subsidiary’s officers, and Genworth Financial, Inc. were named in a putative class action lawsuit captioned Michael J. Goodman and Linda Brown v. Genworth Financial Wealth Management, Inc., et al, in the United States District Court for the Eastern District of New York. Plaintiffs allege securities law and other violations involving the selection of mutual funds by our subsidiary on behalf of certain of its Private Client Group clients. The lawsuit seeks unspecified monetary damages and other relief. We intend to vigorously defend this action.
In December 2008, we announced actions being taken to advance our strategic goals in response to the current economic downturn. These actions included the elimination of approximately 1,000 jobs globally. We recorded a pre-tax charge of approximately $38 million in the fourth quarter of 2008 for severance, outplacement and other costs associated with the plan for workforce reduction and other restructuring actions. These charges were included in acquisition and operating expenses, net of deferrals, in the consolidated statement of income. As of December 31, 2008, we recorded an accrual for $38 million which was included in other liabilities in the consolidated balance sheet. The actions announced in December 2008 were primarily completed in the first quarter of 2009. During 2009, we made $33 million of cash severance payments and lowered the original accrual by $5 million related to changes in severance charge estimates. However, several other actions were taken during 2009 that resulted in an additional $5 million severance accrual that was included in other liabilities in the consolidated balance sheet.
A summary of pre-tax restructuring charges by segment was as follows for the year ended December 31:
Consistent with applicable accounting guidance, changes in noncontrolling interests that do not result in a change of control are accounted for as equity transactions. When there are changes in noncontrolling interests of a subsidiary that do not result in a change of control, any difference between carrying value and fair value related to the change in ownership is recorded as an adjustment to stockholders’ equity. A summary of these changes in ownership interests and the effect on stockholders’ equity for the periods presented was as follows for the years ended December 31:
On January 13, 2010, Genworth Residential Mortgage Insurance Corporation of North Carolina, one of our U.S. mortgage insurance subsidiaries, and a counterparty executed an agreement effective January 1, 2010, cancelling coverage under 11 policies of bulk mortgage insurance with aggregate risk in-force of approximately $237 million as of December 31, 2009. We agreed to pay a termination fee of approximately $182 million (subject to specified adjustments) for prior or pending claims, and anticipated future unpaid claims, for coverage benefits under all 11 policies. Subject to the terms of this agreement, we were released of any further liability in connection with these policies. The amount of the termination fee has been fully provided for as of December 31, 2009, and any subsequent adjustment to the fee is not expected to be material.
(1) The amount shown in the consolidated balance sheet for other invested assets differs from amortized cost or cost presented, as other invested assets includes certain assets with a carrying amount that differs from amortized cost or cost.
All of the consolidated borrowings of Genworth and its consolidated subsidiaries were borrowings of the Parent, except as indicated below.
In addition to the guarantees discussed in notes 18, 19 and 22 to our consolidated financial statements, we provided capital support to some of our insurance subsidiaries in the form of guarantees of certain (primarily insurance) obligations, in some cases subject to annual scheduled adjustments, totaling up to $800 million and $875 million as of December 31, 2009 and 2008, respectively. We believe our insurance subsidiaries have adequate reserves to cover the underlying obligations.
We provided a limited guarantee to Rivermont Insurance Company I (“Rivermont I”), an indirect subsidiary, which was accounted for as a derivative and was carried at fair value. This derivative did not qualify for hedge accounting, and therefore, changes in fair value were reported in net investment gains (losses) in the income statement. As of December 31, 2009 and 2008, the fair value of this derivative was $30 million and $5 million, respectively, and was recorded in other liabilities. For the years ended December 31, 2009, 2008 and 2007, the effect on pre-tax income (loss) was $(7) million, $19 million and $(9) million, respectively.
In connection with the issuance of non-recourse funding obligations by Rivermont I, Genworth entered into a liquidity commitment agreement with the third-party trusts in which the floating rate notes have been deposited. The liquidity agreement may require that Genworth issue to the trusts either a loan or a letter of credit (“LOC”), at maturity of the notes (2050), in the amount equal to the then market value of the assets supporting the notes held in the trust. Any loan or LOC issued was an obligation of the trust and accrued interest at LIBOR plus a margin. In consideration for entering into this agreement, Genworth received, from Rivermont I, a one-time commitment fee of approximately $2 million. The maximum potential amount of future obligation under this agreement is approximately $95 million.
In December 2007, Genworth entered into a $550 million Letter of Credit and Reimbursement Agreement (the “LOC Agreement”) as guarantor with River Lake Insurance Company V (“River Lake V”), an indirect subsidiary, and a third-party bank that serves as the administrative agent. Genworth guaranteed the complete and timely performance of all of River Lake V’s obligations under the LOC Agreement which was terminated on September 11, 2008. It was replaced with letters of credit issued by other third-party banks that required Genworth to provide parental support under certain circumstances in an amount up to $100 million. After the downgrade of our holding company in November 2008, we fully satisfied this obligation in December 2008. Therefore, there was no outstanding commitment as of December 31, 2009.
The following table details non-cash items for the years ended December 31:
Under the Tax Matters Agreement, Genworth was obligated to pay GE, over approximately 14 years, on an after-tax basis and subject to a maximum of $640 million, which is 80% of the tax savings associated with the Section 338 deductions. As of December 31, 2009 and 2008, we recorded on our Genworth consolidated balance sheets our estimate of the deferred tax benefits associated with these deductions of $527 million and $555 million, respectively.