The following is a summary of selected consolidated financial information for the Company. The selected consolidated financial information for the years ended December 31, 2009, 2008 and 2007, and at December 31, 2009 and 2008 has been derived in part from the Company’s audited consolidated financial statements included in Item 8, Financial Statements and Supplementary Data. Note 1 to the consolidated financial statements discusses the significant accounting policies of the Company. The selected consolidated income statement data for the years ended December 31, 2006 and 2005 and the selected consolidated balance sheet data at December 31, 2007, 2006 and 2005 have been derived in part from the Company’s consolidated financial statements not included elsewhere herein. The selected consolidated balance sheet data at December 31, 2005 has not been restated for discontinued operations. The following information should be read in conjunction with and is qualified in its entirety by the information contained in Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, and the consolidated financial statements appearing in Item 8.
Management considers the ability to continue to expand its presence in the United States defined contribution and institutional insurance markets to be its primary points of focus. The life insurance, savings and investments marketplace is also highly competitive. Competitors include mutual fund companies, insurance companies, banks, investment advisors and certain service and professional organizations.
Strong sales and strategic partnerships led the way to another year of growth for both the Individual Markets and Retirement Services segments during 2009.
The Retirement Services segment expanded distribution in 2009 by adding new advisory and brokerage relationships as well as new national distribution channels. The combined sales force, including wholesalers, relationship managers and client service specialists, now includes in excess of 470 individuals who are fully dedicated to expanding the retirement block of business along with providing excellent customer service.
During the latter part of 2009, the financial markets have shown some recovery from the turmoil experienced in the latter part of 2008 and early 2009. The S&P 500 index is up by 23% at December 31, 2009 when compared to December 31, 2008 and it is down by 38% at December 31, 2008 when compared to December 31, 2007. The average of the S&P 500 index during the year ended December 31, 2009 is down 22% when compared to the average for the year ended December 31, 2008 and it is down by 17% for the year ended December 31, 2008 when compared to the year ended December 31, 2007.
Although the U.S. equities market has recovered somewhat in recent months, market declines in the future could result in additional decreases in fee income as well as adjustments to the amortization of deferred policy acquisition and other costs.
The significant deterioration in the capital markets had an impact on the financial results for the year ended December 31, 2009. During the year ended December 31, 2009, the Company recorded other-than-temporary impairments on fixed maturities primarily related to asset-backed investments with home improvement loan collateral in the amount of $113 million. The Company recorded other-than-temporary impairments of $88 million during 2008 primarily related to corporate debt backed by Lehman Brothers Holdings, Inc. and General Motors Corporation.
A recovery in market liquidity and tightening of credit spreads have resulted in improved market values for the Company’s fixed maturity and equity investments since December 31, 2008. The Company has recorded a decrease in gross unrealized losses of $841 million and an increase in gross unrealized gains of $386 million during the year ended December 31, 2009. This resulted in a $614 million increase to accumulated other comprehensive income (loss), net of policyholder related amounts and deferred taxes. See Notes 6 and 13 to the accompanying consolidated financial statements for a discussion of these and other investment losses.
Critical accounting estimates are those that management believes are important to the portrayal of the Company’s results of operations and financial condition and which require them to make difficult, subjective and/or complex judgments. Critical accounting estimates cover accounting and actuarial matters that are inherently uncertain because the future resolution of such matters is unknown. Many of these policies, estimates and related judgments are common in the insurance and financial services industries. The Company believes that its most critical accounting estimates include the following:
The Company’s principal investments are in fixed maturity and equity securities, mortgage and policy loans, limited partnership interests and other invested assets. The Company’s investments are exposed to three primary sources of risk: credit, interest rate and market valuation. The financial statement risks, stemming from such investment risks, are those associated with the determination of fair values, the recognition of impairments and the recognition of income on certain investments.
The decline in fair value is attributable to specific adverse conditions affecting a particular instrument, its issuer, an industry or geographic area.
The Company recognizes in earnings an other-than-temporary impairment on a fixed maturity investment in an unrealized loss position when an entity either (a) has the intent to sell the fixed maturity investment or (b) more likely than not will be required to sell the fixed maturity investment before its anticipated recovery. The other-than-temporary impairment is the difference between the fixed maturity investment’s amortized cost basis and its fair value at the balance sheet date.
If management does not intend to sell the fixed maturity investment and it is not more likely than not that the Company will be required to sell the fixed maturity investment before recovery of its amortized cost basis, but the present value of the cash flows expected to be collected (discounted at the effective interest rate implicit in the fixed maturity investment prior to impairment) is less than the amortized cost basis of the fixed maturity investment (referred to as the credit loss portion), an other-than-temporary impairment is considered to have occurred. In this instance, total other-than-temporary impairment is bifurcated into two components: the amount related to the credit loss, which is recognized in earnings; and the amount attributed to other factors (referred to as the non-credit portion), which is recognized as a separate component in accumulated other comprehensive income (loss). After the recognition of an other-than-temporary impairment, the fixed maturity investment is accounted for as if it had been purchased on the measurement date of the other-than-temporary impairment, with an amortized cost basis equal to the previous amortized cost basis less the other-than-temporary impairment recognized in earnings.
· Cash flow hedges - Interest rate swap agreements are used to convert the interest rate on certain debt securities from a floating rate to a fixed rate. Foreign currency exchange contracts are used to manage the foreign exchange rate risk associated with bonds denominated in other than U.S. dollars. Interest rate futures are used to manage the interest rate risks of forecasted acquisitions of fixed rate maturity investments. These transactions are entered into pursuant to master agreements that provide for a single net payment to be made by one party to the agreement at each due date. The effective portion of the changes in the fair value of a derivative instrument that is designated as a cash flow hedge is recorded in accumulated other comprehensive income on the consolidated balance sheet and is reclassified to earnings when the cash flow of the hedged item impacts earnings. The ineffective portion of the changes in the fair value of cash flow hedges is recorded as an adjustment to net investment income.
· Derivatives not designated as hedging instruments - The Company attempts to match the timing of when interest rates are committed on insurance products with other new investments. However, timing differences may occur and can expose the Company to fluctuating interest rates. To offset this risk, the Company uses exchange-traded United States government treasury futures contracts. Interest rate swaptions are used to manage the potential variability in future interest payments on certain insurance products due to a change in credited interest rates and the related change in cash flows due to increased surrenders. A change in the fair value of a derivative instrument that does not qualify for hedge accounting treatment is recognized in net investment income in the period of the change and may result in significant volatility of earnings. Changes in the fair value of derivative instruments that have not been designated as hedging instruments are recorded in current period net investment income. Net realized investment gains and losses result from the termination of derivative contracts prior to expiration that are not designated as hedge for accounting purposes and certain fair-value hedge relationships.
The Company incurs significant costs in connection with acquiring new and renewal insurance business. Deferred acquisition costs (“DAC”) vary with and relates to costs that consist primarily of commissions and agency and policy issue expenses. Value of business acquired (“VOBA”) is an intangible asset that reflects the estimated fair value of in-force life insurance contracts acquired and represents the portion of the purchase price allocated to the value of the right to receive future cash flows from the acquired business. VOBA is based upon actuarially determined projections, by block of business, of future policy and contract charges, premiums, mortality and morbidity, performance, surrenders, operating expenses, investment returns and other factors. DAC and VOBA are amortized over the expected lives of the related contracts based upon the level and timing of either gross profits or gross premiums, depending upon the type of contract as discussed below. The recovery of both DAC and VOBA is dependent upon the future profitability of the related business. DAC and VOBA are aggregated in the consolidated financial statements for reporting purposes.
Goodwill is the excess of the cost over the fair value of assets acquired less the fair value of liabilities assumed. The establishment of goodwill requires management to make significant estimates and assumptions about the fair value of the assets acquired and liabilities assumed. The allocation process includes, among other measures, a review of relevant information about the assets and liabilities, independent appraisals and other valuation methodologies. Goodwill is assigned to the Company’s operating segment where the assets and liabilities are recorded.
See Note 10 to the accompanying consolidated financial statements for more information regarding the Company’s recorded goodwill.
See Note 15 to the accompanying consolidated financial statements for more information regarding the Company’s employee benefit plans.
The Company’s effective tax rate is based upon expected income and statutory income tax rates and prudent available tax planning opportunities. In the determination of the Company’s effective income tax rate, management considers judgments regarding its business plans, planning opportunities and expectations about their future outcomes. Certain changes or future events, such as changes in tax legislation and the commencement or completion of tax audits, could have an impact on management’s estimates and the Company’s effective tax rate.
The Company determines whether it is more-likely-than-not that a tax position will be sustained upon examination by the appropriate taxing authorities before any part of the benefit can be recorded in the consolidated financial statements. A tax position is measured as the largest amount of benefit that is greater than 50 percent likely of being realized upon settlement. Unrecognized tax benefits due to tax uncertainties that do not meet the threshold are included within other liabilities and are charged to earnings in the period that such determination is made.
The Company has three reportable segments: Individual Markets, Retirement Services and Other. The Individual Markets segment distributes life insurance and individual annuity products to both individuals and businesses through various distribution channels. Life insurance products in-force include participating and non-participating term life, whole life, universal life and variable universal life. The Retirement Services segment provides retirement plan enrollment services, communication materials, various retirement plan investment options and educational services to employer-sponsored defined contribution/defined benefit plans and 401(k) and 403(b) plans, as well as comprehensive administrative and record-keeping services for financial institutions and employers. Defined contribution plans provide for benefits based upon the value of contributions to, and investment returns on, an individual’s account. The Company’s Other segment includes corporate items not directly allocated to any of its other business segments, interest expense on long-term debt and the activities of a wholly-owned subsidiary whose sole business is the assumption of certain blocks of term life insurance from an affiliated company.
On April 1, 2008, the Company and certain of its subsidiaries completed the sale of substantially all of their healthcare insurance business to a subsidiary of CIGNA Corporation (“CIGNA”). The Company recognized a gain in the amount of $682 million, net of income taxes, upon completion of the transaction. The business that was sold, formerly reported as the Company’s Healthcare segment, was the vehicle through which it marketed and administered group life and health insurance to small, mid-sized and national employers. CIGNA acquired from the Company the stop loss, group life, group disability, group medical, group dental, group vision, group prescription drug coverage and group accidental death and dismemberment insurance business in the United States and the Company’s supporting information technology infrastructure through a combination of 100% indemnity reinsurance agreements, renewal rights, related administrative service agreements and the acquisition of certain of the Company’s subsidiaries. The statements of income and balance sheets of the disposed business activities are presented as discontinued operations for all periods presented in the consolidated financial statements. See Note 3 to the accompanying consolidated financial statements for further information regarding this transaction.
The Company adopted a restructuring plan in connection with the sale of its Healthcare segment. The restructuring plan consisted of a structural reorganization which will enable the Company to operate effectively in its present business environment. The liability is included in other liabilities in the consolidated balance sheet. The amounts incurred during the period and adjustments to original estimates during the period have been charged (credited) to income from discontinued operations in the consolidated statement of income.
On June 1, 2007 the Company’s Individual Markets segment terminated one of its reinsurance agreements with an affiliate, The Canada Life Assurance Company (“CLAC”), pursuant to which it had assumed 80% of certain United States life, health and annuity business on a coinsurance and coinsurance with funds withheld basis. See Note 5 to the accompanying consolidated financial statements for further information regarding this transaction.
The Company’s consolidated income from continuing operations decreased by $323 million, or 73%, to $122 million for the year ended December 31, 2009 when compared to 2008. This decrease is primarily due to a gain in 2008 in the amount of $208 million as a result of the release of the liability associated with certain participating policies of the Company’s Other segment as discussed in Note 3 to the accompanying consolidated financial statements and a $98 million ($64 million net of income taxes) liability release on these policies. In addition, fee income decreased and realized losses on investments increased in 2009 when compared to 2008.
Net investment income increased by $70 million, or 6%, to $1,149 million for the year ended December 31, 2009 when compared to 2008. The increase is primarily due to a $25 million increase in policy loan interest income in the Individual Markets segment and a $31 million increase in net investment income in 2009 due to increases in general account assets in the Company’s Retirement Services segment.
The Company’s consolidated income from continuing operations increased by $205 million, or 85%, to $445 million during the year ended December 31, 2008 from $240 million during 2007. The increase in income from continuing operations is primarily related to a $208 million gain as a result of the aforementioned release of the liability associated with certain participating policies and a $98 million ($64 million net of income taxes) liability release on these policies. This increase is partially offset by a $20 million ($12 million net of policyholder related amounts and income taxes) increase in net realized investment losses and poor mortality results.
Fee income decreased by $34 million, or 7%, to $429 million during the year ended December 31, 2008 from $463 million in 2007. The decrease is attributable to lower variable fee income in both the Individual Markets and Retirement Services segments due to the weakness of the U.S. equity markets, $4 million of fee income in 2007 that is absent in 2008 as a result of the termination of the CLAC reinsurance agreement and one time fees on the BOLI block of business in 2007 due to surrender activity.
Policyholder benefit expenses include amounts paid or credited to policyholders, changes in policy liabilities, claims, surrenders and annuity and maturity payments. Excluding the one time recording of a decrease in future policy benefits of $1,453 million resulting from the termination of the CLAC reinsurance agreement during 2007 policyholder benefits decreased by $280 million, or 23%, to $948 million during the year ended December 31, 2008 from $1,228 million in 2007. The decrease is primarily related to the aforementioned $208 million gain as a result of the release of the liability associated with certain participating policies and a $98 million liability release on those policies during 2008.
Income from discontinued operations was $653 million and $179 million during the years ended December 31, 2008 and 2007, respectively. As aforementioned, the Company sold substantially all of its healthcare insurance business on April 1, 2008 resulting in a gain in the amount of $1,090 million ($682 million net of income taxes) upon completion of the transaction. Income from discontinued operations for the year ended December 31, 2008 includes charges in the amount of $101 million ($64 million net of income taxes) which represents costs associated with the sale. The healthcare insurance business comprised substantially all of the Company’s discontinued operations. The Company ceased recording operating activity from its discontinued operations on April 1, 2008.
The following is a summary of the Individual Markets segment participant accounts at December 31, 2009 and 2008:
Fee income decreased by $6 million, or 11%, to $50 million for the year ended December 31, 2009 when compared to 2008. The decrease is due to lower front-end loads as a result of lower sales of the BOLI product in 2009.
As more fully described in Note 5 to the accompanying consolidated financial statements, on June 1, 2007 the Company’s Individual Markets segment terminated one of its reinsurance agreements with an affiliate, CLAC, pursuant to which the Company had assumed 80% of certain United States life, health and annuity business on a coinsurance and coinsurance with funds withheld basis.
The following is a summary of certain financial data of the Individual Markets segment for the years ended December 31, 2008 and 2007:
The Individual Markets segment income from continuing operations decreased by $41 million, or 34%, to $79 million during the year ended December 31, 2008 from $120 million during 2007. The decrease is primarily related to a gain of $22 million resulting from the termination of the CLAC reinsurance agreement and $10 million of net income associated with the CLAC reinsurance activity during 2007 that is absent in 2008.
Excluding the one time recording of negative premium revenue of $1,387 million resulting from the termination of the CLAC reinsurance agreement during 2007, total premiums increased by $18 million, or 5%, to $378 million during the year ended December 31, 2008 from $360 million during 2007. The increase is primarily attributable to higher premiums in 2008 from improved sales, primarily of the single premium whole life product marketed through banks. This increase is partially offset by $59 million of reinsured life, health, and annuity premiums in 2007 that are absent in 2008 as a result of the termination of the CLAC reinsurance agreement.
The following is a summary of the Retirement Services segment participant accounts at December 31, 2009 and 2008:
Income from continuing operations for the Retirement Services segment decreased by $42 million, or 36%, to $75 million during the year ended December 31, 2009 when compared to 2008 primarily due to a decrease in fee income, an increase in amortization of DAC and an increase in realized losses on investments. These are partially offset by an increase in interest margins on guaranteed products.
Operating expenses increased by $36 million, or 11%, to $360 million for the year ended December 31, 2009 when compared to 2008. The increase is primarily related to a $22 million increase in amortization of DAC, value of business acquired and other intangibles due to lower estimated future gross profits in 2009 compared to the estimated future gross profits in 2008 due to a decrease in projected fee income. In addition, pension and post-retirement expenses increased $5 million and state assessments increased $2 million.
Account values invested in the separate account variable investment options have increased by $3,620 million, or 35%, at December 31, 2009 compared to December 31, 2008. The increase is primarily due new sales and the higher U.S. equity markets at December 31, 2009 compared to December 31, 2008.
Fee income decreased by $21 million, or 5%, to $368 million during the year ended December 31, 2008 from $389 million during 2007. The decrease is primarily related to lower variable fee income due to the weak performance of the U.S. equities market in 2008. Variable asset-based fees fluctuate with changes in participant account balances. Participant account balances change due to cash flow and unrealized market gains and losses associated with changes in the United States equities market.
Net realized gains (losses) on investments decreased by $15 million to a loss of $10 million during the year ended December 31, 2008 when compared to a gain of $5 million during 2007. The loss during the year ended December 31, 2008 is due to $35 million of write-downs primarily on a fixed maturity security backed by Lehman Brothers Holdings Inc. and on securities backed by General Motors Corporation. These write-downs are partially offset by $25 million of net realized gains on the sale of investments.
Retirement participant accounts, including third-party administration and institutional accounts, increased by 219 thousand or 6% to 3,739 thousand at December 31, 2008 from 3,520 thousand at December 31, 2007 primarily as the result of acquiring the Commonwealth of Massachusetts deferred compensation plan reflecting 254 thousand accounts during the current year.
Account values invested in the separate account variable investment options have decreased by $3,087 million, or 23% at December 31, 2008 compared to December 31, 2007. The decrease is primarily due to the decrease in the U.S. equity markets and participant redemptions.
Premium income decreased by $16 million, or 11% during the year ended December 31, 2009 compared to 2008 primarily due to lower reinsurance premiums from the GWSC agreement.
The following is a summary of certain financial data of the Company’s Other segment for the years ended December 31, 2008 and 2007:
Income from continuing operations in the Other segment increased by $257 million to $249 million during the year ended December 31, 2008 compared to a net loss of $8 million during 2007. The increase in net income is primarily related to a $208 million gain as a result of the release of the liability associated with certain participating policies and a $98 million ($64 million net of income taxes) liability release on these policies.
Premium income decreased by $20 million, or 12% during the year ended December 31, 2008 compared to 2007. The decrease is due to the one-time return premium income recorded in the amount of $34 million at the time of the 2007 CLAC reinsurance agreement amendment partially offset by an increase in reinsurance activity as the result of the amendment.
Policyholder benefits decreased by $300 million during the year ended December 31, 2008 compared to 2007. The decrease is due the aforementioned $208 million release of the liability associated with certain participating policies, the $98 million adjustment to the policy benefits of these policies and the one-time increase in policy benefits recorded in the amount of $34 million at the time of the 2007 CLAC reinsurance agreement amendment. These decreases are partially offset by an increase in reinsurance activity as the result of the amendment.
Operating expenses increased by $9 million, or 11% during the year ended December 31, 2008 compared to 2007. The increase is mainly due to an adjustment to cumulative deferred policy acquisition cost amortization related to additional overhead that the Individual Markets and Retirement Service segments will incur as a result of the sale of the Company’s Healthcare segment.
A summary of the Company’s general account investment assets and the assets as a percentage of total general account investments at December 31, 2009 and 2008 follows:
The following table contains the sector distribution of the Company’s fixed maturity investment portfolio, calculated as a percentage of fixed maturities:
The Company does not have any direct bond holdings of the actual monoline insurers. The Company’s insured holdings, excluding FGIC guaranteed fixed maturity investments, are as follows:
While many unrealized losses have now existed for longer than twelve months, the Company believes this is attributable to general market conditions and not reflective of the financial condition of the issuer or collateral backing the securities. The Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before the recovery of their amortized cost basis, which may be maturity. The Company also believes the present value of cash flows expected to be collected is greater than amortized cost; therefore, the Company does not consider these investments to be other-than-temporarily impaired at December 31, 2009. While the Company has experienced unrealized losses across all classes within its fixed maturity investments, the majority of total unrealized losses are related to mortgage-backed, asset-backed and corporate debt securities as described below.
The Company holds approximately $7,075 million of corporate debt securities of which $1,824 million are experiencing unrealized losses of approximately $216 million at December 31, 2009. Included in this amount is $131 million which has declined and remained below amortized cost by 20% or more. Approximately $123 million of the $216 million was related to securities on which there had been a credit rating downgrade since December 31, 2008. Of the $123 million, $57 million are rated investment grade and $66 million are rated non-investment grade at December 31, 2009.
All cash collateral received from the securities lending program, repurchase agreements and dollar roll practices is invested in U.S. Government or U.S. Government Agency securities. Some cash collateral may be invested in short-term repurchase agreements which are also collateralized by U.S. Government or U.S. Government Agency securities. In addition, the securities lending agent indemnifies the Company against borrower risk, meaning that the lending agent agrees contractually to replace securities not returned due to a borrower default. As of December 31, 2009, the Company had $37 million of securities out on loan, $418 million in repurchase agreements and $491 million in dollar rolls, all of which are fully collateralized as described above. The Company does not enter into these types of transactions for liquidity purposes, but rather for yield enhancement on its investment portfolio.
All collateral received from derivative counterparties, at December 31, 2009, is in the form of cash. As of December 31, 2009, the $4.3 million unrestricted cash received is included in the consolidated balance sheet.
The Company originates interest only and amortizing commercial mortgage loans. During 2009, the Company originated interest only mortgage loans in the amount of $222 million compared to a total mortgage loan portfolio at December 31, 2009 of $1,554 million. The weighted average loan-to-value ratio of the interest only loans originated in 2009 was 47%.
The average balance of impaired loans increased to $0.3 million during the year ended December 31, 2009 compared to $0 million during the year ended December 31, 2008. There were no properties acquired through foreclosure during 2009 or 2008. The low levels of problematic mortgage loans relative to the Company’s overall financial position are due to its active loan management program.
See Note 6 to the accompanying consolidated financial statements for a further discussion of impaired equity investments.
The Company has also developed controls within its operations to ensure that only derivative transactions authorized by the Board of Directors are executed. Notes 1 and 6 to the consolidated financial statements contain a discussion of the Company’s derivative position.
Generally, the Company has met its operating requirements by utilizing cash flows from operations and maintaining appropriate levels of liquidity in its investment portfolio. Net cash flows from operating activities were $569 million and $333 million, including the cash flows of the discontinued operations, for the for the years ended December 31, 2009 and 2008, respectively. Liquidity for the Company has remained strong, as evidenced by the amounts of short-term investments and cash that totaled $659 million and $395 million as of December 31, 2009 and 2008, respectively. In addition, 96% and 98% of the bond portfolio carried an investment grade rating at December 31, 2009 and 2008, respectively, thereby providing significant liquidity to the Company's overall investment portfolio.
The Company continues to be well capitalized, with sufficient borrowing capacity to meet the anticipated needs of its business. The Company’s financial strength provides the capacity and flexibility to enable it to raise funds in the capital markets through the issuance of commercial paper. The Company had $98 million and $97 million of commercial paper outstanding at December 31, 2009 and 2008, respectively. The commercial paper has been given a rating of A-1+ by Standard & Poor’s Ratings Services and a rating of P-1 by Moody’s Investors Service, each being the highest rating available. Through the recent financial market volatility, the Company continued to have the ability to access the capital markets for funds. The loss of this access in the future would not have a significant impact to the Company’s liquidity as the commercial paper is not used to fund daily operations and is an insignificant amount in relation to total invested assets.
The Company also has available a corporate credit facility agreement in the amount of $50 million for general corporate purposes. The Company had no borrowings under the credit facility at either December 31, 2009 or 2008. The Company does not anticipate the need for borrowings under this facility and the loss of its availability would not significantly impact the Company’s liquidity.
Capital resources provide protection for policyholders and financial strength to support the underwriting of insurance risks and allow for continued business growth. The amount of capital resources that may be needed is determined by the Company’s senior management and Board of Directors, as well as by regulatory requirements. The allocation of resources to new long-term business commitments is designed to achieve an attractive return, tempered by considerations of risk and the need to support the Company’s existing business.
1, 2 Future policy benefits and policy and contract claims - The Company has estimated payments to be made to policy and contractholders for future policy benefits. Insurance and investment contract liabilities include various investment-type products with contractually scheduled maturities, including periodic payments of a term certain nature. However, a significant portion of policy benefits and claims to be paid do not have stated contractual maturity dates and ultimately may not result in any payment obligation.
3 Policyholders’ funds - Policyholders’ funds consist primarily of future policy benefits associated with policyholder deposits, participating policy dividends left on deposit and provisions for experience rating refunds. Because the timing of the payment of some of these obligations is unknown and beyond the control of the Company, the obligations related to these liabilities are presented in the table above in the less than one year category in the amounts of the liabilities presented in the Company’s consolidated balance sheet.
10 Investment purchase obligations - The Company commits to fund limited partnership interests, mortgage loan and other investments in the normal course of its business. As the timing of the fulfillment of the commitment to fund partnership interests cannot be predicted, such obligations are presented in the less than one year category. The timing of the funding of mortgage loans is based on the expiration date of the commitment.
12 Other liabilities - Other liabilities include those other liabilities which represent contractual obligations not included elsewhere in the table above. If the timing of the payment of any other liabilities was sufficiently uncertain, the amounts were included in the less than one year category. Other liabilities presented in the table above include:
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, “Fair Value Measurements” (“SFAS No. 157”). Effective July 1, 2009, SFAS No. 157 was superseded and replaced by certain provisions of ASC topic 820, “Fair Value Measurements and Disclosures” (“ASC topic 820”). These provisions enhance guidance for using fair value to measure assets and liabilities. These provisions also provide expanded information about the extent to which a company measures assets and liabilities at fair value, the information used to measure fair value and the effect of fair value measurements on earnings. These provisions of ASC topic 820 are applicable whenever other authoritative pronouncements require or permit assets or liabilities to be measured at fair value and are effective for fiscal years beginning after November 15, 2007. The Company adopted these provisions on January 1, 2008. The adoption did not have a material impact on the Company’s financial position or results of its operations.
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans” (“SFAS No. 158”). Effective July 1, 2009, SFAS No. 158 was superseded and replaced by certain provisions of ASC topic 715, “Compensation - Retirement Benefits” (“ASC topic 715”). For fiscal years ending after December 15, 2006, these provisions of ASC topic 715 require a company to recognize in its balance sheet an asset for a defined benefit postretirement plan’s overfunded status or a liability for a plan’s underfunded status and recognize changes in the funded status of a defined benefit postretirement plan in the other comprehensive income section of stockholder’s equity in the year in which the changes occur, and provide additional disclosures. The Company adopted the recognition and disclosure provisions of these provisions of ASC topic 715 as of December 31, 2006, decreasing accumulated other comprehensive income (loss) by $6,734. In addition, for fiscal years ended after December 15, 2008, these provisions of ASC topic 715 require a company to measure a defined benefit postretirement plan’s assets and obligations that determine its funded status as of the end of its fiscal year. The Company adopted these measurement provisions for its fiscal year ended December 31, 2008, decreasing stockholder’s equity by $206. The adoption did not affect the results of operations for the years ended December 31, 2008, 2007, or 2006.
In February 2008, the FASB issued Staff Position No. 157-2, “Effective Date of FASB Statement No. 157” (“FSP No. 157-2”). Effective July 1, 2009, FSP No. 157-2 was superseded and replaced by certain provisions of ASC topic 820, “Fair Value Measurements and Disclosures” (“ASC topic 820”). These provisions of ASC topic 820 defer the effective date for all nonrecurring fair value measurements of non-financial assets and non-financial liabilities until fiscal years beginning after November 15, 2008. Non-financial assets include assets associated with business acquisitions and impairment testing of tangible and intangible assets. The Company adopted these provisions of ASC topic 820 for its fiscal year beginning January 1, 2009. The adoption of these provisions of ASC topic 820 did not have a material impact on the Company’s consolidated financial position or the results of its operations.
In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161, “Disclosures About Derivative Instruments and Hedging Activities, an amendment of FASB Statement No. 133” (“SFAS No. 161”). Effective July 1, 2009, SFAS No. 161 was superseded and replaced by certain provisions of ASC topic 815, “Derivatives and Hedging” (“ASC topic 815”). These provisions of ASC topic 815 apply to all derivative instruments and related hedged items. These provisions of ASC topic 815 require entities to provide enhanced disclosures regarding (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for and (c) how derivative instruments and related hedged items affect an entity’s financial position, results of operations and cash flows. These provisions of ASC topic 815 are effective for fiscal years beginning after November 15, 2008. The Company adopted these provisions of ASC topic 815 for its fiscal year beginning January 1, 2009.
In October 2008, the FASB issued Staff Position No. 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active” (“FSP No. 157-3”). Effective July 1, 2009, FSP No. FAS 157-3 was superseded and replaced by certain provisions of ASC topic 820. These provisions of ASC topic 820 apply to financial assets within the scope of accounting pronouncements that require or permit fair value measurements. These provisions of ASC topic 820 clarify when a market that is not active and provide an example to illustrate key conditions in determining the fair value of a financial asset when the market for that financial asset is not active. These provisions became effective upon issuance including prior periods for which financial statements have not been issued. The Company adopted these provisions effective September 30, 2008. The adoption did not have a material impact on the Company’s financial position or results of its operations.
In December 2008, the FASB issued Staff Position No. FAS 132(R)-1, “Employers’ Disclosures About Postretirement Benefit Plan Assets” (“FSP No. FAS 132(R)-1”). Effective July 1, 2009, FSP No. FAS 132(R)-1 was superseded and replaced by certain provisions of ASC topic 715, “Compensation - Retirement Benefits” (“ASC topic 715”). Certain provisions of ASC topic 715 require, among other things, additional disclosures about assets held in an employer’s defined benefit pension plan including disclosures regarding investment policies and strategies, categories of plan assets, fair value measurements of plan assets and significant concentrations of risk. The requirements of ASC topic 715 relating to these disclosures are effective for fiscal years ending after December 15, 2009. The Company adopted these provisions of ASC topic 715 for its fiscal year ending December 31, 2009. The adoption of these provisions of ASC topic 715 did not have an impact on the Company’s consolidated financial position or the results of its operations.
In January 2009, the FASB issued EITF 99-20-1, “Amendments to the Impairment Guidance of EITF Issue No. 99-20” (“EITF 99-20-1”). Effective July 1, 2009, EITF 99-20-1 was superseded and replaced by certain provisions of ASC topic 325, “Investments - Other” (“ASC topic 325”). These provisions of ASC topic 325 are an interpretative amendment to impairment guidance and align impairment guidance to that of ASC topic 320, “Investments - Debt and Equity Securities” (“ASC topic 320”). These provisions are effective for reporting periods ending after December 15, 2008. The Company adopted these provisions for its year ended December 31, 2008. The adoption did not have an impact on the Company’s financial position or results of its operations.
In April 2009, the FASB issued Staff Position No. FAS 157-4, “Determining Fair Value When the Volume and Level of Activity for an Asset or Liability Have Significantly Decreased and Identifying Transactions That are Not Orderly” (“FSP No. FAS 157-4”). Effective July 1, 2009, FSP No. FAS 157-4 was superseded and replaced by certain provisions of ASC topic 820. These provisions of ASC topic 820 relate to determining fair values when there is no active market or where the price inputs being used represent distressed sales. These provisions of ASC topic 820 reaffirm the need to use judgment to ascertain if a formerly active market has become inactive and in determining fair values when markets have become inactive. These provisions of ASC topic 820 apply to all assets and liabilities within the scope of accounting pronouncements that require or permit fair value measurements. The provisions of ASC topic 820 that relate to the determination of fair value when the volume and level of activity for an asset or liability have significantly decreased and identifying transactions that are not orderly, is effective for interim and annual periods ending after June 15, 2009. The Company adopted these provisions of ASC topic 820 relating to these considerations for its fiscal quarter ended June 30, 2009. The adoption of ASC topic 820 relating to these considerations did not have a material impact on the Company’s fair value measurements.
We have audited the accompanying consolidated balance sheets of Great-West Life & Annuity Insurance Company and subsidiaries (the “Company”) as of December 31, 2009 and 2008, and the related consolidated statements of income, stockholder’s equity, and cash flows for each of the three years in the period ended December 31, 2009. Our audits also included the financial statement schedule listed in the Index at Item 15. These consolidated financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on the consolidated financial statements and financial statement schedule based on our audits.
The consolidated financial statements include the accounts of the Company and its subsidiaries. Intercompany transactions and balances have been eliminated in consolidation.
Equity investments classified as available-for-sale are carried at fair value with net unrealized gains and losses, net of deferred taxes, reported as accumulated other comprehensive income (loss) in the stockholder’s equity section of the Company’s consolidated balance sheets. The Company uses the equity method of accounting for investments in which it has more than a minor interest and has influence in the entity’s operating and financial policies, but does not have a controlling interest. Realized gains and losses are included in net realized gains (losses) on investments. Declines in value, determined to be other-than-temporary, are included in total other-than-temporary impairment losses recognized.
Limited partnership interests are accounted for using the cost method of accounting. The Company uses this method since it has a minor equity interest and virtually no influence over the entity’s operations. Also included in limited partnership interests are limited partnerships established for the purpose of investing in low-income housing that qualify for federal and state tax credits. These securities are carried at amortized cost as determined using the effective yield method.
One of the significant estimates inherent in the valuation of investments is the evaluation of investments for other-than-temporary impairments. The evaluation of impairments is a quantitative and qualitative process, which is subject to risks and uncertainties and is intended to determine whether declines in the fair value of investments should be recognized in current period earnings. The risks and uncertainties include changes in general economic conditions, the issuer’s financial condition or near term recovery prospects, the effects of changes in interest rates or credit spreads and the recovery period. The Company’s accounting policy requires that a decline in the value of a security below its cost or amortized cost basis be assessed to determine if the decline is other-than-temporary. If management either (a) has the intent to sell the fixed maturity investment or (b) it is more likely than not the Company will be required to sell the fixed maturity investment before its anticipated recovery, a charge is recorded in net realized losses on investments equal to the difference between the fair value and cost or amortized cost basis of the security. If management does not intend to sell the security and it is not more likely than not the Company will be required to sell the fixed maturity investment before recovery of its amortized cost basis, but the present value of the cash flows expected to be collected (discounted at the effective interest rate implicit in the fixed maturity investment prior to impairment) is less than the amortized cost basis of the fixed maturity investment (referred to as the credit loss portion), an other-than-temporary impairment is considered to have occurred. In this instance, total other-than-temporary impairment is bifurcated into two components: the amount related to the credit loss, which is recognized in earnings; and the amount attributed to other factors (referred to as the non-credit portion), which is recognized as a separate component in accumulated other comprehensive income (loss). After the recognition of an other-than-temporary impairment, the fixed maturity investment is accounted for as if it had been purchased on the measurement date of the other-than-temporary impairment, with an amortized cost basis equal to the previous amortized cost basis less the other-than-temporary impairment recognized in earnings.
If management does not have the ability and intent to hold an impaired available-for-sale equity investment for a period of time sufficient to allow for the recovery of its value to an amount equal or greater than its cost, then the investment shall be deemed other-than-temporarily impaired. An impairment loss is recorded in earnings for the difference between the equity investment’s cost and fair value at the balance sheet date of the reporting period for which the assessment is made.
Goodwill and other intangible assets - Goodwill is the excess of cost over the fair value of assets acquired and liabilities assumed in connection with an acquisition and is considered an indefinite lived asset and therefore is not amortized. The Company tests goodwill for impairment annually or more frequently if events or circumstances indicate that there may be justification for conducting an interim test. If the carrying value of goodwill exceeds its fair value, the excess is recognized as an impairment and recorded as a charge against net income in the period in which the impairment is identified. There were no impairments of goodwill recognized during the years ended December 31, 2009, 2008 or 2007.
Other intangible assets represent the estimated fair value of the portion of the purchase price that was allocated to the value of customer relationships and preferred provider relationships in various acquisitions. These intangible assets have been assigned values using various methodologies, including present value of projected future cash flows, analysis of similar transactions that have occurred or could be expected to occur in the market, and replacement or reproduction cost. The initial valuations of these intangible assets were supported by an independent valuation study that was commissioned by the Company and executed by qualified valuation experts. Other identified intangible assets with finite lives are amortized over their estimated useful lives, which initially ranged from 4 to 14 years (weighted average 13 years), primarily based upon the cash flows generated by these assets.
The Company had established a Participating Policyholder Experience Account (“PPEA”) for the benefit of all participating policyholders, which was included in the accompanying consolidated balance sheets at December 31, 2007. The Company had also established a Participation Fund Account (“PFA”) for the benefit of the participating policyholders previously assumed from The Great-West Life Assurance Company (“GWL”) under an assumption reinsurance transaction. The PFA was part of the PPEA. As discussed in Note 4, on January 1, 2008, the Company was no longer required to maintain the PPEA.
Net investment income - Interest and dividend income from fixed maturities and mortgage loans on real estate is recognized when earned. Net investment income on equity securities available-for-sale is primarily comprised of dividend income and is recognized on ex-dividend date.
Income taxes - Income taxes are recorded using the asset and liability method in which deferred tax assets and liabilities are recorded for expected future tax consequences of events that have been recognized in either the Company’s consolidated financial statements or consolidated tax returns. In estimating future tax consequences, all expected future events, other than the enactments or changes in the tax laws or rules, are considered. Although realization is not assured, management believes it is more likely than not that the deferred tax asset will be realized.
In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115” (“SFAS No.159”). Effective July 1, 2009, SFAS No. 159 was superseded and replaced by certain provisions of ASC topic 825, “Financial Instruments” (“ASC topic 825”). These provisions of ASC topic 825 permit an entity to measure financial instruments and certain other items at estimated fair value. Most of these provisions are elective; however, certain amendments to ASC topic 320, “Investments - Debt and Equity Securities” (“ASC topic 320”) apply to all entities that own trading and available-for-sale securities. The fair value option permits an entity to measure eligible items at fair value as of specified election dates. The fair value option (a) may generally be applied instrument by instrument, (b) is irrevocable unless a new election date occurs, and (c) must be applied to the entire instrument and not to only a portion of the instrument. These provisions of ASC topic 825 are effective as of the beginning of the first fiscal year that begins after November 15, 2007. The Company adopted these provisions on January 1, 2008. The adoption did not have an impact on the Company’s financial position or results of its operations.
In April 2008, the FASB issued Staff Position No. FAS 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP FAS No. 142-3”). Effective July 1, 2009, FSP FAS No. 142-3 was superseded and replaced by certain provisions of ASC topic 350, “Intangibles - Goodwill and Other” (“ASC topic 350”). These provisions of ASC topic 350 require, among other things, the amendment of factors that must be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset. In determining the useful life of an intangible asset for amortization purposes, an entity shall consider, among other things, the periods of expected cash flows, adjusted for certain entity-specific factors. These provisions of ASC topic 350 are effective for fiscal years beginning after December 15, 2008. The Company adopted these provisions of ASC topic 350 for its fiscal year beginning January 1, 2009. The adoption of these provisions of ASC topic 350 did not have an impact on the Company’s consolidated financial position or the results of its operations.
In addition, the Company and CIGNA entered into a Transition Services Agreement (the “Transition Agreement”) whereby the Company will provide certain information technology and administrative and legal services on behalf of CIGNA for a period of up to twenty-four months. CIGNA pays the Company pre-determined monthly fees for these services and reimburses it for other expenditures it makes under the terms of the Transition Agreement.
The Company incurred net expenses in the amount of $42,934 during the year ended December 31, 2008 related to the restructuring plan and does not anticipate incurring significant additional costs in the future. The restructuring plan is substantially complete at December 31, 2009.
Included in the consolidated statements of income for the years ended December 31, 2009, 2008 and 2007 are the following related party amounts:
The Company provides administrative and operational services for the United States operations of The Great-West Life Assurance Company (“GWL”) and the United States operations of The Canada Life Assurance Company (“CLAC”), wholly-owned subsidiaries of Lifeco. The Company also provides investment services for London Reinsurance Group, an indirect subsidiary of GWL. The following table presents revenue and expense reimbursement from related parties for services provided pursuant to these service agreements for the years ended December 31, 2009, 2008 and 2007. These amounts, in accordance with the terms of the various contracts, are based upon estimated costs incurred, including a profit charge, and resources expended based upon the number of policies, certificates in-force and/or administered assets.
The following table summarizes amounts due from parent and affiliates at December 31, 2009 and 2008:
The following table summarizes amounts due to parent and affiliates at December 31, 2009 and 2008:
² A note payable to GWL&A Financial was issued as a surplus note on May 19, 2006, with a face amount and carrying amount of $333,400. The surplus note bears interest initially at the rate of 7.203% per annum, payable in arrears on each May 16 and November 16 until May 16, 2016. After May 16, 2016, the surplus note bears an interest rate of 2.588% plus the then-current three-month London Interbank Offering Rate. The surplus note is redeemable by the Company at the principal amount plus any accrued and unpaid interest after May 16, 2016. The note matures on May 16, 2046.
The following table summarizes fixed maturity investments and equity securities classified as available-for-sale and the amount of other-than-temporary impairments (“OTTI”) included in accumulated other comprehensive income (loss) (“AOCI”) at December 31, 2009:
See Note 7 for additional information on policies regarding estimated fair value of fixed maturity and equity investments.
Gross realized gains and losses from sales were primarily attributable to changes in interest rates, sales of securities acquired in the current year and gains on repurchase agreement transactions. These gains and losses are determined on a specific identification basis.
The Company has fixed maturity securities with fair values in the amounts of $7,979 and $0 that have been non-income producing for the twelve months preceding December 31, 2009 and 2008, respectively. These securities were written down to their fair value in the period they were deemed to be other-than-temporarily impaired.
Derivative financial instruments - The Company makes limited use of derivative financial instruments for risk management purposes associated with its invested assets. Derivatives are not used for speculative purposes. While the Company purchases all derivatives as hedges to manage risk, hedge accounting has not been elected for some derivative transactions. To manage the Company’s interest rate risk on certain floating rate debt securities, interest rate swap agreements are used to effectively convert the floating rate on the underlying asset to a fixed rate. In order to manage the risk of a change in the fair value of certain assets, interest rate futures are utilized. Interest rate futures are also used to manage the interest rate risks of forecasted acquisitions of fixed rate maturity investments. Foreign currency exchange rate risk associated with bonds denominated in other than U.S. dollars is managed through the use of foreign currency exchange contracts. Interest rate swaptions are used to manage the potential variability in future interest payments on certain insurance products due to a change in credited interest rates and the related change in cash flows due to increased surrenders. These transactions are entered into pursuant to master agreements that provide for a single net payment to be made by one party to the other on a daily basis, periodic payment dates, or at the due date, expiration or termination of the agreement.
Interest rate swaptions in a net asset position have cash pledged as collateral to the Company in accordance with the collateral support agreements with the counterparty. As of December 31, 2009, the $4.3 million unrestricted cash received is included in other assets and the obligation to return is included in other liabilities.
The Company may purchase a financial instrument that contains a derivative instrument that is “embedded” in the financial instrument. Upon purchasing the instrument, the Company determines if (1) the embedded derivative possesses economic characteristics that are not clearly and closely related to the economic characteristics of the host contract, and (2) a separate instrument with the same terms would qualify as a derivative instrument. If the Company determines that these conditions are met, the embedded derivative is bifurcated from the host contract and accounted for as a freestanding derivative.
Hedge ineffectiveness in the amount of $6, $1,510 and $606 was recorded as an increase to net investment income during the years ended December 31, 2009, 2008, and 2007, respectively.
Derivative net gains in the amounts of $606 and $4,732 were reclassified to net investment income during the years ended December 31, 2009 and 2008, respectively while a derivative net loss in the amount of $1,275 was reclassified to net investment income during the year ended December 31, 2007. As of December 31, 2009, the Company estimates that $8,828 of net derivative gains included in accumulated other comprehensive income (loss) will be reclassified into net income within the next twelve months.
The following tables summarize derivative financial instruments at December 31, 2009 and 2008:
The following tables present the effect of derivative instruments in the statement of income for the year ended December 31, 2009:
Mortgage loans - In 2009, the average balance of impaired mortgage loans during the year was $289. There were no impaired mortgage loans at December 31, 2008 or December 31, 2007.
The following table summarizes activity in the allowance for mortgage loan credit losses for the years 2009, 2008 and 2007:
Equity investments - The carrying value of the Company’s equity investments was $25,679 and $17,790 at December 31, 2009 and 2008, respectively.
Limited partnership interests and limited liability corporation interests - Limited partnership interests are accounted for using the cost method of accounting. The Company uses this method since it has a minor equity interest and virtually no influence over the entity’s operations. Also included in limited partnership interests are limited partnerships established for the purpose of investing in low-income housing that qualify for federal and state tax credits. These securities are carried at amortized cost as determined using the effective yield method. At December 31, 2009 and 2008, the Company had $253,605 and $293,956, respectively, invested in limited partnerships and limited liability corporations.
The Company makes commitments to fund partnership interests in the normal course of its business. The amounts of unfunded commitments at December 31, 2009 and 2008 were $27,034 and $33,289, respectively.
Securities pledged, special deposits and securities lending - The Company pledges investment securities it owns to unaffiliated parties related to interest rate futures transactions. The fair value of margin deposits related to futures contracts was approximately $4,955 and $1,600 at December 31, 2009 and 2008, respectively.
The Company participates in a securities lending program whereby securities, which are included in invested assets in the accompanying consolidated balance sheets, are loaned to third parties. Securities with a cost or amortized cost in the amounts of $34,940 and $32,788 and estimated fair values in the amounts of $37,081 and $41,321 were on loan under the program at December 31, 2009 and 2008, respectively. The Company received restricted cash collateral in the amounts of $38,296 and $43,205 at December 31, 2009 and 2008, respectively.
Dividends have been reduced or eliminated or scheduled interest payments have not been made.
The following tables summarize unrealized investment losses, including the non-credit-related portion of other-than-temporary impairment losses reported in accumulated other comprehensive income (loss), by class of investment at December 31, 2009 and 2008:
Unrealized losses on corporate fixed maturity investments decreased by $398,761 from December 31, 2008 to December 31, 2009. The valuation of these securities has been significantly influenced by market conditions with increased liquidity and tightening of credit spreads. Management has classified these securities by sector, calculated as a percentage of total unrealized losses as follows:
Future recoveries in the fair value of all available-for-sale securities will be dependent upon the return of normal market liquidity and changes in general market conditions. While the decline in fair value has decreased, there has not yet been a full recovery in the markets and many unrealized losses have existed for longer than twelve months. The Company believes this is attributable to general market conditions and not reflective of the financial condition of the issuer or collateral backing the securities. The Company continually monitors its credit risk exposure to identify potential losses.
Other-than-temporary impairment recognition - The Company adopted ASC section 320-10-65 for its fiscal quarter ended June 30, 2009. The adoption resulted in the reclassification of the non-credit portion of previously recorded other-than-temporary impairments on securities held as of April 1, 2009. A cumulative effect adjustment of $8,528 was recorded as an increase to retained earnings with a corresponding decrease to accumulated other comprehensive income (loss) in the consolidated statement of stockholder’s equity. The following table summarizes the components of the cumulative effect adjustment:
The Company recorded other-than-temporary impairments on fixed maturity investments of $112,757, $87,886 and $34,485 during the years ended December 31, 2009, 2008 and 2007, respectively. Of the $112,757, $88,134 was credit-related other-than-temporary impairment on asset-backed securities with underlying collateral backed by home improvement loans guaranteed by Financial Guaranty Insurance Company. During 2009, $13,422 was non-credit other-than-temporary impairment reclassified to other comprehensive income. During 2009, all other-than-temporary impairments on fixed maturity investments were related to continuing operations. Of the $87,886 recorded during the years ended December 31, 2008, $4,372 was related to discontinued operations and $83,514 was related to continuing operations. The Company recorded other-than-temporary impairments on equity securities of $7, $3,512 and $389 during the years ended December 31, 2009, 2008 and 2007, respectively.
The other-than-temporary impairments of fixed maturity securities where a portion was related to non-credit losses which were recognized in net realized capital gains (losses) in the consolidated statement of income, is summarized as follows:
The following table summarizes net realized gains (losses) on investments for the years ended December 31, 2009, 2008 and 2007:
Included in net investment income are unrealized gains (losses) in the amounts of $4,749, ($969) and ($205) on held-for-trading fixed maturity investments still held at December 31, 2009, 2008 and 2007, respectively.
The carrying value of short-term investments, collateral and payable under securities lending agreements, repurchase agreements and commercial paper is a reasonable estimate of fair value due to their short-term nature.
Other investments include the Company’s percentage ownership of a foreclosed lease interest in aircraft. The estimated fair value is based on the present value of anticipated lease payments plus the residual value of the aircraft. Also included in other investments is real estate held for investment. The estimated fair value is based on appraised value.
Included in other assets and other liabilities at December 31, 2009 is cash collateral received from counterparties and the obligation to return the cash collateral to the counterparties.
The Company’s assets and liabilities recorded at fair value have been categorized based upon the following fair value hierarchy:
· Level 3 inputs are unobservable and include situations where there is little, if any, market activity for the asset or liability. The prices of the majority of Level 3 securities were obtained from single broker quotes and internal pricing models. Financial assets and liabilities utilizing Level 3 inputs include certain private equity, fixed maturity and over-the-counter derivative investments.
In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability measurement in its entirety. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability.
The following table presents information about the Company’s financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2009 and indicates the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value:
The following tables present additional information about assets and liabilities measured at fair value on a recurring basis and for which the Company has utilized Level 3 inputs to determine fair value:
Realized and unrealized gains and losses due to the changes in fair value on assets classified as Level 3 included in net income for the year ended December 31, 2009 are as follows:
Non-recurring fair value measurements - At December 31, 2009, the Company held $1,900 of cost basis in other assets comprised of head office properties which were impaired during the year. The property was recorded at estimated fair value and represents a non-recurring fair value measurement. The estimated fair value was categorized as Level 2 since the fair value was based on an independent third party appraisal. The Company has no liabilities measured at fair value on a non-recurring basis at December 31, 2009.
Ceded reinsurance contracts do not relieve the Company from its obligations to policyholders. The failure of reinsurers to honor their obligations could result in losses to the Company. The Company evaluates the financial condition of its reinsurers and monitors concentrations of credit risk arising from similar geographic regions, activities or economic characteristics of the reinsurers to minimize its exposure to significant losses from reinsurer insolvencies. At December 31, 2009 and 2008, the reinsurance receivables had carrying values in the amounts of $573,963 and $546,491, respectively. Included in these amounts are $452,510 and $425,369 at December 31, 2009 and 2008, respectively, associated with reinsurance agreements with related parties. At December 31, 2009 and 2008, 71% and 69% of the total reinsurance receivable was due from CLAC, respectively. There were no allowances for potential uncollectible reinsurance receivables at either December 31, 2009 or 2008. Included within life insurance in the tables below is a small portion of Healthcare business as discussed in Note 17.
The following tables summarize life insurance in-force and total premium income at, and for the year ended, December 31, 2009:
The following table summarizes total premium income for the year ended, December 31, 2007:
The following table summarizes activity in deferred acquisition costs (“DAC”) and value of business acquired (“VOBA”) for the years ended December 31, 2009, 2008 and 2007:
The balances of and changes in goodwill, all of which is within the Retirement Services segment, for the years ended December 31, 2009 and 2008 are as follows:
The Company maintains a commercial paper program that is partially supported by a $50,000 corporate credit facility (See Note 20).
The following table provides information regarding the Company’s commercial paper program at December 31, 2009 and 2008:
Dividends are paid as determined by the Board of Directors, subject to restrictions as discussed below. During the years ended December 31, 2009, 2008 and 2007, the Company paid dividends in the amounts of $24,682, $1,772,293 and $604,983, respectively, to its parent company, GWL&A Financial. Dividends paid during 2008 were paid in part using the proceeds received from the sale of the Company’s Healthcare business as discussed in Note 3.
The maximum amount of dividends that can be paid to stockholders by insurance companies domiciled in the State of Colorado, without prior approval of the Insurance Commissioner, is subject to restrictions relating to statutory capital and surplus and statutory net gain from operations. Unaudited statutory capital and surplus and net gain from operations at and for the year ended December 31, 2009 were $1,375,267 and $337,553, respectively. GWLA may pay up to $337,553 (unaudited) of dividends during the year ended December 31, 2010 without the prior approval of the Colorado insurance commissioner. Prior to any payments of dividends, the Company seeks approval from the Colorado Insurance Commissioner.
The following table presents the composition of other comprehensive income (loss) for the year ended December 31, 2009:
The following table presents the composition of other comprehensive income (loss) for the year ended December 31, 2008:
The following table presents the composition of other comprehensive income (loss) for the year ended December 31, 2007:
Defined Benefit Pension, Post-Retirement Medical and Supplemental Executive Retirement Plans - The Company has a noncontributory Defined Benefit Pension Plan covering substantially all of its employees that were hired before January 1, 1999. Pension benefits are based principally on an employee’s years of service and compensation levels near retirement. The Company’s policy for funding the defined benefit pension plans is to make annual contributions, which equal or exceed regulatory requirements.
The following tables provide a reconciliation of the changes in the benefit obligations, fair value of plan assets and the under funded status for the Company’s Defined Benefit Pension, Post-Retirement Medical and Supplemental Executive Retirement plans as of the years ended December 31, 2009 and 2008:
The accumulated benefit obligation for the Defined Benefit Pension Plan was $303,352 and $289,525 at December 31, 2009 and 2008, respectively.
The following table provides information regarding amounts in accumulated other comprehensive income that have not yet been recognized as components of net periodic benefit costs at December 31, 2009:
The following tables present the assumptions used in determining benefit obligations of the Defined Benefit Pension, Post-Retirement Medical and the Supplemental Executive Retirement plans for the years ended December 31, 2009, 2008 and 2007:
During the second quarter of 2008, the Company recorded defined benefit pension plan costs of $672, post-retirement medical plan benefits of $19,346 and supplemental executive retirement plan costs of $1,833 as adjustments to income from discontinued operations due to plan curtailments related to the sale of the Healthcare segment.
Other employee benefit plans - The Company sponsors a defined contribution 401(k) retirement plan which provides eligible participants with the opportunity to defer up to 50% of base compensation. The Company matches 50% of the first 5% of participant pre-tax contributions for employees hired before January 1, 1999. For all other employees, the Company matches 50% of the first 8% of participant pre-tax contributions. Company contributions for the years ended December 31, 2009, 2008 and 2007 were $5,006, $7,384 and $9,573, respectively.
The Company offers an unfunded, non-qualified deferred compensation plan to a select group of management and highly compensated individuals. Participants defer a portion of their compensation and realize potential market gains or losses on the invested contributions. The program is not qualified under Section 401 of the Internal Revenue Code. Participant balances, which are included in other liabilities in the accompanying consolidated balance sheets, are $12,240 and $9,238 at December 31, 2009 and 2008, respectively. Unrealized gains (losses) on invested participant deferrals were $2,053, ($3,709) and $997 for the years ended December 31, 2009, 2008 and 2007, respectively.
Included above in the provision for policyholder’s share of earnings on participating business is the income tax effect of the $207,785 decrease in undistributed earnings on participating business as discussed in Note 4.
A reconciliation of unrecognized tax benefits for the years ended December 31, 2009 and 2008 is as follows:
Included in the unrecognized tax benefits of $81,390 at December 31, 2009 was $5,351 of tax benefits that, if recognized, would increase the annual effective tax rate. Also included in the balance at December 31, 2009 is $76,039 of tax positions for which the ultimate deductibility is highly certain but for which there is uncertainty about the timing of such deductibility. Because of the impact of deferred tax accounting, other than interest and penalties, the disallowance of the shorter deductibility period would not affect the annual effective rate but would accelerate the payment of cash to the taxing authority to an earlier period.
The Company files income tax returns in the U.S. federal jurisdiction and various states. With few exceptions, the Company is no longer subject to U.S. federal, state and local income tax examinations by tax authorities for years 2004 and prior. Tax years 2005, 2006, 2007 and 2008 are open to federal examination by the Internal Revenue Service (the “I.R.S.”). The Company is currently under federal examination by the I.R.S. for the 2005 tax year. The Company does not expect significant increases or decreases to unrecognized tax benefits relating to federal, state or local audits.
The Company has federal net operating loss carry forwards generated by a subsidiary that files an income tax return separate from the Lifeco U.S. consolidated federal income tax return. As of December 31, 2009, the subsidiary had net operating loss carry forwards expiring as follows:
The Company has three reportable segments: Individual Markets, Retirement Services and Other. The Individual Markets segment distributes life insurance and individual annuity products to both individuals and businesses through various distribution channels. Life insurance products in-force include participating and non-participating term life, whole life, universal life and variable universal life. The Retirement Services segment provides retirement plan enrollment services, communication materials, various retirement plan investment options and educational services to employer-sponsored defined contribution/defined benefit plans and 401(k) and 403(b) plans, as well as comprehensive administrative and record-keeping services for financial institutions and employers. The Company’s Other segment includes corporate items not directly allocated to any of its other business segments, interest expense on long-term debt and the activities of a wholly owned subsidiary whose sole business is the assumption of a certain block of term life insurance from an affiliated company.
As discussed in Note 3, substantially all of the Company’s former Healthcare segment has been sold and reclassified as discontinued operations and, accordingly, is no longer reported as a separate business segment. The Company retained a small portion of its Healthcare business and reports it within its Individual Markets segment. The segment reporting for prior periods has been restated to reflect these changes in business segments.
The following table summarizes segment financial information for the year ended December 31, 2007:
The Lifeco plan contains a provision that permits a retiring option holder with unvested stock options on the date of retirement to continue to vest in them after retirement for a period of up to five years. Upon the retirement of an option holder with unvested options, the Company accelerates the recognition period to the date of retirement for any unrecognized share-based compensation cost related thereto and recognizes it in its earnings at that time. At December 31, 2009, the Company had $2,632, net of estimated forfeitures, of unrecognized share-based compensation costs, which will be recognized in its earnings through 2015. The weighted-average period over which these costs will be recognized in earnings is 2.1 years.
The following table presents other information regarding stock options under the Lifeco plan during the year ended December 31, 2009:
The Company makes commitments to fund partnership interests and other investments in the normal course of its business. The amounts of these unfunded commitments at December 31, 2009 and 2008 were $126,882 and $49,334, respectively, all of which is due within one year from the dates indicated.