The information set forth below should be read in conjunction with the consolidated financial statements and related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this Form 10-K. Certain reclassifications have been made to the prior year amounts to conform with the 2008 presentation.
Acquisitions among entities under common control such as Old FNF’s 2006 contribution of assets to us in connection with the 2006 Distribution are not considered business combinations and are to be accounted for at historical cost in accordance with Emerging Issues Task Force (“EITF”) 90-5, “Exchanges of Ownership Interests between Enterprises under Common Control.” Furthermore, the substance of that asset contribution, the 2006 Distribution and the Old FNF-FIS merger is effectively a reverse spin-off of FIS by Old FNF in accordance with EITF 02-11, “Accounting for Reverse Spinoffs.” Accordingly, the historical financial statements of Old FNF became those of FNF. As a result, the data shown below for periods or dates prior to October 24, 2006, the date the 2006 Distribution was completed, are the data of Old FNF, including the results of both FIS and us (referred to as FNT) as subsidiaries of Old FNF. Following completion of the 2006 Distribution, however, the criteria to account for FIS as discontinued operations as prescribed by SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” were not met. This is primarily due to our continuing involvement with and significant influence over FIS subsequent to the merger of Old FNF and FIS through common board members, common senior management and continuing business relationships. As a result, for periods prior to October 24, 2006, FIS continues to be included in our consolidated financial statements.
Our financial results for the year ended December 31, 2005 include in revenue and net earnings a $318.2 million gain on sale relating to the issuance of subsidiary stock, approximately $100.0 million in additional income tax expense relating to the distribution to our shareholders of a 17.5% interest of FNT and additional minority interest expense related to the minority interests issued in FNT and FIS. (See note A of the Notes to Consolidated Financial Statements).
Unaudited pro forma net earnings per share for 2004 is calculated using the number of outstanding shares of Old FNF on a date prior to the distribution of FNT shares to Old FNF shareholders in 2005.
Investments as of December 31, 2008, 2007, 2006, 2005, and 2004 include securities pledged to secure trust deposits of $382.5 million, $513.8 million, $696.8 million, $656.0 million, and $546.0 million, respectively. Investments as of December 31, 2008, 2007, 2006, and 2005 include securities pledged relating to our securities lending program of $103.6 million, $264.2 million, $305.3 million and $138.7 million, respectively.
Cash and cash equivalents as of December 31, 2008, 2007, 2006, 2005, and 2004 include cash pledged to secure trust deposits of $109.6 million, $193.5 million, $228.5 million, $234.7 million, and $195.2 million, respectively. Cash and cash equivalents as of December 31, 2008, 2007, 2006 and 2005 include cash pledged relating to our securities lending program of $107.6 million, $271.8 million, $316.0 million, and $143.4 million, respectively.
As a result of adverse title insurance claim loss development on prior policy years, we recorded charges in 2008 totaling $261.6 million, or $157.0 million net of income taxes, and in 2007 totaling $217.2 million, or $159.5 million net of income taxes, to our provision for claim losses. These charges were recorded in addition to our provision for claim losses of 8.5% and 7.5% for the years ended December 31, 2008 and 2007, respectively.
Includes loss provision charge of $261.6 million, or $157.0 million net of income taxes, in 2008 and $81.5 million, or $55.5 million net of income taxes, in 2007.
Includes loss provision charge of $135.7 million, or $104.0 million net of income taxes, in 2007.
The results of operations and statement of financial position reported on this Form 10-K have been adjusted for certain items and reclassifications determined subsequent to our earnings release on February 4, 2009. These adjustments primarily relate to purchase accounting reclassifications on the balance sheet that arose as we continued to analyze balances in conjunction with the acquisition of the LFG Underwriters on December 22, 2008 and other adjustments arising during the completion of the audit of our reported results. These adjustments reduced our 2008 year to date earnings approximately $21.7 million pre-tax, $ 13.2 million after-tax, or $0.06 per share, as compared with the amounts reported in our earnings release on February 4, 2009.
During 2008, prior to the acquisition, the LFG Underwriters generated significant revenue but had substantial losses from operations. Since the acquisition, FNF has been engaged in an effort to reduce overhead at the LFG Underwriters and restore them to profitability. Through the end of January, FNF had eliminated approximately 1,500 of the 5,500 employees and closed approximately 125 of the offices acquired in the transaction. Agent relationships are also being evaluated and reductions in the agency base have also occurred and are continuing. As a result of these measures, and due in part to the loss of business momentum at the LFG Underwriters prior to the acquisition resulting from the Chapter 11 case of LFG and other causes, it seems likely that the operations of the LFG Underwriters will, at least initially, be somewhat less sizable than they were historically. For the months of January and February 2009, the direct operations of the LFG Underwriters contributed an average of approximately 16% of the total direct orders opened by the Company. Therefore, the reported results of the LFG Underwriters for prior periods are not necessarily indicative of the results to be expected for any future period.
We are a holding company that is a provider, through our subsidiaries, of title insurance, specialty insurance, claims management services, and information services. We are the nation’s largest title insurance company through our title insurance underwriters - Fidelity National Title, Chicago Title, Commonwealth Land Title, Lawyers Title, Ticor Title, Security Union Title, and Alamo Title - which collectively issued more title insurance policies in 2007 than any other title company in the United States. We also provide flood insurance, personal lines insurance, and home warranty insurance through our specialty insurance subsidiaries. We are also a leading provider of outsourced claims management services to large corporate and public sector entities through our minority-owned affiliate, Sedgwick CMS Holdings (“Sedgwick”) and a provider of information services in the human resources, retail, and transportation markets through another minority-owned affiliate, Ceridian Corporation (“Ceridian”).
Through October 23, 2006, our results also included the operations of FIS as a separate segment. This segment provided transaction processing services, consisting principally of technology solutions for banks and other financial institutions, credit and debit card services and check risk management and related services for retailers and others. This segment also provided lender processing services, consisting principally of technology solutions for mortgage lenders, selected mortgage origination services such as title agency and closing services, default management and mortgage information services. FIS’s credit and debit card services and check risk management services were added through its merger with Certegy Inc. (“Certegy”). This merger closed in February 2006 and as a result these businesses are not included in FIS’s financial information prior to the closing.
Our financial statements reflect transactions with FIS and LPS, which are related parties. Please see note A of the Notes to Consolidated Financial Statements.
Our specialty insurance business participates in the NFIP. We earn fees under that program for settling flood claims and administering the program. We serve as administrator and processor in our flood insurance business, and bear none of the underwriting or claims risk. The U.S. federal government is guarantor of flood insurance coverage written under NFIP and bears the underwriting risk. Revenues from our flood insurance business are impacted by the volume and magnitude of claims processed as well as the volume and rates for policies written. For example, when a large number of claims are processed as a result of a natural disaster, such as a hurricane, we experience an increase in the fees that we receive for settling the claims.
Reserve for Claim Losses. Title companies issue two types of policies since both the buyer and lender in real estate transactions want to know that their interest in the property is insured against certain title defects outlined in the policy. An owner’s policy insures the buyer against such defects for as long as he or she owns the property (as well as against warranty claims arising out of the sale of the property by such owner). A lender’s policy insures the priority of the lender’s security interest over the claims that other parties may have in the property. The maximum amount of liability under a title insurance policy is generally the face amount of the policy plus the cost of defending the insured’s title against an adverse claim. While most non-title forms of insurance, including property and casualty, provide for the assumption of risk of loss arising out of unforeseen future events, title insurance serves to protect the policyholder from risk of loss from events that predate the issuance of the policy.
At December 31, 2008, our initial reserve for claim losses, excluding the reserve for claim losses included in the net assets that we purchased from LFG, was $1.563 billion, which was $16.1 million, or 1.0%, higher than our internal actuary’s point estimate of $1.547 billion. We believe our recorded position is adequate as of December 31, 2008. As of September 30, 2008, our initial recorded reserve for claim losses was $1.303 billion, $261.6 million lower than our internal actuary’s point estimate of $1.565 billion. As a result, at September 30, 2008, management determined that our initial recorded amount was outside of a reasonable range from our internal actuary’s estimate and we recorded a charge of $261.6 million in addition to our 8.5% provision for claim losses. This charge resulted in a balance of $1.565 billion in our title insurance claim loss reserve, which was in agreement with our actuary’s point estimate at September 30, 2008. The significant development during the quarter ended September 30, 2008, was due to changes in our actuarial model resulting, in part, from adverse claim loss development on prior policy years. Because of continued adverse reported and paid claim trends over the previous six quarters, our actuarial model in the third quarter of 2008 was modified to more heavily weight the three most recent full years’ data on loss experience and to incorporate that data into the assumptions and factors that determine ultimate expected loss experience for all prior calendar years. We also had an external actuary perform an independent review of our reserve position at September 30, 2008, and the conclusion reached by the external actuary was consistent with that of our internal actuarial model.
for claim losses was $1.152 billion, $81.5 million lower than our internal actuary’s estimate of $1.233 billion. As a result, at December 31, 2007 and at September 30, 2007, management determined that our initial recorded amounts were outside of a reasonable range from our internal actuary’s estimates and we recorded total charges in 2007 of $217.2 million (made up of $81.5 million in the third quarter and $135.7 million in the fourth quarter) in addition to our 7.5% provision for claim losses. These charges resulted in a balance of $1.323 billion in our title insurance claim loss reserve at December 31, 2007, which was $39 million, or 3%, higher than the actuary’s point estimate but still within a reasonable range. Management believed the appropriate reserve was higher than the actuary’s point estimate because, in our judgment, as a result of the actuarial models and assumptions used, the full extent of adverse development in the trend of paid claims had not yet been fully reflected in the actuary’s estimate at December 31, 2007. We believed that such adverse paid development would result in an increase in ultimate losses for prior years over and above those projected by our internal actuary’s point estimate, thus we provided for ultimate loss in excess of such estimate. Please see Item IA, Risk Factors, “If we observe changes in the rate of title insurance claims, it may be necessary for us to record additional charges to our claim loss reserve. This may result in lower net earnings and the potential for earnings volatility.”
Reserves assumed in 2008 were assumed in the purchase of the LFG Underwriters.
Additionally, for our specialty insurance businesses, we had claims reserves of $59.6 million and $65.8 million as of December 31, 2008 and 2007.
SFAS 157 does not require any new fair value measurements, but applies under other accounting pronouncements that require or permit fair value measurements. SFAS 157 is effective for financial statements for fiscal years beginning after November 15, 2007. We adopted SFAS 157 as of January 1, 2008. FASB Staff Position SFAS No. 157-2, “Effective Date of FASB Statement No. 157,” delays the effective date of SFAS 157 with respect to nonfinancial assets and nonfinancial liabilities that are not remeasured at fair value on a recurring basis until fiscal years beginning after November 15, 2008. Accordingly, the Company has not yet applied the disclosure requirements of SFAS 157 to certain such nonfinancial assets for which fair value measurements are determined on a non-recurring basis only when there is an indication of potential impairment.
Level 2. Financial assets and liabilities whose values are based on quoted prices in markets that are not active or model inputs that are observable either directly or indirectly for substantially the full term of the asset or liability.
and reference data including market research publications. We believe that these investments are in actively traded markets. We review the pricing methodologies for all of our level 2 securities to ensure that we are comfortable with them and compare the resulting prices to other publicly available measures of fair value. Our fixed maturities classified as level 3 consist of auction rate securities for which there is no active market and are valued using models with some non-observable inputs. Fair values for these securities are provided by a third-party pricing service. These securities represent one percent of our total portfolio.
Goodwill. We have made acquisitions in the past that have resulted in a significant amount of goodwill. As of December 31, 2008 and 2007, goodwill aggregated $1,581.7 million and $1,344.6 million, respectively. The majority of our goodwill as of December 31, 2008 and 2007 relates to goodwill recorded in connection with the Chicago Title merger in 2000. The increase of $237.1 million for the year ended December 31, 2008, relates primarily to our acquisition of the LFG Underwriters. The process of determining whether or not an asset, such as goodwill, is impaired or recoverable relies on projections of future cash flows, operating results and market conditions. While we believe that our estimates of future cash flows are reasonable, these estimates are not guarantees of future performance and are subject to risks and uncertainties that may cause actual results to differ from what is assumed in our impairment tests. In evaluating the recoverability of goodwill, we perform an annual goodwill impairment test based on an analysis of the discounted future cash flows generated by the underlying assets. We have completed our annual goodwill impairment tests in each of the past three years and have determined that we have a fair value in excess of our carrying value. Such analyses are particularly sensitive to changes in estimates of future cash flows and discount rates. Changes to these estimates might result in material changes in fair value and determination of the recoverability of goodwill which may result in charges against earnings and a reduction in the carrying value of our goodwill.
The valuation of intangible assets such as software, purchased customer relationships and contracts involves significant estimates and assumptions concerning matters such as customer retention, future cash flows and discount rates. If any of these assumptions change, it could affect the carrying value of these assets. Purchased customer relationships are amortized over their estimated useful lives using an accelerated method which takes into consideration expected customer attrition rates over a ten-year period. Contractual relationships are generally amortized using the straight-line method over their contractual life. In 2008, we determined that the carrying value of certain of our intangible assets may not be recoverable and recorded impairment charges of $4.0 million, relating to the write-off of these assets. These impairments were recorded as other operating expense in our 2008 Consolidated Statements of Earnings. There were no impairment charges recorded relating to intangible assets during 2007 or 2006.
Year ended December 31, 2008. As a result of a change in our actuarial model resulting, in part, from adverse claim loss development on prior policy years, we recorded a charge in 2008 of $261.6 million, or $157.0 million net of income taxes, to our provision for claim losses. This charge was recorded in addition to our 8.5% provision for claim losses.
In 2008 and 2007, our mix of direct and agency title premiums stayed relatively consistent, with agency premiums making up 57.7% of total premiums in 2008, compared with 57.9% in 2007 and 57.5% in 2006.
Interest and investment income levels are primarily a function of securities markets, interest rates and the amount of cash available for investment. Interest and investment income was $134.4 million, $185.4 million, and $206.6 million for the years ended December 31, 2008, 2007, and 2006, respectively. Average invested assets were $3,545.5 million, $4,531.2 million, and $5,088.9 million for the years ended December 31, 2008, 2007, and 2006, respectively. The tax equivalent yield, excluding realized gains and losses, was 4.3%, 5.0%, and 4.8% for the years ended December 31, 2008, 2007, and 2006, respectively.
Net margin from agency title insurance premiums we retain as a percentage of total agency premiums remained relatively consistent at 22% to 23% for the three years ended December 31, 2008, 2007, and 2006.
Excluding interest expense attributable to FIS of $154.2 million in 2006, interest expense for the years ended
Income tax (benefit) expense was $(125.5) million, $46.8 million, and $350.9 million for the years ended December 31, 2008, 2007, and 2006, respectively. Income tax (benefit) expense as a percentage of (loss) earnings before income taxes for the years ended December 31, 2008, 2007, and 2006 was 42.5%, 26.6%, and 37.3%, respectively. The fluctuation in income tax (benefit) expense as a percentage of (loss) earnings before income taxes is attributable to our estimate of ultimate income tax liability, and changes in the characteristics of net (loss) earnings year to year, such as the weighting of operating income versus investment income. Income tax (benefit) expense as a percentage of earnings before income taxes was higher than normal for the year ended December 31, 2008, due to the fact that, in periods when a net loss is recognized, the effect of tax-exempt interest income is reversed. Generally, when pretax income is recognized, tax-exempt income has the effect of lowering the effective tax rate whereas, when a pretax loss is recognized, tax-exempt income has the effect of increasing the effective tax rate. Income tax expense as a percentage of earnings before income taxes was lower for the year ended December 31, 2007 compared to 2006 primarily due to the increase in the proportion of tax-exempt interest income to pre-tax earnings.
The following table presents certain financial data for the years indicated:
Total revenues in 2008 decreased $1,188.5 million to $3,816.5 million, a decrease of 23.7% compared to 2007. Total revenues in 2007 decreased $892.6 million to $5,005.0 million, a decrease of 15.1% compared to 2006. For an analysis of this segment’s revenues, please see the analysis of direct and agency title insurance premiums and escrow and other title-related fees under “Consolidated Results of Operations.”
Interest and investment income levels are primarily a function of securities markets, interest rates and the amount of cash available for investment. Interest and investment income for the years ended December 31, 2008, 2007 and 2006, was $120.2 million, $164.9 million, and $165.3 million, respectively. The decrease in 2008 compared to 2007 was the result of decreases in both average invested assets and a decrease in interest rates. In 2007, an increase in interest rates was partially offset by a decrease in the short-term investment asset base. For the years ended December 31, 2008, 2007, and 2006, average invested assets were $3,104.7 million, $3,791.4 million, and $4,009.4 million, respectively, and the tax equivalent yield, excluding realized gains and losses, was 4.4%, 5.3%, and 4.8%, respectively.
Other operating expenses consist primarily of facilities expenses, title plant maintenance, premium taxes (which insurance underwriters are required to pay on title premiums in lieu of franchise and other state taxes), postage and courier services, computer services, professional services, advertising expenses, general insurance, and trade and notes receivable allowances. Other operating expenses totaled $964.3 million, $891.8 million, and $891.1 million for the years ended December 31, 2008, 2007 and 2006, respectively. Other operating expenses as a percentage of direct title insurance premiums and escrow, title-related and other fees were 44.3% in 2008, 33.8% in 2007, and 29.8% in 2006. Other operating expenses for the years ended December 31, 2008 and 2007, included $23.4 million and $13.0 million, respectively, in abandoned lease charges relating to office closures. The increase in other operating expenses in 2008 also included a decrease of $101.4 million in benefits related to our escrow balances, which are reflected as an offset to other operating expenses, equal increases in revenues and expenses of $75.7 million associated with a division of our business that manages real estate owned by financial institutions, and recent acquisitions. These increases were partially offset by operating expense reductions in our core title operations as we continue to cut costs in response to the decrease in title insurance and other title-related activity. The increase in 2007 was primarily due to a decrease in benefits related to our escrow balances, which are reflected as an offset to other operating expenses, an increase in legal and regulatory expenses, and the abandoned lease charge noted above. As a result of holding customers’ assets in escrow, we have ongoing programs for realizing economic benefits. Those economic benefits related to escrow balances decreased in 2008 and 2007 due to decreases in escrow balances and increases in the portion of those benefits derived from tax exempt income. Legal and regulatory expenses increased in 2007 due to an increase in class action litigation and our response to a target letter received from the United States Attorney’s Office in the Southern District of Texas, which was successfully resolved in 2007.
Flood revenues increased $11.9 million, or 8.2%, in 2008 compared to 2007, reflecting volume and rate increases, and claims processing revenues related to the 2008 hurricane season,
Revenues from the homeowners’ and automobile insurance lines of business decreased $20.1 million, or 11.9%, in 2008 compared to 2007, reflecting a declining housing market and a decrease in volume as we have undergone efforts to tighten our underwriting standards and eliminate unprofitable agents and territories. Revenues from these business lines increased $6.6 million, or 4.3%, in 2007 compared to 2006, primarily due to growth as we expanded this business.
Revenues from the home warranty line of business decreased $4.9 million, or 6.9%, in 2008 compared to 2007 and decreased $7.4 million, or 9.5% in 2007, in each case primarily due to the decrease in real estate transaction volumes.
Personnel costs were $45.2 million, $45.5 million, and $45.1 million for the years ended December 31, 2008, 2007, and 2006, respectively. As a percentage of total specialty insurance revenues, personnel costs were 11.8% in 2008, 11.3% in 2007, and 11.0% in 2006.
The provision for claim loss expense was $139.5 million, $151.6 million, and $140.6 million for the years ended December 31, 2008, 2007, and 2006, respectively. The decrease in 2008 reflects the decreased business in the homeowner’s and automobile insurance and home warranty businesses. The increase in 2007 was primarily the result of an increase in volumes in the homeowners’ insurance business. The 2007 provision also reflects positive development in trends of prior accident years. As a percentage of premiums earned, the claim loss provision was relatively consistent at 64.8% in 2008, 63.9% in 2007, and 62.7% in 2006.
A summary of the reserve for claim losses is as follows:
charges, adverse operating conditions in the current economic environment or changes in interpretation of statutory accounting requirements by regulators. Further, the LFG Subsidiaries recently acquired by us could have unexpected liabilities or asset exposures that only become apparent over time which adversely affect their surplus.
Our cash flows provided by operations for the year ended December 31, 2008, totaled $4.6 million compared to $341.1 million for the year ended December 31, 2007. Cash used in operations in the year ended December 31, 2008, included payments totaling $68.1 million to settle a group of related claims for third party losses. We believe that these payments and certain previous payments on these related claims are recoverable under various insurance policies and, as of December 31, 2008, we had a receivable in the amount of $81.4 million in respect of these payments.
Financing. Effective October 24, 2006, we entered into a credit agreement (the “Credit Agreement”) with Bank of America, N.A. as Administrative Agent and Swing Line Lender, and the other financial institutions party thereto. Effective October 11, 2007, we exercised an option to increase the size of the credit facility by an additional $300 million. The Credit Agreement, which replaced our previous credit agreement, provides for a $1.1 billion unsecured revolving credit facility, including the $300 million increase, maturing on the fifth anniversary of the closing date. Amounts under the revolving credit facility may be borrowed, repaid and reborrowed by the borrower from time to time until the maturity of the revolving credit facility. Voluntary prepayment of the revolving credit facility under the Credit Agreement is permitted at any time without fee upon proper notice and subject to a minimum dollar requirement. Revolving loans under the credit facility bear interest at a variable rate based on either (i) the higher of (a) a rate per annum equal to one-half of one percent in excess of the Federal Reserve’s Federal Funds rate, or (b) Bank of America’s “prime rate” or (ii) a rate per annum equal to the British Bankers Association London Interbank Offered Rate (“LIBOR”) plus a margin of between 0.23%-0.675%, depending on our then current senior unsecured long-term debt rating from the rating agencies. In addition, we pay a commitment fee between 0.07%-0.175% on the entire facility, also depending on our senior unsecured long-term debt rating. During 2008, we drew a total of $170 million from the Credit Agreement and used the proceeds for general corporate purposes. We repaid $120 million on the credit facility in 2008 and an additional $50 million in January 2009. As of December 31, 2008, we had outstanding debt with a principal amount of $585 million under the Credit Agreement, bearing interest at 3.53%.
On December 22, 2008, in connection with the acquisition of the LFG Underwriters, the Company entered into a $50 million subordinated note payable to LFG, due December 2013. This note bears interest at 2.36%, payable annually. In addition, the LFG Underwriters had $15.7 million of notes payable which are included on FNF’s consolidated balance sheet at December 31, 2008.
Contractual Obligations. Our long term contractual obligations generally include our loss reserves, our credit agreements and other debt facilities and operating lease payments on certain of our premises and equipment. As of December 31, 2008, our required annual payments relating to these contractual obligations were as follows:
As of December 31, 2008, we had title insurance reserves of $2,679.0 million. The amounts and timing of these obligations are estimated and are not set contractually. Nonetheless, based on historical title insurance claim experience, we anticipate the above payment patterns. While we believe that historical loss payments are a reasonable source for projecting future claim payments, there is significant inherent uncertainty in this payment pattern estimate because of the potential impact of changes in:
events such as fraud, defalcation, and multiple property title defects that can substantially and unexpectedly cause increases in both the amount and timing of estimated title insurance loss payments;
In addition to our title insurance reserves, at December 31, 2008, we held claim reserves of $59.6 million in our specialty insurance business segment. There is uncertainty with respect to the precise payout pattern of these reserves, which we have estimated in the table above based on historical experience.
Capital Stock Transactions. On October 25, 2006, our Board of Directors approved a three-year stock repurchase program under which we can repurchase up to 25 million shares of our common stock. We may make purchases from time to time in the open market, in block purchases or in privately negotiated transactions, depending on market conditions and other factors. During 2008, we repurchased a total of 3,165,470 shares of our common stock for $46.0 million, or an average of $14.53 per share. Since the commencement of this plan, we have repurchased a total of 12,840,470 shares for $229.1 million, or an average of $17.84 per share. This includes 1,000,000 shares which we purchased in 2007 from our Chairman of the Board, William P. Foley, II. In August 2007, Mr. Foley planned to sell 1,000,000 shares of FNF stock on the open market. Because the Company was actively purchasing shares of treasury stock on the open market at the same time, the Company agreed to purchase 1,000,000 shares from Mr. Foley on August 8, 2007, for $22.1 million, or $22.09 per share, the market price at the time of the purchase.
Additional Minimum Pension Liability Adjustment. We recorded a net-of-tax charge of $17.9 million to accumulated other comprehensive loss in 2008 for the change in our minimum pension liability.
Equity Investments. Our equity investments are in companies whose values are subject to significant volatility. Should the fair value of these investments fall below our cost basis and/or the financial condition or prospects of these companies deteriorate, we may determine in a future period that this decline in fair value is other-than-temporary, requiring that an impairment loss be recognized in the period such a determination is made. During the year ended December 31, 2008, we recorded impairment charges of $30.1 million related to equity investments that we determined were other-than-temporarily impaired.
Consolidated Statements of Earnings for the years ended December 31, 2008, 2007, and 2006
Consolidated Statements of Comprehensive Earnings for the years ended December 31, 2008, 2007, and 2006
Consolidated Statements of Cash Flows for the years ended December 31, 2008, 2007, and 2006
In our opinion, Fidelity National Financial, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We have audited the accompanying Consolidated Balance Sheets of Fidelity National Financial, Inc. and subsidiaries as of December 31, 2008 and 2007, and the related Consolidated Statements of Earnings, Comprehensive Earnings, Stockholders’ Equity and Cash Flows for each of the years in the three-year period ended December 31, 2008. These Consolidated Financial Statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these Consolidated Financial Statements based on our audits.
Fidelity National Financial, Inc. is a holding company that is a provider, through its subsidiaries, of title insurance, specialty insurance, claims management services, and information services. FNF is the nation’s largest title insurance company through its title insurance underwriters - Fidelity National Title, Chicago Title, Commonwealth Title, Lawyers Title, Ticor Title, Security Union Title, and Alamo Title - which collectively issued more title insurance policies in 2007 than any other title company in the United States. FNF also provides flood insurance, personal lines insurance, and home warranty insurance through its specialty insurance subsidiaries. FNF is also a leading provider of outsourced claims management services to large corporate and public sector entities through its minority-owned affiliate, Sedgwick CMS (“Sedgwick”). FNF is also a provider of information services in the human resource, retail, and transportation markets through another minority-owned affiliate, Ceridian Corporation (“Ceridian”).
Prior to October 24, 2006, the Company was known as Fidelity National Title Group, Inc. (“FNT”) and was a majority-owned subsidiary of another publicly traded company, also called Fidelity National Financial, Inc. (“Old FNF”). On October 24, 2006, Old FNF transferred certain assets, including its specialty insurance business, its interest in certain claims management operations, certain timber and real estate holdings, certain smaller operations, cash and certain investment assets, to FNT in return for the issuance of 45,265,956 shares of FNT common stock to Old FNF. Old FNF then distributed to its shareholders all of its shares of FNT common stock, making FNT a stand alone public company (the “2006 Distribution”). On November 9, 2006, Old FNF was then merged with and into another of its subsidiaries, Fidelity National Information Services, Inc. (“FIS”), after which FNT’s name was changed to Fidelity National Financial, Inc. On July 2, 2008, FIS completed the spin-off of its former Lender Processing Services operating segment into a separate publicly traded company, referred to as LPS, by distributing all of its shares of LPS to FIS shareholders through a stock dividend. As a result of these transactions, the Company’s chairman of the board is also executive chairman of the board of FIS and chairman of the board of LPS and other members of our board of directors and our management serve in similar capacities at FIS and LPS.
Specialty Insurance. The specialty insurance segment consists of certain subsidiaries that issue flood, home warranty, homeowners, automobile and other personal lines insurance policies. The Company recently announced that its Board of Directors has authorized the investigation of strategic alternatives for certain of its specialty insurance businesses. The assets to be evaluated include the flood insurance and personal lines insurance businesses, but not the home warranty business. However, there can be no assurance that any transaction will be completed.
The accompanying Consolidated Financial Statements include the accounts of the Company and its wholly-owned and majority-owned subsidiaries. All intercompany profits, transactions and balances have been eliminated. The Company’s investments in non-majority-owned partnerships and affiliates are accounted for using the equity method until such time that they become wholly or majority owned. Minority interest expense is recorded on the consolidated statement of earnings relating to majority owned subsidiaries and the appropriate minority interest liability is recorded on the Consolidated Balance Sheets in each period.
Investments in unconsolidated affiliates are recorded using the equity method of accounting (see note D).
As required by SFAS 142, the Company completed its annual goodwill impairment tests in the fourth quarter of each respective year using a September 30 measurement date, and determined fair values were in excess of carrying values. Accordingly, no goodwill impairments have been recorded.
Amortization expense relating to computer software was $36.8 million, $24.5 million, and $127.4 million for the years ended December 31, 2008, 2007, and 2006, respectively, and, in 2006, was primarily made up of amortization expense recorded by FIS.
In the state of Illinois, a trust company is permitted to commingle and invest customers’ assets with those of the Company, pending completion of real estate transactions. Accordingly, the Company’s Consolidated Balance Sheets reflect a secured trust deposit liability of $474.1 million and $689.9 million at December 31, 2008 and 2007, respectively, representing customers’ assets held by us and corresponding assets including cash and investments pledged as security for those trust balances.
The substantial majority of the revenues in this business were from outsourced data processing and application management arrangements. Revenues from these arrangements were recognized as services were performed in accordance with SEC Staff Accounting Bulletin No. 104 (“SAB 104”), “Revenue Recognition” and related interpretations. SAB 104 sets forth guidance as to when revenue is realized or realizable and earned when all of the following criteria are met: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3) the seller’s price to the buyer is fixed and determinable; and (4) collectability is reasonably assured. Revenue and deferred costs related to implementation, conversion and programming services associated with the Company’s data processing and application management agreements were deferred during the implementation phase and subsequently recognized using the straight-line method over the term of the related agreement. The Company evaluated these deferred costs for impairment in the event any indications of impairment existed.
The Company recognized software license and maintenance fees as well as associated development, implementation, training, conversion and programming fees in accordance with SOP 97-2 and SOP 98-9. Initial license fees were recognized when a contract exists, the fee was fixed or determinable, software delivery had occurred and collection of the receivable was deemed probable, provided that vendor-specific objective evidence, or VSOE, had been established for each element or for the undelivered elements. The Company determined the fair value of each element or the undelivered elements in multi-element software arrangements based on VSOE. If the arrangement was subject to accounting under SOP 97-2, VSOE for each element was based on the price charged when the same element was sold separately. If evidence of fair value of all undelivered elements existed but evidence did not exist for one or more delivered elements, then revenue was recognized using the residual method. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the arrangement fee is recognized as revenue. If evidence of fair value does not exist for one or more undelivered elements of a contract, then all revenue is deferred until all elements are delivered or fair value is determined for all remaining undelivered elements. Revenue from maintenance and support was recognized ratably over the term of the agreement. The Company recorded deferred revenue for maintenance amounts invoiced prior to revenue recognition.
The Company recognized revenues from mortgage origination services and default management services. Mortgage origination services consisted of centralized title agency and closing services for various types of lenders. Revenues relating to centralized title agency and closing services were recognized at the time of closing of the
related real estate transaction. Ancillary service fees were recognized when the service is provided. Default management services consisted of services provided to assist customers through the default and foreclosure process, including property preservation and maintenance services (such as lock changes, window replacement, debris removal and lawn service), posting and publication of foreclosure and auction notices, title searches, document preparation and recording services, and referrals for legal and property brokerage services. Revenue derived from these services was recognized as the services were performed in accordance with SAB 104 as described above.
The Company’s flood and tax units provided various services including life-of-loan monitoring services. Revenue for life-of-loan services was deferred and recognized ratably over the estimated average life of the loan service period, which was determined based on the Company’s historical experience. The Company evaluated its historical experience on a periodic basis, and adjusted the estimated life of the loan service period prospectively. Revenue derived from software and service arrangements was recognized in accordance with SOP 97-2. Revenues from other services in this segment were recognized as the services were performed in accordance with SAB 104 as described above.
Basic earnings per share is computed by dividing net earnings available to common stockholders by the weighted average number of common shares outstanding during the period. In periods when earnings are positive, diluted earnings per share is calculated by dividing net earnings available to common stockholders by the sum of the weighted average number of common shares outstanding and the impact of assumed conversions of potentially dilutive securities. For periods when the Company recognizes a net loss, diluted earnings per share is equal to basic earnings per share as the impact of assumed conversions of potentially dilutive securities is considered to be antidilutive. The Company has granted certain options, warrants and restricted stock which have been treated as common share equivalents for purposes of calculating diluted earnings per share for periods in which positive earnings have been reported.
For the years ended December 31, 2008, 2007, and 2006, options to purchase 23,219,283 shares, 5,382,074 shares and 2,297,140 shares, respectively, of the Company’s common stock were not included in the computation of diluted earnings per share because they were anti-dilutive.
The Company has historically conducted business with FIS and its subsidiaries. Beginning on October 24, 2006, the Company’s financial statements reflect transactions with FIS, which is a related party. Prior to October 24, 2006, these transactions were eliminated because FIS’ results of operations were included in our consolidated results. On July 2, 2008, FIS completed the spin-off of its lender processing services segment into a separate publicly traded company, LPS. As part of the spin-off of LPS, a number of the agreements that were previously between FNF and
FIS were amended and renegotiated to reflect the revised relationships between FNF and FIS and the new relationships between FNF and LPS. A summary of the agreements that were in effect with FIS and LPS through December 31, 2008, is as follows:
Title agency services by LPS. The historical FIS subsidiaries who are party to these agreements became subsidiaries of LPS in connection with the spin-off. These agreements allow LPS to provide services to existing customers through loan facilitation transactions, primarily with large national lenders. The arrangement involves the provision of title agency services by LPS, which results in the issuance of title policies on behalf of title insurance underwriters owned by the Company. Subject to certain early termination provisions for cause, each of these agreements may be terminated upon five years’ prior written notice, which notice may not be given until after the fifth anniversary of the effective date of each agreement, which ranges from July 2004 through September 2006 (thus effectively resulting in a minimum ten-year term and a rolling one-year term thereafter). Under these agreements, LPS retains commissions which, in aggregate, are equal to approximately 89% of the total title premium from title policies that LPS places with the Company’s subsidiaries. LPS also performs similar functions in connection with trustee sale guarantees, a form of title insurance that the Company’s subsidiaries issue as part of the foreclosure process on a defaulted loan. Effective as of January 1, 2009, this agreement was amended to provide that LPS will retain approximately 87% of the total title premiums.
Information Technology (“IT”), data processing services and software development services from FIS and LPS. These agreements govern IT support services and software development provided to the Company by FIS and LPS, primarily consisting of infrastructure support and data center management. Subject to certain early termination provisions (including the payment of minimum monthly service and termination fees), both of these agreements expire on or about June 30, 2013 with an option to renew for one or two additional years. In connection with the spin-off, the agreement with FIS was amended so that certain of the services, primarily those related to infrastructure support and data center management, continue to be provided by FIS on revised terms and conditions. The Company also entered into a new agreement with LPS for the provision of certain of the services that were previously provided under the agreement with FIS, primarily those related to software application development services and other IT-related services for the Company.
Licensing, cost sharing, business processing and other agreements. The historical FIS subsidiaries who are party to these agreements with the Company became subsidiaries of LPS in connection with the spin-off. These agreements provide for the reimbursement of certain amounts from the Company related to various licensing and cost sharing agreements, as well as the payment of certain amounts by LPS to the Company in connection with the use of certain intellectual property, including software and business processes, and other assets or services. The software licenses have various terms, but generally may be terminated on 90 days’ prior notice. The business processing license and services agreement has a 10-year term, but in connection with the spin-off, its term was amended and will expire on July 2, 2009.
The Company’s payments to FIS for management and maintenance of title plant assets by Property Insight were $14.0 million for the period from January 1 through August 31, 2007, and $5.5 million for the period from October 24, through December 31, 2006. The Company’s revenues from title plant royalties were $3.7 million for the period from January 1 through August 31, 2007, and $0.4 million for the period from October 24 through December 31, 2006.
A detail of related party items between the Company and FIS and LPS that were included in revenues and expenses for the periods presented is as follows:
Prior to September 30, 2007, FNF had a note receivable balance of $12.5 million due from a subsidiary of FIS. The Company earned interest revenue of $0.5 million on this note for the year ended December 31, 2007. On September 30, 2007, the Company acquired certain leasing assets from FIS for $15 million. As part of this acquisition, the Company assumed $134.9 million in non-recourse notes payable (see note I), the $12.5 million note
due to a subsidiary of FIS was forgiven, and the Company entered into an unsecured note payable to FIS in the amount of $7.3 million. The balance on this note at December 31, 2008 and 2007 was $6.2 million and $7.1 million, respectively, and the Company’s related interest expense was $0.3 million and $0.1 million for the years ended December 31, 2008 and 2007, respectively. Also, as a result of related party transactions, as of December 31, 2008 and 2007, the Company owed $6.9 million and $13.9 million, respectively, to FIS, and, as of December 31, 2008, the Company owed $3.0 million to LPS.
In February 2009, the Company transferred our ownership interest in Fidelity National Real Estate Solutions, Inc. (“FNRES”) to LPS in exchange for all of the outstanding shares of Investment Property Exchange Services, Inc. (“IPEX”), a company that facilitates real estate exchanges under Section 1031 of the Internal Revenue Code.
The Company accounts for stock-based compensation plans using the fair value method. Using the fair value method of accounting, compensation cost is measured based on the fair value of the award at the grant date and recognized over the service period.
The functional currency for the foreign operations of the Company is either the U.S. Dollar or the local currency. For foreign operations where the local currency is the functional currency, the translation of foreign currencies into U.S. Dollars is performed for balance sheet accounts using exchange rates in effect at the balance sheet date and for revenue and expense accounts using a weighted average exchange rate during the period. The unrealized gains and losses resulting from the translation are included in accumulated other comprehensive earnings in the Consolidated Statements of Stockholders’ Equity and are excluded from net earnings. Gains or losses resulting from foreign currency transactions are included in realized gains and losses and are insignificant in 2008, 2007, and 2006.
Acquisition of Commonwealth Land Title Insurance Company, Lawyers Title Insurance Corporation, and United Capital Title Insurance Company
The following table summarizes the other liabilities assumed in the acquisition of the LFG Underwriters (in millions):
Selected unaudited pro forma results of operations for years ended December 31, 2008 and 2007, assuming the acquisition of the LFG Underwriters had occurred as of January 1, 2007, and using actual general and administrative expenses prior to the acquisition are presented for comparative purposes below (in millions):
(A) The pro forma net earnings for FNF and the LFG Underwriters for 2008 include charges recorded by the LFG Underwriters of $135.1 million for impairments of other intangible assets and goodwill and charges recorded by FNF of $261.6 million for adverse development of loss reserves. The pro forma net earnings for 2007 include charges recorded by FNF of $217.2 million for adverse development of loss reserves.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements by establishing a fair value hierarchy based on the quality of inputs used to measure fair value.
The fair value hierarchy established by SFAS 157 includes three levels which are based on the priority of the inputs to the valuation technique. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). If the inputs used to measure the financial instruments fall within different levels of the hierarchy, the categorization is based on the lowest level input that is significant to the fair value measurement of the instrument. In accordance with SFAS No. 157, our financial assets and liabilities that are recorded on the Consolidated Balance Sheets are categorized based on the inputs to the valuation techniques as follows:
The Company’s level 2 fair value measures for fixed-maturities available for sale are provided by third-party pricing services. The Company utilizes one firm for its taxable bond portfolio and another for its municipal bond portfolio. These pricing services are leading global providers of financial market data, analytics and related services to financial institutions. The Company only relies on one price for each instrument to determine the carrying amount of the assets on our balance sheet. The inputs utilized in these pricing methodologies include observable measures such as benchmark yields, reported trades, broker dealer quotes, issuer spreads, two sided markets, benchmark securities, bids, offers and reference data including market research publications. The Company’s fixed maturities classified as level 3 consist of auction rate securities with a par value of $88.8 million and fair value at December 31, 2008, of $32.1 million, which were included in the assets of the LFG Underwriters that the Company acquired on December 22, 2008. There is no active market for these auction rate securities and they are valued using models with some non-observable inputs. Fair values for these securities are provided by a third-party pricing service and represent one percent of our total portfolio.
The carrying amounts and fair values of the Company’s fixed maturity securities at December 31, 2008 and 2007 are as follows:
At December 31, 2008, the majority of the Company’s mortgage-backed and asset-backed securities were acquired as a result of the acquisition of the LFG Underwriters. They are made up of $150.5 million of agency mortgage-backed securities, $38.8 million of agency collateralized mortgage obligations, $75.2 million of commercial mortgage-backed securities, and $28.7 million of other asset-backed securities. 97% of the Company’s mortgage-backed securities are rated AAA.
The following table presents certain information regarding contractual maturities of the Company’s fixed maturity securities at December 31, 2008:
Equity securities at December 31, 2008 and 2007 consisted of investments in various industry groups at a cost basis of $79.8 million and $96.1 million, respectively, and fair value of $71.5 million and $93.3 million, respectively. There were no significant investments in banks, trust and insurance companies at December 31, 2008 or 2007.
The carrying value of the Company’s investment in equity securities is fair value. As of December 31, 2008, gross unrealized gains and gross unrealized losses on equity securities were $2.2 million and $10.5 million, respectively. As of December 31, 2007, gross unrealized gains and gross unrealized losses on equity securities were $6.0 million and $8.8 million, respectively.
The change in unrealized gains (losses) on equity securities for the years ended December 31, 2008, 2007 and 2006 was $(5.5) million, $6.5 million, and $3.0 million, respectively.
The Company lends fixed maturity and equity securities to financial institutions in short-term security lending transactions. The Company’s security lending policy requires that the cash received as collateral be 102% or more of the fair value of the loaned securities. At December 31, 2008 and 2007, the Company had security loans outstanding with fair values of $103.6 million and $264.2 million, respectively. Securities loaned under such transactions may be sold or repledged by the transferee. The Company was liable for cash collateral under its control of $107.6 million and $271.8 million at December 31, 2008 and 2007, respectively, which has been included in cash and cash equivalents and in accounts payable and accrued liabilities.
Net realized (losses) gains related to investments were $(49.4) million, $18.5 million, and $18.6 million for the years ended December 31, 2008, 2007 and 2006, respectively.
During the years ended December 31, 2008, 2007 and 2006, gross realized gains on sales of fixed maturity securities considered available for sale were $13.1 million, $11.0 million, and $1.2 million, respectively; gross realized losses were $9.8 million, $2.0 million, and $1.2 million, respectively. Gross proceeds from the sale and maturity of fixed maturity securities considered available for sale amounted to $1,231.9 million, $4,480.1 million, and $2,476.9 million during the years ended December 31, 2008, 2007 and 2006, respectively.
During the years ended December 31, 2008, 2007 and 2006, gross realized gains on sales of equity securities considered available for sale were $5.9 million, $34.2 million, and $49.3 million, respectively; gross realized losses were $4.9 million, $28.8 million, and $29.4 million, respectively. Gross proceeds from the sale of equity securities amounted to $79.4 million, $807.3 million, and $648.5 million during the years ended December 31, 2008, 2007 and 2006, respectively.
A substantial portion of the Company’s unrealized losses relate to debt securities. These unrealized losses were primarily caused by widening credit spreads that the Company considers to be temporary. Because the Company has the intent and ability to hold these securities and the Company believes in the quality of the holdings and their ratings, the Company does not consider these investments to be other-than-temporarily impaired. The unrealized losses relating to equity securities were caused by market changes that the Company considers to be temporary; the Company expects recovery, and thus does not consider these investments other-than-temporarily impaired.
During 2008, 2007 and 2006, the Company incurred impairment charges relating to investments that it determined to be other than temporarily impaired, which resulted in charges of $59.0 million, $3.1 million, and $9.1 million. The impairment charges in 2008 included $25.4 million related to fixed maturity securities, $30.1 million related to equity securities, and $3.4 million related to other investments that were deemed other-than-temporarily impaired. The impairment charges relating to the fixed maturity securities primarily related to the Company’s conclusion that the credit risk relating to the holdings was high and thus the assets are likely other-than-temporarily impaired. The impairment charges relating to the equity securities were based on the duration of the unrealized loss and inability to predict the time to recover if the investment continued to be held.
Investments in unconsolidated affiliates are recorded using the equity method of accounting and, as of December 31, 2008 and 2007, consisted of (in thousands):
As of December 31, 2008 and 2007, the company ownership percentage in Sedgwick was 32% and 40%, respectively.
Amortization expense for amortizable intangible assets, which consist primarily of customer relationships, was $22.3 million, $23.8 million, and $162.0 million for the years ended December 31, 2008, 2007, and 2006, respectively. Other represents non-amortizable intangible assets such as trademarks and licenses. Estimated amortization expense for the next five years for assets owned at December 31, 2008, is $17.2 million in 2009, $14.9 million in 2010, $11.8 million in 2011, $9.4 million in 2012 and $7.9 million in 2013.
On December 22, 2008, in connection with the acquisition of the LFG Underwriters, the Company entered into a $50 million subordinated note payable to LFG, due December 2013. This note bears interest at 2.36%, payable annually. In addition, the combined net assets of the LFG Underwriters included $15.7 million of notes payable which are included on FNF’s consolidated balance sheet at December 31, 2008.
At December 31, 2008, the carrying value of the Company’s outstanding notes payable was approximately $71.8 million lower than its estimated fair value. The carrying value of the Company’s notes payable was approximately $6.3 million lower than its estimated fair value at December 31, 2007. The fair value of the Company’s unsecured notes payable is based on established market prices for the securities on December 31, 2008 and 2007. The fair value of the Company’s remaining fixed rate and variable rate notes payable is estimated using discounted cash flow analyses based on current market interest rates and comparison of interest rates being paid to the Company’s current incremental borrowing rates for similar types of borrowing arrangements.
In connection with the purchase of certain leasing assets from FIS (see “Transactions with Related Parties” in note A), the Company assumed certain liabilities associated with those assets, including various bank promissory notes, totaling $134.9 million at the date of purchase. The Company has continued to use bank promissory notes with similar terms to finance purchases of assets within our leasing operations. As of December 31, 2008 and 2007, these promissory notes totaled $197.5 million and $133.1 million, respectively, bore interest at various fixed rates and matured at various dates. These promissory notes are non-recourse obligations and are secured by interests in certain leases and underlying equipment. In addition, the Company also assumed a $20 million revolving credit
The significant components of deferred tax assets and liabilities at December 31, 2008 and 2007 consist of the following:
Management believes that, based on its historical pattern of taxable income, the Company will produce sufficient income in the future to realize its deferred tax assets. The Company changed from a net deferred tax liability position of $60,609 in 2007 to a net deferred tax asset position of $139,218 in 2008. The significant components that make up this change relate to the following items. The Insurance Reserve Discounting changed by $150 million due to the inclusion of the LFG Underwriters’ insurance reserves and the change in the statutory premium reserve amortization related to the 2007 redomestication of two of the FNF underwriters. Investment securities changed by $50.3 million, consisting primarily of the inclusion of the LFG Underwriters’ investment securities and the change in the FAS 115 adjustment for unrealized losses. Amortization of Goodwill and Intangible Assets changed by approximately $38 million consisting primarily of the addition of the LFG Underwriters’ Goodwill and Intangible Assets. The Company has also added a deferred tax asset for the net operating loss attributable to the LFG Underwriters in the amount of $132,550, for which a full valuation allowance has been applied. The deferred tax asset for the net operating loss has been fully valued at this time, as the Company is in the process of determining the probability of its utilization.
In 2008, the Company assumed $1,115.8 million in additional reserves for claim losses with the acquisition of the LFG Underwriters. In 2006, the Company transferred $8.5 million in reserves to FIS in connection with the distribution of FIS.
As a result of the factors described above, during the year ended December 31, 2008, the Company recorded a charge to the provision for claim losses of $261.6 million for development on prior policy years. During the year ended December 31, 2007, the Company recorded charges totaling $217.2 million, resulting from adverse claim loss development on prior policy years. These charges were in addition to the provision for title insurance claim losses of 8.5% and 7.5%, respectively.
Estimating future title loss payments is difficult because of the complex nature of title claims, the long periods of time over which claims are paid, significantly varying dollar amounts of individual claims and other factors. Due to the uncertainty inherent in the process and to the judgment used by management the ultimate liability may be greater or less than our current reserves.
These matters raise difficult and complicated factual and legal issues and are subject to many uncertainties and complexities, including but not limited to the underlying facts of each matter, novel legal issues, variations between jurisdictions in which matters are being litigated, differences in applicable laws and judicial interpretations, the length of time before many of these matters might be resolved by settlement or through litigation and, in some cases, the timing of their resolutions relative to other similar cases brought against other companies, the fact that many of these matters are putative class actions in which a class has not been certified and in which the purported class may not be clearly defined, the fact that many of these matters involve multi-state class actions in which the applicable law for the claims at issue is in dispute and therefore unclear, and the current challenging legal environment faced by large corporations and insurance companies.
On September 24, 2007 a third party complaint was filed in the In Re Ameriquest Mortgage Lending Practices Litigation in the United States District Court for the Northern District of Illinois by Ameriquest Mortgage Company
There are class actions pending against FNF, Fidelity National Title Group and several title insurance companies, including Fidelity National Title Insurance Company, Chicago Title Insurance Company, United Title, Inc. and Ticor Title Insurance Company, alleging overcharges for government recording fees. These cases allege that the named defendant companies charged fees in excess of the fees charged by government entities in closing transactions and seek various remedies including compensatory damages, prejudgment interest, punitive damages and attorney’s fees. One case recently filed in Kansas seeks to certify a national class against Chicago Title Insurance Company. Although the Federal District Court in Kansas refused to certify a national class previously filed by the same plaintiff’s attorneys, this suit seeks to overcome that Court’s objections to certification. And, although a similar case filed in Indiana was decertified by the appellate court and the Company has moved to decertify a companion case there the Missouri courts have refused to decertify a case now pending and set for trial June 1, 2009. On January 30, 2009, the court granted the Fidelity defendants’ motion for summary judgment in the recording fee class action in the Federal District Court in Texas, which alleged recording fee overcharges in five states. On January 26, 2009 a recording fee class action was filed in New Jersey.
On December 3, 2007, a former title officer for Lawyers Title Insurance Corporation in California filed a putative class action suit against Lawyers and LandAmerica Financial Group, Inc. (“LFG”) (together, the “Defendants”) in the Superior Court of California for Los Angeles County. A similar putative class action was filed against the Defendants by former Lawyers escrow officers in California, in the same court on December 12, 2007. The plaintiffs’ complaints in both lawsuits allege failure to pay overtime and other related violations of the California Labor Code, as well as unfair business practices under the California Business and Professions Code § 17200 on behalf of all current and former California title and escrow officers. The underlying basis for both lawsuits is an alleged misclassification of title and escrow officers as “exempt” employees for purposes of the California Labor Code, which resulted in a failure to pay overtime and provide for required meal and rest breaks. Although such employees were reclassified as “non-exempt” beginning on January 1, 2006, the complaints allege similar violations of the California Labor Code even after that date for alleged “off-the-clock” work. The plaintiffs’ complaints in both cases demand an unspecified amount of back wages, statutory penalties, declaratory and injunctive relief, punitive damages, interest, and attorneys’ fees and costs. The plaintiffs have yet to file a motion for class certification, as the parties have agreed to mediation in May 2009. Should further litigation prove necessary following the mediation, management believes that the Company has meritorious defenses both to class certification and to liability.
In January 2007, the State of California adopted regulations that would have significant effects on the title insurance industry in California. The Company, as well as others, has been engaged in discussions with the California Department of Insurance (the “CDI”) regarding possible industry reforms that may result in the CDI’s decision to modify or repeal the regulations prior to their implementation. On June 17, 2008, the CDI filed with the Office of Administrative Law revised title insurance regulations containing substantial changes to the existing regulations. Hearings on the revised regulations were held in August. The Company, through the California Land Title Association, continues to work with the CDI to refine certain aspects of the proposed regulations, including the statistical reporting provisions.
In conducting its operations, the Company routinely holds customers’ assets in escrow, pending completion of real estate transactions. Certain of these amounts are maintained in segregated bank accounts and have not been included in the accompanying Consolidated Balance Sheets. The Company has a contingent liability relating to proper disposition of these balances for our customers, which amounted to $5.7 billion at December 31, 2008. As a result of holding these customers’ assets in escrow, the Company has ongoing programs for realizing economic benefits during the year through favorable borrowing and vendor arrangements with various banks. There were no investments or loans outstanding as of December 31, 2008 and 2007 related to these arrangements.
Pursuant to statutory accounting requirements of the various states in which the Company’s insurers are domiciled, these insurers must defer a portion of premiums earned as an unearned premium reserve for the protection of policyholders and must maintain qualified assets in an amount equal to the statutory requirements. The level of unearned premium reserve required to be maintained at any time is determined by statutory formula based upon either the age, number of policies and dollar amount of policy liabilities underwritten, or the age and dollar amount of statutory premiums written. As of December 31, 2008, the combined statutory unearned premium reserve required and reported for the Company’s title insurers was $2,137.2 million. In addition to statutory unearned premium reserves, each of our insurers maintains reserves for known claims and surplus funds for policyholder protection and business operations.
Each of the Company’s insurance subsidiaries is regulated by the insurance regulatory authority in its respective
state of domicile, as well as that of each state in which it is licensed. The insurance commissioners of their respective states of domicile are the primary regulators of the Company’s title insurance subsidiaries. Each of the insurers is subject to periodic regulatory financial examination by regulatory authorities, and certain of these examinations are currently ongoing.
Pursuant to statutory requirements of the various states in which the Company’s insurers are domiciled, such insurers must maintain certain levels of minimum capital and surplus. Each of the Company’s underwriters has complied with the minimum statutory requirements as of December 31, 2008.
On October 25, 2006, our Board of Directors approved a three-year stock repurchase program under which the Company can repurchase up to 25 million shares of its common stock. The Company may make purchases from time to time in the open market, in block purchases or in privately negotiated transactions, depending on market conditions and other factors. The Company began purchasing shares under this program on a regular basis on April 30, 2007 and, through December 31, 2008, the Company has repurchased a total of 12,840,470 shares for $229.1 million, or an average of $17.84 per share. This includes 3,165,470 shares repurchased in 2008 for $46.0 million, or $14.53 per share and 9,675,000 shares repurchased in 2007 for a total of $183.1 million, or $18.93 per share. Shares repurchased in 2007 include 1,000,000 shares which the Company purchased from its Chairman of the Board, William P. Foley, II. In August 2007, Mr. Foley planned to sell 1,000,000 shares of FNF stock on the open market. Because the Company was actively purchasing shares of treasury stock on the open market at the same time, the Company agreed to purchase 1,000,000 shares from Mr. Foley on August 8, 2007, for $22.1 million, or $22.09 per share, the market price at the time of the purchase. The Company did not repurchase any shares under this plan during 2006.
The following table summarizes information related to stock options outstanding and exercisable as of December 31, 2008:
Old FNF options granted prior to the closing of the 2006 Distribution
The risk free interest rates used in the calculation are the rates that correspond to the weighted average expected life of an option. For options granted in the years ended December 31, 2008, 2007, and 2006, the Company used risk free interest rates of 2.5%, 3.8%, and 4.6%, respectively, volatility factors for the expected market price of the common stock of 40%, 29%, and 29%, respectively, expected dividend yields of 4.0%, 5.0%, and 5.1%, respectively, and weighted average expected lives of 5.0 years, 4.4 years, and 4.4 years, respectively. The weighted average fair value of each option granted in the years ended December 31, 2008, 2007, and 2006, were $1.87, $2.36, and $4.23, respectively.
The accumulated benefit obligation (ABO) is the same as the projected benefit obligation (PBO) due to the pension plan being frozen as of December 31, 2000.
The components of net periodic expense included in the results of operations for 2008, 2007, and 2006 are as follows:
Rate of compensation increase is not applicable due to the pension being frozen at December 31, 2000.
The Company’s pension plan asset allocation at December 31, 2008 and 2007 and target allocation for 2009 are as follows:
The Company does not hold any investments in its own equity securities within its pension plan assets.
The Company is both self-insured and fully insured for its postretirement health care and life insurance benefit plans, and the plans are not funded. The health care plans provide for insurance benefits after retirement and are generally contributory, with contributions adjusted annually. Postretirement life insurance benefits are primarily contributory, with coverage amounts declining with increases in a retiree’s age.
The accrued cost of the accumulated postretirement benefit obligation included in the Company’s Consolidated Balance Sheets at December 31, 2008, 2007 and 2006 is as follows:
Weighted-average assumptions used to determine net expense for years ended December 31, are as follows:
In connection with the acquisition of the LFG Underwriters, the Company assumed certain of the LFG Underwriters’ nonqualified benefit plans. These plans provide various postretirement benefits to certain executives and retirees. The aggregate benefit obligation for these plans is $7.3 million at December 31, 2008.
The Company places its cash equivalents and short-term investments with high credit quality financial institutions and, by policy, limits the amount of credit exposure with any one financial institution. Investments in commercial
paper of industrial firms and financial institutions are rated investment grade by nationally recognized rating agencies.
In December 2008, the FASB issued FSP FAS 132(R)-1, “Employer’s Disclosures about Postretirement Benefit Plan Assets.” (“FSP FAS 123(R)-1”) FSP FAS 123(R)-1 amends SFAS No. 132(R), “Employers’ Disclosures about Pensions and Other Postretirement Benefits - An Amendment of FASB Statements No. 87,88 and 106.” FSB FAS 123(R)-1 requires additional disclosures about plan assets, including investment strategies, major categories of plan assets, concentrations of risks within plan assets, inputs and valuation techniques used to measure fair value of plan assets, and the effect of fair value measurements using significant unobservable inputs on changes in plan assets for the period. FSP FAS 123(R)-1 is effective for fiscal years ending after December 15, 2009. The Company does not expect the adoption of this standard to have an effect on its financial position and results of operations.
In November 2008, the FASB ratified the consensus reached by the EITF in EITF Issue No. 08-6, “Equity Method Investment Accounting Considerations” (“EITF 08-6”). EITF 08-6 clarifies the accounting for certain transactions and impairment considerations involving equity method investments. EITF 08-6 is effective for fiscal years beginning after December 15, 2008, with early adoption prohibited. The Company is in the process of evaluating the impact of EITF 08-6 on its consolidated financial position or results of operations.
In October 2008, the FASB issued FSP FAS 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active” (“FSP FAS 157-3”) to clarify the application of SFAS No. 157, “Fair Value Measurements,” in an inactive market. FSP FAS 157-3 was effective immediately upon issuance and applies to financial statements that were not yet issued at that time. The Company has adopted this standard with no material effect on its financial position or results of operations.
In May 2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted Accounting Principles” (“SFAS 162”). SFAS 162 identifies the sources of accounting principles and the framework for selecting the principles to be used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles in the United States. The FASB has concluded that the generally accepted accounting principles hierarchy should reside in the accounting literature established by the FASB and issued SFAS 162 to achieve that result. SFAS 162 will become effective 60 days following the Securities and Exchange Commission’s approval of the Public Company Accounting Oversight Board’s amendments to AU Section 411, “The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles.” Such approval was granted on September 16, 2008, making the effective date November 15, 2008. Management has adopted SFAS 162 with no material effects in the Company’s statements of financial condition or operations.
In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements - an amendment of ARB No. 51” (“SFAS 160”), requiring noncontrolling interests (sometimes called minority interests) to be presented as a component of equity on the balance sheet. SFAS 160 also requires that the amount of net income attributable to the parent and to the noncontrolling interests be clearly identified and presented on the face of the consolidated statement of income. This statement eliminates the need to apply purchase accounting when a parent company acquires a noncontrolling ownership interest in a subsidiary and requires that, upon deconsolidation of a subsidiary, a parent company recognize a gain or loss in net income after which any retained noncontrolling interest will be reported at fair value. SFAS 160 requires expanded disclosures in the consolidated financial statements that identify and distinguish between the interests of the parent’s owners and the interest of the noncontrolling owners of subsidiaries. SFAS 160 is effective for periods beginning on or after December 15, 2008 and will be applied prospectively except for the presentation and disclosure requirements, which will be applied retrospectively for all periods presented. Management has implemented SFAS 160 effective January 1, 2009, with no material impact to the Company’s statements of financial position or operations except for the changes in presentation as noted above.
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS 159”), which permits entities to choose to measure financial instruments and certain other items at fair value that are not currently required to be measured at fair value. SFAS 159 mandates certain financial statement presentation and disclosure requirements when a company elects to report assets and liabilities at fair value under SFAS 159. SFAS 159 is effective as of January 1, 2008 for calendar year entities and the Company has adopted SFAS 159 as of that date with no material effects on the Company’s statements financial position or operations.