(1)See discussion under the caption Capital Resources in Management’s Discussion and Analysis in this report concerning the effect this rule has on Globe Life's equity.
Forward-looking statements are based upon estimates and assumptions that are subject to significant business, economic and competitive uncertainties, many of which are beyond our control. If these estimates or assumptions prove to be incorrect, the actual results of Globe Life may differ materially from the forward-looking statements made on the basis of such estimates or assumptions. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable events or developments, which may be national in scope, related to the insurance industry generally, or applicable to the Company specifically. Such events or developments could include, but are not necessarily limited to:
2)Regulatory developments, including changes in accounting standards or governmental regulations (particularly those impacting taxes and changes to the Federal Medicare program that would affect Medicare Supplement);
3)Market trends in the senior-aged health care industry that provide alternatives to traditional Medicare (such as Health Maintenance Organizations and other managed care or private plans) and that could affect the sales of traditional Medicare Supplement insurance;
5)General economic, industry sector or individual debt issuers’ financial conditions that may affect the current market value of securities we own, or that may impair an issuer’s ability to make principal and/or interest payments due on those securities;
8)Levels of administrative and operational efficiencies that differ from our assumptions;
12)Compromise by a malicious actor or other event that causes a loss of secure data from, or inaccessibility to, our computer and other information technology systems.
"Globe Life" and the "Company" refer to Globe Life and its subsidiaries and affiliates.
How Globe Life Views Its Operations. Globe Life Inc. is the holding company for a group of insurance companies that market primarily individual life and supplemental health insurance to lower middle to middle income households throughout the United States. We view our operations by segments, which are the insurance product lines of life, supplemental health, and annuities, and the investment segment that supports the product lines. Segments are aligned based on their common characteristics, comparability of the profit margins, and management techniques used to operate each segment.
Book value per share, excluding net unrealized gains on the fixed maturity portfolio, is also considered a non-GAAP measure. Management utilizes this measure to view the book value of the business without the effect of net unrealized gains, which are primarily attributable to fluctuation in interest rates on the available for sale portfolio. The impact of the adjustment to exclude net unrealized gains on fixed maturities is $17.76 and $3.79 for 2019 and 2018, respectively.
(2)In 2017, tax legislation revised the corporate income tax rate from 35% to 21% effective January 1, 2018. As such, the Company recorded an adjustment of $874 million to net income in 2017.
Summary of Operations. Net income increased 8% to $761 million in 2019, compared with $701 million in 2018. This increase was primarily related to favorable underwriting income. On a diluted per common share basis, net income per common share for 2019 increased 12% from $6.09 to $6.83. The percentage growth in net income per share continues to exceed the growth in dollar amounts due to our share repurchase program. Included in net income were after-tax realized gains of $16 million in 2019, compared with realized after-tax losses of $1 million for 2018. Realized gains and losses are presented more fully under the caption Realized Gains and Losses in this report.
Net operating income from continuing operations increased 6% to $752 million in 2019, compared with $707 million in 2018. On a diluted per common share basis, net operating income per common share increased 10% from $6.13 to $6.75. Net operating income is the consolidated total of segment profits after tax and as such is considered a non-GAAP measure. Net income is the most directly comparable GAAP measure. We do not consider realized gains and losses to be a component of our core insurance operations or operating segments. Additionally, net income was affected by certain significant and unusual non-operating items in 2018 and 2019. We do not view these items as components of core operating results because they are not indicative of past performance or future prospects of the insurance operations. We remove items such as these that relate to prior periods or are non-operating items when evaluating the results of current operations, and therefore exclude such items from our segment analysis for current periods.
Globe Life's operations on a segment-by-segment basis are discussed in depth under the appropriate captions following in this report.
The life insurance segment is our primary segment and is the largest contributor to earnings in each year presented. This segment contributed $51 million in 2019 and $48 million in 2018 to the growth in our underwriting margin. The health segment also contributed to growth in income in both years contributing $8 million of additional margin in 2019 and $17 million in 2018.
Total premium income rose 5% for the year ended December 31, 2019 to $3.6 billion. Total net sales increased 6% to $621 million, when compared with the same period in 2018. Total first-year collected premium was $492 million for the 2019 period, compared with $468 million for the 2018 period.
Health insurance premium income increased 6% to $1.1 billion over the prior year total of $1.0 billion. Health net sales rose 11% to $191 million for the year of 2019. First-year collected health premium rose 10% to $163 million. Health underwriting margins, as a percent of premium, were 23% in both periods. Underwriting margin increased to $244 million for the year of 2019, 3% over the same period in 2018.
Insurance administrative expenses increased 7.3% in 2019 when compared with the prior year period. These expenses were 6.7% as a percentage of premium during the year of 2019 compared with 6.5% a year earlier. The increase in administrative expenses was primarily due to an increase in investments in information technology.
For the twelve months ended December 31, 2019, the Company repurchased 3.9 million shares at a total cost of $350 million for an average share price of $89.04.
Annualized life premium in force was $2.6 billion at December 31, 2019, an increase of 5% over $2.5 billion a year earlier.
American Income continues to focus on growing and strengthening the agency force, specifically through additional agency office openings and focus on middle-management growth. In addition to offering financial incentives and training opportunities, the agency has made considerable investments in information technology, including launching a lead mapping and customer relationship management tool for the agency force. We anticipate this tool will help enhance agent productivity and agent retention.
The Direct to Consumer Division offers adult and juvenile life insurance through a variety of marketing approaches, including direct mailings, insert media, and electronic media. In recent years, electronic media production has grown rapidly as management has aggressively increased marketing activities related to internet and mobile technology, and has focused on driving traffic to our inbound call center. The different approaches support and complement one another in the division's efforts to reach the consumer. The Direct to Consumer Division's long-term growth has been fueled by constant innovation and name recognition. We continually introduce new initiatives in this division in an attempt to increase response rates.
While the juvenile market is an important source of sales, it also is a vehicle to reach the parents and grandparents of juvenile policyholders, who are more likely to respond favorably to a Direct to Consumer solicitation for life coverage on themselves than is the general adult population. Also, both juvenile policyholders and their parents are low acquisition-cost targets for sales of additional coverage over time. The underwriting margin, as a percent of premium, was 18% for the two years ended 2019.
The Liberty National Division markets individual life insurance to middle-income household and worksite customers. Recent investments in new sales technologies as well as recent growth in middle management within the agency will help continue this growth. The underwriting margin as a percent of premium was 26%, up from 24% for the year ended 2018. The increase is primarily attributable to higher than normal policy obligations during 2018 compared with lower policy obligations during the same period in 2019.
The Other distribution channels offering life insurance include the Military Agency, the United American Division (which predominantly writes health insurance), and various smaller distribution channels. The Other channels contributed $216 million of life premium income, or 9% of Globe Life's total in 2019, but contributed only 3% of net sales for the year.
Health premium increased 6% from $1.02 billion in 2018 to $1.08 billion in 2019. Health underwriting margin increased 3% from $236 million in 2018 to $244 million in 2019. Further discussion is included below by distribution channel.
First-year premium related to limited-benefit plans comprise $88 million, or 54% of total first-year collected premium, for 2019 compared with $81 million in 2018. First-year collected premium from Medicare Supplement policies make up the remaining 46%, or $75 million for 2019 compared with $67 million in 2018.
The Liberty National Division represented 18% of all Globe Life health premium income at $190 million in 2019. Liberty National markets limited-benefit supplemental health products consisting primarily of critical illness insurance. Much of Liberty National’s health business is now generated through worksite marketing targeting small businesses of 10 to 100 employees. In 2019, health premium income declined 1%, primarily attributable to the runoff of a block of discontinued Medicare Supplement policies previously sold by the division. Liberty National's first-year collected premium increased 11% to $20 million in 2019 compared with $18 million in 2018, reflecting the steady increase in net sales of limited-benefit plans in the division.
(1)Net of deferred acquisition costs, excluding the associated unrealized gains and losses thereon.
Excess investment income increased $13 million or 5% during 2019. Excess investment income per diluted common share increased 8% during 2019. Excess investment income per diluted common share generally increases at a faster pace than excess investment income because the number of diluted shares outstanding generally decreases from year to year as a result of our share repurchase program.
Net investment income increased at a compound annual growth rate of 4% during the last three years. Growth in net investment income has been negatively impacted in recent years by the low interest rate environment during which time we have invested new money at yields lower than our average portfolio yield. In addition, we have reinvested the proceeds from bonds that matured or were called or otherwise disposed of at yield rates less than what we earned on these bonds before their maturity or disposition. We currently expect that the turnover rate of fixed maturity assets will be less than 3% in 2020 and the average annual turnover rate during the next five years will not exceed 1% to 1.5% of the portfolio. The following chart presents the growth in net investment income and the growth in mean invested assets.
Required interest on net insurance policy liabilities reduces net investment income, as it is the amount of net investment income considered by management necessary to “fund” required interest on net insurance policy liabilities, which is the net of the benefit reserve liability and the deferred acquisition cost asset. As such, it is removed from the investment segment and applied to the insurance segments to offset the effect of the required interest from the insurance segments. As discussed in Note 14-Business Segments, management regards this as a more meaningful analysis of the investment and insurance segments. Required interest is based on the actuarial interest assumptions used in discounting the benefit reserve liability and the amortization of deferred acquisition costs for our insurance policies in force.
Financing costs for the investment segment consist primarily of interest on our various debt instruments. The table below presents the components of financing costs and reconciles interest expense per the Consolidated Statements of Operations.
(1)During the three years ended December 31, 2019, 2018, and 2017, the Company recorded $243.2 million, $193.4 million and $84.3 million of exchanges of fixed maturity securities (noncash transactions) that resulted in $16.2 million, $8.0 million, and $3.1 million, respectively in realized gains (losses), net of tax.
During calendar years 2017 through 2019, Globe Life invested predominately in fixed maturity securities, primarily in corporate and municipal bonds with longer-term maturities. The following table summarizes selected information for fixed maturity purchases for the last three years. Premiums and discounts are amortized using the interest method. When amortized cost of a callable debt security exceeds the first call price, the premium is amortized to the earliest call date. Otherwise, the period of amortization or accretion generally extends from the purchase date to the maturity date.
During 2018 and 2019, acquisitions consisted of securities spanning a diversified range of issuers, industry sectors, and geographical regions. All of the acquired securities were investment grade. In addition to the fixed maturity acquisitions, Globe Life invested $123 million in other long-term investments in 2019 and $94 million in 2018. These investments include commercial mortgage loan participations and investment funds. See Note-4 for further discussion.
New cash flow available for investment has been primarily provided through our insurance operations, cash received on existing investments, and proceeds from dispositions. While dispositions increase funds available for investment, as noted earlier in this discussion, they can also have a negative impact on investment income if the proceeds from the dispositions are reinvested at lower yields than the bonds that were disposed. Dispositions were $919 million in 2019 and $376 million in 2018.
Life had limited assets and liabilities that utilize LIBOR as a benchmark rate. As such, we do not expect the phase out of LIBOR to have a meaningful impact on our operations.
Since fixed maturities represent such a significant portion of our investment portfolio, the remainder of the discussion of portfolio composition will focus on fixed maturities. See a breakdown of the Company's other investments in Other Investment Information within Note 4-Investments.
(b) based on the maturity date of all bonds, whether callable or not.
Corporate securities, which consist of bonds and redeemable preferred stocks, were the largest component of the fixed maturity portfolio, representing 87% of amortized cost and fair value. The remainder of the portfolio is invested primarily in securities issued by the U.S. government and U.S. municipalities. The Company holds insignificant amounts in foreign government bonds, collateralized debt obligations, asset-backed securities, and mortgage-
backed securities. Corporate securities are diversified over a variety of industry sectors and issuers. At December 31, 2019, the total fixed maturity portfolio consisted of 656 issuers.
For more information about our fixed maturity portfolio by component at December 31, 2019 and 2018, including a discussion of other-than-temporary impairments, an analysis of unrealized investment losses and a schedule of maturities, see Note 4-Investments.
The overall quality rating of the portfolio has increased to A- from BBB+ since the prior year, the first time the overall rating of the portfolio has been A- since 2016. The increase was aided by reduced exposure to below investment grade securities as well as acquisitions of fixed maturities rated A and above, primarily in the municipal sector.
Fixed maturities rated BBB are 55% of the total portfolio as compared to 58% at the end of 2018. While this ratio is high relative to our peers, we have limited exposure to higher-risk assets such as derivatives, equities, commercial mortgages, and asset-backed securities. Additionally, the Company does not participate in securities lending, has no off-balance sheet investments, and has no exposure to European sovereign debt as of December 31, 2019. BBB securities provide the Company with the best risk adjusted capital adjusted returns, largely due to our unique ability to hold securities to maturity regardless of fluctuations in interest rates or equity markets.
Market Risk Sensitivity. Globe Life's investment securities are exposed to interest rate risk, meaning the effect of changes in financial market interest rates on the current fair value of the Company’s investment portfolio. Since 95% of the book value of our investments is attributable to fixed maturity investments (and virtually all of these investments are fixed-rate investments), the portfolio is highly subject to market risk. Declines in market interest rates generally result in the fair value of the investment portfolio rising, and increases in interest rates cause the fair value to decline. Under normal market conditions, we are not concerned about unrealized losses that are interest rate driven since we would not expect to realize them. We have the intent, and more importantly, the ability to hold our investments to maturity. The long-term nature of our insurance policy liabilities and strong operating cash-flow substantially mitigate any future need to liquidate portions of the portfolio. The increase or decrease in the fair value of insurance liabilities and debt due to increases or decreases in market interest rates largely offsets the impact of rates on the investment portfolio. However, as is permitted by GAAP, these liabilities are not recorded at fair value.
Operating expenses are included in the Corporate and Other segment and are classified into two categories: insurance administrative expenses and expenses of the Parent Company. Insurance administrative expenses generally include expenses incurred after a policy has been issued. As these expenses relate to premium for a given period, management measures the expenses as a percentage of premium income. The Company also views stock-based compensation expense as a Parent Company expense. Expenses associated with the issuance of our insurance policies are reflected as acquisition expenses and included in the determination of underwriting margin.
Consolidated Liquidity. Consolidated net cash inflows provided from continuing operations were $1.35 billion in 2019, compared with $1.28 billion in 2018. In addition to cash inflows from operations, our companies received proceeds from maturities, calls, and repayments of fixed maturities in the amount of $840 million in 2019, compared with $344 million in 2018.
Our cash and short-term investments were $114 million at the end of 2019 compared with $184 million at the end of 2018. In addition to these liquid assets, the entire $18.9 billion (fair value at December 31, 2019) portfolio of fixed income securities is available for sale in the event of an unexpected need. Approximately 97% of our fixed income securities are publicly traded, freely tradable under SEC Rule 144, or qualified for resale under SEC Rule 144A. We
generally expect to hold fixed income securities to maturity, and even though these securities are classified as available for sale, we have the ability and intent to hold any securities which are temporarily impaired until they mature. Our strong cash flows from operations, on-going investment maturities, and credit line availability make any need to sell securities for liquidity highly unlikely.
The following table presents information about future payments under our contractual obligations for the selected periods as of December 31, 2019.
(3)Purchase obligations include various long-term non-cancelable purchase commitments as well as commitments to provide capital for low-income housing tax credit interests.
(5)Future insurance obligations consist primarily of estimated future contingent benefit payments on policies in force at December 31, 2019. These estimated payments were computed using assumptions for future mortality, morbidity and persistency. The actual amount and timing of such payments may differ significantly from the estimated amounts shown. The Company concludes that the assets supporting the liability of $15 billion at December 31, 2019, along with future premiums and investment income, will be sufficient to fund all future insurance obligations.
Due to increasing variable interest rates, on June 15, 2018, the Company called its $20 million Junior Subordinated Debentures.
Globe Life is targeting a consolidated Company Action Level RBC ratio in the range of 300% to 320% for 2020.
We maintain a significant available-for-sale fixed maturity portfolio to support our insurance policy liabilities. Current accounting guidance requires that we revalue our portfolio to fair market value at the end of each accounting period. The period-to-period changes in fair value, net of their associated impact on deferred acquisition costs and income tax, are reflected directly in shareholders’ equity. Changes in the fair value of the portfolio can result from changes in interest rates and liquidity in financial markets. While a majority of invested assets are revalued, accounting rules do not permit interest-bearing insurance policy liabilities to be valued at fair value in a consistent manner as that of assets, with changes in value applied directly to shareholders’ equity.
Financial Strength Ratings. The financial strength of our major insurance subsidiaries is rated by Standard & Poor’s and A. M. Best. The following table presents these ratings for our five largest insurance subsidiaries at December 31, 2019.
Litigation. For more information concerning litigation, please refer to Note 6-Commitments and Contingencies.
Over 99% of our recorded amounts for deferred acquisition costs at December 31, 2019 were related to traditional products and are being amortized over the premium-paying period in proportion to the present value of actual historic and estimated future gross premiums. The projection assumptions for this business are set at the time of contract issue. These assumptions are “locked-in” at that time and, except where there is a loss recognition issue, are not revised for the lifetime of the contracts. Absent a premium deficiency, variability in amortization after policy issuance is caused only by variability in premium volume. We have not recorded a deferred acquisition cost loss recognition event for assets related to this business for any period in the three years ended December 31, 2019.
Policy Claims and Other Benefits Payable. This liability consists of known benefits currently payable and an estimate of claims that have been incurred but not yet reported to us. The estimate of unreported claims is based on prior experience and is made after careful evaluation of all information available to us. However, the factors upon which these estimates are based can be subject to change from historical patterns. Factors involved include the litigation environment, regulatory mandates, and the introduction of policy types for which claim patterns are not well established, and medical trend rates and medical cost inflation as they affect our health claims. Changes in these estimates, if any, are reflected in the earnings of the period in which the adjustment is made. The Company concludes that the estimates used to produce the liability for claims and other benefits, including the estimate of unsubmitted claims, are the most appropriate under the circumstances. However, there is no certainty that the resulting stated liability will be our ultimate obligation. At this time, we do not expect any change in this estimate to have a material impact on earnings or financial position consistent with our historical experience.
Defined benefit pension plans. We maintain funded defined benefit plans covering most full-time employees. We also have an unfunded nonqualified defined benefit plan covering certain key and other employees. Our obligations under these plans are determined actuarially based on specified actuarial assumptions. In accordance with GAAP, an expense is recorded each year as these pension obligations grow due to the increase in the service period of employees and the interest cost associated with the passage of time. These obligations are offset, at least in part, by the growth in value of the assets in the funded plans. At December 31, 2019, our gross liability under these plans was $665 million, but was offset by assets of $469 million.
The actuarial assumptions used in determining our obligations for pensions include employee mortality and turnover, retirement age, the expected return on plan assets, projected salary increases, and the discount rate at which future obligations could be settled. These assumptions have an important effect on the pension obligation. A decrease in the discount rate or rate of return on plan assets will cause an increase in the pension obligation. A decrease in projected salary increases will cause a decrease in this obligation. Small changes in assumptions may cause significant differences in reported results for these plans. For example, a sensitivity analysis is presented below for the impact of change in the discount rate and the long-term rate of return on assets assumed on our defined benefit pension plans expense for the year 2019 and projected benefit obligation as of December 31, 2019.
We have audited the accompanying consolidated balance sheets of Globe Life Inc. and subsidiaries (Globe Life) as of December 31, 2019 and 2018, the related consolidated statements of operations, comprehensive income, shareholders’ equity, and cash flows, for each of the three years in the period ended December 31, 2019, and the related notes and the schedules listed in the Index at Item 15 (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of Globe Life as of December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2019, in conformity with accounting principles generally accepted in the United States of America.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), Globe Life's internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 26, 2020, expressed an unqualified opinion on Globe Life's internal control over financial reporting.
We identified investments in fixed maturities classified as available for sale without readily determinable market values as a critical audit matter because of the unobservable inputs used by management to estimate fair value.
Our audit procedures related to the unobservable inputs used by management to estimate the fair value of investments in fixed maturities classified as available for sale included the following, among others:
•We tested the accuracy and completeness of underlying data used in the determination of the fair value (e.g., investments owned at the balance sheet date and relevant security attributes).
•With the assistance of our actuarial specialists, we evaluated management’s judgments regarding the assumptions used in the development of future policy benefits and the amortization of deferred acquisition costs.
Business: Effective August 8, 2019, Torchmark Corporation changed its corporate name to Globe Life Inc. The New York Stock Exchange (NYSE) ticker was changed to "GL" on August 9, 2019. The name change is part of a brand alignment strategy which will enhance the Company's ability to build name recognition with potential customers and agent recruits through the use of a single brand. The underwriting companies owned by Globe Life Inc. (the Parent Company) will continue to exist as legal entities, but over a period of time will go to market under the Globe Life name to leverage branding initiatives implemented at Globe Life And Accident Insurance Company in recent years.
Basis of Presentation: The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (GAAP), under guidance issued by the Financial Accounting Standards Board (FASB). The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Principles of Consolidation: The consolidated financial statements include the results of Globe Life Inc. and its wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. When Globe Life acquires a subsidiary or a block of business, the assets acquired and the liabilities assumed are measured at fair value at the acquisition date. Any excess of acquisition cost over the fair value of net assets is recorded as goodwill. Expenses incurred to effect the acquisition are charged to earnings as of the acquisition date. Upon acquisition, the accounts and results of operations are consolidated as of and subsequent to the acquisition date.
Globe Life accounts for its variable interest entities (VIEs) under accounting guidance which clarifies the definition of a variable interest and the instructions for consolidating VIEs. Only primary beneficiaries are required or allowed to consolidate VIEs. Therefore, a company may have voting control of a VIE, but if it is not the primary beneficiary, it is not permitted to consolidate the VIE. The investments are not consolidated because the Company has no power to control the activities that most significantly affect the economic performance of these entities and therefore the Company is not the primary beneficiary of any of these interests. Globe Life involvement is limited to its limited partnership interest in the entities. The Company has not provided any other financial support to the entities beyond its commitments to fund its limited partnership interests, and there are no arrangements or agreements with any of the interests to provide other financial support. The maximum loss exposure relative to these interests is limited to their carrying value. The Company has approximately 1% of its investments in low-income housing tax credits and certain limited partnerships ('investment funds") that qualify as an unconsolidated VIE.
Discontinued Operations: When a component of Globe Life's business is sold or expected to be sold during the ensuing year, the Company considers whether the criteria of ASC 205-20, Discontinued Operations, have been met, which includes evaluating if the disposal of a component represents a strategic shift that has, or will have, a major effect on the Company. If the disposal meets the criteria for discontinued operations, the assets and liabilities are segregated and recorded in the Consolidated Balance Sheets as "Assets and Liabilities related to discontinued operations" for all periods presented. If the carrying amount of the business exceeds its estimated fair value, a loss is recognized. The results of operations for the discontinued component are reported in "Income from discontinued operations, net of tax" in the Consolidated Statements of Operations for current and prior periods. Discontinued operations are reported commencing in the period in which the business is either disposed of or meets the accounting criteria for discontinued operations, including any gain or loss recognized on the sale or adjustment of the carrying amount to the estimated fair value less cost to sell.
The great majority of Globe Life's fixed maturities are not actively traded and direct quotes are not generally available. Management therefore determines the fair values of these securities after consideration of data provided by third-party pricing services, independent broker/dealers, and other resources. At December 31, 2019, the Company's investments in fixed maturities were primarily composed of the following significant security types: corporate securities, state and municipal securities, and U.S. government securities. The remaining security types represented less than 2% of the total in the aggregate.
Approximately 96% of the fair value of fixed maturities reported at December 31, 2019 was determined using data provided by third-party pricing services. Prices provided by these services are not binding offers, but are estimated exit values. Third-party pricing services use proprietary pricing models to determine security values by discounting cash flows using a market-adjusted spread to a benchmark yield.
Using the observable market inputs described above, spreads to an appropriate benchmark yield are further developed by the vendors for each security based on security-specific and/or sector-specific risk factors, such as a security’s terms and conditions (coupon, maturity, and call features), credit rating, sector, liquidity, collateral or other cash flow options, and other factors that could impact the risk of the security. Embedded repayment options, such as call and redemption features, are also taken into account in the pricing models. When the spread is determined, it is added to the security’s benchmark yield. The security's expected cash flows are discounted using this spread-adjusted yield, and the resulting present value of the discounted cash flows is the evaluated price.
Fair Value Measurements, Other Financial Instruments: Fair values for cash and equivalents, short-term investments, short-term debt, receivables, and payables approximate carrying value. Cash and cash equivalents are classified as Level 1. Fair values of commercial mortgage loan participations are determined based upon expected cash flows discounted at an appropriate risk-adjusted rate and are classified as a Level 3. The fair value of investments in limited partnerships that provide low-income housing tax credits is based on discounted projected cash flows. Policy loans are an integral part of Globe Life's subsidiaries’ life insurance policies in force and their fair values cannot be valued separately from the insurance contracts. Investment funds are based on net asset value and are excluded from the fair value hierarchy.
The fair values of Globe Life's long and short term debt issues are based on the same methodology as investments in fixed maturities. At December 31, 2019, observable inputs were available for these debt securities and as such were classified as Level 2 in the valuation hierarchy. The fair value for each debt instrument as of December 31, 2019 is disclosed in Note 11-Debt.
The evaluation of Globe Life's securities for other-than-temporary impairments is a process that is undertaken at least quarterly and is overseen by a team of investment and accounting professionals. A security has been deemed impaired when the fair value is less than the cost or amortized cost, resulting in the performance of further evaluation and analysis to determine whether the impairment is other-than-temporary. The process for making this determination is highly subjective and involves the careful consideration of many factors. Among the factors considered are:
•The length of time and extent to which the security has been impaired
•The Company’s ability and intent to hold the security until anticipated recovery
•News and information included in press releases issued by the issuer
Other Receivables: Other receivables consist mostly of agent debit balances that primarily represent commissions advanced to insurance agents. These balances are repaid to the Company over time as the premiums associated with the advanced commissions are collected by the Company and the agents' commissions on such premiums are retained. The balances were $424 million and $396 million at December 31, 2019 and 2018, respectively. The Company views these balances as recoverable since they are less than the estimated present value of future commissions.
DAC and VOBA are subject to periodic recoverability and loss recognition testing to determine if there is a premium deficiency. These tests evaluate whether the present value of future contract-related cash flows will support the capitalized DAC and VOBA assets. These cash flows consist primarily of premium income, less benefits and expenses. The present value of these cash flows, less the benefit reserve, is then compared with the unamortized deferred acquisition cost balance. In the event the estimated present value of net cash flows is less, the deficiency would be recognized by a charge to earnings and either a reduction of unamortized acquisition costs or an increase in the liability for future benefits, as described under the caption Future Policy Benefits. Refer to Note 5-Deferred Acquisition Costs.
On December 22, 2017, the Tax Cuts and Jobs Act (Tax Legislation) was enacted into law which changed existing tax law, including a reduction of the corporate income tax rate from 35% to 21% effective January 1, 2018. In 2017, the Company recorded $874 million in net income, primarily as a result of remeasuring its deferred assets and liabilities using the lower corporate tax rate as of the date of enactment. In the fourth quarter of 2018, the Company completed its analysis of the tax legislation and recorded an additional $798 thousand adjustment related to the remeasurement of the deferred tax assets and liabilities based on the 21% rate. For more information on income taxes, see Note 8-Income Taxes.
Treasury Stock: Globe Life accounts for purchases of treasury stock on the cost method. Issuance of treasury stock is accounted for using the weighted-average cost method. More information is found in Note 12-Shareholders' Equity.
The fair value method requires the use of an option valuation model to value employee stock options. Globe Life has elected to use the Black-Scholes valuation model for option expensing. A summary of assumptions for options granted in each of the three years 2017 through 2019 is as follows:
(1)For the years ended 2019, 2018 and 2017, the investment funds, accounted for under the fair value option method, recorded $5.6 million, $3.9 million and $2.5 million, respectively in net investment income.
(1)For the years ended 2019, 2018 and 2017, the Company recorded $243.2 million, $193.4 million and $84.3 million of exchanges of fixed maturities (noncash transactions) that resulted in $20.5 million, $10.1 million, and $4.8 million, respectively in realized gains (losses).
Selected information about sales of fixed maturities available for sale is as follows:
Fair value measurements: The following tables represent the fair value of fixed maturities measured on a recurring basis at December 31, 2019 and 2018:
(1)Acquisitions of Level 3 investments in each of the years 2017 through 2019 are comprised of private-placement fixed maturities.
Transfers between levels within the hierarchy occur when there are changes in the observability of the inputs and market data. Transfers into Level 3 occur when there is little unobservable market activity for the asset/liability as of the measurement date and the Company is required to rely upon internally-developed assumptions or third-parties. Transfers out of Level 3 occur when quoted prices in active markets becomes available for identical assets/ liabilities or the ability to corroborate by observable market data.
(1)Unobservable inputs were weighted by the relative fair value of the instruments.
The private placement fixed maturities and asset-backed securities reported as Level 3 are managed by third party investment managers. These securities are valued based on the contractual cash flows discounted by a yield determined as a treasury benchmark adjusted for a credit spread. The credit spread is developed from observable indices for similar public fixed maturities and unobservable indices for private fixed maturities for corresponding credit ratings. However, the credit ratings for the securities are considered unobservable inputs, as they are assigned by the third-party investment manager based on a quantitative and qualitative assessment of the credit underwritten. A higher (lower) credit rating would result in a higher (lower) valuation.
Concentrations of Credit Risk: Globe Life maintains a diversified investment portfolio with limited concentration in any given issuer. At December 31, 2019, the investment portfolio, at fair value, consisted of the following:
Corporate fixed maturities represent 83% of Globe Life's invested assets. These investments are spread across a wide range of industries. Below are the ten largest industry concentrations held in the portfolio of corporate fixed maturities at December 31, 2019, based on fair value:
At December 31, 2019, 3% of invested assets at fair value were represented by fixed maturities rated below investment grade. Par value of these investments was $768 million, amortized cost was $674 million, and fair value was $645 million. While these investments could be subject to additional credit risk, such risk should generally be reflected in their fair value. As noted previously, we believe we will recover the cost basis of these investments because we have the intent and the ability to hold them until maturity.
Other Long-Term Investments: Other long-term investments consist of the following assets:
The investment funds consist of limited partnerships whereby the Company has a prorata share of ownership ranging from less than 1% to 20%. For each investment, the Company has elected the fair value option, but would have been otherwise accounted for as an equity method investment. The fair value option is assessed for each individual investment and concluded at the recording of the asset. Additionally, these investments are evaluated under ASC 810, Consolidation to determine if it is a variable interest entity and would qualify for consolidation. As previously discussed in Note 1 - Significant Accounting Policies, none of the investments qualify for consolidation as the Company is not the primary beneficiary in any of the instances.
The investments are reported at the Company's pro-rata share of the investment fund's net asset value per share or its equivalent (NAV), as a practical expedient for fair value. Changes in the net asset value per share are recorded in Realized Gains (Losses) on the Consolidated Statements of Operations. Distributions received from the funds arise from income generated by the underlying investments as well as the liquidation of the underlying investments. Periodic, primarily quarterly, distributions are recorded in net investment income. Our maximum exposure to loss is equal to the outstanding carrying value and future funding commitments.
The following table presents additional information about the Company's investment funds as of December 31, 2019 and 2018 at fair value:
Commercial mortgage loan participations: Summaries of commercial mortgage loan participations at December 31, 2019 and 2018 are as follows:
Reinsurance: Insurance affiliates of Globe Life reinsure a portion of insurance risk that is in excess of their retention limits. Retention limits for ordinary life insurance range up to $2 million per life. Life insurance ceded represented 0.3% of total life insurance in force at December 31, 2019. Insurance ceded on life and accident and health products represented 0.2% of premium income for 2019. The insurance affiliates of Globe Life would be liable for the reinsured risks ceded to other companies to the extent that such reinsuring companies are unable to meet their obligations.
Leases: Globe Life primarily leases office space, aviation equipment, and other equipment under a variety of operating lease arrangements.
Rental expense for the three years ended December 31, 2019 is as follows:
Equipment leases: Globe Life has guaranteed performance of certain of its subsidiaries as lessees under two aviation leasing arrangements. At December 31, 2019, total remaining undiscounted payments under the leases were approximately $6 million. The Parent Company would be responsible for any subsidiary obligation in the event the subsidiary did not make payments or otherwise perform under the terms of the lease.
General Act. The complaint seeks compensatory damages, penalties and attorney fees on claims for failure to pay wages/commissions, failure to appropriately pay agents at termination, failure to provide itemized wage statements, failure to reimburse expenses, misclassification and unfair business practices.
On January 16, 2019, putative class action litigation was filed against American Income Life in Orange County, California Superior Court (Putros v. American Income Life Insurance Company, Case No. 30-2019-01044772-CU-OE-CXC) (Putros Action). An amended complaint was filed on January 22, 2019. The plaintiff, a former insurance sales agent of American Income Life, sued on behalf of all current and former sales agents who sold insurance for American Income Life in the State of California for the year prior to the filing of the complaint. The lawsuit alleged that American Income Life sales agents were employees and asserted claims under the California Private Attorney General Act. The complaint sought penalties for failure to pay minimum wage, failure to provide meal and rest breaks, failure to appropriately pay agents at termination, failure to provide itemized wage statements, failure to reimburse expenses, and misclassification. The case was dismissed on November 20, 2019.
On December 19, 2019, putative collective action litigation was filed against American Income Life in the United States District Court for the Eastern District of Arkansas (Patterson v. American Income Life Insurance Company, et al, Case No. 4:19-cv-918 KGB) (Patterson Action). The plaintiff, a former insurance sales agent of American Income Life, is pursuing a national collective action on behalf of all “similarly situated” individuals for the three years prior to the filing of the complaint. The lawsuit alleges that insurance agent trainees were not properly classified as employees and asserts claims for minimum wage and overtime under the Fair Labor Standards Act and Arkansas Minimum Wage Act.
The following table discloses significant components of income taxes for each year presented:
Income Tax Return: Globe Life Inc. and its subsidiaries file a life-nonlife consolidated federal income tax return for the years ended December 31, 2019 and 2018. Prior to 2018, Family Heritage Life Insurance Company of America (Family Heritage Life) filed its federal income tax return on a separate company basis. The statutes of limitations for the Internal Revenue Service's examination and assessment of additional tax are closed for all tax years prior to 2016 with respect to Globe Life's consolidated as well as Family Heritage Life's federal income tax returns. Management concludes that adequate provision has been made in the consolidated financial statements for any potential assessments that may result from current or future tax examinations and other tax-related matters for all open years.
Tax penalties and interest: Globe Life's continuing practice is to recognize penalties and interest related to income tax matters in income tax expense. The Company recognized interest income of $55 thousand, $0, and $5 thousand, net of federal income tax expense, in its Consolidated Statements of Operations for 2019, 2018, and 2017, respectively. The Company had no accrued interest or penalties at December 31, 2019 or 2018.
The total cost of these retirement plans charged to operations was as follows:
Globe Life accrues expense for the defined contribution plans based on a percentage of the employees’ contributions. The plans are funded by the employee contributions and a Globe Life contribution equal to the amount of accrued expense. Plan contributions are both mandatory and discretionary, depending on the terms of the plan.
(2)Representing a guaranteed annuity contract issued by Globe Life's subsidiary, American Income Life Insurance Company, to fund the obligations of the American Income Life Insurance Company Non-Exempt Employees Defined Benefit Pension Plan ("American Income Pension Plan").
(2)Representing a guaranteed annuity contract issued by Globe Life's subsidiary, American Income Life Insurance Company, to fund the obligations of the American Income Pension Plan.
(3)Included in other long-term investments is an investment fund that reports the Pension Plan's pro-rata share of the limited partnership's net asset value per share or its equivalent (NAV), as a practical expedient for fair value. The Pension Plan owns approximately 1% of the investment fund. As of December 31, 2018, the expected term of the investment fund is approximately 6 years and the unfunded commitment of the investment fund is $7.1 million. The investment is non-redeemable. The investment fund strategy is opportunistic, applying a comprehensive relative value approach across various asset classes and opportunities in public and private markets, geographies, and capital structures.
year and invested cash. Investments outside of the aforementioned list are not permitted, except by prior approval of the Plan’s Trustees.
The investment portfolio is to be well diversified to avoid undue exposure to a single sector, industry, business, or security. The equity and fixed maturity portfolios are not permitted to invest in any single issuer that would exceed 10% of total plan assets at the time of purchase. The Company does not employ any other special risk management techniques, such as derivatives, in managing the pension investment portfolio.
SERP: The following table includes premiums paid for the company owned life insurance (COLI), for the three years ended December 31, 2019 and investments of the Rabbi Trust for the two years ended December 31, 2019.
Pension Liability: The following table presents projected benefit obligation (PBO) and accumulated benefit obligation (ABO) for the defined benefit pension plans and SERP at December 31, 2019 and 2018.
(1)Includes amortization of postretirement benefits other than pensions of $265 thousand in 2019, $92 thousand in 2018, and $155 thousand in 2017.
The term loan has the highest priority of all the debt followed by commercial paper, notes, senior notes, then junior subordinated debentures. The notes and senior notes are pari passu. The term loan is callable anytime, the notes are noncallable, the senior notes are callable under a make-whole provision, and the junior subordinated debentures are callable upon special events.
Credit Facility: On May 17, 2016, Globe Life amended its credit facility to include, as a part of the facility, the issuance of a $100 million term loan and to extend the maturity date of the entire credit facility to May 2021. The facility is further designated as a back-up credit line for a commercial paper program under which the Company may either borrow from the credit line or issue commercial paper at any time, with total commercial paper outstanding not to exceed the facility maximum of $750 million, less any letters of credit issued. Interest is charged at variable rates. The term loan will be repaid on a redemption schedule which provides for quarterly installments that began June 30, 2017 that escalate each annual period with a balloon payment of $75 million due in May 2021. Interest on the term loan is computed and paid monthly at 125 basis points plus 1 Month LIBOR. In accordance with the agreement, Globe Life is subject to certain covenants regarding capitalization. As of December 31, 2019, the Company was in full compliance with these covenants.
Acquisition of Common Shares: Globe Life shares are acquired from time to time through open market purchases under the Globe Life stock repurchase program when it is determined to be the best use of Globe Life's excess cash flows. We deem that it yields a return that is better than available alternatives and exceeds our cost of equity. When stock options are exercised, proceeds from the exercises are generally used to repurchase approximately the number of shares available with those funds in order to reduce dilution. See the following summary below:
Globe Life's stock-based compensation consists of stock options, restricted stock, restricted stock units, and performance shares. Certain employees and directors have been granted fixed equity options to buy shares of Globe Life stock at the market value of the stock on the date of grant, under the provisions of the Globe Life stock option plans. The options are exercisable during the period commencing from the date they vest until expiring according to the terms of the grant. Options generally expire the earlier of employee termination or option contract term, which are either seven-year or ten-year terms. Options generally vest in accordance with the following schedule:
(1)See plan document referenced in Exhibits. Formerly, the Torchmark Corporation 2018 Incentive Plan.
No equity awards were cash settled during the three years ended December 31, 2019.
Options: The following table summarizes information about stock options outstanding at December 31, 2019.
Performance shares are granted to a limited number of senior executives. Performance shares have a three-year contract life and are not settled in shares until the termination of the three-year contract period. While the grant specifies a stated target number of shares, the determination of the actual settlement in shares will be based on the achievement of certain performance objectives of Globe Life over the respective three-year contract periods. Certain executive restricted stock and performance share grants contain terms related to age that could accelerate vesting.
(1)Estimated additional (reduced) share grants expected due to achievement of performance criteria.
Due to the nature of the life insurance industry, Globe Life has no individual or group which would be considered a major customer. Substantially all of Globe Life's business is conducted in the United States.
The measure of profitability established by the chief operating decision makers for insurance segments is underwriting margin before other income and administrative expenses, in accordance with the manner the segments are managed. It essentially represents gross profit margin on insurance products before insurance administrative expenses and consists primarily of premium less net policy benefits, acquisition expenses, and commissions. Required interest on net policy liabilities (benefit reserves less deferred acquisition costs) is reflected as a component of the Investment segment (rather than as a component of underwriting margin in the insurance and annuity segments) in order to match this cost with the investment income earned on the assets supporting the net policy liabilities.
The measure of profitability for the Investment segment is excess investment income, which represents the income earned on the investment portfolio in excess of net policy requirements and financing costs associated with Globe Life's debt. Other than the above-mentioned interest allocations and an intersegment commission, there are no other intersegment revenues or expenses. Expenses directly attributable to corporate operations are included in the “Corporate & Other” category. Stock-based compensation expense is considered a corporate expense by Globe Life management and is included in this category. All other unallocated revenues and expenses on a pretax basis, including insurance administrative expense, are also included in the “Corporate & Other” segment category.
(2)During 2019, Globe Life recorded $400 thousand in administrative settlements related to state regulatory examinations. These administrative settlements were included in "Other operating expense" in the Consolidated Statements of Operations.
(5)In 2017, the Company recorded $1.8 million ($1.2 million, net of tax) in unrecoverable guaranty fund assessments.
(6)The Company increased stock-based compensation expense by $3.4 million ($2.2 million, net of tax) due to the impact of the tax rate change on certain performance-based equity awards.
Assets for each segment are reported based on a specific identification basis. The insurance segments’ assets contain DAC. The investment segment includes the investment portfolio, cash, and accrued investment income. Goodwill is assigned to the insurance segments at the time of purchase. All other assets are included in the Corporate & Other category. The tables below reconcile segment assets to total assets as reported in the consolidated financial statements.
Liabilities for each segment are reported also on a specific identification basis similar to the assets. The insurance segments' liabilities contain future policy benefits, unearned and advance premiums, and policy claims and other benefits payable. Other policyholders' funds are included in Other as well as current and deferred income taxes payable. Debt represents both short and long-term. The tables below reconcile segment liabilities to total liabilities as reported in the consolidated financial statements.