We are dedicated to helping meet the insurance, retirement and homeownership needs of our customers, with a presence in more than 25 countries. We operate through three divisions: U.S. Life Insurance, Global Mortgage Insurance and Corporate and Other. Under these divisions, there are five operating business segments. The U.S. Life Insurance Division includes the U.S. Life Insurance segment. The Global Mortgage Insurance Division includes the International Mortgage Insurance and U.S. Mortgage Insurance segments. The Corporate and Other Division includes the International Protection and Runoff segments and Corporate and Other activities.
Management’s discussion and analysis by segment contains selected operating performance measures including “sales” and “insurance in-force” or “risk in-force” which are commonly used in the insurance industry as measures of operating performance.
housing market improved in 2014 driven by continued low interest rates that have maintained affordability as home prices have risen. Canadian employment data has generally been positive in 2014 and we expect job creation to remain steady with unemployment expected to marginally increase in 2015. In Australia, the overall housing market generally improved as modest economic growth and low interest rates persisted. The unemployment rate in Australia increased slightly during 2014 and we expect the unemployment rate to be relatively stable through 2015 as the economy continues to transition away from being commodity focused, impacting investment levels and mix in the economy. The Chinese economy had experienced significant growth over the past decade. This growth slowed during 2013 and into 2014 and the new Chinese administration began to implement economic and credit market reforms. Gross domestic product growth in China in 2014 was significantly lower than growth over the last decade with the slowest growth in the past five years being in 2014. Given the relative size of the Chinese economy, the impact of a significant change in the pace of economic expansion in China could impact global economies, partly as a result of lower commodity imports, particularly those from the Asia Pacific region, including Australia. Europe remained a challenging region with slow growth or a declining economic environment with lower lending activity and reduced consumer spending, particularly in Greece, Spain, Portugal, Ireland and Italy. While certain areas within Europe showed a modest level of improvement during 2014, unemployment was just below record highs and we expect future economic growth in Europe to be modest. Additionally, Germany’s economy could be impacted by the ongoing conflict in the Ukraine and sanctions imposed on Russia, which could negatively impact other European markets. See “-Trends and conditions affecting our segments” below for a discussion regarding the impacts the financial markets and global economies have on our businesses.
Our long-term care insurance sales decreased 33% during the year ended December 31, 2014 compared to the year ended December 31, 2013 and decreased 21% in the fourth quarter of 2014 from the third quarter of 2014. Our lower sales year over year in part reflected the impact of the overall long-term care insurance industry sales trends which were down in the first nine months of 2014 approximately 25% as compared to the same period last year as companies have left the market over time, have introduced price increases and product changes, as well as from consumer concern tied to industry rate actions. In 2013, we took steps to improve our profit and risk profile with the introduction of a product that included gender distinct pricing for single applicants and blood and lab underwriting requirements for all applicants. In addition, in the fourth quarter of 2013, we began filing for regulatory approval of a new product which increased premium rates but gave consumers the flexibility to choose the right fit for their long-term care needs, combined with the simplicity of prepackaged
Life insurance sales increased 72% during the year ended December 31, 2014 compared to the year ended December 31, 2013 largely attributable to growth of the reintroduced term life insurance products, which we began offering in the fourth quarter of 2012. The business is transitioning to competitive indexed universal life insurance and linked-benefits products, and growth in sales on these products is expected to continue. However, the increase in permanent life product sales is not expected to exceed the moderation of sales in our term life insurance products in the near term. Given reduced overall sales projections and uncertainty in those projections from market realities and potential strategic actions, we determined that it was more likely than not that the fair value of our life insurance reporting unit was less than the carrying amount and that our remaining goodwill was not recoverable. As a result, we recorded goodwill impairments of $495 million during the second half of 2014, reducing the goodwill balance to zero.
Refinements of product offerings and related pricing, including ongoing evaluation of commission structures and changes in investment strategies, support our objective of achieving appropriate risk-adjusted returns. Sales of fixed annuities increased $6 million during the year ended December 31, 2014 compared to the
In December 2013, the Australian Government announced that there would be an inquiry into Australia’s financial system. The FSI made a number of recommendations, which were released by the Australian government in December 2014. The FSI has recommended, among other things, that capital levels for internal ratings-based ADIs be raised against residential real estate risks. The FSI has also recommended narrowing the average risk-weight gap between average risk-weights for the internal ratings-based ADIs and other ADIs to help competition. In releasing the FSI’s recommendations, the Australian Treasurer commented that the FSI’s recommendations on bank capital are for APRA and the Reserve Bank of Australia to consider as independent regulators. At this time, it is difficult to determine the impact of these recommendations.
Derivatives. We enter into freestanding derivative transactions primarily to manage the risk associated with variability in cash flows or changes in fair values related to our financial assets and liabilities. We also use derivative instruments to hedge certain currency exposures. Additionally, we purchase investment securities,
The amortization of DAC for traditional long-duration insurance products (including term life insurance, life-contingent structured settlements and immediate annuities and long-term care insurance) is determined as a level proportion of premium based on accepted actuarial methods and reasonable assumptions including related to investment returns, health care experience (including type of care and cost of care), policyholder persistency or lapses (i.e., the probability that a policy or contract will remain in-force from one period to the next), insured life expectancy or longevity, insured morbidity (i.e., frequency and severity of claim, including claim termination rates and benefit utilization rates) and expenses, established when the contract or policy is issued. U.S. GAAP requires that assumptions for these types of products not be modified (or unlocked) unless recoverability testing deems them to be inadequate. Amortization is adjusted each period to reflect actual lapses or terminations. Accordingly, we could experience accelerated amortization of DAC if policies lapse or terminate earlier than originally assumed.
The key assumptions that impact our evaluation of implied goodwill for our long-term care and life insurance reporting units under our goodwill impairment assessment primarily relate to the valuation of new business. While the valuation of our in-force business is included in the fair value of the reporting unit, the in-force value does not contribute significant, incremental value to support goodwill. Based on a hypothetical acquisition under our goodwill impairment assessment, any difference in our current carrying value and the fair value of our in-force business would be associated with an intangible asset for PVFP and would not create additional implied goodwill. The valuation of new business is determined by utilizing several inputs such as discount rate, expected new business sales for the next 10 years, and expected new business profitability, which is primarily dependent on policyholder behavior assumptions, expected benefit payments, reinsurance, expected investment returns and targeted capital levels. The inclusion of 10 years of new business production is based on our experience of actuarial appraisals for life insurance companies where this is a common assumption. For our long-term care and life insurance reporting units, we utilized discount rates of 14% and 10%, respectively, based on our estimate of the weighted-average cost of capital that a hypothetical market participant would use in assessing the value of the businesses.
In the third quarter of 2012, considering current market conditions, including the market environment in Europe, lower trading multiples of European financial services companies and the impact of those conditions on our international protection reporting unit in a market transaction that may require a higher risk premium, we determined the fair value of the reporting unit was below book value and determined the goodwill associated with this reporting unit was not recoverable. Therefore, we recorded a goodwill impairment of $89 million for the write-off of all the goodwill associated with our international protection reporting unit in the third quarter of 2012.
Premiums. Premiums consist primarily of premiums earned on insurance products for long-term care, life and accident and health insurance, single premium immediate annuities and structured settlements with life contingencies, lifestyle protection insurance and mortgage insurance.
Provision (benefit) for income taxes. The effective tax rate decreased to 17.9% for the year ended December 31, 2014 from 30.9% for the year ended December 31, 2013. The decrease in the effective tax rate was primarily attributable to non-deductible goodwill impairments in 2014 and a charge of $174 million in the fourth quarter of 2014 associated with our Australian mortgage insurance business as we can no longer assert our intent to permanently reinvest earnings in that business, partially offset by a net $108 million benefit in the fourth quarter of 2014 in our lifestyle protection insurance business primarily from an internal debt restructuring related to the planned sale of that business. The year ended December 31, 2014 included a decrease of $15 million attributable to changes in foreign exchange rates.
(1) Under applicable accounting guidance, companies in a loss position are required to use basic weighted-average common shares outstanding in the calculation of diluted loss per share. Therefore, as a result of our loss from continuing operations available to Genworth Financial, Inc.’s common stockholders, net loss available to Genworth Financial, Inc.’s common stockholders and net operating loss for the year ended December 31, 2014,
Insurance and investment product fees and other. The decrease was principally attributable to our life insurance business related predominantly to $124 million of gains on the repurchase of notes secured by our non-recourse funding obligations in 2012 that did not recur and from a decrease in our universal life insurance in-force block. These decreases were partially offset by an $8 million favorable unlocking in our universal life insurance products related to interest assumptions in 2013 and an unfavorable valuation adjustment in 2012 that did not recur.
Our life insurance business decreased $11 million largely from lower expenses in our term universal life insurance product that we no longer offer, partially offset by higher expenses in our term life insurance products as we began offering these products in the fourth quarter of 2012 and a restructuring charge of $3 million in 2013.
Our Australian mortgage insurance business increased $11 million, including a decrease of $6 million attributable to changes in foreign exchange rates, primarily from higher operating expenses including a $6 million charge related to a customer contract in the fourth quarter of 2013 and higher employee compensation and benefit expenses in 2013.
In Australia, net premiums written decreased driven by a change of $40 million in foreign exchange rates. Excluding the effects of foreign exchange, net premiums written increased primarily from higher flow average price and volume, partially offset by lower loan-to-value mortgage originations and higher ceded reinsurance premiums in 2014.
In Other Countries, primary insurance in-force and risk in-force included increases of $900 million and $100 million, respectively, attributable to changes in foreign exchange rates. The decrease in Other Countries was mainly attributable to lender settlements in Ireland.
In Canada, net premiums written decreased primarily from lower flow volume attributable to a smaller mortgage originations market and lower bulk transactions in 2013. The year ended December 31, 2013 included a decrease of $12 million attributable to changes in foreign exchange rates in Canada.
The loss ratio in Canada decreased primarily from lower new delinquencies as a result of improved performance of our smaller in-force blocks of business and a stable economic environment. Partially offsetting this decrease was lower premiums primarily driven by the smaller in-force blocks of business.
Net operating income decreased as higher claim reserves, higher commissions and lower net investment income were partially offset by higher premiums in 2014. The year ended December 31, 2014 included a decrease of $1 million attributable to changes in foreign exchange rates.
Amortization of DAC and intangibles decreased related to our variable annuity products largely from favorable equity market performance in 2013 and $3 million less of unfavorable unlockings in 2013. These decreases were partially offset by higher net investment gains on embedded derivatives associated with our variable annuity products with GMWBs in 2013.
The decrease in overall weighted-average investment yields in 2013 was primarily attributable to lower reinvestment yields and $4 million of lower gains related to limited partnerships, partially offset by higher average invested assets in longer duration products. Net investment income in 2013 also included $11 million of higher bond calls and mortgage loan prepayments compared to 2012.
were $4 million in 2014. Impairments related to corporate fixed maturity securities which were a result of bankruptcies, receivership or concerns about the issuer’s ability to continue to make contractual payments or intent to sell were $6 million in 2013.
The majority of our unrealized losses were related to securities held in our U.S. Life Insurance segment. Our U.S. Mortgage Insurance segment had gross unrealized losses of $21 million and $44 million as of December 31, 2014 and 2013, respectively.
The decrease in the notional value of derivatives was primarily attributable to a $2.2 billion notional decrease in qualified interest rate swaps and forward bond purchase commitments related to our interest rate hedging strategy associated with our long-term care insurance products and a $0.2 billion notional decrease from matured credit default swaps. The decrease was partially offset by a $0.5 billion notional increase related to hedges of the GMWB liability on our variable annuity products.
Genworth Holdings had $953 million and $1,219 million of cash and cash equivalents as of December 31, 2014 and 2013, respectively. Genworth Holdings also held $150 million in U.S. government securities as of December 31, 2014 and 2013.
We currently intend that our U.S. mortgage insurance business will meet the additional capital requirements contained in the revised draft PMIERs by the anticipated effective date. We will seek to utilize the transition period provided for in the draft requirements if we do not comply by the anticipated effective date (subject to GSE approval).
Level 3 comprises financial instruments whose fair value is estimated based on industry-standard pricing methodologies and internally developed models utilizing significant inputs not based on, nor corroborated by, readily available market information. In limited instances, this category may also utilize non-binding broker quotes. This category primarily consists of certain less liquid fixed maturity, equity and trading securities and certain derivative instruments or embedded derivatives where we cannot corroborate the significant valuation inputs with market observable data.
(1) Under applicable accounting guidance, companies in a loss position are required to use basic weighted-average common shares outstanding in the calculation of diluted loss per share. Therefore, as a result of our loss from continuing operations available to Genworth Financial, Inc.’s common stockholders and net loss available to Genworth Financial, Inc.’s common stockholders for the year ended December 31, 2014, we were required to use basic weighted-average common shares outstanding in the calculation of diluted loss per share for the year ended December 31, 2014, as the inclusion of shares for stock options, restricted stock units and stock appreciation rights of 5.6 million would have been antidilutive to the calculation. If we had not incurred a loss from continuing operations available to Genworth Financial, Inc.’s common stockholders and net loss available to Genworth Financial, Inc.’s common stockholders for the year ended December 31, 2014, dilutive potential weighted-average common shares outstanding would have been 502.0 million.
As of December 31, 2014 and 2013, we had floating rate commercial mortgage loans of $9 million and $109 million, respectively.
The following table sets forth our credit default swaps where we sell protection on single name reference entities and the fair values as of the dates indicated:
During the third quarter of 2014, we also recorded a $61 million unfavorable correction to claim reserves related to a calculation of benefit utilization for policies with a benefit inflation option. This error arose prior to 2011 and was not material to earnings in any interim or annual period. During the fourth quarter of 2014, we recorded an $81 million unfavorable correction to claim reserves primarily related to claims in course of settlement arising in connection with the implementation of our updated assumptions and methodologies as part of our comprehensive claims review completed in the third quarter of 2014 and a $21 million unfavorable adjustment related to a revised interest rate assumption, partially offset by a $49 million favorable refinement of assumptions for claim termination rates. As a result of these items, we also recorded an increase in reinsurance recoverable of $17 million in 2014. The remaining increase was attributable to aging and growth of the in-force block. These impacts related to insured events for prior years.
Our cost associated with our pension, retiree health and life insurance benefit plans was $21 million, $22 million and $28 million for the years ended December 31, 2014, 2013 and 2012, respectively.
In January 2012, as part of a life block transaction, we acquired $475 million of our non-recourse funding obligations issued by River Lake Insurance Company III (“River Lake III”), our indirect wholly-owned subsidiary, which were accounted for as redemptions of our non-recourse funding obligations and resulted in a U.S. GAAP after-tax gain of approximately $52 million. In connection with the life block transaction, we ceded certain term life insurance policies to a third-party reinsurer resulting in a U.S. GAAP after-tax loss, net of DAC amortization, of $93 million. The combined transactions resulted in a U.S. GAAP after-tax loss of approximately $41 million in the three months ended March 31, 2012 which was included in our U.S. Life Insurance segment. In February and March 2012, we repaid the remaining outstanding non-recourse funding obligations issued by River Lake III of $176 million.
Our domestic insurance subsidiaries paid dividends of $108 million (none of which were deemed “extraordinary”), $418 million (none of which were deemed “extraordinary”) and $374 million ($175 million of which were deemed “extraordinary”) during 2014, 2013 and 2012, respectively. Our international insurance subsidiaries paid dividends of $630 million, $317 million and $240 million during 2014, 2013 and 2012, respectively.
The NCDOI’s current regulatory framework by which GMICO’s risk-to-capital ratio is calculated differs from the capital requirement methodology that is in the revised draft PMIERs. GMICO’s ongoing risk-to-capital
with counterparties. We are also subject to litigation arising out of our general business activities such as our contractual and employment relationships. In addition, we are also subject to various regulatory inquiries, such as information requests, subpoenas, books and record examinations and market conduct and financial examinations from state, federal and international regulators and other authorities. A substantial legal liability or a significant regulatory action against us could have an adverse effect on our business, financial condition and results of operations. Moreover, even if we ultimately prevail in the litigation, regulatory action or investigation, we could suffer significant reputational harm, which could have an adverse effect on our business, financial condition or results of operations.
In 2014, 2013 and 2012, dividends of $69 million, $52 million and $50 million, respectively, were paid to the noncontrolling interests of Genworth Canada.