Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D. C. 20549

 


 

FORM 10-Q

 

x

Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

 

For the quarterly period ended June 30, 2009

 

or

 

o

Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the transition period from                 to                

 

Commission File Number 001-11339

 

Protective Life Corporation

(Exact name of registrant as specified in its charter)

 

Delaware

 

95-2492236

(State or other jurisdiction of incorporation or organization)

 

(IRS Employer Identification Number)

 

2801 Highway 280 South

Birmingham, Alabama 35223

(Address of principal executive offices and zip code)

 

(205) 268-1000

(Registrant’s telephone number, including area code)

 


 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, or a smaller reporting company. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer x

 

Accelerated Filer o

 

 

 

Non-accelerated filer o

 

Smaller Reporting Company o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o No x

 

Number of shares of Common Stock, $0.50 Par Value, outstanding as of August 4, 2009: 85,579,724

 

 

 



Table of Contents

 

PROTECTIVE LIFE CORPORATION

QUARTERLY REPORT ON FORM 10-Q

FOR QUARTERLY PERIOD ENDED JUNE 30, 2009

 

TABLE OF CONTENTS

 

 

Page

PART I: Financial Information

 

 

 

 

Item 1.

Financial Statements (unaudited):

 

 

 

 

 

Consolidated Condensed Statements of Income for the Three Months and Six Months Ended June 30, 2009 and 2008

3

 

 

 

 

Consolidated Condensed Balance Sheets as of June 30, 2009 and December 31, 2008

4

 

 

 

 

Consolidated Condensed Statements of Cash Flows for the Six Months Ended June 30, 2009 and 2008

5

 

 

 

 

Notes to Consolidated Condensed Financial Statements

6

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

35

 

 

 

Item 3.

Quantitative and Qualitative Disclosure About Market Risk

98

 

 

 

Item 4.

Controls and Procedures

98

 

 

 

PART II: Other Information

 

 

 

Item 1A.

Risk Factors

99

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

102

 

 

 

Item 4.

Submission of Matters to a Vote of Security Holders

102

 

 

 

Item 6.

Exhibits

103

 

 

 

Signature

 

104

 

2



Table of Contents

 

PROTECTIVE LIFE CORPORATION

CONSOLIDATED CONDENSED STATEMENTS OF INCOME

(Unaudited)

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(Dollars In Thousands, Except Per Share Amounts)

 

Revenues

 

 

 

 

 

 

 

 

 

Premiums and policy fees

 

$

679,989

 

$

678,873

 

$

1,339,141

 

$

1,341,277

 

Reinsurance ceded

 

(394,225

)

(423,774

)

(752,524

)

(794,846

)

Net of reinsurance ceded

 

285,764

 

255,099

 

586,617

 

546,431

 

Net investment income

 

431,144

 

438,941

 

852,829

 

847,406

 

Realized investment gains (losses):

 

 

 

 

 

 

 

 

 

Derivative financial instruments

 

(97,991

)

65,087

 

(5,558

)

63,430

 

All other investments

 

167,799

 

(32,425

)

125,956

 

(60,470

)

Other-than-temporary impairment losses

 

(48,877

)

(79,986

)

(166,191

)

(79,986

)

Portion of loss recognized in other comprehensive income (before taxes)

 

7,906

 

 

35,394

 

 

Net impairment losses recognized in earnings

 

(40,971

)

(79,986

)

(130,797

)

(79,986

)

Other income

 

39,586

 

47,983

 

78,249

 

93,492

 

Total revenues

 

785,331

 

694,699

 

1,507,296

 

1,410,303

 

Benefits and expenses

 

 

 

 

 

 

 

 

 

Benefits and settlement expenses, net of reinsurance ceded:

 

 

 

 

 

 

 

 

 

(three months: 2009 - $371,234; 2008 - $403,096)

 

478,148

 

470,344

 

982,507

 

965,020

 

six months: 2009 - $705,928; 2008 - $774,829)

 

 

 

 

 

 

 

 

 

Amortization of deferred policy acquisition costs and value of business acquired

 

89,949

 

71,450

 

203,597

 

139,820

 

Other operating expenses, net of reinsurance ceded:

 

 

 

 

 

 

 

 

 

(three months: 2009 - $51,963; 2008 - $56,290)

 

77,016

 

95,426

 

148,818

 

194,395

 

six months: 2009 - $107,028; 2008 - $108,668)

 

 

 

 

 

 

 

 

 

Total benefits and expenses

 

645,113

 

637,220

 

1,334,922

 

1,299,235

 

Income before income tax

 

140,218

 

57,479

 

172,374

 

111,068

 

Income tax expense

 

49,461

 

19,295

 

59,482

 

37,002

 

Net income

 

$

90,757

 

$

38,184

 

$

112,892

 

$

74,066

 

 

 

 

 

 

 

 

 

 

 

Net income per share - basic

 

$

1.17

 

$

0.54

 

$

1.52

 

$

1.04

 

Net income per share - diluted

 

$

1.16

 

$

0.53

 

$

1.51

 

$

1.04

 

Cash dividends paid per share

 

$

0.12

 

$

0.235

 

$

0.24

 

$

0.46

 

 

 

 

 

 

 

 

 

 

 

Average share outstanding - basic

 

77,893,480

 

71,116,961

 

74,391,481

 

71,098,832

 

Average share outstanding - diluted

 

78,528,511

 

71,442,599

 

74,980,036

 

71,448,211

 

 

See Notes to Consolidated Condensed Financial Statements

 

3



Table of Contents

 

PROTECTIVE LIFE CORPORATION

CONSOLIDATED CONDENSED BALANCE SHEETS

(Unaudited)

 

 

 

As of

 

 

 

June 30,

 

December 31,

 

 

 

2009

 

2008

 

 

 

(Dollars In Thousands)

 

Assets

 

 

 

 

 

Investments:

 

 

 

 

 

Fixed maturities, at fair market value (amortized cost: 2009 - $22,354,072; 2008 - $23,091,708)

 

$

20,561,840

 

$

20,098,980

 

Equity securities, at fair market value (cost: 2009 - $293,996; 2008 - $358,159)

 

269,108

 

302,132

 

Mortgage loans

 

3,846,417

 

3,848,288

 

Investment real estate, net of accumulated depreciation (2009 - $536; 2008 - $453)

 

17,427

 

14,810

 

Policy loans

 

792,853

 

810,933

 

Other long-term investments

 

346,037

 

432,137

 

Short-term investments

 

1,841,149

 

1,059,506

 

Total investments

 

27,674,831

 

26,566,786

 

Cash

 

206,540

 

149,358

 

Accrued investment income

 

270,698

 

287,543

 

Accounts and premiums receivable, net of allowance for uncollectible amounts (2009 - $5,184; 2008 - $5,177)

 

90,237

 

55,017

 

Reinsurance receivables

 

5,309,360

 

5,254,788

 

Deferred policy acquisition costs and value of business acquired

 

3,900,088

 

4,200,321

 

Goodwill

 

119,405

 

120,954

 

Property and equipment, net of accumulated depreciation (2009 - $120,153; 2008 - $117,948)

 

38,401

 

39,707

 

Other assets

 

196,235

 

174,035

 

Income tax receivable

 

69,004

 

73,457

 

Deferred income tax

 

 

380,069

 

Assets related to separate accounts

 

 

 

 

 

Variable annuity

 

2,257,859

 

2,027,470

 

Variable universal life

 

259,511

 

242,944

 

Total assets

 

$

40,392,169

 

$

39,572,449

 

Liabilities

 

 

 

 

 

Policy liabilities and accruals

 

$

18,390,838

 

$

18,260,379

 

Stable value product account balances

 

4,138,131

 

4,960,405

 

Annuity account balances

 

9,596,476

 

9,357,427

 

Other policyholders’ funds

 

473,105

 

421,313

 

Other liabilities

 

922,242

 

926,821

 

Deferred income taxes

 

36,037

 

 

Non-recourse funding obligations

 

1,375,000

 

1,375,000

 

Long-term debt

 

789,852

 

714,852

 

Subordinated debt securities

 

524,743

 

524,743

 

Liabilities related to separate accounts

 

 

 

 

 

Variable annuity

 

2,257,859

 

2,027,470

 

Variable universal life

 

259,511

 

242,944

 

Total liabilities

 

38,763,794

 

38,811,354

 

Commitments and contingencies - Note 4

 

 

 

 

 

Shareowners’ equity

 

 

 

 

 

Preferred Stock; $1 par value, shares authorized: 4,000,000; Issued: None

 

 

 

 

 

Common Stock, $0.50 par value, shares authorized: 2009 and 2008 - 160,000,000 shares issued: 2009 - 88,776,960; 2008 - 73,251,960

 

44,388

 

36,626

 

Additional paid-in-capital

 

575,064

 

448,481

 

Treasury stock, at cost (2009 - 3,198,053 shares; 2008 - 3,346,153 shares)

 

(25,945

)

(26,978

)

Unallocated stock in Employee Stock Ownership Plan (2009 - 0 shares ; 2008 - 128,995 shares)

 

 

(474

)

Retained earnings

 

2,066,587

 

1,970,496

 

Accumulated other comprehensive income (loss):

 

 

 

 

 

Net unrealized (losses) on investments, net of income tax: (2009 - $(510,910); 2008 - $(863,520))

 

(936,467

)

(1,575,028

)

Net unrealized (losses) gains relating to other-than-temporary impaired investments for which a portion has been recognized in earnings, net of income tax: (2009 - $(12,388); 2008 - $0)

 

(23,006

)

 

Accumulated (loss) - hedging, net of income tax: (2009 - $(15,356); 2008 - $(25,980))

 

(27,640

)

(46,762

)

Postretirement benefits liability adjustment, net of income tax: (2009 - $(24,019); 2008 - $(24,374))

 

(44,606

)

(45,266

)

Total shareowners’ equity

 

1,628,375

 

761,095

 

Total liabilities and shareowners’ equity

 

$

40,392,169

 

$

39,572,449

 

 

See Notes to Consolidated Condensed Financial Statements

 

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Table of Contents

 

PROTECTIVE LIFE CORPORATION

CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

 

For The

 

 

 

Six Months Ended

 

 

 

June 30,

 

 

 

2009

 

2008

 

 

 

(Dollars In Thousands)

 

Cash flows from operating activities

 

 

 

 

 

Net income

 

$

112,892

 

$

74,066

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Realized investment losses

 

10,399

 

77,026

 

Amortization of deferred policy acquisition costs and value of business acquired

 

203,597

 

139,820

 

Capitalization of deferred policy acquisition costs

 

(180,269

)

(190,145

)

Depreciation expense

 

3,322

 

5,487

 

Deferred income tax

 

2,342

 

48,949

 

Accrued income tax

 

3,437

 

44,969

 

Interest credited to universal life and investment products

 

505,417

 

510,718

 

Policy fees assessed on universal life and investment products

 

(295,140

)

(276,200

)

Change in reinsurance receivables

 

(54,572

)

(113,989

)

Change in accrued investment income and other receivables

 

(18,375

)

(54,414

)

Change in policy liabilities and other policyholders’ funds of traditional life and health products

 

111,564

 

219,571

 

Trading securities:

 

 

 

 

 

Maturities and principal reductions of investments

 

320,705

 

285,594

 

Sale of investments

 

429,179

 

615,725

 

Cost of investments acquired

 

(426,631

)

(736,632

)

Other net change in trading securities

 

(150,378

)

(105

)

Change in other liabilities

 

86,944

 

287,026

 

Other, net

 

(60,023

)

(84,930

)

Net cash provided by operating activities

 

604,410

 

852,536

 

Cash flows from investing activities

 

 

 

 

 

Investments available-for-sale:

 

 

 

 

 

Maturities and principal reductions of investments

 

1,320,521

 

1,028,935

 

Sales of investments

 

582,088

 

1,665,517

 

Cost of investments acquired

 

(1,324,348

)

(4,766,802

)

Mortgage loans:

 

 

 

 

 

New borrowings

 

(140,420

)

(443,432

)

Repayments

 

141,673

 

204,337

 

Change in investment real estate, net

 

(3,361

)

181

 

Change in policy loans, net

 

18,080

 

13,175

 

Change in other long-term investments, net

 

17,030

 

10,747

 

Change in short-term investments, net

 

(605,064

)

325,263

 

Purchases of property and equipment

 

(2,515

)

(3,685

)

Sales of property and equipment

 

 

787

 

Net cash provided by (used in) investing activities

 

3,684

 

(1,964,977

)

Cash flows from financing activities

 

 

 

 

 

Borrowings under line of credit arrangements and long-term debt

 

197,000

 

 

Principal payments on line of credit arrangements and long-term debt

 

(122,000

)

 

Net proceeds from securities sold under repurchase agreements

 

 

360,000

 

Dividends to shareowners

 

(16,799

)

(32,196

)

Issuance of common stock

 

132,763

 

 

Investments product deposits and change in universal life deposits

 

1,377,341

 

2,730,191

 

Investment product withdrawals

 

(2,100,158

)

(1,939,231

)

Other financing activities, net

 

(19,059

)

(45,108

)

Net cash (used in) provided by financing activities

 

(550,912

)

1,073,656

 

Change in cash

 

57,182

 

(38,785

)

Cash at beginning of period

 

149,358

 

146,152

 

Cash at end of period

 

$

206,540

 

$

107,367

 

 

See Notes to Consolidated Condensed Financial Statements

 

5



Table of Contents

 

PROTECTIVE LIFE CORPORATION

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(Unaudited)

 

1.             BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Basis of Presentation

 

The accompanying unaudited consolidated condensed financial statements of Protective Life Corporation and subsidiaries (the “Company”) have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the disclosures required by U.S. GAAP for complete financial statements. In the opinion of management, the accompanying financial statements reflect all adjustments (consisting only of normal recurring items) necessary for a fair statement of the results for the interim periods presented. Operating results for the three and six month periods ended June 30, 2009, are not necessarily indicative of the results that may be expected for the year ending December 31, 2009. The year-end consolidated condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by U.S. GAAP. For further information, refer to the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008.

 

Accounting Pronouncements Recently Adopted

 

Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting Standards (“SFAS”) No. 141(R), Business Combinations (“SFAS No. 141(R)”). In December of 2007, the FASB issued SFAS No. 141(R). This Statement is a revision to the original Statement and continues the movement toward a greater use of fair values in financial reporting. It changes how business acquisitions are accounted for and will impact financial statements at the acquisition date and in subsequent periods. Further, certain of the changes will introduce more volatility into earnings and thus may impact a company’s acquisition strategy. SFAS No. 141(R) will also impact the annual goodwill impairment test associated with acquisitions that close both before and after the effective date of this Statement. This Statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. The adoption of this Statement did not have an impact to the Company’s consolidated results of operations or financial position.  The Company will apply this Statement to all future business combinations.

 

FASB Statement No. 160, Noncontrolling Interests in Consolidated Financial Statements (“SFAS No. 160”). In December of 2007, the FASB issued SFAS No. 160. This Statement applies to all entities that prepare consolidated financial statements, except not-for-profit organizations, but will affect only those entities that have an outstanding non-controlling interest in one or more subsidiaries or that deconsolidate a subsidiary. This Statement is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008 (that is, January 1, 2009, for entities with calendar year-ends). The adoption of this Statement did not have an impact on the Company’s consolidated results of operations or financial position.

 

FASB Statement No. 161, Disclosures about Derivative Instruments and Hedging Activities (“SFAS No. 161”). In March of 2008, the FASB issued SFAS No. 161. This Statement requires enhanced disclosures about how and why an entity uses derivative instruments, how derivative instruments and related hedged items are accounted for under FASB Statement No. 133, Accounting for Derivative Instruments and Hedging Activities (“SFAS No. 133”). This Statement is effective for fiscal years and interim periods beginning after November 15, 2008. This Statement does not require any changes to current accounting. The Company adopted this Statement on January 1, 2009.

 

FASB Staff Position (“FSP”) FAS No. 140-3, “Accounting for Transfers of Financial Assets and Repurchase Financing Transactions” (“FSP FAS No. 140-3”). In February of 2008, the FASB issued FSP FAS No. 140-3 to provide guidance on accounting for a transfer of a financial asset and a repurchase financing, which is not directly addressed by FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities (“SFAS No. 140”). This FSP is effective for fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. The FSP became effective for the Company on January 1, 2009. The Company will apply this FSP to all future transfers of financial assets and repurchase financing transactions.

 

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FSP FAS No. 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP FAS No. 142-3”).  In April of 2008, the FASB issued FSP FAS No. 142-3 to improve consistency between the useful life of a recognized intangible asset under FASB Statement No. 142, Goodwill and Other Intangible Assets (“SFAS No. 142”) and the period of expected cash flows used to measure the fair value of the asset under SFAS No. 141(R) and other guidance under U.S. GAAP. This FSP is effective for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. The FSP became effective for the Company on January 1, 2009. The adoption of this FSP did not have a significant impact on the Company’s consolidated results of operations or financial position.

 

FASB Statement No. 162, The Hierarchy of Generally Accepted Accounting Principles (“SFAS No. 162”). In May of 2008, the FASB issued SFAS No. 162. This Statement 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 (“GAAP”) in the United States (“the GAAP hierarchy”). This Statement became effective on November 17, 2008. The adoption of this Statement did not have an impact on the Company’s consolidated results of operations or financial position.

 

FASB Statement No. 163, Accounting for Financial Guarantee Insurance Contracts (“SFAS No. 163”).  In May of 2008, the FASB issued SFAS No. 163. This Statement requires that an insurance enterprise recognize a claim liability prior to an event of default (insured event) when there is evidence that credit deterioration has occurred in an insured financial obligation.  This Statement also clarifies how FASB Statement No. 60, Accounting and Reporting by Insurance Enterprises (“SFAS No. 60”) applies to financial guarantee insurance contracts, including the recognition and measurement to be used to account for premium revenue and claim liabilities. It also requires expanded disclosures about financial guarantee insurance contracts. This Statement does not apply to financial guarantee insurance contracts that would be within the scope of SFAS No. 133. This Statement is effective for fiscal years and interim periods beginning after December 15, 2008. The standard became effective for the Company on January 1, 2009. The adoption of this Statement did not have an impact on the Company’s consolidated results of operations or financial position.

 

FSP Emerging Issues Task Force (“EITF”) Issue No. 03-6-1, “Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities” (“FSP EITF Issue No. 03-6-1”). In June of 2008, the FASB issued FSP EITF Issue No. 03-6-1. This FSP addresses whether instruments granted in share-based payment transactions are participating securities prior to vesting and, therefore, need to be included in the earnings allocation in computing earnings per share (“EPS”) under the two-class method described in paragraphs 60 and 61 of FASB Statement No. 128, Earnings per Share.  The FSP became effective for financial statements issued for fiscal years and interim periods beginning January 1, 2009. All prior period EPS data presented has been adjusted retrospectively to conform to the provisions of this FSP. The adoption of this FSP did not have an impact on the Company’s consolidated results of operations or financial position.

 

FSP FAS No. 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly” (“FSP FAS No. 157-4”).  In April of 2009, the FASB issued FSP FAS No. 157-4 to provide additional guidance for estimating fair value in accordance with FASB Statement No. 157, Fair Value Measurements (“SFAS No. 157”), when the volume and level of activity for the asset or liability have significantly decreased. This FSP also includes guidance on identifying circumstances that indicate a transaction is not orderly. This FSP is effective for interim and annual reporting periods ending after June 15, 2009, and shall be applied prospectively. Early adoption is permitted for periods ending after March 15, 2009. The Company elected to early adopt the FSP in the first quarter of 2009. Early adoption of the FSP did not have a significant impact on the Company’s consolidated results of operations or financial position.

 

FSP FAS No. 115-2 and FAS No. 124-2, “Recognition and Presentation of Other-Than-Temporary Impairments” (“FSP FAS No. 115-2 and FAS No. 124-2”). In April of 2009, the FASB issued FSP FAS No. 115-2 and FAS No. 124-2 to amend the other-than-temporary impairment guidance in U.S. GAAP for debt securities to make the guidance more operational and to improve the presentation and disclosure of other-than-temporary impairments of debt and equity securities in the financial statements. This FSP addresses the timing of impairment recognition and provides greater clarity to investors about the credit and noncredit components of impaired debt securities that are not expected to be sold. Impairments will continue to be measured at fair value with credit losses recognized in earnings and non-credit losses recognized in other comprehensive income. This FSP also requires increased and timelier disclosures regarding measurement techniques, credit losses, and an aging of securities with unrealized losses. This FSP is effective for interim and annual reporting periods ending after June 15, 2009, with

 

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early adoption permitted for periods ending after March 15, 2009. The Company elected to early adopt the FSP in the first quarter of 2009, and recorded total other-than-temporary impairments during the three months ended March 31, 2009, of approximately $117.3 million with $27.5 million of this amount recorded in other comprehensive income. The impact of recording a portion of the other-than-temporary impairments in other comprehensive income resulted in an increase in net income of $17.9 million or $0.25 per share for the three months ended March 31, 2009. The adoption of the FSP did not require a cumulative effect adjustment to retained earnings at January 1, 2009, since all other-than-temporary impairments recorded by the Company in prior periods were credit related losses.

 

FSP FAS No. 107-1 and APB 28-1, “Interim Disclosures about Fair Value of Financial Instruments” (“FSP FAS No. 107-1 and APB 28-1”). In April of 2009, the FASB issued FSP FAS No. 107-1 and APB 28-1 to address concerns for more transparent and timely information in financial reporting by requiring quarterly disclosures about fair value of financial instruments. The guidance relates to fair value disclosures for financial instruments that are not currently reflected on the balance sheet at fair value. The FSP requires qualitative and quantitative information about fair value estimates for all financial instruments not measured at fair value. This FSP became effective for interim and annual reporting periods ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009. The Company adopted the FSP in the second quarter of 2009. The adoption of this FSP did not have an impact on the Company’s consolidated results of operations or financial position.

 

FASB Statement No. 165, Subsequent Events (“SFAS No. 165”). In May of 2009, the FASB issued SFAS No. 165. This Statement establishes general standards of accounting for and disclosures of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. In addition, the Statement provides guidance on the circumstances that require entities to recognize events or transactions that occur after the balance sheet date and the types of disclosures that need to be made about them. This Statement is effective for interim or annual reporting periods ending after June 15, 2009. The standard became effective for the Company on June 30, 2009. The adoption of this Statement did not have an impact on the Company’s consolidated results of operations or financial position.

 

Accounting Pronouncements Not Yet Adopted

 

FASB Statement No. 132(R)-1, Employers’ Disclosures about Postretirement Benefit Plan Assets (“SFAS No. 132(R)-1”). In December of 2008, the FASB issued SFAS No. 132(R)-1. This Statement does not require any changes to current accounting. It requires additional disclosures related to Postretirement Benefit Plan Assets. This Statement will provide users of financial statements with an understanding of: 1) how investment allocation decisions are made, including the factors that are pertinent to an understanding of investment policies and strategies, 2) the major categories of plan assets, 3) the inputs and valuation techniques used to measure the fair value of plan assets, 4) the effect of fair value measurements using significant unobservable inputs (Level 3) on changes in plan assets for the period, and 5) significant concentrations of risk within plan assets. The disclosure requirements will be effective for the Company for the period ending December 31, 2009. The Company does not expect this Statement to have an impact on its consolidated results of operations or financial position.

 

FASB Statement No. 166, Accounting for Transfers of Financial Assets (“SFAS No. 166”). In June of 2009, the FASB issued SFAS No. 166. This Statement is a revision to SFAS No. 140 and will require entities to provide additional information about sales of securitized financial assets and similar transactions, particularly if the seller retains some risk exposure to the assets.  This Statement also eliminates the concept of a qualifying special-purpose entity, changes the requirements for the derecognition of financial assets, and calls upon sellers of the assets to make additional disclosures about them.  This Statement is effective for interim or annual reporting periods ending after November 15, 2009. The standard will become effective for the Company on January 1, 2010. The Company is currently evaluating the impact this Statement will have on its consolidated results of operations and financial position.

 

FASB Statement No. 167, Amendments to FASB Interpretation No. 46(R) (“SFAS No. 167”). In June of 2009, the FASB issued SFAS No. 167. This Statement amends FASB Interpretation No. 46(R), Consolidation of Variable Interest Entities (“FIN No. 46(R)”), by altering how a company determines when an entity that is insufficiently capitalized or not controlled through voting should be consolidated.  A company has to determine whether or not it should provide consolidated reporting of an entity based upon the entity’s purpose and design and the parent company’s ability to direct the entity’s actions.  This Statement is effective for interim or annual reporting periods ending after November 15, 2009. The standard will become effective for the Company on January 1, 2010. The Company is currently evaluating the impact this Statement will have on its consolidated results of operations and financial position.

 

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FASB Statement No. 168, The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles (“SFAS No. 168”). In June of 2009, the FASB issued SFAS No. 168. This Statement replaces SFAS No. 162, and authorizes the Codification as the new source for authoritative U.S. GAAP and ends the practice of FASB issuing standards in the familiar forms.  Instead, the board will publish Accounting Standards Updates that will provide background information about the amended guidance along with a basis for conclusions regarding the change.  This Statement is effective for reporting periods ending after September 15, 2009. The standard will become effective for the Company on July 1, 2009. This Statement will not have an impact on the Company’s consolidated results of operations and financial position.

 

Significant Accounting Policies

 

For a full description of significant accounting policies, see Note 2 of Notes to Consolidated Financial Statements included in the Company’s 2008 Form 10-K Annual Report. There were no significant changes to the Company’s accounting policies during the six months ended June 30, 2009, other than those related to credit losses and the adoption of FSP FAS No. 115-2 and FAS No. 124-2 as discussed in Note 2, Investment Operations, and the following:

 

Guaranteed minimum withdrawal benefits - We establish liabilities for guaranteed minimum withdrawal benefits (“GMWB”) on our variable annuity products. The GMWB is valued in accordance with SFAS No. 133 which utilizes the valuation technique prescribed by SFAS No. 157, which requires the liability to be marked-to-market using current implied volatilities for the equity indices. The methods used to estimate the liabilities employ assumptions about mortality, lapses, policyholder behavior, equity market returns, interest rates, the Company’s nonperformance risk measure and market volatility. We assume mortality of 65% of the National Association of Insurance Commissioners 1994 Variable Annuity Guaranteed Minimum Death Benefit (“GMDB”) Mortality Table. Differences between the actual experience and the assumptions used result in variances in profit and could result in losses.  In the first quarter of 2009, the assumption for long term volatility used for projection purposes was updated to reflect recent market conditions. The liability calculation was changed to reflect a rate increase for all GMWB policyholders.

 

Reclassifications

 

Certain reclassifications have been made in the previously reported financial statements and accompanying notes to make the prior year amounts comparable to those of the current year.  Such reclassifications had no effect on previously reported net income or shareowners’ equity.

 

2.             INVESTMENT OPERATIONS

 

Net realized investment gains (losses) for all other investments are summarized as follows:

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2009

 

2009

 

 

 

(Dollars In Thousands)

 

Fixed maturities

 

$

4,065

 

$

9,618

 

Equity securities

 

9,503

 

9,503

 

Impairments

 

(40,971

)

(130,797

)

Mark-to-market Modco trading portfolio

 

154,785

 

108,907

 

Mortgage loans and other investments

 

(554

)

(2,072

)

 

 

$

126,828

 

$

(4,841

)

 

For the three and six months ended June 30, 2009, gross gains on investments available-for-sale (fixed maturities, equity securities, and short-term investments) were $14.5 million and $20.1 million, respectively.

 

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The amortized cost and estimated market value of the Company’s investments classified as available-for-sale as of June 30, 2009, are as follows:

 

 

 

 

 

Gross

 

Gross

 

Estimated

 

 

 

Amortized

 

Unrealized

 

Unrealized

 

Fair

 

 

 

Cost

 

Gains

 

Losses

 

Market Value

 

 

 

(Dollars In Thousands)

 

2009

 

 

 

 

 

 

 

 

 

Fixed maturities:

 

 

 

 

 

 

 

 

 

Bonds

 

 

 

 

 

 

 

 

 

Residental mortgage-backed securities

 

$

4,275,345

 

$

25,863

 

$

(629,429

)

$

3,671,779

 

Commercial mortgage-backed securities

 

1,062,018

 

51,992

 

(148,474

)

965,536

 

Asset-backed securities

 

1,141,470

 

1,159

 

(42,075

)

1,100,554

 

United States Government and authorities

 

124,657

 

1,839

 

(1,470

)

125,026

 

States, municipalities, and political subdivisions

 

124,755

 

7,343

 

(94

)

132,004

 

Convertibles and bonds with warrants

 

88

 

 

(63

)

25

 

All other corporate bonds

 

12,550,714

 

190,257

 

(1,249,044

)

11,491,927

 

Redeemable preferred stocks

 

36

 

 

(36

)

 

 

 

19,279,083

 

278,453

 

(2,070,685

)

17,486,851

 

Equity securities

 

291,651

 

3,019

 

(27,907

)

266,763

 

Short-term investments

 

1,597,836

 

 

 

1,597,836

 

 

 

$

21,168,570

 

$

281,472

 

$

(2,098,592

)

$

19,351,450

 

 

As of June 30, 2009, the Company had an additional $3.1 billion of fixed maturities, $2.3 million of equity securities, and $243.3 million of short-term investments classified as trading securities.

 

The amortized cost and estimated market value of available-for-sale fixed maturities as of June 30, 2009, by expected maturity, are shown below. Expected maturities are derived from estimated rates of prepayment that may differ from actual rates of prepayment.

 

 

 

Estimated

 

Estimated

 

 

 

Amortized

 

Fair Market

 

 

 

Cost

 

Value

 

 

 

(Dollars In Thousands)

 

Due in one year or less

 

$

1,453,038

 

$

1,405,620

 

Due after one year through five years

 

6,521,720

 

5,902,892

 

Due after five years through ten years

 

3,379,474

 

3,199,741

 

Due after ten years

 

7,924,850

 

6,978,598

 

 

 

$

19,279,082

 

$

17,486,851

 

 

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Each quarter the Company reviews investments with unrealized losses and tests for other-than-temporary impairments. The Company analyzes various factors to determine if any specific other-than-temporary asset impairments exist. These include, but are not limited to: 1) actions taken by rating agencies, 2) default by the issuer, 3) the significance of the decline, 4) the Company’s intent and ability to hold the investment until recovery, 5) the time period during which the decline has occurred, 6) an economic analysis of the issuer’s industry, and 7) the financial strength, liquidity, and recoverability of the issuer. Management performs a security by security review each quarter in evaluating the need for any other-than-temporary impairments. Although no set formula is used in this process, the investment performance, collateral position, and continued viability of the issuer are significant measures considered. Once a determination has been made that a specific other-than-temporary impairment exists, the security’s basis is adjusted and an other-than-temporary impairment is recognized. Equity securities that are other-than temporarily impaired are written down to fair value with a realized loss recognized in earnings. Other-than-temporary impairments to debt securities that the Company does not intend to sell and does not expect to be required to sell before recovering the security’s amortized cost are written down to discounted expected future cash flows (“post impairment cost”) and credit losses are recorded in earnings. The difference between the securities’ discounted estimated future cash flows and the fair value of the securities is recognized in other comprehensive income as a non-credit loss. When calculating the post impairment cost for residential mortgage-backed securities, commercial mortgage-backed securities, and asset-backed securities, the Company considers all known market data related to cash flows to estimate future cash flows. When calculating the post impairment cost for corporate debt securities, the Company considers all contractual cash flows to estimate future cash flows. To calculate the post impairment cost, the estimated future cash flows are discounted at the original purchase yield. Debt securities that the Company intends to sell or expects to be required to sell before recovery are written down to fair value with the change recognized in earnings.

 

During the three and six months ended June 30, 2009, the Company recorded other-than-temporary impairments of investments of $48.9 million and $166.2 million, respectively. Of the $48.9 million of impairments for the three months ended June 30, 2009, $41.0 million was recorded in earnings and $7.9 million was recorded in other comprehensive income (loss). Of the $166.2 million of impairments for the six months ended June 30, 2009, $130.8 million was recorded in earnings and $35.4 million was recorded in other comprehensive income (loss). For the three months ended June 30, 2009, there were no other-than-temporary impairments related to equity securities and other-than-temporary impairments of  $19.4 million for the six months ended June 30, 2009 for securities related to equity securities. For the three and six months ended June 30, 2009, there were $48.9 million and $146.8 million of other-than-temporary impairments related to debt securities, respectively.

 

For the three months ended June 30, 2009, other-than-temporary impairments related to debt securities that the Company does not intend to sell and does not expect to be required to sell prior to recovering amortized cost were $30.4 million, of which $22.5 million of credit losses were recognized in earnings, and $7.9 million of non-credit losses were recorded in other comprehensive income (loss). During this period, there were no other-than-temporary impairments related to debt securities that the Company intends to sell or expects to be required to sell.

 

For the six months ended June 30, 2009, other-than-temporary impairments related to debt securities that the Company does not intend to sell and does not expect to be required to sell prior to recovering amortized cost were $116.4 million, with $81.0 million of credit losses recorded on debt securities in earnings, and $35.4 million of non-credit losses recorded in other comprehensive income (loss). During the same period, other-than-temporary impairments related to debt securities that the Company intends to sell or expects to be required to sell were $30.4 million and were recorded in earnings.

 

The following chart is a rollforward of credit losses for the three and six months ended June 30, 2009, on debt securities held by the Company for which a portion of an other-than-temporary impairment was recognized in other comprehensive income (loss):

 

 

 

For The
Three Months Ended
June 30, 2009

 

For The
Six Months Ended
June 30, 2009

 

 

 

(Dollars In Thousands)

 

Beginning balance

 

$

40,014

 

$

 

Additions for newly impaired securities

 

15,404

 

55,418

 

Additions for previously impaired securities

 

7,136

 

7,136

 

Reductions for previously impaired securities due to a change in expected cash flows

 

(15,826

)

(15,826

)

Ending balance

 

$

46,728

 

$

46,728

 

 

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The following table includes the Company’s investments’ gross unrealized losses and fair value that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position as of June 30, 2009:

 

 

 

Less Than 12 Months

 

12 Months or More

 

Total

 

 

 

Market

 

Unrealized

 

Market

 

Unrealized

 

Market

 

Unrealized

 

 

 

Value

 

Loss

 

Value

 

Loss

 

Value

 

Loss

 

 

 

(Dollars In Thousands)

 

Residential mortgage-backed securities

 

$

458,958

 

$

(54,754

)

$

2,532,472

 

$

(574,676

)

$

2,991,430

 

$

(629,430

)

Commercial mortgage-backed securities

 

63,659

 

(43,609

)

421,550

 

(104,865

)

485,209

 

(148,474

)

Asset-backed securities

 

148,864

 

(1,890

)

917,811

 

(40,184

)

1,066,675

 

(42,074

)

US government

 

17,239

 

(1,470

)

 

 

17,239

 

(1,470

)

States, municipalities, etc.

 

 

 

916

 

(94

)

916

 

(94

)

Convertibles bonds

 

 

 

25

 

(63

)

25

 

(63

)

Other corporate bonds

 

2,017,267

 

(198,399

)

5,022,747

 

(1,050,645

)

7,040,014

 

(1,249,044

)

Redeemable preferred

 

 

 

 

(36

)

 

(36

)

Equities

 

64,761

 

(6,772

)

102,554

 

(21,135

)

167,315

 

(27,907

)

 

 

$

2,770,748

 

$

(306,894

)

$

8,998,075

 

$

(1,791,698

)

$

11,768,823

 

$

(2,098,592

)

 

For commercial mortgage-backed securities in an unrealized loss position for greater than 12 months, $98.9 million of the total $104.9 million unrealized loss relates to securities issued in Company-sponsored commercial loan securitizations. These losses relate primarily to market illiquidity as opposed to underlying credit concerns. Factors such as credit enhancements within the deal structures and the underlying collateral performance and characteristics support the recoverability of the investments. The other corporate bonds category has gross unrealized losses greater than 12 months of $1.1 billion as of June 30, 2009. These losses relate primarily to fluctuations in credit spreads. The aggregate decline in market value of these securities was deemed temporary due to positive factors supporting the recoverability of the respective investments. Positive factors considered include credit ratings, the financial health of the issuer, the continued access of the issuer to capital markets, and other pertinent information including the Company’s ability and intent to hold these securities to recovery. The Company does not consider these unrealized loss positions to be other-than-temporary, based on the factors discussed and because the Company has the ability and intent to hold equity investments until the fair values recover, and does not intend to sell or expect to be required to sell the securities before recovering the Company’s amortized cost of debt securities.

 

As of June 30, 2009, the Company had bonds which were rated below investment grade of $2.3 billion and had an amortized cost of $3.2 billion. Not included in these below investment grade bonds as of June 30, 2009, were $337.3 million of securities in the Company’s trading securities portfolio. As of June 30, 2009, approximately $27.8 million of the bonds rated below investment grade were securities issued in Company-sponsored commercial mortgage loan securitizations. Approximately $588.0 million of the below investment grade bonds were not publicly traded.

 

The change in unrealized gains (losses), net of income tax, on fixed maturity and equity securities, classified as available-for-sale is summarized as follows:

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2009

 

2009

 

 

 

(Dollars In Thousands)

 

Fixed maturities

 

$

804,612

 

$

780,346

 

Equity securities

 

27,477

 

20,217

 

 

 

$

832,089

 

$

800,563

 

 

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3.             NON-RECOURSE FUNDING OBLIGATIONS

 

Non-recourse funding obligations outstanding as of June 30, 2009, on a consolidated basis, listed by issuer, are reflected in the following table:

 

 

 

 

 

 

 

Year-to-Date

 

 

 

 

 

 

 

Weighted-Avg

 

Issuer

 

Balance

 

Maturity Year

 

Interest Rate

 

 

 

(Dollars In Thousands)

 

 

 

 

 

Golden Gate Captive Insurance Company

 

$

800,000

 

2037

 

3.50

%

Golden Gate II Captive Insurance Company

 

575,000

 

2052

 

1.65

%

Total

 

$

1,375,000

 

 

 

 

 

 

4.             COMMITMENTS AND CONTINGENCIES

 

The Company is contingently liable to obtain a $20 million letter of credit under indemnity agreements with directors. Such agreements provide insurance protection in excess of the directors’ and officers’ liability insurance in-force at the time up to $20 million.  Should certain events occur constituting a change in control, the Company must obtain the letter of credit upon which directors may draw for defense or settlement of any claim relating to performance of their duties as directors. The Company has similar agreements with certain of its officers providing up to $10 million in indemnification that are not secured by the obligation to obtain a letter of credit. These obligations are in addition to the customary obligation to indemnify officers and directors contained in the Company’s bylaws.

 

Under insurance guaranty fund laws, in most states insurance companies doing business therein can be assessed up to prescribed limits for policyholder losses incurred by insolvent companies. The Company does not believe such assessments will be materially different from amounts already provided for in the financial statements.  Most of these laws do provide, however, that an assessment may be excused or deferred if it would threaten an insurer’s own financial strength.

 

A number of civil jury verdicts have been returned against insurers, broker dealers and other providers of financial services involving sales, refund or claims practices, alleged agent misconduct, failure to properly supervise representatives, relationships with agents or persons with whom the insurer does business, and other matters.  Often these lawsuits have resulted in the award of substantial judgments that are disproportionate to the actual damages, including material amounts of punitive and non-economic compensatory damages.  In some states, juries, judges, and arbitrators have substantial discretion in awarding punitive non-economic compensatory damages which creates the potential for unpredictable material adverse judgments or awards in any given lawsuit or arbitration. Arbitration awards are subject to very limited appellate review.  In addition, in some class action and other lawsuits, companies have made material settlement payments. The Company, like other financial service companies, in the ordinary course of business, is involved in such litigation and arbitration.  The occurrence of such litigation and arbitration may become more frequent and/or severe when general economic conditions have deteriorated. Although the Company cannot predict the outcome of any such litigation or arbitration, the Company does not believe that any such outcome will have a material impact on its financial condition or results of the operations.

 

5.             STOCK-BASED COMPENSATION

 

Performance shares awarded during the six months ended June 30, 2009 and 2008, and the estimated fair value of the awards at grant date are as follows:

 

Year

 

Performance

 

Estimated

 

Awarded

 

Shares

 

Fair Value

 

(Dollars In Thousands)

 

2009

 

 

$

 

2008

 

75,900

 

$

2,900

 

 

The criteria for payment of performance awards is based primarily upon a comparison of the Company’s average return on average equity over a four-year period (earlier upon the death, disability, or retirement of the executive, or in certain circumstances, upon a change in control of the Company) to that of a comparison group of

 

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publicly held life and multi-line insurance companies. For the 2008 awards, if the Company’s results are below the 25th percentile of the comparison group, no portion of the award is earned. For the 2005-2007 awards, if the Company’s results are below the 40th percentile of the comparison group, no portion of the award is earned. If the Company’s results are at or above the 90th percentile, the award maximum is earned. Awards are paid in shares of the Company’s Common Stock.  As noted in the table above, no awards were granted in the first six months of 2009.

 

Between 1996 and 2009, stock appreciation rights (“SARs”) were granted to certain officers of the Company to provide long-term incentive compensation based solely on the performance of the Company’s Common Stock. The SARs are exercisable either five years after the date of grants or in three or four equal annual installments beginning one year after the date of grant (earlier upon the death, disability, or retirement of the officer, or in certain circumstances, of a change in control of the Company) and expire after ten years or upon termination of employment. The SARs activity as well as weighted-average base price for the six months ended June 30, 2009, is as follows:

 

 

 

Weighted-Average

 

 

 

 

 

Base Price per share

 

No. of SARs

 

Balance as of December 31, 2008

 

$

33.33

 

1,559,573

 

SARs granted

 

3.50

 

910,829

 

SARs exercised / forfeited

 

39.53

 

(5,200

)

Balance as of June 30, 2009

 

$

22.30

 

2,465,202

 

 

The SARs issued during the six months ended June 30, 2009, had an estimated fair value at grant date of $0.9 million. The fair value was estimated using a Black-Scholes option pricing model. Assumptions used in the model for the SARs granted (the simplified method under SEC Staff Accounting Bulletin No. 107, Share-Based Payment (“SAB No. 107”)was used for these awards) were as follows:  expected volatility of 68.5%, risk-free interest rate of 2.7%, a dividend rate of 10.3%, a 0% forfeiture rate, and the expected exercise date was 2015. The Company will pay an amount in stock equal to the difference between the specified base price of the Company’s Common Stock and the market value at the exercise date for each SAR.

 

Additionally, the Company issued 572,200 restricted stock units at a fair value of $3.50 per unit during the six months ended June 30, 2009.  These awards have a total fair value of $2.0 million.  Approximately half of these restricted stock units vest in 2012 and the remainder vest in 2013.

 

6.             DEFINED BENEFIT PENSION PLAN AND UNFUNDED EXCESS BENEFITS PLAN

 

Components of the net periodic benefit cost of the Company’s defined benefit pension plan and unfunded excess benefits plan are as follows:

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(Dollars In Thousands)

 

Service cost – Benefits earned during the period

 

$

1,889

 

$

2,131

 

$

3,778

 

$

5,038

 

Interest cost on projected benefit obligation

 

2,395

 

2,290

 

4,790

 

5,415

 

Expected return on plan assets

 

(2,531

)

(2,542

)

(5,062

)

(6,011

)

Amortization of prior service cost

 

(98

)

49

 

(196

)

115

 

Amortization of actuarial losses

 

568

 

739

 

1,136

 

1,748

 

Net periodic benefit cost

 

$

2,223

 

$

2,667

 

$

4,446

 

$

6,305

 

 

During April of 2009, the Company contributed $2.0 million to the defined benefit pension plan. The Company has not yet determined the aggregate amount that it will contribute to its defined benefit pension plan during the remainder of 2009.

 

In addition to pension benefits, the Company provides life insurance benefits to eligible retirees and limited healthcare benefits to eligible retirees who are not yet eligible for Medicare. For a closed group of retirees over age 65, the Company provides a prescription drug benefit.  The cost of these plans for the three and six months ended June 30, 2009 and 2008, was immaterial to the Company’s financial statements.

 

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7.             EARNINGS PER SHARE

 

Basic earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding during the period, including shares issuable under various deferred compensation plans. Diluted earnings per share  is computed by dividing net income by the weighted-average number of common shares and dilutive potential common shares outstanding during the period, assuming the shares were not anti-dilutive, including shares issuable under various stock-based compensation plans and stock purchase contracts.

 

During the second quarter of 2009, the Company issued 15.5 million shares of common stock through a public offering. This offering generated approximately $132.8 million of net proceeds to the Company.

 

A reconciliation of the numerators and denominators of the basic and diluted earnings per share is presented below:

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(Dollars In Thousands, Except Per Share Amounts)

 

Calculation of basic earnings per share:

 

 

 

 

 

 

 

 

 

Net income

 

$

90,757

 

$

38,184

 

$

112,892

 

$

74,066

 

 

 

 

 

 

 

 

 

 

 

Average shares issued and outstanding

 

76,980,175

 

70,113,046

 

73,480,155

 

70,106,690

 

Issuable under various deferred compensation plans

 

913,305

 

1,003,915

 

911,326

 

992,142

 

Weighted shares outstanding - Basic

 

77,893,480

 

71,116,961

 

74,391,481

 

71,098,832

 

 

 

 

 

 

 

 

 

 

 

Per share:

 

 

 

 

 

 

 

 

 

Basic earnings per share

 

$

1.17

 

$

0.54

 

$

1.52

 

$

1.04

 

 

 

 

 

 

 

 

 

 

 

Calculation of diluted earnings per share:

 

 

 

 

 

 

 

 

 

Net income

 

$

90,757

 

$

38,184

 

$

112,892

 

$

74,066

 

 

 

 

 

 

 

 

 

 

 

Weighted shares outstanding - Basic

 

77,893,480

 

71,116,961

 

74,391,481

 

71,098,832

 

Stock appreciation rights (“SARs”)(a)

 

330,356

 

198,789

 

274,829

 

188,704

 

Issuable under various other stock-based compensation plans

 

304,675

 

126,849

 

313,726

 

160,675

 

Weighted shares outstanding - Diluted

 

78,528,511

 

71,442,599

 

74,980,036

 

71,448,211

 

 

 

 

 

 

 

 

 

 

 

Per share:

 

 

 

 

 

 

 

 

 

Diluted earnings per share

 

$

1.16

 

$

0.53

 

$

1.51

 

$

1.04

 

 


(a) Excludes 1,554,373 and 680,920 SARs as of June 30, 2009 and 2008, respectively, that are antidilutive.  In the event the average market price exceeds the base price of the SARs, such rights would be dilutive to the Company’s earnings per share and will be included in the Company’s calculation of the diluted average shares oustanding for applicable periods.

 

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8.             COMPREHENSIVE INCOME (LOSS)

 

The following table sets forth the Company’s comprehensive income (loss) for the periods presented below:

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(Dollars In Thousands)

 

Net income

 

$

90,757

 

$

38,184

 

$

112,892

 

$

74,066

 

Change in net unrealized (losses) gains on investments, net of income

 

 

 

 

 

 

 

 

 

tax:(three months: 2009 - $337,533; 2008 - $(90,822)

 

 

 

 

 

 

 

 

 

six months: 2009 - $313,087; 2008 - $(246,404))

 

610,113

 

(167,889

)

566,408

 

(450,670

)

Change in net unrealized (losses) gains relating to other-than-temporary

 

 

 

 

 

 

 

 

 

impaired investments for which a portion has been recognized in earnings, net of income tax: (three months: 2009 - $(2,767); 2008 - $0

 

 

 

 

 

 

 

 

 

six months: 2009 - $(12,388); 2008 - $0)

 

(5,139

)

 

(23,006

)

 

Change in accumulated gain (loss)-hedging, net of income tax:

 

 

 

 

 

 

 

 

 

(three months: 2009 - $2,463; 2008 - $9,363

 

 

 

 

 

 

 

 

 

six months: 2009 - $10,321; 2008 - $3,418)

 

4,186

 

17,468

 

18,578

 

6,760

 

Minimum pension liability adjustment, net of income tax:

 

 

 

 

 

 

 

 

 

(three months: 2009 - $178; 2008 - $160

 

 

 

 

 

 

 

 

 

six months: 2009 - $355; 2008 - $316)

 

331

 

317

 

660

 

633

 

Reclassification adjustment for investment amounts included in net income, net of income tax:

 

 

 

 

 

 

 

 

 

(three months: 2009 - $9,674; 2008 - $23,440

 

 

 

 

 

 

 

 

 

six months: 2009 - $39,523; 2008 - $20,409)

 

17,730

 

43,093

 

72,153

 

37,583

 

Reclassification adjustment for hedging amounts included in net income, net of income tax:

 

 

 

 

 

 

 

 

 

(three months: 2009 - $565; 2008 - $601

 

 

 

 

 

 

 

 

 

six months: 2009 - $302; 2008 - $338)

 

1,264

 

737

 

544

 

1

 

Comprehensive income (loss)

 

$

719,242

 

$

(68,090

)

$

748,229

 

$

(331,627

)

 

9.             OPERATING SEGMENTS

 

The Company operates several business segments each having a strategic focus.  An operating segment is distinguished by products, channels of distribution, and/or other strategic distinctions.  The Company periodically evaluates its operating segments in light of the segment reporting requirements prescribed by FASB Statement No. 131, Disclosures about Segments of an Enterprise and Related Information, and makes adjustments to its segment reporting as needed.  A brief description of each segment follows.

 

·                  The Life Marketing segment markets level premium term insurance (“traditional”), universal life (“UL”), variable universal life, and bank-owned life insurance (“BOLI”) products on a national basis primarily through networks of independent insurance agents and brokers, stockbrokers, and independent marketing organizations.

 

·                  The Acquisitions segment focuses on acquiring, converting, and servicing policies acquired from other companies. The segment’s primary focus is on life insurance policies and annuity products that were sold to individuals. In the ordinary course of business, the Acquisitions segment regularly considers acquisitions of blocks of policies or insurance companies. The level of the segment’s acquisition activity is predicated upon many factors, including available capital, operating capacity, and market dynamics. Policies acquired through the Acquisition segment are “closed” blocks of business (no new policies are being marketed). Therefore, earnings and account values are expected to decline as the result of lapses, deaths, and other terminations of coverage unless new acquisitions are made.

 

·                  The Annuities segment markets and supports fixed and variable annuity products. These products are primarily sold through broker-dealers, financial institutions and independent agents and brokers.

 

·                  The Stable Value Products segment sells guaranteed funding agreements (“GFAs”) to special purpose entities that in turn issue notes or certificates in smaller, transferable denominations. The segment also markets fixed and floating rate funding agreements directly to the trustees of municipal bond proceeds, institutional investors, bank trust departments, and money market funds. Additionally, the segment

 

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markets guaranteed investment contracts (“GICs”) to 401(k) and other qualified retirement savings plans.

 

·                  The Asset Protection segment primarily markets extended service contracts and credit life and disability insurance to protect consumers’ investments in automobiles, watercraft, and recreational vehicles. In addition, the segment markets a guaranteed asset protection (“GAP”) product.

 

·                  The Corporate and Other segment primarily consists of net investment income, including the impact of carrying excess liquidity, and expenses not attributable to the segments above (including net investment income on capital and interest on debt).  This segment also includes earnings from several non-strategic lines of business (primarily cancer insurance, residual value insurance, surety insurance, and group annuities), various investment-related transactions, and the operations of several small subsidiaries.

 

The Company uses the same accounting policies and procedures to measure segment operating income (loss) and assets as it uses to measure consolidated net income and assets. Segment operating income (loss) is income (loss) before income tax excluding net realized investment gains and losses (net of the related amortization of deferred policy acquisition costs (“DAC”)/value of business acquired (“VOBA”) and participating income from real estate ventures), and the cumulative effect of change in accounting principle. Periodic settlements of derivatives associated with corporate debt and certain investments and annuity products are included in realized gains and losses but are considered part of operating income because the derivatives are used to mitigate risk in items affecting consolidated and segment operating income (loss). Segment operating income (loss) represents the basis on which the performance of the Company’s business is internally assessed by management. Premiums and policy fees, other income, benefits and settlement expenses, and amortization of DAC/VOBA are attributed directly to each operating segment. Net investment income is allocated based on directly related assets required for transacting the business of that segment. Realized investment gains (losses) and other operating expenses are allocated to the segments in a manner that most appropriately reflects the operations of that segment. Investments and other assets are allocated based on statutory policy liabilities, while DAC/VOBA and goodwill are shown in the segments to which they are attributable.

 

There were no significant intersegment transactions.

 

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The following tables summarize financial information for the Company’s segments.  Asset adjustments represent the inclusion of assets related to discontinued operations:

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(Dollars In Thousands)

 

Revenues

 

 

 

 

 

 

 

 

 

Life Marketing

 

$

267,194

 

$

235,067

 

$

549,045

 

$

495,986

 

Acquisitions

 

201,518

 

200,942

 

400,752

 

406,577

 

Annuities

 

134,485

 

95,956

 

264,430

 

178,216

 

Stable Value Products

 

57,490

 

79,570

 

124,054

 

163,364

 

Asset Protection

 

68,148

 

75,343

 

135,003

 

148,276

 

Corporate and Other

 

56,496

 

7,821

 

34,012

 

17,884

 

Total revenues

 

$

785,331

 

$

694,699

 

$

1,507,296

 

$

1,410,303

 

Segment Operating Income (Loss)

 

 

 

 

 

 

 

 

 

Life Marketing

 

$

37,179

 

$

38,127

 

$

79,689

 

$

84,576

 

Acquisitions

 

35,041

 

34,514

 

68,662

 

68,090

 

Annuities

 

21,495

 

9,487

 

20,920

 

11,976

 

Stable Value Products

 

16,976

 

17,545

 

37,183

 

33,761

 

Asset Protection

 

4,656

 

6,664

 

10,936

 

16,516

 

Corporate and Other

 

9,648

 

(2,093

)

401

 

(32,066

)

Total segment operating income

 

124,995

 

104,244

 

217,791

 

182,853

 

Realized investment gains (losses) - investments(1)

 

127,770

 

(111,916

)

(3,977

)

(141,035

)

Realized investment gains (losses) - derivatives(2)

 

(112,547

)

65,151

 

(41,440

)

69,250

 

Income tax expense

 

(49,461

)

(19,295

)

(59,482

)

(37,002

)

Net income

 

$

90,757

 

$

38,184

 

$

112,892

 

$

74,066

 

 

 

 

 

 

 

 

 

 

 

(1) Realized investment gains (losses) - investments

 

$

126,828

 

$

(112,411

)

$

(4,841

)

$

(140,456

)

Less: related amortization of DAC

 

(942

)

(495

)

(864

)

579

 

 

 

$

127,770

 

$

(111,916

)

$

(3,977

)

$

(141,035

)

 

 

 

 

 

 

 

 

 

 

(2) Realized investment gains (losses) - derivatives

 

$

(97,991

)

$

65,087

 

$

(5,558

)

$

63,430

 

Less: settlements on certain interest rate swaps

 

1,163

 

1,786

 

3,401

 

2,270

 

Less: derivative activity related to certain annuities

 

13,393

 

(1,850

)

32,481

 

(8,090

)

 

 

$

(112,547

)

$

65,151

 

$

(41,440

)

$

69,250

 

 

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Operating Segment Assets

 

 

 

As of June 30, 2009

 

 

 

(Dollars In Thousands)

 

 

 

Life

 

 

 

 

 

Stable Value

 

 

 

Marketing

 

Acquisitions

 

Annuities

 

Products

 

Investments and other assets

 

$

8,242,634

 

$

9,216,491

 

$

8,477,597

 

$

4,124,319

 

Deferred policy acquisition costs and value of business acquired

 

2,414,449

 

907,568

 

456,927

 

13,812

 

Goodwill

 

10,192

 

46,460

 

 

 

Total assets

 

$

10,667,275

 

$

10,170,519

 

$

8,934,524

 

$

4,138,131

 

 

 

 

Asset

 

Corporate

 

 

 

Total

 

 

 

Protection

 

and Other

 

Adjustments

 

Consolidated

 

Investments and other assets

 

$

790,132

 

$

5,495,565

 

$

25,938

 

$

36,372,676

 

Deferred policy acquisition costs and value of business acquired

 

102,918

 

4,414

 

 

3,900,088

 

Goodwill

 

62,670

 

83

 

 

119,405

 

Total assets

 

$

955,720

 

$

5,500,062

 

$

25,938

 

$

40,392,169

 

 

 

 

Operating Segment Assets

 

 

 

As of December 31, 2008

 

 

 

(Dollars In Thousands)

 

 

 

Life

 

 

 

 

 

Stable Value

 

 

 

Marketing

 

Acquisitions

 

Annuities

 

Products

 

Investments and other assets

 

$

7,874,075

 

$

9,572,548

 

$

7,530,551

 

$

4,944,830

 

Deferred policy acquisition costs and value of business acquired

 

2,580,806

 

956,436

 

528,310

 

15,575

 

Goodwill

 

10,192

 

48,009

 

 

 

Total assets

 

$

10,465,073

 

$

10,576,993

 

$

8,058,861

 

$

4,960,405

 

 

 

 

Asset

 

Corporate

 

 

 

Total

 

 

 

Protection

 

and Other

 

Adjustments

 

Consolidated

 

Investments and other assets

 

$

878,280

 

$

4,424,754

 

$

26,136

 

$

35,251,174

 

Deferred policy acquisition costs and value of business acquired

 

114,615

 

4,579

 

 

4,200,321

 

Goodwill

 

62,670

 

83

 

 

120,954

 

Total assets

 

$

1,055,565

 

$

4,429,416

 

$

26,136

 

$

39,572,449

 

 

10.          GOODWILL

 

During the six months ended June 30, 2009, the Company decreased its goodwill balance by approximately $1.5 million. The decrease was due to an adjustment in the Acquisitions segment related to tax benefits realized during the first six months of 2009 on the portion of tax goodwill in excess of GAAP basis goodwill. As of June 30, 2009, the Company had an aggregate goodwill balance of $119.4 million.

 

Accounting for goodwill requires an estimate of the future profitability of the associated lines of business.  Goodwill is tested for impairment at least annually. The Company evaluates the carrying value of goodwill at least annually and between annual evaluations if events occur or circumstances change that would more likely than not reduce the fair value of the reporting unit below its carrying amount. Such circumstances could include, but are not limited to: (1) a significant adverse change in legal factors or in business climate, (2) unanticipated competition, or (3) an adverse action or assessment by a regulator. When evaluating whether goodwill is impaired, the Company compares its estimate of the fair value of the reporting unit to which the goodwill is assigned to the reporting unit’s carrying amount, including goodwill. The Company utilizes a fair value measurement (discounted cash flow analysis) based on the applied guidance from SFAS No. 157 to assess the carrying value of the reporting units in consideration of the recoverability of the goodwill balance assigned to each reporting unit as of the measurement date. As of December 31, 2008, the Company evaluated its goodwill and determined that the fair value had not decreased below the carrying value and no adjustment to impair goodwill was necessary in accordance with SFAS No. 142.

 

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In addition, in light of the decrease in the Company’s market capitalization (“market cap”) during the second half of 2008 and continuing into 2009, the Company reviewed the underlying factors causing the market cap decrease to determine if the market cap fluctuation would be indicative of an additional factor to consider in its goodwill impairment testing, as such a decline in the market cap or market value of an entity’s securities may or may not be indicative of a triggering event which could require the Company to perform an interim or event-driven impairment analysis.

 

The Company’s material goodwill balances are attributable to its business segments. As previously noted, the Company’s operating segments’ discounted cash flows supported the goodwill balance as of December 31, 2008. In the Company’s view, the reduction in market cap is primarily attributable to illiquidity of credit markets and capital markets, concern related to its investment portfolio’s unrealized loss positions, impairments recognized during 2008, and an overall fear of the capital levels and potential economic impacts to financial services companies. We believe that these concerns arose primarily from the other-than-temporary impairments of investments recorded in the Corporate and Other segment during 2008. The Company monitors the aggregate fair value of its reporting units as a comparison to its overall market capitalization. The Company believes the factors that led to the decline in market cap primarily impacted it at a corporate level, and largely within the Corporate and Other segment, which does not carry a material balance of goodwill, as opposed to impacting the prescribed and inherent fair values of the Company’s other operating segments and reporting units.  As a result, in the Company’s view, the decrease in its market cap does not invalidate the Company’s discounted cash flow results.

 

11.                               FAIR VALUE OF FINANCIAL INSTRUMENTS

 

Effective January 1, 2008, the Company determined the fair value of its financial instruments based on the fair value hierarchy established in SFAS No. 157 which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. In the first quarter of 2009, the Company adopted the provisions of SFAS No. 157 for non-financial assets and liabilities (such as property and equipment, goodwill, and other intangible assets) that are required to be measured at fair value on a periodic basis. The effect on the Company’s periodic fair value measurements for non-financial assets and liabilities was not material.

 

In compliance with SFAS No. 157, the Company has categorized its financial instruments, based on the priority of the inputs to the valuation technique, into a three level hierarchy. 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 fair value fall within different levels of the hierarchy, the category level is based on the lowest priority level input that is significant to the fair value measurement of the instrument.

 

Financial assets and liabilities recorded at fair value on the Consolidated Condensed Balance Sheets are categorized as follows:

 

·                  Level 1: Unadjusted quoted prices for identical assets or liabilities in an active market.

 

·                  Level 2: Quoted prices in markets that are not active or significant inputs that are observable either directly or indirectly. Level 2 inputs include the following:

 

a)         Quoted prices for similar assets or liabilities in active markets

b)        Quoted prices for identical or similar assets or liabilities in non-active markets

c)         Inputs other than quoted market prices that are observable

d)        Inputs that are derived principally from or corroborated by observable market data through correlation or other means.

 

·                  Level 3: Prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement. They reflect management’s own assumptions about the assumptions a market participant would use in pricing the asset or liability.

 

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Table of Contents

 

As a result of the adoption of SFAS No. 157, the Company recognized the following adjustment to opening retained earnings for its Equity Indexed Annuities that were previously accounted for under FASB Statement No. 155, Accounting for Certain Hybrid Financial Instruments-an amendment of FASB Statements No. 133 and 140 (“SFAS No. 155”):

 

 

 

Carrying

 

Carrying

 

 

 

 

 

Value

 

Value

 

Transition

 

 

 

Prior to

 

After

 

Adjustment to

 

 

 

Adoption

 

Adoption

 

Retained Earnings

 

 

 

January 1, 2008

 

January 1, 2008

 

Gain (Loss)

 

 

 

(Dollars In Thousands)

 

 

 

 

 

 

 

 

 

Equity-indexed annuity reserves, net

 

$

145,912

 

$

143,634

 

$

2,278

 

Pre-tax cumulative effect of adoption of SFAS No. 157

 

 

 

 

 

2,278

 

Change in deferred income taxes

 

 

 

 

 

(808

)

Cumulative effect of adoption of SFAS No. 157

 

 

 

 

 

$

1,470

 

 

In addition, the Company recognized a transition adjustment for the embedded derivative liability related to annuities with guaranteed minimum withdrawal benefits. The impact of this adjustment, net of DAC amortization, reduced income before income taxes by $0.4 million during the first quarter of 2008.

 

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Table of Contents

 

The following table presents the Company’s hierarchy for its assets and liabilities measured at fair value on a recurring basis as of June 30, 2009:

 

 

 

Level 1

 

Level 2

 

Level 3

 

Total

 

 

 

(Dollars In Thousands)

 

Assets:

 

 

 

 

 

 

 

 

 

Fixed maturity securities - available-for-sale

 

 

 

 

 

 

 

 

 

Asset-backed securities

 

$

 

$

376,369

 

$

724,186

 

$

1,100,555

 

Commerical mortgage-backed securities

 

 

147,950

 

817,585

 

965,535

 

Residental mortgage-backed securities

 

 

3,671,748

 

30

 

3,671,778

 

US government and authorities

 

107,839

 

17,188

 

 

125,027

 

State, municipalities and political subdivisions

 

 

131,915

 

89

 

132,004

 

Public utilities

 

 

 

 

 

All other corporate bonds

 

 

11,407,350

 

84,577

 

11,491,927