SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended June 30, 2008
Commission File Number 1-8052
TORCHMARK CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE | 63-0780404 | |
(State or other jurisdiction of incorporation or organization) |
(I.R.S. Employer Identification No.) |
3700 South Stonebridge Drive, McKinney, Texas | 75070 | |
(Address of principal executive offices) |
(Zip Code) |
Registrants telephone number, including area code (972) 569-4000
NONE
Former name, former address and former fiscal year, if changed since last report.
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 ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a smaller reporting company. See definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer x Accelerated filer ¨ Non-accelerated filer ¨ (Do not check if a smaller reporting company)
Smaller reporting company ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ¨ No x
Indicate the number of shares outstanding for each of the issuers classes of common stock, as of the last practicable date.
CLASS |
OUTSTANDING AT JULY 29, 2008 | |
Common Stock, $1.00 Par Value | 87,231,397 |
Index of Exhibits (Page 46).
Total number of pages included are 47.
INDEX
Page | ||||||
PART I. | FINANCIAL INFORMATION | |||||
Item 1. | Financial Statements | |||||
1 | ||||||
2 | ||||||
3 | ||||||
4 | ||||||
5 | ||||||
Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations |
16 | ||||
Item 3. | 42 | |||||
Item 4. | 42 | |||||
PART II. | OTHER INFORMATION | |||||
Item 1. | 43 | |||||
Item 1A. | 45 | |||||
Item 2. | Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities |
45 | ||||
Item 4. | 45 | |||||
Item 6. | 46 |
PART I - FINANCIAL INFORMATION
Item 1. | Financial Statements |
CONSOLIDATED BALANCE SHEETS
(Dollar amounts in thousands except per share data)
June 30, 2008 |
December 31, 2007 * |
|||||||
(Unaudited) | ||||||||
Assets |
||||||||
Investments: |
||||||||
Fixed maturities, available for sale, at fair value |
||||||||
(amortized cost: 2008$9,543,749 ; 2007$9,329,149) |
$ | 8,874,152 | $ | 9,226,045 | ||||
Equity securities, at fair value |
||||||||
(cost: 2008$18,776 ; 2007$18,776) |
19,454 | 21,295 | ||||||
Policy loans |
350,045 | 344,349 | ||||||
Other long-term investments |
81,763 | 69,290 | ||||||
Short-term investments |
72,068 | 111,220 | ||||||
Total investments |
9,397,482 | 9,772,199 | ||||||
Cash |
18,224 | 20,098 | ||||||
Accrued investment income |
171,022 | 172,783 | ||||||
Other receivables |
95,548 | 96,750 | ||||||
Deferred acquisition costs and value of insurance purchased |
3,272,576 | 3,159,051 | ||||||
Goodwill |
423,519 | 423,519 | ||||||
Other assets |
175,719 | 173,833 | ||||||
Separate account assets |
1,189,655 | 1,423,195 | ||||||
Total assets |
$ | 14,743,745 | $ | 15,241,428 | ||||
Liabilities and Shareholders Equity |
||||||||
Liabilities: |
||||||||
Future policy benefits |
$ | 8,269,660 | $ | 7,958,983 | ||||
Unearned and advance premiums |
93,525 | 86,714 | ||||||
Policy claims and other benefits payable |
241,562 | 256,462 | ||||||
Other policyholders funds |
90,337 | 89,958 | ||||||
Total policy liabilities |
8,695,084 | 8,392,117 | ||||||
Deferred and accrued income taxes |
808,856 | 966,008 | ||||||
Other liabilities |
229,478 | 210,990 | ||||||
Short-term debt |
124,402 | 202,058 | ||||||
Long-term debt (fair value: 2008$644,220 ; 2007$655,543) |
598,265 | 598,012 | ||||||
Due to affiliates |
124,421 | 124,421 | ||||||
Separate account liabilities |
1,189,655 | 1,423,195 | ||||||
Total liabilities |
11,770,161 | 11,916,801 | ||||||
Shareholders equity: |
||||||||
Preferred stock, par value $1 per shareAuthorized 5,000,000 shares; outstanding: -0- in 2008 and in 2007 |
0 | 0 | ||||||
Common stock, par value $1 per shareAuthorized 320,000,000 shares; outstanding: (200894,874,748 issued, less 6,523,526 held in treasury and 2007 - 94,874,748 issued, less 2,699,333 held in treasury) |
94,875 | 94,875 | ||||||
Additional paid-in capital |
484,665 | 481,228 | ||||||
Accumulated other comprehensive income (loss) |
(429,679 | ) | (80,938 | ) | ||||
Retained earnings |
3,226,245 | 3,003,152 | ||||||
Treasury stock, at cost |
(402,522 | ) | (173,690 | ) | ||||
Total shareholders equity |
2,973,584 | 3,324,627 | ||||||
Total liabilities and shareholders equity |
$ | 14,743,745 | $ | 15,241,428 | ||||
* | Derived from audited financial statements |
See accompanying Notes to Consolidated Financial Statements.
1
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited and in thousands except per share data)
Three Months Ended June 30, |
Six Months Ended June 30, |
|||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||
Revenue: |
||||||||||||||||
Life premium |
$ | 406,492 | $ | 392,290 | $ | 809,440 | $ | 783,758 | ||||||||
Health premium |
289,084 | 317,754 | 592,748 | 653,032 | ||||||||||||
Other premium |
3,828 | 5,353 | 7,809 | 10,419 | ||||||||||||
Total premium |
699,404 | 715,397 | 1,409,997 | 1,447,209 | ||||||||||||
Net investment income |
167,826 | 160,729 | 334,729 | 323,309 | ||||||||||||
Realized investment gains (losses) |
(7,698 | ) | (2,828 | ) | (14,662 | ) | 7,221 | |||||||||
Other income |
960 | 3,271 | 2,861 | 4,805 | ||||||||||||
Total revenue |
860,492 | 876,569 | 1,732,925 | 1,782,544 | ||||||||||||
Benefits and expenses: |
||||||||||||||||
Life policyholder benefits |
273,917 | 262,114 | 541,202 | 522,503 | ||||||||||||
Health policyholder benefits |
199,257 | 219,657 | 418,632 | 457,004 | ||||||||||||
Other policyholder benefits |
8,224 | 7,505 | 15,965 | 14,245 | ||||||||||||
Total policyholder benefits |
481,398 | 489,276 | 975,799 | 993,752 | ||||||||||||
Amortization of deferred acquisition costs |
97,634 | 97,354 | 196,272 | 194,580 | ||||||||||||
Commissions and premium taxes |
38,069 | 39,155 | 76,804 | 78,995 | ||||||||||||
Other operating expense |
43,967 | 42,206 | 90,024 | 85,087 | ||||||||||||
Interest expense |
14,818 | 16,541 | 30,990 | 33,798 | ||||||||||||
Total benefits and expenses |
675,886 | 684,532 | 1,369,889 | 1,386,212 | ||||||||||||
Income before income taxes |
184,606 | 192,037 | 363,036 | 396,332 | ||||||||||||
Income taxes |
(50,880 | ) | (64,920 | ) | (111,137 | ) | (134,024 | ) | ||||||||
Net income |
$ | 133,726 | $ | 127,117 | $ | 251,899 | $ | 262,308 | ||||||||
Basic net income per share |
$ | 1.49 | $ | 1.34 | $ | 2.79 | $ | 2.73 | ||||||||
Diluted net income per share |
$ | 1.47 | $ | 1.32 | $ | 2.76 | $ | 2.68 | ||||||||
Dividends declared per common share |
$ | 0.14 | $ | 0.13 | $ | 0.28 | $ | 0.26 | ||||||||
See accompanying Notes to Consolidated Financial Statements.
2
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited and in thousands)
Three Months Ended June 30, |
Six Months Ended June 30, |
|||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||
Net income |
$ | 133,726 | $ | 127,117 | $ | 251,899 | $ | 262,308 | ||||||||
Other comprehensive income (loss): |
||||||||||||||||
Unrealized gains (losses) on securities: |
||||||||||||||||
Unrealized holding gains (losses) arising during period |
(233,279 | ) | (225,585 | ) | (577,314 | ) | (237,321 | ) | ||||||||
Less: reclassification adjustment for gains (losses) on securities included in net income |
7,389 | 2,828 | 13,250 | (6,818 | ) | |||||||||||
Less: reclassification adjustment for amortization of discount and premium |
(3,363 | ) | (1,284 | ) | (6,051 | ) | (2,210 | ) | ||||||||
Less: foreign exchange adjustment on securities marked to market |
(520 | ) | (8,732 | ) | 1,781 | (9,210 | ) | |||||||||
Unrealized gains (losses) on securities |
(229,773 | ) | (232,773 | ) | (568,334 | ) | (255,559 | ) | ||||||||
Unrealized gains (losses) adjustment to deferred acquisition costs |
13,812 | 13,898 | 32,515 | 14,270 | ||||||||||||
Total unrealized investment gains (losses) |
(215,961 | ) | (218,875 | ) | (535,819 | ) | (241,289 | ) | ||||||||
Less applicable taxes |
75,587 | 76,606 | 187,537 | 84,451 | ||||||||||||
Unrealized gains (losses), net of tax |
(140,374 | ) | (142,269 | ) | (348,282 | ) | (156,838 | ) | ||||||||
Foreign exchange translation adjustments |
(112 | ) | 12,886 | (2,450 | ) | 13,533 | ||||||||||
Less applicable taxes |
40 | (4,511 | ) | 857 | (4,737 | ) | ||||||||||
Foreign exchange translation adjustments, net of tax |
(72 | ) | 8,375 | (1,593 | ) | 8,796 | ||||||||||
Pension adjustments: |
||||||||||||||||
Adoption of Supplemental Executive Retirement Plan |
0 | 0 | 0 | (15,419 | ) | |||||||||||
Amortization of pension costs |
872 | 616 | 1,745 | 1,199 | ||||||||||||
Pension adjustments |
872 | 616 | 1,745 | (14,220 | ) | |||||||||||
Less applicable taxes |
(305 | ) | (216 | ) | (611 | ) | 4,977 | |||||||||
Pension adjustments, net of tax |
567 | 400 | 1,134 | (9,243 | ) | |||||||||||
Other comprehensive income (loss) |
(139,879 | ) | (133,494 | ) | (348,741 | ) | (157,285 | ) | ||||||||
Comprehensive income (loss) |
$ | (6,153 | ) | $ | (6,377 | ) | $ | (96,842 | ) | $ | 105,023 | |||||
See accompanying Notes to Consolidated Financial Statements
3
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited and in thousands)
Six Months Ended June 30, |
||||||||
2008 | 2007 | |||||||
Cash provided from operations |
$ | 423,358 | $ | 433,307 | ||||
Cash provided from (used for) investment activities: |
||||||||
Investments sold or matured: |
||||||||
Fixed maturities available for salesold |
94,880 | 303,980 | ||||||
Fixed maturities available for salematured, called, and repaid |
358,742 | 921,790 | ||||||
Other long-term investments |
2,691 | 16,039 | ||||||
Total investments sold or matured |
456,313 | 1,241,809 | ||||||
Investments acquired: |
||||||||
Fixed maturities |
(671,202 | ) | (1,489,762 | ) | ||||
Other long-term investments |
(7,969 | ) | (10,224 | ) | ||||
Total investments acquired |
(679,171 | ) | (1,499,986 | ) | ||||
Net (increase) decrease in short-term investments |
39,152 | 52,198 | ||||||
Net effect of change in payable or receivable for securities |
25,084 | 894 | ||||||
Disposition of properties |
623 | 3,866 | ||||||
Additions to properties |
(6,631 | ) | (8,623 | ) | ||||
Acquisitions of low-income housing tax credit interests |
(18,100 | ) | (13,833 | ) | ||||
Acquisition of DMAD |
0 | (47,122 | ) | |||||
Cash used for investment activities |
(182,730 | ) | (270,797 | ) | ||||
Cash provided from (used for) financing activities: |
||||||||
Proceeds from exercise of stock options |
9,599 | 39,014 | ||||||
Net borrowings (repayments) of commercial paper |
(77,656 | ) | 93,717 | |||||
Tax benefit from stock option exercises |
1,356 | 5,818 | ||||||
Acquisition of treasury stock |
(246,016 | ) | (343,252 | ) | ||||
Cash dividends paid to shareholders |
(24,335 | ) | (25,197 | ) | ||||
Net receipts (withdrawals) from deposit product operations |
95,154 | 60,566 | ||||||
Cash used for financing activities |
(241,898 | ) | (169,334 | ) | ||||
Effect of foreign exchange rate changes on cash |
(604 | ) | 4,203 | |||||
Net increase (decrease) in cash |
(1,874 | ) | (2,621 | ) | ||||
Cash at beginning of year |
20,098 | 16,716 | ||||||
Cash at end of period |
$ | 18,224 | $ | 14,095 | ||||
See accompanying Notes to Consolidated Financial Statements.
4
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(Dollar amounts in thousands except per share data)
Note AAccounting Policies
The accompanying consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q. Therefore, they do not include all of the disclosures required by accounting principles generally accepted in the United States of America (GAAP). However, in the opinion of management, these statements include all adjustments, consisting of normal recurring adjustments, which are necessary for a fair presentation of the consolidated financial position at June 30, 2008, and the consolidated results of operations, comprehensive income and cash flows for the periods ended June 30, 2008 and 2007.
Note BEarnings Per Share
A reconciliation of basic and diluted weighted-average shares outstanding is as follows:
For the three months ended June 30, |
For the six months ended June 30, | |||||||
2008 | 2007 | 2008 | 2007 | |||||
Basic weighted average shares outstanding |
89,461,429 | 94,964,817 | 90,124,870 | 96,218,079 | ||||
Weighted average dilutive options outstanding |
1,236,303 | 1,686,768 | 1,241,075 | 1,639,164 | ||||
Diluted weighted average shares outstanding |
90,697,732 | 96,651,585 | 91,365,945 | 97,857,243 | ||||
Antidilutive shares* |
1,809,112 | 75,429 | 1,529,514 | 37,923 | ||||
* | Antidilutive shares are excluded from the calculation of diluted earnings per share. |
Unless otherwise specified, earnings per share data is assumed to be on a diluted basis.
5
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note CPostretirement Benefit Plans
Components of Post-Retirement Benefit Costs
Three Months ended June 30, | ||||||||||||||||
Pension Benefits | Other Benefits | |||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||
Service cost |
$ | 1,891 | $ | 2,338 | $ | 175 | $ | 165 | ||||||||
Interest cost |
3,637 | 3,383 | 245 | 237 | ||||||||||||
Expected return on assets |
(3,880 | ) | (4,635 | ) | 0 | 0 | ||||||||||
Prior service cost |
855 | 529 | 0 | 0 | ||||||||||||
Net actuarial (gain)/loss |
(72 | ) | 174 | (83 | ) | (88 | ) | |||||||||
Net periodic benefit cost |
$ | 2,431 | $ | 1,789 | $ | 337 | $ | 314 | ||||||||
Six Months ended June 30, | ||||||||||||||||
Pension Benefits | Other Benefits | |||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||
Service cost |
$ | 3,781 | $ | 4,666 | $ | 337 | $ | 335 | ||||||||
Interest cost |
7,274 | 6,771 | 493 | 476 | ||||||||||||
Expected return on assets |
(7,760 | ) | (9,270 | ) | 0 | 0 | ||||||||||
Prior service cost |
1,710 | 1,046 | 0 | 0 | ||||||||||||
Net actuarial (gain)/loss |
(13 | ) | 339 | (169 | ) | (177 | ) | |||||||||
Net periodic benefit cost |
$ | 4,992 | $ | 3,552 | $ | 661 | $ | 634 | ||||||||
As of June 30, 2008, Torchmark has contributed $4.5 million to its qualified funded pension plan. The Company plans to make total contributions during 2008 of approximately $12 million.
In January, 2007, Torchmark adopted the Supplemental Executive Retirement Plan (SERP), a non-qualified defined-benefit pension plan. The unfunded obligation under this plan was $18 million at June 30, 2008.
6
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note DFair Value Measurements
Effective January 1, 2008, Torchmark adopted Financial Accounting Standards Board Statement No. 157, Fair Value Measurements (SFAS 157). This Statement clarifies the definition of fair value, establishes a hierarchy for measuring fair value, and expands disclosures about measurement methodology and its effects on fair value. It does not change which assets or liabilities are measured at fair value. The provisions of SFAS 157 are to be applied prospectively.
The hierarchy established by SFAS 157 consists of three levels to indicate the quality of the fair value measurements as described below:
| Level 1fair values are based on quoted prices in active markets for identical assets or liabilities that the Company has the ability to access as of the measurement date. |
| Level 2fair values are based on inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability, or inputs that can otherwise be corroborated by observable market data. |
| Level 3fair values are based on inputs that are considered unobservable where there is little, if any, market activity for the asset or liability as of the measurement date. In this circumstance, the Company has to rely on values derived by independent brokers or internally-developed assumptions. Unobservable inputs are developed based on the best information available to the Company which may include the Companys own data or bid and ask prices in the dealer market. |
The adoption of SFAS 157 had no material impact on Torchmarks financial position or results of operations, as Torchmarks assets and liabilities have historically been measured substantially in accordance with its provisions. However, additional information about fair value measurements in accordance with SFAS 157 is presented in the table below.
7
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note DFair Value Measurements (continued)
The following table represents assets measured at fair value on a recurring basis:
Fair Value Measurements at 6/30/08 Using: | ||||||||||||||||
Description |
Quoted Prices in Active Markets for Identical Assets (Level 1) |
Significant Other Observable Inputs (Level 2) |
Significant Unobservable Inputs (Level 3) |
Total Fair Value |
||||||||||||
Asset and mortgage-backed securities |
$ | 0 | $ | 18,752 | $ | 86,753 | $ | 105,505 | ||||||||
Corporates |
215,597 | 7,880,203 | 121,828 | 8,217,628 | ||||||||||||
Other* |
0 | 550,212 | 807 | 551,019 | ||||||||||||
Total fixed maturities |
215,597 | 8,449,167 | 209,388 | 8,874,152 | ||||||||||||
Equities |
16,945 | 1,885 | 624 | 19,454 | ||||||||||||
Total |
$ | 232,542 | $ | 8,451,052 | $ | 210,012 | $ | 8,893,606 | ||||||||
Percent of total |
2.6 | % | 95.0 | % | 2.4 | % | 100.0 | % | ||||||||
* | Includes U.S. government, government-sponsored enterprises, municipals, and foreign governments. |
The majority of our fixed-maturities are not traded actively and direct quotes are not generally available.
Asset-backed securities considered Level 3 are backed by corporate debt, primarily trust preferred securities issued by banks and insurance companies. The collateral for these securities contains no subprime or Alt-A mortgages. The decrease in Level 3 assets during the 2008 period of $89 million is not considered material and is due primarily to a $77 million decrease in unrealized losses.
There were no gains or losses on Level 3 securities for the period included in earnings attributable to the change in unrealized gains or losses relating to assets still held at the reporting date.
Net unrealized losses on fixed maturities increased from $103 million at December 31, 2007 to $670 million at June 30, 2008. We believe that such increase in unrealized losses is primarily attributable to general market conditions and the widening of credit
8
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note DFair Value Measurements (continued)
spreads reflected in corporate bond prices. During the first six months of 2008, the average spread on long-dated corporate bonds increased approximately 70 basis points while spreads on bonds in the financial sector increased more than 100 basis points. We do not believe that the increase in unrealized losses is attributable to a significant deterioration in the credit quality of our investment portfolio. Approximately 75% of the increase in unrealized losses is attributable to holdings for which there was no deterioration in rating during the period.
Also during the 2008 period, certain real estate holdings, measured on a nonrecurring special-event basis, were written down because the carrying values of these properties were not expected to be recoverable. The fair values were determined based on recent sales of similar properties (Level 2 observable inputs). The writedowns consisted of company-occupied property in the amount of $2.1 million ($1.4 million after tax) and investment real estate in the amount of $1.1 million ($.7 million after tax). The loss on company-occupied property was included in operating expenses and the loss on invested real estate was included as a realized investment loss.
Note EIncome Taxes
The effective income tax rate differed from the expected 35% rate as shown below:
Three Months Ended June 30, |
Six Months Ended June 30, |
|||||||||||||||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||||||||||||||
Amount | % | Amount | % | Amount | % | Amount | % | |||||||||||||||||||||
Expected income taxes |
$ | 64,612 | 35.0 | $ | 67,213 | 35.0 | $ | 127,063 | 35.0 | $ | 138,716 | 35.0 | ||||||||||||||||
Increase (reduction) in income taxes resulting from: |
||||||||||||||||||||||||||||
Tax-exempt investment income |
(1,055 | ) | (.6 | ) | (1,103 | ) | (.6 | ) | (2,118 | ) | (.6 | ) | (1,609 | ) | (.4 | ) | ||||||||||||
Tax settlements |
(11,469 | ) | (6.2 | ) | (128 | ) | (.1 | ) | (11,287 | ) | (3.1 | ) | (255 | ) | (.1 | ) | ||||||||||||
Low income housing investments |
(1,287 | ) | (.7 | ) | (1,246 | ) | (.6 | ) | (2,574 | ) | (.7 | ) | (2,492 | ) | (.6 | ) | ||||||||||||
Other |
79 | .1 | 184 | .1 | 53 | .0 | (336 | ) | (.1 | ) | ||||||||||||||||||
Income tax expense |
$ | 50,880 | 27.6 | $ | 64,920 | 33.8 | $ | 111,137 | 30.6 | $ | 134,024 | 33.8 | ||||||||||||||||
9
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note EIncome Taxes (continued)
The effective income tax rates for the three and six months periods ended June 30, 2008 differed from the effective income tax rates for the same periods ended June 30, 2007 primarily as a result of tax settlements with Canadian income tax authorities. These authorities had proposed certain adjustments with respect to their examination of Torchmarks tax returns through 2002. Torchmark filed an appeal with the Tax Court of Canada which ruled in Torchmarks favor in May of 2008.
Note FBusiness Segments
Torchmark is comprised of life insurance companies which market primarily individual life and supplemental health insurance products through niche distribution systems to middle income Americans. To a limited extent, the Company also markets annuities. Torchmarks core operations are insurance marketing and underwriting, and management of its investments. Insurance marketing and underwriting is segmented by the types of insurance products offered: life, health, and annuity. Managements measure of profitability for each insurance segment is insurance underwriting margin, which is underwriting income before other income and insurance administrative expenses. It represents the profit margin on insurance products before administrative expenses, and is calculated by deducting net policy obligations, commissions and other acquisition expenses from premium revenue. Torchmark further views the profitability of each insurance product segment by the marketing groups that distribute the products of that segment: direct response, independent, or captive/career agencies.
The investment segment includes the management of the investment portfolio, debt, and cash flow. Managements measure of profitability for this segment is excess investment income, which is the income earned on the investment portfolio less the interest credited on net policy liabilities and financing costs. Financing costs include the interest on Torchmarks debt. Other income and insurance administrative expense are classified in a separate Other segment.
As noted, Torchmarks core operations are insurance and investment management. The insurance segments issue policies for which premiums are collected for the eventual payment of policy benefits. In addition to policy benefits, operating expenses are incurred including acquisition costs, administrative expenses, and taxes. Because life and health contracts can be long term, premium receipts in excess of current expenses are invested. Investment activities, conducted by the Investment segment, focus on seeking quality investments with a yield and term appropriate to support the insurance product obligations. These investments generally consist of fixed maturities, and, over the long
10
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note FBusiness Segments (continued)
term, the expected yields are taken into account when setting insurance premium rates and product profitability expectations. As a result, fixed maturities are generally held for long periods to support the liabilities, and Torchmark generally expects to hold investments until maturity. Dispositions of investments occur from time to time, generally as a result of credit deterioration, calls by issuers, or other factors usually beyond the control of management. Dispositions are also sometimes required in order to maintain the Companys investment policies and objectives. Torchmark does not actively trade investments for profit. As a result, realized gains and losses from the disposition of investments are incidental to operations and are not considered in insurance pricing or product profitability. While from time to time these realized gains and losses could be material to net income in the period in which they occur, they have an immaterial effect on the yield of the total investment portfolio. Further, because the proceeds of the disposals are reinvested in the portfolio, the disposals have little effect on the size of the portfolio and the income from the reinvestments is included in net investment income. Therefore, management removes realized investment gains and losses from results of core operations when evaluating the performance of the Company. For this reason, these gains and losses are excluded from Torchmarks operating segments.
Torchmark accounts for its stock options and restricted stock under current accounting guidance requiring stock options and stock grants to be expensed based on fair value at the time of grant. Management considers stock compensation expense to be an expense of the Parent Company. Therefore, stock compensation expense is treated as a Corporate expense in Torchmarks segment analysis.
Torchmark provides coverage under the Medicare Part D prescription drug plan for Medicare beneficiaries. In accordance with GAAP, Part D premiums are recognized evenly throughout the year when they become due but benefit costs are recognized when the costs are incurred. Due to the design of the Part D product, premiums are evenly distributed throughout the year, but benefit costs are much higher earlier in the year. As a result, under GAAP, benefit costs can exceed premiums in the first part of the year, but be less than premiums during the remainder of the year. For segment reporting purposes, Torchmark has elected to defer $23 million excess benefits incurred in the first six months of 2008 to the remainder of the year in order to more closely match the benefit cost with the associated revenue. In the 2007 six-month period, $27 million in excess benefits were deferred. For the full year of 2007, the total premiums and benefits were the same under this alternative method as they were under GAAP and are expected to be so in 2008. The Companys presentation results in the underwriting margin percentage of each interim period reflecting the expected margin percentage for the full year. In addition, GAAP recognizes in each quarter a government risk-sharing premium adjustment consistent with
11
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note FBusiness Segments (Continued)
the contract as if the quarter represented an entire contract period. Torchmark did not include this $6 million GAAP adjustment in the first six months of 2008 or the comparable $19 million adjustment in the first six months of 2007 for segment reporting purposes. These adjustments were removed because these contract payments are based upon the experience of the full contract year, not the experience of interim periods. The 2008 reduction in the risk-sharing premium resulted from scheduled changes to the Centers of Medicare and Medicaid Services (CMS) risk-share formula and refinements to the Companys estimate of interim risk-share premium adjustments on certain product enhancements which had the effect of accelerating claim payments. For the entire year, we expect our benefit ratio to be in line with the prior year and we do not expect to receive any government risk-sharing premium. The difference between the interim results as presented for segment purposes and GAAP is a charge of $16.5 million in 2008 ($10.7 million after tax) and $7.3 million in 2007 ($4.7 million after tax).
The Company recorded a $10.1 million settlement benefit related to prior years during the second quarter of 2008 which primarily resulted from the favorable resolution of litigation concerning tax liabilities asserted by Canadian tax authorities covering several years. More information on this tax settlement is provided in Note EIncome Taxes in the Notes to Consolidated Financial Statements. The Company also benefited from $701 thousand in U.S. Federal income tax issues related to prior years settled in the first six months of 2007. Torchmark received a pre-tax litigation settlement, net of expenses, of $1.3 million ($.9 million after tax) in 2008 and $344 thousand ($224 thousand after tax) in 2007 from litigation concerning an investment owned and disposed of several years ago. Legal costs relating to litigation issues arising in prior periods of $849 thousand were expensed in 2007 ($552 thousand after tax). Management removes issues related to prior periods such as these when analyzing its ongoing core results.
A Torchmark subsidiary began a program in late 2006 to dispose of its agency office buildings, replacing them with rental facilities. Because of the scale of this nonoperating program in 2007, $2.8 million of gain from the sales ($1.8 million after tax) did not apply to 2007 core results and were removed for segment purposes. These gains are included in Other income in the Consolidated Statements of Operations. In 2008, gains from these sales were immaterial as this program is drawing to a close. The 2008 one-time writedown of Company-occupied real estate described in Note D in the amount of $2.1 million ($1.4 million after tax) was not related to the Companys core results and was also removed from segment results.
The following tables total the components of Torchmarks operating segments and reconcile these operating results to its pretax income and each significant line item in its Consolidated Statements of Operations.
12
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note FBusiness Segments (continued)
Reconciliation of Segment Operating Information to the Consolidated Statement of Operations
For the six months ended June 30, 2008 | ||||||||||||||||||||||||||||
Life | Health | Annuity | Investment | Other & Corporate |
Adjustments | Consolidated | ||||||||||||||||||||||
Revenue: |
||||||||||||||||||||||||||||
Premium |
$ | 809,440 | $ | 586,635 | $ | 7,809 | $ | 6,113 | (1) | $ | 1,409,997 | |||||||||||||||||
Net investment income |
$ | 334,597 | 132 | (2) | 334,729 | |||||||||||||||||||||||
Other income |
$ | 1,870 | 991 | (4,5,6) | 2,861 | |||||||||||||||||||||||
Total revenue |
809,440 | 586,635 | 7,809 | 334,597 | 1,870 | 7,236 | 1,747,587 | |||||||||||||||||||||
Expenses: |
||||||||||||||||||||||||||||
Policy benefits |
541,202 | 395,989 | 15,965 | 22,643 | (1) | 975,799 | ||||||||||||||||||||||
Required interest on net reserves |
(202,302 | ) | (15,460 | ) | (17,523 | ) | 235,285 | 0 | ||||||||||||||||||||
Amortization of acquisition costs |
221,639 | 66,498 | 7,169 | (99,034 | ) | 196,272 | ||||||||||||||||||||||
Commissions and premium tax |
37,186 | 40,090 | 99 | (571 | ) (4) | 76,804 | ||||||||||||||||||||||
Insurance administrative expense(3) |
77,962 | 2,129 | (7) | 80,091 | ||||||||||||||||||||||||
Parent expense |
4,352 | 4,352 | ||||||||||||||||||||||||||
Stock compensation expense |
5,581 | 5,581 | ||||||||||||||||||||||||||
Financing costs: |
||||||||||||||||||||||||||||
Debt |
30,858 | 132 | (2) | 30,990 | ||||||||||||||||||||||||
Total expenses |
597,725 | 487,117 | 5,710 | 167,109 | 87,895 | 24,333 | 1,369,889 | |||||||||||||||||||||
Subtotal |
211,715 | 99,518 | 2,099 | 167,488 | (86,025 | ) | (17,097 | ) | 377,698 | |||||||||||||||||||
Nonoperating items |
17,097 | (1,5,6,7) | 17,097 | |||||||||||||||||||||||||
Measure of segment profitability (pretax) |
$ | 211,715 | $ | 99,518 | $ | 2,099 | $ | 167,488 | $ | (86,025 | ) | $ | 0 | 394,795 | ||||||||||||||
Deduct applicable income taxes |
|
(132,359 | ) | |||||||||||||||||||||||||
Segment profits after tax |
|
262,436 | ||||||||||||||||||||||||||
Add back income taxes applicable to segment profitability |
|
132,359 | ||||||||||||||||||||||||||
Add (deduct) realized investment gains (losses) |
|
(14,662 | ) | |||||||||||||||||||||||||
Add (deduct) net costs from legal settlements (5) |
|
1,337 | ||||||||||||||||||||||||||
Deduct Part D adjustment (1) |
|
(16,530 | ) | |||||||||||||||||||||||||
Add gain from sale of agency buildings (6) |
|
225 | ||||||||||||||||||||||||||
Deduct loss on company-occupied property (7) |
|
(2,129 | ) | |||||||||||||||||||||||||
Pretax income per Consolidated Statement of Operations |
|
$ | 363,036 | |||||||||||||||||||||||||
(1) | Medicare Part D items adjusted to GAAP from the segment analysis, which matches expected benefits with policy premium. |
(2) | Reclassification of interest amount due to FIN46R (accounting rule requiring deconsolidaton of Trust Preferred Securities). Management views the Trust Preferreds as consolidated debt. |
(3) | Administrative expense is not allocated to insurance segments. |
(4) | Elimination of intersegment commission. |
(5) | Legal settlements. |
(6) | Gain from sale of agency buildings. |
(7) | Loss on company-occupied property. |
13
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note FBusiness Segments (continued)
Reconciliation of Segment Operating Information to the Consolidated Statement of Operations
For the six months ended June 30, 2007 | ||||||||||||||||||||||||||||
Life | Health | Annuity | Investment | Other & Corporate |
Adjustments | Consolidated | ||||||||||||||||||||||
Revenue: |
||||||||||||||||||||||||||||
Premium |
$ | 783,758 | $ | 633,660 | $ | 10,419 | $ | 19,372 | (1) | $ | 1,447,209 | |||||||||||||||||
Net investment income |
$ | 323,177 | 132 | (2) | 323,309 | |||||||||||||||||||||||
Other income |
$ | 2,266 | 2,539 | (4,5,6) | 4,805 | |||||||||||||||||||||||
Total revenue |
783,758 | 633,660 | 10,419 | 323,177 | 2,266 | 22,043 | 1,775,323 | |||||||||||||||||||||
Expenses: |
||||||||||||||||||||||||||||
Policy benefits |
522,503 | 430,357 | 14,245 | 26,647 | (1) | 993,752 | ||||||||||||||||||||||
Required interest on net reserves |
(190,995 | ) | (13,826 | ) | (15,456 | ) | 220,277 | 0 | ||||||||||||||||||||
Amortization of acquisition costs |
212,813 | 69,419 | 6,219 | (93,871 | ) | 194,580 | ||||||||||||||||||||||
Commissions and premium tax |
36,213 | 43,277 | 76 | (571 | ) (4) | 78,995 | ||||||||||||||||||||||
Insurance administrative expense (3) |
75,594 | 849 | (5) | 76,443 | ||||||||||||||||||||||||
Parent expense |
4,354 | 4,354 | ||||||||||||||||||||||||||
Stock compensation expense |
4,290 | 4,290 | ||||||||||||||||||||||||||
Financing costs: |
||||||||||||||||||||||||||||
Debt |
33,666 | 132 | (2) | 33,798 | ||||||||||||||||||||||||
Total expenses |
580,534 | 529,227 | 5,084 | 160,072 | 84,238 | 27,057 | 1,386,212 | |||||||||||||||||||||
Subtotal |
203,224 | 104,433 | 5,335 | 163,105 | (81,972 | ) | (5,014 | ) | 389,111 | |||||||||||||||||||
Nonoperating items |
5,014 | (1,5,6) | 5,014 | |||||||||||||||||||||||||
Measure of segment profitability (pretax) |
$ | 203,224 | $ | 104,433 | $ | 5,335 | $ | 163,105 | $ | (81,972 | ) | $ | 0 | 394,125 | ||||||||||||||
Deduct applicable income taxes |
|
(133,953 | ) | |||||||||||||||||||||||||
Segment profits after tax |
|
260,172 | ||||||||||||||||||||||||||
Add back income taxes applicable to segment profitability |
|
133,953 | ||||||||||||||||||||||||||
Add (deduct) realized investment gains (losses) |
|
7,221 | ||||||||||||||||||||||||||
Add (deduct) net proceeds from legal settlements (5) |
|
(505 | ) | |||||||||||||||||||||||||
Deduct Part D adjustment (1) |
|
(7,275 | ) | |||||||||||||||||||||||||
Add gain from sale of agency buildings (6) |
|
2,766 | ||||||||||||||||||||||||||
Pretax income per Consolidated Statement of Operations |
|
$ | 396,332 | |||||||||||||||||||||||||
(1) | Medicare Part D items adjusted to GAAP from the segment analysis, which matches expected benefits with policy premium. |
(2) | Reclassification of interest amount due to FIN46R (accounting rule requiring deconsolidaton of Trust Preferred Securities). Management views the Trust Preferreds as consolidated debt. |
(3) | Administrative expense is not allocated to insurance segments. |
(4) | Elimination of intersegment commission. |
(5) | Legal settlements related to disposed subsidiary. |
(6) | Gain from sale of agency buildings. |
14
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSCONTINUED
(UNAUDITED)
(Dollar amounts in thousands except per share data)
Note FBusiness Segments (continued)
The following table summarizes the measures of segment profitability for comparison. It also reconciles segment profits to net income.
Analysis of Profitability by Segment
(Dollar amounts in thousands)
Six months ended June 30, |
Increase (Decrease) |
||||||||||||||
2008 | 2007 | Amount | % | ||||||||||||
Life insurance |
$ | 211,715 | $ | 203,224 | $ | 8,491 | 4 | ||||||||
Health insurance |
99,518 | 104,433 | (4,915 | ) | (5 | ) | |||||||||
Annuity |
2,099 | 5,335 | (3,236 | ) | (61 | ) | |||||||||
Other: |
|||||||||||||||
Other income |
1,870 | 2,266 | (396 | ) | (17 | ) | |||||||||
Administrative expense |
(77,962 | ) | (75,594 | ) | (2,368 | ) | 3 | ||||||||
Investment |
167,488 | 163,105 | 4,383 | 3 | |||||||||||
Corporate and adjustments |
(9,933 | ) | (8,644 | ) | (1,289 | ) | 15 | ||||||||
Pretax total |
394,795 | 394,125 | 670 | 0 | |||||||||||
Applicable taxes |
(132,359 | ) | (133,953 | ) | 1,594 | (1 | ) | ||||||||
After-tax total |
262,436 | 260,172 | 2,264 | 1 | |||||||||||
Reconciling items: |
|||||||||||||||
Realized gains (losses) (after tax) |
(9,530 | ) | 4,694 | (14,224 | ) | ||||||||||
Part D adjustment (after tax) |
(10,744 | ) | (4,729 | ) | (6,015 | ) | |||||||||
Tax settlements from issues related to prior years |
10,106 | 701 | 9,405 | ||||||||||||
Net proceeds (costs) of legal settlements (after tax) |
869 | (328 | ) | 1,197 | |||||||||||
Gain on sale of agency buildings (after tax) |
146 | 1,798 | (1,652 | ) | |||||||||||
Loss on company-occupied property (after tax) |
(1,384 | ) | 0 | (1,384 | ) | ||||||||||
Net income |
$ | 251,899 | $ | 262,308 | $ | (10,409 | ) | (4 | ) | ||||||
15
Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations |
Results of Operations
Summary of Operations. Torchmarks operations are segmented into its insurance underwriting and investment operations as described in Note FBusiness Segments. The measures of profitability described in Note F are useful in evaluating the performance of the segments and the marketing groups within each insurance segment, because each of our distribution units operates in a niche market. These measures enable management to view period-to-period trends, and to make informed decisions regarding future courses of action.
The tables in Note FBusiness Segments demonstrate how the measures of profitability are determined. Those tables also reconcile our revenues and expenses by segment to major income statement line items for the six-month periods ended June 30, 2008 and 2007. Additionally, this note provides a summary of the profitability measures that demonstrates year-to-year comparability and which reconciles those measures to our net income. That summary is reproduced below from the Consolidated Financial Statements to present our overall operations in the manner that management views the business.
Analysis of Profitability by Segment
(Dollar amounts in thousands)
Six months ended June 30, |
Increase (Decrease) |
||||||||||||||
2008 | 2007 | Amount | % | ||||||||||||
Life insurance |
$ | 211,715 | $ | 203,224 | $ | 8,491 | 4 | ||||||||
Health insurance |
99,518 | 104,433 | (4,915 | ) | (5 | ) | |||||||||
Annuity |
2,099 | 5,335 | (3,236 | ) | (61 | ) | |||||||||
Other: |
|||||||||||||||
Other income |
1,870 | 2,266 | (396 | ) | (17 | ) | |||||||||
Administrative expense |
(77,962 | ) | (75,594 | ) | (2,368 | ) | 3 | ||||||||
Investment |
167,488 | 163,105 | 4,383 | 3 | |||||||||||
Corporate and adjustments |
(9,933 | ) | (8,644 | ) | (1,289 | ) | 15 | ||||||||
Pretax total |
394,795 | 394,125 | 670 | 0 | |||||||||||
Applicable taxes |
(132,359 | ) | (133,953 | ) | 1,594 | (1 | ) | ||||||||
After-tax total |
262,436 | 260,172 | 2,264 | 1 | |||||||||||
Reconciling items: |
|||||||||||||||
Realized gains (losses) (after tax) |
(9,530 | ) | 4,694 | (14,224 | ) | ||||||||||
Part D adjustment (after tax) |
(10,744 | ) | (4,729 | ) | (6,015 | ) | |||||||||
Tax settlements from issues related to prior years |
10,106 | 701 | 9,405 | ||||||||||||
Net proceeds (costs) from legal settlements (after tax) |
869 | (328 | ) | 1,197 | |||||||||||
Gain on sale of agency buildings (after tax) |
146 | 1,798 | (1,652 | ) | |||||||||||
Loss on company-occupied property (after tax) |
(1,384 | ) | 0 | (1,384 | ) | ||||||||||
Net income |
$ | 251,899 | $ | 262,308 | $ | (10,409 | ) | (4 | ) | ||||||
16
A discussion of operations by each segment follows later in this report. These discussions compare the first six months of 2008 with the same period of 2007, unless otherwise noted.
Highlights, comparing the first six months of 2008 with the first six months of 2007. Net income per diluted share rose 3% to $2.76. Included in net income are after-tax realized investment losses of $.10 per share in 2008 compared with net gains of $.05 per share in 2007. Additionally, as explained in Note FBusiness Segments, differences in our estimate of interim results for Medicare Part D as we view this product for segment purposes and GAAP resulted in a $11 million after-tax charge to 2008 earnings or $.12 per share, compared with a charge of $5 million after-tax or $.05 per share in the prior period. Because we expect our 2008 benefit ratios to be approximately the same as those of 2007, these differences should diminish by year end 2008.
We use two statistical measures as indicators of product sales: net sales and first-year collected premium. Net sales is defined as annualized premium issued, net of cancellations in the first thirty days after issue, except for Direct Response, where net sales is annualized premium issued at the time the first full premium is paid after any introductory offer has expired. Annualized premium issued is the gross premium that would be received during the policies first year in force, assuming that none of the policies lapsed or terminated. Although lapses and terminations will occur, we believe that net sales is a useful indicator of the rate of acceleration of premium growth. First-year collected premium is the premium collected during the reporting period for all policies in their first policy year. First-year collected premium takes lapses into account in the first policy year when lapses are more likely to occur, and thus is a useful indicator of how much new premium is expected to be added to premium income in the future.
Total premium income declined 3% for the six months to $1.4 billion, as health premium declined 9%. Total net sales, excluding Medicare Part D net sales, declined 11% to $226 million. Also excluding Part D, first-year collected premium declined 8% to $182 million for the period.
Life insurance premium income grew 3% to $809 million. Life net sales increased in each of Torchmarks major distribution groups, increasing 13% in total to $147 million. First-year collected life premium increased 4% to $104 million. Life underwriting margins increased 4% to $212 million.
Health insurance premium income, excluding Medicare Part D premium, decreased 5% to $495 million. Health net sales, excluding Part D, declined 35% to $79 million, as a result of the increased turnover of agents in our United American (UA) Branch Office Agency. This Agency is a key distributor of our health products, but has been facing increased competition in recent periods. First-year collected health premium, excluding Part D, declined 20% to $78 million. Underwriting income of $89 million remained at 18% of premium in 2008. We are addressing the turnover in the UA Branch Office Agency by offering the agents new lines of products with new compensation incentives focused on marketing these products.
17
Our Medicare Part D prescription drug business is a component of the health insurance segment. A reconciliation between how management views Medicare Part D business and GAAP is found under the caption Medicare Part D in this report. In the manner we view our Medicare Part D business as described in Note FBusiness Segments, policyholder premium was $91 million in 2008, a decrease of 17%. Underwriting income declined 7% to $10 million.
Excess investment income per diluted share increased 10% to $1.83, while excess investment income increased 3% to $167 million. Net investment income increased 4% or $11 million, but was partially offset by a $10 million increase in interest cost on net insurance policy liabilities. Investment income was also impacted by our additional investment in 2007 of $256 million in tax-exempt fixed maturities, which reduced net investment income but also effectively reduced taxes. Financing costs declined in the period primarily as a result of lower short-term rates and a lower balance outstanding on our commercial paper facility.
In recent periods, because new investments of suitable quality have only been available at lower rates, we could only invest at yields below our portfolio average. In the 2008 six months, however, we invested new money at an effective annual yield on new investments of 7.17%, the highest yield available on suitable investments in over five years. This yield compares with an average portfolio yield of 6.97% (at June 30, 2008). The fixed-maturity portfolio at fair value accounted for 94% of total investments at June 30, 2008.
We have an on-going share repurchase program which began in 1986 and was reaffirmed at the July 26, 2007 Board of Directors meeting. With no specified authorization amount, we determine the amount of repurchases based on the amount of our excess cash flow, general market conditions, and other alternative uses. In the first half of 2008, we acquired 4.1 million shares of the Companys common stock in the open market at a cost of $246 million ($60.03 average price per share). Of the $246 million, $235 million was from excess operating cash flow, which was used to repurchase 3.9 million shares, and $11 million was from the cash received from stock option exercises by current and former employees. Proceeds from these option exercises were used to repurchase 180 thousand shares in order to offset dilution from the exercises.
A detailed discussion of our operations by component segment follows.
18
Life insurance, comparing the first six months of 2008 with the first six months of 2007. Life insurance is our predominant segment, representing 57% of premium income and 68% of insurance underwriting margin in the first six months of 2008. In addition, investments supporting the reserves for life business generate the majority of excess investment income attributable to the Investment segment. Life insurance premium income increased 3% to $809 million. The following table presents Torchmarks life insurance premium by distribution method.
Life Insurance
Premium by Distribution Method
(Dollar amounts in thousands)
Six months ended June 30, | Increase (Decrease) |
||||||||||||||||
2008 | 2007 | ||||||||||||||||
Amount | % of Total |
Amount | % of Total |
Amount | % | ||||||||||||
Direct Response |
$ | 257,887 | 32 | $ | 243,363 | 31 | $ | 14,524 | 6 | ||||||||
American Income Exclusive Agency |
234,266 | 29 | 215,405 | 27 | 18,861 | 9 | |||||||||||
Liberty National Exclusive Agency |
144,043 | 18 | 148,662 | 19 | (4,619 | ) | (3 | ) | |||||||||
Other Agencies |
173,244 | 21 | 176,328 | 23 | (3,084 | ) | (2 | ) | |||||||||
Total Life Premium |
$ | 809,440 | 100 | $ | 783,758 | 100 | $ | 25,682 | 3 | ||||||||
Net sales, defined earlier in this report as an indicator of new business production, grew 13% to $147 million. Each of our three primary distribution groups had growth in net sales. An analysis of life net sales by distribution group is presented below.
Life Insurance
Net Sales by Distribution Method
(Dollar amounts in thousands)
Six months ended June 30, | Increase (Decrease) |
||||||||||||||||
2008 | 2007 | ||||||||||||||||
Amount | % of Total |
Amount | % of Total |
Amount | % | ||||||||||||
Direct Response |
$ | 62,218 | 42 | $ | 57,644 | 44 | $ | 4,574 | 8 | ||||||||
American Income Exclusive Agency |
52,002 | 36 | 43,661 | 34 | 8,341 | 19 | |||||||||||
Liberty National Exclusive Agency |
22,167 | 15 | 17,806 | 14 | 4,361 | 24 | |||||||||||
Other Agencies |
10,122 | 7 | 10,693 | 8 | (571 | ) | (5 | ) | |||||||||
Total Life Net Sales |
$ | 146,509 | 100 | $ | 129,804 | 100 | $ | 16,705 | 13 | ||||||||
19
First-year collected life premium, defined earlier in this report, was $104 million in the 2008 period, rising 4% over the prior-year period. First-year collected life premium by distribution group is presented in the table below.
Life Insurance
First-Year Collected Premium by Distribution Method
(Dollar amounts in thousands)
Six months ended June 30, | Increase (Decrease) |
||||||||||||||||
2008 | 2007 | ||||||||||||||||
Amount | % of Total |
Amount | % of Total |
Amount | % | ||||||||||||
Direct Response |
$ | 40,980 | 39 | $ | 38,429 | 39 | $ | 2,551 | 7 | ||||||||
American Income Exclusive Agency |
39,745 | 38 | 36,417 | 36 | 3,328 | 9 | |||||||||||
Liberty National Exclusive Agency |
14,201 | 14 | 15,195 | 15 | (994 | ) | (7 | ) | |||||||||
Other Agencies |
8,842 | 9 | 9,737 | 10 | (895 | ) | (9 | ) | |||||||||
Total |
$ | 103,768 | 100 | $ | 99,778 | 100 | $ | 3,990 | 4 | ||||||||
The Direct Response operation consists of two primary components: direct mail and insert media. Direct mail targets primarily young middle-income households with children. The juvenile life insurance policy is a key product. Not only is the juvenile market an important source of sales, but it also is a vehicle to reach the parents and grandparents of the juvenile policyholders. Parents and grandparents of these juvenile policyholders are more likely to respond favorably to a Direct Response solicitation for life coverage on themselves than is the general adult population. Also, both the juvenile policyholders and their parents are low acquisition-cost targets for sales of additional coverage over time. We expect that sales to this demographic group will continue as one of Direct Responses premier markets.
Insert media, which targets primarily the adult market, involves placing insurance solicitations as advertising inserts into a variety of media, such as coupon packets, newspapers, bank statements, and billings. This media was historically placed by Direct Marketing and Advertising Distributors, Inc. (DMAD), previously an unrelated entity with which we had a relationship for fifteen years. Over this period, the insert media component of this operation grew to represent over half of Direct Response net sales. We acquired DMAD in early 2007 and integrated their operations during that year. We believe that control of this insert media outlet has expanded Direct Responses marketing opportunities.
Direct Responses life premium income rose 6% to $258 million, representing 32% of Torchmarks total life premium, the largest contribution to premium of any distribution system. Net sales of $62 million rose 8% and first-year collected premium of $41 million rose 7% over the prior year period.
20
The American Income Exclusive Agency markets primarily to members of labor unions, but also to credit unions and other associations. This agency produced premium income of $234 million, an increase of 9%. American Incomes $19 million increase in life premium was the largest of any of Torchmarks agencies, accounting for 73% of Torchmarks total life premium growth. Net sales increased 19% to $52 million while first-year collected premium rose 9% to $40 million. Growth in sales in our captive agencies is highly dependent on growing the size of the agency force. The American Income agent count was 2,805 at June 30, 2008, 10% higher than at 2007 year end (2,545) and 17% greater than a year ago (2,403). The American Income agency continues to emphasize the recruiting and retention of new agents, focusing on an incentive program to reward growth in both recruiting and production.
The Liberty National Exclusive Agency markets life insurance to middle-income customers primarily in the Southeast. Life premium income was $144 million, compared with $149 million in the 2007 period, a 3% decline. Libertys net sales increased 24% to $22 million, the largest percentage gain of any life distribution group. First-year collected premium declined 7% to $14 million. The increase in net sales, a lead indicator, is indicative of the recent reversal of a downward trend in the size of this agency, as the agent count has begun to rise significantly since year-end 2006. The Liberty Agency had 3,189 producing agents at June 30, 2008, compared with 1,939 a year earlier, an increase of 64%. Prior to 2007, Liberty had experienced a steep decline in agent count as a result of organizational changes implemented in 2006, involving a reorganization of this agencys marketing leadership and a restructuring of its agent compensation system to provide greater sales incentives and to establish production minimums for agents. These changes led to terminations and resignations of agents not meeting these production minimums. While these changes led to a decline in agent count and sales, they resulted in improved margins and lowered insurance administrative expenses. Management believes that the production incentives and rewards of this compensation system have allowed the Agency to attract more successful agents and that these changes will result in a more productive agency over the long term.
The Other Agencies distribution systems offering life insurance include the Military Agency, the UA Independent and Branch Office Agencies (both of which predominately write health insurance), United Investors, and various minor distribution channels. The Other Agencies distribution group contributed $173 million of life premium income, or 21% of Torchmarks total in the 2008 period, but contributed only 7% of net sales.
21
Life Insurance
Summary of Results
(Dollar amounts in thousands)
Six months ended June 30, | Increase | ||||||||||||||
2008 | 2007 | ||||||||||||||
Amount | % of Premium |
Amount | % of Premium |
Amount | % | ||||||||||
Premium and policy charges |
$ | 809,440 | 100 | $ | 783,758 | 100 | $ | 25,682 | 3 | ||||||
Net policy obligations |
338,900 | 42 | 331,508 | 42 | 7,392 | 2 | |||||||||
Commissions and acquisition expense |
258,825 | 32 | 249,026 | 32 | 9,799 | 4 | |||||||||
Insurance underwriting income before other income and administrative expense |
$ | 211,715 | 26 | $ | 203,224 | 26 | $ | 8,491 | 4 | ||||||
Life insurance underwriting income before insurance administrative expense was $212 million, increasing 4%. This margin growth was caused by a combination of premium growth and by a reduction in American Incomes obligation ratios in 2008. As a percentage of life premium, underwriting margin remained steady at 26%.
Health insurance, comparing the first six months of 2008 with the first six months of 2007. Health premium accounted for 42% of our total premium in the 2008 period, while the health underwriting margin accounted for 32% of total underwriting margin, reflective of the lower underwriting margin as a percent of premium for health compared with life insurance. Our health products are supplemental health plans that include a variety of limited-benefit health plans including hospital/surgical, cancer and accident plans sold to customers under age 65, as well as Medicare Supplements sold to Medicare enrollees. We also provide coverage under the Medicare Part D prescription plan. Medicare Part D business is shown as a separate health component and will be discussed separately in the analysis of the health segment.
As explained in Note FBusiness Segments, management does not view the government risk-sharing premium for Medicare Part D as a component of premium income. Excluding this risk-sharing premium, health insurance premium for the 2008 period was $587 million, declining 7%. Excluding all Medicare Part D premium, health premium was $495 million, a 5% decline over the prior period. A reconciliation between segment reporting for Part D and GAAP is presented and discussed under the caption Medicare Part D in this report.
22
The table below is an analysis of our health premium by distribution method.
Health Insurance
Premium by Distribution Method
(Dollar amounts in thousands)
Six months ended June 30, | Increase (Decrease) |
||||||||||||||||
2008 | 2007 | ||||||||||||||||
Amount | % of Total |
Amount | % of Total |
Amount | % | ||||||||||||
United American Independent Agency |
$ | 185,596 | 37 | $ | 202,016 | 39 | $ | (16,420 | ) | (8 | ) | ||||||
United American Branch Office Agency |
182,463 | 37 | 194,369 | 37 | (11,906 | ) | (6 | ) | |||||||||
Liberty National Exclusive Agency |
68,185 | 14 | 71,884 | 14 | (3,699 | ) | (5 | ) | |||||||||
American Income Exclusive Agency |
36,392 | 7 | 34,244 | 6 | 2,148 | 6 | |||||||||||
Direct Response |
22,859 | 5 | 21,360 | 4 | 1,499 | 7 | |||||||||||
Subtotal |
495,495 | 100 | 523,873 | 100 | (28,378 | ) | (5 | ) | |||||||||
Medicare Part D |
91,140 | 109,787 | (18,647 | ) | (17 | ) | |||||||||||
Total Health Premium* |
$ | 586,635 | $ | 633,660 | $ | (47,025 | ) | (7 | ) | ||||||||
* | Health premium per the segment analysis will not agree with health premium on the Consolidated Statement of Operations because of the Part D government risk-sharing premium adjustment, explained in Note F Business Segments. |
Presented below is a table of health net sales by distribution method.
Health Insurance
Net Sales by Distribution Method
(Dollar amounts in thousands)
Six months ended June 30, | Increase | ||||||||||||||||
2008 | 2007 | (Decrease) | |||||||||||||||
Amount | % of Total |
Amount | % of Total |
Amount | % | ||||||||||||
United American Branch Office Agency |
$ | 45,881 | 58 | $ | 86,264 | 70 | $ | (40,383 | ) | (47 | ) | ||||||
United American Independent Agency |
19,592 | 25 | 23,367 | 19 | (3,775 | ) | (16 | ) | |||||||||
American Income Exclusive Agency |
5,894 | 7 | 5,338 | 4 | 556 | 10 | |||||||||||
Liberty National Exclusive Agency |
5,232 | 7 | 4,627 | 4 | 605 | 13 | |||||||||||
Direct Response |
2,801 | 3 | 3,174 | 3 | (373 | ) | (12 | ) | |||||||||
Subtotal |
79,400 | 100 | 122,770 | 100 | (43,370 | ) | (35 | ) | |||||||||
Medicare Part D* |
10,607 | 13,909 | (3,302 | ) | (24 | ) | |||||||||||
Total Health Net Sales |
$ | 90,007 | $ | 136,679 | $ | (46,672 | ) | (34 | ) | ||||||||
* | Net sales for Medicare Part D represents only new first-time enrollees. Net sales for Medicare Part D in 2007 were restated for comparability. |
23
The following table presents health insurance first-year collected premium by distribution method.
Health Insurance
First-Year Collected Premium by Distribution Method
(Dollar amounts in thousands)
Six months ended June 30, | Increase (Decrease) |
||||||||||||||||
2008 | 2007 | ||||||||||||||||
Amount | % of Total |
Amount | % of Total |
Amount | % | ||||||||||||
United American Branch Office Agency |
$ | 47,759 | 61 | $ | 64,231 | 66 | $ | (16,472 | ) | (26 | ) | ||||||
United American Independent Agency |
18,486 | 24 | 20,743 | 21 | (2,257 | ) | (11 | ) | |||||||||
American Income Exclusive Agency |
5,813 | 7 | 5,920 | 6 | (107 | ) | (2 | ) | |||||||||
Liberty National Exclusive Agency |
3,931 | 5 | 4,412 | 4 | (481 | ) | (11 | ) | |||||||||
Direct Response |
2,299 | 3 | 2,618 | 3 | (319 | ) | (12 | ) | |||||||||
Subtotal |
78,288 | 100 | 97,924 | 100 | (19,636 | ) | (20 | ) | |||||||||
Medicare Part D* |
8,396 | 41,332 | (32,936 | ) | (80 | ) | |||||||||||
Total |
$ | 86,684 | $ | 139,256 | $ | (52,572 | ) | (38 | ) | ||||||||
* | First-year collected premium for Medicare Part D represents only premium collected from new first-time enrollees in their first policy year. |
Below is an analysis of health net sales by product type.
Health Insurance
Net Sales by Product Type
(Dollar amounts in thousands)
Six months ended June 30, | Increase (Decrease) |
||||||||||||||||
2008 | 2007 | ||||||||||||||||
Amount | % of Total |
Amount | % of Total |
Amount | % | ||||||||||||
Limited-benefit plans |
$ | 66,650 | 84 | $ | 108,643 | 88 | $ | (41,993 | ) | (39 | ) | ||||||
Medicare Supplement |
12,750 | 16 | 14,127 | 12 | (1,377 | ) | (10 | ) | |||||||||
Subtotal |
79,400 | 100 | 122,770 | 100 | (43,370 | ) | (35 | ) | |||||||||
Medicare Part D* |
10,607 | 13,909 | (3,302 | ) | (24 | ) | |||||||||||
Total |
$ | 90,007 | $ | 136,679 | $ | (46,672 | ) | (34 | ) | ||||||||
* | Net sales for Medicare Part D represents only new first-time enrollees. Net sales for Medicare Part D in 2007 were restated for comparability. |
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The following table is an additional presentation of first-year collected health premium by product type.
Health Insurance
First-Year Collected Premium by Product Type
(Dollar amounts in thousands)
Six months ended June 30, | Increase (Decrease) |
||||||||||||||||
2008 | 2007 | ||||||||||||||||
Amount | % of Total |
Amount | % of Total |
Amount% | % | ||||||||||||
Limited-benefit plans |
$ | 64,763 | 83 | $ | 83,439 | 85 | $ | (18,676 | ) | (22 | ) | ||||||
Medicare Supplement |
13,525 | 17 | 14,485 | 15 | (960 | ) | (7 | ) | |||||||||
Subtotal |
78,288 | 100 | 97,924 | 100 | (19,636 | ) | (20 | ) | |||||||||
Medicare Part D* |
8,396 | 41,332 | (32,936 | ) | (80 | ) | |||||||||||
Total |
$ | 86,684 | $ | 139,256 | $ | (52,572 | ) | (38 | ) | ||||||||
* | First-year collected premium for Medicare Part D represents only premium collected from new first-tme enrollees in their first policy year. |
Health insurance, excluding Medicare Part D. In recent periods, we have emphasized the sale of limited-benefit health insurance products rather than Medicare Supplement insurance, as customer demand for the limited-benefit hospital/surgical plans has increased and price competition and decreased demand for Medicare Supplements have caused reduced sales of that product. Even though Medicare Supplement premium of $252 million in the 2008 period was slightly greater than our other health product premium of $244 million, the proportion of premium from other health products has increased. Medicare Supplement represented 51% of total health premium income for the first six months of 2008, compared with 52% a year earlier. However, net sales of limited-benefit plans were 84% of health sales in the 2008 period and 88% in the 2007 period, reflecting these plans dominance in new health product sales. Limited-benefit plan first-year collected premium accounted for 83% of collections in 2008 and 85% in 2007.
The United American (UA) Branch Office and Independent Agencies are the predominant distributors of Torchmarks health products, primarily limited-benefit hospital/surgical plans. These agencies accounted for $368 million or 74% of our 2008 health premium income, exclusive of Part D premium. In recent periods, the focus of these agencies has been toward an increased emphasis on limited-benefit hospital/surgical policies sold to customers under age 65, as increased consumer demand for under-age-65 supplemental health products has resulted from the growth in the number of Americans without health insurance.
The UA Branch Office is a captive agency which focuses on sales of limited-benefit hospital/surgical plans. The UA Branch Office Agency accounted for $182 million or 37% of health premium, excluding Part D. Health premium in this agency declined 6% for the six months. This agency is Torchmarks leading agency in health net sales at $46 million
25
for the 2008 period, representing 58% of Company health net sales. However, net sales for the period declined 47% compared with the prior year and first-year collected premium fell 26% over the same period to $48 million. As is the case with all of our captive agency forces, growing the number of productive agents is critical to the growth in sales. In 2007, this agency had ongoing recruiting initiatives, resulting in growth during most of that year. The agent count was 3,252 at June 30, 2007, and rose to 3,346 agents at September 30, 2007. However, increased competition in this Agency along with expansion initiatives that were too rapid resulted in an increase in agent turnover beginning in late 2007. This turnover caused the agent count to fall during the remainder of 2007 and throughout 2008 to 2,306 agents as of June 30, 2008. This decline in agent count resulted in the 2008 declines in net sales and first-year collected premium. Efforts are underway to rebuild this Agency. Going forward, we are going to shift the emphasis in the UA Branch Office Agency to life and health products currently marketed by Liberty National agents. These products are priced to achieve higher profit margins than UAs limited benefit health insurance. We will continue to offer the current product portfolio, but the majority of our financial incentives will be used to encourage the selling of the Liberty National product line. We believe this will improve the stability and profitability of the UA Branch Office Agency.
The UA Independent Agency consists of independent agencies appointed with Torchmark who also sell for other companies. The UA Independent Agency is Torchmarks largest carrier of Medicare Supplement insurance, with Medicare Supplement premium of $143 million for the 2008 period, representing approximately 57% of all Torchmark Medicare Supplement premium. However, sales and premium of this Agency have declined over the prior year. In the first six months of 2008, total net sales declined 16% to $20 million and total health premium fell 8% to $186 million.
Other agencies. Certain of our other distribution channels market health products, although their main emphasis is on life insurance. On a combined basis, they accounted for 26% of health premium in 2008 and 24% in 2007. The Liberty National Exclusive Agency, which accounted for 14% of 2008 health premium, markets primarily limited-benefit cancer products. The American Income Exclusive Agency also markets a variety of limited-benefit plans, primarily accident. The Direct Response group markets primarily Medicare Supplements to employer or union-sponsored groups. Direct Response is also involved in marketing Medicare Part D.
Medicare Part D. Coverage under Torchmarks Medicare Part D prescription drug plan for Medicare beneficiaries is marketed through our Direct Response organization and our UA Independent and Branch Agencies. As described in Note FBusiness Segments, we report our Medicare Part D business for segment analysis purposes as we view the business, in which expected full-year benefits are matched with the related premium income which is received evenly throughout the policy year. At this time, we have expensed benefits based on our expected benefit ratio of approximately 79.5% for the 2008 contract year. This ratio was 79.8% for the full year 2007. We describe the differences between the segment analysis and GAAP in Note F. Due to the design of the Medicare prescription drug product, claims are expected to be heaviest early in the calendar year. Management believes that the use of the full-year loss ratio is an
26
appropriate measure for interim results, and also that these reporting differences will arise only on an interim basis and will be eliminated at the end of a full year, as they did in the full year of 2007.
Medicare Part D underwriting results are summarized in the following chart, with corresponding adjustments for GAAP.
Medicare Part D
Summary of Medicare Part D Results
(Dollar amounts in thousands)
Six months ended June 30, 2008 | |||||||||||||
Per Segment Analysis |
% of Premium |
Adjustments | GAAP | ||||||||||
Premium |
$ | 91,140 | 100 | $ | 6,113 | (1) | $ | 97,253 | |||||
Policy obligations |
72,416 | 79 | 22,643 | (2) | 95,059 | ||||||||
Pharmacy Benefit Manager fees |
6,106 | 7 | 6,106 | ||||||||||
Amortization of acquisition costs |
2,281 | 3 | 2,281 | ||||||||||
Insurance underwriting income before other income and administrative expense |
$ | 10,337 | 11 | $ | (16,530 | ) | $ | (6,193 | ) | ||||
Six months ended June 30, 2007 | |||||||||||||
Per Segment Analysis |
% of Premium |
Adjustments | GAAP | ||||||||||
Premium |
$ | 109,787 | 100 | $ | 19,372 | (1) | $ | 129,159 | |||||
Policy obligations |
87,927 | 80 | 26,647 | (2) | 114,574 | ||||||||
Pharmacy Benefit Manager fees |
8,034 | 7 | 8,034 | ||||||||||
Amortization of acquisition costs |
2,746 | 3 | 2,746 | ||||||||||
Insurance underwriting income before other income and administrative expense |
$ | 11,080 | 10 | $ | (7,275 | ) | $ | 3,805 | |||||
(1) | Reflects a receivable from the Centers of Medicare & Medicaid Services (CMS) for risk sharing related to claims we paid in the first six months. This receivable is not recognized in the segment analysis because: |
- | The risk sharing adjustment, if any, will be based on contract year experience, not the experience of interim quarters, and |
- | We do not anticipate that there will be a risk-sharing adjustment for the 2008 contract year. There was no risk-sharing adjustment in the 2007 full contract year. |
(2) | Deferral of excess benefits incurred in earlier interim quarters to later quarters in order to more closely match the benefit cost with the associated revenue during the contract year. |
27
Medicare Part D premium was $91 million in 2008 compared with $110 million in 2007, after removal of the risk-sharing adjustment in both periods noted above. The decline was a result of a decrease in enrollees in our Part D program.
While we plan to continue to market our Medicare Part D product, we do not expect a high level of growth in this business in future periods. The number of enrollees in our Medicare Part D coverage is not expected to increase significantly, as most eligible enrollees chose a carrier when the program was initiated in 2006. Additionally, as this is a government-sponsored program, we believe that regulatory changes could alter the outlook for this market.
The following table presents underwriting margin data for health insurance.
Health Insurance
Summary of Results
(Dollar amounts in thousands)
Six months ended June 30, 2008 | |||||||||||||||
Health * | % of Premium |
Medicare Part D |
% of Premium |
Total Health |
% of Premium | ||||||||||
Premium and policy charges |
$ | 495,495 | 100 | $ | 91,140 | 100 | $ | 586,635 | 100 | ||||||
Net policy obligations |
308,113 | 62 | 72,416 | 80 | 380,529 | 65 | |||||||||
Commissons and acquisition expense |
98,201 | 20 | 8,387 | 9 | 106,588 | 18 | |||||||||
Insurance underwriting income before other income and administrative expense |
$ | 89,181 | 18 | $ | 10,337 | 11 | $ | 99,518 | 17 | ||||||
Six months ended June 30, 2007 | |||||||||||||||
Health * | % of Premium |
Medicare Part D |
% of Premium |
Total Health |
% of Premium | ||||||||||
Premium and policy charges |
$ | 523,873 | 100 | $ | 109,787 | 100 | $ | 633,660 | 100 | ||||||
Net policy obligations |
328,604 | 63 | 87,927 | 80 | 416,531 | 66 | |||||||||
Commissons and acquisition expense |
101,916 | 19 | 10,780 | 10 | 112,696 | 18 | |||||||||
Insurance underwriting income before other income and administrative expense |
$ | 93,353 | 18 | $ | 11,080 | 10 | $ | 104,433 | 16 | ||||||
* | Health other than Medicare Part D. |
Underwriting margins for health insurance declined 5% or $5 million to $100 million, as premium fell 7% to $587 million. As a percentage of health premium, underwriting margins rose 1%, however. Libertys health margin, as a percentage of premium, rose from 24% in 2007 to 26% in 2008. American Incomes margin rose $1.5 million or 13%. Both of these groups were positively affected by declines in their benefit ratios.
28
Annuities. We market both fixed and variable annuities. Annuities represent less than 1% of total premium income and total underwriting income. Annuities are not a major component of our marketing strategy and continue to diminish in relation to our other operations.
Operating expenses, comparing the first six months of 2008 with the first six months of 2007. Operating expenses consist of insurance administrative expenses and parent company expenses. Also included is stock compensation expense, which is viewed by us as a parent company expense. Insurance administrative expenses relate to premium income for a given period; therefore, we measure those expenses as a percentage of premium income. Total expenses are measured as a percentage of total revenues. An analysis of operating expenses is shown below.
Operating Expenses Selected Information
(Dollar amounts in thousands)
Six months ended June 30, | ||||||||||||
2008 | 2007 | |||||||||||
Amount | % of Premium |
Amount | % of Premium | |||||||||
Insurance administrative expenses: |
||||||||||||
Salaries |
$ | 34,804 | 2.5 | $ | 33,906 | 2.3 | ||||||
Other employee costs |
16,419 | 1.1 | 14,631 | 1.0 | ||||||||
Other administrative costs |
22,264 | 1.6 | 21,538 | 1.5 | ||||||||
Legal expense |
4,475 | 0.3 | 5,519 | 0.4 | ||||||||
Total insurance administrative expenses |
77,962 | 5.5 | 75,594 | 5.2 | ||||||||
Parent company expense |
4,352 | 4,354 | ||||||||||
Stock compensation expense |
5,581 | 4,290 | ||||||||||
Expenses related to settlement of prior period litigation |
0 | 849 | ||||||||||
Loss on company-occupied property |
2,129 | 0 | ||||||||||
Total operating expenses, per |
||||||||||||
Consolidated Statements of Operations |
$ | 90,024 | $ | 85,087 | ||||||||
Insurance administrative expenses: |
||||||||||||
Increase (decrease) over prior year |
3.1 | % | (5.1 | )% | ||||||||
Total operating expenses: |
||||||||||||
Increase (decrease) over prior year |
5.8 | % | (3.1 | )% |
Insurance administrative expenses increased 3% over the prior year period, primarily as a result of an increase in pension costs. Stock compensation expense increased primarily as a result of restricted stock and stock option grants made since March, 2007.
29
As described in Note DFair Value Measurements, certain real estate occupied by the Company was determined to not be recoverable and was written down to fair value during the 2008 period. As a result, we recorded a one-time pre-tax charge of $2.1 million. Also described in Note FBusiness Segments, we recorded a $849 thousand litigation settlement charge in 2007 relating to issues arising many years ago. As explained in Note F, we remove such nonoperating items and items related to prior years when evaluating current operating results in our segment analysis.
Investments (excess investment income), comparing the first six months of 2008 with the first six months of 2007. The Investment segment includes the management of capital resources, including investments, debt, equity, and cash flow. Excess investment income, as defined in Note FBusiness Segments, is a measure of profitability of the Investment segment. However, management views excess investment income per diluted share (excess investment income divided by the total diluted weighted average shares outstanding) as the most appropriate measure of performance of the Investment segment. Excess investment income per diluted share represents the contribution by the Investment segment to the consolidated earnings per share of the Company.
Since 1986, we have used excess cash flow to repurchase Torchmark shares under our ongoing share repurchase program, believing that such repurchases provided a greater return than other investment alternatives. Share repurchases reduce excess investment income because of the potential earnings foregone on cash that could have otherwise been invested in interest-bearing assets, but also reduce the number of shares outstanding. Management believes excess investment income per share is the performance measure that puts all uses of capital resources on a comparable basis.
The following table summarizes Torchmarks investment income, excess investment income, and excess investment income per diluted share.
Excess Investment Income
(Dollar amounts in thousands)
Six months ended June 30, |
Increase (Decrease) |
||||||||||||||
2008 | 2007 | Amount | % | ||||||||||||
Net investment income * |
$ | 334,597 | $ | 323,177 | $ | 11,420 | 4 | ||||||||
Required interest on net insurance policy liabilities |
(136,251 | ) | (126,406 | ) | (9,845 | ) | 8 | ||||||||
Financing costs: |
|||||||||||||||
Interest on funded debt |
(26,573 | ) | (26,556 | ) | (17 | ) | 0 | ||||||||
Interest on short-term debt |
(4,285 | ) | (7,110 | ) | 2,825 | (40 | ) | ||||||||
Total financing costs |
(30,858 | ) | (33,666 | ) | 2,808 | (8 | ) | ||||||||
Excess investment income |
$ | 167,488 | $ | 163,105 | $ | 4,383 | 3 | ||||||||
Excess investment income per diluted share |
$ | 1.83 | $ | 1.67 | $ | 0.16 | 10 | ||||||||
* | Net investment income per Torchmarks segment analysis does not agree with Net investment income per the Consolidated Statements of Operations because management views our Trust Preferred Securities as consolidated debt, as presented in the Reconciliation in Note FBusiness Segments. |
30
As shown in the above table, excess investment income for the 2008 six months increased 3% to $167 million. On a per-share basis, excess investment income rose 10% to $1.83, as a result of our share repurchase program.
The largest component of excess investment income is net investment income, which increased by 4% to $335 million, consistent with the 4% increase in average invested assets at amortized cost.
The $11 million increase in net investment income was offset by an increase in the required interest on net insurance policy liabilities. Required interest increased $10 million or 8% to $136 million, consistent with the 7% change in average interest-bearing liabilities.
Financing costs declined 8% to $31 million, reflective of a lower average short-term debt balance outstanding on our commercial paper borrowings as well as a decline in short-term rates from 5.3% in the 2007 period to 3.2% in 2008.
The following table reconciles interest expense per the Consolidated Statements of Operations to financing costs.
Reconciliation of Interest Expense to Financing Costs
(Amounts in thousands)
For the six months ended June 30, |
||||||||
2008 | 2007 | |||||||
Interest expense per Consolidated Statements of Operations |
$ | 30,990 | $ | 33,798 | ||||
Reclassification of interest amount due to deconsolidation* |
(132 | ) | (132 | ) | ||||
Financing costs |
$ | 30,858 | $ | 33,666 | ||||
* | We view our outstanding 7.1% Trust Preferreds as debt. However, GAAP accounting rule FIN 46R requires that we substitute our 7.1% Junior Subordinated Debentures payable to our Capital Trust III as reported debt (deconsolidation). |
Excess investment income benefits from increases in long-term rates available on new investments and decreases in short-term borrowing rates. Of these two factors, higher investment rates have the greater impact because the amount of cash that we invest is significantly greater than the amount that we borrow at short-term rates.
31
Investments (acquisitions), comparing the first six months of 2008 with the first six months of 2007. Torchmarks current investment policy calls for investing almost exclusively in investment-grade fixed maturities with long maturities that meet our quality and yield objectives. We prefer to invest in securities with longer maturities because they more closely match the long-term nature of our policy liabilities. We are able to do so because of our cash flows, which are generally stable and somewhat predictable. If such longer-term securities do not meet our quality and yield objectives, new money is invested short-term, with maturities less than five years. In the low interest-rate environment of the past few years, acquisitions of new investments have been made at yields lower than the average portfolio yield rate, contributing to a steady decline in the average portfolio yield. However, the average yield on new investments during the first six months of 2008 was 7.17%, the highest available in over five years and exceeding the portfolio yield rate at the end of the second quarter of 2008 by 20 basis points.
The following chart summarizes selected information for fixed-maturity purchases. The effective annual yield shown is the yield calculated to the worst call date, which is the potential termination date that produces the lowest yield. For noncallable bonds, the worst-call date is always the maturity date. For callable bonds, the worst-call date is the call date that produces the lowest yield (or the maturity date, if the yield calculated to the maturity date is lower than the yield calculated to each call date.) Two different average life calculations are shown, average life to the next-call date and average life to the maturity date.
Fixed Maturity Acquisitions Selected Information
(Dollar amounts in millions)
For the six months ended June 30, |
||||||||
2008 | 2007 | |||||||
Cost of acquisitions: |
||||||||
Investment-grade corporate securities |
$ | 671 | $ | 1,234 | ||||
Tax-exempt municipal securities |
0 | 256 | ||||||
Total fixed-maturity acquisitions |
$ | 671 | $ | 1,490 | ||||
Effective annual yield (one year compounded)* |
7.17 | % | 6.71 | % | ||||
Average life, in years to: |
||||||||
Next call |
22.3 | 19.7 | ||||||
Maturity |
33.8 | 31.9 | ||||||
Average rating |
A | A |
* | Tax-equivalent basis, whereby the yield on tax-exempt securities is adjusted to produce a yield equivalent to the pretax yield on taxable securities. |
32
During the first six months of 2008, we acquired $671 million of fixed maturities with an average effective yield of 7.17% and an average rating of A. This compares with $1.5 billion of fixed maturities with an average yield of 6.71% and an average rating of A acquired during the same period of 2007. The higher level of acquisitions in 2007 was due to more funds available for investment, as a result of a higher volume of calls, maturities, and sales. The 2007 level of turnover was unusual, and moderated during the remainder of that year. The fixed maturities that we acquired during both periods included a combination of investment-grade fixed maturity corporate bonds and investment-grade trust preferred securities (classified as redeemable preferred stocks). These securities spanned a diversified range of issuers, industry sectors, and geographical regions. The 2007 acquisitions also included tax-exempt securities.
Investments (portfolio composition), comparing June 30, 2008 with June 30, 2007. Approximately 94% of our investments at fair value are in a diversified fixed-maturity portfolio. Policy loans, which are secured by policy cash values, make up an additional 4%. The remaining balance is comprised of other investments including equity securities, mortgage loans, and other long-term and short-term investments. At June 30, 2008, fixed maturities had a fair value of $8.9 billion, compared with $9.2 billion at December 31, 2007 and $9.2 billion at June 30, 2007. Net unrealized losses on fixed maturities increased from $103 million at December 31, 2007 to $670 million at June 30, 2008. As discussed in Note DFair Value Measurements, we believe that the increase is primarily attributable to general market conditions and the widening of spreads in corporate bond prices. An analysis of our fixed-maturity portfolio by component at June 30, 2008 is as follows:
Fixed Maturities by Component
(Dollar amounts in millions)
Cost or Amortized Cost |
Gross Unrealized Gains |
Gross Unrealized Losses |
Fair Value |
% of Total Fixed Maturities* | |||||||||||
Fixed maturities available for sale: |
|||||||||||||||
Bonds: |
|||||||||||||||
Corporates |
$ | 7,362 | $ | 104 | $ | (479 | ) | $ | 6,987 | 78.7 | |||||
Asset-backed securities |
216 | 5 | (69 | ) | 152 | 1.7 | |||||||||
Other |
528 | 3 | (27 | ) | 504 | 5.7 | |||||||||
Redeemable preferred stocks |
1,438 | 18 | (225 | ) | 1,231 | 13.9 | |||||||||
Total fixed maturities |
$ | 9,544 | $ | 130 | $ | (800 | ) | $ | 8,874 | 100.0 | |||||
* | At fair value |
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An analysis of the fixed-maturity portfolio by quality rating at June 30, 2008 is as follows.
Fixed Maturities by Rating*
(Dollar amounts in millions)
Amortized Cost |
% | Fair Value |
% | |||||||
Investment grade: |
||||||||||
AAA |
$ | 557 | 6 | $ | 548 | 6 | ||||
AA |
528 | 5 | 507 | 6 | ||||||
A |
3,367 | 35 | 3,109 | 35 | ||||||
BBB** |
4,465 | 47 | 4,135 | 47 | ||||||
Investment grade |
8,917 | 93 | 8,299 | 94 | ||||||
Below investment grade: |
||||||||||
BB |
460 | 5 | 436 | 5 | ||||||
B |
117 | 1 | 95 | 1 | ||||||
Below B |
50 | 1 | 44 | 0 | ||||||
Below investment grade |
627 | 7 | 575 | 6 | ||||||
$ | 9,544 | 100 | $ | 8,874 | 100 | |||||
* | Rating based on Bloomberg composite |
** | Of the amortized cost and fair value amounts shown as BBB in the above table, approximately 34% were rated BBB+, 43% were rated BBB, and 23% were rated BBB-. |
The portfolio has an average quality rating of A-. Approximately 93% of the portfolio at amortized cost was considered investment grade. We have no direct investment exposure to subprime or Alt-A mortgages (loans for which the credit score was acceptable but some of the typical documentation was not provided). We have no derivatives or any other off-balance sheet investment arrangements, as all of our investments are carried on our Consolidated Balance Sheets. We have $66 million at fair value ($132 million book value) invested in collateralized debt obligations (CDOs), for which the average Bloomberg Composite rating at June 30, 2008 was A-. The collateral underlying these CDOs is primarily trust preferred securities issued by banks and insurance companies, and no subprime or Alt-A mortgages are included in the collateral.
Approximately 94% of our fixed-maturity holdings at book value are in corporate securities (including redeemable preferred and asset-backed securities). Investments in corporate fixed maturities are diversified in a wide range of industry sectors. At fair value, the following table presents the relative percentage of our corporate fixed maturities by industry sector at June 30, 2008.
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Industry |
% | |
Insurance carriers |
22 | |
Depository institutions |
13 | |
Electric, gas, sanitation services |
13 | |
Nondepository credit institutions (finance) |
8 | |
Oil & gas extraction |
4 | |
Communications |
4 | |
Chemicals & allied products |
4 | |
Food & kindred products |
2 | |
Security & commodity brokers |
2 | |
Railroad transportation |
2 | |
All other sectors * |
26 | |
100 | ||
* | No other individual industry sector represented more than 2% of Torchmarks corporate fixed maturities. |
Additional information concerning the fixed-maturity portfolio is as follows.
Fixed Maturity Portfolio Selected Information
At June 30, 2008 |
At December 31, 2007 |
At June 30, 2007 |
|||||||
Average annual effective yield |
6.97 | % | 6.96 | % | 6.97 | % | |||
Average life, in years, to: |
|||||||||
Next call (1) |
14.9 | 14.0 | 13.7 | ||||||
Maturity (1) |
21.7 | 20.7 | 19.6 | ||||||
Effective duration to: |
|||||||||
Next call (1), (2) |
7.4 | 7.5 | 7.4 | ||||||
Maturity (1), (2) |
9.4 | 9.6 | 9.4 |
(1) | Torchmark calculates the average life and duration of the fixed-maturity portfolio two ways: (a) based on the next call date which is the next call date for callable bonds and the maturity date for noncallable bonds, and (b) based on the maturity date of all bonds, whether callable or not. |
(2) | Effective duration is a measure of the price sensitivity of a fixed-income security to a particular change in interest rates. |
The average life and duration of the portfolio have not changed significantly over the prior year.
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Realized Gains and Losses, comparing the first six months of 2008 with the first six months of 2007. As discussed in Note FBusiness Segments, our core business of providing insurance coverage requires us to maintain a large and diverse investment portfolio to support our insurance liabilities. From time to time, investments are disposed of or written down prior to maturity for reasons generally beyond the control of management, resulting in realized gains or losses. For this reason, management removes the effects of such gains and losses when evaluating its overall operating results.
The following table summarizes our tax-effected realized gains (losses) by component.
Analysis of Realized Gains (Losses), Net of Tax
(Dollar amounts in thousands, except for per share data)
Six months ended June 30, | ||||||||||||||||
2008 | 2007 | |||||||||||||||
Amount | Per Share | Amount | Per Share | |||||||||||||
Fixed maturities and equities: |
||||||||||||||||
Investment sales |
$ | (48 | ) | $ | .00 | $ | (2,811 | ) | $ | (.03 | ) | |||||
Investments called or tendered |
(881 | ) | (.01 | ) | 9,561 | .10 | ||||||||||
Writedowns |
(7,684 | ) | (.08 | ) | (2,317 | ) | (.02 | ) | ||||||||
Real estate |
(200 | ) | .00 | 261 | .00 | |||||||||||
Writedown of real estate |
(717 | ) | (.01 | ) | 0 | .00 | ||||||||||
Total |
$ | (9,530 | ) | $ | (.10 | ) | $ | 4,694 | $ | 0.05 | ||||||
During 2008, fixed maturity holdings of two non-financial issuers met our criteria for other-than-temporary impairment, resulting in a writedown of these securities in the amount of $11.8 million ($7.7 million after tax). In the 2007 period, we wrote down our holdings in two issuers due to other-than-temporary impairment, resulting in a charge of $3.6 million ($2.3 million after tax). Additionally, as described in Note DFair Value Measurements, we wrote down a real estate investment to fair value in 2008, resulting in a loss of $1.1 million ($717 thousand after tax).
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Financial Condition
Liquidity. Our liquidity is evidenced by positive cash flow, a portfolio of marketable investments, and the availability of a line of credit facility. Our insurance operations have historically generated cash flows well in excess of immediate requirements. Net cash inflows from operations were $423 million in the first six months of 2008 compared with $433 million in the same period of 2007. In addition to cash inflows from operations, Torchmark received $152 million in investment calls, $38 million in tenders, and $169 million of scheduled maturities or repayments during the 2008 six months.
Cash and short-term investments were $90 million at June 30, 2008, compared with $131 million at December 31, 2007 and $119 million at the end of June, 2007. In addition to these liquid assets, the entire $8.9 billion (fair value at June 30, 2008) portfolio of fixed-income and equity securities is available for sale in the event of an unexpected need. Substantially all of our fixed-income and equity securities are publicly traded. We generally expect to hold fixed-income securities to maturity, and even though these securities are classified as available for sale, we have the ability and intent to hold any securities which are temporarily impaired until they mature.
We have a line of credit facility with a group of lenders which terminates on August 31, 2011. It allows unsecured borrowings and stand-by letters of credit up to $600 million. Up to $175 million in letters of credit can be issued against the facility. The line of credit is further designated as a back-up credit line for a commercial paper program not to exceed $600 million, under which we may borrow from either the credit line or issue commercial paper at any time, with total commercial paper outstanding not to exceed $600 million, less any letters of credit issued. Interest is charged at variable rates. A facility fee is charged on the entire facility. There are also issuance and fronting fees related to the letters of credit and there is an additional usage fee if borrowing exceeds $300 million. The facility has no ratings-based acceleration triggers which would require early repayment. In accordance with the agreements, we are subject to certain covenants regarding capitalization and interest coverage with which we were in full compliance at June 30, 2008. As of June 30, 2008, $124.5 million face amount of commercial paper was outstanding ($124.4 million book value), $150 million letters of credit were issued, and there were no borrowings under the line of credit.
Torchmark (Parent Company) is dependent on dividends from the insurance subsidiaries in order to meet its interest and principal repayment obligations on debt, to pay expenses, and to pay shareholder dividends. While insurance statutory regulations restrict the flow of dividends to the parent, these dividends are expected to be more than adequate to meet Parent Company obligations. In the first six months of 2008, $311 million in dividends were paid to the Parent Company by the insurance subsidiaries.
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Capital resources. The capital structure consists of short-term debt (consisting of the commercial paper facility described above and maturities of long-term debt within one year), long-term funded debt, and shareholders equity. The outstanding long-term debt at book value, including our Junior Subordinated Debentures, was $722 million at June 30, 2008, compared with $722 million at December 31, 2007 and $721 million at June 30, 2007. An analysis of long-term debt issues outstanding is as follows at June 30, 2008.
Long Term Debt at June 30, 2008
(Dollar amounts in millions)
Instrument |
Year Due |
Interest Rate |
Par Value |
Book Value |
Fair Value |
|||||||||||
Senior Debentures |
2009 | 8 1/4 | % | $ | 99.5 | $ | 99.5 | $ | 103.9 | |||||||
Notes |
2023 | 7 7/8 | 165.6 | 163.0 | 184.9 | |||||||||||
Notes |
2013 | 7 3/8 | 94.0 | 93.4 | 101.2 | |||||||||||
Senior Notes |
2016 | 6 3/8 | 250.0 | 246.6 | 254.2 | |||||||||||
Issue expenses (1) |
(4.2 | ) | ||||||||||||||
Total long-term debt |
609.1 | 598.3 | 644.2 | |||||||||||||
Junior Subordinated Debentures (2) |
2046 | 7.1 | 123.7 | 123.7 | 105.6 | (3) | ||||||||||
Total |
$ | 732.8 | $ | 722.0 | $ | 749.8 | ||||||||||
(1) | Unamortized issue expenses related to Torchmarks Trust Preferred Securities. |
(2) | Included in Due to Affiliates in accordance with accounting regulations. |
(3) | Market value of the 7.1% Trust Preferred Securities which are obligations of an unconsolidated trust. |
We acquired 3.9 million of our outstanding common shares with excess operating cash flow on the open market at a cost of $235 million ($59.94 per share) during the first six months of 2008 under our ongoing share repurchase program. Please refer to the description of our share repurchase program under the caption Highlights in this report. We intend to continue the repurchase of our common shares when financial markets are favorable.
Shareholders equity was $2.97 billion at June 30, 2008. This compares with $3.32 billion at December 31, 2007 and $3.25 billion at June 30, 2007. During the twelve months since June 30, 2007, shareholders equity has been reduced by $354 million in share purchases and by $393 million of unrealized losses after tax in the fixed maturity portfolio. As explained in Note DFair Value Measurements, the unrealized losses resulted primarily from general market conditions and widening credit spreads reflected in corporate bond prices.
We are required by an accounting rule (SFAS 115) to revalue our available-for-sale fixed-maturity portfolio to fair market value at the end of each accounting period. These changes, net of their associated impact on deferred acquisition costs and income tax, are reflected directly in shareholders equity. Changes in the fair value of the portfolio compared with prior periods result primarily from changes in interest rates in financial markets. While SFAS 115 requires invested assets to be revalued, it does not permit interest-bearing insurance policy liabilities to be valued at fair value in a consistent manner.
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If these liabilities were revalued in the same manner as the assets, the effect on equity would be largely offset. The size of both the investment portfolio and our policy liabilities are quite large in relation to our shareholders equity. Therefore, this inconsistency in measurement usually has a material impact on the reported value of shareholders equity. Fluctuations in interest rates cause volatility in the period-to-period presentation of our shareholders equity, capital structure, and financial ratios which would be substantially removed if interest-bearing liabilities were valued in the same manner as assets. For this reason, management, credit rating agencies, lenders, many industry analysts, and certain other financial statement users remove the effect of SFAS 115 when analyzing Torchmarks balance sheet, capital structure, and financial ratios.
The following table presents selected data related to capital resources. Additionally, the table presents the effect of SFAS 115 on relevant line items, so that investors and other financial statement users may determine its impact on our capital structure.
Selected Financial Data
At June 30, 2008 |
At December 31, 2007 |
At June 30, 2007 |
||||||||||||||||||||||
GAAP | Effect of SFAS 115* |
GAAP | Effect of SFAS 115* |
GAAP | Effect of SFAS 115* |
|||||||||||||||||||
Fixed maturities (millions) |
$ | 8,874 | $ | (670 | ) | $ | 9,226 | $ | (103 | ) | $ | 9,152 | $ | (27 | ) | |||||||||
Deferred acquisition costs (millions) ** |
3,273 | 41 | 3,159 | 8 | 3,071 | 4 | ||||||||||||||||||
Total assets (millions) |
14,744 | (629 | ) | 15,241 | (95 | ) | 15,098 | (23 | ) | |||||||||||||||
Short-term debt (millions) |
124 | 0 | 202 | 0 | 263 | 0 | ||||||||||||||||||
Long-term debt (millions) |
722 | 0 | 722 | 0 | 721 | 0 | ||||||||||||||||||
Shareholders equity (millions) |
2,974 | (409 | ) | 3,325 | (62 | ) | 3,248 | (15 | ) | |||||||||||||||
Book value per diluted share |
33.35 | (4.58 | ) | 35.60 | (0.66 | ) | 34.04 | (0.16 | ) | |||||||||||||||
Debt to capitalization *** |
22.2 | % | 2.2 | % | 21.7 | % | 0.3 | % | 23.3 | % | 0.1 | % | ||||||||||||
Diluted shares outstanding (thousands) |
89,167 | 93,383 | 95,412 | |||||||||||||||||||||
Actual shares outstanding (thousands) |
88,351 | 92,175 | 93,798 |
* | Amount added to (deducted from) comprehensive income to produce the stated GAAP item. |
** | Includes the value of insurance purchased. |
*** | Torchmarks debt covenants require that the effect of SFAS 115 be removed to determine this ratio. |
Interest coverage was 12.7 times in both the 2008 and 2007 six months.
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Pension assets. The following chart presents assets at fair value for our defined-benefit pension plans at June 30, 2008 and the prior-year end.
Pension Assets by Component
(Dollar amounts in thousands)
June 30, 2008 | December 31, 2007 | |||||||||
Amount | % | Amount | % | |||||||
Corporate debt |
$ | 66,779 | 41.7 | $ | 54,436 | 31.9 | ||||
Other fixed maturities |
860 | 0.5 | 891 | 0.5 | ||||||
Equity securities |
88,947 | 55.5 | 101,214 | 59.4 | ||||||
Short-term investments |
2,514 | 1.6 | 12,467 | 7.3 | ||||||
Other |
1,201 | 0.7 | 1,432 | 0.9 | ||||||
Total |
$ | 160,301 | 100.0 | $ | 170,440 | 100.0 | ||||
The liability for the funded defined-benefit pension plan was $196 million at December 31, 2007. As disclosed in Note CPostretirement Benefit Plans, contributions in the amount of $4.5 million have been made to the pension plan as of June 30, 2008. We anticipate a total contribution in 2008 of approximately $12 million.
New Accounting Rules
Fair Value Option: Statement No. 159, The Fair Value Option for Financial Assets and Financial Liabilities (SFAS 159), was issued in February 2007 and was effective for Torchmark as of January 1, 2008. The adoption of this Statement is optional, permitting entities to choose to measure certain financial assets and liabilities at fair value which are otherwise measured on a different basis in existing literature. The changes in such assets and liabilities are reflected in earnings.
While this Statement would provide us with the opportunity to carry our interest-bearing policy liabilities and debt as well as our invested assets at market value, the size of this unrealized adjustment to earnings in relation to net income each period could be considerable and very volatile, causing our earnings not to be reflective of core results, historical patterns, or predictive of future earnings trends. Therefore, we did not elect to adopt this Statement.
Derivatives: Statement No. 161, Disclosures About Derivative Instruments and Hedging Activitiesan amendment of FASB Statement No. 133 (SFAS 161), was issued in March, 2008 expanding the disclosures about derivatives and hedging activities required under existing accounting guidance. SFAS 161 is effective for Torchmark as of January 1, 2009. As of June 30, 2008, Torchmark does not hold any of the derivative instruments subject to this Statement.
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Cautionary Statements
We caution readers regarding certain forward-looking statements contained in the previous discussion and elsewhere in this document, and in any other statements made by, or on behalf of Torchmark whether or not in future filings with the Securities and Exchange Commission. Any statement that is not a historical fact, or that might otherwise be considered an opinion or projection concerning Torchmark or its business, whether express or implied, is meant as and should be considered a forward-looking statement. Such statements represent managements opinions concerning future operations, strategies, financial results or other developments. We specifically disclaim any obligation to update or revise any forward-looking statement because of new information, future developments, or otherwise.
Forward-looking statements are based upon estimates and assumptions that are subject to significant business, economic and competitive uncertainties, many of which are beyond our control. If these estimates or assumptions prove to be incorrect, the actual results of Torchmark may differ materially from the forward-looking statements made on the basis of such estimates or assumptions. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable events or developments, which may be national in scope, related to the insurance industry generally, or applicable to Torchmark specifically. Such events or developments could include, but are not necessarily limited to:
1) | Changing general economic conditions leading to unexpected changes in lapse rates and/or sales of our policies, as well as levels of mortality, morbidity, and utilization of health care services that differ from Torchmarks assumptions; |
2) | Regulatory developments, including changes in governmental regulations (particularly those impacting taxes and changes to the Federal Medicare program that would affect Medicare Supplement and Medicare Part D insurance); |
3) | Market trends in the senior-aged health care industry that provide alternatives to traditional Medicare (such as Health Maintenance Organizations and other managed care or private plans) and that could affect the sales of traditional Medicare Supplement insurance; |
4) | Interest rate changes that affect product sales and/or investment portfolio yield; |
5) | General economic, industry sector or individual debt issuers financial conditions that may affect the current market value of securities we own, or that may impair an issuers ability to make principal and/or interest payments due on those securities; |
6) | Changes in pricing competition; |
7) | Litigation results; |
8) | Levels of administrative and operational efficiencies that differ from our assumptions; |
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9) | Our inability to obtain timely and appropriate premium rate increases for health insurance policies due to regulatory delay; |
10) | The customer response to new products and marketing initiatives; and |
11) | Reported amounts in the financial statements which are based on managements estimates and judgments which may differ from the actual amounts ultimately realized. |
Item 3. | Quantitative and Qualitative Disclosures about Market Risk |
There have been no quantitative or qualitative changes with respect to market risk exposure during the six months ended June 30, 2008.
Item 4. | Controls and Procedures |
Torchmark, under the direction of the Chairman and Chief Executive Officer and the Executive Vice President and Chief Financial Officer, has established disclosure controls and procedures that are designed to ensure that information required to be disclosed by Torchmark in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms. The disclosure controls and procedures are also intended to ensure that such information is accumulated and communicated to Torchmarks management, including the Chairman and Chief Executive Officer and the Executive Vice President and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.
As of the end of the fiscal quarter completed June 30, 2008, an evaluation was performed under the supervision and with the participation of Torchmark management, including the Chairman and Chief Executive Officer and the Executive Vice President and Chief Financial Officer, of Torchmarks disclosure controls and procedures (as those terms are defined in Rule 13a-15(e) under the Securities Exchange Act of 1934). Based upon their evaluation, the Chairman and Chief Executive Officer and the Executive Vice President and Chief Financial Officer have concluded that Torchmarks disclosure controls and procedures are effective as of the date of this Form 10-Q. In compliance with Section 302 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. §1350), each of these officers executed a Certification included as an exhibit to this Form 10-Q.
As of the date of this Form 10-Q for the quarter ended June 30, 2008, there have not been any significant changes in Torchmarks internal control over financial reporting or in other factors that could significantly affect this control over financial reporting subsequent to the date of their evaluation which have materially affected, or are reasonably likely to materially affect, Torchmarks internal control over financial reporting. No material weaknesses in such internal controls were identified in the evaluation and as a consequence, no corrective action was required to be taken.
42
Item 1. | Legal Proceedings |
Torchmark and its subsidiaries, in common with the insurance industry in general, are subject to litigation, including claims involving tax matters, alleged breaches of contract, torts, including bad faith and fraud claims based on alleged wrongful or fraudulent acts of agents of Torchmarks subsidiaries, employment discrimination, and miscellaneous other causes of action. Based upon information presently available, and in light of legal and other factual defenses available to Torchmark and its subsidiaries, management does not believe that such litigation will have a material adverse effect on Torchmarks financial condition, future operating results or liquidity; however, assessing the eventual outcome of litigation necessarily involves forward-looking speculation as to judgments to be made by judges, juries and appellate courts in the future. This bespeaks caution, particularly in states with reputations for high punitive damage verdicts such as Alabama and Mississippi. Torchmarks management recognizes that large punitive damage awards continue to occur bearing little or no relation to actual damages awarded by juries in jurisdictions in which Torchmark and its subsidiaries have substantial business, particularly Alabama and Mississippi, creating the potential for unpredictable material adverse judgments in any given punitive damage suit.
As previously reported in Forms 10-K and 10-Q, Liberty and Torchmark were parties to purported class action litigation filed in the Circuit Court of Choctaw County, Alabama on behalf of all persons who currently or in the past were insured under Liberty cancer policies which were no longer being marketed, regardless of whether the policies remained in force or lapsed (Roberts v. Liberty National Life Insurance Company, Case No. CV-2002-009-B). These cases were based on allegations of breach of contract in the implementation of premium rate increases, misrepresentation regarding the premium rate increases, fraud and suppression concerning the closed block of business and unjust enrichment. On December 30, 2003, the Alabama Supreme Court issued an opinion granting Libertys and Torchmarks petition for a writ of mandamus, concluding that the Choctaw Circuit Court did not have subject matter jurisdiction and ordering that Circuit Court to dismiss the action. The plaintiffs then filed their purported class action litigation against Liberty and Torchmark in the Circuit Court of Barbour County, Alabama on December 30, 2003 (Roberts v. Liberty National Life Insurance Company, Civil Action No. CV-03-0137).
On April 16, 2004 the parties filed a written Stipulation of Agreement of Compromise and Settlement with the Barbour County, Alabama Circuit Court seeking potential settlement of the Roberts case. A fairness hearing on the potential settlement was held by the Barbour County Circuit Court with briefs received on certain issues, materials relating to objections to the proposed settlement submitted to the Court-appointed independent special master, objectors to the potential settlement heard and a report of the Court-appointed independent actuary received on certain issues thereafter.
43
On November 22, 2004, the Court entered an order and final judgment in Roberts whereby the Court consolidated Roberts with Robertson v. Liberty National Life Insurance Company, CV-92-021 (previously reported in Forms 10-K and 10-Q) for purposes of the Roberts Stipulation of Settlement and certified the Roberts class as a new subclass of the class previously certified by that Court in Robertson. The Court approved the Stipulation and Settlement and ordered and enjoined Liberty to perform its obligations under the Stipulation. The Court dismissed plaintiffs claims, released the defendants, enjoined Roberts subclass members from any further prosecution of released claims and retained continuing jurisdiction of all matters relating to the Roberts settlement. In an order issued February 1, 2005, the Court denied the objectors motion to alter, amend or vacate its earlier final judgment on class settlement and certification. The companies proceeded to implement the settlement terms. On March 10, 2005, the Roberts plaintiffs filed notice of appeal to the Alabama Supreme Court.
In an opinion issued on September 29, 2006, the Alabama Supreme Court voided the Barbour County Circuit Courts final judgment and dismissed the Roberts appeal. The Supreme Court held that the Barbour County Court lacked subject-matter jurisdiction in Roberts to certify the Roberts class as a subclass of the Robertson class and to enter a final judgment approving the settlement since Roberts was filed as an independent class action collaterally attacking Robertson rather than being filed in Robertson under the Barbour County Courts reserved continuing jurisdiction over that case. On October 23, 2006, Liberty filed a petition with the Barbour County Circuit Court under its continuing jurisdiction in Robertson for clarification, or in the alternative, to amend the Robertson final judgment. Liberty sought an order from the Circuit Court declaring that Liberty pay benefits to Robertson class members based upon the amounts accepted by providers in full payment of charges. A hearing was held on Libertys petition on March 13, 2007.
On March 30, 2007, the Barbour County Circuit Court issued an order denying Libertys petition for clarification and/or modification of Robertson, holding that Libertys policies did not state that they will pay actual charges accepted by providers. On April 8, 2007, the Court issued an order granting a motion to intervene and establishing a subclass in Robertson comprised of Liberty cancer policyholders who are now or have within the past six years, undergone cancer treatment and filed benefit claims under the policies in question. Liberty filed a motion with the Barbour County Circuit Court to certify for an interlocutory appeal that Courts order on Libertys petition for clarification in Robertson on April 17, 2007. An appellate mediation of these issues was conducted on August 9, 2007. On October 16, 2007, the Alabama Supreme Court entered orders, based upon the conclusion by the parties of the appellate mediation, staying the proceedings for a writ of mandamus, reinstating the cases on the appellate docket, and remanding the cases to the Barbour County Circuit Court to implement the parties settlement agreement. A fairness hearing on the proposed settlement agreement was held by the Barbour County Circuit Court on January 15, 2008. Subsequent to this hearing, an order approving the settlement agreement was approved by the Barbour County Circuit Court but was thereafter vacated by that Court due to technical errors in the printing of the original order. A corrected order finally approving the settlement was entered on or about May 6, 2008. Prior to the entry of the corrected order, notice of appeal was filed by one objector. On July 29, 2008, the Alabama Supreme Court dismissed the remaining appeal in Robertson.
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Item 1A. | Risk Factors |
Torchmark has had no material changes to its risk factors.
Item 2. | Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities |
(e) Purchases of Certain Equity Securities by the Issuer and Others
Period |
(a) Total Number of Shares Purchased |
(b) Average Price Paid Per Share |
(c) Total Number of Shares Purchased as of
Publicly Announced |
(d) Maximum Number of Shares (or Approximate
Dollar Yet Be Purchased Under the Plans or | ||||
April 1-30, 2008 |
78,800 | $64.56 | 78,800 | |||||
May 1-31, 2008 |
415,100 | 63.60 | 415,100 | |||||
June 1-30, 2008 |
1,106,100 | 60.56 | 1,106,100 |
On July 26, 2007, Torchmarks Board reaffirmed its continued authorization of the Companys stock repurchase program in amounts and with timing that management, in consultation with the Board, determined to be in the best interest of the Company. The program has no defined expiration date or maximum shares to be purchased.
Item 4. | Submission of Matters to a Vote of Security Holders |
At the Annual Meeting of Shareholders held April 24, 2008:
(i) | The following directors were elected: |
FOR |
AGAINST |
WITHHELD FROM DIRECTOR | ||||
Mark S. McAndrew |
71,160,447 | 1,424,373 | 456,690 | |||
Sam R. Perry |
71,395,474 | 1,189,346 | 456,690 | |||
Lamar C. Smith |
70,126,565 | 2,458,255 | 456,690 |
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The following directors terms of office continued after the meeting.
Charles E. Adair | Joseph L. Lanier, Jr. | |
David L. Boren | Lloyd W. Newton | |
M. Jane Buchan | Paul J. Zucconi | |
Robert W. Ingram |
(ii) | The appointment of Deloitte & Touche, LLP as Torchmarks independent registered public accounting firm for 2008 was ratified: |
FOR |
AGAINST |
ABSTAIN | ||
71,883,406 |
528,611 | 629,492 |
(iii) | The Torchmark Corporation 2008 Management Incentive Plan was approved by shareholders: |
FOR |
AGAINST |
ABSTAIN |
BROKER NON-VOTE | |||
63,564,398 |
1,538,740 | 952,891 | 6,985,481 |
(iv) | The pay-for-superior-performance principle proposal submitted by shareholder, the Sheet Metal Workers National Pension Fund, was defeated: |
FOR |
AGAINST |
ABSTAIN |
BROKER NON-VOTE | |||
17,646,387 |
46,945,197 | 1,464,445 | 6,985,481 |
(a) | Exhibits |
(11) | Statement re Computation of Per Share Earnings | |
(12) | Statement re Computation of Ratios | |
(31.1) | Rule 13a-14(a)/15d-14(a) Certification by Mark S. McAndrew | |
(31.2) | Rule 13a-14(a)/15d-14(a) Certification by Gary L. Coleman | |
(32.1) | Section 1350 Certification by Mark S. McAndrew and Gary L. Coleman |
46
SIGNATURES
Pursuant to the requirement of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.
TORCHMARK CORPORATION | ||
Date: August 7, 2008 | /s/ Mark S. McAndrew | |
Mark S. McAndrew | ||
Chairman and Chief Executive Officer | ||
Date: August 7, 2008 | /s/ Gary L. Coleman | |
Gary L. Coleman, Executive Vice | ||
President and Chief Financial Officer |
47