10-Q 1 cig6-0510q.htm CIGNA 10Q CIGNA 10Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2005

OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

for the transition period from _____ to _____

Commission file number 1-8323

CIGNA Corporation
(Exact name of registrant as specified in its charter)

Delaware
06-1059331
(State or other jurisdiction
(I.R.S. Employer
of incorporation or organization)
Identification No.)

One Liberty Place, 1650 Market Street
Philadelphia, Pennsylvania 19192
(Address of principal executive offices)   (Zip Code)

Registrant's telephone number, including area code (215) 761-1000

Not Applicable
(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 an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes x No _ 

As of June 30, 2005, 128,567,742 shares of the issuer's common stock were outstanding.




CIGNA CORPORATION

INDEX

 
Page No.
     
 
     
 
 
 
 
 
 
      Income and Changes in Shareholders' Equity
 
 
     
 
 
  20
     
 
   
     
 
     
 
     
 
     
 
   
     
 
     
 
     
 
     
 

As used herein, CIGNA refers to one or more of CIGNA Corporation and its consolidated subsidiaries.




 
 

Part I. FINANCIAL INFORMATION
                 
Item 1. Financial Statements
                 
                   
CIGNA CORPORATION         
CONSOLIDATED STATEMENTS OF INCOME         
(In millions, except per share amounts)         
                   
   
Three Months Ended  
 
Six Months Ended  
 
   
June 30,  
 
June 30,  
 
   
2005
 
2004
 
2005
 
2004
 
 
                 
REVENUES 
                 
Premiums and fees
 
$
3,408
 
$
3,508
 
$
6,770
 
$
7,136
 
Net investment income
   
331
   
355
   
661
   
958
 
Other revenues
   
366
   
355
   
1,002
   
825
 
Realized investment gains
   
2
   
415
   
19
   
436
 
Total revenues
   
4,107
   
4,633
   
8,452
   
9,355
 
                           
BENEFITS AND EXPENSES
                         
Health Care medical claims expense
   
1,598
   
1,616
   
3,054
   
3,373
 
Other benefit expenses
   
827
   
869
   
1,695
   
2,076
 
Other operating expenses
   
1,245
   
1,389
   
2,601
   
2,835
 
Total benefits and expenses
   
3,670
   
3,874
   
7,350
   
8,284
 
                           
INCOME FROM CONTINUING OPERATIONS
                         
BEFORE INCOME TAXES (BENEFITS)
   
437
   
759
   
1,102
   
1,071
 
                           
Income taxes (benefits):
                         
Current
   
168
   
449
   
227
   
591
 
Deferred
   
(102
)
 
(194
)
 
68
   
(231
)
Total taxes
   
66
   
255
   
295
   
360
 
                           
INCOME FROM CONTINUING OPERATIONS
   
371
   
504
   
807
   
711
 
                           
INCOME FROM DISCONTINUED OPERATIONS
   
349
   
-
   
349
   
-
 
                           
INCOME BEFORE CUMULATIVE EFFECT
                         
OF ACCOUNTING CHANGE
   
720
   
504
   
1,156
   
711
 
                           
CUMULATIVE EFFECT OF ACCOUNTING CHANGE,
                         
NET OF TAXES
   
-
   
-
   
-
   
(139
)
                           
NET INCOME
 
$
720
 
$
504
 
$
1,156
 
$
572
 
                           
                           
EARNINGS PER SHARE - BASIC
                         
                           
INCOME FROM CONTINUING OPERATIONS
 
$
2.88
 
$
3.63
 
$
6.21
 
$
5.10
 
                           
INCOME FROM DISCONTINUED OPERATIONS
   
2.70
   
-
   
2.69
   
-
 
                           
INCOME BEFORE CUMULATIVE EFFECT
                         
OF ACCOUNTING CHANGE
   
5.58
   
3.63
   
8.90
   
5.10
 
                           
CUMULATIVE EFFECT OF ACCOUNTING CHANGE,
                         
NET OF TAXES
   
-
   
-
   
-
   
(1.00
)
                           
NET INCOME
 
$
5.58
 
$
3.63
 
$
8.90
 
$
4.10
 
                           
EARNINGS PER SHARE - DILUTED
                         
                           
INCOME FROM CONTINUING OPERATIONS
 
$
2.82
 
$
3.59
 
$
6.11
 
$
5.05
 
                           
INCOME FROM DISCONTINUED OPERATIONS
   
2.66
   
-
   
2.65
   
-
 
                           
INCOME BEFORE CUMULATIVE EFFECT
                         
OF ACCOUNTING CHANGE
   
5.48
   
3.59
   
8.76
   
5.05
 
                           
CUMULATIVE EFFECT OF ACCOUNTING CHANGE,
                         
NET OF TAXES
   
-
   
-
   
-
   
(0.98
)
                           
NET INCOME
 
$
5.48
 
$
3.59
 
$
8.76
 
$
4.07
 
                           
DIVIDENDS DECLARED PER SHARE
 
$
0.025
 
$
0.025
 
$
0.050
 
$
0.355
 
                           
The accompanying Notes to the Financial Statements are an integral part of these statements.             
 
1

 
CIGNA CORPORATION          
CONSOLIDATED BALANCE SHEETS          
(In millions, except per share amounts)          
                    
       
As of
 
  
 
As of
 
 
 
 
 
June 30,
 
  
 
December 31,
 
 
 
 
 
2005
 
  
 
2004
 
                    
ASSETS
                  
Investments:
                         
Fixed maturities, at fair value (amortized cost, $14,508; $14,758)
       
$
16,068
       
$
16,081
 
Equity securities, at fair value (cost, $64; $65)
         
78
         
88
 
Mortgage loans
         
3,578
         
3,529
 
Policy loans
         
1,672
         
1,594
 
Real estate
         
74
         
78
 
Other long-term investments
         
495
         
478
 
Short-term investments
         
528
         
71
 
Total investments
         
22,493
         
21,919
 
Cash and cash equivalents
         
1,879
         
2,519
 
Accrued investment income
         
266
         
285
 
Premiums, accounts and notes receivable
         
1,699
         
1,628
 
Reinsurance recoverables
         
7,691
         
14,595
 
Deferred policy acquisition costs
         
573
         
544
 
Property and equipment
         
730
         
777
 
Deferred income taxes
         
1,412
         
1,383
 
Goodwill
         
1,620
         
1,620
 
Other assets, including other intangibles
         
295
         
312
 
Separate account assets
         
9,208
         
35,477
 
Total assets
       
$
47,866
       
$
81,059
 
                           
LIABILITIES
                         
Contractholder deposit funds
       
$
11,002
       
$
17,839
 
Future policy benefits
         
8,609
         
8,428
 
Unpaid claims and claim expenses
         
4,329
         
4,311
 
Health Care medical claims payable
         
1,306
         
1,594
 
Unearned premiums
         
321
         
343
 
Total insurance and contractholder liabilities
         
25,567
         
32,515
 
Accounts payable, accrued expenses and other liabilities
         
5,709
         
6,359
 
Short-term debt
         
100
         
-
 
Long-term debt
         
1,338
         
1,438
 
Nonrecourse obligations
         
65
         
67
 
Separate account liabilities
         
9,208
         
35,477
 
Total liabilities
         
41,987
         
75,856
 
                       
CONTINGENCIES - NOTE 13
                         
                           
SHAREHOLDERS' EQUITY
                         
Common stock (par value per share, $0.25; shares issued, 160; 160)
         
40
         
40
 
Additional paid-in capital
         
2,285
         
2,360
 
Net unrealized appreciation, fixed maturities
 
$
373
       
$
392
       
Net unrealized appreciation, equity securities
   
8
         
15
       
Net unrealized depreciation, derivatives
   
(9
)
       
(16
)
     
Net translation of foreign currencies
   
(3
)
       
2
       
Minimum pension liability adjustment
   
(759
)
       
(729
)
     
Accumulated other comprehensive loss
         
(390
)
       
(336
)
Retained earnings
         
4,829
         
3,679
 
Less treasury stock, at cost
         
(885
)
       
(540
)
Total shareholders' equity
         
5,879
         
5,203
 
                           
Total liabilities and shareholders' equity
       
$
47,866
       
$
81,059
 
                           
SHAREHOLDERS' EQUITY PER SHARE
       
$
45.73
       
$
39.41
 
                           
The accompanying Notes to the Financial Statements are an integral part of these statements.             
 
2

 
CIGNA CORPORATION        
     
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME AND CHANGES IN           
SHAREHOLDERS' EQUITY           
(In millions)           
                     
Three Months Ended June 30,
 
2005    
 
 2004   
 
   
Compre-
hensive
Income
 
 Share-
holders'
Equity
 
 Compre-
hensive
Income
 
Share-
holders'
Equity
 
                     
Common stock
         
40
         
69
 
                           
Additional paid-in capital, April 1
         
2,297
         
3,704
 
Effect of issuance of stock for employee benefits plans
         
(12
)
       
23
 
Additional paid-in capital, June 30
         
2,285
         
3,727
 
                           
Accumulated other comprehensive income (loss), April 1
         
(483
)
       
1
 
Net unrealized appreciation (depreciation), fixed maturities
 
$
126
   
126
 
$
(542
)
 
(542
)
Net unrealized depreciation, equity securities
   
(4
)
 
(4
)
 
(5
)
 
(5
)
Net unrealized appreciation (depreciation) on securities
   
122
         
(547
)
     
Net unrealized appreciation (depreciation), derivatives
   
9
   
9
   
(1
)
 
(1
)
Net translation of foreign currencies
   
(8
)
 
(8
)
 
(11
)
 
(11
)
Minimum pension liability adjustment
   
(30
)
 
(30
)
 
(39
)
 
(39
)
Other comprehensive income (loss)
   
93
         
(598
)
     
Accumulated other comprehensive loss, June 30
         
(390
)
       
(597
)
                           
Retained earnings, April 1
         
4,112
         
9,523
 
Net income
   
720
   
720
   
504
   
504
 
Common dividends declared
         
(3
)
       
(3
)
Retained earnings, June 30
         
4,829
         
10,024
 
                           
Treasury stock, April 1
         
(657
)
       
(8,577
)
Repurchase of common stock
         
(349
)
       
(284
)
Other, primarily issuance of treasury stock for employee benefit plans
         
121
         
5
 
Treasury stock, June 30
         
(885
)
       
(8,856
)
TOTAL COMPREHENSIVE INCOME (LOSS) AND SHAREHOLDERS' EQUITY
 
$
813
 
$
5,879
 
$
(94
)
$
4,367
 
                           
                           
Six Months Ended June 30,
         
 
 
 
 
 
 
 
 
                           
Common stock
         
40
         
69
 
                           
Additional paid-in capital, January 1
         
2,360
         
3,647
 
Effect of issuance of stock for employee benefits plans
         
(75
)
       
80
 
Additional paid-in capital, June 30
         
2,285
         
3,727
 
                           
Accumulated other comprehensive loss, January 1
         
(336
)
       
(54
)
Net unrealized depreciation, fixed maturities
 
$
(19
)
 
(19
)
$
(392
)
 
(392
)
Net unrealized depreciation, equity securities
   
(7
)
 
(7
)
 
(3
)
 
(3
)
Net unrealized depreciation on securities
   
(26
)
       
(395
)
     
Net unrealized appreciation, derivatives
   
7
   
7
   
6
   
6
 
Net translation of foreign currencies
   
(5
)
 
(5
)
 
(2
)
 
(2
)
Minimum pension liability adjustment
   
(30
)
 
(30
)
 
(152
)
 
(152
)
Other comprehensive loss
   
(54
)
       
(543
)
     
Accumulated other comprehensive loss, June 30
         
(390
)
       
(597
)
                           
Retained earnings, January 1
         
3,679
         
9,502
 
Net income
   
1,156
   
1,156
   
572
   
572
 
Common dividends declared
         
(6
)
       
(50
)
Retained earnings, June 30
         
4,829
         
10,024
 
                           
Treasury stock, January 1
         
(540
)
       
(8,557
)
Repurchase of common stock
         
(589
)
       
(284
)
Other, primarily issuance of treasury stock for employee benefit plans
         
244
         
(15
)
Treasury stock, June 30
         
(885
)
       
(8,856
)
TOTAL COMPREHENSIVE INCOME AND SHAREHOLDERS' EQUITY
 
$
1,102
 
$
5,879
 
$
29
 
$
4,367
 
                           
The accompanying Notes to the Financial Statements are an integral part of these statements.              
 
3

 
CIGNA CORPORATION
         
CONSOLIDATED STATEMENTS OF CASH FLOWS     
 
         
   
Six Months Ended June 30,  
 
   
2005
 
2004
 
           
CASH FLOWS FROM OPERATING ACTIVITIES
         
Income from continuing operations
 
$
807
 
$
711
 
Adjustments to reconcile income from continuing
             
operations to net cash provided by operating activities:
             
Insurance liabilities
   
(312
)
 
(699
)
Reinsurance recoverables
   
(21
)
 
155
 
Deferred policy acquisition costs
   
(29
)
 
(49
)
Premiums, accounts and notes receivable
   
68
   
341
 
Accounts payable, accrued expenses and other liabilities
   
92
   
(58
)
Current income taxes
   
6
   
471
 
Deferred income taxes
   
68
   
(231
)
Realized investment (gains)
   
(19
)
 
(436
)
Depreciation and amortization
   
112
   
113
 
Gains on sales of businesses
   
(348
)
 
(75
)
Proceeds from sales and maturities of securities supporting
             
experience-rated pension policyholder contracts,
             
net of purchases
   
-
   
954
 
Other, net
   
(5
)
 
71
 
Net cash provided by operating activities
   
419
   
1,268
 
               
CASH FLOWS FROM INVESTING ACTIVITIES
             
Proceeds from investments sold:
             
Fixed maturities
   
1,481
   
1,124
 
Equity securities
   
4
   
19
 
Mortgage loans
   
175
   
79
 
Other (primarily short-term investments)
   
3,825
   
4,474
 
Investment maturities and repayments:
             
Fixed maturities
   
635
   
447
 
Mortgage loans
   
159
   
408
 
Investments purchased:
             
Fixed maturities
   
(1,834
)
 
(2,477
)
Equity securities
   
(6
)
 
(14
)
Mortgage loans
   
(380
)
 
(478
)
Other (primarily short-term investments)
   
(4,516
)
 
(4,344
)
Proceeds from sale of businesses
   
-
   
2,103
 
Property and equipment, net
   
(51
)
 
(32
)
Other, net
   
-
   
(25
)
Net cash provided by (used in) investing activities
   
(508
)
 
1,284
 
               
               
CASH FLOWS FROM FINANCING ACTIVITIES
             
Deposits and interest credited to contractholder deposit funds
   
339
   
2,045
 
Withdrawals and benefit payments from contractholder deposit funds
   
(269
)
 
(2,577
)
Change in cash overdraft position
   
(219
)
 
(5
)
Repayment of long-term debt
   
-
   
(76
)
Repurchase common stock
   
(576
)
 
(272
)
Issuance of common stock
   
180
   
24
 
Common dividends paid
   
(6
)
 
(50
)
Net cash used in financing activities
   
(551
)
 
(911
)
               
Net increase (decrease) in cash and cash equivalents
   
(640
)
 
1,641
 
Cash and cash equivalents, beginning of period
   
2,519
   
1,392
 
               
Cash and cash equivalents, end of period
 
$
1,879
 
$
3,033
 
               
Supplemental Disclosure of Cash Information:
             
Income taxes paid, net
 
$
209
 
$
107
 
Interest paid
 
$
52
 
$
57
 
               
The accompanying Notes to the Financial Statements are an integral part of these statements.       
 
4

 
 
CIGNA CORPORATION
NOTES TO THE FINANCIAL STATEMENTS

NOTE 1 - BASIS OF PRESENTATION

The consolidated financial statements include the accounts of CIGNA Corporation, its significant subsidiaries, and variable interest entities of which CIGNA is the primary beneficiary, which are referred to collectively as “CIGNA.” Intercompany transactions and accounts have been eliminated in consolidation. These consolidated financial statements were prepared in conformity with accounting principles generally accepted in the United States.

The interim financial statements are unaudited but include all adjustments (including normal recurring adjustments) necessary, in the opinion of management, for a fair statement of financial position and results of operations for the periods reported. The interim consolidated financial statements and notes should be read in conjunction with the Consolidated Financial Statements and Notes in CIGNA’s 2004 Annual Report to Shareholders and Form 10-K for the year ended 2004.

The preparation of interim financial statements necessarily relies heavily on estimates. This and certain other factors, such as the seasonal nature of portions of the insurance business as well as competitive and other market conditions, call for caution in estimating full year results based on interim results of operations.

Certain reclassifications have been made to prior period amounts to conform to the 2005 presentation.

NOTE 2 - RECENT ACCOUNTING PRONOUNCEMENTS

Stock compensation. Effective October 1, 2004, CIGNA elected to early adopt Statement of Financial Accounting Standards (SFAS) No. 123 (as revised in 2004 and referred to as SFAS 123R) “Share-Based Payment.” Prior period financial statements have been restated to comply with SFAS 123R. This standard requires companies to recognize in net income an estimate of expense for stock awards and options over their vesting periods typically determined as of the date of grant. Compensation expense for stock options is recorded over their vesting periods based on the estimated fair value of the stock options using an option-pricing model. Compensation expense is recorded for restricted stock grants and deferred stock units over their vesting periods based on fair value, which is equal to the market price of CIGNA common stock on the date of grant. Compensation expense for stock options is recorded in Corporate. The following information summarizes the effects of implementing this standard on CIGNA’s prior year net income and earnings per share for stock option expense:
           
(In millions, except per share
amounts)
 
Three Months
Ended      
June 30, 2004
 
Six Months
Ended    
June 30, 2004
 
Net income, prior to implementation
 
$493
     
$566
 
Compensation expense for
stock options, net of taxes,
prior to implementation
         
22
         
27
 
Compensation expense for
stock options, net of taxes,
under SFAS 123R
         
(11
)
       
(21
)
Net income under SFAS 123R
       
 
$504
       
 
$572
 
Net income per share:
                         
Basic - prior to implementation
 
$3.55
       
 
$4.06
 
Basic - as restated
       
 
$3.63
       
 
$4.10
 
Diluted - prior to implementation
 
$3.51
       
 
$4.02
 
Diluted - as restated
       
 
$3.59
       
 
$4.07
 
 
Compensation expense and related tax benefits for stock options, restricted stock and deferred stock units were as follows:
     
 
Three Months
Ended
June 30,
Six Months
Ended
June 30,
(In millions)
2005
2004
2005
2004
Compensation expense
$8
$13
$14
$34
Tax benefits
$3
$5
$5
$12
 
5


Compensation expense for stock options was determined using the following data:

     
 
Three Months
Ended
June 30,
Six Months
Ended
June 30,
(Options in thousands)
2005
2004
2005
2004
Options granted
37
112
818
3,159
Weighted average fair value
of options granted
$37.01
$23.45
$34.02
$19.79

The average fair values were determined using the Black-Scholes option-pricing model under the following assumptions:

     
   
As of
     
June 30,
2005
December 31,
2004
Dividend yield
   
0.1%
0.2%
Expected volatility
   
35.0%
47.6%
Risk-free interest rate
   
3.9%
2.2%
Expected option life
   
5.25 years
3.3 years

The expected volatility of 2005 and 2004 grants reflects CIGNA's past daily stock price volatility. CIGNA does not consider volatility implied in the market prices of traded options to be a good indicator of future volatility because remaining maturities of traded options are less than one year. CIGNA developed the expected option life of 2005 grants by considering certain factors, including assumptions used by other companies with comparable stock option plan features and that CIGNA had cancelled a replacement option feature in June 2004. CIGNA developed the expected option life of 2004 grants considering CIGNA's experience.

Restricted stock granted and the average fair value at the date of grant was as follows:

     
 
Three Months
Ended
June 30,
Six Months
Ended
June 30,
(Grants in thousands)
2005
2004
2005
2004
Restricted stock granted
30
1
312
418
Weighted average fair value
$94.47
$67.12
$91.66
$56.94
 
CIGNA did not award deferred stock units in 2005 or 2004.

In March 2005, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 107, which provided additional guidance to stock option expensing provisions under SFAS 123R. This guidance had no significant impact on CIGNA's early adoption of SFAS 123R; however, CIGNA considered the additional guidance in establishing assumptions to value newly granted stock options under SFAS 123R.

Long-Duration Contracts.  Effective January 1, 2004, CIGNA implemented SOP 03-1, “Accounting and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration Contracts and for Separate Accounts.”

The SOP addresses accounting for certain contractual features of investment-related and universal life contracts and for separate accounts. The cumulative effect of implementing the SOP in the first quarter of 2004 was a reduction to net income of $139 million, of which $136 million resulted from recording liabilities for certain experience-rated pension policyholder contracts based on the appreciated value of associated pools of investments, primarily mortgage loans and real estate. CIGNA recorded additional benefits expense of $17 million pre-tax ($11 million after-tax) in the first quarter of 2004 to reflect the post-implementation effect of this accounting requirement. The sale of CIGNA's retirement benefits business generally resulted in the transfer to the buyer of the pool of investments supporting experience-rated pension policyholder contracts. See Note 4 for information about this sale.

The remaining cumulative effect resulted from implementing the SOP’s requirements applicable to universal life contracts. CIGNA’s accounting for reinsurance of guaranteed minimum death benefit contracts and guaranteed minimum income benefit contracts was not affected by the provisions of the SOP.
 
6


NOTE 3 - INCOME TAXES

During the second quarter of 2005, the Congressional Joint Committee on Taxation approved CIGNA's refund claim relating to a tax loss incurred from the sale of a business in 1999 and the completion of the IRS audit for 2000-2002. Pursuant to this approval, CIGNA recorded tax benefits of $430 million consisting of:

·  
$287 million resulting from capital losses realized in connection with the divestiture of the property and casualty insurance operations in 1999, which is included in income from discontinued operations; and
·  
$143 million resulting primarily from the release of tax reserves and valuation allowances of which:
·  
$81 million is reported as income from continuing operations; and
·  
$62 million relates to the divestiture of CIGNA's Brazilian health care business, which is included in income from discontinued operations.

Distribution from policyholders surplus account. The American Jobs Creation Act of 2004 suspends, for a two-year period commencing January 1, 2005, the tax liability of stock life insurance companies on distributions from the policyholders surplus account. CIGNA's principal subsidiary distributed, with regulatory approval, approximately $330 million from this account to the parent company during the six months of 2005 without incurring federal income tax. For additional information, see Note 13 of CIGNA's 2004 Annual Report to Shareholders.

NOTE 4 - ACQUISITIONS AND DISPOSITIONS

CIGNA may from time to time acquire or dispose of assets, subsidiaries or lines of business. Significant transactions are described below.

Sale of Retirement Benefits Business. On April 1, 2004, CIGNA sold its retirement benefits business, excluding the corporate life insurance business, for cash proceeds of $2.1 billion. The sale resulted in an after-tax gain of $809 million, of which $267 million after-tax was recognized immediately. The sales agreement provides for post closing adjustments however, any future adjustments are not expected to be material to CIGNA's consolidated results of operations, liquidity or financial condition.

As this transaction was primarily in the form of a reinsurance arrangement under which CIGNA retains liability, $542 million of the after-tax gain was deferred. Subsequent to the original reinsurance transaction, the buyer of the retirement benefits business has entered into agreements with some of the insured parties relieving CIGNA of any remaining contractual obligation to those parties. Additional such agreements are expected.

The deferred gain is amortized at the rate at which earnings from the sold business would have been expected to emerge (primarily 15 years on a declining basis) until CIGNA is relieved of any remaining contractual obligation. At that time, CIGNA accelerates recognition of a portion of the deferred gain and also reduces the associated reinsurance recoverables, contractholder deposit funds and separate account balances. CIGNA recognized normal deferred gain amortization in other revenues in the Run-off Retirement segment of $4 million pre-tax ($3 million after-tax) for the second quarter and $18 million pre-tax ($12 million after-tax) for the six months of 2005, compared with $29 million pre-tax ($19 million after-tax) for the second quarter and six months of 2004. CIGNA recorded in other revenues accelerated amortization of deferred gains of $45 million pre-tax ($29 million after-tax) for the second quarter and $305 million pre-tax ($198 million after-tax) for the six months of 2005, compared with $4 million pre-tax ($3 million after-tax) for the second quarter and six months of 2004. The remaining pre-tax deferred gain as of June 30, 2005 was $89 million.

On January 1, 2005, CIGNA transferred the assets of substantially all of the separate accounts related to the retirement benefits business to the buyer. Since the arrangement is modified coinsurance, CIGNA received units of the buyer’s separate accounts and carries those units as separate account assets on its balance sheet for the business not yet directly assumed by the buyer. At June 30, 2005, there were approximately $5.3 billion of separate account assets and liabilities associated with the business not yet directly assumed by the buyer.

At June 30, 2005, CIGNA had approximately $2.0 billion of invested assets, primarily fixed maturities and mortgage loans, supporting a modified coinsurance arrangement with the buyer. These invested assets are held in a business trust established by CIGNA. CIGNA pays or receives cash quarterly to settle the results of the reinsured business, including the investment results of the assets underlying the modified
 
 
7

 
coinsurance arrangement. Through the six months of 2005, CIGNA recorded in other operating expenses a pre-tax charge of $12 million ($8 million after-tax) to offset realized investment results. This charge for realized investment results due to the buyer had no effect on CIGNA's net income.

As a result of this modified coinsurance arrangement, CIGNA has an embedded derivative that transfers to the buyer certain unrealized changes in fair value due to interest rate and credit risks of these assets. CIGNA records these effects in other liabilities and other revenues. A decrease in interest rates could result in a charge to CIGNA's consolidated net income until the modified coinsurance arrangement ends in 2006 when the impact of accounting for this embedded derivative will unwind.

The modified coinsurance arrangement provides for conversion to an indemnity reinsurance structure. The buyer will assume ownership of the trust assets in 2006 unless the buyer elects termination, in which case CIGNA would retain the trust assets and the insurance liabilities. If the buyer elects termination, CIGNA does not expect a material adverse effect to its consolidated results of operations, liquidity or financial condition.

During 2004, CIGNA had another modified coinsurance arrangement, which created an embedded derivative that transferred to the buyer certain unrealized changes in fair value due to interest rates and credit risk of assets supporting certain separate accounts. As a result in the second quarter of 2004, CIGNA recorded $41 million pre-tax of other revenues for these effects. These effects were offset by a pre-tax charge of $41 million reflecting the amortization for the period of the excess of the fair value of related assets over the liabilities under this arrangement.

See Note 11 for additional information.

Discontinued Operations. The table below represents tax benefits recognized in the second quarter of 2005 from past divestitures. See Note 3 for additional information.
 
           
FINANCIAL SUMMARY
 
 
Three Months
Ended
June 30,
 
Six Months
Ended
June 30,
 
(In millions)
 
2005
 
2004
 
2005
 
2004
 
Income tax benefits:
                         
Property and Casualty insurance business
 
 
$287
 
 
$—
 
 
$287
 
 
$—
 
Brazilian Health Care operations
   
62
   
   
62
   
 
Income from discontinued operations
 
 
$349
 
 
$—
 
 
$349
 
 
$—
 

NOTE 5 - COST REDUCTION PROGRAMS

First quarter 2005 program. In the first quarter of 2005, CIGNA implemented a plan to further streamline operations in the health care business and in supporting areas. As a result, CIGNA recognized in other operating expenses a pre-tax charge of $51 million ($33 million after-tax) for severance costs. The table below shows CIGNA's cost reduction activity (pre-tax) related to severance for this program:

               
(In millions)
 
Health
Care
 
Corporate
 
Total
 
First quarter 2005 charge
 
 
$22
 
 
$29
 
 
$51
 
First quarter 2005 payments
   
(1
)
 
(2
)
 
(3
)
Balance as of March 31, 2005
   
21
   
27
   
48
 
Second quarter 2005 payments
   
(5
)
 
(6
)
 
(11
)
Balance as of June 30, 2005
 
 
$16
 
 
$21
 
 
$37
 
 
 
 
8


 
Operational effectiveness review. In the first quarter of 2004, CIGNA adopted a restructuring program associated with planned organizational changes to streamline functional support resources and to adjust its operations to current business volumes. As a result, CIGNA recognized in other operating expenses total pre-tax charges of $86 million ($56 million after-tax) of which $75 million pre-tax ($49 million after-tax) was recorded in the first quarter of 2004.

The table below shows CIGNA’s restructuring activity (pre-tax) related to severance and real estate for this program:

               
(In millions)
 
Health
Care/
Disability
and Life*
 
Corporate
 
Total
 
Balance as of December 31, 2004:
             
Severance
 
 
$11
 
 
$9
 
 
$20
 
Real estate
   
8
   
1
   
9
 
     
19
   
10
   
29
 
First quarter 2005 payments:
                   
Severance
   
(6
)
 
(6
)
 
(12
)
Real estate
   
(1
)
 
-
   
(1
)
Balance as of March 31, 2005
   
12
   
4
   
16
 
                     
Second quarter 2005 payments:
                   
Severance
   
(4
)
 
(2
)
 
(6
)
Real estate
   
(1
)
 
(1
)
 
(2
)
Balance as of June 30, 2005
 
 
$7
 
 
$1
 
 
$8
 

NOTE 6 - GUARANTEED MINIMUM DEATH BENEFIT AND INCOME BENEFIT CONTRACTS

CIGNA’s reinsurance operations, which were discontinued in 2000 and are now an inactive business in run-off mode, reinsured a guaranteed minimum death benefit under certain variable annuities issued by other insurance companies. These variable annuities are essentially investments in mutual funds combined with a death benefit. CIGNA has equity market exposures as a result of this product.

The determination of reserves for guaranteed minimum death benefits requires CIGNA to make critical accounting estimates. CIGNA describes the assumptions used to develop the reserves for these death benefits, and provides the effects of hypothetical changes in those assumptions on page 22 of CIGNA’s 2004 Annual Report to Shareholders. CIGNA regularly evaluates the assumptions used in establishing reserves and changes its estimates if actual experience or other evidence suggests that earlier assumptions should be revised. If actual experience differs from the assumptions and other considerations (including lapse, partial surrender, mortality, interest rates and volatility) used in estimating these reserves, the resulting change could have a material adverse effect on CIGNA’s consolidated results of operations, and in certain situations, could have a material adverse effect on CIGNA’s financial condition. During the first quarter of 2005, CIGNA completed its normal quarterly review of assumptions and recorded an after-tax charge of $11 million ($17 million pre-tax). This charge primarily resulted from an update to lapse assumptions based on emerging experience. The charge also reflects updates to partial surrender assumptions, reflecting the impact of stock market declines, as well as other assumptions. CIGNA had future policy benefit reserves for guaranteed minimum death benefit contracts of approximately $1.0 billion as of June 30, 2005 and December 31, 2004.

The following provides information about CIGNA’s reserving methodology and assumptions for guaranteed minimum death benefits as of June 30, 2005:

·  
The reserves represent estimates of the present value of net amounts expected to be paid, less the present value of net future premiums. Included in net amounts expected to be paid is the excess of the guaranteed death benefits over the values of the contractholders’ accounts (based on underlying equity and bond mutual fund investments).
·  
The reserves include an estimate for partial surrenders that essentially lock in the death benefit for a particular policy based on annual election rates that vary from 0-20% depending on the net amount at risk for each policy and whether surrender charges apply.
·  
The mean investment performance assumption is 5% considering CIGNA's program to reduce equity market exposures using futures and forward contracts.
·  
The volatility assumption is 15-30%, varying by equity fund type; 3-8%, varying by bond fund type; and 1% for money market funds.
·  
The discount rate is 5.75%.
 
_____________
*  Initial charge in the first quarter of 2004 included $2 million pre-tax in the Disability and Life segment.
 
9

 
·  
The mortality assumption is 70-75% of the 1994 Group Annuity Mortality table, with 1% annual improvement beginning January 1, 2000.
·  
The lapse rate assumption is 0-15%, depending on contract type, policy duration and the ratio of the net amount at risk to account value.

As of June 30, 2005, the aggregate fair value of the underlying mutual fund investments was approximately $41.8 billion. The death benefit coverage in force as of that date (representing the amount that CIGNA would have to pay if all 1.1 million contractholders had died on that date) was approximately $8.7 billion. The death benefit coverage in force represents the excess of the guaranteed benefit amount over the fair value of the underlying mutual fund investments.
 
CIGNA recorded in other revenues pre-tax losses of $21 million for the second quarter and pre-tax gains of $17 million for the six months of 2005, compared with pre-tax losses of $29 million for the second quarter and $60 million for the six months of 2004 from futures and forward contracts. Expense offsets reflecting corresponding changes in liabilities for these guaranteed minimum death benefit contracts were included in benefits and expenses. During the first quarter of 2005, CIGNA began using foreign currency futures contracts in place of foreign currency forward contracts as part of its program to reduce international equity market risks associated with this business. The notional or face amount of the futures contract positions held by CIGNA at June 30, 2005, was $1.3 billion.

For further information and details on these contracts and the program adopted to reduce related equity market risk, refer to Note 6 of CIGNA's 2004 Annual Report to Shareholders.

CIGNA has also written reinsurance contracts with issuers of variable annuity contracts that provide annuitants with certain guarantees related to minimum income benefits. See Note 13 for further information.

NOTE 7 - PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS
 
Pension benefits. CIGNA funds its qualified pension plans by at least the minimum amount required by the Employee Retirement Income Security Act of 1974 (ERISA). CIGNA expects to contribute approximately $545 million in 2005 as follows:

·  
$105 million for minimum funding requirements for the domestic pension plan and for voluntary contributions to the international pension plans; and
·  
$440 million for voluntary contributions to the domestic pension plan, which represents an acceleration of expected payments for minimum funding requirements in 2006 and 2007.

The decision to make a voluntary contribution to the domestic pension plan was based upon the favorable economic impact the contribution will have on the funding status of CIGNA's pension plan, including the potential for reducing future additional funding requirements as well as reducing premiums to the Pension Benefit Guaranty Corporation.
 
Components of net pension cost were as follows:
           
   
Three Months
Ended
June 30,
 
Six Months
Ended
June 30,
 
(In millions)
 
2005
 
2004
 
2005
 
2004
 
Service cost
 
 
$19
 
 
$16
 
 
$36
 
 
$38
 
Interest cost
   
55
   
55
   
110
   
110
 
Expected return on plan
assets
   
(44
)
 
(48
)
 
(90
)
 
(96
)
Amortization of:
Net loss from past
experience
   
34
   
30
   
70
   
48
 
Prior service cost
   
   
   
(1
)
 
 
Net pension cost
 
 
$64
 
 
$53
 
 
$125
 
 
$100
 

 
During the second quarter of 2005, CIGNA recorded an after-tax charge of $30 million to increase plan obligations, which resulted in a decrease to shareholders’ equity. This charge was primarily due to the annual update of plan census data.
 
In connection with the sale of the retirement benefits business, the operational effectiveness review and the annual update of plan census data in the second quarter of 2004, CIGNA recorded an
 
10

 
after-tax charge which decreased equity by $39 million for the second quarter and $152 million for the six months of 2004. This charge was primarily due to a reduction in long-term interest rates (from 6.25% to 5.75%) used to determine the accumulated benefit obligation, as well as the update of plan census data, partially offset by the effect of stock market appreciation on plan assets.
 
Other postretirement benefits. Components of net other postretirement benefit cost were as follows:
 

           
   
Three Months
Ended
June 30,
 
Six Months
Ended
June 30,
 
(In millions)
 
2005
 
2004
 
2005
 
2004
 
Service cost
 
 
$—
 
 
$—
 
 
$1
 
 
$1
 
Interest cost
   
4
   
8
   
13
   
17
 
Expected return on plan
assets
   
   
   
(1
)
 
(1
)
Amortization of:
                         
Net gain from past
experience
   
(1
)
 
   
(1
)
 
 
Prior service cost
   
(3
)
 
(4
)
 
(8
)
 
(8
)
Net other postretirement
benefit cost
 
 
$—
 
 
$4
 
 
$4
 
 
$9
 


CIGNA also recognized gains of $14 million pre-tax ($9 million after-tax) for the second quarter and six months of 2004 for other postretirement benefits in connection with the 2004 operational effectiveness review and the sale of the retirement benefits business.

NOTE 8 - INVESTMENTS

Realized Investment Gains and Losses

The following realized gains and losses on investments exclude amounts required to adjust future policy benefits:

           
   
Three Months
Ended
June 30,
 
Six Months
Ended
June 30,
 
(In millions)
 
2005
 
2004
 
2005
 
2004
 
Fixed maturities
 
 
$2
 
 
$107
 
 
$15
 
 
$116
 
Equity securities
   
(1
)
 
10
   
   
12
 
Mortgage loans
   
(2
)
 
219
   
(2
)
 
219
 
Real estate
   
(1
)
 
54
   
(1
)
 
52
 
Derivatives and other
   
4
   
25
   
7
   
37
 
Realized investment gains,
before income taxes
   
2
   
415
   
19
   
436
 
Less income taxes
   
1
   
146
   
7
   
153
 
Net realized investment gains
 
 
$1
 
 
$269
 
 
$12
 
 
$283
 

Fixed Maturities and Equity Securities

Sales of available-for-sale fixed maturities and equity securities were as follows:


           
   
Three Months
Ended
June 30,
 
Six Months
Ended
June 30,
 
(In millions)
 
2005
 
2004
 
2005
 
2004
 
Proceeds from sales
     $887  
 
$490
     $1,485  
 
$1,143
 
Gross gains on sales
 
 
$7
 
 
$176
 
 
$22
 
 
$210
 
Gross losses on sales
 
 
$(8
)
 
$(31
)
 
$(14
)
 
$(34
)

Fixed maturities included securities of $47 million at June 30, 2005 and $56 million at December 31, 2004 classified as trading. These securities are carried at fair value with changes in fair value reported in other revenues.

Review of Declines in Fair Value. Management reviews fixed maturities and equity securities for impairment based on criteria that include:
 
·  length of time and severity of decline;
·  financial health and specific near term prospects of the issuer; and
·  changes in the regulatory, economic or general market environment of the issuer’s industry or geographic region.
 
11

 
As of June 30, 2005, fixed maturities and equity securities with a decline in fair value from cost (primarily investment grade corporate bonds) were as follows, including the length of time of such decline:

               
(In millions)
 
Fair
Value
 
Amortized
Cost
 
Unrealized Depreciation
 
Fixed maturities:
             
One year or less:
             
Investment grade
 
 
$922
 
 
$931
 
 
$(9
)
Below investment
grade
 
 
$145
 
 
$149
 
 
$(4
)
More than one year:
                   
Investment grade
 
 
$644
 
 
$657
 
 
$(13
)
Below investment
grade
 
 
$47
 
 
$48
 
 
$(1
)
Equity securities:
                   
Greater than one
year
 
 
$9
 
 
$10
 
 
$(1
)
 
As of June 30, 2005, CIGNA had commitments to purchase the following investments:

     
(In millions)
 
As of
June 30, 2005
Fixed maturities
 
$68
Mortgage loans
 
 286
Real estate joint ventures
 
    41
Investments in partnerships secured by real estate
    87
Investments in partnerships secured by securities
  136
Total
 
$618

CIGNA expects to disburse most of these committed amounts in 2005.
 
NOTE 9 - ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

Accumulated other comprehensive income (loss) excludes:

·  
amounts required to adjust future policy benefits for certain annuities; and
·  
amounts required to adjust other liabilities after the initial reclassification of unrealized appreciation under a modified coinsurance arrangement.

Changes in accumulated other comprehensive income (loss) for the second quarter and six months ended June 30 are as follows:
               
 
(In millions)
 
Pre-Tax
 
Tax
(Expense)
Benefit
 
After-Tax
 
Three Months Ended June 30,
 
2005
             
Net unrealized appreciation,
securities:
             
Unrealized appreciation on securities
held
 
 
$188
 
 
$(65
)
 
$123
 
Gains realized on securities
   
(1
)
 
   
$(1
)
Net unrealized appreciation, securities
 
 
$187
 
 
$(65
)
 
$122
 
Net unrealized appreciation,
derivatives
 
 
$14
 
 
$(5
)
 
$9
 
Net translation of foreign
currencies
 
 
$(11
)
 
$3
 
 
$(8
)
Minimum pension liability
adjustment
 
 
$(46
)
 
$16
 
 
$(30
)
2004
                   
Net unrealized depreciation,
securities:
                   
Unrealized depreciation on securities
held
 
 
$(462
)
 
$157
 
 
$(305
)
Gains realized on securities
   
(117
)
 
41
   
(76
)
Reclassification to other liabilities for
modified coinsurance
   
(256
)
 
90
   
(166
)
Net unrealized depreciation, securities
 
 
$(835
)
 
$288
 
 
$(547
)
Net unrealized depreciation,
derivatives
 
 
$(3
)
 
$2
 
 
$(1
)
Net translation of foreign
currencies
 
 
$(17
)
 
$6
 
 
$(11
)
Minimum pension liability adjustment
 
 
$(60
)
 
$21
 
 
$(39
)

 
12



               
(In millions)
 
Pre-Tax
 
Tax
(Expense)
Benefit
 
After-Tax
 
Six months ended June 30,
             
2005
             
Net unrealized depreciation,
securities:
                   
Unrealized depreciation on securities
held
 
 
$(25
)
 
$9
 
 
$(16
)
Gains realized on securities
   
(15
)
 
5
   
(10
)
Net unrealized depreciation, securities
 
 
$(40
)
 
$14
 
 
$(26
)
Net unrealized appreciation,
derivatives
 
 
$12
 
 
$(5
)
 
$7
 
Net translation of foreign
currencies
 
 
$(6
)
 
$1
 
 
$(5
)
Minimum pension liability
adjustment
 
 
$(46
)
 
$16
 
 
$(30
)
2004
                   
Net unrealized depreciation,
securities:
                   
Unrealized depreciation on securities
held
 
 
$(218
)
 
$72
 
 
$(146
)
Gains realized on securities
   
(128
)
 
45
   
(83
)
Reclassification to other liabilities for
modified coinsurance
   
(256
)
 
90
   
(166
)
Net unrealized depreciation, securities
 
 
$(602
)
 
$207
 
 
$(395
)
Net unrealized appreciation,
derivatives
 
 
$8
 
 
$(2
)
 
$6
 
Net translation of foreign
currencies
 
 
$(4
)
 
$2
 
 
$(2
)
Minimum pension liability
adjustment
 
 
$(234
)
 
$82
 
 
$(152
)

NOTE 10 - EARNINGS PER SHARE

Basic and diluted earnings per share were computed as follows:

               
(Dollars in millions, except per share
amounts)
 
Basic
 
Effect of
Dilution
 
Diluted
 
Three Months Ended June 30,
             
2005
             
Income from continuing
operations
 
 
$371
   
 
 
$371
 
Shares (in thousands):
                   
Weighted average
   
128,986
   
   
128,986
 
Options and restricted stock grants
         
2,360
   
2,360
 
Total shares
   
128,986
   
2,360
   
131,346
 
EPS
 
 
$2.88
 
 
$(0.06
)
 
$2.82
 
2004
                   
Income from continuing
operations
 
 
$504
 
 
$—
 
 
$504
 
Shares (in thousands):
                   
Weighted average
   
138,801
   
   
138,801
 
Options and restricted stock grants
         
1,427
   
1,427
 
Total shares
   
138,801
   
1,427
   
140,228
 
EPS
 
 
$3.63
 
 
$(0.04
)
 
$3.59
 
 
 
 
                     
(Dollars in millions, except per share
amounts)
   
Basic
 
 
Effect of
Dilution
 
 
Diluted
 
Six Months Ended June 30,
                   
2005
                   
Income from continuing
operations
 
 
$807
   
 
 
$807
 
Shares (in thousands):
                   
Weighted average
   
129,850
   
   
129,850
 
Options and restricted stock grants
         
2,182
   
2,182
 
Total shares
   
129,850
   
2,182
   
132,032
 
EPS
 
 
$6.21
 
 
$(0.10
)
 
$6.11
 
2004
                   
Income from continuing
operations
 
 
$711
   
 
 
$711
 
Shares (in thousands):
                   
Weighted average
   
139,402
   
   
139,402
 
Options and restricted stock grants
         
1,272
   
1,272
 
Total shares
   
139,402
   
1,272
   
140,674
 
EPS
 
 
$5.10
 
 
$(0.05
)
 
$5.05
 

Outstanding employee stock options to purchase approximately 3.3 million shares for the second quarter and 4.8 million shares for the six months ended June 30, 2005, and 12.4 million shares for the second quarter and 13.6 million shares for the six months ended June 30, 2004, were not included in the computation of diluted earnings per share because their effect would have been antidilutive as the estimated proceeds from their exercise was greater than the average share price of CIGNA's common shares for the period.

Common shares held as Treasury shares were 31,460,719 as of June 30, 2005, and 138,583,374 as of June 30, 2004.

NOTE 11 - REINSURANCE

In the normal course of business, CIGNA’s insurance subsidiaries enter into agreements with other insurance companies to assume and cede reinsurance. Reinsurance is ceded primarily to limit losses from large exposures and to permit recovery of a portion of direct losses. Reinsurance does not relieve the originating insurer of liability. CIGNA evaluates the financial condition of its reinsurers and monitors their concentrations of credit risk.
 
 
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