10-Q 1 form10-q.htm FORM 10-Q Document



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
    
FORM 10-Q

(Mark One)

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

For the quarterly period ended March 31, 2017
or

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

For the transition period from _________ to_________

Commission File Number: 1-16095

aetnalogoa_02a06.jpg
Aetna Inc.
(Exact name of registrant as specified in its charter)

Pennsylvania
(State or other jurisdiction of incorporation or organization)
23-2229683
(I.R.S. Employer Identification No.)
151 Farmington Avenue, Hartford, CT
(Address of principal executive offices)
06156
(Zip Code)
Registrant’s telephone number, including area code:
(860) 273-0123
 
 
Former name, former address and former fiscal year, if changed since last report: N/A

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. þ Yes o No

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer þ
 
Accelerated filer o
Non-accelerated filer o  (Do not check if a smaller reporting company)
Smaller reporting company o
 
 
Emerging growth company o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
 
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o Yes þ No

There were 331.7 million shares of the registrant’s voting common stock with a par value of $.01 per share outstanding at March 31, 2017.




Aetna Inc.
Form 10-Q
For the Quarterly Period Ended March 31, 2017

Unless the context otherwise requires, references to the terms “we”, “our” or “us” used throughout this Quarterly Report on Form 10-Q (except the Report of Independent Registered Public Accounting Firm), refer to Aetna Inc. (a Pennsylvania corporation) (“Aetna”) and its subsidiaries (collectively, the “Company”).






Part I.
Financial Information


Item 1.
Financial Statements
Index to Consolidated Financial Statements



Page 1


Consolidated Balance Sheets
 
 
 
 
(Unaudited)

 
 
(Millions)
 
 
 
At March 31, 2017

 
At December 31, 2016

Assets:
 
 
 
 
 
 
Current assets:
 
 
 
 
 
 
Cash and cash equivalents
 
 
 
$
3,877

 
$
17,996

Investments
 
 
 
3,079

 
3,046

Premiums receivable, net
 
 
 
2,745

 
2,356

Other receivables, net
 
 
 
2,367

 
2,224

Accrued investment income
 
 
 
230

 
232

Income taxes receivable
 
 
 
75

 
44

Other current assets
 
 
 
2,645

 
2,551

Total current assets
 
 
 
15,018

 
28,449

Long-term investments
 
 
 
21,922

 
21,833

Reinsurance recoverables
 
 
 
716

 
727

Goodwill
 
 
 
10,637

 
10,637

Other acquired intangible assets, net
 
 
 
1,382

 
1,442

Property and equipment, net
 
 
 
577

 
587

Deferred income taxes
 
 
 
93

 

Other long-term assets
 
 
 
1,762

 
1,480

Separate Accounts assets
 
 
 
4,244

 
3,991

Total assets
 
 
 
$
56,351

 
$
69,146

 
 
 
 
 
 
 
Liabilities and shareholders’ equity:
 
 
 
 

 
 

Current liabilities:
 
 
 
 

 
 

Health care costs payable
 
 
 
$
6,432

 
$
6,558

Future policy benefits
 
 
 
645

 
645

Unpaid claims
 
 
 
790

 
801

Unearned premiums
 
 
 
2,078

 
556

Policyholders’ funds
 
 
 
2,775

 
2,772

Current portion of long-term debt
 
 
 
1,249

 
1,634

Accrued expenses and other current liabilities
 
 
 
5,579

 
5,728

Total current liabilities
 
 
 
19,548

 
18,694

Future policy benefits
 
 
 
5,908

 
5,929

Unpaid claims
 
 
 
1,705

 
1,703

Policyholders’ funds
 
 
 
870

 
812

Long-term debt, less current portion
 
 
 
8,174

 
19,027

Deferred income taxes
 
 
 

 
4

Other long-term liabilities
 
 
 
1,564

 
1,043

Separate Accounts liabilities
 
 
 
4,244

 
3,991

Total liabilities
 
 
 
42,013

 
51,203

Commitments and contingencies (Note 14)
 
 
 


 


Shareholders’ equity:
 
 
 
 
 
 

Common stock ($.01 par value; 2.5 billion shares authorized and 331.7 million shares issued and outstanding in 2017; 2.5 billion shares authorized and 351.7 million shares issued and outstanding in 2016) and additional paid-in capital
 
 
 
4,006

 
4,716

Retained earnings
 
 
 
11,531

 
14,717

Accumulated other comprehensive loss
 
 
 
(1,276
)
 
(1,552
)
Total Aetna shareholders’ equity
 
 
 
14,261

 
17,881

Non-controlling interests
 
 
 
77

 
62

Total equity
 
 
 
14,338

 
17,943

Total liabilities and equity
 
 
 
$
56,351

 
$
69,146

 
 
 
 
 
 
 
Refer to accompanying Condensed Notes to Consolidated Financial Statements (Unaudited).

Page 2


Consolidated Statements of Income
(Unaudited)
 
 
 
 
For the Three Months
 
 
 
 
Ended March 31,
(Millions, except per common share data)
 
2017

 
2016

Revenue:
 
 
 
 
 
 
Health care premiums
 
 
 
$
13,219

 
$
13,469

Other premiums
 
 
 
544

 
540

Fees and other revenue (1)
 
 
 
1,475

 
1,467

Net investment income
 
 
 
260

 
218

Net realized capital losses
 
 
 
(333
)
 
(1
)
Total revenue
 
 
 
15,165

 
15,693

Benefits and expenses:
 
 
 
 
 
 
Health care costs (2)
 
 
 
10,916

 
10,848

Current and future benefits
 
 
 
545

 
529

Operating expenses:
 
 
 
 
 
 
Selling expenses
 
 
 
421

 
421

General and administrative expenses
 
 
 
3,432

 
2,442

Total operating expenses
 
 
 
3,853

 
2,863

Interest expense
 
 
 
173

 
102

Amortization of other acquired intangible assets
 
 
 
60

 
62

Loss on early extinguishment of long-term debt
 
 
 
246

 

Total benefits and expenses
 
 
 
15,793

 
14,404

(Loss) income before income taxes
 
 
 
(628
)
 
1,289

Income taxes:
 
 
 
 
 
 
Current
 
 
 
(7
)
 
560

Deferred
 
 
 
(242
)
 
(9
)
Total income tax (benefit) expense
 
 
 
(249
)
 
551

Net (loss) income including non-controlling interests
 
 
 
(379
)
 
738

Less: Net income attributable to non-controlling interests
2

 
1

Net (loss) income attributable to Aetna
 
 
 
$
(381
)
 
$
737

(Loss) earnings per common share:
 
 
 
 
 
 
Basic
 
 
 
$
(1.11
)
 
$
2.10

Diluted
 
 
 
$
(1.11
)
 
$
2.08

 
 
 
 
 
 
 
(1) 
Fees and other revenue include administrative services contract member co-payments and plan sponsor reimbursements related to our mail order and specialty pharmacy operations of $31 million and $24 million (net of pharmaceutical and processing costs of $340 million and $308 million) for the three months ended March 31, 2017 and 2016, respectively.
(2) 
Health care costs have been reduced by Insured member co-payments related to our mail order and specialty pharmacy operations of $34 million for each of the three month periods ended March 31, 2017 and 2016.

Refer to accompanying Condensed Notes to Consolidated Financial Statements (Unaudited).

Page 3


Consolidated Statements of Comprehensive Income
(Unaudited)


 
For the Three Months
 
Ended March 31,
(Millions)
2017

 
2016

Net (loss) income including non-controlling interests
$
(379
)
 
$
738

Other comprehensive income, net of tax:
 
 
 
    Previously impaired debt securities

 
1

    All other securities
44

 
221

    Derivatives and foreign currency
222

 
(157
)
Pension and other postretirement employee benefit (“OPEB”) plans
10

 
10

Other comprehensive income
276

 
75

Comprehensive (loss) income including non-controlling interests
(103
)
 
813

Less: Comprehensive income attributable to non-controlling interests
2

 
1

Comprehensive (loss) income attributable to Aetna
$
(105
)
 
$
812

 
 
 
 



Refer to accompanying Condensed Notes to Consolidated Financial Statements (Unaudited), including Note 11 for further information about other comprehensive (loss) income.


Page 4


Consolidated Statements of Shareholders’ Equity
(Unaudited)

 
 
 
Attributable to Aetna
 
 
 
 
(Millions)
Number of
Common
Shares
Outstanding

 
Common
Stock and
Additional
Paid-in
Capital

 
Retained
Earnings

 
Accumulated
Other
Comprehensive
Loss

 
Total Aetna
Shareholders’
Equity

 
Non-Controlling Interests

 
Total
Equity

Three Months Ended March 31, 2017
 
 
 
 
 
 
 
 
 
 
 
 
Balance at December 31, 2016
351.7

 
$
4,716

 
$
14,717

 
$
(1,552
)
 
$
17,881

 
$
62

 
$
17,943

Net (loss) income

 

 
(381
)
 

 
(381
)
 
2

 
(379
)
Other increases in non-controlling interest

 

 

 

 

 
13

 
13

Other comprehensive income (Note 11)

 

 

 
276

 
276

 

 
276

Common shares issued for benefit plans, net of employee tax withholdings
0.9

 
(49
)
 

 

 
(49
)
 

 
(49
)
Repurchases of common shares
(20.9
)
 
(661
)
 
(2,639
)
 

 
(3,300
)
 

 
(3,300
)
Dividends declared

 

 
(166
)
 

 
(166
)
 

 
(166
)
Balance at March 31, 2017
$
331.7

 
$
4,006

 
$
11,531

 
$
(1,276
)
 
$
14,261

 
$
77

 
$
14,338

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended March 31, 2016
 
 
 
 
 
 
 
 
 
 
 
 
Balance at December 31, 2015
349.5

 
$
4,647

 
$
12,797

 
$
(1,330
)
 
$
16,114

 
$
65

 
$
16,179

Net income

 

 
737

 

 
737

 
1

 
738

Other decreases in non-controlling interest

 

 

 

 

 
(1
)
 
(1
)
Other comprehensive income (Note 11)

 

 

 
75

 
75

 

 
75

Common shares issued for benefit plans, net of employee tax withholdings
1.1

 
(15
)
 

 

 
(15
)
 

 
(15
)
Dividends declared

 

 
(88
)
 

 
(88
)
 

 
(88
)
Balance at March 31, 2016
350.6

 
$
4,632

 
$
13,446

 
$
(1,255
)
 
$
16,823

 
$
65

 
$
16,888



Refer to accompanying Condensed Notes to Consolidated Financial Statements (Unaudited).


Page 5


Consolidated Statements of Cash Flows
(Unaudited)
 
 
 
 
Three Months Ended
 
 
 
 
March 31,
(Millions)
 
2017

 
2016

Cash flows from operating activities:
 
 
 
 
 
 
Net (loss) income including non-controlling interests
 
 
 
$
(379
)
 
$
738

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Net realized capital losses
 
 
 
333

 
1

Depreciation and amortization
 
 
 
160

 
169

Debt fair value amortization
 
 
 
(7
)
 
(7
)
Equity in (earnings) losses of affiliates, net
 
 
 
(38
)
 
15

Stock-based compensation expense
 
 
 
54

 
54

Amortization of net investment premium
 
 
 
17

 
21

Loss on early extinguishment of long-term debt
 
 
 
246

 

Changes in assets and liabilities:
 
 
 
 
 
 
Premiums due and other receivables
 
 
 
(477
)
 
(182
)
Income taxes
 
 
 
(271
)
 
519

Other assets and other liabilities
 
 
 
(95
)
 
(262
)
Health care and insurance liabilities
 
 
 
1,356

 
725

Net cash provided by operating activities
 
 
 
899

 
1,791

Cash flows from investing activities:
 
 
 
 

 
 

Proceeds from sales and maturities of investments
 
 
 
2,738

 
2,938

Cost of investments
 
 
 
(2,723
)
 
(3,060
)
Additions to property, equipment and software
 
 
 
(71
)
 
(55
)
Net cash used for investing activities
 
 
 
(56
)
 
(177
)
Cash flows from financing activities:
 
 
 
 

 
 

Repayment of long-term debt
 
 
 
(11,484
)
 

Common shares issued under benefit plans, net
 
 
 
(103
)
 
(79
)
Common shares repurchased
 
 
 
(3,300
)
 

Dividends paid to shareholders
 
 
 
(88
)
 
(87
)
Net payment on interest rate derivatives
 
 
 

 
(206
)
Contributions, non-controlling interests
 
 
 
13

 

Net cash used for financing activities
 
 
 
(14,962
)
 
(372
)
Net (decrease) increase in cash and cash equivalents
 
 
 
(14,119
)
 
1,242

Cash and cash equivalents, beginning of period
 
 
 
17,996

 
2,524

Cash and cash equivalents, end of period
 
 
 
$
3,877

 
$
3,766

Supplemental cash flow information:
 
 
 
 

 
 

Interest paid
 
 
 
$
130

 
$
44

Income taxes paid
 
 
 
22

 
31

 
 
 
 
 
 
 
 
 Refer to accompanying Condensed Notes to Consolidated Financial Statements (Unaudited).

Page 6


Condensed Notes to Consolidated Financial Statements
(Unaudited)

1.
Organization

We conduct our operations in three business segments:
Health Care consists of medical, pharmacy benefit management services, dental, behavioral health and vision plans offered on both an Insured basis (where we assume all or a majority of the risk for medical and dental care costs) and an employer-funded basis (where the plan sponsor under an administrative services contract (“ASC”) assumes all or a majority of this risk) and emerging business products and services that complement and enhance our medical products. We also offer Medicare and Medicaid products and services and other medical products, such as medical management and data analytics services, medical stop loss insurance, workers’ compensation administrative services and products that provide access to our provider networks in select geographies.
Group Insurance primarily includes group life insurance and group disability products. Group life insurance products are offered on an Insured basis. Group disability products are offered to employers on both an Insured and an ASC basis. Group Insurance also includes long-term care products that were offered primarily on an Insured basis. We no longer solicit or accept new long-term care customers.
Large Case Pensions manages a variety of retirement products (including pension and annuity products) primarily for tax-qualified pension plans. These products provide a variety of funding and benefit payment distribution options and other services. Large Case Pensions also includes certain discontinued products (refer to Note 16 for additional information).

2.
Summary of Significant Accounting Policies

Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial reporting. Accordingly, they do not include all of the information and footnotes required by GAAP for annual financial statements. We have omitted certain footnote disclosures that would substantially duplicate the disclosures in our 2016 Annual Report on Form 10-K (our “2016 Annual Report”), unless the information contained in those disclosures materially changed or is required by GAAP. The accompanying unaudited consolidated financial statements and related condensed notes should be read in conjunction with the consolidated financial statements and related notes presented in our 2016 Annual Report.

These interim financial statements necessarily rely on estimates, including assumptions as to annualized tax rates.  In the opinion of management, all adjustments necessary for a fair statement of results for the interim periods have been made.  All such adjustments are of a normal, recurring nature.  The Company has evaluated subsequent events that occurred after March 31, 2017 through the date the financial statements were issued and determined there were no subsequent events to disclose.

Reclassifications
Certain reclassifications were made to 2016 financial information to conform with the 2017 presentation.

New Accounting Standards
Simplifying the Test for Goodwill Impairment
Effective January 1, 2017, we adopted, on a prospective basis, new accounting guidance which simplifies the accounting for goodwill impairment. The new guidance eliminates the requirement to calculate the implied fair value of goodwill to measure a goodwill impairment charge. A goodwill impairment charge would be recognized if the carrying amount of a reporting unit exceeds the estimated fair value of the reporting unit. The adoption of this new guidance is not expected to have a material impact on our financial position or operating results.

Classification of Certain Cash Receipts and Cash Payments in the Statement of Cash Flows
Effective January 1, 2017, we adopted, on a retrospective basis, new accounting guidance which clarifies the classification of certain cash receipts and cash payments in our Consolidated Statements of Cash Flows. As a result, certain cash distributions received from our equity method investments will now be classified as cash inflows from operating activities. These cash distributions previously were classified as cash inflows from investing activities. There were no material reclassifications in our Consolidated Statements of Cash Flows for the three months ended March 31, 2017 and March 31, 2016 as a result of the adoption of this new guidance.

Page 7




Future Application of Accounting Standards
Revenue from Contracts with Customers
Effective January 1, 2018, we will adopt new accounting guidance related to revenue recognition from contracts with customers. While industry-specific guidance related to contracts with customers within the scope of Accounting Standards Codification (“ASC”) 944 Financial Services - Insurance remains unchanged, most other industry-specific revenue recognition requirements have been removed. The new guidance requires that an entity recognize revenue for the transfer of goods or services to a customer at an amount that reflects the consideration to which an entity expects to be entitled in exchange for those goods or services. The new guidance also requires additional disclosures regarding the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts. We currently anticipate adopting the new guidance using the modified retrospective approach with a cumulative effect adjustment to retained earnings. While we are still evaluating the impact of this new guidance on our financial statements, we anticipate that any impact will only relate to contracts with customers outside the scope of ASC Topic 944. Adoption of this new guidance could result in reclassifications within our Consolidated Statements of Income; however, we do not anticipate any material changes in the timing of our recognition of revenue or net income.

Recognition and Measurement of Financial Assets and Financial Liabilities
Effective January 1, 2018, we will adopt new accounting guidance related to the recognition and measurement of financial assets and financial liabilities. Under the new guidance, all equity investments in unconsolidated entities will be measured at fair value with changes in fair value recognized in net income. A reporting entity may elect to report equity investments without a readily determinable fair value at cost. The new guidance also revises certain disclosures regarding financial assets and liabilities. The adoption of this new guidance is not expected to have a material impact on our financial position or operating results.

Leases
Effective January 1, 2019, we will adopt new accounting guidance related to the recognition, measurement and disclosure requirements for leases. Under the new guidance, lessees will be required to recognize a right-of-use asset and corresponding lease liability on their balance sheets for all leases other than those that meet the definition of a short-term lease. The new guidance also revises certain disclosure requirements regarding leases. While we are still evaluating the impact of adoption of this new guidance, we anticipate that we will be required to record an asset and corresponding liability related to our operating leases (as described in Note 17 in our 2016 Annual Report) on our Consolidated Balance Sheets.

Accounting for Interest Associated with the Purchase of Callable Debt Securities
Effective January 1, 2019, we will adopt new accounting guidance related to the amortization of purchased callable debt securities held at a premium. Under the new guidance, premiums on callable debt securities are amortized to the earliest call date rather than to the contractual maturity date.  Callable debt securities held at a discount will continue to be amortized to the contractual maturity date. We are still assessing the impact of this new guidance on our financial position and operating results.

Measurement of Credit Losses on Financial Instruments
Effective January 1, 2020, we will adopt new accounting guidance related to the measurement of credit losses on financial assets and certain other instruments. The new guidance requires the use of a new forward-looking expected loss impairment model for trade and other receivables, held-to-maturity debt securities, loans and other instruments. The new guidance also requires impairments and recoveries for available-for-sale debt securities to be recorded through an allowance account and revises certain disclosure requirements. We are still assessing the impact of this new guidance on our financial position and operating results.

3.
Terminated Acquisition and Terminated Divestiture

On July 2, 2015, we entered into a definitive agreement (the "Merger Agreement") to acquire Humana Inc. ("Humana"). On July 21, 2016, the U.S. Department of Justice (the “DOJ”) and certain state attorneys general filed a civil complaint in the U.S. District Court for the District of Columbia (the “District Court”) against us and Humana charging that our acquisition of Humana (the “Humana Transaction”) would violate Section 7 of the Clayton Antitrust Act, and seeking a permanent injunction to prevent Aetna from acquiring Humana. On January 23, 2017, the District Court granted the DOJ’s request to enjoin the Humana Transaction.


Page 8



On February 14, 2017, Aetna and Humana entered into a mutual termination agreement (the “Termination Agreement”) pursuant to which the parties thereto (collectively the “Parties”) agreed to terminate the Merger Agreement, including all schedules and exhibits thereto, and all ancillary agreements contemplated thereby, entered pursuant thereto or entered in connection therewith (other than certain confidentiality agreements) (collectively with the Merger Agreement, the “Transaction Documents”), effective immediately as of February 14, 2017 (the “Termination Date”). Under the Termination Agreement, Aetna agreed to pay Humana the Regulatory Termination Fee (as defined in the Merger Agreement) of $1.0 billion in cash in full satisfaction of any amounts required to be paid by Aetna under the Merger Agreement. The Parties also agreed to release each other from any and all liability, claims, rights, actions, causes of action, suits, liens, obligations, accounts, debts, demands, agreements, promises, liabilities, controversies, costs, charges, damages, expenses and fees, however arising, in connection with, arising out of or related to the Transaction Documents, the transactions contemplated therein or thereby or certain related matters. We paid Humana the Regulatory Termination Fee on February 16, 2017 and recorded the expense in general and administrative expenses. We funded that payment with the proceeds of the 2016 senior notes (as defined below).

In June 2016, we issued $13.0 billion of senior notes to partially fund the Humana Transaction (collectively, the “2016 senior notes”). In accordance with the terms of the 2016 senior notes, on February 14, 2017, we issued a notice of redemption for $10.2 billion aggregate principal amount of certain of the 2016 senior notes (collectively, the “Special Mandatory Redemption Notes”) at a redemption price equal to 101% of the aggregate principal amount of those notes plus accrued and unpaid interest. We redeemed the Special Mandatory Redemption Notes on March 16, 2017, and we funded the redemption with the proceeds of the 2016 senior notes. As a result of the redemption of the Special Mandatory Redemption Notes, we recognized certain costs in our net income during the three months ended March 31, 2017. Refer to Note 8 for additional information.

In order to address the DOJ’s perceived competitive concerns regarding Medicare Advantage relating to the Humana Transaction, on August 2, 2016, we entered into a definitive agreement (the “Aetna APA”) to sell for cash to Molina Healthcare, Inc. (“Molina”) certain of our Medicare Advantage assets. On February 14, 2017, Aetna and Molina entered into a Termination Agreement (the “APA Termination Agreement”) pursuant to which Aetna terminated the Aetna APA, including all schedules and exhibits thereto, and all ancillary agreements contemplated thereby or entered pursuant thereto. Under the APA Termination Agreement, Aetna agreed to pay Molina in cash (a) a termination fee of $53 million and (b) approximately 70% of Molina’s transaction costs. We paid Molina the termination fee on February 16, 2017 and the applicable transaction costs of $7 million on February 27, 2017 and recorded the expense in general and administrative expenses. The payments were funded with the proceeds of the 2016 senior notes.

4.    Investments

Total investments at March 31, 2017 and December 31, 2016 were as follows:
 
March 31, 2017
 
December 31, 2016
(Millions)
Current

 
Long-term

 
Total

 
Current

 
Long-term

 
Total

Debt and equity securities available for sale
$
2,928

 
$
18,925

 
$
21,853

 
$
2,876

 
$
18,866

 
$
21,742

Mortgage loans
151

 
1,356

 
1,507

 
170

 
1,341

 
1,511

Other investments

 
1,641

 
1,641

 

 
1,626

 
1,626

Total investments
$
3,079

 
$
21,922

 
$
25,001

 
$
3,046

 
$
21,833

 
$
24,879



Page 9



Debt and Equity Securities
Debt and equity securities available for sale at March 31, 2017 and December 31, 2016 were as follows:
(Millions)
Amortized
Cost

 
Gross
Unrealized
Gains

 
Gross
Unrealized
Losses

 
Fair
Value

March 31, 2017
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
U.S. government securities
$
1,595

 
$
49

 
$

 
$
1,644

States, municipalities and political subdivisions
4,886

 
170

 
(41
)
 
5,015

U.S. corporate securities
8,400

 
394

 
(44
)
 
8,750

Foreign securities
3,004

 
180

 
(17
)
 
3,167

Residential mortgage-backed securities
760

 
9

 
(7
)
 
762

Commercial mortgage-backed securities
1,331

 
3

 
(36
)
 
1,298

Other asset-backed securities
1,108

 
9

 
(5
)
 
1,112

Redeemable preferred securities
22

 
5

 

 
27

Total debt securities
21,106

 
819

 
(150
)
 
21,775

Equity securities
69

 
11

 
(2
)
 
78

Total debt and equity securities (1)(2)
$
21,175

 
$
830

 
$
(152
)
 
$
21,853

December 31, 2016
 

 
 

 
 

 
 

Debt securities:
 

 
 

 
 

 
 

U.S. government securities
$
1,643

 
$
51

 
$

 
$
1,694

States, municipalities and political subdivisions
5,047

 
152

 
(61
)
 
5,138

U.S. corporate securities
8,145

 
385

 
(55
)
 
8,475

Foreign securities
2,958

 
163

 
(33
)
 
3,088

Residential mortgage-backed securities
793

 
11

 
(9
)
 
795

Commercial mortgage-backed securities
1,382

 
5

 
(39
)
 
1,348

Other asset-backed securities
1,077

 
7

 
(9
)
 
1,075

Redeemable preferred securities
22

 
5

 

 
27

Total debt securities
21,067

 
779

 
(206
)
 
21,640

Equity securities
84

 
20

 
(2
)
 
102

Total debt and equity securities (1)(2)
$
21,151

 
$
799

 
$
(208
)
 
$
21,742

 
 
 
 
 
 
 
 
(1) 
At both March 31, 2017 and December 31, 2016, we held securities for which we previously recognized an immaterial amount of non-credit related impairments in accumulated other comprehensive loss. These securities each had an immaterial amount of net unrealized capital gains at both March 31, 2017 and December 31, 2016.
(2) 
Investment risks associated with our experience-rated and discontinued products generally do not impact our operating results (refer to Note 16 for additional information on our accounting for discontinued products).  At March 31, 2017, debt and equity securities with a fair value of approximately $2.8 billion, gross unrealized capital gains of $192 million and gross unrealized capital losses of $29 million and, at December 31, 2016, debt and equity securities with a fair value of approximately $2.9 billion, gross unrealized capital gains of $195 million and gross unrealized capital losses of $35 million were included in total debt and equity securities, but support our experience-rated and discontinued products.  Changes in net unrealized capital gains (losses) on these securities are not reflected in accumulated other comprehensive income.


Page 10



The fair value of debt securities at March 31, 2017 is shown below by contractual maturity.  Actual maturities may differ from contractual maturities because securities may be restructured, called or prepaid, or we intend to sell a security prior to maturity.
(Millions)
Amortized Cost

 
Fair
Value

Due to mature:
 
 
 
Less than one year
$
1,498

 
$
1,513

One year through five years
6,948

 
7,121

After five years through ten years
4,775

 
4,909

Greater than ten years
4,686

 
5,060

Residential mortgage-backed securities
760

 
762

Commercial mortgage-backed securities
1,331

 
1,298

Other asset-backed securities
1,108

 
1,112

Total
$
21,106

 
$
21,775

 
Mortgage-Backed and Other Asset-Backed Securities
All of our residential mortgage-backed securities at March 31, 2017 were issued by the Government National Mortgage Association, the Federal National Mortgage Association or the Federal Home Loan Mortgage Corporation and carry agency guarantees and explicit or implicit guarantees by the U.S. Government.  At March 31, 2017, our residential mortgage-backed securities had an average credit quality rating of AAA and a weighted average duration of 4.7 years.

Our commercial mortgage-backed securities have underlying loans that are dispersed throughout the United States.  Significant market observable inputs used to value these securities include loss severity and probability of default.  At March 31, 2017, these securities had an average credit quality rating of AAA and a weighted average duration of 6.9 years.

Our other asset-backed securities have a variety of underlying collateral (e.g., automobile loans, credit card receivables, home equity loans and commercial loans).  Significant market observable inputs used to value these securities include the unemployment rate, loss severity and probability of default.  At March 31, 2017, these securities had an average credit quality rating of AA- and a weighted average duration of 1.3 years.


Page 11



Summarized below are the debt and equity securities we held at March 31, 2017 and December 31, 2016 that were in an unrealized capital loss position, aggregated by the length of time the investments have been in that position:
 
Less than 12 months
 
Greater than 12 months
 
Total (1)
(Millions, except number of securities)
Number of Securities

 
Fair
Value

 
Unrealized
Losses

 
Number of Securities

 
Fair
Value

 
Unrealized
Losses

 
Number of Securities

 
Fair
Value

 
Unrealized
Losses

March 31, 2017
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
U.S. government securities
32

 
$
59

 
$

 

 
$

 
$

 
32

 
$
59

 
$

States, municipalities and political subdivisions
530

 
1,539

 
38

 
45

 
87

 
3

 
575

 
1,626

 
41

U.S. corporate securities
1,210

 
1,965

 
35

 
79

 
78

 
9

 
1,289

 
2,043

 
44

Foreign securities
421

 
693

 
15

 
42

 
57

 
2

 
463

 
750

 
17

Residential mortgage-backed securities
194

 
431

 
7

 
102

 
16

 

 
296

 
447

 
7

Commercial mortgage-backed securities
280

 
1,025

 
36

 

 

 

 
280

 
1,025

 
36

Other asset-backed securities
239

 
449

 
3

 
114

 
102

 
2

 
353

 
551

 
5

Total debt securities
2,906

 
6,161

 
134

 
382

 
340

 
16

 
3,288

 
6,501

 
150

Equity securities
1

 
4

 

 
10

 
2

 
2

 
11

 
6

 
2

Total debt and equity securities (1)
2,907

 
$
6,165

 
$
134

 
392

 
$
342

 
$
18

 
3,299

 
$
6,507

 
$
152

December 31, 2016
 
 
 

 
 

 
 
 
 

 
 

 
 
 
 

 
 

Debt securities:
 
 
 

 
 

 
 
 
 

 
 

 
 
 
 

 
 

U.S. government securities
26

 
$
39

 
$

 
1

 
$
1

 
$

 
27

 
$
40

 
$

States, municipalities and political subdivisions
865

 
2,228

 
58

 
37

 
75

 
3

 
902

 
2,303

 
61

U.S. corporate securities
1,428

 
2,277

 
44

 
114

 
101

 
11

 
1,542

 
2,378

 
55

Foreign securities
649

 
970

 
27

 
62

 
76

 
6

 
711

 
1,046

 
33

Residential mortgage-backed securities
188

 
455

 
8

 
104

 
17

 
1

 
292

 
472

 
9

Commercial mortgage-backed securities
285

 
1,038

 
39

 
3

 
3

 

 
288

 
1,041

 
39

Other asset-backed securities
226

 
403

 
4

 
208

 
177

 
5

 
434

 
580

 
9

Total debt securities
3,667

 
7,410

 
180

 
529

 
450

 
26

 
4,196

 
7,860

 
206

Equity securities
2

 
3

 

 
8

 
3

 
2

 
10

 
6

 
2

Total debt and equity securities (1)
3,669

 
$
7,413

 
$
180

 
537

 
$
453

 
$
28

 
4,206

 
$
7,866

 
$
208

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(1) 
At March 31, 2017 and December 31, 2016, debt and equity securities in an unrealized capital loss position of $29 million and $35 million, respectively, and with related fair value of $794 million and $890 million, respectively, related to experience-rated and discontinued products.

We reviewed the securities in the tables above and concluded that these are performing assets generating investment income to support the needs of our business. In performing this review, we considered factors such as the quality of the investment security based on research performed by our internal credit analysts and external rating agencies and the prospects of realizing the carrying value of the security based on the investment’s current prospects for recovery.  At March 31, 2017, we did not intend to sell these securities, and we did not believe it was more likely than not that we would be required to sell these securities prior to anticipated recovery of their amortized cost basis.


Page 12



The maturity dates for debt securities in an unrealized capital loss position at March 31, 2017 were as follows:
 
Supporting discontinued and
experience-rated products
 
Supporting remaining
products
 
Total
(Millions)
Fair
Value

 
Unrealized
Losses

 
Fair
Value

 
Unrealized
Losses

 
Fair
Value

 
Unrealized
Losses

Due to mature:
 
 
 
 
 
 
 
 
 
 
 
Less than one year
$
7

 
$

 
$
207

 
$

 
$
214

 
$

One year through five years
47

 
1

 
1,612

 
19

 
1,659

 
20

After five years through ten years
252

 
6

 
1,095

 
25

 
1,347

 
31

Greater than ten years
261

 
14

 
997

 
37

 
1,258

 
51

Residential mortgage-backed securities
17

 

 
430

 
7

 
447

 
7

Commercial mortgage-backed securities
182

 
6

 
843

 
30

 
1,025

 
36

Other asset-backed securities
27

 

 
524

 
5

 
551

 
5

Total
$
793

 
$
27

 
$
5,708

 
$
123

 
$
6,501

 
$
150

 
 
 
 
 
 
 
 
 
 
 
 

Mortgage Loans
Our mortgage loans are collateralized by commercial real estate.  During the three months ended March 31, 2017 and 2016 we had the following activity in our mortgage loan portfolio:
 
Three Months Ended
 
March 31,
(Millions)
2017

 
2016

New mortgage loans
$
54

 
$
12

Mortgage loans fully repaid
48

 
48

 
 
 
 
 
We assess our mortgage loans on a regular basis for credit impairments, and annually assign a credit quality indicator to each loan.  Our credit quality indicator is internally developed and categorizes our portfolio on a scale from 1 to 7.  These indicators are based upon several factors, including current loan to value ratios, property condition, market trends, creditworthiness of the borrower and deal structure. The vast majority of our mortgage loans fall into categories 2 to 4.
Category 1 - Represents loans of superior quality
Category 2 to 4 - Represents loans where credit risk is minimal to acceptable; however, these loans may display some susceptibility to economic changes.
Categories 5 and 6 - Represents loans where credit risk is not substantial, but these loans warrant management’s close attention.
Category 7 - Represents loans where collections are potentially at risk and if necessary, an impairment is recorded.
Based upon our most recent assessments at March 31, 2017 and December 31, 2016, our mortgage loans were given the following credit quality indicators:
(In Millions, except credit ratings indicator)
March 31, 2017

 
December 31, 2016

1
$
44

 
$
45

2 to 4
1,446

 
1,449

5 and 6
17

 
17

7

 

Total
$
1,507

 
$
1,511

 
 
 
 
 


Page 13



Net Investment Income
Sources of net investment income for the three months ended March 31, 2017 and 2016 were as follows:
 
Three Months Ended
 
March 31,
(Millions)
2017

 
2016

Debt securities
$
190

 
$
195

Mortgage loans
22

 
29

Other investments
58

 
4

Gross investment income
270

 
228

Investment expenses
(10
)
 
(10
)
Net investment income (1)
$
260

 
$
218

 
 
 
 
(1) 
Net investment income includes $66 million and $45 million for the three months ended March 31, 2017 and 2016, respectively, related to investments supporting our experience-rated and discontinued products.

Realized Capital Gains/Losses
Net realized capital losses for the three months ended March 31, 2017 and 2016, excluding amounts related to experience-rated contract holders and discontinued products, were as follows:
 
Three Months Ended
 
March 31,
(Millions)
2017

 
2016

Other-than-temporary impairment (“OTTI”) losses on debt securities recognized in earnings
$
(2
)
 
$
(9
)
Other net realized capital (losses) gains
(331
)
 
8

Net realized capital losses
$
(333
)
 
$
(1
)
 
The net realized capital losses for the three months ended March 31, 2017 were primarily attributable to the recognition into earnings of the entire unamortized effective portion of the related hedge losses upon the mandatory redemption of $10.2 billion aggregate principal amount of the Special Mandatory Redemption Notes and the redemption of $750 million aggregate principal amount of senior notes due 2020. The net realized capital losses for the three months ended March 31, 2016 were primarily attributable to yield-related OTTI on debt securities, substantially offset by gains from the sales of other investments.

We had no individually material realized capital losses on debt or equity securities that impacted our operating results during three months ended March 31, 2017 or 2016.

Excluding amounts related to experience-rated and discontinued products, proceeds from the sale of available for sale debt and equity securities and the related gross realized capital gains and losses for the three months ended March 31, 2017 and 2016 were as follows(1):
 
Three Months Ended
 
March 31,
(Millions)
2017

 
2016

Proceeds on sales
$
1,110

 
$
1,546

Gross realized capital gains
21

 
32

Gross realized capital losses
14

 
31

 
 
 
 
(1) 
The proceeds on sales and gross realized capital gains and losses exclude the impact of the sales of short-term debt securities which primarily relate to our investments in mutual funds. These investments were excluded from the disclosed amounts because they represent an immaterial amount of aggregate gross realized capital gains or losses and have a high volume of sales activity.

Variable Interest Entities
We have investments in certain hedge fund and private equity investments and real estate partnerships that are considered Variable Interest Entities (“VIE’s”). We do not have a future obligation to fund losses or debts on behalf of these investments; however, we may voluntarily contribute funds. In evaluating whether we are the primary beneficiary of a VIE, we considered several factors, including whether we (a) have the power to direct the activities that most significantly impact the VIE’s

Page 14



economic performance and (b) the obligation to absorb losses and the right to receive benefits that could potentially be significant to the VIE.

Variable Interest Entities - Primary Beneficiary
We have one majority owned hedge fund investment where we are the investment manager and have the power to direct the activities that most significantly impact the VIE’s economic performance, including determining the hedge fund’s investment strategy. Accordingly, we are the primary beneficiary and consolidate the investment in our operating results. The fund invests in additional hedge funds that are VIEs; however, we are not the primary beneficiary of these underlying funds as discussed in further detail below.

Substantially all of the assets of the VIE hedge fund are comprised of hedge fund investments reported as long-term investments on our Consolidated Balance Sheets. The VIE hedge fund had no material liabilities at March 31, 2017 or December 31, 2016. The total amount of the VIE hedge fund’s assets included in long term investments on our Consolidated Balance Sheets at March 31, 2017 and December 31, 2016 were $459 million and $472 million, respectively.

Variable Interest Entities - Other Variable Interest Holder
Our involvement with VIEs where we are not determined to be the primary beneficiary consists of the following:

Hedge fund and private equity investments - We invest in hedge fund and private equity investments in order to generate investment returns for our investment portfolio supporting our businesses.

Real estate partnerships - We invest in various real estate partnerships including those that construct, own and manage low-income housing developments. For the low income housing development investments, substantially all of the projected benefits to us are from tax credits and other tax benefits.

We are not the primary beneficiary of these investments because the nature of our involvement with the activities of these VIEs does not give us the power to direct the activities that most significantly impact their economic performance. We record the amount of our investment in these VIEs as long-term investments on our Consolidated Balance Sheets and recognize our share of each VIE’s income or losses in earnings.  Our maximum exposure to loss from these VIEs is limited to our investment balances as disclosed below and the risk of recapture of tax credits related to the real estate partnerships previously recognized, which we do not consider significant.

The total amount of other variable interest holder VIE assets included in long term investments on our Consolidated Balance Sheets at March 31, 2017 and December 31, 2016 were as follows:
(Millions)
 
March 31, 2017

 
December 31, 2016

Hedge fund investments
 
$
355

 
$
384

Private equity investments
 
497

 
454

Real estate partnerships
 
263

 
278

Total
 
$
1,115

 
$
1,116



Page 15



The carrying value of the total assets and liabilities of our other variable interest holder VIE investments at March 31, 2017 and December 31, 2016 were as follows:
(Millions)
 
March 31, 2017

 
December 31, 2016

Assets:
 
 
 
 
Hedge fund investments
 
$
34,203

 
$
32,926

Private equity investments
 
26,819

 
25,368

Real estate partnerships
 
6,549

 
6,743

Total
 
$
67,571

 
$
65,037

 
 
 
 
 
Liabilities:
 
 
 
 
Hedge fund investments
 
$
3,464

 
$
2,819

Private equity investments
 
3,353

 
2,354

Real estate partnerships
 
4,727

 
4,938

Total
 
$
11,544

 
$
10,111


Non-controlling (Minority) Interests
At March 31, 2017 and December 31, 2016, continuing business non-controlling interests were $77 million and $62 million, respectively, primarily related to third party interests in our investment holdings as well as third party interests in certain of our operating entities. The non-controlling entities’ share was included in total equity. Net income attributable to non-controlling interests was $2 million and $1 million for the three months ended March 31, 2017 and 2016, respectively. These non-controlling interests did not have a material impact on our financial position or operating results.


5.    Fair Value

The preparation of our consolidated financial statements in accordance with GAAP requires certain of our assets and liabilities to be reflected at their fair value, and others on another basis, such as an adjusted historical cost basis.  In this note, we provide details on the fair value of financial assets and liabilities and how we determine those fair values.  We present this information for those financial instruments that are measured at fair value for which the change in fair value impacts net income attributable to Aetna or other comprehensive income separately from other financial assets and liabilities.

Financial Instruments Measured at Fair Value in our Balance Sheets
Certain of our financial instruments are measured at fair value in our Consolidated Balance Sheets.  The fair values of these instruments are based on valuations that include inputs that can be classified within one of three levels of a hierarchy established by GAAP.  The following are the levels of the hierarchy and a brief description of the type of valuation information (“inputs”) that qualifies a financial asset or liability for each level:
Level 1 – Unadjusted quoted prices for identical assets or liabilities in active markets.
Level 2 – Inputs other than Level 1 that are based on observable market data.  These include: quoted prices for similar assets in active markets, quoted prices for identical assets in inactive markets, inputs that are observable that are not prices (such as interest rates and credit risks) and inputs that are derived from or corroborated by observable markets.
Level 3 – Developed from unobservable data, reflecting our own assumptions.

Financial assets and liabilities are classified based upon the lowest level of input that is significant to the valuation.  When quoted prices in active markets for identical assets and liabilities are available, we use these quoted market prices to determine the fair value of financial assets and liabilities and classify these assets and liabilities in Level 1.  In other cases where a quoted market price for identical assets and liabilities in an active market is either not available or not observable, we estimate fair value using valuation methodologies based on available and observable market information or by using a matrix pricing model.  These financial assets and liabilities would then be classified in Level 2.  If quoted market prices are not available, we determine fair value using broker quotes or an internal analysis of each investment’s financial performance and cash flow projections.  Thus, financial assets and liabilities may be classified in Level 3 even though there may be some significant inputs that may be observable.


Page 16



The following is a description of the valuation methodologies used for our financial assets and liabilities that are measured at fair value, including the general classification of such assets and liabilities pursuant to the valuation hierarchy.

Debt Securities – Where quoted prices are available in an active market, our debt securities are classified in Level 1 of the fair value hierarchy.  Our Level 1 debt securities are comprised primarily of U.S. Treasury securities.

The fair values of our Level 2 debt securities are obtained using models such as matrix pricing, which use quoted market prices of debt securities with similar characteristics, or discounted cash flows to estimate fair value. We review these prices to ensure they are based on observable market inputs that include, but are not limited to, quoted prices for similar assets in active markets, quoted prices for identical assets in inactive markets and inputs that are observable but not prices (for example, interest rates and credit risks). We also review the methodologies and the assumptions used to calculate prices from these observable inputs. On a quarterly basis, we select a sample of our Level 2 debt securities’ prices and compare them to prices provided by a secondary source. Variances over a specified threshold are identified and reviewed to confirm the price provided by the primary source represents an appropriate estimate of fair value. In addition, our internal investment team consistently compares the prices obtained for select Level 2 debt securities to the team’s own independent estimates of fair value for those securities. We obtained one price for each of our Level 2 debt securities and did not adjust any of these prices at March 31, 2017 or December 31, 2016.

We also value certain debt securities using Level 3 inputs.  For Level 3 debt securities, fair values are determined by outside brokers or, in the case of certain private placement securities, are priced internally.  Outside brokers determine the value of these debt securities through a combination of their knowledge of the current pricing environment and market flows.  We obtained one non-binding broker quote for each of these Level 3 debt securities and did not adjust any of these quotes at March 31, 2017 or December 31, 2016.  The total fair value of our broker quoted debt securities was $110 million at March 31, 2017 and $80 million at December 31, 2016.  Examples of these broker quoted Level 3 debt securities include certain U.S. and foreign corporate securities and certain of our commercial mortgage-backed securities as well as other asset-backed securities.  For some of our private placement securities, our internal staff determines the value of these debt securities by analyzing spreads of corporate and sector indices as well as interest spreads of comparable public bonds.  Examples of these private placement Level 3 debt securities include certain U.S. and foreign securities and certain tax-exempt municipal securities.

Equity Securities – We currently have two classifications of equity securities: those that are publicly traded and those that are privately placed.  Our publicly-traded securities are classified in Level 1 because quoted prices are available for these securities in an active market. For privately-placed equity securities, there is no active market; therefore, we classify these securities in Level 3 because we price these securities through an internal analysis of each investment’s financial statements and cash flow projections. Significant unobservable inputs consist of earnings and revenue multiples, discount for lack of marketability and comparability adjustments. An increase or decrease in any of these unobservable inputs would result in a change in the fair value measurement, which may be significant.

Derivatives – Where quoted prices are available in an active market, our derivatives are classified in Level 1.  Certain of our derivative instruments are valued using models that primarily use market observable inputs and therefore are classified in Level 2 because they are traded in markets where quoted market prices are not readily available.






Page 17



There were no financial liabilities measured at fair value on a recurring basis in our Consolidated Balance Sheets at March 31, 2017 and December 31, 2016. Financial assets measured at fair value on a recurring basis in our Consolidated Balance Sheets at March 31, 2017 and December 31, 2016 were as follows:
 
 
 
 
 
 
 
 
(Millions)
Level 1

 
Level 2

 
Level 3

 
Total

March 31, 2017
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
U.S. government securities
$
1,482

 
$
162

 
$

 
$
1,644

States, municipalities and political subdivisions

 
5,014

 
1

 
5,015

U.S. corporate securities

 
8,671

 
79

 
8,750

Foreign securities

 
3,146

 
21

 
3,167

Residential mortgage-backed securities

 
762

 

 
762

Commercial mortgage-backed securities

 
1,267

 
31

 
1,298

Other asset-backed securities

 
1,106

 
6

 
1,112

Redeemable preferred securities

 
27

 

 
27

Total debt securities
1,482

 
20,155

 
138

 
21,775

Equity securities
47

 

 
31

 
78

Total
$
1,529

 
$
20,155

 
$
169

 
$
21,853

December 31, 2016
 

 
 

 
 

 
 

Assets:
 

 
 

 
 

 
 

Debt securities:
 

 
 

 
 

 
 

U.S. government securities
$
1,514

 
$
180

 
$

 
$
1,694

States, municipalities and political subdivisions

 
5,137

 
1

 
5,138

U.S. corporate securities

 
8,395

 
80

 
8,475

Foreign securities

 
3,067

 
21

 
3,088

Residential mortgage-backed securities

 
795

 

 
795

Commercial mortgage-backed securities

 
1,348

 

 
1,348

Other asset-backed securities

 
1,075

 

 
1,075

Redeemable preferred securities

 
26

 
1

 
27

Total debt securities
1,514

 
20,023

 
103

 
21,640

Equity securities
59

 

 
43

 
102

Total
$
1,573

 
$
20,023

 
$
146

 
$
21,742


There were no transfers between Levels 1 and 2 during the three months ended March 31, 2017 or 2016. During the three months ended March 31, 2017 and 2016, we had an immaterial amount of gross transfers into and out of Level 3 financial assets.

Page 18



Financial Instruments Not Measured at Fair Value in our Balance Sheets
The following is a description of the valuation methodologies used for estimating the fair value of our financial assets and liabilities that are carried on our Consolidated Balance Sheets at adjusted cost or contract value.

Mortgage loans:  Fair values are estimated by discounting expected mortgage loan cash flows at market rates that reflect the rates at which similar loans would be made to similar borrowers.  These rates reflect our assessment of the creditworthiness of the borrower and the remaining duration of the loans.  The fair value estimates of mortgage loans of lower credit quality, including problem and restructured loans, are based on the estimated fair value of the underlying collateral.

Bank loans: Where fair value is determined by quoted market prices of bank loans with similar characteristics, our bank loans are classified in Level 2. For bank loans classified in Level 3, fair value is determined by outside brokers using their internal analyses through a combination of their knowledge of the current pricing environment and market flows.

Equity securities: Certain of our equity securities are carried at cost. The fair values of our cost-method investments are not estimated if there are no identified events or changes in circumstances that may have a significant adverse effect on the fair value of the investment.
Investment contract liabilities:
With a fixed maturity:  Fair value is estimated by discounting cash flows at interest rates currently being offered by, or available to, us for similar contracts.
Without a fixed maturity:  Fair value is estimated as the amount payable to the contract holder upon demand.  However, we have the right under such contracts to delay payment of withdrawals that may ultimately result in paying an amount different than that determined to be payable on demand.

Long-term debt:  Fair values are based on quoted market prices for the same or similar issued debt or, if no quoted market prices are available, on the current rates estimated to be available to us for debt of similar terms and remaining maturities.


Page 19



The carrying value and estimated fair value classified by level of fair value hierarchy for our financial instruments carried on our Consolidated Balance Sheets at adjusted cost or contract value at March 31, 2017 and December 31, 2016 were as follows:
 
Carrying
Value

 
 Estimated Fair Value
(Millions)
 
Level 1

 
Level 2

 
Level 3

 
Total

March 31, 2017
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
Mortgage loans
$
1,507

 
$

 
$

 
$
1,539

 
$
1,539

Bank loans
8

 

 

 
8

 
8

Equity securities (1)
45

 
N/A

 
N/A

 
N/A

 
N/A

Liabilities:
 
 
 
 
 
 
 
 
 
Investment contract liabilities:
 
 
 
 
 
 
 
 
 
With a fixed maturity
8

 

 

 
8

 
8

Without a fixed maturity
370

 

 

 
354

 
354

Long-term debt
9,423

 

 
10,128

 

 
10,128

 
 
 
 
 
 
 
 
 
 
(Millions)
 
 
 
 
 
 
 
 
 
December 31, 2016
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
Mortgage loans
$
1,511

 
$

 
$

 
$
1,540

 
$
1,540

Bank loans
8

 

 

 
8

 
8

Equity securities (1)
35

 
N/A

 
N/A

 
N/A