10-Q 1 a11-14030_110q.htm 10-Q

Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D. C. 20549

 


 

FORM 10-Q

 

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

 

For the quarterly period ended June 30, 2011

 

or

 

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

 

For the transition period from               to               

 

Commission File Number 001-11339

 

Protective Life Corporation

(Exact name of registrant as specified in its charter)

 

Delaware

 

95-2492236

(State or other jurisdiction of incorporation or organization)

 

(IRS Employer Identification Number)

 

2801 Highway 280 South

Birmingham, Alabama 35223

(Address of principal executive offices and zip code)

 

(205) 268-1000

(Registrant’s telephone number, including area code)

 


 

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

 

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

 

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

 

Large accelerated filer x

 

Accelerated Filer o

 

 

 

Non-accelerated filer o

 

Smaller Reporting Company o

 

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

 

Number of shares of Common Stock, $0.50 Par Value, outstanding as of July 26, 2011:  84,690,567

 

 

 



Table of Contents

 

PROTECTIVE LIFE CORPORATION

QUARTERLY REPORT ON FORM 10-Q

FOR QUARTERLY PERIOD ENDED JUNE 30, 2011

 

TABLE OF CONTENTS

 

PART I

 

 

 

Page

Item 1.

Financial Statements (unaudited):

 

 

Consolidated Condensed Statements of Income For The Three and Six Months Ended June 30, 2011 and 2010

3

 

Consolidated Condensed Balance Sheets as of June 30, 2011 and December 31, 2010

4

 

Consolidated Condensed Statement of Shareowners’ Equity For The Three Months Ended March 31, 2011  and June 30, 2011

5

 

Consolidated Condensed Statements of Cash Flows For The Six Months Ended June 30, 2011 and 2010

6

 

Notes to Consolidated Condensed Financial Statements

7

Item 2.

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

41

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

98

Item 4.

Controls and Procedures

98

 

 

 

 

PART II

 

 

 

 

Item 1A.

Risk Factors and Cautionary Factors that may Affect Future Results

99

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

103

Item 6.

Exhibits

104

 

Signature

105

 

2



Table of Contents

 

PROTECTIVE LIFE CORPORATION

CONSOLIDATED CONDENSED STATEMENTS OF INCOME

(Unaudited)

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(Dollars In Thousands, Except Per Share Amounts)

 

Revenues

 

 

 

 

 

 

 

 

 

Premiums and policy fees

 

$

716,586

 

$

679,241

 

$

1,382,929

 

$

1,308,013

 

Reinsurance ceded

 

(364,248

)

(379,729

)

(696,056

)

(685,558

)

Net of reinsurance ceded

 

352,338

 

299,512

 

686,873

 

622,455

 

Net investment income

 

448,785

 

422,500

 

892,998

 

834,497

 

Realized investment gains (losses):

 

 

 

 

 

 

 

 

 

Derivative financial instruments

 

(34,993

)

(119,888

)

(47,679

)

(142,960

)

All other investments

 

58,917

 

67,704

 

63,389

 

115,603

 

Other-than-temporary impairment losses

 

(15,632

)

(36,683

)

(31,653

)

(58,539

)

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

 

6,145

 

19,885

 

16,503

 

29,872

 

Net impairment losses recognized in earnings

 

(9,487

)

(16,798

)

(15,150

)

(28,667

)

Other income

 

87,224

 

59,072

 

159,433

 

102,944

 

Total revenues

 

902,784

 

712,102

 

1,739,864

 

1,503,872

 

Benefits and expenses

 

 

 

 

 

 

 

 

 

Benefits and settlement expenses, net of reinsurance ceded: (three months: 2011 - $357,165; 2010 - $359,766; six months: 2011 - $670,271; 2010 - $662,467)

 

551,553

 

525,371

 

1,087,922

 

1,032,666

 

Amortization of deferred policy acquisition costs and value of business acquired

 

79,688

 

23,086

 

154,051

 

104,375

 

Other operating expenses, net of reinsurance ceded: (three months: 2011 - $48,810; 2010 - $50,657; six months: 2011 - $94,070; 2010 - $94,081)

 

128,270

 

99,185

 

250,523

 

201,095

 

Total benefits and expenses

 

759,511

 

647,642

 

1,492,496

 

1,338,136

 

Income before income tax

 

143,273

 

64,460

 

247,368

 

165,736

 

Income tax expense

 

49,909

 

23,216

 

86,538

 

54,786

 

Net income

 

93,364

 

41,244

 

160,830

 

110,950

 

Less: Net income (loss) attributable to noncontrolling interests

 

296

 

(127

)

245

 

(200

)

Net income available to PLC’s common shareowners(1)

 

$

93,068

 

$

41,371

 

$

160,585

 

$

111,150

 

 

 

 

 

 

 

 

 

 

 

Net income available to PLC’s common shareowners - basic

 

$

1.08

 

$

0.48

 

$

1.86

 

$

1.28

 

Net income available to PLC’s common shareowners - diluted

 

$

1.06

 

$

0.47

 

$

1.83

 

$

1.27

 

Cash dividends paid per share

 

$

0.16

 

$

0.14

 

$

0.30

 

$

0.26

 

 

 

 

 

 

 

 

 

 

 

Average shares outstanding - basic

 

86,346,216

 

86,562,379

 

86,474,012

 

86,531,461

 

Average shares outstanding - diluted

 

87,653,731

 

87,666,035

 

87,736,449

 

87,609,027

 

 


(1) Protective Life Corporation (“PLC”)

 

See Notes to Consolidated Condensed Financial Statements

 

3



Table of Contents

 

PROTECTIVE LIFE CORPORATION

CONSOLIDATED CONDENSED BALANCE SHEETS

(Unaudited)

 

 

 

As of

 

 

 

June 30, 2011

 

December 31, 2010

 

 

 

(Dollars In Thousands)

 

Assets

 

 

 

 

 

Fixed maturities, at fair value (amortized cost: 2011 - $25,156,028; 2010 - $24,002,893)

 

$

26,133,625

 

$

24,676,939

 

Equity securities, at fair value (cost: 2011 - $345,758; 2010 - $349,605)

 

349,738

 

359,412

 

Mortgage loans (2011 and 2010 includes: $888,607 and $934,655 related to securitizations)

 

5,349,851

 

4,892,829

 

Investment real estate, net of accumulated depreciation (2011 - $1,284; 2010 - $1,200)

 

23,737

 

25,340

 

Policy loans

 

881,757

 

793,448

 

Other long-term investments

 

297,825

 

276,337

 

Short-term investments

 

134,698

 

352,824

 

Total investments

 

33,171,231

 

31,377,129

 

Cash

 

419,210

 

264,425

 

Accrued investment income

 

345,906

 

329,078

 

Accounts and premiums receivable, net of allowance for uncollectible amounts (2011 - $3,890; 2010 - $4,330)

 

68,559

 

58,580

 

Reinsurance receivables

 

5,730,025

 

5,608,029

 

Deferred policy acquisition costs and value of business acquired

 

4,028,452

 

3,851,743

 

Goodwill

 

113,209

 

114,758

 

Property and equipment, net of accumulated depreciation (2011 - $131,726; 2010 - $130,576)

 

43,142

 

39,386

 

Other assets

 

180,602

 

169,664

 

Income tax receivable

 

39,936

 

45,582

 

Assets related to separate accounts

 

 

 

 

 

Variable annuity

 

6,291,158

 

5,170,193

 

Variable universal life

 

556,419

 

534,219

 

Total assets

 

$

50,987,849

 

$

47,562,786

 

Liabilities

 

 

 

 

 

Policy liabilities and accruals

 

$

21,844,210

 

$

19,713,392

 

Stable value product account balances

 

2,565,235

 

3,076,233

 

Annuity account balances

 

10,899,995

 

10,591,605

 

Other policyholders’ funds

 

589,879

 

578,037

 

Other liabilities

 

964,392

 

926,201

 

Mortgage loan backed certificates

 

42,862

 

61,678

 

Deferred income taxes

 

1,171,305

 

1,022,130

 

Non-recourse funding obligations

 

438,300

 

532,400

 

Debt

 

1,494,852

 

1,501,852

 

Subordinated debt securities

 

524,743

 

524,743

 

Liabilities related to separate accounts

 

 

 

 

 

Variable annuity

 

6,291,158

 

5,170,193

 

Variable universal life

 

556,419

 

534,219

 

Total liabilities

 

47,383,350

 

44,232,683

 

Commitments and contingencies - Note 8

 

 

 

 

 

Shareowners’ equity

 

 

 

 

 

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

 

 

 

 

 

Common Stock, $.50 par value, shares authorized: 2011 and 2010 - 160,000,000; shares issued: 2011 and 2010 - 88,776,960

 

44,388

 

44,388

 

Additional paid-in-capital

 

592,451

 

586,592

 

Treasury stock, at cost (2011 - 4,126,717 shares; 2010 - 3,108,983 shares)

 

(50,326

)

(26,072

)

Retained earnings

 

2,567,796

 

2,432,925

 

Accumulated other comprehensive income (loss):

 

 

 

 

 

Net unrealized gains (losses) on investments, net of income tax: (2011 -$288,231; 2010 - $195,096)

 

535,286

 

362,321

 

Net unrealized (losses) gains relating to other-than-temporary impaired investments for which a portion has been recognized in earnings, net of income tax: (2011 - $(14,275); 2010 - $(5,223))

 

(26,511

)

(9,700

)

Accumulated loss - derivatives, net of income tax: (2011 - $(4,633); 2010 - $(6,355))

 

(8,605

)

(11,802

)

Postretirement benefits liability adjustment, net of income tax: (2011 -$(26,515); 2010 - $(25,612))

 

(49,241

)

(47,565

)

Total Protective Life Corporation’s shareowners’ equity

 

3,605,238

 

3,331,087

 

Noncontrolling interest

 

(739

)

(984

)

Total equity

 

3,604,499

 

3,330,103

 

Total liabilities and shareowners’ equity

 

$

50,987,849

 

$

47,562,786

 

 

See Notes to Consolidated Condensed Financial Statements

 

4



Table of Contents

 

PROTECTIVE LIFE CORPORATION

CONSOLIDATED CONDENSED STATEMENTS OF SHAREOWNERS’ EQUITY

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated Other

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive Income (Loss)

 

Protective

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Minimum

 

Life

 

 

 

 

 

 

 

 

 

Additional

 

 

 

 

 

Net Unrealized

 

Accumulated

 

Pension

 

Corporation’s

 

Non

 

 

 

 

 

Common

 

Paid-In-

 

Treasury

 

Retained

 

Gains / (Losses)

 

Gain / (Loss)

 

Liability

 

shareowners’

 

controlling

 

Total

 

 

 

Stock

 

Capital

 

Stock

 

Earnings

 

on Investments

 

Derivatives

 

Adjustments

 

equity

 

Interest

 

Equity

 

 

 

(Dollars In Thousands)

 

Balance, December 31, 2010

 

$

44,388

 

$

586,592

 

$

(26,072

)

$

2,432,925

 

$

352,621

 

$

(11,802

)

$

(47,565

)

$

3,331,087

 

$

(984

)

$

3,330,103

 

Net income for the three months ended March 31, 2011

 

 

 

 

 

 

 

67,517

 

 

 

 

 

 

 

67,517

 

(51

)

67,466

 

Change in net unrealized gains/losses on investments (net of income tax - $17,907)

 

 

 

 

 

 

 

 

 

33,263

 

 

 

 

 

33,263

 

 

33,263

 

Reclassification adjustment for investment amounts included in net income (net of income tax - $(3,054))

 

 

 

 

 

 

 

 

 

(5,678

)

 

 

 

 

(5,678

)

 

(5,678

)

Change in net unrealized gains/losses relating to other-than-temporary impaired investments for which a portion has been recognized in earnings (net of income tax $(3,608))

 

 

 

 

 

 

 

 

 

(6,700

)

 

 

 

 

(6,700

)

 

(6,700

)

Change in accumulated gain (loss) derivatives (net of income tax - $3,621)

 

 

 

 

 

 

 

 

 

 

 

6,724

 

 

 

6,724

 

 

6,724

 

Reclassification adjustment for derivative amounts included in net income (net of income tax - $(361))

 

 

 

 

 

 

 

 

 

 

 

(671

)

 

 

(671

)

 

(671

)

Change in postretirement benefits liability adjustment (net of income tax - $(451))

 

 

 

 

 

 

 

 

 

 

 

 

 

(838

)

(838

)

 

(838

)

Comprehensive income for the three months ended March 31, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

93,617

 

(51

)

93,566

 

Cash dividends ($0.14 per share)

 

 

 

 

 

 

 

(11,995

)

 

 

 

 

 

 

(11,995

)

 

(11,995

)

Stock-based compensation

 

 

 

4,191

 

309

 

 

 

 

 

 

 

 

 

4,500

 

 

4,500

 

Balance, March 31, 2011

 

$

44,388

 

$

590,783

 

$

(25,763

)

$

2,488,447

 

$

373,506

 

$

(5,749

)

$

(48,403

)

$

3,417,209

 

$

(1,035

)

$

3,416,174

 

Net income for the three months ended June 30, 2011

 

 

 

 

 

 

 

93,068

 

 

 

 

 

 

 

93,068

 

296

 

93,364

 

Change in net unrealized gains/losses on investments (net of income tax - $85,553)

 

 

 

 

 

 

 

 

 

158,888

 

 

 

 

 

158,888

 

 

158,888

 

Reclassification adjustment for investment amounts included in net income (net of income tax - $(7,271))

 

 

 

 

 

 

 

 

 

(13,508

)

 

 

 

 

(13,508

)

 

(13,508

)

Change in net unrealized gains/losses relating to other-than-temporary impaired investments for which a portion has been recognized in earnings (net of income tax $(5,444))

 

 

 

 

 

 

 

 

 

(10,111

)

 

 

 

 

(10,111

)

 

(10,111

)

Change in accumulated gain (loss) derivatives (net of income tax - $(1,777))

 

 

 

 

 

 

 

 

 

 

 

(3,299

)

 

 

(3,299

)

 

(3,299

)

Reclassification adjustment for derivative amounts included in net income (net of income tax - $238)

 

 

 

 

 

 

 

 

 

 

 

443

 

 

 

443

 

 

443

 

Change in postretirement benefits liability adjustment (net of income tax - $(451))

 

 

 

 

 

 

 

 

 

 

 

 

 

(838

)

(838

)

 

(838

)

Comprehensive income for the three months ended June 30, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

224,643

 

296

 

224,939

 

Cash dividends ($0.16 per share)

 

 

 

 

 

 

 

(13,719

)

 

 

 

 

 

 

(13,719

)

 

(13,719

)

Repurchase of common stock

 

 

 

 

 

(24,893

)

 

 

 

 

 

 

 

 

(24,893

)

 

(24,893

)

Stock-based compensation

 

 

 

1,668

 

330

 

 

 

 

 

 

 

 

 

1,998

 

 

1,998

 

Balance, June 30, 2011

 

$

44,388

 

$

592,451

 

$

(50,326

)

$

2,567,796

 

$

508,775

 

$

(8,605

)

$

(49,241

)

$

3,605,238

 

$

(739

)

$

3,604,499

 

 

See Notes to Consolidated Condensed Financial Statements

 

5



Table of Contents

 

PROTECTIVE LIFE CORPORATION

CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

 

For The

 

 

 

Six Months Ended

 

 

 

June 30,

 

 

 

2011

 

2010

 

 

 

(Dollars In Thousands)

 

Cash flows from operating activities

 

 

 

 

 

Net income

 

$

160,830

 

$

110,950

 

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

 

 

 

 

 

Realized investment losses (gains)

 

(560

)

56,024

 

Amortization of deferred policy acquisition costs and value of business acquired

 

154,051

 

104,375

 

Capitalization of deferred policy acquisition costs

 

(252,788

)

(247,533

)

Depreciation expense

 

4,478

 

4,604

 

Deferred income tax

 

56,911

 

27,558

 

Accrued income tax

 

5,646

 

71,090

 

Interest credited to universal life and investment products

 

490,348

 

494,693

 

Policy fees assessed on universal life and investment products

 

(343,102

)

(299,620

)

Change in reinsurance receivables

 

(112,485

)

(219,984

)

Change in accrued investment income and other receivables

 

(21,578

)

(6,005

)

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

 

57,235

 

238,548

 

Trading securities:

 

 

 

 

 

Maturities and principal reductions of investments

 

172,470

 

175,017

 

Sale of investments

 

456,232

 

319,383

 

Cost of investments acquired

 

(498,105

)

(468,303

)

Other net change in trading securities

 

2,549

 

(33,950

)

Change in other liabilities

 

(65,216

)

(23,423

)

Other income - surplus note repurchase

 

(30,667

)

 

Other, net

 

18,586

 

39,597

 

Net cash provided by operating activities

 

254,835

 

343,021

 

Cash flows from investing activities

 

 

 

 

 

Maturities and principal reductions of investments, available-for-sale

 

935,399

 

889,299

 

Sale of investments, available-for-sale

 

1,746,847

 

1,979,372

 

Cost of investments acquired, available-for sale

 

(2,633,559

)

(3,627,942

)

Mortgage loans:

 

 

 

 

 

New borrowings

 

(276,254

)

(154,251

)

Repayments

 

245,496

 

150,574

 

Change in investment real estate, net

 

369

 

1,969

 

Change in policy loans, net

 

12,252

 

19,171

 

Change in other long-term investments, net

 

(76,580

)

(29,548

)

Change in short-term investments, net

 

109,352

 

85,775

 

Net unsettled security transactions

 

187,885

 

215,258

 

Purchase of property and equipment

 

(6,927

)

(5,171

)

Payments for business acquisitions

 

(209,609

)

 

Net cash provided by (used in) investing activities

 

34,671

 

(475,494

)

Cash flows from financing activities

 

 

 

 

 

Borrowings under line of credit arrangements and debt

 

10,000

 

90,000

 

Principal payments on line of credit arrangement and debt

 

(17,000

)

(260,000

)

Issuance (repayment) of non-recourse funding obligations

 

(94,100

)

(18,400

)

Dividends to shareowners

 

(25,714

)

(22,264

)

Repurchase of common stock

 

(24,893

)

 

Investments product deposits and change in universal life deposits

 

2,101,553

 

1,827,781

 

Investment product withdrawals

 

(2,060,672

)

(1,529,502

)

Other financing activities, net

 

(23,895

)

(3,943

)

Net cash (used in) provided by financing activities

 

(134,721

)

83,672

 

Change in cash

 

154,785

 

(48,801

)

Cash at beginning of period

 

264,425

 

205,325

 

Cash at end of period

 

$

419,210

 

$

156,524

 

 

See Notes to Consolidated Condensed Financial Statements

 

6



Table of Contents

 

PROTECTIVE LIFE CORPORATION

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(Unaudited)

 

1.             BASIS OF PRESENTATION

 

Basis of Presentation

 

The accompanying unaudited consolidated condensed financial statements of Protective Life Corporation and subsidiaries (the “Company”) have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the disclosures required by GAAP for complete financial statements. In the opinion of management, the accompanying financial statements reflect all adjustments (consisting only of normal recurring items) necessary for a fair statement of the results for the interim periods presented. Operating results for the three and six month periods ended June 30, 2011, are not necessarily indicative of the results that may be expected for the year ending December 31, 2011. The year-end consolidated condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by GAAP. For further information, refer to the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010.

 

The operating results of companies in the insurance industry have historically been subject to significant fluctuations due to changing competition, economic conditions, interest rates, investment performance, insurance ratings, claims, persistency, and other factors.

 

Reclassifications

 

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

 

Entities Included

 

The consolidated condensed financial statements include the accounts of Protective Life Corporation and subsidiaries and its affiliate companies in which the Company holds a majority voting or economic interest. Intercompany balances and transactions have been eliminated.

 

2.             SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Accounting Pronouncements Recently Adopted

 

Accounting Standard Update (“ASU” or “Update”) No. 2010-06 — Fair Value Measurements and Disclosures — Improving Disclosures about Fair Value Measurements. In January of 2010, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2010-06 — Fair Value Measurements and Disclosures — Improving Disclosures about Fair Value Measurements. This Update provides amendments to Subtopic 820-10 that requires the following new disclosures. 1) A reporting entity should disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 fair value measurements and describe the reasons for the transfers. 2) In the reconciliation for fair value measurements using significant unobservable inputs (Level 3), a reporting entity should present separately information about purchases, sales, issuances, and settlements (that is, on a gross basis rather than as one net number).

 

This Update provides amendments to Subtopic 820-10 that clarifies existing disclosures. 1) A reporting entity should provide fair value measurement disclosures for each class of assets and liabilities. 2) A reporting entity should provide disclosures about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring fair value measurements. Those disclosures are required for fair value measurements that fall in either Level 2 or Level 3. This Update also includes conforming amendments to the guidance on employers’ disclosures about postretirement benefit plan assets (Subtopic 715-20). The conforming amendments to Subtopic 715-20 change the terminology from major categories of assets to classes of assets and provide a cross reference to the guidance in Subtopic 820-10 on how to determine appropriate classes to present fair value disclosures. This Update is effective for interim and annual reporting periods beginning after December 15, 2009, which the Company adopted for the period ending March 31, 2010, except for the disclosures about purchases, sales,

 

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issuances, and settlements in the roll forward of activity in Level 3 fair value measurements. Those disclosures were adopted by the Company as of January 1, 2011. This Update did not have an impact on the Company’s consolidated condensed results of operations or financial position.

 

ASU No. 2010-15 — Financial Services—Insurance — How Investments Held through Separate Accounts Affect an Insurer’s Consolidation Analysis of Those Investments. The amendments in this Update clarify that an insurance entity should not consider any separate account interests held for the benefit of policy holders in an investment to be the insurer’s interests. The entity should not combine general account and separate account interests in the same investment when assessing the investment for consolidation. Additionally, the amendments do not require an insurer to consolidate an investment in which a separate account holds a controlling financial interest if the investment is not or would not be consolidated in the standalone financial statements of the separate account. The amendments in this Update also provide guidance on how an insurer should consolidate an investment fund in situations in which the insurer concludes that consolidation is required. This Update is effective for fiscal years beginning after December 15, 2010. For the Company this Update became effective January 1, 2011. This Update did not have an impact on the Company’s consolidated condensed results of operations or financial position.

 

ASU No. 2010-28 — Intangibles — Goodwill and Other — When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts. The amendments in this Update modify Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. In determining whether it is more likely than not that a goodwill impairment exists, an entity should consider whether there are any adverse qualitative factors indicating that an impairment may exist. This Update is effective for fiscal years, and interim periods within those years, beginning after December 15, 2010. This Update was effective for the Company as of January 1, 2011. This Update did not have an impact on the Company’s results of operations or financial position.

 

Accounting Pronouncements Not Yet Adopted

 

ASU No. 2010-26 — Financial Services — Insurance - Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts. The objective of this Update is to address diversity in practice regarding the interpretation of which costs relating to the acquisition of new or renewal insurance contracts qualify for deferral. This Update prescribes that certain incremental direct costs of successful initial or renewal contract acquisitions may be deferred. It defines incremental direct costs as those costs that result directly from and are essential to the contract transaction and would not have been incurred by the insurance entity had the contract transaction not occurred. This Update also clarifies the definition of the types of incurred costs that may be capitalized and the accounting and recognition treatment of advertising, research, and other administrative costs related to the acquisition of insurance contracts. This Update is effective for periods beginning after December 15, 2011 and is to be applied prospectively. Early adoption and retrospective application are optional. The Company is currently evaluating the impact this Update will have on its results of operations and financial position.

 

ASU No. 2011-02 — Receivables — A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring. The objective of this Update is to evaluate whether a restructuring constitutes a troubled debt restructuring. In evaluating whether a restructuring constitutes a troubled debt restructuring, a creditor must separately conclude that both of the following exist: 1) the restructuring constitutes a concession and 2) the debtor is experiencing financial difficulties. This Update also clarifies the guidance on a creditor’s evaluation of whether it has granted a concession. The amendments in this Update are effective for the first interim or annual period beginning on or after June 15, 2011, and should be applied retrospectively to the beginning of the annual period of adoption. For the Company, this Update will become effective on July 1, 2011. The Company is currently evaluating the impact this Update will have on its results of operations or financial position.

 

ASU No. 2011-03 — Transfers and Servicing - Reconsideration of Effective Control for Repurchase Agreements. This Update amends the assessment of effective control for repurchase agreements to remove 1) the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms, even in the event of default by the transferee, and 2) the collateral maintenance implementation guidance related to the criterion. The Boards determined that these criterion should not be a determining factor of effective control. This Update is effective for the first interim or annual period beginning on or after December 15, 2011. For the Company, the Update will be applied to all repurchase agreements beginning January 1, 2012. The Company is currently evaluating the impact this Update will have on its results of operations or financial position.

 

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ASU No. 2011-04 — Fair Value Measurement - Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs. The amendments in this Update result in common fair value measurement and disclosure requirements in GAAP and IFRSs. The amendments change the wording used to describe many of the requirements for measuring fair value and for disclosing information about fair value measurements. The intent of this Update was not to change the application of the requirements in Topic 820. Some of the amendments clarify the intent regarding the application of existing fair value measurement requirements. The Update did modify several principles or requirements for measuring fair value or for disclosing information about fair value measurements. These changes are effective for interim and annual periods beginning after December 15, 2011. The Company is currently evaluating the impact this Update will have on its results of operations or financial position.

 

ASU No. 2011-05 — Comprehensive Income — Presentation of Comprehensive Income. In this Update, a company has the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in 1) a single continuous statement of comprehensive income, or 2) in two separate but consecutive statements. In both choices, a company is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income. The amendments in this Update do not change the items that must be reported in other comprehensive income, or the timing of its subsequent reclassification to net income. This Update is effective January 1, 2012. The Company is currently evaluating the appropriate format to which it will adhere.

 

Significant Accounting Policies

 

For a full description of significant accounting policies, see Note 2 of Notes to Consolidated Financial Statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010. There were no significant changes to the Company’s accounting policies during the six months ended June 30, 2011, except as noted above.

 

3.             SIGNIFICANT ACQUISITIONS

 

On December 31, 2010, Protective Life Insurance Company (“PLICO”), the Company’s principal operating subsidiary, completed the acquisition of all of the outstanding stock of United Investors Life Insurance Company (“United Investors”), pursuant to a Stock Purchase Agreement, between PLICO, Torchmark Corporation (“Torchmark”) and its wholly owned subsidiaries, Liberty National Life Insurance Company (“Liberty National”) and United Investors.

 

The Company accounted for this transaction under the purchase method of accounting as required by FASB guidance under the ASC Business Combinations topic. This guidance requires that the total purchase price be allocated to the assets acquired and liabilities assumed based on their fair values at the acquisition date. The aggregate purchase price for United Investors was $363.3 million.

 

On April 29, 2011, PLICO closed a previously announced and unrelated reinsurance transaction with Liberty Life Insurance Company (“Liberty Life”) under the terms of which PLICO reinsured substantially all of the life and health business of Liberty Life. The transaction closed in conjunction with Athene Holding Ltd’s acquisition of Liberty Life from an affiliate of Royal Bank of Canada. The capital invested by PLICO in the transaction at closing was $321 million, including a $225 million ceding commission which has been recorded and is subject to adjustment upon completion of the final Liberty Life closing statutory balance sheet. In conjunction with the closing, PLICO invested $40 million in a surplus note issued by Athene Life Re. The Company accounted for this transaction in a manner consistent with the purchase method of accounting as required by FASB guidance under the ASC Business Combinations topic. This guidance requires that the total consideration paid be allocated to the assets acquired and liabilities assumed based on their fair values at the transaction date.

 

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The following table summarizes the fair values of the net assets acquired from the Liberty Life reinsurance transaction as of the transaction date:

 

 

 

Fair Value as of

 

 

 

April 29, 2011

 

 

 

(Dollars In Thousands)

 

ASSETS

 

 

 

Investments

 

$

1,768,297

 

Cash

 

35,959

 

Accrued investment income

 

154

 

Accounts and premiums receivable, net

 

877

 

Reinsurance receivable

 

9,511

 

Value of business acquired

 

135,876

 

Other assets

 

1

 

Assets related to separate accounts

 

 

Total assets

 

1,950,675

 

LIABILITIES

 

 

 

Policy liabilities and accrual

 

1,665,294

 

Annuity account balances

 

4,420

 

Other policyholders’ funds

 

24,977

 

Other liabilities

 

30,834

 

Total liabilities

 

1,725,525

 

 

 

 

 

NET ASSETS ACQUIRED

 

$

225,150

 

 

The following (unaudited) pro forma condensed consolidated results of operations assumes that the aforementioned transactions with Liberty Life and United Investors were completed as of January 1, 2010:

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(Dollars In Thousands)

 

Revenue

 

$

923,426

 

$

852,639

 

$

1,822,693

 

$

1,780,073

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

93,710

 

$

76,358

 

$

161,622

 

$

175,486

 

 

 

 

 

 

 

 

 

 

 

EPS - basic

 

$

1.09

 

$

0.88

 

$

1.87

 

$

2.03

 

 

 

 

 

 

 

 

 

 

 

EPS - diluted

 

$

1.07

 

$

0.87

 

$

1.84

 

$

2.00

 

 

4.                                      INVESTMENT OPERATIONS

 

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

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30, 2011

 

June 30, 2011

 

 

 

(Dollars In Thousands)

 

Fixed maturities

 

$

30,196

 

$

35,491

 

Equity securities

 

70

 

9,170

 

Impairments on fixed maturity securities

 

(9,487

)

(15,150

)

Impairments on equity securities

 

 

 

Modco trading portfolio

 

33,603

 

27,954

 

Other investments

 

(4,952

)

(9,226

)

Total realized gains (losses) - investments

 

$

49,430

 

$

48,239

 

 

For the three and six months ended June 30, 2011, gross realized gains on investments available-for-sale (fixed maturities, equity securities, and short-term investments) were $31.8 million and $46.4 million and gross realized losses were $10.8 million and $16.6 million, including $9.2 million and $14.8 million of impairment losses,

 

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respectively. The $9.2 million and $14.8 million exclude $0.3 million and $0.4 million of impairment losses in the trading portfolio for the three and six months ended June 30, 2011, respectively.

 

The $9.2 million of gains included in equity securities primarily relates to gains of $6.9 million on securities that have recovered in value as the issuer exited bankruptcy and $1.2 million that relates to gains recognized on the sale of Federal National Mortgage Association preferreds.

 

For the three and six months ended June 30, 2011, the Company sold securities in an unrealized gain position with a fair value (proceeds) of $1.3 billion and $1.5 billion, respectively. The gain realized on the sale of these securities was $31.8 million and $46.4 million, respectively.

 

For the three and six months ended June 30, 2011, the Company sold securities in an unrealized loss position with a fair value (proceeds) of $142.9 million and $162.9 million, respectively. The loss realized on the sale of these securities was $1.6 million and $1.8 million, respectively.

 

The amortized cost and fair value of the Company’s investments classified as available-for-sale as of June 30, 2011, are as follows:

 

 

 

 

 

Gross

 

Gross

 

 

 

 

 

Amortized

 

Unrealized

 

Unrealized

 

Fair

 

 

 

Cost

 

Gains

 

Losses

 

Value

 

 

 

(Dollars In Thousands)

 

Fixed maturities:

 

 

 

 

 

 

 

 

 

Bonds

 

 

 

 

 

 

 

 

 

Residential mortgage-backed securities

 

$

2,543,004

 

$

56,189

 

$

(109,030

)

$

2,490,163

 

Commercial mortgage-backed securities

 

283,569

 

5,980

 

(2,045

)

287,504

 

Other asset-backed securities

 

875,894

 

1,276

 

(32,907

)

844,263

 

U.S. government-related securities

 

1,097,064

 

36,511

 

(2,262

)

1,131,313

 

Other government-related securities

 

135,993

 

7,126

 

 

143,119

 

States, municipals, and political subdivisions

 

1,140,928

 

41,746

 

(7,852

)

1,174,822

 

Corporate bonds

 

16,192,923

 

1,116,854

 

(133,989

)

17,175,788

 

 

 

22,269,375

 

1,265,682

 

(288,085

)

23,246,972

 

Equity securities

 

334,505

 

9,031

 

(5,052

)

338,484

 

Short-term investments

 

32,524

 

 

 

32,524

 

 

 

$

22,636,404

 

$

1,274,713

 

$

(293,137

)

$

23,617,980

 

 

As of June 30, 2011, the Company had an additional $2.9 billion of fixed maturities, $11.3 million of equity securities, and $102.2 million of short-term investments classified as trading securities.

 

The amortized cost and fair value of available-for-sale fixed maturities as of June 30, 2011, by expected maturity, are shown below. Expected maturities of securities without a single maturity date are allocated based on estimated rates of prepayment that may differ from actual rates of prepayment.

 

 

 

Amortized

 

Fair

 

 

 

Cost

 

Value

 

 

 

(Dollars In Thousands)

 

Due in one year or less

 

$

625,459

 

$

640,235

 

Due after one year through five years

 

3,715,102

 

3,875,630

 

Due after five years through ten years

 

6,318,142

 

6,669,230

 

Due after ten years

 

11,610,672

 

12,061,877

 

 

 

$

22,269,375

 

$

23,246,972

 

 

Each quarter the Company reviews investments with unrealized losses and tests for other-than-temporary impairments. The Company analyzes various factors to determine if any specific other-than-temporary asset impairments exist. These include, but are not limited to: 1) actions taken by rating agencies, 2) default by the issuer, 3) the significance of the decline, 4) an assessment of the Company’s intent to sell the security (including a more likely than not assessment of whether the Company will be required to sell the security) before recovering the security’s amortized cost, 5) the time period during which the decline has occurred, 6) an economic analysis of the issuer’s industry, and 7) the financial strength, liquidity, and recoverability of the issuer. Management performs a security by security review each quarter in evaluating the need for any other-than-temporary impairments. Although no set formula is used in this process, the investment performance, collateral position, and continued viability of the

 

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issuer are significant measures considered, and in some cases, an analysis regarding the Company’s expectations for recovery of the security’s entire amortized cost basis through the receipt of future cash flows is performed. Once a determination has been made that a specific other-than-temporary impairment exists, the security’s basis is adjusted and an other-than-temporary impairment is recognized. Equity securities that are other-than-temporarily impaired are written down to fair value with a realized loss recognized in earnings. Other-than-temporary impairments to debt securities that the Company does not intend to sell and does not expect to be required to sell before recovering the security’s amortized cost are written down to discounted expected future cash flows (“post impairment cost”) and credit losses are recorded in earnings. The difference between the securities’ discounted expected future cash flows and the fair value of the securities is recognized in other comprehensive income (loss) as a non-credit portion of the recognized other-than-temporary impairment. When calculating the post impairment cost for residential mortgage-backed securities (“RMBS”), commercial mortgage-backed securities (“CMBS”), and other asset-backed securities, the Company considers all known market data related to cash flows to estimate future cash flows. When calculating the post impairment cost for corporate debt securities, the Company considers all contractual cash flows to estimate expected future cash flows. To calculate the post impairment cost, the expected future cash flows are discounted at the original purchase yield. Debt securities that the Company intends to sell or expects to be required to sell before recovery are written down to fair value with the change recognized in earnings.

 

During the three and six months ended June 30, 2011, the Company recorded other-than-temporary impairments on investments of $15.7 million and $31.7 million, respectively, related to debt securities. Of the $15.7 million of impairments for the three months ended June 30, 2011, $9.5 million was recorded in earnings and $6.2 million was recorded in other comprehensive income (loss). Of the $31.7 million of impairments for the six months ended June 30, 2011, $15.2 million was recorded in earnings and $16.5 million was recorded in other comprehensive income (loss).  During this period, there were no other-than-temporary impairments related to debt securities or equity securities that the Company intends to sell or expects to be required to sell, except with respect to certain debt securities that were part of the Company’s collateral in its securities lending program

 

For the three and six months ended June 30, 2011, there were no other-than-temporary impairments related to equity securities.

 

The following chart is a rollforward of credit losses on debt securities held by the Company for which a portion of an other-than-temporary impairment was recognized in other comprehensive income (loss):

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(Dollars In Thousands)

 

Beginning balance

 

$

40,615

 

$

33,366

 

$

39,427

 

$

25,076

 

Additions for newly impaired securities

 

5,797

 

12,894

 

9,406

 

19,450

 

Additions for previously impaired securities

 

3,435

 

17

 

4,103

 

1,751

 

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

 

 

 

 

 

Reductions for previously impaired securities that were sold in the current period

 

 

(14,701

)

(3,089

)

(14,701

)

Other

 

 

 

 

 

Ending balance

 

$

49,847

 

$

31,576

 

$

49,847

 

$

31,576

 

 

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The following table includes investments’ gross unrealized losses and fair value of the Company’s investments that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position as of June 30, 2011:

 

 

 

Less Than 12 Months

 

12 Months or More

 

Total

 

 

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

 

 

Value

 

Loss

 

Value

 

Loss

 

Value

 

Loss

 

 

 

(Dollars In Thousands)

 

Residential mortgage-backed securities

 

$

452,087

 

$

(22,852

)

$

685,680

 

$

(86,178

)

$

1,137,767

 

$

(109,030

)

Commercial mortgage-backed securities

 

109,354

 

(2,045

)

 

 

109,354

 

(2,045

)

Other asset-backed securities

 

78,403

 

(1,556

)

584,736

 

(31,351

)

663,139

 

(32,907

)

U.S. government-related securities

 

214,222

 

(2,262

)

 

 

214,222

 

(2,262

)

Other government-related securities

 

 

 

 

 

 

 

States, municipals, and political subdivisions

 

232,750

 

(6,214

)

23,362

 

(1,638

)

256,112

 

(7,852

)

Corporate bonds

 

2,080,437

 

(67,082

)

560,460

 

(66,907

)

2,640,897

 

(133,989

)

Equities

 

20,950

 

(2,957

)

13,399

 

(2,095

)

34,349

 

(5,052

)

 

 

$

3,188,203

 

$

(104,968

)

$

1,867,637

 

$

(188,169

)

$

5,055,840

 

$

(293,137

)

 

The RMBS have a gross unrealized loss greater than twelve months of $86.2 million as of June 30, 2011. These losses relate to a widening in spreads and defaults as a result of continued weakness in the residential housing market which have reduced the fair value of the RMBS holdings. Factors such as the credit enhancement within the deal structure, the average life of the securities, and the performance of the underlying collateral support the recoverability of these investments.

 

The other asset-backed securities have a gross unrealized loss greater than twelve months of $31.4 million as of June 30, 2011. This category predominately includes student-loan backed auction rate securities whose underlying collateral is at least 97% guaranteed by the Federal Family Education Loan Program (“FFELP”). These losses relate to the auction rate securities (“ARS”) market collapse during 2008. At this time, the Company has no reason to believe that the U.S. Department of Education would not honor the FFELP guarantee, if it were necessary. In addition, the Company has the ability and intent to hold these securities until their values recover or until maturity.

 

The corporate bonds category has gross unrealized losses greater than twelve months of $66.9 million as of June 30, 2011. These losses relate primarily to fluctuations in credit spreads. The aggregate decline in market value of these securities was deemed temporary due to positive factors supporting the recoverability of the respective investments. Positive factors considered include credit ratings, the financial health of the issuer, the continued access of the issuer to capital markets, and other pertinent information including the Company’s ability and intent to hold these securities to recovery.

 

The Company does not consider these unrealized loss positions to be other-than-temporary, based on the factors discussed and because the Company has the ability and intent to hold these investments until the fair values recover, and does not intend to sell or expect to be required to sell the securities before recovering the Company’s amortized cost of debt securities.

 

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The following table includes investments’ gross unrealized losses and fair value of the Company’s investments that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position as of December 31, 2010:

 

 

 

Less Than 12 Months

 

12 Months or More

 

Total

 

 

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

 

 

Value

 

Loss

 

Value

 

Loss

 

Value

 

Loss

 

 

 

(Dollars In Thousands)

 

Residential mortgage-backed securities

 

$

237,450

 

$

(17,877

)

$

1,173,541

 

$

(125,334

)

$

1,410,991

 

$

(143,211

)

Commercial mortgage-backed securities

 

25,679

 

(933

)

 

 

25,679

 

(933

)

Other asset-backed securities

 

167,089

 

(2,452

)

594,756

 

(27,212

)

761,845

 

(29,664

)

U.S. government-related securities

 

144,807

 

(3,071

)

 

 

144,807

 

(3,071

)

Other government-related securities

 

33,936

 

(8

)

14,993

 

(7

)

48,929

 

(15

)

States, municipals, and political subdivisions

 

563,352

 

(22,345

)

 

 

563,352

 

(22,345

)

Corporate bonds

 

2,264,649

 

(82,343

)

835,655

 

(94,843

)

3,100,304

 

(177,186

)

Equities

 

11,950

 

(3,321

)

13,544

 

(1,961

)

25,494

 

(5,282

)

 

 

$

3,448,912

 

$

(132,350

)

$

2,632,489

 

$

(249,357

)

$

6,081,401

 

$

(381,707

)

 

The RMBS have a gross unrealized loss greater than twelve months of $125.3 million as of December 31, 2010. These losses relate to a widening in spreads and defaults as a result of continued weakness in the residential housing market which have reduced the fair value of the RMBS holdings. Factors such as the credit enhancement within the deal structure, the average life of the securities, and the performance of the underlying collateral support the recoverability of the investments.

 

The other asset-backed securities have a gross unrealized loss greater than twelve months of $27.2 million as of December 31, 2010. This category predominately includes student-loan backed auction rate securities whose underlying collateral is at least 97% guaranteed by the Federal Family Education Loan Program (“FFELP”). These losses relate to the auction rate securities (“ARS”) market collapse during 2008. At this time, the Company has no reason to believe that the U.S. Department of Education would not honor the FFELP guarantee, if it were necessary. In addition, the Company has the ability and intent to hold these securities until their values recover or maturity.

 

The corporate bonds category has gross unrealized losses greater than twelve months of $94.8 million as of December 31, 2010. These losses relate primarily to fluctuations in credit spreads. The aggregate decline in market value of these securities was deemed temporary due to positive factors supporting the recoverability of the respective investments. Positive factors considered include credit ratings, the financial health of the issuer, the continued access of the issuer to capital markets, and other pertinent information including the Company’s ability and intent to hold these securities to recovery.

 

The Company does not consider these unrealized loss positions to be other-than-temporary, based on the factors discussed and because the Company has the ability and intent to hold these investments until the fair values recover, and does not intend to sell or expect to be required to sell the securities before recovering the Company’s amortized cost of debt securities

 

As of June 30, 2011, the Company had securities in its available-for-sale portfolio which were rated below investment grade of $2.4 billion and had an amortized cost of $2.6 billion. In addition, included in the Company’s trading portfolio, the Company held $242.6 million of securities which were rated below investment grade. Approximately $524.8 million of the below investment grade securities were not publicly traded.

 

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

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30, 2011

 

June 30, 2011

 

 

 

(Dollars In Thousands)

 

Fixed maturities

 

$

169,348

 

$

197,308

 

Equity securities

 

(3,372

)

(3,788

)

 

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5.             MORTGAGE LOANS

 

Mortgage Loans

 

The Company invests a portion of its investment portfolio in commercial mortgage loans. As of June 30, 2011, the Company’s mortgage loan holdings were approximately $5.3 billion.

 

As of June 30, 2011 and December 31, 2010, the Company had an allowance for mortgage loan credit losses of $7.6 million and $11.7 million, respectively. Over the past ten years, the Company’s commercial mortgage loan portfolio has experienced an average credit loss factor of approximately 0.02%. Due to such low historical losses, the Company believes that a collectively evaluated allowance would be inappropriate. The Company believes an allowance calculated through an analysis of specific loans that are believed to have a higher risk of credit impairment provides a more accurate presentation of expected losses in the portfolio and is consistent with the applicable guidance for loan impairments in Subtopic 310. Since the Company uses the specific identification method for calculating reserves, it is necessary to review the economic situation of each borrower to determine those that have higher risk of credit impairment. The Company has a team of professionals that monitors borrower conditions such as payment practices, borrower credit, operating performance, and property conditions, as well as ensuring the timely payment of property taxes and insurance. Through this monitoring process, the Company assesses the risk of each borrower. When issues are identified, the severity of the issues is assessed and reviewed for possible credit impairment. If a loss is probable, an expected loss calculation is performed and an allowance is established for that borrower. A loan may be subsequently charged off at such point that the Company no longer expects to receive cash payments, the present value of future expected payments of the renegotiated loan is less than the current principal balance, or at such time that the Company is party to foreclosure or bankruptcy proceedings associated with the borrower and does not expect to recover the principal balance of the loan. A charge off is recorded by eliminating the allowance against the mortgage loan and recording the renegotiated loan or the collateral property related to the loan as investment real estate on the balance sheet, which is carried at the lower of the appraised fair value of the property or the unpaid principal balance of the loan, less estimated selling costs associated with the property.

 

The Company’s mortgage loan portfolio consists of two categories of loans: 1) those not subject to a pooling and servicing agreement and 2) those previously a part of variable interest entity securitizations and thus subject to a contractual pooling and servicing agreement. The loans subject to a pooling and servicing agreement have been included on our consolidated condensed balance sheet beginning in the first quarter of 2010 in accordance with ASU 2009-17.

 

For loans not subject to a pooling and servicing agreement, as of June 30, 2011, $22.5 million, or 0.4%, of the mortgage loan portfolio was nonperforming. As of June 30, 2011, delinquent mortgage loans, foreclosed properties, and restructured loans pursuant to a pooling and servicing agreement totaled $20.2 million, and were less than 0.1% of invested assets. This amount pursuant to a pooling and servicing agreement includes $19.7 million, or 0.4%, that was either nonperforming or has been restructured under the terms and conditions of the pooling and service agreement.

 

The Company does not expect these investments to adversely affect its liquidity or ability to maintain proper matching of assets and liabilities.

 

An analysis of the change in the allowance for mortgage loan credit losses is provided in the following chart:

 

 

 

As of

 

 

 

June 30, 2011

 

December 31, 2010

 

 

 

(Dollars In Thousands)

 

Beginning balance

 

$

11,650

 

$

1,725

 

Charge offs

 

(9,358

)

(1,146

)

Recoveries

 

(2,386

)

 

Provision

 

7,694

 

11,071

 

Ending balance

 

$

7,600

 

$

11,650

 

 

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It is the Company’s policy to cease to carry accrued interest on loans that are over 90 days delinquent. For loans less than 90 days delinquent, interest is accrued unless it is determined that the accrued interest is not collectible. If a loan becomes over 90 days delinquent, it is the Company’s general policy to initiate foreclosure proceedings unless a workout arrangement to bring the loan current is in place. For loans subject to a pooling and servicing agreement, there are certain additional restrictions and/or requirements related to workout proceedings, and as such, these loans may have different attributes and/or circumstances affecting the status of delinquency or categorization of those in nonperforming status. An analysis of the delinquent loans is shown in the following chart as of June 30, 2011:

 

 

 

 

 

 

 

Greater

 

 

 

 

 

30-59 Days

 

60-89 Days

 

than 90 Days

 

Total

 

 

 

Delinquent

 

Delinquent

 

Delinquent

 

Delinquent

 

 

 

(Dollars In Thousands)

 

Commercial mortgage loans

 

$

40,759

 

$

10,335

 

$

15,719

 

$

66,813

 

Number of delinquent commercial mortgage loans

 

8

 

3

 

9

 

20

 

 

The Company’s commercial mortgage loan portfolio consists of mortgage loans that are collateralized by real estate. Due to the collateralized nature of the loans, any assessment of impairment and ultimate loss given a default on the loans is based upon a consideration of the estimated fair value of the real estate. The Company limits accrued interest income on impaired loans to ninety days of interest. Once accrued interest on the impaired loan is received, interest income is recognized on a cash basis. For information regarding impaired loans, please refer to the following chart as of June 30, 2011:

 

 

 

 

 

Unpaid

 

 

 

Average

 

Interest

 

Cash Basis

 

 

 

Recorded

 

Principal

 

Related

 

Recorded

 

Income

 

Interest

 

 

 

Investment

 

Balance

 

Allowance

 

Investment

 

Recognized

 

Income

 

 

 

(Dollars In Thousands)

 

Commercial mortgage loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

With no related allowance recorded

 

$

14,089

 

$

14,089

 

$

 

$

1,761

 

$

35

 

$

56

 

With an allowance recorded

 

20,800

 

20,800

 

7,600

 

3,467

 

101

 

118

 

 

6.             GOODWILL

 

During the six months ended June 30, 2011, the Company decreased its goodwill balance by approximately $1.5 million. The decrease was due to adjustments in the Acquisitions segment related to tax benefits realized during 2011 on the portion of tax goodwill in excess of GAAP basis goodwill. As of June 30, 2011, the Company had an aggregate goodwill balance of $113.2 million.

 

Accounting for goodwill requires an estimate of the future profitability of the associated lines of business to assess the recoverability of the capitalized acquisition goodwill. The Company evaluates the carrying value of goodwill at the segment (or reporting unit) level at least annually and between annual evaluations if events occur or circumstances change that would more likely than not reduce the fair value of the reporting unit below its carrying amount. Such circumstances could include, but are not limited to: 1) a significant adverse change in legal factors or in business climate, 2) unanticipated competition, or 3) an adverse action or assessment by a regulator. When evaluating whether goodwill is impaired, the Company compared its estimate of the fair value of the reporting unit to which the goodwill is assigned to the reporting unit’s carrying amount, including goodwill. The Company utilizes a fair value measurement (which includes a discounted cash flows analysis) to assess the carrying value of the reporting units in consideration of the recoverability of the goodwill balance assigned to each reporting unit as of the measurement date. The Company’s material goodwill balances are attributable to certain of its operating segments (which are each considered to be reporting units). The cash flows used to determine the fair value of the Company’s reporting units are dependent on a number of significant assumptions. The Company’s estimates, which consider a market participant view of fair value, are subject to change given the inherent uncertainty in predicting future results and cash flows, which are impacted by such things as policyholder behavior, competitor pricing, capital limitations, new product introductions, and specific industry and market conditions. Additionally, the discount rate used is based on the Company’s judgment of the appropriate rate for each reporting unit based on the relative risk associated with the projected cash flows. As of December 31, 2010, the Company performed its annual evaluation of goodwill and determined that no adjustment to impair goodwill was necessary.

 

The Company also considers its market capitalization in assessing the reasonableness of the fair values estimated for its reporting units in connection with its goodwill impairment testing. In considering the Company’s

 

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June 30, 2011 common equity price, which was lower than its book value per share, the Company noted there are several factors that would result in its market capitalization being lower than the fair value of its reporting units that are tested for goodwill impairment. Such factors that would not be reflected in the valuation of the Company’s reporting units with goodwill include, but are not limited to: a potential concern about future earnings growth, negative market sentiment, different valuation methodologies that resulted in low valuation, and increased risk premium for holding investments in mortgage-backed securities and commercial mortgage loans. Deterioration of or adverse market conditions for certain businesses may have a significant impact on the fair value of the Company’s reporting units. In the Company’s view, market capitalization being below book value does not invalidate the Company’s fair value assessment related to the recoverability of goodwill in its reporting units, and did not result in a triggering or impairment event.

 

7.             DEBT AND OTHER OBLIGATIONS

 

Non-recourse funding obligations outstanding as of June 30, 2011, on a consolidated basis, are shown in the following table:

 

 

 

 

 

 

 

Year-to-Date

 

 

 

 

 

 

 

Weighted-Avg

 

Issuer

 

Balance

 

Maturity Year

 

Interest Rate

 

 

 

(Dollars In Thousands)

 

 

 

 

 

Golden Gate II Captive Insurance Company

 

$

438,300

 

2052

 

1.30

%

 

During the first six months of 2011, the Company repurchased $94.1 million of its outstanding non-recourse funding obligations, at a discount. These repurchases resulted in a $30.7 million gain for the Company.

 

Golden Gate II Captive Insurance Company (“Golden Gate II”), a special purpose financial captive insurance company wholly owned by PLICO, had $575 million of outstanding non-recourse funding obligations as of June 30, 2011. These outstanding non-recourse funding obligations were issued to special purpose trusts, which in turn issued securities to third parties. Certain of the Company’s affiliates purchased a portion of these securities during 2010 and 2011. As a result of these purchases, as of June 30, 2011, securities related to $438.3 million of the outstanding balance of the non-recourse funding obligations were held by external parties and securities related to $136.7 million of the non-recourse funding obligations were held by affiliates.

 

Under a revolving line of credit arrangement, the Company has the ability to borrow on an unsecured basis up to an aggregate principal amount of $500 million (the “Credit Facility”). The Company has the right in certain circumstances to request that the commitment under the Credit Facility be increased up to a maximum principal amount of $600 million. Balances outstanding under the Credit Facility accrue interest at a rate equal to (i) either the prime rate or the London Interbank Offered Rate (“LIBOR”), plus (ii) a spread based on the ratings of our senior unsecured long-term debt. The Credit Agreement provides that the Company is liable for the full amount of any obligations for borrowings or letters of credit, including those of PLICO, under the Credit Facility. The maturity date on the Credit Facility is April 16, 2013. There was an outstanding balance of $135.0 million at an interest rate of LIBOR plus 0.40% under the Credit Facility as of June 30, 2011.

 

8.             COMMITMENTS AND CONTINGENCIES

 

The Company has entered into indemnity agreements with each of its current directors that provide, among other things and subject to certain limitations, a contractual right to indemnification to the fullest extent permissible under the law. The Company has agreements with certain of its officers providing up to $10 million in indemnification. These obligations are in addition to the customary obligation to indemnify officers and directors contained in the Company’s governance documents.

 

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

 

A number of civil jury verdicts have been returned against insurers, broker dealers and other providers of financial services involving sales, refund or claims practices, alleged agent misconduct, failure to properly supervise representatives, relationships with agents or persons with whom the insurer does business, and other matters. Often

 

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these lawsuits have resulted in the award of substantial judgments that are disproportionate to the actual damages, including material amounts of punitive and non-economic compensatory damages. In some states, juries, judges, and arbitrators have substantial discretion in awarding punitive non-economic compensatory damages which creates the potential for unpredictable material adverse judgments or awards in any given lawsuit or arbitration. Arbitration awards are subject to very limited appellate review. In addition, in some class action and other lawsuits, companies have made material settlement payments. The Company, in the ordinary course of business, is involved in such litigation and arbitration. The occurrence of such litigation and arbitration may become more frequent and/or severe when general economic conditions have deteriorated. The Company is unable to predict the outcome of such litigation and arbitration and is unable to provide a reasonable range of possible losses. Although the Company cannot predict the outcome of any such litigation or arbitration, the Company does not believe that any such outcome will have a material impact, either individually or in the aggregate, on its financial condition or results of the operations. Given the inherent difficulty in predicting the outcome of such legal proceedings, however, it is possible that an adverse outcome in certain such matters could be material to the Company’s financial condition or results of operations for any particular reporting period.

 

9.             COMPREHENSIVE INCOME (LOSS)

 

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

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(Dollars In Thousands)

 

Net income

 

$

93,364

 

$

41,244

 

$

160,830

 

$

110,950

 

Change in net unrealized gains (losses) on investments, net of income tax: (three months: 2011 - $85,553; 2010 - $130,774; six months: 2011 - $103,460; 2010 - $273,255)

 

158,888

 

242,856

 

192,151

 

506,815

 

Change in net unrealized gains (losses) relating to other-than-temporary impaired investments for which a portion has been recognized in earnings, net of income tax: (three months: 2011 - $(5,444); 2010 - $(6,960); six months: 2011 - $(9,052); 2010 - $(10,455))

 

(10,111

)

(12,924

)

(16,811

)

(19,416

)

Change in accumulated (loss) gain - derivatives, net of income tax: (three months: 2011 - $(1,777); 2010 - $(3,229); six months: 2011 - $1,844; 2010 - $(194))

 

(3,299

)

(5,952

)

3,425

 

(234

)

Change in postretirement benefits liability adjustment, net of income tax: (three months: 2011 - $(451); 2010 - $325; six months: 2011 - $(902); 2010 - $649)

 

(838

)

603

 

(1,676

)

1,205

 

Reclassification adjustment for investment amounts included in net income, net of income tax: (three months: 2011 - $(7,271); 2010 - $3,894; six months: 2011 - $(10,325); 2010 - $5,619)

 

(13,508

)

7,241

 

(19,186

)

10,659

 

Reclassification adjustment for derivative amounts included in net income, net of income tax: (three months: 2011 - $238; 2010 - $768; six months: 2011 - $(123); 2010 - $(206))

 

443

 

1,382

 

(228

)

(370

)

Comprehensive income (loss)

 

224,939

 

274,450

 

318,505

 

609,609

 

Comprehensive income (loss) attributable to noncontrolling interests

 

(296

)

127

 

(245

)

200

 

Comprehensive income (loss) attributable to Protective Life Corporation

 

$

224,643

 

$

274,577

 

$

318,260

 

$

609,809

 

 

10.          STOCK-BASED COMPENSATION

 

During the six months ended June 30, 2011, 191,000 performance shares with an estimated fair value of $5.4 million were issued. The criteria for payment of the 2011 performance awards is based primarily on the Company’s average operating return on average equity (“ROE”) over a three-year period. If the Company’s ROE is below 9.0%, no award is earned. If the Company’s ROE is at or above 10.0%, the award maximum is earned. Awards are paid in shares of the Company’s common stock. No performance share awards were issued during the six months ended June 30, 2010.

 

Additionally, the Company issued 172,000 restricted stock units for the six months ended June 30, 2011. These awards had a total fair value at grant date of $4.9 million. Approximately half of these restricted stock units vest in 2014, and the remainder vest in 2015.

 

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Table of Contents

 

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

 

 

 

Weighted-Average

 

 

 

 

 

Base Price per share

 

No. of SARs

 

Balance as of December 31, 2010

 

$

21.97

 

2,324,837

 

SARs granted

 

 

 

SARs exercised / forfeited / expired

 

6.65

 

41,319

 

Balance as of June 30, 2011

 

$

22.25

 

2,283,518

 

 

There were no SARs issued for the six months ended June 30, 2011. The Company will pay an amount in stock equal to the difference between the specified base price of the Company’s common stock and the market value at the exercise date for each SAR.

 

11.          EMPLOYEE BENEFIT PLANS

 

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

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(Dollars In Thousands)

 

Service cost — benefits earned during the period

 

$

2,194

 

$

2,068

 

$

4,388

 

$

4,136

 

Interest cost on projected benefit obligation

 

2,508

 

2,357

 

5,016

 

4,714

 

Expected return on plan assets

 

(2,512

)

(2,312

)

(5,024

)

(4,624

)

Amortization of prior service cost

 

(98

)

(98

)

(196

)

(196

)

Amortization of actuarial losses

 

1,388

 

1,026

 

2,776

 

2,052

 

Total benefit cost

 

$

3,480

 

$

3,041

 

$

6,960

 

$

6,082

 

 

During the six months ended June 30, 2011, the Company contributed $2.1 million to its defined benefit pension plan for the 2010 plan year and $2.3 million for the 2011 plan year. In addition, during July of 2011, the Company contributed $2.3 million to the defined benefit pension plan for the 2011 plan year. The Company will continue to make contributions in future periods as necessary to at least satisfy minimum funding requirements. The Company may also make additional contributions in future periods to maintain an adjusted funding target attainment percentage (“AFTAP”) of at least 80%.

 

In addition to pension benefits, the Company provides life insurance benefits to eligible retirees and limited healthcare benefits to eligible retirees who are not yet eligible for Medicare. For a closed group of retirees over age 65, the Company provides a prescription drug benefit. The cost of these plans for the six months ended June 30, 2011, was immaterial to the Company’s financial statements.

 

12.          EARNINGS PER SHARE

 

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

 

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

 

 

 

For The

 

For The

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(Dollars In Thousands, Except Per Share Amounts)

 

Calculation of basic earnings per share:

 

 

 

 

 

 

 

 

 

Net income available to PLC’s common shareowners

 

$

93,068

 

$

41,371

 

$

160,585

 

$

111,150

 

 

 

 

 

 

 

 

 

 

 

Average shares issued and outstanding

 

85,434,462

 

85,634,202

 

85,556,430

 

85,610,825

 

Issuable under various deferred compensation plans

 

911,754

 

928,177

 

917,582

 

920,636

 

Weighted shares outstanding - basic

 

86,346,216

 

86,562,379

 

86,474,012

 

86,531,461

 

 

 

 

 

 

 

 

 

 

 

Per share:

 

 

 

 

 

 

 

 

 

Net income available to PLC’s common shareowners - basic

 

$

1.08

 

$

0.48

 

$

1.86

 

$

1.28

 

 

 

 

 

 

 

 

 

 

 

Calculation of diluted earnings per share:

 

 

 

 

 

 

 

 

 

Net income available to PLC’s common shareowners

 

$

93,068

 

$

41,371

 

$

160,585

 

$

111,150

 

 

 

 

 

 

 

 

 

 

 

Weighted shares outstanding - basic

 

86,346,216

 

86,562,379

 

86,474,012

 

86,531,461

 

Stock appreciation rights (“SARs”)(1)

 

495,197

 

471,503

 

497,313

 

465,304

 

Issuable under various other stock-based compensation plans

 

96,829

 

138,173

 

118,762

 

146,599

 

Restricted stock units

 

715,489

 

493,980

 

646,362

 

465,663

 

Weighted shares outstanding - diluted

 

87,653,731

 

87,666,035

 

87,736,449

 

87,609,027

 

 

 

 

 

 

 

 

 

 

 

Per share:

 

 

 

 

 

 

 

 

 

Net income available to PLC’s common shareowners - diluted

 

$

1.06

 

$

0.47

 

$

1.83

 

$

1.27

 

 


(1)          Excludes 1,446,130 and 1,475,645 SARs as of June 30, 2011 and 2010, respectively, that are antidilutive. In the event the average market price exceeds the issue price of the SARs, such rights would be dilutive to the Company’s earnings per share and will be included in the Company’s calculation of the diluted average shares outstanding for applicable periods.

 

13.          INCOME TAXES

 

There have been no material changes to the balance of unrecognized income tax benefits which impacted earnings for the six months ended June 30, 2011. Within the next twelve months, the Company does not expect to have any material adjustments to its unrecognized income tax benefits liability with regard to any of the tax jurisdictions in which it conducts its business operations.

 

The Company has computed its effective income tax rate for the three and six months ended June 30, 2011 and 2010, based upon its estimate of its annual 2011 and 2010 income. The effective tax rate for the three and six months ended June 30, 2011 was 34.8% and 35.0%, respectively, and 36.0% and 33.1% for the three and six months ended June 30, 2010, respectively.

 

Based on the Company’s current assessment of future taxable income, including available tax planning opportunities, the Company anticipates that it is more likely than not that it will generate sufficient taxable income to realize all of its material deferred tax assets. The Company did not record a valuation allowance against its material deferred tax assets as of June 30, 2011.

 

14.          FAIR VALUE OF FINANCIAL INSTRUMENTS

 

The Company determined the fair value of its financial instruments based on the fair value hierarchy established in FASB guidance referenced in the Fair Value Measurements and Disclosures Topic which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The Company has adopted the provisions from the FASB guidance that is referenced in the Fair Value Measurements and Disclosures Topic for non-financial assets and liabilities (such as property and equipment, goodwill, and other intangible assets) that are required to be measured at fair value on a periodic basis. The effect on the Company’s periodic fair value measurements for non-financial assets and liabilities was not material.

 

The Company has categorized its financial instruments, based on the priority of the inputs to the valuation technique, into a three level hierarchy. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). If the

 

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inputs used to measure fair value fall within different levels of the hierarchy, the category level is based on the lowest priority level input that is significant to the fair value measurement of the instrument.

 

Financial assets and liabilities recorded at fair value on the consolidated condensed balance sheets are categorized as follows:

 

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

 

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

 

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

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

c)         Inputs other than quoted market prices that are observable

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

 

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

 

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Table of Contents

 

The following table presents the Company’s hierarchy for its assets and liabilities measured at fair value on a recurring basis as of June 30, 2011:

 

 

 

Level 1

 

Level 2

 

Level 3

 

Total

 

 

 

(Dollars In Thousands)

 

Assets:

 

 

 

 

 

 

 

 

 

Fixed maturity securities - available-for-sale

 

 

 

 

 

 

 

 

 

Residential mortgage-backed securities

 

$

 

$

2,490,156

 

$

7

 

$

2,490,163