Attached files
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EXCEL - IDEA: XBRL DOCUMENT - GREAT WEST LIFE & ANNUITY INSURANCE CO | Financial_Report.xls |
EX-32 - EXHIBIT 32 - GREAT WEST LIFE & ANNUITY INSURANCE CO | q12015gwla-exx32.htm |
EX-31.2 - EXHIBIT 31.2 - GREAT WEST LIFE & ANNUITY INSURANCE CO | q12015gwla-exx312.htm |
EX-31.1 - EXHIBIT 31.1 - GREAT WEST LIFE & ANNUITY INSURANCE CO | q12015gwla-ex311.htm |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 2015
OR
¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number 333-1173
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
(Exact name of registrant as specified in its charter)
COLORADO | 84-0467907 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification Number) |
8515 EAST ORCHARD ROAD, GREENWOOD VILLAGE, CO 80111
(Address of principal executive offices)
(303) 737-3000
(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 ¨
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 ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company as defined in Rule 12b-2 of the Act.
Large accelerated filer ¨ | Accelerated filer ¨ | Non-accelerated filer x | Smaller reporting company ¨ |
Indicate by check mark whether the registrant is a shell company as defined in Rule 12b-2 of the Act.
Yes ¨ No x
As of May 1, 2015, 7,032,000 shares of the registrant’s common stock were outstanding, all of which were owned by the registrant’s parent company.
Table of Contents
Page | |||
Number | |||
Part I | |||
Item 1 | |||
Item 2 | |||
Item 3 | |||
Item 4 | |||
Part II | |||
Item 1 | |||
Item 1A | |||
Item 6 | |||
2
Part I Financial Information
Item1. Interim Financial Statements
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Condensed Consolidated Balance Sheets
March 31, 2015 and December 31, 2014
(In Thousands, Except Share Amounts)
(Unaudited)
March 31, 2015 | December 31, 2014 | ||||||
Assets | |||||||
Investments: | |||||||
Fixed maturities, available-for-sale, at fair value (amortized cost $17,002,708 and $18,953,144) | $ | 18,367,667 | $ | 20,162,078 | |||
Fixed maturities, held-for-trading, at fair value (amortized cost $122,978 and $331,081) | 129,752 | 338,543 | |||||
Mortgage loans on real estate (net of allowances of $2,890 and $2,890) | 3,440,183 | 3,363,570 | |||||
Policy loans | 4,125,285 | 4,130,062 | |||||
Short-term investments (amortized cost $2,434,626 and $263,501) | 2,434,626 | 263,501 | |||||
Limited partnership and other corporation interests | 47,481 | 49,421 | |||||
Other investments | 15,485 | 16,068 | |||||
Total investments | 28,560,479 | 28,323,243 | |||||
Other assets: | |||||||
Cash | 8,132 | 12,775 | |||||
Reinsurance receivable | 612,184 | 611,270 | |||||
Deferred acquisition costs (“DAC”) and value of business acquired (“VOBA”) | 358,898 | 378,694 | |||||
Investment income due and accrued | 309,291 | 278,886 | |||||
Collateral under securities lending agreements | 89,906 | 13,741 | |||||
Due from parent and affiliates | 49,908 | 47,193 | |||||
Goodwill | 137,683 | 137,683 | |||||
Other intangible assets | 26,891 | 27,915 | |||||
Other assets | 843,525 | 773,651 | |||||
Assets of discontinued operations | 23,852 | 24,324 | |||||
Separate account assets | 28,611,411 | 27,718,844 | |||||
Total assets | $ | 59,632,160 | $ | 58,348,219 |
See notes to condensed consolidated financial statements. | (Continued) |
3
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Condensed Consolidated Balance Sheets
March 31, 2015 and December 31, 2014
(In Thousands, Except Share Amounts)
(Unaudited)
March 31, 2015 | December 31, 2014 | |||||||
Liabilities and stockholder’s equity | ||||||||
Policy benefit liabilities: | ||||||||
Future policy benefits | $ | 26,141,356 | $ | 25,968,411 | ||||
Policy and contract claims | 345,853 | 339,104 | ||||||
Policyholders’ funds | 296,602 | 335,484 | ||||||
Provision for policyholders’ dividends | 57,390 | 58,577 | ||||||
Undistributed earnings on participating business | 20,990 | 20,050 | ||||||
Total policy benefit liabilities | 26,862,191 | 26,721,626 | ||||||
General liabilities: | ||||||||
Due to parent and affiliates | 566,048 | 547,266 | ||||||
Commercial paper | 89,989 | 98,589 | ||||||
Payable under securities lending agreements | 89,906 | 13,741 | ||||||
Deferred income tax liabilities, net | 385,868 | 314,616 | ||||||
Other liabilities | 755,160 | 771,700 | ||||||
Liabilities of discontinued operations | 23,852 | 24,324 | ||||||
Separate account liabilities | 28,611,411 | 27,718,844 | ||||||
Total liabilities | 57,384,425 | 56,210,706 | ||||||
Commitments and contingencies (See Note 13) | ||||||||
Stockholder’s equity: | ||||||||
Preferred stock, $1 par value, 50,000,000 shares authorized; none issued and outstanding | — | — | ||||||
Common stock, $1 par value, 50,000,000 shares authorized; 7,032,000 shares issued and outstanding | 7,032 | 7,032 | ||||||
Additional paid-in capital | 778,464 | 777,664 | ||||||
Accumulated other comprehensive income | 691,137 | 603,018 | ||||||
Retained earnings | 771,102 | 749,799 | ||||||
Total stockholder’s equity | 2,247,735 | 2,137,513 | ||||||
Total liabilities and stockholder’s equity | $ | 59,632,160 | $ | 58,348,219 |
See notes to condensed consolidated financial statements. | (Concluded) |
4
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Condensed Consolidated Statements of Income
Three Months Ended March 31, 2015 and 2014
(In Thousands)
(Unaudited)
Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
Revenues: | ||||||||
Premium income | $ | 145,703 | $ | 131,854 | ||||
Fee income | 225,277 | 166,513 | ||||||
Other revenue | 1,820 | — | ||||||
Net investment income | 358,856 | 300,023 | ||||||
Realized investment gains (losses), net: | ||||||||
Total other-than-temporary gains (losses) | (558 | ) | (688 | ) | ||||
Other-than-temporary (gains) losses transferred to other comprehensive income (loss) | 108 | — | ||||||
Other realized investment gains (losses), net | 18,650 | 27,597 | ||||||
Total realized investment gains (losses), net | 18,200 | 26,909 | ||||||
Total revenues | 749,856 | 625,299 | ||||||
Benefits and expenses: | ||||||||
Life and other policy benefits | 149,539 | 149,889 | ||||||
Increase in future policy benefits | 17,351 | 4,580 | ||||||
Interest credited or paid to contractholders | 142,891 | 132,133 | ||||||
Provision for policyholders’ share of losses on participating business | (451 | ) | (352 | ) | ||||
Dividends to policyholders | 18,341 | 20,129 | ||||||
Total benefits | 327,671 | 306,379 | ||||||
General insurance expenses | 244,484 | 164,086 | ||||||
Amortization of DAC and VOBA | 17,556 | 403 | ||||||
Interest expense | 9,637 | 9,326 | ||||||
Total benefits and expenses | 599,348 | 480,194 | ||||||
Income before income taxes | 150,508 | 145,105 | ||||||
Income tax expense | 51,896 | 50,354 | ||||||
Net income | $ | 98,612 | $ | 94,751 |
See notes to condensed consolidated financial statements.
5
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Condensed Consolidated Statements of Comprehensive Income
Three Months Ended March 31, 2015 and 2014
(In Thousands)
(Unaudited)
Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
Net income | $ | 98,612 | $ | 94,751 | ||||
Components of other comprehensive income | ||||||||
Unrealized holding gains (losses), net, arising on available-for-sale fixed maturity investments | 181,375 | 311,298 | ||||||
Unrealized holding gains (losses), net, arising on cash flow hedges | 17,155 | 884 | ||||||
Reclassification adjustment for (gains) losses, net, realized in net income | (30,437 | ) | (22,218 | ) | ||||
Net unrealized gains (losses) related to investments | 168,093 | 289,964 | ||||||
Future policy benefits, DAC and VOBA adjustments | (35,129 | ) | (57,248 | ) | ||||
Employee benefit plan adjustment | 2,603 | — | ||||||
Other comprehensive income before income taxes | 135,567 | 232,716 | ||||||
Income tax expense related to items of other comprehensive income | 47,448 | 81,450 | ||||||
Other comprehensive income(1) | 88,119 | 151,266 | ||||||
Total comprehensive income | $ | 186,731 | $ | 246,017 |
(1) Other comprehensive income includes the non-credit component of impaired gains (losses), net, on fixed maturities available-for-sale in the amounts of $(2,543) and $1,772 for the three months ended March 31, 2015 and 2014, respectively.
See notes to condensed consolidated financial statements.
6
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Condensed Consolidated Statements of Stockholder’s Equity
Three Months Ended March 31, 2015 and 2014
(In Thousands)
(Unaudited)
Three Months Ended March 31, 2015 | ||||||||||||||||||||
Common stock | Additional paid-in capital | Accumulated other comprehensive income | Retained earnings | Total | ||||||||||||||||
Balances, January 1, 2015 | $ | 7,032 | $ | 777,664 | $ | 603,018 | $ | 749,799 | $ | 2,137,513 | ||||||||||
Net income | 98,612 | 98,612 | ||||||||||||||||||
Other comprehensive income, net of income taxes | 88,119 | 88,119 | ||||||||||||||||||
Dividends | (77,309 | ) | (77,309 | ) | ||||||||||||||||
Capital contribution - stock-based compensation | 525 | 525 | ||||||||||||||||||
Income tax benefit on stock-based compensation | 275 | 275 | ||||||||||||||||||
Balances, March 31, 2015 | $ | 7,032 | $ | 778,464 | $ | 691,137 | $ | 771,102 | $ | 2,247,735 |
Three Months Ended March 31, 2014 | ||||||||||||||||||||
Common stock | Additional paid-in capital | Accumulated other comprehensive income | Retained earnings | Total | ||||||||||||||||
Balances, January 1, 2014 | $ | 7,032 | $ | 774,115 | $ | 345,754 | $ | 748,831 | $ | 1,875,732 | ||||||||||
Net income | 94,751 | 94,751 | ||||||||||||||||||
Other comprehensive income, net of income taxes | 151,266 | 151,266 | ||||||||||||||||||
Dividends | (92,801 | ) | (92,801 | ) | ||||||||||||||||
Capital contribution - stock-based compensation | 650 | 650 | ||||||||||||||||||
Income tax benefit on stock-based compensation | 27 | 27 | ||||||||||||||||||
Balances, March 31, 2014 | $ | 7,032 | $ | 774,792 | $ | 497,020 | $ | 750,781 | $ | 2,029,625 |
See notes to condensed consolidated financial statements.
7
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Condensed Consolidated Statements of Cash Flows
Three Months Ended March 31, 2015 and 2014
(In Thousands)
(Unaudited)
Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
Net cash provided by operating activities | $ | 298,843 | $ | 112,280 | ||||
Cash flows from investing activities: | ||||||||
Proceeds from sales, maturities and redemptions of investments: | ||||||||
Fixed maturities, available-for-sale | 3,024,890 | 2,648,898 | ||||||
Mortgage loans on real estate | 54,923 | 40,355 | ||||||
Limited partnership interests, other corporation interests and other investments | 1,174 | 4,574 | ||||||
Purchases of investments: | ||||||||
Fixed maturities, available-for-sale | (1,009,516 | ) | (409,356 | ) | ||||
Mortgage loans on real estate | (131,172 | ) | (89,239 | ) | ||||
Limited partnership interests, other corporation interests and other investments | (123 | ) | (606 | ) | ||||
Net change in short-term investments | (2,170,798 | ) | (2,367,889 | ) | ||||
Net change in policy loans | (141 | ) | (18 | ) | ||||
Purchases of furniture, equipment and software | (23,451 | ) | (5,365 | ) | ||||
Net cash used in investing activities | (254,214 | ) | (178,646 | ) | ||||
Cash flows from financing activities: | ||||||||
Contract deposits | 428,073 | 576,724 | ||||||
Contract withdrawals | (401,887 | ) | (436,178 | ) | ||||
Net change in due to/from parent and affiliates | 16,067 | 43,388 | ||||||
Dividends paid | (77,309 | ) | (92,801 | ) | ||||
Payments for and interest (paid) received on financing element derivatives, net | (4,169 | ) | (4,029 | ) | ||||
Net change in commercial paper borrowings | (8,600 | ) | (299 | ) | ||||
Net change in book overdrafts | (1,722 | ) | (13,020 | ) | ||||
Income tax benefit of stock option exercises | 275 | 27 | ||||||
Net cash (used in) provided by financing activities | (49,272 | ) | 73,812 | |||||
Net (decrease) increase in cash | (4,643 | ) | 7,446 | |||||
Cash, beginning of year | 12,775 | 7,491 | ||||||
Cash, end of period | $ | 8,132 | $ | 14,937 |
See notes to condensed consolidated financial statements. | (Continued) |
8
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Condensed Consolidated Statements of Cash Flows
Three Months Ended March 31, 2015 and 2014
(In Thousands)
(Unaudited)
Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
Supplemental disclosures of cash flow information: | ||||||||
Net cash (paid) received during the year for: | ||||||||
Income taxes | $ | (11,488 | ) | $ | 30,969 | |||
Interest | (56 | ) | (68 | ) | ||||
Non-cash investing and financing transactions during the years: | ||||||||
Share-based compensation expense | $ | 525 | $ | 650 |
See notes to condensed consolidated financial statements. | (Concluded) |
9
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
1. Organization and Basis of Presentation
Organization
Great-West Life & Annuity Insurance Company (“GWLA”) and its subsidiaries (collectively, the “Company”) is a direct wholly-owned subsidiary of GWL&A Financial Inc. (“GWL&A Financial”), a holding company. GWL&A Financial is a direct wholly-owned subsidiary of Great-West Lifeco U.S. Inc. (“Lifeco U.S.”) and an indirect wholly-owned subsidiary of Great-West Lifeco Inc. (“Lifeco”), a Canadian holding company. The Company offers a wide range of life insurance, retirement and investment products to individuals, businesses and other private and public organizations throughout the United States. The Company is an insurance company domiciled in the State of Colorado and is subject to regulation by the Colorado Division of Insurance.
Basis of Presentation
The condensed consolidated financial statements include the accounts of the Company and the accounts of its subsidiaries over which it exercises control and are prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). Intercompany transactions and balances have been eliminated in consolidation.
The condensed consolidated balance sheet as of December 31, 2014, which was derived from the Company’s audited financial statements, and the unaudited interim condensed consolidated financial statements as of and for the three months ended March 31, 2015, have been prepared in accordance with the instructions for Form 10-Q. In compliance with those instructions, certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with U.S. GAAP have been condensed or omitted. As such, these condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.
In the opinion of management, these statements include all normal recurring adjustments necessary to fairly present the Company’s condensed consolidated results of operations, financial position and cash flows as of March 31, 2015, and for all periods presented. The condensed consolidated results of operations and condensed consolidated statement of cash flows for the three months ended March 31, 2015 are not necessarily indicative of the results or cash flows expected for the full year.
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
10
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
2. Acquisition
Putnam Retirement Business
Description of transaction
On January 1, 2015, the Company acquired the retirement business of Putnam, an affiliated entity. The transaction was accounted for as a combination between entities under common control. As such, the assets and liabilities acquired from Putnam were recorded at historical cost as of January 1, 2015. In exchange for cash paid in the amount of $4,114, the Company acquired $11,501 of other assets, assumed $7,895 of other liabilities and recognized a dividend of $508. The 2015 amounts presented are aligned with the new business structure which includes the Putnam retirement business, while the 2014 comparative amounts reflect the previous structure which excludes the Putnam retirement business.
J.P. Morgan Retirement Plan Services
Description of transaction
On August 29, 2014, the Company completed the acquisition of all of the voting equity interests in the J.P. Morgan Retirement Plan Services (“RPS”) large-market record-keeping business. This acquisition transformed the Company, together with Putnam Investments, LLC (“Putnam”), an affiliate of the Company, into the second largest provider based on number of participants in the U.S. defined contribution market. The Company presented the allocation of the purchase price to the amounts of assets acquired, goodwill and liabilities assumed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.
Revenues and earnings of the acquiree
For the three months ended March 31, 2015, RPS contributed $48,628 in revenue and $1,000 in net income. These amounts are included in the condensed consolidated statements of income for the three months ended March 31, 2015.
Pro-forma information
Supplementary pro-forma revenue and net earnings for the combined entity, as though the acquisition date for this business combination had occurred on January 1, 2014, has not been included as historical records are not available.
3. Application of Recent Accounting Pronouncements
Recently adopted accounting pronouncements
In June 2014, the FASB issued ASU No. 2014-11 Transfers and Servicing (Topic 860): Repurchase-to-Maturity Transactions, Repurchase Financings, and Disclosures (“ASU No. 2014-11”). ASU No. 2014-11 amends the accounting for entities that enter into repurchase-to-maturity transactions and repurchase agreements executed as repurchase financings. ASU No. 2014-11 requires new footnote disclosures for repurchase agreements and securities lending transactions accounted for as secured borrowings. The accounting changes in ASU 2014-11 are effective for public business entities for the first interim or annual period beginning after December 15, 2014. The disclosure for repurchase agreements, securities lending transactions, and repurchase-to-maturity transactions accounted for as secured borrowings is required to be presented for annual periods beginning after December 15, 2014, and for interim periods beginning after March 15, 2015. The adoption of the accounting changes did not have an impact on the Company’s financial position or results of operations. The Company is currently evaluating the impact of the disclosure changes on its financial statements.
11
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
Future adoption of new accounting pronouncements
In May 2014, the FASB issued ASU No. 2014-09 Revenue from Contracts with Customers (Topic 606) (“ASU No. 2014-09”). The update outlines a comprehensive model for accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. While the update does not apply to insurance contracts within the scope of Topic 944, it does apply to other fee income earned by the Company which includes fees from assets under management, assets under administration, shareholder servicing, administration and record-keeping services and investment advisory services. The core principle of the model requires that an entity should recognize revenue for the transfer of goods or services equal to the amount that it expects to be entitled to receive for those goods or services. The update also requires increased disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts. In adopting ASU No. 2014-09, the Company may use either a full retrospective or a modified retrospective approach. The update is effective for public business entities for interim and annual periods beginning after December 15, 2016. Early adoption is not permitted. The Company is currently evaluating the impact of this update on its financial statements.
In August 2014, the FASB issued ASU 2014-15, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern (Subtopic 205-40). The update will require management to evaluate whether there is substantial doubt about the Company’s ability to continue as a going concern. If there is substantial doubt about the Company’s ability to continue as a going concern, the Company will be required to disclose that fact, along with managements’ evaluation of the effectiveness of its plan to alleviate that doubt. The update defines substantial doubt as when it is probable that the Company will be unable to meet its obligations as they become due within one year of the date the financial statements are issued. The assessment and disclosure requirements, if applicable, will be required quarterly. The update is effective for the annual period ending after December 15, 2016, and for interim and annual periods thereafter. The Company does not expect this update to have an impact on the Company’s financial statements.
In February 2015, the FASB issued ASU 2015-02, Amendments to the Consolidation Analysis (Topic 810). The update primarily amends the criteria used to evaluate whether certain variable interest entities should be consolidated. The update also modifies the criteria used to determine whether partnerships and similar entities are variable interest entities. The update is effective for interim and annual periods beginning after December 15, 2016 with early adoption permitted, including in the interim periods. The Company is currently evaluating the impact of this update on its financial statements.
In April, 2015, the FASB issued ASU 2015-05, Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement (Subtopic 350-40). The update requires the Company to determine if the cloud computing arrangement contains a software license and if so, apply the accounting requirements for other intangible assets. The update also supersedes the requirement to apply lease accounting requirements by analogy for lease classification. If the arrangement is not a software license, then the Company applies accounting requirements for a service requirement. The update is effective for interim and annual periods beginning after December 15, 2015 with early adoption permitted. The Company is currently evaluating the impact of this update on its financial statements.
In May, 2015, the FASB issued ASU 2015-07, Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent) (Topic 820). The update removes the requirement to categorize within the fair value hierarchy all investments measured using the net asset value per share practical expedient and related disclosures. The update is effective for interim and annual periods beginning after December 15, 2015. The Company is currently evaluating the impact of this update on its financial statements.
4. Dividends
The maximum amount of dividends, which can be paid to stockholders by insurance companies domiciled in the State of Colorado, is subject to restrictions relating to statutory surplus and statutory net gain from operations. Prior to the payment of any dividends, the Company seeks approval from the Colorado Insurance Commissioner. During the three months ended March 31, 2015, and 2014, the Company paid dividends of $77,309 and $92,801, respectively, to its parent, GWL&A Financial.
12
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
5. Summary of Investments
The following tables summarize fixed maturity investments classified as available-for-sale and the non-credit-related component of other-than-temporary impairments (“OTTI”) in accumulated other comprehensive income (loss) (“AOCI”):
March 31, 2015 | ||||||||||||||||||||
Amortized | Gross unrealized | Gross unrealized | Estimated fair value | OTTI (gain) loss | ||||||||||||||||
Fixed maturities: | cost | gains | losses | and carrying value | included in AOCI (1) | |||||||||||||||
U.S. government direct obligations and U.S. agencies | $ | 1,081,949 | $ | 74,740 | $ | 390 | $ | 1,156,299 | $ | — | ||||||||||
Obligations of U.S. states and their subdivisions | 2,051,020 | 311,136 | 1,463 | 2,360,693 | — | |||||||||||||||
Foreign government securities | 2,414 | — | — | 2,414 | — | |||||||||||||||
Corporate debt securities (2) | 11,536,443 | 873,106 | 79,718 | 12,329,831 | (2,329 | ) | ||||||||||||||
Asset-backed securities | 1,284,772 | 151,734 | 11,461 | 1,425,045 | (92,246 | ) | ||||||||||||||
Residential mortgage-backed securities | 157,318 | 6,637 | 1,509 | 162,446 | (177 | ) | ||||||||||||||
Commercial mortgage-backed securities | 878,942 | 42,969 | 839 | 921,072 | — | |||||||||||||||
Collateralized debt obligations | 9,850 | 17 | — | 9,867 | — | |||||||||||||||
Total fixed maturities | $ | 17,002,708 | $ | 1,460,339 | $ | 95,380 | $ | 18,367,667 | $ | (94,752 | ) |
(1) Indicates the amount of any OTTI (gain) loss included in AOCI that is included in gross unrealized gains and losses. OTTI (gain) loss included in AOCI, as presented above, includes both the initial recognition of non-credit losses and the effects of subsequent increases and decreases in estimated fair value for those fixed maturity securities with previous non-credit impairment. The non-credit loss component of OTTI (gain) loss was in an unrealized gain position due to increases in estimated fair value subsequent to initial recognition of non-credit losses on such securities.
(2) Includes perpetual debt investments with amortized cost of $157,742 and estimated fair value of $129,358.
December 31, 2014 | ||||||||||||||||||||
Amortized | Gross unrealized | Gross unrealized | Estimated fair value | OTTI (gain) loss | ||||||||||||||||
Fixed maturities: | cost | gains | losses | and carrying value | included in AOCI (1) | |||||||||||||||
U.S. government direct obligations and U.S. agencies | $ | 3,478,153 | $ | 70,597 | $ | 1,494 | $ | 3,547,256 | $ | — | ||||||||||
Obligations of U.S. states and their subdivisions | 1,885,715 | 287,668 | 899 | 2,172,484 | — | |||||||||||||||
Foreign government securities | 2,455 | — | 4 | 2,451 | — | |||||||||||||||
Corporate debt securities (2) | 11,258,517 | 763,036 | 82,104 | 11,939,449 | (2,228 | ) | ||||||||||||||
Asset-backed securities | 1,263,089 | 149,152 | 13,702 | 1,398,539 | (96,603 | ) | ||||||||||||||
Residential mortgage-backed securities | 167,793 | 7,368 | 1,932 | 173,229 | (185 | ) | ||||||||||||||
Commercial mortgage-backed securities | 886,748 | 32,556 | 1,099 | 918,205 | — | |||||||||||||||
Collateralized debt obligations | 10,674 | — | 209 | 10,465 | — | |||||||||||||||
Total fixed maturities | $ | 18,953,144 | $ | 1,310,377 | $ | 101,443 | $ | 20,162,078 | $ | (99,016 | ) |
(1) Indicates the amount of any OTTI (gain) loss included in AOCI that is included in gross unrealized gains and losses. OTTI (gain) loss included in AOCI, as presented above, includes both the initial recognition of non-credit losses and the effects of subsequent increases and decreases in estimated fair value for those fixed maturity securities with previous non-credit impairment. The non-credit loss component of OTTI (gain) loss was in an unrealized gain position due to increases in estimated fair value subsequent to initial recognition of non-credit losses on such securities.
(2) Includes perpetual debt investments with amortized cost of $157,742 and estimated fair value of $131,799.
13
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
See Note 8 for additional discussion regarding fair value measurements.
The amortized cost and estimated fair value of fixed maturity investments classified as available-for-sale, based on estimated cash flows, are shown in the table below. Actual maturities will likely differ from these projections because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
March 31, 2015 | |||||||
Amortized cost | Estimated fair value | ||||||
Maturing in one year or less | $ | 658,867 | $ | 689,902 | |||
Maturing after one year through five years | 3,603,240 | 3,922,438 | |||||
Maturing after five years through ten years | 4,427,116 | 4,729,717 | |||||
Maturing after ten years | 5,245,378 | 5,739,031 | |||||
Mortgage-backed and asset-backed securities | 3,068,107 | 3,286,579 | |||||
Total fixed maturities | $ | 17,002,708 | $ | 18,367,667 |
Mortgage-backed (commercial and residential) and asset-backed securities include those issued by the U.S. government and U.S. agencies.
The following table summarizes information regarding the sales of securities classified as available-for-sale:
Three Months Ended March 31, | |||||||
2015 | 2014 | ||||||
Proceeds from sales | $ | 2,658,671 | $ | 2,239,661 | |||
Gross realized gains from sales | 23,351 | 19,773 | |||||
Gross realized losses from sales | 20 | 1,062 |
Mortgage loans on real estate — The following table summarizes the carrying value of the mortgage loan portfolio by component:
March 31, 2015 | December 31, 2014 | ||||||
Principal | $ | 3,433,510 | $ | 3,356,374 | |||
Unamortized premium (discount) and fees, net | 9,563 | 10,086 | |||||
Mortgage provision allowance | (2,890 | ) | (2,890 | ) | |||
Total mortgage loans | $ | 3,440,183 | $ | 3,363,570 |
The recorded investment of the mortgage loan portfolio categorized as performing was $3,443,073 and $3,366,460 as of March 31, 2015 and December 31, 2014, respectively.
Three Months Ended March 31, 2015 | Year Ended December 31, 2014 | ||||||
Commercial mortgages | Commercial mortgages | ||||||
Allowance ending balance by basis of impairment method: | |||||||
Collectively evaluated for impairment | $ | 2,890 | $ | 2,890 | |||
Recorded investment balance in the mortgage loan portfolio, gross of allowance, by basis of impairment method: | $ | 3,443,073 | $ | 3,366,460 | |||
Individually evaluated for impairment | 12,878 | 12,986 | |||||
Collectively evaluated for impairment | 3,430,195 | 3,353,474 |
Limited partnership and other corporation interests — At March 31, 2015 and December 31, 2014, the Company had $47,481 and $49,421, respectively, invested in limited partnership and other corporation interests. Included in limited
14
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
partnership interests are investments in low-income housing limited partnerships (“LIHLP”) that qualify for federal and state tax credits and ownership interests in pooled investment funds.
The Company has determined each investment in LIHLP to be considered a variable interest entity (“VIE”) but consolidation was not required because the Company has no power through voting rights or similar rights to direct the activities that most significantly impact the entities’ economic performance. As a 99% limited partner in various upper-tier LIHLPs, the Company expects to receive the tax credits allocated to the partnership and operating losses from depreciation and interest expense. The general partner is most closely involved in the development and management of the LIHLP project and has a small ownership percentage of the partnership.
The carrying value and maximum exposure to loss in relation to the activities of the VIEs was $6,308 and $7,464 at March 31, 2015 and December 31, 2014, respectively.
Special deposits and securities lending — The Company had securities on deposit with government authorities as required by certain insurance laws with fair values of $14,785 and $14,612 at March 31, 2015 and December 31, 2014, respectively.
The Company participates in a securities lending program whereby securities are loaned to third parties. Securities with a cost or amortized cost of $169,739 and $15,252 and estimated fair values of $170,659 and $15,423 were on loan under the program at March 31, 2015 and December 31, 2014, respectively. The Company received cash of $89,906 and $13,741 and securities with a fair value of $85,137 and $2,131 as collateral at March 31, 2015 and December 31, 2014, respectively.
Unrealized losses on fixed maturity investments classified as available-for-sale — The following tables summarize unrealized investment losses, including the non-credit-related portion of OTTI losses reported in AOCI, by class of investment:
March 31, 2015 | ||||||||||||||||||||||||
Less than twelve months | Twelve months or longer | Total | ||||||||||||||||||||||
Estimated | Unrealized | Estimated | Unrealized | Estimated | Unrealized | |||||||||||||||||||
Fixed maturities: | fair value | loss and OTTI | fair value | loss and OTTI | fair value | loss and OTTI | ||||||||||||||||||
U.S. government direct obligations and U.S. agencies | $ | 46,293 | $ | 65 | $ | 26,592 | $ | 325 | $ | 72,885 | $ | 390 | ||||||||||||
Obligations of U.S. states and their subdivisions | 162,763 | 1,214 | 807 | 249 | 163,570 | 1,463 | ||||||||||||||||||
Corporate debt securities | 773,294 | 23,499 | 381,146 | 56,219 | 1,154,440 | 79,718 | ||||||||||||||||||
Asset-backed securities | 78,682 | 415 | 195,402 | 11,046 | 274,084 | 11,461 | ||||||||||||||||||
Residential mortgage-backed securities | 3,945 | 10 | 22,622 | 1,499 | 26,567 | 1,509 | ||||||||||||||||||
Commercial mortgage-backed securities | 60,370 | 699 | 24,939 | 140 | 85,309 | 839 | ||||||||||||||||||
Total fixed maturities | $ | 1,125,347 | $ | 25,902 | $ | 651,508 | $ | 69,478 | $ | 1,776,855 | $ | 95,380 | ||||||||||||
Total number of securities in an unrealized loss position | 122 | 89 | 211 |
15
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
December 31, 2014 | ||||||||||||||||||||||||
Less than twelve months | Twelve months or longer | Total | ||||||||||||||||||||||
Estimated | Unrealized | Estimated | Unrealized | Estimated | Unrealized | |||||||||||||||||||
Fixed maturities: | fair value | loss and OTTI | fair value | loss and OTTI | fair value | loss and OTTI | ||||||||||||||||||
U.S. government direct obligations and U.S. agencies | $ | 566,335 | $ | 503 | $ | 74,322 | $ | 991 | $ | 640,657 | $ | 1,494 | ||||||||||||
Obligations of U.S. states and their subdivisions | 18,280 | 218 | 41,064 | 681 | 59,344 | 899 | ||||||||||||||||||
Foreign government securities | 2,451 | 4 | — | — | 2,451 | 4 | ||||||||||||||||||
Corporate debt securities | 836,263 | 16,775 | 764,528 | 65,329 | 1,600,791 | 82,104 | ||||||||||||||||||
Asset-backed securities | 88,312 | 849 | 200,072 | 12,853 | 288,384 | 13,702 | ||||||||||||||||||
Residential mortgage-backed securities | 4,663 | 11 | 24,052 | 1,921 | 28,715 | 1,932 | ||||||||||||||||||
Commercial mortgage-backed securities | 35,015 | 127 | 57,333 | 972 | 92,348 | 1,099 | ||||||||||||||||||
Collateralized debt obligations | 10,465 | 209 | — | — | 10,465 | 209 | ||||||||||||||||||
Total fixed maturities | $ | 1,561,784 | $ | 18,696 | $ | 1,161,371 | $ | 82,747 | $ | 2,723,155 | $ | 101,443 | ||||||||||||
Total number of securities in an unrealized loss position | 134 | 153 | 287 |
Fixed maturity investments — Total unrealized losses and OTTI decreased by $6,063, or 6%, from December 31, 2014 to March 31, 2015. The overall decrease in unrealized losses was across most asset classes and reflects lower interest rates at March 31, 2015 compared to December 31, 2014 resulting in generally higher valuations of these fixed maturity securities.
Total unrealized losses greater than twelve months decreased by $13,269 from December 31, 2014 to March 31, 2015. Corporate debt securities account for 81%, or $56,219, of the unrealized losses and OTTI greater than twelve months at March 31, 2015. Non-investment grade corporate debt securities account for $10,420 of the unrealized losses and OTTI greater than twelve months and $9,731 of the losses are on perpetual debt investments issued by investment grade rated banks in the United Kingdom. Management does not have the intent to sell these assets; therefore, an OTTI was not recognized in earnings.
Asset-backed securities account for 16% of the unrealized losses and OTTI greater than twelve months at March 31, 2015. The present value of the cash flows expected to be collected is not less than amortized cost and management does not have the intent to sell these assets; therefore, an OTTI was not recognized in earnings.
Other-than-temporary impairment recognition — The OTTI on fixed maturity securities where the loss portion is bifurcated and the credit related component is recognized in realized investment gains (losses) is summarized as follows:
Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
Beginning balance | $ | 119,532 | $ | 167,961 | ||||
Initial impairments - credit loss on securities not previously impaired | 450 | — | ||||||
Reductions due to increases in cash flows expected to be collected that are recognized over the remaining life of the security | (4,329 | ) | — | |||||
Ending balance | $ | 115,653 | $ | 167,961 |
16
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
6. Derivative Financial Instruments
Derivative transactions are generally entered into pursuant to International Swaps and Derivatives Association (“ISDA”) Master Agreements or Master Securities Forward Transaction Agreements (“MSFTA”) with approved counterparties that provide for a single net payment to be made by one party to the other on a daily basis, periodic payment dates, or at the due date, expiration or termination of the agreement.
The ISDA Master Agreements contain provisions that would allow the counterparties to require immediate settlement of all derivative instruments in a net liability position if the Company were to default on any debt obligations over a certain threshold. The MSFTA contain provisions which do not stipulate a threshold for default and only apply to debt obligations between the Company and the specific counterparty. The aggregate fair value, inclusive of accrued income and expense, of derivative instruments with credit-risk-related contingent features that were in a net liability position was $102,046 and $141,653 as of March 31, 2015 and December 31, 2014, respectively. The Company had pledged collateral related to these derivatives of $57,443 and $106,110 as of March 31, 2015 and December 31, 2014, respectively, in the normal course of business. If the credit-risk-related contingent features were triggered on March 31, 2015 the fair value of assets that could be required to settle the derivatives in a net liability position was $44,603.
At March 31, 2015 and December 31, 2014, the Company had pledged $57,443 and $106,110 of unrestricted cash collateral to counterparties in the normal course of business, while other counterparties had pledged $13,176 and $791 of unrestricted cash collateral to the Company to satisfy collateral netting agreements, respectively.
At March 31, 2015, the Company estimated $7,128 of net derivative gains related to cash flow hedges included in AOCI will be reclassified into net income within the next twelve months. Gains and losses included in AOCI are reclassified into net income when the hedged item affects earnings.
17
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
Types of derivative instruments and derivative strategies
Interest rate contracts
Cash flow hedges
Interest rate swap agreements are used to convert the interest rate on certain debt securities from a floating rate to a fixed rate. Interest rate futures are used to manage the interest rate risks of forecasted acquisitions of fixed rate maturity investments and are primarily structured to hedge interest rate risk inherent in the assumptions used to price certain liabilities.
Fair value hedges
Interest rate swap agreements are used to convert the interest rate on certain debt securities from a fixed rate to a floating rate to manage the interest rate risk of the change in the fair value of certain fixed rate maturity investments.
Not designated as hedging instruments
The Company enters into certain transactions in which derivatives are hedging an economic risk but hedge accounting is not elected. These derivative instruments include: exchange-traded interest rate swap futures, over-the-counter (“OTC”) interest rate swaptions, OTC interest rate swaps, exchange-traded Eurodollar interest rate futures and treasury interest rate futures. Certain of the Company’s OTC derivatives are cleared and settled through a central clearing counterparty while others are bilateral contracts between the Company and a counterparty.
The derivative instruments mentioned above are economic hedges and used to manage risk. These transactions are used to offset changes in liabilities including those in variable annuity products, hedge the economic effect of a large increase in interest rates, manage the potential variability in future interest payments due to a change in credited interest rates and the related change in cash flows due to increased surrenders and manage interest rate risks of forecasted acquisitions of fixed rate maturity investments and forecasted liability pricing.
Cross-currency contracts
Cross-currency swaps are used to manage the foreign currency exchange rate risk associated with investments denominated in other than U.S. dollars. The Company uses cross-currency swaps to convert interest and principal payments on foreign denominated debt instruments into U.S. dollars. Cross-currency swaps may be designated as cash flow hedges; however, hedge accounting is not always elected.
Equity contracts
Futures on equity indices are used to reduce the Company’s exposure to equity market risks; however, hedge accounting is not elected. The Company is hedging the risk of declining equity market values having an adverse effect on fee income collected on equity funds. The Company also uses futures on equity indices to offset changes in guaranteed lifetime withdrawal benefit liabilities.
Other forward contracts
The Company uses forward settling TBA securities to gain exposure to the investment risk and return of agency mortgage-backed securities (pass-throughs). These transactions enhance the return on the Company’s investment portfolio and provide a more liquid and cost effective method of achieving these goals than purchasing or selling individual agency mortgage-backed pools. As the Company does not regularly accept delivery of such securities, they are accounted for as derivatives but hedge accounting is not elected.
18
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
The following tables summarize the notional amount and fair value of derivative financial instruments, excluding embedded derivatives:
March 31, 2015 | |||||||||||||||
Net derivatives | Asset derivatives | Liability derivatives | |||||||||||||
Notional amount | Fair value | Fair value (1) | Fair value (1) | ||||||||||||
Hedge designation/derivative type: | |||||||||||||||
Derivatives designated as hedges: | |||||||||||||||
Cash flow hedges: | |||||||||||||||
Interest rate swaps | $ | 184,200 | $ | 19,593 | $ | 19,593 | $ | — | |||||||
Cross-currency swaps | 186,225 | 15,878 | 15,946 | 68 | |||||||||||
Total cash flow hedges | 370,425 | 35,471 | 35,539 | 68 | |||||||||||
Fair value hedges: | |||||||||||||||
Interest rate swaps | 42,550 | 69 | 260 | 191 | |||||||||||
Total fair value hedges | 42,550 | 69 | 260 | 191 | |||||||||||
Total derivatives designated as hedges | 412,975 | 35,540 | 35,799 | 259 | |||||||||||
Derivatives not designated as hedges: | |||||||||||||||
Interest rate swaps | 195,600 | 7,206 | 10,527 | 3,321 | |||||||||||
Futures on equity indices | 5,932 | — | — | — | |||||||||||
Interest rate futures | 10,883 | — | — | — | |||||||||||
Interest rate swaptions | 243,344 | 244 | 244 | — | |||||||||||
Other forward contracts | 5,930,500 | 16,825 | 20,925 | 4,100 | |||||||||||
Cross-currency swaps | 662,935 | (80,823 | ) | 14,197 | 95,020 | ||||||||||
Total derivatives not designated as hedges | 7,049,194 | (56,548 | ) | 45,893 | 102,441 | ||||||||||
Total derivative financial instruments | $ | 7,462,169 | $ | (21,008 | ) | $ | 81,692 | $ | 102,700 |
(1) The estimated fair value excludes accrued income and expense. The estimated fair value of all derivatives in an asset position is reported within other assets and the estimated fair value of all derivatives in a liability position is reported within other liabilities in the condensed consolidated balance sheets.
19
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
December 31, 2014 | |||||||||||||||
Net derivatives | Asset derivatives | Liability derivatives | |||||||||||||
Notional amount | Fair value | Fair value (1) | Fair value (1) | ||||||||||||
Hedge designation/derivative type: | |||||||||||||||
Derivatives designated as hedges: | |||||||||||||||
Cash flow hedges: | |||||||||||||||
Interest rate swaps | $ | 184,200 | $ | 17,746 | $ | 17,746 | $ | — | |||||||
Cross-currency swaps | 174,245 | 2,322 | 5,143 | 2,821 | |||||||||||
Total cash flow hedges | 358,445 | 20,068 | 22,889 | 2,821 | |||||||||||
Fair value hedges: | |||||||||||||||
Interest rate swaps | 78,000 | 1,506 | 1,637 | 131 | |||||||||||
Total fair value hedges | 78,000 | 1,506 | 1,637 | 131 | |||||||||||
Total derivatives designated as hedges | 436,445 | 21,574 | 24,526 | 2,952 | |||||||||||
Derivatives not designated as hedges: | |||||||||||||||
Interest rate swaps | 128,100 | 4,402 | 6,246 | 1,844 | |||||||||||
Futures on equity indices | 5,505 | — | — | — | |||||||||||
Interest rate futures | 17,958 | — | — | — | |||||||||||
Interest rate swaptions | 293,964 | 271 | 271 | — | |||||||||||
Cross-currency swaps | 662,935 | (127,230 | ) | 4,561 | 131,791 | ||||||||||
Total derivatives not designated as hedges | 1,108,462 | (122,557 | ) | 11,078 | 133,635 | ||||||||||
Total derivative financial instruments | $ | 1,544,907 | $ | (100,983 | ) | $ | 35,604 | $ | 136,587 |
(1) The estimated fair value excludes accrued income and expense. The estimated fair value of all derivatives in an asset position is reported within other assets and the estimated fair value of all derivatives in a liability position is reported within other liabilities in the condensed consolidated balance sheets.
Notional amounts are used to express the extent of the Company’s involvement in derivative transactions and represent a standard measurement of the volume of its derivative activity. Notional amounts represent those amounts used to calculate contractual flows to be exchanged and are not paid or received. The average notional outstanding during the three months ended March 31, 2015 was $416,588, $846,165, $20,570, $278,999, and $4,551,500 for interest rate swaps, cross-currency swaps, futures, swaptions and other forward contracts, respectively. The average notional outstanding during the year ended December 31, 2014 was $340,262, $732,581, $21,702, $407,552, and $4,217,408 for interest rate swaps, cross-currency swaps, futures, swaptions and other forward contracts, respectively.
20
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
The following tables present the effect of derivative instruments in the condensed consolidated statements of income reported by cash flow hedges, fair value hedges and economic hedges, excluding embedded derivatives:
Gain (loss) recognized in OCI on derivatives (Effective portion) | Gain (loss) reclassified from OCI into net income (Effective portion) | |||||||||||||||
Three Months Ended March 31, | Three Months Ended March 31, | |||||||||||||||
2015 | 2014 | 2015 | 2014 | |||||||||||||
Cash flow hedges: | ||||||||||||||||
Interest rate swaps | $ | 3,141 | $ | 1,244 | $ | 1,856 | $ | 563 | (A) | |||||||
Cross-currency swaps | 14,014 | (360 | ) | 423 | — | (A) | ||||||||||
Interest rate futures | — | — | (21 | ) | 17 | (A) | ||||||||||
Total cash flow hedges | $ | 17,155 | $ | 884 | $ | 2,258 | $ | 580 |
(A) Net investment income.
Gain (loss) on derivatives recognized in net income | Gain (loss) on hedged assets recognized in net income | |||||||||||||||
Three Months Ended March 31, | Three Months Ended March 31, | |||||||||||||||
2015 | 2014 | 2015 | 2014 | |||||||||||||
Fair value hedges: | ||||||||||||||||
Interest rate swaps | $ | (1,438 | ) | $ | (1,067 | ) | (A) | $ | — | $ | — | |||||
Interest rate swaps | 630 | — | (B) | — | — | |||||||||||
Items hedged in interest rate swaps | — | — | 1,443 | 1,067 | (A) | |||||||||||
Items hedged in interest rate swaps | — | — | (630 | ) | — | (B) | ||||||||||
Total fair value hedges | $ | (808 | ) | $ | (1,067 | ) | $ | 813 | $ | 1,067 |
(A) Net investment income.
(B) Represents realized gains (losses) on closed positions recorded in realized investment gains (losses), net.
21
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
Gain (loss) on derivatives recognized in net income | ||||||||
Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
Derivatives not designated as hedging instruments: | ||||||||
Futures on equity indices | $ | 147 | (A) | $ | 77 | (A) | ||
Futures on equity indices | (723 | ) | (B) | (163 | ) | (B) | ||
Interest rate swaps | 2,822 | (A) | 1,109 | (A) | ||||
Interest rate futures | (151 | ) | (A) | (3 | ) | (A) | ||
Interest rate futures | 135 | (B) | (24 | ) | (B) | |||
Interest rate swaptions | 910 | (A) | 202 | (A) | ||||
Interest rate swaptions | (987 | ) | (B) | (833 | ) | (B) | ||
Other forward contracts | 16,825 | (A) | (6,343 | ) | (A) | |||
Other forward contracts | (9,340 | ) | (B) | 7,581 | (B) | |||
Cross-currency swaps | 45,046 | (A) | (1,632 | ) | (A) | |||
Total derivatives not designated as hedging instruments | $ | 54,684 | $ | (29 | ) |
(A) Net investment income.
(B) Represents realized gains (losses) on closed positions recorded in realized investment gains (losses), net.
Embedded derivative - Guaranteed Lifetime Withdrawal Benefit
The Company offers a guaranteed lifetime withdrawal benefit (“GLWB”) through a variable annuity or a contingent deferred annuity. The GLWB is deemed to be an embedded derivative. The GLWB is recorded at fair value within policyholders’ funds on the condensed consolidated balance sheets. Changes in fair value of GLWB are recorded in net investment income in the condensed consolidated statements of income.
The estimated fair value of the GLWB was $9,177 and $6,407 at March 31, 2015 and December 31, 2014, respectively. The changes in fair value of the GLWB were $2,770 and zero for the three months ended March 31, 2015 and 2014, respectively.
22
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
7. Summary of Offsetting Assets and Liabilities
The Company enters into derivative transactions and short-term reverse repurchase agreements with several approved counterparties. The Company’s derivative transactions are generally governed by MSFTA or ISDA Master Agreements which provide for legally enforceable set-off and close-out netting in the event of default or bankruptcy of the Company’s counterparties. The Company’s MSFTA and ISDA Master Agreements generally include provisions which require both the pledging and accepting of collateral in connection with its derivative transactions. These provisions have the effect of securing each party’s position to the extent of collateral held. Short-term reverse repurchase agreements also include collateral provisions with the counterparty. The following tables summarize the effect of master netting arrangements on the Company’s financial position in the normal course of business and in the event of default or bankruptcy of the Company’s counterparties:
March 31, 2015 | ||||||||||||||||
Gross fair value not offset | ||||||||||||||||
in balance sheets | ||||||||||||||||
Gross fair value of | Financial | Cash collateral | Net | |||||||||||||
Financial instruments (assets): | recognized assets (1) | instruments | received | fair value | ||||||||||||
Derivative instruments (2) | $ | 68,382 | $ | (45,795 | ) | $ | 13,176 | $ | 9,411 | |||||||
Short-term reverse repurchase agreements (3) | 600,000 | (600,000 | ) | — | — | |||||||||||
Total financial instruments (assets) | $ | 668,382 | $ | (645,795 | ) | $ | 13,176 | $ | 9,411 |
March 31, 2015 | ||||||||||||||||
Gross fair value not offset | ||||||||||||||||
in balance sheets | ||||||||||||||||
Gross fair value of | Financial | Cash collateral | Net | |||||||||||||
Financial instruments (liabilities): | recognized liabilities (1) | instruments | pledged | fair value | ||||||||||||
Derivative instruments (4) | $ | 101,899 | $ | (45,795 | ) | $ | (56,099 | ) | $ | 5 |
(1) The gross fair value of derivative instrument and short-term reverse repurchase agreement assets are not netted against offsetting liabilities for presentation on the condensed consolidated balance sheets.
(2) The estimated fair value of derivative instrument assets is reported in other assets in the condensed consolidated balance sheets. The estimated fair value of derivative transactions entered into under ISDA master agreements include income and expense accruals.
(3) The estimated fair value of short-term reverse repurchase agreement assets is reported in short-term investments in the condensed consolidated balance sheets. The collateral is held by an independent third-party custodian under a tri-party agreement.
(4) The estimated fair value of derivative instrument liabilities is reported in other liabilities in the condensed consolidated balance sheets. Derivative transactions entered into under ISDA master agreements include income and expense accruals.
December 31, 2014 | ||||||||||||||||
Gross fair value not offset | ||||||||||||||||
in balance sheets | ||||||||||||||||
Gross fair value of | Financial | Cash collateral | Net | |||||||||||||
Financial instruments: | recognized assets/liabilities (1) | instruments | received/(pledged) | fair value | ||||||||||||
Derivative instruments (assets) (2) | $ | 32,895 | $ | (32,595 | ) | $ | 279 | $ | 21 | |||||||
Derivative instruments (liabilities) (3) | 140,655 | (32,595 | ) | (105,929 | ) | 2,131 |
(1) The gross fair value of derivative instrument assets is not netted against offsetting liabilities for presentation on the condensed consolidated balance sheets.
(2) The estimated fair value of derivative instrument assets is reported in other assets in the condensed consolidated balance sheets. The estimated fair value of derivative transactions entered into under ISDA master agreements include income and expense accruals.
(3) The estimated fair value of derivative instrument liabilities is reported in other liabilities in the condensed consolidated balance sheets. Derivative transactions entered into under ISDA master agreements include income and expense accruals.
23
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
8. Fair Value Measurements
Recurring fair value measurements
The following tables present the Company’s financial assets and liabilities carried at fair value on a recurring basis by fair value hierarchy category:
Assets and liabilities measured at fair value on a recurring basis | |||||||||||||||
March 31, 2015 | |||||||||||||||
Quoted prices | Significant | ||||||||||||||
in active markets for identical assets (Level 1) | other observable inputs (Level 2) | Significant unobservable inputs (Level 3) | Total | ||||||||||||
Assets | |||||||||||||||
Fixed maturities available-for-sale: | |||||||||||||||
U.S. government direct obligations and U.S. agencies | $ | — | $ | 1,156,299 | $ | — | $ | 1,156,299 | |||||||
Obligations of U.S. states and their subdivisions | — | 2,360,693 | — | 2,360,693 | |||||||||||
Foreign government securities | — | 2,414 | — | 2,414 | |||||||||||
Corporate debt securities | — | 12,324,502 | 5,329 | 12,329,831 | |||||||||||
Asset-backed securities | — | 1,425,012 | 33 | 1,425,045 | |||||||||||
Residential mortgage-backed securities | — | 162,446 | — | 162,446 | |||||||||||
Commercial mortgage-backed securities | — | 921,072 | — | 921,072 | |||||||||||
Collateralized debt obligations | — | 9,867 | — | 9,867 | |||||||||||
Total fixed maturities available-for-sale | — | 18,362,305 | 5,362 | 18,367,667 | |||||||||||
Fixed maturities held-for-trading: | |||||||||||||||
U.S. government direct obligations and U.S. agencies | — | 70,516 | — | 70,516 | |||||||||||
Corporate debt securities | — | 58,120 | — | 58,120 | |||||||||||
Commercial mortgage-backed securities | — | 1,116 | — | 1,116 | |||||||||||
Total fixed maturities held-for-trading | — | 129,752 | — | 129,752 | |||||||||||
Short-term investments | 273,572 | 2,161,054 | — | 2,434,626 | |||||||||||
Collateral under securities lending agreements | 89,906 | — | — | 89,906 | |||||||||||
Collateral under derivative counterparty collateral agreements | 70,619 | — | — | 70,619 | |||||||||||
Derivative instruments designated as hedges: | |||||||||||||||
Interest rate swaps | — | 19,853 | — | 19,853 | |||||||||||
Cross-currency swaps | — | 15,946 | — | 15,946 | |||||||||||
Derivative instruments not designated as hedges: | |||||||||||||||
Interest rate swaps | — | 10,527 | — | 10,527 | |||||||||||
Interest rate swaptions | — | 244 | — | 244 | |||||||||||
Other forward contracts | — | 20,925 | — | 20,925 | |||||||||||
Cross-currency swaps | — | 14,197 | — | 14,197 | |||||||||||
Total derivative instruments | — | 81,692 | — | 81,692 | |||||||||||
Separate account assets | 16,470,665 | 12,140,746 | — | 28,611,411 | |||||||||||
Total assets | $ | 16,904,762 | $ | 32,875,549 | $ | 5,362 | $ | 49,785,673 | |||||||
Liabilities | |||||||||||||||
Payable under securities lending agreements | $ | 89,906 | $ | — | $ | — | $ | 89,906 | |||||||
Collateral under derivative counterparty collateral agreements | 13,176 | — | — | 13,176 | |||||||||||
Derivative instruments designated as hedges: | |||||||||||||||
Interest rate swaps | — | 191 | — | 191 | |||||||||||
Cross-currency swaps | — | 68 | — | 68 | |||||||||||
Derivative instruments not designated as hedges: | |||||||||||||||
Interest rate swaps | — | 3,321 | — | 3,321 | |||||||||||
Other forward contracts | — | 4,100 | — | 4,100 | |||||||||||
Cross-currency swaps | — | 95,020 | — | 95,020 | |||||||||||
Total derivative instruments | — | 102,700 | — | 102,700 | |||||||||||
Embedded derivatives - GLWB | — | — | 9,177 | 9,177 | |||||||||||
Separate account liabilities (1) | 36 | 225,016 | — | 225,052 | |||||||||||
Total liabilities | $ | 103,118 | $ | 327,716 | $ | 9,177 | $ | 440,011 |
(1) Includes only separate account instruments which are carried at the fair value of the underlying liabilities owned by the separate accounts.
24
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
Assets and liabilities measured at fair value on a recurring basis | |||||||||||||||
December 31, 2014 | |||||||||||||||
Quoted prices | Significant | ||||||||||||||
in active markets for identical assets (Level 1) | other observable inputs (Level 2) | Significant unobservable inputs (Level 3) | Total | ||||||||||||
Assets | |||||||||||||||
Fixed maturities available-for-sale: | |||||||||||||||
U.S. government direct obligations and U.S. agencies | $ | — | $ | 3,547,256 | $ | — | $ | 3,547,256 | |||||||
Obligations of U.S. states and their subdivisions | — | 2,172,484 | — | 2,172,484 | |||||||||||
Foreign government securities | — | 2,451 | — | 2,451 | |||||||||||
Corporate debt securities | — | 11,933,607 | 5,842 | 11,939,449 | |||||||||||
Asset-backed securities | — | 1,398,503 | 36 | 1,398,539 | |||||||||||
Residential mortgage-backed securities | — | 173,229 | — | 173,229 | |||||||||||
Commercial mortgage-backed securities | — | 918,205 | — | 918,205 | |||||||||||
Collateralized debt obligations | — | 10,465 | — | 10,465 | |||||||||||
Total fixed maturities available-for-sale | — | 20,156,200 | 5,878 | 20,162,078 | |||||||||||
Fixed maturities held-for-trading: | |||||||||||||||
U.S. government direct obligations and U.S. agencies | — | 279,602 | — | 279,602 | |||||||||||
Corporate debt securities | — | 57,850 | — | 57,850 | |||||||||||
Commercial mortgage-backed securities | — | 1,091 | — | 1,091 | |||||||||||
Total fixed maturities held-for-trading | — | 338,543 | — | 338,543 | |||||||||||
Short-term investments | 156,935 | 106,566 | — | 263,501 | |||||||||||
Collateral under securities lending agreements | 13,741 | — | — | 13,741 | |||||||||||
Collateral under derivative counterparty collateral agreements | 106,901 | — | — | 106,901 | |||||||||||
Derivative instruments designated as hedges: | |||||||||||||||
Interest rate swaps | — | 19,383 | — | 19,383 | |||||||||||
Cross-currency swaps | — | 5,143 | — | 5,143 | |||||||||||
Derivative instruments not designated as hedges: | |||||||||||||||
Interest rate swaps | — | 6,246 | — | 6,246 | |||||||||||
Interest rate swaptions | — | 271 | — | 271 | |||||||||||
Cross-currency swaps | — | 4,561 | — | 4,561 | |||||||||||
Total derivative instruments | — | 35,604 | — | 35,604 | |||||||||||
Separate account assets | 16,146,057 | 11,572,787 | — | 27,718,844 | |||||||||||
Total assets | $ | 16,423,634 | $ | 32,209,700 | $ | 5,878 | $ | 48,639,212 | |||||||
Liabilities | |||||||||||||||
Payable under securities lending agreements | $ | 13,741 | $ | — | $ | — | $ | 13,741 | |||||||
Collateral under derivative counterparty collateral agreements | 791 | — | — | 791 | |||||||||||
Derivative instruments designated as hedges: | |||||||||||||||
Interest rate swaps | — | 131 | — | 131 | |||||||||||
Cross-currency swaps | — | 2,821 | — | 2,821 | |||||||||||
Derivative instruments not designated as hedges: | |||||||||||||||
Interest rate swaps | — | 1,844 | — | 1,844 | |||||||||||
Cross-currency swaps | — | 131,791 | — | 131,791 | |||||||||||
Total derivative instruments | — | 136,587 | — | 136,587 | |||||||||||
Embedded derivatives - GLWB | — | — | 6,407 | 6,407 | |||||||||||
Separate account liabilities (1) | 15 | 217,712 | — | 217,727 | |||||||||||
Total liabilities | $ | 14,547 | $ | 354,299 | $ | 6,407 | $ | 375,253 |
(1) Includes only separate account instruments which are carried at the fair value of the underlying liabilities owned by the separate accounts.
25
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
The methods and assumptions used to estimate the fair value of the Company’s financial assets and liabilities carried at fair value on a recurring basis are as follows:
Fixed maturity investments
The fair values for fixed maturity investments are based upon market prices from independent pricing services. In cases where market prices are not readily available, fair values are estimated by the Company. To determine estimated fair value for these instruments, the Company generally utilizes discounted cash flows models with market observable pricing inputs such as spreads, average life and credit quality. Fair value estimates are made at a specific point in time, based on available market information and judgments about financial instruments, including estimates of the timing and amounts of expected future cash flows and the credit standing of the issuer or counterparty.
Short-term investments and securities lending agreements
The amortized cost of short-term investments, collateral under securities lending agreements and payable under securities lending agreements is a reasonable estimate of fair value due to their short-term nature and high credit quality of the issuers.
Derivative counterparty collateral agreements
Included in other assets is cash collateral received from or pledged to derivative counterparties and included in other liabilities is the obligation to return the cash collateral to the counterparties. The carrying value of the collateral is a reasonable estimate of fair value.
Derivative instruments
Included in other assets and other liabilities are derivative financial instruments. The estimated fair values of OTC derivatives, primarily consisting of cross-currency swaps, interest rate swaps, interest rate swaptions and other forward contracts, are the estimated amounts the Company would receive or pay to terminate the agreements at the end of each reporting period, taking into consideration current interest rates and other relevant factors.
Embedded derivative - GLWB
Significant unobservable inputs used in the fair value measurements of GLWB include long-term equity and interest rate implied volatility, mortality and policyholder behavior assumptions, such as benefit utilization, lapses and partial withdrawals.
Separate account assets and liabilities
Separate account assets and liabilities primarily include investments in mutual fund, fixed maturity and short-term securities. Mutual funds are recorded at net asset value, which approximates fair value, on a daily basis. The fixed maturity and short-term investments are valued in the same manner, and using the same pricing sources and inputs as the fixed maturity and short-term investments of the Company.
26
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
The following tables present additional information about assets and liabilities measured at fair value on a recurring basis and for which the Company has utilized Level 3 inputs to determine fair value:
Recurring Level 3 financial assets and liabilities | |||||||||||||||||||
Three Months Ended March 31, 2015 | |||||||||||||||||||
Assets | Liabilities | ||||||||||||||||||
Fixed maturities available-for-sale | Embedded | ||||||||||||||||||
Corporate | Asset-backed | Collateralized | derivatives | ||||||||||||||||
debt securities | securities | debt obligations | Total | - GLWB | |||||||||||||||
Balance, January 1, 2015 | $ | 5,842 | $ | 36 | $ | — | $ | 5,878 | $ | 6,407 | |||||||||
Realized and unrealized gains (losses) included in: | |||||||||||||||||||
Net income (loss) | — | — | — | — | 2,770 | ||||||||||||||
Other comprehensive income (loss) | (28 | ) | — | — | (28 | ) | — | ||||||||||||
Settlements | (485 | ) | (3 | ) | — | (488 | ) | — | |||||||||||
Balances, March 31, 2015 | $ | 5,329 | $ | 33 | $ | — | $ | 5,362 | $ | 9,177 | |||||||||
Total gains (losses) for the period included in net income attributable to the change in unrealized gains and losses relating to assets held at March 31, 2015 | $ | — | $ | — | $ | — | $ | — | $ | 2,770 |
Recurring Level 3 financial assets and liabilities | |||||||||||||||||||
Three Months Ended March 31, 2014 | |||||||||||||||||||
Assets | Liabilities | ||||||||||||||||||
Fixed maturities available-for-sale | Embedded | ||||||||||||||||||
Corporate | Asset-backed | Collateralized | derivatives | ||||||||||||||||
debt securities | securities | debt obligations | Total | - GLWB | |||||||||||||||
Balance, January 1, 2014 | $ | 6,652 | $ | 252,958 | $ | 32 | $ | 259,642 | $ | — | |||||||||
Realized and unrealized gains (losses) included in: | |||||||||||||||||||
Other comprehensive income (loss) | 58 | 6,813 | (3 | ) | 6,868 | — | |||||||||||||
Settlements | (187 | ) | (13,746 | ) | — | (13,933 | ) | — | |||||||||||
Balances, March 31, 2014 | $ | 6,523 | $ | 246,025 | $ | 29 | $ | 252,577 | $ | — | |||||||||
Total gains (losses) for the period included in net income attributable to the change in unrealized gains and losses relating to assets held at March 31, 2014 | $ | — | $ | — | $ | — | $ | — | $ | — |
27
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
The following tables present significant unobservable inputs used during the valuation of certain assets categorized within Level 3 of the recurring fair value measurements table:
March 31, 2015 | ||||||||||
Fair Value | Valuation Technique | Unobservable Input | Range | |||||||
Embedded derivatives - GLWB | $ | 9,177 | Risk neutral stochastic valuation methodology | Equity volatility | 15% - 28% | |||||
Swap curve | 0.80% - 2.50% | |||||||||
Mortality rate | Based on the Annuity 2000 Mortality Table | |||||||||
Lapse rate | 1% - 12% |
December 31, 2014 | ||||||||||
Fair Value | Valuation Technique | Unobservable Input | Range | |||||||
Embedded derivatives - GLWB | $ | 6,407 | Risk neutral stochastic valuation methodology | Equity volatility | 15% - 28% | |||||
Swap curve | 0.44% - 2.70% | |||||||||
Mortality rate | Based on the Annuity 2000 Mortality Table | |||||||||
Lapse rate | 1% - 12% |
Non-recurring fair value measurements - Certain assets are measured at estimated fair value on a non-recurring basis and are not included in the tables above. The Company held zero and $9,242 of adjusted cost basis limited partnership interests which were impaired at March 31, 2015 and December 31, 2014, respectively, based on the fair value disclosed in the limited partnership financial statements. These limited partnership interests were recorded at estimated fair value and represent a non-recurring fair value measurement. The estimated fair value was categorized as Level 3.
Fair value of financial instruments
The following tables summarize the carrying amounts and estimated fair values of the Company’s financial instruments not carried at fair value on a recurring basis:
March 31, 2015 | December 31, 2014 | ||||||||||||||
Carrying | Estimated | Carrying | Estimated | ||||||||||||
amount | fair value | amount | fair value | ||||||||||||
Assets | |||||||||||||||
Mortgage loans on real estate | $ | 3,440,183 | $ | 3,682,669 | $ | 3,363,570 | $ | 3,558,111 | |||||||
Policy loans | 4,125,285 | 4,125,285 | 4,130,062 | 4,130,062 | |||||||||||
Limited partnership interests | 37,876 | 41,147 | 38,796 | 41,853 | |||||||||||
Other investments | 15,021 | 44,591 | 15,614 | 43,263 | |||||||||||
Liabilities | |||||||||||||||
Annuity contract benefits without life contingencies | $ | 10,556,269 | $ | 10,774,463 | $ | 10,569,147 | $ | 10,563,477 | |||||||
Policyholders’ funds | 296,602 | 296,602 | 335,484 | 335,484 | |||||||||||
Commercial paper | 89,989 | 89,989 | 98,589 | 98,589 | |||||||||||
Notes payable | 541,812 | 591,782 | 532,547 | 564,904 |
28
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
The methods and assumptions used to estimate the fair value of financial instruments not carried at fair value on a recurring basis are summarized as follows:
Mortgage loans on real estate
Mortgage loan fair value estimates are generally based on discounted cash flows. A discount rate matrix is used where the discount rate valuing a specific mortgage generally corresponds to that mortgage’s remaining term and credit quality. Management believes the discount rate used is comparable to the credit, interest rate, term, servicing costs and risks of loans similar to the portfolio loans that the Company would make today given its internal pricing strategy. The estimated fair value is classified as Level 2.
Policy loans
Policy loans are funds provided to policy holders in return for a claim on the policy. The funds provided are limited to the cash surrender value of the underlying policy. The nature of policy loans is to have a negligible default risk as the loans are fully collateralized by the value of the policy. Policy loans do not have a stated maturity and the balances and accrued interest are repaid either by the policyholder or with proceeds from the policy. Due to the collateralized nature of policy loans and unpredictable timing of repayments, the Company believes the fair value of policy loans approximates carrying value. The estimated fair value is classified as Level 2.
Limited partnership interests
Limited partnership interests, accounted for using the cost method, represent the Company’s minority ownership interests in pooled investment funds. These funds employ varying investment strategies that principally make private equity investments across diverse industries and geographical focuses. The estimated fair value was determined using the partnership financial statement reported capital account or net asset value adjusted for other relevant information which may impact the exit value of the investments. Distributions by these investments are generated from investment gains, from operating income generated by the underlying investments of the funds and from liquidation of the underlying assets of the funds which are estimated to be liquidated over the next one to 10 years. The estimated fair value is classified as Level 3.
Other investments
Other investments primarily include real estate held for investment. The estimated fair value for real estate is based on the unadjusted annual appraised value which includes factors such as comparable property sales, property income analysis, and capitalization rates. The estimated fair value is classified as Level 2.
Annuity contract benefits without life contingencies
The estimated fair value of annuity contract benefits without life contingencies is estimated by discounting the projected expected cash flows to the maturity of the contracts utilizing risk-free spot interest rates plus a provision for the Company’s credit risk. The estimated fair value is classified as Level 2.
Policyholders’ funds
The carrying amount of policyholders’ funds approximates the fair value since the Company can change the interest credited rates with 30 days notice. The estimated fair value is classified as Level 2.
Commercial paper
The amortized cost of commercial paper is a reasonable estimate of fair value due to its short-term nature and the high credit quality of the obligor. The estimated fair value is classified as Level 2.
29
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
Notes payable
The estimated fair value of the notes payable to GWL&A Financial is based upon quoted market prices from independent pricing services of securities with characteristics similar to those of the notes payable. The estimated fair value is classified as Level 2.
9. Other Comprehensive Income
The following tables present the accumulated balances for each classification of other comprehensive income (loss):
Three Months Ended March 31, 2015 | |||||||||||||||||||
Unrealized holding gains / losses arising on fixed maturities, available-for- sale | Unrealized holding gains / losses arising on cash flow hedges | Future policy benefits, DAC and VOBA adjustments | Employee benefit plan adjustment | Total | |||||||||||||||
Balances, January 1, 2015 | $ | 784,183 | $ | 33,141 | $ | (108,194 | ) | $ | (106,112 | ) | $ | 603,018 | |||||||
Other comprehensive income (loss) before reclassifications | 117,894 | 11,151 | (22,834 | ) | (215 | ) | 105,996 | ||||||||||||
Amounts reclassified from AOCI | (18,316 | ) | (1,468 | ) | — | 1,907 | (17,877 | ) | |||||||||||
Net current period other comprehensive income (loss) | 99,578 | 9,683 | (22,834 | ) | 1,692 | 88,119 | |||||||||||||
Balances, March 31, 2015 | $ | 883,761 | $ | 42,824 | $ | (131,028 | ) | $ | (104,420 | ) | $ | 691,137 |
Three Months Ended March 31, 2014 | |||||||||||||||||||
Unrealized holding gains / losses arising on fixed maturities, available-for- sale | Unrealized holding gains / losses arising on cash flow hedges | Future policy benefits, DAC and VOBA adjustments | Employee benefit plan adjustment | Total | |||||||||||||||
Balances, January 1, 2014 | $ | 434,023 | $ | 25,517 | $ | (70,000 | ) | $ | (43,786 | ) | $ | 345,754 | |||||||
Other comprehensive income (loss) before reclassifications | 202,344 | 575 | (37,211 | ) | — | 165,708 | |||||||||||||
Amounts reclassified from AOCI | (14,065 | ) | (377 | ) | — | — | (14,442 | ) | |||||||||||
Net current period other comprehensive income (loss) | 188,279 | 198 | (37,211 | ) | — | 151,266 | |||||||||||||
Balances, March 31, 2014 | $ | 622,302 | $ | 25,715 | $ | (107,211 | ) | $ | (43,786 | ) | $ | 497,020 |
30
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
The following tables present the composition of other comprehensive income (loss):
Three Months Ended March 31, 2015 | |||||||||||
Before-tax | Tax (expense) | Net-of-tax | |||||||||
amount | benefit | amount | |||||||||
Unrealized holding gains (losses), net, arising on fixed maturities, available-for-sale | $ | 181,375 | $ | (63,481 | ) | $ | 117,894 | ||||
Unrealized holding gains (losses), net, arising on cash flow hedges | 17,155 | (6,004 | ) | 11,151 | |||||||
Reclassification adjustment for (gains) losses, net, realized in net income | (30,437 | ) | 10,653 | (19,784 | ) | ||||||
Net unrealized gains (losses) related to investments | 168,093 | (58,832 | ) | 109,261 | |||||||
Future policy benefits, DAC and VOBA adjustments | (35,129 | ) | 12,295 | (22,834 | ) | ||||||
Net unrealized gains (losses) | 132,964 | (46,537 | ) | 86,427 | |||||||
Employee benefit plan adjustment | 2,603 | (911 | ) | 1,692 | |||||||
Other comprehensive income (loss) | $ | 135,567 | $ | (47,448 | ) | $ | 88,119 |
Three Months Ended March 31, 2014 | |||||||||||
Before-tax | Tax (expense) | Net-of-tax | |||||||||
amount | benefit | amount | |||||||||
Unrealized holding gains (losses), net, arising on fixed maturities, available-for-sale | $ | 311,298 | $ | (108,954 | ) | $ | 202,344 | ||||
Unrealized holding gains (losses), net, arising on cash flow hedges | 884 | (309 | ) | 575 | |||||||
Reclassification adjustment for (gains) losses, net, realized in net income | (22,218 | ) | 7,776 | (14,442 | ) | ||||||
Net unrealized gains (losses) related to investments | 289,964 | (101,487 | ) | 188,477 | |||||||
Future policy benefits, DAC and VOBA adjustments | (57,248 | ) | 20,037 | (37,211 | ) | ||||||
Net unrealized gains (losses) | 232,716 | (81,450 | ) | 151,266 | |||||||
Other comprehensive income (loss) | $ | 232,716 | $ | (81,450 | ) | $ | 151,266 |
31
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
The following tables presents the reclassifications out of accumulated other comprehensive income (loss):
Three Months Ended March 31, | ||||||||||
2015 | 2014 | |||||||||
Details about accumulated other comprehensive income (loss) components | Amount reclassified from accumulated other comprehensive income (loss) | Affected line item in the statement where net income is presented | ||||||||
Unrealized holding (gains) losses, net, arising on fixed maturities, available-for-sale | $ | (28,179 | ) | $ | (21,638 | ) | Other realized investment (gains) losses, net | |||
(28,179 | ) | (21,638 | ) | Total before tax | ||||||
(9,863 | ) | (7,573 | ) | Tax expense or benefit | ||||||
$ | (18,316 | ) | $ | (14,065 | ) | Net of tax | ||||
Unrealized holding (gains) losses, net, arising on cash flow hedges | $ | (2,258 | ) | $ | (580 | ) | Net investment income | |||
(2,258 | ) | (580 | ) | Total before tax | ||||||
(790 | ) | (203 | ) | Tax expense or benefit | ||||||
$ | (1,468 | ) | $ | (377 | ) | Net of tax | ||||
Amortization of employee benefit plan items | ||||||||||
Prior service costs (benefits) | $ | (181 | ) | (1) | $ | — | ||||
Actuarial losses (gains) | 3,115 | (1) | — | |||||||
2,934 | — | Total before tax | ||||||||
1,027 | — | Tax expense or benefit | ||||||||
$ | 1,907 | $ | — | Net of tax | ||||||
Total reclassification | $ | (17,877 | ) | $ | (14,442 | ) | Net of tax |
(1) These accumulated other comprehensive income components are included in the computation of net periodic (benefit) cost of employee benefit plans (see Note 10 for additional details).
32
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
10. Employee Benefit Plans
Net periodic cost (benefit) of the Defined Benefit Pension, Post-Retirement Medical and Supplemental Executive Retirement plans included in general insurance expenses in the accompanying condensed consolidated statements of income includes the following components:
Three Months Ended March 31, | |||||||||||||||||||||||||||||||
Defined Benefit Pension Plan | Post-Retirement Medical Plan | Supplemental Executive Retirement Plan | Total | ||||||||||||||||||||||||||||
2015 | 2014 | 2015 | 2014 | 2015 | 2014 | 2015 | 2014 | ||||||||||||||||||||||||
Components of net periodic cost (benefit): | |||||||||||||||||||||||||||||||
Service cost | $ | 1,509 | $ | 1,174 | $ | 264 | $ | 206 | $ | 70 | $ | 205 | $ | 1,843 | $ | 1,585 | |||||||||||||||
Interest cost | 5,997 | 5,738 | 126 | 130 | 531 | 697 | 6,654 | 6,565 | |||||||||||||||||||||||
Expected return on plan assets | (7,087 | ) | (7,319 | ) | — | — | — | — | (7,087 | ) | (7,319 | ) | |||||||||||||||||||
Amortization of unrecognized prior service costs (benefits) | 3 | 13 | (417 | ) | (426 | ) | 233 | 233 | (181 | ) | (180 | ) | |||||||||||||||||||
Amortization of losses (gains) from earlier periods | 3,106 | 645 | (157 | ) | (130 | ) | 166 | 92 | 3,115 | 607 | |||||||||||||||||||||
Net periodic cost (benefit) | $ | 3,528 | $ | 251 | $ | (184 | ) | $ | (220 | ) | $ | 1,000 | $ | 1,227 | $ | 4,344 | $ | 1,258 |
The Company expects to make payments of approximately $533 with respect to its Post-Retirement Medical Plan and $4,825 with respect to its Supplemental Executive Retirement Plan during the year ended December 31, 2015. The Company expects to make contributions of zero to its Defined Benefit Pension Plan during the year ended December 31, 2015. A December 31 measurement date is used for the employee benefit plans.
The following table summarizes contributions to the Defined Benefit Pension Plan and payments made to the Post-Retirement Medical Plan and the Supplemental Executive Retirement Plan:
Three Months Ended March 31, | |||||||
2015 | 2014 | ||||||
Contributions to the Defined Benefit Pension Plan | $ | — | $ | 2,024 | |||
Payments to the Post-Retirement Medical Plan | 133 | 131 | |||||
Payments to the Supplemental Executive Retirement Plan | 2,335 | 908 |
33
GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
11. Income Taxes
The provision for income taxes is comprised of the following:
Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
Current | $ | 28,094 | $ | 31,044 | ||||
Deferred | 23,802 | 19,310 | ||||||
Total income tax provision | $ | 51,896 | $ | 50,354 |
The following table presents a reconciliation between the statutory federal income tax rate and the Company’s effective income tax rate:
Three Months Ended March 31, | ||||||
2015 | 2014 | |||||
Statutory federal income tax rate | 35.0 | % | 35.0 | % | ||
Income tax effect of: | ||||||
Investment income not subject to federal tax | (2.0 | )% | (2.1 | )% | ||
Tax credits | (0.2 | )% | (0.2 | )% | ||
State income taxes, net of federal benefit | 1.3 | % | 1.5 | % | ||
Other, net | 0.4 | % | 0.5 | % | ||
Effective income tax rate | 34.5 | % | 34.7 | % |
During the three months ended March 31, 2015 and 2014, the Company recorded an increase in unrecognized tax benefits in the amount of $2,695 and $1,992, respectively. The Company anticipates additional increases to its unrecognized tax benefits of $4,000 to $5,000 in the next twelve months. The Company expects that the majority of the increase in its unrecognized tax benefits will not impact the effective tax rate.
The Company files income tax returns in the U.S. federal jurisdiction and various states. With few exceptions, the Company is no longer subject to U.S. federal income tax examinations by tax authorities for years 2010 and prior. Tax years 2011 through 2013 are open to federal examination by the Internal Revenue Service (“IRS”). The Company does not expect significant increases or decreases to unrecognized tax benefits relating to federal, state or local audits.
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GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
12. Segment Information
The Chief Operating Decision Maker (“CODM”) of the Company is also the Chief Executive Officer (“CEO”) of Lifeco U.S. The CODM reviews the financial information for the purposes of assessing performance and allocating resources based upon the results of Lifeco U.S. and other U.S. affiliates prepared in accordance with International Financial Reporting Standards. The CODM, in his capacity as CEO of the Company, reviews the Company’s financial information only in connection with the quarterly and annual reports that are filed with the Securities and Exchange Commission (“SEC”). Consequently, the Company does not provide its discrete financial information to the CODM to be regularly reviewed to make decisions about resources to be allocated or to assess performance. For purposes of SEC reporting requirements, the Company has chosen to present its financial information in three segments, notwithstanding the above. The three segments are: Individual Markets, Empower Retirement (formerly known as “Retirement Services”) and Other.
Individual Markets
The Individual Markets reporting and operating segment distributes life insurance, annuity and retirement products to both individuals and businesses through various distribution channels. Life insurance products in-force include participating and non-participating term life, whole life, universal life and variable universal life.
Empower Retirement
The Empower Retirement reporting and operating segment provides various retirement plan products (including individual retirement accounts (“IRAs”)) and investment options as well as comprehensive administrative and record-keeping services for financial institutions and employers, which include educational, advisory, enrollment and communication services for employer-sponsored defined contribution plans and associated defined benefit plans.
Other
The Company’s Other reporting segment is substantially comprised of activity under the assumption of reinsurance between Great-West Life & Annuity Insurance Company of South Carolina (“GWSC”), a wholly owned subsidiary, and The Canada Life Assurance Company (“CLAC”), corporate items not directly allocated to the other operating segments and interest expense on long-term debt.
The accounting principles used to determine segment results are the same as those used in the consolidated financial statements. Inter-segment transactions and balances have been eliminated in consolidation. The Company’s operations are not materially dependent on one or a few customers, brokers or agents.
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GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
The following tables summarize segment financial information:
Three Months Ended March 31, 2015 | ||||||||||||||||
Individual | Empower | |||||||||||||||
Markets | Retirement | Other | Total | |||||||||||||
Revenue: | ||||||||||||||||
Premium income | $ | 124,962 | $ | — | $ | 20,741 | $ | 145,703 | ||||||||
Fee income | 21,502 | 202,821 | 954 | 225,277 | ||||||||||||
Other revenue | — | 1,820 | — | 1,820 | ||||||||||||
Net investment income | 217,653 | 127,730 | 13,473 | 358,856 | ||||||||||||
Realized investment gains (losses), net | 8,400 | 9,800 | — | 18,200 | ||||||||||||
Total revenues | 372,517 | 342,171 | 35,168 | 749,856 | ||||||||||||
Benefits and expenses: | ||||||||||||||||
Policyholder benefits | 256,323 | 49,045 | 22,303 | 327,671 | ||||||||||||
Operating expenses | 35,941 | 221,030 | 14,706 | 271,677 | ||||||||||||
Total benefits and expenses | 292,264 | 270,075 | 37,009 | 599,348 | ||||||||||||
Income (loss) before income taxes | 80,253 | 72,096 | (1,841 | ) | 150,508 | |||||||||||
Income tax expense (benefit) | 28,222 | 24,380 | (706 | ) | 51,896 | |||||||||||
Net income (loss) | $ | 52,031 | $ | 47,716 | $ | (1,135 | ) | $ | 98,612 |
Three Months Ended March 31, 2014 | ||||||||||||||||
Individual | Empower | |||||||||||||||
Markets | Retirement | Other | Total | |||||||||||||
Revenue: | ||||||||||||||||
Premium income | $ | 112,777 | $ | 572 | $ | 18,505 | $ | 131,854 | ||||||||
Fee income | 23,630 | 141,881 | 1,002 | 166,513 | ||||||||||||
Net investment income | 185,520 | 101,174 | 13,329 | 300,023 | ||||||||||||
Realized investment gains (losses), net | 6,735 | 20,154 | 20 | 26,909 | ||||||||||||
Total revenues | 328,662 | 263,781 | 32,856 | 625,299 | ||||||||||||
Benefits and expenses: | ||||||||||||||||
Policyholder benefits | 238,997 | 48,480 | 18,902 | 306,379 | ||||||||||||
Operating expenses | 35,338 | 123,986 | 14,491 | 173,815 | ||||||||||||
Total benefits and expenses | 274,335 | 172,466 | 33,393 | 480,194 | ||||||||||||
Income (loss) before income taxes | 54,327 | 91,315 | (537 | ) | 145,105 | |||||||||||
Income tax expense | 18,965 | 31,310 | 79 | 50,354 | ||||||||||||
Net income (loss) | $ | 35,362 | $ | 60,005 | $ | (616 | ) | $ | 94,751 |
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GREAT-WEST LIFE & ANNUITY INSURANCE COMPANY
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
13. Commitments and Contingencies
Commitments
The Company has a revolving credit facility agreement in the amount of $50,000 for general corporate purposes. The credit facility expires on March 1, 2018. Interest accrues at a rate dependent on various conditions and terms of borrowings. The agreement requires, among other things, the Company to maintain a minimum adjusted net worth, of $1,100,000, as defined in the credit facility agreement (compiled on the unconsolidated statutory accounting basis prescribed by the National Association of Insurance Commissioners), at anytime. The Company was in compliance with all covenants at March 31, 2015 and December 31, 2014. At March 31, 2015 and December 31, 2014, there were no outstanding amounts related to the credit facility.
GWSC and CLAC are parties to a reinsurance agreement pursuant to which GWSC assumes term life insurance from CLAC. GWL&A Financial obtained two letters of credit for the benefit of the Company as collateral under the GWSC and CLAC reinsurance agreement for policy liabilities and capital support. The first letter of credit is for $1,168,810 and renews annually until it expires on July 3, 2027. The second letter of credit is for $70,000 and renews annually until it expires on December 31, 2017. At March 31, 2015 and December 31, 2014, there were no outstanding amounts related to the letters of credit.
In addition, the Company has other letters of credit with a total amount of $9,095, renewable annually for an indefinite period of time. At March 31, 2015 and December 31, 2014, there were no outstanding amounts related to those letters of credit.
The Company makes commitments to fund partnership interests, mortgage loans on real estate and other investments in the normal course of its business. The amounts of these unfunded commitments at March 31, 2015 and December 31, 2014 were $224,055 and $166,356, of which $5,066 and $4,997 were related to cost basis limited partnership interests, respectively, all of which is due within one year from the dates indicated.
Contingencies
The Company is involved in various legal proceedings that arise in the ordinary course of its business. In the opinion of management, after consultation with counsel, the likelihood of loss from the resolution of these proceedings is remote and/or the estimated loss is not expected to have a material effect on the Company’s consolidated financial position, results of its operations or cash flows.
The Company is currently evaluating the interpretation of Internal Revenue Code rules related to certain product investments. If the Company’s interpretation is not upheld, which is reasonably possible, the potential exposure is estimated to be up to $21,000.
The Company received a $20,000 demand letter related to a vehicle accident involving an employee. The amount is fully indemnified by a third-party insurer.
14. Subsequent Events
On May 1, 2015, the Company’s Board of Directors declared a dividend of $34,801, payable on June 30, 2015, to its sole shareholder, GWL&A Financial.
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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
General
As used in this Form 10-Q, the “Company” refers to Great-West Life & Annuity Insurance Company, a stock life insurance company originally organized on March 28, 1907 and domiciled in the state of Colorado, and its subsidiaries.
This Form 10-Q contains forward-looking statements. Forward-looking statements are statements not based on historical information and that relate to future operations, strategies, financial results, or other developments. In particular, statements using words such as “may,” “would,” “could,” “should,” “estimates,” “expected,” “anticipate,” “believe,” or words of similar import generally involve forward-looking statements. Without limiting the foregoing, forward-looking statements include statements that represent the Company’s beliefs concerning future or projected levels of sales of its products, investment spreads or yields, or the earnings or profitability of the Company’s activities.
Forward-looking statements are necessarily based upon estimates and assumptions that are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond the Company’s control and many of which, with respect to future business decisions, are subject to change. Some of these risks are described in “Risk Factors” in Item 1A of this report. These uncertainties and contingencies can affect actual results and could cause actual results to differ materially from those expressed in any forward-looking statements made by, or on behalf of, the Company. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable events or developments, some of which may be global or national in scope, such as general economic conditions and interest rates, some of which may be related to the insurance industry generally, such as pricing competition, regulatory developments and industry consolidation and others of which may relate to the Company specifically, such as credit, volatility and other risks associated with its investment portfolio and other factors. Readers should also consider other matters, including any risks and uncertainties, discussed in documents filed by the Company and certain of its subsidiaries with the Securities and Exchange Commission.
The following discussion addresses the Company’s results of operations for the three months ended March 31, 2015 compared with the same period in 2014. The discussion should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, under Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” to which the reader is directed for additional information.
Recent Events
Acquisition of Putnam Retirement Business
On January 1, 2015, the Company acquired the retirement business of Putnam, an affiliated entity. The 2015 figures are aligned with the new business structure which includes the Putnam retirement business, while the 2014 comparative figures reflect the previous structure which excludes the Putnam retirement business. For the full year in 2014, Putnam’s retirement services business recorded a net loss of approximately $20 million. In 2015, this business is integrated within the Empower Retirement segment.
Empower Retirement
On October 30, 2014, the Company announced that its retirement business will officially be named Empower Retirement. Empower Retirement is the retirement services business of the Company, which in addition to completing the acquisition of RPS, integrated the retirement business of Putnam. For the three months ended March 31, 2015, the Company incurred $10 million of costs related to Empower Retirement business integration. These amounts are included in the Empower Retirement segment.
Acquisition of J.P. Morgan Retirement Plan Services
On August 29, 2014, the Company completed the acquisition of RPS. For the three months ended March 31, 2015, RPS contributed $49 million in revenue and $1 million in net income which are primarily included in the Empower Retirement segment.
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Reconciliation of Net Income to Operating Income
The Company uses the same accounting policies and procedures to measure operating income as it uses to measure consolidated net income. The Company employs hedging strategies for the purpose of managing the interest rate, foreign currency exchange rate and equity market risks impacting the Company’s business. For some derivative instruments, hedge accounting is not elected; therefore all gains or losses from these transactions are recorded in the consolidated statement of income. As a result, fluctuations in interest rates, foreign currencies or equity markets may cause the Company to experience volatility in net income.
As such, the Company has defined operating income as net income, excluding realized and unrealized gains and losses on investments and derivatives and their related tax effect. Operating income should not be viewed as a substitute for net income prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). In addition, the Company’s operating income measures may not be comparable to similarly titled measures reported by other companies.
Three months ended March 31, 2015 compared with the three months ended March 31, 2014
The Company believes that the presentation of operating income enhances the understanding of the Company’s performance by highlighting the results of operations and the underlying profitability drivers of the business. Operating income should not be viewed as a substitute for U.S. GAAP net income. The following is a summary of the contributions of each segment to the net income and a reconciliation of net income to operating income:
Three Months Ended March 31, | Increase | Percentage | |||||||||||||
Income statement data (In millions) | 2015 | 2014 | (decrease) | change | |||||||||||
Net income | |||||||||||||||
Individual Markets segment | $ | 52 | $ | 35 | $ | 17 | 49 | % | |||||||
Empower Retirement segment | 48 | 60 | (12 | ) | (20 | )% | |||||||||
Other segment | (1 | ) | (1 | ) | — | — | % | ||||||||
Total net income | 99 | 94 | 5 | 5 | % | ||||||||||
Adjustments to net income | |||||||||||||||
Unrealized investment gains (losses), net | 62 | (1 | ) | 63 | (6,300 | )% | |||||||||
Realized investment gains (losses), net | 18 | 27 | (9 | ) | (33 | )% | |||||||||
Pro-rata tax (expense) benefit (1) | (28 | ) | (10 | ) | (18 | ) | 180 | % | |||||||
Operating income | $ | 47 | $ | 78 | $ | (31 | ) | (40 | )% |
(1) Calculated utilizing estimated tax rate of 35%.
Unrealized investment gains (losses), net, increased by $63 million, from a loss of $1 million in 2014 to a gain of $62 million in 2015. The primary driver of the change was a $45 million increase in unrealized gains on derivatives. In addition, there was a $23 million increased in unrealized gains on forward settling to be announced (“TBA”) securities. Offsetting the increase was a $5 million decrease in unrealized gains on bonds.
Realized investment gains (losses), net, decreased by $9 million, or 33%, to $18 million during the three months ended March 31, 2015 when compared to 2014. The fluctuation was driven primarily by a decrease in gains of $17 million on forward settling TBA security transactions. Offsetting the decrease was a $7 million increase in gains on bonds and a $1 million increase in gains on mortgages and limited partnership investments.
Pro-rata tax expense increased by $18 million to $28 million during the three months ended March 31, 2015 when compared to 2014 resulting from the increase in total unrealized investment gains (losses), net partially offset by the decease in realized investment gains (losses), net.
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Company Results of Operations
Three months ended March 31, 2015 compared with the three months ended March 31, 2014
The following is a summary of certain financial data of the Company:
Three Months Ended March 31, | Increase | Percentage | |||||||||||||
Income statement data (In millions) | 2015 | 2014 | (decrease) | change | |||||||||||
Premium income | $ | 146 | $ | 132 | $ | 14 | 11 | % | |||||||
Fee income | 225 | 167 | 58 | 35 | % | ||||||||||
Other revenue | 2 | — | 2 | 100 | % | ||||||||||
Net investment income | 297 | 300 | (3 | ) | (1 | )% | |||||||||
Total revenues | 670 | 599 | 71 | 12 | % | ||||||||||
Policyholder benefits | 328 | 306 | 22 | 7 | % | ||||||||||
Operating expenses | 272 | 175 | 97 | 55 | % | ||||||||||
Total benefits and expenses | 600 | 481 | 119 | 25 | % | ||||||||||
Income before income taxes | 70 | 118 | (48 | ) | (41 | )% | |||||||||
Income tax expense | 23 | 40 | (17 | ) | (43 | )% | |||||||||
Operating income | $ | 47 | $ | 78 | $ | (31 | ) | (40 | )% |
The Company’s consolidated operating income decreased by $31 million, or 40%, to $47 million for the three months ended March 31, 2015 when compared to 2014. The decrease was primarily due to higher operating expenses and higher policyholder benefits partially offset by higher fee income and higher premium income.
Premium income increased by $14 million, or 11%, to $146 million for the three months ended March 31, 2015 when compared to 2014. This increase was primarily related to the Company’s Individual Markets segment which had an increase of $13 million primarily due to the amounts assessed for mortality coverage earned from the Company’s single premium universal life (“SPUL”) product. The average in-force amount for the SPUL product increased from $1,381 to $2,050.
Fee income increased by $58 million, or 35%, to $225 million for the three months ended March 31, 2015 when compared to 2014. The increase was primarily related to the $49 million in fees earned by RPS as well as the impact of the transfer of the defined contribution business from Putnam. In the first quarter of 2014, Putnam fee income included $2 million in incremental fees related to the transfered defined contribution business. Additionally, the Company had an increase in asset-based variable fee income resulting from increased average asset levels driven by sales growth and higher average equity market levels. The equity market performance was evidenced by the 12% increase in the average S&P 500 index during the three months ended March 31, 2015 as compared to the three months ended March 31, 2014.
Net investment income decreased by $3 million, or 1%, to $297 million during the three months ended March 31, 2015 when compared to 2014. The decrease was due to lower investment income earned on limited partnership investments.
Policyholder benefits increased by $22 million, or 7%, to $328 million for the three months ended March 31, 2015 when compared to 2014 primarily due to the Company’s Individual Markets segment which had an increase of $18 million. The increase was driven by higher interest credited or paid to contractholders as a result of increased average liabilities partially offset by a decrease in crediting rate on the Company’s executive benefits market. In addition, death claims and accident and disability claims were higher partially offset by lower annuity payments for the three months ended March 31, 2015 when compared to 2014.
Operating expenses increased by $97 million, or 55%, to $272 million for the three months ended March 31, 2015 when compared to 2014 primarily due to the Company’s Empower Retirement segment which had an increase of $96 million. The increase was primarily attributable to the $47 million incurred by RPS as well as the impact of the transfer of the defined contribution business from Putnam. In the first quarter of 2014, Putnam operating expense included $10 million in incremental expenses related to the transfered defined contribution business. Additionally, Empower Retirement is investing in significant strategic and business development initiatives as part of its integration plan. Enhancements are being made, which will improve the client facing experience as well as streamline the back office processing over the next several years. The Company incurred costs of $10 million related to this business integration. The remaining increase in operating expenses is due to
40
business growth and higher DAC amortization as a result of actual gross profits exceeding those previously estimated gross profits.
Income tax expense decreased by $17 million, or 43%, to $23 million during the three months ended March 31, 2015 when compared to 2014 primarily due to a decrease in operating income before tax.
Individual Markets Segment Results of Operations
Three months ended March 31, 2015 compared with the three months ended March 31, 2014
The following is a summary of certain financial data of the Individual Markets segment:
Three Months Ended March 31, | Increase | Percentage | |||||||||||||
Income statement data (In millions) | 2015 | 2014 | (decrease) | change | |||||||||||
Premium income | $ | 125 | $ | 112 | $ | 13 | 12 | % | |||||||
Fee income | 22 | 24 | (2 | ) | (8 | )% | |||||||||
Net investment income | 186 | 183 | 3 | 2 | % | ||||||||||
Total revenues | 333 | 319 | 14 | 4 | % | ||||||||||
Policyholder benefits | 257 | 239 | 18 | 8 | % | ||||||||||
Operating expenses | 36 | 35 | 1 | 3 | % | ||||||||||
Total benefits and expenses | 293 | 274 | 19 | 7 | % | ||||||||||
Income before income taxes | 40 | 45 | (5 | ) | (11 | )% | |||||||||
Income tax expense | 14 | 15 | (1 | ) | (7 | )% | |||||||||
Operating income | $ | 26 | $ | 30 | $ | (4 | ) | (13 | )% |
Operating income for the Individual Markets segment decreased by $4 million, or 13%, to $26 million, during the three months ended March 31, 2015 when compared to 2014. The decrease was primarily due to higher policyholder benefits partially offset by higher premium income.
Premium income increased by $13 million, or 12%, to $125 million for the three months ended March 31, 2015 when compared to 2014. This increase was primarily related to the amounts assessed for mortality coverage earned from the Company’s SPUL product. The average in-force amount for the SPUL product increased from $1,381 to $2,050.
Fee income decreased by $2 million, or 8%, to $22 million for the three months ended March 31, 2015 when compared to 2014. The decrease was primarily related to lower individual annuity fees.
Net investment income increased by $3 million, or 2%, to $186 million for the three months ended March 31, 2015 when compared to 2014. This was due to an increase in investment income earned on bonds, mortgages and policy loans as a result of higher invested assets balances partially offset by lower yields.
Policyholder benefits increased by $18 million, or 8%, to $257 million for the three months ended March 31, 2015 when compared to 2014, primarily driven by higher interest credited or paid to contractholders as a result of increased average liabilities partially offset by a decrease in crediting rate on the Company’s executive benefits market. In addition, death claims and accident and disability claims were higher partially offset by lower annuity payments for the three months ended March 31, 2015 when compared to 2014.
Operating expenses increased by $1 million, or 3%, to $36 million for the three months ended March 31, 2015 when compared to 2014. The increase is primarily due to higher premium tax expense.
Income tax expense decreased by $1 million, or 7%, to $14 million during the three months ended March 31, 2015 when compared to 2014 primarily due to a decrease in operating income before tax.
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Empower Retirement Segment Results of Operations
Three months ended March 31, 2015 compared with the three months ended March 31, 2014
The following is a summary of certain financial data of the Empower Retirement segment:
Three Months Ended March 31, | Increase | Percentage | |||||||||||||
Income statement data (In millions) | 2015 | 2014 | (decrease) | change | |||||||||||
Premium income | $ | — | $ | 1 | $ | (1 | ) | (100 | )% | ||||||
Fee income | 202 | 142 | 60 | 42 | % | ||||||||||
Other revenue | 2 | — | 2 | 100 | % | ||||||||||
Net investment income | 98 | 104 | (6 | ) | (6 | )% | |||||||||
Total revenues | 302 | 247 | 55 | 22 | % | ||||||||||
Policyholder benefits | 49 | 48 | 1 | 2 | % | ||||||||||
Operating expenses | 221 | 125 | 96 | 77 | % | ||||||||||
Total benefits and expenses | 270 | 173 | 97 | 56 | % | ||||||||||
Income before income taxes | 32 | 74 | (42 | ) | (57 | )% | |||||||||
Income tax expense | 10 | 25 | (15 | ) | (60 | )% | |||||||||
Operating income | $ | 22 | $ | 49 | $ | (27 | ) | (55 | )% |
Operating income for the Empower Retirement segment decreased by $27 million, or 55%, to $22 million for the three months ended March 31, 2015 when compared to 2014. The decrease was primarily due to higher operating expenses partially offset by higher fee income.
Fee income increased by $60 million, or 42%, to $202 million for the three months ended March 31, 2015 when compared to 2014. The increase was primarily related to the $49 million in fees earned by RPS as well as the impact of the transfer of the defined contribution business from Putnam. In the first quarter of 2014, Putnam fee income included $2 million in incremental fees related to the transferred defined contribution business. Additionally, the Company had an increase in asset-based variable fee income resulting from increased average asset levels driven by sales growth and higher average equity market levels. The equity market performance was evidenced by the 12% increase in the average S&P 500 index during the three months ended March 31, 2015 as compared to the three months ended March 31, 2014.
Net investment income decreased by $6 million, or 6%, to $98 million for the three months ended March 31, 2015 when compared to 2014. This was due to a decrease in investment income earned on bonds, mortgages and policy loans as a result of lower yields partially offset by higher invested assets balances.
Policyholder benefits increased by $1 million, or 2%, to $49 million for the three months ended March 31, 2015 when compared to 2014. The increase is due to higher annuity payments offset by lower interest credited or paid to contract holders as a result of lower crediting rates offset by increased average liabilities.
Operating expenses increased by $96 million, or 77%, to $221 million for the three months ended March 31, 2015 when compared to 2014. The increase was primarily attributable to the $47 million incurred by RPS as well as the impact of the transfer of the defined contribution business from Putnam. In the first quarter of 2014, Putnam operating expense included $10 million in incremental expenses related to the transferred defined contribution business. Additionally, Empower Retirement is investing in significant strategic and business development initiatives as part of its integration plan. Enhancements are being made, which will improve the client facing experience as well as streamline the back office processing over the next several years. The Company incurred costs of $10 million related to this business integration. The remaining increase in operating expenses is due to business growth and higher DAC amortization as a result of actual gross profits exceeding those previously estimated gross profits.
Income tax expense decreased by $15 million, or 60%, to $10 million for the three months ended March 31, 2015 when compared to 2014 primarily due to a decrease in operating income before tax.
42
Other Segment Results of Operations
Three months ended March 31, 2015 compared with the three months ended March 31, 2014
The following is a summary of certain financial data of the Company’s Other segment:
Three Months Ended March 31, | Increase | Percentage | |||||||||||||
Income statement data (In millions) | 2015 | 2014 | (decrease) | change | |||||||||||
Premium income | $ | 21 | $ | 19 | $ | 2 | 11 | % | |||||||
Fee income | 1 | 1 | — | — | % | ||||||||||
Net investment income | 13 | 13 | — | — | % | ||||||||||
Total revenues | 35 | 33 | 2 | 6 | % | ||||||||||
Policyholder benefits | 22 | 19 | 3 | 16 | % | ||||||||||
Operating expenses | 15 | 15 | — | — | % | ||||||||||
Total benefits and expenses | 37 | 34 | 3 | 9 | % | ||||||||||
Income before income taxes | (2 | ) | (1 | ) | (1 | ) | 100 | % | |||||||
Income tax benefit | (1 | ) | — | (1 | ) | 100 | % | ||||||||
Operating loss | $ | (1 | ) | $ | (1 | ) | $ | — | — | % |
Operating loss for the Company’s Other segment remained constant for the three months ended March 31, 2015 when compared to 2014.
43
Investment Operations
The Company’s primary investment objective is to acquire assets with duration and cash flow characteristics reflective of its liabilities, while meeting industry, size, issuer and geographic diversification standards. Formal liquidity and credit quality parameters have also been established.
The Company follows rigorous procedures to control interest rate risk and observes strict asset and liability matching guidelines. These guidelines ensure that even under changing market conditions, the Company’s assets should meet the cash flow and income requirements of its liabilities. Using dynamic modeling to analyze the effects of a range of possible market changes upon investments and policyholder benefits, the Company works to ensure that its investment portfolio is appropriately structured to fulfill financial obligations to its policyholders.
The following table presents the percentage distribution of the carrying values of the Company’s general account investment portfolio:
(In millions) | March 31, 2015 | December 31, 2014 | ||||||||||||
Fixed maturities, available-for-sale | $ | 18,368 | 64.3 | % | $ | 20,162 | 71.1 | % | ||||||
Fixed maturities, held-for-trading | 130 | 0.5 | % | 339 | 1.2 | % | ||||||||
Mortgage loans on real estate | 3,440 | 12.0 | % | 3,364 | 11.9 | % | ||||||||
Policy loans | 4,125 | 14.4 | % | 4,130 | 14.6 | % | ||||||||
Short-term investments | 2,435 | 8.5 | % | 263 | 0.9 | % | ||||||||
Limited partnership and other corporation interests | 47 | 0.2 | % | 49 | 0.2 | % | ||||||||
Other investments | 15 | 0.1 | % | 16 | 0.1 | % | ||||||||
Total investments | $ | 28,560 | 100.0 | % | $ | 28,323 | 100.0 | % |
The March 31, 2015 fixed maturities, available-for-sale amount decreased as compared to December 31, 2014 as the Company sold government agency mortgage-backed security (“MBS”) pools to enter into forward settling TBA contracts which are treated as derivatives. There is a corresponding increase in short-term investments as the Company holds these investments in order to settle the forward settling TBA contracts.
Fixed Maturity Investments
Fixed maturity investments include public and privately placed corporate bonds, government bonds and mortgage-backed and asset-backed securities. Included in available-for-sale fixed maturities are perpetual debt investments which primarily consist of junior subordinated debt instruments that have no stated maturity date but pay fixed or floating interest in perpetuity. The Company’s strategy related to mortgage-backed and asset-backed securities is to focus on those investments with low prepayment risk and minimal credit risk.
Private placement investments are generally less marketable than publicly traded assets, yet they typically offer enhanced covenant protection that allows the Company, if necessary, to take appropriate action to protect its investment. The Company believes that the cost of the additional monitoring and analysis required by private placement investments is more than offset by their enhanced yield.
One of the Company’s primary objectives is to ensure that its fixed maturity portfolio is maintained at a high average credit quality to limit credit risk. All securities are internally rated by the Company on a basis intended to be similar to that of the rating agencies. The Company’s internal rating methodology generally takes into account ratings from Standard & Poor’s Ratings Services, Fitch Ratings and Moody’s Investor Services, Inc. In addition, the National Association of Insurance Commissioners (“NAIC”) implemented a ratings methodology for residential mortgage-backed securities (“RMBS”), commercial mortgage-backed securities (“CMBS”) and other structured securities. The Company may also utilize inputs from this ratings process to develop its internal rating.
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The percentage distribution of the estimated fair value of the Company’s fixed maturity portfolio by the Company’s internal credit rating is summarized as follows:
Credit Rating | March 31, 2015 | December 31, 2014 | ||||
AAA | 17.0 | % | 28.2 | % | ||
AA | 18.1 | % | 15.3 | % | ||
A | 32.7 | % | 28.2 | % | ||
BBB | 31.3 | % | 27.5 | % | ||
BB and below (Non-investment grade) | 0.9 | % | 0.8 | % | ||
Total | 100.0 | % | 100.0 | % |
The March 31, 2015 AAA rating percentage decreased as compared to December 31, 2014 as the Company sold AAA-rated government agency MBS pools to enter into forward settling TBA contracts which are treated as derivatives.
The percentage distribution of the estimated fair value of the corporate sector fixed maturity portfolio, calculated as a percentage of fixed maturities, is summarized as follows:
Sector | March 31, 2015 | December 31, 2014 | ||||
Utility | 20.9 | % | 18.3 | % | ||
Finance | 11.2 | % | 10.0 | % | ||
Consumer | 11.1 | % | 9.8 | % | ||
Natural resources | 7.2 | % | 5.9 | % | ||
Transportation | 3.5 | % | 3.2 | % | ||
Other | 13.2 | % | 11.3 | % |
Securities Lending, Reverse Repurchase Agreements and Cash Collateral Reinvestment Practices
Cash collateral related to the securities lending program and reverse repurchase agreements is invested in U.S. Government or U.S. Government Agency securities. In addition, the securities lending agent indemnifies the Company against borrower risk, meaning that the lending agent agrees contractually to replace securities not returned due to a borrower default. As of March 31, 2015 and December 31, 2014, the Company had fixed maturities with estimated fair values of $171 million and $15 million, respectively, out on loan and $600 million and zero, respectively, in short-term reverse repurchase agreements, all of which are fully collateralized as described above. The Company does not enter into these types of transactions for liquidity purposes, but rather for yield enhancement on its investment portfolio.
Mortgage Loans on Real Estate
The Company’s mortgage loans on real estate are comprised exclusively of domestic commercial collateralized real estate loans. The mortgage loan portfolio is diversified with regard to geographical markets and commercial real estate property types within the United States. The Company originates, directly or through correspondents, real estate mortgages with the intent to hold to maturity. The Company’s portfolio includes loans which are fully amortizing, amortizing with a balloon balance at maturity, interest only to maturity and interest only for a number of years followed by an amortizing period.
Derivatives
The Company uses certain derivatives, such as futures, swaps and interest rate swaptions, for purposes of managing the interest rate, foreign currency exchange rate and equity market risks impacting the Company’s business. These derivatives, when taken alone, may subject the Company to varying degrees of market and credit risk; however, since used for hedging purposes, these instruments are intended to reduce risk. For derivative instruments where hedge accounting is not elected, changes in interest rates, foreign currencies or equity markets may generate derivative gains or losses which may cause the Company to experience volatility in net income. The Company also uses forward settling TBA securities to gain exposure to the investment risk and return of agency mortgage-backed securities (pass-throughs). These transactions enhance the return on the Company’s investment portfolio and provide a more liquid and cost effective method of achieving these goals than purchasing or selling individual agency mortgage-backed pools. The Company controls the credit risk of its over-the-counter derivative contracts through credit approvals, limits, monitoring procedures and in most cases, requiring collateral. Risk of loss is generally limited to the portion of the fair value of derivative instruments that exceeds the value of the collateral held and not to the notional or contractual amounts of the derivatives.
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Summary of Critical Accounting Estimates
The preparation of financial statements in conformity with U.S. GAAP requires the Company’s management to adopt accounting policies to enable them to make a significant variety of accounting and actuarial estimates and assumptions. These estimates and assumptions are evaluated on an ongoing basis based on historical developments, market conditions, industry trends and other information that is reasonable given the facts and circumstances for the Company. These critical estimates and assumptions affect, among other things, the reported amounts of assets and liabilities, the disclosure of contingent liabilities and the reported amounts of revenues and expenses. Actual results can differ from the amounts previously estimated, which were based on information available at the time the estimates were made.
The Company has identified the following accounting policies, judgments and estimates as critical in that they involve a higher degree of judgment and are subject to a significant degree of variability:
· Valuation of investments;
· Impairment of investments;
· Valuation of derivatives and related hedge accounting;
· Valuation of DAC and related amortization (including unlocking of assumptions); and
· Valuation of policy benefit liabilities
A discussion of each of these critical accounting policies may be found in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, under Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
Application of Recent Accounting Pronouncements
See Note 3 to the accompanying condensed consolidated financial statements for a discussion of the application of recent accounting pronouncements.
Liquidity and Capital Resources
Liquidity refers to a company’s ability to generate sufficient cash flows to meet the short-term needs of its operations. The Company manages its operations to create stable, reliable and cost-effective sources of cash flows to meet all of its obligations.
The principal sources of the Company’s liquidity are premiums and contract deposits, fees, investment income and investment maturities and sales. Funds provided from these sources are reasonably predictable and normally exceed liquidity requirements for payment of policy benefits, payments to policy and contractholders in connection with surrenders and withdrawals and general expenses. However, since the timing of available funds cannot always be matched precisely to commitments, imbalances may arise when demands for funds exceed those on hand. A primary liquidity concern regarding cash flows from operations is the risk of early policyholder and contractholder withdrawals. A primary liquidity concern regarding investment activity is the risk of defaults and market volatility. In addition, a demand for funds may arise as a result of the Company taking advantage of current investment opportunities. The sources of the funds that may be required in such situations include the issuance of commercial paper or other debt instruments. Management believes that the liquidity profile of its assets is sufficient to satisfy the short-term liquidity requirements of reasonably foreseeable scenarios.
Generally, the Company has met its operating requirements by utilizing cash flows from operations and maintaining appropriate levels of liquidity in its investment portfolio. Liquidity for the Company has remained strong, as evidenced by the amounts of short-term investments and cash that totaled $155 million and $276 million as of March 31, 2015 and December 31, 2014, respectively. The March 31, 2015 and December 31, 2014 short-term investments included above exclude any amounts held to settle TBA forward contracts. In addition, 99% of the fixed maturity portfolio carried an investment grade rating at March 31, 2015 and December 31, 2014, thereby providing significant liquidity to the Company’s overall investment portfolio.
The Company continues to be well capitalized, with sufficient borrowing capacity. Additionally, the Company anticipates that cash on hand and expected net cash generated by operating activities will exceed the forecasted needs of the business over the next 12 months. The Company’s financial strength provides the capacity and flexibility to enable it to raise funds in the capital markets through the issuance of commercial paper. The Company had $90 million and $99 million of commercial paper outstanding at March 31, 2015 and December 31, 2014, respectively. The commercial paper has been given a rating of A-1+ by Standard & Poor’s Ratings Services and a rating of P-1 by Moody’s Investors Service, each being the highest rating available. Through the recent financial market volatility, the Company continued to have the ability to access the capital markets for
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funds. The loss of this access in the future would not have a significant impact to the Company’s liquidity as commercial paper is not used to fund daily operations and is an insignificant amount in relation to total invested assets.
The Company also has available a revolving credit facility agreement, which expires on March 1, 2018, in the amount of $50 million for general corporate purposes. The Company had no borrowings under this credit facility as of or during the three months ended March 31, 2015. The Company does not anticipate the need for borrowings under this facility and the loss of its availability would not significantly impact its liquidity.
Capital resources provide protection for policyholders and financial strength to support the underwriting of insurance risks and allow for continued business growth. The amount of capital resources that may be needed is determined by the Company’s senior management and Board of Directors, as well as by regulatory requirements. The allocation of resources to new long-term business commitments is designed to achieve an attractive return, tempered by considerations of risk and the need to support the Company’s existing business.
Off-Balance Sheet Arrangements
The Company makes commitments to fund partnership interests, mortgage loans on real estate and other investments in the normal course of its business. The amounts of these unfunded commitments at March 31, 2015 and December 31, 2014 were $224 million and $166 million, respectively. The precise timing of the fulfillment of the commitment cannot be predicted; however, these amounts are due within one year of the dates indicated. There are no other obligations or liabilities arising from such arrangements that are reasonably likely to become material.
The Company participates in a short-term reverse repurchase program for the purpose of enhancing the total return on its investment portfolio. This type of transaction involves the purchase of securities with a simultaneous agreement to sell similar securities at a future date at an agreed-upon price. In exchange, the financial institutions put non-cash collateral on deposit with a third-party custodian on behalf of the Company. The amount of securities purchased in connection with these transactions was $600 million and zero at March 31, 2015 and December 31, 2014, respectively. Non-cash collateral on deposit with the third-party custodian on the Company’s behalf was $612 million and zero at March 31, 2015 and December 31, 2014, respectively, which cannot be sold or re-pledged and which has not been recorded on the condensed consolidated balance sheets.
The Company participates in a securities lending program in which the Company lends securities that are held as part of its general account investment portfolio to third parties for the purpose of enhancing the total return on its investment portfolio. The Company generally requires initial collateral in an amount greater than or equal to 102% of the fair value of domestic securities loaned and 105% of foreign securities loaned. The Company received securities with a fair value of $85 million and $2 million as collateral at March 31, 2015 and December 31, 2014, respectively, which have not been recorded on the condensed consolidated balance sheets.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
The Company has established processes and procedures to effectively identify, monitor, measure and manage the risks associated with its invested assets and its interest rate sensitive insurance and annuity products. Management has identified investment portfolio management, including the use of derivative instruments, insurance and annuity product design and asset/liability management as three critical means to accomplish a successful risk management program.
The major risks to which the Company is exposed include the following:
• | Market risk - the potential of loss arising from adverse fluctuations in interest rates and equity market prices and the levels of their volatility. |
• | Insurance risk - the potential of loss resulting from claims, persistency and expense experience exceeding that assumed in the liabilities held. |
• | Credit risk - the potential of loss arising from an obligator’s inability or unwillingness to meet its obligations to the Company. |
• | Operational and corporate risk - the potential of direct or indirect loss resulting from inadequate or failed internal processes, people and systems or from other external events. |
A discussion of each of these risk factors may be found in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, under Item 7A, “Quantitative and Qualitative Disclosures About Market Risk.”
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Item 4. Controls and Procedures
Disclosure Controls and Procedures
The Company’s management, with the participation of the President and Chief Executive Officer and our Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures, as required by Rule 13a-15(b) under the Securities Exchange Act of 1934 (“Exchange Act”) as of March 31, 2015. Based upon that evaluation, the President and Chief Executive Officer and the Chief Financial Officer concluded that due to the material weakness in our internal control over financial reporting as it relates to complex accounting matters as further described under Item 9A, “Controls and Procedures,” of our Annual Report on Form 10-K for the year ended December 31, 2014, our disclosure controls and procedures were not effective as of March 31, 2015.
Notwithstanding the material weakness that existed as of March 31, 2015, management has concluded that the condensed consolidated financial statements included in this Quarterly Report on Form 10-Q present fairly, in all material respects, the Company’s financial position, results of operations and cash flows in conformity with generally accepted accounting principles.
Changes in Internal Control over Financial Reporting
Beginning in the fourth quarter of 2013, management began to design and implement certain remediation measures to address the above-described material weakness and enhance the Company’s system of internal control over financial reporting. These measures include creating a comprehensive database of all complex accounting memorandums; formalizing a process for identifying all significant accounting transactions and ensuring they are reviewed on a timely basis for proper accounting treatment; and formalizing a process for refreshing all significant accounting policies and procedures on an annual basis or sooner for significant changes in accounting guidance.
A discussion of the changes in internal control over financial reporting may be found in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, under Item 9A, “Changes and Procedures”.
In the first quarter of 2015, management implemented additional remediation measures including re-designing the roles and responsibilities of key finance and accounting positions and verifying that the complex accounting policies are being applied in practice.
Management believes the remediation measures described above will strengthen the Company’s internal control over financial reporting and remediate the material weaknesses management has identified. Management is committed to continuing to improve the Company’s internal control processes and will continue to diligently review the financial reporting controls and procedures in order to ensure compliance with the criteria set forth in Internal Control - Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) so that management can conclude that the Company maintained effective control over financial reporting in a future period. However, any control system, regardless of how well designed, operated and evaluated, can provide only reasonable, not absolute, assurance that the control objectives will be met.
Other than as described above, the President and Chief Executive Officer and the Chief Financial Officer hereby confirm that there were no changes in the Company’s internal control over financial reporting during the three months ended March 31, 2015 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Part II Other Information
Item 1. Legal Proceedings
The Company is currently evaluating the interpretation of Internal Revenue Code rules related to certain product investments. If the Company’s interpretation is not upheld, which is reasonably possible, the potential exposure is estimated to be up to $21 million.
During the fourth quarter, the Company received a $20 million demand letter related to a vehicle accident involving an employee. The amount is fully indemnified by a third-party insurer.
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Item 1A. Risk Factors
In the normal course of its business, the Company is exposed to certain operational, regulatory and financial risks and uncertainties. The most significant risks include the following:
• | Competition could negatively affect the ability of the Company to maintain or increase market share or profitability. |
• | The insurance and financial services industries are heavily regulated and changes in regulation may reduce profitability. |
• | A downgrade or potential downgrade in the Company’s financial strength or claims paying ratings could result in a loss of business and negatively affect results of operations and financial condition. |
• | Deviations from assumptions regarding future persistency, mortality and interest rates used in calculating liabilities for future policyholder benefits and claims could adversely affect the Company’s results of operations and financial condition. |
• | The Company may be required to accelerate the amortization of DAC or VOBA, or recognize impairment in the value of goodwill, which could adversely affect its results of operations and financial condition. |
• | If the companies that provide reinsurance default or fail to perform or the Company is unable to obtain adequate reinsurance for some of the risks underwritten, the Company could incur significant losses adversely affecting results of operations and financial condition. |
• | Interest rate fluctuations could have a negative impact on results of operations and financial condition. |
• | Market fluctuations and general economic conditions may adversely affect results of operations and financial condition. |
• | Changes in U.S. federal income tax law could make some of the Company’s products less attractive to consumers and increase its tax costs. |
• | The Company may be subject to litigation resulting in substantial awards or settlements and this may adversely affect its reputation and results of operations. |
• | The Company’s risk management policies and procedures may leave it exposed to unidentified or unanticipated risk, which could adversely affect its business, results of operations and financial condition. |
• | The Company may experience difficulty in marketing and distributing products through its current and future distribution channels. |
• | A failure in cyber or information security systems could result in a loss or disclosure of confidential information, damage the Company’s reputation and could impair its ability to conduct business effectively. |
• | The Company could face difficulties, unforeseen liabilities, or asset impairments arising from business acquisitions or integrations and managing growth of such businesses. |
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Item 6. Exhibits
The documents identified below are filed as a part of this report:
Index to Exhibits
Exhibit Number | Title |
31.1 | Rule 13a-14(a)/15-d14(a) Certification |
31.2 | Rule 13a-14(a)/15-d14(a) Certification |
32 | 18 U.S.C. 1350 Certification |
101.INS | XBRL Instance Document |
101.SCH | XBRL Taxonomy Extension Schema Document |
101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document |
101.LAB | XBRL Taxonomy Extension Label Linkbase Document |
101.PRE | XBRL Taxonomy Extension Presentation Linkbase Document |
101.DEF | XBRL Taxonomy Extension Definition Linkbase Document |
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Great-West Life & Annuity Insurance Company
By: | /s/ | Kara Roe | Date: | May 13, 2015 | |
Kara Roe | |||||
Vice President, Controller and Principal Accounting Officer |
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