GLOBE LIFE INC. - FORM 10-Q - August 8, 2018

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EX-32.1 - EXHIBIT 32.1 - GLOBE LIFE INC.tmk201810-qq2exhbit321.htm
EX-31.3 - EXHIBIT 31.3 - GLOBE LIFE INC.tmk201810-qq2exhibit313.htm
EX-31.2 - EXHIBIT 31.2 - GLOBE LIFE INC.tmk201810-qq2exhibit312.htm
EX-31.1 - EXHIBIT 31.1 - GLOBE LIFE INC.tmk201810-qq2exhibit311.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark one)
 
ý
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 
For the quarterly period ended June 30, 2018
 
 
¨
Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 
For the transition period from _________to_________
Commission File Number 1-8052
torchmarklogocolora01rgba36.jpg
TORCHMARK CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE
 
63-0780404
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
3700 South Stonebridge Drive, McKinney, Texas
 
75070
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code (972) 569-4000
NONE
Former name, former address and former fiscal year, if changed since last report.

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes    ý            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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes   ý            No   ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
 
ý
  
Accelerated filer
 
¨
Non-accelerated filer
 
¨ (Do not check if a smaller reporting company)
  
Smaller reporting company
 
¨
 
 
 
 
Emerging growth company
 
¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
 
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes   ¨              No   ý
Indicate the number of shares outstanding for each of the issuer’s classes of common stock, as of the last practicable date.
 
CLASS
 
OUTSTANDING AT July 31, 2018
 
 
Common Stock,
$1.00 Par Value
 
112,693,381
 


INDEX
 
 
 
 
Page
 
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
 
Item 3.
 
 
 
 
Item 4.
 
 
 
 
 
 
 
 
Item 1.
 
 
 
 
Item 1A.
 
 
 
 
Item 2.
 
 
 
 
Item 6.


PART I–FINANCIAL INFORMATION
Item 1.
Condensed Consolidated Financial Statements

TORCHMARK CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
(Dollar amounts in thousands, except per share data)
 
June 30,
2018
 
December 31,
2017
Assets:

 
 
Investments:
 
 
 
Fixed maturities—available for sale, at fair value (amortized cost: 2018—$15,350,152; 2017—$14,995,101)
$
16,284,691

 
$
16,969,325

Policy loans
537,808

 
529,529

Other long-term investments (includes: 2018—$108,452; 2017—$0, under the fair value option)
181,676

 
108,559

Short-term investments
68,544

 
127,071

Total investments
17,072,719

 
17,734,484

Cash
82,230

 
118,563

Accrued investment income
237,985

 
233,453

Other receivables
407,676

 
391,775

Deferred acquisition costs
4,045,890

 
3,958,063

Goodwill
441,591

 
441,591

Other assets
522,042

 
528,536

Assets related to discontinued operations
68,568

 
68,520

Total assets
$
22,878,701

 
$
23,474,985

Liabilities:
 
 
 
Future policy benefits
$
13,702,887

 
$
13,439,472

Unearned and advance premiums
66,872

 
61,430

Policy claims and other benefits payable
329,469

 
333,294

Other policyholders' funds
96,575

 
97,635

Total policy liabilities
14,195,803

 
13,931,831

Current and deferred income taxes payable
1,098,411

 
1,312,002

Other liabilities
474,264

 
489,609

Short-term debt
671,666

 
328,067

Long-term debt (estimated fair value: 2018—$849,903; 2017—$1,228,392)
817,474

 
1,132,201

Liabilities related to discontinued operations
49,474

 
49,854

Total liabilities
17,307,092

 
17,243,564

Commitments and Contingencies (Note 6)

 

Shareholders’ equity:
 
 
 
Preferred stock, par value $1 per share—Authorized 5,000,000 shares; outstanding: -0- in 2018 and 2017
—

 
—

Common stock, par value $1 per share—Authorized 320,000,000 shares; outstanding: (2018—124,218,183 issued, less 11,294,710 held in treasury and 2017—124,218,183 issued, less 9,625,104 held in treasury)
124,218

 
124,218

Additional paid-in capital
517,077

 
508,476

Accumulated other comprehensive income
603,499

 
1,424,274

Retained earnings
5,115,071

 
4,806,208

Treasury stock, at cost
(788,256
)
 
(631,755
)
Total shareholders’ equity
5,571,609

 
6,231,421

Total liabilities and shareholders’ equity
$
22,878,701

 
$
23,474,985


See accompanying Notes to Condensed Consolidated Financial Statements.

1
                                 TMK 2018 FORM 10-Q QTR 2

TORCHMARK CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Dollar amounts in thousands, except per share data)
 
Three Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
2018
 
2017
 
2018
 
2017
Revenue:
 
 
 
 
 
 
 
Life premium
$
602,534

 
$
573,836

 
$
1,200,837

 
$
1,149,673

Health premium
251,440

 
242,775

 
503,238

 
487,566

Other premium
5

 
3

 
10

 
6

Total premium
853,979

 
816,614

 
1,704,085

 
1,637,245

Net investment income
218,568

 
212,776

 
436,652

 
421,058

Realized investment gains (losses)
11,813

 
(705
)
 
13,764

 
(6,453
)
Other income
416

 
393

 
711

 
809

Total revenue
1,084,776

 
1,029,078

 
2,155,212

 
2,052,659

 
 
 
 
 
 
 
 
Benefits and expenses:
 
 
 
 
 
 
 
Life policyholder benefits
399,334

 
390,859

 
799,915

 
781,938

Health policyholder benefits
160,461

 
156,579

 
321,080

 
314,330

Other policyholder benefits
8,582

 
8,977

 
17,271

 
17,923

Total policyholder benefits
568,377

 
556,415

 
1,138,266

 
1,114,191

Amortization of deferred acquisition costs
129,077

 
122,121

 
258,697

 
248,029

Commissions, premium taxes, and non-deferred acquisition costs
69,427

 
65,032

 
139,066

 
130,148

Other operating expense
68,620

 
62,428

 
135,444

 
124,769

Interest expense
22,411

 
21,156

 
44,033

 
41,855

Total benefits and expenses
857,912

 
827,152

 
1,715,506

 
1,658,992

 
 
 
 
 
 
 
 
Income before income taxes
226,864

 
201,926

 
439,706

 
393,667

Income taxes
(42,471
)
 
(61,563
)
 
(81,602
)
 
(116,126
)
Income from continuing operations
184,393

 
140,363

 
358,104

 
277,541

 
 
 
 
 
 
 
 
Income (loss) from discontinued operations, net of tax
32

 
(90
)
 
(79
)
 
(3,727
)
Net income
$
184,425

 
$
140,273

 
$
358,025

 
$
273,814

 
 
 
 
 
 
 
 
Basic net income (loss) per common share:
 
 
 

 
 
 
Continuing operations
$
1.63

 
$
1.20

 
$
3.15

 
$
2.37

Discontinued operations
—

 
—

 
—

 
(0.03
)
Total basic net income per common share
$
1.63

 
$
1.20

 
$
3.15

 
$
2.34

 
 
 
 
 
 
 
 
Diluted net income (loss) per common share:
 
 
 

 
 
 
Continuing operations
$
1.59

 
$
1.18

 
$
3.08

 
$
2.32

Discontinued operations
—

 
—

 
—

 
(0.03
)
Total diluted net income per common share
$
1.59

 
$
1.18

 
$
3.08

 
$
2.29

 
 
 
 
 
 
 
 
Dividends declared per common share
$
0.16

 
$
0.15

 
$
0.32

 
$
0.30






See accompanying Notes to Condensed Consolidated Financial Statements.

2
                                 TMK 2018 FORM 10-Q QTR 2

TORCHMARK CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
(Dollar amounts in thousands)
 
Three Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
2018
 
2017
 
2018
 
2017
Net income
$
184,425

 
$
140,273

 
$
358,025

 
$
273,814

 
 
 
 
 
 
 
 
Other comprehensive income (loss):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Investments:
 
 
 
 
 
 
 
Unrealized gains (losses) on securities:
 
 
 
 
 
 
 
Unrealized holding gains (losses) arising during period
(417,616
)
 
394,004

 
(1,029,164
)
 
609,531

Reclassification adjustment for (gains) losses on securities included in net income
(9,431
)
 
681

 
(10,817
)
 
(354
)
Reclassification adjustment for amortization of (discount) and premium
870

 
(61
)
 
1,560

 
(498
)
Foreign exchange adjustment on securities recorded at fair value
(679
)
 
230

 
(1,264
)
 
245

Unrealized gains (losses) on securities
(426,856
)
 
394,854

 
(1,039,685
)
 
608,924

Unrealized gains (losses) on other investments
1,051

 
2,075

 
(1,802
)
 
3,071

Total unrealized investment gains (losses)
(425,805
)
 
396,929


(1,041,487
)

611,995

Less applicable tax (expense) benefit
89,423

 
(138,931
)
 
218,712

 
(214,254
)
Unrealized investment gains (losses), net of tax
(336,382
)
 
257,998

 
(822,775
)
 
397,741

 
 
 
 
 
 
 
 
Deferred acquisition costs:
 
 
 
 
 
 
 
Unrealized gains (losses) attributable to deferred acquisition costs
2,041

 
(727
)
 
2,491

 
(1,497
)
Less applicable tax (expense) benefit
(429
)
 
254

 
(523
)
 
524

Unrealized gains (losses) attributable to deferred acquisition costs, net of tax
1,612

 
(473
)
 
1,968

 
(973
)
 
 
 
 
 
 
 
 
Foreign exchange translation:
 
 
 
 
 
 
 
Foreign exchange translation adjustments, other than securities
(6,217
)
 
3,302

 
(7,516
)
 
7,516

Less applicable tax (expense) benefit
1,303

 
(1,153
)
 
1,579

 
(1,581
)
Foreign exchange translation adjustments, other than securities, net of tax
(4,914
)
 
2,149

 
(5,937
)
 
5,935

 
 
 
 
 
 
 
 
Pension:
 
 
 
 
 
 
 
Amortization of pension costs
3,778

 
3,109

 
7,556

 
6,218

Experience gain (loss)
—

 
—

 
—

 
371

Pension adjustments
3,778

 
3,109

 
7,556

 
6,589

Less applicable tax (expense) benefit
(794
)
 
(1,088
)
 
(1,587
)
 
(2,306
)
Pension adjustments, net of tax
2,984

 
2,021

 
5,969

 
4,283

 
 
 
 
 
 
 
 
Other comprehensive income (loss)
(336,700
)
 
261,695

 
(820,775
)
 
406,986

Comprehensive income (loss)
$
(152,275
)
 
$
401,968

 
$
(462,750
)
 
$
680,800


See accompanying Notes to Condensed Consolidated Financial Statements.

3
                                 TMK 2018 FORM 10-Q QTR 2

TORCHMARK CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(Unaudited)
(Dollar amounts in thousands, except per share data)
 
 
Preferred Stock
 
Common Stock
 
Additional Paid-in Capital
 
Accumulated Other Comprehensive Income (Loss)
 
Retained Earnings
 
Treasury Stock
 
Total Shareholders’ Equity
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance at January 1, 2017
 
$
—

 
$
127,218

 
$
490,421

 
$
577,574

 
$
3,890,798

 
$
(519,150
)
 
$
4,566,861

Comprehensive income (loss)
 

 

 

 
406,986

 
273,814

 

 
680,800

Common dividends declared ($0.30 per share)
 

 

 

 

 
(35,005
)
 

 
(35,005
)
Acquisition of treasury stock
 

 

 

 

 

 
(203,756
)
 
(203,756
)
Stock-based compensation
 

 

 
9,702

 

 
(606
)
 
7,450

 
16,546

Exercise of stock options
 

 

 


 

 
(16,244
)
 
44,214

 
27,970

Balance at June 30, 2017
 
$
—

 
$
127,218

 
$
500,123

 
$
984,560

 
$
4,112,757

 
$
(671,242
)
 
$
5,053,416

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Preferred Stock
 
Common Stock
 
Additional Paid-in Capital
 
Accumulated Other Comprehensive Income (Loss)
 
Retained Earnings
 
Treasury Stock
 
Total Shareholders’ Equity
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance at January 1, 2018
 
$
—

 
$
124,218

 
$
508,476

 
$
1,424,274

 
$
4,806,208

 
$
(631,755
)
 
$
6,231,421

Adoption of ASU 2016-01(1)
 
 
 
 
 
 
 
 
 
4,896

 
 
 
4,896

Comprehensive income (loss)
 

 

 

 
(820,775
)
 
358,025

 

 
(462,750
)
Common dividends declared ($0.32 per share)
 

 

 

 

 
(36,278
)
 

 
(36,278
)
Acquisition of treasury stock
 

 

 

 

 

 
(206,589
)
 
(206,589
)
Stock-based compensation
 

 

 
8,601

 

 
(1,803
)
 
12,759

 
19,557

Exercise of stock options
 

 

 


 

 
(15,977
)
 
37,329

 
21,352

Balance at June 30, 2018
 
$
—

 
$
124,218

 
$
517,077

 
$
603,499

 
$
5,115,071

 
$
(788,256
)
 
$
5,571,609


(1)











See accompanying Notes to Condensed Consolidated Financial Statements.

4
                                 TMK 2018 FORM 10-Q QTR 2

TORCHMARK CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollar amounts in thousands)

 
Six Months Ended June 30,
 
2018
 
2017
Cash provided from operating activities
$
616,520

 
$
739,056

 
 
 
 
Cash provided from (used for) investing activities:
 
 
 
Investments sold or matured:
 
 
 
Fixed maturities available for sale—matured, called, and repaid
179,793

 
216,170

Other long-term investments
23

 
3,046

Total long-term investments sold or matured
179,816

 
219,216

Acquisition of investments:
 
 
 
Fixed maturities—available for sale
(540,442
)
 
(676,648
)
Other long-term investments
(64,444
)
 
(1,775
)
Total investments acquired
(604,886
)
 
(678,423
)
Net (increase) decrease in policy loans
(8,279
)
 
(8,089
)
Net (increase) decrease in short-term investments
58,527

 
(22,347
)
Additions to property and equipment
(18,735
)
 
(8,080
)
Sale of other assets
17

 
18

Investment in low-income housing interests
(15,701
)
 
(8,875
)
Cash provided from (used for) investing activities
(409,241
)
 
(506,580
)
 
 
 
 
Cash provided from (used for) financing activities:
 
 
 
Issuance of common stock
21,352

 
27,970

Cash dividends paid to shareholders
(35,406
)
 
(34,093
)
Repayment of debt
(21,875
)
 
(625
)
Net borrowing (repayment) of commercial paper
50,213

 
40,546

Acquisition of treasury stock
(206,589
)
 
(203,756
)
Net receipts (payments) from deposit-type product
(58,662
)
 
(44,294
)
Cash provided from (used for) financing activities
(250,967
)
 
(214,252
)
 
 
 
 
Effect of foreign exchange rate changes on cash
7,355

 
3,265

Net increase (decrease) in cash
(36,333
)
 
21,489

Cash at beginning of year
118,563

 
76,163

Cash at end of period
$
82,230

 
$
97,652













See accompanying Notes to Condensed Consolidated Financial Statements.

5
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)



Note 1—Significant Accounting Policies
Basis of Presentation: The accompanying condensed consolidated financial statements of Torchmark Corporation (Torchmark or alternatively, the Company) have been prepared in accordance with the instructions to Form 10-Q. Therefore, they do not include all of the annual disclosures required by accounting principles generally accepted in the United States of America (GAAP). However, in the opinion of management, these statements include all adjustments, consisting of normal recurring adjustments, which are necessary for a fair presentation of the condensed consolidated financial position at June 30, 2018, and the condensed consolidated results of operations, comprehensive income, and cash flows for the periods ended June 30, 2018 and 2017. The interim period condensed consolidated financial statements should be read in conjunction with the Consolidated Financial Statements that are included in the Form 10-K filed with the Securities Exchange Commission (SEC) on February 26, 2018.
Note 2—New Accounting Standards
Accounting Pronouncements Adopted in the Current Year:
ASU 2016-01: In January 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2016-01, Financial Instruments—Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, which primarily revises the classification and measurement of certain equity investments such that they will be measured at fair value through net income. Additionally, the guidance eliminates the cost method for partnerships and joint ventures and requires these types of investments to be accounted for under the fair value through net income or equity method. This standard became effective for the Company on January 1, 2018.
On January 1, 2018, the Company adopted this standard on a modified retrospective basis for two types of investments: equity securities and limited partnerships. The adoption resulted in a $4.9 million after tax positive adjustment to the opening balance of retained earnings. Subsequent to the adoption, the Company elected to measure its investment in certain limited partnerships at fair value in accordance with the fair value option for financial instruments with changes recognized in "Realized Investment Gains (Losses)" in the Condensed Consolidated Statements of Operations. As of June 30, 2018, the fair value balance of the limited partnerships were $108 million. See Note 4—Investments for further discussion.
ASU 2016-15: In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments to provide uniformity in the classification of cash receipts and payments recorded in the statement of cash flows including debt prepayment or debt extinguishment costs, settlement of zero-coupon bonds, and proceeds from the settlement of insurance claims. This standard became effective on January 1, 2018 and did not have a significant impact to the classification on the Condensed Statement of Cash Flows.
ASU 2016-16: In October 2016, the FASB issued ASU No. 2016-16, Income Taxes (Topic 740): Intra-Entity Transfer of Assets Other Than Inventory. This guidance was issued to improve the accounting for income tax consequences of intra-entity transfers of assets other than inventory by allowing the immediate recognition of the current and deferred income tax effects. Current guidance prohibits the recognition of current and deferred income taxes for an intra-entity transfer until the asset has been sold to an outside party. This guidance is applied on a modified retrospective approach and became effective on January 1, 2018. This adoption did not have a significant impact on the financial statements.
ASU 2017-07: In March 2017, the FASB issued ASU No. 2017-07, Compensation—Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. This guidance was issued to simplify the reporting of pension costs by disaggregating the service-cost component from the other components of net benefit costs and reporting it separately on the income statement. The service-cost component is the only component of net benefit cost that will be eligible for capitalization. The guidance became effective on January 1, 2018 with a retrospective transition method for separation of net benefit costs and a prospective transition method for the capitalization of service costs. The Company will record approximately $3.5 million in additional expense to the 2018 Condensed Consolidated Statements of Operations due to the elimination of the ability to capitalize a portion of the benefit costs. For the six months ended June 30, 2018, the Company recorded $1.6 million in additional expense.

6
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 2—New Accounting Standards (continued)


ASU 2017-09: In May 2017, the FASB issued ASU No. 2017-09, Compensation—Stock Compensation (Topic 718): Scope of Modification Accounting. This guidance was issued to provide clarity and guidance regarding changes to the terms or conditions of a share-based payment award that requires an entity to apply modification accounting. It became effective on January 1, 2018. The adoption had no significant impact on the financial statements as modifications to stock compensation are infrequent.
ASU 2018-02: In February 2018, the FASB issued ASU No. 2018-02, Income Statement—Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income (AOCI). This guidance was issued to allow the reclassification of taxes from AOCI to retained earnings as a result of the reduction in corporate income tax rates due to the Tax Cuts and Jobs Act of 2017 (Tax Legislation). Current accounting requires the effect of changes in tax rates used to measure deferred tax assets and liabilities to be reported in net income as of the date of enactment even though deferred taxes were previously recognized in AOCI (stranded taxes). This guidance, however, allows a company to elect to reclassify the stranded taxes in AOCI to retained earnings and is effective for years beginning after December 15, 2018, with early adoption permitted. The Company elected to early adopt this guidance resulting in a reclassification of $252 million from AOCI to retained earnings for the period ended December 31, 2017.
Accounting Pronouncements Not Yet Adopted
ASU 2016-02/ASU 2018-11: In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), with clarification guidance issued in July 2018. The guidance requires lessees to record a right-of-use asset and corresponding lease liability on the balance sheet for all operating leases that do not qualify for the practical expedients allowed for in this standard. Additional qualitative and quantitative disclosures will be required. This standard will become effective for the Company beginning January 1, 2019. The Company plans to adopt the transition method allowed for under ASU 2018-11 and will not restate comparative periods upon adoption. Early adoption is permitted. The Company does not expect the adoption to have a significant impact on the financial statements. Refer to Note 15—Commitments and Contingencies of the 2017 10-K for consideration of the noncancelable operating lease commitments. The Company is not a lessor.
ASU 2016-13: In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments as well as to change the loss impairment methodology for available-for-sale debt securities by use of an allowance rather than a direct write-down. This standard will become effective on January 1, 2020. The applicable section of the standard related to debt securities requires a prospective transition. The Company does not expect the adoption to have a significant impact on the financial statements as we have limited credit losses with respect to our current available-for-sale portfolio.
ASU 2017-04: In January 2017, the FASB issued ASU No. 2017-04, Intangibles—Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. This guidance was issued to simplify the subsequent measurement of goodwill through the elimination of Step 2 from the goodwill impairment test which required a hypothetical purchase price allocation. It will become effective on January 1, 2020 and should be applied on a prospective basis. This adoption will not have an impact to the financial statements.
ASU 2017-08: In March 2017, the FASB issued ASU No. 2017-08, Receivables—Nonrefundable Fees and Other Costs (Topic 310-20): Premium Amortization on Purchased Callable Debt Securities. This guidance was issued to shorten the amortization period for certain callable debt securities held at a premium. The guidance requires the premium to be amortized to the earliest call date. It will become effective on January 1, 2019 with early adoption permitted, including during interim periods. The adoption is to be applied on a modified retrospective basis through an adjustment to retained earnings. This adoption will not have a significant impact on the financial statements.




7
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)


Note 3—Supplemental Information about Changes to Accumulated Other Comprehensive Income

An analysis of the change in balance by component of Accumulated Other Comprehensive Income is as follows for the three and six month periods ended June 30, 2018 and 2017.

Components of Accumulated Other Comprehensive Income

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended June 30, 2017
 
Available
for Sale
Assets
 
Deferred
Acquisition
Costs
 
Foreign
Exchange
 
Pension
Adjustments
 
Total
Balance at April 1, 2017
$
832,057

 
$
(7,182
)
 
$
8,753

 
$
(110,763
)
 
$
722,865

Other comprehensive income (loss) before reclassifications, net of tax
257,595

 
(473
)
 
2,149

 
—

 
259,271

Reclassifications, net of tax
403

 
—

 
—

 
2,021

 
2,424

Other comprehensive income (loss)
257,998

 
(473
)
 
2,149

 
2,021

 
261,695

Balance at June 30, 2017
$
1,090,055

 
$
(7,655
)
 
$
10,902

 
$
(108,742
)
 
$
984,560

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended June 30, 2018
 
Available
for Sale
Assets
 
Deferred
Acquisition
Costs
 
Foreign
Exchange
 
Pension
Adjustments
 
Total
Balance at April 1, 2018
$
1,082,896

 
$
(8,191
)
 
$
15,279

 
$
(149,785
)
 
$
940,199

Other comprehensive income (loss) before reclassifications, net of tax
(329,619
)
 
1,612

 
(4,914
)
 
—

 
(332,921
)
Reclassifications, net of tax
(6,763
)
 
—

 
—

 
2,984

 
(3,779
)
Other comprehensive income (loss)
(336,382
)
 
1,612

 
(4,914
)
 
2,984

 
(336,700
)
Balance at June 30, 2018
$
746,514

 
$
(6,579
)
 
$
10,365

 
$
(146,801
)
 
$
603,499













8
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands except, per share data)

Note 3—Supplemental Information about Changes to Accumulated Other Comprehensive Income (continued)



 
 
Six Months Ended June 30, 2017
 
 
Available
for Sale
Assets
 
Deferred
Acquisition
Costs
 
Foreign
Exchange
 
Pension
Adjustments
 
Total
Balance at January 1, 2017
 
$
692,314

 
$
(6,682
)
 
$
4,967

 
$
(113,025
)
 
$
577,574

Other comprehensive income (loss) before reclassifications, net of tax
 
398,295

 
(973
)
 
5,935

 
241

 
403,498

Reclassifications, net of tax
 
(554
)
 
—

 
—

 
4,042

 
3,488

Other comprehensive income (loss)
 
397,741

 
(973
)
 
5,935

 
4,283

 
406,986

Balance at June 30, 2017
 
$
1,090,055

 
$
(7,655
)
 
$
10,902

 
$
(108,742
)
 
$
984,560

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Six Months Ended June 30, 2018
 
 
Available
for Sale
Assets
 
Deferred
Acquisition
Costs
 
Foreign
Exchange
 
Pension
Adjustments
 
Total
Balance at January 1, 2018
 
$
1,569,289

 
$
(8,547
)
 
$
16,302

 
$
(152,770
)
 
$
1,424,274

Other comprehensive income (loss) before reclassifications, net of tax
 
(815,462
)
 
1,968

 
(5,937
)
 
—

 
(819,431
)
Reclassifications, net of tax
 
(7,313
)
 
—

 
—

 
5,969

 
(1,344
)
Other comprehensive income (loss)
 
(822,775
)
 
1,968

 
(5,937
)
 
5,969

 
(820,775
)
Balance at June 30, 2018
 
$
746,514

 
$
(6,579
)
 
$
10,365

 
$
(146,801
)
 
$
603,499

 

9
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands except, per share data)

Note 3—Supplemental Information about Changes to Accumulated Other Comprehensive Income (continued)



                                                                                                                                                          

Reclassifications out of Accumulated Other Comprehensive Income are presented below for the three and six month periods ended June 30, 2018 and 2017.
Reclassification Adjustments
  
 
Three Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Affected line items in the
Statement of Operations
 
 
2018
 
2017
 
2018
 
2017
 
Unrealized investment gains (losses) on available for sale assets:
 
 
 
 
 
 
 
 
 
 
Realized (gains) losses
 
$
(9,431
)
 
$
681

 
$
(10,817
)
 
$
(354
)
 
Realized investment gains (losses)
Amortization of (discount) premium
 
870

 
(61
)
 
1,560

 
(498
)
 
Net investment income
Total before tax
 
(8,561
)
 
620

 
(9,257
)
 
(852
)
 
 
Tax
 
1,798

 
(217
)
 
1,944

 
298

 
Income taxes
Total after tax
 
(6,763
)
 
403

 
(7,313
)
 
(554
)
 
 
Pension adjustments:
 
 
 
 
 
 
 
 
 
 
Amortization of prior service cost
 
119

 
119

 
238

 
238

 
Other operating expense
Amortization of actuarial gain (loss)
 
3,659

 
2,990

 
7,318

 
5,980

 
Other operating expense
Total before tax
 
3,778

 
3,109

 
7,556

 
6,218

 
 
Tax
 
(794
)
 
(1,088
)
 
(1,587
)
 
(2,176
)
 
Income taxes
Total after tax
 
2,984

 
2,021

 
5,969

 
4,042

 
 
Total reclassifications (after tax)
 
$
(3,779
)
 
$
2,424

 
$
(1,344
)
 
$
3,488

 
 


10
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)


Note 4—Investments
Portfolio Composition:
A summary of fixed maturities available for sale by cost or amortized cost and estimated fair value at June 30, 2018 and December 31, 2017 is as follows:
 
June 30, 2018
 
Cost or
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair Value(1)
 
% of Total
Fixed
Maturities(2)
Fixed maturities available for sale:
 
 
 
 
 
 
 
 
 
U.S. Government direct, guaranteed, and government-sponsored enterprises
$
390,021

 
$
2,266

 
$
(4,383
)
 
$
387,904

 
2
States, municipalities, and political subdivisions
1,232,142

 
103,365

 
(281
)
 
1,335,226

 
9
Foreign governments
19,609

 
1,705

 
—

 
21,314

 
—
Corporates, by sector:
 
 
 
 
 
 
 
 
 
Financial
3,372,221

 
269,494

 
(51,445
)
 
3,590,270

 
22
Utilities
1,947,899

 
255,504

 
(12,164
)
 
2,191,239

 
14
Energy
1,619,674

 
133,584

 
(40,101
)
 
1,713,157

 
11
Other corporate sectors
6,183,619

 
362,020

 
(146,563
)
 
6,399,076

 
39
Total corporates
13,123,413

 
1,020,602

 
(250,273
)
 
13,893,742

 
86
Collateralized debt obligations
58,582

 
23,437

 
(5,823
)
 
76,196

 
—
Other asset-backed securities
150,843

 
2,386

 
(429
)
 
152,800

 
1
Redeemable preferred stocks, by sector:
 
 
 
 
 
 
 
 
 
Financial
347,014

 
45,481

 
(4,518
)
 
387,977

 
2
Utilities
28,528

 
1,360

 
(356
)
 
29,532

 
—
Total redeemable preferred stocks
375,542

 
46,841

 
(4,874
)
 
417,509

 
2
Total fixed maturities
$
15,350,152

 
$
1,200,602

 
$
(266,063
)
 
$
16,284,691

 
100
(1)
Amounts reported on the balance sheet.
(2)
At fair value.

11
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 4—Investments (continued)

 
December 31, 2017
 
Cost or
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair Value(1)
 
% of Total
Fixed
Maturities(2)
Fixed maturities available for sale:
 
 
 
 
 
 
 
 
 
U.S. Government direct, guaranteed, and government-sponsored enterprises
$
390,646

 
$
18,173

 
$
(1,373
)
 
$
407,446

 
2
States, municipalities, and political subdivisions
1,091,960

 
127,890

 
(135
)
 
1,219,715

 
7
Foreign governments
20,236

 
1,782

 
—

 
22,018

 
—
Corporates, by sector:
 
 
 
 
 
 


 
 
Financial
3,282,526

 
475,961

 
(23,392
)
 
3,735,095

 
22
Utilities
1,955,737

 
369,406

 
(1,298
)
 
2,323,845

 
14
Energy
1,619,349

 
226,140

 
(25,392
)
 
1,820,097

 
11
Other corporate sectors
6,065,803

 
747,612

 
(20,616
)
 
6,792,799

 
40
Total corporates
12,923,415

 
1,819,119

 
(70,698
)
 
14,671,836

 
87
Collateralized debt obligations
59,150

 
20,084

 
(7,653
)
 
71,581

 
—
Other asset-backed securities
144,520

 
4,835

 
—

 
149,355

 
1
Redeemable preferred stocks, by sector:
 
 
 
 
 
 
 
 
 
Financial
336,621

 
62,892

 
(2,727
)
 
396,786

 
3
Utilities
28,553

 
2,132

 
(97
)
 
30,588

 
—
Total redeemable preferred stocks
365,174

 
65,024

 
(2,824
)
 
427,374

 
3
Total fixed maturities
$
14,995,101

 
$
2,056,907

 
$
(82,683
)
 
$
16,969,325

 
100
(1)
Amounts reported on the balance sheet.
(2)
At fair value.

A schedule of fixed maturities available for sale by contractual maturity date at June 30, 2018 is shown below on an amortized cost basis and on a fair value basis. Actual disposition dates could differ from contractual maturities due to call or prepayment provisions.
 
June 30, 2018
 
Amortized
Cost
 
Fair Value
Fixed maturities available for sale:
 
 
 
Due in one year or less
$
80,564

 
$
81,901

Due after one year through five years
732,395

 
757,040

Due after five years through ten years
1,611,476

 
1,745,491

Due after ten years through twenty years
5,051,297

 
5,607,509

Due after twenty years
7,664,183

 
7,862,890

Mortgage-backed and asset-backed securities
210,237

 
229,860

 
$
15,350,152

 
$
16,284,691


There were no sales of fixed maturities available for sale as of June 30, 2018 or 2017.
 
 
 
 

12
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 4—Investments (continued)

Fair Value Measurements: The following tables represents the fair value of fixed maturities available for sale measured on a recurring basis at June 30, 2018 and December 31, 2017.
 
Fair Value Measurements at June 30, 2018 using:
Description
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
 
Significant Other
Observable
Inputs (Level 2)
 
Significant
Unobservable
Inputs (Level 3)
 
Total Fair
Value
Fixed maturities available for sale:
 
 
 
 
 
 
 
U.S. Government direct, guaranteed, and government-sponsored enterprises
$
—

 
$
387,904

 
$
—

 
$
387,904

States, municipalities, and political subdivisions
—

 
1,335,226

 
—

 
1,335,226

Foreign governments
—

 
21,314

 
—

 
21,314

Corporates, by sector:
 
 
 
 
 
 
 
Financial
—

 
3,529,651

 
60,619

 
3,590,270

Utilities
—

 
2,044,141

 
147,098

 
2,191,239

Energy
—

 
1,673,305

 
39,852

 
1,713,157

Other corporate sectors
—

 
6,069,835

 
329,241

 
6,399,076

Total corporates
—

 
13,316,932

 
576,810

 
13,893,742

Collateralized debt obligations
—

 
—

 
76,196

 
76,196

Other asset-backed securities
—

 
139,647

 
13,153

 
152,800

Redeemable preferred stocks, by sector:
 
 
 
 
 
 
 
Financial
—

 
387,977

 
—

 
387,977

Utilities
—

 
29,532

 
—

 
29,532

Total redeemable preferred stocks
—

 
417,509

 
—

 
417,509

Total fixed maturities
$
—

 
$
15,618,532

 
$
666,159

 
$
16,284,691

Percent of total
—
%
 
95.9
%
 
4.1
%
 
100.0
%

13
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 4—Investments (continued)

 
Fair Value Measurements at December 31, 2017 using:
Description
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
 
Significant Other
Observable
Inputs (Level 2)
 
Significant
Unobservable
Inputs (Level 3)
 
Total Fair
Value
Fixed maturities available for sale:
 
 
 
 
 
 
 
U.S. Government direct, guaranteed, and government-sponsored enterprises
$
—

 
$
407,446

 
$
—

 
$
407,446

States, municipalities, and political subdivisions
44

 
1,219,671

 
—

 
1,219,715

Foreign governments
—

 
22,018

 
—

 
22,018

Corporates, by sector:
 
 
 
 
 
 


Financial
—

 
3,673,089

 
62,006

 
3,735,095

Utilities
—

 
2,168,115

 
155,730

 
2,323,845

Energy
—

 
1,779,281

 
40,816

 
1,820,097

Other corporate sectors
—

 
6,468,541

 
324,258

 
6,792,799

Total corporates
—

 
14,089,026

 
582,810

 
14,671,836

Collateralized debt obligations
—

 
—

 
71,581

 
71,581

Other asset-backed securities
—

 
135,306

 
14,049

 
149,355

Redeemable preferred stocks, by sector:
 
 
 
 
 
 
 
Financial
—

 
396,786

 
—

 
396,786

Utilities
—

 
30,588

 
—

 
30,588

Total redeemable preferred stocks
—

 
427,374

 
—

 
427,374

Total fixed maturities
$
44

 
$
16,300,841

 
$
668,440

 
$
16,969,325

Percentage of total
—
%
 
96.1
%
 
3.9
%
 
100.0
%

The following tables represent an analysis of changes in fair value measurements using significant unobservable inputs (Level 3) for the six months ended June 30, 2018 and 2017.
Analysis of Changes in Fair Value Measurements Using
Significant Unobservable Inputs (Level 3)
 
Six Months Ended June 30, 2018
 
Asset-
Backed
Securities
 
Collateralized
Debt
Obligations
 
Corporates(1)
 
Total
Balance at January 1, 2018
$
14,049

 
$
71,581

 
$
582,810

 
$
668,440

Total gains or losses:
 
 
 
 
 
 
 
Included in realized gains/losses
—

 
—

 
—

 
—

Included in other comprehensive income
(697
)
 
5,183

 
(19,611
)
 
(15,125
)
Acquisitions
—

 
—

 
20,300

 
20,300

Sales
—

 
—

 
—

 
—

Amortization
—

 
2,389

 
8

 
2,397

Other(2)
(199
)
 
(2,957
)
 
(6,697
)
 
(9,853
)
Transfers in and/or out of Level 3(3)
—

 
—

 
—

 
—

Balance at June 30, 2018
$
13,153

 
$
76,196

 
$
576,810

 
$
666,159

Percent of total fixed maturities
0.1
%
 
0.5
%
 
3.5
%
 
4.1
%
(1)
Includes redeemable preferred stocks.
(2)
Includes capitalized interest, foreign exchange adjustments, and principal repayments.
(3)
Considered to be transferred at the end of the period. Transfers into Level 3 occur when observable inputs are no longer available. Transfers out of Level 3 occur when observable inputs become available.


14
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 4—Investments (continued)

 
Six Months Ended June 30, 2017
 
Asset-
Backed
Securities
 
Collateralized
Debt
Obligations
 
Corporates(1)
 
Total
Balance at January 1, 2017
$
—

 
$
63,503

 
$
559,600

 
$
623,103

Total gains or losses:
 
 
 
 
 
 
 
Included in realized gains/losses
—

 
—

 
—

 
—

Included in other comprehensive income
261

 
3,597

 
11,637

 
15,495

Acquisitions
14,000

 
—

 
21,666

 
35,666

Sales
—

 
—

 
—

 
—

Amortization
—

 
2,481

 
8

 
2,489

Other(2)
(108
)
 
(3,336
)
 
(6,625
)
 
(10,069
)
Transfers in and/or out of Level 3(3)
—

 
—

 
—

 
—

Balance at June 30, 2017
$
14,153

 
$
66,245

 
$
586,286

 
$
666,684

Percent of total fixed maturities
0.1
%
 
0.4
%
 
3.6
%
 
4.1
%
(1)
Includes redeemable preferred stocks.
(2)
Includes capitalized interest, foreign exchange adjustments, and principal repayments.
(3)
Considered to be transferred at the end of the period. Transfers into Level 3 occur when observable inputs are no longer available. Transfers out of Level 3 occur when observable inputs become available.


The following table presents transfers in and out of each of the valuation levels of fair values.
 
 
Six Months Ended June 30,
 
 
2018
 
2017
 
 
In
 
Out
 
Net
 
In
 
Out
 
Net
Level 1
 


 
$
—

 
$
—

 
$
4

 
$
(597
)
 
$
(593
)
Level 2
 
—

 
—

 
—

 
597

 
(4
)
 
593

Level 3
 
—

 
—

 
—

 
—

 
—

 
—



15
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 4—Investments (continued)

Fair Value Option:

As discussed in Note 2—New Accounting Standards, the Company elected the fair value option in the first quarter of 2018, subsequent to the adoption of ASU 2016-01, to record its investment in certain limited partnerships at fair value with changes recognized in "Realized Investment Gains (Losses)" in the Condensed Consolidated Statements of Operations in accordance with ASC 825. Distributions received on a semi-annual basis are recorded in Net Investment Income. The limited partnerships are recorded in Other Long-Term Investments on the Condensed Consolidated Balance Sheets.

The following table represents the fair value of investments elected for the fair value option method measured on a recurring basis at June 30, 2018, and the changes in fair value for the six months ended June 30, 2018.
 
Fair Value Measurements at June 30, 2018
 
Changes in Fair Values for the Period for Items Measured at Fair Value Pursuant to Election of the Fair Value Option
 
 Quoted Prices in Active Markets for Identical Assets (Level 1)
 
 Significant Other Observable Inputs (Level 2)
 
 Significant Unobservable Inputs
(Level 3)
 
 Total Fair Value
 
 Net Gains and Losses Recognized During the Period
 
 Less Net Gains and Losses Recognized due to Sales
 
 Total Changes in Fair Values Included in Current-Period Earnings
Limited partnerships
$
—

 
$
108,452

 
$
—

 
$
108,452

 
$
2,861

 
$
—

 
$
2,861


Other-Than-Temporary Impairments:

In accordance with the other-than-temporary impairment (OTTI) policy, the Company evaluated its fixed maturities available for sale in an unrealized loss position to determine if there was any impairment for the quarter. Gross unrealized losses may fluctuate quarter over quarter due to adverse factors in the market that affect our holdings, such as changes in the interest rates or credit spreads. While the Company holds securities that may be in an unrealized loss position from time to time, Torchmark has the ability and intent to hold these investments to recovery. Additionally, Torchmark does not expect to be required to sell any of its securities due to the strong cash flows generated by its insurance operations.

For the three and six months ended June 30, 2018, the Company concluded that there were no other-than-temporary impairments. For the comparable period in 2017, the Company recorded $245 thousand ($159 thousand, net of tax) in OTTI.

Unrealized Loss Analysis:

The following table discloses information about fixed maturities available for sale in an unrealized loss position.
 
 
Less than
Twelve Months
 
Twelve Months
or Longer
 
Total
Number of issues (CUSIP numbers) held:
 
 
 
 
 
 
As of June 30, 2018
 
489

 
99

 
588

As of December 31, 2017
 
92

 
102

 
194


Torchmark’s entire fixed maturity portfolio consisted of 1,532 issues at June 30, 2018 and 1,502 issues at December 31, 2017. The weighted average quality rating of all unrealized loss positions as of June 30, 2018 was BBB+ compared with BBB- as of December 31, 2017.

16
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 4—Investments (continued)

The following tables disclose unrealized investment losses by class and major sector of fixed maturities available for sale at June 30, 2018 and December 31, 2017 for the respective periods of time in a loss position. Torchmark considers these investments to be only temporarily impaired.
Analysis of Gross Unrealized Investment Losses
At June 30, 2018
 
 
Less than
Twelve Months
 
Twelve Months
or Longer
 
Total
Description of Securities
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
Fixed maturities available for sale:
 
 
 
 
 
 
 
 
 
 
 
Investment grade securities:
 
 
 
 
 
 
 
 
 
 
 
U.S. Government direct, guaranteed, and government-sponsored enterprises
$
172,110

 
$
(3,061
)
 
$
38,389

 
$
(1,322
)
 
$
210,499

 
$
(4,383
)
States, municipalities and political subdivisions
35,311

 
(268
)
 
1,190

 
(13
)
 
36,501

 
(281
)
Corporates, by sector:
 
 
 
 
 
 
 
 
 
 
 
Financial
816,233

 
(29,495
)
 
53,487

 
(3,995
)
 
869,720

 
(33,490
)
Utilities
292,562

 
(10,578
)
 
31,417

 
(1,501
)
 
323,979

 
(12,079
)
Energy
221,851

 
(10,100
)
 
49,555

 
(7,078
)
 
271,406

 
(17,178
)
Other corporate sectors
2,462,504

 
(109,374
)
 
154,756

 
(19,286
)
 
2,617,260

 
(128,660
)
Total corporates
3,793,150

 
(159,547
)
 
289,215

 
(31,860
)
 
4,082,365

 
(191,407
)
Other asset-backed securities
36,920

 
(429
)
 
—

 
—

 
36,920

 
(429
)
Redeemable preferred stocks, by sector:
 
 
 
 
 
 
 
 
 
 
 
Financial
10,127

 
(680
)
 
—

 
—

 
10,127

 
(680
)
Utilities
—

 
—

 
5,667

 
(356
)
 
5,667

 
(356
)
Total redeemable preferred stocks
10,127

 
(680
)
 
5,667

 
(356
)
 
15,794

 
(1,036
)
Total investment grade securities
4,047,618

 
(163,985
)
 
334,461

 
(33,551
)
 
4,382,079

 
(197,536
)
 
 
 
 
 
 
 
 
 
 
 
 
Below investment grade securities:
 
 
 
 
 
 
 
 
 
 
 
Corporates, by sector:


 


 


 


 
 
 
 
Financial
26,070

 
(4,704
)
 
61,706

 
(13,251
)
 
87,776

 
(17,955
)
Utilities
15,098

 
(85
)
 
—

 
—

 
15,098

 
(85
)
Energy
26,166

 
(1,010
)
 
67,777

 
(21,913
)
 
93,943

 
(22,923
)
Other corporate sectors
78,721

 
(7,108
)
 
52,397

 
(10,795
)
 
131,118

 
(17,903
)
Total corporates
146,055

 
(12,907
)
 
181,880

 
(45,959
)
 
327,935

 
(58,866
)
Collateralized debt obligations
—

 
—

 
14,177

 
(5,823
)
 
14,177

 
(5,823
)
Redeemable preferred stocks, by sector:
 
 
 
 
 
 
 
 
 
 
 
Financial
—

 
—

 
23,252

 
(3,838
)
 
23,252

 
(3,838
)
Total redeemable preferred stocks
—

 
—

 
23,252

 
(3,838
)
 
23,252

 
(3,838
)
Total below investment grade securities
146,055

 
(12,907
)
 
219,309

 
(55,620
)
 
365,364

 
(68,527
)
Total fixed maturities
$
4,193,673

 
$
(176,892
)
 
$
553,770

 
$
(89,171
)
 
$
4,747,443

 
$
(266,063
)


17
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 4—Investments (continued)

Analysis of Gross Unrealized Investment Losses
At December 31, 2017
 
Less than
Twelve Months
 
Twelve Months
or Longer
 
Total
Description of Securities
Fair
Value
 
Unrealized
Loss
 
Fair Value
 
Unrealized
Loss
 
Fair Value
 
Unrealized
Loss
Fixed maturities available for sale:
 
 
 
 
 
 
 
 
 
 
 
Investment grade securities:
 
 
 
 
 
 
 
 
 
 
 
U.S. Government direct, guaranteed, and government-sponsored enterprises
$
34,388

 
$
(422
)
 
$
47,514

 
$
(951
)
 
$
81,902

 
$
(1,373
)
States, municipalities and political subdivisions
4,561

 
(21
)
 
1,771

 
(9
)
 
6,332

 
(30
)
Corporates, by sector:
 
 
 
 
 
 
 
 
 
 
 
Financial
133,080

 
(652
)
 
35,302

 
(1,429
)
 
168,382

 
(2,081
)
Utilities
48,562

 
(569
)
 
32,345

 
(729
)
 
80,907

 
(1,298
)
Energy
23,463

 
(81
)
 
67,775

 
(3,682
)
 
91,238

 
(3,763
)
Other corporate sectors
220,661

 
(2,312
)
 
163,886

 
(4,257
)
 
384,547

 
(6,569
)
Total corporates
425,766

 
(3,614
)
 
299,308

 
(10,097
)
 
725,074

 
(13,711
)
Redeemable preferred stocks, by sector:
 
 
 
 
 
 
 
 
 
 
 
Utilities
—

 
—

 
5,953

 
(97
)
 
5,953

 
(97
)
Total redeemable preferred stocks
—

 
—

 
5,953

 
(97
)
 
5,953

 
(97
)
Total investment grade securities
464,715

 
(4,057
)
 
354,546

 
(11,154
)
 
819,261

 
(15,211
)
 
 
 
 
 
 
 
 
 
 
 
 
Below investment grade securities:
 
 
 
 
 
 
 
 
 
 
 
States, municipalities and political subdivisions
200

 
(105
)
 
—

 
—

 
200

 
(105
)
Corporates, by sector:
 
 
 
 
 
 
 
 
 
 
 
Financial
—

 
—

 
84,432

 
(21,311
)
 
84,432

 
(21,311
)
Energy
8,114

 
(104
)
 
75,204

 
(21,525
)
 
83,318

 
(21,629
)
Other corporate sectors
25,334

 
(5,066
)
 
54,383

 
(8,981
)
 
79,717

 
(14,047
)
Total corporates
33,448

 
(5,170
)
 
214,019

 
(51,817
)
 
247,467

 
(56,987
)
Collateralized debt obligations
—

 
—

 
12,347

 
(7,653
)
 
12,347

 
(7,653
)
Redeemable preferred stocks, by sector:
 
 
 
 
 
 
 
 
 
 
 
Financial
—

 
—

 
24,376

 
(2,727
)
 
24,376

 
(2,727
)
Total redeemable preferred stocks
—

 
—

 
24,376

 
(2,727
)
 
24,376

 
(2,727
)
Total below investment grade securities
33,648

 
(5,275
)
 
250,742

 
(62,197
)
 
284,390

 
(67,472
)
Total fixed maturities
$
498,363

 
$
(9,332
)
 
$
605,288

 
$
(73,351
)
 
$
1,103,651

 
$
(82,683
)



18
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)


Note 5—Income Taxes

In 2017, the newly enacted tax legislation revised the corporate income tax rate from 35% to 21% effective January 1, 2018. The change in tax rates was the primary reason for the difference in the Company’s effective tax rate as compared with the prior year periods.

The effective income tax rate differed from the expected rate for the three and six month periods ended June 30, 2018 and 2017 as shown below:
 
 
 
 
 
 
 
 
 
Three Months Ended June 30,
 
2018
 
%
 
2017
 
%
Expected income taxes
$
47,641

 
21.0

 
$
70,674

 
35.0

Increase (reduction) in income taxes resulting from:
 
 
 
 
 
 
 
Low income housing investments
(3,324
)
 
(1.5
)
 
(4,649
)
 
(2.3
)
Share-based awards
(2,055
)
 
(0.9
)
 
(4,018
)
 
(2.0
)
Other
209

 
0.1

 
(444
)
 
(0.2
)
Income tax expense (benefit) from continuing operations
$
42,471

 
18.7

 
$
61,563

 
30.5


 
Six Months Ended June 30,
 
2018
 
%
 
2017
 
%
Expected income taxes
$
92,338

 
21.0

 
$
137,783

 
35.0

Increase (reduction) in income taxes resulting from:
 
 
 
 
 
 
 
Low income housing investments
(6,649
)
 
(1.5
)
 
(9,298
)
 
(2.4
)
Share-based awards
(4,254
)
 
(1.0
)
 
(9,439
)
 
(2.4
)
Other
167

 
—

 
(2,920
)
 
(0.7
)
Income tax expense (benefit) from continuing operations
$
81,602

 
18.5

 
$
116,126

 
29.5


As of December 31, 2017, the Company recorded $877 million of tax benefits in net income as a result of remeasuring its deferred tax assets and liabilities using the lower corporate tax rate as of the legislation’s enactment date. The Company was able to determine that the adjustment recorded in 2017 was a reasonable estimate of the impact of the tax legislation in accordance with SAB 118. The guidance allows companies up to one year to finalize the impact. The Company did not make any adjustments to this estimate for the period ended June 30, 2018. However, the Company will continue to analyze relevant information to complete the accounting for income taxes and expects to complete the process in the fourth quarter of 2018.

Note 6—Commitments and Contingencies

Litigation:

Torchmark and its subsidiaries, in common with the insurance industry in general, are subject to litigation, involving various matters where we are either the defendant or the plaintiff. Torchmark subsidiaries are also currently the subject of audits regarding the identification, reporting and escheatment of unclaimed property arising from life insurance policies and a limited number of annuity contracts. In each of these matters, based upon information presently available, management does not believe that such litigation or audits will have a material adverse effect on Torchmark’s financial condition, future operating results or liquidity.

On February 1, 2018, putative class action litigation was filed against American Income Life Insurance Company in U.S. District Court for the Northern District of Texas, Dallas Division (Bruce v. American Income Life Insurance Company, et al., Case No. 3:18-cv-00258-G). The plaintiff, a former insurance sales agent of American Income who is suing on

19
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 6—Commitments and Contingencies (continued)


behalf of all current and former American Income sales agents contracted through State General Agent Stephen Jubrey’s agency office at any time since January 31, 2015 through the final disposition of this matter, asserts that such agents are employees rather than independent contractors as they are classified by American Income. He alleges failure to pay minimum wages, overtime wages and other applicable monies in accordance with the Fair Labor Standards Act. The plaintiff seeks, in a jury trial, actual and punitive damages, pre- and post-judgment interest, attorney fees, costs and other relief, including injunctive relief. On February 27, 2018, the Company filed a motion to compel arbitration of this matter and on July 27, 2018, the Court granted the Company’s motion.

With respect to current litigation, at this time management believes that the possibility of a material judgment adverse to Torchmark is remote, and no estimate of range can be made for loss contingencies that are at least reasonably possible but not accrued.

Guarantees:

Torchmark has guaranteed letters of credit in connection with its credit facility with a group of banks. The letters of credit were issued by TMK Re, Ltd., a wholly-owned subsidiary, to secure TMK Re, Ltd.’s obligation for claims on certain policies reinsured by TMK Re, Ltd. that were sold by other Torchmark insurance companies. These letters of credit facilitate TMK Re, Ltd.’s ability to reinsure the business of Torchmark’s insurance carriers. The agreement expires in 2021. The maximum amount of letters of credit available is $250 million. Torchmark would be liable to the extent that TMK Re, Ltd. does not pay the reinsured party. On March 14, 2018, the letters of credit were amended to reduce the current amount outstanding to $155 million from $177 million as of December 31, 2017.

Note 7—Liability for Unpaid Claims

Activity in the liability for unpaid health claims is summarized as follows:
 
Six Months Ended 
 June 30,
 
2018
 
2017
Balance at beginning of period
$
146,865

 
$
143,128

Incurred related to:
 
 
 
Current year
269,574

 
264,648

Prior years
(5,708
)
 
(8,364
)
Total incurred
263,866

 
256,284

Paid related to:
 
 
 
Current year
171,199

 
164,271

Prior years
99,054

 
94,676

Total paid
270,253

 
258,947

Balance at end of period
$
140,478

 
$
140,465

 
Below is the reconciliation of the liability for "Policy claims and other benefits payable" in the Condensed Consolidated Balance Sheets.
 
June 30,
2018
 
December 31, 2017
Policy claims and other benefits payable:
 
 
 
Life insurance
$
188,991

 
$
186,429

Health insurance
140,478

 
146,865

Total
$
329,469

 
$
333,294



20
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands except per share data)


Note 8—Postretirement Benefits
The following tables present a summary of post-retirement benefit costs by component for the three and six month periods ended June 30, 2018 and 2017.
Components of Post-Retirement Benefit Costs
 
 
Three Months Ended June 30,
 
Pension Benefits
 
Other Benefits
 
2018
 
2017
 
2018
 
2017
Service cost
$
5,277

 
$
4,484

 
$
—

 
$
—

Interest cost
5,493

 
5,551

 
228

 
250

Expected return on assets
(6,363
)
 
(5,898
)
 
—

 
—

Amortization:
 
 
 
 
 
 
 
Prior service cost
119

 
119

 
—

 
—

Actuarial (gain) loss
3,636

 
2,952

 
23

 
38

Direct recognition of expense
—

 
—

 
85

 
116

Net periodic benefit cost
$
8,162

 
$
7,208

 
$
336

 
$
404

 
 
 
 
 
 
 
 
 
Six Months Ended June 30,
 
Pension Benefits
 
Other Benefits
 
2018
 
2017
 
2018
 
2017
Service cost
$
10,554

 
$
8,971

 
$
—

 
$
—

Interest cost
10,986

 
11,101

 
456

 
500

Expected return on assets
(12,726
)
 
(11,797
)
 
—

 
—

Amortization:
 
 
 
 
 
 
 
Prior service cost
238

 
238

 
—

 
—

Actuarial (gain)/loss
7,272

 
5,903

 
46

 
77

Direct recognition of expense
—

 
—

 
225

 
212

Net periodic benefit cost
$
16,324

 
$
14,416

 
$
727

 
$
789



21
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands except per share data)

Note 8—Postretirement Benefit Plans (continued)

The following tables present the assets of Torchmark’s defined benefit pension plans at June 30, 2018 and December 31, 2017.
Pension Assets by Component at June 30, 2018
 
Fair Value Determined by:
 
 
 
 
 
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
 
Significant
Observable
Inputs (Level 2)
 
Significant
Unobservable
Inputs (Level 3)
 
Total
Amount
 
% to
Total
Corporate bonds:
 
 
 
 
 
 
 
 
 
Financial
$
 
$
46,501

 
$
 
$
46,501

 
12
Utilities
 
 
40,032

 
 
 
40,032

 
10
Energy
 
 
23,551

 
 
 
23,551

 
6
Other corporates
 
 
67,960

 
 
 
67,960

 
17
Total corporate bonds
—

 
178,044

 
—

 
178,044

 
45
Exchange traded fund(1)
168,743

 
 
 
 
 
168,743

 
43
Other bonds
 
 
245

 
 
 
245

 
—
Other long-term investments
 
 
3,998

 
 
 
3,998

 
1
Guaranteed annuity contract(2)
 
 
21,427

 
 
 
21,427

 
5
Short-term investments
18,660

 
 
 
 
 
18,660

 
5
Other
1,866

 
 
 
 
 
1,866

 
1
Grand Total
$
189,269

 
$
203,714

 
$
—

 
$
392,983

 
100
(1)
A fund including marketable securities that mirror the S&P 500 index.
(2)
Representing a guaranteed annuity contract issued by Torchmark's subsidiary, American Income Life Insurance Company, to fund the obligations of the American Income Pension Plan.
Pension Assets by Component at December 31, 2017
 
Fair Value Determined by:
 
 
 
 
 
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
 
Significant
Observable
Inputs (Level 2)
 
Significant
Unobservable
Inputs (Level 3)
 
Total
Amount
 
% to
Total
Corporate bonds:
 
 
 
 
 
 
 
 
 
Financial
$
 
$
43,451

 
$
 
$
43,451

 
12
Utilities
 
 
46,144

 
 
 
46,144

 
12
Energy
 
 
25,023

 
 
 
25,023

 
7
Other corporates
 
 
65,888

 
 
 
65,888

 
17
Total corporate bonds
—

 
180,506

 
—

 
180,506

 
48
Exchange traded fund(1)
164,351

 
 
 
 
 
164,351

 
43
Other bonds
 
 
256

 
 
 
256

 
—
Other long-term investments
 
 
2,304

 
 
 
2,304

 
1
Guaranteed annuity contract(2)
 
 
21,202

 
 
 
21,202

 
6
Short-term investments
3,984

 
 
 
 
 
3,984

 
1
Other
5,021

 
 
 
 
 
5,021

 
1
Grand Total
$
173,356

 
$
204,268

 
$
—

 
$
377,624

 
100
(1)
A fund including marketable securities that mirror the S&P 500 index.
(2)
Representing a guaranteed annuity contract issued by Torchmark's subsidiary, American Income Life Insurance Company, to fund the obligations of the American Income Pension Plan.


22
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands except per share data)

Note 8—Postretirement Benefit Plans (continued)


The following table presents liabilities for the defined-benefit pension plans at June 30, 2018 and December 31, 2017.
Pension Liability
 
June 30,
2018
 
December 31, 2017
Funded defined benefit pension
$
509,965

 
$
518,141

SERPs(1)
85,382

 
84,465

Pension Benefit Obligation
$
595,347

 
$
602,606

(1)
Supplemental executive retirement plan (SERP).

The following table includes information regarding the SERPs at June 30, 2018 and December 31, 2017.
 
June 30,
2018
 
December 31, 2017
Premiums paid for insurance coverage
$
1,047

 
$
2,050

 
 
 
 
Total investments:
 
 
 
Company owned life insurance
$
41,872

 
$
40,273

Exchange traded funds
55,051

 
55,442

 
$
96,923

 
$
95,715

 

 

Liability:

 

Active plan
$
82,862

 
$
81,457

Closed plan
2,520

 
3,008

 
$
85,382

 
$
84,465


Note 9—Earnings Per Share
A reconciliation of basic and diluted weighted-average shares outstanding is as follows:
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2018
 
2017
 
2018
 
2017
Basic weighted average shares outstanding
113,350,175

 
116,646,669

 
113,762,340

 
117,205,467

Weighted average dilutive options outstanding
2,301,237

 
2,449,882

 
2,434,633

 
2,554,158

Diluted weighted average shares outstanding
115,651,412

 
119,096,551

 
116,196,973

 
119,759,625

Antidilutive shares
1,381,686

 
1,444,280

 
960,753

 
1,037,328



23
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)




Note 10—Business Segments
Torchmark's reportable segments are based on the insurance product lines it markets and administers: life insurance, health insurance, and annuities. These major product lines are set out as reportable segments because of the common characteristics of products within these categories, comparability of margins, and the similarity in regulatory environment and management techniques. Torchmark's chief operating decision makers evaluate the overall performance of the operations of the Company in accordance with these segments.
Management’s measure of profitability for each insurance segment is insurance underwriting margin, which is underwriting income before other income and insurance administrative expenses. It represents the profit margin on insurance products before administrative expenses, and is calculated by deducting net policy obligations (claims incurred and change in reserves), commissions and other acquisition expenses from premium revenue. Torchmark further views the profitability of each insurance product segment by the marketing groups that distribute the products of that segment: direct response, independent agencies, or captive agencies.
Torchmark’s management prefers to evaluate the performance of its underwriting and investment activities separately, rather than allocating investment income to the underwriting results. As such, the investment function is presented as a stand-alone segment. The investment segment includes the management of the investment portfolio, debt, and cash flow. Management’s measure of profitability for this segment is excess investment income, which is the income earned on the investment portfolio less the required interest on net policy liabilities and financing costs. Financing costs include the interest on Torchmark’s debt. Other income and insurance administrative expense are classified in a separate Corporate and other segment.
The majority of the Company’s required interest on net policy liabilities (benefit reserves less the deferred acquisition cost asset) is not credited to policyholder accounts. Instead, it is an actuarial assumption for discounting cash flows in the computation of benefit reserves and the amortization of the deferred acquisition cost asset. Investment income required to fund the required interest on net policy liabilities is removed from the investment segment and applied to the insurance segments to eliminate the effect of the required interest from the insurance segments. As a result, the investment segment measures net investment income against the required interest on net policy liabilities and financing costs, while the insurance segments simply measure premiums against net policy benefits and expenses. Management believes this presentation facilitates a more meaningful analysis of the Company’s underwriting and investment performance as the underwriting results are based on premiums, claims, and expenses and are not affected by unanticipated fluctuations in investment yields.
 
As noted, Torchmark’s core operations are insurance and investment management. The insurance segments issue policies for which premiums are collected for the eventual payment of policy benefits. In addition to policy benefits, operating expenses are incurred including acquisition costs, administrative expenses, and taxes. Because life and health contracts can be long term, premium receipts in excess of current expenses are invested. Investment activities, conducted by the investment segment, focus on seeking quality investments with a yield and term appropriate to support the insurance product obligations. These investments generally consist of fixed maturities, and, over the long term, the expected yields are taken into account when setting insurance premium rates and product profitability expectations. As a result, fixed maturities are generally held for long periods to support the liabilities, and Torchmark generally expects to hold investments until maturity. However, dispositions of investments occur from time to time, generally for reasons such as credit concerns, calls by issuers, or other factors.

Since Torchmark does not actively trade investments, realized gains and losses from the disposition and write down of investments are generally incidental to operations and are not considered a material factor in insurance pricing or product profitability. While from time to time these realized gains and losses could be significant to net income in the period in which they occur, they generally have a limited effect on the yield of the total investment portfolio. Further, the disposals have little effect on the size of the portfolio as the proceeds of the disposals are reinvested in the portfolio and the income from the reinvestments is included in net investment income. Therefore, management removes realized investment gains and losses from results of core operations when evaluating the performance of the Company. For this reason, these gains and losses are excluded from Torchmark’s operating segments.

24
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 10—Business Segments (continued)

Torchmark accounts for its stock options and restricted stock under current accounting guidance requiring stock options and stock grants to be expensed based on fair value at the time of grant. Management considers stock compensation expense to be an expense of the Parent Company. Therefore, stock compensation expense is treated as a corporate expense in Torchmark’s segment analysis. The following tables set forth a reconciliation of Torchmark’s revenues and operations by segment to its pre-tax income and each significant line item in its Condensed Consolidated Statements of Operations.
Reconciliation of Segment Operating Information to the Condensed Consolidated Statement of Operations
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended June 30, 2018
 
Life
 
Health
 
Annuity
 
Investment
 
Corporate & Other
 
Adjustments
 
 
Consolidated
Revenue:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Premium
$
602,534

 
$
251,440

 
$
5

 
 
 
 
 
 
 
 
$
853,979

Net investment income
 
 
 
 
 
 
$
218,568

 
 
 
 
 
 
218,568

Other income
 
 
 
 
 
 
 
 
$
441

 
$
(25
)
 
(2)
416

    Total revenue
602,534

 
251,440

 
5

 
218,568

 
441

 
(25
)
 
 
1,072,963

Expenses:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Policy benefits
399,334

 
160,461

 
8,582

 
 
 
 
 


 

568,377

Required interest on reserves
(158,101
)
 
(20,726
)
 
(11,885
)
 
190,712

 
 
 
 
 
 
—

Required interest on DAC
48,275

 
6,079

 
150

 
(54,504
)
 
 
 
 
 
 
—

Amortization of acquisition costs
104,599

 
23,892

 
586

 
 
 
 
 
 
 
 
129,077

Commissions, premium taxes, and non-deferred acquisition costs
47,250

 
22,196

 
6

 
 
 
 
 
(25
)
 
(2)
69,427

Insurance administrative expense(1)
 
 
 
 
 
 
 
 
55,276

 


 

55,276

Parent expense
 
 
 
 
 
 
 
 
2,847

 
 
 
 
2,847

Stock-based compensation expense
 
 
 
 
 
 
 
 
10,497

 
 
 
 
10,497

Interest expense
 
 
 
 
 
 
22,411

 
 
 
 
 
 
22,411

Total expenses
441,357

 
191,902

 
(2,561
)
 
158,619

 
68,620

 
(25
)
 
 
857,912

Subtotal
161,177

 
59,538

 
2,566

 
59,949

 
(68,179
)
 
—

 
 
215,051

Non-operating items
 
 
 
 
 
 
 
 
 
 
—

 

—

Measure of segment profitability (pretax)
$
161,177

 
$
59,538

 
$
2,566

 
$
59,949

 
$
(68,179
)
 
$
—

 
 
215,051

Deduct applicable income taxes
 
 
(39,991
)
Net operating income
 
 
175,060

Add back income taxes applicable to segment profitability
 
 
39,991

Add (deduct) realized investment gains (losses)
 
   
11,813

Income before income taxes per Condensed Consolidated Statement of Operations
 
   
$
226,864


(1)
Administrative expense is not allocated to insurance segments.
(2)
Elimination of intersegment commission.


25
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 10—Business Segments (continued)


 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended June 30, 2017
 
Life
 
Health
 
Annuity
 
Investment
 
Corporate & Other
 
Adjustments
 
 
Consolidated
Revenue:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Premium
$
573,836

 
$
242,775

 
$
3

 
 
 
 
 
 
 
 
$
816,614

Net investment income
 
 
 
 
 
 
$
212,776

 
 
 
 
 
 
212,776

Other income
 
 
 
 
 
 
 
 
$
427

 
$
(34
)
 
(2)
393

Total revenue
573,836

 
242,775

 
3


212,776

 
427

 
(34
)
 
 
1,029,783

Expenses:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Policy benefits
388,765

 
156,579

 
8,977

 
 
 
 
 
2,094

 
(3)
556,415

Required interest on reserves
(150,652
)
 
(19,267
)
 
(12,394
)
 
182,313

 
 
 
 
 
 
—

Required interest on DAC
46,213

 
5,840

 
174

 
(52,227
)
 
 
 
 
 
 
—

Amortization of acquisition costs
98,473

 
23,016

 
632

 
 
 
 
 
 
 
 
122,121

Commissions, premium taxes, and non-deferred acquisition costs
43,708

 
21,351

 
7

 
 
 
 
 
(34
)
 
(2)
65,032

Insurance administrative expense(1)
 
 
 
 
 
 
 
 
51,412

 


 
 
51,412

Parent expense
 
 
 
 
 
 
 
 
2,665

 
 
 
 
2,665

Stock-based compensation expense
 
 
 
 
 
 
 
 
8,351

 
 
 
 
8,351

Interest expense
 
 
 
 
 
 
21,156

 
 
 
 
 
 
21,156

Total expenses
426,507

 
187,519

 
(2,604
)
 
151,242

 
62,428

 
2,060

 
 
827,152

Subtotal
147,329

 
55,256

 
2,607

 
61,534

 
(62,001
)
 
(2,094
)
 
 
202,631

Non-operating items
 
 
 
 
 
 
 
 
 
 
2,094

 
(3)
2,094

Measure of segment profitability (pretax)
$
147,329

 
$
55,256

 
$
2,607

 
$
61,534

 
$
(62,001
)
 
$
—

 
 
204,725

Deduct applicable income taxes
 
 
(62,543
)
Net operating income
 
 
142,182

Add back income taxes applicable to segment profitability
 
 
62,543

Add (deduct) realized investment gains (losses)
 
   
(705
)
Add (deduct) administrative settlements(3)
 
 
(2,094
)
Income before income taxes per Condensed Consolidated Statement of Operations
 
   
$
201,926


(1)
Administrative expense is not allocated to insurance segments.
(2)
Elimination of intersegment commission.
(3)
Administrative settlements.













26
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 10—Business Segments (continued)

 
Six Months Ended June 30, 2018
 
Life
 
Health
 
Annuity
 
Investment
 
Corporate & Other
 
Adjustments
 
  
Consolidated
Revenue:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Premium
$
1,200,837

 
$
503,238

 
$
10

 

 

 


 

$
1,704,085

Net investment income

 

 

 
$
436,652

 

 


 

436,652

Other income

 

 

 

 
$
764

 
$
(53
)
 
(2)
711

Total revenue
1,200,837

 
503,238

 
10

 
436,652

 
764

 
(53
)
 

2,141,448

Expenses:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Policy benefits
799,915

 
321,080

 
17,271

 

 

 


 

1,138,266

Required interest on reserves
(314,315
)
 
(41,130
)
 
(23,902
)
 
379,347

 

 

 

—

Required interest on DAC
96,219

 
12,092

 
303

 
(108,614
)
 

 

 

—

Amortization of acquisition costs
208,376

 
49,149

 
1,172

 

 

 

 

258,697

Commissions, premium taxes, and non-deferred acquisition costs
94,644

 
44,461

 
14

 


 


 
(53
)
 
(2)
139,066

Insurance administrative expense(1)


 


 


 


 
110,748

 


 

110,748

Parent expense


 


 


 


 
5,139

 


 

5,139

Stock-based compensation expense


 


 


 


 
19,557

 


 

19,557

Interest expense


 


 


 
44,033

 


 


 

44,033

Total expenses
884,839

 
385,652

 
(5,142
)
 
314,766

 
135,444

 
(53
)
 
 
1,715,506

Subtotal
315,998

 
117,586

 
5,152

 
121,886

 
(134,680
)
 
—

 
 
425,942

Non-operating items
 
 
 
 
 
 
 
 
 
 
—

 

—

Measure of segment profitability (pretax)
$
315,998

 
$
117,586

 
$
5,152

 
$
121,886

 
$
(134,680
)
 
$
—

 
 
425,942

Deduct applicable income taxes
 
 
(78,712
)
Net operating income
 
 
347,230

Add back income taxes applicable to segment profitability
 
 
78,712

Add (deduct) realized investment gains (losses)
 
   
13,764

Income before income taxes per Condensed Consolidated Statements of Operations
 
   
$
439,706


(1)
Administrative expense is not allocated to insurance segments.
(2)
Elimination of intersegment commission.






27
                                 TMK 2018 FORM 10-Q QTR 2
TORCHMARK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(Dollar amounts in thousands, except per share data)

Note 10—Business Segments (continued)

 
Six Months Ended June 30, 2017
 
Life
 
Health
 
Annuity
 
Investment
 
Corporate & Other
 
Adjustments
 
 
Consolidated
Revenue:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Premium
$
1,149,673

 
$
487,566

 
$
6

 
 
 
 
 
 
 

$
1,637,245

Net investment income


 


 


 
$
421,058

 
 
 
 
 

421,058

Other income


 


 


 


 
$
878

 
$
(69
)
 
(2)
809

Total revenue
1,149,673

 
487,566

 
6

 
421,058

 
878

 
(69
)
 
 
2,059,112

Expenses:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Policy benefits
779,844

 
314,330

 
17,923

 


 


 
2,094

 
(3)
1,114,191

Required interest on reserves
(299,477
)
 
(38,242
)
 
(24,812
)
 
362,531

 


 


 

—

Required interest on DAC
92,149

 
11,649

 
352

 
(104,150
)
 


 


 

—

Amortization of acquisition costs
198,378

 
48,343

 
1,308

 


 


 


 

248,029

Commissions, premium taxes, and non-deferred acquisition costs
87,346

 
42,853

 
18

 


 


 
(69
)
 
(2)
130,148

Insurance administrative expense(1)


 


 


 


 
103,325

 


 

103,325

Parent expense


 


 


 


 
4,898

 


 

4,898

Stock-based compensation expense


 


 


 


 
16,546

 


 

16,546

Interest expense


 


 


 
41,855

 


 


 

41,855

Total expenses
858,240

 
378,933

 
(5,211
)

300,236

 
124,769

 
2,025

 
 
1,658,992

Subtotal
291,433

 
108,633

 
5,217

 
120,822

 
(123,891
)
 
(2,094
)
 
 
400,120

Non-operating items
 
 
 
 
 
 
 
 
 
 
2,094

 
(3)
2,094

Measure of segment profitability (pretax)
$
291,433

 
$
108,633

 
$
5,217

 
$
120,822

 
$
(123,891
)
 
$
—

 
 
402,214

Deduct applicable income taxes
 
 
(121,361
)
Net operating income
 
 
280,853

Add back income taxes applicable to segment profitability
 
 
121,361

Add (deduct) realized investment gains (losses)
 
  
(6,453
)
Add (deduct) administrative settlements(3)
 
 
(2,094
)
Income before income taxes per Condensed Consolidated Statements of Operations
 
  
$
393,667


(1)
Administrative expense is not allocated to insurance segments.
(2)
Elimination of intersegment commission.
(3)
Administrative settlements.








28
                                 TMK 2018 FORM 10-Q QTR 2

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Results of Operations

How Torchmark Views Its Operations: Torchmark is the holding company for a group of insurance companies which primarily market individual life and supplemental health insurance to middle income households throughout the United States. We view our operations by segments, which are the insurance product lines of life, health, and annuities, and the investment segment that supports the product lines. Segments are aligned based on their common characteristics, comparability of the profit margins, and management techniques used to operate each segment.
 
Insurance Product Line Segments. As fully explained in Note 10—Business Segments in the Notes to the Condensed Consolidated Financial Statements, the insurance product line segments involve the marketing, underwriting, and the administration of policies. Each product line is further segmented by the various distribution units that market the insurance policies. Each distribution unit operates in a niche market offering insurance products designed for that particular market. Whether analyzing profitability of a segment as a whole, or the individual distribution units within the segment, the measure of profitability used by management is the underwriting margin, which is:
 
Premium revenue
Less:
Policy obligations
Policy acquisition costs and commissions
 
Investment Segment. The investment segment involves the management of our capital resources, including investments and the management of corporate debt and liquidity. Our measure of profitability for the investment segment is excess investment income, which is:
 
Net investment income
Less:
Required interest on net policy liabilities
Financing costs

 
The tables in Note 10—Business Segments reconcile Torchmark’s revenues and expenses by segment to its major income statement line items.
















29
                                 TMK 2018 FORM 10-Q QTR 2

Current Highlights, comparing the first six months of 2018 with the first six months of 2017.
•
Net income as a return on equity (ROE) was 12.2%(1) and net operating income as an ROE, excluding net unrealized gains on the fixed maturity portfolio was 14.6%(2).

•
Total premium increased 4% over the prior year to $1.7 billion. Life premium increased 4% over the prior year to $1.2 billion. Life underwriting margin increased 8% from $291 million in 2017 to $316 million in 2018.

•
Through June 30, 2018, the Company repurchased 2 million shares at a total cost of $174 million for an average share price of $85.41.

The following represents net income and net operating income for the six months ended June 30, 2018 and 2017.
a10qchart0718netincome1.jpga10qchart0718netopincome1.jpg

(1)
In 2017, new tax legislation revised the corporate income tax rate from 35% to 21% effective January 1, 2018. See Note 5—Income Taxes for further discussion. In 2018, income tax expense was calculated based on the 21% rate as compared with a 35% rate for 2017.
(2)
Net operating income as an ROE, excluding net unrealized gains on the fixed maturity portfolio, is considered a non-GAAP measure. Management utilizes this measure to view the business without the effect of the unrealized gains or losses which are primarily attributable to fluctuation in interest rates on the available-for-sale portfolio.

Summary of Operations. Net income increased 31% to $358 million from $274 million. This increase was primarily related to the tax reform enacted in 2017 which reduced corporate income tax rates. Included in net income were after-tax realized gains of $11 million in 2018, compared with realized after-tax losses of $2 million for the same period in 2017. On a diluted per common share basis, net income per common share for the six months ended June 30, 2018 increased 34% from $2.29 to $3.08. The per share results have exceeded the growth in dollar amounts due to our share repurchase program. Realized gains and losses are presented more fully under the caption Realized Gains and Losses in this report.
Net operating income is the consolidated total of segment profits after tax and as such is considered a non-GAAP measure. Net income is the most directly comparable GAAP measure. See Note 10—Business Segments for a discussion of the usefulness and purpose of this measure. Net operating income increased 24% or $66 million to $347 million for the six months ended June 30, 2018 compared with $281 million for the same 2017 period.



30
                                 TMK 2018 FORM 10-Q QTR 2

Torchmark's operations on a segment-by-segment basis are discussed in depth below. The life insurance segment is our strongest segment and is the largest contributor to earnings in each year presented.

Analysis of Profitability by Segment
(Dollar amounts in thousands)
 
Six Months Ended 
 June 30,
 
2018
 
2017
 
Change
 
%
Life insurance underwriting margin
$
315,998

 
$
291,433

 
$
24,565

 
8

Health insurance underwriting margin
117,586

 
108,633

 
8,953

 
8

Annuity underwriting margin
5,152

 
5,217

 
(65
)
 
(1
)
Excess investment income
121,886

 
120,822

 
1,064

 
1

Other insurance:
 
 
 
 
 
 
 
Other income
764

 
878

 
(114
)
 
(13
)
Administrative expense
(110,748
)
 
(103,325
)
 
(7,423
)
 
7

Corporate and other
(24,696
)
 
(21,444
)
 
(3,252
)
 
15

Pre-tax total
425,942

 
402,214

 
23,728

 
6

Applicable taxes
(78,712
)
 
(121,361
)
 
42,649

 
(35
)
Net operating income
347,230

 
280,853

 
66,377

 
24

Reconciling items, net of tax:
 
 
 
 

 
 
Realized gains (losses)
10,874

 
(1,951
)
 
12,825

 
 
Part D adjustment - discontinued operations
(79
)
 
(3,727
)
 
3,648

 
 
Administrative settlements
—

 
(1,361
)
 
1,361

 
 
Net income
$
358,025

 
$
273,814

 
$
84,211

 
31

Total premium income rose 4% for the six months ended June 30, 2018 to $1.7 billion. Total net sales increased 2% to $289 million, when compared with the same period in 2017. First-year collected premium was $232 million for the 2018 period, compared with $225 million for the 2017 period.
Life insurance premium income increased 4% to $1.2 billion over the prior year total of $1.1 billion. Life net sales fell 1% to $213 million for the six month period of 2018. First-year collected life premium rose 1% to $161 million. Life underwriting margins, as a percent of premium, increased to 26% in 2018 from 25% in the prior year period. Underwriting income increased to $316 million for the first six months of 2018, 8% over the same period in 2017.
Health insurance premium income increased 3% to $503 million over the prior year total of $488 million. Health net sales rose 9% to $77 million for the six month period of 2018. First-year collected health premium rose 8% to $71 million. Health underwriting margins, as a percent of premium, increased to 23% in 2018 from 22% in the prior year period. Underwriting income increased to $118 million for the first six months of 2018, 8% over the same period in 2017.
Excess investment income, the measure of profitability of our investment segment, increased 1% during the first six months of 2018 to $122 million from $121 million in the same period in 2017. Growth in excess investment income continues to be impeded by investing at yields lower than the yield on dispositions and the average yield. Excess investment income per common share, reflecting the impact of our share repurchase program, increased 4% in 2018 to $1.05 from $1.01 in the same period last year.
Insurance administrative expenses were up 7.2% in 2018 when compared with the prior year period. These expenses were 6.5% as a percentage of premium during the first six months of 2018 compared with 6.3% a year earlier. The increase in administrative expenses was primarily due to an increase in pension and other employee costs and investments in information technology.


31
                                 TMK 2018 FORM 10-Q QTR 2

Share Repurchases. We have an on-going share repurchase program which began in 1986 that is reviewed quarterly and is reaffirmed by the Board of Directors on an annual basis. The program was reaffirmed on [ August 7, 2018.] With no specified authorization amount, we determine the amount of repurchases based on the amount of our excess cash flow, general market conditions, and other alternative uses. These purchases are made at the Parent Company with excess cash flow. Excess cash flow is primarily made up of cash received from the insurance subsidiaries less dividends paid to shareholders and interest paid on our debt. See further discussion in the Capital Resources section below. Share purchases are also made with the proceeds from option exercises by current and former employees in order to reduce dilution. The following chart summarizes share purchases for the six month periods ended June 30, 2018 and 2017.

Analysis of Share Purchases
(Amounts in thousands, except per share data) 
 
Six Months Ended June 30,
 
2018
 
2017
 
Shares
 
Amount
 
Average
Price
 
Shares
 
Amount
 
Average
Price
Purchases with:
 
 
 
 
 
 
 
 
 
 
 
Excess cash flow at the Parent Company
2,042

 
$
174,388

 
$
85.41

 
2,147

 
$
163,216

 
$
76.03

Option exercise proceeds
367

 
32,201

 
87.64

 
528

 
40,540

 
76.78

Total
2,409

 
$
206,589

 
$
85.75

 
2,675

 
$
203,756

 
$
76.18

Throughout the remainder of this discussion, share purchases will only refer to those made from excess cash flow at the Parent Company.

A detailed discussion of our operations by component segment follows.
Life insurance, comparing the first six months of 2018 with the first six months of 2017. Life insurance is our predominant segment, representing 70% of premium income and 72% of insurance underwriting margin in the first six months of 2018. In addition, investments supporting the reserves for life business generate the majority of investment income attributable to the investment segment.

We use three statistical measures as indicators of premium growth and sales over the near term: “annualized premium in force,” “net sales,” and “first-year collected premium.”

•
Annualized premium in force is defined as the premium income that would be received over the following twelve months at any given date on all active policies if those policies remain in force throughout the twelve-month period. Annualized premium in force is an indicator of potential growth in premium revenue.

•
Net sales is annualized premium issued (Gross premium that would be received during the policies' first year in force and assuming that none of the policies lapsed or terminated.), net of cancellations in the first thirty days after issue, except in the case of Globe Life Direct Response where net sales is annualized premium issued at the time the first full premium is paid after any introductory offer period has expired. We believe that net sales is a better indicator of the rate of premium growth as compared to annualized premium issued.

•
First-year collected premium is defined as the premium collected during the reporting period for all policies in their first policy year. First-year collected premium takes lapses into account in the first year when lapses are more likely to occur, and thus is a useful indicator of how much new premium is expected to be added to premium income in the future.


32
                                 TMK 2018 FORM 10-Q QTR 2

The following table presents the summary of results for life insurance.
Life Insurance
Summary of Results
(Dollar amounts in thousands) 
 
Six Months Ended June 30,
 
Increase
 
2018
 
2017
 
(Decrease)
 
Amount
 
% of
Premium
 
Amount
 
% of
Premium
 
Amount
 
%
Premium and policy charges
$
1,200,837

 
100

 
$
1,149,673

 
100

 
$
51,164

 
4
 
 
 
 
 
 
 
 
 
 
 
 
Policy obligations
799,915

 
67

 
779,844

 
68

 
20,071

 
3
Required interest on reserves
(314,315
)
 
(26
)
 
(299,477
)
 
(26
)
 
(14,838
)
 
5
Net policy obligations
485,600

 
41

 
480,367

 
42

 
5,233

 
1
Commissions, premium taxes, and non-deferred acquisition expenses
94,644

 
8

 
87,346

 
8

 
7,298

 
8
Amortization of acquisition costs
304,595

 
25

 
290,527

 
25

 
14,068

 
5
Total expense
884,839

 
74

 
858,240

 
75

 
26,599

 
3
Insurance underwriting margin before other income and administrative expenses
$
315,998

 
26

 
$
291,433

 
25

 
$
24,565

 
8

The following table presents Torchmark’s life insurance premium by distribution channel.
Life Insurance
Premium by Distribution Channel
(Dollar amounts in thousands)
 
Six Months Ended June 30,
 
Increase
 
2018
 
2017
 
(Decrease)
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount

%
American Income Exclusive Agency
$
532,188

 
44
 
$
488,469

 
42
 
$
43,719

 
9

Globe Life Direct Response
420,832

 
35
 
413,782

 
36
 
7,050

 
2

Liberty National Exclusive Agency
139,017

 
12
 
137,076

 
12
 
1,941

 
1

Other Agencies
108,800

 
9
 
110,346

 
10
 
(1,546
)
 
(1
)
Total
$
1,200,837

 
100
 
$
1,149,673

 
100
 
$
51,164

 
4


Annualized life premium in force was $2.4 billion at June 30, 2018, an increase of 4% over $2.3 billion a year earlier.


33
                                 TMK 2018 FORM 10-Q QTR 2

An analysis of life net sales, an indicator of new business production, by distribution channel is presented below.
Life Insurance
Net Sales by Distribution Channel
(Dollar amounts in thousands)
 
Six Months Ended June 30,
 
Increase
 
2018
 
2017
 
(Decrease)
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount
 
%
American Income Exclusive Agency
$
114,771

 
54
 
$
110,151

 
52
 
$
4,620

 
4

Globe Life Direct Response
67,223

 
32
 
75,725

 
35
 
(8,502
)
 
(11
)
Liberty National Exclusive Agency
24,230

 
11
 
22,713

 
11
 
1,517

 
7

Other Agencies
6,336

 
3
 
5,149

 
2
 
1,187

 
23

Total
$
212,560

 
100
 
$
213,738

 
100
 
$
(1,178
)
 
(1
)

First-year collected life premium by distribution channel is presented in the table below. 
Life Insurance
First-Year Collected Premium by Distribution Channel
(Dollar amounts in thousands)
 
Six Months Ended June 30,
 
Increase
 
2018
 
2017
 
(Decrease)
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount

%
American Income Exclusive Agency
$
95,592

 
59
 
$
89,723

 
56
 
$
5,869

 
7

Globe Life Direct Response
42,573

 
27
 
48,838

 
31
 
(6,265
)
 
(13
)
Liberty National Exclusive Agency
17,933

 
11
 
16,163

 
10
 
1,770

 
11

Other Agencies
4,713

 
3
 
5,016

 
3
 
(303
)
 
(6
)
Total
$
160,811

 
100
 
$
159,740

 
100
 
$
1,071

 
1


The American Income Exclusive Agency has historically marketed primarily to members of labor unions. While labor unions are still the core market for this agency, American Income has diversified in recent years by focusing heavily on other affinity groups, third party internet vendor leads, and referrals to help ensure sustainable growth. This agency is Torchmark’s largest contributor to life premium at 44% of Torchmark’s 2018 year-to-date total. This agency produced premium income during the first six months of $532 million, an increase of 9% over the comparable prior year period of $488 million. First-year collected premium was $96 million, an increase of 7%. Net sales increased 4% to $115 million in 2018 over the 2017 total of $110 million. Over the long-term, sales growth in our exclusive agencies is generally dependent on growth in the size of the agency force. The American Income Exclusive Agency's average agent count increased 1% to 6,922 for the six months ended June 30, 2018, compared with 6,861 for the same period in 2017. As is the case with all Torchmark agencies, the average agent count is based on the actual count at the end of each week during the period.
The American Income Exclusive Agency continues to focus on growing and strengthening middle management to support sustainable growth of the agency force. To accomplish this, the agency places an emphasis on agent training programs and financial incentives that appropriately reward agents at all levels for helping develop and train its agents, including more home-office and webinar training programs. These programs are designed to provide each agent, from new recruits to top level managers, coaching and instruction specifically designed for their level of experience and responsibility. We have made considerable investments in information technology in support of the agency, including the launching of a lead mapping and management tool to the agency force. We anticipate this tool will help the agency enhance agent productivity and agent retention.

34
                                 TMK 2018 FORM 10-Q QTR 2

The Globe Life Direct Response unit offers adult and juvenile life insurance through a variety of direct-to-consumer marketing approaches, which include direct mailings, insert media, and electronic media. These different approaches support and complement one another in the unit’s efforts to reach the consumer. The Globe Life Direct Response channel’s growth has been fueled over the years by constant innovation. In recent years, electronic media production has grown rapidly as management has aggressively increased marketing activities related to internet and mobile technology, and has focused on driving traffic to the inbound call center. We continually introduce new initiatives in this unit in an attempt to increase response rates.
While the juvenile market is an important source of sales, it also is a vehicle to reach the parents and grandparents of juvenile policyholders, who are more likely to respond favorably to a Globe Life Direct Response solicitation for life coverage on themselves than is the general adult population. Also, both juvenile policyholders and their parents are low acquisition-cost targets for sales of additional coverage over time.
Globe Life Direct Response’s life premium income rose 2% to $421 million, representing 35% of Torchmark’s total life premium in the first six months of 2018. Net sales for this group decreased 11% due to operational changes designed to maximize profitability on new business. We expect the decline in sales to moderate over the remainder of 2018. First-year collected premium decreased 13% to $43 million. The underwriting margin, as a percent of premium, was 16.5%, up from 14.2% in the six months ended June 30, 2017. This increase was primarily attributable to favorable claims in the first six months compared to higher-than-normal winter claims in the same period in 2017.
The Liberty National Exclusive Agency markets individual and group life insurance to middle-income customers. Life premium income for this agency was $139 million in the first six months of 2018 compared with $137 million for the same period in 2017. Net sales for the Liberty National Agency increased 7% to $24 million. The continued increases in net sales reflect changes in the structure of the agency that were put in place several years ago. Recent growth in middle management within the agency will help continue this growth. First-year collected premium increased 11% to $18 million. The underwriting margin as a percent of premium was 24%, down from 27% for the six months ended June 30, 2017. The decrease is attributed to the runoff of older business with higher margins and higher acquisition costs related to technology and other investments supporting the growth of new business.
The Liberty National average agent count increased 12% to 2,136 for the six months ended June 30, 2018 compared with 1,912 for the same period in 2017. We continue to execute our long term plan to grow this agency through expansion from small-town markets in the southeast to more densely populated areas with larger pools of potential agent recruits and customers. Continued expansion of this agency’s presence into more heavily populated, less-penetrated areas will help create long term agency growth. Additionally, the agency's prospecting training program continues to help improve the ability of agents to develop new worksite marketing business.
The Other Agencies distribution channels primarily include independent agencies selling predominantly life insurance. The Other Agencies contributed $109 million of life premium income, or 9% of Torchmark’s total in the first six months of 2018, but contributed only 3% of net sales for the period.

35
                                 TMK 2018 FORM 10-Q QTR 2

Health insurance, comparing the first six months of 2018 with the first six months of 2017. Health insurance sold by Torchmark includes Medicare Supplement insurance and limited-benefit plans (e.g. dread disease and critical illness coverage).
Health premium accounted for 30% of our total premium in the 2018 period. Health underwriting margin accounted for 27% of total underwriting margin, reflective of the lower underwriting margin as a percentage of premium for health compared with life insurance. As noted under the caption Life Insurance, we have emphasized life insurance sales relative to health, due to life’s superior profitability and its greater contribution to investment income.

The following table presents underwriting margin data for health insurance.

Health Insurance
Summary of Results
(Dollar amounts in thousands)
 
Six Months Ended June 30,
 
Increase
 
2018
 
2017
 
(Decrease)
 
Amount
 
% of
Premium
 
Amount
 
% of
Premium
 
Amount
 
%
Premium
$
503,238

 
100

 
$
487,566

 
100

 
$
15,672

 
3
 
 
 
 
 
 
 
 
 
 
 
 
Policy obligations
321,080

 
64

 
314,330

 
65

 
6,750

 
2
Required interest on reserves
(41,130
)
 
(8
)
 
(38,242
)
 
(8
)
 
(2,888
)
 
8
Net policy obligations
279,950

 
56

 
276,088

 
57

 
3,862

 
1
Commissions, premium taxes, and non-deferred acquisition expenses
44,461

 
9

 
42,853

 
9

 
1,608

 
4
Amortization of acquisition costs
61,241

 
12

 
59,992

 
12

 
1,249

 
2
Total expense
385,652

 
77

 
378,933

 
78

 
6,719

 
2
Insurance underwriting margin before other income and administrative expense
$
117,586

 
23

 
$
108,633

 
22

 
$
8,953

 
8



36
                                 TMK 2018 FORM 10-Q QTR 2


The following table is an analysis of our health premium by distribution channel.

Health Insurance
Premium by Distribution Channel
(Dollar amounts in thousands)
 
Six Months Ended June 30,
 
Increase
 
2018
 
2017
 
(Decrease)
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount
 
%
United American Independent Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
$
5,697

 
 
 
$
5,883

 
 
 
$
(186
)
 
(3
)
Medicare Supplement
182,189

 
 
 
177,330

 
 
 
4,859

 
3

 
187,886

 
37
 
183,213

 
38
 
4,673

 
3

Family Heritage Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
133,854

 
 
 
124,433

 
 
 
9,421

 
8

Medicare Supplement
—

 
 
 
—

 
 
 
—

 
—

 
133,854

 
27
 
124,433

 
25
 
9,421

 
8

Liberty National Exclusive Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
73,821

 
 
 
72,158

 
 
 
1,663

 
2

Medicare Supplement
23,216

 
 
 
27,380

 
 
 
(4,164
)
 
(15
)
 
97,037

 
19
 
99,538

 
20
 
(2,501
)
 
(3
)
American Income Exclusive Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
45,951

 
 
 
43,303

 
 
 
2,648

 
6

Medicare Supplement
123

 
 
 
138

 
 
 
(15
)
 
(11
)
 
46,074

 
9
 
43,441

 
9
 
2,633

 
6

Direct Response
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
239

 
 
 
302

 
 
 
(63
)
 
(21
)
Medicare Supplement
38,148

 
 
 
36,639

 
 
 
1,509

 
4

 
38,387

 
8
 
36,941

 
8
 
1,446

 
4

Total Health Premium
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
259,562

 
52
 
246,079

 
50
 
13,483

 
5

Medicare Supplement
243,676

 
48
 
241,487

 
50
 
2,189

 
1


$
503,238

 
100
 
$
487,566

 
100
 
$
15,672

 
3


37
                                 TMK 2018 FORM 10-Q QTR 2

We market supplemental health insurance products through a number of distribution channels. Presented below is a table of health net sales by distribution channel.
Health Insurance
Net Sales by Distribution Channel
(Dollar amounts in thousands)
 
Six Months Ended June 30,
 
Increase
 
2018
 
2017
 
(Decrease)
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount
 
%
United American Independent Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
$
242

 
 
 
$
276

 
 
 
$
(34
)
 
(12
)
Medicare Supplement
27,351

 
 
 
24,142

 
 
 
3,209

 
13

 
27,593

 
36
 
24,418

 
35
 
3,175

 
13

Family Heritage Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
29,021

 
 
 
27,528

 
 
 
1,493

 
5

Medicare Supplement
—

 
 
 
—

 
 
 
—

 
—

 
29,021

 
38
 
27,528

 
39
 
1,493

 
5

Liberty National Exclusive Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
10,254

 
 
 
9,302

 
 
 
952

 
10

Medicare Supplement
—

 
 
 
—

 
 
 
—

 
—

 
10,254

 
14
 
9,302

 
13
 
952

 
10

American Income Exclusive Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
7,086

 
 
 
6,572

 
 
 
514

 
8

Medicare Supplement
—

 
 
 
—

 
 
 
—

 
—

 
7,086

 
9
 
6,572

 
9
 
514

 
8

Direct Response
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
—

 
 
 
—

 
 
 
—

 
—

Medicare Supplement
2,561

 
 
 
2,585

 
 
 
(24
)
 
(1
)
 
2,561

 
3
 
2,585

 
4
 
(24
)
 
(1
)
Total Net Sales
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
46,603

 
61
 
43,678

 
62
 
2,925

 
7

Medicare Supplement
29,912

 
39
 
26,727

 
38
 
3,185

 
12


$
76,515

 
100
 
$
70,405

 
100
 
$
6,110

 
9


38
                                 TMK 2018 FORM 10-Q QTR 2

The following table presents health insurance first-year collected premium by distribution channel.
Health Insurance
First-Year Collected Premium by Distribution Channel
(Dollar amounts in thousands)
 
Six Months Ended June 30,
 
Increase
 
2018
 
2017
 
(Decrease)
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount
 
%
United American Independent Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
$
197

 
 
 
$
228

 
 
 
$
(31
)
 
(14
)
Medicare Supplement
29,346

 
 
 
25,812

 
 
 
3,534

 
14

 
29,543

 
42

 
26,040

 
40

 
3,503

 
13

Family Heritage Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
23,087

 
 
 
21,912

 
 
 
1,175

 
5

Medicare Supplement
—

 
 
 
—

 
 
 
—

 
—

 
23,087

 
32

 
21,912

 
33

 
1,175

 
5

Liberty National Exclusive Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
8,696

 
 
 
8,243

 
 
 
453

 
5

Medicare Supplement
(1
)
 
 
 
2

 
 
 
(3
)
 
(150
)
 
8,695

 
12

 
8,245

 
13

 
450

 
5

American Income Exclusive Agency
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
7,350

 
 
 
6,842

 
 
 
508

 
7

Medicare Supplement
—

 
 
 
—

 
 
 
—

 
—

 
7,350

 
10

 
6,842

 
10

 
508

 
7

Direct Response
 
 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
—

 
 
 
—

 
 
 
—

 
—

Medicare Supplement
2,620

 
 
 
2,689

 
 
 
(69
)
 
(3
)
 
2,620

 
4

 
2,689

 
4

 
(69
)
 
(3
)
Total First-Year Collected Premium


 
 
 
 
 
 
 
 
 
 
Limited-benefit plans
39,330

 
55

 
37,225

 
57

 
2,105

 
6

Medicare Supplement
31,965

 
45

 
28,503

 
43

 
3,462

 
12


$
71,295

 
100

 
$
65,728

 
100

 
$
5,567

 
8


A discussion of health operations by distribution channel follows.
The UA Independent Agency consists of independent agencies appointed with Torchmark who can also sell for other companies. The UA Independent Agency was Torchmark’s largest health agency in terms of health premium income. Premium income was $188 million, representing 37% of Torchmark’s total health premium. Net sales were $28 million, or 36% of Torchmark’s health sales. This agency primarily produces Medicare Supplement insurance, with Medicare Supplement premium income of $182 million. The UA Independent Agency represents approximately 75% of all Torchmark Medicare Supplement premium and 91% of Medicare Supplement net sales. Medicare Supplement premium in this agency rose 3%. Net sales of the Medicare Supplement product increased 13% in 2018 primarily as a result of an increase in individual sales. First-year collected health premium rose 13% to $30 million.
The Family Heritage Agency primarily markets limited-benefit supplemental health insurance in non-urban areas. Most of their policies include a cash-back feature, such as a return of premium whereby any excess of premiums over claims paid is returned to the policyholder at the end of a specified period stated within the insurance policy. The Family Heritage Agency contributed $29 million in net sales in the first six months of 2018. Health premium income was $134 million for the six month period of 2018, representing 27% of Torchmark’s health premium compared with $124 million or 25% of health premium in the prior year period. The average agent count was 1,020 for the six months ended June 30, 2018 compared with 965 for the same period in 2017, an increase of 6%.

39
                                 TMK 2018 FORM 10-Q QTR 2

The Liberty National Exclusive Agency represented 19% of all Torchmark health premium income at $97 million in the six months of 2018. The Liberty Agency markets limited-benefit health supplemental products consisting primarily of critical illness insurance. Much of Liberty’s health business is now generated through worksite marketing targeting small businesses of 10 to 25 employees. In 2018, health premium income in the Liberty Agency declined $3 million to $97 million from prior year premium. Liberty’s health premium decline is primarily due to the runoff of a block of discontinued Medicare Supplement policies previously sold by the agency.
Other distribution. Certain of our other distribution channels market health products, although their main emphasis is on life insurance. On a combined basis, they accounted for 17% of health premium in the 2018 period. The American Income Exclusive Agency primarily markets accident plans. The Direct Response unit markets primarily Medicare Supplements to employer or union-sponsored groups.

Annuities. Annuities represent an insignificant part of our business and are not expected to be an important part of our marketing strategy going forward.

Operating expenses, comparing the first six months of 2018 with the first six months of 2017. Operating expenses consist of insurance administrative expenses and Parent Company expenses. Also included is stock compensation expense, which is viewed by us as Parent Company expense. Insurance administrative expenses relate to premium income for a given period; therefore, we measure those expenses as a percentage of premium income. Total expenses are measured as a percentage of total revenues. An analysis of operating expenses is shown below.

Operating Expenses Selected Information
(Dollar amounts in thousands)
 
Six Months Ended June 30,
 
2018
 
2017
 
Amount
 
% of
Premium
 
Amount
 
% of
Premium
Insurance administrative expenses:
 
 
 
 
 
 
 
Salaries
$
49,405

 
2.9
 
$
46,834

 
2.9
Other employee costs
18,699

 
1.1
 
17,236

 
1.0
Information technology costs
13,688

 
0.8
 
12,765

 
0.8
Legal costs
4,111

 
0.2
 
4,021

 
0.2
Other administrative costs
24,845

 
1.5
 
22,469

 
1.4
Total insurance administrative expenses
110,748

 
6.5
 
103,325

 
6.3
 
 
 
 
 
 
 
 
Parent company expense
5,139

 
 
 
4,898

 
 
Stock compensation expense
19,557

 
 
 
16,546

 
 
Total operating expenses, per Condensed Consolidated Statements of Operations
$
135,444

 
 
 
$
124,769

 
 
 
 
 
 
 
 
 
 
Insurance administrative expenses:
 
 
 
 
 
 
 
Increase (decrease) over prior year
7.2
%
 
 
 
6.7
%
 
 
Total operating expenses:
 
 
 
 
 
 
 
Increase (decrease) over prior year
8.6
%
 
 
 
8.2
%
 
 

The 7.2% increase in administrative expenses was primarily due to an increase in other employee costs and investments in information technology. The increase in other employee costs was due primarily to higher pension expense driven by lower interest rates.

The increase in information technology costs reflects investments related to customer experience enhancements, data analytics capabilities, systems modernizations, and information security programs.

The increase in stock compensation expense was primarily due to higher expense associated with equity awards, reflecting Torchmark's higher share price as compared with the same period a year ago.

40
                                 TMK 2018 FORM 10-Q QTR 2


Investments (excess investment income), comparing the first six months of 2018 with the first six months of 2017. We manage our capital resources including investments, debt, and cash flow through the investment segment. Excess investment income represents the profit margin attributable to investment operations and is the measure that we use to evaluate the performance of the investment segment as described in Note 10—Business Segments. It is defined as net investment income less the required interest on net policy liabilities and the interest cost associated with capital funding or “financing costs.”
We also view excess investment income per diluted common share as an important and useful measure to evaluate the performance of the investment segment. It is defined as excess investment income divided by the total diluted weighted average shares outstanding, representing the contribution by the investment segment to the consolidated earnings per share of the Company. Since implementing our share repurchase program in 1986, we have used $7.3 billion of cash flow to repurchase Torchmark shares (average split-adjusted price per diluted common share of $16.37) after determining that the repurchases provided a greater return than other investment alternatives. If we had not used this excess cash to repurchase shares, but had instead invested it in interest-bearing assets, we would have earned more investment income and had more shares outstanding. Because excess investment income per diluted common share incorporates all capital resources, we believe that excess investment income per diluted share is a useful measure to evaluate the investment segment.
The following table summarizes Torchmark’s investment income, excess investment income, and excess investment income per diluted common share.
Excess Investment Income
(Dollar amounts in thousands)
 
Six Months Ended 
 June 30,
 
Increase
(Decrease)
 
2018
 
2017
 
Amount
 
%
Net investment income
$
436,652

 
$
421,058

 
$
15,594

 
4
Interest on net insurance policy liabilities:
 
 
 
 
 
 
 
Interest on reserves
(379,347
)
 
(362,531
)
 
(16,816
)
 
5
Interest on deferred acquisition costs
108,614

 
104,150

 
4,464

 
4
Net required interest
(270,733
)
 
(258,381
)
 
(12,352
)
 
5
Financing costs
(44,033
)
 
(41,855
)
 
(2,178
)
 
5
Excess investment income
$
121,886

 
$
120,822

 
$
1,064

 
1
 
 
 
 
 
 
 
 
Excess investment income per diluted share
$
1.05

 
$
1.01

 
$
0.04

 
4
 
 
 
 
 
 
 
 
Mean invested assets (at amortized cost)
$
16,036,950

 
$
15,185,776

 
$
851,174

 
6
Average net insurance policy liabilities(1)
9,657,425

 
9,247,438

 
409,987

 
4
Average debt and preferred securities (at amortized cost)
1,518,576

 
1,498,943

 
19,633

 
1
(1)
Net of deferred acquisition costs, excluding the associated unrealized gains and losses thereon.

As indicated in the table above, excess investment income increased 1% compared with the year-ago period, while on a per diluted common share basis, it increased 4% from the year-ago period. Excess investment income per diluted common share generally increases at a faster pace than excess investment income because the number of diluted common shares outstanding generally decreases from year to year as result of our share repurchase program.
Net investment income during the six months ending June 30, 2018 is $16 million or 4% greater than the same period last year. Mean invested assets during the first six months of 2018 were 6% higher than they were during the same period last year. The effective annual yield rate earned on the fixed maturity portfolio was 5.58% in the first six months of 2018, compared with 5.70% a year earlier, Growth in net investment income has been negatively impacted in recent years by the low interest rate environment during which time we have invested new money at rates less than the average portfolio yield rate and reinvested the proceeds from dispositions at yield rates less than what we earned on these bonds prior to disposition. As a result, growth in net investment income has been slower than the growth in mean

41
                                 TMK 2018 FORM 10-Q QTR 2

invested assets in recent years. We currently expect that the average annual turnover of fixed maturity assets during the next five years will not exceed 2% to 3% of the portfolio and that this turnover will not have a material negative impact on investment income.
Should long-term interest rates rise, Torchmark's net investment income would benefit due to higher interest rates on new purchases. While such a rise in interest rates could adversely affect the fair value of the fixed maturities portfolio, we could withstand an increase in interest rates of approximately 50 to 55 basis points before the net unrealized gains on our fixed maturity portfolio as of June 30, 2018 would be eliminated. Should interest rates increase further than that, we would not be concerned with potential interest rate driven unrealized losses in our fixed maturity portfolio because we have the intent and, more importantly, the ability, to hold our fixed maturities to maturity.
Required interest on net insurance policy liabilities is the amount of net investment income considered by management necessary to “fund” net insurance policy liabilities, which is the net of the benefit reserve liability and deferred acquisition cost asset. As such, it is removed from the investment segment and applied to the insurance segments to offset the effect of the interest required by the insurance segments. As discussed in Note 10—Business Segments, management believes this provides a more meaningful analysis of the investment and insurance segments. Required interest is based on the actuarial interest assumptions used to discount the benefit reserve liability and to amortize the deferred acquisition costs for our insurance policies in force.
The great majority of our life and health insurance policies are fixed interest-rate protection policies, not investment products, and are accounted for under current accounting guidance for long-duration insurance products which mandates that interest rate assumptions for a particular block of business be “locked in” for the life of that block. Each calendar year, we set the discount rate to be used to calculate the benefit reserve liability and deferred acquisition cost asset for all insurance policies issued that year. That rate is based on the new money yields that we expect to earn on cash flow received in the future from policies of that issue year, and cannot be changed. The discount rate used for policies issued in the current year has no impact on the in force policies issued in prior years as the rates of all prior issue years are also locked in. As such, the overall discount rate for the entire in force block is a weighted average of the discount rates being used from all issue years. Changes in the overall weighted-average discount rate over time are caused by changes in the mix of the reserves and the deferred acquisition cost asset by issue year on the entire block of in force business. Business issued in the current year has very little impact on the overall weighted-average discount rate due to the size of our in force business.
Required interest on net insurance policy liabilities increased $12 million or 5% to $271 million, in line with the growth in average net interest-bearing insurance policy liabilities.
Financing costs for the segment primarily consist of interest on our various debt instruments. Interest on our debt increased in the first six months of 2018 to $44 million compared with $42 million for the same period last year. The increase in financing costs was primarily due to higher interest rates on short-term debt.
More information concerning debt can be found in the Capital Resources section of this report.

42
                                 TMK 2018 FORM 10-Q QTR 2

 
Analysis of Financing Costs
(Dollar amounts in thousands)
 
Six Months Ended 
 June 30,
 
Increase
(Decrease)
 
2018
 
2017
 
Amount
 
%
Interest on funded debt
$
36,384

 
$
36,714

 
$
(330
)
 
(1
)
Interest on term loan
1,487

 
1,082

 
405

 
37

Interest on short-term debt
6,160

 
4,057

 
2,103

 
52

Other
2

 
2

 
—

 
—

Financing costs
$
44,033

 
$
41,855

 
$
2,178

 
5

Realized Gains and Losses, comparing the first six months of 2018 with the first six months of 2017. As discussed in Note 10—Business Segments, our core business of providing insurance coverage requires us to maintain a large and diverse investment portfolio to support our insurance liabilities. From time to time, investments are disposed of or written down prior to maturity, resulting in realized gains or losses. Since these dispositions and write-downs are outside the course of our normal operations, management removes the effects of such gains and losses when evaluating its overall core operating results.
As discussed in Note 4—Investments, during the first quarter of 2018, the Company elected to measure its investment in certain limited partnerships at fair value in accordance with the fair value option for financial instruments with changes recognized in "Realized Investment Gains (Losses)" in the Condensed Consolidated Statements of Operations.
The following table summarizes our tax-effected realized gains (losses) by component.
Analysis of Realized Gains (Losses), Net of Tax
(Dollar amounts in thousands, except per share data)
 
 
Six Months Ended June 30,
 
2018
 
2017
 
Amount
 
Per Share
 
Amount
 
Per Share
Fixed maturities:
 
 
 
 
 
 
 
Sales
$
—

 
$
—

 
$
—

 
$
—

Called or tendered
8,546

 
0.07

 
390

 
—

Write-downs
—

 
—

 
(159
)
 
—

Other long-term investments
2,264

 
0.02

 
—

 
—

Other
64

 
—

 
(2,182
)
 
(0.02
)
Total
$
10,874

 
$
0.09

 
$
(1,951
)
 
$
(0.02
)
1) Written down due to other-than-temporary impairment

Investments (acquisitions), comparing the first six months of 2018 with the first six months of 2017. Torchmark’s investment policy calls for investing primarily in investment grade fixed maturities that meet our quality and yield objectives. We generally prefer to invest in securities with longer maturities because they more closely match the long-term nature of our policy liabilities. We believe this strategy is appropriate because our cash flows from operations and invested assets are positive, stable and predictable. If longer-term securities that meet our quality and yield objectives are not available, we do not relax our quality objectives; instead, we consider investing in shorter or lower yielding securities taking into consideration the slope of the yield curve and other factors.

43
                                 TMK 2018 FORM 10-Q QTR 2


The following table summarizes selected information for fixed maturity purchases. The effective annual yield shown is the yield calculated to the “worst call date.” For non-callable bonds, the worst-call date is always the maturity date. For callable bonds, the worst-call date is the call date that produces the lowest yield (or the maturity date, if the yield calculated to the maturity date is lower than the yield calculated to each call date).

Fixed Maturity Acquisitions Selected Information
(Dollar amounts in thousands)
 
 
Six Months Ended 
 June 30,
 
2018
 
2017
Cost of acquisitions:

 

Investment-grade corporate securities
$
391,090

 
$
670,856

Tax-exempt municipal securities
140,644

 
—

Other investment-grade securities
8,708

 
5,792

Total fixed maturity acquisitions
$
540,442

 
$
676,648

 
 
 
 
Effective annual yield (one year compounded)(1)
4.70
%
 
4.91
%
Average life (in years, to next call)
15.2

 
21.6

Average life (in years, to maturity)
21.8

 
22.5

Average rating
A
 
BBB+


(1)
Tax-equivalent basis, where the yield on tax-exempt securities is adjusted to produce a yield equivalent to the pretax yield on taxable securities.
Acquisitions in both periods consisted primarily of corporate bonds, with securities spanning a diversified range of issuers, industry sectors, and geographical regions. The average rating was higher during the first six months ended June 30, 2018 due to investing in higher rated tax-exempt municipal bonds. All of the acquired securities were investment grade.
Investments (portfolio composition). The composition of the investment portfolio at book value on June 30, 2018 and December 31, 2017 was as follows:
Invested Assets at June 30, 2018
(Dollar amounts in thousands)
 
 
At June 30, 2018
 
At December 31, 2017
 
Amount
 
% of
Total
 
Amount
 
% of
Total
Fixed maturities (at amortized cost)
$
15,350,152

 
95
 
$
14,995,101

 
95
Policy loans
537,808

 
3
 
529,529

 
3
Other long-term investments(1)
172,612

 
1
 
107,953

 
1
Short-term investments
68,544

 
1
 
127,071

 
1
Total
$
16,129,116

 
100
 
$
15,759,654

 
100

(1)
Includes investments of $108 million as of June 30, 2018 that are carried under the fair value option.

Approximately 95% of our investments at book value are in a diversified fixed-maturity portfolio, the same percentage as at year end. Policy loans, which are secured by policy cash values, make up approximately 3% of our investments. We also have insignificant investments in equity securities and other long-term investments. Because fixed maturities represent such a significant portion of our investment portfolio, the remainder of the discussion of portfolio composition will focus on fixed maturities.


44
                                 TMK 2018 FORM 10-Q QTR 2

Fixed Maturities. The following tables summarize certain information about the major corporate sectors and security types held in our fixed maturity portfolio at June 30, 2018 and December 31, 2017.

Fixed Maturities by Sector
At June 30, 2018
(Dollar amounts in thousands)
 

Below Investment Grade
 
Total Fixed Maturities
 
% of Total Fixed Maturities
 
 
Cost or
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
 
Cost or
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
 
At Amortized Cost
At Fair Value
 
 
Corporates:
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial
 
 
 
 
 
 
 
 
 
 
 
 
 
Insurance - life, health, P&C
$
66,402

$
2,485

$
(4,704
)
$
64,183

 
$
1,965,953

$
219,399

$
(14,899
)
$
2,170,453

 
13
13
 
Banks
27,090

—

(3,838
)
23,252

 
783,807

56,038

(12,034
)
827,811

 
5
5
 
Other financial
74,956

—

(13,251
)
61,705

 
969,475

39,538

(29,030
)
979,983

 
6
6
 
Total financial
168,448

2,485

(21,793
)
149,140

 
3,719,235

314,975

(55,963
)
3,978,247

 
24
24
 
Utilities
 
 
 
 
 
 
 
 
 
 
 
 
 
Electric
20,183

195

(85
)
20,293

 
1,450,326

222,795

(8,199
)
1,664,922

 
9
11
 
Gas and water
—

—

—

—

 
526,101

34,069

(4,321
)
555,849

 
4
3
 
Total utilities
20,183

195

(85
)
20,293

 
1,976,427

256,864

(12,520
)
2,220,771

 
13
14
 
Industrial - Energy
 
 
 
 
 
 
 
 
 
 
 
 
 
Pipelines
40,572

442

(2,062
)
38,952

 
886,155

64,294

(15,013
)
935,436

 
6
6
 
Exploration and production
28,149

884

(486
)
28,547

 
526,928

51,594

(4,303
)
574,219

 
3
3
 
Oil field services
33,861

—

(7,522
)
26,339

 
83,707

5,958

(7,522
)
82,143

 
1
1
 
Refiner
—

—

—

—

 
73,030

11,694

(410
)
84,314

 
1
1
 
Driller
49,854

44

(12,853
)
37,045

 
49,854

44

(12,853
)
37,045

 
—
—
 
Total energy
152,436

1,370

(22,923
)
130,883

 
1,619,674

133,584

(40,101
)
1,713,157

 
11
11
 
Industrial - Basic materials
 
 
 
 
 
 
 
 
 
 
 
 
 
Chemicals
—

—

—

—

 
554,540

14,768

(10,912
)
558,396

 
4
3
 
Metals and mining
57,424

1,846

(23
)
59,247

 
386,906

46,657

(162
)
433,401

 
2
3
 
Forestry products and paper
—

—

—

—

 
111,898

9,020

(823
)
120,095

 
1
1
 
Total basic materials
57,424

1,846

(23
)
59,247

 
1,053,344

70,445

(11,897
)
1,111,892

 
7
7
 
Industrial - Consumer, non-cyclical
21,333

—

(5,531
)
15,802

 
1,960,082

90,108

(56,979
)
1,993,211

 
13
12
 
Other industrials
46,996

1,595

(388
)
48,203

 
1,353,561

91,119

(21,912
)
1,422,768

 
9
9
 
Industrial -
Transportation
26,320

1,033

(718
)
26,635

 
560,442

52,770

(6,691
)
606,521

 
3
3
 
Other corporate sectors
136,029

2,699

(11,243
)
127,485

 
1,256,190

57,578

(49,084
)
1,264,684

 
8
8
 
Total corporates
629,169

11,223

(62,704
)
577,688

 
13,498,955

1,067,443

(255,147
)
14,311,251

 
88
88
 
Other fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
 
 
Government (U.S., municipal, and foreign)
306

138

—

444

 
1,640,961

107,282

(4,663
)
1,743,580

 
11
11
 
Collateralized debt obligations
58,582

23,437

(5,823
)
76,196

 
58,582

23,437

(5,823
)
76,196

 
—
—
 
Other asset-backed securities
—

—

—

—

 
150,449

2,353

(429
)
152,373

 
1
1
 
Mortgage-backed securities(1)
—

—

—

—

 
1,205

87

(1
)
1,291

 
—
—
 
Total fixed maturities
$
688,057

$
34,798

$
(68,527
)
$
654,328

 
$
15,350,152

$
1,200,602

$
(266,063
)
$
16,284,691

 
100
100
(1)
Includes GNMA's.


45
                                 TMK 2018 FORM 10-Q QTR 2

Fixed Maturities by Sector
At December 31, 2017
(Dollar amounts in thousands)
 
 
Below Investment Grade
 
Total Fixed Maturities
 
% of Total Fixed Maturities
 
 
Cost or
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
 
Cost or
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
 
At Amortized Cost
At Fair Value
 
 
Corporates:
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial
 
 
 
 
 
 
 
 
 
 
 
 
 
Insurance - life, health, P&C
$
66,489

$
3,896

$
(3,650
)
$
66,735

 
$
2,018,315

$
346,364

$
(4,588
)
$
2,360,091

 
14
14

 
Banks
27,104

—

(2,727
)
24,377

 
747,249

117,724

(3,007
)
861,966

 
5
5

 
Other financial
74,956

—

(17,661
)
57,295

 
853,583

74,765

(18,524
)
909,824

 
6
6

 
Total financial
168,549

3,896

(24,038
)
148,407

 
3,619,147

538,853

(26,119
)
4,131,881

 
25
25

 
Utilities
 
 
 
 
 
 
 
 
 
 
 
 
 
Electric
20,713

1,159

—

21,872

 
1,463,872

306,812

(1,275
)
1,769,409

 
10
11

 
Gas and water
—

—

—

—

 
520,418

64,726

(120
)
585,024

 
3
3

 
Total utilities
20,713

1,159

—

21,872

 
1,984,290

371,538

(1,395
)
2,354,433

 
13
14

 
Industrial - Energy
 
 
 
 
 
 
 
 
 
 
 
 
 
Pipelines
40,590

937

(1,092
)
40,435

 
880,379

117,765

(2,320
)
995,824

 
6
6

 
Exploration and production
28,174

1,180

(85
)
29,269

 
527,581

79,784

(2,620
)
604,745

 
4
4

 
Oil field services
33,867

—

(6,004
)
27,863

 
83,722

11,074

(6,004
)
88,792

 
1
1

 
Refiner
—

—

—

—

 
73,106

17,430

—

90,536

 
—
—

 
Driller
54,561

87

(14,448
)
40,200

 
54,561

87

(14,448
)
40,200

 
—
—

 
Total energy
157,192

2,204

(21,629
)
137,767

 
1,619,349

226,140

(25,392
)
1,820,097

 
11
11

 
Industrial - Basic materials
 
 
 
 
 
 
 
 
 
 
 
 
 
Chemicals
—

—

—

—

 
541,785

59,216

(20
)
600,981

 
3
3

 
Metals and mining
57,438

7,727

—

65,165

 
387,134

85,105

—

472,239

 
3
3

 
Forestry products and paper
—

—

—

—

 
112,175

16,911

—

129,086

 
1
1

 
Total basic materials
57,438

7,727

—

65,165

 
1,041,094

161,232

(20
)
1,202,306

 
7
7

 
Industrial - Consumer, non-cyclical
21,334

—

(4,498
)
16,836

 
1,834,778

192,887

(6,494
)
2,021,171

 
12
12

 
Other industrials
47,136

2,965

—

50,101

 
1,326,051

179,694

(671
)
1,505,074

 
9
9

 
Industrial -
Transportation
26,443

1,581

(162
)
27,862

 
553,435

90,211

(195
)
643,451

 
3
4

 
Other corporate sectors
143,995

5,076

(9,387
)
139,684

 
1,310,445

123,588

(13,236
)
1,420,797

 
9
8

 
Total corporates
642,800

24,608

(59,714
)
607,694

 
13,288,589

1,884,143

(73,522
)
15,099,210

 
89
90

 
Other fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
 
 
Government (U.S., municipal, and foreign)
306

—

(105
)
201

 
1,501,865

147,772

(1,507
)
1,648,130

 
10
9

 
Collateralized debt obligations
59,150

20,084

(7,653
)
71,581

 
59,150

20,084

(7,653
)
71,581

 
—
—

 
Other asset-backed securities
—

—

—

—

 
144,040

4,790

—

148,830

 
1
1

 
Mortgage-backed securities(1)
—

—

—

—

 
1,457

118

(1
)
1,574

 
—
—

 
Total fixed maturities
$
702,256

$
44,692

$
(67,472
)
$
679,476

 
$
14,995,101

$
2,056,907

$
(82,683
)
$
16,969,325

 
100
100

(1)
Includes GNMA's.


46
                                 TMK 2018 FORM 10-Q QTR 2

At June 30, 2018, fixed maturities had a fair value of $16.3 billion, compared with $17.0 billion at December 31, 2017. The net unrealized gain position in the fixed-maturity portfolio decreased from $2.0 billion at December 31, 2017 to $935 million at June 30, 2018 due to increases in interest rates during the period. The June 30, 2018 net unrealized gain consisted of gross unrealized gains of $1.2 billion offset by $266 million of gross unrealized losses, compared with the December 31, 2017 net unrealized gain which consisted of a gross unrealized gain of $2.1 billion and a gross unrealized loss of $83 million.
Corporate securities, which consist of bonds and redeemable preferred stocks, were the largest component of the fixed maturity portfolio, representing 88% of amortized cost and fair value. The remainder of the portfolio is invested primarily in securities issued by the U.S. government and U.S. municipalities. The Company holds insignificant amounts in foreign government bonds, collateralized debt obligations, asset-backed securities, and agency mortgage-backed securities. Corporate securities are diversified over a variety of industry sectors and issuers; the total fixed maturity portfolio consisted of 610 issuers.
An analysis of the fixed maturity portfolio at June 30, 2018 and December 31, 2017 by a composite quality rating is shown in the table below. The composite quality rating for each security is the average of the security’s ratings as assigned by Moody’s Investor Service, Standard & Poor’s, Fitch Ratings, and Dominion Bond Rating Service, LTD. The ratings assigned by these four nationally recognized statistical rating organizations are evenly weighted when calculating the average. The composite quality rating is created using a methodology developed by Torchmark Corporation using ratings from the various rating agencies noted above (It should be noted that the composite quality rating is not a Standard & Poor's credit rating. Standard and Poor's does not sponsor, endorse or promote the composite quality rating and shall not be liable for any use of the composite quality rating.) Included in the chart below are private placement fixed maturity holdings of $604 million at amortized cost ($604 million at fair value). The ratings for these holdings were assigned by the third party managers of those securities.

Fixed Maturities by Rating
(Dollar amounts in thousands)
 
June 30, 2018
 
Amortized
Cost
 
%
 
Fair
Value
 
%
Investment grade:
 
 
 
 
 
 
 
AAA
$
701,471

 
5
 
$
715,418

 
4
AA
1,147,404

 
7
 
1,218,259

 
8
A
4,269,153

 
28
 
4,784,147

 
29
BBB+
3,296,542

 
22
 
3,464,841

 
21
BBB
3,527,859

 
23
 
3,678,016

 
23
BBB-
1,719,666

 
11
 
1,769,682

 
11
Investment grade
14,662,095

 
96
 
15,630,363

 
96
Below investment grade:
 
 
 
 
 
 
 
BB
379,853

 
2
 
359,179

 
2
B
175,023

 
1
 
147,651

 
1
Below B
133,181

 
1
 
147,498

 
1
Below investment grade
688,057

 
4
 
654,328

 
4

$
15,350,152

 
100
 
$
16,284,691

 
100












47
                                 TMK 2018 FORM 10-Q QTR 2

Fixed Maturities by Rating
(Dollar amounts in thousands)
 
December 31, 2017
 
Amortized
Cost
 
%
 
Fair
Value
 
%
Investment grade:
 
 
 
 
 
 
 
AAA
$
649,559

 
4
 
$
689,356

 
4
AA
1,095,502

 
7
 
1,222,148

 
7
A
4,139,252

 
28
 
4,959,570

 
29
BBB+
3,493,309

 
23
 
3,936,939

 
23
BBB
3,302,118

 
22
 
3,696,880

 
22
BBB-
1,613,105

 
11
 
1,784,956

 
11
Investment grade
14,292,845

 
95
 
16,289,849

 
96
Below investment grade:
 
 
 
 
 
 
 
BB
413,425

 
3
 
397,063

 
2
B
152,454

 
1
 
133,582

 
1
Below B
136,377

 
1
 
148,831

 
1
Below investment grade
702,256

 
5
 
679,476

 
4
 
$
14,995,101

 
100
 
$
16,969,325

 
100

Of the $15.4 billion of fixed maturities at amortized cost as of June 30, 2018, $14.7 billion or 96% were investment grade with an average rating of A-. Below-investment-grade bonds were $688 million with an average rating of B+. Below-investment-grade bonds at amortized cost were 14% of our shareholders’ equity, excluding the effect of unrealized gains and losses on fixed maturities as of June 30, 2018. Overall, the total portfolio was rated BBB+ based on amortized cost, the same as at the end of 2017.
An analysis of the changes in our portfolio of below-investment-grade bonds at amortized cost during the first six months of 2018 is as follows:

Below-Investment-Grade Bonds
(Dollar amounts in thousands)
Balance as of December 31, 2017
$
702,256

Downgrades by rating agencies
—

Upgrades by rating agencies
—

Disposals
(16,108
)
Amortization and other
1,909

Balance as of June 30, 2018
$
688,057


As noted earlier, our investment policy calls for investing primarily in fixed maturities that are investment grade and meet our quality and yield objectives. Thus, any increases in below-investment-grade issues are typically a result of ratings downgrades of existing holdings. Our investment portfolio does not contain counterparty risks as we are not a party to any derivatives contracts. We also do not participate in securities lending and we have no off-balance sheet investments.

48
                                 TMK 2018 FORM 10-Q QTR 2

Additional information concerning the fixed-maturity portfolio is as follows:
Fixed Maturity Portfolio Selected Information
 
At
 
June 30,
2018
 
December 31, 2017
 
June 30,
2017
Average annual effective yield(1)
5.56%
 
5.60%
 
5.68%
Average life, in years, to:
 
 
 
 
 
Next call(2)
17.1
 
17.5
 
17.4
Maturity(2)
18.8
 
19.1
 
19.2
Effective duration to:
 
 
 
 
 
Next call(2)(3)
10.3
 
10.8
 
10.6
Maturity(2)(3)
11.0
 
11.5
 
11.4

(1)
Tax-equivalent basis. The yield on tax-exempt securities is adjusted to produce a yield equivalent to the pretax yield on taxable securities.
(2)
Torchmark calculates the average life and duration of the fixed maturity portfolio two ways: (a) based on the next call date which is the next call date for callable bonds and the maturity date for noncallable bonds, and (b) based on the maturity date of all bonds, whether callable or not.
(3)
Effective duration is a measure of the price sensitivity of a fixed-income security to a particular change in interest rates.
Financial Condition
Liquidity. Liquidity provides Torchmark with the ability to meet on demand the cash commitments required to support our business operations and meet our financial obligations. Our liquidity is evidenced by consistent positive cash flow, a portfolio of marketable investments, and our line of credit facility.
Insurance subsidiary liquidity. The operations of our insurance subsidiaries have historically generated substantial cash inflows in excess of immediate cash needs. Sources of cash flows for the insurance subsidiaries include primarily premium and investment income. Cash outflows from operations include policy benefit payments, commissions, administrative expenses and taxes. The funds to provide for policy benefits, the majority of which are paid in future periods, are invested primarily in long-term fixed maturities as they better match the long-term nature of these obligations. In addition to investment income, maturities and scheduled repayments in the investment portfolio are sources of cash. Excess cash available from the insurance subsidiaries’ operations is generally distributed as a dividend to the Parent Company, subject to regulatory restriction. The dividends are generally paid in amounts equal to the subsidiaries’ prior year statutory net income excluding realized capital gains. While the leading source of the excess cash is investment income, a significant portion of the excess cash also comes from underwriting income due to our high underwriting margins and effective expense control.
Parent Company liquidity. An important source of Parent Company liquidity is the dividends from the insurance subsidiaries noted above. These dividends are received throughout the year and are used by the Parent Company to pay dividends on common and preferred stock, interest and principal repayment requirements on Parent Company debt, and operating expenses of the Parent Company. In the first six months of 2018, the Parent Company received $238 million of cash dividends from subsidiaries, compared with $201 million in 2017. The increase in cash dividends received from subsidiaries was primarily due to the timing of dividend payments. For the full year 2018, cash dividends from subsidiaries are expected to total approximately $440 million. Including transfers from other subsidiaries, and after paying shareholder dividends, interest on debt obligations and other expenses, we expect the Parent Company to have approximately $325 million in excess cash flow in 2018.
Additional sources of liquidity for the Parent Company are cash, intercompany receivables, intercompany borrowings, and a credit facility. At June 30, 2018, the Parent Company had $79 million of invested cash and net intercompany receivables. The credit facility is discussed below.

Credit Facility. We have a credit facility with a group of lenders allowing for unsecured revolving borrowings and stand-by letters of credit up to $750 million, which could be extended up to $1 billion. We may request the extension, however, it is not guaranteed. Up to $250 million in letters of credit can be issued against the facility. The facility serves as a back-up credit line for a commercial paper program under which we may issue commercial paper at any time, with total commercial paper outstanding not to exceed the facility maximum, less any letters of credit issued. Interest on the commercial paper program is charged at variable rates. This facility was amended in May 2016 to extend the maturity date of the facility to May 2021. The amendment also allowed for an additional $100 million term loan to be issued under the facility rate structure. The term loan was issued during 2016 and will be repaid in quarterly escalating

49
                                 TMK 2018 FORM 10-Q QTR 2

installments with a balloon payment of $75 million due in May 2021. Interest on the term loan is computed and paid monthly at 125 basis points plus 1 month LIBOR. In accordance with the agreement, we are subject to certain covenants regarding capitalization. As of June 30, 2018, we were in full compliance with those covenants.

Commercial paper outstanding and any amortization payments of the term loan due within one year are included in short-term debt. The remaining balance of the term loan is included in long-term debt. Also included in short-term debt at June 30, 2018 are the $293 million par value of 9.25% Senior Notes due June 15, 2019.
The following table presents certain information about our commercial paper borrowings.
Credit Facility - Commercial Paper
(Dollar amounts in thousands)
 
 
At
 
 
June 30, 
 2018
 
December 31, 2017
 
June 30, 
 2017
Balance of commercial paper at end of period (par value)
 
$
375,200

 
$
324,250

 
$
303,565

Annualized interest rate
 
2.61
%
 
1.78
%
 
1.38
%
Letters of credit outstanding
 
$
155,000

 
$
177,000

 
$
177,000

Remaining amount available under credit line
 
219,800

 
248,750

 
269,435

 
 
Six Months Ended 
 June 30,
 
 
2018
 
2017
Average balance of commercial paper outstanding during period (par value)
 
$
389,234

 
$
363,859

Daily-weighted average interest rate (annualized)
 
2.20
%
 
1.17
%
Maximum daily amount outstanding during period (par value)
 
$
525,990

 
$
455,912

The increase in commercial paper during the six months ended June 30, 2018, reflects timing of cash needs at the Parent Company and funds used to call the Company's Junior Subordinated Debentures. We had no difficulties in accessing the commercial paper market under this facility during the six month periods ended June 30, 2018 and 2017.
In summary, Torchmark expects to have readily available funds for the foreseeable future to conduct its operations and to maintain target capital ratios in the insurance subsidiaries through internally-generated cash flow and the credit facility. In the unlikely event that more liquidity is needed, the Parent Company could generate additional funds through multiple sources including, but not limited to, the issuance of debt, an additional short-term credit facility, and intercompany borrowing.
Consolidated liquidity. Consolidated net cash inflows from operations were $617 million in the first six months of 2018, compared with $739 million in the same period of 2017. The decrease is primarily attributable to a reduction in cash flows from discontinued operations and fluctuations in the settlement of certain amounts included in other liabilities. In addition to cash inflows from operations, our insurance companies received proceeds from maturities, calls, and repayments of fixed maturities available for sale in the amount of $180 million during the 2018 period. As previously noted under the caption Credit Facility, we have in place a line of credit facility. The insurance companies have no additional outstanding credit facilities.
Cash and short-term investments were $151 million at June 30, 2018, compared with $246 million at December 31, 2017. In addition to these liquid assets, the entire $16.3 billion (fair value at June 30, 2018) portfolio of fixed income securities is available for sale in the event of an unexpected need. Approximately 96% of our fixed income securities are publicly traded, freely tradable under SEC Rule 144, or qualified for resale under SEC Rule 144A. We generally expect to hold fixed income securities to maturity, and even though these securities are classified as available for sale, we have the ability and intent to hold any securities which are temporarily impaired until they mature. Our strong cash flows from operations, on-going investment maturities, and credit line availability make any need to sell securities for liquidity highly unlikely.

50
                                 TMK 2018 FORM 10-Q QTR 2

Capital Resources. Our goal is to maintain capital at levels necessary to support our current ratings. For the past several years, that level has been around a National Association of Insurance Commissioners (NAIC) Company Action Level Risk Based Capital (RBC) ratio of 325% on a consolidated basis. At December 31, 2017, our consolidated RBC ratio was 314%, a decrease from the prior year due to the reduction in deferred tax assets that resulted from the passage of the tax reform legislation at the end of last year. Even though lower than the 325% target, this capital level is 6.3 times the amount of capital required by our regulators.

We are still in the process of setting our future target capital levels. In June, the NAIC issued adjustments to certain RBC factors to reflect the reduction of the corporate income tax rate from 35% to 21%, which are effective for 2018. Taking into account these new factors, we have roughly estimated that our consolidated RBC ratio for 2018 could be in the range of 275% to 285% excluding any additional contributions to the insurance companies' capital that may be made. To reach a target ratio of 300% to 325%, the Company would have to contribute $100 million to $225 million of additional capital to the subsidiaries.

We are confident we can fund any additional capital with additional debt offerings or the use of Parent Company liquidity sources. We do not anticipate a significant impact to net income as we expect to invest the proceeds at investment rates consistent with or higher than the borrowing rate.
On a consolidated basis, Torchmark’s capital structure consists of short-term debt (comprised of the commercial paper outstanding discussed above, current maturities of the term loan, and current maturities of funded debt), long-term debt (comprised of long-term maturities of funded debt and long term maturities of the term loan), and shareholders’ equity.

The outstanding long-term debt at book value was $817 million at June 30, 2018 and $1.1 billion at December 31, 2017. An analysis of debt issues outstanding is as follows at June 30, 2018.

Selected Information about Debt Issues
As of June 30, 2018
(Dollar amounts in thousands)
Instrument
Year
Due
 
Interest
Rate
 
 
Par
Value
 
Book
Value
 
Fair
Value
Notes
2023
 
7.875%
 
 
$
165,612

 
$
164,385

 
$
191,034

Senior Notes
2019
 
9.250%
 
 
292,647

 
292,136

 
309,401

Senior Notes(1)
2022
 
3.800%
 
 
150,000

 
148,626

 
150,733

Junior Subordinated Debentures
2056
 
6.125%
 
 
300,000

 
290,490

 
312,630

Junior Subordinated Debentures
2057
 
5.275%
 
 
125,000

 
123,348

 
104,881

Term loan(3)
2021
 
3.230%
(3) 
 
96,250

 
96,250

 
96,250

 
 
 
 
 
 
1,129,509

 
1,115,235

 
1,164,929

Less current maturity of term loan(2)
 
 
5,625

 
5,625

 
5,625

Less current maturity of funded debt
 
 
292,647

 
292,136

 
309,401

Total long-term debt
 
 
831,237

 
817,474

 
849,903

 
 
 
 
 
 
 
 
 
 
 
Current maturity of term loan(2)
 
 
5,625

 
5,625

 
5,625

Current maturity of funded debt
 
 
292,647

 
292,136

 
309,401

Commercial paper
 
 
375,200

 
373,905

 
373,905

Total short-term debt
 
 
673,472

 
671,666

 
688,931

 
 
 
 
 
 
 
 
 
 
 
Total debt
 
 
$
1,504,709

 
$
1,489,140

 
$
1,538,834


(1)
An additional $150 million par value and book value is held by insurance subsidiaries that eliminates in consolidation.
(2)
The current amount of the term loan due of $5.6 million is classified as short term debt.
(3)
Interest paid at 1 month LIBOR plus 125 basis points, resets each month.
Due to increasing variable interest rates, on June 15, 2018, the Company called its $20 million Junior Subordinated Debentures. As previously noted under the caption Results of Operations in this report, we acquired 2.0 million of our outstanding common shares under our share repurchase program during the first six months of 2018. These shares

51
                                 TMK 2018 FORM 10-Q QTR 2

were acquired at a cost of $174 million (average of $85.41 per share), compared with purchases of 2.1 million shares at a cost of $163 million (average of $76.03 per share) in the first six months of 2017.
On May 11, 2018, the Company announced that it had declared a quarterly dividend of $0.16 per share. This dividend was paid on August 1, 2018.
Shareholders’ equity was $5.6 billion at June 30, 2018. This compares with $6.2 billion at December 31, 2017 and $5.1 billion at June 30, 2017. During the six months since December 31, 2017, shareholders’ equity decreased due to $819 million of after-tax unrealized losses in the fixed-maturity portfolio as interest rates have increased over the period. In addition, shareholders' equity was increased by net income of $358 million. Share purchases of $174 million noted above during the period reduced shareholders’ equity.
We are required under GAAP to revalue our available for sale fixed maturity portfolio to fair market value at the end of each accounting period. These changes, net of their associated impact on deferred acquisition costs and income tax, are reflected directly in shareholders’ equity.
While GAAP requires our fixed maturity assets to be revalued, it does not permit interest-bearing insurance policy liabilities supported by those assets to be valued at fair value in a consistent manner, with changes in value applied directly to shareholders’ equity. However, due to the size of both the investment portfolio and our policy liabilities, this inconsistency in measurement can have a material impact on shareholders’ equity. Because of the long-term nature of our fixed maturities and liabilities and the strong cash flows generated by our insurance subsidiaries, we have the intent and ability to hold our securities to maturity. As such, we do not expect to incur realized gains or losses due to fluctuations in the market value of fixed maturities caused by interest rate changes or losses caused by temporarily illiquid markets. Accordingly, management removes the effect of this rule when analyzing Torchmark’s balance sheet, capital structure, and financial ratios in order to provide a more consistent and meaningful portrayal of the Company’s financial position from period to period.
The following table presents selected data related to capital resources. Additionally, the table presents the effect of the GAAP requirement to revalue our fixed maturity assets on relevant items so that investors and other financial statement users may determine its impact on our capital structure.

Selected Financial Data
(Dollar amounts in thousands, except per share data)
 
At
 
June 30, 2018
 
December 31, 2017
 
June 30, 2017
 
GAAP
 
Effect of
Accounting
Rule
Requiring
Revaluation(1)
 
GAAP
 
Effect of
Accounting
Rule
Requiring
Revaluation(1)
 
GAAP
 
Effect of
Accounting
Rule
Requiring
Revaluation(1)
Fixed maturities
$
16,284,691

 
$
934,539

 
$
16,969,325

 
$
1,974,224

 
$
16,318,286

 
$
1,666,735

Deferred acquisition costs(2)
4,045,890

 
(8,328
)
 
3,958,063

 
(10,819
)
 
3,862,418

 
(11,778
)
Total assets
22,878,701

 
926,211

 
23,474,985

 
1,963,405

 
22,577,940

 
1,654,957

Short-term debt
671,666

 
—

 
328,067

 
—

 
306,271

 
—

Long-term debt
817,474

 
—

 
1,132,201

 
—

 
1,131,796

 
—

Shareholders' equity
5,571,609

 
731,707

 
6,231,421

 
1,551,090

 
5,053,416

 
1,075,722

 
 
 
 
 
 
 
 
 
 
 
 
Book value per diluted share
48.44

 
6.36

 
52.95

 
13.18

 
42.55

 
9.06

Debt to capitalization(3)
21.1
%
 
(2.4
)%
 
19.0
%
 
(4.8
)%
 
22.2
%
 
(4.4
)%
 
 
 
 
 
 
 
 
 
 
 
 
Diluted shares outstanding
115,026

 
 
 
117,696

 
 
 
118,764

 
 
Actual shares outstanding
112,923

 
 
 
114,593

 
 
 
116,259

 
 
 
(1)
Amount added to (deducted from) comprehensive income to produce the stated GAAP item, per accounting rule ASC 320-10-35-1.
(2)
Includes the value of insurance purchased.
(3)
Torchmark’s debt covenants require that the effect of this accounting rule be removed to determine this ratio. This ratio is computed by dividing total debt by the sum of total debt and shareholders’ equity.

52
                                 TMK 2018 FORM 10-Q QTR 2


Interest coverage was 11.0 times in the first six months of 2018, compared with 10.4 times in the 2017 period. Interest coverage is computed by dividing interest expense into the sum of pretax income and interest expense.

53
                                 TMK 2018 FORM 10-Q QTR 2

Cautionary Statements
We caution readers regarding certain forward-looking statements contained in the previous discussion and elsewhere in this document, and in any other statements made by, or on behalf of Torchmark whether or not in future filings with the Securities and Exchange Commission. Any statement that is not a historical fact or that might otherwise be considered an opinion or projection concerning Torchmark or its business, whether express or implied, is meant as and should be considered a forward-looking statement. Such statements represent management’s opinions concerning future operations, strategies, financial results or other developments. We specifically disclaim any obligation to update or revise any forward-looking statement because of new information, future developments, or otherwise.
Forward-looking statements are based upon estimates and assumptions that are subject to significant business, economic and competitive uncertainties, many of which are beyond our control. If these estimates or assumptions prove to be incorrect, the actual results of Torchmark may differ materially from the forward-looking statements made on the basis of such estimates or assumptions. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable events or developments, which may be national in scope, related to the insurance industry generally, or applicable to Torchmark specifically. Such events or developments could include, but are not necessarily limited to:
 
1)
Economic and other conditions leading to unexpected changes in lapse rates and/or sales of our policies, as well as levels of mortality, morbidity, and utilization of health care services that differ from Torchmark’s assumptions;
2)
Regulatory developments, including changes in governmental regulations (particularly those impacting taxes and changes to the Federal Medicare program that would affect Medicare Supplement);
3)
Market trends in the senior-aged health care industry that provide alternatives to traditional Medicare (such as Health Maintenance Organizations and other managed care or private plans) and that could affect the sales of traditional Medicare Supplement insurance;
4)
Interest rate changes that affect product sales and/or investment portfolio yield;
5)
General economic, industry sector or individual debt issuers’ financial conditions that may affect the current market value of securities we own, or that may impair an issuer’s ability to make principal and/or interest payments due on those securities;
6)
Changes in pricing competition;
7)
Litigation results;
8)
Levels of administrative and operational efficiencies that differ from our assumptions;
9)
The ability to obtain timely and appropriate premium rate increases for health insurance policies from our regulators;
10)
The customer response to new products and marketing initiatives;
11)
Reported amounts in the financial statements which are based on management’s estimates and judgments which may differ from the actual amounts ultimately realized; and
12)
Compromise by a malicious actor or other event that causes a loss of secure data from, or inaccessibility to, our computer and other information technology systems.


54
                                 TMK 2018 FORM 10-Q QTR 2

Item 3. Quantitative and Qualitative Disclosures about Market Risk
There have been no quantitative or qualitative changes with respect to market risk exposure during the six months ended June 30, 2018.
Item 4. Controls and Procedures
Torchmark, under the direction of the Co-Chairmen and Chief Executive Officers and the Executive Vice President and Chief Financial Officer, has established disclosure controls and procedures that are designed to ensure that information required to be disclosed by Torchmark in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. The disclosure controls and procedures are also intended to ensure that such information is accumulated and communicated to Torchmark’s management, including the Co-Chairmen and Chief Executive Officers and the Executive Vice President and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.
As of the end of the fiscal quarter completed June 30, 2018, an evaluation was performed under the supervision and with the participation of Torchmark management, including the Co-Chairmen and Chief Executive Officers and the Executive Vice President and Chief Financial Officer, of Torchmark’s disclosure controls and procedures (as those terms are defined in Rule 13a-15(e) under the Securities Exchange Act of 1934). Based upon their evaluation, the Co-Chairmen and Chief Executive Officers and the Executive Vice President and Chief Financial Officer have concluded that Torchmark’s disclosure controls and procedures are effective as of the date of this Form 10-Q. In compliance with Section 302 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. §1350), each of these officers executed a Certification included as an exhibit to this Form 10-Q.
For the quarter ended June 30, 2018, there have not been any changes in Torchmark’s internal control over financial reporting or in other factors that could significantly affect this control over financial reporting subsequent to the date of their evaluation which have materially affected, or are reasonably likely to materially affect, Torchmark’s internal control over financial reporting. No material weaknesses in such internal controls were identified in the evaluation and as a consequence, no corrective action was required to be taken.

55
                                 TMK 2018 FORM 10-Q QTR 2

Part II – Other Information
Item 1. Legal Proceedings

Torchmark and its subsidiaries, in common with the insurance industry in general, are subject to litigation, including claims involving tax matters, alleged breaches of contract, torts, including bad faith and fraud claims based on alleged wrongful or fraudulent acts of agents of Torchmark’s subsidiaries, employment discrimination, and miscellaneous other causes of action. Based upon information presently available, and in light of legal and other factual defenses available to Torchmark and its subsidiaries, management does not believe that such litigation will have a material adverse effect on Torchmark’s financial condition, future operating results or liquidity; however, assessing the eventual outcome of litigation necessarily involves forward-looking speculation as to judgments to be made by judges, juries and appellate courts in the future. This bespeaks caution, particularly in states with reputations for high punitive damage verdicts. Torchmark’s management recognizes that large punitive damage awards bearing little or no relation to actual damages continue to be awarded by juries in jurisdictions in which Torchmark and its subsidiaries have substantial business, creating the potential for unpredictable material adverse judgments in any given punitive damage suit.

See further discussion of litigation and other legal proceedings in Note 6—Commitments and Contingencies.

Item 1A. Risk Factors
Torchmark had no material changes to its risk factors.

Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities
    
(c)    Purchases of Certain Equity Securities by the Issuer and Others
Period
 
(a) Total Number
of Shares
Purchased
 
(b) Average
Price Paid
Per Share
 
(c) Total Number of
Shares Purchased as Part
of Publicly Announced
Plans or Programs
 
(d) Maximum Number
of Shares (or
Approximate Dollar
Amount) that May
Yet Be Purchased
Under the Plans or
Programs
April 1-30, 2018
 
382,405

 
$
84.85

 
382,405

 
 
May 1-31, 2018
 
444,475

 
85.09

 
444,475

 
 
June 1-30, 2018
 
314,095

 
83.95

 
314,095

 
 
At its August 7, 2018 meeting, the Board of Directors reaffirmed the Company’s share repurchase program in amounts and with timing that management, in consultation with the Board, determines to be in the best interest of the Company. The program has no defined expiration date or maximum shares to be repurchased.
Item 6. Exhibits
 
(a)
Exhibits


56
                                 TMK 2018 FORM 10-Q QTR 2

SIGNATURES
Pursuant to the requirement of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.
 
 
 
 
TORCHMARK CORPORATION
 
 
 
Date: August 7, 2018
 
 
/s/ Gary L. Coleman
 
 
 
Gary L. Coleman
 
 
 
Co-Chairman and Chief Executive Officer
 
 
 
Date: August 7, 2018
 
 
/s/ Larry M. Hutchison
 
 
 
Larry M. Hutchison
 
 
 
Co-Chairman and Chief Executive Officer
 
 
 
Date: August 7, 2018
 
 
/s/ Frank M. Svoboda
 
 
 
Frank M. Svoboda
 
 
 
Executive Vice President and Chief Financial Officer

57
                                 TMK 2018 FORM 10-Q QTR 2

GLOBE LIFE INC. Reports