PRINCIPAL FINANCIAL GROUP INC, 10-Q filed on 8/5/2009
Quarterly Report
Consolidated Statements of Financial Position (USD $)
In Millions
Jun. 30, 2009
Dec. 31, 2008
Assets
 
 
Fixed maturities, available-for-sale
$ 42,298.6 
$ 40,117.2 
Fixed maturities, trading
869.6 
843.4 
Equity securities, available-for-sale
212.5 
242.7 
Equity securities, trading
170.4 
158.0 
Mortgage loans
12,433.8 
13,113.6 
Real estate
974.6 
919.4 
Policy loans
902.5 
896.4 
Other investments
2,390.7 
2,816.6 
Total investments
60,252.7 
59,107.3 
Cash and cash equivalents
4,328.5 
2,608.0 
Accrued investment income
696.2 
750.7 
Premiums due and other receivables
1,046.5 
988.1 
Deferred policy acquisition costs
4,058.7 
4,153.0 
Property and equipment
506.1 
518.2 
Goodwill
384.1 
375.5 
Other intangibles
878.4 
925.3 
Separate account assets
55,998.4 
55,142.6 
Other assets
2,557.0 
3,613.7 
Total assets
130,706.6 
128,182.4 
Liabilities and Stockholders' Equity
 
 
Liabilities
 
 
Contractholder funds
41,449.8 
43,086.6 
Future policy benefits and claims
18,939.1 
18,494.2 
Other policyholder funds
553.4 
536.2 
Short-term debt
159.5 
500.9 
Long-term debt
2,033.3 
1,290.5 
Income taxes currently payable
2.8 
1.9 
Deferred income taxes
116.7 
102.8 
Separate account liabilities
55,998.4 
55,142.6 
Other liabilities
5,677.1 
6,457.4 
Total liabilities
124,930.1 
125,613.1 
Stockholders' equity
 
 
Common stock, par value $.01 per share - 2,500.0 million shares authorized, 446.2 million and 387.0 million shares issued, and 318.3 million and 259.3 million shares outstanding in 2009 and 2008
4.5 
3.9 
Additional paid-in capital
9,459.8 
8,376.5 
Retained earnings
3,995.5 
3,722.5 
Accumulated other comprehensive loss
(3,042.4)
(4,911.6)
Treasury stock, at cost (127.9 million and 127.7 million shares in 2009 and 2008, respectively)
(4,722.3)
(4,718.6)
Total stockholders' equity attributable to Principal Financial Group, Inc.
5,695.2 
2,472.8 
Noncontrolling interest
81.3 
96.5 
Total stockholders' equity
5,776.5 
2,569.3 
Total liabilities and stockholders' equity
130,706.6 
128,182.4 
Series A preferred stock, par value $.01 per share with liquidation preference of $100 per share - 3.0 million shares authorized, issued and outstanding in 2009 and 2008
 
 
Stockholders' equity
 
 
Preferred stock, value
0.0 
0.0 
Series B preferred stock, par value $.01 per share with liquidation preference of $25 per share - 10.0 million shares authorized, issued and outstanding in 2009 and 2008
 
 
Stockholders' equity
 
 
Preferred stock, value
$ 0.1 
$ 0.1 
Consolidated Statements of Financial Position (Parenthetical)
Share data in Millions, except Per Share data
Jun. 30, 2009
Dec. 31, 2008
Stockholders' equity
 
 
Common stock, par value (in dollars per share)
0.01 
0.01 
Common stock, shares authorized (in shares)
2,500.0 
2,500.0 
Common stock, shares issued (in shares)
446.2 
387.0 
Common stock, shares outstanding (in shares)
318.3 
259.3 
Treasury stock (in shares)
127.9 
127.7 
Series A preferred stock, par value $.01 per share with liquidation preference of $100 per share - 3.0 million shares authorized, issued and outstanding in 2009 and 2008
 
 
Stockholders' equity
 
 
Preferred stock, par value (in dollars per share)
0.01 
0.01 
Preferred stock, liquidation preference (in dollars per share)
100.00 
100.00 
Preferred stock, shares authorized (in shares)
3.0 
3.0 
Preferred stock, shares issued (in shares)
3.0 
3.0 
Preferred stock, shares outstanding (in shares)
3.0 
3.0 
Series B preferred stock, par value $.01 per share with liquidation preference of $25 per share - 10.0 million shares authorized, issued and outstanding in 2009 and 2008
 
 
Stockholders' equity
 
 
Preferred stock, par value (in dollars per share)
0.01 
0.01 
Preferred stock, liquidation preference (in dollars per share)
25.00 
25.00 
Preferred stock, shares authorized (in shares)
10.0 
10.0 
Preferred stock, shares issued (in shares)
10.0 
10.0 
Preferred stock, shares outstanding (in shares)
10.0 
10.0 
Consolidated Statements of Operations (USD $)
In Millions, except Per Share data
3 Months Ended
Jun. 30, 2009
6 Months Ended
Jun. 30, 2009
3 Months Ended
Jun. 30, 2008
6 Months Ended
Jun. 30, 2008
Revenues
 
 
 
 
Premiums and other considerations
$ 937.7 
$ 1,887.6 
$ 1,156.2 
$ 2,209.2 
Fees and other revenues
515.2 
988.7 
622.5 
1,235.9 
Net investment income
860.1 
1,688.6 
990.9 
1,951.2 
Net realized capital gains (losses), excluding impairment losses on available-for-sale securities
(20.8)
11.9 
(65.6)
(124.1)
Total other-than-temporary impairment losses on available-for-sale securities
(200.9)
(347.5)
(45.9)
(113.4)
Portion of impairment losses on fixed maturities, available-for-sale recognized in other comprehensive income
66.5 
117.1 
 
 
Net impairment losses on available-for-sale securities
(134.4)
(230.4)
(45.9)
(113.4)
Net realized capital losses
(155.2)
(218.5)
(111.5)
(237.5)
Total revenues
2,157.8 
4,346.4 
2,658.1 
5,158.8 
Expenses
 
 
 
 
Benefits, claims and settlement expenses
1,334.3 
2,640.9 
1,634.0 
3,106.0 
Dividends to policyholders
62.9 
126.4 
69.0 
139.8 
Operating expenses
562.7 
1,251.1 
742.6 
1,493.3 
Total expenses
1,959.9 
4,018.4 
2,445.6 
4,739.1 
Income before income taxes
197.9 
328.0 
212.5 
419.7 
Income taxes
33.9 
41.4 
29.4 
59.0 
Net income
164.0 
286.6 
183.1 
360.7 
Net income attributable to noncontrolling interest
5.4 
7.0 
6.5 
1.7 
Net income attributable to Principal Financial Group, Inc.
158.6 
279.6 
176.6 
359.0 
Preferred stock dividends
8.3 
16.5 
8.3 
16.5 
Net income available to common stockholders
150.3 
263.1 
168.3 
342.5 
Earnings per common share
 
 
 
 
Basic earnings per common share (in dollars per share)
0.52 
0.96 
0.65 
1.32 
Diluted earnings per common share (in dollars per share)
0.52 
0.95 
0.64 
1.31 
Consolidated Statements of Stockholders' Equity (USD $)
In Millions
Series A preferred stock
Series B preferred stock
Common stock
Additional paid-in capital
Retained earnings
Accumulated other comprehensive income (loss)
Treasury stock
Noncontrolling interest
Comprehensive income (loss)
Total
1/1/2008 - 6/30/2008
 
 
 
 
 
 
 
 
 
 
Increase (Decrease) in Stockholders' Equity
 
 
 
 
 
 
 
 
 
 
Balances at begininng
$ 0.0 
$ 0.1 
$ 3.9 
$ 8,295.4 
$ 3,414.3 
$ 420.2 
$ (4,712.2)
$ 97.6 
 
$ 7,519.3 
Common stock issued
 
 
 
23.6 
 
 
 
 
 
23.6 
Capital transactions of equity method investee, net of related income taxes
 
 
 
0.2 
 
 
 
 
 
0.2 
Stock-based compensation and additional related tax benefits
 
 
 
31.2 
 
 
 
 
 
31.2 
Treasury stock acquired, common
 
 
 
 
 
 
(6.1)
 
 
(6.1)
Dividends to preferred stockholders
 
 
 
 
(16.5)
 
 
 
 
(16.5)
Dividends to noncontrolling interest
 
 
 
 
 
 
 
(8.8)
 
(8.8)
Purchase of subsidiary shares from noncontrolling interest
 
 
 
 
 
 
 
 
 
 
Capital received from (paid to) noncontrolling interest
 
 
 
 
 
 
 
9.7 
 
9.7 
Effects of reclassifying noncredit component of previously recognized impairment losses on fixed maturities, available-for-sale, net
 
 
 
 
 
 
 
 
 
 
Effects of changing post-retirement benefit plan measurement date, net of related income taxes
 
 
 
 
0.9 
(2.0)
 
 
 
(1.1)
Comprehensive income (loss):
 
 
 
 
 
 
 
 
 
 
Net income
 
 
 
 
359.0 
 
 
1.7 
360.7 
360.7 
Net unrealized gains (losses), net
 
 
 
 
 
(1,220.9)
 
 
(1,220.9)
(1,220.9)
Noncredit component of impairment losses on fixed maturities, available-for-sale, net
 
 
 
 
 
 
 
 
 
 
Foreign currency translation adjustment, net of related income taxes
 
 
 
 
 
32.8 
 
(0.6)
32.2 
32.2 
Unrecognized post-retirement benefit obligation, net of related income taxes
 
 
 
 
 
(4.0)
 
 
(4.0)
(4.0)
Comprehensive income (loss)
 
 
 
 
 
 
 
 
(832.0)
(832.0)
Increase (decrease) in stockholders' equity
0.0 
0.0 
0.0 
 
 
 
 
 
 
 
Balances at end
0.0 
0.1 
3.9 
8,350.4 
3,757.7 
(773.9)
(4,718.3)
99.6 
 
6,719.5 
4/1/2008 - 6/30/2008
 
 
 
 
 
 
 
 
 
 
Increase (Decrease) in Stockholders' Equity
 
 
 
 
 
 
 
 
 
 
Balances at begininng
 
 
 
 
 
 
 
 
 
 
Common stock issued
 
 
 
 
 
 
 
 
 
 
Capital transactions of equity method investee, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Stock-based compensation and additional related tax benefits
 
 
 
 
 
 
 
 
 
 
Treasury stock acquired, common
 
 
 
 
 
 
 
 
 
 
Dividends to preferred stockholders
 
 
 
 
 
 
 
 
 
 
Dividends to noncontrolling interest
 
 
 
 
 
 
 
 
 
 
Purchase of subsidiary shares from noncontrolling interest
 
 
 
 
 
 
 
 
 
 
Capital received from (paid to) noncontrolling interest
 
 
 
 
 
 
 
 
 
 
Effects of reclassifying noncredit component of previously recognized impairment losses on fixed maturities, available-for-sale, net
 
 
 
 
 
 
 
 
 
 
Effects of changing post-retirement benefit plan measurement date, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Comprehensive income (loss):
 
 
 
 
 
 
 
 
 
 
Net income
 
 
 
 
 
 
 
 
 
183.1 
Net unrealized gains (losses), net
 
 
 
 
 
 
 
 
 
 
Noncredit component of impairment losses on fixed maturities, available-for-sale, net
 
 
 
 
 
 
 
 
 
 
Foreign currency translation adjustment, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Unrecognized post-retirement benefit obligation, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Comprehensive income (loss)
 
 
 
 
 
 
 
 
 
 
Increase (decrease) in stockholders' equity
 
 
 
 
 
 
 
 
 
 
Balances at end
 
 
 
 
 
 
 
 
 
6,719.5 
1/1/2009 - 6/30/2009
 
 
 
 
 
 
 
 
 
 
Increase (Decrease) in Stockholders' Equity
 
 
 
 
 
 
 
 
 
 
Balances at begininng
0.0 
0.1 
3.9 
8,376.5 
3,722.5 
(4,911.6)
(4,718.6)
96.5 
 
2,569.3 
Common stock issued
 
 
0.6 
1,112.4 
 
 
 
 
 
1,113.0 
Capital transactions of equity method investee, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Stock-based compensation and additional related tax benefits
 
 
 
16.8 
 
 
 
 
 
16.8 
Treasury stock acquired, common
 
 
 
 
 
 
(3.7)
 
 
(3.7)
Dividends to preferred stockholders
 
 
 
 
(16.5)
 
 
 
 
(16.5)
Dividends to noncontrolling interest
 
 
 
 
 
 
 
(4.2)
 
(4.2)
Purchase of subsidiary shares from noncontrolling interest
 
 
 
(45.9)
 
 
 
0.2 
 
(45.7)
Capital received from (paid to) noncontrolling interest
 
 
 
 
 
 
 
(18.2)
 
(18.2)
Effects of reclassifying noncredit component of previously recognized impairment losses on fixed maturities, available-for-sale, net
 
 
 
 
9.9 
(9.9)
 
 
 
 
Effects of changing post-retirement benefit plan measurement date, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Comprehensive income (loss):
 
 
 
 
 
 
 
 
 
 
Net income
 
 
 
 
279.6 
 
 
7.0 
286.6 
286.6 
Net unrealized gains (losses), net
 
 
 
 
 
1,806.8 
 
 
1,806.8 
1,806.8 
Noncredit component of impairment losses on fixed maturities, available-for-sale, net
 
 
 
 
 
(68.4)
 
 
(68.4)
(68.4)
Foreign currency translation adjustment, net of related income taxes
 
 
 
 
 
110.8 
 
 
110.8 
110.8 
Unrecognized post-retirement benefit obligation, net of related income taxes
 
 
 
 
 
29.9 
 
 
29.9 
29.9 
Comprehensive income (loss)
 
 
 
 
 
 
 
 
2,165.7 
2,165.7 
Increase (decrease) in stockholders' equity
0.0 
0.0 
 
 
 
 
 
 
 
 
Balances at end
0.0 
0.1 
4.5 
9,459.8 
3,995.5 
(3,042.4)
(4,722.3)
81.3 
 
5,776.5 
4/1/2009 - 6/30/2009
 
 
 
 
 
 
 
 
 
 
Increase (Decrease) in Stockholders' Equity
 
 
 
 
 
 
 
 
 
 
Balances at begininng
 
 
 
 
 
 
 
 
 
 
Common stock issued
 
 
 
 
 
 
 
 
 
 
Capital transactions of equity method investee, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Stock-based compensation and additional related tax benefits
 
 
 
 
 
 
 
 
 
 
Treasury stock acquired, common
 
 
 
 
 
 
 
 
 
 
Dividends to preferred stockholders
 
 
 
 
 
 
 
 
 
 
Dividends to noncontrolling interest
 
 
 
 
 
 
 
 
 
 
Purchase of subsidiary shares from noncontrolling interest
 
 
 
 
 
 
 
 
 
 
Capital received from (paid to) noncontrolling interest
 
 
 
 
 
 
 
 
 
 
Effects of reclassifying noncredit component of previously recognized impairment losses on fixed maturities, available-for-sale, net
 
 
 
 
 
 
 
 
 
 
Effects of changing post-retirement benefit plan measurement date, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Comprehensive income (loss):
 
 
 
 
 
 
 
 
 
 
Net income
 
 
 
 
 
 
 
 
 
164.0 
Net unrealized gains (losses), net
 
 
 
 
 
 
 
 
 
 
Noncredit component of impairment losses on fixed maturities, available-for-sale, net
 
 
 
 
 
 
 
 
 
 
Foreign currency translation adjustment, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Unrecognized post-retirement benefit obligation, net of related income taxes
 
 
 
 
 
 
 
 
 
 
Comprehensive income (loss)
 
 
 
 
 
 
 
 
 
 
Increase (decrease) in stockholders' equity
 
 
 
 
 
 
 
 
 
 
Balances at end
 
 
 
 
 
 
 
 
 
$ 5,776.5 
Consolidated Statements of Cash Flows (USD $)
In Millions
6 Months Ended
Jun. 30,
2009
2008
Operating activities
 
 
Net income
$ 286.6 
$ 360.7 
Adjustments to reconcile net income to net cash provided by operating activities:
 
 
Amortization of deferred policy acquisition costs
36.2 
126.4 
Additions to deferred policy acquisition costs
(253.3)
(373.8)
Accrued investment income
54.5 
30.1 
Net cash flows from trading securities
38.0 
(409.8)
Premiums due and other receivables
(55.3)
23.0 
Contractholder and policyholder liabilities and dividends
820.1 
1,083.9 
Current and deferred income taxes
149.0 
(20.1)
Net realized capital losses
218.5 
237.5 
Depreciation and amortization expense
68.8 
69.8 
Mortgage loans held for sale, acquired or originated
(21.2)
(27.4)
Mortgage loans held for sale, sold or repaid, net of gain
26.0 
28.8 
Real estate acquired through operating activities
(16.6)
(29.9)
Real estate sold through operating activities
0.3 
7.2 
Stock-based compensation
16.5 
26.4 
Other
46.8 
(59.7)
Net adjustments
1,128.3 
712.4 
Net cash provided by operating activities
1,414.9 
1,073.1 
Investing activities
 
 
Available-for-sale securities: purchases
(2,968.0)
(4,360.4)
Available-for-sale securities: sales
1,623.7 
434.2 
Available-for-sale securities: maturities
2,049.6 
1,799.4 
Mortgage loans acquired or originated
(181.1)
(753.4)
Mortgage loans sold or repaid
862.2 
613.8 
Real estate acquired
(42.1)
(11.2)
Real estate sold
1.3 
46.0 
Net purchases of property and equipment
(16.5)
(49.5)
Purchases of interest in subsidiaries, net of cash acquired
(45.7)
(20.3)
Net change in other investments
(50.6)
(25.3)
Net cash provided by (used in) investing activities
1,232.8 
(2,326.7)
Financing activities
 
 
Issuance of common stock
1,154.4 
23.6 
Acquisition of treasury stock
(3.7)
(6.1)
Proceeds from financing element derivatives
77.9 
83.3 
Payments for financing element derivatives
(43.7)
(61.1)
Excess tax benefits from share-based payment arrangements
0.2 
2.8 
Dividends to preferred stockholders
(16.5)
(16.5)
Issuance of long-term debt
750.0 
3.1 
Principal repayments of long-term debt
(21.7)
(12.7)
Net repayments of short-term borrowings
(345.7)
(72.7)
Investment contract deposits
2,681.1 
6,792.5 
Investment contract withdrawals
(5,224.4)
(5,531.7)
Net increase in banking operation deposits
68.1 
232.3 
Other
(3.2)
(3.1)
Net cash provided by (used in) financing activities
(927.2)
1,433.7 
Net increase in cash and cash equivalents
1,720.5 
180.1 
Cash and cash equivalents at beginning of period
2,608.0 
1,344.4 
Cash and cash equivalents at end of period
$ 4,328.5 
$ 1,524.5 
Notes - Nature of Operations and Significant Accounting Policies
Nature of Operations and Significant Accounting Policies

1. Nature of Operations and Significant Accounting Policies

 

Basis of Presentation

 

The accompanying unaudited consolidated financial statements of Principal Financial Group, Inc. (“PFG”), its majority-owned subsidiaries and its consolidated variable interest entities (“VIEs”), have been prepared in conformity with accounting principles generally accepted in the U.S. (“U.S. GAAP”) for interim financial statements and with the instructions to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and six months ended June 30, 2009, are not necessarily indicative of the results that may be expected for the year ended December 31, 2009. These interim unaudited consolidated financial statements should be read in conjunction with our annual audited financial statements as of December 31, 2008, included in our Form 10-K for the year ended December 31, 2008, filed with the United States Securities and Exchange Commission (“SEC”). The accompanying consolidated statement of financial position as of December 31, 2008, has been derived from the audited consolidated statement of financial position but does not include all of the information and footnotes required by U.S. GAAP for complete financial statements.

 

We have evaluated subsequent events through August 5, 2009, which was the date our consolidated financial statements were issued.

 

Reclassifications have been made to prior period financial statements to conform to the June 30, 2009, presentation. See Recent Accounting Pronouncements for impact of new accounting guidance on prior period financial statements.

 

Recent Accounting Pronouncements

 

On June 30, 2009, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 168, The FASB Accounting Standards CodificationTM and the Hierarchy of Generally Accepted Accounting Principles, a replacement of FASB Statement No. 162 (“SFAS 168”). This statement replaces SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles, and establishes the FASB Accounting Standards CodificationTM (“Codification”) as the source of authoritative accounting principles recognized by the FASB to be applied by nongovernmental entities in the preparation of financial statements in conformity with U.S. GAAP. Rules and interpretive releases of the SEC under federal securities laws are also sources of authoritative U.S. GAAP for SEC registrants. All guidance contained in the Codification carries an equal level of authority. SFAS 168 is effective for financial statements issued for interim and annual periods ending after September 15, 2009. We do not anticipate that SFAS 168 will have a material impact on our consolidated financial statements.

 

On June 12, 2009, the FASB issued SFAS No. 166, Accounting for Transfers of Financial Assets, an amendment of FASB Statement No. 140 (“SFAS 166”). The objective of SFAS 166 is to improve the relevance, representational faithfulness, and comparability of the information that a reporting entity provides in its financial reports about a transfer of financial assets; the effects of a transfer on its financial position, financial performance, and cash flows; and a transferor’s continuing involvement in transferred financial assets. The most significant change is the elimination of the concept of a qualifying special-purpose entity. Therefore, formerly qualifying special-purpose entities (as defined under previous accounting standards) should be evaluated for consolidation by reporting entities on and after the effective date in accordance with the applicable consolidation guidance. SFAS 166 will be effective for us on January 1, 2010. Earlier adoption is prohibited. We are still evaluating the impact this guidance will have on our consolidated financial statements.

 

Also on June 12, 2009, the FASB issued SFAS No. 167, Amendments to FASB Interpretation No. 46(R) (“SFAS 167”). SFAS 167 amends FASB Interpretation No. 46(R), to require an enterprise to perform an analysis to determine whether the enterprise’s variable interest or interests give it a controlling financial interest in a VIE. This analysis identifies the primary beneficiary of a VIE as the enterprise that (1) has the power to direct the activities of a VIE that most significantly impact the entity’s economic performance and (2) the obligation to absorb losses of the entity that could potentially be significant to the VIE or the right to receive benefits from the entity that could potentially be significant to the VIE. SFAS 167 requires ongoing reassessments of whether an enterprise is the primary beneficiary of a VIE. In addition, SFAS 167 requires enhanced disclosures that will provide users of financial statements with more transparent information about an enterprise’s involvement in a VIE. The enhanced disclosures are required for any enterprise that holds a variable interest in a VIE. SFAS 167 will be effective for us on January 1, 2010. Earlier adoption is prohibited. We are still evaluating the impact this guidance will have on our consolidated financial statements.

 

On April 9, 2009, the FASB issued FASB Staff Position (“FSP”) FAS 115-2 and FAS 124-2, Recognition and Presentation of Other-Than-Temporary Impairments (“FSP FAS 115-2”). FSP FAS 115-2 provides new guidance on the recognition and presentation of an other-than-temporary impairment (“OTTI”) and requires additional disclosures. The recognition provisions within FSP FAS 115-2 apply only to debt securities classified as available-for-sale and held-to-maturity, while the presentation and disclosure requirements of FSP FAS 115-2 apply to both debt and equity securities. An impaired debt security will be considered other-than-temporarily impaired if a holder has the intent to sell, or it more likely than not will be required to sell prior to recovery of the amortized cost. If a holder of a debt security does not expect recovery of the entire cost basis, even if there is no intention to sell the security, it will be considered an OTTI as well. FSP FAS 115-2 also changes how an entity recognizes an OTTI for a debt security by separating the loss between the amount representing the credit loss and the amount relating to other factors, if a holder does not have the intent to sell or it more likely than not will not be required to sell prior to recovery of the amortized cost less any current period credit loss. Credit losses will be recognized in net income and losses relating to other factors will be recognized in other comprehensive income (“OCI”). If the holder has the intent to sell or it more likely than not will be required to sell before its recovery of amortized cost less any current period credit loss, the entire OTTI will continue to be recognized in net income. FSP FAS 115-2 requires a cumulative effect adjustment to the opening balance of retained earnings in the period of adoption with a corresponding adjustment to accumulated OCI. We adopted FSP FAS 115-2 effective January 1, 2009. The cumulative change in accounting principle from adopting this guidance resulted in a net $9.9 million increase to retained earnings and a corresponding decrease to accumulated OCI. The required disclosures have been included in our consolidated financial statements.

 

On April 9, 2009, the FASB issued FSP FAS 157-4, Determining Fair Value When Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly (“FSP FAS 157-4”). FSP FAS 157-4 amends SFAS No. 157, Fair Value Measurements (“SFAS 157”), to provide additional guidance on estimating fair value when the volume and level of activity for an asset or liability have significantly decreased in relation to normal market activity for the asset or liability and clarifies that the use of multiple valuation techniques may be appropriate. FSP FAS 157-4 also provides additional guidance on circumstances that may indicate a transaction is not orderly. Further, this FSP requires additional disclosures about fair value measurements in annual and interim reporting periods and supersedes FSP FAS 157-3, Determining the Fair Value of a Financial Asset in a Market That Is Not Active. We adopted FSP FAS 157-4 effective January 1, 2009, and this guidance did not have a material impact on our consolidated financial statements. See Note 9, Fair Value of Financial Instruments, for further details.

 

Also on April 9, 2009, the FASB issued FSP FAS 107-1 and APB 28-1, Interim Disclosures About Fair Value of Financial Instruments (“FSP FAS 107-1”). FSP FAS 107-1 extends the annual disclosure requirements of SFAS No. 107, Disclosures about Fair Value of Financial Instruments (“SFAS 107”), to interim financial statements of public companies. We adopted FSP FAS 107-1 effective April 1, 2009. The required disclosures have been included in Note 9, Fair Value of Financial Instruments.

 

On March 19, 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities — an amendment of FASB Statement No. 133 (“SFAS 161”). This statement requires (1) qualitative disclosures about objectives and strategies for using derivatives, (2) quantitative disclosures about fair value amounts of gains and losses on derivative instruments and related hedged items and (3) disclosures about credit-risk-related contingent features in derivative instruments. The disclosures are intended to provide users of financial statements with an enhanced understanding of how and why derivative instruments are used, how they are accounted for and the financial statement impacts. We adopted SFAS 161 on January 1, 2009. See Note 3, Derivative Financial Instruments, for further details.

 

On December 4, 2007, the FASB issued SFAS No. 141(R), Business Combinations (“SFAS 141(R)”). Among the changes, the standard requires that the acquiring entity in a business combination establish the acquisition-date fair value as the measurement objective for all assets acquired and liabilities assumed, including any noncontrolling interests, and requires the acquirer to disclose to investors and other users all of the information they need to evaluate and understand the nature and financial effect of the business combination. In addition, SFAS 141(R) requires direct acquisition costs to be expensed. We adopted SFAS 141(R) on January 1, 2009. All requirements of SFAS 141(R) are applied prospectively.

 

Also on December 4, 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements — an Amendment of Accounting Research Bulletin No. 51 (“SFAS 160”). Under this statement, noncontrolling interests are to be treated as a separate component of equity, rather than as a liability or other item outside of equity. In addition, SFAS 160 changes the way the consolidated income statement is presented. Under this statement, net income includes the total income of all consolidated subsidiaries, with separate disclosures on the face of the income statement of the income attributable to controlling and noncontrolling interests. Previously, net income attributable to the noncontrolling interest was reported as an operating expense in arriving at consolidated net income. Finally, SFAS 160 revises the accounting requirements for changes in a parent’s ownership interest when the parent retains control and for changes in a parent’s ownership interest that results in deconsolidation. We adopted SFAS 160 on January 1, 2009. Presentation and disclosure requirements have been applied retrospectively for all periods presented. All other requirements of SFAS 160 should be applied prospectively. Certain separate account arrangements involve ownership of mutual funds to support the investment objective of the separate account. It is possible that, through a separate account arrangement, greater than 50% of the mutual fund shares could be owned. The accounting guidance for this circumstance is not well defined, but we, like many other insurers, do not consolidate the mutual fund as we believe the arrangement qualifies for the exemption afforded investment companies. In January 2009, the FASB asked the Emerging Issues Task Force (“EITF”) to consider a topic entitled “Consideration of an Insurer’s Accounting for Majority Owned Investments When the Ownership is through a Separate Account.” It is anticipated that the EITF will consider the issue in 2009. It is not possible to predict the outcome of the deliberations with any certainty; however, one outcome could be the recognition of the portion of the mutual fund not held via the separate account arrangement as a noncontrolling interest in equity.

 

Separate Accounts

 

As of June 30, 2009, and December 31, 2008, the separate accounts include a separate account valued at $159.9 million and $207.4 million, respectively, which primarily includes shares of our stock that were allocated and issued to eligible participants of qualified employee benefit plans administered by us as part of the policy credits issued under our 2001 demutualization. These shares are included in both basic and diluted earnings per share calculations. The separate account shares are recorded at fair value and are reported as separate account assets and separate account liabilities in the consolidated statements of financial position. Changes in fair value of the separate account shares are reflected in both the separate account assets and separate account liabilities and do not impact our results of operations.

Notes - Investments
Investments

2. Investments

 

Fixed Maturities and Equity Securities

 

Fixed maturity securities include bonds, mortgage-backed securities, redeemable preferred stock and certain nonredeemable preferred stock. Equity securities include mutual funds, common stock and nonredeemable preferred stock. We classify fixed maturity securities and equity securities as either available-for-sale or trading at the time of the purchase and, accordingly, carry them at fair value. See Note 9, Fair Value of Financial Instruments, for methodologies related to the determination of fair value. Unrealized gains and losses related to available-for-sale securities, excluding those in fair value hedging relationships, are reflected in stockholders’ equity, net of adjustments related to deferred policy acquisition costs (“DPAC”), sales inducements, unearned revenue reserves, derivatives in cash flow hedge relationships and applicable income taxes. Unrealized gains and losses related to trading securities and hedged portions of available-for-sale securities in fair value hedging relationships are reflected in net income as net realized capital gains (losses).

 

The cost of fixed maturity securities is adjusted for amortization of premiums and accrual of discounts, both computed using the interest method. The cost of fixed maturity securities and equity securities is adjusted for other-than-temporary impairments recognized in net income. For loan-backed and structured securities, we recognize income using a constant effective yield based on currently anticipated prepayments using a tool that models the prepayment behavior of the underlying collateral based on the current interest rate environment.

 

The amortized cost, gross unrealized gains and losses, other-than-temporary impairments in OCI and fair value of fixed maturities and equity securities available-for-sale as of June 30, 2009, are summarized as follows:

 

 

 

Amortized
cost

 

Gross
unrealized
gains

 

Gross
unrealized
losses

 

Other-than-temporary impairments
in OCI

 

Fair value

 

 

 

 

 

 

 

(in millions)

 

 

 

 

 

Fixed maturities, available-for-sale:

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agencies

 

$

570.2

 

$

4.8

 

$

0.8

 

$

 

$

574.2

 

Non-U.S. governments

 

708.1

 

82.7

 

5.8

 

 

785.0

 

States and political subdivisions

 

1,968.4

 

33.9

 

40.4

 

 

1,961.9

 

Corporate

 

33,176.7

 

679.0

 

2,890.9

 

28.0

 

30,936.8

 

Residential mortgage-backed securities

 

2,187.7

 

64.3

 

1.7

 

 

2,250.3

 

Commercial mortgage-backed securities

 

5,355.3

 

8.6

 

1,825.8

 

31.7

 

3,506.4

 

Collateralized debt obligations

 

641.7

 

3.0

 

316.0

 

34.1

 

294.6

 

Other debt obligations

 

2,436.3

 

19.2

 

425.3

 

40.8

 

1,989.4

 

Total fixed maturities, available-for-sale

 

$

47,044.4

 

$

895.5

 

$

5,506.7

 

$

134.6

 

$

42,298.6

 

Total equity securities, available-for-sale

 

$

294.2

 

$

12.0

 

$

93.7

 

$

 

$

212.5

 

 

The amortized cost and fair value of fixed maturities available-for-sale as of June 30, 2009, by contractual maturity, were as follows:

 

 

 

Amortized cost

 

Fair value

 

 

 

(in millions)

 

Due in one year or less

 

$

1,446.5

 

$

1,425.7

 

Due after one year through five years

 

13,367.7

 

13,205.0

 

Due after five years through ten years

 

9,725.9

 

9,086.6

 

Due after ten years

 

11,883.3

 

10,540.6

 

 

 

36,423.4

 

34,257.9

 

Mortgage-backed and other asset-backed securities

 

10,621.0

 

8,040.7

 

Total

 

$

47,044.4

 

$

42,298.6

 

 

Actual maturities may differ because issuers may have the right to call or prepay obligations.

 

Our portfolio is diversified by industry, issuer and asset class. Credit concentrations are managed to established limits.

 

Net Realized Capital Gains and Losses

 

Net realized capital gains and losses on sales of investments are determined on the basis of specific identification. In general, in addition to realized capital gains and losses on investment sales and periodic settlements on derivatives not designated as hedges, gains and losses related to other than temporary impairments, trading securities, certain seed money investments, fair value hedge and cash flow hedge ineffectiveness, mark-to-market adjustments on derivatives not designated as hedges, changes in the mortgage loan valuation allowance and impairments of real estate held for investment are reported as net realized capital gains (losses). Investment gains and losses on sales of certain real estate held for sale, which do not meet the criteria for classification as a discontinued operation, are reported as net investment income and are excluded from net realized capital gains (losses). The major components of net realized capital gains (losses) on investments are summarized as follows:

 

 

 

For the three months
ended June 30, 2009

 

For the six months
ended June 30, 2009

 

 

 

(in millions)

 

Fixed maturities, available-for-sale:

 

 

 

 

 

Gross gains

 

$

14.2

 

$

63.6

 

Gross losses

 

(193.6

)

(350.4

)

Portion of impairment losses recognized in other comprehensive income

 

66.5

 

117.1

 

Hedging, net

 

(180.2

)

(233.6

)

Fixed maturities, trading

 

18.2

 

41.8

 

Equity securities, available-for-sale:

 

 

 

 

 

Gross gains

 

5.7

 

12.5

 

Gross losses

 

(13.5

)

(14.1

)

Equity securities, trading

 

20.3

 

10.7

 

Mortgage loans

 

(41.1

)

(76.6

)

Derivatives

 

193.9

 

262.1

 

Other

 

(45.6

)

(51.6

)

Net realized capital losses

 

$

(155.2

)

$

(218.5

)

 

Proceeds from sales of investments (excluding call and maturity proceeds) in fixed maturities, available-for-sale were $0.7 billion and $1.6 billion for the three and six months ended June 30, 2009, respectively.

 

Other-Than-Temporary Impairments

 

We have a process in place to identify fixed maturity and equity securities that could potentially have a credit impairment that is other than temporary. This process involves monitoring market events that could impact issuers’ credit ratings, business climate, management changes, litigation and government actions and other similar factors. This process also involves monitoring late payments, pricing levels, downgrades by rating agencies, key financial ratios, financial statements, revenue forecasts and cash flow projections as indicators of credit issues.

 

Every month, all securities are reviewed to determine whether an other-than-temporary decline in value exists and whether losses should be recognized. We consider relevant facts and circumstances in evaluating whether a credit or interest rate-related impairment of a security is other than temporary. Relevant facts and circumstances considered include: (1) the extent and length of time the fair value has been below cost; (2) the reasons for the decline in value; (3) the financial position and access to capital of the issuer, including the current and future impact of any specific events and (4) for fixed maturity securities, our intent to sell a security or whether it is more likely than not we will be required to sell the security before the recovery of its amortized cost which, in some cases, may extend to maturity and for equity securities, our ability and intent to hold the security for a period of time that allows for the recovery in value. To the extent we determine that a security is deemed to be other than temporarily impaired, an impairment loss is recognized.

 

During first quarter 2009 we adopted FSP FAS 115-2, which changes the recognition and presentation of other-than-temporary impairments. See further discussion of the adoption in Note 1, Nature of Operations and Significant Accounting Policies. The recognition provisions within FSP FAS 115-2 apply only to debt securities classified as available-for-sale and held-to-maturity, while the presentation and disclosure requirements of FSP FAS 115-2 apply to both debt and equity securities.

 

Impairment losses on equity securities are recognized in net income. The way in which impairment losses on debt securities are recognized in the financial statements is dependent on the facts and circumstances related to the specific security. If we intend to sell a security or it is more likely than not that we would be required to sell a security before the recovery of its amortized cost, less any current period credit loss, we recognize an other-than-temporary impairment in net income for the difference between amortized cost and fair value. If we do not expect to recover the amortized cost basis, we do not plan to sell the security and if it is not more likely than not that we would be required to sell a security before the recovery of its amortized cost, less any current period credit loss, the recognition of the other-than-temporary impairment is bifurcated. We recognize the credit loss portion in net income and the noncredit loss portion in OCI.

 

We estimate the amount of the credit loss component of a debt security impairment as the difference between amortized cost and the present value of the expected cash flows of the security. The present value is determined using the best estimate cash flows discounted at the effective interest rate implicit to the security at the date of purchase or the current yield to accrete an asset-backed or floating rate security. The methodology and assumptions for establishing the best estimate cash flows vary depending on the type of security. The asset-backed securities cash flow estimates are based on bond specific facts and circumstances that may include collateral characteristics, expectations of delinquency and default rates, loss severity and prepayment speeds and structural support, including subordination and guarantees. The corporate bond cash flow estimates are derived from scenario-based outcomes of expected corporate restructurings or liquidations using bond specific facts and circumstances including timing, security interests and loss severity.

 

Total other-than-temporary impairment losses, net of recoveries from the sale of previously impaired securities, on fixed maturity securities were $193.1 million and $345.8 million for the three and six months ended June 30, 2009, respectively. Total other-than-temporary impairment losses, net of recoveries from the sale of previously impaired securities, on equity securities were $7.8 million and $1.7 million for the three and six months ended June 30, 2009, respectively.

 

The other-than-temporary impairments on fixed maturity securities for which an amount related to credit losses was recognized in net realized capital gains (losses) and an amount related to noncredit losses was recognized in OCI is summarized as follows:

 

 

 

For the three months
ended June 30, 2009

 

For the six months
ended June 30, 2009

 

 

 

(in millions)

 

Total other-than-temporary impairments on fixed maturity securities for which an amount related to noncredit losses was recognized in OCI (1)

 

$

(100.1

)

$

(199.3

)

Noncredit loss recognized in OCI

 

66.5

 

117.1

 

Credit loss impairment recognized in net realized capital losses

 

$

(33.6

)

$

(82.2

)

 


(1)   For the three and six months ended June 30, 2009, total other-than-temporary impairment losses on available-for-sale securities reported in the consolidated statements of operations also include $93.0 million and $146.5 million, respectively, of impairment losses, net of recoveries from the sale of previously impaired securities, on fixed maturity securities and $7.8 million and $1.7 million, respectively, of impairment losses, net of recoveries from the sale of previously impaired securities, on equity securities for which total impairment losses are recognized in net income.

 

The following table provides a rollforward of credit losses on fixed maturity securities recognized in net income (“bifurcated credit losses”) for which a portion of an other-than-temporary impairment was recognized in OCI. The purpose of the table is to provide detail of (1) additions to the bifurcated credit loss amounts recognized for the period and (2) decrements for previously recognized bifurcated credit losses where the loss is no longer bifurcated and/or there has been a positive change in expected cash flows or accretion of the bifurcated credit loss amount.

 

 

 

For the three months
ended June 30, 2009

 

For the six months
ended June 30, 2009

 

 

 

(in millions)

 

Beginning balance

 

$

(67.1

)

$

(18.5

)

Credit losses for which an other-than-temporary impairment was not previously recognized

 

(24.3

)

(72.3

)

Credit losses for which an other-than-temporary impairment was previously recognized

 

(9.6

)

(10.2

)

Reduction for credit losses previously recognized on securities now sold or intended to be sold

 

0.3

 

0.3

 

Reduction for positive changes in cash flows expected to be collected and amortization (1)

 

0.1

 

0.1

 

Ending balance

 

$

(100.6

)

$

(100.6

)

 


(1) Amounts are recognized in net investment income.

 

Gross Unrealized Losses for Fixed Maturities and Equity Securities

 

For fixed maturities and equity securities available-for-sale with unrealized losses, including other-than-temporary impairment losses reported in OCI, as of June 30, 2009, the gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position are summarized as follows:

 

 

 

Less than
twelve months

 

Greater than or
equal to twelve months

 

Total

 

 

 

Carrying
value

 

Gross
unrealized
losses

 

Carrying
value

 

Gross
unrealized
losses

 

Carrying
value

 

Gross
unrealized
losses

 

 

 

(in millions)

 

Fixed maturities, available-for-sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agencies

 

$

48.8

 

$

0.8

 

$

 

$

 

$

48.8

 

$

0.8

 

Non-U.S. governments

 

59.3

 

3.6

 

61.7

 

2.2

 

121.0

 

5.8

 

States and political subdivisions

 

297.2

 

4.7

 

567.3

 

35.7

 

864.5

 

40.4

 

Corporate

 

3,975.7

 

370.0

 

13,066.1

 

2,548.9

 

17,041.8

 

2,918.9

 

Residential mortgage-backed securities

 

328.1

 

1.6

 

1.9

 

0.1

 

330.0

 

1.7

 

Commercial mortgage-backed securities

 

821.8

 

121.4

 

2,447.2

 

1,736.1

 

3,269.0

 

1,857.5

 

Collateralized debt obligations

 

12.0

 

6.6

 

277.8

 

343.5

 

289.8

 

350.1

 

Other debt obligations

 

264.7

 

60.3

 

1,094.0

 

405.8

 

1,358.7

 

466.1

 

Total fixed maturities, available-for-sale

 

$

5,807.6

 

$

569.0

 

$

17,516.0

 

$

5,072.3

 

$

23,323.6

 

$

5,641.3

 

Total equity securities, available-for-sale

 

$

86.1

 

$

42.6

 

$

65.9

 

$

51.1

 

$

152.0

 

$

93.7

 

 

Of the total amounts, Principal Life’s consolidated portfolio represented $22,381.1 million in available-for-sale fixed maturity securities with gross unrealized losses of $5,544.2 million. Principal Life’s consolidated portfolio consists of fixed maturity securities where 86% are investment grade (rated AAA through BBB-) with an average price of 80 (carrying value/amortized cost) at June 30, 2009. Due to the credit disruption that began in the last half of 2007 and continued into 2009, which reduced liquidity and led to wider credit spreads, we saw an increase in unrealized losses in our securities portfolio. The unrealized losses were more pronounced in the Corporate sector and in structured products, such as commercial mortgage-backed securities, collateralized debt obligations and asset-backed securities (included in other debt obligations). During the second quarter of 2009, a narrowing of credit spreads and some improvement in liquidity resulted in a decrease in the unrealized losses in our securities portfolio relative to the period ended March 31, 2009.

 

For those securities that have been in a loss position for less than twelve months, Principal Life’s consolidated portfolio holds 619 securities with a carrying value of $5,284.5 million and unrealized losses of $537.0 million reflecting an average price of 91 at June 30, 2009. Of this portfolio, 87% was investment grade (rated AAA through BBB-) at June 30, 2009, with associated unrealized losses of $444.2 million. The losses on these securities can primarily be attributed to changes in market interest rates and changes in credit spreads since the securities were acquired.

 

For those securities that have been in a continuous loss position greater than or equal to twelve months, Principal Life’s consolidated portfolio holds 2,202 securities with a carrying value of $17,096.6 million and unrealized losses of $5,007.2 million. The average rating of this portfolio is A- with an average price of 77 at June 30, 2009. Of the $5,007.2 million in unrealized losses, the Corporate sector accounts for $2,484.0 million in unrealized losses with an average price of 84 and an average credit rating of BBB. The remaining unrealized losses consist primarily of $1,736.0 million within the commercial mortgage-backed securities sector at June 30, 2009. The average price of the commercial mortgage-backed securities sector is 59 and the average credit rating is AA. The losses on these securities can primarily be attributed to changes in market interest rates and changes in credit spreads since the securities were acquired.

 

Because it is not our intent to sell the fixed maturity available-for-sale securities with unrealized losses and it is not more likely than not that we would be required to sell these securities before recovery of the amortized cost, which may be maturity, we do not consider these investments to be other-than-temporarily impaired at June 30, 2009.

 

Net Unrealized Gains and Losses on Available-for-Sale Securities and Derivative Instruments

 

The net unrealized gains and losses on investments in fixed maturities available-for-sale, equity securities available-for-sale and derivative instruments are reported as a separate component of stockholders’ equity. The cumulative amount of net unrealized gains and losses on available-for-sale securities and derivative instruments net of adjustments related to DPAC, sales inducements, unearned revenue reserves, changes in policyholder benefits and claims and applicable income taxes was as follows:

 

 

 

June 30, 2009

 

 

 

(in millions)

 

Net unrealized losses on fixed maturities, available-for-sale (1)

 

$

(4,611.2

)

Noncredit component of impairment losses on fixed maturities, available-for-sale

 

(117.1

)

Net unrealized losses on equity securities, available-for-sale

 

(81.7

)

Adjustments for assumed changes in amortization patterns

 

814.8

 

Adjustments for assumed changes in liability for policyholder benefits and claims

 

(36.8

)

Net unrealized gains on derivative instruments

 

29.1

 

Net unrealized gains on equity method subsidiaries and noncontrolling interest adjustments

 

223.8

 

Provision for deferred income tax benefits

 

1,346.7

 

Effect of reclassifying noncredit component of previously recognized impairment losses on fixed maturities, available-for-sale, net

 

(9.9

)

Net unrealized losses on available-for-sale securities and derivative instruments

 

$

(2,442.3

)

 


(1)                                Excludes net unrealized gains (losses) on hedged portions of fixed maturities, available-for-sale included in fair value hedging relationships.

 

Securities Posted as Collateral

 

We posted $804.6 million in fixed maturity securities as of June 30, 2009, to satisfy collateral requirements primarily associated with our derivative credit support annex (collateral) agreements and a reinsurance arrangement. In addition, we posted $1,681.2 million in commercial mortgage loans as of June 30, 2009, to satisfy collateral requirements associated with our obligation under funding agreements with the Federal Home Loan Bank of Des Moines.

Notes - Derivative Financial Instruments
Derivative Financial Instruments

3. Derivative Financial Instruments

 

Derivatives are generally used to hedge or reduce exposure to market risks associated with assets held or expected to be purchased or sold and liabilities incurred or expected to be incurred. Derivatives are used to change the characteristics of our asset/liability mix consistent with our risk management activities. Derivatives are also used in asset replication strategies. We do not buy, sell or hold these investments for trading purposes.

 

Types of Derivative Instruments

 

Interest Rate Contracts

 

Interest rate risk is the risk that we will incur economic losses due to adverse changes in interest rates. Sources of interest rate risk include the difference between the maturity and interest rate changes of assets with the liabilities they support, timing differences between the pricing of liabilities and the purchase or procurement of assets and changing cash flow profiles from original projections due to prepayment options embedded within asset and liability contracts. We use various derivatives to manage our exposure to fluctuations in interest rates.

 

Interest rate swaps are contracts in which we agree with other parties to exchange, at specified intervals, the difference between fixed rate and floating rate interest amounts based upon designated market rates or rate indices and an agreed upon notional principal amount. Generally, no cash is exchanged at the outset of the contract and no principal payments are made by either party. Cash is paid or received based on the terms of the swap. These transactions are entered into pursuant to master agreements that provide for a single net payment to be made by one counterparty at each due date. We use interest rate swaps primarily to more closely match the interest rate characteristics of assets and liabilities arising from timing mismatches between assets and liabilities (including duration mismatches). We also use interest rate swaps to hedge against changes in the value of assets we anticipate acquiring and other anticipated transactions and commitments. Interest rate swaps are used to hedge against changes in the value of the guaranteed minimum withdrawal benefit (“GMWB”) liability. The GMWB rider on our variable annuity products provides for guaranteed minimum withdrawal benefits regardless of the actual performance of various equity and/or fixed income funds available with the product.

 

A swaption is an option to enter into an interest rate swap at a future date. We have written these options and received a premium in order to transform our callable liabilities into fixed term liabilities. Swaptions provide us the benefit of the agreed-upon strike rate if the market rates for liabilities are higher, with the flexibility to enter into the current market rate swap if the market rates for liabilities are lower. Swaptions not only hedge against the downside risk, but also allow us to take advantage of any upside benefits.

 

In exchange-traded futures transactions, we agree to purchase or sell a specified number of contracts, the values of which are determined by the values of designated classes of securities, and to post variation margin on a daily basis in an amount equal to the difference in the daily market values of those contracts. We enter into exchange-traded futures with regulated futures commissions merchants who are members of a trading exchange. We have used exchange-traded futures to reduce market risks from changes in interest rates and to alter mismatches between the assets in a portfolio and the liabilities supported by those assets.

 

A treasury lock is an agreement that allows the holder to lock in an interest rate. If the interest rate increases, the holder is entitled to receive a payment from the counterparty to the agreement equal to the present value of the difference in the current interest rate and the locked-in interest rate. If the interest rate decreases, the holder must pay the counterparty to the agreement an amount equal to the present value of the difference in the current interest rate and the locked-in interest rate. We have used treasury lock agreements to hedge against changes in the value of anticipated transactions and commitments.

 

Foreign Exchange Contracts

 

Foreign currency risk is the risk that we will incur economic losses due to adverse fluctuations in foreign currency exchange rates. This risk arises from foreign currency-denominated funding agreements we issue, foreign currency-denominated fixed maturity securities we invest in and our investment in and net income of our international operations. We may use currency swaps and currency forwards to hedge foreign currency risk.

 

Currency swaps are contracts in which we agree with other parties to exchange, at specified intervals, a series of principal and interest payments in one currency for that of another currency. Generally, the principal amount of each currency is exchanged at the beginning and termination of the currency swap by each party. The interest payments are primarily fixed-to-fixed rate; however, may also be fixed-to-floating rate or floating-to-fixed rate. These transactions are entered into pursuant to master agreements that provide for a single net payment to be made by one counterparty for payments made in the same currency at each due date. We use currency swaps to reduce market risks from changes in currency exchange rates with respect to investments or liabilities denominated in foreign currencies that we either hold or intend to acquire or sell.

 

Currency forwards are contracts in which we agree with other parties to deliver a specified amount of an identified currency at a specified future date. Typically, the price is agreed upon at the time of the contract and payment for such a contract is made at the specified future date. We use currency forwards to reduce market risks from changes in currency exchange rates with respect to investments or liabilities denominated in foreign currencies that we either hold or intend to acquire or sell. We have also used currency forwards to hedge the currency risk associated with net investments in foreign operations.

 

Equity Contracts

 

Equity risk is the risk that we will incur economic losses due to adverse fluctuations in common stock. We use various derivatives to manage our exposure to equity risk, which arises from products in which the interest we credit is tied to an external equity index as well as products subject to minimum contractual guarantees.

 

We may sell an investment-type insurance contract with attributes tied to market indices (an embedded derivative as noted below), in which case we write an equity call option to convert the overall contract into a fixed-rate liability, essentially eliminating the equity component altogether. We purchase equity call spreads to hedge the equity participation rates promised to contractholders in conjunction with our fixed deferred annuity products that credit interest based on changes in an external equity index. We use exchange-traded futures and equity put options to hedge against changes in the value of the GMWB liability related to the GMWB rider on our variable annuity product, as previously explained.

 

Credit Contracts

 

Credit risk relates to the uncertainty associated with the continued ability of a given obligor to make timely payments of principal and interest. We use credit default swaps to enhance the return on our investment portfolio by providing comparable exposure to fixed income securities that might not be available in the primary market. They are also occasionally used to hedge credit exposures in our investment portfolio. Credit derivatives are used to sell or buy credit protection on an identified name or names on an unfunded or synthetic basis in return for receiving or paying a quarterly premium. The premium generally corresponds to a referenced name’s credit spread at the time the agreement is executed. In cases where we sell protection, at the same time we enter into these synthetic transactions, we buy a quality cash bond to match against the credit default swap. When selling protection, if there is an event of default by the referenced name, as defined by the agreement, we are obligated to pay the counterparty the referenced amount of the contract and receive in return the referenced security in a principal amount equal to the notional value of the credit default swap.

 

Other Contracts

 

Commodity Swaps. Commodity swaps are used to sell or buy protection on commodity prices in return for receiving or paying a quarterly premium. We purchased AAA rated secured limited recourse notes from VIEs that are consolidated in our financial results. These VIEs use a commodity swap to enhance the return on an investment portfolio by selling protection on a static portfolio of commodity trigger swaps, each referencing a base or precious metal. The portfolio of commodity trigger swaps is a portfolio of deep out-of-the-money European puts on various base or precious metals. The VIEs provide mezzanine protection that the average spot rate will not fall below a certain trigger price on each commodity trigger swap in the portfolio and receive guaranteed quarterly premiums in return until maturity. At the same time the VIEs enter into this synthetic transaction, they buy a quality cash bond to match against the commodity swaps.

 

Embedded Derivatives. We purchase or issue certain financial instruments or products that contain a derivative instrument that is embedded in the financial instrument or product. When it is determined that the embedded derivative possesses economic characteristics that are not clearly or closely related to the economic characteristics of the host contract and a separate instrument with the same terms would qualify as a derivative instrument, the embedded derivative is bifurcated from the host for measurement purposes. The embedded derivative, which is reported with the host instrument in the consolidated statements of financial position, is carried at fair value.

 

We sell investment-type insurance contracts in which the return is tied to an external equity index, a leveraged inflation index or leveraged reference swap. We economically hedge the risk associated with these investment-type insurance contracts.

 

We offer group benefit plan contracts that have guaranteed separate accounts as an investment option. We also offer a guaranteed fund as an investment option in our defined contribution plans in Hong Kong.

 

We have structured investment relationships with trusts we have determined to be VIEs, which are consolidated in our financial statements. The notes issued by these trusts include obligations to deliver an underlying security to residual interest holders and the obligations contain an embedded derivative of the forecasted transaction to deliver the underlying security.

 

We offer a fixed deferred annuity product that credits interest based on changes in an external equity index. We also offer certain variable annuity products with a GMWB rider, which provides that the contractholder will receive at least their principal deposit back through withdrawals of up to a specified annual amount, even if the account value is reduced to zero. Declines in the equity market may increase our exposure to benefits under contracts with the GMWB. We economically hedge the exposure in these annuity contracts.

 

Exposure

 

Our risk of loss is typically limited to the fair value of our derivative instruments and not to the notional or contractual amounts of these derivatives. Risk arises from changes in the fair value of the underlying instruments. We are also exposed to credit losses in the event of nonperformance of the counterparties. Our current credit exposure is limited to the value of derivatives that have become favorable to us. This credit risk is minimized by purchasing such agreements from financial institutions with high credit ratings and by establishing and monitoring exposure limits. We also utilize various credit enhancements, including collateral and credit triggers to reduce the credit exposure to our derivative instruments.

 

Our derivative transactions are generally documented under International Swaps and Derivatives Association, Inc. Master Agreements. Management believes that such agreements provide for legally enforceable set-off and close-out netting of exposures to specific counterparties. Under such agreements, in connection with an early termination of a transaction, we are permitted to set off our receivable from a counterparty against our payables to the same counterparty arising out of all included transactions. For reporting purposes, we do not offset fair value amounts recognized for the right to reclaim cash collateral or the obligation to return cash collateral against fair value amounts recognized for derivative instruments executed with the same counterparties under master netting agreements.

 

We posted $236.9 million and $372.8 million in cash and securities under collateral arrangements as of June 30, 2009, and December 31, 2008, respectively, to satisfy collateral requirements associated with our derivative credit support agreements.

 

Certain of our derivative instruments contain provisions that require us to maintain an investment grade rating from each of the major credit rating agencies on our debt. If our debt were to fall below investment grade, it would be in violation of these provisions and the counterparties to the derivative instruments could request immediate payment or demand immediate and ongoing full overnight collateralization on derivative instruments in net liability positions. The aggregate fair value of all derivative instruments with credit-risk-related contingent features that were in a liability position as of June 30, 2009, and December 31, 2008, was $1,244.7 million and $2,100.0 million, respectively, for which we posted collateral of $236.9 million and $372.8 million, respectively, in the normal course of business. If the credit-risk-related contingent features underlying these agreements were triggered on June 30, 2009, we would be required to post an additional $47.6 million of collateral to our counterparties.

 

As of June 30, 2009, and December 31, 2008, we had received $271.2 million and $262.9 million, respectively, of cash collateral associated with our derivative credit support annex agreements. The cash collateral is included in other assets on the consolidated statements of financial position, with a corresponding liability reflecting our obligation to return the collateral recorded in other liabilities.

 

Notional amounts are used to express the extent of our involvement in derivative transactions and represent a standard measurement of the volume of our derivative activity. Notional amounts represent those amounts used to calculate contractual flows to be exchanged and are not paid or received, except for contracts such as currency swaps. Credit exposure represents the gross amount owed to us under derivative contracts as of the valuation date. The notional amounts and credit exposure of our derivative financial instruments by type were as follows:

 

 

 

June 30, 2009

 

December 31, 2008

 

 

 

(in millions)

 

Notional amounts of derivative instruments

 

 

 

 

 

Interest rate contracts:

 

 

 

 

 

Interest rate swaps

 

$

23,651.7

 

$

24,148.6

 

Futures

 

51.1

 

97.3

 

Swaptions

 

 

94.8

 

Foreign exchange contracts:

 

 

 

 

 

Foreign currency swaps

 

5,456.3

 

6,298.7

 

Currency forwards

 

60.9

 

52.1

 

Equity contracts:

 

 

 

 

 

Options

 

846.6

 

797.5

 

Futures

 

60.3

 

63.6

 

Credit contracts:

 

 

 

 

 

Credit default swaps

 

1,857.2

 

1,948.9

 

Other contracts:

 

 

 

 

 

Embedded derivative financial instruments

 

3,114.6

 

2,938.6

 

Commodity swaps

 

40.0

 

40.0

 

Total notional amounts at end of period

 

$

35,138.7

 

$

36,480.1

 

 

 

 

 

 

 

Credit exposure of derivative instruments

 

 

 

 

 

Interest rate contracts:

 

 

 

 

 

Interest rate swaps

 

$

694.2

 

$

1,105.1

 

Foreign exchange contracts:

 

 

 

 

 

Foreign currency swaps

 

487.5

 

562.5

 

Currency forwards

 

6.6

 

0.2

 

Equity contracts:

 

 

 

 

 

Options

 

180.1

 

222.1

 

Credit contracts:

 

 

 

 

 

Credit default swaps

 

30.8

 

70.7

 

Total gross credit exposure

 

1,399.2

 

1,960.6

 

Less: collateral received

 

312.3

 

284.2

 

Net credit exposure

 

$

1,086.9

 

$

1,676.4

 

 

The fair value of our derivative instruments classified as assets and liabilities were as follows:

 

 

 

Derivative assets (1)

 

Derivative liabilities (2)

 

 

 

June 30, 2009

 

December 31, 2008

 

June 30, 2009

 

December 31, 2008

 

 

 

(in millions)

 

Derivatives designated as hedging instruments

 

 

 

 

 

 

 

 

 

Interest rate contracts

 

$

119.7

 

$

250.8

 

$

378.0

 

$

819.2

 

Foreign exchange contracts

 

374.1

 

410.8

 

214.0

 

300.4

 

Total derivatives designated as hedging instruments

 

$

493.8

 

$

661.6

 

$

592.0

 

$

1,119.6

 

 

 

 

 

 

 

 

 

 

 

Derivatives not designated as hedging instruments

 

 

 

 

 

 

 

 

 

Interest rate contracts

 

$

507.9

 

$

802.1

 

$

388.3

 

$

621.5

 

Foreign exchange contracts

 

101.7

 

121.3

 

59.4

 

155.1

 

Equity contracts

 

180.1

 

222.1

 

0.1

 

 

Credit contracts

 

31.1

 

70.7

 

143.2

 

227.2

 

Other contracts

 

 

 

73.8

 

185.2

 

Total derivatives not designated as hedging instruments

 

$

820.8

 

$

1,216.2

 

$

664.8

 

$

1,189.0

 

 

 

 

 

 

 

 

 

 

 

Total derivative instruments

 

$

1,314.6

 

$

1,877.8

 

$

1,256.8

 

$

2,308.6

 

 


(1)         The fair value of derivative assets is reported with other investments on the consolidated statements of financial position.

(2)        The fair value of derivative liabilities is reported with other liabilities on the consolidated statements of financial position, with the exception of certain embedded derivative liabilities. Embedded derivative liabilities with a fair value of $31.2 million and $60.2 million as of June 30, 2009, and December 31, 2008, respectively, are reported with contractholder funds on the consolidated statements of financial position.

 

Credit Derivatives Sold

 

When we sell credit protection, we are exposed to the underlying credit risk similar to purchasing a fixed maturity security instrument. The majority of our credit derivative contracts sold reference a single name or reference security (referred to as “single name credit default swaps”). The remainder of our credit derivatives reference either a basket or index of securities. These instruments are either referenced in an over-the-counter credit derivative transaction, or embedded within an investment structure that has been fully consolidated into our financial statements.

 

These credit derivative transactions are subject to events of default defined within the terms of the contract, which normally consist of bankruptcy, failure to pay, or modified restructuring of the reference entity and/or issue. If a default event occurs for a reference name or security, we are obligated to pay the counterparty an amount equal to the notional amount of the credit derivative transaction. As a result, our maximum future payment is equal to the notional amount of the credit derivative. In certain cases, we also have purchased credit protection with identical underlyings to certain of our sold protection transactions. The effect of this purchased protection would reduce our total maximum future payments by $60.8 million as of both June 30, 2009, and December 31, 2008. These credit derivative transactions had a net fair value of $10.8 million and $21.2 million as of June 30, 2009, and December 31, 2008, respectively. Our potential loss could also be reduced by any amount recovered in the default proceedings of the underlying credit name.

 

We purchased certain investment structures with embedded credit features that are fully consolidated into our financial statements. This consolidation results in recognition of the underlying credit derivatives and collateral within the structure, typically high quality fixed maturity securities that are owned by a special purpose vehicle. These credit derivatives reference a single name or several names in a basket structure. In the event of default, the collateral within the structure would typically be liquidated to pay the claims of the credit derivative counterparty.

 

The following tables show our credit default swap protection sold by types of contract, types of referenced/underlying asset class and external agency rating for the underlying reference security as of June 30, 2009, and December 31, 2008. The maximum future payments are undiscounted and have not been reduced by the effect of any offsetting transactions, collateral or recourse features described above.

 

 

 

June 30, 2009

 

 

 

 

 

 

 

 

 

Weighted

 

 

 

 

 

 

 

Maximum

 

average

 

 

 

Notional

 

Fair

 

future

 

expected life

 

 

 

amount

 

value

 

payments

 

(in years)

 

 

 

 

 

(in millions)

 

 

 

 

 

Single name credit default swaps

 

 

 

 

 

 

 

 

 

Corporate debt

 

 

 

 

 

 

 

 

 

AA

 

$

140.0

 

$

(4.3

)

$

140.0

 

4.7

 

A

 

514.0

 

(5.7

)

514.0

 

4.4

 

BBB

 

330.0

 

(10.0

)

330.0

 

2.4

 

BB

 

18.0

 

(0.3

)

18.0

 

0.2

 

Structured finance

 

 

 

 

 

 

 

 

 

BBB

 

16.0

 

(15.4

)

16.0

 

21.7

 

BB

 

22.0

 

(20.2

)

22.0

 

6.5

 

B

 

9.9

 

(5.6

)

9.9

 

3.0

 

Total single name credit default swaps

 

1,049.9

 

(61.5

)

1,049.9

 

4.0

 

 

 

 

 

 

 

 

 

 

 

Basket and index credit default swaps

 

 

 

 

 

 

 

 

 

Corporate debt

 

 

 

 

 

 

 

 

 

AAA

 

35.0

 

0.3

 

35.0

 

0.5

 

A

 

20.0

 

(0.5

)

20.0

 

1.1

 

BBB

 

20.0

 

(0.7

)

20.0

 

1.0

 

CCC

 

145.0

 

(24.3

)

145.0

 

1.2

 

Near default

 

20.0

 

(20.0

)

20.0

 

2.5

 

Government/municipalities

 

 

 

 

 

 

 

 

 

AA

 

50.0

 

(15.5

)

50.0

 

5.6

 

Structured finance

 

 

 

 

 

 

 

 

 

AA

 

20.0

 

(7.8

)

20.0

 

5.9

 

BBB

 

5.0

 

(1.7

)

5.0

 

16.4

 

Total basket and index credit default swaps

 

315.0

 

(70.2

)

315.0

 

2.4

 

Total credit default swap protection sold

 

$

1,364.9

 

$

(131.7

)

$

1,364.9

 

3.7

 

 

 

 

December 31, 2008

 

 

 

 

 

 

 

 

 

Weighted

 

 

 

 

 

 

 

Maximum

 

average

 

 

 

Notional

 

Fair

 

future

 

expected life

 

 

 

amount

 

value

 

payments

 

(in years)

 

 

 

(in millions)

 

 

 

Single name credit default swaps

 

 

 

 

 

 

 

 

 

Corporate debt

 

 

 

 

 

 

 

 

 

AAA

 

$

10.0

 

$

(1.0

)

$

10.0

 

4.5

 

AA

 

135.0

 

(4.6

)

135.0

 

5.4

 

A

 

554.0

 

(25.8

)

554.0

 

4.8

 

BBB

 

305.0

 

(24.4

)

305.0

 

2.7

 

BB

 

33.0

 

(1.4

)

33.0

 

0.5

 

Structured finance

 

 

 

 

 

 

 

 

 

A

 

9.9

 

(7.9

)

9.9

 

3.5

 

BBB

 

16.0

 

(15.0

)

16.0

 

22.5

 

BB

 

22.0

 

(18.1

)

22.0

 

7.1

 

Total single name credit default swaps

 

1,084.9

 

(98.2

)

1,084.9

 

4.4

 

 

 

 

 

 

 

 

 

 

 

Basket and index credit default swaps

 

 

 

 

 

 

 

 

 

Corporate debt

 

 

 

 

 

 

 

 

 

AAA

 

35.0

 

(0.2

)

35.0

 

1.0

 

A

 

20.0

 

(1.4

)

20.0

 

1.6

 

BBB

 

35.0

 

(16.3

)

35.0

 

2.6

 

BB

 

130.0

 

(53.3

)

130.0

 

1.5

 

CCC

 

20.0

 

(20.0

)

20.0

 

3.0

 

Government/municipalities

 

 

 

 

 

 

 

 

 

AA

 

50.0

 

(19.3

)

50.0

 

6.2

 

Structured finance

 

 

 

 

 

 

 

 

 

AA

 

25.0

 

(15.4

)

25.0

 

8.6

 

Total basket and index credit default swaps

 

315.0

 

(125.9

)

315.0

 

3.0

 

Total credit default swap protection sold

 

$

1,399.9

 

$

(224.1

)

$

1,399.9

 

4.1

 

 

We also have invested in available-for-sale fixed maturity securities that contain credit default swaps that do not require bifurcation. These securities are subject to the credit risk of the issuer, normally a special purpose vehicle, which consists of the underlying credit default swaps and high quality fixed maturity securities that serve as collateral. A default event occurs if the cumulative losses exceed a specified attachment point, which is typically not the first loss of the portfolio. If a default event occurs that exceeds the specified attachment point, our investment may not be fully returned. We would have no future potential payments under these investments. The following tables show by the types of referenced/underlying asset class and external rating of the available-for-sale fixed maturity security our fixed maturity securities with nonbifurcatable embedded credit derivatives as of June 30, 2009, and December 31, 2008.

 

 

 

June 30, 2009

 

 

 

 

 

 

 

Weighted

 

 

 

 

 

 

 

average

 

 

 

Amortized

 

Carrying

 

expected life

 

 

 

cost

 

value

 

(in years)

 

 

 

(in millions)

 

 

 

Corporate debt

 

 

 

 

 

 

 

AAA

 

$

15.0

 

$

13.5

 

1.2

 

A

 

15.0

 

14.1

 

0.8

 

BBB

 

5.0

 

4.6

 

0.8

 

BB

 

35.0

 

23.3

 

5.6

 

B

 

25.0

 

13.3

 

4.0

 

CCC

 

26.4

 

18.9

 

6.0

 

CC

 

22.6

 

7.2

 

7.6

 

Total corporate debt

 

144.0

 

94.9

 

5.0

 

Structured finance

 

 

 

 

 

 

 

AAA

 

9.5

 

4.2

 

3.8

 

AA

 

48.6

 

13.4

 

5.5

 

A

 

40.0

 

13.3

 

4.1

 

BBB

 

28.1

 

8.9

 

5.7

 

BB

 

47.6

 

16.4

 

7.0

 

B

 

7.6

 

0.9

 

9.7

 

CCC

 

2.1

 

0.2

 

7.8

 

Total structured finance

 

183.5

 

57.3

 

6.2

 

Total fixed maturity securities with credit derivatives

 

$

327.5

 

$

152.2

 

5.7

 

 

 

 

December 31, 2008

 

 

 

 

 

 

 

Weighted

 

 

 

 

 

 

 

average

 

 

 

Amortized

 

Carrying

 

expected life

 

 

 

cost

 

value

 

(in years)

 

 

 

(in millions)

 

 

 

Corporate debt

 

 

 

 

 

 

 

AAA

 

$

55.0

 

$

25.9

 

4.5

 

AA

 

5.0

 

4.0

 

1.3

 

A

 

35.0

 

19.0

 

3.1

 

BB

 

44.9

 

16.5

 

5.9

 

B

 

1.4

 

1.4

 

8.7

 

C

 

8.8

 

5.7

 

8.0

 

Total corporate debt

 

150.1

 

72.5

 

5.4

 

Structured finance

 

 

 

 

 

 

 

AAA

 

32.0

 

17.1

 

5.5

 

AA

 

47.4

 

18.4

 

5.6

 

A

 

66.0

 

15.1

 

5.5

 

BBB

 

34.4

 

14.4

 

6.5

 

BB

 

54.8

 

7.0

 

8.2

 

CCC

 

0.4

 

0.4

 

3.0

 

Total structured finance

 

235.0

 

72.4

 

6.1

 

Total fixed maturity securities with credit derivatives

 

$

385.1

 

$

144.9

 

5.8

 

 

Fair Value Hedges

 

We use fixed-to-floating rate interest rate swaps to more closely align the interest rate characteristics of certain assets and liabilities. In general, these swaps are used in asset and liability management to modify duration, which is a measure of sensitivity to interest rate changes.

 

We enter into currency exchange swap agreements to convert certain foreign denominated assets and liabilities into U.S. dollar floating-rate denominated instruments to eliminate the exposure to future currency volatility on those items.

 

We also sell callable investment-type insurance contracts and use cancellable interest rate swaps and have written interest rate swaptions to hedge the changes in fair value of the callable feature.

 

The net interest effect of interest rate swap and currency swap transactions for derivatives in fair value hedges is recorded as an adjustment to income or expense of the underlying hedged item in our consolidated statements of operations.

 

Hedge effectiveness testing for fair value relationships is performed utilizing a regression analysis approach for both prospective and retrospective evaluations. This regression analysis will consider multiple data points for the assessment that the hedge continues to be highly effective in achieving offsetting changes in fair value. In certain periods, the comparison of the change in value of the derivative and the change in the value of the hedged item may not be offsetting at a specific period in time due to small movements in value. However, any amounts recorded as fair value hedges have shown to be highly effective in achieving offsetting changes in fair value both for present and future periods.

 

The following tables show the effect of derivatives in fair value hedging relationships and the related hedged items on the consolidated statements of operations for the three and six months ended June 30, 2009 and 2008. All gains or losses on derivatives were included in the assessment of hedge effectiveness.

 

Derivatives in fair value

 

Amount of gain (loss) recognized in net
income on derivatives for the three
months ended June 30, (1)

 

Hedged items in fair value

 

Amount of gain (loss) recognized in net
income on related hedged item for the
three months ended June 30, (1)

 

hedging relationships

 

2009

 

2008

 

hedging relationships

 

2009

 

2008

 

 

 

(in millions)

 

 

 

(in millions)

 

Interest rate contracts

 

$

194.7

 

$

193.7

 

Fixed maturities securities, available-for-sale

 

$

(174.5

)

$

(182.7

)

Interest rate contracts

 

(27.8

)

(19.9

)

Investment-type insurance contracts

 

34.2

 

21.0

 

Foreign exchange contracts

 

(8.6

)

5.9

 

Fixed maturities securities, available-for-sale

 

3.7

 

(5.6

)

Foreign exchange contracts

 

100.0

 

(52.3

)

Investment-type insurance contracts

 

(95.4

)

49.1

 

Total

 

$

258.3

 

$

127.4

 

Total

 

$

(232.0

)

$

(118.2

)

 

Derivatives in fair value

 

Amount of gain (loss) recognized in net
income on derivatives for the six months
ended June 30, (1)

 

Hedged items in fair value

 

Amount of gain (loss) recognized in net
income on related hedged item for the
six months ended June 30, (1)

 

hedging relationships

 

2009

 

2008

 

hedging relationships

 

2009

 

2008

 

 

 

(in millions)

 

 

 

(in millions)

 

Interest rate contracts

 

$

259.1

 

$

11.1

 

Fixed maturities securities, available-for-sale

 

$

(237.4

)

$

(11.9

)

Interest rate contracts

 

(21.7

)

(11.7

)

Investment-type insurance contracts

 

31.2

 

9.0

 

Foreign exchange contracts

 

(6.5

)

(6.8

)

Fixed maturities securities, available-for-sale

 

6.4

 

7.5

 

Foreign exchange contracts

 

112.4

 

(50.8

)

Investment-type insurance contracts

 

(98.4

)

50.1

 

Total

 

$

343.3

 

$

(58.2

)

Total

 

$

(298.2

)

$

54.7

 

 


(1)          The gain (loss) on both derivatives and hedged items in fair value relationships is reported in net realized capital gains (losses) on the consolidated statements of operations. The net amount represents the ineffective portion of our fair value hedges.

 

Periodic settlements on interest rate contracts and foreign exchange contracts in fair value hedging relationships of fixed maturities securities, available-for-sale reported in net investment income on the consolidated statements of operations were $36.1 million and $20.9 million in losses for the three months ended June 30, 2009 and 2008, respectively, and $63.7 million and $25.4 million in losses for the six months ended June 30, 2009 and 2008, respectively. Periodic settlements on interest rate contracts and foreign exchange contracts in fair value hedging relationships of investment-type insurance contracts reported in benefits, claims and settlement expenses on the consolidated statements of operations were $27.8 million and $19.5 million in gains for the three months ended June 30, 2009 and 2008, respectively, and $53.6 million and $27.6 million in gains for the six months ended June 30, 2009 and 2008, respectively.

 

Cash Flow Hedges

 

We utilize floating-to-fixed rate interest rate swaps to eliminate the variability in cash flows of recognized financial assets and liabilities and forecasted transactions. We have also utilized treasury lock agreements to eliminate the variability in cash flows of forecasted transactions.

 

We enter into currency exchange swap agreements to convert both principal and interest payments of certain foreign denominated assets and liabilities into U.S. dollar denominated fixed-rate instruments to eliminate the exposure to future currency volatility on those items.

 

The net interest effect of interest rate swap and currency swap transactions for derivatives in cash flow hedges is recorded as an adjustment to income or expense of the underlying hedged item in our consolidated statements of operations.

 

The maximum length of time that we are hedging our exposure to the variability in future cash flows for forecasted transactions, excluding those related to the payments of variable interest on existing financial assets and liabilities, is 11.0 years. At June 30, 2009, we had $67.5 million of gross unrealized gains reported in accumulated OCI on the consolidated statements of financial position related to active hedges of forecasted transactions. If a hedged forecasted transaction is no longer probable of occurring, cash flow hedge accounting is discontinued. If it is probable that the hedged forecasted transaction will not occur, the deferred gain or loss is immediately reclassified from OCI into net income. During both the three and six months ended June 30, 2009, $40.4 million of gross unrealized losses were reclassified from OCI into net realized capital gains (losses) as a result of the determination that hedged cash flows of a forecasted liability issuance were probable of not occurring. No amounts were reclassified from OCI into net income as a result of the determination that hedged cash flows were probable of not occurring during the three and six months ended June 30, 2008.

 

The following tables show the effect of derivatives in cash flow hedging relationships on the consolidated statements of operations and consolidated statements of financial position for the three and six months ended June 30, 2009 and 2008. All gains or losses on derivatives were included in the assessment of hedge effectiveness.

 

Derivatives in
cash flow
hedging

 

 

 

Amount of gain (loss) recognized
in accumulated OCI on
derivatives (effective portion) for
the three months ended June 30,

 

Location of gain (loss)
reclassified from
accumulated OCI into
net income (effective
portion)

 

Amount of gain (loss) reclassified
from accumulated OCI on
derivatives (effective portion) for the
three months ended June 30, (1)

 

relationships

 

Related hedged item

 

2009

 

2008

 

 

2009

 

2008

 

 

 

 

 

(in millions)

 

 

 

(in millions)

 

Interest rate contracts

 

Fixed maturity securities, available-for-sale

 

$

(39.1

)

$

2.2

 

Net investment income

 

$

1.3

 

$

0.8

 

 

 

 

 

 

 

 

 

Net realized capital losses

 

(0.6

)

 

Interest rate contracts

 

Investment-type insurance contracts

 

44.3

 

21.9

 

Benefits, claims and settlement expenses

 

(0.2

)

 

Interest rate contracts

 

Debt

 

17.5

 

15.4

 

Operating expense

 

(0.5

)

0.1

 

Foreign exchange contracts

 

Fixed maturity securities, available-for-sale

 

(175.4

)

17.3

 

Net investment income

 

 

 

Foreign exchange contracts

 

Investment-type insurance contracts

 

163.3

 

(14.1

)

Benefits, claims and settlement expenses

 

(1.9

)

 

 

 

 

 

 

 

 

 

Net realized capital losses

 

(3.8

)

(0.5

)

Total

 

 

 

$

10.6

 

$

42.7

 

Total

 

$

(5.7

)

$

0.4

 

 


(1)          Does not include derivative periodic settlements. Periodic settlements on interest rate contracts and foreign exchange contracts in cash flow hedging relationships of fixed maturity securities, available-for-sale of $4.3 million and $0.8 million in gains were reported in net investment income on the consolidated statements of operations for the three months ended June 30, 2009 and 2008, respectively. Periodic settlements on interest rate contracts and foreign exchange contracts in cash flow hedging relationships of investment-type insurance contracts of $5.4 million and $1.8 million in losses were reported in benefits, claims and settlement expenses on the consolidated statements of operations for the three months ended June 30, 2009 and 2008, respectively. We did not have any periodic settlements on interest rate contracts in cash flow hedging relationships of debt for the three months ended June 30, 2009 and 2008.

 

Derivatives in
cash flow
hedging

 

 

 

Amount of gain (loss) recognized
in accumulated OCI on
derivatives (effective portion) for
the six months ended June 30,

 

Location of gain (loss)
reclassified from
accumulated OCI into
net income (effective

 

Amount of gain (loss) reclassified
from accumulated OCI on
derivatives (effective portion) for the
six months ended June 30, (1)

 

relationships

 

Related hedged item

 

2009

 

2008

 

portion)

 

2009

 

2008

 

 

 

 

 

(in millions)

 

 

 

(in millions)

 

Interest rate contracts

 

Fixed maturity securities, available-for-sale

 

$

(0.4

)

$

55.6

 

Net investment income

 

$

2.4

 

$

1.6

 

 

 

 

 

 

 

 

 

Net realized capital losses

 

(0.6

)

 

Interest rate contracts

 

Investment-type insurance contracts

 

51.5

 

3.6

 

Benefits, claims and settlement expenses

 

(0.5

)

 

Interest rate contracts

 

Debt

 

30.6

 

(4.6

)

Operating expense

 

(0.4

)

0.2

 

Foreign exchange contracts

 

Fixed maturity securities, available-for-sale

 

(169.5

)

(70.5

)

Net investment income

 

 

 

Foreign exchange contracts

 

Investment-type insurance contracts

 

72.2

 

132.5

 

Benefits, claims and settlement expenses

 

(2.6

)

 

 

 

 

 

 

 

 

 

Net realized capital gains (losses)

 

22.9

 

(3.4

)

Total

 

 

 

$

(15.6

)

$

116.6

 

Total

 

$

21.2

 

$

(1.6

)

 


(1)          Does not include derivative periodic settlements. Periodic settlements on interest rate contracts and foreign exchange contracts in cash flow hedging relationships of fixed maturity securities, available-for-sale of $8.1 million and $3.2 million in gains were reported in net investment income on the consolidated statements of operations for the six months ended June 30, 2009 and 2008, respectively. Periodic settlements on interest rate contracts and foreign exchange contracts in cash flow hedging relationships of investment-type insurance contracts of $9.0 million and $3.4 million in losses were reported in benefits, claims and settlement expenses on the consolidated statements of operations for the six months ended June 30, 2009 and 2008, respectively. We did not have any periodic settlements on interest rate contracts in cash flow hedging relationships of debt for the six months ended June 30, 2009 and 2008.

 

The ineffective portion of our cash flow hedges is reported in net realized capital gains (losses) on the consolidated statements of operations. The net loss resulting from the ineffective portion of interest rate contracts in cash flow hedging relationships was zero and $0.6 million for the three months ended June 30, 2009 and 2008, respectively, and zero and $1.2 million for the six months ended June 30, 2009 and 2008, respectively. The net gain (loss) resulting from the ineffective portion of foreign currency contracts in cash flow hedging relationships was $1.0 million and $0.5 million for the three months ended June 30, 2009 and 2008, respectively, and $0.4 million and $(0.4) million for the six months ended June 30, 2009 and 2008, respectively.

 

We expect to reclassify net losses of $1.2 million from accumulated OCI into net income in the next 12 months, which includes both net deferred losses on discontinued hedges and periodic settlements of active hedges. Actual amounts may vary from this amount as a result of market conditions.

 

Net Investment in Foreign Operations Hedges

 

From time to time, we take measures to hedge our net investments in our foreign subsidiaries from currency risks. We did not use any currency forwards during 2009 or 2008 to hedge our net investment in foreign operations.

 

Derivatives Not Designated as Hedging Instruments

 

Our use of futures, certain swaptions and swaps, options and currency forwards are effective from an economic standpoint, but they have not been designated as hedges for financial reporting purposes. As such, periodic changes in the market value of these instruments, which includes unrealized gains and losses as well as periodic and final settlements, flow directly into net realized capital gains (losses).

 

The following tables show the effect of derivatives not designated as hedging instruments, including market value changes of embedded derivatives that have been bifurcated from the host contract, on the consolidated statements of operations for the three and six months ended June 30, 2009 and 2008. Gains (losses) are primarily reported in net realized capital gains (losses) on the consolidated statements of operations.

 

 

 

Amount of gain (loss) recognized in net
income on derivatives for the three months
ended June 30,

 

Amount of gain (loss) recognized in net
income on derivatives for the six months
ended June 30,

 

Derivatives not designated as hedging instruments

 

2009

 

2008

 

2009

 

2008

 

 

 

(in millions)

 

Interest rate contracts

 

$

(71.7

)

$

(53.0

)

$

(95.1

)

$

(38.5

)

Foreign exchange contracts

 

103.9

 

(16.7

)

96.0

 

15.4

 

Equity contracts

 

(71.5

)

(13.8

)

(68.5

)

(7.3

)

Credit contracts

 

72.9

 

13.9

 

48.3

 

(45.5

)

Other contracts (1)

 

16.8

 

(4.4

)

25.9

 

7.1

 

Total

 

$

50.4

 

$

(74.0

)

$

6.6

 

$

(68.8

)

 


(1)          The gain for other contracts primarily includes the change in fair value of embedded derivatives.

Notes - Long-Term Debt
Long-Term Debt

4. Long-Term Debt

 

The components of long-term debt as of June 30, 2009, and December 31, 2008, were as follows:

 

 

 

June 30, 2009

 

December 31, 2008

 

 

 

(in millions)

 

8.2% notes payable, due 2009

 

$

440.9

 

$

454.9

 

3.31% notes payable, due 2011

 

58.5

 

49.9

 

3.63% notes payable, due 2011

 

29.9

 

25.6

 

7.875% notes payable, due 2014

 

400.0

 

 

8.875% notes payable, due 2019

 

350.0

 

 

6.05% notes payable, due 2036

 

601.8

 

601.8

 

8% surplus notes payable, due 2044

 

99.2

 

99.2

 

Non-recourse mortgages and notes payable

 

52.6

 

58.7

 

Other mortgages and notes payable

 

0.4

 

0.4

 

Total long-term debt

 

$

2,033.3

 

$

1,290.5

 

 

The amounts included above are net of the discount and premium associated with issuing these notes, which are being amortized to expense over the respective terms using the interest method.

 

On May 18, 2009, we issued $750.0 million of senior notes. We issued a $400.0 million series of notes that bear interest at 7.875% and will mature on May 15, 2014, and a $350.0 million series of notes that bear interest at 8.875% and will mature on May 15, 2019. Interest on the notes is payable semi-annually on May 15 and November 15 each year, beginning on November 15, 2009. The proceeds will primarily be used to refinance $440.9 million of notes due on August 15, 2009, with the remaining proceeds being used for general corporate purposes.

Notes - Federal Income Taxes
Federal Income Taxes

5. Federal Income Taxes

 

The effective income tax rate for the three and six months ended June 30, 2009, was lower than the U.S. corporate income tax rate of 35% (“U.S. statutory rate”) primarily due to income tax deductions allowed for corporate dividends received and the interest exclusion from taxable income. Taxes on our share of earnings generated from equity method investments reflected in net investment income also contributed to a lower than U.S. statutory rate.

 

The effective income tax rates for the three and six months ended June 30, 2008, were lower than the U.S. statutory rate primarily due to income tax deductions allowed for corporate dividends received and additional U.S. foreign tax credits resulting from the enactment of legislation to increase the Brazilian tax rate in the second quarter of 2008. As we apply the equity method of accounting to our Brazilian operations, the net increase in deferred tax liabilities associated with the newly enacted rate is reflected in net investment income. The effective income tax rate for the six months ended June 30, 2008, was also lower than the prevailing U.S. statutory rate due to the release of state deferred income tax liabilities associated with a reorganization of certain subsidiaries.

 

The Internal Revenue Service (“IRS”) is currently auditing our federal income tax returns for the years 2004 through 2007. The IRS informed us of their intent to audit our 2008 tax return beginning in early 2010. We do not expect the results of these audits or developments in other tax areas to significantly change the possible increase in the amount of unrecognized tax benefits, but the outcome of tax reviews is uncertain and unforeseen results can occur. Consistent with December 31, 2008, we estimate that it is reasonably possible that the amount of our unrecognized tax benefits could increase $0.0 to $11.0 million within the next twelve months.

Notes - Employee and Agent Benefits
Employee and Agent Benefits

6. Employee and Agent Benefits

 

Components of net periodic benefit cost (income):

 

 

 

Pension benefits

 

Other post-retirement
benefits

 

 

 

For the three months ended
June 30,

 

For the three months ended
June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(in millions)

 

Service cost

 

$

12.8

 

$

12.4

 

$

2.8

 

$

2.1

 

Interest cost

 

25.2

 

24.9

 

4.9

 

4.2

 

Expected return on plan assets

 

(19.9

)

(32.6

)

(6.5

)

(9.4

)

Amortization of prior service benefit

 

(1.9

)

(1.9

)

(0.5

)

(0.6

)

Recognized net actuarial loss (gain)

 

23.2

 

0.3

 

2.4

 

(0.8

)

Net periodic benefit cost (income)

 

$

39.4

 

$

3.1

 

$

3.1

 

$

(4.5

)

 

 

 

Pension benefits

 

Other post-retirement
benefits

 

 

 

For the six months ended
June 30,

 

For the six months ended
June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(in millions)

 

Service cost

 

$

25.6

 

$

24.8

 

$

5.6

 

$

4.2

 

Interest cost

 

50.4

 

49.8

 

9.8

 

8.4

 

Expected return on plan assets

 

(39.8

)

(65.2

)

(13.0

)

(18.8

)

Amortization of prior service benefit

 

(3.8

)

(3.8

)

(1.0

)

(1.2

)

Recognized net actuarial loss (gain)

 

46.4

 

0.6

 

4.8

 

(1.6

)

Net periodic benefit cost (income)

 

$

78.8

 

$

6.2

 

$

6.2

 

$

(9.0

)

 

In 2008, our return on plans asset was lower than expected, which resulted in an actuarial loss and lower plan assets at December 31, 2008. The 2008 lower than expected return caused the expected return on plan assets in 2009 to be lower and the recognition of the actuarial loss to increase as the loss is amortized.

 

Contributions

 

Our funding policy for our qualified pension plan is to fund the plan annually in an amount at least equal to the minimum annual contribution required under the Employee Retirement Income Security Act (“ERISA”) and, generally, not greater than the maximum amount that can be deducted for federal income tax purposes. The minimum annual contribution for 2009 will be zero so we will not be required to fund our qualified pension plan during 2009. However, it is possible that we may fund the qualified and nonqualified pension plans in 2009 for a combined total of between $20.0 million to $100.0 million. During both the three and six months ended June 30, 2009, we contributed $12.5 million to these plans.

Notes - Contingencies, Guarantees and Indemnifications
Contingencies, Guarantees and Indemnifications

7. Contingencies, Guarantees and Indemnifications

 

Litigation and Regulatory Contingencies

 

We are regularly involved in litigation, both as a defendant and as a plaintiff, but primarily as a defendant. Litigation naming us as a defendant ordinarily arises out of our business operations as a provider of asset management and accumulation products and services, life, health and disability insurance. Some of the lawsuits are class actions, or purport to be, and some include claims for punitive damages. In addition, regulatory bodies, such as state insurance departments, the SEC, the Financial Industry Regulatory Authority, the Department of Labor and other regulatory bodies regularly make inquiries and conduct examinations or investigations concerning our compliance with, among other things, insurance laws, securities laws, ERISA and laws governing the activities of broker-dealers. We receive requests from regulators and other governmental authorities relating to other industry issues and may receive additional requests, including subpoenas and interrogatories, in the future.

 

On November 8, 2006, a trustee of Fairmount Park Inc. Retirement Savings Plan filed a putative class action lawsuit in the United States District Court for the Southern District of Illinois against Principal Life. Principal Life’s Motion to Transfer Venue was granted and the case is now pending in the Southern District of Iowa. The complaint alleged, among other things, that Principal Life breached its alleged fiduciary duties while performing services to 401(k) plans by failing to disclose, or adequately disclose, to employers or plan participants the fact that Principal Life receives “revenue sharing fees from mutual funds that are included in its pre-packaged 401(k) plans” and allegedly failed to use the revenue to defray the expenses of the services provided to the plans. Plaintiff further alleged that these acts constitute prohibited transactions under ERISA. Plaintiff sought to certify a class of all retirement plans to which Principal Life was a service provider and for which Principal Life received and retained “revenue sharing” fees from mutual funds. On August 27, 2008, the Plaintiff’s Motion for Class Certification was denied. The Plaintiff filed a petition seeking permission to appeal that ruling. The petition was denied on October 28, 2008. On May 11, 2009, Plaintiff filed a new Motion for Class Certification. Principal Life is aggressively defending the lawsuit.

 

On August 28, 2007, two plaintiffs, Walsh and Young, filed a putative class action lawsuit in the United States District Court for the Southern District of Iowa against Principal Life and Princor Financial Services Corporation (the “Principal Defendants”). The lawsuit alleges that the Principal Defendants breached alleged fiduciary duties to participants in employer-sponsored 401(k) plans who were retiring or leaving their respective plans, including providing misleading information and failing to act solely in the interests of the participants, resulting in alleged violations of ERISA. The Principal Defendants are aggressively defending the lawsuit.

 

On February 28, 2007, Luz Zapien (“Zapien”) filed a securities class action against Washington Mutual, Inc. (“WaMu”), us and certain mutual fund-related entities. The Complaint alleged that WaMu had inadequately disclosed an alleged shelf-space arrangement that misled fund investors during the putative class period. We were named in the Complaint based on our December 2006 purchase of the distributor, investment advisor and assets of the relevant WaMu mutual funds (“the acquired business”). This action was dismissed with prejudice on June 17, 2008. Plaintiff appealed the dismissal to Ninth Circuit Court of Appeals. On March 26, 2009, the Ninth Circuit Court of Appeals granted the parties’ stipulation to dismiss the appeal against the Principal defendants. On August 20, 2008, counsel for the Plaintiffs filed a new class action, Robinson v. WM Trust I, et al., in the United States District Court for the Western District of Washington, making the same allegations that were contained in Zapien. On September 26, 2008, the Robinson Plaintiffs filed a First Amended Complaint which dropped the WaMu defendants, added four directors of the Principal Mutual Funds entity in their individual capacity, and amended the putative class to include “all persons or entities that purchased or otherwise acquired shares, units or like interests in any of the WM Funds (including through the reinvestment of Fund dividends) between March 1, 2002, and December 31, 2006, inclusive”. A new lead plaintiff, “Dumdie”, was substituted for Robinson. On April 17, 2009, the court approved the parties’ stipulated dismissal, ending the case.

 

While the outcome of any pending or future litigation or regulatory matter cannot be predicted, management does not believe that any pending litigation or regulatory matter will have a material adverse effect on our business or financial position. The outcome of such matters is always uncertain, and unforeseen results can occur. It is possible that such outcomes could materially affect net income in a particular quarter or annual period.

 

Guarantees and Indemnifications

 

In the normal course of business, we have provided guarantees to third parties primarily related to a former subsidiary, joint ventures and industrial revenue bonds. These agreements generally expire through 2019. The maximum exposure under these agreements as of June 30, 2009, was approximately $230.0 million. At inception, the fair value of such guarantees was insignificant. In addition, we believe the likelihood is remote that material payments will be required. Therefore, any liability accrued within our consolidated statements of financial position is insignificant. Should we be required to perform under these guarantees, we generally could recover a portion of the loss from third parties through recourse provisions included in agreements with such parties, the sale of assets held as collateral that can be liquidated in the event that performance is required under the guarantees or other recourse generally available to us; therefore, such guarantees would not result in a material adverse effect on our business or financial position. It is possible that performance under these guarantees could materially affect net income in a particular quarter or annual period.

 

We are also subject to various other indemnification obligations issued in conjunction with certain transactions, primarily the sale of Principal Residential Mortgage, Inc. and other divestitures, acquisitions and financing transactions whose terms range in duration and often are not explicitly defined. Certain portions of these indemnifications may be capped, while other portions are not subject to such limitations; therefore, the overall maximum amount of the obligation under the indemnifications cannot be reasonably estimated. At inception, the fair value of such indemnifications was insignificant. In addition, we believe the likelihood is remote that material payments will be required. Therefore, any liability accrued within our consolidated statements of financial position is insignificant. While we are unable to estimate with certainty the ultimate legal and financial liability with respect to these indemnifications, we believe that performance under these indemnifications would not result in a material adverse effect on our business or financial position. It is possible that performance under these indemnifications could materially affect net income in a particular quarter or annual period.

Notes - Stockholders Equity
Stockholders' Equity

8. Stockholders’ Equity

 

Reconciliation of Outstanding Shares

 

 

 

Series A
preferred stock

 

Series B
preferred stock

 

Common
stock

 

 

 

(in millions)

 

Outstanding shares at January 1, 2008

 

3.0

 

10.0

 

259.1

 

Shares issued

 

 

 

0.9

 

Treasury stock acquired

 

 

 

(1.0

)

Outstanding shares at June 30, 2008

 

3.0

 

10.0

 

259.0

 

 

 

 

 

 

 

 

 

Outstanding shares at January 1, 2009

 

3.0

 

10.0

 

259.3

 

Shares issued

 

 

 

59.2

 

Treasury stock acquired

 

 

 

(0.2

)

Outstanding shares at June 30, 2009

 

3.0

 

10.0

 

318.3

 

 

In May 2009 we issued 58.2 million shares of common stock at a price of $19.75 per share. Net proceeds from the issuance were $1,109.1 million. The proceeds from this offering will be used for general corporate purposes.

 

Comprehensive income (loss) is as follows:

 

 

 

For the three months ended
June 30,

 

For the six months ended
June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(in millions)

 

Net income

 

$

164.0

 

$

183.1

 

$

286.6

 

$

360.7

 

Net change in unrealized gains (losses) on fixed maturities, available-for-sale

 

3,086.2

 

(716.8

)

3,097.0

 

(2,172.0

)

Net change in noncredit component of impairment losses on fixed maturities, available-for-sale

 

(66.5

)

 

(117.1

)

 

Net change in unrealized gains (losses) on equity securities, available-for-sale

 

35.8

 

6.6

 

(16.5

)

(2.3

)

Net change in unrealized gains on equity method subsidiaries and noncontrolling interest adjustments

 

56.5

 

5.5

 

121.4

 

6.1

 

Adjustments for assumed changes in amortization patterns

 

(532.2

)

122.7

 

(360.4

)

293.7

 

Adjustment for assumed changes in liability for policyholder benefits and claims

 

(0.8

)

(3.7

)

(40.1

)

(11.4

)

Net change in unrealized gains (losses) on derivative instruments

 

4.7

 

48.6

 

(20.9

)

11.9

 

Change in net foreign currency translation adjustment

 

85.1

 

(29.8

)

109.2

 

40.5

 

Change in unrecognized post-retirement benefit obligation

 

22.9

 

(3.0

)

46.0

 

(6.1

)

Provision for deferred income tax benefits (taxes)

 

(892.8

)

154.6

 

(939.5

)

646.9

 

Comprehensive income (loss)

 

$

1,962.9

 

$

(232.2

)

$

2,165.7

 

$

(832.0

)

Notes - Fair Value of Financial Instruments
Fair Value of Financial Instruments

9. Fair Value of Financial Instruments

 

We use fair value measurements to record fair value of certain assets and liabilities and to estimate fair value of financial instruments not recorded at fair value but required to be disclosed at fair value under SFAS 107. We follow SFAS 157 to determine SFAS 107 fair value disclosure amounts. Certain financial instruments, particularly policyholder liabilities other than investment-type insurance contracts, are excluded from these fair value disclosure requirements.

 

Valuation hierarchy

 

SFAS 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (an exit price). For SFAS 157 disclosures, SFAS 157 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three levels.

 

·                  Level 1 — Fair values are based on unadjusted quoted prices in active markets for identical assets or liabilities. Our Level 1 assets and liabilities primarily include exchange traded equity securities, mutual funds and U.S. Treasury bonds.

·                  Level 2 — Fair values are based on inputs other than quoted prices within Level 1 that are observable for the asset or liability, either directly or indirectly. Our Level 2 assets and liabilities primarily include fixed maturity securities (including public and private bonds), equity securities, over-the-counter derivatives and other investments for which public quotations are not available but that are priced by third-party pricing services or internal models using substantially all observable inputs.

·                  Level 3 — Fair values are based on significant unobservable inputs for the asset or liability. Our Level 3 assets and liabilities include certain fixed maturity securities, private equity securities, complex derivatives and embedded derivatives that must be priced using broker quotes or other valuation methods that utilize at least one significant unobservable input.

 

Determination of fair value

 

The following discussion describes the valuation methodologies used for assets and liabilities measured or disclosed at fair value. The techniques utilized in estimating the fair values of financial instruments are reliant on the assumptions used. Care should be exercised in deriving conclusions about our business, its value or financial position based on the fair value information of financial instruments presented below.

 

Fair value estimates are made at a specific point in time, based on available market information and judgments about the financial instrument. Such estimates do not consider the tax impact of the realization of unrealized gains or losses. In addition, the disclosed fair value may not be realized in the immediate settlement of the financial instrument. We validate prices through an investment analyst review process, which includes validation through direct interaction with external sources, review of recent trade activity or use of internal models. In circumstances where broker quotes are used to value an instrument, we generally receive one non-binding quote. Broker quotes are validated through an investment analyst review process, which includes validation through direct interaction with external sources and use of internal models or other relevant information. We did not make any significant changes to our valuation processes during 2009.

 

Fixed Maturities and Equity Securities

 

In determining fair value for fixed maturities, our first priority is to obtain prices from third party pricing vendors. We have regular interaction with these vendors to ensure we understand their pricing methodologies and to confirm that they are utilizing observable market information. Their methodologies vary by asset class and include inputs such as estimated cash flows, benchmark yields, reported trades, broker quotes, credit quality, industry events and economic events. If we are unable to price a fixed maturity security using prices from third party pricing vendors or other sources specific to corporate bonds, as described below, we may obtain a broker quote or utilize an internal pricing model specific to the asset utilizing relevant market information, to the extent available. As of June 30, 2009, less than 2% of our fixed maturity securities, which were classified as Level 3 assets, were valued using internal pricing models.

 

For corporate bonds where quoted market prices are not available, a matrix pricing valuation approach is used. In this approach, securities are grouped into pricing categories that vary by sector, rating and average life. Each pricing category is assigned a risk spread based on studies of observable public market data from the investment professionals assigned to specific security classes. The expected cash flows of the security are then discounted back at the current Treasury curve plus the appropriate risk spread. Although the matrix valuation approach provides a fair valuation of each pricing category, the valuation of an individual security within each pricing category may actually be impacted by company specific factors.

 

Fair values of equity securities are determined using public quotations, when available. When public quotations are not available, we may utilize internal valuation methodologies appropriate for the specific asset. Fair values might also be determined using broker quotes or through the use of internal models or analysis.

 

Mortgage Loans

 

Fair values of commercial and residential mortgage loans are determined by discounting the expected cash flows at current treasury rates plus an applicable risk spread. The risk spread is based on market clearing levels for loans with comparable credit quality, maturities and risk.

 

Policy Loans

 

Fair values of policy loans are estimated by discounting expected cash flows using a risk-free rate based on the U.S. Treasury curve.

 

Derivatives

 

Fair values of derivative instruments are determined using either pricing valuation models that utilize market observable inputs or broker quotes. The valuation models consider projected discounted cash flows, relevant swap curves and appropriate implied volatilities.

 

Other Investments

 

Other investments reported at fair value primarily include seed money investments, for which the fair value is determined using the net asset value of the fund. The carrying amounts of other assets classified as other investments in the accompanying consolidated statements of financial position approximate their fair values.

 

Cash and Cash Equivalents

 

Because of the nature of these assets, carrying amounts approximate fair values. Fair values of cash equivalents may be determined using public quotations, when available.

 

Separate Account Assets

 

Separate account assets include public equity, public and private debt securities and derivative instruments, for which fair values are determined as previously described. Separate account assets also include commercial mortgage loans, for which the fair value is estimated by discounting the expected total cash flows using market rates that are applicable to the yield, credit quality and maturity of the loans. Finally, separate account assets include real estate, for which the fair value is estimated using discounted cash flow valuation models that utilize public real estate market data inputs such as transaction prices, market rents, vacancy levels, leasing absorption, market cap rates and discount rates. In addition, each property is appraised annually by an independent appraiser.

 

Cash Collateral and Cash Collateral Payable

 

The carrying amounts of cash collateral received and posted under derivative credit support annex (collateral) agreements and the carrying amount of the payable associated with our obligation to return the cash collateral received approximate their fair value.

 

Investment-Type Insurance Contracts

 

The fair values of our reserves and liabilities for investment-type insurance contracts are estimated using discounted cash flow analyses based on current interest rates, including non-performance risk, being offered for similar contracts with maturities consistent with those remaining for the investment-type contracts being valued. Investment-type insurance contracts include insurance, annuity and other policy contracts that do not involve significant mortality or morbidity risk and that are only a portion of the policyholder liabilities appearing in the consolidated statements of financial position. Insurance contracts include insurance, annuity and other policy contracts that do involve significant mortality or morbidity risk. The fair values for our insurance contracts, other than investment-type contracts, are not required to be disclosed. We do consider, however, the various insurance and investment risks in choosing investments for both insurance and investment-type contracts. Certain annuity contracts and other investment-type insurance contracts include embedded derivatives that have been bifurcated from the host contract. The fair value of embedded derivatives is calculated based on actuarial and capital market assumptions, including non-performance risk, reflecting the projected cash flows over the life of the contract, incorporating expected policyholder behavior.

 

Short-Term Debt

 

The carrying amount of short-term debt approximates its fair value because of the relatively short time between origination of the debt instrument and its maturity.

 

Long-Term Debt

 

Fair values for debt issues are estimated using discounted cash flow analysis based on our incremental borrowing rate for similar borrowing arrangements.

 

Separate Account Liabilities

 

Fair values of separate account liabilities, excluding insurance-related elements, are estimated based on market assumptions around what a potential acquirer would pay for the associated block of business, including both the separate account assets and liabilities. As the applicable separate account assets are already reflected at fair value, any adjustment to the fair value of the block is an assumed adjustment to the separate account liabilities. To compute fair value, the separate account liabilities are originally set to equal separate account assets because these are pass-through contracts. The separate account liabilities are reduced by the amount of future fees expected to be collected that are intended to offset upfront acquisition costs already incurred that a potential acquirer would not have to pay. The estimated future fees are adjusted by an adverse deviation discount and the amount is then discounted at a risk-free rate as measured by the yield on U.S. Treasury securities at maturities aligned with the estimated timing of fee collection.

 

Bank Deposits

 

The fair value of deposits of our Principal Bank subsidiary with no stated maturity, such as demand deposits, savings, and interest-bearing demand accounts, is equal to the amount payable on demand (i.e., their carrying amounts). The fair value of certificates of deposit is based on the discounted value of contractual cash flows. The discount is estimated using the rates currently offered for deposits of similar remaining maturities. The fair value estimates do not include the benefit that results from the low-cost funding provided by the deposit liabilities compared to the cost of borrowing funds in the market.

 

Other Liabilities

 

Certain obligations reported in other liabilities include embedded derivatives to deliver underlying securities of structured investments to third parties. The fair value of the embedded derivatives is calculated based on the value of the underlying securities utilizing the yield, credit quality and average maturity of each security.

 

Assets and liabilities measured at fair value on a recurring basis

 

Assets and liabilities measured at fair value on a recurring basis are summarized below.

 

 

 

As of June 30, 2009

 

 

 

Assets /
 (liabilities)

 

 

 

 

 

 

 

 

 

measured at fair

 

Fair value hierarchy level

 

 

 

 value

 

Level 1

 

Level 2

 

Level 3

 

 

 

(in millions)

 

Assets

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale:

 

 

 

 

 

 

 

 

 

U.S. government and agencies

 

$

574.2

 

$

21.1

 

$

553.1

 

$

 

Non-U.S. governments

 

785.0

 

 

737.0

 

48.0

 

States and political subdivisions

 

1,961.9

 

 

1,961.9

 

 

Corporate

 

30,936.8

 

98.0

 

30,042.8

 

796.0

 

Residential mortgage-backed securities

 

2,250.3

 

 

2,250.3

 

 

Commercial mortgage-backed securities

 

3,506.4

 

 

3,472.2

 

34.2

 

Collateralized debt obligations

 

294.6

 

 

46.5

 

248.1

 

Other debt obligations

 

1,989.4

 

 

1,872.0

 

117.4

 

Total fixed maturities, available-for-sale

 

42,298.6

 

119.1

 

40,935.8

 

1,243.7

 

Fixed maturities, trading

 

869.6

 

 

801.4

 

68.2

 

Equity securities, available-for-sale

 

212.5

 

185.1

 

2.3

 

25.1

 

Equity securities, trading

 

170.4

 

93.3

 

77.1

 

 

Derivative assets (1)

 

1,314.6

 

 

1,247.0

 

67.6

 

Other investments (2)

 

70.9

 

13.6

 

57.3

 

 

Cash equivalents (3)

 

2,674.7

 

738.7

 

1,936.0

 

 

Sub-total excluding separate account assets

 

47,611.3

 

1,149.8

 

45,056.9

 

1,404.6

 

 

 

 

 

 

 

 

 

 

 

Separate account assets

 

55,998.4

 

32,508.5

 

18,603.2

 

4,886.7

 

Total assets

 

$

103,609.7

 

$

33,658.3

 

$

63,660.1

 

$

6,291.3

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

Investment-type insurance contracts (4)

 

$

(31.2

)

$

 

$

 

$

(31.2

)

Derivative liabilities (1)

 

(1,189.2

)

 

(1,023.7

)

(165.5

)

Other liabilities (4)

 

(36.4

)

 

(4.4

)

(32.0

)

Total liabilities

 

$

(1,256.8

)

$

 

$

(1,028.1

)

$

(228.7

)

 

 

 

 

 

 

 

 

 

 

Net assets (liabilities)

 

$

102,352.9

 

$

33,658.3

 

$

62,632.0

 

$

6,062.6

 

 

 

 

As of December 31, 2008

 

 

 

Assets /

 

 

 

 

 

 

 

 

 

(liabilities)

 

 

 

 

 

measured at fair

 

Fair value hierarchy level

 

 

 

value

 

Level 1

 

Level 2

 

Level 3

 

 

 

(in millions)

 

Assets

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale

 

$

40,117.2

 

$

126.7

 

$

38,817.5

 

$

1,173.0

 

Fixed maturities, trading

 

843.4

 

 

782.7

 

60.7

 

Equity securities, available-for-sale

 

242.7

 

176.4

 

10.1

 

56.2

 

Equity securities, trading

 

158.0

 

61.3

 

96.7

 

 

Derivative assets (1)

 

1,877.8

 

 

1,777.1

 

100.7

 

Other investments (2)

 

75.9

 

13.2

 

62.7

 

 

Cash equivalents (3)

 

1,807.9

 

656.3

 

1,151.6

 

 

Sub-total excluding separate account assets

 

45,122.9

 

1,033.9

 

42,698.4

 

1,390.6

 

 

 

 

 

 

 

 

 

 

 

Separate account assets

 

55,142.6

 

30,693.4

 

18,406.9

 

6,042.3

 

Total assets

 

$

100,265.5

 

$

31,727.3

 

$

61,105.3

 

$

7,432.9

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

Investment-type insurance contracts (4)

 

$

(60.2

)

$

 

$

 

$

(60.2

)

Derivative liabilities (1)

 

(2,139.1

)

 

(1,872.2

)

(266.9

)

Other liabilities (4)

 

(109.3

)

 

(5.5

)

(103.8

)

Total liabilities

 

$

(2,308.6

)

$

 

$

(1,877.7

)

$

(430.9

)

 

 

 

 

 

 

 

 

 

 

Net assets (liabilities)

 

$

97,956.9

 

$

31,727.3

 

$

59,227.6

 

$

7,002.0

 

 


(1)          Within the consolidated statements of financial position, derivative assets are reported with other investments and derivative liabilities are reported with other liabilities.

(2)          Primarily includes seed money investments reported at fair value.

(3)          Includes short-term investments with a maturity date of three months or less when purchased.

(4)          Includes bifurcated embedded derivatives that are reported at fair value within the same line item in the consolidated statements of financial position in which the host contract is reported.

 

Changes in Level 3 fair value measurements

 

The reconciliation for all assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three and six months ended June 30, 2009 and 2008, is as follows:

 

 

 

For the three months ended June 30, 2009

 

Changes in

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending

 

unrealized

 

 

 

Beginning

 

Total realized/unrealized gains

 

 

 

 

 

asset /

 

 gains (losses)

 

 

 

asset /

 

(losses)

 

Purchases,

 

 

 

 (liability)

 

included in

 

 

 

(liability)

 

 

 

Included in

 

sales,

 

 

 

balance

 

net income

 

 

 

balance as

 

Included in

 

 other

 

issuances

 

Transfers

 

as of

 

 relating to

 

 

 

of March 

 

net income

 

comprehensive

 

and

 

in (out) of

 

June 30,

 

 positions still

 

 

 

31, 2009

 

(1)

 

income

 

settlements

 

Level 3

 

2009

 

held (1)

 

 

 

(in millions)

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Non-U.S. governments

 

$

48.3

 

$

(0.1

)

$

2.3

 

$

(2.5

)

$

 

$

48.0

 

$

(0.1

)

Corporate

 

739.2

 

(10.2

)

15.6

 

(108.5

)

159.9

 

796.0

 

(16.1

)

Commercial mortgage-backed securities

 

47.7

 

(0.3

)

8.6

 

(5.7

)

(16.1

)

34.2

 

(0.3

)

Collateralized debt obligations

 

204.7

 

(13.6

)

60.1

 

(3.1

)

 

248.1

 

(13.6

)

Other debt obligations

 

66.1

 

(1.4

)

14.3

 

21.9

 

16.5

 

117.4

 

(1.4

)

Total fixed maturities, available-for-sale

 

1,106.0

 

(25.6

)

100.9

 

(97.9

)

160.3

 

1,243.7

 

(31.5

)

Fixed maturities, trading

 

58.3

 

9.9

 

 

 

 

68.2

 

9.9

 

Equity securities, available-for-sale

 

32.4

 

(6.2

)

24.8

 

(25.9

)

 

25.1

 

 

Derivative assets

 

90.1

 

(18.8

)

 

(3.7

)

 

67.6

 

(16.3

)

Separate account assets

 

5,408.9

 

(418.3

)

 

(108.3

)

4.4

 

4,886.7

 

(411.8

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investment-type insurance contracts

 

(50.7

)

12.2

 

 

7.3

 

 

(31.2

)

13.2

 

Derivative liabilities

 

(271.7

)

105.8

 

0.4

 

 

 

(165.5

)

106.9

 

Other liabilities (2)

 

(45.0

)

 

17.6

 

(4.6

)

 

(32.0

)

 

 

 

 

For the three months ended June 30, 2008

 

Changes in

 

 

 

 

 

 

 

 

 

 

 

Ending

 

unrealized

 

 

 

Beginning

 

Total realized/unrealized gains

 

 

 

 

 

asset /

 

gains (losses)

 

 

 

asset /

 

(losses)

 

Purchases,

 

 

 

(liability)

 

included in

 

 

 

 (liability)

 

 

 

Included in

 

 sales,

 

 

 

balance

 

net income

 

 

 

 balance as

 

Included in

 

 other

 

issuances

 

Transfers

 

as of

 

relating to

 

 

 

of March 

 

net income

 

comprehensive

 

and

 

in (out) of

 

June 30,

 

positions still

 

 

 

31, 2008

 

(1)

 

 income

 

settlements

 

Level 3

 

2008

 

held (1)

 

 

 

(in millions)

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale

 

$

1,810.8

 

$

(8.6

)

$

(13.3

)

$

4.0

 

$

58.6

 

$

1,851.5

 

$

(9.4

)

Fixed maturities, trading

 

106.5

 

(1.0

)

 

(30.0

)

(10.1

)

65.4

 

(1.0

)

Equity securities, available-for-sale

 

38.9

 

(11.0

)

10.3

 

 

15.0

 

53.2

 

(11.0

)

Derivative assets

 

77.7

 

(1.4

)

1.0

 

 

 

77.3

 

(1.8

)

Separate account assets

 

7,388.2

 

(301.2

)

 

8.7

 

1.4

 

7,097.1

 

(289.7

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investment-type insurance contracts

 

(4.0

)

(1.4

)

 

3.0

 

 

(2.4

)

(1.3

)

Derivative liabilities

 

(125.8

)

11.4

 

0.8

 

0.5

 

 

(113.1

)

9.8

 

Other liabilities (2)

 

(126.8

)

 

14.5

 

(4.6

)

 

(116.9

)

 

 

 

 

For the six months ended June 30, 2009

 

Changes in

 

 

 

Beginning

 

 

 

 

 

 

 

 

 

Ending

 

unrealized

 

 

 

asset /

 

Total realized/unrealized gains

 

 

 

 

 

asset /

 

gains (losses)

 

 

 

 (liability)

 

(losses)

 

Purchases,

 

 

 

 (liability)

 

 included in

 

 

 

 balance as

 

 

 

Included in

 

sales,

 

 

 

balance

 

net income

 

 

 

of

 

Included in

 

 other

 

issuances

 

Transfers

 

as of

 

relating to

 

 

 

December 

 

 net income

 

 comprehensive

 

and

 

in (out) of

 

June 30,

 

 positions still

 

 

 

31, 2008

 

(1)

 

income

 

settlements

 

Level 3

 

2009

 

held (1)

 

 

 

(in millions)

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Non-U.S. governments

 

$

45.3

 

$

0.2

 

$

1.1

 

$

1.4

 

$

 

$

48.0

 

$

0.2

 

Corporate

 

750.9

 

(32.8

)

(1.5

)

(134.2

)

213.6

 

796.0

 

(32.8

)

Commercial mortgage-backed securities

 

58.0

 

(0.3

)

4.3

 

(8.6

)

(19.2

)

34.2

 

(0.3

)

Collateralized debt obligations

 

236.8

 

(41.3

)

65.7

 

(5.2

)

(7.9

)

248.1

 

(41.1

)

Other debt obligations

 

82.0

 

(1.4

)

14.9

 

30.0

 

(8.1

)

117.4

 

(1.4

)

Total fixed maturities, available-for-sale

 

1,173.0

 

(75.6

)

84.5

 

(116.6

)

178.4

 

1,243.7

 

(75.4

)

Fixed maturities, trading

 

60.7

 

8.5

 

 

 

(1.0

)

68.2

 

8.5

 

Equity securities, available-for-sale

 

56.2

 

 

2.6

 

(33.7

)

 

25.1

 

 

Derivative assets

 

100.7

 

(29.6

)

(0.1

)

(3.4

)

 

67.6

 

(25.1

)

Separate account assets

 

6,042.3

 

(993.9

)

 

(163.3

)

1.6

 

4,886.7

 

(952.9

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investment-type insurance contracts

 

(60.2

)

16.1

 

 

12.9

 

 

(31.2

)

16.3

 

Derivative liabilities

 

(266.9

)

97.6

 

3.8

 

 

 

(165.5

)

101.2

 

Other liabilities (2)

 

(103.8

)

 

81.0

 

(9.2

)

 

(32.0

)

 

 

 

 

For the six months ended June 30, 2008

 

Changes in

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending

 

unrealized

 

 

 

Beginning

 

Total realized/unrealized gains

 

 

 

 

 

asset /

 

gains (losses)

 

 

 

asset /

 

(losses)

 

Purchases,

 

 

 

(liability)

 

included in

 

 

 

(liability)

 

 

 

Included in

 

sales,

 

 

 

balance

 

 net income

 

 

 

 balance as

 

Included in

 

other

 

issuances

 

Transfers

 

as of

 

 relating to

 

 

 

of January 

 

 net income

 

 comprehensive

 

and

 

in (out) of

 

June 30,

 

 positions still

 

 

 

1, 2008

 

(1)

 

income

 

settlements

 

Level 3

 

2008

 

 held (1)

 

 

 

(in millions)

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale

 

$

2,201.3

 

$

(50.4

)

$

(362.2

)

$

(74.8

)

$

137.6

 

$

1,851.5

 

$

(49.0

)

Fixed maturities, trading

 

92.3

 

(1.6

)

 

(15.2

)

(10.1

)

65.4

 

(1.6

)

Equity securities, available-for-sale

 

51.1

 

(34.3

)

0.2

 

(1.8

)

38.0

 

53.2

 

(34.7

)

Derivative assets

 

54.3

 

17.2

 

5.8

 

 

 

77.3

 

16.9

 

Separate account assets

 

7,313.2

 

(283.8

)

 

140.1

 

(72.4

)

7,097.1

 

(272.7

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investment-type insurance contracts

 

(49.3

)

7.3

 

 

39.6

 

 

(2.4

)

7.6

 

Derivative liabilities

 

(62.3

)

(53.1

)

1.2

 

1.1

 

 

(113.1

)

(54.2

)

Other liabilities (2)

 

(155.6

)

 

48.0

 

(9.3

)

 

(116.9

)

 

 


(1)          Both realized gains (losses) and mark-to-market unrealized gains (losses) are generally reported in net realized capital gains (losses) within the consolidated statements of operations. Gains and losses for separate account assets do not impact net income as the change in value of separate account assets is offset by a change in value of separate account liabilities.

 

(2)          Certain embedded derivatives reported in other liabilities are part of a cash flow hedge, with the effective portion of the unrealized gains (losses) recorded in accumulated OCI.

 

Assets and liabilities measured at fair value on a nonrecurring basis

 

Certain assets are measured at fair value on a nonrecurring basis. As of June 30, 2009, mortgage loans with an aggregate cost of $11.9 million had been written down to fair value of $4.7 million. This write down resulted in a loss of $6.3 million and $7.2 million for the three and six months ended June 30, 2009, respectively, that was recorded in net realized capital gains (losses). These collateral-dependent mortgage loans are a Level 3 fair value measurement, as fair value is based on the fair value of the underlying real estate collateral, which is estimated using appraised values.

 

As of June 30, 2009, real estate with an aggregate cost of $1.0 million had been written down to fair value of $0.7 million. This write down resulted in a loss of $0.3 million for both the three and six months ended June 30, 2009, that was recorded in operating expense. This is a Level 3 fair value measurement, as the fair value of the real estate is estimated using appraised values.

 

As of June 30, 2008, mortgage servicing rights with an aggregate cost of $9.0 million had been written down to fair value of $7.9 million resulting in a charge of zero and $1.1 million for the three and six months ended June 30, 2008, respectively, that was recorded in operating expenses. These mortgage servicing rights are a Level 3 fair value measurement, as fair value is determined by calculating the present value of the future servicing cash flows from the underlying mortgage loans.

 

Transition

 

In connection with our adoption of SFAS 157 on January 1, 2008, we recorded a $13.0 million pre-tax gain in net realized capital gains (losses) resulting from the incorporation of our own creditworthiness and additional risk margins in the valuation of certain embedded derivatives recorded at fair value.

 

SFAS 107 disclosures

 

The carrying amounts and estimated fair values of our financial instruments were as follows:

 

 

 

June 30, 2009

 

 

 

Carrying amount

 

Fair value

 

 

 

(in millions)

 

Assets (liabilities)

 

 

 

 

 

Fixed maturities, available-for-sale

 

$

42,298.6

 

$

42,298.6

 

Fixed maturities, trading

 

869.6

 

869.6

 

Equity securities, available-for-sale

 

212.5

 

212.5

 

Equity securities, trading

 

170.4

 

170.4

 

Mortgage loans

 

12,433.8

 

12,594.4

 

Policy loans

 

902.5

 

1,032.5

 

Other investments

 

540.5

 

540.5

 

Cash and cash equivalents

 

4,328.5

 

4,328.5

 

Derivative assets

 

1,314.6

 

1,314.6

 

Separate account assets

 

55,998.4

 

55,998.4

 

Cash collateral

 

271.0

 

271.0

 

Investment-type insurance contracts

 

(37,471.1

)

(34,079.4

)

Short-term debt

 

(159.5

)

(159.5

)

Long-term debt

 

(2,033.3

)

(1,914.3

)

Separate account liabilities

 

(49,607.7

)

(50,097.1

)

Derivative liabilities

 

(1,189.2

)

(1,189.2

)

Bank deposits

 

(2,214.1

)

(2,226.9

)

Cash collateral payable

 

(271.0

)

(271.0

)

Other liabilities

 

(36.4

)

(36.4

)

Notes - Segment Information
Segment Information

10. Segment Information

 

We provide financial products and services through the following segments: U.S. Asset Accumulation, Global Asset Management, International Asset Management and Accumulation and Life and Health Insurance. In addition, there is a Corporate segment. The segments are managed and reported separately because they provide different products and services, have different strategies or have different markets and distribution channels.

 

The U.S. Asset Accumulation segment provides retirement and related financial products and services primarily to businesses, their employees and other individuals.

 

The Global Asset Management segment provides asset management services to our asset accumulation business, our life and health insurance operations, the Corporate segment and third-party clients.

 

The International Asset Management and Accumulation segment consists of Principal International, which has operations in Brazil, Chile, China, Hong Kong Special Administrative Region, India, Indonesia, Malaysia, Mexico and Singapore. We focus on countries with large middle classes, favorable demographics and growing long-term savings with defined contribution markets. We entered these countries through acquisitions, start-up operations and joint ventures.

 

The Life and Health insurance segment provides individual life insurance, group health insurance and specialty benefits, which consists of group dental and vision insurance, individual and group disability insurance and group life insurance, throughout the United States.

 

The Corporate segment manages the assets representing capital that has not been allocated to any other segment. Financial results of the Corporate segment primarily reflect our financing activities (including interest expense), income on capital not allocated to other segments, inter-segment eliminations, income tax risks and certain income, expenses and other after-tax adjustments not allocated to the segments based on the nature of such items.

 

Management uses segment operating earnings in goal setting, as a basis for determining employee compensation and in evaluating performance on a basis comparable to that used by securities analysts. We determine segment operating earnings by adjusting U.S. GAAP net income for net realized capital gains (losses), as adjusted, and other after-tax adjustments which management believes are not indicative of overall operating trends. Net realized capital gains (losses), as adjusted, are net of income taxes, related changes in the amortization pattern of DPAC and sales inducements, recognition of deferred front-end fee revenues for sales charges on retirement products and services, net realized capital gains and losses distributed, noncontrolling interest capital gains and losses and certain market value adjustments to fee revenues. Net realized capital gains (losses), as adjusted, exclude periodic settlements and accruals on non-hedge derivative instruments and exclude certain market value adjustments of embedded derivatives. Segment operating revenues exclude net realized capital gains (losses) (except periodic settlements and accruals on non-hedge derivatives), including their impact on recognition of front-end fee revenues and certain market value adjustments to fee revenues and revenue from our terminated commercial mortgage securities issuance operation. Segment operating revenues include operating revenues from real estate properties that qualify for discontinued operations. While these items may be significant components in understanding and assessing the consolidated financial performance, management believes the presentation of segment operating earnings enhances the understanding of our results of operations by highlighting earnings attributable to the normal, ongoing operations of the business.

 

The accounting policies of the segments are consistent with the accounting policies for the consolidated financial statements, with the exception of income tax allocation. The Corporate segment functions to absorb the risk inherent in interpreting and applying tax law. The segments are allocated tax adjustments consistent with the positions we took on tax returns. The Corporate segment results reflect any differences between the tax returns and the estimated resolution of any disputes.

 

The following tables summarize selected financial information by segment and reconcile segment totals to those reported in the consolidated financial statements:

 

 

 

June 30, 2009

 

December 31, 2008

 

 

 

(in millions)

 

Assets:

 

 

 

 

 

U.S. Asset Accumulation

 

$

100,912.7

 

$

100,468.8

 

Global Asset Management

 

1,193.6

 

1,320.6

 

International Asset Management and Accumulation

 

9,159.0

 

7,878.4

 

Life and Health Insurance

 

14,685.7

 

14,526.2

 

Corporate

 

4,755.6

 

3,988.4

 

Total consolidated assets

 

$

130,706.6

 

$

128,182.4

 

 

 

 

For the three months ended
June 30,

 

For the six months ended
June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(in millions)

 

Operating revenues by segment:

 

 

 

 

 

 

 

 

 

U.S. Asset Accumulation

 

$

991.3

 

$

1,255.7

 

$

1,998.8

 

$

2,460.4

 

Global Asset Management

 

103.3

 

143.7

 

207.7

 

283.3

 

International Asset Management and Accumulation

 

161.7

 

251.2

 

225.7

 

434.9

 

Life and Health Insurance

 

1,116.9

 

1,180.6

 

2,247.9

 

2,368.2

 

Corporate

 

(37.4

)

(44.6

)

(83.1

)

(99.9

)

Total segment operating revenues

 

2,335.8

 

2,786.6

 

4,597.0

 

5,446.9

 

Add:

 

 

 

 

 

 

 

 

 

Net realized capital losses (except periodic settlements and accruals on non-hedge derivatives), including recognition of front-end fee revenues and certain market value adjustments to fee revenues

 

(178.0

)

(130.9

)

(250.5

)

(269.2

)

Terminated commercial mortgage securities issuance operation

 

 

2.4

 

(0.1

)

(18.9

)

Total revenues per consolidated statements of operations

 

$

2,157.8

 

$

2,658.1

 

$

4,346.4

 

$

5,158.8

 

Operating earnings (losses) by segment, net of related income taxes:

 

 

 

 

 

 

 

 

 

U.S. Asset Accumulation

 

$

137.4

 

$

152.9

 

$

230.5

 

$

292.0

 

Global Asset Management

 

8.2

 

24.1

 

15.0

 

43.9

 

International Asset Management and Accumulation

 

29.3

 

31.8

 

46.3

 

63.5

 

Life and Health Insurance

 

57.7

 

66.7

 

129.5

 

145.9

 

Corporate

 

(32.1

)

(21.4

)

(56.8

)

(32.8

)

Total segment operating earnings, net of related income taxes

 

200.5

 

254.1

 

364.5

 

512.5

 

Net realized capital losses, as adjusted (1)

 

(50.2

)

(85.4

)

(101.1

)

(160.1

)

Other after-tax adjustments (2)

 

 

(0.4

)

(0.3

)

(9.9

)

Net income available to common stockholders per consolidated statements of operations

 

$

150.3

 

$

168.3

 

$

263.1

 

$

342.5

 

 


(1)          Net realized capital losses, as adjusted, is derived as follows:

 

 

 

For the three months ended
June 30,

 

For the six months ended
June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(in millions)

 

 

 

 

 

 

 

 

 

 

 

Net realized capital losses

 

$

(155.2

)

$

(111.5

)

$

(218.5

)

$

(237.5

)

Periodic settlements and accruals on non-hedge derivatives

 

(20.0

)

(19.4

)

(27.7

)

(28.2

)

Certain market value adjustments to fee revenues

 

 

 

(1.5

)

(3.5

)

Recognition of front-end fee revenues

 

(2.8

)

 

(2.8

)

 

Net realized capital losses, net of related revenue adjustments

 

(178.0

)

(130.9

)

(250.5

)

(269.2

)

Amortization of deferred policy acquisition and sales inducement costs

 

114.4

 

16.4

 

89.6

 

29.9

 

Capital (gains) losses distributed

 

(13.6

)

(6.9

)

(6.9

)

2.4

 

Certain market value adjustments of embedded derivatives

 

2.5

 

(3.2

)

6.5

 

(3.2

)

Noncontrolling interest capital (gains) losses

 

(4.5

)

(3.0

)

(5.6

)

3.7

 

Income tax effect

 

29.0

 

42.2

 

65.8

 

76.3

 

Net realized capital losses, as adjusted

 

$

(50.2

)

$

(85.4

)

$

(101.1

)

$

(160.1

)

 

(2)          For the three months ended June 30, 2008, other after-tax adjustments included the negative effect of $0.4 million resulting from losses associated with our terminated commercial mortgage securities issuance operation that has been exited but does not qualify for discontinued operations accounting treatment under U.S. GAAP.

 

For the six months ended June 30, 2009, other after-tax adjustments included the negative effect of $0.3 million resulting from losses associated with our terminated commercial mortgage securities issuance operation that has been exited but does not qualify for discontinued operations accounting treatment under U.S. GAAP.

 

For the six months ended June 30, 2008, other after-tax adjustments of $9.9 million included (1) the negative effect of losses associated with our terminated commercial mortgage securities issuance operation that has been exited but does not qualify for discontinued operations accounting treatment under U.S. GAAP ($17.5 million) and (2) the positive effect of a change in estimated loss related to a prior year legal contingency ($7.6 million).

 

The following table summarizes operating revenues for our products and services:

 

 

 

For the three months ended
June 30,

 

For the six months ended
June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(in millions)

 

U.S. Asset Accumulation:

 

 

 

 

 

 

 

 

 

Full service accumulation

 

$

318.4

 

$

368.1

 

$

622.9

 

$

730.8

 

Principal Funds

 

92.2

 

168.8

 

210.9

 

342.1

 

Individual annuities

 

225.2

 

271.9

 

466.1

 

491.8

 

Bank and trust services

 

20.8

 

16.6

 

39.1

 

36.7

 

Eliminations

 

(7.2

)

(44.9

)

(43.8

)

(94.2

)

Total Accumulation

 

649.4

 

780.5

 

1,295.2

 

1,507.2

 

Investment only

 

208.1

 

274.4

 

425.9

 

562.1

 

Full service payout

 

133.8

 

200.8

 

277.7

 

391.1

 

Total Guaranteed

 

341.9

 

475.2

 

703.6

 

953.2

 

Total U.S. Asset Accumulation

 

991.3

 

1,255.7

 

1,998.8

 

2,460.4

 

Global Asset Management (1)

 

103.3

 

143.7

 

207.7

 

283.3

 

International Asset Management and Accumulation

 

161.7

 

251.2

 

225.7

 

434.9

 

Life and Health Insurance:

 

 

 

 

 

 

 

 

 

Individual life insurance

 

339.0

 

350.7

 

673.9

 

699.7

 

Health insurance

 

413.9

 

452.0

 

843.7

 

917.4

 

Specialty benefits insurance

 

364.5

 

378.4

 

731.3

 

752.2

 

Eliminations

 

(0.5

)

(0.5

)

(1.0

)

(1.1

)

Total Life and Health Insurance

 

1,116.9

 

1,180.6

 

2,247.9

 

2,368.2

 

Corporate

 

(37.4

)

(44.6

)

(83.1

)

(99.9

)

Total operating revenues

 

$

2,335.8

 

$

2,786.6

 

$

4,597.0

 

$

5,446.9

 

Total operating revenues

 

$

2,335.8

 

$

2,786.6

 

$

4,597.0

 

$

5,446.9

 

Add:

 

 

 

 

 

 

 

 

 

Net realized capital losses (except periodic settlements and accruals on non-hedge derivatives), including recognition of front-end fee revenues and certain market value adjustments to fee revenues

 

(178.0

)

(130.9

)

(250.5

)

(269.2

)

Terminated commercial mortgage securities issuance operation

 

 

2.4

 

(0.1

)

(18.9

)

Total revenues per consolidated statements of operations

 

$

2,157.8

 

$

2,658.1

 

$

4,346.4

 

$

5,158.8

 

 


(1)                                  Reflects inter-segment revenues of $47.3 million and $59.1 million and $93.8 million and $117.9 million for the three and six months ended June 30, 2009 and 2008, respectively. These revenues are eliminated within the Corporate segment.

Notes - Stock-Based Compensation Plans
Stock-Based Compensation Plans

11. Stock-Based Compensation Plans

 

As of June 30, 2009, we have the 2005 Stock Incentive Plan, the Employee Stock Purchase Plan, the 2005 Directors Stock Plan, the Stock Incentive Plan, the Directors Stock Plan and the Long-Term Performance Plan (“Stock-Based Compensation Plans”). As of May 17, 2005, no new grants will be made under the Stock Incentive Plan, the Directors Stock Plan or the Long-Term Performance Plan.

 

As of June 30, 2009, the maximum number of new shares of common stock that were available for grant under the 2005 Stock Incentive Plan and the 2005 Directors Stock Plan was 13.4 million.

 

The compensation cost that was charged against income for stock-based awards granted under the Stock-Based Compensation Plans is as follows:

 

 

 

For the six months ended
June 30,

 

 

 

2009

 

2008

 

 

 

(in millions)

 

Compensation cost

 

$

26.2

 

$

27.4

 

Related income tax benefit

 

8.6

 

9.0

 

Capitalized as part of an asset

 

2.0

 

2.6

 

 

Nonqualified Stock Options

 

Nonqualified stock options were granted to certain employees under the 2005 Stock Incentive Plan. Total options granted were 2.2 million for the six months ended June 30, 2009. The fair value of these options was determined using the Black-Scholes option valuation model assuming a weighted-average dividend yield of 4.1 percent, a weighted-average expected volatility of 55.0 percent, a weighted-average risk-free interest rate of 2.1 percent and a weighted-average expected term of 6 years. The weighted-average estimated fair value of stock options granted during the six months ended June 30, 2009, was $4.07 per share.

 

As of June 30, 2009, there were $11.6 million of total unrecognized compensation costs related to nonvested stock options. The costs are expected to be recognized over a weighted-average service period of approximately 1.7 years.

 

Performance Share Awards

 

Performance share awards were granted to certain employees under the 2005 Stock Incentive Plan. Total performance share awards granted were 0.5 million for the six months ended June 30, 2009. The performance share awards granted represent initial target awards and do not reflect potential decreases resulting from the final performance objective to be determined at the end of the performance period. The actual number of shares to be awarded at the end of each performance period will be either 0% or 100% of the initial target awards. The fair value of performance share awards is determined based on the closing stock price of our common shares on the grant date. The weighted-average grant date fair value of these performance share awards granted was $11.07 per common share.

 

As of June 30, 2009, there were $3.6 million of total unrecognized compensation costs related to nonvested performance share awards granted. The costs are expected to be recognized over a weighted-average service period of approximately 1.9 years.

 

Restricted Stock Units

 

Restricted stock units were issued to certain employees and agents pursuant to the 2005 Stock Incentive Plan. Total restricted stock units granted were 1.8 million for the six months ended June 30, 2009. The fair value of restricted stock units is determined based on the closing stock price of our common shares on the grant date. The weighted-average grant date fair value of these restricted stock units granted was $11.53 per common share.

 

As of June 30, 2009, there were $32.4 million of total unrecognized compensation costs related to nonvested restricted stock unit awards granted. The costs are expected to be recognized over a weighted-average period of approximately 1.9 years.

 

Employee Stock Purchase Plan

 

As of January 1, 2009, the offering period for the Employee Stock Purchase Plan changed from three to six months. Under the Employee Stock Purchase Plan, employees purchased 0.6 million shares for the six months ended June 30, 2009. The weighted-average fair value of the discount on the stock purchased was $2.83 per share.

 

As of June 30, 2009, a total of 9.0 million of new shares are available to be made issuable by us for this plan.

Notes - Earnings Per Common Share
Earnings Per Common Share

12. Earnings Per Common Share

 

The computations of the basic and diluted per share amounts were as follows:

 

 

 

For the three months ended

 

For the six months ended

 

 

 

June 30,

 

June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

(in millions, except per share data)

 

Net income

 

$

164.0

 

$

183.1

 

$

286.6

 

$

360.7

 

Subtract:

 

 

 

 

 

 

 

 

 

Net income attributable to noncontrolling interest

 

5.4

 

6.5

 

7.0

 

1.7

 

Preferred stock dividends

 

8.3

 

8.3

 

16.5

 

16.5

 

Net income available to common stockholders

 

$

150.3

 

$

168.3

 

$

263.1

 

$

342.5

 

Weighted-average shares outstanding

 

 

 

 

 

 

 

 

 

Basic

 

289.9

 

259.1

 

275.1

 

259.2

 

Dilutive effects:

 

 

 

 

 

 

 

 

 

Stock options

 

0.4

 

1.8

 

 

1.7

 

Restricted stock units

 

1.1

 

0.3

 

0.7

 

0.3

 

Diluted

 

291.4

 

261.2

 

275.8

 

261.2

 

Net income per common share:

 

 

 

 

 

 

 

 

 

Basic

 

$

0.52

 

$

0.65

 

$

0.96

 

$

1.32

 

Diluted

 

$

0.52

 

$

0.64

 

$

0.95

 

$

1.31

 

 

The calculation of diluted earnings per share for the three and six months ended June 30, 2009 and 2008, excludes the incremental effect related to certain outstanding stock-based compensation grants due to their anti-dilutive effect.

Notes - Condensed Consolidating Financial Information
Condensed Consolidating Financial Information

13. Condensed Consolidating Financial Information

 

Principal Life has established special purpose entities to issue secured medium-term notes. Under the program, the payment obligations of principal and interest on the notes are secured by funding agreements issued by Principal Life. Principal Life’s payment obligations on the funding agreements are fully and unconditionally guaranteed by PFG. All of the outstanding stock of Principal Life is indirectly owned by PFG and PFG is the only guarantor of the payment obligations of the funding agreements.

 

The following tables set forth condensed consolidating financial information of (i) PFG, (ii) Principal Life, (iii) Principal Financial Services, Inc. (“PFS”) and all other direct and indirect subsidiaries of PFG on a combined basis and (iv) the eliminations necessary to arrive at the information for PFG on a consolidated basis as of June 30, 2009 and December 31, 2008, and for the six months ended June 30, 2009 and 2008.

 

In presenting the condensed consolidating financial statements, the equity method of accounting has been applied to (i) PFG’s interest in PFS, (ii) Principal Life’s interest in all direct subsidiaries of Principal Life and (iii) PFS’s interest in Principal Life even though all such subsidiaries meet the requirements to be consolidated under U.S. GAAP. Earnings of subsidiaries are, therefore, reflected in the parent’s investment and earnings. All intercompany balances and transactions, including elimination of the parent’s investment in subsidiaries, between PFG, Principal Life and PFS and all other subsidiaries have been eliminated, as shown in the column “Eliminations and Other.”  These condensed consolidating financial statements should be read in conjunction with the consolidated financial statements. The financial information may not necessarily be indicative of results of operations, cash flows or financial position had the subsidiaries operated as independent entities.

 

Condensed Consolidating Statements of Financial Position
June 30, 2009

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal Life
Insurance
Company
Only

 

Principal Financial
Services, Inc. and
Other Subsidiaries
Combined

 

Eliminations and
Other

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

 

 

 

 

(in millions)

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale

 

$

 

$

37,709.4

 

$

5,179.2

 

$

(590.0

)

$

42,298.6

 

Fixed maturities, trading

 

 

680.1

 

189.5

 

 

869.6

 

Equity securities, available-for-sale

 

 

207.0

 

5.5

 

 

212.5

 

Equity securities, trading

 

 

0.4

 

170.0

 

 

170.4

 

Mortgage loans

 

 

10,409.4

 

2,501.0

 

(476.6

)

12,433.8

 

Real estate

 

 

19.8

 

957.3

 

(2.5

)

974.6

 

Policy loans

 

 

883.6

 

18.9

 

 

902.5

 

Investment in unconsolidated entities

 

5,807.4

 

3,212.0

 

919.1

 

(9,430.8

)

507.7

 

Other investments

 

5.5

 

1,579.0

 

716.5

 

(418.0

)

1,883.0

 

Cash and cash equivalents

 

1,280.0

 

1,841.3

 

2,191.7

 

(984.5

)

4,328.5

 

Accrued investment income

 

2.2

 

645.4

 

56.7

 

(8.1

)

696.2

 

Premiums due and other receivables

 

 

855.8

 

187.3

 

3.4

 

1,046.5

 

Deferred policy acquisition costs

 

 

3,847.5

 

211.2

 

 

4,058.7

 

Property and equipment

 

 

432.4

 

73.7

 

 

506.1

 

Goodwill

 

 

96.7

 

287.4

 

 

384.1

 

Other intangibles

 

 

34.7

 

843.7

 

 

878.4

 

Separate account assets

 

 

51,350.6

 

4,647.8

 

 

55,998.4

 

Other assets

 

12.8

 

606.2

 

529.3

 

1,408.7

 

2,557.0

 

Total assets

 

$

7,107.9

 

$

114,411.3

 

$

19,685.8

 

$

(10,498.4

)

$

130,706.6

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

Contractholder funds

 

$

 

$

41,654.2

 

$

42.0

 

$

(246.4

)

$

41,449.8

 

Future policy benefits and claims

 

 

15,904.8

 

3,051.2

 

(16.9

)

18,939.1

 

Other policyholder funds

 

 

535.1

 

18.3

 

 

553.4

 

Short-term debt

 

 

 

162.3

 

(2.8

)

159.5

 

Long-term debt

 

1,351.8

 

99.5

 

1,328.0

 

(746.0

)

2,033.3

 

Income taxes currently payable

 

(11.7

)

(203.9

)

13.3

 

205.1

 

2.8

 

Deferred income taxes

 

(27.4

)

(1,511.1

)

264.9

 

1,390.3

 

116.7

 

Separate account liabilities

 

 

51,350.6

 

4,647.8

 

 

55,998.4

 

Other liabilities

 

18.7

 

2,663.7

 

4,350.6

 

(1,355.9

)

5,677.1

 

Total liabilities

 

1,331.4

 

110,492.9

 

13,878.4

 

(772.6

)

124,930.1

 

Stockholders’ equity

 

 

 

 

 

 

 

 

 

 

 

Series A preferred stock

 

 

 

 

 

 

Series B preferred stock

 

0.1

 

 

 

 

0.1

 

Common stock

 

4.5

 

2.5

 

 

(2.5

)

4.5

 

Additional paid-in capital

 

9,459.8

 

6,089.9

 

8,264.3

 

(14,354.2

)

9,459.8

 

Retained earnings

 

3,995.5

 

747.8

 

458.2

 

(1,206.0

)

3,995.5

 

Accumulated other comprehensive loss

 

(3,042.4

)

(2,998.5

)

(2,996.4

)

5,994.9

 

(3,042.4

)

Treasury stock, at cost

 

(4,722.3

)

 

 

 

(4,722.3

)

Total stockholders’ equity attributable to PFG

 

5,695.2

 

3,841.7

 

5,726.1

 

(9,567.8

)

5,695.2

 

Noncontrolling interest

 

81.3

 

76.7

 

81.3

 

(158.0

)

81.3

 

Total stockholders’ equity

 

5,776.5

 

3,918.4

 

5,807.4

 

(9,725.8

)

5,776.5

 

Total liabilities and stockholders’ equity

 

$

7,107.9

 

$

114,411.3

 

$

19,685.8

 

$

(10,498.4

)

$

130,706.6

 

 

Condensed Consolidating Statements of Financial Position
December 31, 2008

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal Life
Insurance
Company
Only

 

Principal Financial
Services, Inc. and
Other Subsidiaries
Combined

 

Eliminations

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Assets

 

 

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale

 

$

 

$

36,100.6

 

$

4,509.1

 

$

(492.5

)

$

40,117.2

 

Fixed maturities, trading

 

 

732.3

 

111.1

 

 

843.4

 

Equity securities, available-for-sale

 

 

234.2

 

8.5

 

 

242.7

 

Equity securities, trading

 

 

0.4

 

157.6

 

 

158.0

 

Mortgage loans

 

 

10,961.8

 

2,586.9

 

(435.1

)

13,113.6

 

Real estate

 

 

20.1

 

899.3

 

 

919.4

 

Policy loans

 

 

881.4

 

15.0

 

 

896.4

 

Investment in unconsolidated entities

 

3,198.5

 

2,903.1

 

(597.2

)

(5,085.0

)

419.4

 

Other investments

 

5.5

 

2,431.9

 

734.8

 

(775.0

)

2,397.2

 

Cash and cash equivalents

 

(2.0

)

1,598.6

 

1,192.3

 

(180.9

)

2,608.0

 

Accrued investment income

 

 

701.3

 

55.2

 

(5.8

)

750.7

 

Premiums due and other receivables

 

0.9

 

819.6

 

153.5

 

14.1

 

988.1

 

Deferred policy acquisition costs

 

 

3,970.1

 

182.9

 

 

4,153.0

 

Property and equipment

 

 

447.1

 

71.1

 

 

518.2

 

Goodwill

 

 

96.7

 

278.8

 

 

375.5

 

Other intangibles

 

 

35.7

 

889.6

 

 

925.3

 

Separate account assets

 

 

51,069.1

 

4,073.5

 

 

55,142.6

 

Other assets

 

27.0

 

570.6

 

530.9

 

2,485.2

 

3,613.7

 

Total assets

 

$

3,229.9

 

$

113,574.6

 

$

15,852.9

 

$

(4,475.0

)

$

128,182.4

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

Contractholder funds

 

$

 

$

43,298.3

 

$

40.2

 

$

(251.9

)

$

43,086.6

 

Future policy benefits and claims

 

 

15,979.0

 

2,526.0

 

(10.8

)

18,494.2

 

Other policyholder funds

 

 

517.9

 

18.3

 

 

536.2

 

Short-term debt

 

 

 

500.9

 

 

500.9

 

Long-term debt

 

601.8

 

99.5

 

1,296.8

 

(707.6

)

1,290.5

 

Income taxes currently payable

 

(9.1

)

(322.5

)

26.0

 

307.5

 

1.9

 

Deferred income taxes

 

(39.4

)

(2,352.0

)

132.2

 

2,362.0

 

102.8

 

Separate account liabilities

 

 

51,069.1

 

4,073.5

 

 

55,142.6

 

Other liabilities

 

107.3

 

3,143.2

 

4,040.5

 

(833.6

)

6,457.4

 

Total liabilities

 

660.6

 

111,432.5

 

12,654.4

 

865.6

 

125,613.1

 

Stockholders’ equity

 

 

 

 

 

 

 

 

 

 

 

Series A preferred stock

 

 

 

 

 

 

Series B preferred stock

 

0.1

 

 

 

 

0.1

 

Common stock

 

3.9

 

2.5

 

 

(2.5

)

3.9

 

Additional paid-in capital

 

8,376.5

 

5,626.6

 

7,797.7

 

(13,424.3

)

8,376.5

 

Retained earnings

 

3,722.5

 

1,158.5

 

150.8

 

(1,309.3

)

3,722.5

 

Accumulated other comprehensive loss

 

(4,911.6

)

(4,737.6

)

(4,846.7

)

9,584.3

 

(4,911.6

)

Treasury stock, at cost

 

(4,718.6

)

 

 

 

(4,718.6

)

Total stockholders’ equity attributable to PFG

 

2,472.8

 

2,050.0

 

3,101.8

 

(5,151.8

)

2,472.8

 

Noncontrolling interest

 

96.5

 

92.1

 

96.7

 

(188.8

)

96.5

 

Total stockholders’ equity

 

2,569.3

 

2,142.1

 

3,198.5

 

(5,340.6

)

2,569.3

 

Total liabilities and stockholders’ equity

 

$

3,229.9

 

$

113,574.6

 

$

15,852.9

 

$

(4,475.0

)

$

128,182.4

 

 

Condensed Consolidating Statements of Operations
For the six months ended
June 30, 2009

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal Life
Insurance
Company
Only

 

Principal
Financial
Services, Inc. and
Other
Subsidiaries
Combined

 

Eliminations and Other

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Revenues

 

 

 

 

 

 

 

 

 

 

 

Premiums and other considerations

 

$

 

$

1,756.6

 

$

131.0

 

$

 

$

1,887.6

 

Fees and other revenues

 

 

640.3

 

497.3

 

(148.9

)

988.7

 

Net investment income

 

0.5

 

1,517.1

 

154.0

 

17.0

 

1,688.6

 

Net realized capital gains (losses), excluding impairment losses on available-for-sale securities

 

2.1

 

(397.8

)

465.3

 

(57.7

)

11.9

 

Total other-than-temporary impairment losses on available-for-sale securities

 

 

(345.4

)

(2.1

)

 

(347.5

)

Portion of impairment losses on fixed maturities, available-for-sale recognized in other comprehensive income

 

 

116.1

 

1.0

 

 

117.1

 

Net impairment losses on available-for-sale securities

 

 

(229.3

)

(1.1

)

 

(230.4

)

Net realized capital gains (losses)

 

2.1

 

(627.1

)

464.2

 

(57.7

)

(218.5

)

Total revenues

 

2.6

 

3,286.9

 

1,246.5

 

(189.6

)

4,346.4

 

Expenses

 

 

 

 

 

 

 

 

 

 

 

Benefits, claims and settlement expenses

 

 

2,515.4

 

133.7

 

(8.2

)

2,640.9

 

Dividends to policyholders

 

 

126.4

 

 

 

126.4

 

Operating expenses

 

32.0

 

838.9

 

502.5

 

(122.3

)

1,251.1

 

Total expenses

 

32.0

 

3,480.7

 

636.2

 

(130.5

)

4,018.4

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) before income taxes

 

(29.4

)

(193.8

)

610.3

 

(59.1

)

328.0

 

 

 

 

 

 

 

 

 

 

 

 

 

Income taxes (benefits)

 

(11.5

)

(98.3

)

151.2

 

 

41.4

 

Equity in the net income of subsidiaries

 

304.5

 

326.9

 

(154.6

)

(476.8

)

 

Net income

 

286.6

 

231.4

 

304.5

 

(535.9

)

286.6

 

Net income attributable to noncontrolling interest

 

7.0

 

7.0

 

7.0

 

(14.0

)

7.0

 

Net income attributable to PFG

 

279.6

 

224.4

 

297.5

 

(521.9

)

279.6

 

Preferred stock dividends

 

16.5

 

 

 

 

16.5

 

Net income available to common stockholders

 

$

263.1

 

$

224.4

 

$

297.5

 

$

(521.9

)

$

263.1

 

 

Condensed Consolidating Statements of Operations
For the six months ended
June 30, 2008

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal Life
Insurance
Company
Only

 

Principal
Financial
Services, Inc.
and Other
Subsidiaries
Combined

 

Eliminations

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Revenues

 

 

 

 

 

 

 

 

 

 

 

Premiums and other considerations

 

$

 

$

2,014.5

 

$

194.7

 

$

 

$

2,209.2

 

Fees and other revenues

 

 

743.0

 

717.9

 

(225.0

)

1,235.9

 

Net investment income (loss)

 

(0.1

)

1,621.3

 

326.6

 

3.4

 

1,951.2

 

Net realized capital gains (losses), excluding impairment losses on available-for-sale securities

 

 

(180.5

)

24.5

 

31.9

 

(124.1

)

Total other-than-temporary impairment losses on available-for-sale securities

 

 

(113.4

)

 

 

(113.4

)

Portion of impairment losses on fixed maturities, available-for-sale recognized in other comprehensive income

 

 

 

 

 

 

Net impairment losses on available-for-sale securities

 

 

(113.4

)

 

 

(113.4

)

Net realized capital gains (losses)

 

 

(293.9

)

24.5

 

31.9

 

(237.5

)

Total revenues

 

(0.1

)

4,084.9

 

1,263.7

 

(189.7

)

5,158.8

 

Expenses

 

 

 

 

 

 

 

 

 

 

 

Benefits, claims and settlement expenses

 

 

2,804.2

 

309.8

 

(8.0

)

3,106.0

 

Dividends to policyholders

 

 

139.8

 

 

 

139.8

 

Operating expenses

 

25.9

 

990.9

 

671.0

 

(194.5

)

1,493.3

 

Total expenses

 

25.9

 

3,934.9

 

980.8

 

(202.5

)

4,739.1

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) before income taxes

 

(26.0

)

150.0

 

282.9

 

12.8

 

419.7

 

 

 

 

 

 

 

 

 

 

 

 

 

Income taxes (benefits)

 

(11.1

)

14.4

 

58.2

 

(2.5

)

59.0

 

Equity in the net income of subsidiaries

 

375.6

 

183.0

 

150.9

 

(709.5

)

 

Net income

 

360.7

 

318.6

 

375.6

 

(694.2

)

360.7

 

Net income attributable to noncontrolling interest

 

1.7

 

1.7

 

1.7

 

(3.4

)

1.7

 

Net income attributable to PFG

 

359.0

 

316.9

 

373.9

 

(690.8

)

359.0

 

Preferred stock dividends

 

16.5

 

 

 

 

16.5

 

Net income available to common stockholders

 

$

342.5

 

$

316.9

 

$

373.9

 

$

(690.8

)

$

342.5

 

 

Condensed Consolidating Statements of Cash Flows
For the six months ended
June 30, 2009

 

 

 

Principal 
Financial
Group, Inc. 
Parent Only

 

Principal Life 
Insurance 
Company
Only

 

Principal
Financial
Services, Inc. and
Other Subsidiaries
Combined

 

Eliminations
and Other

 

Principal
Financial 
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Operating activities

 

 

 

 

 

 

 

 

 

 

 

Net cash provided by (used in) operating activities

 

$

(105.9

)

$

1,520.4

 

$

786.3

 

$

(785.9

)

$

1,414.9

 

Investing activities

 

 

 

 

 

 

 

 

 

 

 

Available-for-sale securities:

 

 

 

 

 

 

 

 

 

 

 

Purchases

 

 

(2,533.8

)

(554.1

)

119.9

 

(2,968.0

)

Sales

 

 

1,386.9

 

236.8

 

 

1,623.7

 

Maturities

 

 

1,917.9

 

131.7

 

 

2,049.6

 

Mortgage loans acquired or originated

 

 

(182.7

)

(48.0

)

49.6

 

(181.1

)

Mortgage loans sold or repaid

 

 

705.8

 

164.5

 

(8.1

)

862.2

 

Real estate acquired

 

 

 

(42.1

)

 

(42.1

)

Real estate sold

 

 

 

1.3

 

 

1.3

 

Net purchases of property and equipment

 

 

(4.6

)

(11.9

)

 

(16.5

)

Purchases of interests in subsidiaries, net of cash acquired

 

 

 

(45.7

)

 

(45.7

)

Dividends received from (contributions to) unconsolidated entities

 

(496.3

)

13.1

 

148.7

 

334.5

 

 

Net change in other investments

 

 

80.7

 

6.7

 

(138.0

)

(50.6

)

Net cash provided by (used in) investing activities

 

(496.3

)

1,383.3

 

(12.1

)

357.9

 

1,232.8

 

Financing activities

 

 

 

 

 

 

 

 

 

 

 

Issuance of common stock

 

1,154.4

 

 

 

 

1,154.4

 

Acquisition of treasury stock

 

(3.7

)

 

 

 

(3.7

)

Proceeds from financing element derivatives

 

 

77.9

 

 

 

77.9

 

Payments for financing element derivatives

 

 

(43.7

)

 

 

(43.7

)

Excess tax benefits from share-based payment arrangements

 

 

 

0.2

 

 

0.2

 

Dividends to preferred stockholders

 

(16.5

)

 

 

 

(16.5

)

Issuance of long-term debt

 

750.0

 

 

38.3

 

(38.3

)

750.0

 

Principal repayments of long-term debt

 

 

 

(21.7

)

 

(21.7

)

Net proceeds of short-term borrowings

 

 

 

(342.9

)

(2.8

)

(345.7

)

Capital received from (dividends paid to) parent

 

 

(148.7

)

483.2

 

(334.5

)

 

Investment contract deposits

 

 

2,681.1

 

 

 

2,681.1

 

Investment contract withdrawals

 

 

(5,224.4

)

 

 

(5,224.4

)

Net increase in banking operation deposits

 

 

 

68.1

 

 

68.1

 

Other

 

 

(3.2

)

 

 

(3.2

)

Net cash provided by (used in) financing activities

 

1,884.2

 

(2,661.0

)

225.2

 

(375.6

)

(927.2

)

Net increase in cash and cash equivalents

 

1,282.0

 

242.7

 

999.4

 

(803.6

)

1,720.5

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents at beginning of period

 

(2.0

)

1,598.6

 

1,192.3

 

(180.9

)

2,608.0

 

Cash and cash equivalents at end of period

 

$

1,280.0

 

$

1,841.3

 

$

2,191.7

 

$

(984.5

)

$

4,328.5

 

 

Condensed Consolidating Statements of Cash Flows
For the six months ended
June 30, 2008

 

 

 

Principal 
Financial
Group, Inc. 
Parent Only

 

Principal Life 
Insurance 
Company
Only

 

Principal
Financial
Services, Inc. and
Other Subsidiaries
Combined

 

Eliminations

 

Principal
Financial 
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Operating activities

 

 

 

 

 

 

 

 

 

 

 

Net cash provided by (used in) operating activities

 

$

(25.9

)

$

856.4

 

$

149.3

 

$

93.3

 

$

1,073.1

 

Investing activities

 

 

 

 

 

 

 

 

 

 

 

Available-for-sale securities:

 

 

 

 

 

 

 

 

 

 

 

Purchases

 

 

(3,837.0

)

(475.7

)

(47.7

)

(4,360.4

)

Sales

 

 

317.7

 

116.5

 

 

434.2

 

Maturities

 

 

1,665.1

 

134.3

 

 

1,799.4

 

Mortgage loans acquired or originated

 

 

(708.3

)

(110.2

)

65.1

 

(753.4

)

Mortgage loans sold or repaid

 

 

533.9

 

129.4

 

(49.5

)

613.8

 

Real estate acquired

 

 

(0.2

)

(11.0

)

 

(11.2

)

Real estate sold

 

 

 

46.0

 

 

46.0

 

Net purchases of property and equipment

 

(0.1

)

(39.9

)

(9.5

)

 

(49.5

)

Purchases of interests in subsidiaries, net of cash acquired

 

 

 

(20.3

)

 

(20.3

)

Dividends received from unconsolidated entities

 

6.1

 

40.3

 

7.3

 

(53.7

)

 

Net change in other investments

 

 

(53.2

)

(5.3

)

33.2

 

(25.3

)

Net cash provided by (used in) investing activities

 

6.0

 

(2,081.6

)

(198.5

)

(52.6

)

(2,326.7

)

Financing activities

 

 

 

 

 

 

 

 

 

 

 

Issuance of common stock

 

23.6

 

 

 

 

23.6

 

Acquisition of treasury stock

 

(6.1

)

 

 

 

(6.1

)

Proceeds from financing element derivatives

 

 

83.3

 

 

 

83.3

 

Payments for financing element derivatives

 

 

(61.1

)

 

 

(61.1

)

Excess tax benefits from share-based payment arrangements

 

 

1.2

 

1.6

 

 

2.8

 

Dividends to preferred stockholders

 

(16.5

)

 

 

 

(16.5

)

Issuance of long-term debt

 

 

 

15.7

 

(12.6

)

3.1

 

Principal repayments of long-term debt

 

 

 

(39.8

)

27.1

 

(12.7

)

Net repayments of short-term borrowings

 

 

 

(74.1

)

1.4

 

(72.7

)

Dividends paid to parent

 

 

(7.3

)

(46.4

)

53.7

 

 

Investment contract deposits

 

 

6,792.5

 

 

 

6,792.5

 

Investment contract withdrawals

 

 

(5,531.7

)

 

 

(5,531.7

)

Net increase in banking operation deposits

 

 

 

232.3

 

 

232.3

 

Other

 

 

(3.1

)

 

 

(3.1

)

Net cash provided by financing activities

 

1.0

 

1,273.8

 

89.3

 

69.6

 

1,433.7

 

Net increase (decrease) in cash and cash equivalents

 

(18.9

)

48.6

 

40.1

 

110.3

 

180.1

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents at beginning of period

 

(3.2

)

927.8

 

536.4

 

(116.6

)

1,344.4

 

Cash and cash equivalents at end of period

 

$

(22.1

)

$

976.4

 

$

576.5

 

$

(6.3

)

$

1,524.5

 

 

On June 11, 2008, our shelf registration statement was filed with the SEC and became effective. The shelf registration replaces the shelf registration that had been in effect since June 2004, as it was scheduled to expire in the fourth quarter of 2008. Under our current shelf registration, we have the ability to issue unsecured senior debt securities or subordinated debt securities, junior subordinated debt, preferred stock, common stock, warrants, depository shares, stock purchase contracts and stock purchase units of PFG, trust preferred securities of three subsidiary trusts and guarantees by PFG of these trust preferred securities. Our wholly owned subsidiary, PFS, may guarantee, fully and unconditionally or otherwise, our obligations with respect to any non-convertible securities, other than common stock, described in the shelf registration statement.

 

The following tables set forth condensed consolidating financial information of (i) PFG, (ii) PFS, (iii) Principal Life and all other direct and indirect subsidiaries of PFG on a combined basis and (iv) the eliminations necessary to arrive at the information for PFG on a consolidated basis as of June 30, 2009 and December 31, 2008, and for the six months ended June 30, 2009 and 2008.

 

In presenting the condensed consolidating financial statements, the equity method of accounting has been applied to (i) PFG’s interest in PFS and (ii) PFS’s interest in Principal Life and all other subsidiaries, where applicable, even though all such subsidiaries meet the requirements to be consolidated under U.S. GAAP. Earnings of subsidiaries are, therefore, reflected in the parent’s investment and earnings. All intercompany balances and transactions, including elimination of the parent’s investment in subsidiaries, between PFG, PFS and Principal Life and all other subsidiaries have been eliminated, as shown in the column “Eliminations and Other.” These condensed consolidating financial statements should be read in conjunction with the consolidated financial statements. The financial information may not necessarily be indicative of results of operations, cash flows or financial position had the subsidiaries operated as independent entities.

 

Condensed Consolidating Statements of Financial Position
June 30, 2009

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal
Financial
Services, Inc.
Only

 

Principal Life
Insurance
Company and
Other
Subsidiaries
Combined

 

Eliminations
and Other

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Assets

 

 

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale

 

$

 

$

 

$

42,298.6

 

$

 

$

42,298.6

 

Fixed maturities, trading

 

 

 

869.6

 

 

869.6

 

Equity securities, available-for-sale

 

 

 

212.5

 

 

212.5

 

Equity securities, trading

 

 

 

170.4

 

 

170.4

 

Mortgage loans

 

 

 

12,433.8

 

 

12,433.8

 

Real estate

 

 

 

974.6

 

 

974.6

 

Policy loans

 

 

 

902.5

 

 

902.5

 

Investment in unconsolidated entities

 

5,807.4

 

5,898.5

 

507.4

 

(11,705.6

)

507.7

 

Other investments

 

5.5

 

50.2

 

1,827.3

 

 

1,883.0

 

Cash and cash equivalents

 

1,280.0

 

1,608.6

 

2,889.4

 

(1,449.5

)

4,328.5

 

Accrued investment income

 

2.2

 

(2.1

)

696.1

 

 

696.2

 

Premiums due and other receivables

 

 

 

1,045.7

 

0.8

 

1,046.5

 

Deferred policy acquisition costs

 

 

 

4,058.7

 

 

4,058.7

 

Property and equipment

 

 

 

506.1

 

 

506.1

 

Goodwill

 

 

 

384.1

 

 

384.1

 

Other intangibles

 

 

 

878.4

 

 

878.4

 

Separate account assets

 

 

 

55,998.4

 

 

55,998.4

 

Other assets

 

12.8

 

9.1

 

2,514.5

 

20.6

 

2,557.0

 

Total assets

 

$

7,107.9

 

$

7,564.3

 

$

129,168.1

 

$

(13,133.7

)

$

130,706.6

 

 

Condensed Consolidating Statements of Financial Position (continued)
June 30, 2009

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal
Financial
Services, Inc.
Only

 

Principal Life
Insurance
Company and
Other
Subsidiaries
Combined

 

Eliminations
and Other

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

Contractholder funds

 

$

 

$

 

$

41,449.8

 

$

 

$

41,449.8

 

Future policy benefits and claims

 

 

 

18,939.1

 

 

18,939.1

 

Other policyholder funds

 

 

 

553.4

 

 

553.4

 

Short-term debt

 

 

138.6

 

333.7

 

(312.8

)

159.5

 

Long-term debt

 

1,351.8

 

440.9

 

240.6

 

 

2,033.3

 

Income taxes currently payable

 

(11.7

)

(8.3

)

7.9

 

14.9

 

2.8

 

Deferred income taxes

 

(27.4

)

(8.9

)

142.9

 

10.1

 

116.7

 

Separate account liabilities

 

 

 

55,998.4

 

 

55,998.4

 

Other liabilities

 

18.7

 

1,194.6

 

5,603.8

 

(1,140.0

)

5,677.1

 

Total liabilities

 

1,331.4

 

1,756.9

 

123,269.6

 

(1,427.8

)

124,930.1

 

Stockholders’ equity

 

 

 

 

 

 

 

 

 

 

 

Series A preferred stock

 

 

 

 

 

 

Series B preferred stock

 

0.1

 

 

 

 

0.1

 

Common stock

 

4.5

 

 

17.8

 

(17.8

)

4.5

 

Additional paid-in capital

 

9,459.8

 

8,264.3

 

7,651.3

 

(15,915.6

)

9,459.8

 

Retained earnings

 

3,995.5

 

458.2

 

1,138.3

 

(1,596.5

)

3,995.5

 

Accumulated other comprehensive loss

 

(3,042.4

)

(2,996.4

)

(2,988.3

)

5,984.7

 

(3,042.4

)

Treasury stock, at cost

 

(4,722.3

)

 

(2.0

)

2.0

 

(4,722.3

)

Total stockholders’ equity attributable to PFG

 

5,695.2

 

5,726.1

 

5,817.1

 

(11,543.2

)

5,695.2

 

Noncontrolling interest

 

81.3

 

81.3

 

81.4

 

(162.7

)

81.3

 

Total stockholders’ equity

 

5,776.5

 

5,807.4

 

5,898.5

 

(11,705.9

)

5,776.5

 

Total liabilities and stockholders’ equity

 

$

7,107.9

 

$

7,564.3

 

$

129,168.1

 

$

(13,133.7

)

$

130,706.6

 

 

 

 

 

Condensed Consolidating Statements of Financial Position
December 31, 2008

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal Financial
Services, Inc. Only

 

Principal Life
Insurance Company
and Other Subsidiaries
Combined

 

Eliminations
and Other

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Assets

 

 

 

 

 

 

 

 

 

 

 

Fixed maturities, available-for-sale

 

$

 

$

 

$

40,117.2

 

$

 

$

40,117.2

 

Fixed maturities, trading

 

 

 

843.4

 

 

843.4

 

Equity securities, available-for-sale

 

 

 

242.7

 

 

242.7

 

Equity securities, trading

 

 

 

158.0

 

 

158.0

 

Mortgage loans

 

 

 

13,113.6

 

 

13,113.6

 

Real estate

 

 

 

919.4

 

 

919.4

 

Policy loans

 

 

 

896.4

 

 

896.4

 

Investment in unconsolidated entities

 

3,198.5

 

3,942.4

 

419.2

 

(7,140.7

)

419.4

 

Other investments

 

5.5

 

129.5

 

2,340.1

 

(77.9

)

2,397.2

 

Cash and cash equivalents

 

(2.0

)

546.0

 

2,728.5

 

(664.5

)

2,608.0

 

Accrued investment income

 

 

 

750.7

 

 

750.7

 

Premiums due and other receivables

 

0.9

 

6.7

 

980.8

 

(0.3

)

988.1

 

Deferred policy acquisition costs

 

 

 

4,153.0

 

 

4,153.0

 

Property and equipment

 

 

 

518.2

 

 

518.2

 

Goodwill

 

 

 

375.5

 

 

375.5

 

Other intangibles

 

 

 

925.3

 

 

925.3

 

Separate account assets

 

 

 

55,142.6

 

 

55,142.6

 

Other assets

 

27.0

 

64.4

 

3,506.2

 

16.1

 

3,613.7

 

Total assets

 

$

3,229.9

 

$

4,689.0

 

$

128,130.8

 

$

(7,867.3

)

$

128,182.4

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

Contractholder funds

 

$

 

$

 

$

43,086.6

 

$

 

$

43,086.6

 

Future policy benefits and claims

 

 

 

18,494.2

 

 

18,494.2

 

Other policyholder funds

 

 

 

536.2

 

 

536.2

 

Short-term debt

 

 

482.3

 

309.8

 

(291.2

)

500.9

 

Long-term debt

 

601.8

 

454.9

 

233.8

 

 

1,290.5

 

Income taxes currently payable

 

(9.1

)

(7.0

)

12.1

 

5.9

 

1.9

 

Deferred income taxes

 

(39.4

)

(10.5

)

126.9

 

25.8

 

102.8

 

Separate account liabilities

 

 

 

55,142.6

 

 

55,142.6

 

Other liabilities

 

107.3

 

570.8

 

6,246.2

 

(466.9

)

6,457.4

 

Total liabilities

 

660.6

 

1,490.5

 

124,188.4

 

(726.4

)

125,613.1

 

Stockholders’ equity

 

 

 

 

 

 

 

 

 

 

 

Series A preferred stock

 

 

 

 

 

 

Series B preferred stock

 

0.1

 

 

 

 

0.1

 

Common stock

 

3.9

 

 

17.8

 

(17.8

)

3.9

 

Additional paid-in capital

 

8,376.5

 

7,797.7

 

7,178.2

 

(14,975.9

)

8,376.5

 

Retained earnings

 

3,722.5

 

150.8

 

1,494.4

 

(1,645.2

)

3,722.5

 

Accumulated other comprehensive loss

 

(4,911.6

)

(4,846.7

)

(4,842.7

)

9,689.4

 

(4,911.6

)

Treasury stock, at cost

 

(4,718.6

)

 

(2.0

)

2.0

 

(4,718.6

)

Total stockholders’ equity attributable to PFG

 

2,472.8

 

3,101.8

 

3,845.7

 

(6,947.5

)

2,472.8

 

Noncontrolling interest

 

96.5

 

96.7

 

96.7

 

(193.4

)

96.5

 

Total stockholders’ equity

 

2,569.3

 

3,198.5

 

3,942.4

 

(7,140.9

)

2,569.3

 

Total liabilities and stockholders’ equity

 

$

3,229.9

 

$

4,689.0

 

$

128,130.8

 

$

(7,867.3

)

$

128,182.4

 

 

Condensed Consolidating Statements of Operations
For the six months ended June 30, 2009

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal
Financial
Services, Inc.
Only

 

Principal Life
Insurance
Company and
Other
Subsidiaries
Combined

 

Eliminations
and Other

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Revenues

 

 

 

 

 

 

 

 

 

 

 

Premiums and other considerations

 

$

 

$

 

$

1,887.6

 

$

 

$

1,887.6

 

Fees and other revenues

 

 

0.1

 

995.1

 

(6.5

)

988.7

 

Net investment income

 

0.5

 

 

1,688.0

 

0.1

 

1,688.6

 

Net realized capital gains (losses), excluding impairment losses on available-for-sale securities

 

2.1

 

(2.5

)

12.3

 

 

11.9

 

Total other-than-temporary impairment losses on available-for-sale securities

 

 

 

(347.5

)

 

(347.5

)

Portion of impairment losses on fixed maturities, available-for-sale recognized in other comprehensive income

 

 

 

117.1

 

 

117.1

 

Net impairment losses on available-for-sale securities

 

 

 

(230.4

)

 

(230.4

)

Net realized capital gains (losses)

 

2.1

 

(2.5

)

(218.1

)

 

(218.5

)

Total revenues

 

2.6

 

(2.4

)

4,352.6

 

(6.4

)

4,346.4

 

Expenses

 

 

 

 

 

 

 

 

 

 

 

Benefits, claims and settlement expenses

 

 

 

2,640.9

 

 

2,640.9

 

Dividends to policyholders

 

 

 

126.4

 

 

126.4

 

Operating expenses

 

32.0

 

22.2

 

1,203.3

 

(6.4

)

1,251.1

 

Total expenses

 

32.0

 

22.2

 

3,970.6

 

(6.4

)

4,018.4

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) before income taxes

 

(29.4

)

(24.6

)

382.0

 

 

328.0

 

 

 

 

 

 

 

 

 

 

 

 

 

Income taxes (benefits)

 

(11.5

)

(13.6

)

66.5

 

 

41.4

 

Equity in the net income of subsidiaries

 

304.5

 

315.5

 

 

(620.0

)

 

Net income

 

286.6

 

304.5

 

315.5

 

(620.0

)

286.6

 

Net income attributable to noncontrolling interest

 

7.0

 

7.0

 

6.9

 

(13.9

)

7.0

 

Net income attributable to PFG

 

279.6

 

297.5

 

308.6

 

(606.1

)

279.6

 

Preferred stock dividends

 

16.5

 

 

 

 

16.5

 

Net income available to common stockholders

 

$

263.1

 

$

297.5

 

$

308.6

 

$

(606.1

)

$

263.1

 

 

Condensed Consolidating Statements of Operations
For the six months ended
June 30, 2008

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal
Financial
Services, Inc.
Only

 

Principal Life
Insurance
Company and
Other
Subsidiaries
Combined

 

Eliminations

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Revenues

 

 

 

 

 

 

 

 

 

 

 

Premiums and other considerations

 

$

 

$

 

$

2,209.2

 

$

 

$

2,209.2

 

Fees and other revenues

 

 

0.1

 

1,243.1

 

(7.3

)

1,235.9

 

Net investment income (loss)

 

(0.1

)

(2.1

)

1,953.4

 

 

1,951.2

 

Net realized capital losses, excluding impairment losses on available-for-sale securities

 

 

(0.5

)

(123.5

)

(0.1

)

(124.1

)

Total other-than-temporary impairment losses on available-for-sale securities

 

 

 

(113.4

)

 

(113.4

)

Portion of impairment losses on fixed maturities, available-for-sale recognized in other comprehensive income

 

 

 

 

 

 

Net impairment losses on available-for-sale securities

 

 

 

(113.4

)

 

(113.4

)

Net realized capital losses

 

 

(0.5

)

(236.9

)

(0.1

)

(237.5

)

Total revenues

 

(0.1

)

(2.5

)

5,168.8

 

(7.4

)

5,158.8

 

Expenses

 

 

 

 

 

 

 

 

 

 

 

Benefits, claims and settlement expenses

 

 

 

3,106.0

 

 

3,106.0

 

Dividends to policyholders

 

 

 

139.8

 

 

139.8

 

Operating expenses

 

25.9

 

21.6

 

1,453.2

 

(7.4

)

1,493.3

 

Total expenses

 

25.9

 

21.6

 

4,699.0

 

(7.4

)

4,739.1

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) before income taxes

 

(26.0

)

(24.1

)

469.8

 

 

419.7

 

 

 

 

 

 

 

 

 

 

 

 

 

Income taxes (benefits)

 

(11.1

)

(23.7

)

93.8

 

 

59.0

 

Equity in the net income of subsidiaries

 

375.6

 

376.0

 

 

(751.6

)

 

Net income

 

360.7

 

375.6

 

376.0

 

(751.6

)

360.7

 

Net income attributable to noncontrolling interest

 

1.7

 

1.7

 

1.4

 

(3.1

)

1.7

 

Net income attributable to PFG

 

359.0

 

373.9

 

374.6

 

(748.5

)

359.0

 

Preferred stock dividends

 

16.5

 

 

 

 

16.5

 

Net income available to common stockholders

 

$

342.5

 

$

373.9

 

$

374.6

 

$

(748.5

)

$

342.5

 

 

Condensed Consolidating Statements of Cash Flows
For the six months ended
June 30, 2009

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal
Financial
Services, Inc.
Only

 

Principal Life
Insurance
Company and
Other Subsidiaries
Combined

 

Eliminations
and Other

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Operating activities

 

 

 

 

 

 

 

 

 

 

 

Net cash provided by (used in) operating activities

 

$

(105.9

)

$

801.6

 

$

1,463.1

 

$

(743.9

)

$

1,414.9

 

Investing activities

 

 

 

 

 

 

 

 

 

 

 

Available-for-sale securities:

 

 

 

 

 

 

 

 

 

 

 

Purchases

 

 

(50.0

)

(2,918.0

)

 

(2,968.0

)

Sales

 

 

 

1,623.7

 

 

1,623.7

 

Maturities

 

 

 

2,049.6

 

 

2,049.6

 

Mortgage loans acquired or originated

 

 

 

(181.1

)

 

(181.1

)

Mortgage loans sold or repaid

 

 

 

862.2

 

 

862.2

 

Real estate acquired

 

 

 

(42.1

)

 

(42.1

)

Real estate sold

 

 

 

1.3

 

 

1.3

 

Net purchases of property and equipment

 

 

 

(16.5

)

 

(16.5

)

Purchases of interests in subsidiaries, net of cash acquired

 

 

 

(45.7

)

 

(45.7

)

Dividends received from (contributions to) unconsolidated entities

 

(496.3

)

152.3

 

 

344.0

 

 

Net change in other investments

 

 

20.5

 

(51.7

)

(19.4

)

(50.6

)

Net cash provided by (used in) investing activities

 

(496.3

)

122.8

 

1,281.7

 

324.6

 

1,232.8

 

Financing activities

 

 

 

 

 

 

 

 

 

 

 

Issuance of common stock

 

1,154.4

 

 

 

 

1,154.4

 

Acquisition of treasury stock

 

(3.7

)

 

 

 

(3.7

)

Proceeds from financing element derivatives

 

 

 

77.9

 

 

77.9

 

Payments for financing element derivatives

 

 

 

(43.7

)

 

(43.7

)

Excess tax benefits from share-based payment arrangements

 

 

 

0.2

 

 

0.2

 

Dividends to preferred stockholders

 

(16.5

)

 

 

 

(16.5

)

Issuance of long-term debt

 

750.0

 

 

 

 

750.0

 

Principal repayments of long-term debt

 

 

(13.7

)

(8.0

)

 

(21.7

)

Net proceeds (repayments) of short-term borrowings

 

 

(344.4

)

20.4

 

(21.7

)

(345.7

)

Capital received from (dividends paid to) parent

 

 

496.3

 

(152.3

)

(344.0

)

 

Investment contract deposits

 

 

 

2,681.1

 

 

2,681.1

 

Investment contract withdrawals

 

 

 

(5,224.4

)

 

(5,224.4

)

Net increase in banking operation deposits

 

 

 

68.1

 

 

68.1

 

Other

 

 

 

(3.2

)

 

(3.2

)

Net cash provided by (used in) financing activities

 

1,884.2

 

138.2

 

(2,583.9

)

(365.7

)

(927.2

)

Net increase in cash and cash equivalents

 

1,282.0

 

1,062.6

 

160.9

 

(785.0

)

1,720.5

 

Cash and cash equivalents at beginning of period

 

(2.0

)

546.0

 

2,728.5

 

(664.5

)

2,608.0

 

Cash and cash equivalents at end of period

 

$

1,280.0

 

$

1,608.6

 

$

2,889.4

 

$

(1,449.5

)

$

4,328.5

 

 

Condensed Consolidating Statements of Cash Flows
For the six months ended
June 30, 2008

 

 

 

Principal
Financial
Group, Inc.
Parent Only

 

Principal
Financial
Services, Inc.
Only

 

Principal Life
Insurance
Company and
Other Subsidiaries
Combined

 

Eliminations

 

Principal
Financial
Group, Inc.
Consolidated

 

 

 

(in millions)

 

Operating activities

 

 

 

 

 

 

 

 

 

 

 

Net cash provided by (used in) operating activities

 

$

(25.9

)

$

(51.0

)

$

1,097.8

 

$

52.2

 

$

1,073.1

 

Investing activities

 

 

 

 

 

 

 

 

 

 

 

Available-for-sale securities:

 

 

 

 

 

 

 

 

 

 

 

Purchases

 

 

 

(4,360.4

)

 

(4,360.4

)

Sales

 

 

 

434.2

 

 

434.2

 

Maturities

 

 

 

1,799.4

 

 

1,799.4

 

Mortgage loans acquired or originated

 

 

 

(753.4

)

 

(753.4

)

Mortgage loans sold or repaid

 

 

 

613.8

 

 

613.8

 

Real estate acquired

 

 

 

(11.2

)

 

(11.2

)

Real estate sold

 

 

 

46.0

 

 

46.0

 

Net purchases of property and equipment

 

(0.1

)

 

(49.4

)

 

(49.5

)

Purchases of interests in subsidiaries, net of cash acquired

 

 

(2.3

)

(18.0

)

 

(20.3

)

Dividends received from unconsolidated entities

 

6.1

 

54.1

 

 

(60.2

)

 

Net change in other investments

 

 

20.7

 

(25.6

)

(20.4

)

(25.3

)

Net cash provided by (used in) investing activities

 

6.0

 

72.5

 

(2,324.6

)

(80.6

)

(2,326.7

)

Financing activities

 

 

 

 

 

 

 

 

 

 

 

Issuance of common stock

 

23.6

 

 

 

 

23.6

 

Acquisition of treasury stock

 

(6.1

)

 

 

 

(6.1

)

Proceeds from financing element derivatives

 

 

 

83.3

 

 

83.3

 

Payments for financing element derivatives

 

 

 

(61.1

)

 

(61.1

)

Excess tax benefits from share-based payment arrangements

 

 

 

2.8

 

 

2.8

 

Dividends to preferred stockholders

 

(16.5

)

 

 

 

(16.5

)

Issuance of long-term debt

 

 

 

3.1

 

 

3.1

 

Principal repayments of long-term debt

 

 

 

(12.7

)

 

(12.7

)

Net repayments of short-term borrowings

 

 

(73.6

)

(62.5

)

63.4

 

(72.7

)

Dividends paid to parent

 

 

(6.1

)

(54.1

)

60.2

 

 

Investment contract deposits

 

 

 

6,792.5

 

 

6,792.5

 

Investment contract withdrawals

 

 

 

(5,531.7

)

 

(5,531.7

)

Net increase in banking operation deposits

 

 

 

232.3

 

 

232.3

 

Other

 

 

 

(3.1

)

 

(3.1

)

Net cash provided by (used in) financing activities

 

1.0

 

(79.7

)

1,388.8

 

123.6

 

1,433.7

 

 

 

 

 

 

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

(18.9

)

(58.2

)

162.0

 

95.2

 

180.1

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents at beginning of period

 

(3.2

)

349.1

 

1,665.1

 

(666.6

)

1,344.4

 

Cash and cash equivalents at end of period

 

$

(22.1

)

$

290.9

 

$

1,827.1

 

$

(571.4

)

$

1,524.5

Other Information - Document and Entity Information (USD $)
Share data in Thousands, except Per Share data
Jul. 29, 2009
6 Months Ended
Jun. 30, 2009
Jun. 30, 2008
Document and Entity Information
 
 
 
Entity Registrant Name
 
PRINCIPAL FINANCIAL GROUP INC 
 
Entity Central Index Key
 
0001126328 
 
Document Type
 
10-Q 
 
Document Period End Date
 
06/30/2009 
 
Amendment Flag
 
FALSE 
 
Current Fiscal Year End Date
 
12/31 
 
Entity Well-known Seasoned Issuer
 
Yes 
 
Entity Voluntary Filers
 
No 
 
Entity Current Reporting Status
 
Yes 
 
Entity Filer Category
 
Large Accelerated Filer 
 
Entity Public Float
 
 
$ 10,868,279,906 
Entity Common Stock, Shares Outstanding
318,935.78