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| AFL > SEC Filings for AFL > Form 10-Q on 8-May-2009 | All Recent SEC Filings |
8-May-2009
Quarterly Report
FORWARD-LOOKING INFORMATION
The Private Securities Litigation Reform Act of 1995 provides a "safe harbor"
to encourage companies to provide prospective information, so long as those
informational statements are identified as forward-looking and are accompanied
by meaningful cautionary statements identifying important factors that could
cause actual results to differ materially from those included in the
forward-looking statements. We desire to take advantage of these provisions.
This report contains cautionary statements identifying important factors that
could cause actual results to differ materially from those projected herein, and
in any other statements made by Company officials in communications with the
financial community and contained in documents filed with the Securities and
Exchange Commission (SEC). Forward-looking statements are not based on
historical information and relate to future operations, strategies, financial
results or other developments. Furthermore, forward-looking information is
subject to numerous assumptions, risks and uncertainties. In particular,
statements containing words such as "expect," "anticipate," "believe," "goal,"
"objective," "may," "should," "estimate," "intends," "projects," "will,"
"assumes," "potential," "target" or similar words as well as specific
projections of future results, generally qualify as forward-looking. Aflac
undertakes no obligation to update such forward-looking statements.
We caution readers that the following factors, in addition to other factors
mentioned from time to time, could cause actual results to differ materially
from those contemplated by the forward-looking statements:
• difficult conditions in global capital markets and the economy generally
• governmental actions for the purpose of stabilizing the financial markets
• defaults and downgrades in certain securities in our investment portfolio
• impairment of financial institutions
• credit and other risks associated with Aflac's investment in hybrid securities
• differing judgments applied to investment valuations
• subjective determinations of amount of impairments taken on our investments
• realization of unrealized losses
• limited availability of acceptable yen-denominated investments
• concentration of our investments in any particular sector
• concentration of business in Japan
• ongoing changes in our industry
• exposure to significant financial and capital markets risk
• fluctuations in foreign currency exchange rates
• significant changes in investment yield rates
• deviations in actual experience from pricing and reserving assumptions
• subsidiaries' ability to pay dividends to the Parent Company
• changes in regulation by governmental authorities
• ability to attract and retain qualified sales associates and employees
• ability to continue to develop and implement improvements in information technology systems
• changes in U.S. and/or Japanese accounting standards
• decreases in our financial strength or debt ratings
• level and outcome of litigation
• ability to effectively manage key executive succession
• catastrophic events
• failure of internal controls or corporate governance policies and procedures
COMPANY OVERVIEW
Aflac Incorporated (the Parent Company) and its subsidiaries (collectively,
the Company) primarily sell supplemental health and life insurance in the United
States and Japan. The Company's insurance business is marketed and administered
through American Family Life Assurance Company of Columbus (Aflac), which
operates in the United States (Aflac U.S.) and as a branch in Japan (Aflac
Japan). Most of Aflac's policies are individually underwritten and marketed
through independent agents. Our insurance operations in the United States and
our branch in Japan service the two markets for our insurance business.
MD&A OVERVIEW
Management's Discussion and Analysis of Financial Condition and Results of
Operations (MD&A) is intended to inform the reader about matters affecting the
financial condition and results of operations of Aflac Incorporated and its
subsidiaries for the period from December 31, 2008, to March 31, 2009. As a
result, the following discussion should be read in conjunction with the
consolidated financial statements and notes that are included in our annual
report to shareholders for the year ended December 31, 2008. This MD&A is
divided into the following sections:
• Critical accounting estimates
• Results of operations, consolidated and by segment
• Analysis of financial condition, including discussion of market risks of financial instruments
• Capital Resources and Liquidity, including discussion of availability of capital and the sources and uses of cash
RESULTS OF OPERATIONS
The following table is a presentation of items impacting net earnings and net
earnings per diluted share for the three-month periods ended March 31.
Items Impacting Net Earnings
In Millions Per Diluted Share
2009 2008 2009 2008
Net earnings $ 569 $ 474 $ 1.22 $ .98
Items impacting net earnings, net of tax:
Realized investment gains (losses) (6 ) (4 ) (.01 ) (.01 )
Impact from SFAS 133 (3 ) 3 (.01 ) .01
Gain on extinguishment of debt 10 - .02 -
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Realized Investment Gains and Losses
Our investment strategy is to invest in investment-grade fixed-income
securities to provide a reliable stream of investment income, which is one of
the drivers of the Company's profitability. This investment strategy aligns our
assets with our liability structure, which our assets support. We do not
purchase securities with the intent of generating capital gains or losses.
However, investment gains and losses may be realized as a result of changes in
the financial markets and the creditworthiness of specific issuers, tax planning
strategies, and/or general portfolio maintenance and rebalancing. The
realization of investment gains and losses is independent of the underwriting
and administration of our insurance products, which are the principal drivers of
our profitability.
During the first quarter of 2009, realized pretax investment gains of
$225 million ($146 million after tax) were generated through bond swaps to take
advantage of tax loss carryforwards from previously incurred investment losses.
We realized total pretax investment losses of $234 million ($152 million after
tax), as a result of the recognition of other-than-temporary impairment losses.
These other-than-temporary impairment losses consisted of $65 million
($42 million after tax) recognized on certain of our perpetual security
investments; $114 million ($74 million after tax) recognized on certain of our
collateralized debt obligation (CDO) investments; $49 million ($32 million after
tax) recognized on corporate bonds of two issuers, Ford Motor Company and
Security Benefit Life; and $6 million ($4 million after tax) recognized on
certain collateralized mortgage obligations (CMOs).
During the first quarter of 2008, we realized pretax investment losses of
$7 million (after-tax, $4 million, or $.01 per diluted share) primarily as a
result of securities sold or redeemed in the normal course of business.
See Note 3 of the Notes to the Consolidated Financial Statements for more
information on our realized investment gains and losses.
Impact from SFAS 133
We had cross-currency swap agreements to effectively convert our
dollar-denominated senior notes, which matured in April 2009, into a
yen-denominated obligation. We designated the foreign currency component of
these cross-currency swaps as a hedge of the foreign currency exposure of our
investment in Aflac Japan. The effect of issuing fixed-rate, dollar-denominated
debt and swapping it into fixed-rate, yen-denominated debt has the same economic
impact on Aflac as if we had issued yen-denominated debt of a like amount.
However, the accounting treatment for cross-currency swaps is different from
issuing yen-denominated Samurai and Uridashi notes. SFAS No. 133, "Accounting
for Derivative Instruments and Hedging Activities, as amended" (SFAS 133),
requires that the change in the fair value of the interest rate component of the
cross-currency swaps, which does not qualify for hedge accounting, be reflected
in net earnings. This change in fair value is determined by relative dollar and
yen interest rates and has no cash impact on our results of operations. At
maturity, the fair value equaled initial contract fair value, and the cumulative
impact of gains and losses from the changes in fair value of the interest
component was zero. We had the ability and intent to retain the cross-currency
swaps until they expired in April 2009. The impact from SFAS 133 includes the
change in fair value of the interest rate component of the cross-currency swaps,
which does not qualify for hedge accounting, and is included in other income.
We have also issued yen-denominated Samurai and Uridashi notes. We have
designated these notes as a hedge of our investment in Aflac Japan. If the value
of these yen-denominated notes and the notional amounts of the cross-currency
swaps exceed our investment in Aflac Japan, we would be required to recognize
the foreign currency effect on the excess, or ineffective portion, in net
earnings (other income). The ineffective portion would be included in the impact
from SFAS 133. These hedges were effective during the three-month periods ended
March 31, 2009 and 2008; therefore, there was no impact on net earnings.
We have interest rate swap agreements related to the 20 billion yen variable
interest rate Uridashi notes and have designated the swap agreements as a hedge
of the variability of the debt cash flows. The notional amounts and terms of the
swaps match the principal amount and terms of the variable interest rate
Uridashi notes, and the swaps had no value at inception. SFAS 133 requires that
the change in the fair value of the swap contracts be recorded in other
comprehensive income so long as
the hedge is deemed effective. Any ineffectiveness would be recognized in net
earnings (other income) and would be included in the impact from SFAS 133. These
hedges were effective during the three-month periods ended March 31, 2009 and
2008; therefore, there was no impact on net earnings.
For additional information, see the Impact from SFAS 133 section of MD&A and
Notes 4 and 7 of the Notes to the Consolidated Financial Statements in our
annual report to shareholders for the year ended December 31, 2008.
Debt Extinguishment
During the first quarter of 2009, we extinguished portions of our
yen-denominated Uridashi and Samurai debt by buying the notes on the open
market. We realized a total gain from extinguishment of debt of 1.5 billion yen,
or $15 million ($10 million after tax), which we included in other income.
Foreign Currency Translation
Aflac Japan's premiums and most of its investment income are received in yen.
Claims and expenses are paid in yen, and we primarily purchase yen-denominated
assets to support yen-denominated policy liabilities. These and other
yen-denominated financial statement items are translated into dollars for
financial reporting purposes. We translate Aflac Japan's yen-denominated income
statement into dollars using an average exchange rate for the reporting period,
and we translate its yen-denominated balance sheet using the exchange rate at
the end of the period. However, it is important to distinguish between
translating and converting foreign currency. Except for a limited number of
transactions, we do not actually convert yen into dollars.
Due to the size of Aflac Japan, where our functional currency is the Japanese
yen, fluctuations in the yen/dollar exchange rate can have a significant effect
on our reported results. In periods when the yen weakens, translating yen into
dollars results in fewer dollars being reported. When the yen strengthens,
translating yen into dollars results in more dollars being reported.
Consequently, yen weakening has the effect of suppressing current period results
in relation to the comparable prior period, while yen strengthening has the
effect of magnifying current period results in relation to the comparable prior
period. As a result, we view foreign currency translation as a financial
reporting issue for Aflac and not an economic event to our Company or
shareholders. Because changes in exchange rates distort the growth rates of our
operations, management evaluates Aflac's financial performance excluding the
impact of foreign currency translation.
Income Taxes
Our combined U.S. and Japanese effective income tax rate on pretax earnings
was 34.7% for the three-month periods ended March 31, 2009 and 2008.
Earnings Guidance
We communicate earnings guidance in this report based on the growth in net
earnings per diluted share. However, certain items that cannot be predicted or
that are outside of management's control may have a significant impact on actual
results. Therefore, our comparison of net earnings includes certain assumptions
to reflect the limitations that are inherent in projections of net earnings. In
comparing period-over-period results, we exclude the effect of realized
investment gains and losses, the impact from SFAS 133 and nonrecurring items. We
also assume no impact from foreign currency
translation on the Aflac Japan segment and the Parent Company's yen-denominated
interest expense for a given period in relation to the prior period.
Subject to the preceding assumptions, our objective for 2009 is to increase
net earnings per diluted share by 13% to 15% over 2008. If we achieve this
objective, the following table shows the likely results for 2009 net earnings
per diluted share, including the impact of foreign currency translation using
various yen/dollar exchange rate scenarios.
2009 Net Earnings Per Share (EPS) Scenarios*
Weighted-Average
Yen/Dollar Net Earnings Per % Growth Yen Impact
Exchange Rate Diluted Share Over 2008 on EPS
85.00 $5.04 - 5.12 26.3 - 28.3% $ .53
90.00 4.87 - 4.96 22.1 - 24.3 .37
95.00 4.73 - 4.81 18.5 - 20.6 .22
100.00 4.59 - 4.68 15.0 - 17.3 .09
103.46 ** 4.51 - 4.59 13.0 - 15.0 -
105.00 4.47 - 4.55 12.0 - 14.0 (.04 )
110.00 4.37 - 4.44 9.5 - 11.3 (.15 )
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* Excludes realized investment gains/losses, impact from SFAS 133 and nonrecurring items in 2009 and 2008
** Actual 2008
weighted-average
exchange rate
AFLAC JAPAN SEGMENT
Aflac Japan Pretax Operating Earnings
Changes in Aflac Japan's pretax operating earnings and profit margins are
primarily affected by morbidity, mortality, expenses, persistency, and
investment yields. The following table presents a summary of operating results
for Aflac Japan.
Aflac Japan Summary of Operating Results
Three Months Ended March 31,
(In millions) 2009 2008
Premium income $ 3,012 $ 2,585
Net investment income:
Yen-denominated investment income 371 315
Dollar-denominated investment income 189 181
Net investment income 560 496
Other income 7 (1 )
Total operating revenues 3,579 3,080
Benefits and claims 2,202 1,922
Operating expenses:
Amortization of deferred policy acquisition costs 124 96
Insurance commissions 267 239
Insurance and other expenses 305 269
Total operating expenses 696 604
Total benefits and expenses 2,898 2,526
Pretax operating earnings* $ 681 $ 554
Weighted-average yen/dollar exchange rate 93.37 105.06
In Dollars In Yen
Percentage change over previous period: 2009 2008 2009 2008
Premium income 16.5 % 17.7 % 3.6 % 3.6 %
Net investment income 12.9 13.7 .5 .2
Total operating revenues 16.2 16.6 3.3 2.7
Pretax operating earnings* 22.9 19.2 9.3 4.8
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* See the Insurance Operations section of this MD&A for our definition of segment operating earnings.
The percentage increases in premium income reflect the growth of premiums in
force. The increases in annualized premiums in force in yen of 3.1% in the first
quarter of 2009 and 3.7% for the same period of 2008 reflect the high
persistency of Aflac Japan's business and the sales of new policies. Annualized
premiums in force at March 31, 2009, were 1.17 trillion yen, compared with 1.13
trillion yen a year ago. Annualized premiums in force, translated into dollars
at respective period-end exchange rates, were $11.9 billion at March 31, 2009,
compared with $11.3 billion a year ago.
Aflac Japan maintains a portfolio of dollar-denominated and reverse-dual
currency securities (yen-denominated debt securities with dollar coupon
payments). Dollar-denominated investment income from these assets accounted for
approximately 34% of Aflac Japan's investment income in the first three months
of 2009, compared with 37% a year ago. In periods when the yen strengthens in
relation to the dollar, translating Aflac Japan's dollar-denominated investment
income into yen lowers
growth rates for net investment income, total operating revenues, and pretax
operating earnings in yen terms. In periods when the yen weakens, translating
dollar-denominated investment income into yen magnifies growth rates for net
investment income, total operating revenues, and pretax operating earnings in
yen terms. On a constant currency basis, dollar-denominated investment income
accounted for approximately 36% of Aflac Japan's investment income during the
first three months of 2009. The following table illustrates the effect of
translating Aflac Japan's dollar-denominated investment income and related items
into yen by comparing certain segment results with those that would have been
reported had yen/dollar exchange rates remained unchanged from the comparable
period in the prior year.
Aflac Japan Percentage Changes Over Previous Period
Three Months Ended March 31,
Including Foreign Currency Changes Excluding Foreign Currency Changes**
2009 2008 2009 2008
Net investment income .5 % .2 % 4.6 % 5.1 %
Total operating revenues 3.3 2.7 3.7 3.8
Pretax operating earnings* 9.3 4.8 11.2 10.6
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* See the Insurance Operations section of this MD&A for our definition of segment operating earnings.
** Amounts excluding
foreign currency
changes on
dollar-denominated
items were
determined using
the same
yen/dollar
exchange rate for
the current period
as the comparable
period in the
prior year.
The following table presents a summary of operating ratios for Aflac Japan.
Three Months Ended March 31,
Ratios to total revenues: 2009 2008
Benefits and claims 61.5 % 62.4 %
Operating expenses:
Amortization of deferred policy acquisition costs 3.5 3.1
Insurance commissions 7.5 7.7
Insurance and other expenses 8.5 8.8
Total operating expenses 19.5 19.6
Pretax operating earnings* 19.0 18.0
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* See the Insurance Operations section of this MD&A for our definition of segment operating earnings.
The benefit ratio has declined over the past several years, reflecting the impact of newer products and riders with lower loss ratios. We have also experienced favorable claim trends in our major product lines. We expect the improvement in the benefit ratio to continue as we shift to newer products and riders and benefit from the impact of favorable claim trends. However, this improvement is partially offset by the effect of low investment yields, which impacts our profit margin by reducing the spread between investment yields and required interest on policy reserves. The operating expense ratio decreased slightly in the first quarter of 2009, compared with the same period a year ago. We expect the operating expense ratio to increase slightly in 2009 in relation to prior year. Due to continued improvement in the benefit and expense ratios, the pretax operating profit margin expanded in the three-month period ended March 31, 2009. We expect continued expansion in the profit margin through the remainder of 2009.
Aflac Japan Sales
The following table presents Aflac Japan's total new annualized premium sales
for the three-month periods ended March 31.
In Dollars In Yen
. . .
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