Business Segments

Torchmark's reportable segments are based on the insurance product lines it markets and administers: life insurance, health insurance, and annuities. These major product lines are set out as reportable segments because of the common characteristics of products within these categories, comparability of margins, and the similarity in regulatory environment and management techniques. Torchmark's chief operating decision makers evaluate the overall performance of the operations of the Company in accordance with these segments.

Annuity revenue is classified as “Other premium.” Management’s measure of profitability for each insurance segment is insurance underwriting margin, which is underwriting income before other income and insurance administrative expenses. It represents the profit margin on insurance products before administrative expenses, and is calculated by deducting net policy obligations (claims incurred and change in reserves), commissions and other acquisition expenses from premium revenue. Torchmark further views the profitability of each insurance product segment by the marketing groups that distribute the products of that segment: direct response, independent agencies, or captive agencies.

Torchmark’s management prefers to evaluate the performance of its underwriting and investment activities separately, rather than allocating investment income to the underwriting results. As such, the investment function is presented as a stand-alone segment. The investment segment includes the management of the investment portfolio, debt, and cash flow. Management’s measure of profitability for this segment is excess investment income, which is the income earned on the investment portfolio less the required interest on net policy liabilities and financing costs. Financing costs include the interest on Torchmark’s debt. Other income and insurance administrative expense are classified in a separate Other segment.

The majority of the Company’s required interest on net policy liabilities (benefit reserves less the deferred acquisition cost asset) is not credited to policyholder accounts. Instead, it is an actuarial assumption for discounting cash flows in the computation of benefit reserves and the amortization of the deferred acquisition cost asset. Investment income required to fund the required interest on net policy liabilities is removed from the investment segment and applied to the insurance segments to eliminate the effect of the required interest from the insurance segments. As a result, the investment segment measures net investment income against the required interest on net policy liabilities and financing costs, while the insurance segments simply measure premiums against benefits and expenses. Management believes this presentation facilitates a more meaningful analysis of the Company’s underwriting and investment performance as the underwriting results are based on premiums, claims, and expenses and are not affected by unanticipated fluctuations in investment yields.

As noted, Torchmark’s “core operations” are insurance and investment management. The insurance segments issue policies for which premiums are collected for the eventual payment of policy benefits. In addition to policy benefits, operating expenses are incurred including acquisition costs, administrative expenses, and taxes. Because life and health contracts can be long term, premium receipts in excess of current expenses are invested. Investment activities, conducted by the investment segment, focus on seeking quality investments with a yield and term appropriate to support the insurance product obligations. These investments generally consist of fixed maturities, and, over the long term, the expected yields are taken into account when setting insurance premium rates and product profitability expectations. As a result, fixed maturities are generally held for long periods to support the liabilities, and Torchmark generally expects to hold investments until maturity. However, dispositions of investments occur from time to time, generally for reasons such as credit concerns, calls by issuers, or other factors.

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

Torchmark accounts for its stock options and restricted stock under current accounting guidance requiring stock options and stock grants to be expensed based on fair value at the time of grant. Management considers stock compensation expense to be an expense of the Parent Company. Therefore, stock compensation expense is treated as a corporate expense in Torchmark’s segment analysis.

The following tables set forth a reconciliation of Torchmark’s revenues and operations by segment to its pretax income and each significant line item in its Condensed Consolidated Statements of Operations.

Reconciliation of Segment Operating Information to the Condensed Consolidated Statement of Operations



	Three Months Ended June 30, 2017
	Life			Health			Annuity			Investment			Other & Corporate			Adjustments				Consolidated
Revenue:
Premium	$	573,836		$	242,775		$	3												$	816,614
Net investment income										$	212,776									212,776
Other income													$	427		$	(34	)	(2)	393
Total revenue	573,836			242,775			3			212,776			427			(34		)		1,029,783
Expenses:
Policy benefits	388,765			156,579			8,977									2,094			(3)	556,415
Required interest on reserves	(150,652		)	(19,267		)	(12,394		)	182,313										—
Required interest on DAC	46,213			5,840			174			(52,227		)								—
Amortization of acquisition costs	98,473			23,016			632													122,121
Commissions, premium taxes, and non-deferred acquisition costs	43,708			21,351			7									(34		)	(2)	65,032
Insurance administrative expense ⁽¹⁾													51,412							51,412
Parent expense													2,665							2,665
Stock compensation expense													8,351							8,351
Interest expense										21,156										21,156
Total expenses	426,507			187,519			(2,604		)	151,242			62,428			2,060				827,152
Subtotal	147,329			55,256			2,607			61,534			(62,001		)	(2,094		)		202,631
Non-operating items																2,094			(3)	2,094
Measure of segment profitability (pretax)	$	147,329		$	55,256		$	2,607		$	61,534		$	(62,001	)	$	—			204,725
Deduct applicable income taxes																				(62,543		)
Segment profits after tax																				142,182
Add back income taxes applicable to segment profitability																				62,543
Add (deduct) realized investment gains (losses)																				(705		)
Add (deduct) administrative settlements ⁽³⁾																				(2,094		)
Pretax income from continuing operations per Condensed Consolidated Statements of Operations																				$	201,926

(1) Administrative expense is not allocated to insurance segments.

(2) Elimination of intersegment commission.

(3) Administrative settlements.



	Three Months Ended June 30, 2016
	Life			Health			Annuity			Investment			Other & Corporate			Adjustments				Consolidated
Revenue:
Premium	$	548,590		$	237,252		$	13												$	785,855
Net investment income										$	201,642									201,642
Other income													$	422		$	(40	)	(2)	382
Total revenue	548,590			237,252			13			201,642			422			(40		)		987,879
Expenses:
Policy benefits	369,342			153,261			8,882													531,485
Required interest on reserves	(143,625		)	(18,251		)	(12,506		)	174,382										—
Required interest on DAC	44,476			5,766			205			(50,447		)								—
Amortization of acquisition costs	93,663			22,102			1,480													117,245
Commissions, premium taxes, and non-deferred acquisition costs	41,130			21,753			11									(40		)	(2)	62,854
Insurance administrative expense⁽¹⁾													48,413							48,413
Parent expense													2,379							2,379
Stock compensation expense													7,054							7,054
Interest expense										23,110										23,110
Total expenses	404,986			184,631			(1,928		)	147,045			57,846			(40		)		792,540
Subtotal	143,604			52,621			1,941			54,597			(57,424		)	—				195,339
Non-operating items																—				—
Measure of segment profitability (pretax)	$	143,604		$	52,621		$	1,941		$	54,597		$	(57,424	)	$	—			195,339
Deduct applicable income taxes																				(58,649		)
Segment profits after tax																				136,690
Add back income taxes applicable to segment profitability																				58,649
Add (deduct) realized investment gains (losses)																				4,005
Pretax income from continuing operations per Condensed Consolidated Statements of Operations																				$	199,344

(1) Administrative expense is not allocated to insurance segments.

(2) Elimination of intersegment commission.



	Six Months Ended June 30, 2017
	Life			Health			Annuity			Investment			Other & Corporate			Adjustments				Consolidated
Revenue:
Premium	$	1,149,673		$	487,566		$	6												$	1,637,245
Net investment income										$	421,058									421,058
Other income													$	878		$	(69	)	(2)	809
Total revenue	1,149,673			487,566			6			421,058			878			(69		)		2,059,112
Expenses:
Policy benefits	779,844			314,330			17,923									2,094			(3)	1,114,191
Required interest on reserves	(299,477		)	(38,242		)	(24,812		)	362,531										—
Required interest on DAC	92,149			11,649			352			(104,150		)								—
Amortization of acquisition costs	198,378			48,343			1,308													248,029
Commissions, premium taxes, and non-deferred acquisition costs	87,346			42,853			18									(69		)	(2)	130,148
Insurance administrative expense ⁽¹⁾													103,325							103,325
Parent expense													4,898							4,898
Stock compensation expense													16,546							16,546
Interest expense										41,855										41,855
Total expenses	858,240			378,933			(5,211		)	300,236			124,769			2,025				1,658,992
Subtotal	291,433			108,633			5,217			120,822			(123,891		)	(2,094		)		400,120
Non-operating items																2,094			(3)	2,094
Measure of segment profitability (pretax)	$	291,433		$	108,633		$	5,217		$	120,822		$	(123,891	)	$	—			402,214
Deduct applicable income taxes																				(121,361		)
Segment profits after tax																				280,853
Add back income taxes applicable to segment profitability																				121,361
Add (deduct) realized investment gains (losses)																				(6,453		)
Add (deduct) administrative settlements ⁽³⁾																				(2,094		)
Pretax income from continuing operations per Condensed Consolidated Statements of Operations																				$	393,667

(1) Administrative expense is not allocated to insurance segments.

(2) Elimination of intersegment commission.

(3) Administrative settlements.



	Six Months Ended June 30, 2016
	Life			Health			Annuity			Investment			Other & Corporate			Adjustments				Consolidated
Revenue:
Premium	$	1,092,741		$	472,949		$	25												$	1,565,715
Net investment income										$	398,695									398,695
Other income													$	887		$	(84	)	(2)	803
Total revenue	1,092,741			472,949			25			398,695			887			(84		)		1,965,213
Expenses:
Policy benefits	732,202			306,036			18,220													1,056,458
Required interest on reserves	(285,636		)	(36,327		)	(25,598		)	347,561										—
Required interest on DAC	88,678			11,508			429			(100,615		)								—
Amortization of acquisition costs	188,202			44,467			3,382													236,051
Commissions, premium taxes, and non-deferred acquisition costs	81,391			43,129			20									(84		)	(2)	124,456
Insurance administrative expense⁽¹⁾													96,881							96,881
Parent expense													4,405							4,405
Stock compensation expense													13,989							13,989
Interest expense										42,479										42,479
Total expenses	804,837			368,813			(3,547		)	289,425			115,275			(84		)		1,574,719
Subtotal	287,904			104,136			3,572			109,270			(114,388		)	—				390,494
Non-operating items																—				—
Measure of segment profitability (pretax)	$	287,904		$	104,136		$	3,572		$	109,270		$	(114,388	)	$	—			390,494
Deduct applicable income taxes																				(120,420		)
Segment profits after tax																				270,074
Add back income taxes applicable to segment profitability																				120,420
Add (deduct) realized investment gains (losses)																				4,298
Pretax income from continuing operations per Condensed Consolidated Statements of Operations																				$	394,792

(1) Administrative expense is not allocated to insurance segments.

(2) Elimination of intersegment commission.

The following table summarizes the measures of segment profitability for comparison. It also reconciles segment profits to net income.

Analysis of Profitability by Segment



	Three Months Ended June 30,						Six Months Ended June 30,
	2017			2016			2017			2016
Life insurance underwriting margin	$	147,329		$	143,604		$	291,433		$	287,904
Health insurance underwriting margin	55,256			52,621			108,633			104,136
Annuity underwriting margin	2,607			1,941			5,217			3,572
Excess investment income	61,534			54,597			120,822			109,270
Other insurance:
Other income	427			422			878			887
Administrative expense	(51,412		)	(48,413		)	(103,325		)	(96,881		)
Corporate and adjustments	(11,016		)	(9,433		)	(21,444		)	(18,394		)
Segment profits before tax	204,725			195,339			402,214			390,494
Applicable taxes	(62,543		)	(58,649		)	(121,361		)	(120,420		)
Segment profits after tax	142,182			136,690			280,853			270,074
Discontinued operations (after tax)	(90		)	(865		)	(3,727		)	(10,406		)
Net operating income	142,092			135,825			277,126			259,668
Reconciling items, net of tax:
Realized gains (losses)—investments (after tax)	(458		)	2,604			(1,951		)	2,794
Administrative settlements (after tax)	(1,361		)	—			(1,361		)	—
Net income	$	140,273		$	138,429		$	273,814		$	262,462