-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, D9Ie6yzfqsVL97nd6SbsmX4924TvpAjjWR/S8Kt0dUIAFbsBjAs9nfeLcgad1yy2 YDhCyECXVBVqklhdSk0j9A== 0000931763-02-000948.txt : 20020415 0000931763-02-000948.hdr.sgml : 20020415 ACCESSION NUMBER: 0000931763-02-000948 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 7 CONFORMED PERIOD OF REPORT: 20011231 FILED AS OF DATE: 20020328 FILER: COMPANY DATA: COMPANY CONFORMED NAME: UNUMPROVIDENT CORP CENTRAL INDEX KEY: 0000005513 STANDARD INDUSTRIAL CLASSIFICATION: ACCIDENT & HEALTH INSURANCE [6321] IRS NUMBER: 621598430 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-11834 FILM NUMBER: 02591441 BUSINESS ADDRESS: STREET 1: 1 FOUNTAIN SQUARE CITY: CHATTANOOGA STATE: TN ZIP: 37402 BUSINESS PHONE: 2077702211 MAIL ADDRESS: STREET 1: 1 FOUNTAIN SQUARE CITY: CHATTANOOGA STATE: TN ZIP: 37402 FORMER COMPANY: FORMER CONFORMED NAME: PROVIDENT COMPANIES INC /DE/ DATE OF NAME CHANGE: 19961204 FORMER COMPANY: FORMER CONFORMED NAME: PROVIDENT LIFE & ACCIDENT INSURANCE CO OF AMERICA DATE OF NAME CHANGE: 19950407 10-K 1 d10k.txt FORM 10-K SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 FORM 10-K Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the fiscal year ended December 31, 2001. Commission file number 1-11834 UnumProvident Corporation (Exact name of registrant as specified in its charter) Delaware 62-1598430 (State of other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 1 FOUNTAIN SQUARE CHATTANOOGA, TENNESSEE 37402 (Address of principal executive offices) 423.755.1011 (Registrant's telephone number, including area code) Not Applicable (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered ------------------- ----------------------------------------- Common stock, $0.10 par value New York Stock Exchange 6.75% Notes, due 2028 New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [_] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. As of March 18, 2002, there were 242,861,945 shares of the registrant's common stock outstanding. The aggregate market value of the shares of common stock, based on the closing price of those shares on the New York Stock Exchange, Inc., held by non-affiliates was approximately $6.1 billion. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Proxy Statement for the annual meeting of shareholders to be held May 15, 2002 are incorporated by reference into Part III. TABLE OF CONTENTS PART I Page Cautionary Statement Regarding Forward-Looking Statements ............ 1 1. Business ............................................................. 2 A. General ......................................................... 2 B. Business Strategies ............................................ 4 C. Reporting Segments ............................................. 5 D. Reinsurance .................................................... 9 E. Reserves ....................................................... 10 F. Investments...................................................... 11 G. Competition .................................................... 11 H. Regulation ..................................................... 11 I. Risk Factors ................................................... 12 J. Selected Data of Segments ...................................... 14 K. Employees ...................................................... 14 2. Properties .......................................................... 15 3. Legal Proceedings ................................................... 15 4. Submission of Matters to a Vote of Security Holders ................. 15 PART II 5. Market for the Registrant's Common Equity and Related Stockholder Matters ........................................................... 16 6. Selected Financial Data ............................................. 17 7. Management's Discussion and Analysis of Financial Condition and Results of Operations ............................................. 18 7A. Quantitative and Qualitative Information about Market Risk .......... 42 8. Financial Statements and Supplementary Data ......................... 43 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure .............................................. 92 PART III 10. Directors and Executive Officers of the Registrant .................. 93 11. Executive and Director Compensation ................................. 94 12. Security Ownership of Certain Beneficial Owners and Management ...... 94 13. Certain Relationships and Related Transactions ...................... 94 PART IV 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K .... 95 Signatures .......................................................... 96 Index to Exhibits ................................................... 107 PART I Cautionary Statement Regarding Forward-Looking Statements The Private Securities Litigation Reform Act of 1995 (the Act) provides a "safe-harbor" for forward-looking statements which are identified as such and are accompanied by the identification of important factors which could cause actual results to differ materially from the forward-looking statements. UnumProvident Corporation (the Company) claims the protection afforded by the safe harbor in the Act. Certain information contained in this discussion, or in any other written or oral statements made by the Company, is or may be considered as forward-looking. Examples of disclosures that contain such information include, among others, sales estimates, income projections, and reserves and related assumptions. Forward-looking statements are those not based on historical information, but rather relate to future operations, strategies, financial results, or other developments. These statements may be made directly in this document or may be made part of this document by reference to other documents filed with the Securities and Exchange Commission by the Company, which is known as "incorporation by reference." You can find many of these statements by looking for words such as "may," "should," "believes," "expects," "anticipates," "estimates," "intends," "projects," "goals," "objectives," or similar expressions in this document or in documents incorporated herein. These forward-looking statements are subject to numerous assumptions, risks, and uncertainties. Factors that may cause actual results to differ materially from those contemplated by the forward-looking statements include, among others, the following possibilities: . Insurance reserve liabilities can fluctuate as a result of changes in numerous factors, and such fluctuations can have material positive or negative effects on net income. . Actual persistency may be lower than projected persistency, resulting in lower than expected revenue and higher than expected amortization of deferred policy acquisition costs. . Incidence and recovery rates may be influenced by, among other factors, the emergence of new diseases, new trends and developments in medical treatments, and the effectiveness of risk management programs. . Retained risks in the Company's reinsurance operations, including the credit risk of the reinsurers, are influenced by many factors. Any material changes in these factors can have material positive or negative effects on results. . Effectiveness in supporting new product offerings and providing customer service may not meet expectations. . Sales growth may be less than planned, which will impact revenue and profitability. . Actual experience may deviate from that assumed in pricing and underwriting. . Competitive pressures in the insurance industry may increase significantly through industry consolidation, competitor demutualization, or otherwise. . General economic or business conditions, both domestic and foreign, may be less favorable than expected, which can impact premium levels, claims experience, and investment results, including credit deterioration of investments. . Legislative or regulatory changes may adversely affect the businesses in which the Company is engaged. . Changes in the interest rate environment may adversely affect reserve and policy assumptions and ultimately profit margins. . The level and results of claim-related litigation may vary from that previously experienced by the Company's insurance subsidiaries. . Events or consequences relating to terrorism and acts of war, both domestic and foreign, which are in many respects unpredictable, may adversely affect the Company's business and may also affect the availability and cost of reinsurance. For further discussion of risks and uncertainties which could cause actual results to differ from those contained in the forward-looking statements, see "Risk Factors" contained herein in Item 1. All subsequent written and oral forward-looking statements attributable to the Company or any person acting on its behalf are expressly qualified in their entirety by the cautionary statements contained or referred to in this section. The Company does not undertake any obligation to release publicly any revisions to such forward-looking statements to reflect events or circumstances after the date of this document or to reflect the occurrence of unanticipated events. 1 ITEM 1. BUSINESS General The Company, a Delaware general business corporation, is the parent holding company for a group of insurance and non-insurance companies that collectively operate throughout North America and in the United Kingdom and Japan. The Company's principal operating subsidiaries are Unum Life Insurance Company of America (Unum America), Provident Life and Accident Insurance Company (Accident), The Paul Revere Life Insurance Company (Paul Revere Life), and Colonial Life & Accident Insurance Company (Colonial). The Company, through its subsidiaries, is the largest provider of group and individual disability insurance in North America and the United Kingdom. It also provides a complementary portfolio of other insurance products, including long-term care insurance, life insurance, employer- and employee-paid group benefits, and related services. The Company is the surviving corporation in the merger on June 30, 1999 of Provident Companies Inc. (Provident), the leading individual disability insurance provider in North America, with Unum Corporation (Unum), the leading group disability insurance provider. In the merger, Provident shareholders received 0.73 shares of the Company's common stock for each Provident share, and Unum shareholders received one share of the Company's common stock for each Unum share. During the years preceding the merger, both Provident and Unum pursued strategies of divesting non-core businesses and leveraging their respective disability insurance expertise. In Provident's case, this strategy was the continuation of a new business focus initiated by J. Harold Chandler after joining Provident in 1993. Provident successfully undertook a number of major initiatives in pursuing this strategy prior to the merger with Unum. Specifically, Provident (i) sold its group medical business, (ii) began winding down its guaranteed investment contracts (GICs) business which carried high capital requirements, (iii) reduced the annual dividend on the common stock to preserve capital to fund future growth, (iv) simplified the corporate legal structure and eliminated a dual class of common stock that had special voting rights in order to present a more conventional corporate structure profile to the investing market, (v) sold in six transactions $1.5 billion in commercial mortgage loans as part of repositioning its investment portfolio, (vi) restructured its marketing and distribution channels, along with the support areas of product development, underwriting, and claims, to better reach and serve individual and employee benefits customers, (vii) strengthened its claims management procedures and return-to-work capabilities in the disability income insurance business, and (viii) began restructuring its disability income products to discontinue over a reasonable period the sale of policies which combined noncancelable contracts with long-term own-occupation provisions and to offer in their place an income replacement contract with more reasonable limits and better pricing for elective provisions. In addition, Provident acquired The Paul Revere Corporation (Paul Revere) and GENEX Services, Inc. (GENEX) in early 1997 and disposed of certain non-core lines of business. These actions strengthened Provident's disability insurance capabilities and enabled Provident to offer a comprehensive and well-focused portfolio of products and services to its customers. From 1989 through 1997 Paul Revere was the largest provider of individual disability insurance in North America on the basis of in-force premiums. By combining Paul Revere's operations with those of Provident, Provident realized significant operating efficiencies, including leveraging both companies' knowledge of disability risks, specialized claims and underwriting skills, and sales expertise. Provident also realized cost savings as a result of combining the corporate, administrative, and financial operations of the two companies. GENEX provides specialized skills in disability case management and vocational rehabilitation that advance the goal of providing products that enable disabled policyholders to return to work. As it continued to assess acquisition opportunities that could complement its core business, Provident also continued to assess and exit non-core lines. In 1997, Provident transferred its dental business to another insurer. During 1998, Provident reinsured substantially all of its in-force medical stop-loss insurance business. Also during 1998, Provident sold its in-force individual and tax-sheltered annuity business. The transaction did not include Provident's block of GICs or group single premium annuities (SPAs), which continued in a run-off mode. 2 In the years prior to the merger Unum also pursued a strategy it had adopted after its demutualization in 1986 of focusing on its core disability businesses. In 1993, Unum merged with Colonial Companies, Inc., the parent company of Colonial, a leader in payroll marketing of supplemental insurance, focused on accident, cancer, and a range of life insurance products. In 1996, Unum sold its group tax-sheltered annuity (TSA) business. Through the continued development of Unum Japan Accident Insurance Company Limited (Unum Japan), Unum also furthered its expansion into foreign disability markets that began with the acquisition in 1990 of Unum Limited, the leading disability insurer in the United Kingdom. In April 1999, Unum decided to exit its reinsurance operations, including the reinsurance management operations of Duncanson & Holt, Inc. (D&H) and the risk assumption by Unum America, including reinsurance pool participation; direct reinsurance which includes accident and health (A&H), long-term care (LTC), and long-term disability coverages; and Lloyd's of London (Lloyd's) syndicate participations. Subsequent to the merger, the Company continued to enter into transactions designed to more closely focus its operations on its core businesses. During 1999, the Company completed the sale of certain divisions of the North American reinsurance management operations of D&H and the reinsurance of the Company's risk participation in these facilities. The Company also decided to discontinue its accident reinsurance business in London beginning in year 2000. With respect to Lloyd's, the Company implemented a strategy which limited participation in year 2000 underwriting risks, ceased participation in Lloyd's underwriting risks after year 2000, and managed the run-off of its risk participation in open years of account of Lloyd's reinsurance syndicates. During 2000, the Company reinsured on a 100 percent indemnity coinsurance basis substantially all of the individual life insurance and corporate-owned life insurance policies written by the Company's insurance subsidiaries, as well as a small block of individually underwritten group life insurance. Separately, the Company reinsured on a 100 percent indemnity coinsurance basis the future claim payments on long duration group long-term disability claims in Paul Revere Life which were incurred prior to January 1, 1996. The Company also entered into a reinsurance agreement under which Unum America now cedes, through a net quota share reinsurance agreement, 50 percent of the group life volume above Unum America's aggregate retention limit. During 2001, the Company entered into an agreement in principle to limit its liabilities pertaining to the Lloyd's syndicate participations. Separately, the Company also reinsured 100 percent of the group disability reinsurance reserves and all future business underwritten and managed by Duncanson and Holt Services, Inc., a subsidiary of D&H, effective January 1, 2001. In a separate but related transaction, the Company also sold the reinsurance management operations of Duncanson and Holt Services, Inc. and divested the remaining assets of that facility. In 2001, the Company acquired the assets of EmployeeLife.com, an Internet Capital Group partner company. This new subsidiary, Benefit Technologies, Inc. (doing business under the name BenefitAmerica), will enhance customer service by offering Internet business solutions to help employers efficiently manage and administer employee benefits. The Company also acquired Resource Opportunities, Inc. (ROI), a national provider of medical and vocational case management services. ROI will improve GENEX's ability to service its customers, in turn benefiting the Company's insurance customers. Also in 2001, the Company sold Provident National Assurance Company, an inactive insurance subsidiary. Provident National Assurance Company's general account liabilities were reinsured by another subsidiary of the Company, and the excess capital and surplus was transferred to the parent to reduce short-term borrowings. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the "Notes to Consolidated Financial Statements" contained herein in Items 7 and 8 for further discussion. 3 Business Strategies The Company's objective is to grow its business and further enhance profitability by providing: Comprehensive Solutions for Income Protection and Related Needs The Company offers a comprehensive portfolio of income protection products and services. These coverage choices, available in the employee benefit, individual, and voluntary market segments, seek to meet the diverse needs of the marketplace. The Company seeks to achieve a competitive advantage by offering group, individual, and voluntary workplace products that can combine with other coverages to provide integrated product solutions for customers. Employees are increasingly turning to the workplace for access to quality insurance protection. Through return-to-work expertise and a comprehensive portfolio of basic employee benefits, as well as supplemental, voluntary, and executive product offerings, the Company offers businesses of all sizes highly competitive benefits to protect the incomes and lifestyles of employees and their families. Income protection solutions include integrated short-term and long-term disability income protection plans with flexible coverage and funding options. The Company's broad portfolio also includes individual income protection products that help protect individual customers and their families from the financial effects of accidents or illnesses. The products feature choices suited to different ages, incomes, family needs, and lifestyles. Also offered is long-term care insurance as a lifestyle protection solution product. In order to give the appropriate focus to these three primary business markets, the Company has established national practice groups to focus on large employers, executive benefits, and voluntary benefits. These national practice groups partner with the Company's sales force as well as representatives from claims, customer service, and underwriting to present coverage solutions to potential customers and to manage existing customer accounts. Benefits Emphasizing Return to Work The Company's organization and range of offerings are designed to help employers better manage lost time from the workplace and improve productivity. Impairment-based Claims Management with a Clinical Focus: The Company has -------------------------------------------------------- made considerable investments in clinical resources and created a specialty process for handling long-duration claims based on the type of injury or illness. This process, along with the more than 80 physicians in 14 subspecialties, 300 centralized clinical and vocational specialists, and 1000 more who are field-based, is designed to promote return-to-work and absence management. Return to Work (RTW) Program Planning: The Company offers a combination of ------------------------------------- web-based resources and access to RTW planners to provide employers opportunities to impact their workplace productivity by strategically designing and formalizing RTW programs. Some customers using the Company's customized RTW program have experienced a significant reduction in lost work days and medical costs. Family Medical Leave Act (FMLA) Absence Management: Offering -------------------------------------------------- administration and compliance for complex FMLA and state leave regulations, the Company's FMLA services unit can help employers improve absence management. Integrated Disability Management: By combining the Company's early -------------------------------- intervention, rehabilitation, and cost containment resources with the worker's compensation provider a customer chooses, employers are offered the benefit of integrated reporting and disability case management. 4 Comparative Reporting and Analysis: With web-based access to the Company's ---------------------------------- private disability database, customers can compare their claim results with those of peer companies to allow analysis of trends in their claim experience with others in their industry. This provides them with a tool to focus on changes in plan design or internal corporate policies needed to promote return-to-work. Highly Responsive Service for Customers and their Advisors The Company is committed to providing a high quality service experience for all customers and their advisors. Through a variety of technology tools and trained service professionals, the Company offers a service environment designed to be responsive, timely, and a committed to service excellence. A suite of services is in place to support customers and their advisors. For advisors, the Company offers Internet-based portal access to work in process and marketing materials. Dedicated service professionals respond to requests for individual sales proposals. Dedicated account management service professionals in local sales offices assist both advisors and customers in plan design, contract implementation, and service delivery. For advisors, the Company offers technology and call center supported contracting and compensation administration services that are designed to make it easy to do business. The Company's employer customers are assigned service professionals in local sales offices to support and address their implementation and ongoing service needs. Larger employer customers are also assigned Customer Care (claims management and return-to-work services) account managers located in the home office who can provide support for several ongoing programs. There are regional service teams that manage the administration of the account, including contracts, booklets, and billing. The Company offers a wide array of electronic services, including its BenefitManager webpage, electronic booklets and billing, enrollment options including the Internet and interactive voice response, and call centers dedicated to enrollment support. Employer customers have access to a local service specialist regardless of size. Larger cases with more than 2000 insured lives have a wider array of technology tools as well as dedicated national practice account managers available to service the account in the local sales office. The national practice account managers are complemented with home office based account managers when the needs of the customer dictate this solution. The Company also offers technology enabled call center access to service professionals who are connected via a common voice technology network. The Benefit America service offering includes web-enabled, self-service benefit administration solutions for employers and their employees. Reporting Segments The Company is organized around its customers, with reporting segments that reflect its major market segments: Employee Benefits, Individual, and Voluntary Benefits. The Other segment includes products that the Company no longer actively markets. The Corporate segment includes investment income on corporate assets not specifically allocated to a line of business, corporate interest expense, amortization of goodwill, and certain corporate expenses not allocated to a line of business. The Employee Benefits segment includes group long-term and short-term disability insurance, group life insurance, group long-term care, accidental death and dismemberment coverages, and the results of managed disability. The Company's Individual reporting segment includes individual disability and individual long-term care. The Voluntary Benefits segment includes products sold to employees through payroll deduction at the workplace. These products include life insurance and health products, primarily disability, accident and sickness, and cancer. The Other operating segment includes results from products no longer actively marketed, including individual life, corporate-owned life insurance, reinsurance pools and management operations, group pension, health insurance, and individual annuities. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" contained herein in Item 7 for further discussion of the Company's reporting segments. 5 Employee Benefits The Employee Benefits segment includes the results of group products sold to employers for the benefit of employees and the results of managed disability, primarily GENEX. Group long-term and short-term disability comprises the majority of the segment, with $2,721.4 million of premium income in 2001. Group life generated $1,338.7 million of premium income in 2001. Group long-term disability insurance provides employees with insurance coverage for loss of income in the event of extended work absences due to sickness or injury. Services are offered to employers and insureds to encourage and facilitate rehabilitation, retraining, and re-employment. Most policies begin providing benefits following 90 or 180 day waiting periods and continue providing benefits until the employee reaches a certain age between 65 and 70. The benefits are limited to specified maximums as a percentage of income. Group short-term disability insurance provides coverage from loss of income due to injury or sickness, effective immediately for accidents and after one week for sickness, for up to 26 weeks, limited to specified maximums as a percentage of income. Short-term disability is sold primarily on a basis permitting periodic repricing to address the underlying claims experience. Premiums for group disability insurance are generally based on expected claims of a pool of similar risks plus provisions for administrative expenses and profit. Some cases carry experience rating provisions. Premiums for experience rated group disability business are based on the expected experience of the client given their industry group, adjusted for the credibility of the specific claim experience of the client. A few accounts are handled on an administrative services only basis with responsibility for funding claim payments remaining with the customer. Profitability of group disability insurance is affected by deviations of actual claims experience from expected claims experience, investment returns, persistency, and the ability of the Company to control its administrative expenses. Morbidity is an important factor in disability claims experience. Also important is the general state of the economy; for example, during a recession the incidence of claims tends to increase under this type of insurance. In general, experience rated disability coverage for large groups has narrower profit margins and represents less risk to the Company than business of this type sold to small employers. This is because the Company must bear all of the risk of adverse claims experience in small case coverages while larger employers often bear much of this risk themselves. For disability coverages, case management and rehabilitation activities with regard to claims, along with appropriate pricing and expense control, are important factors contributing to profitability. Group life insurance consists primarily of renewable term life insurance with the coverages frequently linked to employees' wages. Premiums for group life are generally based on expected claims of a pool of similar risks plus provisions for administrative expenses and profit. Profitability is affected by deviations of actual claims experience from expected claims experience, investment returns, persistency, and the ability of the Company to control administrative expenses. The Company also markets several group benefits products and services including accident and sickness indemnity and accidental death and dismemberment policies. Group long-term care insurance pays a benefit upon the loss of two or more "activities of daily living" (e.g. bathing, dressing, feeding) and the insured's requirement of standby assistance or cognitive impairment. Payment is made on an indemnity basis, regardless of expenses incurred, up to a lifetime maximum. Benefits begin after a waiting period, generally 90 days or less. Long-term care insurance is marketed on a guaranteed renewable basis wherein the Company maintains the right to reprice in-force policies, subject to regulatory approval. Profitability is affected by deviations of actual claims experience from expected claims experience, investment returns, persistency, and the ability of the Company to control administrative expenses. 6 GENEX provides specialized skills in disability case management and vocational rehabilitation to assist disabled claimants to return to work. GENEX provides a full range of disability management services, including workplace injury management, telephonic early intervention services for injured workers, medical case management, vocational rehabilitation, and disability cost analysis, to third party administrators, corporate clients, and insurance companies. In addition to its historical focus on the worker's compensation market, GENEX and the Company are working together to offer customized disability programs for the employee benefits market that are intended to integrate and simplify coverages, control costs, and improve efficiency for employers with significant disability and related claims. GENEX plays an increasingly significant role in helping the Company to manage its own exposure to individual and group disability claims. Individual Individual disability comprises the majority of the Individual segment, with $1,647.8 million of premium income in 2001. Individual long-term care premium income totaled $180.3 million in 2001. Individual disability income insurance provides the insured with a portion of earned income lost as a result of sickness or injury. Under an individual disability income policy, monthly benefits generally are fixed at the time the policy is written. The benefits typically range from 30 percent to 75 percent of the insured's monthly earned income. Various options with respect to length of benefit periods and waiting periods before payment begins are available and permit tailoring of the policy to a specific policyholder's needs. The Company also markets individual disability income policies which include payments for transfer of business ownership and business overhead expenses. Individual disability income products do not provide for the accumulation of cash values. Premium rates for these products are varied by age, sex, and occupation based on assumptions concerning morbidity, persistency, policy related expenses, and investment income. The Company develops its assumptions based on its own claims experience and published industry tables. The Company's underwriters evaluate the medical and financial condition of prospective policyholders prior to the issuance of a policy. The majority of the Company's in-force individual disability income insurance was written on a noncancelable basis. Under a noncancelable policy, as long as the insured continues to pay the fixed annual premium for the policy's duration, the policy cannot be canceled by the Company nor can the premium be raised. Due to the noncancelable, fixed premium nature of the policies marketed in the past, profitability of this part of the business is largely dependent upon achieving the pricing assumptions for morbidity, persistency, interest earned rates, and expense levels. In 1994, the Company began introducing products that insured loss of earnings as opposed to occupations, and these products generally contained more limited benefit periods and longer waiting periods. In contrast to traditional noncancelable own-occupation policies, for which benefits are determined based on whether the insured can work in his or her original occupation, the loss of earnings policy requires the policyholder to satisfy two conditions for benefits to begin: reduced ability to work due to accident or sickness and earnings loss of at least 20 percent. These policies are aimed at repositioning the individual disability income product by making it more attractive to a broader market of individual consumers, including middle to upper income individuals and corporate benefit buyers. The Company also offers lifelong disability coverage for loss of income due to injury or sickness on a guaranteed renewable basis, with the right to reprice in-force policies subject to regulatory approval. Lifelong disability coverage provides benefits and transitional support for moderate disabilities, with richer benefits for severe disabilities. Common options include additional coverage for catastrophic injury or illness and an option to convert to a long-term care policy at retirement age. The Company developed a new individual disability product portfolio that was released for sale in approved states during 2000. This product line consolidates the current offerings of the Company's insurance subsidiaries into one new simplified product portfolio. The new portfolio utilizes a modular approach offering customers a range of product options and features. This portfolio was designed to combine the best features from prior Company offerings and includes return-to-work incentives and optional long-term care conversion benefits and/or benefits for catastrophic disabilities. 7 Individual long-term care is offered on a single customer basis and to smaller employer groups and is marketed on a guaranteed renewable basis. Individual long-term care insurance pays a benefit upon the loss of two or more "activities of daily living" and the insured's requirement of standby assistance or cognitive impairment. Payment is made on an indemnity basis, regardless of expenses incurred, up to a lifetime maximum. Benefits start after a waiting period, generally 90 days or less. Profitability is affected by deviations of actual claims experience from expected claims experience, investment returns, persistency, and the ability of the Company to control administrative expenses. Voluntary Benefits The Voluntary Benefits segment includes a broad line of products sold to groups of employees through payroll deduction at the workplace. These products include life insurance and health products. Premium income for this segment totaled $790.7 million in 2001. The life insurance products principally include universal life, interest-sensitive whole life, and term insurance. The Company markets accident and sickness policies that provide benefit payments for disability income, death, dismemberment, or major injury and are designed to supplement social security, worker's compensation, and other insurance plans. The Company markets cancer insurance policies designed to provide payments for hospitalization and scheduled medical benefits, as well as lump sum specified critical illness coverage. The accident and health products qualify as fringe benefits that can be purchased with pre-tax employee dollars as part of a flexible benefits program pursuant to Section 125 of the Internal Revenue Code. Flexible benefits programs assist employers in managing benefit and compensation packages and provide policyholders the ability to choose benefits that best meet their needs. Congress could change the laws to limit or eliminate fringe benefits available on a pre-tax basis, eliminating the Company's ability to continue marketing its products this way. However, the Company believes its products provide value to its policyholders, which will remain even if the tax advantages offered by flexible benefit programs are eliminated. Profitability of voluntary benefits products is affected by the level of employee participation, persistency, deviations of actual morbidity and mortality experience from expected experience, investment returns, and the ability of the Company to control administrative expenses. Other The Other operating segment includes results from products no longer actively marketed, including individual life and corporate-owned life insurance, reinsurance pools and management operations, group pension, health insurance, and individual annuities. During 1999, the Company concluded that the reinsurance pools and management operations were not solidly aligned with the Company's strength in the disability insurance market. The Company decided to exit these operations through a combination of a sale, reinsurance, and/or placing certain components in run-off. In 1999, the Company sold the reinsurance management operations of its A&H and LTC reinsurance facilities and reinsured the Company's risk participation in these facilities. The Company also decided to discontinue its accident reinsurance business in London beginning in year 2000. With respect to Lloyd's, the Company implemented a strategy which limited participation in year 2000 underwriting risks, ceased participation in Lloyd's underwriting risks after year 2000, and managed the run-off of its risk participation in open years of account of Lloyd's reinsurance syndicates. During 2001, the Company entered into an agreement to limit its liabilities pertaining to the Lloyd's syndicate participations. Separately, the Company also reinsured 100 percent of the group disability reinsurance reserves and all future business underwritten and managed by Duncanson and Holt Services, Inc. The transaction had an effective date of January 1, 2001. The Company also sold the reinsurance management operations of Duncanson and Holt Services, Inc. and divested the remaining assets of that facility during 2001. See Note 13 of the "Notes to Consolidated Financial Statements" for further discussion of the reinsurance operations. 8 The Company no longer markets group pension products, but continues to service its block of existing business. The Company previously marketed GICs for use in corporate tax-qualified retirement plans and group SPAs, used primarily as funding vehicles when defined benefit pension plans are terminated. Under SPAs, the Company received a one-time premium payment and in turn agreed to pay a fixed monthly retirement benefit to specified employees. As previously discussed, the Company reinsured its individual life and corporate-owned life insurance during 2000, its in-force individual and tax-sheltered annuity business during 1998, and its group tax-sheltered annuity business during 1996. Corporate The Corporate segment consists of revenue earned on corporate assets, interest expense on corporate debt, amortization of goodwill, and certain corporate expenses not allocated to a line of business. Reinsurance The Company routinely reinsures portions of its business with other insurance companies. In a reinsurance transaction a reinsurer agrees to indemnify another insurer for part or all of its liability under a policy or policies it has issued for an agreed upon premium. In general, the maximum amount of risk retained by the Company and not reinsured is $500,000 on any group or individual life policy and $500,000 on group and individual accidental death insurance. Furthermore, the Company's catastrophic coverage for the year 2002 limits its exposure for any accident involving three or more lives in a single event. The 2002 catastrophic reinsurance provides worldwide coverage for all life and disability insured risks with a $20.0 million deductible. Coverage for 2002 includes risk sharing of 28 percent of direct claims above the $20.0 million deductible, but less than $50.0 million, 100 percent of direct claims over $50.0 million but less than $100.0 million, and 25 percent of direct claims over $100.0 million but less than $150.0 million. The coverage is not limited if the event is caused by acts of war or terrorism. The Company's 2001 catastrophic coverage had a $2.0 million deductible per event and full loss coverage for up to $100.0 million of direct claims. Present conditions in the reinsurance market made it difficult to duplicate in 2002 the catastrophe coverage program in place for 2001. The amount of risk retained by the Company on individual disability income products varies by policy type and year of issue. Other than the catastrophic coverage, the Company does not reinsure group or individual disability policies issued subsequent to 1999. For ceded reinsurance agreements wherein the Company is not relieved of its primary liability to the policyholder, the Company has control procedures to evaluate the financial condition of reinsurers and monitor concentration of credit risk to minimize this exposure. These procedures include the exchange and review of financial statements filed with regulatory authorities, exchange of Insurance Regulatory Information System results, review of ratings by A.M. Best Company, determination of states in which the reinsurer is licensed to do business, and consideration of the need for collateral, such as letters of credit or trust agreements. The Company also assumes reinsurance from other insurers. The reinsurance receivable at December 31, 2001 relates to approximately 315 reinsurance relationships. Of the seven major relationships which account for approximately 78 percent of the reinsurance receivable amount at December 31, 2001, all are with companies rated A or better by A.M. Best Company or are fully securitized by letters of credit and/or investment-grade fixed maturity securities held in trust. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 13 of the "Notes to Consolidated Financial Statements" contained herein in Items 7 and 8 for further discussion of the Company's reinsurance activities. 9 Reserves The applicable insurance laws under which insurance companies operate require that they report, as liabilities, policy reserves to meet future obligations on their outstanding policies. These reserves are the amounts which, with the additional premiums to be received and interest thereon compounded annually at certain assumed rates, are calculated to be sufficient to meet the various policy and contract obligations as they mature. These laws specify that the reserves shall not be less than reserves calculated using certain specified mortality and morbidity tables, interest rates, and methods of valuation. The reserves reported in the Company's financial statements contained herein are calculated based on generally accepted accounting principles followed in the United States (GAAP) and differ from those specified by the laws of the various states and carried in the statutory financial statements of the life insurance subsidiaries. These differences arise from the use of mortality and morbidity tables and interest assumptions which are believed to be more representative of the actual business than those required for statutory accounting purposes and from differences in actuarial reserving methods. The consolidated statements of operations include the annual change in reserves for future policy and contract benefits. The change reflects a normal accretion for premium payments and interest buildup and decreases for policy terminations such as lapses, deaths, and benefit payments. Prior to the merger, Unum's process and assumptions used to calculate the discount rate for claim reserves of certain disability businesses differed from that used by Provident. While Unum's and Provident's methods were both in accordance with GAAP, management believed that the combined entity should have consistent discount rate accounting policies and methods for applying those policies for similar products. Unum's former methodology used the same investment strategy for assets backing both liabilities and surplus. Provident's methodology, which allows for different investment strategies for assets backing surplus than those backing product liabilities, was determined by management to be the more appropriate approach for the Company. Accordingly, at June 30, 1999 the Company adopted Provident's method of calculating the discount rate for claim reserves. The unpaid claim reserves for these disability lines as of June 30, 1999 were $5,318.3 million using the former method for determining reserve discount rates and $5,559.0 million using the current method. The impact on 1999 earnings related to the change in method of calculating the discount rate for claim reserves was $240.7 million before tax and $156.5 million after tax. Subsequent to the merger date, the Company began to integrate the valuation procedures of the two organizations to provide for a more effective linking of pricing and reserving assumptions and to facilitate a more efficient process for adjusting liabilities to emerging trends. Included in this integration activity were a review and an update of assumptions that underlie policy and contract benefit liabilities. The purpose of the study was to confirm or update the assumptions which were viewed as likely to affect the ultimate liability for contract benefits. Accordingly, as a result of the merger, the Company accelerated the performance of its normal reviews of the assumptions underlying reserves to determine the assumptions that the newly merged Company will use in the future for pricing, performance management, and reserving. The review resulted in an increase in the benefits and reserves for future benefits for the Company's domestic and Canadian group long-term disability unpaid claim liabilities. As a result of the review, the Company increased its policy and contract benefit liabilities $359.2 million, which reduced 1999 earnings $359.2 million before tax and $233.5 million after tax. The increase in policy and contract benefit liabilities primarily resulted from revisions to assumptions in the following three key components: claim termination rates, incurred but not reported factors, and discount rates. For further discussion of reserves, refer to the critical accounting policies in "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 2 of the "Notes to Consolidated Financial Statements" contained herein in Items 7 and 8. 10 Investments Investment activities are an integral part of the Company's business, and profitability is significantly affected by investment results. The Company's investment portfolio was $28.3 billion, or over 65 percent of total assets, at December 31, 2001, and in 2001 net investment income was over 21 percent of the Company's total revenue. Refer to "Risk Factors", the investment section in "Management's Discussion and Analysis of Financial Condition and Results of Operations", and Notes 4 and 5 of the "Notes to Consolidated Financial Statements" contained herein in Items 7 and 8 for information on the Company's investments and derivative financial instruments. Competition There is intense competition among insurance companies for the individual and group insurance products of the types sold by the Company. At the end of 2001, there were over 2,000 legal reserve life insurance companies in the United States, many offering one or more insurance products similar to those marketed by the Company. In the individual and group disability markets, the Company competes in the United States and Canada with a limited number of major companies and regionally with other companies offering specialty products. The Company's principal competitors in the voluntary benefits market and in the employee benefits market for group life and long-term care products include the largest insurance companies in the United States. All areas of the employee benefits markets are highly competitive due to the yearly renewable term nature of the products and the large number of insurance companies offering products in this market. The Company competes with other companies in attracting and retaining independent agents and brokers to actively market its products. The principal competitive factors affecting the Company's business are integrated product choices, price, and quality of customer service and claims management. Regulation The Company's insurance subsidiaries are subject to regulation and supervision in jurisdictions in which they do business, primarily for the protection of policyholders. Although the extent of such regulation varies, insurance laws generally establish supervisory agencies with broad administrative powers including: granting and revocation of licenses to transact business; establishing reserve requirements; setting the form, content, and frequency of required financial statements; the licensing of agents; the approval of policy forms; prescribing the type and amount of investments permitted; and, in general, the conduct of all insurance activities. The Company's insurance subsidiaries must meet the standards and tests for investments promulgated by insurance laws and regulations of the jurisdictions in which they are domiciled. Insurance subsidiaries operate under insurance laws which require they establish and carry, as liabilities, statutory reserves to meet obligations on their disability, life, accident and health policies, and annuities. These reserves are verified periodically by various regulators. The Company's domestic insurance subsidiaries are examined periodically by examiners from their states of domicile and by other states in which they are licensed to conduct business. See Note 16 of the "Notes to Consolidated Financial Statements" for a discussion of permitted statutory accounting practices. The laws of the states of Maine, Tennessee, Massachusetts, South Carolina, and New York require the registration of and periodic reporting by insurance companies domiciled within their jurisdiction which control or are controlled by other corporations or persons so as to constitute a holding company system. The Company is registered as a holding company system in Maine, Tennessee, Massachusetts, South Carolina, and New York. The holding company statutes require periodic disclosure concerning stock ownership and prior approval of certain intercompany transactions within the holding company system. The Company may from time to time be subject to regulation under the insurance and insurance holding company statutes of one or more additional states. The risk-based capital (RBC) standards for life insurance companies, as prescribed by the National Association of Insurance Commissioners (NAIC), establish an RBC ratio comparing adjusted surplus to required surplus for United States domiciled insurance companies. If the RBC ratio falls within certain ranges, regulatory action may be taken ranging from increased information requirements to mandatory control by the domiciliary insurance department. The RBC ratios for the Company's insurance subsidiaries, measured at December 31, 2001, were above the ranges that would require regulatory action. See further discussion under "Risk Factors-Capital Adequacy." 11 Risk Factors Any one or more of the following factors may cause the Company's actual results for various financial reporting periods to differ materially from those expressed in any forward looking statements made by or on behalf of the Company. See "Cautionary Statement Regarding Forward-Looking Statements" contained herein on page 1. Reserves The Company maintains reserves for future policy benefits and unpaid claims expenses which include policy reserves and claim reserves established for its individual disability insurance, group insurance, and individual life insurance products. Policy reserves represent the portion of premiums received which are reserved to provide for future claims. Claim reserves are established for future payments not yet due on claims already incurred, primarily relating to individual disability and group disability insurance products. Reserves, whether calculated under GAAP or statutory accounting practices, do not represent an exact calculation of future benefit liabilities but are instead estimates made by the Company using actuarial and statistical procedures. There can be no assurance that any such reserves would be sufficient to fund future liabilities of the Company in all circumstances. Future loss development could require reserves to be increased, which would adversely affect earnings in current and future periods. Adjustments to reserve amounts may be required in the event of changes from the assumptions regarding future morbidity (the incidence of claims and the rate of recovery, including the effects thereon of inflation and other societal and economic factors), persistency, mortality, and interest rates used in calculating the reserve amounts. Capital Adequacy The capacity for an insurance company's growth in premiums is in part a function of its statutory surplus. Maintaining appropriate levels of statutory surplus, as measured by state insurance regulators, is considered important by state insurance regulatory authorities and the private agencies that rate insurers' claims-paying abilities and financial strength. Failure to maintain certain levels of statutory surplus could result in increased regulatory scrutiny, action by state regulatory authorities, or a downgrade by the private rating agencies. Effective in 1993, the NAIC adopted an RBC formula, which prescribes a system for assessing the adequacy of statutory capital and surplus for all life and health insurers. The basis of the system is a risk-based formula that applies prescribed factors to the various risk elements in a life and health insurer's business to report a minimum capital requirement proportional to the amount of risk assumed by the insurer. The life and health RBC formula is designed to measure annually (i) the risk of loss from asset defaults and asset value fluctuation, (ii) the risk of loss from adverse mortality and morbidity experience, (iii) the risk of loss from mismatching of asset and liability cash flow due to changing interest rates, and (iv) business risks. The formula is to be used as an early warning tool to identify companies that are potentially inadequately capitalized. The formula is intended to be used as a regulatory tool only and is not intended as a means to rank insurers generally. In 2001 the NAIC adopted revisions to the individual and group disability RBC formula associated with the risk of loss from adverse mortality and morbidity experience. These formula revisions, which were effective December 31, 2001, resulted in a reduction to the minimum risk-based capital requirements for the Company's group disability business. The change in the risk-based capital requirements for individual disability was not significant. Disability Insurance Disability insurance may be affected by a number of social, economic, governmental, competitive, and other factors. Changes in societal attitudes, work ethics, motivation, stability, and mores can significantly affect the demand for and underwriting results from disability products. The climate and the nature of competition in disability insurance have also been markedly affected by the growth of social security, worker's compensation, and other governmental programs in the workplace. 12 Both economic and societal factors can affect claim incidence for disability insurance. The relationship between these factors and overall incidence is very complex and will vary due to contract design features and the degree of expertise within the insuring organization to price, underwrite, and adjudicate the claims. Within the employee benefits market, pricing and renewal actions can be taken to react to higher claim rates. However, these actions take time to implement, and there is a risk that the market will not sustain increased prices. In addition, changes in economic and external conditions may not manifest themselves in claims experience for several quarters. The pricing actions available in the individual disability market differ between product classes. The nature of that portion of the Company's outstanding insurance business that consists of individual noncancelable disability policies, whereby the policy is guaranteed to be renewable through the life of the policy at a fixed premium, does not permit the Company to adjust its premiums on in-force business due to changes resulting from such factors. Guaranteed renewable contracts can be repriced to reflect external factors, but rate changes cannot be implemented as quickly as in the employee benefits market. Disability insurance products are important products for the Company. To the extent that disability products are adversely affected in the future as to sales or claims, the business or results of operations of the Company could be materially adversely affected. Group Life Insurance Group life insurance may be affected by many factors, including the characteristics of the employees insured, the amount of insurance employees may elect voluntarily, the Company's risk selection process, the ability of the Company to retain employer groups with lower claim incidence rates, and the geographical concentration of employees. Claim incidence is also influenced by events such as the September 11,2001 tragedy, which may impact the availability of reinsurance coverage. Changes in any of these factors may adversely affect the results of the Company. Investments The Company maintains an investment portfolio that is primarily composed of fixed income securities. The quality and/or yield of the portfolio may be impacted by a number of factors, including the general economic environment, changes in the credit quality of the issuer, changes in market conditions, changes in interest rates, changes in foreign exchange rates, or regulatory changes. These securities are issued by both domestic and foreign entities and are backed either by collateral or the credit of the underlying issuer. Factors such as an economic downturn or political change in the country of the issuer, a regulatory change pertaining to the issuer's industry, a significant deterioration in the cash flows of the issuer, or a change in the issuer's marketplace may adversely impact the Company's ability to collect principal and interest from the issuer. The investments held by the Company's insurance subsidiaries are highly regulated by specific legislation in each state that governs the type, amount, and credit quality of allowable investments. Legislative changes could force the Company to restructure the portfolio in an unfavorable interest rate or credit environment, with a resulting adverse impact on profitability. The Company uses derivative instruments that are hedging in nature. The Company's profitability may be adversely impacted if a counterparty to the derivative defaults in its payment. This default risk is mitigated by cross-collateralization agreements. Industry Factors All of the Company's businesses are highly regulated and competitive. The Company's profitability is affected by a number of factors, including rate competition, frequency and severity of claims, lapse rates, government regulation, interest rates, and general business considerations. There are many insurance companies which actively compete with the Company in its lines of business, some of which are larger and have greater financial resources than the Company, and there is no assurance that the Company will be able to compete effectively against such companies in the future. 13 In 1974 Congress passed the Employee Retirement Income Security Act (ERISA). The purpose of ERISA was to reserve for federal authority the sole power to regulate the field of employee benefits. ERISA eliminated the threat of conflicting or inconsistent state and local regulation of employee benefit plans. In doing so, ERISA pre-empted all state laws except those that specifically regulated the business of insurance. ERISA also provides an exclusive remedial scheme for any action brought by ERISA plan participants and beneficiaries. ERISA has allowed plan administrators and plan fiduciaries to efficiently manage employee benefit plans in the United States. Most group long-term and short-term disability plans administered by the Company are governed by ERISA. Changes to ERISA enacted by Congress or via judicial interpretations could adversely impact the risk of managing employee benefit plans, increase the premiums associated with such plans, and ultimately impact their affordability. The modernization of the financial services industry as a result of the Gramm-Leach-Bliley Act of 1999 is also likely to affect the future prospects of the Company. This legislation eliminates many federal and state barriers to affiliation among banks and securities firms, insurers, and their financial service providers. At the same time, the legislation increases the separation between financial service providers and other non-financial companies. The major impacts, other than the potential for increased competition, include new federal privacy rules, a requirement that states enact uniform laws and regulations governing the licensure of individuals and entities authorized to solicit the purchase of insurance within and outside a state, and authority given to promulgate regulations granted to numerous federal agencies. Selected Data of Segments For information regarding the operations of segments, see "Management's Discussion and Analysis of Financial Condition and Results of Operations" contained herein in Item 7. Employees At December 31, 2001, the Company had approximately 13,100 full-time employees, including those in its foreign operations. Some employees in Argentina, comprising approximately one percent of the Company's total workforce, are members of a union. 14 ITEM 2. PROPERTIES The Company occupies over 3,000,000 square feet of space at four principal operating centers in Chattanooga, Tennessee; Portland, Maine; Worcester, Massachusetts; and Columbia, South Carolina. The Company occupies two connected buildings totaling 840,000 square feet in Chattanooga, Tennessee. The office building and substantially all of the surrounding 25 acres of land used for employee parking are owned by the Company in fee along with a 27-unit apartment building for corporate use. A parking deck is currently under construction on a portion of the surrounding 25 acres of land used for employee parking. In addition, approximately 35,000 square feet of office space is leased and occupied in a nearby office building. The Company occupies facilities in Portland, Maine, which are comprised of eight owned facilities totaling 968,000 square feet of office space and 250 acres of land, a portion of which has been developed for employee parking. In addition, approximately 127,000 square feet of office space is leased and occupied in three buildings with rents totaling $1.5 million per year. The Company occupies facilities totaling 341,000 square feet in Worcester, Massachusetts, with approximately 5.6 acres of surrounding property used primarily for parking. In addition, the Company leases 13,000 square feet in Auburn, Massachusetts. The Company occupies approximately 547,000 square feet of office space in Columbia, South Carolina. The buildings are located on approximately 47 acres with a portion developed for employee parking. The Company also owns office buildings in the United Kingdom and Argentina, which serve as the home offices of Unum Limited and Boston Compania Argentina de Seguros SA, respectively. The property in the United Kingdom is located in Dorking, with approximately 70,000 square feet of office space located on approximately 55 acres with a portion developed for employee parking. The facility in Argentina is approximately 23,000 square feet of space within a condominium in Buenos Aries. Additionally, the Company leases office space, for periods principally from five to ten years, for use by its affiliates and sales forces. ITEM 3. LEGAL PROCEEDINGS Refer to Item 8 Note 15 of the "Notes to Consolidated Financial Statements" for information on legal proceedings. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None 15 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Common stock of UnumProvident Corporation is traded on the New York Stock Exchange. The stock symbol is UNM. Common stock information is shown as follows: Market Price ----------------------- High Low Dividend ----------- --------- ----------- 2001 1st Quarter $30.4400 $23.8125 $0.1475 2nd Quarter 33.7500 27.0300 0.1475 3rd Quarter 33.0100 22.2500 0.1475 4th Quarter 27.3500 22.4100 0.1475 2000 1st Quarter $31.9375 $11.9375 $0.1475 2nd Quarter 24.6250 14.8125 0.1475 3rd Quarter 27.6875 19.2500 0.1475 4th Quarter 29.7500 25.4375 0.1475 As of March 18, 2002 there were 21,127 registered holders of common stock. The Company's dividend reinvestment plan offers shareholders of Company common stock a convenient way to purchase additional shares of common stock. More information and an authorization form may be obtained by writing or calling the Company's transfer agent, EquiServe Trust Company, N.A. The toll-free customer service number is 1-800-446-2617. For information on restrictions relating to the Company's insurance subsidiaries' ability to pay dividends to the Company see "Management's Discussion and Analysis of Financial Condition and Results of Operations" contained herein in Item 7 and Item 8 Note 16 of the "Notes to Consolidated Financial Statements." 16 ITEM 6. SELECTED FINANCIAL DATA
2001 2000 1999 1998 1997 ---------------------------------------------------------------------- (in millions of dollars, except share data) Statement of Operations Data Premium Income $ 7,078.2 $ 7,057.0 $ 6,843.2 $ 6,129.0 $ 5,293.1 Net Investment Income 2,002.9 2,060.4 2,059.7 2,035.4 2,015.7 Net Realized Investment Gain (Loss) (40.6) (14.6) 87.1 55.0 11.5 Other Income 354.3 329.5 339.6 299.9 357.0 ----------- ----------- ----------- ----------- ----------- Total Revenue 9,394.8 9,432.3 9,329.6 8,519.3 7,677.3 Benefits and Expenses 8,569.7 8,566.7 9,495.1 7,599.1 6,760.6 ----------- ----------- ----------- ----------- ----------- Income (Loss) Before Federal Income Tax and Extraordinary Loss 825.1 865.6 (165.5) 920.2 916.7 Federal Income Tax 243.0 301.4 17.4 302.8 299.1 ----------- ----------- ----------- ----------- ----------- Income (Loss) Before Extraordinary Loss 582.1 564.2 (182.9) 617.4 617.6 Extraordinary Loss, Net of Tax (2.9) -- -- -- -- ----------- ----------- ----------- ----------- ----------- Net Income (Loss) $ 579.2 $ 564.2 $ (182.9) $ 617.4 $ 617.6 =========== =========== =========== =========== =========== Per Common Share Information Net Income (Loss) - Basic $ 2.40 $ 2.34 $ (0.77) $ 2.60 $ 2.62 Net Income (Loss) - Assuming Dilution $ 2.38 $ 2.33 $ (0.77) $ 2.54 $ 2.57 Common Stockholders' Equity at End of Year $ 24.52 $ 23.12 $ 20.73 $ 25.89 $ 23.46 Cash Dividends $ 0.59 $ 0.59 $ 0.58 $ 0.57 $ 0.55 Weighted Average Common Shares Outstanding (000s) - Basic 241,824.9 240,880.4 239,080.6 236,975.2 230,741.2 - Assuming Dilution 243,608.7 242,061.0 239,080.6 242,348.9 235,818.2 Financial Position (at End of Year) Assets $ 42,442.7 $ 40,363.9 $ 38,447.5 $ 38,602.2 $ 37,040.1 Long-term Debt, Subordinated Debt Securities, and Preferred Stock $ 2,304.2 $ 1,915.5 $ 1,466.5 $ 1,525.2 $ 1,396.2 Stockholders' Equity $ 5,939.9 $ 5,575.5 $ 4,982.2 $ 6,146.2 $ 5,714.1
17 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Introduction On June 30, 1999, Unum Corporation (Unum) merged with and into Provident Companies, Inc. (Provident) under the name UnumProvident Corporation. The merger was accounted for as a pooling of interests. The historical financial results discussed herein give effect to the merger as if it had been completed at the beginning of the earliest period presented. See Notes 1 and 2 of the "Notes to Consolidated Financial Statements" for further discussion. The following should be read in conjunction with the consolidated financial statements and notes thereto contained herein in Item 8. The trends in new annualized sales in the Employee Benefits, Individual, and Voluntary Benefits segments are indicators of the Company's potential for growth in its respective markets and the level of market acceptance of price changes and new products. The Company emphasizes integrated selling that combines employee benefit coverages, individual products, and voluntary workplace products. The Company has closely linked its various incentive compensation programs to the achievement of its goals for new sales and persistency. Critical Accounting Policies Reserves for Policy and Contract Benefits The two primary categories of liabilities for policy and contract benefits are policy reserves for claims not yet incurred and claim reserves for claims that have been incurred and have future benefits to be paid. Policy reserves equal the present value of the difference between future policy benefits and expenses and future premiums, allowing a margin for profit. These reserves are applicable for the majority of the Company's business, which is traditional non-interest sensitive in nature. The claim payments are estimated using assumptions established when the policy was issued. Generally accepted accounting principles require that these assumptions not be subsequently modified unless the policy reserves are determined to be inadequate. Throughout the life of the policy, the reserve is based on the original assumptions used for the policy's issue year. A claim reserve is established when a claim is incurred or is estimated to have been incurred but not yet reported to the Company. Policy reserves for a particular policy continue to be maintained after a claim reserve has been established. Claim reserves generally equal the Company's estimate, at the current reporting period, of the present value of the liability for future benefits to be paid on a claim. A claim reserve for a specific claim is based on assumptions derived from the Company's actual historical experience as to claim duration as well as the specific circumstances of the claimant such as benefits available under the policy, the covered benefit period and the age and occupation of the claimant. Consideration is given to historical trends in the Company's experience and to expected deviations from historical experience that result from changes in benefits available, changes in the Company's risk management policies and procedures, and other economic, environmental, or societal factors. Reserves for claims that are estimated to have already been incurred but that have not yet been reported to the Company are based on factors such as historical claim reporting patterns, the average cost of claims, and the expected volumes of incurred claims. Claim reserves, unlike policy reserves, are subject to revision as current claim experience and projections of future factors impacting claim experience change. The Company reviews annually, or more frequently as appropriate, emerging experience to ensure that its claim reserves provide the Company's current estimate of adequate and reasonable provision for future benefits. This review includes the determination of a range of reasonable estimates within which the reserve must fall. 18 Deferred Policy Acquisition Costs The Company defers certain costs incurred in acquiring new business and amortizes (expenses) these costs over the life of the related policies. The Company uses its own historical experience and expectation of the future performance of its business in determining the expected life of the policies. Approximately 94 percent of the Company's deferred policy acquisition costs relates to traditional non interest-sensitive products, for which the costs are amortized in proportion to the estimated premium income to be received over the life of the policies. The estimated premium income in the early years of the amortization period is higher than in the later years due to anticipated policy lapses, which results in a greater proportion of the costs being amortized in the early years of the life of the policy. Amortization of deferred costs on traditional products is adjusted annually to reflect the actual policy lapse experience as compared to the anticipated experience. The Company will experience increased amortization if policies terminate earlier than projected. Deferred costs related to group and individual disability products are amortized over a twenty-year period. Approximately 60 percent and 85 percent of the original deferred costs related to group disability products are expected to be amortized by years ten and fifteen, respectively. For individual disability policies, approximately 50 percent and 70 percent of the original deferred costs are expected to be amortized by years ten and fifteen, respectively. Deferred costs for group life products are amortized over a fifteen-year period, with approximately 20 percent of the cost expected to remain at year ten. Valuation of Fixed Maturity Securities In determining when a decline in fair value below amortized cost of a fixed maturity security is other than temporary, the Company evaluates market conditions, relevant industry conditions and trends, rating agency actions, offering prices, trends of earnings, and other key measures for the related security. When a decline in value is determined to be other than temporary, the Company recognizes an impairment loss in the current period results to the extent of the decline in value. Private placement fixed maturity securities with a carrying value of approximately $4.2 billion, or 17.0 percent of total fixed maturity securities at December 31, 2001, do not have readily determinable market prices. For these securities, the Company uses internally prepared valuations combining matrix pricing with vendor purchased software programs, including valuations based on estimates of future profitability, to estimate the fair value. All such investments are classified as available for sale. The Company's ability to liquidate its positions in some of these securities could be impacted to a significant degree by the lack of an actively traded market, and the Company may not be able to dispose of these investments in a timely manner. Although the Company believes its estimates reasonably reflect the fair value of those securities, the key assumptions about the risk-free interest rates, risk premiums, performance of underlying collateral (if any), and other factors may not reflect those of an active market. The Company believes that generally these private placement securities carry a credit quality comparable to companies rated Baa by major credit rating organizations. As of December 31, 2001, the key assumptions used to estimate the fair value of private placement fixed maturity securities included the following: . Risk free interest rates of 4.30 percent for five-year maturities to 5.47 percent for 30-year maturities were derived from the current yield curve for U.S. Treasury Bonds with similar maturities. . Current Baa corporate bond spreads ranging from 1.48 percent to 2.99 percent plus an additional 30 basis points were added to the risk free rate to consider the lack of liquidity. . An additional ten basis points were added to the risk free rates for foreign investments. . Additional basis points were added as deemed appropriate for securities in certain industries that are considered to be of greater risk. Historically, the Company's realized gains or losses on dispositions of its private placement fixed maturity securities have not varied significantly from amounts estimated under the valuation methodology described above. 19 Reinsurance Receivable Reinsurance is a contractual agreement whereby the Company's reinsurance partners assume a defined portion of the risk for future benefits payable under reinsurance contracts. The reinsurance receivable reported as an asset in the Company's consolidated statements of financial condition includes amounts due from the Company's reinsurers on current claims and estimates of amounts that will be due on future claims. Policy reserves and claim reserves reported in the Company's consolidated statements of financial condition are not reduced for reinsurance. The reinsurance receivable is generally equal to the policy reserves and claim reserves related to the risk being reinsured. The Company reduces the reinsurance receivable if recovery is not likely due to the financial position of the reinsurer or if there is disagreement between the Company and the reinsurer regarding the liability of the reinsurer. Results of Operations 2001 Significant Transactions and Events The September 11, 2001 tragedy resulted in a 2001 before-tax charge of $24.0 million, or $15.6 million after tax. This charge included estimated gross ultimate losses from reported and unreported claims of $65.0 million less an estimated $41.0 million recoverable from the Company's reinsurers. The charge did not include any indirect costs which the Company incurred in developing specialized procedures for filing claims resulting from the attacks and in providing additional support to impacted policyholders and group clients. The Company's reinsurance program provides a significant layer of catastrophic coverage for its individual disability and its group life, accidental death and dismemberment, travel accident, long-term disability, and short-term disability lines of business through a group of highly rated major national and international reinsurance organizations. Because of the quality and level of the Company's various reinsurance coverages, the Company does not anticipate that any of its reinsurers will be unable to cover the claims incurred as a result of the events. Should this occur, however, all of the Company's insurance subsidiaries are sufficiently capitalized such that each insurance subsidiary will be able to satisfy these claims and will face no liquidity or risk-based capital issues. The effects on each line of business are disclosed in the following discussions of segment operating results. During 2001, the Company entered into an agreement to limit its liabilities pertaining to the Lloyd's syndicate participations. Separately, the Company also reinsured 100 percent of the group disability reinsurance reserves and all future business underwritten and managed by Duncanson and Holt Services, Inc., a subsidiary of D&H. The transaction, in which reserves of approximately $323.8 million were ceded to the reinsurer, had an effective date of January 1, 2001. In a separate but related transaction, the Company also sold the reinsurance management operations of Duncanson and Holt Services, Inc. and divested the remaining assets of that facility. During 2001, the Company reinsured on a 100 percent indemnity coinsurance basis certain cancer policies written by one of the Company's insurance subsidiaries and ceded approximately $113.6 million of reserves to the reinsurer. The transaction had an effective date of November 1, 2001. In 2001, the Company acquired the assets of EmployeeLife.com, an Internet Capital Group partner company. This new subsidiary, Benefit Technologies, Inc. (doing business under the name BenefitAmerica), will enhance customer service by offering Internet business solutions to help employers efficiently manage and administer employee benefits. The Company also acquired Resource Opportunities, Inc. (ROI), a national provider of medical and vocational case management services. ROI will improve GENEX's ability to service its customers, in turn benefiting the Company's insurance customers. Also in 2001, the Company sold Provident National Assurance Company, an inactive insurance subsidiary. Provident National Assurance Company's general account liabilities were reinsured by another subsidiary of the Company, and the excess capital and surplus was transferred to the parent to reduce short-term borrowings. During 2001, the Company wrote off the remaining goodwill balance related to its operations in Argentina, resulting in a decrease in before-tax and after-tax operating income of $5.4 million. In 2001, the Company recognized a tax benefit of $35.2 million related to its investment in the foreign reinsurance operations, which lowered the 2001 tax rate below the U.S. federal statutory rate of 35 percent. Additionally, as a 20 result of tax legislation enacted in the United Kingdom during 2000 that allows additional group tax relief among companies with common ownership, the Company began recognizing foreign tax benefits during 2001. During 2001 the Company redeemed its $172.5 million par value 8.8% monthly income debt securities (junior subordinated debt), which were due in 2025 but callable at par in 2000 and thereafter. This early redemption is expected to lower the Company's financing costs in 2002 through the use of commercial paper available at lower interest rates. The early extinguishment of debt resulted in a write-off of the remaining deferred debt cost of $4.5 million associated with the issuance of the securities. The extraordinary loss, net of a $1.6 million tax benefit, was $2.9 million. In June 2001, the Financial Accounting Standards Board issued Statements of Financial Accounting Standards No. 141 (SFAS 141), Business Combinations, and No. 142 (SFAS 142), Goodwill and Other Intangible Assets. In accordance with SFAS 142, goodwill will no longer be amortized but will be subject to annual impairment tests. Other intangible assets will continue to be amortized over their useful lives. The Company adopted the provisions of SFAS 141 and SFAS 142 effective January 1, 2002. Application of the non-amortization provision is expected to increase 2002 earnings $21.3 million before tax and $20.2 million after tax. In connection with the initial adoption of SFAS 142, the Company will perform the required transitional goodwill impairment tests. Any impairment loss resulting from the transitional goodwill impairment tests will be recognized as the effect of a change in accounting principle and will be presented as a separate caption, net of tax, in the income statement. The impairment loss, if any, is not expected to have a material impact on the Company's financial position or results of operations. 2000 Significant Transactions and Events During 2000, the Company completed a series of strategic transactions designed to more closely focus its operations on its core businesses, increase its financial flexibility, support its present credit and claims-paying ratings, increase the risk-based capital ratios of the insurance subsidiaries involved, and lower its leverage ratios. The primary transaction involved agreements under which the Company reinsured on a 100 percent indemnity coinsurance basis substantially all of the individual life insurance and corporate-owned life insurance policies written by the Company's insurance subsidiaries, as well as a small block of individually underwritten group life insurance. The reinsurance agreements were effective as of July 1, 2000. Separately, the Company reinsured on a 100 percent indemnity coinsurance basis the future claim payments on one of the Company's insurance subsidiaries' long duration group long-term disability claims that were incurred prior to January 1, 1996. The agreement was effective January 1, 2000. During 2000, the Company entered into a reinsurance agreement under which one of the Company's insurance subsidiaries will cede through a net quota share reinsurance agreement 50 percent of the group life volume above the aggregate retention limit. The treaties are five-year quota share treaties ceding 25 percent of premium, life volume, and paid claims to each reinsurer. The reinsurance agreements were effective as of October 1, 2000. During 2000, the Company purchased a single premium annuity for its retirees, which allowed the release of the related pension plan liability and resulted in a net before-tax gain of $116.1 million. The pension plan transaction enabled the Company to provide a higher level of administrative service for its retirees while also locking in favorable pension plan performance. Also in 2000, the Company increased reserves $65.6 million in the Company's long-term disability business and $21.9 million in the reinsurance operations, wrote off assets and established loss provisions of $15.5 million in the reinsurance operations, and accrued consolidation and benefit expenses of $9.4 million. See the discussions of segment operating results contained herein for further information. 1999 Significant Transactions and Events As a result of the aforementioned merger at June 30, 1999, certain accounting policy changes were made during 1999. The following summarizes these changes as well as the expenses related to the merger and the early retirement offer to employees. Generally, because of the effort and time involved, reviews and updates of assumptions related to benefit liabilities are periodically undertaken over time and are reflected in the calculation of benefit liabilities as completed. Many 21 factors influence assumptions underlying reserves, and considerable judgment is required to interpret current and historical experience underlying all of the assumptions and to assess the future factors that are likely to influence the ultimate cost of settling existing claims. Prior to the June 30, 1999 merger, Unum's process and assumptions used to calculate the discount rate for claim reserves of certain disability businesses differed from that used by Provident. While Unum's and Provident's methods for calculating the discount rate for disability claim reserves were both in accordance with generally accepted accounting principles, management believed that the combined entity should have consistent discount rate accounting policies and methods for applying these policies for similar products. The previous Unum methodology used the same investment strategy for assets backing both liabilities and surplus. Provident's methodology, which allows for different investment strategies for assets backing surplus than those backing product liabilities, was determined by management to be the more appropriate approach for the combined entity. Accordingly, at June 30, 1999, the Company adopted Provident's method of calculating the discount rate for claim reserves. The impact on 1999 earnings related to the change in method of calculating the discount rate for claim reserves was $240.7 million before tax and $156.5 million after tax. The charge was reflected in the Employee Benefits, Individual, and Other segments as an increase in benefits to policyholders of $191.7 million, $38.9 million, and $10.1 million, respectively. Subsequent to the merger date, the Company began to integrate the valuation procedures of the two organizations to provide for a more effective linking of pricing and reserving assumptions and to facilitate a more efficient process for adjusting liabilities to emerging trends. Included in this integration activity were a review and an update of assumptions that underlie policy and contract benefit liabilities. The purpose of the study was to confirm or update the assumptions which were viewed as likely to affect the ultimate liability for contract benefits. Accordingly, as a result of the merger, the Company accelerated the performance of its normal reviews of the assumptions underlying reserves to determine the assumptions that the newly merged Company will use in the future for pricing, performance management, and reserving. The review resulted in an increase in the benefits and reserves for future benefits for the Company's domestic group long-term disability unpaid claim liabilities. As a result of the review, the Company increased its policy and contract benefit liabilities $359.2 million in the third quarter of 1999, which reduced 1999 results $359.2 million before tax and $233.5 million after tax. During 1999, the Company recorded before-tax expenses related to the merger of approximately $184.7 million ($139.6 million after tax) for severance and related costs, exit costs for duplicate facilities and asset abandonments, and investment banking, legal, and accounting fees. The Company also recorded in 1999 a before-tax expense of approximately $125.9 million ($81.8 million after tax) related to the early retirement offer to the Company's employees. These expenses are reported in the Corporate segment as other operating expenses and are further discussed in the section "Corporate Segment Operating Results." Additionally, in 1999 the Company expensed $24.7 million ($16.1 million after tax) of incremental costs associated with the merger. These incremental costs consist primarily of compensation, training, integration, and licensing costs. See Note 2 of the "Notes to Consolidated Financial Statements" for further discussion of these charges and "Liquidity and Capital Resources" for a discussion of capital and financing needs. During 1999 the Company also recognized $327.8 million of before-tax charges related to its reinsurance operations. These charges were as follows (in millions of dollars): North American Reinsurance Operations Loss on Sale of A&H and LTC Reinsurance Management $ 12.9 Operations (includes write-off of $6.0 million of goodwill) Loss on Reinsurance of A&H and LTC Risk Participations 12.7 Provision for Losses on Retained Business 42.1 International Reinsurance Operations Provision for Losses on Lloyd's of London Syndicate Participations 186.5 Provision for Losses on Reinsurance Pool Participations Other than Lloyd's 21.9 Goodwill Impairment Excluding Amount Recognized on Sale 51.7 ------ Total Before-tax Charge $327.8 ====== 22 See "Other Segment Operating Results" and Note 13 of the "Notes to Consolidated Financial Statements" for further discussion of these charges and the Company's reinsurance operations. A portion of the losses recognized in 1999 relating to the Company's reinsurance operations does not receive a tax benefit, which unfavorably impacted the effective tax rate. Additionally, a portion of the 1999 expenses related to the merger was non-deductible for federal income tax purposes, resulting in a 1999 tax rate that was less than the U.S. federal statutory tax rate of 35 percent. In 1999, the Company recorded refunds from the Internal Revenue Service relating to the final settlement of remaining issues for the 1986 through 1992 tax years. The refund of taxes was $30.4 million, and interest on the refunds was $35.4 million. Overall, including interest and the tax provision thereon, 1999 results increased $36.8 million due to settlements of prior year tax issues. Consolidated Operating Results (in millions of dollars)
Year Ended December 31 ---------------------------------------------------------------- 2001 % Change 2000 % Change 1999 -------- -------- -------- Revenue Premium Income $7,078.2 0.3% $7,057.0 3.1% $6,843.2 Net Investment Income 2,002.9 (2.8) 2,060.4 -- 2,059.7 Other Income 354.3 7.5 329.5 (3.0) 339.6 -------- -------- -------- Total 9,435.4 (0.1) 9,446.9 2.2 9,242.5 -------- -------- -------- Benefits and Expenses Benefits and Change in Reserves for Future Benefits 6,234.3 (2.7) 6,407.5 (5.6) 6,787.6 Commissions 782.8 3.8 754.1 (17.5) 913.6 Interest and Debt Expense 169.6 (6.7) 181.8 31.9 137.8 Deferral of Policy Acquisition Costs (695.9) 16.8 (595.7) (26.4) (809.3) Amortization of Deferred Policy Acquisition Costs 432.7 (5.2) 456.5 (3.9) 474.8 Amortization of Value of Business Acquired 48.4 7.6 45.0 17.5 38.3 Amortization of Goodwill 26.6 19.3 22.3 (73.0) 82.6 Operating Expenses 1,571.2 21.3 1,295.2 (30.7) 1,869.7 -------- -------- -------- Total 8,569.7 -- 8,566.7 (9.8) 9,495.1 -------- -------- -------- Income (Loss) Before Federal Income Tax, Net Realized Investment Gain (Loss), and Extraordinary Loss 865.7 (1.6) 880.2 N.M. (252.6) Federal Income Tax (Credit) 258.1 (16.0) 307.1 N.M. (12.9) -------- -------- -------- Income (Loss) Before Net Realized Investment Gain (Loss) and Extraordinary Loss 607.6 6.0 573.1 N.M. (239.7) Net Realized Investment Gain (Loss) (25.5) N.M. (8.9) N.M. 56.8 -------- -------- -------- Income (Loss) Before Extraordinary Loss 582.1 3.2 564.2 N.M. (182.9) Extraordinary Loss (2.9) N.M. -- N.M. -- -------- -------- -------- Net Income (Loss) $ 579.2 2.7 $ 564.2 N.M. $ (182.9) ======== ======== ========
N.M. = not a meaningful percentage In the following financial statements and discussions of operating results by segment, "revenue" includes premium income, net investment income, and other income. "Income" or "loss" excludes federal income tax, net realized investment gains and losses, and extraordinary losses. 23 Employee Benefits Segment Operating Results (in millions of dollars)
Year Ended December 31 ---------------------------------------------------------- 2001 % Change 2000 % Change 1999 -------- -------- -------- Revenue Premium Income Group Long-term Disability $2,151.8 3.3% $2,082.7 2.4% $2,034.7 Group Short-term Disability 569.6 10.7 514.4 8.6 473.7 Group Life 1,338.7 12.0 1,194.8 3.2 1,158.2 Accidental Death & Dismemberment 206.3 10.1 187.3 (1.8) 190.7 Group Long-term Care 81.1 28.1 63.3 47.6 42.9 -------- -------- -------- Total Premium Income 4,347.5 7.5 4,042.5 3.6 3,900.2 Net Investment Income 761.6 8.5 701.8 16.0 604.9 Other Income 178.8 18.2 151.3 7.9 140.2 -------- -------- -------- Total 5,287.9 8.0 4,895.6 5.4 4,645.3 -------- -------- -------- Benefits and Expenses Benefits and Change in Reserves for Future Benefits 3,598.8 5.0 3,426.2 (6.5) 3,663.9 Commissions 343.2 6.4 322.5 (2.0) 329.0 Deferral of Policy Acquisition Costs (293.9) 27.0 (231.4) (7.1) (249.2) Amortization of Deferred Policy Acquisition Costs 169.6 15.2 147.2 38.1 106.6 Amortization of Value of Business Acquired 2.0 (16.7) 2.4 (4.0) 2.5 Operating Expenses 938.4 18.1 794.4 2.8 773.1 -------- -------- -------- Total 4,758.1 6.7 4,461.3 (3.6) 4,625.9 -------- -------- -------- Income Before Federal Income Tax, Net Realized Investment Gain (Loss), and Extraordinary Loss $ 529.8 22.0 $ 434.3 N.M. $ 19.4 ======== ======== ========
The Employee Benefits segment includes group long-term and short-term disability insurance, group life insurance, accidental death and dismemberment coverages, group long-term care, and the results of managed disability. The Company has adjusted its focus within the Employee Benefits segment to integrated selling that combines long-term disability, short-term disability, and group life products. During 2001, 28 percent of all new sales included long-term disability, short-term disability, and group life combined coverage. This compares to 32 percent and 26 percent for 2000 and 1999, respectively. 24 Sales for Employee Benefits, on both a submitted and effective date basis, are as follows: (in millions of dollars)
Year Ended December 31 --------------------------------------------------------- 2001 % Change 2000 % Change 1999 -------- -------- -------- Sales - Submitted Date Basis Group Long-term Disability $ 398.4 19.4% $ 333.8 (13.3)% $ 385.2 Group Short-term Disability 176.9 19.1 148.5 (13.7) 172.0 Group Life 338.4 12.4 301.0 (1.6) 305.8 Accidental Death & Dismemberment and Group Long-term Care 85.8 8.1 79.4 (11.3) 89.5 -------- -------- -------- Total $ 999.5 15.9 $ 862.7 (9.4) $ 952.5 ======== ======== ======== Sales - Effective Date Basis Long-term Disability $ 356.2 12.0% $ 318.0 (31.9)% $ 466.9 Short-term Disability 166.7 32.9 125.4 (38.3) 203.1 Group Life 362.9 63.8 221.5 (34.5) 338.3 Accidental Death & Dismemberment and Group Long-term Care 82.1 2.6 80.0 (10.5) 89.4 -------- -------- -------- Total $ 967.9 29.9 $ 744.9 (32.1) $1,097.7 ======== ======== ========
Sales related to employee benefits can fluctuate significantly due to large case size and timing of sales submissions. The Company implemented a number of initiatives throughout 2000 which helped maintain the sales momentum achieved during the last half of 2000 and continuing into 2001, including targeted incentive plans, organizational changes to create a greater focus on the customer, and enhanced communication with producers. In order to give the appropriate focus to the Company's primary business markets, the Company has national practice groups that focus on large employers, executive benefits, and voluntary benefits. These national practice groups partner with the Company's sales force and representatives from claims, customer service, and underwriting to present coverage solutions to potential customers and to manage existing customer accounts. The Company expects that these actions will continue to favorably impact sales growth, but management intends to maintain pricing discipline to balance sales growth and profitability, which may slow the rate of long-term sales growth. The Company monitors persistency and reflects adverse changes in persistency in the current period's amortization of deferred policy acquisition costs. Persistency during 2001 for group disability, group life, and accidental death and dismemberment products was generally improved overall from that experienced in 2000 but was unfavorable for certain issue years when compared to the persistency expected at the time the business was written, resulting in additional amortization of $41.5 million. The majority of the unfavorable persistency occurred in more recently issued business, which has higher associated unamortized deferred policy acquisition costs. The additional amortization related to persistency in 2000 and 1999 was $34.1 million and $5.2 million, respectively. It is expected that persistency for the foreseeable future may continue to be lower than historical levels. The Company's 2001 renewal program was generally successful at retaining business that is relatively more profitable than business that terminated. It is expected that the additional premium and related profits associated with renewal activity will emerge throughout 2002. The Company intends to maintain a disciplined approach in the re-pricing of renewal business, while balancing the need to maximize persistency and retain producer relationships. This approach may lead to lower profit margins on affected cases than originally planned. Revenue from the managed disability line of business, which includes the Company's wholly-owned subsidiaries GENEX Services, Inc. and Options and Choices, Inc., totaled $150.6 million in 2001, compared to $126.1 million in 2000 and $107.8 million in 1999. 25 Group Disability Group disability revenue was $3,352.7 million in 2001 compared to $3,200.4 million in 2000. Group disability reported income of $336.9 million for 2001 compared to $211.0 million for 2000. Group disability results for 2001 include $7.3 million for losses related to September 11, 2001, with estimated gross ultimate losses from reported and unreported claims of $9.0 million less an estimated $1.7 million recoverable from the Company's reinsurers. The income for 2000 includes an increase of $65.6 million in group long-term disability claim reserves, discussed more fully below. Positive impacts on 2001 income were a $152.3 million revenue increase and a change in the benefit ratio from 87.1 percent in 2000 to 84.1 percent in 2001, excluding losses related to September 11 for 2001 and the $65.6 million reserve increase for 2000. The commission ratio also improved slightly relative to 2000. Negatively impacting income was an increase in the operating expense ratio in 2001 compared to 2000. The 2001 results include $26.3 million of additional amortization necessitated by the higher level of group long-term and short-term disability terminations experienced during 2001 relative to that which was expected at the time the business was written. The additional amortization during 2000 was $25.8 million. For both 2001 and 2000, the disability business retained is relatively more profitable than the business that terminated. A critical part of the Company's strategy for group disability involves executing its renewal program and managing persistency, both of which management expects will have a positive impact on future premium growth and profitability. The Company has implemented pricing changes in the group disability line wherein prices may increase or decrease by market segment, as appropriate, to respond to current claim experience and other factors and assumptions. Persistency during 2001 on the overall block of group disability improved over 2000, with long-term disability persistency at 84.9 percent compared to 81.6 percent last year and short-term disability at 82.1 percent versus 80.7 percent in 2000. However, persistency on business sold in 1999 and 2000 has been unfavorable when compared to what was expected when the business was sold, resulting in additional amortization of the deferred policy acquisition costs that have a relatively high remaining asset balance. The fundamentals underlying risk results in the group disability line continued to exhibit overall improvement in 2001, as demonstrated by the lower benefit ratio. Claim recovery rates in 2001 continued to be above historical levels but the increase in the claim recovery rates has slowed, as expected, as the Company has now fully implemented the improvements to its claim processes. Both submitted and paid claim incidence for long-term disability increased over recent years, with a portion of the increase attributable to industries impacted by the weaker economy. However, in comparing 2001 results with 2000, there was no significant increase in the types of claims normally associated with a weaker economy. For short-term disability, both the average claim duration and paid incidence increased from the prior year. The average weekly indemnity continued to increase as well, but the premium per life grew at a slightly higher level. The Company expects to modify its product and pricing strategy in short-term disability to be more selective in the product options offered in the large case market, with a focus on self funded or experience rated products. Group disability revenue was $3,200.4 million in 2000 compared to $3,029.0 million in 1999. The high terminations and slow sales decreased the earned premium growth compared to that experienced during 1999 and 1998. Group disability reported income of $211.0 million for 2000 compared to a loss of $225.7 million for 1999. Included in the income for 2000 was an increase of $65.6 million in group long-term disability claim reserves, which represented approximately 1.2 percent of total group long-term disability claim reserves. The increase, which resulted from lengthening the projected average claim duration for certain of the Company's group long-term disability claims, was not a result of deteriorating experience but was believed appropriate based on the Company's assessment of the ultimate settlement of these claims. The 1999 loss of $225.7 million was the result of the $191.7 million charge resulting from lowering the discount rate used to calculate certain of Unum's disability claim reserves to conform with Provident's process and assumptions and the $359.2 million charge resulting from the revision in the underlying assumptions used to estimate the ultimate cost of unpaid group long-term disability claims, as discussed in the preceding "Results of Operations." See Note 2 of the "Notes to Consolidated Financial Statements" for further discussion. 26 Excluding the adjustments to the disability claim liabilities discussed in the preceding paragraph, the benefit ratio for group disability was 83.5 percent in 1999 compared to 87.1 percent in 2000. For long-term disability, the ratio for 2000 was higher than in 1999. The paid claim incidence for long-term disability was lower than 1999 due to lower claim acceptance rates, and the rate of net claim resolutions continued to increase during 2000. The 2000 submitted claim incidence rate for long-term disability was higher than the rate for 1999. The claims disruption charge taken in the fourth quarter of 1998 resulted in a $50.3 million charge for the group long-term disability line of business for the expected increase in claims durations due to management's expectation that productivity in the claims organization would be impacted as a result of planning, consolidation, and integration efforts related to the merger. If the impact of merger-related claim operations integration activities on claim durations had not been anticipated at December 31, 1998, the 1999 loss for the group long-term disability line of business would have been negatively impacted by $50.3 million. However, the shortfall of the actual 1999 experience below that assumed resulted in a negative effect on 1999 results of $18.1 million. The benefit ratio for short-term disability decreased marginally during 2000 from the 1999 ratio. The incidence of submitted claims for short-term disability remained relatively constant throughout 2000 and 1999, declining slightly in 2000 compared to the 1999 rate. Negative impacts on the benefit ratio in 2000 were the average claim duration, which increased to its highest level in recent periods during 2000, and an increase in the average weekly indemnity. Additionally, the increase in the amortization of deferred policy acquisition costs had a negative impact on 2000 income. This increase resulted from $25.8 million of additional amortization necessitated by the higher level of group long-term and short-term disability terminations experienced during 2000 relative to that which was expected at the time the business was written. The additional amortization during 1999 was $4.2 million. Also included in 1999 is $3.3 million of amortization related to the write-off of the unamortized balance of deferred costs related to certain discontinued products in the foreign operations. Income in 2000 was positively impacted by a 5.7 percent revenue increase and an improvement in both the commission and operating expense ratios relative to 1999. As previously disclosed under "Results of Operations," during 2000 the Company entered into a 100 percent indemnity coinsurance agreement to cede the future claim payments on one of its insurance subsidiaries' long duration group long-term disability claims which were incurred prior to January 1, 1996. The agreement was effective January 1, 2000. As discussed under "Cautionary Statement Regarding Forward-Looking Statements," certain risks and uncertainties are inherent in the Company's business. Components of claims experience, including but not limited to, incidence levels and claims duration, may be worse than expected. Management monitors claims experience in group disability and responds to changes by periodically adjusting prices, refining underwriting guidelines, changing product features, and strengthening risk management policies and procedures. The Company expects to price new business and re-price existing business, at contract renewal dates, in an attempt to mitigate the effect of these and other factors, including interest rates, on new claim liabilities. Given the competitive market conditions for the Company's disability products, it is uncertain whether pricing actions can entirely mitigate the effect. The Company, similar to all financial institutions, has some exposure if a severe and prolonged recession occurs, but management believes that the Company is well positioned if a weaker economy were to occur. Many of the Company's products can be re-priced, which would allow the Company to reflect in its pricing any fundamental change which might occur in the risk associated with a particular industry or company within an industry. The Company has a well-diversified book of insurance exposure, with no disproportionate concentrations of risk in any one industry. Because of improvements made in the claims organization in recent years, the Company believes it can respond to increased levels of submitted claims which might result from a slowing economy. Group Life, Accidental Death and Dismemberment, and Long-term Care Group life, accidental death and dismemberment, and long-term care reported income of $179.2 million in 2001 compared to $214.0 million in 2000. Included in 2001 income is additional benefit expense of $6.7 million related to the September 11, 2001 tragedy. 27 Group life, accidental death and dismemberment, and long-term care reported an increase in revenue for 2001 compared to 2000 due to increases in both premium income and net investment income. Premium growth was attributable to strong sales results in 2001 and improvements in persistency. Persistency for group life was 84.6 percent in 2001, an increase over the 81.5 percent for 2000. For accidental death and dismemberment, persistency was 83.0 percent and 79.5 percent for 2001 and 2000, respectively. Offsetting the 2001 revenue increase was an increase in the benefit ratio and operating expense ratio when compared to the previous year reporting period. The amortization of deferred policy acquisition costs for 2001 includes $15.2 million of additional amortization due to the higher level of terminations for group life and accidental death and dismemberment products experienced than expected at the time the policies were written. The unfavorable variance of actual to expected terminations occurred primarily in the group life product line. The additional amortization during 2000 was $8.3 million. Group life submitted and paid incidence continued to remain high in 2001, although the incidence rates during the last six months of the year were lower than the rates for the first half of 2001. The average paid claim size has also increased compared to the prior year, and waiver incidence continues to be above recent levels. The claim recovery rate on waiver claims has increased, somewhat mitigating the impact of the increase in waiver incidence. Group life 2001 benefits include estimated gross ultimate losses from reported and unreported claims of $17.0 million less an estimated $14.0 million recoverable from the Company's reinsurers, for a net increase in benefits of $3.0 million related to the September 11, 2001 tragedy. The Company has implemented several actions in the group life line of business, including tighter underwriting guidelines and pricing changes, and is developing case specific remedial plans for under performing business. The Company believes these actions will improve profitability in group life, but it is uncertain whether these actions will restore the profitability that this line of business has historically reported. As a result of the actions implemented, it is expected that the sales growth rate in this business will slow from that experienced in recent years. This was evidenced by the rate of growth reported for group life sales in the fourth quarter of 2001, with a 15.2 percent and 27.0 percent decline, compared to the fourth quarter of 2000, reported for submitted and effective date basis sales, respectively. The 2001 benefit ratio for accidental death and dismemberment was higher than 2000 primarily due to a significant increase in the average paid claim amounts. The rate of claim incidence in 2001 did not change significantly over the prior year. The 2001 results for accidental death and dismemberment include estimated gross ultimate losses of $25.0 million less estimated reinsurance recoverables of $21.3 million, for a net increase in benefits of $3.7 million related to the September 11, 2001 tragedy. These losses relate to both accidental death and dismemberment and travel accident coverages. Group long-term care reported a very slight decrease in the benefit ratio for 2001 compared to 2000, although the last two quarters of 2001 reported increasing benefit ratios relative to the first half of the year and to prior year quarters. The reinsurance transaction entered into during 2000 under which an insurance subsidiary of the Company cedes through a net quota share reinsurance agreement 50 percent of the group life volume above the aggregate retention limit does not meet the conditions for reinsurance accounting and is therefore accounted for as a deposit. As such, there is no effect on reported premium income or benefits. The only impact on the income statement is the risk charge paid to the reinsurers. See Note 13 of the "Notes to Consolidated Financial Statements" for further discussion of the reinsurance transactions. Group life, accidental death and dismemberment, and long-term care reported income of $214.0 million in 2000 compared to $239.5 million in 1999. Group life and long-term care both reported an increase in revenue for 2000 compared to 1999 due to increases in premium income and net investment income. Offsetting the revenue increase was an increase in the benefit ratio when compared to 1999. Group life reported a higher benefit ratio in 2000 compared to the prior year due to an increase in the average paid claim size and waiver incidence, partially offset by a decrease in paid mortality incidence. 28 The 2000 benefit ratio for accidental death and dismemberment was higher than 1999 due to an increase in the average paid claim size. Submitted incidence for accidental death and dismemberment improved relative to 1999. Group long-term care reported a higher benefit ratio for 2000 compared to 1999. The long-term care net claim resolution rate for 2000 is below the average rate for 1999, primarily due to a decrease in claim recoveries. The 2000 incidence rates for both submitted and paid claims improved over the prior year. The amortization of deferred policy acquisition costs for 2000 includes $8.3 million of additional amortization due to the higher level of terminations for group life and accidental death and dismemberment products experienced during 2000 relative to that which was expected at the time the policies were written. Positively impacting 2000 income was an improvement in the commission and operating expense ratios. Individual Segment Operating Results (in millions of dollars)
Year Ended December 31 --------------------------------------------------------------- 2001 % Change 2000 % Change 1999 -------- -------- -------- Revenue Premium Income Individual Disability $1,647.8 0.3% $1,643.5 5.8% $1,553.5 Individual Long-term Care 180.3 34.9 133.7 45.3 92.0 -------- -------- -------- Total Premium Income 1,828.1 2.9 1,777.2 8.0 1,645.5 Net Investment Income 912.8 8.6 840.3 9.0 771.1 Other Income 86.7 (28.9) 122.0 100.7 60.8 -------- -------- -------- Total 2,827.6 3.2 2,739.5 10.6 2,477.4 -------- -------- -------- Benefits and Expenses Benefits and Change in Reserves for Future Benefits 1,932.7 4.0 1,858.4 15.8 1,604.2 Commissions 260.6 2.5 254.3 (7.4) 274.5 Deferral of Policy Acquisition Costs (224.1) 7.5 (208.4) 4.8 (198.8) Amortization of Deferred Policy Acquisition Costs 106.4 16.8 91.1 17.2 77.7 Amortization of Value of Business Acquired 44.1 8.4 40.7 30.9 31.1 Operating Expenses 417.2 2.9 405.3 (6.7) 434.6 -------- -------- -------- Total 2,536.9 3.9 2,441.4 9.8 2,223.3 -------- -------- -------- Income Before Federal Income Tax, Net Realized Investment Gain (Loss), and Extraordinary Loss $ 290.7 (2.5) $ 298.1 17.3 $ 254.1 ======== ======== ========
The Individual segment includes results from the individual disability and individual long-term care lines of business. Individual Disability New annualized sales in the individual disability line of business were $145.1 million in 2001, compared to $116.1 million in 2000 and $124.1 million in 1999. The Company developed a new individual disability product portfolio that was released for sale in approved states early in the fourth quarter of 2000. The new portfolio utilizes a modular approach offering customers a range of product options and features. This portfolio was designed to combine the best features from prior Company offerings and includes return-to-work incentives and optional long-term care conversion benefits and/or benefits for catastrophic disabilities. Management expects that premium income in the individual disability line will grow on a year-over-year basis as the portfolio transition produces increasing levels of new sales of individual disability products and as a result of an increased focus on integrated disability sales in group and individual, as well as other sales initiatives discussed under "Employee Benefits Segment Operating Results." The persistency of individual disability business continues to be stable. 29 Revenue was $2,615.8 million for 2001 compared to $2,585.6 million in 2000. Income in the individual disability line of business was $274.8 million in 2001, a decrease of 3.7 percent over the prior year. Included in the results for 2001 was $14.0 million of estimated gross ultimate losses related to September 11, 2001, less an estimated recoverable from reinsurers of $4.0 million. Excluding this $10.0 million loss, income would have been essentially level with 2000. The benefit ratio of 107.7 percent for 2001 was slightly higher than the 2000 ratio of 106.6 percent. The interest adjusted loss ratio was 63.6 percent and 63.4 percent for 2001 and 2000, respectively. Submitted and paid claim incidence rates for the overall individual disability line of business increased from 2000 and are higher than recent historical incidence rates. The claim recovery rate for 2001 increased compared to the 2000 results. Individual disability also benefited from a slightly improved commission ratio for 2001 as compared to 2000, but the operating expense ratio increased. The overall individual disability results for 2001 were negatively impacted by the business issued during the mid-1990s and prior years. The interest adjusted loss ratios for later issue years are significantly below the overall ratio of 63.6 percent, even in the more poorly performing market segments and product lines. The improvement in the later issue year business reflects the substantial product, distribution, and underwriting changes made during that time period. The Company is reviewing internal and external alternatives, including reinsurance, for improving the overall results in its individual disability line of business, particularly as related to business issued prior to the mid-1990s. Revenue was $2,585.6 million in 2000 compared to $2,371.9 million in 1999. The growth in 2000 revenue was driven primarily by the growth in premium income as well as net investment income and other income. Premium income in 2000 included $96.6 million from an inforce block of individual disability business reinsured effective January 1, 2000. Other income benefited from the income on assets held in trust under this reinsurance arrangement. Net investment income for individual disability increased due to the increase in the level of invested assets allocated to this line of business. Income in the individual disability line of business was $285.3 million in 2000, an increase of $28.6 million from the prior year. As discussed in the preceding "Results of Operations," in the second quarter of 1999 the Company lowered the discount rate used to calculate certain of Unum's disability claim reserves to conform with Provident's process and assumptions, which decreased individual disability income by $38.9 million in 1999. Excluding this 1999 adjustment, individual disability income decreased $10.3 million in 2000 compared to 1999. See Note 2 of the "Notes to Consolidated Financial Statements" for further discussion. This line reported an increase in the benefit ratio for 2000 compared to last year's ratio, excluding the 1999 discount rate change. Submitted incidence for 2000 was slightly higher than the average for the year 1999, while paid incidence improved relative to the prior year. The claim acceptance rate declined throughout 1999 and 2000, and the net claim resolution rate for 2000 increased from 1999. Offsetting these trends was an increase in reserves for existing claims. Individual disability benefited from improved commission and operating expense ratios for 2000 as compared to 1999. The amortization of value of business acquired increased in 2000 primarily as a result of the amortization on the block of inforce business reinsured effective January 1, 2000. As noted in the "Employee Benefits Segment Operating Results," claim resolution rate assumptions were revised downward in the fourth quarter of 1998 for claim operations integration activities related to the merger. The Company recorded a $100.3 million charge in the fourth quarter of 1998 in the Individual segment related to the revised claim resolution rates for individual disability. If the impact of merger-related claim operations integration activities on claim durations had not been anticipated at December 31, 1998, income for the individual disability line of business would have been negatively impacted by $100.3 million in 1999. In addition, the excess of the actual 1999 experience over that assumed resulted in a positive effect on income of $25.6 million. Individual Long-term Care The individual long-term care line of business reported a 35 percent increase in premium income for 2001 compared to 2000, primarily due to new sales growth. New annualized sales for long-term care were $53.8 million for 2001, $47.7 million for 2000, and $40.0 million for 1999. The Company expects the strong sales momentum in individual long-term care to continue. Net investment income continues to increase due to the growth in this line of business. 30 Income in the individual long-term care line of business was $15.9 million in 2001 compared to $12.8 million for 2000, primarily due to an increase in revenue and an improvement in the commission and operating expense ratios. The benefit ratio increased when compared to 2000. The increase over the prior year resulted primarily from an increase in the active life reserve. Paid incidence was essentially unchanged from 2000, and the claim recovery rate increased. The individual long-term care line of business reported increased premium income for both 2000 and 1999 as compared to the previous years, primarily due to continued new sales growth. Income for 2000 was $12.8 million, compared to a loss of $2.6 million in 1999. The increase in revenue, as well as improvements in both the benefit ratio and operating expense ratios, contributed to the year over year increase. Voluntary Benefits Segment Operating Results (in millions of dollars)
Year Ended December 31 ---------------------------------------------------------- 2001 % Change 2000 % Change 1999 ------- ------- ------- Revenue Premium Income $ 790.7 6.9% $ 739.6 6.9% $ 691.6 Net Investment Income 124.6 9.9 113.4 6.4 106.6 Other Income 13.5 N.M. 6.3 -- 6.3 ------- ------- ------- Total 928.8 8.1 859.3 6.8 804.5 ------- ------- ------- Benefits and Expenses Benefits and Change in Reserves for Future Benefits 489.8 9.5 447.2 13.9 392.7 Commissions 173.5 14.3 151.8 9.4 138.7 Deferral of Policy Acquisition Costs (177.6) 16.9 (151.9) 2.8 (147.8) Amortization of Deferred Policy Acquisition Costs 126.1 12.3 112.3 (0.6) 113.0 Amortization of Value of Business Acquired 2.3 -- 2.3 (4.2) 2.4 Operating Expenses 153.6 7.0 143.6 (14.8) 168.5 ------- ------- ------- Total 767.7 8.8 705.3 5.7 667.5 ------- ------- ------- Income Before Federal Income Tax, Net Realized Investment Gain (Loss), and Extraordinary Loss $ 161.1 4.6 $ 154.0 12.4 $ 137.0 ======= ======= =======
The Voluntary Benefits segment includes the results of products sold to employees through payroll deduction at the workplace. These products include life insurance and health products, primarily disability, accident and sickness, and cancer. Revenue in the Voluntary Benefits segment increased to $928.8 million in 2001 from $859.3 million in 2000 primarily due to the increase in premium income which was attributable to sales growth and favorable persistency. New annualized sales for 2001 were $296.6 million, an increase of 11.9 percent over the prior year. Management continues its efforts to increase sales through the sales initiatives discussed under "Employee Benefits Segment Operating Results." For 2001, all of the product lines reported an increase in premium income and net investment income over 2000. The life and disability product lines both reported a marginal increase in the benefit ratio relative to 2000. The increase for life was due primarily to an increase in the size of the average paid claim. Claim payments for disability increased due to an increase in the average monthly indemnity and a lengthening of the duration of claims, but the incidence rates remained stable. The benefit ratio for the other line was higher in 2001 compared to 2000 due partially to the poor results from the block of business which was reinsured in the fourth quarter of 2001 and also due to an increase in the average claim size for the Company's other cancer products. 31 As previously discussed, during 2001 the Company reinsured on a 100 percent indemnity coinsurance basis certain cancer policies written by the Company's subsidiary, Colonial Life & Accident Insurance Company. The transaction closed during the fourth quarter with an effective date of November 1, 2001. The Company ceded approximately $113.6 million of reserves to the reinsurer. The $12.3 million before-tax gain on this transaction was deferred and is being amortized into income based upon expected future premium income on the policies ceded. The Company will continue to market its other cancer products. Revenue in the Voluntary Benefits segment increased to $859.3 million in 2000 from $804.5 million in 1999. Sales growth and continued favorable persistency were the primary factors contributing to the increase in premium income. New annualized sales in this segment were $265.0 million in 2000 and $245.3 million in 1999. The investment income growth in 2000 as compared to 1999 was due to the repositioning of the investment portfolio subsequent to the merger. Income for 2000 increased 12.4 percent over 1999, primarily due to revenue growth of $54.8 million. An additional positive impact on 2000 income was a favorable operating expense ratio attributable to costs savings resulting from the merger. The 2000 benefit ratio was higher than the ratio reported in 1999. The primary drivers were an increase in benefits in the life product line and an increase in the incurred and paid loss ratios for the cancer product line. Other Segment Operating Results (in millions of dollars)
Year Ended December 31 ---------------------------------------------------------------- 2001 % Change 2000 % Change 1999 -------- -------- -------- Revenue Premium Income $ 111.9 (77.5)% $ 497.7 (17.9)% $ 605.9 Net Investment Income 184.2 (51.2) 377.2 (31.4) 549.5 Other Income 50.4 70.8 29.5 (68.0) 92.2 -------- -------- -------- Total 346.5 (61.7) 904.4 (27.5) 1,247.6 -------- -------- -------- Benefits and Expenses Benefits and Change in Reserves for Future Benefits 213.0 (68.5) 675.7 (40.0) 1,126.8 Other Expenses 80.2 (56.7) 185.4 (38.1) 299.3 -------- -------- -------- Total 293.2 (66.0) 861.1 (39.6) 1,426.1 -------- -------- -------- Income (Loss) Before Federal Income Tax, Net Realized Investment Gain (Loss), and Extraordinary Loss $ 53.3 23.1 $ 43.3 N.M. $ (178.5) ======== ======== ========
The Other operating segment includes results from products no longer actively marketed, including individual life and corporate-owned life insurance, reinsurance pools and management operations, group pension, health insurance, and individual annuities. It is expected that revenue and income in this segment will decline over time as these business lines wind down. Management expects to reinvest the capital supporting these lines of business in the future growth of the Employee Benefits, Individual, and Voluntary Benefits segments. The closed blocks of business have been segregated for reporting and monitoring purposes. 32 Individual Life and Corporate-Owned Life As previously discussed, during 2000 the Company reinsured substantially all of the individual life and corporate-owned life insurance blocks of business. The Company ceded approximately $3.3 billion of reserves to the reinsurer. The $388.2 million before-tax gain on these transactions was deferred and is being amortized into income based upon expected future premium income on the traditional insurance policies ceded and estimated future gross profits on the interest-sensitive insurance policies ceded. The unamortized balance of the deferred gain was $343.9 million at the end of 2001 and $373.5 million at the end of 2000. The Company recognized a 2000 before-tax realized investment loss of $25.9 million on the fixed maturity securities transferred to the reinsurer. In connection with this realized loss, the Company retrospectively adjusted deferred policy acquisition costs and value of business acquired related to interest-sensitive individual life policies with credits to current period amortization of $9.4 million and $1.5 million, respectively, to reflect investment experience. See "Investments" for further discussion of the realized investment loss. Total revenue for individual life and corporate-owned life insurance was $42.7 million, $236.1 million, and $435.0 million in 2001, 2000, and 1999, respectively. Income for the same periods was $38.9 million, $49.6 million, and $65.6 million. Reinsurance Pools and Management The Company's reinsurance operations include the reinsurance management operations of Duncanson & Holt, Inc. (D&H) and the risk assumption, which includes reinsurance pool participation; direct reinsurance which includes accident and health (A&H), long-term care (LTC), and long-term disability coverages; and Lloyd's of London (Lloyd's) syndicate participations. During 1999, the Company concluded that these operations were not solidly aligned with the Company's strength in the disability insurance market and decided to exit these operations through a combination of a sale, reinsurance, and/or placing certain components in run-off. In 1999, the Company sold the reinsurance management operations of its A&H and LTC reinsurance facilities and reinsured the Company's risk participation in these facilities. The Company also decided to discontinue its London accident reinsurance pool participation beginning in year 2000. With respect to Lloyd's, the Company implemented a strategy which limited participation in year 2000 underwriting risks, ceased participation in Lloyd's underwriting risks after year 2000, and managed the run-off of its risk participation in open years of account of Lloyd's reinsurance syndicates. During 2001, the Company entered into an agreement to limit its liabilities pertaining to the Lloyd's syndicate participations. Separately, the Company also reinsured 100 percent of the group disability reinsurance reserves and all future business underwritten and managed by Duncanson and Holt Services, Inc., a subsidiary of D&H. The transaction, in which reserves of approximately $323.8 million were ceded to the reinsurer, had an effective date of January 1, 2001. In a separate but related transaction, the Company also sold the reinsurance management operations of Duncanson and Holt Services, Inc. and divested the remaining assets of that facility during 2001. See Note 13 of the "Notes to Consolidated Financial Statements" for further discussion of the reinsurance operations. During 2001, the reinsurance pools and management operations reported a gain of $0.1 million compared to losses of $32.7 million in 2000 and $279.7 million in 1999. Included in the 2000 results were $37.4 million of charges related to the Company's London accident reinsurance pool participation. During 1999, the Company recorded charges of $270.1 million resulting from its decision to exit these pools, but at that time there was insufficient information to fully evaluate all of the exposures. During 2000, additional changes to fund these exposures and provide for the run-off of its participation resulted in a claim reserve adjustment of $21.9 million and uncollectible receivables and loss provisions of $15.5 million. In 1999, an additional $57.7 million was recorded in the Corporate segment related to the write-off of goodwill. See "Results of Operations" contained herein in Item 7 and Note 13 of the "Notes to Consolidated Financial Statements" in Item 8 for further discussion of the 1999 and 2000 charges related to the reinsurance operations. Also, as previously discussed in the preceding "Results of Operations," during 1999 the Company lowered the discount rate used to calculate certain of Unum's disability claim reserves to conform with Provident's process and assumptions, which decreased the group long-term disability reinsurance income reported in this line of business by $10.1 million in 1999. 33 In the fourth quarter of 1998, the Company recorded a $2.4 million charge related to the revised claim resolution rates for group long-term disability reinsurance. If the impact of merger-related claim operations integration activities on claim duration had not been anticipated at December 31, 1998, 1999 income for the reinsurance pools and management line of business would have been negatively impacted by $2.4 million. Other Group pension, health insurance, individual annuities, and other closed lines of business had revenue of $201.3 million, $219.4 million, and $279.1 million in 2001, 2000, and 1999 and income of $14.3 million, $26.4 million, and $35.6 million. Decreases in revenue and income are expected to continue as these lines of business wind down. Included in these amounts are the Company's operating results for its operations in Argentina, which produced revenue of $47.1 million, $40.2 million, and $32.9 million in 2001, 2000, and 1999 and income (losses) of $1.1 million, $2.7 million, and $(0.8) million in each of those three years. As previously mentioned, the Company in 2001 wrote off the remaining goodwill balance of $5.4 million related to its operations in Argentina. The goodwill write-off is included in the Corporate segment operating results. The net assets related to the Argentina operations were approximately $9.2 million at December 31, 2001. Corporate Segment Operating Results The Corporate segment includes investment income on corporate assets not specifically allocated to a line of business, corporate interest expense, amortization of goodwill, and certain corporate expenses not allocated to a line of business. Revenue in the Corporate segment was $44.6 million in 2001, $48.1 million in 2000, and $67.7 million in 1999. As previously discussed under "Results of Operations," during 1999 the Company recorded refunds from the Internal Revenue Service relating to the final settlement of remaining issues for the 1986 through 1992 tax years. The interest on the refunds was $35.4 million and is included in 1999 revenue. The Corporate segment reported losses of $169.2 million in 2001, $49.5 million in 2000, and $484.6 million in 1999. Interest and debt expense was $169.6 million in 2001, $181.8 million in 2000, and $137.8 million in 1999. The amortization of goodwill was $26.6 million in 2001, $22.3 million in 2000, and $82.6 million in 1999. The Company recorded write-downs of goodwill of $5.4 million in 2001 related to its Argentina operations and $57.7 million during 1999 related to its reinsurance operations. See previous discussion under "Other Segment Operating Results" and Note 13 of the "Notes to Consolidated Financial Statements" for further discussion. Results for 2000 were positively impacted by the gain of $116.1 million on the pension plan transaction, partially offset by consolidation and benefit accruals of $9.4 million. See previous discussion contained herein in "Results of Operations" and Note 10 of the "Notes to Consolidated Financial Statements." As previously discussed, during 1999 the Company recognized $310.6 million of before-tax expenses related to the merger and the early retirement offer to employees. These expenses are as follows (in millions of dollars):
Employee related expense $ 77.7 Exit activities related to duplicate facilities/asset abandonments 67.4 Investment banking, legal, and accounting fees 39.6 ------ Subtotal 184.7 Expense related to the early retirement offer to employees 125.9 ------ Subtotal 310.6 Income tax benefit 89.2 ------ Total $221.4 ======
Employee related expense consists of employee severance costs, change in control costs, restricted stock costs which fully vested upon stockholder adoption of the merger agreement or upon completion of the merger, and outplacement costs to assist employees who are involuntarily terminated. Severance benefits and change in control costs were $60.2 million, and costs associated with the vesting of restricted stock were $17.5 million. 34 Exit activities related to duplicate facilities/asset abandonments consist of closing of duplicate offices and write-off of redundant computer hardware and software. The cost associated with these office closures was approximately $25.6 million, which represents the cost of future minimum lease payments less any estimated amounts recovered under subleases. Also, certain physical assets, primarily computer equipment, redundant systems, and systems incapable of supporting the combined entity, were abandoned as a result of the merger, resulting in a write-down of the assets' book values by approximately $41.8 million. The exit plan was complete as of June 30, 2000. In addition to the expenses described above, in 1999 the Company expensed $24.7 million of other incremental costs associated with the merger, $21.8 million of which are included in the Corporate segment. These expenses consist primarily of compensation, training, integration, and licensing costs. Investments Investment activities are an integral part of the Company's business, and profitability is significantly affected by investment results. Invested assets are segmented into portfolios, which support the various product lines. Generally, the investment strategy for the portfolios is to match the effective asset cash flows and durations with related expected liability cash flows and durations and to maximize investment returns, subject to constraints of quality, liquidity, diversification, and regulatory considerations. See Notes 4 and 5 of the "Notes to Consolidated Financial Statements" for further discussion of the Company's investments and derivative financial instruments. Excluding the net investment income reported in the Other segment, which continues its expected decline as these product lines are sold, reinsured, or wind down, 2001 net investment income increased 8.1 percent over the previous year. The overall yield in the portfolio remains relatively stable at 8.02 percent as of the end of 2001 compared to 8.06 percent at the end of 2000. The Company is actively marketing its real estate investments and presently evaluating the possible sale of all or a portion of the mortgage loan portfolio for replacement with longer duration securities. The Company reported a before-tax net realized investment loss of $40.6 million in 2001. The loss was the net of gains of $150.6 million and losses of $191.2 million, including write-downs of $153.8 million recognized as a result of management's determination that the value of certain fixed maturity securities had other than temporarily declined. During 2000, the Company reported a net realized investment loss before tax of $14.6 million, including the realized investment loss of $25.9 million on the investment-grade fixed maturity securities transferred to the reinsurer in connection with the individual life and corporate-owned life reinsurance transactions. The loss on these transferred securities was driven by a change in market interest rates and was not attributable to any credit deterioration. Excluding the reinsurance transaction related loss, the Company reported a net gain of $51.0 million in 2000 from the sale of fixed maturity and equity securities. Offsetting this gain was a $94.0 million realized investment loss recognized because the value of certain fixed maturity securities had other than temporarily declined. The following table provides the distribution of invested assets for the years indicated. Policy loans are reported on a gross basis in the consolidated statements of financial condition and in the table below. Policy loans of $2.3 billion and $2.2 billion were ceded as of December 31, 2001 and 2000, respectively, and the investment income thereon is no longer included in income.
December 31 ----------------- 2001 2000 ------ ------ Investment-Grade Fixed Maturity Securities 78.1% 78.3% Below-Investment-Grade Fixed Maturity Securities 8.0 6.6 Equity Securities 0.1 0.1 Mortgage Loans 3.3 4.3 Real Estate 0.2 0.4 Policy Loans 8.9 9.1 Other Invested Assets 1.4 1.2 ------ ------ Total 100.0% 100.0% ====== ======
35 Fixed Maturity Securities The Company's investment in mortgage-backed securities was approximately $3.8 billion and $3.5 billion on an amortized cost basis at December 31, 2001 and 2000, respectively. At December 31, 2001, the mortgage-backed securities had an average life of 9.5 years and effective duration of 8.5 years. The mortgage-backed securities are valued on a monthly basis using valuations supplied by the brokerage firms that are dealers in these securities. The primary risk involved in investing in mortgage-backed securities is the uncertainty of the timing of cash flows from the underlying loans due to prepayment of principal. The Company uses models which incorporate economic variables and possible future interest rate scenarios to predict future prepayment rates. The Company has not invested in mortgage-backed derivatives, such as interest-only, principal-only or residuals, where market values can be highly volatile relative to changes in interest rates. The Company's exposure to below-investment-grade fixed maturity securities at December 31, 2001, was $2,261.7 million, representing 8.7 percent of invested assets excluding ceded policy loans, below the Company's internal limit of 10.0 percent of invested assets for this type of investment. The Company's exposure to below-investment-grade fixed maturities totaled $1,760.8 million at December 31, 2000, representing 7.2 percent of invested assets. The year over year increase resulted from downgrades of existing securities that were previously investment grade rather than the purchase of additional below-investment-grade securities. Below-investment-grade bonds are inherently more risky than investment-grade bonds since the risk of default by the issuer, by definition and as exhibited by bond rating, is higher. Also, the secondary market for certain below-investment-grade issues can be highly illiquid. The Company expects additional downgrades to occur during 2002, with resulting realized investment losses. The Company does not anticipate any liquidity problem caused by the investments in below-investment-grade securities, nor does it expect these investments to adversely affect its ability to hold its other investments to maturity. The Company has investments in four special purpose entities whose purposes are to support the Company's investment objectives. These entities are for asset collateralization and contain specific investment securities that do not include the Company's common stock or debt. These investments are described as follows: During 2001, the Company invested in two special purpose entity trusts that have underlying assets consisting of unrelated equity securities. The investments in these trusts qualify as fixed maturity securities under generally accepted accounting principles and were reported at fair value in the consolidated statements of financial condition contained herein in Item 8. The fair value of these investments was derived from the fair value of the underlying assets based on quoted market prices. The fair value and amortized cost of these investments were $50.5 million and $58.1 million, respectively, at December 31, 2001. The Company has an investment in a collateralized bond obligation asset trust in which it is also the investment manager of the underlying high-yield securities. This investment was reported at fair value with fixed maturity securities in the consolidated statements of financial condition. The fair value of this investment was derived from the fair value of the underlying assets based on quoted market prices. The fair value and amortized cost of this investment was $20.4 million and $46.0 million, respectively, at December 31, 2001 and $29.4 million and $51.9 million at December 31, 2000. At December 31, 2001, the Company had a retained interest in a special purpose entity trust that was securitized with financial assets consisting of a United States Treasury bond and several limited partnership equity interests. This investment was reported at fair value and included with fixed maturity securities in the consolidated statements of financial condition. The fair value of this investment was derived from the fair value of the underlying assets, which are based on quoted market prices as well as the limited partnership capital balances. The fair value and amortized cost of this investment was $113.6 million and $122.6 million, respectively, at December 31, 2001 and $121.8 million and $114.5 million at December 31, 2000. At December 31, 2001, the Company had capital commitments of $21.7 million to this special purpose entity trust. These funds are due upon satisfaction of contractual notice from the trust. These amounts may or may not be funded during the term of the trust. 36 Mortgage Loans and Real Estate The Company's mortgage loan portfolio was $941.2 million and $1,135.6 million at December 31, 2001 and 2000, respectively. The mortgage loan portfolio is well diversified geographically and among property types. The incidence of new problem mortgage loans and foreclosure activity remains low, and management expects the level of delinquencies and problem loans to remain low in the future. No new mortgage loans were added to the Company's investment portfolio during 2001 and 2000 other than two purchase money mortgages associated with the sale of real estate. At December 31, 2001 and 2000, impaired loans totaled $13.1 million and $17.7 million, respectively. Included in the impaired mortgage loans at December 31, 2001 were $6.4 million of loans which had a related, specific investment valuation allowance of $2.4 million and $6.7 million of loans which had no related, specific allowance. Impaired mortgage loans are not expected to have a material impact on the Company's liquidity, financial position, or results of operations. Restructured mortgage loans totaled $5.7 million and $8.5 million at December 31, 2001 and 2000, respectively, and represent loans that have been refinanced with terms more favorable to the borrower. Interest lost on restructured loans was immaterial for 2001 and 2000. Real estate was $51.8 million and $116.7 million at December 31, 2000 and 1999. Investment real estate is carried at cost less accumulated depreciation. Real estate acquired through foreclosure is valued at fair value at the date of foreclosure and may be classified as investment real estate if it meets the Company's investment criteria. If investment real estate is determined to be permanently impaired, the carrying amount of the asset is reduced to fair value. Occasionally, investment real estate is reclassified to real estate held for sale when it no longer meets the Company's investment criteria. Real estate held for sale, which is valued net of a valuation allowance that reduces the carrying value to the lower of cost or fair value less estimated cost to sell, amounted to $7.6 million at December 31, 2001, and $18.3 million at December 31, 2000. The Company uses a comprehensive rating system to evaluate the investment and credit risk of each mortgage loan and to identify specific properties for inspection and reevaluation. The Company establishes an investment valuation allowance for mortgage loans based on a review of individual loans and the overall loan portfolio, considering the value of the underlying collateral. Investment valuation allowances for real estate held for sale are established based on a review of specific assets. If a decline in value of a mortgage loan or real estate investment is considered to be other than temporary or if the asset is deemed permanently impaired, the investment is reduced to estimated net realizable value, and the reduction is recognized as a realized investment loss. Management monitors the risk associated with these invested asset portfolios and regularly reviews and adjusts the investment valuation allowance. As a result of management's most recent review of the overall mortgage loan portfolio and based on management's expectation that delinquencies and problem loans will remain low, the valuation allowance on mortgage loans was reduced $10.5 million during 2001. The real estate valuation allowance was reduced $5.7 million during 2001 in conjunction with the sale of the associated property. At December 31, 2001, the balance in the valuation allowance for mortgage loans and real estate was $2.4 million and $19.9 million, respectively. Other The Company's exposure to non-current investments totaled $176.7 million at December 31, 2001, or 0.7 percent of invested assets excluding ceded policy loans. These non-current investments are foreclosed real estate held for sale and fixed income securities and mortgage loans that became more than thirty days past due in principal and interest payments. The Company has an investment program wherein it simultaneously enters into repurchase transactions and reverse repurchase transactions with the same party. The Company nets the related receivables and payables in the consolidated statements of financial condition as these transactions are with the same party and include a right of offset. As of December 31, 2001, the Company had $391.7 million face value of these contracts in an open position that were offset. 37 Historically, the Company has utilized interest rate futures contracts, current and forward interest rate swaps, interest rate forward contracts, and options on forward interest rate swaps, forward treasuries, or specific fixed income securities to manage duration and increase yield on cash flows expected from current holdings and future premium income. Positions under the Company's hedging programs for derivative activity that were open during 2001 involved current and forward interest rate swaps, as well as currency swaps which are used to hedge the currency risk of certain foreign currency denominated fixed income securities. All transactions are hedging in nature and not speculative. Almost all transactions are associated with the individual and group long-term care and the individual and group disability product portfolios. All other product portfolios are periodically reviewed to determine if hedging strategies would be appropriate for risk management purposes. Liquidity and Capital Resources The Company's liquidity requirements are met primarily by cash flows provided from operations, principally in its insurance subsidiaries. Premium and investment income, as well as maturities and sales of invested assets, provide the primary sources of cash. Cash is applied to the payment of policy benefits, costs of acquiring new business (principally commissions), and operating expenses as well as purchases of new investments. The Company has established an investment strategy that management believes will provide for adequate cash flows from operations. Cash flows from operations were $1,770.6 million for the year ended December 31, 2001, as compared to $1,211.5 million and $1,566.7 million for the comparable periods of 2000 and 1999, respectively. The Company believes the cash flows from its operations will be sufficient to meet its operating and financial cash flow requirements, excluding the strain placed on capital as a result of the charges recorded in connection with the merger. As a result of the effect on capital during 1999 of the merger related charges, the Company raised approximately $500 million through the debt markets during the fourth quarter of 1999 by securing $200 million of one-year bank debt and by issuing commercial paper. The Company's source of cash could be negatively impacted by a decrease in demand for the Company's insurance products or an increase in the incidence of new claims or the duration of existing claims. The Company's policy benefits are primarily in the form of claim payments, and the Company therefore has minimal exposure to the policy withdrawal risk associated with deposit products such as individual life policies or annuities. Cash flow could also be negatively impacted by a deterioration in the credit market whereby the Company's ability to liquidate its positions in certain of its fixed maturity securities would be impacted such that the Company might not be able to dispose of these investments in a timely manner. The Company is dependent upon payments from its subsidiaries to pay dividends to its stockholders and to pay its expenses. These payments by the Company's insurance and non-insurance subsidiaries may take the form of interest payments on amounts loaned to such subsidiaries by the Company, operating and investment management fees, and/or dividends. At December 31, 2001, the Company had outstanding from its insurance subsidiaries a $150.0 million surplus debenture due in 2006 with a weighted average interest rate during 2001 of 7.85 percent and a $100.0 million surplus debenture due in 2027 with a weighted average interest rate during 2001 of 8.25 percent. Semi-annual interest payments are conditional upon the approval by the insurance department of the state of domicile. Restrictions under applicable insurance laws limit the amount of ordinary dividends that can be paid to the Company from its insurance subsidiaries without prior approval by regulatory authorities. Generally, for life insurance subsidiaries domiciled or commercially domiciled in the United States, that limitation equals the greater of ten percent of an insurer's statutory surplus with respect to policyholders as of the preceding year end or the statutory net gain from operations, excluding realized investment gains and losses, of the preceding year. Further, pursuant to the 1999 merger of Unum and Provident, the Company is required to obtain approval from the Maine Bureau of Insurance (Maine Bureau) regarding payment of ordinary dividends from the Company's Maine domiciled insurance subsidiary until 2004. The payment of ordinary dividends to the Company from its insurance subsidiaries is further limited to the amount of statutory surplus as it relates to policyholders. Based on the restrictions under current law, during 2002 $384.9 million is available for the payment of ordinary dividends to the Company from its domestic insurance subsidiaries. Of this amount, $121.8 million is conditional upon approval from the Maine Bureau. 38 The Company also has the ability to draw a dividend from its United Kingdom-based affiliate, Unum Limited. Such dividends are limited in amount, based on insurance company law in the United Kingdom, which requires a minimum solvency margin. Approximately $27.5 million will be available for the payment of dividends from Unum Limited during 2002. The amount available during 2001 for the payment of ordinary dividends from the Company's domestic insurance subsidiaries was $359.9 million, including $149.2 million available with approval from the Maine Bureau. Of the total available, $148.6 million was utilized, including $50.0 million as requested by the Company and approved by the Maine Bureau. The amount available during 2001 from Unum Limited was $20.9 million, none of which was utilized. The ability of the Company to continue to receive dividends from its insurance subsidiaries without regulatory approval will be dependent upon the level of earnings of its insurance subsidiaries as calculated under law. In addition to regulatory restrictions, the amount of dividends that will be paid by insurance subsidiaries will depend on additional factors, such as risk-based capital ratios, funding growth objectives at an affiliate level, and maintaining appropriate capital adequacy ratios to support the ratings desired by the Company. Regulatory restrictions do not limit the amount of dividends available for distribution to the Company from its non-insurance subsidiaries. At December 31, 2001, the Company had short-term and long-term debt totaling $161.8 million and $2,004.2 million, respectively. At December 31, 2001, approximately $403.0 million was available for additional financing under the Company's revolving credit facilities. The debt to total capital ratio was 29.8 percent at December 31, 2001 compared to 30.2 percent at December 31, 2000. Contingent upon market conditions and corporate needs, management may refinance short-term notes payable with longer-term securities. During 2001 the Company redeemed its $172.5 million par value 8.8% monthly income debt securities (junior subordinated debt), which were due in 2025 but callable at par in 2000 and thereafter. This early redemption is expected to lower the Company's financing costs in 2002 through the use of commercial paper available at lower interest rates. The early extinguishment of debt resulted in a write-off of the remaining deferred debt cost of $4.5 million associated with the issuance of the securities. The extraordinary loss, net of a $1.6 million tax benefit, was $2.9 million. During the fourth quarter of 2000, the Company entered into $1.0 billion senior revolving credit facilities with a group of banks. The facilities, which are split into five-year revolver and 364-day portions, replaced a 364-day revolver which expired in October 2000 and a five-year revolver which has been canceled. The new facilities are available for general corporate purposes, including support of the Company's $1.0 billion commercial paper program, and contain certain covenants that, among other provisions, include a minimum tangible net worth requirement, a maximum leverage ratio restriction, and a limitation on debt relative to the consolidated statutory earnings of the Company's insurance subsidiaries. The 364-day portion of the credit facilities was renewed as of October 30, 2001. During the third quarter of 2000, the Company filed with the Securities and Exchange Commission a shelf registration on Form S-3 covering the issuance of up to $1.0 billion of securities in order to provide funding alternatives for its maturing debt. The shelf registration became effective in September 2000. In March 2001, the Company completed a long-term debt offering, issuing $575.0 million of 7.625% senior notes due March 1, 2011. Contingent upon market conditions and corporate needs, remaining funding under the shelf registration will be used to refinance debt on a longer-term basis and/or to fund other corporate needs. During the second quarter of 2000, the Company issued $200.0 million of variable rate notes in a privately negotiated transaction. The notes were used to refinance other short-term debt and had a weighted average interest rate of 7.52 percent during the first quarter of 2001. The notes matured in April 2001. 39 In 1998, the Company completed a public offering of $200.0 million of 7.25% senior notes due March 15, 2028. In 1998, Provident Financing Trust I, a wholly-owned subsidiary trust of the Company, issued $300.0 million of 7.405% capital securities in a public offering. These capital securities, which mature on March 15, 2038, are fully and unconditionally guaranteed by the Company, have a liquidation value of $1,000 per capital security, and have a mandatory redemption feature under certain circumstances. The Company issued $300.0 million of 7.405% junior subordinated deferrable interest debentures, which mature on March 15, 2038, to the subsidiary trust in connection with the capital securities offering. The sole assets of the subsidiary trust are the junior subordinated debt securities. In 1998, the Company completed a public offering of $200.0 million of 6.375% senior notes due July 15, 2005, and $200.0 million of 7.0% senior notes due July 15, 2018. In December 1998, the Company issued $250.0 million of 6.75% senior notes, which mature in 2028. Contractual debt and Company-obligated mandatorily redeemable preferred securities commitments are as follows (in millions of dollars):
Payments Due by Period ---------------------------------------------------------------- Less than 1 to 3 4 to 5 After Total 1 Year Years Years 5 Years -------- -------- -------- -------- -------- Short-term Debt $ 161.8 $ 161.8 $ -- $ -- $ -- Long-term Debt 2,004.2 470.2 247.0 -- 1,287.0 Company-Obligated Mandatorily Redeemable Preferred Securities 300.0 -- -- -- 300.0 -------- -------- -------- -------- -------- Total $2,466.0 $ 632.0 $ 247.0 $ -- $1,587.0 ======== ======== ======== ======== ========
Commercial paper debt of $470.2 million was classified as long-term at December 31, 2001 because the Company has the ability through the senior revolving credit facilities to convert this obligation into long-term debt. The Company intends to refinance the commercial paper either by issuing additional commercial paper or by replacing commercial paper debt with long-term debt issued under the current shelf registration statement. The Company has an agreement with an outside party wherein the Company is provided computer data processing services and related functions. The contract expires in 2010, but the Company may cancel this agreement effective August 2005 or later upon payment of applicable cancellation charges. The aggregate noncancelable contractual obligation remaining under this agreement is $258.8 million at December 31, 2001, with no annual payment expected to exceed $69.9 million. As previously discussed, at December 31, 2001, the Company had capital commitments of $21.7 million to fund a special purpose entity trust in which the Company has a retained interest. The Company also has capital commitments of $36.6 million to fund certain of its private placement fixed maturity securities. The funds are due upon satisfaction of contractual notice from the issuer. These amounts may or may not be funded during the term of the security. 40 Ratings Standard & Poor's Corporation (S&P), Moody's Investors Service (Moody's), Fitch, Inc. (Fitch), and A.M. Best Company (AM Best) are among the third parties that provide the Company assessments of its overall financial position. Ratings from these agencies for financial strength are available for the individual U.S. domiciled insurance company subsidiaries. Financial strength ratings are based primarily on U.S. statutory financial information for the individual U.S. domiciled insurance companies. Debt ratings for the Company are based primarily on consolidated financial information prepared using generally accepted accounting principles. Both financial strength ratings and debt ratings incorporate qualitative analyses by rating agencies on an ongoing basis. If the Company were to experience negative operating trends, it could result in a downgrade of the current ratings, which might impact the Company's ability to sell and retain its business. The table below reflects the current debt ratings for the Company and the financial strength ratings for the U.S. domiciled insurance company subsidiaries.
- ------------------------------------------------------------------------------------------------------------------------ S&P Moody's Fitch AM Best ----------------- ------------------ ----------------- ------------- - ------------------------------------------------------------------------------------------------------------------------ UnumProvident Corporation - ------------------------------------------------------------------------------------------------------------------------ Senior Debt A- (Strong) Baa1 (Medium Grade) A- (High a- (Strong) Credit Quality) - ------------------------------------------------------------------------------------------------------------------------ Commercial Paper A-2 (Good) Prime-2 (Strong F2 (Good AMB-2 Ability) Credit Quality) (Acceptable) - ------------------------------------------------------------------------------------------------------------------------ U.S. Insurance Subsidiaries - ------------------------------------------------------------------------------------------------------------------------ Provident Life & Accident AA- (Very Strong) A2 (Good Financial AA- (Very Strong) A (Excellent) Security) - ------------------------------------------------------------------------------------------------------------------------ Provident Life & Casualty Not Rated Not Rated Not Rated A (Excellent) - ------------------------------------------------------------------------------------------------------------------------ Unum Life of America AA- (Very Strong) A2 (Good Financial AA- (Very Strong) A (Excellent) Security) - ------------------------------------------------------------------------------------------------------------------------ First Unum Life AA- (Very Strong) A2 (Good Financial AA- (Very Strong) A (Excellent) Security) - ------------------------------------------------------------------------------------------------------------------------ Colonial Life & Accident AA- (Very Strong) A2 (Good Financial AA- (Very Strong) A (Excellent) Security) - ------------------------------------------------------------------------------------------------------------------------ Paul Revere Life AA- (Very Strong) A2 (Good Financial AA- (Very Strong) A (Excellent) Security) - ------------------------------------------------------------------------------------------------------------------------ Paul Revere Variable AA- (Very Strong) A2 (Good Financial AA- (Very Strong) A (Excellent) Security) - ------------------------------------------------------------------------------------------------------------------------
41 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK The Company is subject to various market risk exposures including interest rate risk and foreign exchange rate risk. The following discussion regarding the Company's risk management activities includes forward-looking statements that involve risk and uncertainties. Estimates of future performance and economic conditions are reflected assuming certain changes in market rates and prices were to occur (sensitivity analysis). Caution should be used in evaluating the Company's overall market risk from the information presented below, as actual results may differ. The Company employs various derivative programs to manage these material market risks. See Notes 4 and 5 of the "Notes to Consolidated Financial Statements" for further discussions of the qualitative aspects of market risk, including derivative financial instrument activity. Interest Rate Risk The operations of the Company are subject to risk resulting from interest rate fluctuations, primarily long-term U.S. interest rates. Changes in interest rates and individuals' behavior affect the amount and timing of asset and liability cash flows. Management continually models and tests asset and liability portfolios to improve interest rate risk management and net yields. Testing the asset and liability portfolios under various interest rate and economic scenarios allows management to choose the most appropriate investment strategy, as well as to prepare for disadvantageous outcomes. This analysis is the precursor to the Company's activities in derivative financial instruments. The Company uses interest rate swaps, interest rate forward contracts, exchange-traded interest rate futures contracts, and options to hedge interest rate risks and to match asset durations and cash flows with corresponding liabilities. Assuming an immediate increase of 100 basis points in interest rates from year end levels, the net hypothetical decrease in stockholders' equity related to financial and derivative instruments was estimated to be $0.8 billion at December 31, 2001 and 2000. The fair values of mortgage loans, which are reported in the consolidated statements of financial condition at amortized cost, would decrease by approximately $50 million and $70 million, respectively, at December 31, 2001 and 2000. Held-to-maturity securities are also reported at amortized cost and would decrease by approximately $40 million at December 31, 2000. There were no held-to-maturity securities at December 31, 2001. At December 31, 2001 and 2000, assuming a 100 basis point decrease in long-term interest rates from year end levels, the fair values of the Company's long-term debt would increase approximately $125 million and $100 million, respectively, and the fair values of the company-obligated mandatorily redeemable preferred securities would increase approximately $40 million and $30 million, respectively. The effect of a change in interest rates on asset prices was determined using a matrix pricing system whereby all securities were priced with the resulting market rates and spreads assuming a change of 100 basis points. These hypothetical prices were compared to the actual prices for the period to compute the overall change in market value. The changes in the fair values of long-term debt and company-obligated mandatorily redeemable preferred securities were determined using discounted cash flows analyses. Because the Company actively manages its investments and liabilities, actual changes could be less than those estimated above. Foreign Currency Risk The Company is also subject to foreign exchange risk arising from its foreign operations and certain investment securities dominated in those local currencies. Foreign operations represented 7.4 percent and 7.7 percent of total assets at December 31, 2001 and 2000, respectively, and 8.7 percent and 9.7 percent of total revenue for 2001 and 2000, respectively. Assuming foreign exchange rates decreased 10 percent from the December 31, 2001 and 2000 levels, year end 2001 and 2000 stockholders' equity would not be materially affected. 42 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS Board of Directors and Stockholders UnumProvident Corporation and Subsidiaries We have audited the accompanying consolidated statements of financial condition of UnumProvident Corporation and subsidiaries as of December 31, 2001 and 2000, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2001. The consolidated financial statements give retroactive effect to the merger of Unum Corporation and Provident Companies, Inc. on June 30, 1999, which has been accounted for using the pooling of interests method as described in the notes to the consolidated financial statements. Our audits also included the financial statement schedules listed in the index at Item 14(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, based on our audits, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of UnumProvident Corporation and subsidiaries at December 31, 2001 and 2000, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2001 after giving retroactive effect to the merger of Unum Corporation, as described in the notes to the consolidated financial statements, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, based on our audits, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein. /s/ ERNST & YOUNG LLP Chattanooga, Tennessee February 6, 2002, except for Note 15, for which the date is March 21, 2002 43 CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION UnumProvident Corporation and Subsidiaries
December 31 2001 2000 (in millions of dollars) ----------------------------- Assets Investments Fixed Maturity Securities Available-for-Sale - at fair value (amortized cost: $23,821.0; $21,931.2) $24,393.0 $22,242.3 Held-to-Maturity - at amortized cost (fair value: $ -; $369.8) -- 346.6 Equity Securities - at fair value (cost: $9.4; $23.2) 10.9 24.5 Mortgage Loans 941.2 1,135.6 Real Estate 51.8 116.7 Policy Loans 2,517.0 2,426.7 Other Long-term Investments 30.4 32.3 Short-term Investments 379.7 279.4 --------- --------- Total Investments 28,324.0 26,604.1 Other Assets Cash and Bank Deposits 123.9 107.1 Accounts and Premiums Receivable 1,789.4 1,851.3 Reinsurance Receivable 6,224.0 6,046.5 Accrued Investment Income 601.3 532.2 Deferred Policy Acquisition Costs 2,674.8 2,424.0 Value of Business Acquired 542.2 591.6 Goodwill 674.7 683.3 Property and Equipment 386.9 387.5 Miscellaneous 1,058.4 1,068.7 Separate Account Assets 43.1 67.6 --------- --------- Total Assets $42,442.7 $40,363.9 ========= =========
See notes to consolidated financial statements. 44 CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION - Continued UnumProvident Corporation and Subsidiaries
December 31 2001 2000 (in millions of dollars) -------------------------- Liabilities and Stockholders' Equity Liabilities Policy and Contract Benefits $ 1,926.1 $ 1,796.8 Reserves for Future Policy and Contract Benefits 27,182.9 25,633.9 Unearned Premiums 328.3 332.8 Other Policyholders' Funds 2,542.5 2,645.1 Federal Income Tax Current 19.0 68.4 Deferred 509.9 430.8 Short-term Debt 161.8 402.2 Long-term Debt 2,004.2 1,615.5 Other Liabilities 1,485.0 1,495.3 Separate Account Liabilities 43.1 67.6 --------- --------- Total Liabilities 36,202.8 34,488.4 --------- --------- Commitments and Contingent Liabilities - Note 15 Company-Obligated Mandatorily Redeemable Preferred Securities of Subsidiary Trust Holding Solely Junior Subordinated Debt Securities of the Company 300.0 300.0 --------- --------- Stockholders' Equity - Note 11 Common Stock, $0.10 par Authorized: 725,000,000 shares Issued: 242,394,996 and 241,310,917 shares 24.2 24.1 Additional Paid-in Capital 1,064.1 1,040.2 Accumulated Other Comprehensive Income (Loss) Net Unrealized Gain on Securities 61.0 212.8 Net Gain on Cash Flow Hedges - Note 1 78.1 -- Foreign Currency Translation Adjustment (91.1) (72.1) Retained Earnings 4,816.3 4,379.7 Treasury Stock - at cost: 176,295 shares (9.2) (9.2) Deferred Compensation (3.5) -- --------- --------- Total Stockholders' Equity 5,939.9 5,575.5 --------- --------- Total Liabilities and Stockholders' Equity $42,442.7 $40,363.9 ========= =========
See notes to consolidated financial statements. 45 CONSOLIDATED STATEMENTS OF OPERATIONS UnumProvident Corporation and Subsidiaries
Year Ended December 31 2001 2000 1999 (in millions of dollars, except share data) ------------------------------------------ Revenue Premium Income $ 7,078.2 $ 7,057.0 $ 6,843.2 Net Investment Income 2,002.9 2,060.4 2,059.7 Net Realized Investment Gain (Loss) (40.6) (14.6) 87.1 Other Income 354.3 329.5 339.6 ------------ ------------ ------------ Total Revenue 9,394.8 9,432.3 9,329.6 ------------ ------------ ------------ Benefits and Expenses Benefits and Change in Reserves for Future Benefits 6,234.3 6,407.5 6,787.6 Commissions 782.8 754.1 913.6 Interest and Debt Expense 169.6 181.8 137.8 Deferral of Policy Acquisition Costs (695.9) (595.7) (809.3) Amortization of Deferred Policy Acquisition Costs 432.7 456.5 474.8 Amortization of Value of Business Acquired and Goodwill 75.0 67.3 120.9 Other Operating Expenses 1,571.2 1,295.2 1,869.7 ------------ ------------ ------------ Total Benefits and Expenses 8,569.7 8,566.7 9,495.1 ------------ ------------ ------------ Income (Loss) Before Federal Income Tax and Extraordinary Loss 825.1 865.6 (165.5) Federal Income Tax (Credit) Current 139.2 195.7 141.2 Deferred 103.8 105.7 (123.8) ------------ ------------ ------------ Total Federal Income Tax 243.0 301.4 17.4 ------------ ------------ ------------ Income (Loss) Before Extraordinary Loss 582.1 564.2 (182.9) Extraordinary Loss, Net of Tax - Note 9 (2.9) -- -- ------------ ------------ ------------ Net Income (Loss) $ 579.2 $ 564.2 $ (182.9) ============ ============ ============ Earnings Per Common Share Basic Income (Loss) Before Extraordinary Loss $ 2.41 $ 2.34 $ (0.77) Net Income (Loss) $ 2.40 $ 2.34 $ (0.77) Assuming Dilution Income (Loss) Before Extraordinary Loss $ 2.39 $ 2.33 $ (0.77) Net Income (Loss) $ 2.38 $ 2.33 $ (0.77)
See notes to consolidated financial statements. 46 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY UnumProvident Corporation and Subsidiaries
Accumulated Additional Other Common Paid-in Comprehensive Retained Treasury Deferred Stock Capital Income (Loss) Earnings Stock Compensation Total (in millions of dollars) -------------------------------------------------------------------------------------- Balance at December 31, 1998 $23.8 $959.2 $914.7 $4,279.2 $(9.2) $(21.5) $ 6,146.2 Comprehensive Loss Net Loss (182.9) (182.9) Change in Net Unrealized Gain on Securities (net of tax credit of $519.5) (949.6) (949.6) Change in Foreign Currency Translation Adjustment (net of tax expense of $11.6) 16.0 16.0 --------- Total Comprehensive Loss (1,116.5) --------- Common Stock Activity 0.3 69.4 21.5 91.2 Dividends to Stockholders (138.7) (138.7) ----- -------- ------- -------- ----- ------ --------- Balance at December 31, 1999 24.1 1,028.6 (18.9) 3,957.6 (9.2) -- 4,982.2 Comprehensive Income Net Income 564.2 564.2 Change in Net Unrealized Gain on Securities (net of tax expense of $96.5) 193.0 193.0 Change in Foreign Currency Translation Adjustment (net of tax credit of $7.5) (33.4) (33.4) --------- Total Comprehensive Income 723.8 --------- Common Stock Activity 11.6 11.6 Dividends to Stockholders (142.1) (142.1) ----- -------- ------- -------- ----- ------ --------- Balance at December 31, 2000 24.1 1,040.2 140.7 4,379.7 (9.2) -- 5,575.5 Comprehensive Income Net Income 579.2 579.2 Change in Net Unrealized Gain on Securities (net of tax credit of $50.8) (76.5) (76.5) Change in Net Gain on Cash Flow Hedges (net of tax expense of $1.5) 2.8 2.8 Change in Foreign Currency Translation Adjustment (net of tax credit of $11.0) (19.0) (19.0) --------- Total Comprehensive Income 486.5 --------- Common Stock Activity 0.1 23.9 (3.5) 20.5 Dividends to Stockholders (142.6) (142.6) ----- -------- ------- -------- ----- ------ --------- Balance at December 31, 2001 $24.2 $1,064.1 $ 48.0 $4,816.3 $(9.2) $ (3.5) $ 5,939.9 ===== ======== ======= ======== ===== ====== =========
See notes to consolidated financial statements. 47 CONSOLIDATED STATEMENTS OF CASH FLOWS UnumProvident Corporation and Subsidiaries
Year Ended December 31 2001 2000 1999 (in millions of dollars) ------------------------------------------ Cash Flows from Operating Activities Net Income (Loss) $ 579.2 $ 564.2 $ (182.9) Adjustments to Reconcile Net Income (Loss) to Net Cash Provided by Operating Activities Policy Acquisition Costs Capitalized (695.9) (595.7) (809.3) Amortization of Policy Acquisition Costs 432.7 456.5 474.8 Amortization of Value of Business Acquired and Goodwill 75.0 67.3 120.9 Depreciation 65.3 71.1 58.0 Net Realized Investment (Gain) Loss 40.6 14.6 (87.1) Reinsurance Receivable (186.3) 386.7 130.1 Insurance Reserves and Liabilities 1,629.9 781.0 2,391.1 Federal Income Tax 79.7 127.6 (189.9) Other (249.6) (661.8) (339.0) ------------ ------------ ------------ Net Cash Provided by Operating Activities 1,770.6 1,211.5 1,566.7 ------------ ------------ ------------ Cash Flows from Investing Activities Proceeds from Sales of Investments Available-for-Sale Securities 2,754.9 1,711.3 3,773.9 Proceeds from Maturities of Investments Available-for-Sale Securities 917.1 805.0 1,023.8 Held-to-Maturity Securities -- 1.3 0.3 Proceeds from Sales and Maturities of Other Investments 416.1 362.8 268.3 Purchase of Investments Available-for-Sale Securities (5,167.5) (3,149.3) (6,237.5) Held-to-Maturity Securities -- (23.0) (22.2) Other Investments (174.7) (385.2) (209.1) Net Sales (Purchases) of Short-term Investments (101.2) 41.4 (76.8) Acquisition of Business (19.2) (94.2) -- Disposition of Business (382.9) (78.2) -- Other 20.8 (57.6) (75.3) ------------ ------------ ------------ Net Cash Used by Investing Activities $ (1,736.6) $ (865.7) $ (1,554.6) ------------ ------------ ------------
See notes to consolidated financial statements 48 CONSOLIDATED STATEMENTS OF CASH FLOWS - Continued UnumProvident Corporation and Subsidiaries
Year Ended December 31 2001 2000 1999 (in millions of dollars) ------------------------------------------ Cash Flows from Financing Activities Deposits to Policyholder Accounts $ 6.8 $ 33.8 $ 175.1 Maturities and Benefit Payments from Policyholder Accounts (49.5) (209.5) (613.0) Net Short-term Debt and Commercial Paper (Repayments) Borrowings (254.2) (223.8) 692.6 Issuance of Long-term Debt 575.0 -- -- Long-term Debt Repayments (172.5) -- -- Issuance of Common Stock 20.5 11.6 69.7 Dividends Paid to Stockholders (142.6) (142.1) (138.9) Other -- -- (18.6) ------------ ------------ ------------ Net Cash (Used) Provided by Financing Activities (16.5) (530.0) 166.9 ------------ ------------ ------------ Effect of Foreign Exchange Rate Changes on Cash (0.7) (1.1) 2.2 ------------ ------------ ------------ Net (Decrease) Increase in Cash and Bank Deposits 16.8 (185.3) 181.2 Cash and Bank Deposits at Beginning of Year 107.1 292.4 111.2 ------------ ------------ ------------ Cash and Bank Deposits at End of Year $ 123.9 $ 107.1 $ 292.4 ============ ============ ============
See notes to consolidated financial statements. 49 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS UnumProvident Corporation and Subsidiaries Note 1 - Significant Accounting Policies Basis of Presentation: The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP). Such accounting principles differ from statutory accounting practices (see Note 16). The consolidated financial statements include the accounts of UnumProvident Corporation and its subsidiaries (the Company). Material intercompany transactions have been eliminated. On June 30, 1999, Unum Corporation (Unum) merged with and into Provident Companies, Inc. (Provident) under the name UnumProvident Corporation. The merger was accounted for as a pooling of interests. The historical financial results presented herein give effect to the merger as if it had been completed at the beginning of the earliest period presented. Operations: The Company does business primarily in North America and operates principally in the life and health insurance business. The Employee Benefits segment includes group long-term and short-term disability insurance, group life insurance, accidental death and dismemberment coverages, group long-term care, and the results of managed disability. The Individual segment includes results from the individual disability and individual long-term care lines of business. The Voluntary Benefits segment includes the results of products sold to employees through payroll deduction at the work site. These products include life insurance and health products, primarily disability, accident and sickness, and cancer. The Other operating segment includes results from products no longer actively marketed, including individual life and corporate-owned life insurance, reinsurance pools and management operations, group pension, health insurance, and individual annuities. The Corporate segment includes investment earnings on corporate assets not specifically allocated to a line of business, corporate interest expense, amortization of goodwill, and certain corporate expenses not allocated to a line of business. See Note 14 for further information on the operating segments. Use of Estimates: The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect amounts reported in the financial statements and accompanying notes. Such estimates and assumptions could change in the future as more information becomes known, which could impact the amounts reported and disclosed herein. Many factors influence the assumptions upon which reserves for policy and contract benefits are based, including historical trends in the Company's experience and expected deviations from historical experience. Considerable judgment is required to interpret actual historical experience and to assess the future factors that are likely to influence the ultimate cost of settling existing claims. Given that insurance products contain inherent risks and uncertainties, the ultimate liability may be more or less than such estimates indicate. Investments: Investments are reported in the consolidated statements of financial condition as follows: Available-for-Sale Fixed Maturity Securities are reported at fair value. Held-to-Maturity Fixed Maturity Securities are generally reported at amortized cost. Equity Securities are reported at fair value. Mortgage Loans are generally carried at amortized cost less an allowance for probable losses. 50 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 1 - Significant Accounting Policies - Continued Real Estate classified as investment real estate is carried at cost less accumulated depreciation. Real estate acquired through foreclosure is valued at fair value at the date of foreclosure. If investment real estate is determined to be other than temporarily impaired, the carrying amount of the asset is reduced to fair value. Occasionally, investment real estate is reclassified to real estate held for sale when it no longer meets the Company's investment criteria. Real estate held for sale is valued net of a valuation allowance that reduces the carrying value to the lower of cost less accumulated depreciation or fair value less estimated cost to sell. Accumulated depreciation on real estate was $17.8 million and $31.0 million as of December 31, 2001 and 2000, respectively. Policy Loans are presented at unpaid balances directly related to policyholders. Included in policy loans are $2,329.3 million and $2,237.6 million of policy loans ceded to reinsurers at December 31, 2001 and 2000, respectively. Other Long-term Investments are carried at cost plus the Company's equity in undistributed net earnings since acquisition. Short-term Investments are carried at cost. Fixed maturity securities include bonds and redeemable preferred stocks. Equity securities include common stocks and nonredeemable preferred stocks. Fixed maturity and equity securities not bought and held for the purpose of selling in the near term but for which the Company does not have the positive intent and ability to hold to maturity are classified as available-for-sale. Fixed maturity securities that the Company has the positive intent and ability to hold to maturity are classified as held-to-maturity. Changes in the fair value of available-for-sale fixed maturity securities and equity securities are reported as a component of other comprehensive income. These amounts are net of federal income tax and valuation adjustments to reserves for future policy and contract benefits which would have been recorded had the related unrealized gain or loss on these securities been realized. Realized investment gains and losses, which are reported as a component of revenue in the consolidated statements of operations, are based upon specific identification of the investments sold and do not include amounts allocable to separate accounts. At the time a decline in the value of an investment is determined to be other than temporary, a loss is recorded which is included in realized investment gains and losses. The Company discontinues the accrual of investment income on invested assets when it is determined that collection is uncertain. The Company recognizes investment income on impaired loans when the income is received. Derivative Financial Instruments: The Company recognizes all of its derivative instruments (including certain derivative instruments embedded in other contracts) as either assets or liabilities in the consolidated statements of financial condition and measures those instruments at fair value. The accounting for changes in the fair value (i.e., gain or loss) of a derivative depends on whether it has been designated and qualifies as part of a hedging relationship, and further, on the type of hedging relationship. To qualify as a hedging instrument, a derivative must pass prescribed effectiveness tests, performed quarterly or on a more frequent basis using both qualitative and quantitative methods. For those derivatives that are designated and qualify as hedging instruments, the derivative is designated, based upon the exposure being hedged, as one of the following: Fair value hedge. Changes in the fair value of the derivative as well as the offsetting change in fair value on the hedged item attributable to the risk being hedged are recognized in current operating earnings during the period of change in fair value. The gain or loss on the termination of an effective fair value hedge is recognized in current operating earnings. 51 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 1 - Significant Accounting Policies - Continued Cash flow hedge. To the extent it is effective, changes in the fair value of the derivative are reported in other comprehensive income and reclassified into earnings in the same period or periods during which the hedged item affects earnings. The ineffective portion of the hedge, if any, is recognized in current operating earnings during the period of change in fair value. The gain or loss on the termination of an effective cash flow hedge is reported in other comprehensive income and reclassified into earnings in the same period or periods during which the hedged item affects earnings. Foreign currency exposure hedge. To the extent it is effective, changes in the fair value of the derivative are reported in other comprehensive income as part of the foreign currency translation adjustment and reclassified into earnings in the same period or periods during which remeasurement of the hedged foreign currency asset affects earnings. The ineffective portion of the hedge, if any, is recognized in current operating earnings during the period of change in fair value. The gain or loss on the termination of an effective foreign currency exposure hedge is reported in other comprehensive income as part of the foreign currency translation adjustment and reclassified into earnings in the same period or periods during which remeasurement of the hedged foreign currency asset affects earnings. Gains or losses on the termination of ineffective hedges are reported in current operating earnings. In the event a hedged item is disposed of or the anticipated transaction being hedged is no longer likely to occur, the Company will terminate the related derivative and recognize the gain or loss on termination in current operating earnings. For a derivative not designated as a hedging instrument, the change in fair value is recognized in current operating earnings during the period of change. Reinsurance Receivable: The Company routinely cedes reinsurance to other insurance companies. For ceded reinsurance agreements wherein the Company is not relieved of its legal liability to its policyholders, the Company reports assets and liabilities on a gross basis. Reinsurance receivables include the balances due from reinsurers under the terms of these reinsurance agreements for ceded policy and contract benefits, ceded future policy and contract benefits, and ceded unearned premiums, less ceded policy loans. Deferred Policy Acquisition Costs: Certain costs of acquiring new business which vary with and are primarily related to the production of new business have been deferred. Such costs include commissions, other agency compensation, certain selection and policy issue expenses, and certain field expenses. Deferred policy acquisition costs are subject to recoverability testing at the time of policy issue and loss recognition testing subsequent to the year of issue. Deferred policy acquisition costs related to traditional policies are amortized over the premium paying period of the related policies in proportion to the ratio of the present value of annual expected premium income to the present value of total expected premium income. Adjustments are made each year to recognize actual persistency experience as compared to assumed experience. Deferred policy acquisition costs related to interest-sensitive policies are amortized over the lives of the policies in relation to the present value of estimated gross profits from surrender charges and mortality, investment, and expense margins. Adjustments are made each year to reflect actual experience for assumptions which deviate significantly compared to assumed experience. Loss recognition is performed when, in the judgment of management, adverse deviations from original assumptions have occurred and may be likely to continue such that recoverability of deferred policy acquisition costs on a line of business is questionable. Insurance contracts are grouped on a basis consistent with the Company's manner of acquiring, servicing, and measuring profitability of the contracts. If loss recognition testing indicates that deferred policy acquisition costs are not recoverable, the deficiency is charged to expense. Once a loss recognition adjustment is required, loss recognition testing is generally performed on an annual basis using then current assumptions until the line 52 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 1 - Significant Accounting Policies - Continued of business becomes immaterial or results improve significantly. The assumptions used in loss recognition testing represent management's best estimates of future experience. Value of Business Acquired: Value of business acquired represents the present value of future profits recorded in connection with the acquisition of a block of insurance policies. The asset is amortized based upon expected future premium income for traditional insurance policies and estimated future gross profits for interest-sensitive insurance policies, with the accrual of interest added to the unamortized balance at interest rates principally ranging from 5.55 percent to 8.13 percent. The accumulated amortization for value of business acquired was $217.1 million and $168.7 million as of December 31, 2001 and 2000, respectively. The Company periodically reviews the carrying amount of value of business acquired using the same methods used to evaluate deferred policy acquisition costs. Goodwill: Goodwill is the excess of the amount paid to acquire a business over the fair value of the net assets acquired. Goodwill, prior to January 1, 2002, was amortized on a straight-line basis over a period not to exceed 40 years. The accumulated amortization for goodwill was $101.2 million and $85.9 million as of December 31, 2001 and 2000, respectively. The carrying amount of goodwill is reviewed for impairment annually or whenever events or changes in circumstances indicate that the carrying amount might not be recoverable. If the fair value of the operations to which the goodwill relates is less than the carrying amount of the unamortized goodwill, the carrying amount is reduced with a corresponding charge to expense. Property and Equipment: Property and equipment is depreciated on the straight-line method over its estimated useful life. The accumulated depreciation for property and equipment was $352.7 million and $350.1 million as of December 31, 2001 and 2000, respectively. Revenue Recognition: Traditional life and accident and health products are long duration contracts, and premium income is recognized as revenue when due from policyholders. If the contracts are experience rated, the estimated ultimate premium is recognized as revenue over the period of the contract. The estimated ultimate premium, which is revised to reflect current experience, is based on estimated claim costs, expenses, and profit margins. For interest-sensitive products, the amounts collected from policyholders are considered deposits, and only the deductions during the period for cost of insurance, policy administration, and surrenders are included in revenue. Policyholders' funds represent funds deposited by contract holders and are not included in revenue. The Company follows the periodic method of accounting for its Lloyd's of London (Lloyd's) business in which premiums are recognized as revenue over the policy term, and claims, including an estimate of claims incurred but not reported, are recognized as they occur. Premiums for the Lloyd's business are based on participation in the individual syndicate underwriting years that generate premiums over a three year period of time. The Company uses its historical experience and information obtained from its managing agents to estimate revenues, losses, expenses, and the related assets and liabilities. Policy and Contract Benefits: Policy and contract benefits, principally related to accident and health insurance policies, are based on reported losses and estimates of incurred but not reported losses for traditional life and accident and health products. For interest-sensitive products, benefits are the amounts paid and expected to be paid on insured claims in excess of the policyholders' policy fund balances. Policy and Contract Benefits Liabilities: Active life reserves for future policy and contract benefits on traditional life and accident and health products have been provided on the net level premium method. The reserves are calculated based upon assumptions as to interest, withdrawal, morbidity, and mortality that were appropriate at the date of issue. Withdrawal assumptions are based on actual Company experience. Morbidity and mortality assumptions are based upon industry standards adjusted as appropriate to reflect actual Company experience. The assumptions vary by plan, year of issue, and policy duration and include a provision for adverse deviation. 53 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 1 - Significant Accounting Policies - Continued Disabled lives reserves for future policy and contract benefits on disability policies are calculated based upon assumptions as to interest and claim termination rates that are currently appropriate. Claim termination rate assumptions are based on Company experience. The assumptions vary by year of claim incurral and may include a provision for adverse deviation. The interest rate assumptions used for discounting claim reserves are based on projected portfolio yield rates, after consideration for defaults and investment expenses, for the assets supporting the liabilities for the various product lines. The assets for each product line are selected according to the specific investment strategy for that product line to produce asset cash flows that follow similar timing and amount patterns to those of the anticipated liability payments. Reserves for future policy and contract benefits on group single premium annuities have been provided on a net single premium method. The reserves are calculated based on assumptions as to interest, mortality, and retirement that were appropriate at the date of issue. Mortality assumptions are based upon industry standards adjusted as appropriate to reflect actual Company experience. The assumptions vary by year of issue. The annual effective interest rate assumptions used to calculate reserves for future policy and contract benefits are as follows:
December 31 2001 2000 --------------------------------------------- Active Life Reserves - Current Year Issues Traditional Life 6.00% to 7.25% 6.00% to 7.25% Individual Disability 6.00% to 9.00% 6.18% to 9.00% Disabled Lives Reserves - Current Year Claims Individual Disability 5.50% to 8.00% 6.65% to 8.00% Group Disability 7.35% 7.35% Disabled Lives Reserves - Prior Year Claims Individual Disability 5.50% to 8.00% 6.65% to 8.00% Group Disability 7.35% 7.35%
Interest assumptions for active life reserves may be graded downward over a period of years. Reserves for future policy and contract benefits on interest-sensitive products are principally policyholder account values. Policyholders' Funds: Policyholders' funds represent customer deposits plus interest credited at contract rates. The Company controls its interest rate risk by investing in quality assets which have an aggregate duration that closely matches the expected duration of the liabilities. Federal Income Tax: Deferred taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial statement purposes and the amounts used for income tax purposes. Deferred taxes have been measured using enacted statutory income tax rates and laws that are currently in effect. A valuation allowance is established for deferred tax assets when it is more likely than not that an amount will not be realized. Deferred Gain or Loss on Reinsurance: The Company is a party to various reinsurance agreements. Where applicable, gains or losses on these transactions are deferred and amortized into earnings based upon expected future premium income for traditional insurance policies and estimated future gross profits for interest-sensitive insurance policies. The deferred gain on reinsurance included in other liabilities in the consolidated statements of financial condition at December 31, 2001 and 2000 was $360.2 million and $373.5 million, respectively. Separate Accounts: The separate account amounts shown in the accompanying consolidated financial statements represent contributions by contract holders to variable-benefits and fixed-benefits pension plans. The contract purchase payments and the assets of the separate accounts are segregated from other Company funds for both investment and administrative purposes. Contract purchase payments received under variable annuity contracts are subject to deductions 54 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 1 - Significant Accounting Policies - Continued for sales and administrative fees. Also, the sponsoring companies of the separate accounts receive management fees based on the net asset values of the separate accounts. Translation of Foreign Currency: Revenues and expenses of the Company's foreign operations, principally Canada and the United Kingdom, are translated at average exchange rates. Assets and liabilities are translated at the rate of exchange on the balance sheet date. The translation gain or loss is generally reported in accumulated other comprehensive income or loss, net of deferred tax. Accounting for Participating Individual Life Insurance: Participating policies issued by one of the Company's subsidiaries prior to its 1986 conversion from a mutual to a stock life insurance company will remain participating as long as the policies remain in force. A Participation Fund Account (PFA) was established for the benefit of all such individual participating life and annuity policies and contracts. The assets of the PFA provide for the benefit, dividend, and certain expense obligations of the participating individual life insurance policies and annuity contracts. The PFA was $408.6 million and $361.6 million at December 31, 2001, and 2000, respectively, and represented approximately 1.0 percent and 0.9 percent of consolidated assets and 1.1 percent and 1.0 percent of consolidated liabilities for December 31, 2001 and 2000, respectively. Accounting for Stock-Based Compensation: The Company measures compensation cost for stock-based compensation under the expense recognition provisions of Accounting Principles Board Opinion No. 25 (Opinion 25), Accounting for Stock Issued to Employees and related interpretations. Under this method, compensation cost is the excess, if any, of the quoted market price at grant date or other measurement date over the amount an employee must pay to acquire the stock. Changes in Accounting Principles: Statements of Financial Accounting Standards No. 133 (SFAS 133), Accounting for Derivative Instruments and Hedging Activities, and No. 138 (SFAS 138), Accounting for Certain Derivative Instruments and Certain Hedging Activities - an Amendment of FASB Statement No. 133 Effective January 1, 2001, the Company adopted the provisions SFAS 133 and SFAS 138. SFAS 133 and SFAS 138 establish accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives), and for hedging activities. The provisions of SFAS 133 and SFAS 138 require that an entity recognize all derivatives as either assets or liabilities in the statement of financial condition and measure those instruments at fair value. SFAS 133 and SFAS 138 specify a special method of accounting for certain hedging transactions, prescribe the type of items and transactions that may be hedged, and provide the criteria which must be met in order to qualify for hedge accounting. At the adoption date of SFAS 133, the Company designated anew all of its hedging relationships and formally documented these relationships. The Company reclassified all of its held-to-maturity fixed maturity securities to available-for-sale fixed maturity securities. These held-to-maturity securities had an amortized cost of $346.6 million and a fair value of $369.8 million on the date of reclassification. The resulting before-tax unrealized gain of $23.2 million was reported as a component of accumulated other comprehensive income in stockholders' equity as a cumulative effect transition adjustment. No transition adjustment was reported in net income as a result of the adoption of SFAS 133 and SFAS 138. See Note 5. Prior to the adoption of SFAS 133, the Company accounted for all derivatives as hedges. The fair values of the derivatives which hedged available-for-sale securities were reported in the consolidated statements of financial condition as a component of fixed maturity securities with the corresponding change in fair value being reported in accumulated other comprehensive income (loss). The fair values of interest rate swap agreements which hedged liabilities were not reported in the consolidated statements of financial condition. 55 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 1 - Significant Accounting Policies - Continued Statement of Financial Accounting Standards No. 140 (SFAS 140), Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities Effective April 1, 2001, the Company adopted SFAS 140. SFAS 140 revised the standards for accounting and reporting for transfers and servicing of financial assets and extinguishment of liabilities. The adoption of SFAS 140 did not have a material impact on the Company's financial position or results of operations. Accounting Pronouncements Outstanding: Statement of Financial Accounting Standards No. 141 (SFAS 141), Business Combinations SFAS 141 addresses financial accounting and reporting for business combinations and requires that all business combinations be accounted for using the purchase method. SFAS 141 applies to all business combinations initiated after June 30, 2001. The adoption of SFAS 141 will have no immediate effect on the Company but does prohibit the future use of the pooling of interests method of accounting for business combinations. Statement of Financial Accounting Standards No. 142 (SFAS 142), Goodwill and Other Intangible Assets SFAS 142 addresses financial accounting and reporting for acquired goodwill and other intangible assets. The Company will adopt the provisions of SFAS 142 effective January 1, 2002. In accordance with SFAS 142, goodwill will no longer be amortized but will be subject to annual impairment tests. Other intangible assets will continue to be amortized over their useful lives. Application of the non-amortization provision is expected to increase 2002 earnings $21.3 million before tax and $20.2 million after tax. At the initial adoption of SFAS 142, the Company will perform the required transitional goodwill impairment test. Any impairment loss resulting from the transitional goodwill impairment test will be recognized as the effect of a change in accounting principle and will be presented as a separate caption, net of tax, in the consolidated statements of operations. The impairment loss, if any, is not expected to have a material impact on the Company's financial position or results of operations. Statement of Financial Accounting Standards No. 143 (SFAS 143), Accounting for Asset Retirement Obligations SFAS 143 addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. The Company will adopt the provisions of SFAS 143 effective January 1, 2003. The adoption of this pronouncement is not expected to have a material impact on the Company's financial position or results of operations. Statement of Financial Accounting Standards No. 144 (SFAS 144), Accounting for the Impairment or Disposal of Long-Lived Assets SFAS 144 supercedes Statement of Financial Accounting Standards No. 121 (SFAS 121), Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and the accounting and reporting provisions of Accounting Principles Board Opinion No. 30 (Opinion 30), Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions. Two accounting models existed for long-lived assets to be disposed of under SFAS 121 and Opinion 30. SFAS 144 represents a single accounting model for long-lived assets to be disposed of by sale. The Company will adopt the provisions of SFAS 144 effective January 1, 2002. The adoption of this pronouncement is not expected to have a material impact on the Company's financial position or results of operations. 56 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 2 - Merger On June 30, 1999, Unum merged with and into Provident under the name UnumProvident Corporation. Merger expenses, accounting policy changes, and operating results for the six month period prior to the merger are discussed as follows. Merger Expenses During 1999, the Company recognized expenses related to the merger and the early retirement offer to employees as follows (in millions of dollars): Employee related expense $ 77.7 Exit activities related to duplicate facilities/asset abandonments 67.4 Investment banking, legal, and accounting fees 39.6 ------ Subtotal 184.7 Expense related to the early retirement offer to employees 125.9 ------ Subtotal 310.6 Income tax benefit 89.2 ------ Total $221.4 ======
Employee related expense consists of employee severance costs, change in control costs, restricted stock costs which fully vested upon stockholder adoption of the merger agreement or upon completion of the merger, and outplacement costs to assist employees who have been involuntarily terminated. Severance benefits and change in control costs were $60.2 million, and costs associated with the vesting of restricted stock were $17.5 million. Exit activities related to duplicate facilities/asset abandonments consisted of closing of duplicate offices and the write off of redundant computer hardware and software. The cost associated with these office closures was approximately $25.6 million, which represents the cost of future minimum lease payments less any estimated amounts recovered under subleases. Also, certain physical assets, primarily computer equipment, redundant systems, and systems incapable of supporting the combined entity, were abandoned as a result of the merger, resulting in a write down of the assets' book values by approximately $41.8 million. The exit plan was complete as of June 30, 2000. The expenses related to the merger reduced 1999 earnings $184.7 million before tax and $139.6 million after tax. The expense related to the early retirement offer reduced earnings $125.9 million before tax and $81.8 million after tax. Additionally during 1999, 0.5 million shares of outstanding restricted stock became unrestricted, and stock options on 5.3 million shares became immediately exercisable effective with the merger, in accordance with Unum's and Provident's restricted stock and stock option plan provisions concerning a change in control. The expense related to restricted stock vesting has been included in merger related expenses. The Company applies Opinion 25 and related interpretations in accounting for the stock option plans. Accordingly, no compensation cost was recognized for stock option vesting. 57 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 2 - Merger - Continued Accounting Policy Changes Generally, because of the effort and time involved, reviews and updates of assumptions related to benefit liabilities are periodically undertaken over time and are reflected in the calculation of benefit liabilities as completed. Many factors influence assumptions underlying reserves, and considerable judgment is required to interpret current and historical experience underlying all of the assumptions and to assess the future factors that are likely to influence the ultimate cost of settling existing claims. Prior to the merger, Unum's process and assumptions used to calculate the discount rate for claim reserves of certain disability businesses differed from that used by Provident. While Unum's and Provident's methods were both in accordance with GAAP, management believed that the combined entity should have consistent discount rate accounting policies and methods for applying those policies for similar products. Unum's former methodology used the same investment strategy for assets backing both liabilities and surplus. Provident's methodology, which allows for different investment strategies for assets backing surplus than those backing product liabilities, was determined by management to be the more appropriate approach for the Company. Accordingly, at June 30, 1999 the Company adopted Provident's method of calculating the discount rate for claim reserves. The discount rates affected by this change in Unum's methodology were as follows:
June 30, 1999 --------------------------------------- Current Rates Former Rates --------------------------------------- Group Long-term Disability (North America) 6.75% 7.74% Group Long-term Disability and Individual Disability (United Kingdom) 7.45% 8.80% Individual Disability (North America) 6.88% 7.37%
The unpaid claim reserves for these disability lines as of June 30, 1999 were $5,318.3 million using the former method for determining reserve discount rates and $5,559.0 million using the current method. The impact on 1999 earnings related to the change in method of calculating the discount rate for claim reserves was $240.7 million before tax and $156.5 million after tax during the second quarter. Subsequent to the merger date, the Company began to integrate the valuation procedures of the two organizations to provide for a more effective linking of pricing and reserving assumptions and to facilitate a more efficient process for adjusting liabilities to emerging trends. Included in this integration activity were a review and an update of assumptions that underlie policy and contract benefit liabilities. The purpose of the study was to confirm or update the assumptions which were viewed as likely to affect the ultimate liability for contract benefits. Accordingly, as a result of the merger, the Company accelerated the performance of its normal reviews of the assumptions underlying reserves to determine the assumptions that the newly merged Company will use in the future for pricing, performance management, and reserving. The review resulted in an increase in the benefits and reserves for future benefits for the Company's domestic and Canadian group long-term disability unpaid claim liabilities. As a result of the review, the Company increased its policy and contract benefit liabilities $359.2 million, which reduced 1999 earnings $359.2 million before tax and $233.5 million after tax. 58 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 2 - Merger - Continued The increase in policy and contract benefit liabilities primarily resulted from revisions to assumptions in the following three key components: claim termination rates, incurred but not reported (IBNR) factors, and discount rates. These components and their effect on the reserve increase are summarized and discussed below (in millions of dollars). Claim termination rates $372.6 Incurred but not reported factors 101.4 Discount rates (114.8) ------ Net change $359.2 ====== The assumptions concerning claim termination rates relate to changes in the estimated average length of time a claim is open (duration) and the ultimate cost of settling claims. Recent trends indicate the duration of a disability claim is increasing. Claim termination rates are based on industry experience adjusted for Company historical and anticipated experience, which considers emerging trends and Company actions that would have a material effect on claim termination rates. The increase in policy and contract benefit liabilities that results from the revised claim termination rates is attributable to two elements. The first element is the claim resolution assumption, which is the portion of claim terminations related to the disabled returning to work or the expiration of the benefit period. The second element is the mortality assumption, which is the portion of claim terminations that result from death of the disabled. The effect of these two elements on the increase in policy and contract benefit liabilities is discussed below. Claim resolution assumptions have been determined considering both external trends and the Company's current and planned actions which would have a material effect on claim resolution rates. Due to the high variability in claim resolution rates, considerable judgment is required in setting claim resolution assumptions. Revised claim resolution assumptions have been determined after consideration of the merger integration plans, including the short-term disruption of the claims management process from integration activities. Other factors considered included emerging external trends, such as the developing trend for some claimants to remain on claim longer, current and historical claim resolution experience, industry claim resolution experience, and changes in planned actions, as well as the anticipated future effectiveness of the claims operations in settling existing claims. The revised assumptions for claim resolution rates resulted in an increase in benefit liabilities of approximately $194.8 million. These estimates rely on the Company's ability to complete integration and claims processing changes as planned and those changes having the anticipated impact on claim recovery rates. The review also examined assumptions for mortality. Revision of mortality assumptions resulted in an increase in benefit liabilities of approximately $177.8 million. Mortality is a critical factor influencing the length of time a claimant receives monthly disability benefits. Mortality has been improving for the general population, and this improvement is now considered permanent. Life expectancy has been extended dramatically for individuals suffering from acquired immune deficiency syndrome (AIDS). Early observations of this trend and related medical literature raised questions concerning the long-term sustainability of the mortality improvements. The Company also assumed that, if the trend did continue, many of the individuals responding positively to treatment could be returned to productive employment. The previous review of mortality performed by the Company did not indicate a need to change mortality assumptions. However, recent analysis indicates that the improved mortality trend is sustainable and that rehabilitation of afflicted individuals to return to work has been minimally successful to date. AIDS related disabilities are approximately 2 percent of the Company's total disability claims. In addition to the AIDS mortality trend, the recent review demonstrates that survival from other frequently fatal diseases such as cancer and heart disease has improved over recent periods and is now judged to be more permanent due to advances in medical sciences and treatments. While the treatment advances have lengthened life expectancies, they do not always result in the claimant being able to return to work; thus, the ultimate level of payments to be made on a disability claim increases. Of the total increase in benefit liabilities for revised mortality assumptions, $85.4 million is related to AIDS related disabilities and $92.4 million to cancer and other disabilities. 59 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 2 - Merger - Continued The second component of the increase in benefit liabilities is the provision for claims incurred but not yet reported, which resulted in an increase in benefit liabilities of $101.4 million. This provision is an estimate of the outstanding liability related to claims that have been incurred by individual insureds as of the valuation date, but the claims have not yet been reported to the Company. This liability is affected by the estimate of the number of outstanding claims. Because of the long elimination periods, generally 90 to 180 days or longer, the development of the factors must cover a period of sufficient length to mitigate the effects of random fluctuations and to establish the presence of trends. Recent trends indicate an increase in new claim rates which results in an increase in the estimate of outstanding claims. Another item affecting this liability is the estimate of the average cost of each outstanding claim. The lengthening of time a claimant receives monthly benefits resulting from the factors noted above also results in an increase in the estimate of the average cost of each claim. The third component of the change in benefit liabilities is the change in the rate used to discount claim reserves, including IBNR reserves, which resulted in a decrease of $114.8 million in benefit liabilities. Subsequent to the merger, the Company significantly restructured the investment portfolio backing these liabilities with the objective of improving asset and liability management and improving yield. As part of this strategy, during the third quarter of 1999, the Company sold $426.1 million of assets with a book yield of 5.98 percent and purchased $546.6 million of assets with a yield of 8.87 percent, improving the overall yield on the assets backing liabilities. As a result of this investment restructuring and consistent with its policy, the Company increased the annual effective interest rate used to discount claim reserves to 7.35 percent, resulting in a decrease of $114.8 million in benefit liabilities. Results of Operations The results of operations for the separate companies and the combined amounts for the period prior to the merger were as follows (in millions of dollars): Six Months Ended June 30, 1999 ---------------- Revenue Unum $ 2,557.8 Provident 1,988.9 ---------- Combined Revenue $ 4,546.7 ========== Net Income (Loss) Unum $ (189.7) Provident 87.8 ---------- Combined Net Loss $ (101.9) ========== Included in Unum's net loss for the six months ended June 30, 1999, is $131.8 million after tax for expenses related to the merger and the early retirement offer to employees and $156.5 million after tax for the reserve discount rate change. Unum's net loss for the six months ended June 30, 1999 also includes an after-tax first quarter charge of $88.0 million related to its reinsurance businesses. Included in Provident's net income for the six months ended June 30, 1999, is $62.0 million after tax for expenses related to the merger and the early retirement offer to employees. 60 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 3 - Fair Values of Financial Instruments The carrying amounts and fair values of the Company's financial instruments are as follows:
December 31 (in millions of dollars) ------------------------------------------------------------ 2001 2000 Carrying Fair Carrying Fair Amount Value Amount Value ------------------------------------------------------------ Assets Fixed Maturity Securities Available-for-Sale $24,352.7 $24,352.7 $22,110.4 $22,110.4 Derivatives Hedging Available-for-Sale 40.3 40.3 131.9 131.9 Held-to-Maturity - - 346.6 369.8 Equity Securities 10.9 10.9 24.5 24.5 Mortgage Loans 941.2 980.6 1,135.6 1,183.0 Policy Loans 2,517.0 2,517.0 2,426.7 2,426.7 Short-term Investments 379.7 379.7 279.4 279.4 Cash and Bank Deposits 123.9 123.9 107.1 107.1 Deposit Assets 608.8 608.8 658.5 658.5 Liabilities Policyholders' Funds Deferred Annuity Products 1,481.1 1,481.1 1,665.3 1,665.3 Other 365.8 373.0 386.7 396.6 Short-term Debt 161.8 161.8 402.2 402.2 Long-term Debt 2,004.2 1,982.8 1,615.5 1,465.8 Company-Obligated Mandatorily Redeemable Preferred Securities 300.0 286.2 300.0 245.9 Derivatives Hedging Liabilities (2.4) (2.4) (4.3) (4.3)
The following methods and assumptions were used by the Company in estimating the fair values of its financial instruments: Fixed Maturity Securities: Fair values are based on quoted market prices, where available. For fixed maturity securities not actively traded, fair values are estimated using values obtained from independent pricing services or, in the case of private placements, are estimated by discounting expected future cash flows using a current market rate applicable to the yield, credit quality, and maturity of the investments. See Note 4 for the amortized cost and fair values of securities by security type and by maturity date. Equity Securities: Fair values are based on quoted market prices. Mortgage Loans: Fair values are estimated using discounted cash flow analyses, using interest rates currently being offered for similar mortgage loans to borrowers with similar credit ratings and maturities. Mortgage loans with similar characteristics are aggregated for purposes of the calculations. 61 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 3 - Fair Values of Financial Instruments - Continued Policy Loans, Short-term Investments, Cash and Bank Deposits, and Deposit Assets: Carrying amounts approximate fair value. Policyholders' Funds: Carrying amounts for deferred annuity products approximate fair value. Other policyholders' funds include guaranteed investment contacts (GICs) and supplementary contracts without life contingencies. Fair values for GICs are estimated using discounted cash flow calculations, based on current market interest rates available for similar contracts with maturities consistent with those remaining for the contracts being valued. Carrying amounts for supplementary contracts without life contingencies approximate fair value. Fair values for insurance contracts other than investment contracts are not required to be disclosed. However, the fair values of liabilities under all insurance contracts are taken into consideration in the Company's overall management of interest rate risk, which minimizes exposure to changing interest rates through the matching of investment maturities with amounts due under insurance contracts. Short-term Debt: Carrying amounts approximate fair value. Long-term Debt and Company-Obligated Mandatorily Redeemable Preferred Securities: Fair values were obtained from independent pricing services or discounted cash flow analyses based on current incremental borrowing rates for similar types of borrowing arrangements. Derivatives: Fair values are based on market quotes or pricing models and represent the net amount of cash the Company would have received or paid if the contracts had been settled or closed on December 31. 62 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 4 - Investments Securities The amortized cost and fair values of securities by security type are as follows:
December 31, 2001 (in millions of dollars) --------------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Fair Cost Gain Loss Value --------------------------------------------------------- Available-for-Sale Securities United States Government and Government Agencies and Authorities $ 74.2 $ 13.8 $ -- $ 88.0 States, Municipalities, and Political Subdivisions 55.2 2.5 0.1 57.6 Foreign Governments 725.8 122.5 2.0 846.3 Public Utilities 2,705.7 134.6 66.4 2,773.9 Mortgage-backed Securities 3,820.8 267.6 14.2 4,074.2 All Other Corporate Bonds 16,213.0 948.3 827.9 16,333.4 Redeemable Preferred Stocks 226.3 7.0 13.7 219.6 ------------ ------------ ------------ ------------ Total Fixed Maturity Securities 23,821.0 1,496.3 924.3 24,393.0 Equity Securities 9.4 1.9 0.4 10.9 ------------ ------------ ------------ ------------ Total $ 23,830.4 $ 1,498.2 $ 924.7 $ 24,403.9 ============ ============ ============ ============
December 31, 2000 (in millions of dollars) --------------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Fair Cost Gain Loss Value --------------------------------------------------------- Available-for-Sale Securities United States Government and Government Agencies and Authorities $ 76.9 $ 14.9 $ -- $ 91.8 States, Municipalities, and Political Subdivisions 155.0 3.5 0.2 158.3 Foreign Governments 752.1 131.7 0.8 883.0 Public Utilities 3,138.1 141.4 47.3 3,232.2 Mortgage-backed Securities 3,159.8 162.9 5.9 3,316.8 All Other Corporate Bonds 14,536.4 772.1 844.0 14,464.5 Redeemable Preferred Stocks 112.9 2.4 19.6 95.7 ------------ ------------ ------------ ------------ Total Fixed Maturity Securities 21,931.2 1,228.9 917.8 22,242.3 Equity Securities 23.2 4.0 2.7 24.5 ------------ ------------ ------------ ------------ Total $ 21,954.4 $ 1,232.9 $ 920.5 $ 22,266.8 ============ ============ ============ ============ Held-to-Maturity Securities United States Government and Government Agencies and Authorities $ 6.9 $ 1.6 $ -- $ 8.5 States, Municipalities, and Political Subdivisions 1.5 0.1 -- 1.6 Mortgage-backed Securities 320.7 20.6 -- 341.3 All Other Corporate Bonds 17.5 0.9 -- 18.4 ------------ ------------ ------------ ------------ Total $ 346.6 $ 23.2 $ -- $ 369.8 ============ ============ ============ ============
63 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 4 - Investments - Continued The amortized cost and fair values of fixed maturity securities by maturity date are shown below. The maturity dates have not been adjusted for possible calls or prepayments.
December 31, 2001 (in millions of dollars) ----------------------------- Amortized Fair Cost Value --------- --------- Available-for-Sale Securities 1 year or less $ 419.7 $ 466.7 Over 1 year through 5 years 1,993.4 2,097.5 Over 5 years through 10 years 4,576.3 4,426.6 Over 10 years 13,010.8 13,328.0 --------- --------- 20,000.2 20,318.8 Mortgage-backed Securities 3,820.8 4,074.2 --------- --------- Total $23,821.0 $24,393.0 ========= =========
At December 31, 2001, the total investment in below-investment-grade fixed maturity securities (securities rated below Baa3 by Moody's Investors Service or an equivalent internal rating) was $2,261.7 million or 8.7 percent of invested assets excluding ceded policy loans. The amortized cost of these securities was $2,738.3 million. Deposit assets in the form of marketable securities held in trust are reported in miscellaneous assets in the consolidated statements of financial condition. Unrealized gains on these securities were $44.2 million and $23.6 million, respectively, at December 31, 2001 and 2000. In the normal course of business, the Company both loans securities to broker dealers and invests in short-term repurchase agreements. For both types of transactions, the Company requires that a minimum of 102 percent of the fair value of the securities loaned or securities purchased under repurchase agreements be maintained as collateral. Generally, cash is received as collateral under these agreements. In the event that securities are received as collateral, the Company is not permitted to sell or repledge them. At December 31, 2001, the Company had a retained interest in a special purpose entity trust that was securitized with financial assets consisting of a United States Treasury bond and several limited partnership equity interests. This investment was reported at fair value and included with fixed maturity securities in the consolidated statements of financial condition. The fair value of this investment was derived from the fair value of the underlying assets, which are based on quoted market prices as well as the limited partnership capital balances. The fair value and amortized cost of this investment was $113.6 million and $122.6 million, respectively, at December 31, 2001 and $121.8 million and $114.5 million at December 31, 2000. At December 31, 2001, the Company had capital commitments of $21.7 million to this special purpose entity trust. These funds are due upon satisfaction of contractual notice from the trust. These amounts may or may not be funded during the term of the trust. At December 31, 2001, the Company had capital commitments of $36.6 million to fund certain of its private placement fixed maturity securities. The funds are due upon satisfaction of contractual notice from the issuer. These amounts may or may not be funded during the term of the security. 64 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 4 - Investments - Continued The components of the change in the net unrealized gain on securities and the change in the net gain on cash flow hedges included in other comprehensive income (loss) are as follows:
Year Ended December 31 2001 2000 1999 (in millions of dollars) --------------------------------------------- Change in Net Unrealized Gain (Loss) Before Reclassification Adjustment $ 215.1 $ 384.5 $ (2,159.3) Reclassification Adjustment for Net Realized Investment (Gain) Loss 40.6 14.6 (87.1) Cumulative Effect Transition Adjustment for the Adoption of SFAS 133 and SFAS 138 - Note 1 23.2 -- -- Change in Net Gain on Cash Flow Hedges 4.3 -- -- Change in Net Unrealized Gain on Deposit Assets 20.6 49.5 (237.5) Change in the Adjustment to Reserves for Future Policy and Contract Benefits (426.8) (159.1) 1,014.8 Change in Tax Liability 49.3 (96.5) 519.5 ------------ ------------ ------------ Total $ (73.7) $ 193.0 $ (949.6) ============ ============ ============
In accordance with the adoption of SFAS 133, the Company reclassified within accumulated other comprehensive income the beginning of the year balance in 2001 of $75.3 million of after-tax unrealized gains on derivatives from the net unrealized gain on securities to the net gain on cash flow hedges. Mortgage Loans Mortgage loans are impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. The reported investment in mortgage loans considered to be impaired was $13.1 million and $17.7 million, respectively, at December 31, 2001 and 2000. Included in the impaired loans at December 31, 2001 were loans of $6.4 million that had a related allowance for losses of $2.4 million and loans of $6.7 million that had no related allowance for losses. Included in the impaired loans at December 31, 2000 were loans of $6.5 million that had a related allowance for losses of $2.4 million and loans of $11.2 million which had no related allowance for losses. 65 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 4 - Investments - Continued Investment Valuation Allowances Additions to the investment valuation allowances represent realized investment losses, and deductions represent the allowance released upon disposal or restructuring of the related asset. Changes are as follows:
Balance at Balance Beginning at End of Year Additions Deductions of Year (in millions of dollars) ------------------------------------------------- Year Ended December 31, 1999 Mortgage Loans $ 32.8 $ 0.1 $ -- $ 32.9 Real Estate 51.2 -- 13.4 37.8 ---------- ---------- ---------- ---------- Total $ 84.0 $ 0.1 $ 13.4 $ 70.7 ========== ========== ========== ========== Year Ended December 31, 2000 Mortgage Loans $ 32.9 $ -- $ 20.0 $ 12.9 Real Estate 37.8 -- 12.2 25.6 ---------- ---------- ---------- ---------- Total $ 70.7 $ -- $ 32.2 $ 38.5 ========== ========== ========== ========== Year Ended December 31, 2001 Mortgage Loans $ 12.9 $ -- $ 10.5 $ 2.4 Real Estate 25.6 -- 5.7 19.9 ---------- ---------- ---------- ---------- Total $ 38.5 $ -- $ 16.2 $ 22.3 ========== ========== ========== ==========
66 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 4 - Investments - Continued Net Investment Income Sources for net investment income are as follows:
Year Ended December 31 2001 2000 1999 (in millions of dollars) --------------------------------------------- Fixed Maturity Securities $ 1,912.9 $ 1,824.1 $ 1,712.7 Equity Securities 0.1 0.1 0.1 Mortgage Loans 86.1 100.7 111.2 Real Estate 11.7 24.7 37.0 Policy Loans 12.0 120.3 222.3 Other Long-term Investments 10.0 11.2 6.8 Short-term Investments 24.7 27.1 56.0 ------------ ------------ ------------ Gross Investment Income 2,057.5 2,108.2 2,146.1 Less Investment Expenses 33.5 24.7 63.0 Less Investment Income on PFA Assets 21.1 23.1 23.4 ------------ ------------ ------------ Net Investment Income $ 2,002.9 $ 2,060.4 $ 2,059.7 ============ ============ ============
Realized Investment Gain and Loss Realized investment gains (losses) are as follows:
Year Ended December 31 2001 2000 1999 (in millions of dollars) --------------------------------------------- Fixed Maturity Securities Gross Gains $ 85.7 $ 93.4 $ 82.6 Gross Losses (186.6) (197.6) (99.9) Equity Securities 2.4 9.8 25.8 Mortgage Loans, Real Estate, and Other Invested Assets 52.5 42.9 17.1 Deposit Assets 3.1 25.5 61.4 Derivatives 2.3 11.4 0.1 ------------ ------------ ------------ Realized Investment Gain (Loss) $ (40.6) $ (14.6) $ 87.1 ============ ============ ============
Note 5 - Derivative Financial Instruments The Company uses swaps, forwards, futures, and options to hedge interest rate and currency risks and to match assets with its insurance liabilities. Derivative Risks The basic types of risks associated with derivatives are market risk (that the value of the derivative will be adversely impacted by changes in the market, primarily the change in interest and exchange rates) and credit risk (that the counterparty will not perform according to the terms of the contract). The market risk of the derivatives should generally offset the market risk associated with the hedged financial instrument or liability. 67 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 5 - Derivative Financial Instruments - Continued To help limit the credit exposure of the derivatives, the Company has entered into master netting agreements with its counterparties whereby contracts in a gain position can be offset against contracts in a loss position. The Company also typically enters into bilateral, cross-collateralization agreements with its counterparties to help limit the credit exposure of the derivatives. These agreements require the counterparty in a loss position to submit acceptable collateral with the other counterparty in the event the net loss position meets or exceeds an agreed upon amount. The Company's current credit exposure on derivatives, which is limited to the value of those contracts in a net gain position, was $37.0 million at December 31, 2001. Hedging Activity The table below summarizes by notional amounts the activity for each category of derivatives.
Swaps ----------------------------------- Receive Receive Receive Variable/ Fixed/Pay Fixed/Pay Pay Fixed Fixed Variable Forwards Futures Options Total (in millions of dollars) ---------------------------------------------------------------------------------------- Balance at December 31, 1998 $ -- $ 168.3 $ 1,080.0 $ -- $ 111.0 $ 212.3 $ 1,571.6 Additions 8.2 12.3 406.0 82.9 325.0 459.0 1,293.4 Terminations -- 168.3 320.0 -- 436.0 370.0 1,294.3 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Balance at December 31, 1999 8.2 12.3 1,166.0 82.9 -- 301.3 1,570.7 Additions -- 15.8 569.0 40.0 283.3 -- 908.1 Terminations 8.2 -- 600.0 122.9 283.3 294.0 1,308.4 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Balance at December 31, 2000 -- 28.1 1,135.0 -- -- 7.3 1,170.4 Additions 500.0 -- 459.0 126.6 -- -- 1,085.6 Terminations 500.0 10.9 620.0 -- -- -- 1,130.9 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Balance at December 31, 2001 $ -- $ 17.2 $ 974.0 $ 126.6 $ -- $ 7.3 $ 1,125.1 ========== ========== ========== ========== ========== ========== ==========
Additions and terminations reported above for futures and options include roll activity, which is the closing out of an old contract and initiation of a new one when a contract is about to mature but the need for it still exists. The following table summarizes the timing of anticipated settlements of interest rate swaps outstanding at December 31, 2001, whereby the Company receives a fixed rate and pays a variable rate. The weighted average interest rates assume current market conditions.
2002 2003 2004 2005 2007 Total (in millions of dollars) ------------------------------------------------------------------------ Receive Fixed/Pay Variable Notional Value $329.0 $279.0 $149.0 $157.0 $ 60.0 $974.0 Weighted Average Receive Rate 7.55% 7.12% 6.76% 6.83% 13.37% 7.55% Weighted Average Pay Rate 1.88% 1.88% 1.88% 1.88% 3.60% 1.99%
68 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 5 - Derivative Financial Instruments - Continued The Company's derivatives all qualify as hedges and have been designated as cash flow hedges. The cash flow hedging programs are described as follows. The Company has executed a series of cash flow hedges in the group disability, individual disability, group and individual long-term care, and group single premium annuities portfolios using forward starting interest rate swaps. The purpose of these hedges is to lock in the reinvestment rates on future anticipated cash flows through the year 2005 and protect the Company from the potential adverse impact of declining interest rates on the associated policy reserves. The Company plans on terminating these forward interest rate swaps at the time the projected cash flows are used to purchase fixed income securities. The Company has entered into an interest rate swap whereby it receives a fixed rate of interest and pays a variable rate of interest. The purpose of this swap is to hedge the variable cash flows associated with a floating rate security owned by the Company. The variable rate the Company pays on the swap is offset by the amount the Company receives on the variable rate security. The Company has entered into several foreign currency interest rate swaps whereby it receives a fixed rate of interest denominated in U.S. dollars (functional currency) and pays a fixed rate of interest denominated in a foreign currency. The purpose of these derivatives is to eliminate the variability of functional currency cash flows associated with certain foreign currency denominated securities owned by the Company. The fixed rate the Company pays on the swap is offset by the fixed rate it receives on the foreign currency denominated security. The Company also used forward starting swaps to hedge the interest rate on its anticipated issuance of debt. This hedge was initiated in the first quarter of 2001 and was terminated in March 2001 when the debt was issued. The deferred gain of $2.8 million is being amortized into earnings as a component of interest expense over the expected remaining life of the hedged debt instrument. See Note 9. The Company has invested in certain structured fixed maturity securities that contain embedded derivatives. These embedded derivatives represent forward contracts and are accounted for as cash flow hedges. The purpose of these forward contracts is to hedge the risk of changes in cash flows related to the anticipated purchase of equity securities. During 2001, the Company recognized net gains of $87.6 million upon the termination of cash flow hedges and reported $85.6 million of these gains in other comprehensive income. In 2001, the Company reported $2.0 million in operating earnings as realized investment gains in conjunction with hedges that were terminated. The Company amortized $9.1 million of net deferred gains into earnings during 2001 including the amortization of deferred gains on derivative instruments that arose prior to the initial application of SFAS 133 and that were previously added to the carrying amount of recognized hedged assets. The estimated amount of net deferred gains that will be amortized into operating earnings during 2002 is $10.4 million. The notional amount of derivatives outstanding under the hedge programs was $1,125.1 million at December 31, 2001. For the year ended December 31, 2001, there was no material ineffectiveness related to the Company's derivative holdings, and there was no component of the derivative instruments' gain or loss excluded from the assessment of hedge effectiveness. 69 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 6 - Value of Business Acquired A reconciliation of value of business acquired is as follows:
2001 2000 1999 (in millions of dollars) -------------------------------------------- Balance at January 1 $ 591.6 $ 534.1 $ 570.5 Acquisition of Business -- 138.4 -- Disposition of Business -- (31.2) -- Interest Accrued 41.4 43.8 40.4 Amortization (89.8) (88.8) (78.7) Change in Foreign Currency Translation Adjustment (1.0) (4.7) 1.9 ------------ ------------ ------------ Balance at December 31 $ 542.2 $ 591.6 $ 534.1 ============ ============ ============
The estimated net amortization of value of business acquired for each of the next five years is $43.8 million in 2002, $42.6 million in 2003, $41.0 million in 2004, $39.5 million in 2005, and $38.0 million in 2006. Acquisition and disposition activity related to certain reinsurance transactions. See Note 13. 70 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 7 - Liability for Unpaid Claims and Claim Adjustment Expenses Changes in the liability for unpaid claims and claim adjustment expenses are as follows:
2001 2000 1999 (in millions of dollars) ------------------------------------------ Balance at January 1 $ 18,696.8 $ 15,344.5 $ 13,159.1 Less Reinsurance Recoverables 3,964.6 2,087.9 1,614.8 ------------ ------------ ------------ Net Balance at January 1 14,732.2 13,256.6 11,544.3 Acquisition of Business - Note 13 -- 602.5 -- Incurred Related to Current Year 4,366.8 4,565.0 4,853.8 Prior Years Interest 994.9 872.1 705.4 Incurred 74.7 19.6 757.5 ------------ ------------ ------------ Total Incurred 5,436.4 5,456.7 6,316.7 ------------ ------------ ------------ Paid Related to Current Year 1,355.9 1,496.1 1,538.2 Prior Years 3,525.9 3,087.5 3,066.2 ------------ ------------ ------------ Total Paid 4,881.8 4,583.6 4,604.4 ------------ ------------ ------------ Net Balance at December 31 15,286.8 14,732.2 13,256.6 Plus Reinsurance Recoverables 2,544.5 3,964.6 2,087.9 ------------ ------------ ------------ Balance at December 31 $ 17,831.3 $ 18,696.8 $ 15,344.5 ============ ============ ============
The majority of the net balances are related to disabled lives claims with long-tail payouts on which interest earned on assets backing liabilities is an integral part of pricing and reserving. Interest accrued on prior year reserves has been calculated on the opening reserve balance less one-half year's cash payments at the average reserve discount rate used by the Company during 2001, 2000, and 1999. During 1999, unpaid claims incurred for prior years increased primarily due to changes in reserves as disclosed in Notes 2 and 13. September 11, 2001 The tragedy of September 11, 2001 resulted in a third quarter 2001 before-tax charge of $24.0 million, or $15.6 million after tax. This charge includes estimated gross ultimate losses from reported and unreported claims of $65.0 million less an estimated $41.0 million recoverable from the Company's reinsurers. The charge does not include any indirect costs which the Company incurred in developing specialized procedures for filing claims resulting from the attacks and in providing additional support to impacted policyholders and group clients. The Company's reinsurance program provides a significant layer of catastrophic coverage for its individual disability and its group life, accidental death and dismemberment, travel accident, long-term disability, and short-term disability lines of business through a group of highly rated major national and international reinsurance organizations. Because of the quality and level of the Company's various reinsurance coverages, the Company does not anticipate that any of its reinsurers will be unable to cover the claims incurred as a result of the events. Should this occur, however, all of the Company's insurance subsidiaries are sufficiently capitalized such that each insurance subsidiary will be able to satisfy these claims and will face no liquidity or risk-based capital issues. 71 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 8 - Federal Income Tax A reconciliation of the income tax (benefit) attributable to continuing operations computed at U.S. federal statutory tax rates to the income tax expense as included in the consolidated statements of operations follows:
Year Ended December 31 2001 % 2000 % 1999 % (in millions of dollars) ----------------------------------------------------------------------- Statutory Income Tax (Benefit) $ 288.8 35.0% $ 303.0 35.0% $ (57.9) 35.0% Tax-exempt Investment Income (9.8) (1.2) (13.5) (1.6) (22.0) 13.3 Income Tax Settlements -- -- -- -- (14.2) 8.6 Business Restructuring Charges -- -- -- -- 17.2 (10.4) Tax Basis in Foreign Subsidiary -- -- (44.5) (5.1) -- -- Change in Valuation Allowance (44.3) (5.4) 42.5 4.9 65.7 (39.7) Goodwill 8.4 1.0 6.9 0.8 25.9 (15.7) Other Items, Net (0.1) -- 7.0 0.8 2.7 (1.6) -------- -------- -------- -------- -------- -------- Effective Tax $ 243.0 29.4% $ 301.4 34.8% $ 17.4 (10.5)% ======== ======== ======== ======== ======== ========
The net deferred income tax liability consists of the following:
December 31 2001 2000 (in millions of dollars) ------------------------ Deferred Tax Liability Deferred Policy Acquisition Costs $ 603.5 $ 527.1 Net Unrealized Gain on Securities and Cash Flow Hedges 55.6 105.1 Value of Business Acquired 192.1 210.2 Policy Reserve Adjustments 128.3 31.0 Property and Equipment 26.2 18.5 Other Employee Benefits 19.9 19.7 Other 33.2 24.5 ---------- ---------- Gross Deferred Tax Liability 1,058.8 936.1 ---------- ---------- Deferred Tax Asset Net Operating Losses 221.7 226.4 Reinsurance Gains and Losses 128.1 131.9 Accrued Liabilities 24.9 27.8 Tax Basis in Foreign Subsidiary 3.9 44.5 Realized Investment Gains and Losses 122.6 88.1 Postretirement Benefits 70.9 68.2 Foreign Currency Translation 33.8 22.8 Other 14.2 11.1 ---------- ---------- Gross Deferred Tax Asset 620.1 620.8 Less Valuation Allowance 71.2 115.5 ---------- ---------- Net Deferred Tax Asset 548.9 505.3 ---------- ---------- Net Deferred Tax Liability $ 509.9 $ 430.8 ========== ==========
Prior year amounts have been reclassified to conform to the current year presentation. 72 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 8 - Federal Income Tax - Continued Under the Life Insurance Company Tax Act of 1959, life companies were required to maintain a policyholders' surplus account containing the accumulated portion of current income which had not been subjected to income tax in the year earned. The Deficit Reduction Act of 1984 requires that no future amounts be added after 1983 to the policyholders' surplus account. Further, any future distributions from the account would become subject to federal income tax at the general corporate federal income tax rate then in effect. The amount of the policyholders' surplus account at December 31, 2001, is approximately $228.8 million. Future distributions from the policyholders' surplus account are deemed to occur if a statutorily prescribed maximum for the account is less than the value of the account or if dividend distributions exceed the total amount accumulated as currently taxable income in the year earned. If the entire policyholders' surplus account were deemed distributed in 2002, this would result in a tax of approximately $80.1 million. No current or deferred federal income taxes have been provided on these amounts because management considers the conditions under which such taxes would be paid to be remote. The Company has not provided for deferred taxes on basis differences in its foreign subsidiaries that are permanent in duration or on the unremitted earnings of its domestic subsidiaries which are not expected to result in taxable or deductible amounts. The Company's consolidated statements of operations include the following amounts of income (loss) subject to foreign taxation and the related foreign income tax expense (credit):
Year Ended December 31 2001 2000 1999 (in millions of dollars) -------------------------------------------- Income (Loss) Before Tax Subject to Foreign Taxation $ 95.2 $ 109.5 $ (213.5) ============ ============ ============ Foreign Income Tax Expense (Credit) Current $ 7.8 $ 54.3 $ 38.0 Deferred 8.0 (23.6) (40.9) ------------ ------------ ------------ Total Foreign Income Tax Expense (Credit) $ 15.8 $ 30.7 $ (2.9) ============ ============ ============
For most of the Company's subsidiaries, tax years through 1995 are closed to further assessment by the Internal Revenue Service (IRS). During 2001, the IRS continued its examination of subsequent tax years. Management believes any future adjustments that may result from IRS examinations of tax returns will not have a material impact on the financial position, liquidity, or results of operations of the Company. During 1999, the Company reached a settlement with the IRS relating to its federal income tax liability for the 1986 through 1992 tax years. Results for the year ended December 31, 1999 increased $36.8 million due to settlements of these prior year tax issues. During 2001, the Company's valuation allowance decreased by $44.3 million related to its investment in foreign operations. The Company's subsidiaries had net operating loss carryforwards of approximately $627.5 million, alternative minimum tax credit carryforwards of approximately $2.8 million, and capital loss carryforwards of $5.9 million as of December 31, 2001. The majority of the net operating loss carryforwards will begin to expire, if not utilized, in 2020; the alternative minimum tax credits do not expire; the capital loss carryforward, if not utilized, will expire in 2006. Federal income taxes paid during 2001, 2000, and 1999 were $127.3 million, $165.6 million, and $77.8 million, respectively. 73 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 9 - Debt and Company-Obligated Mandatorily Redeemable Preferred Securities Debt Short-term debt consists of the following (in millions of dollars):
December 31 2001 2000 --------------------------------------------------------------- Weighted Weighted Average Average Interest Interest Balance Rate Balance Rate --------------------------------------------------------------- Commercial Paper $126.8 3.28% $ -- --% Current Portion of Medium-term Notes 35.0 7.55 -- -- Private Placements -- -- 400.0 7.2 Other Short-term Debt -- -- 2.2 4.8 ------ ------ Total $161.8 $402.2 ====== ======
Long-term debt consists of the following:
December 31 2001 2000 (in millions of dollars) ------------------------ Commercial Paper, average interest rate of 3.22% $ 470.2 $ 449.0 and 7.74% Notes @ 6.75% due 2028, callable at or above par 250.0 250.0 Notes @ 7.25% due 2028, callable at or above par 200.0 200.0 Notes @ 7.0% due 2018, non-callable 200.0 200.0 Notes @ 7.625% due 2011, non-callable 575.0 -- Notes @ 6.375% due 2005, non-callable 200.0 200.0 Monthly Income Debt Securities @ 8.8% due 2025, callable at par in 2000 and thereafter -- 172.5 Medium-term Notes @ 5.9% to 7.3% due 2003 to 2028, non-callable 109.0 144.0 ---------- ---------- Total $ 2,004.2 $ 1,615.5 ========== ==========
In 2001 the Company redeemed its $172.5 million par value 8.8% monthly income debt securities. This early extinguishment of debt resulted in a write-off of the remaining deferred debt costs of $4.5 million associated with the issuance of the securities. The write-off is reported as an extraordinary loss, net of a $1.6 million tax benefit, in 2001. In 2000, the Company entered into $1.0 billion senior revolving credit facilities with a group of banks. The facilities, which are split into five-year revolver and 364-day portions, replaced a 364-day revolver which expired in October 2000 and a five-year revolver which has been canceled. The 364-day portion of the credit facility was renewed as of October 2001. Interest is variable based upon a London Interbank Offered Rate (LIBOR) plus a margin or an alternate base rate. At December 31, 2001, approximately $403.0 million was available for additional financing under the Company's revolving credit facilities. 74 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 9 - Debt and Company-Obligated Mandatorily Redeemable Preferred Securities - - Continued Also in 2000, the Company filed with the Securities and Exchange Commission a shelf registration statement on Form S-3 covering the issuance of up to $1.0 billion of securities in order to provide funding alternatives for its maturing debt. In 2001, the Company completed a long-term debt offering, issuing $575.0 million of 7.625% senior notes due March 1, 2011. The proceeds were used to refinance short-term debt on a long-term basis and to fund other corporate needs. At December 31, 2001, $425.0 million was available under the shelf registration. Commercial paper debt is due within one year, but a portion has been classified as long term because the Company has the ability through the senior revolving credit facilities to convert this obligation into longer-term debt. The Company intends to refinance the commercial paper either by issuing additional commercial paper or by replacing commercial paper debt with long-term debt issued under the currently effective shelf registration statement. Of the $2,004.2 million of long-term debt at December 31, 2001, $470.2 million will mature in 2002, $20.0 million will mature in 2003, $227.0 million will mature in 2005, and $1,287.0 million will mature in 2011 and thereafter. Interest paid on short-term and long-term debt during 2001, 2000, and 1999 was $137.1 million, $156.9 million, and $115.2 million, respectively. Company-Obligated Mandatorily Redeemable Preferred Securities In 1998, Provident Financing Trust I, a wholly-owned subsidiary trust of the Company, issued $300.0 million of 7.405% capital securities in a public offering. These capital securities, which mature on March 15, 2038, are fully and unconditionally guaranteed by the Company, have a liquidation value of $1,000 per capital security, and have a mandatory redemption feature under certain circumstances. The Company issued $300.0 million of 7.405% junior subordinated deferrable interest debentures which mature on March 15, 2038, to the subsidiary trust in connection with the capital securities offering. The sole assets of the subsidiary trust are the junior subordinated debt securities. Interest costs related to these securities are reported in the consolidated statements of operations as a component of interest and debt expense. Interest paid on these securities during each of the years ended December 31, 2001, 2000, and 1999 was $22.2 million. 75 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 10 - Pensions and Other Postretirement Benefits The Company sponsors several defined benefit pension and postretirement plans for its employees, including non-qualified pension plans. The following tables provide the changes in the benefit obligation and fair value of plan assets and statements of the funded status of the plans.
Pension Benefits Postretirement Benefits ------------------------------------------------ 2001 2000 2001 2000 (in millions of dollars) ------------------------------------------------ Change in Benefit Obligation Balance at January 1 $ 310.7 $ 651.5 $ 191.8 $ 165.5 Service Cost 11.8 12.0 4.0 4.9 Interest Cost 23.4 45.4 14.1 13.2 Plan Amendments -- (12.4) (15.2) 16.0 Actuarial (Gain) Loss 38.3 (6.3) 35.1 4.1 Benefits Paid (13.7) (36.4) (11.0) (11.9) Settlement -- (343.1) -- -- --------- --------- --------- --------- Balance at December 31 370.5 310.7 218.8 191.8 --------- --------- --------- --------- Change in Fair Value of Plan Assets Balance at January 1 521.5 927.3 10.9 11.2 Actual Return on Plan Assets (49.2) (33.1) (0.1) -- Contributions 4.6 6.8 10.6 11.6 Benefits Paid (13.7) (36.4) (11.0) (11.9) Settlement -- (343.1) -- -- --------- --------- --------- --------- Balance at December 31 463.2 521.5 10.4 10.9 --------- --------- --------- --------- Funded (Underfunded) Status of the Plans at December 31 92.7 210.8 (208.4) (180.9) Unrecognized Net Actuarial (Gain) Loss 38.2 (99.4) 36.0 0.8 Unrecognized Prior Service Cost (22.5) (25.2) (21.7) (8.0) Unrecognized Net Transition Obligation 0.5 0.9 -- -- --------- --------- --------- --------- Prepaid (Accrued) Benefit Cost $ 108.9 $ 87.1 $ (194.1) $ (188.1) ========= ========= ========= =========
During 2000, the Company, through its defined benefit pension plan, purchased a single premium annuity to fund the Company's retirement benefit obligation for approximately 3,000 retirees. This transaction resulted in a gain of $116.1 million before tax, or $75.5 million after tax. At December 31, 2001, the plan assets include 448,784 shares of the Company's common stock with a fair value of $11.9 million. The amount of dividends paid during 2001 was immaterial. 76 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 10 - Pensions and Other Postretirement Benefits - Continued The weighted average assumptions used in the measurement of the Company's benefit obligation are as follows:
Pension Benefits Postretirement Benefits ------------------------------------------------ 2001 2000 2001 2000 ------------------------------------------------ Discount Rate 7.35% 7.60% 7.35% 7.60% Expected Return on Plan Assets 9.00% 9.00% 6.00% 6.00% Rate of Compensation Increase 5.00% 4.50% -- --
For measurement purposes at December 31, 2001, the annual rate of increase in the per capita cost of covered health care benefits assumed for 2002 was 11.0 percent. The rate range was assumed to change gradually to a rate of 5.0 percent for 2008 and remain at that level thereafter. For measurement purposes at December 31, 2000, the annual rate of increase in the per capita cost of covered health care benefits for 2001 was 7.5 percent, and was assumed to gradually decrease to a rate of 5.5 percent in 2004 and remain at that level thereafter. A one percent increase or decrease in the assumed health care cost trend rate at December 31, 2001 and 2000 would have an insignificant impact on the net periodic postretirement benefit cost and postretirement benefit obligation. The following table provides the components of the net periodic benefit cost (credit) and early retirement cost for the plans described above.
Year Ended December 31 Pension Benefits Postretirement Benefits ---------------------------------------------------------------------- 2001 2000 1999 2001 2000 1999 (in millions of dollars) ---------------------------------------------------------------------- Service Cost $ 11.8 $ 12.0 $ 22.7 $ 4.0 $ 4.9 $ 5.7 Interest Cost 23.4 45.4 46.2 14.1 13.2 11.4 Expected Return on Plan Assets (46.7) (82.6) (79.9) (0.6) (0.7) (0.9) Net Amortization and Deferral (5.7) (23.3) (12.5) (1.5) (1.9) 2.4 Early Retirement - Note 2 -- -- 95.2 -- -- 30.7 Settlement -- (116.1) -- -- -- -- --------- --------- --------- --------- --------- --------- Total $ (17.2) $ (164.6) $ 71.7 $ 16.0 $ 15.5 $ 49.3 ========= ========= ========= ========= ========= =========
77 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 11 - Stockholders' Equity and Earnings Per Share Preferred Stock The Company has 25,000,000 shares of preferred stock authorized with a par value of $0.10 per share. No preferred shares have been issued. Earnings Per Common Share The computations of earnings per common share and earnings per common share assuming dilution are as follows:
Year Ended December 31 2001 2000 1999 (in millions of dollars, except share data) -------------------------------------------- Numerator Net Income (Loss) $ 579.2 $ 564.2 $ (182.9) ============ ============ ============ Denominator (000s) Weighted Average Common Shares - Basic 241,824.9 240,880.4 239,080.6 Dilution for Assumed Exercise of Stock Options and Stock 1,783.8 1,180.6 -- ------------ ------------ ------------ Weighted Average Common Shares - Assuming Dilution 243,608.7 242,061.0 239,080.6 ============ ============ ============ Net Income (Loss) Per Common Share Basic $ 2.40 $ 2.34 $ (0.77) Assuming Dilution $ 2.38 $ 2.33 $ (0.77)
In computing earnings per share assuming dilution, only potential common shares that are dilutive (those that reduce earnings per share) are included. Potential common shares are not used when computing earnings per share assuming dilution if the results would be antidilutive, such as when a net loss is reported or if options are out of the money. Approximately 10.2 million, 10.7 million, and 3.7 million options for the years ended December 31, 2001, 2000 and 1999, respectively, were not considered dilutive due to the options being out of the money. In-the-money options to purchase approximately 3.1 million common shares for the year ended December 31, 1999, were not considered dilutive due to net losses being reported for the period. 78 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 12 - Incentive Compensation and Stock Purchase Plans Annual Incentive Compensation The Company has several annual incentive plans for certain employees and executive officers that are designed to encourage achievement of certain goals. Compensation cost recognized in the consolidated statements of operations for annual incentive plans is $27.0 million, $28.8 million, and $6.6 million for 2001, 2000, and 1999, respectively. Stock Plans Under the stock plan of 1999, the Company has available up to 17,500,000 shares of common stock for awards to its employees, officers, producers, and directors. Awards may be in the form of stock options, stock appreciation rights, restricted stock awards, dividend equivalent awards, or any other right or interest relating to stock. The number of shares available to be issued as restricted stock or unrestricted stock awards is limited to 3,500,000 shares. The options have a maximum term of ten years after the date of grant. The Company granted 158,100 shares of restricted stock to certain employees during 2001 with a weighted average grant date value of $27.99 per common share. Under the broad-based stock plan of 2001, the Company has available up to 2,000,000 shares of common stock for awards to its employees, consultants, and producers, excluding certain senior officers and directors. For both the stock plan of 1999 and the broad-based stock plan of 2001, the exercise price for stock options issued shall not be less than the fair market value of the Company's stock as of the grant date. Prior to these stock plans, the Company had various stock option and stock award programs. For all stock option plans the exercise price of each option was not less than the fair market value of the Company's stock at the date of grant. In accordance with stock plan provisions, outstanding stock options and restricted stock became immediately exercisable as a result of a change in control (see Note 2). Summaries of the Company's stock options issued under the various plans are as follows:
2001 2000 1999 -------------------------- -------------------------- ------------------------- Shares Weighted Average Shares Weighted Average Shares Weighted Average (000s) Exercise Price (000s) Exercise Price (000s) Exercise Price ------ ---------------- ------ ---------------- ------ ---------------- Outstanding at January 1 16,200 $30.53 14,299 $36.04 15,023 $30.43 Granted 3,495 28.12 5,299 15.71 3,795 48.15 Exercised (910) 16.79 (612) 16.04 (3,460) 22.38 Forfeited or Expired (589) 26.95 (2,786) 33.66 (1,059) 44.43 ------- ------ ------- Outstanding at December 31 18,196 30.87 16,200 30.53 14,299 36.04 ====== ====== ======
December 31, 2001 ------------------------------------------------------------------------------------------------- Options Outstanding Options Exercisable ---------------------------------------------------------- ------------------------------------- Weighted Average Range of Shares Remaining Years Weighted Average Shares Weighted Average Exercise Prices (000s) in Contractual Life Exercise Price (000s) Exercise Price --------------- ------ ------------------- -------------- ------ -------------- $ 10 to 19 4,014 7.0 $14.70 1,276 $16.74 20 to 29 6,796 6.5 26.74 3,019 25.52 30 to 39 3,488 4.6 34.80 3,453 34.83 40 to 49 1,289 6.8 45.52 1,078 45.55 50 to 59 2,609 6.7 54.01 2,218 53.81 ------ ------ Total 18,196 6.3 30.87 11,044 35.06 ====== ======
79 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 12 - Incentive Compensation and Stock Purchase Plans - Continued Employee Stock Purchase Plan (ESPP) Substantially all of the Company's employees are eligible to participate in an ESPP. Under the plan, up to 1,460,000 shares of the Company's common stock are authorized for issuance. Stock may be purchased at the end of each financial quarter at a purchase price of 85 percent of the lower of its beginning or end of quarter market prices. The Company sold 159,572; 201,626; and 86,497 shares to employees with a weighted average exercise price of $22.40, $16.73, and $31.71 in 2001, 2000, and 1999, respectively. Compensation Cost Under the Fair Value Approach The Company applies Opinion 25 and related interpretations in accounting for the stock option plans and ESPP. Accordingly, no compensation cost has been recognized for these plans. Compensation cost for the Company's stock option plans and ESPP under the fair value approach defined in Statement of Financial Accounting Standards No. 123 (SFAS 123), Accounting for Stock-Based Compensation, was estimated as of the grant date using Black-Scholes option pricing models. The weighted average assumptions used in estimating compensation cost for the Company during 2001, 2000 and 1999 are as follows:
Year Ended December 31 2001 2000 1999 ------------------------------------------- Volatility 26.3% 24.2% 24.0% Risk-free Rate of Return 5.0% 6.6% 5.5% Dividend Payout Rate Per Share $0.59 $0.59 $0.59 Time of Exercise Stock Option Plan 6.0 years 6.0 years 5.7 years ESPP 3 months 3 months 3 months Weighted Average Fair Value of Awards Granted During the Year Stock Option Plan $7.87 $2.73 $14.33 ESPP $5.57 $5.20 $10.77
Had compensation cost for these plans been determined in accordance with the provisions of SFAS 123, the Company's net income (loss) and net income (loss) per common share would have been as follows:
Year Ended December 31 2001 2000 1999 (in millions of dollars, except share data) ----------------------------------------------------- Net Income (Loss) $566.9 $556.0 $(223.6) Net Income (Loss) Per Common Share Basic 2.34 2.31 (0.94) Assuming Dilution 2.33 2.30 (0.94)
80 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 13 - Reinsurance In the normal course of business, the Company assumes reinsurance from and cedes reinsurance to other insurance companies. The primary purpose of ceded reinsurance is to limit losses from large exposures; however, if the assuming reinsurer is unable to meet its obligations, the Company remains contingently liable. The Company evaluates the financial condition of reinsurers and monitors concentration of credit risk to minimize this exposure. The reinsurance receivable at December 31, 2001 relates to approximately 315 reinsurance relationships. Of the seven major relationships which account for approximately 78 percent of the reinsurance receivable amount at December 31, 2001, all are with companies rated A or better by A.M. Best Company or are fully securitized by investment-grade fixed maturity securities held in trust. Reinsurance activity is accounted for on a basis consistent with the terms of the reinsurance contracts and the accounting used for the original policies issued. Premium income and benefits and change in reserves for future benefits are presented in the consolidated statements of operations net of reinsurance ceded. The total amounts deducted for reinsurance ceded are as follows:
Year Ended December 31 2001 2000 1999 (in millions of dollars) ---------------------------------------------- Premium Income $ 720.6 $665.3 $508.3 Benefits and Change in Reserves for Future Benefits 1,172.3 820.8 695.5
Premium income assumed was $513.3 million, $618.1 million, and $576.7 million during 2001, 2000, and 1999, respectively. During 2001, the Company reinsured on a 100 percent indemnity coinsurance basis certain cancer policies written by one of the Company's insurance subsidiaries. The effective date of the transaction was November 1, 2001. Total policy reserves ceded were approximately $113.6 million. The $12.3 million before-tax gain on this transaction was deferred and is being amortized into income based upon expected future premium income on the policies ceded. During 2000 the Company entered into a 100 percent indemnity coinsurance agreement to cede the future claim payments on one of its insurance subsidiaries' long duration group long-term disability claims which were incurred prior to January 1, 1996. Total policy reserves ceded were approximately $177.9 million. The agreement was effective January 1, 2000. The gain on the transaction was immaterial. Effective July 1, 2000, the Company entered into various reinsurance agreements with Reassure America Life Insurance Company (Reassure America), an affiliate of Swiss Re Life & Health America Inc., under which Reassure America reinsured on a 100 percent indemnity coinsurance basis substantially all of the individual life insurance and corporate-owned life insurance policies written by the Company's insurance subsidiaries, as well as a small block of individually underwritten group life insurance. Reassure America has a current A.M. Best rating of A++ (superior). In consideration of the transfer of reserves, the Company received a ceding commission of $601.0 million. Total liabilities of $3,346.8 million and policy loans of $2,040.9 million were assumed by Reassure America. The $388.2 million before-tax and $252.3 million after-tax gain on these transactions was deferred and is being amortized into income based upon expected future premium income on the traditional insurance policies ceded and estimated future gross profits on the interest-sensitive insurance policies ceded. Effective January 1, 2000, an insurance subsidiary of the Company reinsured the inforce individual disability income block of business of the New York Life Insurance Company through a 100 percent indemnity modified coinsurance agreement. The Company paid a ceding commission of $88.0 million which is being amortized as earnings emerge from the business assumed. 81 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 13 - Reinsurance - Continued Centre Life Reinsurance Limited In 1996, the Company executed a definitive reinsurance agreement with Centre Life Reinsurance Limited (Centre Re), a Bermuda-based reinsurance specialist, for reinsurance coverage of the existing United States noncancelable individual disability active life reserves of one of the Company's insurance subsidiaries, Unum Life Insurance Company of America. This agreement reinsures all claims incurred on or after January 1, 1996. The Company has the right, but no obligation, to recapture the business after six years without penalty. Under the agreement, Centre Re has an obligation to absorb losses within a defined risk layer. The Company retains the risk for all experience up to Centre Re's defined risk layer, or attachment point. Once the attachment point is reached, Centre Re assumes the risk for all experience up to a contractually defined risk limit. Any experience above Centre Re's defined risk limit reverts back to the Company. As of December 31, 2001, the attachment point had not been reached. The following discloses the various layers in the agreement at December 31, 2001 (in millions of dollars): Net GAAP Reserves $ 843.9 Experience Layer 386.8 ---------- Attachment Point 1,230.7 Centre Re's Defined Risk Layer 128.9 ---------- Defined Risk Limit $ 1,359.6 ========== Under this agreement, the Company funds a trust account equal to the amount of the Company's exposure. This trust account provides security for amounts due by the Company prior to reaching the attachment point. The Company controls the management of the business, including premium collection and claims management, under this agreement. All premiums, less amounts for management expenses and claim payments, are transferred to the trust account on a quarterly basis. The Company also acts as the investment manager for 80 percent of the assets in the trust with Centre Re managing the remaining 20 percent. This reinsurance agreement transfers risk and is accounted for as a long-duration reinsurance contract in accordance with the provisions of Statement of Financial Accounting Standards No. 113, Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts. The underlying operating results of this contract are reflected in other income, and any realized gain or loss from the sale of assets is reflected as a realized investment gain or loss in the Company's consolidated statements of operations. Included in miscellaneous assets in the consolidated statements of financial condition at December 31, 2001, is a deposit asset for this reinsurance arrangement of approximately $367.4 million. The deposit asset is comprised of the Company's experience layer and unrealized gains or losses on the marketable securities held in the trust. Unrealized gains or losses on marketable securities held in the trust and the related effects on claim reserves are included in other comprehensive income (loss) in the equity section of the Company's consolidated statements of financial condition. Other Reinsurance Operations The Company's reinsurance operations include the reinsurance management operations of Duncanson & Holt, Inc. (D&H) and the risk assumption, which includes reinsurance pool participation; direct reinsurance which includes accident and health (A&H), long-term care (LTC), and long-term disability coverages; and Lloyd's syndicate participations. During 1999, the Company concluded that these operations were not solidly aligned with the Company's strength in the disability insurance market and decided to exit these operations through a combination of a sale, reinsurance, and/or placing certain components in run-off. In 1999, the Company sold the reinsurance management operations of its A&H and LTC reinsurance facilities and reinsured the Company's risk participation in these facilities. The Company also decided to discontinue its London accident reinsurance pool participation beginning in year 2000. With respect to Lloyd's, the Company implemented a strategy which limited participation 82 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 13 - Reinsurance - Continued in year 2000 underwriting risks, ceased participation in Lloyd's underwriting risks after year 2000, and managed the run-off of its risk participation in open years of account of Lloyd's reinsurance syndicates. During 2001, the Company entered into an agreement to limit its liabilities pertaining to the Lloyd's syndicate participations. Separately, the Company also reinsured 100 percent of the group disability reinsurance reserves and all future business underwritten and managed by Duncanson and Holt Services, Inc., a subsidiary of D&H. The transaction, in which reserves of approximately $323.8 million were ceded to the reinsurer, had an effective date of January 1, 2001. In a separate but related transaction, the Company also sold the reinsurance management operations of Duncanson and Holt Services, Inc. and divested the remaining assets of that facility during 2001. The gains on the reinsurance and sale transactions were immaterial. The table below summarizes the charges recognized by the Company during 2000 and 1999 related to the reinsurance operations. There were no significant charges recognized during 2001.
2000 1999 (in millions of dollars) ------------------------ North American Reinsurance Operations Loss on Sale of A&H and LTC Reinsurance Management Operations $ -- $ 12.9 Loss on Reinsurance of A&H and LTC Risk Participations -- 12.7 Provision for Losses on Retained Business -- 42.1 International Reinsurance Operations Provision for Losses on Lloyd's of London Syndicate Participations -- 186.5 Provision for Losses on Reinsurance Pool Participations Other than Lloyd's 37.4 21.9 Goodwill Impairment Excluding Amount Recognized on Sale -- 51.7 --------- --------- Total Before-tax Charge $ 37.4 $ 327.8 ========= =========
A discussion of these charges is as follows: North American Reinsurance Operations Loss on Sale of A&H and LTC Reinsurance Management Operations In 1999 the Company sold the reinsurance management operations of its A&H and LTC reinsurance facilities to American United Life Insurance Company (AUL) and also reinsured the Company's risk participation in these facilities with AUL (see below). Certain risks related to prior operations were not assumed by AUL. The terms of the sale required the Company to continue to participate in certain of the reinsurance facilities in year 2000, thereby assuming underwriting risks. A before-tax loss of $12.9 million, including the write-off of $6.0 million of goodwill related to this portion of the operations, was recognized during 1999. Loss on Reinsurance of A&H and LTC Risk Participations The Company entered into a separate indemnity reinsurance agreement with AUL whereby AUL would assume the Company's existing risk participation in the A&H and LTC reinsurance facilities. As a result, the Company recognized a 1999 before-tax loss of $12.7 million. 83 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 13 - Reinsurance - Continued Provision for Losses on Retained Business The reinsurance pool business consists of more than 20 different pool facilities, the majority of which are managed by D&H and a few pools which are managed by third parties. Reserve assumptions are periodically reviewed to support the determination of the ultimate cost of settling claims for certain reinsurance pools. During the first quarter of 1999, the Company reviewed the actuarial assumptions used to set reserves for certain reinsurance facilities based on the most current information available from the reinsurance pool managers. The Company also received new information pertaining to a reinsurance pool managed by a third party that indicated a reserve increase was required. The Company relied primarily on the third party pool manager's judgement and recorded its portion of the reserve as reflected in the reinsurance pool statement from the third party pool manager. The new information received from the managed facilities and the third party facility indicated deterioration in loss experience, primarily related to a longer duration of claims and increased incidence of new claims in certain facilities. The result of these reviews was an increase to claim reserves of $39.1 million during 1999. The Company determined that the increase to reserves was needed based on revised actuarial assumptions to reflect current and expected trends in claims experience and expenses. Also included in the 1999 charge was $3.0 million to recognize the estimated cost of potential uncollectible reinsurance recoveries for two reinsurers who reinsure certain of the Company's reinsurance facilities and who, as the losses have increased, have experienced financial difficulties. International Reinsurance Operations Provision for Losses on Lloyd's of London Syndicate Participations The periodic method of accounting is followed for Lloyd's syndicate participation, which requires premiums to be recognized as revenue over the policy term and claims, including the estimate of claims incurred but not reported, to be recognized as incurred. Throughout 1999, the Company received updated estimates and information about the Lloyd's market from various sources, including managing agents and underwriters of syndicates and published information from Moody's Investors Service. Consistent with overall market trends, the information and loss estimates received indicated significant deterioration in the loss experience of open years of account. The deterioration in loss experience related primarily to significant losses in certain syndicates (space and aviation, accident and health, and other non-marine classes of business) and continued pressure on the pricing of insurance coverage provided by the Lloyd's market. The Company also discussed projected results of the Lloyd's market with the underwriters of the syndicates that are managed through a subsidiary of the Company. These projected results also indicated future deterioration of the open years of account. Market conditions were not expected to improve dramatically in the near term. Using this information and recent experience with prior revisions of estimated losses in this business, the Company performed a review of its claim reserve liabilities related to its open years of account. The review of estimates related to open years of account was performed based on a periodic review of these estimates as information was received from the Lloyd's syndicates. The review resulted in revised best estimates of the expected ultimate profit or loss for each open year of account, which were significantly below the levels estimated in 1998. The resulting charge to earnings in the amount of $185.0 million was reflected in the Company's income during 1999 for the open years of account 1996 through 1999. In addition to the risk participation charge, during 1999 the Company recorded a charge of $1.5 million, which represented the reduction of previously recognized profit commissions related to the Lloyd's management company operations. 84 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 13 - Reinsurance - Continued Provision for Losses on Reinsurance Pool Participations Other than Lloyd's In connection with the development of the cost of exiting the reinsurance operations, during 1999 the Company updated its review of reserves related to non-Lloyd's reinsurance operations as well as future costs associated with managing the run-off of the retained reinsurance pools liabilities. Based upon this review, the Company increased reserves related to its participation in certain managed and non-managed reinsurance facilities by $21.9 million in 1999. During 2000 the Company, working with the pool managers in London, revised its estimates to reflect current and expected trends in claims experience and expenses. The 2000 charge included an increase of $21.9 million in claim reserves for certain of the reinsurance pools and $15.5 million related to uncollectible receivables and loss provisions. Goodwill Impairment Because an event or change in circumstance occurred that indicated the recoverability of an asset should be assessed for impairment, a recoverability test was performed to determine if impairment had occurred. Following the poor results of the reinsurance operations in the first quarter of 1999, the Company updated the goodwill recoverability test using the most current results and forecasts. The goodwill recoverability test used the held-for-use model that compares the undiscounted cash flows of these operations to determine whether those cash flows can recover the unamortized goodwill. The tests indicated that future undiscounted cash flows were insufficient to recover the entire goodwill amount, indicating that the goodwill was impaired. As a result of the impairment, the Company calculated the estimated fair value of these operations. In estimating the fair value, two valuation techniques were utilized, a discount free cash flow model and a multiple of earnings model. The estimated fair value was compared to the book value for the investment, resulting in a write-down of goodwill in the amount of $27.0 million in the first quarter of 1999. In the second quarter of 1999, the Company stated its intent to sell its reinsurance management operations, assuming the transaction would achieve the Company's financial objectives. The Company estimated the fair value of the management operations using the held-for-sale model, which compares the carrying value of the asset with the fair value less costs to sell. This resulted in an additional write-down of goodwill in the amount of $2.0 million. Following the write-downs of $27.0 million and $2.0 million, the Company's remaining unamortized goodwill related to its reinsurance operations was $53.7 million. Of the $31.0 million unamortized balance attributable to the A&H and LTC business being sold, $6.0 million was determined to be unrecoverable and was written off and included in the $12.9 million loss on the sale reported above. The balance of $25.0 million was recovered through the sales proceeds when the sale closed. The remaining unamortized balance of $22.7 million was determined to be unrecoverable based on revised earnings forecasts for the reinsurance operations and was written off during the third quarter of 1999. The total write-down of goodwill was $51.7 million during 1999, exclusive of the $6.0 million included in the loss on the sale. Retained Risks The Company has provided its best estimate of the cost of known losses, but has retained certain risks, including the exposure associated with disputes arising from reinsurance pools disclosed in Note 15. 85 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 14 - Segment Information Selected data by segment is as follows:
Year Ended December 31 2001 2000 1999 (in millions of dollars) -------------------------------------- Premium Income Employee Benefits $ 4,347.5 $ 4,042.5 $ 3,900.2 Individual 1,828.1 1,777.2 1,645.5 Voluntary Benefits 790.7 739.6 691.6 Other 111.9 497.7 605.9 ---------- ---------- ---------- 7,078.2 7,057.0 6,843.2 Net Investment Income and Other Income Employee Benefits 940.4 853.1 745.1 Individual 999.5 962.3 831.9 Voluntary Benefits 138.1 119.7 112.9 Other 234.6 406.7 641.7 Corporate 44.6 48.1 67.7 ---------- ---------- ---------- 2,357.2 2,389.9 2,399.3 Total Revenue (Excluding Net Realized Investment Gain or Loss) Employee Benefits 5,287.9 4,895.6 4,645.3 Individual 2,827.6 2,739.5 2,477.4 Voluntary Benefits 928.8 859.3 804.5 Other 346.5 904.4 1,247.6 Corporate 44.6 48.1 67.7 ---------- ---------- ---------- 9,435.4 9,446.9 9,242.5 Benefits and Expenses Employee Benefits 4,758.1 4,461.3 4,625.9 Individual 2,536.9 2,441.4 2,223.3 Voluntary Benefits 767.7 705.3 667.5 Other 293.2 861.1 1,426.1 Corporate 213.8 97.6 552.3 ---------- ---------- ---------- 8,569.7 8,566.7 9,495.1 Income (Loss) Before Net Realized Investment Gain (Loss), Federal Income Tax, and Extraordinary Loss Employee Benefits 529.8 434.3 19.4 Individual 290.7 298.1 254.1 Voluntary Benefits 161.1 154.0 137.0 Other 53.3 43.3 (178.5) Corporate (169.2) (49.5) (484.6) ---------- ---------- ---------- 865.7 880.2 (252.6) Net Realized Investment Gain (Loss) (40.6) (14.6) 87.1 ---------- ---------- ---------- Income (Loss) Before Federal Income Tax and Extraordinary Loss 825.1 865.6 (165.5) Federal Income Tax 243.0 301.4 17.4 ---------- ---------- ---------- Income (Loss) Before Extraordinary Loss 582.1 564.2 (182.9) Extraordinary Loss, Net of Tax (2.9) -- -- ---------- ---------- ---------- Net Income (Loss) $ 579.2 $ 564.2 $ (182.9) ========== ========== ==========
86 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 14 - Segment Information - Continued Included in benefits and expenses above is amortization of deferred policy acquisition costs, value of business acquired, and goodwill. Amortization of these items by segment is as follows:
Year Ended December 31 2001 2000 1999 (in millions of dollars) -------------------------------------- Employee Benefits $ 171.6 $ 149.6 $ 109.1 Individual 150.5 131.8 108.8 Voluntary Benefits 128.4 114.6 115.4 Other 30.6 105.5 179.8 Corporate 26.6 22.3 82.6 ---------- ---------- ---------- Total $ 507.7 $ 523.8 $ 595.7 ========== ========== ==========
Assets by segment are as follows:
December 31 2001 2000 (in millions of dollars) ----------------------- Employee Benefits $ 12,662.9 $ 11,282.8 Individual 17,243.8 16,162.6 Voluntary Benefits 2,443.2 2,210.4 Other 9,416.4 9,864.8 Corporate 676.4 843.3 ---------- ---------- Total $ 42,442.7 $ 40,363.9 ========== ==========
In 2001 and prior, goodwill and the amortization thereof was reported in the Corporate segment. In conjunction with the adoption of SFAS 142, effective January 1, 2002, the unamortized goodwill balance will be reclassified to the segments expected to benefit from the originating business combinations. The reclassification will increase assets $78.2 million, $585.5 million, and $11.0 million in the Employee Benefits, Individual, and Other segments, respectively, with a corresponding decrease of $674.7 million in the Corporate segment. Note 15 - Commitments and Contingent Liabilities Commitments The Company has an agreement with an outside party wherein the Company is provided computer data processing services and related functions. The contract expires in 2010, but the Company may cancel this agreement effective August 2005 or later upon payment of applicable cancellation charges. The aggregate noncancelable contractual obligation remaining under this agreement is $258.8 million at December 31, 2001, with no annual payment expected to exceed $69.9 million. Contingent Liabilities In 1997 two alleged class action lawsuits were filed in Superior Court in Worcester, Massachusetts (Superior Court) against UnumProvident Corporation (UnumProvident) and several of its subsidiaries, The Paul Revere Corporation (Paul Revere), The Paul Revere Life Insurance Company, The Paul Revere Variable Annuity Insurance Company, The Paul Revere Protective Life Insurance Company, and Provident Life and Accident Insurance Company. One 87 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 15 - Commitments and Contingent Liabilities - Continued purported to represent independent brokers who sold certain individual disability income policies with benefit riders that were issued by subsidiaries of Paul Revere. The trial for the independent broker class action commenced in March 2001. In April 2001, the jury returned a complete defense verdict. The court subsequently entered judgement on that verdict. The plaintiffs have not given an indication as to whether or not they will appeal the jury verdict. The plaintiffs have a pending motion seeking a new trial. Notwithstanding the jury verdict, the judge is obligated to rule separately on the claim that UnumProvident and its affiliates violated the Massachusetts Consumer Protection Act. The bench trial for the alleged violation commenced in October 2001 and concluded in November 2001 with closing briefs submitted to the judge in December 2001 and closing arguments heard in January 2002. A decision is expected by May 2002. The career agent class action purports to represent all career agents of subsidiaries of Paul Revere whose employment relationships ended on June 30, 1997 and were offered contracts to sell insurance policies as independent producers. At the hearing to determine class certification heard in December 1999 in Superior Court, class certification was denied for the career agents. Summary judgment motions were heard in November 2000 and all motions from plaintiffs and defendants were denied pertaining to the two class representatives whose cases survived. The career agent plaintiffs have re-filed their complaint seeking a class action status by limiting the issues to those in the certified broker class action. The court has not ruled on the re-filing. In addition, the same plaintiffs' attorney who had initially filed the class action lawsuits has filed 50 individual lawsuits on behalf of current and former Paul Revere sales managers (including the career class action representatives) alleging various breach of contract claims. UnumProvident and affiliates filed a motion in federal court to compel arbitration for 17 of the plaintiffs who are licensed by the National Association of Securities Dealers (NASD) and have executed the Uniform Application for Registration or Transfer in the Securities Industry (Form U-4). The federal court denied 15 of those motions and granted two. In June 2001, the first arbitration was heard before a NASD panel and the arbitration panel awarded the plaintiffs $190,000 in compensatory damages with no award for punitive damages, attorney's fees, or interest. The second arbitration has now been delayed three times at plaintiff's request, and plans are being made for a new date. Eight of the other cases are tentatively set to begin trials in 2002, but at this late date it is highly unlikely that more than two could start. UnumProvident and affiliates believe that they have strong defenses and plan to vigorously defend their position in these cases. Although the individual lawsuits described above are in the early stages, management does not expect these suits to materially affect the financial position or results of operations of the Company. During September and October 1999, the Company and several of its officers were named as defendants in five class action lawsuits filed in the United States District Court for the District of Maine. On January 3, 2000, the Maine district court appointed a lead class action plaintiff and ordered plaintiffs to file a consolidated amended complaint. On January 27, 2000, a sixth complaint against the same defendants was filed in the Southern District of New York. On March 7, 2000, the sixth action was transferred to the District of Maine, and that action was voluntarily dismissed by the plaintiff on June 12, 2000. On February 23, 2000, two consolidated amended class action complaints were filed against the same defendants. The first amended class action complaint asserts a variety of claims under the Securities Exchange Act of 1934, as amended, on behalf of a putative class of shareholders who purchased or otherwise acquired stock in the Company or Unum Corporation (Unum) between February 4, 1998 and February 9, 2000. The second amended complaint asserts a variety of claims under the Securities Act of 1933 and the Securities Exchange Act of 1934, as amended, on behalf of a putative class of shareholders who exchanged the common stock of Unum or Provident Companies, Inc. (Provident) for the Company's stock pursuant to the joint proxy/registration statement issued in connection with the merger between Unum and Provident. The complaints allege that the defendants made false and misleading public statements concerning, among other things, Unum's and the Company's reserves for disability insurance and pricing policies, the Company's merger costs, and the adequacy of the due diligence reviews performed in connection with the merger. The complaints seek money damages on behalf of all persons who purchased or otherwise acquired Company or Unum stock in the class period or who were issued Company stock pursuant to the merger. 88 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 15 - Commitments and Contingent Liabilities - Continued On April 10, 2000, the defendants filed a motion to dismiss the complaints. On January 8, 2001, the district court affirmed a Recommended Decision by the Magistrate Judge, entered November 8, 2000, that granted in part, and denied in part, the motion. The district court granted the motion to dismiss plaintiff's claims (i) under Section 10(b) of the Securities Exchange Act of 1934, (ii) under Section 14(a) of the Securities Exchange Act of 1934 on behalf of the former shareholders of Unum, and (iii) under Section 12(a) of the Securities Act of 1933 on behalf of purchasers of the Company stock after the merger. The district court also dismissed plaintiff's claims relating to disclosures regarding the costs associated with Unum's exit from its reinsurance business, but otherwise denied defendants' motion to dismiss plaintiff's claims under Sections 11 and 12(a) (2) of the Securities Act of 1933 and the claim under Section 14(a) of the Securities Exchange Act of 1934. On February 16, 2001, each defendant answered the complaint by denying generally the material allegations of the complaint. The Company disputes the claims alleged in the complaint and denies any liability to plaintiffs. In October 2001, the parties reached an agreement in principle to settle this litigation. Under the terms of the settlement, which is subject to, among other things, final approval by the court, the Company has agreed to pay $45 million to settle all claims that were or could have been asserted by the class in the litigation. The parties agreed that, for purposes of the settlement only, the litigation may be maintained as a class action on behalf of all persons who exchanged the stock of Unum or Provident for the common stock of the Company pursuant to the joint proxy/registration statement or otherwise acquired Company common stock traceable to the joint proxy/registration statement on or before August 3, 1999, other than the defendants and their officers, directors, affiliates, and subsidiaries. On January 9, 2002, the district court entered an order that, among other things, approved preliminarily the terms of the proposed settlement. On March 21, 2002, the district court held a hearing to determine, among other things, whether the settlement should be finally approved by the court. The district court has not yet entered its ruling on the motion to finally approve the settlement. The Company has received confirmation from its insurance carriers that, apart from a $1.0 million deductible, the entire amount to be paid under the proposed settlement, as well as the attorneys' fees and expenses incurred by the Company defending the litigation, will be covered under the Company's insurance policies. Management is of the opinion that, if the settlement is finally approved by the court, this matter will not have any material adverse affect on the Company's financial position or results of operations. In certain reinsurance pools associated with the Company's reinsurance businesses there are disputes among the pool members and reinsurance participants concerning the scope of their obligations and liabilities within the complex pool arrangements, including pools for which subsidiaries of the Company acted either as pool managers or underwriting agents, as pool members or as reinsurers. The Company or the Company's subsidiaries either have been or may in the future be brought into disputes, arbitration proceedings, or litigation with other pool members or reinsurers of the pools in the process of resolving the various claims. See the reinsurance pools and management section contained in the segment results discussion in "Management's Discussion and Analysis of Financial Condition and Results of Operations" contained herein in Item 7. Various other lawsuits against the Company have arisen in the normal course of its business. Contingent liabilities that might arise from such other litigation are not deemed likely to materially affect the financial position or results of operations of the Company. 89 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 16 - Statutory Financial Information Statutory Net Income (Loss), Capital and Surplus, and Dividends The Company's insurance subsidiaries' statutory combined net income (loss), as reported in conformity with statutory accounting practices, for the years ended December 31, 2001, 2000, and 1999, was $221.1 million, $353.5 million, and $(233.7) million, respectively. Statutory combined net gain (loss) from operations was $353.2 million, $414.8 million, and $(220.7) million for the years ended December 31, 2001, 2000, and 1999, respectively. Excluding the expenses related to the merger and early retirement offer and the changes in reserves as discussed in Note 2, the federal income tax refund activity, and the reinsurance operations charges, the Company's insurance subsidiaries' statutory net gain from operations was $21.0 million for the year ended 1999. Statutory capital and surplus at December 31, 2001 and 2000, was $3,378.7 million and $3,263.0 million, respectively. Regulatory restrictions limit the amount of dividends available for distribution to the Company from its insurance subsidiaries without prior approval by regulatory authorities. Generally, that limitation equals the greater of ten percent of an insurer's statutory surplus as regards policyholders as of the preceding year end or the statutory net gain from operations, excluding realized investment gains and losses, of the preceding year. Pursuant to the 1999 merger of Unum and Provident, the Company is required to obtain approval from the Maine Bureau of Insurance regarding payment of ordinary dividends from its Maine domiciled insurance subsidiary to the Company until 2004. Based on the applicable restrictions, $384.9 million will be available for the payment of dividends to the Company from its top-tier domestic insurance subsidiaries during 2002. Of this amount, $121.8 million is conditional upon approval from the Maine Bureau of Insurance. The Company also has the ability to draw a dividend from its United Kingdom subsidiary, Unum Limited. Such dividends are limited based on insurance company legislation in the United Kingdom, which requires a minimum solvency margin. The amount available under current law for payment of dividends to the Company from Unum Limited during 2002 is approximately $27.5 million. Regulatory restrictions do not limit the amount of dividends available for distribution to the Company from its non-insurance subsidiaries. Statutory Accounting Practices The National Association of Insurance Commissioners and the Company's insurance subsidiaries' states of domicile approved a codification of statutory accounting practices effective January 1, 2001, which serves as a comprehensive and standardized guide to statutory accounting principles. The codification changed, to some extent, the accounting practices that the Company's insurance subsidiaries used to prepare their statutory financial statements. The cumulative effect of the changes in accounting principles adopted to conform to the codification of statutory accounting principles for the Company's insurance subsidiaries was approximately $45.6 million and was recognized as an increase to statutory surplus as of January 1, 2001. Deposits At December 31, 2001, the Company's insurance subsidiaries had on deposit with regulatory authorities securities with a book value of $1,313.0 million held for the protection of policyholders. 90 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued UnumProvident Corporation and Subsidiaries Note 17 - Quarterly Results of Operations (Unaudited) The following is a summary of unaudited quarterly results of operations for 2001 and 2000:
2001 --------------------------------------------------------- 4th 3rd 2nd 1st --------------------------------------------------------- (in millions of dollars, except share data) --------------------------------------------------------- Premium Income $1,769.3 $1,792.2 $1,769.8 $1,746.9 Net Investment Income 492.9 515.5 500.0 494.5 Net Realized Investment Loss (28.8) (9.1) (1.5) (1.2) Total Revenue 2,313.5 2,377.4 2,363.0 2,340.9 Income Before Federal Income Tax and Extraordinary Loss 195.5 193.2 210.9 225.5 Net Income 124.0 127.1 146.1 182.0 Net Income Per Common Share Basic Income Before Extraordinary Loss .52 .53 .60 .75 Net Income .51 .53 .60 .75 Assuming Dilution Income Before Extraordinary Loss .52 .52 .60 .75 Net Income .51 .52 .60 .75
2000 --------------------------------------------------------- 4th 3rd 2nd 1st --------------------------------------------------------- (in millions of dollars, except share data) --------------------------------------------------------- Premium Income $1,731.7 $1,754.6 $1,789.9 $1,780.8 Net Investment Income 482.9 482.4 543.0 552.1 Net Realized Investment Gain (Loss) (2.2) (14.0) 1.8 (0.2) Total Revenue 2,302.8 2,311.7 2,423.7 2,394.1 Income Before Federal Income Tax 231.1 208.5 219.6 206.4 Net Income 149.6 137.0 143.1 134.5 Net Income Per Common Share Basic .62 .57 .59 .56 Assuming Dilution .62 .57 .59 .56
91 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None 92 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Directors The information required by this Item with respect to directors is included under the caption "Information Concerning the Nominees" of the Registrant's Proxy Statement for the Annual Meeting of Stockholders to be held May 15, 2002, and is incorporated herein by reference. Executive Officers of the Registrant The executive officers of the Company, all of whom are also executive officers of certain principal subsidiaries, were elected to serve for one year or until their successors are chosen and qualified.
Name Age Position ---- --- -------- J. Harold Chandler 52 Chairman, President, Chief Executive Officer, and Director Thomas R. Watjen 47 Executive Vice President, Finance and Risk Management F. Dean Copeland 62 Executive Vice President, Legal and Administrative Affairs, and General Counsel Robert O. Best 52 Senior Vice President, Customer Loyalty Services, and Chief Information Officer Robert C. Greving 50 Senior Vice President, Finance Ralph W. Mohney 50 Senior Vice President, Return to Work Services Kevin P. McCarthy 46 Senior Vice President, Underwriting Joseph R. Foley 46 Senior Vice President, Product and Market Development
Mr. Chandler is Chairman, President, and Chief Executive Officer. For a brief period after the merger of Unum and Provident, he was President and Chief Operating Officer, and became Chairman and Chief Executive Officer on November 1, 1999. Prior to the merger, Mr. Chandler became Chairman of Provident on April 28, 1996 and President and Chief Executive Officer and a Director of Provident's predecessor, Provident Life and Accident Insurance Company of America (America), and its principal subsidiaries on November 8, 1993. Mr. Watjen became Executive Vice President, Finance on June 30, 1999 and assumed the additional Risk Management responsibilities on November 1, 1999. Prior to the merger, he was Vice Chairman and Chief Financial Officer of Provident, positions he assumed on March 26, 1997. He became Executive Vice President and Chief Financial Officer of America on July 1, 1994. Mr. Copeland became Executive Vice President and General Counsel of Provident on May 12, 1997 and following the merger assumed the additional responsibilities of Executive Vice President, Legal and Administrative Affairs on June 30, 1999. Prior to joining Provident in May 1997, he was a partner since 1972 in the law firm of Alston & Bird, where he concentrated primarily on matters related to consolidation within the financial services industry. Mr. Best became Senior Vice President, Customer Loyalty Services, and Chief Information Officer in March 2000. Following the merger with Unum he became Senior Vice President, Customer Service in June 1999. Prior to the merger he served as Executive Vice President, Customer Service, and Chief Information Officer of Provident beginning in May 1997. He joined America as Senior Vice President and Chief Information Officer in July 1994. 93 Mr. Greving became Senior Vice President, Finance in August 2000. He joined Provident as Senior Vice President and Chief Actuary in April 1997. Prior to joining Provident, he was Executive Vice President and Chief Actuary of Southwestern Financial Services, Corp. from June 1990 until March 1997. Mr. Mohney became Senior Vice President, Return to Work Services in March 2002. Prior to that time he served as Senior Vice President, Customer Care from December 1999. He served as Senior Vice President, Claims from June 1997, and Vice President, Claims from October 1994. Mr. Mohney originally joined Accident in 1974. Mr. McCarthy was named Senior Vice President, Underwriting in November 2001. He served as Senior Vice President, Marketing, Product Development, and International from December 1999. Prior to that time he served as Senior Vice President and Managing Director of Unum Japan. He originally joined Unum America in 1987. Mr. Foley was named Senior Vice President, Product and Market Development in November 2001. Prior to that time he served as Senior Vice President, Reinsurance and Special Operations from December 1999. He was Executive Vice President, Operations of Unum America from May 1998. Mr. Foley originally joined Unum America in 1980. ITEM 11. EXECUTIVE AND DIRECTOR COMPENSATION The information required by this Item is included under the captions "Compensation of Directors" and "Executive Compensation" of the Registrant's Proxy Statement for the Annual Meeting of Shareholders to be held May 15, 2002, and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this Item is included under the caption "Beneficial Ownership of Company Securities" and under the caption "Security Ownership of Directors and Officers" of the Registrant's Proxy Statement for the Annual Meeting of Stockholders to be held May 15, 2002, and is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS None 94 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENTS SCHEDULES, AND REPORTS ON FORM 8-K (a) List of Documents filed as part of this report: Page (1) Financial Statements The following report and consolidated financial statements of UnumProvident Corporation and Subsidiaries are included in Item 8. Report of Ernst & Young LLP, Independent Auditors ........... 43 Consolidated Statements of Financial Condition at December 31, 2001 and 2000 ................................... 44 Consolidated Statements of Operations for the three years ended December 31, 2001................................. 46 Consolidated Statements of Stockholders' Equity for the three years ended December 31, 2001 ........................ 47 Consolidated Statements of Cash Flows for the three years ended December 31, 2001................................. 48 Notes to Consolidated Financial Statements .................. 50 (2) Schedules Supporting Financial Statements I. Summary of Investments - Other than Investments in Related Parties ..................................... 98 II. Condensed Financial Information of Registrant ......... 99 III. Supplementary Insurance Information .................. 103 IV. Reinsurance ........................................... 105 V. Valuation and Qualifying Accounts ..................... 106 Schedules not referred to have been omitted as inapplicable or because they are not required by Regulation S-X. (3) Exhibits See Index to Exhibits on page 107 of this report. (b) Reports on Form 8-K: Form 8-K filed on November 6, 2001 reporting third quarter 2001 financial results. 95 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized on March 28, 2002. UnumProvident Corporation (Registrant) /s/ J. Harold Chandler ------------------------------------------------ J. Harold Chandler Chairman, President, and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Name Title Date - ------------------------- --------------------------------- -------------- /s/ J. Harold Chandler Chairman, President, and Chief - ------------------------- Executive Officer and a Director March 28, 2002 J. Harold Chandler /s/ Thomas R. Watjen Executive Vice President, Finance - ------------------------- and Risk Management March 28, 2002 Thomas R. Watjen /s/ Robert C. Greving Senior Vice President, Finance - ------------------------- Robert C. Greving March 28, 2002 * Director - ------------------------- William L. Armstrong March 28, 2002 * Director - ------------------------- Ronald E. Goldsberry March 28, 2002 * Director - ------------------------- Hugh O. Maclellan, Jr. March 28, 2002 * Director - ------------------------- A. S. MacMillan, Jr. March 28, 2002 * Director - ------------------------- George J. Mitchell March 28, 2002 * Director - ------------------------- Cynthia A. Montgomery March 28, 2002 * Director - ------------------------- James L. Moody, Jr. March 28, 2002 96 Name Title Date - ------------------------- --------------------------------- -------------- * Director - ------------------------- C. William Pollard March 28, 2002 * Director - ------------------------- Lawrence R. Pugh March 28, 2002 * Director - ------------------------- Lois D. Rice March 28, 2002 * Director - ------------------------- John W. Rowe March 28, 2002 * Director - ------------------------- Burton E. Sorensen March 28, 2002 * By: /s/ Susan N. Roth For all of the Directors - ------------------------- Susan N. Roth March 28, 2002 Attorney-in-Fact 97 SCHEDULE I--SUMMARY OF INVESTMENTS - OTHER THAN INVESTMENTS IN RELATED PARTIES UnumProvident Corporation and Subsidiaries December 31, 2001
Amount at which shown in the Fair statement Type of Investment Cost Value of financial position (in millions of dollars) - -------------------------------------------------------------------------------------------------------------------------- Available-for-Sale Fixed Maturity Securities: Bonds United States Government and Government Agencies and Authorities $ 74.2 $ 88.0 $ 88.0 States, Municipalities, and Political Subdivisions 55.2 57.6 57.6 Foreign Governments 725.8 846.3 846.3 Public Utilities 2,699.4 2,767.8 2,767.8 Mortgage-backed Securities 3,820.8 4,074.2 4,074.2 Convertible Bonds 53.4 39.3 39.3 All Other Corporate Bonds 16,165.9 16,300.2 16,300.2 Redeemable Preferred Stocks 226.3 219.6 219.6 ------------ ------------ ------------ Total 23,821.0 $24,393.0 24,393.0 ------------ ============ ------------ Equity Securities: Common Stocks 8.2 $ 10.0 10.0 Nonredeemable Preferred Stocks 1.2 0.9 0.9 ------------ ------------ ------------ Total 9.4 $ 10.9 10.9 ------------ ============ ------------ Mortgage Loans 943.6 941.2* Real Estate Acquired in Satisfaction of Debt 36.3 14.2* Other Real Estate 53.3 37.6* Policy Loans 2,517.0 2,517.0 Other Long-term Investments 30.4 30.4 Short-term Investments 379.7 379.7 ------------ ----------- $ 27,790.7 $ 28,324.0 ============ ===========
*Difference between cost and carrying value results from certain valuation allowances and other temporary declines in value. 98 SCHEDULE II--CONDENSED FINANCIAL INFORMATION OF REGISTRANT UnumProvident Corporation (Parent Company) STATEMENTS OF FINANCIAL CONDITION
December 31 2001 2000 (in millions of dollars) ------------------------ ASSETS Fixed Maturity Securities Available-for-Sale--at fair value (cost: $10.1; $10.1) $ 11.0 $ 10.4 Investment in Subsidiaries 8,293.3 7,835.1 Short-term Notes Receivable from Subsidiaries 180.3 183.6 Surplus Notes of Subsidiaries 250.0 250.0 Other Assets 517.9 472.1 ---------- ---------- Total Assets $ 9,252.5 $ 8,751.2 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY LIABILITIES Short-term Debt from Subsidiaries $ 464.4 $ 491.9 Short-term Debt 161.8 400.0 Long-term Debt 2,004.2 1,615.5 Other Liabilities 382.2 368.3 ---------- ---------- Total Liabilities 3,012.6 2,875.7 ---------- ---------- Company-Obligated Mandatorily Redeemable Preferred Securities of Subsidiary Trust Holding Solely Junior Subordinated Debt Securities of the Company 300.0 300.0 STOCKHOLDERS' EQUITY Common Stock 24.2 24.1 Additional Paid-in Capital 1,064.1 1,040.2 Accumulated Other Comprehensive Income 48.0 140.7 Retained Earnings 4,816.3 4,379.7 Treasury Stock (9.2) (9.2) Deferred Compensation (3.5) -- ---------- ---------- Total Stockholders' Equity 5,939.9 5,575.5 ---------- ---------- Total Liabilities and Stockholders' Equity $ 9,252.5 $ 8,751.2 ========== ==========
See notes to condensed financial information. 99 SCHEDULE II--CONDENSED FINANCIAL INFORMATION OF REGISTRANT (Continued) UnumProvident Corporation (Parent Company) STATEMENTS OF OPERATIONS
Year Ended December 31 2001 2000 1999 (in millions of dollars) -------------------------------------------- Dividends from Subsidiaries $ 181.6 $ 138.8 $ 97.0 Interest from Subsidiaries 39.4 20.8 24.9 Other Income 55.3 22.8 12.8 ------------ ------------ ------------ Total Revenue 276.3 182.4 134.7 ------------ ------------ ------------ Interest and Debt Expense 187.4 204.3 110.3 Other Expenses (Credit) 22.8 (101.3) 49.6 ------------ ------------ ------------ Total Expenses 210.2 103.0 159.9 ------------ ------------ ------------ Income (Loss) Before Federal Income Tax and Equity in Undistributed Earnings (Losses) of Subsidiaries 66.1 79.4 (25.2) Federal Income Tax Credit (15.4) (10.7) (38.5) ------------ ------------ ------------ Income Before Equity in Undistributed Earnings (Losses) of Subsidiaries 81.5 90.1 13.3 Equity in Undistributed Earnings (Losses) of Subsidiaries 497.7 474.1 (196.2) ------------ ------------ ------------ Net Income (Loss) $ 579.2 $ 564.2 $ (182.9) ============ ============ ============
See notes to condensed financial information. 100 SCHEDULE II--CONDENSED FINANCIAL INFORMATION OF REGISTRANT (Continued) UnumProvident Corporation (Parent Company) STATEMENTS OF CASH FLOWS
Year Ended December 31 2001 2000 1999 (in millions of dollars) -------------------------------------------- CASH PROVIDED BY OPERATING ACTIVITIES $ 21.5 $ 78.3 $ 26.0 ------------ ------------ ------------ CASH FLOWS FROM INVESTING ACTIVITIES Net Sales of Short-term Investments 0.5 2.6 2.8 Cash Distributions to Subsidiaries -- (224.0) (492.3) Short-term Notes Receivable from Subsidiaries 3.3 31.2 (14.3) Other (26.5) (22.5) (15.9) ------------ ------------ ------------ CASH USED BY INVESTING ACTIVITIES (22.7) (212.7) (519.7) ------------ ------------ ------------ CASH FLOWS FROM FINANCING ACTIVITIES Net Short-term Borrowings from Subsidiaries (27.5) 465.3 (27.8) Net Short-term Debt and Commercial Paper (Repayments) Borrowings (252.0) (210.4) 602.4 Issuance of Long-term Debt 575.0 -- -- Long-term Debt Repayment (172.5) -- -- Issuance of Common Stock 20.5 11.6 69.7 Dividends Paid to Stockholders (142.6) (142.1) (138.9) ------------ ------------ ------------ CASH PROVIDED BY FINANCING ACTIVITIES 0.9 124.4 505.4 ------------ ------------ ------------ INCREASE (DECREASE) IN CASH $ (0.3) $ (10.0) $ 11.7 ============ ============ ============
See notes to condensed financial information. 101 SCHEDULE II--CONDENSED FINANCIAL INFORMATION OF REGISTRANT (Continued) UnumProvident Corporation (Parent Company) NOTES TO CONDENSED FINANCIAL INFORMATION Note 1--Basis of Presentation The accompanying condensed financial statements should be read in conjunction with the consolidated financial statements and notes thereto of UnumProvident Corporation and Subsidiaries. Note 2--Surplus Notes of Subsidiaries At December 31, 2001 and 2000, UnumProvident Corporation (Parent Company) held from its insurance subsidiaries a $150.0 million surplus debenture due in 2006 and a $100.0 million surplus debenture due in 2027. Semi-annual interest payments are conditional upon the approval by the insurance departments of the subsidiaries' states of domicile. The weighted average interest rate for surplus notes of subsidiaries was 8.3 percent in 2001 and 8.2 percent in 2000 and 1999. Note 3--Other Expenses (Credit) As reported in Note 10 of the consolidated financial statements of UnumProvident Corporation and Subsidiaries, during 2000 UnumProvident Corporation, through its defined benefit pension plan, purchased a single premium annuity to fund its retirement benefit obligation. This transaction resulted in a gain of $116.1 million and is reported in other expenses (credit). 102 SCHEDULE III--SUPPLEMENTARY INSURANCE INFORMATION UnumProvident Corporation and Subsidiaries
Future Policy Deferred Benefits, Other Policy Policy Losses, Claims and Acquisition Claims, and Unearned Benefits Segment Costs Loss Expenses Premiums Payable (in millions of dollars) - ---------------------------------------------------------------------------------------------------- Year Ended December 31, 2001 Employee Benefits $ 1,035.2 $ 6,789.5 $ 20.0 $ 1,230.1 Individual 1,115.4 12,648.2 280.9 326.3 Voluntary Benefits 522.7 1,253.7 12.1 267.8 Other 1.5 6,491.5 15.3 101.9 ------------ ------------ ------------ ------------ Total $ 2,674.8 $ 27,182.9 $ 328.3 $ 1,926.1 ============ ============ ============ ============ Year Ended December 31, 2000 Employee Benefits $ 907.8 $ 6,197.4 $ 17.5 $ 1,020.4 Individual 1,006.0 11,624.0 274.8 356.2 Voluntary Benefits 477.6 1,302.9 14.8 107.3 Other 32.6 6,509.6 25.7 312.9 ------------ ------------ ------------ ------------ Total $ 2,424.0 $ 25,633.9 $ 332.8 $ 1,796.8 ============ ============ ============ ============
(Continued on following page) 103 SCHEDULE III--SUPPLEMENTARY INSURANCE INFORMATION UnumProvident Corporation and Subsidiaries (continued from preceding page)
Benefits, Amortization Claims, of Deferred Net Losses and Policy Other Premium Investment Settlement Acquisition Operating Premiums Segment Revenue Income (1) Expenses Costs Expenses (2) Written (3) (in millions of dollars) - ---------------------------------------------------------------------------------------------------------------------------- Year Ended December 31, 2001 Employee Benefits $ 4,347.5 $ 761.6 $ 3,598.8 $ 169.6 $ 989.7 $ 3,030.0 Individual 1,828.1 912.8 1,932.7 106.4 497.8 1,847.6 Voluntary Benefits 790.7 124.6 489.8 126.1 151.8 580.9 Other 111.9 184.2 213.0 30.6 49.6 96.0 Corporate -- 19.7 -- -- 213.8 ------------ ------------ ------------ ------------ ------------ Total $ 7,078.2 $ 2,002.9 $ 6,234.3 $ 432.7 $ 1,902.7 ============ ============ ============ ============ ============ Year Ended December 31, 2000 Employee Benefits $ 4,042.5 $ 701.8 $ 3,426.2 $ 147.2 $ 887.9 $ 2,850.5 Individual 1,777.2 840.3 1,858.4 91.1 491.9 1,780.1 Voluntary Benefits 739.6 113.4 447.2 112.3 145.8 544.7 Other 497.7 377.2 675.7 105.9 79.5 424.6 Corporate -- 27.7 -- -- 97.6 ------------ ------------ ------------ ------------ ------------ Total $ 7,057.0 $ 2,060.4 $ 6,407.5 $ 456.5 $ 1,702.7 ============ ============ ============ ============ ============ Year Ended December 31, 1999 Employee Benefits $ 3,900.2 $ 604.9 $ 3,663.9 $ 106.6 $ 855.4 $ 2,783.6 Individual 1,645.5 771.1 1,604.2 77.7 541.4 1,660.2 Voluntary Benefits 691.6 106.6 392.7 113.0 161.8 514.3 Other 605.9 549.5 1,126.8 177.5 121.8 495.0 Corporate -- 27.6 -- -- 552.3 ------------ ------------ ------------ ------------ ------------ Total $ 6,843.2 $ 2,059.7 $ 6,787.6 $ 474.8 $ 2,232.7 ============ ============ ============ ============ ============
(1) Net investment income is allocated based upon segmentation. Each segment has its own specifically identified assets and receives the investment income generated by those assets. (2) Other operating expenses are allocated to each segment based on activity levels, time information, and usage statistics. (3) Excludes life insurance. (4) The individual life line of business, which was previously reported in the Individual segment in 1999, is now reported in the Other segment. Results in 1999 have been reclassified to conform to current reporting. 104 SCHEDULE IV--REINSURANCE UnumProvident Corporation and Subsidiaries
Percentage Ceded Assumed Amount Gross to Other from Other Net Assumed Amount Companies Companies Amount to Net (in millions of dollars) - -------------------------------------------------------------------------------------------------- Year Ended December 31, 2001 Life Insurance in Force $641,268.4 $ 47,679.5 $ 1,720.0 $595,308.9 0.3% ========== ========== ========== ========== Premium Income: Life Insurance $ 1,779.0 $ 236.4 $ 11.4 $ 1,554.0 0.7% Accident and Health Insurance 5,506.5 484.2 501.9 5,524.2 9.1% ---------- ---------- ---------- ---------- Total $ 7,285.5 $ 720.6 $ 513.3 $ 7,078.2 7.3% ========== ========== ========== ========== Year Ended December 31, 2000 Life Insurance in Force $581,765.8 $ 48,099.8 $ 2,081.7 $535,747.7 0.4% ========== ========== ========== ========== Premium Income: Life Insurance $ 1,642.6 $ 209.5 $ 15.7 $ 1,448.8 1.1% Accident and Health Insurance 5,461.6 455.8 602.4 5,608.2 10.7% ---------- ---------- ---------- ---------- Total $ 7,104.2 $ 665.3 $ 618.1 $ 7,057.0 8.8% ========== ========== ========== ========== Year Ended December 31, 1999 Life Insurance in Force $564,730.4 $ 24,936.0 $ 2,484.5 $542,278.9 0.5% ========== ========== ========== ========== Premium Income: Life Insurance $ 1,505.4 $ 69.9 $ 16.9 $ 1,452.4 1.2% Accident and Health Insurance 5,269.4 438.4 559.8 5,390.8 10.4% ---------- ---------- ---------- ---------- Total $ 6,774.8 $ 508.3 $ 576.7 $ 6,843.2 8.4% ========== ========== ========== ==========
105 SCHEDULE V--VALUATION AND QUALIFYING ACCOUNTS UnumProvident Corporation and Subsidiaries
Additions Additions Balance at Charged to Charged to Balance at Beginning Costs and Other End of Description of Period Expenses Accounts Deductions (2) Period (in millions of dollars) - ------------------------------------------------------------------------------------------------------------------------ Year Ended December 31, 2001 Mortgage loan loss reserve $ 12.9 $ -- $ -- $ 10.5 $ 2.4 Real estate reserve $ 25.6 $ -- $ -- $ 5.7 $ 19.9 Allowance for doubtful accounts (deducted from premiums receivable and miscellaneous assets) $ 8.5 $ -- $ -- $ 0.2 $ 8.3 Year Ended December 31, 2000 Mortgage loan loss reserve $ 32.9 $ -- $ -- $ 20.0 $ 12.9 Real estate reserve $ 37.8 $ -- $ -- $ 12.2 $ 25.6 Allowance for doubtful accounts (deducted from premiums receivable and miscellaneous assets) $ 3.8 $ 11.7 $ -- $ 7.0 $ 8.5 Year Ended December 31, 1999 Mortgage loan loss reserve (1) $ 32.8 $ 0.1 $ -- $ -- $ 32.9 Real estate reserve $ 51.2 $ -- $ -- $ 13.4 $ 37.8 Allowance for doubtful accounts (deducted from premiums receivable and miscellaneous assets) $ 2.9 $ 0.9 $ -- $ -- $ 3.8
(1) Amounts shown in additions charged to cost and expenses represent realized investment losses. (2) Deductions include amounts deemed to reduce exposure of probable losses, amounts applied to specific loan at time of sale/foreclosure, and amounts deemed uncollectible. 106 UnumProvident Corporation and Subsidiaries INDEX TO EXHIBITS (2.1) Agreementand Plan of Share Exchange between Provident Companies, Inc. (Provident) and Provident Life and Accident Insurance Company of America (America) (incorporated by reference to Exhibit 2.1 of Provident's Form 10-K filed for fiscal year ended December 31, 1995). (2.2) Amended and Restated Agreement and Plan of Merger dated as of April 29, 1996 by and among Patriot Acquisition Corporation, The Paul Revere Corporation, and Provident (including exhibits thereto), (incorporated by reference to Exhibit 2.1 of Provident's Form 10-Q and Form 10-Q/A filed for fiscal quarter ended September 30, 1996). (2.3) Agreement and Plan of Merger, dated as of November 22, 1998, between Unum Corporation (Unum) and Provident (incorporated by reference to Exhibit 1 of Provident's Form 8-K filed November 24, 1998). (3.1) Restated Certificate of Incorporation of UnumProvident Corporation (incorporated by reference to Exhibit 3.1 of the Company's Form 10-K filed March 28, 2001). (3.2) Amended and Restated Bylaws of the Company (incorporated by reference to Exhibit 3.2 of the Company's Form 10-K filed March 28, 2001). (4.1) Articles of Share Exchange (incorporated by reference to Provident's Form 10-K for fiscal year ended December 31, 1995). (10.1) Asset and Stock Purchase Agreement by and between Healthsource and America and its subsidiaries dated December 21, 1994. (incorporated by reference to Exhibit 10.3 of Provident's Form 10-K for fiscal year ended December 31, 1995). (10.2) Annual Management Incentive Compensation Plan (MICP), adopted by stockholders May 4, 1994, as amended by stockholders May 1, 1996 and May 7, 1997, as restated and amended by stockholders May 6, 1998, as amended by the Compensation Committee on February 8, 2001, and as amended by the Compensation Committee on February 15, 2002. * (10.3) Stock Option Plan, adopted by stockholders May 3, 1989, as amended by the Compensation Committee on January 10, 1990, and October 29, 1991 (incorporated by reference to Exhibit 10.6 of America's Form 10-K for fiscal year ended December 31, 1991); and as amended by the Compensation Committee on March 17, 1992 and by the stockholders on May 6, 1992 (incorporated by reference to the registrant's Form 10-K filed for the fiscal year ended December 31, 1992). Terminated effective December 31, 1993. (10.4) Provident Life and Accident Insurance Company (Accident) and Subsidiaries Supplemental Executive Retirement Plan (incorporated by reference to Exhibit 10.8 of Provident Life Capital Corporation (Capital's) Registration Statement on Form S-1, Registration No. 33-17017). * (10.5) Form of Surplus Note, dated December 1, 1996, in the amount of $150.0 million executed by Accident in favor of Provident (incorporated by reference to Exhibit 10.7 of Provident's Form 10-K filed for fiscal year ended December 31, 1996). (10.6) Description of Compensation Plan for Non-Employee Directors Plan (incorporated by reference to Amendment No. 1 to registrant's Form 10-K filed January 27, 1993 on Form 8), and amended by the Board of Directors on February 8, 1994 (incorporated by reference to Exhibit 10.15 of America's Form 10-K filed for fiscal year ended December 31, 1993). Discontinued May 1998. 107 (10.7) Stock Plan of 1994, originally adopted by stockholders May 5, 1993, as amended by stockholders on May 1, 1996 and on May 7, 1997 and as amended by the Compensation Committee on February 8, 2001 (incorporated by reference to Exhibit 10.7 of the Company's Form 10-K filed March 28, 2001). * (10.8) Employee Stock Purchase Plan (of 1995) adopted by stockholders June 13, 1995, as amended by the Compensation Committee on February 15, 2002). * (10.9) Amended and Restated common stock Purchase Agreement between Provident and Zurich Insurance Company dated as of May 31, 1996 Plan (incorporated by reference to Exhibit 10.15 of Provident's Form 10-K for fiscal year ended December 31, 1996). (10.10) Amended and Restated Relationship Agreement between Provident and Zurich Insurance Company dated as of May 31, 1996 Plan (incorporated by reference to Exhibit 10.16 of Provident's Form 10-K for fiscal year ended December 31, 1996). (10.11) Amended and Restated Registration Rights Agreement between Provident and Zurich Insurance Company dated as of May 31, 1996 (incorporated by reference to Exhibit 10.17 of Provident's Form 10-K for fiscal year ended December 31, 1996.) (10.12) UnumProvident Stock Plan of 1999, adopted by stockholders May 6, 1998, as amended by stockholders June 30, 1999 and as amended by the Compensation Committee on February 8, 2001 (incorporated by reference to Exhibit 10.12 of the Company's Form 10-K filed March 28, 2001). * (10.13) UnumProvident Non-Employee Director Compensation Plan of 1998, adopted by stockholders May 6, 1998 and as amended by the Compensation Committee on February 8, 2001 (incorporated by reference to Exhibit 10.13 of the Company's Form 10-K filed March 28, 2001). * (10.14) Agreement between Provident and certain subsidiaries and American General Corporation and certain subsidiaries dated as of December 8, 1997 (incorporated by reference to Exhibit 3.2 of Provident's Form 10-Q for fiscal quarter ended September 30, 1998). (10.15) Employment Agreement between the Company and J. Harold Chandler as amended by the Agreement dated November 10, 2000 (incorporated by reference to Exhibit 10.15 of the Company's Form 10-K filed March 28, 2001). * (10.16) Employment Agreement between the Company and F. Dean Copeland (incorporated by reference to Exhibit 10.3 of the Company's Form 10-Q for fiscal quarter ended June 30, 1999). * (10.17) Employment Agreement between the Company and Elaine D. Rosen as amended by the Agreement dated December 12, 2000 (incorporated by reference to Exhibit 10.17 of the Company's Form 10-K filed March 28, 2001). * (10.18) Employment Agreement between the Company and Thomas R. Watjen (incorporated by reference to Exhibit 10.5 of the Company's Form 10-Q for fiscal quarter ended June 30, 1999). * (10.19) Employment Agreement between the Company and James F. Orr, III (incorporated by reference to Exhibit 10.1 of the Company's Form 10-Q for fiscal quarter ended June 30, 1999) as amended by the Agreement dated November 1, 1999 between the Company and Mr. Orr (incorporated by reference to the Company's Form 10-K for fiscal year ended December 31, 1999). * (10.20) Form of Change in Control Severance Agreement (incorporated by reference to Exhibit 10.1 of the Company's Form 10-Q for fiscal quarter ended September 30, 1999). * (10.21) Unum Deferred Compensation Plan (incorporated by reference to Exhibit 10.1 of Unum's Form 10-K for fiscal year ended December 31, 1995). * (10.22) Incentive Compensation Plan for Designated Executive Officers (incorporated by reference to Exhibit 10.2 of Unum's Form 10-K for fiscal year ended December 31, 1996). * (10.23) 1990 Unum Long Term Stock Incentive Plan as amended by the Compensation Committee February 8, 2001 (incorporated by reference to Exhibit 10.23 of the Company's Form 10-K filed March 28, 2001). * (10.24) 1996 Long Term Stock Incentive Plan as amended by the Compensation Committee February 8, 2001 (incorporated by reference to Exhibit 10.24 of the Company's Form 10-K filed March 28, 2001). * (10.25) Supplemental Executive Retirement Plan (incorporated by reference to Exhibit 10.4 to Unum's Registration Statement on Form S-1 dated June 18,1986). * 108 (10.26) Supplemental UnumProvident Pension Plan (incorporated by reference to Exhibit 3.1 of the Company's Form 10-K filed March 28, 2001). * (10.27) $500 million Five Year Credit Agreement dated as of October 31, 2000 among the Company, Bank of America, N.A. as Administrative Agent, Citicorp, USA, Inc. and Wachovia Bank, N.A. as Co-Syndication Agents, Fleet National Bank as Documentation Agent and the Banks listed therein (incorporated by reference to Exhibit 10.27 of the Company's Form 10-K filed March 28, 2001). (10.28) $500 million 364-Day Credit Agreement dated as of October 31, 2000 among the Company, Bank of America, N.A. as Administrative Agent, Citicorp, USA, Inc. and Wachovia Bank, N.A. as Co-Syndication Agents, Fleet National Bank as Documentation Agent and the Banks listed therein (incorporated by reference to Exhibit 10.28 of the Company's Form 10-K filed March 28, 2001). (10.29) Administrative Reinsurance Agreement between Provident Life and Accident Insurance Company and Reassure America Life Insurance Company dated to be effective July1, 2000 (incorporated by reference to the Company's Form 8-K filed March 2, 2001). (10.30) Augmenting Agreement dated November 6, 2000 among the Company, Bank of America, N.A. as Administrative Agent, and the Royal Bank of Canada relating to $500 million Five Year Credit Agreement (incorporated by reference to Exhibit 10.30 of the Company's Form 10-K filed March 28, 2001). (10.31) Augmenting Agreement dated November 6, 2000 among the Company, Bank of America, N.A. as Administrative Agent, and the Royal Bank of Canada relating to $500 million 364-Day Credit Agreement (incorporated by reference to Exhibit 10.31 of the Company's Form 10-K filed March 28, 2001). (10.32) 2000 Annual Incentive Plan (incorporated by reference to Exhibit 3.1 of the Company's Form 10-K filed March 28, 2001). * (10.33) First Amendment to $500 million 364-Day Credit Agreement dated as of October 31, 2001, among the Company, the Banks listed therein, Citicorp, USA, Inc. and Wachovia Bank, N.A. as Co-Syndication Agents, Fleet National Bank as Documentation Agent and Bank of America, N.A., as Administrative Agent. (10.34) Separation and Severance Agreement between the Company and John S. Roberts dated November 12, 2001.* (11) Statement re computation of per share earnings (incorporated herein by reference to "Note 11 of the Notes to Consolidated Financial Statements"). (12.1) Statement Regarding Computation of Ratio of Earnings to Fixed Charges. (12.2) Statement Regarding Computation of Ratio of Earnings to Combined Fixed Charges and Preferred Stock Dividends. (21) Subsidiaries of the Company. (23) Consent of Independent Auditors. (24) Powers of Attorney. - -------------------------- * Management contract or compensatory plan required to be filed as an exhibit to this form pursuant to Item 14(c) of Form 10-K. The total amount of securities authorized pursuant to any instrument defining rights of holders of long-term debt of the Company does not exceed 10 percent of the total assets of the Company and its consolidated subsidiaries. The Company will furnish copies of any such instrument to the Securities and Exchange Commission upon request. 109 EX-10.33 3 dex1033.txt FIRST AMENDMENT TO 364 DAY CREDIT AGREEMENT EXHIBIT 10.33 FIRST AMENDMENT TO 364-DAY CREDIT AGREEMENT ------------------------------------------- THIS FIRST AMENDMENT TO 364-DAY CREDIT AGREEMENT, dated as of October 30, 2001 (this "Amendment"), amends the 364-Day Credit Agreement, dated as of --------- October 31, 2000 (the "Credit Agreement"), among UNUMPROVIDENT CORPORATION, a ---------------- Delaware corporation (the "Company"), the various financial institutions parties ------- thereto (collectively, the "Banks"), Citicorp USA, Inc. and Wachovia Bank, N.A. ----- as Co-Syndication Agents, Fleet National Bank, as Documentation Agent, and Bank of America, N.A., as Administrative Agent (the "Agent"). Terms defined in the ----- Credit Agreement are, unless otherwise defined herein or the context otherwise requires, used herein as defined therein. WHEREAS, the parties hereto have entered into the Credit Agreement, which provides for the Banks to extend certain credit facilities to the Company from time to time; and WHEREAS, the parties hereto desire to amend the Credit Agreement in certain respects as hereinafter set forth; NOW, THEREFORE, in consideration of the premises and for other good and valuable consideration (the receipt and sufficiency of which are hereby acknowledged), the parties hereto agree as follows: SECTION 1 AMENDMENT. Effective as of the date hereof, the Credit Agreement shall be amended in accordance with Sections 1.1 through 1.5 below. ------------ --- 1.1 Definitions. The definition of "Revolving Termination Date" in ----------- Section 1.1 of the Credit Agreement is hereby amended by deleting the date "October 30, 2001" and substituting the date "October 29, 2002" therefor. 1.2 Schedule 2.1. Schedule 2.1 of the Credit Agreement is hereby ------------ ------------ amended to state as set forth as Schedule 2.1 hereto. ------------ 1.3 Exiting Banks. Banca di Roma shall no longer be parties to the ------------- Credit Agreement and shall be released from all further obligations as Banks thereunder. 1.4 Agents. Fleet National Bank shall no longer be Documentation Agent. ------ Bank of Tokyo-Mitsubishi Trust Company and The Chase Manhattan Bank shall be Co-Documentation Agents. 1.5 Section 7.10(a). Section 7.10(a) of the Credit Agreement is hereby --------------- --------------- amended in its entirety to read as follows: (a) The Company shall not permit its Tangible Net Worth at any time to be less than (i) $1,444,400,000 plus (ii) 25% of consolidated ---- Net Income (in excess of zero) for each fiscal quarter ending on or after June 30, 2001. SECTION 2 CONDITIONS PRECEDENT. This Amendment shall become effective when each of the conditions precedent set forth in this Section 2 shall have --------- been satisfied, and notice thereof shall have been given by the Agent to the Company and the Banks. SECTION 2.1 Receipt of Documents. The Agent shall have received all of -------------------- the following documents duly executed, dated the date hereof or such other date as shall be acceptable to the Agent, and in form and substance satisfactory to the Agent: (a) Amendment. This Amendment, duly executed by the Company, the --------- Agent and the Banks (including the New Banks). (b) Secretary's Certificate. A certificate of the secretary or ----------------------- an assistant secretary of the Company, as to (i) resolutions of the Board of Directors of the Company then in full force and effect authorizing the execution, delivery and performance of this Amendment and each other document described herein, and (ii) the incumbency and signatures of those officers of the Company authorized to act with respect to this Amendment and each other document described herein. SECTION 2.2 Compliance with Warranties, No Default, etc. Both before ------------------------------------------- and after giving effect to the effectiveness of this Amendment, the following statements by the Company shall be true and correct (and the Company, by its execution of this Amendment, hereby represents and warrants to the Agent and each Bank that such statements are true and correct as at such times): (a) the representations and warranties set forth in Article V of the Credit Agreement shall be true and correct with the same effect as if then made (unless stated to relate solely to an earlier date, in which case such representations and warranties shall be true and correct as of such earlier date); and (b) no Event of Default or Default shall have then occurred and be continuing. SECTION 3 REPRESENTATIONS AND WARRANTIES. To induce the Banks and the Agent to enter into this Amendment, the Company hereby represents and warrants to the Agent and each Bank as follows: 3.1 Due Authorization, Non-Contravention, etc. The execution, ----------------------------------------- delivery and performance by the Company of this Amendment are within the Company's corporate powers, have been duly authorized by all necessary corporate action, and do not (a) contravene the Company's Organization Documents; -2- (b) contravene any contractual restriction, law or governmental regulation or court decree or order binding on or affecting the Company; or (c) result in, or require the creation or imposition of, any Lien on any of the properties. 3.2 Government Approval, Regulation, etc. No authorization or approval or ------------------- other action by, and no notice to or filing with, any governmental authority or regulatory body or other Person is required for the due execution, delivery or performance by the Company. 3.3 Validity, etc. This Amendment constitutes the legal, valid and binding ------------- obligations of the Company enforceable in accordance with its terms. SECTION 4 MISCELLANEOUS. 4.1 Continuing Effectiveness, etc. This Amendment shall be deemed to be an ------------------------ amendment to the Credit Agreement, and the Credit Agreement, as amended hereby, shall remain in full force and effect and is hereby ratified, approved and confirmed in each and every respect. After the effectiveness of this Amendment in accordance with its terms, all references to the Credit Agreement in the Loan Documents or in any other document, instrument, agreement or writing shall be deemed to refer to the Credit Agreement as amended hereby. 4.2 Payment of Costs and Expenses. The Company agrees to pay on demand all ----------------------------- expenses of the Agent (including the fees and out-of-pocket expenses of counsel to the Agent) in connection with the negotiation, preparation, execution and delivery of this Amendment. 4.3 Severability. Any provision of this Amendment which is prohibited or ------------ unenforceable in any jurisdiction shall, as to such provision and such jurisdiction, be ineffective to the extent of such prohibition or unenforceability without invalidating the remaining provisions of this Amendment or affecting the validity or enforceability of such provision in any other jurisdiction. 4.4 Headings. The various headings of this Amendment are inserted for -------- convenience only and shall not affect the meaning or interpretation of this Amendment or any provisions hereof. 4.5 Execution in Counterparts. This Amendment may be executed by the ------------------------- parties hereto in several counterparts, each of which shall be deemed to be an original and all of which shall constitute together but one and the same agreement. 4.6 Governing Law. THIS AMENDMENT SHALL BE DEEMED TO BE A CONTRACT MADE ------------- UNDER AND GOVERNED BY THE INTERNAL LAWS OF THE STATE OF NEW YORK. -3- 4.7 Successors and Assigns. This Amendment shall be binding upon and ---------------------- shall inure to the benefit of the parties hereto and their respective successors and assigns. IN WITNESS WHEREOF, the parties hereto have caused this Amendment to be executed by their respective officers thereunto duly authorized as of the day and year first above written. UNUMPROVIDENT CORPORATION By:______________________ Title:___________________ S-1 BANK OF AMERICA, N.A., as Administrative Agent and as a Bank By:_______________________________ Title:____________________________ S-2 CITICORP USA, INC. By:_______________________________________ Title:____________________________________ S-3 WACHOVIA BANK, N.A. By:________________________________________ Title:_____________________________________ S-4 FLEET NATIONAL BANK By:_________________________________________ Title:______________________________________ S-5 BANK ONE, NA By:_______________________________________ Title:____________________________________ S-6 THE CHASE MANHATTAN BANK By:______________________________________________ Title:___________________________________________ S-7 AMSOUTH BANK By:_______________________________________ Title:____________________________________ S-8 BANK OF TOKYO - MITSUBISHI TRUST COMPANY By:_________________________________________ ___________________________________ Title:______________________________________ S-9 THE DAI-ICHI KANGYO BANK, LTD By:_________________________________ Title:______________________________ S-10 LLOYDS TSB BANK PLC By:_________________________________ Title:______________________________ By:_________________________________ Title:______________________________ S-11 ROYAL BANK OF CANADA By:_________________________________ Title:______________________________ S-12 STATE STREET BANK AND TRUST COMPANY By:_________________________________ Title:______________________________ S-13 SCHEDULE 2.1 ------------ 364-DAY CREDIT AGREEMENT COMMITMENTS ----------- AND PRO RATA SHARES ------------------- Pro Rata Bank Commitment Share ---- ------------------------- Bank of America, N.A. $59,000,000 11.18% Bank of Tokyo-Mitsubishi Trust Company $59,000,000 11.18% The Chase Manhattan Bank $59,000,000 11.18% Citicorp USA, Inc. $59,000,000 11.18% Wachovia Bank, N.A. $59,000,000 11.18% Fleet National Bank $50,000,000 9.48% Lloyds TSB Bank PLC $50,000,000 9.48% Royal Bank of Canada $50,000,000 9.48% AmSouth Bank $25,000,000 4.74% The Dai-Ichi Kangyo Bank, Ltd. $25,000,000 4.74% Bank One, NA $20,000,000 3.79% State Street Bank and Trust Company $12,500,000 2.37% ----------- ------ Total $527,500,000 100% Schedule 2.1, Page 1 EX-10.34 4 dex1034.txt SEPARATION AND SEVERANCE AGREEMENT EXHIBIT 10.34 SEPARATION AND SEVERANCE AGREEMENT AGREEMENT by and between UnumProvident Corporation, a Delaware corporation (the "Company"), and John S. Roberts (the "Executive") dated as of the 12th day of November, 2001. The Company has determined that it is in the best interests of the stockholders and the Company to provide for the separation of the Executive in accordance with the terms of this Agreement which includes continued services of the Executive during a transition period as Special Advisor to the head of Underwriting, provisions relating to Executive's employment and certain other activities and conduct following separation from the Company, and compensation arrangements in connection with the foregoing. NOW, THEREFORE, IT IS HEREBY AGREED AS FOLLOWS: 1. Effective Date. The "Effective Date" shall mean the effective date of the Agreement, which shall be November 12, 2001. 2. Term of Agreement. The Company agrees to continue to employ the Executive, and the Executive hereby agrees to continue in the employ of the Company, subject to the terms and conditions of this Agreement, for the period commencing on November 12, 2001 and ending on February 28, 2002 (the "Term"). 3. Terms of Employment. (a) Position and Duties. (i) The Executive shall serve as Special Advisor to the Senior Vice President in charge of Underwriting for the Company (SVP-Underwriting) reporting to the SVP-Underwriting. The Executive's primary responsibility as Special Advisor shall be to assist the SVP-Underwriting in making a smooth and effective transition into his position during the initial period of the Term, but the Executive shall not continue to have line authority with regard to underwriting decisions on new or renewal business. Additionally, the Special Advisor during the Term shall assist with special projects and requests from the SVP- Underwriting relating to the Company's underwriting function. The Executive's duties may be refined or changed from time to time by letter agreement between the SVP-Underwriting and the Executive. (ii) Excluding any periods of vacation and sick leave to which the Executive is entitled, the Executive agrees to devote such time and attention during normal business hours of the week to the extent necessary to discharge the 1 responsibilities assigned hereunder and to use Executive's best efforts to perform such responsibilities faithfully and efficiently. It is agreed that the period during which most effort shall be required is during the initial portion of the Term assisting with the transition and thereafter the time spent will not exceed one-half the normal business hours and will depend in large measure on the extent to which the SVP-Underwriting requests specific assistance from the Executive on projects and cases. (iii) It shall not be a violation of this Agreement for the Executive to (x) serve, with prior approval of the Chief Executive Officer of the Company (the "CEO"), on corporate, civic or charitable boards or committees, (y) deliver lectures, fulfill speaking engagements or teach at educational institutions, and (z) manage personal investments, so long as such activities do not interfere with the performance of the Executive's responsibilities as set forth in this Agreement. It is expressly understood and agreed that to the extent that any such activities have been conducted by the Executive prior to the Effective Date, the continued conduct of such activities (or conduct of activities similar in nature and scope thereto) subsequent to the Effective Date shall not thereafter be deemed to interfere with the performance of the Executive's responsibilities to the Company. (b) Compensation. (i) Base Compensation. The Executive shall receive base compensation at the rate in effect for Executive prior to the Effective Date for the period from November 12, 2001 through December 31, 2001 and thereafter Executive shall receive $1,510.50 per pay period through the end of the Term or an aggregate base compensation of approximately $42,294 for the period from November 16, 2001 through February 28, 2002. (ii) Incentive Awards. No additional long-term or annual incentive awards are contemplated by this Agreement. (iii) Employee Benefit Plans. Except as otherwise expressly provided herein, Executive shall be entitled to participate in all employee benefit, welfare and other plans and programs (collectively, "Employee Benefit Plans") in accordance with their terms, but this shall not include further use of the financial counseling program of the Company after that applicable to Executive for reimbursable expenses for 2001, any severance benefits or any outplacement policy that would otherwise be applicable. 4. Termination of Employment (a) Death. The Executive's employment shall terminate automatically upon the Executive's death. (b) Cause. The Company may terminate the Executive's employment for Cause. For purposes of this Agreement, "Cause" shall mean: 2 (i) The continued failure of the Executive to perform substantially the Executive's duties with the Company (other than any such failure resulting from incapacity due to physical or mental illness), after a written demand for substantial performance is delivered to the Executive which specifically identifies the manner in which the CEO believes that the Executive has not substantially performed the Executive's duties, or (ii) The willful engaging by the Executive in illegal conduct or gross misconduct which, in either case, is materially injurious to the Company, or (iii) Conviction of a felony or guilty or nolo contendere plea by the Executive with respect thereto. For purposes of this provision, no act or failure to act, on the part of the Executive, shall be considered "willful" unless it is done, or omitted to be done, by the Executive in bad faith or without reasonable belief that the Executive's action or omission was in the best interests of the Company. Any act, or failure to act, based upon authority given pursuant to a resolution adopted by the Board or upon the instructions of the CEO or based upon the advice of counsel for the Company shall be conclusively presumed to be done, or omitted to be done, by the Executive in good faith and in the best interests of the Company. The cessation of employment by the Executive shall not be deemed to be for Cause unless and until there shall have been delivered to the Executive a written notice delivered to the Executive specifying the basis thereof. (c) Good Reason. The Executive's employment may be terminated by the Executive for Good Reason. For purposes of this Agreement, "Good Reason" shall mean the following events, provided, however, that clauses (i) through (iv) shall constitute Good Reason only in the absence of the written consent of the Executive: (i) The assignment to the Executive of any duties materially inconsistent with the Executive's duties set forth in Section 3(a) (i), excluding for this purpose an action not taken in bad faith and which is remedied by the Company promptly after receipt of written notice thereof given by the Executive to the CEO; (ii) Any failure by the Company to comply with any of the provisions of Section 3(b) hereof, other than an isolated, insubstantial and inadvertent failure not occurring in bad faith and which is remedied by the Company promptly after receipt of notice thereof given by the Executive; (iii) Any purported termination by the Company of the Executive's employment otherwise than as expressly permitted by this Agreement; or (iv) Any failure by the Company to comply with and satisfy Section 9(c) of this Agreement. 3 (d) Notice of Termination. Any termination by the Company or by the Executive shall be communicated by Notice of Termination to the other party hereto given in accordance with Section 10(b) of this Agreement. For purposes of this Agreement, a "Notice of Termination" means a written notice which (i) indicates the specific termination provision in this Agreement relied upon, (ii) to the extent applicable, sets forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of the Executive's employment under the provision so indicated and (iii) specifies the Date of Termination (as defined below). The failure by the Executive or the Company to set forth in the Notice of Termination any fact or circumstance which contributes to a showing of Good Reason or Cause shall not waive any right of the Executive or the Company, respectively, hereunder or preclude the Executive or the Company, respectively, from asserting such fact or circumstance in enforcing the Executive's or the Company's rights hereunder. (e) Date of Termination. "Date of Termination" means (i) if the Executive's employment is terminated by the Company, the date of receipt of the Notice of Termination or any later date specified therein within 30 days of such notice, (ii) if the Executive's employment is terminated by reason of death, the Date of Termination shall be the date of death of the Executive, (iii) if the Executive's employment is terminated by the Executive the Date of Termination shall be thirty days after the giving of such notice by the Executive provided that the Company may elect any earlier date, and (iv) if the Executive shall remain in the employ of the Company until the end of the Term, then February 28, 2002. 5. Obligations of the Company upon Termination (a) Termination at the end of the Term; termination by the Company other than for Cause prior to the end of the Term; termination by the Executive for Good Reason. If the Executive remains in the employ of the Company until the end of the Term or is terminated by the Company other than for Cause prior to the end of the Term, or the Executive terminates for Good Reason prior to the end of the Term, (i) The Company shall pay to the Executive in a lump sum in cash within 10 days after the Date of Termination the sum of $290,000 (the "Severance Lump Sum"), (ii) The Company shall pay to the Executive the sum of $400,000 (the "Covenant Payment"), payable ratably monthly during the Covenant Period specified in Section 7(a) provided the Executive is in compliance with Section 7, (iii) To the extent not theretofore paid or provided, the Company shall timely pay or provide to the Executive any other amount or benefits required to be paid or provided or which the Executive is eligible to receive under any plan or program of the Company pursuant to its terms through the Date of Termination, except further use of the Company's applicable financial counseling program or outplacement policy (such other 4 amounts or benefits shall be hereinafter referred to as the "Other Benefits"), (iv) All outstanding stock options and other equity-based awards shall be governed by their respective terms and, unless expressly provided otherwise, all such options and awards shall terminate at the close of business on February 28, 2002. (b) Death. If the Executive's employment is terminated by reason of death, this Agreement shall terminate without further obligations to the Executive's legal representatives under this Agreement, other than the payment of the Severance Lump Sum and the timely payment or provision of Other Benefits. Payments shall be made to the Executive's estate or beneficiary, as applicable, in a lump sum in cash within 30 days of the Date of Termination. (c) Cause; Other than for Good Reason. If the Executive's employment shall be terminated for Cause or the Executive terminates his employment without Good Reason, this Agreement shall terminate without further obligations to the Executive other than the obligation to pay to the Executive (i) his then current base compensation through the Date of Termination to the extent theretofore unpaid, and (ii) the Other Benefits. 6. Non-exclusivity of Rights. Except as otherwise provided, nothing in this Agreement shall prevent or limit the Executive's continuing participation in any plan, or program provided by the Company and for which the Executive may qualify, nor, subject to Sections 1 and 10(f), shall anything herein limit or otherwise affect such rights as the Executive may have under any contract or agreement with the Company. Amounts which are vested benefits or which the Executive is otherwise entitled to receive under any plan or program of or any contract or agreement with the Company at or subsequent to the Date of Termination shall be payable in accordance with such plan or program or contract or agreement except as explicitly modified by this Agreement; provided that the Executive shall not be eligible for severance benefits under any other plan or program of the Company. 7. Special Covenants of Executive. (a) Covenant Not To Compete. Through the period ending December 31, 2002 or, if earlier, the period ending twelve (12) months after either (i) the Executive is terminated by the Company other than for Cause or (ii) the Executive terminates for Good Reason (the applicable period herein referred to as the "Covenant Period"), the Executive shall not directly or indirectly, own, manage, operate, join, control, or participate in the ownership, management, operation or control of, or be employed by or connected in any manner with, or solicit any employee of the Company to apply for or accept employment with any competing business, or solicit or advise any third party to place disability or group life insurance with a carrier other than the Company, whether for compensation or otherwise, without the prior written consent of the Company. Notwithstanding the preceding sentence, the Executive shall not be prohibited from owning less than one (1%) percent of any publicly traded corporation, whether or not such corporation is deemed to be a competing business. For purposes of this Agreement, 5 a "competing business" shall be (i) any business which is a significant competitor of the Company or which the Company reasonably determines may become a significant competitor or (ii) any business as to which the Company is a significant competitor or may reasonably become a significant competitor, unless in either instance the Executive's duties and responsibilities with respect to such business are not related to the management or operation of disability insurance or complementary special risk products and services in any country where the Company is conducting business. For purposes of this Agreement, the term "solicit" means any communication regardless of by whom initiated, inviting, advising, encouraging or requesting any person to take or refrain from taking any action. (b) Confidentiality and Non-Disclosure of Information. The Executive hereby acknowledges that, as an employee of the Company, he has made use of, acquired and added, and will be making use of, acquiring and adding to confidential information of a special and unique nature and value relating to the Company and its strategic plan and financial operations. The Executive further recognizes and acknowledges that all confidential information is the exclusive property of the Company, is material and confidential, and is critical to the successful conduct of the business of the Company. Accordingly, the Executive covenants and agrees that he has not taken and will not take from the Company any confidential information in paper or electronic form that he has not returned or destroyed without copying. Further, Executive hereby covenants and agrees that he will use confidential information for the benefit of the Company only and shall not at any time, directly or indirectly, divulge, reveal or communicate any confidential information to any person, firm, corporation or entity whatsoever, or use any confidential information for his own benefit or for the benefit of others. Nothing in this paragraph prevents Executive from communicating with or responding to a request for information from a federal or state administrative agency or court after at least 10 days prior written notice thereof to the Company. (c) Non-Solicit and Non-Hire. The Executive agrees not to hire or solicit for hire, directly or indirectly, any employee on the payroll of the Company to work for Executive or for any third party during the Covenant Period without the prior written consent of the Company. (d) Non-Disparagement. The Executive agrees not to make any statement, oral or written, publicly or in private, which is reasonably likely to harm the Company's business interest or to impact negatively on the Company's business reputation or its reputation in the community. Nothing in this paragraph prevents Executive from communicating with or responding to a request for information from a federal or state administrative agency or court after at least 10 days prior written notice thereof to the Company. (e) Continuing Effect. Any termination of the Executive's employment or of this Agreement shall have no effect on the continuing operation of this Section 7. 6 (f) Violations and Remedies. In addition to the cessation of payments under this Agreement, the Executive acknowledges and agrees that the Company will have no adequate remedy at law, and could be irreparably harmed, if the Executive breaches or threatens to breach any of the provisions of this Section 7. The Executive agrees that the Company shall be entitled to equitable and/or injunctive relief to prevent any breach or threatened breach of this Section 7, and to specific performance of each of the terms hereof in addition to any other legal or equitable remedies that the Company may have. Prior to bringing any such action or ceasing payments as set forth in this Section 7, the Company shall provide the Executive with a ten (10) day opportunity to cure a breach of this Section 7 which, in the CEO's good faith judgment, is susceptible of being cured. The Executive further agrees that he shall not, in any equity proceeding relating to the enforcement of the terms of this Section 7, raise the defense that the Company has an adequate remedy at law. (g) Separability and Enforceability. The terms and provisions of this Section 7 are intended to be separate and divisible provisions and if, for any reason, any one or more of them is held to be invalid or unenforceable, neither the validity nor the enforceability of any other provision of this Agreement shall thereby be affected. The parties hereto acknowledge that the potential restrictions on the Executive's future employment imposed by this Section 7 are reasonable in both duration and geographic scope and in all other respects. If for any reason any court of competent jurisdiction shall find any provisions of this Section 7 unreasonable in duration or geographic scope or otherwise, the Executive and the Company agree that the restrictions and prohibitions contained herein shall be effective to the fullest extent allowed under applicable law in such jurisdiction. (h) Significance of Section 7. The parties acknowledge that this Agreement would not have been entered into and the benefits described in Sections 3 or 5 would not have been promised in the absence of the Executive's promises under this Section 7. 8. Special Covenant of the Company. The Company covenants and agrees that it will instruct its executive officers who worked directly or closely with the Executive not to make any statement, oral or written, which could reasonably be expected to impact negatively on the business reputation of Executive, and the Company covenants and agrees that it shall not issue any public statement that is critical of the Executive or his performance while employed by the Company; provided, however, that nothing in this Section 8 shall prevent the Company or any of its executive officers from communicating with or responding to a request for information from a federal or state administrative agency or court. 9. Successors. (a) This Agreement is personal to the Executive and without the prior written consent of the Company shall not be assignable by the Executive otherwise than by will or the laws of descent and distribution. This Agreement shall inure to the benefit of and 7 be enforceable by the Executive's legal representatives. (b) This Agreement shall inure to the benefit of and be binding upon the Company and its successors. (c) The Company will require any successor (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business and/or assets of the Company to assume expressly and agree to perform this Agreement in the same manner and to the same extent that the Company would be required to perform it if no such succession had taken place. As used in this Agreement, "Company" shall mean company as hereinbefore defined and any successor to its business and/or assets as aforesaid which assumes and agrees to perform this Agreement by operation of law, or otherwise. 10. Miscellaneous (a) This Agreement shall be governed by and construed in accordance with the laws of the State of Delaware, without reference to principles of conflict of laws. The captions of this Agreement are not part of the provisions hereof and shall have no force or effect. This Agreement may not be amended or modified otherwise than by a written agreement executed by the parties hereto or their respective successors and legal representatives. (b) All notices and other communications hereunder shall be in writing and shall be given by hand delivery to the other party or by registered or certified mail, return receipt requested, postage prepaid, or by facsimile followed by overnight delivery addressed as follows: If to the Executive: If to the Company: John S. Roberts Chief Executive Officer 11 Mitchellwood Drive UnumProvident Corporation Falmouth, Maine 04105 1 Fountain Square Chattanooga, Tennessee 37402 Facsimile Number: 423-755-8503 Or to such other address as either party shall have furnished to the other in writing in accordance herewith. Notice and communications shall be effective when actually received by the addressee. 8 (c) The invalidity or unenforceability of any provision of this Agreement shall not affect the validity or enforceability of any other provision of this Agreement. (d) The Company may withhold from any amount payable under this Agreement such federal, state, local or foreign taxes as shall be required to be withheld pursuant to any applicable law or regulation. (e) The Executive's or the Company's failure to insist upon strict compliance with any provision of this Agreement or the failure to assert any right the Executive or the Company may have hereunder shall not be deemed to be a waiver of such provision or right or any other provision or right of this Agreement. (f) From and after the Effective Date this Agreement shall supersede any other employment, severance or change in control agreement between the parties. 11. General Release. All payments under this Agreement to be made in connection with the Executive's termination of employment will be conditioned on the Executive's signing a general form of release in the form attached as Exhibit A hereto at the time Executive receives the Severance Lump Sum; provided, that in no event shall the Executive be required to release claims relating to his rights under this Agreement. IN WITNESS WHEREOF, the Executive has hereunto set the Executive's hand and, pursuant to the authorization from its Board of Directors, the Company has caused these presents to be executed in its name on its behalf, all as of the day and year first above written. EXECUTIVE -------------------------------- John S. Roberts UNUMPROVIDENT CORPORATION -------------------------------- Name: J. Harold Chandler Title: Chairman, President and Chief Executive Officer 9 EX-12.1 5 dex121.txt STMT. RE: COMP. OF RATIO OF EARNINGS TO FIXED CHGS EXHIBIT 12.1 STATEMENT REGARDING COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
Year Ended December 31 2001 2000 1999 1998 1997 (in millions, except ratios) --------------------------------------------------------------- Earnings Income (Loss) Before Income Taxes $ 825.1 $ 865.6 $ (165.5) $ 920.2 $ 916.7 Fixed Charges 189.0 197.1 155.2 138.3 101.1 ---------- ---------- ---------- ---------- ---------- Adjusted Earnings $ 1,014.1 $ 1,062.7 $ (10.3) $ 1,058.5 $ 1,017.8 ========== ========== ========== ========== ========== Fixed Charges Interest and Debt Expense $ 169.6 $ 181.8 $ 137.8 $ 119.9 $ 84.9 Amortization of Deferred Debt Costs 7.1 2.4 2.4 3.3 0.7 Portion of Rents Deemed Representative of Interest (a) 12.3 12.9 15.0 15.1 15.5 ---------- ---------- ---------- ---------- ---------- Total Fixed Charges $ 189.0 $ 197.1 $ 155.2 $ 138.3 $ 101.1 ========== ========== ========== ========== ========== Ratio of Earnings to Fixed Charges 5.4 5.4 (0.1) 7.7 10.1
(a) Generally deemed to be one-third of rental expense. 1 EX-12.2 6 dex122.txt STMT RE:COMPUTATION OF RATIO OF EARNINGS EXHIBIT 12.2 STATEMENT REGARDING COMPUTATION OF RATIO OF EARNINGS TO COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS
Year Ended December 31 2001 2000 1999 1998 1997 (in millions, except ratios) --------------------------------------------------------------- Earnings Income (Loss) Before Income Taxes $ 825.1 $ 865.6 $ (165.5) $ 920.2 $ 916.7 Fixed Charges 189.0 197.1 155.2 138.3 101.1 ---------- ---------- ---------- ---------- ---------- Adjusted Earnings $ 1,014.1 $ 1,062.7 $ (10.3) $ 1,058.5 $ 1,017.8 ========== ========== ========== ========== ========== Combined Fixed Charges and Preferred Stock Dividends Interest and Debt Expense $ 169.6 $ 181.8 $ 137.8 $ 119.9 $ 84.9 Amortization of Deferred Debt Costs 7.1 2.4 2.4 3.3 0.7 Portion of Rents Deemed Representative of Interest (a) 12.3 12.9 15.0 15.1 15.5 Preferred Stock Dividends -- -- -- 2.9 19.5 ---------- ---------- ---------- ---------- ---------- Total Combined Fixed Charges and Preferred Stock Dividends $ 189.0 $ 197.1 $ 155.2 $ 141.2 $ 120.6 ========== ========== ========== ========== ========== Ratio of Earnings to Combined Fixed Charges and Preferred Stock Dividends 5.4 5.4 (0.1) 7.5 8.4
(a) Generally deemed to be one-third of rental expense. EX-21 7 dex21.txt SUBSIDIARIES OF THE REGISTRANT EXHIBIT 21
State or Other Subsidiaries of the Registrant Jurisdiction of Incorporation - ------------------------------ ----------------------------- Unum Holding Company Delaware Unum Life Insurance Company of America Maine SP Administrator, LLC California First Unum Life Insurance Company New York Claims Service International, Inc. Delaware Unum Development Corporation Maine Unum International Underwriters Inc. Delaware Unum European Holding Company Limited England Unum Limited England Claims Services International Limited England Duncanson & Holt, Inc. New York Duncanson & Holt Underwriters Ltd. England Duncanson & Holt Syndicate Management Ltd. England LRG Services Limited England Trafalgar Underwriting Agencies Ltd. England Duncanson & Holt Europe Ltd. England Duncanson & Holt Agencies, Ltd. England Duncanson & Holt Services Inc. Maine Duncanson & Holt Canada Ltd. Canada TRI-CAN Reinsurance, Inc. Canada Duncanson & Holt Asia PTE Ltd. Singapore Colonial Companies, Inc. Delaware Colonial Life & Accident Insurance Company South Carolina Benefit America Inc. South Carolina Unum Japan Accident Insurance Company Limited Japan Unum International Ltd. Bermuda Boston Compania Argentina de Seguros S.A. Argentina Boston Sequros de Vida S.A. Argentina Fibos S.A. Argentina Options and Choices, Inc. Wyoming The Paul Revere Corporation Massachusetts The Paul Revere Life Insurance Company Massachusetts The Paul Revere Variable Annuity Insurance Company Massachusetts Benefits Technologies, Inc. Delaware GENEX Services, Inc. Pennsylvania GENEX Services of Canada, Inc. Ontario Primecor, Inc. Pennsylvania GENEX Services, Inc. of Ohio Ohio GENEX Consultants, Inc. New York Provident Life and Accident Insurance Company Tennessee Provident Life and Casualty Insurance Company Tennessee Provident Investment Management, LLC Tennessee Provident Insurance Agency, LLC Delaware
EX-23 8 dex23.txt CONSENT OF ERNST & YOUNG, LLP Exhibit 23 CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS We consent to the incorporation by reference in the Registration Statements (Form S-8 No. 33-47551, Form S-8 No. 33-88108, Form S-8 No. 333-40219, Form S-8 No. 33-62231, Form S-8 No. 333-81669 and Form S-8 No. 333-81969) of Provident Companies, Inc. pertaining to the Provident Life and Accident Insurance Company MoneyMaker, A Long-Term 401(k) Retirement Savings Plan, the Provident Life and Accident Insurance Company Stock Purchase Plan of 1994, the Provident Life and Accident Insurance Company Employee Stock Purchase Plan of 1995, the Provident Life and Accident Insurance Company Management Incentive Compensation Plan of 1994, The Paul Revere Savings Plan, Provident Companies, Inc. Stock Plan of 1999, Provident Companies, Inc, Non-Employee Director Compensation Plan of 1998, Employee Stock Option Plan of 1998, Amended and Restated Annual Management Incentive Compensation Plan of 1994, the UnumProvident Corporation 1987 Executive Stock Option Plan, UnumProvident Corporation 1990 Long-Term Stock Incentive Plan, UnumProvident Corporation Plan 1996 Long-Term Stock Incentive Plan and UnumProvident Corporation 1998 Goals Stock Option Plan, and in the Registration Statement (Form S-3 No. 333-17849) of Provident Companies, Inc. for the registration of 9,523,810 shares of its common stock, and in the shelf Registration Statement (Form S-3 No. 333-43808) of UnumProvident Corporation of our report dated February 6, 2002, except for Note 15, for which the date is March 21, 2002 with respect to the consolidated financial statements and schedules of UnumProvident Corporation and subsidiaries, included in its Annual Report on Form 10-K for the year ended December 31, 2001. /s/ ERNST & YOUNG LLP Chattanooga, Tennessee March 28, 2002 -----END PRIVACY-ENHANCED MESSAGE-----