AFL-9.30.2012 10Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[ X ]  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2012
or
[    ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                      to                     

Commission File Number: 001-07434
Aflac Incorporated
_________________________________________________________________________________________________________________________________________________________________________________________________________________________________________
(Exact name of registrant as specified in its charter)
Georgia
 
58-1167100
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
1932 Wynnton Road, Columbus, Georgia
 
31999
(Address of principal executive offices)
 
(ZIP Code)
706.323.3431
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  þ  Yes  ¨  No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).            þ  Yes  ¨  No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
   Large accelerated filer  þ
 
Accelerated filer ¨
   Non-accelerated filer    ¨ (Do not check if a smaller reporting company)
 
Smaller reporting company  ¨
 
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    
¨  Yes  þ  No
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Class
 
October 26, 2012
Common Stock, $.10 Par Value
 
468,906,913


Aflac Incorporated and Subsidiaries
Quarterly Report on Form 10-Q
For the Quarter Ended September 30, 2012
Table of Contents
 
 
 
Page
PART I.
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
  Three Months Ended September 30, 2012 and 2011
  Nine Months Ended September 30, 2012 and 2011
 
 
 
 
  Three Months Ended September 30, 2012, and 2011
  Nine Months Ended September 30, 2012 and 2011
 
 
 
 
  September 30, 2012 and December 31, 2011
 
 
 
 
  Nine Months Ended September 30, 2012, and 2011
 
 
 
 
  Nine Months Ended September 30, 2012, and 2011
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
PART II.
 
 
 
Item 2.
 
 
 
Item 6.
Items other than those listed above are omitted because they are not required or are not applicable.


PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.

Review by Independent Registered Public Accounting Firm

The September 30, 2012, and 2011, consolidated financial statements included in this filing have been reviewed by KPMG LLP, an independent registered public accounting firm, in accordance with established professional standards and procedures for such a review.

The report of KPMG LLP commenting upon its review is included on the following page.

1

Report of Independent Registered Public Accounting Firm

The Board of Directors and Shareholders
Aflac Incorporated:

We have reviewed the consolidated balance sheet of Aflac Incorporated and subsidiaries (the Company) as of September 30, 2012, and the related consolidated statements of earnings and comprehensive income (loss) for the three-month and nine-month periods ended September 30, 2012 and 2011, and the consolidated statements of shareholders' equity and cash flows for the nine-month periods ended September 30, 2012 and 2011. These consolidated financial statements are the responsibility of the Company's management.

We conducted our reviews in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board (United States), the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.

Based on our reviews, we are not aware of any material modifications that should be made to the consolidated financial statements referred to above for them to be in conformity with U.S. generally accepted accounting principles.

We have previously audited, in accordance with standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of Aflac Incorporated and subsidiaries as of December 31, 2011, and the related consolidated statements of earnings, shareholders' equity, cash flows and comprehensive income (loss) for the year then ended (not presented herein); and in our report dated February 24, 2012, we expressed an unqualified opinion on those consolidated financial statements. Our report refers to a change in the method of evaluating the consolidation of variable interest entities (VIEs) and qualified special purpose entities (QSPEs) in 2010 and a change in the method of evaluating other-than-temporary impairments of debt securities in 2009. As described in Note 1, on January 1, 2012, the Company adopted amended accounting guidance on accounting for costs associated with acquiring or renewing insurance contracts on a retrospective basis resulting in a revision of the December 31, 2011, consolidated balance sheet. We have not audited and reported on the revised balance sheet reflecting the adoption of this new guidance.


Atlanta, Georgia
November 2, 2012


2

Aflac Incorporated and Subsidiaries
Consolidated Statements of Earnings
  
Three Months Ended
September 30,
Nine Months Ended
September 30,
(In millions, except for share and per-share amounts - Unaudited)
2012
 
2011
2012
 
2011
Revenues:
 
 
 
 
 
 
Premiums, principally supplemental health insurance
$
5,660

 
$
5,210

$
16,505

 
$
15,037

Net investment income
869

 
843

2,597

 
2,422

Realized investment gains (losses):
 
 
 
 
 
 
Other-than-temporary impairment losses realized
(97
)
 
(166
)
(643
)
 
(1,100
)
Sales and redemptions
288

 
307

358

 
49

Derivative and other gains (losses)
95

 
(224
)
108

 
(279
)
Total realized investment gains (losses)
286

 
(83
)
(177
)
 
(1,330
)
Other income
32

 
17

64

 
63

Total revenues
6,847

 
5,987

18,989

 
16,192

Benefits and expenses:
 
 
 
 
 
 
Benefits and claims
3,932

 
3,517

11,341

 
10,049

Acquisition and operating expenses:
 
 
 
 
 
 
Amortization of deferred policy acquisition costs
281

 
264

838

 
775

Insurance commissions
442

 
438

1,309

 
1,287

Insurance expenses
595

 
579

1,745

 
1,678

Interest expense
67

 
52

186

 
143

Other operating expenses
50

 
45

147

 
131

Total acquisition and operating expenses
1,435

 
1,378

4,225

 
4,014

Total benefits and expenses
5,367

 
4,895

15,566

 
14,063

Earnings before income taxes
1,480

 
1,092

3,423

 
2,129

Income taxes
463

 
356

1,138

 
730

Net earnings
$
1,017

 
$
736

$
2,285

 
$
1,399

Net earnings per share:
 
 
 
 
 
 
Basic
$
2.17

 
$
1.58

$
4.90

 
$
3.00

Diluted
2.16

 
1.57

4.87

 
2.98

Weighted-average outstanding common shares used in
computing earnings per share (In thousands):
 
 
 
 
 
 
Basic
467,422

 
465,910

466,702

 
466,843

Diluted
469,721

 
467,793

468,951

 
469,919

Cash dividends per share
$
.33

 
$
.30

$
.99

 
$
.90

Prior-year amounts have been adjusted for the adoption of accounting guidance on January 1, 2012 related to deferred policy acquisition costs.
See the accompanying Notes to the Consolidated Financial Statements.

3

Aflac Incorporated and Subsidiaries
Consolidated Statements of Comprehensive Income (Loss)
  
Three Months Ended
September 30,
Nine Months Ended
September 30,
(In millions - Unaudited)
2012
 
2011
2012
 
2011
Net earnings
$
1,017

 
$
736

$
2,285

 
$
1,399

Other comprehensive income (loss) before income taxes:
 
 
 
 
 
 
Unrealized foreign currency translation gains (losses) during
period
76

 
(25
)
8

 
(115
)
Unrealized gains (losses) on investment securities:
 
 
 
 
 
 
Unrealized holding gains (losses) on investment securities during
period
1,430

 
114

1,435

 
(22
)
Reclassification adjustment for realized (gains) losses on
investment securities included in net earnings
(213
)
 
(173
)
284

 
1,070

Unrealized gains (losses) on derivatives during period
2

 
0

(6
)
 
(38
)
Pension liability adjustment during period
(33
)
 
(15
)
(30
)
 
(11
)
Total other comprehensive income (loss) before income taxes
1,262

 
(99
)
1,691

 
884

Income tax expense (benefit) related to items of other comprehensive
income (loss)
347

 
(215
)
569

 
86

Other comprehensive income (loss), net of income taxes
915

 
116

1,122

 
798

Total comprehensive income (loss)
$
1,932

 
$
852

$
3,407

 
$
2,197

Prior-year amounts have been adjusted for the adoption of accounting guidance on January 1, 2012 related to deferred policy acquisition costs.
See the accompanying Notes to the Consolidated Financial Statements.

4

Aflac Incorporated and Subsidiaries
Consolidated Balance Sheets
(In millions - Unaudited)
September 30,
2012
 
December 31,
2011
 
Assets:
 
 
 
 
Investments and cash:
 
 
 
 
Securities available for sale, at fair value:
 
 
 
 
Fixed maturities (amortized cost $47,302 in 2012 and $40,534 in 2011)
$
50,238

 
$
42,222

 
Fixed maturities - consolidated variable interest entities (amortized
cost $5,348 in 2012 and $4,822 in 2011)
6,010

 
5,350

 
Perpetual securities (amortized cost $4,213 in 2012 and $5,365 in 2011)
4,132

 
5,149

 
Perpetual securities - consolidated variable interest entities
(amortized cost $615 in 2012 and $1,532 in 2011)
587

 
1,290

 
Equity securities (cost $22 in 2012 and 2011)
24

 
25

 
Securities held to maturity, at amortized cost:
 
 
 
 
Fixed maturities (fair value $60,934 in 2012 and $45,817 in 2011)
59,732

 
46,366

 
Fixed maturities - consolidated variable interest entities (fair value
$323 in 2012 and $566 in 2011)
322

 
643

 
Other investments
185

 
168

 
Cash and cash equivalents
2,985

 
2,249

 
Total investments and cash
124,215

 
103,462

 
Receivables
1,005

 
680

 
Accrued investment income
793

 
802

 
Deferred policy acquisition costs
10,283

 
9,789


Property and equipment, at cost less accumulated depreciation
625

 
617

 
Other
919

(1) 
887

(1) 
Total assets
$
137,840

 
$
116,237


(1) Includes $351 in 2012 and $375 in 2011 of derivatives from consolidated variable interest entities
Prior-year amounts have been adjusted for the adoption of accounting guidance on January 1, 2012 related to deferred policy acquisition costs.
See the accompanying Notes to the Consolidated Financial Statements.

(continued)

5


Aflac Incorporated and Subsidiaries
Consolidated Balance Sheets (continued)
(In millions, except for share and per-share amounts - Unaudited)
September 30,
2012
 
December 31,
2011
 
Liabilities and shareholders’ equity:
 
 
 
 
Liabilities:
 
 
 
 
Policy liabilities:
 
 
 
 
Future policy benefits
$
83,065

 
$
79,278

 
Unpaid policy claims
4,267

 
3,981

 
Unearned premiums
2,315

 
1,704

 
Other policyholders’ funds
15,681

 
9,630

 
Total policy liabilities
105,328

 
94,593

 
Income taxes
3,263

 
2,308

 
Payables for return of cash collateral on loaned securities
6,591

 
838

 
Notes payable
4,401

 
3,285

 
Other
2,272

(2) 
2,267

(2) 
Commitments and contingent liabilities (Note 10)

 

 
Total liabilities
121,855

 
103,291

 
Shareholders’ equity:
 
 
 
 
Common stock of $.10 par value. In thousands: authorized 1,900,000
shares in 2012 and 2011; issued 664,796 shares in 2012 and 663,639
shares in 2011
66

 
66

 
Additional paid-in capital
1,473

 
1,408

 
Retained earnings
16,969

 
15,148


Accumulated other comprehensive income (loss):
 
 
 
 
Unrealized foreign currency translation gains
1,011

 
984


Unrealized gains (losses) on investment securities
2,260

 
1,143

 
Unrealized gains (losses) on derivatives
5

 
9

 
Pension liability adjustment
(189
)
 
(171
)
 
Treasury stock, at average cost
(5,610
)
 
(5,641
)
 
Total shareholders’ equity
15,985

 
12,946


Total liabilities and shareholders’ equity
$
137,840

 
$
116,237


(2) Includes $436 in 2012 and $531 in 2011 of derivatives from consolidated variable interest entities
Prior-year amounts have been adjusted for the adoption of accounting guidance on January 1, 2012 related to deferred policy acquisition costs.
See the accompanying Notes to the Consolidated Financial Statements.



6

Aflac Incorporated and Subsidiaries
Consolidated Statements of Shareholders’ Equity
  
Nine Months Ended
September 30,
(In millions - Unaudited)
2012
 
2011
Common stock:
 
 
 
Balance, beginning of period
$
66

 
$
66

Balance, end of period
66

 
66

Additional paid-in capital:
 
 
 
Balance, beginning of period
1,408

 
1,320

Exercise of stock options
19

 
17

Share-based compensation
25

 
27

Gain (loss) on treasury stock reissued
21

 
24

Balance, end of period
1,473

 
1,388

Retained earnings:
 
 
 
Balance, beginning of period
15,148

 
13,787

Net earnings
2,285

 
1,399

Dividends to shareholders
(464
)
 
(421
)
Balance, end of period
16,969

 
14,765

Accumulated other comprehensive income (loss):
 
 
 
Balance, beginning of period
1,965

 
753

Unrealized foreign currency translation gains (losses) during period, net of
income taxes:
 
 
 
Change in unrealized foreign currency translation gains (losses) during
period, net of income taxes
27

 
160

Unrealized gains (losses) on investment securities during period, net of
income taxes and reclassification adjustments:
 
 
 
Change in unrealized gains (losses) on investment securities not other-
than-temporarily impaired, net of income taxes
1,117

 
666

Change in unrealized gains (losses) on other-than-temporarily impaired
investment securities, net of income taxes
0

 
3

Unrealized gains (losses) on derivatives during period, net of income taxes
(4
)
 
(25
)
Pension liability adjustment during period, net of income taxes
(18
)
 
(7
)
Balance, end of period
3,087

 
1,550

Treasury stock:
 
 
 
Balance, beginning of period
(5,641
)
 
(5,386
)
Purchases of treasury stock
(13
)
 
(268
)
Cost of shares issued
44

 
41

Balance, end of period
(5,610
)
 
(5,613
)
Total shareholders’ equity
$
15,985

 
$
12,156

Prior-year amounts have been adjusted for the adoption of accounting guidance on January 1, 2012 related to deferred policy acquisition costs.
See the accompanying Notes to the Consolidated Financial Statements.

7

Aflac Incorporated and Subsidiaries
Consolidated Statements of Cash Flows
  
Nine Months Ended
September 30,
(In millions - Unaudited)
2012
 
2011
Cash flows from operating activities:
 
 
 
Net earnings
$
2,285

 
$
1,399

Adjustments to reconcile net earnings to net cash provided by operating
activities:
 
 
 
Change in receivables and advance premiums
4,628

 
1,832

Increase in deferred policy acquisition costs
(481
)
 
(320
)
Increase in policy liabilities
4,537

 
3,259

Change in income tax liabilities
385

 
60

Realized investment (gains) losses
177

 
1,330

Other, net
(80
)
 
(74
)
Net cash provided (used) by operating activities
11,451

 
7,486

Cash flows from investing activities:
 
 
 
Proceeds from investments sold or matured:
 
 
 
Securities available for sale:
 
 
 
Fixed maturities sold
5,376

 
6,878

Fixed maturities matured or called
1,616

 
1,373

Perpetual securities sold
1,389

 
230

Perpetual securities matured or called
378

 
62

Securities held to maturity:
 
 
 
Fixed maturities matured or called
1,579

 
710

Costs of investments acquired:
 
 
 
Securities available for sale:
 
 
 
Fixed maturities acquired
(12,815
)
 
(6,361
)
Securities held to maturity:
 
 
 
Fixed maturities acquired
(15,629
)
 
(11,307
)
Cash received as collateral on loaned securities, net
5,752

 
667

Other, net
(145
)
 
(31
)
Net cash provided (used) by investing activities
(12,499
)
 
(7,779
)
Cash flows from financing activities:
 
 
 
Purchases of treasury stock
(13
)
 
(268
)
Proceeds from borrowings
1,456

 
624

Principal payments under debt obligations
(340
)
 
(462
)
Dividends paid to shareholders
(445
)
 
(404
)
Change in investment-type contracts, net
1,095

 
472

Treasury stock reissued
19

 
18

Other, net
9

 
5

Net cash provided (used) by financing activities
1,781

 
(15
)
Effect of exchange rate changes on cash and cash equivalents
3

 
49

Net change in cash and cash equivalents
736

 
(259
)
Cash and cash equivalents, beginning of period
2,249

 
2,121

Cash and cash equivalents, end of period
$
2,985

 
$
1,862

Supplemental disclosures of cash flow information:
 
 
 
Income taxes paid
$
527

 
$
690

Interest paid
173

 
88

Impairment losses included in realized investment losses
643

 
1,100

Noncash financing activities:
 
 
 
Capitalized lease obligations
3

 
4

Treasury stock issued for:
 
 
 
   Associate stock bonus
24

 
27

   Shareholder dividend reinvestment
19

 
17

   Share-based compensation grants
3

 
2

Prior-year amounts have been adjusted for the adoption of accounting guidance on January 1, 2012 related to deferred policy acquisition costs.
See the accompanying Notes to the Consolidated Financial Statements.

8

Aflac Incorporated and Subsidiaries
Notes to the Consolidated Financial Statements
(Interim period data – Unaudited)

1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Description of Business 

Aflac Incorporated (the Parent Company) and its subsidiaries (collectively, the Company) primarily sell supplemental health and life insurance in the United States and Japan. The Company's insurance business is marketed and administered through American Family Life Assurance Company of Columbus (Aflac), which operates in the United States (Aflac U.S.) and as a branch in Japan (Aflac Japan). Most of Aflac's policies are individually underwritten and marketed through independent agents. Additionally, Aflac U.S. markets and administers group products through Continental American Insurance Company (CAIC), branded as Aflac Group Insurance. Our insurance operations in the United States and our branch in Japan service the two markets for our insurance business. Aflac Japan's revenues, including realized gains and losses on its investment portfolio, accounted for 78% and 75% of the Company's total revenues in the nine-month periods ended September 30, 2012, and 2011, respectively. The percentage of the Company's total assets attributable to Aflac Japan was 88% at September 30, 2012, and 87% at December 31, 2011.

Basis of Presentation

We prepare our financial statements in accordance with U.S. generally accepted accounting principles (GAAP). These principles are established primarily by the Financial Accounting Standards Board (FASB). In these Notes to the Consolidated Financial Statements, references to GAAP issued by the FASB are derived from the FASB Accounting Standards CodificationTM (ASC). The preparation of financial statements in conformity with GAAP requires us to make estimates when recording transactions resulting from business operations based on currently available information. The most significant items on our balance sheet that involve a greater degree of accounting estimates and actuarial determinations subject to changes in the future are the valuation of investments, deferred policy acquisition costs, liabilities for future policy benefits and unpaid policy claims, and income taxes. These accounting estimates and actuarial determinations are sensitive to market conditions, investment yields, mortality, morbidity, commission and other acquisition expenses, and terminations by policyholders. As additional information becomes available, or actual amounts are determinable, the recorded estimates will be revised and reflected in operating results. Although some variability is inherent in these estimates, we believe the amounts provided are adequate.

The unaudited consolidated financial statements include the accounts of the Parent Company, its subsidiaries and those entities required to be consolidated under applicable accounting standards. All material intercompany accounts and transactions have been eliminated.

In the opinion of management, the accompanying unaudited consolidated financial statements of the Company contain all adjustments, consisting of normal recurring accruals, which are necessary to fairly present the consolidated balance sheets as of September 30, 2012, and December 31, 2011, the consolidated statements of earnings and comprehensive income (loss) for the three- and nine-month periods ended September 30, 2012, and 2011, and the consolidated statements of shareholders' equity and cash flows for the nine-month periods ended September 30, 2012, and 2011. Results of operations for interim periods are not necessarily indicative of results for the entire year. As a result, these financial statements should be read in conjunction with the financial statements and notes thereto included in our annual report to shareholders for the year ended December 31, 2011.

Significant Accounting Policies
    
We have revised the accounting policy for deferred policy acquisition costs as a result of the adoption of amended accounting guidance effective January 1, 2012, and we have updated the disclosure in the accounting policy for income taxes. All other categories of significant accounting policies remain unchanged from our annual report to shareholders for the year ended December 31, 2011.

Deferred Policy Acquisition Costs: Certain direct and incremental costs of acquiring new business are deferred and amortized with interest over the premium payment periods in proportion to the ratio of annual premium income to total anticipated premium income. Anticipated premium income is estimated by using the same mortality, persistency and interest assumptions used in computing liabilities for future policy benefits. In this manner, the related acquisition expenses are matched with revenues. Deferred costs include the excess of current-year commissions over ultimate renewal-year commissions and certain incremental direct policy issue, underwriting and sales expenses. All of these

9

incremental costs are directly related to successful policy acquisition.

For some products, policyholders can elect to modify product benefits, features, rights or coverages by exchanging a contract for a new contract or by amendment, endorsement, or rider to a contract, or by the election of a feature or coverage within a contract. These transactions are known as internal replacements. For internal replacement transactions where the resulting contract is substantially unchanged, the policy is accounted for as a continuation of the replaced contract. Unamortized deferred acquisition costs from the original policy continue to be amortized over the expected life of the new policy, and the costs of replacing the policy are accounted for as policy maintenance costs and expensed as incurred. Internal replacement transactions that result in a policy that is not substantially unchanged are accounted for as an extinguishment of the original policy and the issuance of a new policy. Unamortized deferred acquisition costs on the original policy that was replaced are immediately expensed, and the costs of acquiring the new policy are capitalized and amortized in accordance with our accounting policies for deferred acquisition costs.
Income Taxes: Income tax provisions are generally based on pretax earnings reported for financial statement purposes, which differ from those amounts used in preparing our income tax returns. Deferred income taxes are recognized for temporary differences between the financial reporting basis and income tax basis of assets and liabilities, based on enacted tax laws and statutory tax rates applicable to the periods in which we expect the temporary differences to reverse. We record deferred tax assets for tax positions taken based on our assessment of whether the tax position is more likely than not to be sustained upon examination by taxing authorities. A valuation allowance is established for deferred tax assets when it is more likely than not that an amount will not be realized.

As discussed in the Translation of Foreign Currencies section in Note 1 of the Notes to the Consolidated Financial Statements in our annual report to shareholders for the year ended December 31, 2011, Aflac Japan maintains a dollar-denominated investment portfolio on behalf of Aflac U.S. While there are no translation effects to record in other comprehensive income, the deferred tax expense or benefit associated with foreign exchange gains or losses on the portfolio is recognized in other comprehensive income until the securities mature or are sold. Total income tax expense (benefit) related to items of other comprehensive income (loss) included a tax benefit of $86 million during the three-month period ended September 30, 2012, and a tax benefit of $186 million during the three-month period ended September 30, 2011, for this dollar-denominated portfolio. Excluding these amounts from total taxes on other comprehensive income would result in an effective income tax rate on pretax other comprehensive income (loss) of 34.4% and 29.2% in the three-month periods ended September 30, 2012 and 2011, respectively. Total income tax expense (benefit) related to items of other comprehensive income (loss) included a tax benefit of $25 million during the nine-month period ended September 30, 2012, and a tax benefit of $236 million during the nine-month period ended September 30, 2011, for this dollar-denominated portfolio. Excluding these amounts from total taxes on other comprehensive income would result in an effective income tax rate on pretax other comprehensive income (loss) of 35.2% and 36.5% in the nine-month periods ended September 30, 2012 and 2011, respectively.
 
New Accounting Pronouncements
Recently Adopted Accounting Pronouncements

Presentation of comprehensive income: In June 2011, the FASB issued guidance to amend the presentation of comprehensive income. The amendment requires that all non-owner changes in stockholders' equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. We adopted this guidance as of January 1, 2012 and elected the option to report comprehensive income in two separate but consecutive statements. The adoption of this guidance did not have an impact on our financial position or results of operations. The amendment also requires reclassification adjustments for items that are reclassified from other comprehensive income to net income to be presented in the statements where the components of net income and the components of other comprehensive income are presented; however, in December 2011, the FASB issued guidance to temporarily defer the effective date of this additional requirement.

Fair value measurements and disclosures: In May 2011, the FASB issued guidance to amend the fair value measurement and disclosure requirements. Most of the amendments are clarifications of the FASB's intent about the application of existing fair value measurement and disclosure requirements. Other amendments change a particular principle or requirement for measuring fair value or disclosing information about fair value measurements. The new fair value measurement disclosures include additional quantitative and qualitative disclosures for Level 3 measurements, including a qualitative sensitivity analysis of fair value to changes in unobservable inputs, and categorization by fair value hierarchy level for items for which the fair value is only disclosed. We adopted this guidance as of January 1, 2012. The adoption of this guidance impacted our financial statement disclosures, but it did not affect our financial position or results

10

of operations.

Accounting for costs associated with acquiring or renewing insurance contracts: In October 2010, the FASB issued amended accounting guidance on accounting for costs associated with acquiring or renewing insurance contracts. Under the previous guidance, costs that varied with and were primarily related to the acquisition of a policy were deferrable. Under the amended guidance, only incremental direct costs associated with the successful acquisition of a new or renewal contract may be capitalized, and direct-response advertising costs may be capitalized only if they meet certain criteria. This guidance is effective on a prospective or retrospective basis for interim and annual periods beginning after December 15, 2011. We retrospectively adopted this guidance as of January 1, 2012. The retrospective adoption of this accounting standard resulted in an after-tax cumulative reduction to retained earnings of $408 million and an after-tax cumulative reduction to unrealized foreign currency translation gains in accumulated other comprehensive income of $108 million, resulting in a total reduction to shareholders' equity of $516 million as of December 31, 2010. The adoption of this accounting standard had an immaterial impact on net income in 2011 and for all preceding years.

Accounting Pronouncements Pending Adoption

Disclosures about offsetting assets and liabilities: In November 2011, the FASB issued guidance to amend the disclosure requirements about offsetting assets and liabilities. The new guidance essentially clarifies the FASB's intent concerning the application of existing offsetting disclosure requirements. Entities will be required to disclose gross and net information about both instruments and transactions eligible for offset in the statement of financial position and activities that are subject to an agreement similar to a master netting arrangement. This scope includes derivatives, sale and repurchase agreements, reverse sale and repurchase agreements, and securities borrowing and lending arrangements. The objective of this disclosure is to converge U.S. GAAP and international accounting standards. This guidance is effective for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods and requires retrospective disclosures for all comparative periods presented.  The adoption of this guidance will impact our financial statement disclosures, but it will not affect our financial position or results of operations.

    Recent accounting guidance not discussed above is not applicable, did not have, or is not expected to have a material impact to our business. 

For additional information on new accounting pronouncements and recent accounting guidance and their impact, if any, on our financial position or results of operations, see Note 1 of the Notes to the Consolidated Financial Statements in our annual report to shareholders for the year ended December 31, 2011.

2.  BUSINESS SEGMENT INFORMATION

The Company consists of two reportable insurance business segments: Aflac Japan and Aflac U.S., both of which sell supplemental health and life insurance. Operating business segments that are not individually reportable and business activities not included in Aflac Japan or Aflac U.S. are included in the "Other business segments" category.

We do not allocate corporate overhead expenses to business segments. We evaluate and manage our business segments using a financial performance measure called pretax operating earnings. Our definition of operating earnings excludes the following items from net earnings on an after-tax basis: realized investment gains/losses (securities transactions, impairments, and the impact of derivative and hedging activities) and nonrecurring items. We then exclude income taxes related to operations to arrive at pretax operating earnings. Information regarding operations by segment follows:


11

  
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
(In millions)
2012
 
2011
 
2012
 
2011
Revenues:
 
 
 
 
 
 
 
Aflac Japan:
 
 
 
 
 
 
 
   Earned premiums
$
4,405

 
$
4,018

 
$
12,769

 
$
11,490

   Net investment income
713

 
695

 
2,134

 
1,980

   Other income
22

 
7

 
38

 
33

     Total Aflac Japan
5,140

 
4,720

 
14,941

 
13,503

Aflac U.S.:
 
 
 
 
 
 
 
   Earned premiums
1,254

 
1,192

 
3,736

 
3,547

   Net investment income
153

 
147

 
457

 
439

   Other income
5

 
3

 
10

 
8

     Total Aflac U.S.
1,412

 
1,342

 
4,203

 
3,994

Other business segments
10

 
13

 
40

 
40

     Total business segment revenues
6,562

 
6,075

 
19,184

 
17,537

Realized investment gains (losses)
286

 
(83
)
 
(177
)
 
(1,330
)
Corporate
65

 
62

 
197

 
183

Intercompany eliminations
(66
)
 
(67
)
 
(215
)
 
(198
)
      Total revenues
$
6,847

 
$
5,987

 
$
18,989

 
$
16,192


 
  
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
(In millions)
2012
 
2011
 
2012
 
2011
Pretax earnings:
 
 
 
 
 
 
 
Aflac Japan
$
994

 
$
1,019

 
$
2,998

 
$
2,918

Aflac U.S.
260

 
214

 
789

 
708

Other business segments
0

 
0

 
0

 
2

    Total business segment pretax operating earnings
1,254

 
1,233

 
3,787

 
3,628

Interest expense, noninsurance operations
(45
)
 
(44
)
 
(134
)
 
(126
)
Corporate and eliminations
(15
)
 
(14
)
 
(53
)
 
(43
)
    Pretax operating earnings
1,194

 
1,175

 
3,600

 
3,459

Realized investment gains (losses)
286

 
(83
)
 
(177
)
 
(1,330
)
    Total earnings before income taxes
$
1,480

 
$
1,092

 
$
3,423

 
$
2,129

Income taxes applicable to pretax operating earnings
$
363

 
$
405

 
$
1,200

 
$
1,196

Effect of foreign currency translation on operating earnings
2

 
45

 
28

 
144

Prior-year amounts have been adjusted for the adoption of accounting guidance on January 1, 2012 related to deferred policy acquisition costs.


12

Assets were as follows:
(In millions)
September 30,
2012
 
December 31,
2011
Assets:
 
 
 
Aflac Japan
$
120,712

 
$
101,692

Aflac U.S.
15,785

 
13,942

Other business segments
144

 
160

    Total business segment assets
136,641

 
115,794

Corporate
21,486

 
16,182

Intercompany eliminations
(20,287
)
 
(15,739
)
    Total assets
$
137,840

 
$
116,237

Prior-year amounts have been adjusted for the adoption of accounting guidance on January 1, 2012 related to deferred policy acquisition costs.

13

3.   INVESTMENTS
Investment Holdings
The amortized cost for our investments in debt and perpetual securities, the cost for equity securities and the fair values of these investments are shown in the following tables.
 
  
September 30, 2012
(In millions)
Cost or
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
  Fair
  Value
Securities available for sale,
  carried at fair value:
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
  Yen-denominated:
 
 
 
 
 
 
 
Japan government and agencies
$
14,059

 
$
488

 
$
6

 
$
14,541

Mortgage- and asset-backed securities
853

 
51

 
1

 
903

Public utilities
4,026

 
107

 
142

 
3,991

Sovereign and supranational
2,050

 
53

 
109

 
1,994

Banks/financial institutions
4,473

 
194

 
369

 
4,298

Other corporate
6,307

 
214

 
256

 
6,265

Total yen-denominated
31,768

 
1,107

 
883

 
31,992

  Dollar-denominated:
 
 
 
 
 
 
 
U.S. government and agencies
93

 
25

 
0

 
118

Municipalities
1,049

 
152

 
5

 
1,196

Mortgage- and asset-backed securities
235

 
67

 
0

 
302

Public utilities
3,620

 
699

 
3

 
4,316

Sovereign and supranational
476

 
121

 
4

 
593

Banks/financial institutions
3,526

 
476

 
17

 
3,985

Other corporate
11,883

 
1,902

 
39

 
13,746

Total dollar-denominated
20,882

 
3,442

 
68

 
24,256

Total fixed maturities
52,650

 
4,549

 
951

 
56,248

Perpetual securities:
 
 
 
 
 
 
 
  Yen-denominated:
 
 
 
 
 
 
 
Banks/financial institutions
4,214

 
139

 
281

 
4,072

Other corporate
345

 
26

 
0

 
371

  Dollar-denominated:
 
 
 
 
 
 
 
Banks/financial institutions
269

 
19

 
12

 
276

Total perpetual securities
4,828

 
184

 
293

 
4,719

Equity securities
22

 
4

 
2

 
24

Total securities available for sale
$
57,500

 
$
4,737

 
$
1,246

 
$
60,991


14

  
September 30, 2012
(In millions)
Cost or
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair  
Value  
Securities held to maturity,
  carried at amortized cost:
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
  Yen-denominated:
 
 
 
 
 
 
 
Japan government and agencies
$
34,792

 
$
715

 
$
6

 
$
35,501

Municipalities
550

 
42

 
0

 
592

Mortgage- and asset-backed securities
109

 
5

 
0

 
114

Public utilities
5,494

 
328

 
66

 
5,756

Sovereign and supranational
3,712

 
230

 
79

 
3,863

Banks/financial institutions
10,425

 
272

 
399

 
10,298

Other corporate
4,972

 
239

 
78

 
5,133

Total yen-denominated
60,054

 
1,831

 
628

 
61,257

Total securities held to maturity
$
60,054

 
$
1,831

 
$
628

 
$
61,257


15

  
December 31, 2011
(In millions)
Cost or
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
  Fair
  Value
Securities available for sale,
  carried at fair value:
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
  Yen-denominated:
 
 
 
 
 
 
 
Japan government and agencies
$
11,108

 
$
670

 
$
0

 
$
11,778

Mortgage- and asset-backed securities
912

 
43

 
1

 
954

Public utilities
3,850

 
59

 
226

 
3,683

Sovereign and supranational
1,704

 
87

 
16

 
1,775

Banks/financial institutions
4,312

 
74

 
359

 
4,027

Other corporate
6,213

 
120

 
459

 
5,874

Total yen-denominated
28,099

 
1,053

 
1,061

 
28,091

  Dollar-denominated:
 
 
 
 
 
 
 
U.S. government and agencies
31

 
4

 
0

 
35

Municipalities
1,060

 
107

 
8

 
1,159

Mortgage- and asset-backed securities
310

 
74

 
0

 
384

Public utilities
3,052

 
517

 
27

 
3,542

Sovereign and supranational
449

 
89

 
5

 
533

Banks/financial institutions
3,324

 
223

 
121

 
3,426

Other corporate
9,031

 
1,433

 
62

 
10,402

Total dollar-denominated
17,257

 
2,447

 
223

 
19,481

Total fixed maturities
45,356

 
3,500

 
1,284

 
47,572

Perpetual securities:
 
 
 
 
 
 
 
  Yen-denominated:
 
 
 
 
 
 
 
Banks/financial institutions
6,217

 
155

 
604

 
5,768

Other corporate
344

 
17

 
0

 
361

  Dollar-denominated:
 
 
 
 
 
 
 
Banks/financial institutions
336

 
3

 
29

 
310

Total perpetual securities
6,897

 
175

 
633

 
6,439

Equity securities
22

 
4

 
1

 
25

Total securities available for sale
$
52,275

 
$
3,679

 
$
1,918

 
$
54,036



16

  
December 31, 2011
(In millions)
Cost or
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
Securities held to maturity,
  carried at amortized cost:
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
  Yen-denominated:
 
 
 
 
 
 
 
Japan government and agencies
$
18,775

 
$
297

 
$
1

 
$
19,071

Municipalities
553

 
35

 
4

 
584

Mortgage- and asset-backed securities
129

 
5

 
0

 
134

Public utilities
5,615

 
188

 
166

 
5,637

Sovereign and supranational
4,200

 
148

 
183

 
4,165

Banks/financial institutions
12,389

 
170

 
1,079

 
11,480

Other corporate
5,348

 
149

 
185

 
5,312

Total yen-denominated
47,009

 
992

 
1,618

 
46,383

Total securities held to maturity
$
47,009

 
$
992

 
$
1,618

 
$
46,383


The methods of determining the fair values of our investments in debt securities, perpetual securities and equity securities are described in Note 5.

During the third quarter of 2012, we reclassified one investment from the held-to-maturity portfolio to the available-for-sale portfolio as a result of significant declines in the issuer's creditworthiness. At the time of transfer, this security issued by BBVA Subordinated Capital, a financial institution domiciled in Spain, had an amortized cost of $206 million after we recognized an other-than-temporary impairment of $52 million in the third quarter of 2012. During the second quarter of 2012, we reclassified five investments from the held-to-maturity portfolio to the available-for-sale portfolio as a result of significant declines in the issuers' creditworthiness. At the time of transfer, the securities had an aggregate amortized cost of $842 million and an aggregate unrealized loss of $268 million. Included in this transfer were securities issued by UniCredit and Bankia SA, financial institutions, and Generalitat de Catalunya and Junta de Andalucia, regional governments in Spain. During the first quarter of 2012, we reclassified one investment from the held-to-maturity portfolio to the available-for-sale portfolio as a result of a significant decline in the issuer's creditworthiness. At the time of transfer, the security had an amortized cost of $122 million and an unrealized loss of $23 million. This investment was issued by Energias de Portugal SA (EDP), an integrated electric utility domiciled in Portugal.

We did not reclassify any investments from the held-to-maturity portfolio to the available-for-sale portfolio during the second or third quarter of 2011. During the first quarter of 2011, we reclassified eight investments from the held-to-maturity portfolio to the available-for-sale portfolio as a result of significant declines in the issuers’ creditworthiness. At the time of the transfer, the securities had an aggregate amortized cost of $1.6 billion and an aggregate unrealized loss of $270 million. The securities transferred included investments in the Republic of Tunisia and securities associated with financial institutions in Portugal and Ireland. The investments from the financial institutions in Portugal were subsequently sold by the end of the third quarter of 2011.

17

Contractual and Economic Maturities
The contractual maturities of our investments in fixed maturities at September 30, 2012, were as follows:
  
Aflac Japan
 
Aflac U.S.
(In millions)
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair  
Value  
Available for sale:
 
 
 
 
 
 
 
Due in one year or less
$
1,812

 
$
1,837

 
$
53

 
$
54

Due after one year through five years
2,519

 
2,645

 
336

 
373

Due after five years through 10 years
4,792

 
5,177

 
1,004

 
1,186

Due after 10 years
32,928

 
34,042

 
7,980

 
9,568

Mortgage- and asset-backed securities
1,044

 
1,148

 
44

 
56

Total fixed maturities available for sale
$
43,095

 
$
44,849

 
$
9,417

 
$
11,237

Held to maturity:
 
 
 
 
 
 
 
Due in one year or less
$
6,575

 
$
6,580

 
$
0

 
$
0

Due after one year through five years
819

 
885

 
0

 
0

Due after five years through 10 years
3,371

 
3,778

 
0

 
0

Due after 10 years
49,180

 
49,900

 
0

 
0

Mortgage- and asset-backed securities
109

 
114

 
0

 
0

Total fixed maturities held to maturity
$
60,054

 
$
61,257

 
$
0

 
$
0


At September 30, 2012, the Parent Company had a portfolio of investment-grade available-for-sale fixed-maturity securities totaling $138 million at amortized cost and $162 million at fair value, which is not included in the table above.

Expected maturities may differ from contractual maturities because some issuers have the right to call or prepay obligations with or without call or prepayment penalties.

The majority of our perpetual securities are subordinated to other debt obligations of the issuer, but rank higher than the issuer's equity securities. Perpetual securities have characteristics of both debt and equity investments, along with unique features that create economic maturity dates for the securities. Although perpetual securities have no contractual maturity date, they have stated interest coupons that were fixed at their issuance and subsequently change to a floating short-term interest rate of 125 to more than 300 basis points above an appropriate market index, generally by the 25th year after issuance, thereby creating an economic maturity date. The economic maturities of our investments in perpetual securities, which were all reported as available for sale at September 30, 2012, were as follows:
  
Aflac Japan
 
Aflac U.S.
(In millions)
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair  
Value  
Due in one year or less
$
322

 
$
325

 
$
0

 
$
0

Due after one year through five years
1,251

 
1,304

 
5

 
5

Due after five years through 10 years
468

 
498

 
0

 
0

Due after 10 years
2,623

 
2,422

 
159

 
165

Total perpetual securities available for sale
$
4,664

 
$
4,549

 
$
164

 
$
170


Investment Concentrations

Our investment process begins with an independent approach to underwriting each issuer's fundamental credit quality. We evaluate independently those factors which we believe could influence an issuer's ability to make payments under the contractual terms of our instruments. This includes a thorough analysis of a variety of items including the issuer's country of domicile (including political, legal, and financial considerations); the industry in which the issuer competes (with an analysis of industry structure, end-market dynamics, and regulation); company specific issues (such as management, assets, earnings, cash generation, and capital needs); and contractual provisions of the instrument (such as financial covenants and position in the capital structure). We further determine the appropriateness of the investment considering portfolio management needs, asset/liability requirements, portfolio diversification, and expected income.

18


Banks and Financial Institutions

After Japanese government bonds (JGBs), our second largest investment concentration as of September 30, 2012, was banks and financial institutions. Within the countries we approve for investment opportunities, we primarily invest in financial institutions that are strategically crucial to each approved country's economy. The bank and financial institution sector is a highly regulated industry and plays a strategic role in the global economy. We achieve some degree of diversification in the bank and financial institution sector through a geographically diverse universe of credit exposures. Within this sector, our credit risk by geographic region or country of issuer at September 30, 2012, based on amortized cost, was: Europe, excluding the United Kingdom (33%); United States (23%); United Kingdom (8%); Japan (8%); and other (28%).

Our total investments in the bank and financial institution sector, including those classified as perpetual securities, were as follows:
  
September 30, 2012
 
December 31, 2011
  
Total Investments in
Banks and Financial
Institutions Sector
(in millions)
 
Percentage of
Total Investment
Portfolio
 
Total Investments in
Banks and Financial
Institutions Sector
(in millions)
 
Percentage of
Total Investment    
Portfolio
Fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Amortized cost
 
$
18,424

 
 
 
15
%
 
 
 
$
20,025

 
 
 
20
%
 
Fair value
 
18,581

 
 
 
15

 
 
 
18,933

 
 
 
19

 
Perpetual securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Upper Tier II:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Amortized cost
 
$
3,189

 
 
 
3
%
 
 
 
$
4,285

 
 
 
5
%
 
Fair value
 
3,165

 
 
 
3

 
 
 
4,244

 
 
 
4

 
Tier I:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Amortized cost
 
1,294

 
 
 
1

 
 
 
2,268

 
 
 
2

 
Fair value
 
1,183

 
 
 
1

 
 
 
1,834

 
 
 
2

 
Total:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Amortized cost
 
$
22,907

 
 
 
19
%
 
 
 
$
26,578

 
 
 
27
%
 
Fair value
 
22,929

 
 
 
19

 
 
 
25,011

 
 
 
25

 

Derisking

During the three- and nine-month periods ended September 30, 2012, we continued our efforts of pursuing strategic investment activities to lower the risk profile of our investment portfolio. During the first nine months of 2012, we have reduced our exposure to perpetual and other subordinated securities of European issuers, particularly in the financial sector. See further details in the Realized Investment Gains and Losses section below.

Realized Investment Gains and Losses

Information regarding pretax realized gains and losses from investments is as follows:



19

  
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
(In millions)
2012
 
2011
 
2012
 
2011
Realized investment gains (losses) on securities:
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Available for sale:
 
 
 
 
 
 
 
Gross gains from sales
$
313

 
$
354

 
$
346

 
$
458

Gross losses from sales
(1
)
 
(56
)
 
(37
)
 
(375
)
Net gains (losses) from redemptions
0

 
9

 
2

 
15

Other-than-temporary impairment losses
(70
)
 
(44
)
 
(400
)
 
(793
)
Held to maturity:
 
 
 
 
 
 
 
Net gains (losses) from redemptions
0

 
0

 
3

 
0

Total fixed maturities
242

 
263

 
(86
)
 
(695
)
Perpetual securities:
 
 
 
 
 
 
 
Available for sale:
 
 
 
 
 
 
 
Gross gains from sales
12

 
0

 
82

 
54

Gross losses from sales
(36
)
 
0

 
(98
)
 
(109
)
Net gains (losses) from redemptions
0

 
0

 
60

 
0

Other-than-temporary impairment losses
(27
)
 
(122
)
 
(243
)
 
(306
)
Total perpetual securities
(51
)
 
(122
)
 
(199
)
 
(361
)
Equity securities:
 
 
 
 
 
 
 
Other-than-temporary impairment losses
0

 
0

 
0

 
(1
)
Total equity securities
0

 
0

 
0

 
(1
)
Derivatives and other:
 
 
 
 
 
 
 
Derivative gains (losses)
95

 
(224
)
 
108

 
(291
)
Other
0

 
0

 
0

 
18

Total derivatives and other
95

 
(224
)
 
108

 
(273
)
Total realized investment gains (losses)
$
286

 
$
(83
)
 
$
(177
)
 
$
(1,330
)

During the three- and nine-month periods ended September 30, 2012, sales and redemptions of securities generated a net realized investment gain. This net gain from sales and redemptions primarily resulted from the sale of Japanese government bonds (JGBs) in a bond-swap program executed in the third quarter of 2012. Other gains in the nine-month period resulted from the redemption in the first quarter of 2012 of a previously impaired perpetual security and sales related to our plan to reduce the risk exposure in our investment portfolio (see the Investment Concentrations section above for more information).

During the three- and nine-month periods ended September 30, 2011, we recognized realized investment losses from the sale of securities, primarily a result of a plan to reduce the risk exposure in our investment portfolio. The sales losses were more than offset by the investment gains generated in the third quarter of 2011 from the sale of U.S. Treasury securities and JGBs.

Other-than-temporary Impairment

The fair value of our debt and perpetual security investments fluctuates based on changes in interest rates and credit spreads in the global financial markets. Credit spreads are most impacted by the general and specific credit environment and global market liquidity. We believe that fluctuations in the fair value of our investment securities related to changes in credit spreads have little bearing on whether our investment is ultimately recoverable. Generally, we consider such declines in fair value to be temporary even in situations where an investment remains in an unrealized loss position for a year or more.

However, in the course of our credit review process, we may determine that it is unlikely that we will recover our investment in an issuer due to factors specific to an individual issuer, as opposed to general changes in global credit spreads. In this event, we consider such a decline in the investment's fair value, to the extent it is below the investment's

20

cost or amortized cost, to be an other-than-temporary impairment of the investment and write the investment down to its fair value.
 
In addition to the usual investment risk associated with a debt instrument, our perpetual security holdings may be subject to the risk of nationalization of their issuers in connection with capital injections from an issuer's sovereign government. We cannot be assured that such capital support will extend to all levels of an issuer's capital structure. In addition, certain governments or regulators may consider imposing interest and principal payment restrictions on issuers of hybrid securities to preserve cash and build capital. In addition to the cash flow impact that additional deferrals would have on our portfolio, such deferrals could result in ratings downgrades of the affected securities, which in turn could result in a reduction of fair value of the securities and increase our regulatory capital requirements. We consider these factors in our credit review process.

When determining our intention to sell a security prior to recovery of its fair value to amortized cost, we evaluate facts and circumstances such as, but not limited to, sales of securities to meet cash flow needs and decisions to reposition our security portfolio. We perform ongoing analyses of our liquidity needs, which includes cash flow testing of our policy liabilities, debt maturities, projected dividend payments and other cash flow and liquidity needs. Our cash flow testing includes extensive duration matching of our investment portfolio and policy liabilities. Based on our analyses, we have concluded that we have sufficient excess cash flows to meet our liquidity needs without selling any of our investments prior to their maturity. Recently, we have started to reposition our security portfolio in an effort to enhance diversification and our credit profile by reducing our risk exposure through opportunistic investment transactions.

The following table details our pretax other-than-temporary impairment losses by investment category that resulted from our impairment evaluation process.
  
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
(In millions)
2012
 
2011
 
2012
 
2011
 
Perpetual securities
$
27

 
$
122

 
$
243

 
$
306

 
Corporate bonds
70

 
43

 
253

 
783

 
Mortgage- and asset-backed securities
0

 
1

 
3

 
9

 
Municipalities
0

 
0

 
0

 
1

 
Sovereign and supranational
0

 
0

 
144

 
0

 
Equity securities
0

 
0

 
0

 
1

 
Total other-than-temporary impairment losses realized
$
97

(1) 
$
166

(2) 
$
643

(1) 
$
1,100

(2) 
(1) Includes $70 and $365 for the three- and nine-month periods ended September 30, 2012, respectively, for credit-related impairments;
$0 and $251 for the three- and nine-month periods ended September 30, 2012, respectively, from change in intent to sell securities; and $27 for the three- and nine-month periods ended September 30, 2012 for impairments due to severity and duration of decline in fair value
(2) Consisted completely of credit-related impairments

Unrealized Investment Gains and Losses
Effect on Shareholders’ Equity
The net effect on shareholders’ equity of unrealized gains and losses from investment securities was as follows:
(In millions)
September 30,
2012
 
December 31,
2011
Unrealized gains (losses) on securities available for sale
$
3,491

 
$
1,761

Unamortized unrealized gains on securities transferred to held to maturity
24

 
34

Deferred income taxes
(1,255
)
 
(652
)
Shareholders’ equity, unrealized gains (losses) on investment securities
$
2,260

 
$
1,143


21

Gross Unrealized Loss Aging
The following tables show the fair value and gross unrealized losses of our available-for-sale and held-to-maturity investments, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position.

  
September 30, 2012
  
Total
 
Less than 12 months
 
12 months or longer
(In millions)
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
Japan government and agencies:
 
 
 
 
 
 
 
 
 
 
 
Yen-denominated
$
7,617

 
$
12

 
$
7,617

 
$
12

 
$
0

 
$
0

Municipalities:
 
 
 
 
 
 
 
 
 
 
 
Dollar-denominated
33

 
5

 
0

 
0

 
33

 
5

Mortgage- and asset- backed
securities:
 
 
 
 
 
 
 
 
 
 
 
Dollar-denominated
10

 
0

 
10

 
0

 
0

 
0

Yen-denominated
152

 
1

 
0

 
0

 
152

 
1

Public utilities:
 
 
 
 
 
 
 
 
 
 
 
Dollar-denominated
185

 
3

 
145

 
2

 
40

 
1

Yen-denominated
4,030

 
208

 
642

 
24

 
3,388

 
184

Sovereign and supranational:
 
 
 
 
 
 
 
 
 
 
 
Dollar-denominated
37

 
4

 
6

 
0