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, 2013
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 29, 2013 | |
Common Stock, $.10 Par Value | 466,090,298 | |
Aflac Incorporated and Subsidiaries
Quarterly Report on Form 10-Q
For the Quarter Ended September 30, 2013
Table of Contents
Page | ||
PART I. | ||
Item 1. | ||
Three Months Ended September 30, 2013, and 2012 Nine Months Ended September 30, 2013 and 2012 | ||
Three Months Ended September 30, 2013, and 2012 Nine Months Ended September 30, 2013 and 2012 | ||
September 30, 2013 and December 31, 2012 | ||
Nine Months Ended September 30, 2013, and 2012 | ||
Nine Months Ended September 30, 2013, and 2012 | ||
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, 2013, and 2012, 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, 2013, and the related consolidated statements of earnings and comprehensive income (loss) for the three-month and nine-month periods ended September 30, 2013 and 2012, and the consolidated statements of shareholders' equity and cash flows for the nine-month periods ended September 30, 2013 and 2012. 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, 2012, and the related consolidated statements of earnings, comprehensive income (loss), shareholders' equity and cash flows for the year then ended (not presented herein); and in our report dated February 26, 2013, we expressed an unqualified opinion on those consolidated financial statements. Our report refers to a change in the method of accounting for costs associated with acquiring or renewing insurance contracts in 2012 and a change in the method of evaluating the consolidation of variable interest entities (VIEs) and qualified special purpose entities (QSPEs) in 2010. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 2012, is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.
Atlanta, Georgia
November 5, 2013
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) | 2013 | 2012 | 2013 | 2012 | ||||||||||||||||
Revenues: | ||||||||||||||||||||
Premiums, principally supplemental health insurance | $ | 5,028 | $ | 5,660 | $ | 15,225 | $ | 16,505 | ||||||||||||
Net investment income | 821 | 869 | 2,467 | 2,597 | ||||||||||||||||
Realized investment gains (losses): | ||||||||||||||||||||
Other-than-temporary impairment losses realized | (10 | ) | (97 | ) | (65 | ) | (643 | ) | ||||||||||||
Sales and redemptions | 72 | 288 | 277 | 358 | ||||||||||||||||
Derivative and other gains (losses) | (40 | ) | 95 | 167 | 108 | |||||||||||||||
Total realized investment gains (losses) | 22 | 286 | 379 | (177 | ) | |||||||||||||||
Other income | 15 | 32 | 67 | 64 | ||||||||||||||||
Total revenues | 5,886 | 6,847 | 18,138 | 18,989 | ||||||||||||||||
Benefits and expenses: | ||||||||||||||||||||
Benefits and claims | 3,485 | 3,932 | 10,417 | 11,341 | ||||||||||||||||
Acquisition and operating expenses: | ||||||||||||||||||||
Amortization of deferred policy acquisition costs | 256 | 281 | 790 | 838 | ||||||||||||||||
Insurance commissions | 388 | 442 | 1,158 | 1,309 | ||||||||||||||||
Insurance expenses | 568 | 595 | 1,631 | 1,745 | ||||||||||||||||
Interest expense | 71 | 67 | 211 | 186 | ||||||||||||||||
Other operating expenses | 49 | 50 | 143 | 147 | ||||||||||||||||
Total acquisition and operating expenses | 1,332 | 1,435 | 3,933 | 4,225 | ||||||||||||||||
Total benefits and expenses | 4,817 | 5,367 | 14,350 | 15,566 | ||||||||||||||||
Earnings before income taxes | 1,069 | 1,480 | 3,788 | 3,423 | ||||||||||||||||
Income taxes | 367 | 463 | 1,305 | 1,138 | ||||||||||||||||
Net earnings | $ | 702 | $ | 1,017 | $ | 2,483 | $ | 2,285 | ||||||||||||
Net earnings per share: | ||||||||||||||||||||
Basic | $ | 1.51 | $ | 2.17 | $ | 5.34 | $ | 4.90 | ||||||||||||
Diluted | 1.50 | 2.16 | 5.31 | 4.87 | ||||||||||||||||
Weighted-average outstanding common shares used in computing earnings per share (In thousands): | ||||||||||||||||||||
Basic | 464,324 | 467,422 | 465,325 | 466,702 | ||||||||||||||||
Diluted | 467,391 | 469,721 | 468,052 | 468,951 | ||||||||||||||||
Cash dividends per share | $ | .35 | $ | .33 | $ | 1.05 | $ | .99 | ||||||||||||
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) | 2013 | 2012 | 2013 | 2012 | ||||||||||||||||
Net earnings | $ | 702 | $ | 1,017 | $ | 2,483 | $ | 2,285 | ||||||||||||
Other comprehensive income (loss) before income taxes: | ||||||||||||||||||||
Unrealized foreign currency translation gains (losses) during period | 5 | 76 | (373 | ) | 8 | |||||||||||||||
Unrealized gains (losses) on investment securities: | ||||||||||||||||||||
Unrealized holding gains (losses) on investment securities during period | 255 | 1,430 | (3,553 | ) | 1,435 | |||||||||||||||
Reclassification adjustment for realized (gains) losses on investment securities included in net earnings | (94 | ) | (213 | ) | (220 | ) | 284 | |||||||||||||
Unrealized gains (losses) on derivatives during period | 2 | 2 | (5 | ) | (6 | ) | ||||||||||||||
Pension liability adjustment during period | 0 | (33 | ) | 8 | (30 | ) | ||||||||||||||
Total other comprehensive income (loss) before income taxes | 168 | 1,262 | (4,143 | ) | 1,691 | |||||||||||||||
Income tax expense (benefit) related to items of other comprehensive income (loss) | (211 | ) | 347 | (967 | ) | 569 | ||||||||||||||
Other comprehensive income (loss), net of income taxes | 379 | 915 | (3,176 | ) | 1,122 | |||||||||||||||
Total comprehensive income (loss) | $ | 1,081 | $ | 1,932 | $ | (693 | ) | $ | 3,407 | |||||||||||
See the accompanying Notes to the Consolidated Financial Statements.
4
Aflac Incorporated and Subsidiaries
Consolidated Balance Sheets
(In millions) | September 30, 2013 (Unaudited) | December 31, 2012 | |||||||||
Assets: | |||||||||||
Investments and cash: | |||||||||||
Securities available for sale, at fair value: | |||||||||||
Fixed maturities (amortized cost $51,813 in 2013 and $48,355 in 2012) | $ | 51,949 | $ | 51,466 | |||||||
Fixed maturities - consolidated variable interest entities (amortized cost $4,598 in 2013 and $5,058 in 2012) | 4,974 | 5,787 | |||||||||
Perpetual securities (amortized cost $2,789 in 2013 and $3,654 in 2012) | 2,484 | 3,728 | |||||||||
Perpetual securities - consolidated variable interest entities (amortized cost $504 in 2013 and $559 in 2012) | 457 | 574 | |||||||||
Equity securities (cost $18 in 2013 and $20 in 2012) | 22 | 23 | |||||||||
Securities held to maturity, at amortized cost: | |||||||||||
Fixed maturities (fair value $44,502 in 2013 and $54,554 in 2012) | 43,351 | 54,137 | |||||||||
Fixed maturities - consolidated variable interest entities (fair value $254 in 2013 and $287 in 2012) | 256 | 289 | |||||||||
Other investments | 470 | 174 | |||||||||
Cash and cash equivalents | 2,749 | 2,041 | |||||||||
Total investments and cash | 106,712 | 118,219 | |||||||||
Receivables | 950 | 976 | |||||||||
Accrued investment income | 775 | 842 | |||||||||
Deferred policy acquisition costs | 9,173 | 9,658 | |||||||||
Property and equipment, at cost less accumulated depreciation | 510 | 564 | |||||||||
Other | 1,798 | (1) | 835 | (1) | |||||||
Total assets | $ | 119,918 | $ | 131,094 | |||||||
(1) Includes $165 in 2013 and $191 in 2012 of derivatives from consolidated variable interest entities
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) | September 30, 2013 (Unaudited) | December 31, 2012 | |||||||||
Liabilities and shareholders’ equity: | |||||||||||
Liabilities: | |||||||||||
Policy liabilities: | |||||||||||
Future policy benefits | $ | 72,744 | $ | 76,463 | |||||||
Unpaid policy claims | 3,853 | 4,034 | |||||||||
Unearned premiums | 11,601 | 11,904 | |||||||||
Other policyholders’ funds | 5,739 | 5,319 | |||||||||
Total policy liabilities | 93,937 | 97,720 | |||||||||
Income taxes | 3,255 | 3,858 | |||||||||
Payables for return of cash collateral on loaned securities | 628 | 6,277 | |||||||||
Notes payable | 4,953 | 4,352 | |||||||||
Other | 2,487 | (2) | 2,909 | (2) | |||||||
Commitments and contingent liabilities (Note 11) | |||||||||||
Total liabilities | 105,260 | 115,116 | |||||||||
Shareholders’ equity: | |||||||||||
Common stock of $.10 par value. In thousands: authorized 1,900,000 shares in 2013 and 2012; issued 666,493 shares in 2013 and 665,239 shares in 2012 | 67 | 67 | |||||||||
Additional paid-in capital | 1,605 | 1,505 | |||||||||
Retained earnings | 19,380 | 17,387 | |||||||||
Accumulated other comprehensive income (loss): | |||||||||||
Unrealized foreign currency translation gains (losses) | (418 | ) | 333 | ||||||||
Unrealized gains (losses) on investment securities | 143 | 2,570 | |||||||||
Unrealized gains (losses) on derivatives | (8 | ) | (5 | ) | |||||||
Pension liability adjustment | (178 | ) | (183 | ) | |||||||
Treasury stock, at average cost | (5,933 | ) | (5,696 | ) | |||||||
Total shareholders’ equity | 14,658 | 15,978 | |||||||||
Total liabilities and shareholders’ equity | $ | 119,918 | $ | 131,094 | |||||||
(2) Includes $247 in 2013 and $399 in 2012 of derivatives from consolidated variable interest entities
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) | 2013 | 2012 | |||||||||
Common stock: | |||||||||||
Balance, beginning of period | $ | 67 | $ | 66 | |||||||
Balance, end of period | 67 | 66 | |||||||||
Additional paid-in capital: | |||||||||||
Balance, beginning of period | 1,505 | 1,408 | |||||||||
Exercise of stock options | 38 | 19 | |||||||||
Share-based compensation | 22 | 25 | |||||||||
Gain (loss) on treasury stock reissued | 40 | 21 | |||||||||
Balance, end of period | 1,605 | 1,473 | |||||||||
Retained earnings: | |||||||||||
Balance, beginning of period | 17,387 | 15,148 | |||||||||
Net earnings | 2,483 | 2,285 | |||||||||
Dividends to shareholders | (490 | ) | (464 | ) | |||||||
Balance, end of period | 19,380 | 16,969 | |||||||||
Accumulated other comprehensive income (loss): | |||||||||||
Balance, beginning of period | 2,715 | 1,965 | |||||||||
Unrealized foreign currency translation gains (losses) during period, net of income taxes | (751 | ) | 27 | ||||||||
Unrealized gains (losses) on investment securities during period, net of income taxes and reclassification adjustments | (2,427 | ) | 1,117 | ||||||||
Unrealized gains (losses) on derivatives during period, net of income taxes | (3 | ) | (4 | ) | |||||||
Pension liability adjustment during period, net of income taxes | 5 | (18 | ) | ||||||||
Balance, end of period | (461 | ) | 3,087 | ||||||||
Treasury stock: | |||||||||||
Balance, beginning of period | (5,696 | ) | (5,641 | ) | |||||||
Purchases of treasury stock | (307 | ) | (13 | ) | |||||||
Cost of shares issued | 70 | 44 | |||||||||
Balance, end of period | (5,933 | ) | (5,610 | ) | |||||||
Total shareholders’ equity | $ | 14,658 | $ | 15,985 | |||||||
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) | 2013 | 2012 | |||||||||
Cash flows from operating activities: | |||||||||||
Net earnings | $ | 2,483 | $ | 2,285 | |||||||
Adjustments to reconcile net earnings to net cash provided by operating activities: | |||||||||||
Change in receivables and advance premiums | (29 | ) | (203 | ) | |||||||
Increase in deferred policy acquisition costs | (319 | ) | (481 | ) | |||||||
Increase in policy liabilities | 5,653 | 9,371 | |||||||||
Change in income tax liabilities | 422 | 385 | |||||||||
Realized investment (gains) losses | (379 | ) | 177 | ||||||||
Other, net | (672 | ) | (83 | ) | |||||||
Net cash provided (used) by operating activities | 7,159 | 11,451 | |||||||||
Cash flows from investing activities: | |||||||||||
Proceeds from investments sold or matured: | |||||||||||
Securities available for sale: | |||||||||||
Fixed maturities sold | 9,354 | 5,376 | |||||||||
Fixed maturities matured or called | 2,049 | 1,616 | |||||||||
Perpetual securities sold | 212 | 1,389 | |||||||||
Perpetual securities matured or called | 259 | 378 | |||||||||
Securities held to maturity: | |||||||||||
Fixed maturities matured or called | 5,619 | 1,579 | |||||||||
Costs of investments acquired: | |||||||||||
Available-for-sale fixed maturities acquired | (16,937 | ) | (12,815 | ) | |||||||
Held-to-maturity fixed maturities acquired | (1,180 | ) | (15,629 | ) | |||||||
Settlement of derivatives | (1,496 | ) | 0 | ||||||||
Cash received as collateral on loaned securities, net | (5,606 | ) | 5,752 | ||||||||
Other, net | 205 | (145 | ) | ||||||||
Net cash provided (used) by investing activities | (7,521 | ) | (12,499 | ) | |||||||
Cash flows from financing activities: | |||||||||||
Purchases of treasury stock | (307 | ) | (13 | ) | |||||||
Proceeds from borrowings | 700 | 1,456 | |||||||||
Principal payments under debt obligations | 0 | (340 | ) | ||||||||
Dividends paid to shareholders | (472 | ) | (445 | ) | |||||||
Change in investment-type contracts, net | 1,138 | 1,095 | |||||||||
Treasury stock reissued | 59 | 19 | |||||||||
Other, net | 15 | 9 | |||||||||
Net cash provided (used) by financing activities | 1,133 | 1,781 | |||||||||
Effect of exchange rate changes on cash and cash equivalents | (63 | ) | 3 | ||||||||
Net change in cash and cash equivalents | 708 | 736 | |||||||||
Cash and cash equivalents, beginning of period | 2,041 | 2,249 | |||||||||
Cash and cash equivalents, end of period | $ | 2,749 | $ | 2,985 | |||||||
Supplemental disclosures of cash flow information: | |||||||||||
Income taxes paid | $ | 673 | $ | 762 | |||||||
Interest paid | 139 | 119 | |||||||||
Noncash interest | 72 | (1) | 66 | (1) | |||||||
Impairment losses included in realized investment losses | 65 | 643 | |||||||||
Noncash financing activities: | |||||||||||
Capitalized lease obligations | 0 | 3 | |||||||||
Treasury stock issued for: | |||||||||||
Associate stock bonus | 28 | 24 | |||||||||
Shareholder dividend reinvestment | 18 | 19 | |||||||||
Share-based compensation grants | 5 | 3 | |||||||||
(1) Consists primarily of accreted interest on discounted advance premiums
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 75% and 78% of the Company's total revenues in the nine-month periods ended September 30, 2013, and 2012, respectively. The percentage of the Company's total assets attributable to Aflac Japan was 85% at September 30, 2013, and 87% at December 31, 2012.
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, 2013, and December 31, 2012, the consolidated statements of earnings and comprehensive income (loss) for the three- and nine-month periods ended September 30, 2013, and 2012, and the consolidated statements of shareholders' equity and cash flows for the nine-month periods ended September 30, 2013, and 2012. 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, 2012.
Significant Accounting Policies
We have updated the disclosure in the accounting policy for income taxes and have added our accounting policy for reinsurance. All other categories of significant accounting policies remain unchanged from our annual report to shareholders for the year ended December 31, 2012.
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
9
established for deferred tax assets when it is more likely than not that an amount will not be realized. In the second quarter of 2013, we recorded a valuation allowance of $237 million related to the deferred tax assets associated with our unrealized investment losses recorded in other comprehensive income. In the third quarter of 2013, we released this $237 million valuation allowance because it was more likely than not that the deferred tax assets related to unrealized investment losses will be realized in the future.
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, 2012, Aflac Japan maintains certain dollar-denominated investments. While there are no translation effects to record in other comprehensive income (loss), the deferred tax expense or benefit associated with foreign exchange gains or losses on this portfolio is recognized in other comprehensive income (loss) 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 $38 million during the three-month period ended September 30, 2013, and a tax benefit of $86 million during the three-month period ended September 30, 2012, for these dollar-denominated investments. Excluding these amounts from total taxes on other comprehensive income (loss) would result in an effective income tax rate on pretax other comprehensive income (loss) of (102.3)% and 34.4% in the three-month periods ended September 30, 2013 and 2012, respectively. In addition, excluding the release of the tax valuation allowance in the three-month period ended September 30, 2013, the effective income tax rate on pretax other comprehensive income (loss) would have been 38.8%. Total income tax expense (benefit) related to items of other comprehensive income (loss) included tax expense of $614 million during the nine-month period ended September 30, 2013, and a tax benefit of $25 million during the nine-month period ended September 30, 2012, for these dollar-denominated investments. Excluding these amounts from total taxes on other comprehensive income (loss) would result in an effective income tax rate on pretax other comprehensive income (loss) of 38.1% and 35.2% in the nine-month periods ended September 30, 2013 and 2012, respectively.
Reinsurance: We enter into reinsurance agreements with other companies in the normal course of business. For each of our reinsurance agreements, we determine if the agreement provides indemnification against loss or liability relating to insurance risk in accordance with applicable accounting standards. Reinsurance premiums and benefits paid or provided are accounted for on bases consistent with those used in accounting for the original policies issued and the terms of the reinsurance contracts. Premiums, benefits and deferred acquisition costs (DAC) are reported net of insurance ceded. See Note 6 of the Notes to the Consolidated Financial Statements for additional information.
Reclassifications: Certain reclassifications have been made to prior-year amounts to conform to current-year reporting classifications. These reclassifications had no impact on net earnings or total shareholders' equity.
New Accounting Pronouncements
Recently Adopted Accounting Pronouncements
Derivatives and hedging: In July 2013, the FASB issued an update which allows entities to use the Federal Funds Effective Swap Rate, also referred to as the Overnight Index Swap Rate (OIS), as a benchmark interest rate for hedge accounting purposes. Previously the only acceptable benchmark rates for hedge accounting purposes under GAAP were U.S. Treasury rates and the London Interbank Offered Rate (LIBOR) swap rate. This update reflects the evolution of market hedging practices and is intended to provide more flexibility in hedging interest rate risk. We adopted this guidance in the third quarter of 2013 on a prospective basis for qualifying new or redesignated hedging relationships entered into on or after the effective date of July 17, 2013. The adoption of the guidance had no impact on our financial position or results of operations.
Reporting of amounts reclassified out of accumulated other comprehensive income: In February 2013, the FASB issued guidance that requires reclassification adjustments for items that are reclassified out of accumulated other comprehensive income to net income to be presented in statements where the components of net income and the components of other comprehensive income are presented or in the footnotes to the financial statements. Additionally, the amendment requires cross-referencing to other disclosures currently required for other reclassification items. We adopted this guidance as of January 1, 2013. The adoption of this guidance impacted our financial statement disclosures, but it did not have an impact on our financial position or results of operations.
Disclosures about offsetting assets and liabilities: In December 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 are required to disclose gross and net
10
information about both instruments and transactions eligible for offset in the statement of financial position and instruments and transactions when those activities are subject to an agreement similar to a master netting arrangement. The scope of this guidance was clarified and revised in January 2013 to apply to derivatives, repurchase agreements, reverse repurchase agreements, securities borrowing and securities lending arrangements. The objective of this disclosure is to move toward consistency between U.S. GAAP and International Financial Reporting Standards (IFRS). We adopted this guidance as of January 1, 2013. The adoption of this guidance impacted our financial statement disclosures, but it did not have an impact on our financial position or results of operations.
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 shareholders' 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.
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 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 $391 million and an after-tax cumulative reduction to unrealized foreign currency translation gains in accumulated other comprehensive income of $67 million, resulting in a total reduction to shareholders' equity of $458 million as of December 31, 2009 (the opening balance sheet date in our annual report on Form 10-K for the year ended December 31, 2012). The adoption of this accounting standard had an immaterial impact on net income in 2011 and for all preceding years.
Accounting Pronouncements Pending Adoption
Presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists: In July 2013, the FASB issued guidance to amend the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. The new guidance essentially states that an unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward. However, to the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date under the tax law of the applicable jurisdiction to settle any additional income taxes that would result from the disallowance of a tax position or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit should be presented in the financial statements as a liability and should not be combined with deferred tax assets. This accounting standard applies to all entities that have unrecognized tax benefits when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists at the reporting date. This guidance is effective for annual reporting periods beginning on or after December 15, 2013, and interim periods within those annual periods and requires prospective presentation for all comparative periods presented. The adoption of this guidance will not have a significant impact on our financial statements.
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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, 2012.
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 includes interest cash flows associated with notes payable and 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:
Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||
(In millions) | 2013 | 2012 | 2013 | 2012 | ||||||||||||
Revenues: | ||||||||||||||||
Aflac Japan: | ||||||||||||||||
Earned premiums | $ | 3,735 | $ | 4,405 | $ | 11,357 | $ | 12,769 | ||||||||
Net investment income | 659 | 713 | 1,986 | 2,134 | ||||||||||||
Other income | 8 | 22 | 46 | 38 | ||||||||||||
Total Aflac Japan | 4,402 | 5,140 | 13,389 | 14,941 | ||||||||||||
Aflac U.S.: | ||||||||||||||||
Earned premiums | 1,293 | 1,254 | 3,868 | 3,736 | ||||||||||||
Net investment income | 159 | 153 | 473 | 457 | ||||||||||||
Other income | 1 | 5 | 4 | 10 | ||||||||||||
Total Aflac U.S. | 1,453 | 1,412 | 4,345 | 4,203 | ||||||||||||
Other business segments | 11 | 10 | 38 | 40 | ||||||||||||
Total business segment revenues | 5,866 | 6,562 | 17,772 | 19,184 | ||||||||||||
Realized investment gains (losses) | 22 | 286 | 379 | (177 | ) | |||||||||||
Corporate | 71 | 65 | 229 | 197 | ||||||||||||
Intercompany eliminations | (73 | ) | (66 | ) | (242 | ) | (215 | ) | ||||||||
Total revenues | $ | 5,886 | $ | 6,847 | $ | 18,138 | $ | 18,989 | ||||||||
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Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||
(In millions) | 2013 | 2012 | 2013 | 2012 | ||||||||||||
Pretax earnings: | ||||||||||||||||
Aflac Japan | $ | 846 | $ | 994 | $ | 2,775 | $ | 2,998 | ||||||||
Aflac U.S. | 269 | 260 | 833 | 789 | ||||||||||||
Total business segment pretax operating earnings | 1,115 | 1,254 | 3,608 | 3,787 | ||||||||||||
Interest expense, noninsurance operations | (50 | ) | (45 | ) | (147 | ) | (134 | ) | ||||||||
Corporate and eliminations | (18 | ) | (15 | ) | (52 | ) | (53 | ) | ||||||||
Pretax operating earnings | 1,047 | 1,194 | 3,409 | 3,600 | ||||||||||||
Realized investment gains (losses) | 22 | 286 | 379 | (177 | ) | |||||||||||
Total earnings before income taxes | $ | 1,069 | $ | 1,480 | $ | 3,788 | $ | 3,423 | ||||||||
Income taxes applicable to pretax operating earnings | $ | 360 | $ | 363 | $ | 1,173 | $ | 1,200 | ||||||||
Effect of foreign currency translation on operating earnings | (97 | ) | 2 | (271 | ) | 28 | ||||||||||
Assets were as follows:
(In millions) | September 30, 2013 | December 31, 2012 | |||||||||
Assets: | |||||||||||
Aflac Japan | $ | 101,471 | $ | 113,678 | |||||||
Aflac U.S. | 16,135 | 16,122 | |||||||||
Other business segments | 153 | 154 | |||||||||
Total business segment assets | 117,759 | 129,954 | |||||||||
Corporate | 19,821 | 20,318 | |||||||||
Intercompany eliminations | (17,662 | ) | (19,178 | ) | |||||||
Total assets | $ | 119,918 | $ | 131,094 | |||||||
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.
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September 30, 2013 | |||||||||||||||||||||||
(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 | $ | 12,744 | $ | 445 | $ | 22 | $ | 13,167 | |||||||||||||||
Mortgage- and asset-backed securities | 614 | 34 | 0 | 648 | |||||||||||||||||||
Public utilities | 2,816 | 96 | 78 | 2,834 | |||||||||||||||||||
Sovereign and supranational | 1,055 | 82 | 0 | 1,137 | |||||||||||||||||||
Banks/financial institutions | 3,088 | 163 | 322 | 2,929 | |||||||||||||||||||
Other corporate | 4,178 | 139 | 247 | 4,070 | |||||||||||||||||||
Total yen-denominated | 24,495 | 959 | 669 | 24,785 | |||||||||||||||||||
Dollar-denominated: | |||||||||||||||||||||||
U.S. government and agencies | 93 | 9 | 3 | 99 | |||||||||||||||||||
Municipalities | 1,016 | 56 | 15 | 1,057 | |||||||||||||||||||
Mortgage- and asset-backed securities | 167 | 17 | 0 | 184 | |||||||||||||||||||
Public utilities | 5,018 | 369 | 206 | 5,181 | |||||||||||||||||||
Sovereign and supranational | 462 | 82 | 1 | 543 | |||||||||||||||||||
Banks/financial institutions | 3,527 | 329 | 48 | 3,808 | |||||||||||||||||||
Other corporate | 21,633 | 911 | 1,278 | 21,266 | |||||||||||||||||||
Total dollar-denominated | 31,916 | 1,773 | 1,551 | 32,138 | |||||||||||||||||||
Total fixed maturities | 56,411 | 2,732 | 2,220 | 56,923 | |||||||||||||||||||
Perpetual securities: | |||||||||||||||||||||||
Yen-denominated: | |||||||||||||||||||||||
Banks/financial institutions | 2,811 | 108 | 403 | 2,516 | |||||||||||||||||||
Other corporate | 274 | 0 | 65 | 209 | |||||||||||||||||||
Dollar-denominated: | |||||||||||||||||||||||
Banks/financial institutions | 208 | 22 | 14 | 216 | |||||||||||||||||||
Total perpetual securities | 3,293 | 130 | 482 | 2,941 | |||||||||||||||||||
Equity securities | 18 | 5 | 1 | 22 | |||||||||||||||||||
Total securities available for sale | $ | 59,722 | $ | 2,867 | $ | 2,703 | $ | 59,886 | |||||||||||||||
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September 30, 2013 | |||||||||||||||||||||||
(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 | $ | 24,708 | $ | 1,366 | $ | 0 | $ | 26,074 | |||||||||||||||
Municipalities | 432 | 49 | 0 | 481 | |||||||||||||||||||
Mortgage- and asset-backed securities | 66 | 3 | 0 | 69 | |||||||||||||||||||
Public utilities | 4,359 | 168 | 184 | 4,343 | |||||||||||||||||||
Sovereign and supranational | 3,219 | 160 | 104 | 3,275 | |||||||||||||||||||
Banks/financial institutions | 6,905 | 143 | 493 | 6,555 | |||||||||||||||||||
Other corporate | 3,918 | 213 | 172 | 3,959 | |||||||||||||||||||
Total yen-denominated | 43,607 | 2,102 | 953 | 44,756 | |||||||||||||||||||
Total securities held to maturity | $ | 43,607 | $ | 2,102 | $ | 953 | $ | 44,756 | |||||||||||||||
December 31, 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 | $ | 12,612 | $ | 349 | $ | 81 | $ | 12,880 | |||||||||||||||
Mortgage- and asset-backed securities | 746 | 40 | 1 | 785 | |||||||||||||||||||
Public utilities | 3,608 | 116 | 72 | 3,652 | |||||||||||||||||||
Sovereign and supranational | 1,404 | 71 | 0 | 1,475 | |||||||||||||||||||
Banks/financial institutions | 3,455 | 233 | 180 | 3,508 | |||||||||||||||||||
Other corporate | 5,656 | 241 | 153 | 5,744 | |||||||||||||||||||
Total yen-denominated | 27,481 | 1,050 | 487 | 28,044 | |||||||||||||||||||
Dollar-denominated: | |||||||||||||||||||||||
U.S. government and agencies | 93 | 24 | 0 | 117 | |||||||||||||||||||
Municipalities | 1,045 | 156 | 6 | 1,195 | |||||||||||||||||||
Mortgage- and asset-backed securities | 188 | 58 | 0 | 246 | |||||||||||||||||||
Public utilities | 4,204 | 658 | 17 | 4,845 | |||||||||||||||||||
Sovereign and supranational | 476 | 123 | 2 | 597 | |||||||||||||||||||
Banks/financial institutions | 3,626 | 506 | 6 | 4,126 | |||||||||||||||||||
Other corporate | 16,300 | 1,878 | 95 | 18,083 | |||||||||||||||||||
Total dollar-denominated | 25,932 | 3,403 | 126 | 29,209 | |||||||||||||||||||
Total fixed maturities | 53,413 | 4,453 | 613 | 57,253 | |||||||||||||||||||
Perpetual securities: | |||||||||||||||||||||||
Yen-denominated: | |||||||||||||||||||||||
Banks/financial institutions | 3,635 | 193 | 161 | 3,667 | |||||||||||||||||||
Other corporate | 309 | 43 | 0 | 352 | |||||||||||||||||||
Dollar-denominated: | |||||||||||||||||||||||
Banks/financial institutions | 269 | 23 | 9 | 283 | |||||||||||||||||||
Total perpetual securities | 4,213 | 259 | 170 | 4,302 | |||||||||||||||||||
Equity securities | 20 | 4 | 1 | 23 | |||||||||||||||||||
Total securities available for sale | $ | 57,646 | $ | 4,716 | $ | 784 | $ | 61,578 | |||||||||||||||
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December 31, 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 | $ | 32,043 | |||||||||||||||||||||