Lincoln National Corporation — Q1 2013 Form 10-Q
Reporting period: Three months ended March 31, 2013; financial statements are unaudited. Lincoln National operates Annuities, Retirement Plan Services, Life Insurance and Group Protection businesses, plus Other Operations. Amounts below are in millions except per-share data, percentages and where stated.
Financial performance and condition
| Metric | Q1 2013 | Q1 2012 / prior period |
|---|---|---|
| Total revenue | $2,844 | $2,710; up 5% |
| Income before tax | $305 | $308 |
| Net income | $239 | $243 |
| Diluted EPS | $0.86 | $0.82 |
| Comprehensive income | $12 | $186 |
| Operating cash flow | $(251) | $282 |
| Investing cash flow | $(1,289) | $(1,913) |
| Financing cash flow | $417 | $637 |
Consolidated net margin was approximately 8.4%, compared with 9.0% in Q1 2012; pretax margin was approximately 10.7%, compared with 11.4%. These are simple ratios of reported income to revenue, not company-defined operating margins. Net investment income declined to $1,150 from $1,166. Total realized losses improved to $54 from $85.
Segment operating income after tax was $159 for Annuities (up 16%), $35 for Retirement Plan Services (flat), $112 for Life Insurance (down 19%), $14 for Group Protection (down 13%) and $(35) for Other Operations (versus $(34)). These segment measures exclude specified items and are not equivalent to GAAP net income.
At March 31, total assets were $224,341, versus $218,869 at December 31, 2012; total liabilities were $209,479, versus $203,896. Stockholders’ equity was $14,862, versus $14,973. Investments totaled $99,285, while cash and invested cash declined to $3,107 from $4,230. Separate-account assets and liabilities each rose to $101,366 from $95,373.
Short-term debt was $706 and long-term debt $4,889, compared with $200 and $5,439, respectively, at year-end. The filing attributes much of the movement to reclassification of $506 of long-term debt to current maturities; combined short- and long-term debt was $5,595 versus $5,639. Holding-company available liquidity was $647 at quarter-end.
Changes and operating drivers
- Total deposits increased 19% to $6,126; total net flows rose 67% to $2,077. Account values across Annuities, Retirement Plan Services and Life Insurance were $185,874, up 10% from a year earlier.
- Net income was lower, primarily from higher death claims, spread compression as new-money rates remained below portfolio yields, and weaker alternative-investment income. Growth in account values, insurance in force and group premiums partly offset these pressures.
- Annuities income benefited from higher fees and account values; lower interest credited helped, while commissions and benefits increased. Retirement Plan Services earnings were unchanged as higher fees were offset by expenses and spread pressure.
- Life Insurance earnings fell with higher death benefits and lower investment income, including alternative investments. Group Protection earnings declined amid higher expenses and adverse life mortality experience.
- Other comprehensive income was $(227), versus $(57), primarily reflecting unrealized investment-related changes. Consequently, comprehensive income was $12 despite positive net income.
- Operating cash flow moved from positive $282 to negative $251, which management attributed primarily to timing of receipts and payments. Cash and invested cash fell by $1,123 during the quarter.
Outlook, risks and contingencies
- No specific consolidated earnings or revenue guidance was provided. Management said results for the quarter are not necessarily indicative of full-year 2013 results.
- Management expects to manage near-term interest spreads through portfolio management and, to a lesser extent, crediting-rate actions. Retirement Plan Services expects continued variability in net flows from the timing of large plans and higher infrastructure and distribution investment costs in 2013.
- Group Protection’s first-quarter non-medical loss ratio was 74.8%, above its stated long-term expectation of 71%–74%; management expected ratios to remain at the high end of that range during 2013. Each one-percentage-point increase above expectation was estimated to reduce annual operating income by approximately $11–$13.
- Low or falling interest rates may pressure investment income and spreads, increase withdrawals, and constrain product pricing or sales. Equity declines could reduce fee revenue and raise guaranteed-benefit liabilities. The filing also identifies credit, hedging, reinsurance, regulatory, tax, rating, operational and litigation risks.
- Approximately 71% of variable-annuity account values included guaranteed living-benefit features. Six percent of in-force contracts with such features were “in the money” at March 31, 2013; after-reinsurance exposure was $415, down from $548 a year earlier. Changes in equity markets, volatility and credit spreads can materially affect hedge and reserve results.
- Revised statutory reserving rules for certain term and secondary-guarantee life products may increase reserve strain on new business. Management said it was using reinsurance, letters of credit and capital-market solutions and believed subsidiaries had sufficient capital under current projections.
- Management reported pending or threatened legal and regulatory matters, including class actions, but said currently known matters were not expected to materially adversely affect financial position. Some potential losses could not be estimated as of quarter-end.
- The company repurchased $100 of common stock and paid $33 in common dividends during the quarter. The quarterly dividend had been raised to $0.12 per share; management expected further repurchases in 2013 subject to market conditions and capital needs.
Key facts for investors to verify
- Whether the negative operating cash flow was principally timing-related and how cash generation and collateral movements develop in subsequent quarters.
- Whether low reinvestment yields continue to compress spreads, particularly in Life Insurance and Retirement Plan Services, and the extent to which crediting-rate actions offset the pressure.
- Mortality and claims trends, including Group Protection’s loss ratio relative to the stated 71%–74% long-term range.
- Variable-annuity guarantee exposure, hedge effectiveness and the sensitivity of reported results to credit-spread and market-volatility assumptions.
- Progress in meeting statutory reserve requirements for secondary-guarantee products, availability and cost of reserve-financing arrangements, and subsidiary dividend capacity.
- Investment credit quality and impairment assumptions: 95.3% of fixed-maturity AFS securities were rated investment grade; management considered unrealized losses recoverable and did not expect forced sales.
- Holding-company liquidity, upcoming debt maturities and the capital impact of planned dividends and share repurchases.