Lincoln National Corporation — Q3 2023 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2023. Lincoln National is an insurance and retirement-services holding company with Annuities, Life Insurance, Group Protection and Retirement Plan Services segments. Amounts below are in millions unless stated otherwise.
Financial performance and position
| Metric | Q3 2023 | Q3 2022 | Nine months 2023 | Nine months 2022 |
|---|---|---|---|---|
| Total revenues | $4,203 | $4,672 | $10,946 | $14,969 |
| Net income (loss) | $853 | $(1,776) | $483 | $545 |
| Diluted EPS | $4.79 | $(10.47) | $2.40 | $3.10 |
| Operating cash flow | Not separately provided for quarter | $(206) | $3,015 |
- Q3’s $853 net income included a $1,428 market-risk-benefit gain, while realized investment losses were $453. For the nine months, realized losses were $3,066, including $1,091 of pre-tax impairments on securities intended for sale in the Fortitude Re transaction.
- Nine-month net investment income rose to $4,468 from $4,105. The reported nine-month effective tax rate was negative 4%; tax benefit was $17 on $466 of pre-tax income.
- At September 30, total assets were $338.4 billion and liabilities $335.2 billion. Stockholders’ equity was $3.2 billion, down from $5.1 billion at year-end 2022, largely reflecting a $2.1 billion nine-month other comprehensive loss.
- Cash and invested cash was $2.5 billion, versus $3.3 billion at year-end. Long-term debt was $5.9 billion; short-term debt was zero after repayment of $500 million of notes in September. The company also reported $8.0 billion of payables for collateral on investments.
- Fixed maturity AFS securities were $97.8 billion at fair value against $112.0 billion amortized cost. Unrealized losses increased $1.8 billion during the first nine months; management attributed most losses outside the Fortitude sale portfolio to interest rates and spreads, not credit deterioration.
- Group Protection’s nine-month operating income rose to $247 from $15; its total loss ratio improved to 73.8% from 83.0%. Segment operating income fell in Annuities ($794 versus $886) and Retirement Plan Services ($133 versus $159); Life Insurance reported an operating loss of $153, improved from a $2,085 loss.
Material changes versus prior periods
- Q3 net income improved substantially from the prior-year loss, supported by lower unfavorable assumption-review impacts, the absence of the 2022 Life Insurance goodwill impairment, favorable annuity MRB effects and improved Group Protection claims experience. The quarter was partly offset by Fortitude-related investment impairments.
- Nine-month net income declined from $545 to $483. Lower annuity product-feature gains, investment impairments, VUL hedge losses and higher operating costs outweighed improved Group Protection results and less adverse assumption updates.
- Lincoln adopted long-duration insurance accounting standard ASU 2018-12 on January 1, 2023, with a transition date of January 1, 2021. Comparisons with prior-year results reflect the standard’s revised measurement and presentation.
Outlook, risks and unusual items
- On May 2, 2023, Lincoln agreed to reinsure approximately $28 billion of in-force UL with secondary guarantees, MoneyGuard and fixed-annuity statutory reserves with Fortitude Re. The transaction remained subject to customary closing conditions, including regulatory approvals. Management expects it to reduce balance-sheet risk, strengthen capital and improve free cash flow. Upon closing, the company expects Annuities operating income to increase about $5 million per quarter and Life Insurance operating income to decrease about $25–$30 million per quarter.
- Higher interest rates contributed to increased annuity surrenders: outflows as a percentage of average gross Annuities account balances were 9% for both the quarter and nine-month period, versus 7% in the comparable 2022 periods. Management cited rising rates as a driver and expects to manage spreads through portfolio and, to a lesser extent, crediting-rate actions.
- Management said it expects to meet ongoing holding-company cash needs and believes capital is adequate while statutory capital is replenished toward targeted levels. Operating activities used $206 million of cash in the first nine months. LNL had $5.1 billion of maximum available FHLBI borrowing based on qualifying collateral; $2.9 billion was outstanding. Derivative collateral payable was $4.3 billion net.
- Moody’s downgraded LNC’s issuer rating to Baa2 and the financial-strength ratings of key insurance subsidiaries to A2 on October 9, 2023, after quarter-end; outlooks were revised to stable. The filing warns that further rating deterioration could affect liquidity, sales, surrenders and derivative agreements.
- Disclosure controls and procedures were deemed ineffective at September 30 due to a previously reported material weakness in management review controls over significant reinsurance transactions. Remediation steps were underway; management said it was on track to complete testing and remediation before year-end 2023, subject to effective operation and testing.
- The Fortitude transaction-related securities impairment was $1.1 billion pre-tax for the nine months. The portfolio also included approximately $208 million of pre-tax unrealized gains expected to be recognized when the transaction closes.
- Lincoln estimated reasonably possible aggregate litigation losses of up to approximately $190 million after tax, including exposures above accrued amounts; this is not an estimate of expected or maximum loss. Two cost-of-insurance class-action matters received final approval of a combined settlement with a reduced $109.96 million pre-tax cash fund and a five-year rate freeze on October 5, 2023.
Important facts for investors to verify
- Whether and when the Fortitude Re transaction closes, its final capital and cash-flow effects, and the expected segment earnings changes.
- Progress and testing results for remediation of the material weakness in reinsurance-transaction review controls.
- Effects of the October 2023 Moody’s downgrades on subsidiary dividend capacity, collateral requirements, policyholder behavior and distribution.
- Trends in annuity surrenders, fixed-account flows, investment spreads and derivative collateral needs as interest rates and markets change.
- Realization of deferred tax assets, including the approximately $2.1 billion asset tied to unrealized AFS losses and the approximately $840 million tied to the Fortitude-related investment portfolio.
- Developments in pending cost-of-insurance litigation and other contingencies; the filing does not quantify potential losses for certain individual matters.