Edgar Filing: AMERICAN EQUITY INVESTMENT LIFE HOLDING CO

2014-06-30_AEL 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 June 30, 2014



o	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 : 001-31911

American Equity Investment Life Holding Company

(Exact name of registrant as specified in its charter)



Iowa		42-1447959
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

6000 Westown Parkway

West Des Moines, Iowa 50266

(Address of principal executive offices, including zip code)

(515) 221-0002

(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

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). Yes x No o

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. (Check one):



Large accelerated filer x		Accelerated filer o
Non-accelerated filer o		Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

APPLICABLE TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date:

As of July 31, 2014, there were 74,798,714 shares of the registrant's common stock, $1 par value, outstanding.

TABLE OF CONTENTS



	Page
PART I — FINANCIAL INFORMATION
Item 1: Financial Statements:	2
Consolidated Balance Sheets	2
Consolidated Statements of Operations	3
Consolidated Statements of Comprehensive Income (Loss)	4
Consolidated Statements of Changes in Stockholders’ Equity	5
Consolidated Statements of Cash Flows	6
Notes to Consolidated Financial Statements	8
Note 1: Significant Accounting Policies	8
Note 2: Fair Values of Financial Instruments	9
Note 3: Investments	14
Note 4: Mortgage Loans on Real Estate	21
Note 5: Derivative Instruments	26
Note 6: Notes Payable	29
Note 7: Commitments and Contingencies	30
Note 8: Earnings Per Share	31
Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations	32
Item 3: Quantitative and Qualitative Disclosures about Market Risk	50
Item 4: Controls and Procedures	52

PART II — OTHER INFORMATION
Item 1: Legal Proceedings	53
Item 1A: Risk Factors	53
Item 2: Unregistered Sales of Equity Securities and Use of Proceeds	53
Item 6: Exhibits	54

Signatures	55

Table of Contents

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

AMERICAN EQUITY INVESTMENT LIFE HOLDING COMPANY AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share and per share data)



	June 30, 2014		December 31, 2013
	(Unaudited)
Assets
Investments:
Fixed maturity securities:
Available for sale, at fair value (amortized cost: 2014 - $27,540,945; 2013 - $26,527,730)	$	29,317,572	$	26,610,447
Held for investment, at amortized cost (fair value: 2014 - $66,571; 2013 - $60,840)	76,342		76,255
Equity securities, available for sale, at fair value (cost: 2014 - $7,506; 2013 - $7,503)	7,762		7,778
Mortgage loans on real estate	2,543,810		2,581,082
Derivative instruments	905,688		856,050
Other investments	221,459		215,042
Total investments	33,072,633		30,346,654

Cash and cash equivalents	1,464,533		897,529
Coinsurance deposits	3,085,340		2,999,618
Accrued investment income	304,041		301,641
Deferred policy acquisition costs	2,040,084		2,426,652
Deferred sales inducements	1,578,621		1,875,880
Deferred income taxes	73,564		301,856
Income taxes recoverable	26,934		—
Other assets	357,946		471,669
Total assets	$	42,003,696	$	39,621,499

Liabilities and Stockholders' Equity
Liabilities:
Policy benefit reserves	$	37,876,044	$	35,789,655
Other policy funds and contract claims	391,979		418,033
Notes payable	474,361		549,958
Subordinated debentures	246,145		246,050
Income taxes payable	—		10,153
Other liabilities	1,101,357		1,222,963
Total liabilities	40,089,886		38,236,812

Stockholders' equity:
Preferred stock, par value $1 per share, 2,000,000 shares authorized, 2014 and 2013 - no shares issued and outstanding	—		—
Common stock, par value $1 per share, 200,000,000 shares authorized; issued and outstanding: 2014 - 74,088,743 shares (excluding 4,527,167 treasury shares); 2013 - 70,535,404 shares (excluding 4,876,735 treasury shares)	74,089		70,535
Additional paid-in capital	538,472		550,400
Unallocated common stock held by ESOP; 2013 - 58,618 shares	—		(631		)
Accumulated other comprehensive income	556,071		46,196
Retained earnings	745,178		718,187
Total stockholders' equity	1,913,810		1,384,687
Total liabilities and stockholders' equity	$	42,003,696	$	39,621,499

See accompanying notes to unaudited consolidated financial statements.

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AMERICAN EQUITY INVESTMENT LIFE HOLDING COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(Dollars in thousands, except per share data)

(Unaudited)



	Three Months Ended June 30,						Six Months Ended June 30,
	2014			2013			2014			2013
Revenues:
Premiums and other considerations	$	9,123		$	11,551		$	16,454		$	24,635
Annuity product charges	29,247			23,511			54,519			44,992
Net investment income	370,882			336,143			740,887			665,833
Change in fair value of derivatives	270,883			64,040			319,376			438,002
Net realized gains (losses) on investments, excluding other than temporary impairment ("OTTI") losses	(2,230		)	15,689			(2,944		)	26,274
OTTI losses on investments:
Total OTTI losses	—			(2,775		)	—			(4,964		)
Portion of OTTI losses recognized from other comprehensive income	(594		)	—			(1,499		)	(1,048		)
Net OTTI losses recognized in operations	(594		)	(2,775		)	(1,499		)	(6,012		)
Loss on extinguishment of debt	(6,574		)	(589		)	(10,551		)	(589		)
Total revenues	670,737			447,570			1,116,242			1,193,135

Benefits and expenses:
Insurance policy benefits and change in future policy benefits	10,987			13,768			21,082			28,528
Interest sensitive and index product benefits	367,774			333,001			684,966			556,171
Amortization of deferred sales inducements	55,349			120,536			56,015			149,367
Change in fair value of embedded derivatives	80,935			(408,409		)	173,554			(45,137		)
Interest expense on notes payable	9,121			6,780			19,385			14,028
Interest expense on subordinated debentures	3,024			3,018			6,032			6,027
Amortization of deferred policy acquisition costs	67,084			169,270			74,278			215,500
Other operating costs and expenses	20,887			24,851			39,972			44,371
Total benefits and expenses	615,161			262,815			1,075,284			968,855
Income before income taxes	55,576			184,755			40,958			224,280
Income tax expense	18,832			64,642			13,967			78,136
Net income	$	36,744		$	120,113		$	26,991		$	146,144

Earnings per common share	$	0.49		$	1.87		$	0.37		$	2.29
Earnings per common share - assuming dilution	$	0.46		$	1.71		$	0.34		$	2.09
Weighted average common shares outstanding (in thousands):
Earnings per common share	74,461			64,254			73,495			63,787
Earnings per common share - assuming dilution	79,518			70,382			79,583			69,882

See accompanying notes to unaudited consolidated financial statements.

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AMERICAN EQUITY INVESTMENT LIFE HOLDING COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(Dollars in thousands)

(Unaudited)



	Three Months Ended June 30,						Six Months Ended June 30,
	2014			2013			2014			2013

Net income	$	36,744		$	120,113		$	26,991		$	146,144
Other comprehensive income (loss):
Change in net unrealized investment gains/losses (1)	343,316			(634,688		)	784,004			(669,871		)
Noncredit component of OTTI losses (1)	286			—			694			347
Reclassification of unrealized investment gains/losses to net income (1)	454			(7,439		)	(276		)	(11,286		)
Other comprehensive income (loss) before income tax	344,056			(642,127		)	784,422			(680,810		)
Income tax effect related to other comprehensive income (loss)	(120,420		)	224,744			(274,547		)	238,283
Other comprehensive income (loss)	223,636			(417,383		)	509,875			(442,527		)
Comprehensive income (loss)	$	260,380		$	(297,270	)	$	536,866		$	(296,383	)


(1)	Net of related adjustments to amortization of deferred sales inducements and deferred policy acquisition costs.

See accompanying notes to unaudited consolidated financial statements.

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AMERICAN EQUITY INVESTMENT LIFE HOLDING COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY

(Dollars in thousands, except share data)

(Unaudited)



	Common Stock		Additional Paid-in Capital			Unallocated Common Stock Held by ESOP			Accumulated Other Comprehensive Income			Retained Earnings		Total Stockholders' Equity

Balance at December 31, 2013	$	70,535	$	550,400		$	(631	)	$	46,196		$	718,187	$	1,384,687
Net income for period	—		—			—			—			26,991		26,991
Other comprehensive income	—		—			—			509,875			—		509,875
Allocation of 58,618 shares of common stock by ESOP, including excess income tax benefits	—		721			631			—			—		1,352
Share-based compensation, including excess income tax benefits	—		3,607			—			—			—		3,607
Issuance of 1,109,882 shares of common stock under compensation plans, including excess income tax benefits	1,110		7,720			—			—			—		8,830
Extinguishment of convertible senior notes, net of tax, including 2,443,457 shares of common stock issued upon conversion	2,444		6,479			—			—			—		8,923
Warrants settled in cash	—		(30,455		)	—			—			—		(30,455		)
Balance at June 30, 2014	$	74,089	$	538,472		$	—		$	556,071		$	745,178	$	1,913,810

Balance at December 31, 2012	$	61,751	$	496,715		$	(2,583	)	$	686,807		$	477,547	$	1,720,237
Net income for period	—		—			—			—			146,144		146,144
Other comprehensive loss	—		—			—			(442,527		)	—		(442,527		)
Allocation of 53,314 shares of common stock by ESOP, including excess income tax benefits	—		134			574			—			—		708
Share-based compensation, including excess income tax benefits	—		3,193			—			—			—		3,193
Issuance of 1,533,603 shares of common stock under compensation plans, including excess income tax benefits	1,533		11,024			—			—			—		12,557
Extinguishment of convertible senior notes, net of tax, including 216,729 shares of common stock issued upon conversion	217		1,547			—			—			—		1,764
Balance at June 30, 2013	$	63,501	$	512,613		$	(2,009	)	$	244,280		$	623,691	$	1,442,076

See accompanying notes to unaudited consolidated financial statements.

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AMERICAN EQUITY INVESTMENT LIFE HOLDING COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Dollars in thousands)

(Unaudited)



	Six Months Ended June 30,
	2014			2013
Operating activities
Net income	$	26,991		$	146,144
Adjustments to reconcile net income to net cash provided by operating activities:
Interest sensitive and index product benefits	684,966			556,171
Amortization of deferred sales inducements	56,015			149,367
Annuity product charges	(54,519		)	(44,992		)
Change in fair value of embedded derivatives	173,554			(45,137		)
Change in traditional life and accident and health insurance reserves	1,323			9,487
Policy acquisition costs deferred	(199,978		)	(205,519		)
Amortization of deferred policy acquisition costs	74,278			215,500
Provision for depreciation and other amortization	5,398			9,356
Amortization of discounts and premiums on investments	(2,424		)	9,546
Realized gains/losses on investments and net OTTI losses recognized in operations	4,443			(20,262		)
Change in fair value of derivatives	(319,853		)	(438,002		)
Deferred income taxes	(42,918		)	38,781
Loss on extinguishment of debt	10,551			589
Share-based compensation	620			3,011
Change in accrued investment income	(2,400		)	(25,859		)
Change in income taxes recoverable/payable	(37,087		)	(8,483		)
Change in other assets	(80		)	(296		)
Change in other policy funds and contract claims	(30,857		)	(20,425		)
Change in collateral held for derivatives	81,341			164,269
Change in other liabilities	(32,286		)	475
Other	(1,697		)	(2,457		)
Net cash provided by operating activities	395,381			491,264

Investing activities
Sales, maturities, or repayments of investments:
Fixed maturity securities - available for sale	939,430			2,292,959
Equity securities - available for sale	—			44,829
Mortgage loans on real estate	217,785			266,539
Derivative instruments	532,867			409,050
Other investments	13,245			11,737
Acquisition of investments:
Fixed maturity securities - available for sale	(1,993,092		)	(4,962,314		)
Mortgage loans on real estate	(193,731		)	(228,735		)
Derivative instruments	(227,024		)	(190,997		)
Other investments	(5,598		)	(19,594		)
Purchases of property, furniture and equipment	(622		)	(288		)
Net cash used in investing activities	(716,740		)	(2,376,814		)

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AMERICAN EQUITY INVESTMENT LIFE HOLDING COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)

(Dollars in thousands)

(Unaudited)



	Six Months Ended June 30,
	2014			2013
Financing activities
Receipts credited to annuity and single premium universal life policyholder account balances	$	1,950,707		$	2,033,484
Coinsurance deposits	14,113			15,960
Return of annuity policyholder account balances	(944,679		)	(829,047		)
Financing fees incurred and deferred	(100		)	(1,153		)
Proceeds from notes payable	—			15,000
Repayment of notes payable	(119,677		)	(28,243		)
Net proceeds from settlement of notes hedges and warrants	10,401			—
Proceeds from amounts due under repurchase agreements	—			160,436
Excess tax benefits realized from share-based compensation plans	3,776			380
Proceeds from issuance of common stock	8,041			12,284
Change in checks in excess of cash balance	(34,219		)	(15,207		)
Net cash provided by financing activities	888,363			1,363,894
Increase (decrease) in cash and cash equivalents	567,004			(521,656		)
Cash and cash equivalents at beginning of period	897,529			1,268,545
Cash and cash equivalents at end of period	$	1,464,533		$	746,889

Supplemental disclosures of cash flow information
Cash paid during period for:
Interest expense	$	22,097		$	12,595
Income taxes	68,423			47,700
Non-cash operating activity:
Deferral of sales inducements	155,957			164,931
Non-cash investing activity:
Real estate acquired in satisfaction of mortgage loans	10,007			844
Non-cash financing activities:
Common stock issued in extinguishment of debt	56,292			3,367

See accompanying notes to unaudited consolidated financial statements.

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AMERICAN EQUITY INVESTMENT LIFE HOLDING COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

June 30, 2014

(Unaudited)

1. Significant Accounting Policies

Consolidation and Basis of Presentation

The accompanying consolidated financial statements of American Equity Investment Life Holding Company (“we”, “us” or “our”) have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all the information and notes required by GAAP for complete financial statements. The consolidated financial statements reflect all adjustments, consisting only of normal recurring items, which are necessary to present fairly our financial position and results of operations on a basis consistent with the prior audited consolidated financial statements. Operating results for the three and six month periods ended June 30, 2014 are not necessarily indicative of the results that may be expected for the year ended December 31, 2014. All significant intercompany accounts and transactions have been eliminated. The preparation of financial statements requires the use of management estimates. For further information related to a description of areas of judgment and estimates and other information necessary to understand our financial position and results of operations, refer to the audited consolidated financial statements and notes included in our Annual Report on Form 10-K for the year ended December 31, 2013.

As previously reported in the notes to audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2013, we identified certain classification errors related to the presentation of premiums and other considerations, insurance policy benefits and change in future policy benefits and interest sensitive and index product benefits related to life contingent immediate annuities in our audited consolidated statements of operations. Consistent with that presentation, we have revised the unaudited consolidated statements of operations for the three and six months ended June 30, 2013. The changes resulted in increases to premiums and other considerations of $8.6 million and $19.0 million and insurance policy benefits and change in future policy benefits of $11.6 million and $24.7 million, as well as decreases to interest sensitive and index product benefits of $3.0 million and $5.7 million for the three and six months ended June 30, 2013, respectively. These changes had no impact on the consolidated balance sheets, net income or stockholders' equity.

Reclassifications have been made to prior period unaudited consolidated financial statements to conform to the June 30, 2014 presentation.

Adopted Accounting Pronouncements

There were no accounting pronouncements that were adopted during the current period.

New Accounting Pronouncements

In June 2014, the Financial Accounting Standards Board ("FASB") issued an accounting standards update ("ASU") that requires that a performance target in a share based payment arrangement that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. The requisite service period ends when the employee can cease rendering service and still be eligible to vest in the award if the performance target is achieved. This ASU will be effective for us on January 1, 2016, and early adoption is permitted, but it is not expected to have a material impact on our consolidated financial statements.

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2. Fair Values of Financial Instruments

The following sets forth a comparison of the carrying amounts and fair values of our financial instruments:



	June 30, 2014				December 31, 2013
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
	(Dollars in thousands)
Assets
Fixed maturity securities:
Available for sale	$	29,317,572	$	29,317,572	$	26,610,447	$	26,610,447
Held for investment	76,342		66,571		76,255		60,840
Equity securities, available for sale	7,762		7,762		7,778		7,778
Mortgage loans on real estate	2,543,810		2,596,588		2,581,082		2,615,410
Derivative instruments	905,688		905,688		856,050		856,050
Other investments	196,853		198,293		192,198		193,343
Cash and cash equivalents	1,464,533		1,464,533		897,529		897,529
Coinsurance deposits	3,085,340		2,722,024		2,999,618		2,669,432
Interest rate caps	3,788		3,788		6,103		6,103
Interest rate swap	—		—		712		712
2015 notes hedges	45,884		45,884		107,041		107,041
Counterparty collateral	261,266		261,266		315,824		315,824

Liabilities
Policy benefit reserves	37,538,232		31,279,983		35,453,166		29,670,827
Single premium immediate annuity (SPIA) benefit reserves	391,651		404,561		417,625		430,835
Notes payable	474,361		564,118		549,958		699,435
Subordinated debentures	246,145		240,767		246,050		234,959
2015 notes embedded conversion derivative	45,884		45,884		107,041		107,041
Interest rate swap	1,983		1,983		—		—

Fair value is the price that would be received to sell an asset or paid to transfer a liability (exit price) in an orderly transaction between market participants at the measurement date. The objective of a fair value measurement is to determine that price for each financial instrument at each measurement date. We meet this objective using various methods of valuation that include market, income and cost approaches.

We categorize our financial instruments into three levels of fair value hierarchy based on the priority of inputs used in determining fair value. The hierarchy defines the highest priority inputs (Level 1) as quoted prices in active markets for identical assets or liabilities. The lowest priority inputs (Level 3) are our own assumptions about what a market participant would use in determining fair value such as estimated future cash flows. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, a financial instrument's level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the financial instrument. We categorize financial assets and liabilities recorded at fair value in the consolidated balance sheets as follows:


Level 1—	Quoted prices are available in active markets for identical financial instruments as of the reporting date. We do not adjust the quoted price for these financial instruments, even in situations where we hold a large position and a sale could reasonably impact the quoted price.


Level 2—	Quoted prices in active markets for similar financial instruments, quoted prices for identical or similar financial instruments in markets that are not active; and models and other valuation methodologies using inputs other than quoted prices that are observable.

Level 3—

Models and other valuation methodologies using significant inputs that are unobservable for financial instruments and include situations where there is little, if any, market activity for the financial instrument. The inputs into the determination of fair value require significant management judgment or estimation. Financial instruments that are included in Level 3 are securities for which no market activity or data exists and for which we used discounted expected future cash flows with our own assumptions about what a market participant would use in determining fair value.

Transfers of securities among the levels occur at times and depend on the type of inputs used to determine fair value of each security. There were no transfers between levels during any period presented.

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Our assets and liabilities which are measured at fair value on a recurring basis as of June 30, 2014 and December 31, 2013 are presented below based on the fair value hierarchy levels:



	Total Fair Value		Quoted Prices in Active Markets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(Dollars in thousands)
June 30, 2014
Assets
Fixed maturity securities:
Available for sale:
United States Government full faith and credit	$	38,483	$	4,074	$	34,409	$	—
United States Government sponsored agencies	1,185,341		—		1,185,341		—
United States municipalities, states and territories	3,506,198		—		3,506,198		—
Foreign government obligations	192,963		—		192,963		—
Corporate securities	19,187,375		27		19,187,348		—
Residential mortgage backed securities	1,870,565		—		1,869,897		668
Commercial mortgage backed securities	2,296,096		—		2,296,096		—
Other asset backed securities	1,040,551		—		1,040,551		—
Equity securities, available for sale: finance, insurance and real estate	7,762		—		7,762		—
Derivative instruments	905,688		—		905,688		—
Cash and cash equivalents	1,464,533		1,464,533		—		—
Interest rate caps	3,788		—		3,788		—
2015 notes hedges	45,884		—		45,884		—
Counterparty collateral	261,266		—		261,266		—
	$	32,006,493	$	1,468,634	$	30,537,191	$	668
Liabilities
2015 notes embedded conversion derivative	$	45,884	$	—	$	45,884	$	—
Interest rate swap	1,983		—		1,983		—
Fixed index annuities - embedded derivatives	5,119,823		—		—		5,119,823
	$	5,167,690	$	—	$	47,867	$	5,119,823

December 31, 2013
Assets
Fixed maturity securities:
Available for sale:
United States Government full faith and credit	$	42,925	$	4,805	$	38,120	$	—
United States Government sponsored agencies	1,194,289		—		1,194,289		—
United States municipalities, states and territories	3,306,743		—		3,306,743		—
Foreign government obligations	91,557		—		91,557		—
Corporate securities	17,233,037		20		17,233,017		—
Residential mortgage backed securities	1,971,960		—		1,970,584		1,376
Commercial mortgage backed securities	1,735,460		—		1,735,460		—
Other asset backed securities	1,034,476		359		1,034,117		—
Equity securities, available for sale: finance, insurance and real estate	7,778		—		7,778		—
Derivative instruments	856,050		—		856,050		—
Cash and cash equivalents	897,529		897,529		—		—
Interest rate caps	6,103		—		6,103		—
Interest rate swap	712		—		712		—
2015 notes hedges	107,041		—		107,041		—
Counterparty collateral	315,824		—		315,824		—
	$	28,801,484	$	902,713	$	27,897,395	$	1,376
Liabilities
2015 notes embedded conversion derivative	$	107,041	$	—	$	107,041	$	—
Fixed index annuities - embedded derivatives	4,406,163		—		—		4,406,163
	$	4,513,204	$	—	$	107,041	$	4,406,163

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The following methods and assumptions were used in estimating the fair values of financial instruments during the periods presented in these consolidated financial statements.

Fixed maturity securities and equity securities

The fair values of fixed maturity securities and equity securities in an active and orderly market are determined by utilizing independent pricing services. The independent pricing services incorporate a variety of observable market data in their valuation techniques, including:


•	reported trading prices,


•	benchmark yields,


•	broker-dealer quotes,


•	benchmark securities,


•	bids and offers,


•	credit ratings,


•	relative credit information, and


•	other reference data.

The independent pricing services also take into account perceived market movements and sector news, as well as a security's terms and conditions, including any features specific to that issue that may influence risk and marketability. Depending on the security, the priority of the use of observable market inputs may change as some observable market inputs may not be relevant or additional inputs may be necessary.

The independent pricing services provide quoted market prices when available. Quoted prices are not always available due to market inactivity. When quoted market prices are not available, the third parties use yield data and other factors relating to instruments or securities with similar characteristics to determine fair value for securities that are not actively traded. We generally obtain one value from our primary external pricing service. In situations where a price is not available from this service, we may obtain further quotes or prices from additional parties as needed. In addition, for our callable United States Government sponsored agencies, we obtain multiple broker quotes and take the average of the broker prices received. Market indices of similar rated asset class spreads are considered for valuations and broker indications of similar securities are compared. Inputs used by the broker include market information, such as yield data and other factors relating to instruments or securities with similar characteristics. Valuations and quotes obtained from third party commercial pricing services are non-binding and do not represent quotes on which one may execute the disposition of the assets.

We validate external valuations at least quarterly through a combination of procedures that include the evaluation of methodologies used by the pricing services, analytical reviews and performance analysis of the prices against trends, and maintenance of a securities watch list. Additionally, as needed we utilize discounted cash flow models or perform independent valuations on a case-by-case basis using inputs and assumptions similar to those used by the pricing services. Although we do identify differences from time to time as a result of these validation procedures, we did not make any significant adjustments as of June 30, 2014 and December 31, 2013.

Mortgage loans on real estate

Mortgage loans on real estate are not measured at fair value on a recurring basis. The fair values of mortgage loans on real estate are calculated using discounted expected cash flows using current competitive market interest rates currently being offered for similar loans. The fair values of impaired mortgage loans on real estate that we have considered to be collateral dependent are based on the fair value of the real estate collateral (based on appraised values) less estimated costs to sell. The inputs utilized to determine fair value of all mortgage loans are unobservable market data (competitive market interest rates and appraised property values); therefore, fair value of mortgage loans falls into Level 3 in the fair value hierarchy.

Derivative instruments

The fair values of derivative instruments, primarily call options, are based upon the amount of cash that we will receive to settle each derivative instrument on the reporting date. These amounts are determined by our investment team using industry accepted valuation models and are adjusted for the nonperformance risk of each counterparty net of any collateral held. Inputs include market volatility and risk free interest rates and are used in income valuation techniques in arriving at a fair value for each option contract. The nonperformance risk for each counterparty is based upon its credit default swap rate. We have no performance obligations related to the call options purchased to fund our fixed index annuity policy liabilities.

Other investments

None of the financial instruments included in other investments are measured at fair value on a recurring basis. Financial instruments included in other investments are policy loans, equity method investments and company owned life insurance (COLI). We have not attempted to determine the fair values associated with our policy loans, as we believe any differences between carrying value and the fair values afforded these instruments are immaterial to our consolidated financial position and, accordingly, the cost to provide such disclosure does not justify the benefit to be derived. The fair values of our equity method investments qualify as Level 3 fair values and were determined by calculating the present value of future cash flows discounted by a risk free rate, a risk spread and a liquidity discount. The risk spread and liquidity discount are rates determined by our investment professionals and are unobservable market inputs. The fair value of our COLI approximates the cash surrender value of the policies and falls within Level 2 of the fair value hierarchy.

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Cash and cash equivalents

Amounts reported in the consolidated balance sheets for these instruments are reported at their historical cost which approximates fair value due to the nature of the assets assigned to this category.

Interest rate caps and swap

The fair values of our pay fixed/receive variable interest rate swap and our interest rate caps are obtained from third parties and are determined by discounting expected future cash flows using projected LIBOR rates for the term of the caps and swap.

2015 notes hedges

The fair value of these call options has been determined by a third party who applies market observable data such as our common stock price, its dividend yield and its volatility, as well as the time to expiration of the call options to determine a fair value of the buy side of these options.

Counterparty collateral

Amounts reported in other assets of the consolidated balance sheets for these instruments are reported at their historical cost which approximates fair value due to the nature of the assets assigned to this category.

Policy benefit reserves, coinsurance deposits and SPIA benefit reserves

The fair values of the liabilities under contracts not involving significant mortality or morbidity risks (principally deferred annuities), are stated at the cost we would incur to extinguish the liability (i.e., the cash surrender value) as these contracts are generally issued without an annuitization date. The coinsurance deposits related to the annuity benefit reserves have fair values determined in a similar fashion. For period-certain annuity benefit contracts, the fair value is determined by discounting the benefits at the interest rates currently in effect for newly purchased immediate annuity contracts. We are not required to and have not estimated the fair value of the liabilities under contracts that involve significant mortality or morbidity risks, as these liabilities fall within the definition of insurance contracts that are exceptions from financial instruments that require disclosures of fair value. Policy benefit reserves, coinsurance deposits and SPIA benefit reserves are not measured at fair value on a recurring basis. All of the fair values presented within these categories fall within Level 3 of the fair value hierarchy as most of the inputs are unobservable market data.

Notes payable

The fair values of our senior unsecured notes and convertible senior notes are based upon pricing matrices developed by a third party pricing service when quoted market prices are not available and are categorized as Level 2 within the fair value hierarchy. Notes payable are not remeasured at fair value on a recurring basis.

Subordinated debentures

Fair values for subordinated debentures are estimated using discounted cash flow calculations based principally on observable inputs including our incremental borrowing rates, which reflect our credit rating, for similar types of borrowings with maturities consistent with those remaining for the debt being valued. These fair values are categorized as Level 2 within the fair value hierarchy. Subordinated debentures are not measured at fair value on a recurring basis.

2015 notes embedded conversion derivative

The fair value of this embedded derivative is determined by pricing the call options that hedge this potential liability. The terms of the conversion option are identical to the 2015 notes hedges and the method of determining fair value of the call options is based upon observable market data.

Fixed index annuities - embedded derivatives

We estimate the fair value of the embedded derivative component of our fixed index annuity policy benefit reserves at each valuation date by (i) projecting policy contract values and minimum guaranteed contract values over the expected lives of the contracts and (ii) discounting the excess of the projected contract value amounts at the applicable risk free interest rates adjusted for our nonperformance risk related to those liabilities. The projections of policy contract values are based on our best estimate assumptions for future policy growth and future policy decrements. Our best estimate assumptions for future policy growth include assumptions for the expected index credit on the next policy anniversary date which are derived from the fair values of the underlying call options purchased to fund such index credits and the expected costs of annual call options we will purchase in the future to fund index credits beyond the next policy anniversary. The projections of minimum guaranteed contract values include the same best estimate assumptions for policy decrements as were used to project policy contract values.

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The following tables provide a reconciliation of the beginning and ending balances for our Level 3 assets and liabilities, which are measured at fair value on a recurring basis using significant unobservable inputs for the three and six months ended June 30, 2014 and 2013:



	Three Months Ended June 30,						Six Months Ended June 30,
	2014			2013			2014			2013
	(Dollars in thousands)
Available for sale securities
Beginning balance	$	1,080		$	1,724		$	1,376		$	1,812
Principal returned	(114		)	(193		)	(192		)	(561		)
Amortization of premium/accretion of discount	(138		)	5			(165		)	134
Total gains (losses) (realized/unrealized):
Included in other comprehensive income (loss)	45			5			(146		)	156
Included in operations	(205		)	—			(205		)	—
Ending balance	$	668		$	1,541		$	668		$	1,541

The Level 3 assets included in the table above are not material to our financial position, results of operations or cash flows, and it is management's opinion that the sensitivity of the inputs used in determining the fair value of these assets is not material as well.



	Three Months Ended June 30,						Six Months Ended June 30,
	2014			2013			2014			2013
	(Dollars in thousands)
Fixed index annuities - embedded derivatives
Beginning balance	$	4,755,913		$	3,848,902		$	4,406,163		$	3,337,556
Premiums less benefits	425,776			425,671			797,729			672,393
Change in fair value, net	(61,866		)	(527,521		)	(84,069		)	(262,897		)
Ending balance	$	5,119,823		$	3,747,052		$	5,119,823		$	3,747,052

Change in fair value, net for each period in our embedded derivatives are included in change in fair value of embedded derivatives in the unaudited consolidated statements of operations.

Certain derivatives embedded in our fixed index annuity contracts are our most significant financial instrument measured at fair value that are categorized as Level 3 in the fair value hierarchy. The contractual obligations for future annual index credits within our fixed index annuity contracts are treated as a "series of embedded derivatives" over the expected life of the applicable contracts. We estimate the fair value of these embedded derivatives at each valuation date by the method described above under fixed index annuities - embedded derivatives. The projections of minimum guaranteed contract values include the same best estimate assumptions for policy decrements as were used to project policy contract values.

The most sensitive assumption in determining policy liabilities for fixed index annuities is the rates used to discount the excess projected contract values. As indicated above, the discount rate reflects our nonperformance risk. If the discount rates used to discount the excess projected contract values at June 30, 2014, were to increase by 100 basis points, the fair value of the embedded derivatives would decrease by $350.0 million recorded through operations as a decrease in the change in fair value of embedded derivatives and there would be a corresponding decrease of $209.2 million to our combined balance for deferred policy acquisition costs and deferred sales inducements recorded through operations as an increase in amortization of deferred policy acquisition costs and deferred sales inducements. A decrease by 100 basis points in the discount rate used to discount the excess projected contract values would increase the fair value of the embedded derivatives by $391.7 million recorded through operations as an increase in the change in fair value of embedded derivatives and there would be a corresponding increase of $230.4 million to our combined balance for deferred policy acquisition costs and deferred sales inducements recorded through operations as a decrease in amortization of deferred policy acquisition costs and deferred sales inducements.

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3. Investments

At June 30, 2014 and December 31, 2013, the amortized cost and fair value of fixed maturity securities and equity securities were as follows:



	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
	(Dollars in thousands)
June 30, 2014
Fixed maturity securities:
Available for sale:
United States Government full faith and credit	$	38,590	$	310	$	(417	)	$	38,483
United States Government sponsored agencies	1,199,787		21,181		(35,627		)	1,185,341
United States municipalities, states and territories	3,188,026		324,759		(6,587		)	3,506,198
Foreign government obligations	181,120		13,335		(1,492		)	192,963
Corporate securities	17,916,567		1,371,622		(100,814		)	19,187,375
Residential mortgage backed securities	1,747,233		137,213		(13,881		)	1,870,565
Commercial mortgage backed securities	2,249,396		56,897		(10,197		)	2,296,096
Other asset backed securities	1,020,226		34,045		(13,720		)	1,040,551
	$	27,540,945	$	1,959,362	$	(182,735	)	$	29,317,572
Held for investment:
Corporate security	$	76,342	$	—	$	(9,771	)	$	66,571

Equity securities, available for sale:
Finance, insurance, and real estate	$	7,506	$	256	$	—		$	7,762

December 31, 2013
Fixed maturity securities:
Available for sale:
United States Government full faith and credit	$	44,852	$	367	$	(2,294	)	$	42,925
United States Government sponsored agencies	1,313,776		1,875		(121,362		)	1,194,289
United States municipalities, states and territories	3,181,032		164,785		(39,074		)	3,306,743
Foreign government obligations	86,112		8,907		(3,462		)	91,557
Corporate securities	17,142,118		606,948		(516,029		)	17,233,037
Residential mortgage backed securities	1,895,913		119,230		(43,183		)	1,971,960
Commercial mortgage backed securities	1,821,988		3,287		(89,815		)	1,735,460
Other asset backed securities	1,041,939		23,300		(30,763		)	1,034,476
	$	26,527,730	$	928,699	$	(845,982	)	$	26,610,447
Held for investment:
Corporate security	$	76,255	$	—	$	(15,415	)	$	60,840

Equity securities, available for sale:
Finance, insurance, and real estate	$	7,503	$	275	$	—		$	7,778

At June 30, 2014, 31% of our fixed income securities have call features, of which 0.5% ($0.1 billion) were subject to call redemption and another 4% ($1.0 billion) will become subject to call redemption during the next twelve months. $0.5 billion of U.S. Government sponsored agency securities were called during April 2014.

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The amortized cost and fair value of fixed maturity securities at June 30, 2014, by contractual maturity, are shown below. Actual maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. All of our mortgage and other asset backed securities provide for periodic payments throughout their lives and are shown below as separate lines.



	Available for sale				Held for investment
	Amortized Cost		Fair Value		Amortized Cost		Fair Value
	(Dollars in thousands)
Due in one year or less	$	54,110	$	55,291	$	—	$	—
Due after one year through five years	1,126,677		1,283,155		—		—
Due after five years through ten years	8,235,605		8,498,193		—		—
Due after ten years through twenty years	6,561,087		6,996,599		—		—
Due after twenty years	6,546,611		7,277,122		76,342		66,571
	22,524,090		24,110,360		76,342		66,571
Residential mortgage backed securities	1,747,233		1,870,565		—		—
Commercial mortgage backed securities	2,249,396		2,296,096		—		—
Other asset backed securities	1,020,226		1,040,551		—		—
	$	27,540,945	$	29,317,572	$	76,342	$	66,571

Net unrealized gains on available for sale fixed maturity securities and equity securities reported as a separate component of stockholders' equity were comprised of the following:



	June 30, 2014			December 31, 2013
	(Dollars in thousands)
Net unrealized gains on available for sale fixed maturity securities and equity securities	$	1,776,883		$	82,992
Adjustments for assumed changes in amortization of deferred policy acquisition costs and deferred sales inducements	(956,057		)	(46,588		)
Deferred income tax valuation allowance reversal	22,534			22,534
Deferred income tax expense	(287,289		)	(12,742		)
Net unrealized gains reported as accumulated other comprehensive income	$	556,071		$	46,196

The National Association of Insurance Commissioners (“NAIC”) assigns designations to fixed maturity securities. These designations range from Class 1 (highest quality) to Class 6 (lowest quality). In general, securities are assigned a designation based upon the ratings they are given by the Nationally Recognized Statistical Rating Organizations (“NRSRO’s”). The NAIC designations are utilized by insurers in preparing their annual statutory statements. NAIC Class 1 and 2 designations are considered “investment grade” while NAIC Class 3 through 6 designations are considered “non-investment grade.” Based on the NAIC designations, we had 98% of our fixed maturity portfolio rated investment grade at June 30, 2014 and December 31, 2013.

The following table summarizes the credit quality, as determined by NAIC designation, of our fixed maturity portfolio as of the dates indicated:



	June 30, 2014				December 31, 2013
NAIC Designation	Amortized Cost		Fair Value		Amortized Cost		Fair Value
	(Dollars in thousands)
1	$	17,311,646	$	18,519,001	$	16,394,654	$	16,531,250
2	9,739,539		10,305,239		9,630,251		9,598,399
3	497,545		493,350		502,822		474,165
4	67,353		65,857		74,493		66,078
5	—		—		—		—
6	1,204		696		1,765		1,395
	$	27,617,287	$	29,384,143	$	26,603,985	$	26,671,287

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The following table shows our investments' gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities (consisting of 450 and 1,047 securities, respectively) have been in a continuous unrealized loss position, at June 30, 2014 and December 31, 2013:



	Less than 12 months					12 months or more					Total
	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses			Fair Value		Unrealized Losses
	(Dollars in thousands)
June 30, 2014
Fixed maturity securities:
Available for sale:
United States Government full faith and credit	$	—	$	—		$	33,569	$	(417	)	$	33,569	$	(417	)
United States Government sponsored agencies	1,441		(1		)	601,569		(35,626		)	603,010		(35,627		)
United States municipalities, states and territories	32,649		(147		)	185,877		(6,440		)	218,526		(6,587		)
Foreign government obligations	4,943		(32		)	12,984		(1,460		)	17,927		(1,492		)
Corporate securities:
Finance, insurance and real estate	46,685		(1,022		)	711,819		(25,301		)	758,504		(26,323		)
Manufacturing, construction and mining	100,820		(2,063		)	1,404,064		(33,103		)	1,504,884		(35,166		)
Utilities and related sectors	103,620		(1,397		)	602,031		(21,280		)	705,651		(22,677		)
Wholesale/retail trade	32,148		(633		)	102,446		(4,671		)	134,594		(5,304		)
Services, media and other	118,443		(1,623		)	338,878		(9,721		)	457,321		(11,344		)
Residential mortgage backed securities	89,639		(2,094		)	261,664		(11,787		)	351,303		(13,881		)
Commercial mortgage backed securities	47,869		(325		)	497,112		(9,872		)	544,981		(10,197		)
Other asset backed securities	61,023		(1,922		)	269,435		(11,798		)	330,458		(13,720		)
	$	639,280	$	(11,259	)	$	5,021,448	$	(171,476	)	$	5,660,728	$	(182,735	)
Held for investment:
Corporate security:
Insurance	$	—	$	—		$	66,571	$	(9,771	)	$	66,571	$	(9,771	)

December 31, 2013
Fixed maturity securities:
Available for sale:
United States Government full faith and credit	$	32,969	$	(2,294	)	$	—	$	—		$	32,969	$	(2,294	)
United States Government sponsored agencies	692,320		(88,671		)	467,309		(32,691		)	1,159,629		(121,362		)
United States municipalities, states and territories	614,056		(39,074		)	—		—			614,056		(39,074		)
Foreign government obligations	26,298		(3,462		)	—		—			26,298		(3,462		)
Corporate securities:
Finance, insurance and real estate	1,690,846		(92,426		)	153,037		(12,873		)	1,843,883		(105,299		)
Manufacturing, construction and mining	3,370,775		(191,245		)	93,608		(16,088		)	3,464,383		(207,333		)
Utilities and related sectors	1,829,868		(102,758		)	83,550		(11,547		)	1,913,418		(114,305		)
Wholesale/retail trade	428,407		(25,189		)	17,687		(1,992		)	446,094		(27,181		)
Services, media and other	834,699		(51,508		)	107,242		(10,403		)	941,941		(61,911		)
Residential mortgage backed securities	309,599		(41,080		)	31,739		(2,103		)	341,338		(43,183		)
Commercial mortgage backed securities	1,450,143		(83,814		)	51,099		(6,001		)	1,501,242		(89,815		)
Other asset backed securities	356,018		(20,426		)	92,372		(10,337		)	448,390		(30,763		)
	$	11,635,998	$	(741,947	)	$	1,097,643	$	(104,035	)	$	12,733,641	$	(845,982	)
Held for investment:
Corporate security:
Insurance	$	—	$	—		$	60,840	$	(15,415	)	$	60,840	$	(15,415	)

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The following is a description of the factors causing the temporary unrealized losses by investment category as of June 30, 2014:

United States Government sponsored agencies: These securities are relatively long in duration; however, they are callable in less than 12 months making the value of such securities sensitive to changes in market interest rates. The timing of when some of these securities were purchased gave rise to unrealized losses at June 30, 2014.

United States municipalities, states and territories: These securities are relatively long in duration and their fair values are sensitive to changes in market interest rates. The timing of the purchase of these securities have resulted in unrealized losses.

Corporate securities: The unrealized losses in these securities are due partially to the timing of purchases. These securities carry yields less than those available at June 30, 2014. In addition, a small number of securities have seen their credit spreads remain wide due to issuer or industry specific news while some financial and industrial sector credit spreads remain wide due to continued economic uncertainty and concerns of economic instability.

Residential mortgage backed securities: At June 30, 2014, we had no exposure to sub-prime residential mortgage backed securities. All of our residential mortgage backed securities are pools of first-lien residential mortgage loans. Substantially all of the securities that we own are in the most senior tranche of the securitization in which they are structured and are not subordinated to any other tranche. Our "Alt-A" residential mortgage backed securities are comprised of 35 securities with a total amortized cost basis of $265.4 million and a fair value of $294.7 million. Despite recent improvements in the capital markets, the fair values of RMBS with weaker borrower characteristics continue at prices below amortized cost. These RMBS prices will likely remain below our cost basis until the housing market is able to absorb current and future foreclosures.

Commercial mortgage backed securities: The unrealized losses in these securities are due partially to the timing of purchases. A number of purchases were at yields lower than what could be executed at the end of this quarter due to the increase in the treasury yield since the time of purchase. Yield spreads for commercial mortgage backed securities have narrowed but management believes remain attractive.

Other asset backed securities: The unrealized losses in these securities are predominantly assigned to financial sector capital trust securities which have longer maturity dates and have declined in price due to prolonged stress in the financial sector. No securities in an unrealized loss position are rated below investment grade.

Approximately 89% and 95% of the unrealized losses on fixed maturity securities shown in the above table for June 30, 2014 and December 31, 2013, respectively, are on securities that are rated investment grade, defined as being the highest two NAIC designations. All of the securities with unrealized losses are current with respect to the payment of principal and interest.

Changes in net unrealized gains on investments for the three and six months ended June 30, 2014 and 2013 are as follows:



	Three Months Ended June 30,						Six Months Ended June 30,
	2014			2013			2014			2013
	(Dollars in thousands)
Fixed maturity securities held for investment carried at amortized cost	$	1,607		$	(964	)	$	5,644		$	(353	)
Investments carried at fair value:
Fixed maturity securities, available for sale	$	716,779		$	(1,339,484	)	$	1,693,910		$	(1,458,554	)
Equity securities, available for sale	(6		)	(10,168		)	(19		)	(7,949		)
	716,773			(1,349,652		)	1,693,891