Form 10-Q
Table of Contents

 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
     
þ   Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended June 30, 2011
or
     
o   Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Commission File No. 001- 34280
(AMERICAN NATIONAL LOGO)
American National Insurance Company
(Exact name of registrant as specified in its charter)
     
Texas   74-0484030
(State or other jurisdiction of   (I.R.S. Employer Identification No.)
incorporation or organization)    
One Moody Plaza
Galveston, Texas 77550-7999
(Address of principal executive offices) (Zip Code)
(409) 763-4661
(Registrant’s telephone number, including area code)
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 o 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 (§229.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). o Yes o 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 definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:
             
Large accelerated filer o   Accelerated filer þ   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). o Yes þ No
As of July 29, 2011, there were 26,821,284 shares of the registrant’s voting common stock, $1.00 par value per share, outstanding.
 
 

 

 


 

AMERICAN NATIONAL INSURANCE COMPANY
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 Exhibit 31.1
 Exhibit 31.2
 Exhibit 32.1
 Exhibit 32.2
 EX-101 INSTANCE DOCUMENT
 EX-101 SCHEMA DOCUMENT
 EX-101 CALCULATION LINKBASE DOCUMENT
 EX-101 LABELS LINKBASE DOCUMENT
 EX-101 PRESENTATION LINKBASE DOCUMENT
 EX-101 DEFINITION LINKBASE DOCUMENT

 

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Table of Contents

PART I — FINANCIAL INFORMATION
ITEM 1.   FINANCIAL STATEMENTS
AMERICAN NATIONAL INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited and in thousands, except for per share data)
                                 
    Three months ended June 30,     Six months ended June 30,  
    2011     2010     2011     2010  
PREMIUMS AND OTHER REVENUES
                               
Premiums
                               
Life
  $ 69,474     $ 68,873     $ 135,860     $ 138,318  
Annuity
    32,110       40,608       51,600       80,960  
Accident and health
    58,384       67,841       117,028       136,265  
Property and casualty
    275,848       287,497       567,162       573,969  
Other policy revenues
    46,379       46,728       95,510       91,724  
Net investment income
    250,172       211,781       489,244       429,883  
Realized investments gains (losses)
    22,926       16,814       44,957       34,561  
Other-than-temporary impairments
          (1,505 )           (2,750 )
Other income
    7,121       7,511       13,514       13,426  
 
                       
Total premiums and other revenues
    762,414       746,148       1,514,875       1,496,356  
 
                       
 
                               
BENEFITS, LOSSES AND EXPENSES
                               
Policyholder benefits
                               
Life
    79,854       74,468       156,541       147,006  
Annuity
    42,837       50,442       72,810       98,137  
Claims incurred
                               
Accident and health
    39,466       45,351       81,073       98,190  
Property and casualty
    254,431       258,014       469,942       493,217  
Interest credited to policyholders’ account balances
    99,139       79,524       205,530       173,886  
Commissions for acquiring and servicing policies
    119,403       115,900       229,629       222,777  
Other operating expenses
    113,061       112,765       235,460       225,973  
Change in deferred policy acquisition costs
    (23,911 )     (18,126 )     (36,976 )     (33,009 )
 
                       
Total benefits, losses and expenses
    724,280       718,338       1,414,009       1,426,177  
 
                       
 
                               
Income (loss) from continuing operations before federal income tax, and equity in earnings/losses of unconsolidated affiliates
    38,134       27,810       100,866       70,179  
 
                       
Provision (benefit) for federal income taxes
                               
Current
    13,199       10,028       27,517       19,528  
Deferred
    (8,368 )     (6,721 )     (5,788 )     (6,205 )
 
                       
Total provision (benefit) for federal income taxes
    4,831       3,307       21,729       13,323  
 
                               
Equity in earnings (losses) of unconsolidated affiliates, net of tax
    (2,099 )     62       (238 )     69  
 
                       
 
                               
Income (loss) from continuing operations
    31,204       24,565       78,899       56,925  
Income (loss) from discontinued operations, net of tax (See Note 17)
          1,778             2,001  
 
                       
Net income (loss)
    31,204       26,343       78,899       58,926  
Less: Net income (loss) attributable to noncontrolling interest, net of tax
    1,146       (279 )     359       (2,474 )
 
                       
Net income (loss) attributable to American National Insurance Company and Subsidiaries
  $ 30,058     $ 26,622     $ 78,540     $ 61,400  
 
                       
 
                               
Amounts available to American National Insurance Company common stockholders
                               
Earnings per share:
                               
Basic
  $ 1.13     $ 1.00     $ 2.96     $ 2.31  
Diluted
    1.13       1.00       2.94       2.30  
 
                               
Weighted average common shares outstanding
    26,559,950       26,558,832       26,559,821       26,558,832  
Weighted average common shares outstanding and dilutive potential common shares
    26,706,145       26,669,828       26,701,024       26,669,828  
See accompanying notes to the unaudited consolidated financial statements.

 

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AMERICAN NATIONAL INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
(Unaudited and in thousands, except for share and per share data)
                 
    June 30,     December 31,  
    2011     2010  
ASSETS
               
Fixed maturity, bonds held-to-maturity, at amortized cost (Fair Value $9,703,783 and $8,979,834)
  $ 9,161,303     $ 8,513,550  
Fixed maturity, bonds available-for-sale, at fair value (Amortized cost $4,059,754 and $3,925,317)
    4,319,905       4,123,613  
Equity securities, at fair value (Cost $708,833 and $720,665)
    1,095,396       1,082,755  
Mortgage loans on real estate, net of allowance
    2,734,625       2,679,909  
Policy loans
    386,715       380,505  
Investment real estate, net of accumulated depreciation of $196,460 and $202,111
    466,669       521,768  
Short-term investments
    475,593       486,206  
Other invested assets
    120,136       119,251  
 
           
Total investments
    18,760,342       17,907,557  
 
           
Cash and cash equivalents
    78,114       101,449  
Investments in unconsolidated affiliates
    223,055       195,472  
Accrued investment income
    212,006       201,286  
Reinsurance recoverables
    434,387       355,188  
Prepaid reinsurance premiums
    75,437       75,542  
Premiums due and other receivables
    310,227       287,184  
Deferred policy acquisition costs
    1,333,927       1,318,426  
Property and equipment, net
    77,669       77,974  
Current tax receivable
    16,001       8,579  
Other assets
    140,083       138,978  
Separate account assets
    785,700       780,563  
 
           
Total assets
  $ 22,446,948     $ 21,448,198  
 
           
LIABILITIES
               
Future policy benefits:
               
Life
  $ 2,566,306     $ 2,539,334  
Annuity
    730,524       865,480  
Accident and health
    77,054       81,266  
Policyholders’ account balances
    11,344,961       10,475,159  
Policy and contract claims
    1,375,182       1,298,457  
Unearned premium reserve
    833,321       824,299  
Other policyholder funds
    293,091       277,285  
Liability for retirement benefits
    188,725       187,453  
Current portion of long-term notes payable
          47,632  
Long-term notes payable
    58,436       12,508  
Deferred tax liabilities, net
    70,621       53,737  
Other liabilities
    419,043       368,332  
Separate account liabilities
    785,700       780,563  
 
           
Total liabilities
    18,742,964       17,811,505  
 
           
STOCKHOLDERS’ EQUITY
               
Common stock, $1.00 par value, — Authorized 50,000,000 Issued 30,832,449, Outstanding 26,821,284 shares
    30,832       30,832  
Additional paid-in capital
    17,318       15,190  
Accumulated other comprehensive income
    264,766       225,212  
Retained earnings
    3,497,147       3,459,911  
Treasury stock, at cost
    (98,490 )     (98,494 )
 
           
Total American National stockholders’ equity
    3,711,573       3,632,651  
Noncontrolling interest
    (7,589 )     4,042  
 
           
Total stockholders’ equity
    3,703,984       3,636,693  
 
           
Total liabilities and stockholders’ equity
  $ 22,446,948     $ 21,448,198  
 
           
See accompanying notes to the unaudited consolidated financial statements.

 

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AMERICAN NATIONAL INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
(Unaudited and in thousands, except for per share data)
                 
    Six months ended June 30,  
    2011     2010  
 
             
Common Stock
               
Balance at beginning and end of the period
  $ 30,832     $ 30,832  
 
           
 
               
Additional Paid-In Capital
               
Balance as of January 1,
    15,190       11,986  
Issuance of treasury shares as restricted stock
    (4 )      
Income tax effect from restricted stock arrangement
    (14 )      
Amortization of restricted stock
    2,146       1,553  
 
           
Balance at end of the period
    17,318       13,539  
 
           
 
               
Accumulated Other Comprehensive Income (Loss)
               
Balance as of January 1,
    225,212       117,649  
Change in unrealized gain (loss) on available-for-sale securities, net
    39,549       (4,023 )
Foreign exchange adjustments
    193       (68 )
Defined benefit plan adjustment
    (188 )     89  
 
           
Balance at end of the period
    264,766       113,647  
 
           
 
               
Retained Earnings
               
Balance as of January 1,
    3,459,911       3,398,492  
Net income (loss) attributable to American National Insurance Company and Subsidiaries
    78,540       61,400  
Cash dividends to common stockholders ($1.54 per share)
    (41,304 )     (41,303 )
 
           
Balance at end of the period
    3,497,147       3,418,589  
 
           
 
               
Treasury Stock
               
Balance as of January 1,
    (98,494 )     (98,505 )
Issuance of treasury shares as restricted stock
    4        
 
           
Balance at end of the period
    (98,490 )     (98,505 )
 
           
 
               
Noncontrolling Interest
               
Balance as of January 1,
    4,042       12,202  
Contributions
    26       285  
Distributions
    (12,016 )     (892 )
Gain (loss) attributable to noncontrolling interest
    359       (2,474 )
 
           
Balance at end of the period
    (7,589 )     9,121  
 
           
 
               
Total Equity
               
Balance at end of the period
  $ 3,703,984     $ 3,487,223  
 
           
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(Unaudited and in thousands)
                                 
    Three months ended June 30,     Six months ended June 30,  
    2011     2010     2011     2010  
 
             
Net income (loss) attributable to American National
                               
Insurance Company and Subsidiaries
  $ 30,058     $ 26,622     $ 78,540     $ 61,400  
 
                       
 
                               
Other comprehensive income (loss), net of tax
                               
Change in unrealized gain (loss) on available-for-sale securities, net
    13,754       (61,296 )     39,549       (4,023 )
Foreign exchange adjustments
    34       (227 )     193       (68 )
Defined benefit plan adjustment
    (123 )     89       (188 )     89  
 
                       
Total other comprehensive income (loss)
    13,665       (61,434 )     39,554       (4,002 )
 
                       
 
                               
Total comprehensive income (loss) attributable to American National Insurance Company and Subsidiaries
  $ 43,723     $ (34,812 )   $ 118,094     $ 57,398  
 
                       
See accompanying notes to the unaudited consolidated financial statements.

 

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AMERICAN NATIONAL INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited and in thousands)
                 
    Six months ended June 30,  
    2011     2010  
OPERATING ACTIVITIES
               
Net income (loss)
  $ 78,899     $ 58,926  
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
               
Realized investments (gains) losses
    (44,957 )     (37,491 )
Other-than-temporary impairments
          2,750  
Amortization of discounts and premiums on bonds
    8,472       8,414  
Net capitalized interest on policy loans and mortgage loans
    (14,066 )     (14,972 )
Depreciation
    20,653       23,849  
Interest credited to policy account balances
    205,530       173,886  
Charges to policyholders’ account balances
    (95,510 )     (91,724 )
Deferred federal income tax (benefit) expense
    (5,788 )     (5,112 )
Deferral of policy acquisition costs
    (256,984 )     (248,038 )
Amortization of deferred policy acquisition costs
    220,008       215,029  
Equity in (earnings) losses of unconsolidated affiliates
    366       (106 )
Changes in:
               
Policyholder liabilities
    156,572       133,480  
Reinsurance recoverables
    (79,199 )     (8,125 )
Premiums due and other receivables
    (23,043 )     (21,848 )
Accrued investment income
    (10,720 )     (3,991 )
Current tax receivable/payable
    (7,422 )     (6,446 )
Liability for retirement benefits
    1,272       1,496  
Prepaid reinsurance premiums
    105       3,624  
Other, net
    15,605       (8,773 )
 
           
Net cash provided by (used in) operating activities
    169,793       174,828  
 
           
INVESTING ACTIVITIES
               
Proceeds from sale/maturity/prepayment of:
               
Bonds — held-to-maturity
    423,820       182,030  
Bonds — available-for-sale
    243,805       324,465  
Equity securities
    57,865       68,986  
Real estate
    90,084       16,381  
Mortgage loans
    214,513       46,157  
Policy loans
    24,649       24,247  
Other invested assets
    20,861       4,925  
Disposals of property and equipment
    597       1,083  
Distributions from unconsolidated affiliates
    8,142       3,100  
Payment for the purchase/origination of:
               
Bonds — held-to-maturity
    (1,043,532 )     (535,103 )
Bonds — available-for-sale
    (365,393 )     (220,232 )
Equity securities
    (27,043 )     (13,357 )
Real estate
    (6,567 )     (30,139 )
Mortgage loans
    (285,974 )     (220,566 )
Policy loans
    (19,536 )     (18,219 )
Other invested assets
    (19,928 )     (26,503 )
Additions to property and equipment
    (8,245 )     (4,019 )
Contributions to unconsolidated affiliates
    (40,030 )     (11,820 )
Change in short-term investments
    10,613       (139,291 )
Other, net
    (19,519 )     21,183  
 
           
Net cash provided by (used in) investing activities
    (740,818 )     (526,692 )
 
           
FINANCING ACTIVITIES
               
Policyholders’ account deposits
    1,311,544       865,753  
Policyholders’ account withdrawals
    (720,846 )     (518,280 )
Change in notes payable
    (1,704 )     (634 )
Dividends to stockholders
    (41,304 )     (41,303 )
 
           
Net cash provided by (used in) financing activities
    547,690       305,536  
 
           
 
               
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
    (23,335 )     (46,328 )
Beginning of the year
    101,449       161,483  
 
           
Balance as of June 30,
  $ 78,114     $ 115,155  
 
           
See accompanying notes to the unaudited consolidated financial statements.

 

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NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. NATURE OF OPERATIONS
American National Insurance Company and its consolidated subsidiaries (collectively “American National”) operate in the insurance industry. Operating on a multiple product line basis, American National offers a broad line of insurance coverage, including individual and group life insurance, health insurance, annuities, and property and casualty insurance. In addition, through non-insurance subsidiaries, American National invests in stocks and real estate. The majority of revenues are generated by the insurance business. Business is conducted in all states and the District of Columbia, as well as Puerto Rico, Guam and American Samoa. Various distribution systems are utilized, including multiple-line exclusive agents, independent agents, third-party marketing organizations, career agents, and direct sales to the public.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND PRACTICES
The consolidated financial statements have been prepared in conformity with U.S. generally accepted accounting principles (“GAAP”) and the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”) for Form 10-Q. In addition to GAAP, specific SEC requirements applicable to insurance companies are applied to the consolidated financial statements.
The interim consolidated financial statements and notes herein are unaudited. These interim consolidated financial statements reflect all adjustments which are, in the opinion of management, considered necessary for the fair presentation of the consolidated statements of operations, financial position, changes in equity, comprehensive income (loss), and cash flows for the interim periods. These interim consolidated financial statements and notes should be read in conjunction with the annual consolidated financial statements and notes thereto included in American National’s Annual Report on Form 10-K as of and for the year ended December 31, 2010. The consolidated results of operations for the interim periods should not be considered indicative of results to be expected for the full year.
American National consolidates all entities that are wholly-owned and those in which American National owns less than 100% but controls, as well as any variable interest entities in which American National is the primary beneficiary. Investments in unconsolidated affiliates are accounted for using the equity method of accounting.
Certain amounts in prior years have been reclassified to conform to current year presentation.
The preparation of the consolidated financial statements in conformity with GAAP requires the use of estimates and assumptions that affect the reported consolidated financial statement balances. Actual results could differ from those estimates. The following estimates have been identified as critical in that they involve a high degree of judgment and are subject to a significant degree of variability:
    Other-than-temporary impairment (“OTTI”);
    Deferred policy acquisition costs;
    Reserves;
    Reinsurance;
    Pension and postretirement benefit plans;
    Litigation contingencies; and
    Federal income taxes.
As of June 30, 2011, American National’s significant accounting policies and practices remain materially unchanged from those disclosed in Note 2 of the Notes to Consolidated Financial Statements included in American National’s 2010 Annual Report on Form 10-K.

 

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3. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
Adoption of New Accounting Standards
In January 2010, the FASB issued ASU No. 2010-06, Improving Disclosures about Fair Value Measurements. ASU 2010-06 was issued to improve and expand fair value disclosures. Newly required disclosures are as follows: 1) provide information about movements of assets among Levels 1 and 2 of the three-tier fair value hierarchy; 2) provide a reconciliation of purchases, sales, issuance, and settlements of anything valued with a Level 3 method; and 3) provide fair value disclosures for each class of assets and liabilities. This guidance is effective for interim and annual periods commencing after December 15, 2009, except for the disclosure of the reconciliation of the Level 3 activities, which is effective for annual periods commencing after December 15, 2010. American National adopted this guidance on January 1, 2010, except for the disclosure of the reconciliation of the Level 3 activities, which was adopted effective January 1, 2011. American National’s adoption of this guidance did not have a material impact on its consolidated financial statements.
In April 2010, the FASB issued ASU No. 2010-15, How Investments Held through Separate Accounts Affect an Insurer’s Consolidation Analysis of Those Investments. For accounting purposes, ASU 2010-15 clarifies that an insurance entity should not consider any separate account interests held for the benefit of policyholders in an investment to be the insurer’s interests and should not combine those interests with its general account interest in the same investment when assessing the investment for consolidation, unless the separate account interests are held for the benefit of a related-party policyholder. This guidance also clarifies that for the purpose of evaluating whether the retention of specialized accounting for investments in consolidation is appropriate, a separate account arrangement should be considered a subsidiary. The amendments do not require an insurer to consolidate an investment in which a separate account holds a controlling financial interest if the investment is not or would not be consolidated in the stand-alone financial statements of the separate account. ASU 2010-15 is effective for interim and annual periods commencing after December 15, 2010. American National’s adoption of this guidance effective January 1, 2011 did not have a material effect on its consolidated financial statements.
In July 2010, the FASB issued ASU No. 2010-20, Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses. Additional disclosures are now required that enable readers of the financial statements to understand the nature of the credit risk inherent in the financing receivable portfolio, how the portfolio’s credit risk is analyzed and assessed in order to arrive at the allowance for credit losses for each portfolio, and the changes and underlying reason for the changes in the allowance for credit losses for each portfolio. Disclosures previously required for financing receivables are now required to be disclosed on a disaggregated basis. In addition, new disclosures under ASU 2010-20 are required for each financing receivable class including credit quality indicators of financing receivables at the end of the reporting period, aging of past due financing receivables, the nature and extent of troubled debt restructurings that occurred during the reporting period, the nature and extent of financing receivables modified as troubled debt restructurings within the previous 12 months that defaulted during the reporting period, and significant purchases and sales of financing receivables during the reporting period. The ASU 2010-20 disclosures required as of the end of a reporting period are effective for interim and annual periods ending on or after December 15, 2010. Disclosures concerning the activity that occurs during a reporting period are effective for interim and annual periods beginning on or after December 15, 2010. American National adopted this guidance effective January 1, 2010, except for the disclosure requirements for activities that occur during a reporting period, which was adopted effective January 1, 2011. American National’s adoption of this guidance did not have a material impact on its consolidated financial statements.
In January 2011, the FASB issued ASU No. 2011-01, Deferral of the Effective Date of Disclosures about Troubled Debt Restructurings in Update No. 2010-20. This update temporarily delays the effective date of the disclosures about troubled debt restructuring required within ASU 2010-20. The delay was intended to allow the FASB time to complete its deliberations on what constitutes a troubled debt restructuring. FASB issued the revised guidance, ASU 2011-02, effective for interim and annual periods that end after June 15, 2011. ASU 2011-01 is effective upon issuance. Accordingly, this update was retrospectively adopted on December 31, 2010 and did not have a material effect on American National’s consolidated financial statements.

 

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Future Adoption of New Accounting Standards
In October 2010, the FASB issued ASU No. 2010-26, Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts. The new guidance redefines the term “acquisition cost” and added the term “incremental direct cost of contract acquisition” to the master glossary. These changes limit the deferrable cost to those costs that are related directly to the successful acquisition of insurance contracts and those that result directly from and are essential to the contract acquisition and costs that would have not been incurred had the contract acquisition not occurred. The new guidance also specifies that advertising costs should be deferred only if the capitalization criteria for direct-response advertising are met. ASU 2010-26 is effective for interim and annual periods, commencing after December 15, 2011. This guidance is expected to be adopted by American National on January 1, 2012. American National is currently assessing the effect of ASU 2010-26 on its consolidated financial statements.
In April 2011, the FASB issued ASU No. 2011-02, A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring. The new guidance clarifies the creditor’s evaluation of whether it has granted a concession and whether a borrower is experiencing financial difficulties. In addition, the new guidance precludes the creditor from using the effective interest rate test in the borrower’s guidance on restructuring payables when evaluating whether a restructuring constitutes a troubled debt restructuring. ASU 2011-02 is effective for public companies for interim and annual periods beginning on or after June 15, 2011 and must be applied retrospectively to restructurings occurring on or after the beginning of the year. American National’s adoption of this guidance effective July 1, 2011 did not have material effect on its consolidated financial statements.
In May 2011, the FASB issued ASU No. 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in the U.S. GAAP and IFRSs. ASU 2011-04 clarifies the intent of the FASB about the application of existing fair value measurement and disclosure requirements such as: (1) the application of the highest and best use and valuation premise concepts; (2) a requirement specific to measuring the fair value of an instrument classified in a reporting entity’s shareholders’ equity; and (3) a requirement to disclose unobservable inputs used in the fair value of an instrument categorized within Level 3 of the fair value hierarchy. The new guidance also prohibits the use of block premiums and discounts for all fair value measurement, regardless of hierarchy. In addition, ASU 2011-04 expands the disclosures about fair value measurements. ASU 2011-04 is effective for interim and annual periods, beginning after December 15, 2011. American National is currently assessing the effect of ASU 2011-04 on its consolidated financial statements.
In June 2011, the FASB issued ASU No. 2011-05, Presentation of Comprehensive Income. ASU 2011-05 makes the presentation of other comprehensive income (“OCI”) more prominent by giving reporting entities two presentation options. Reporting entities can present the total net income and total OCI along with their respective components as one continuous statement or as two separate consecutive statements. The new guidance also eliminates the option to present OCI in the statement of changes in stockholders’ equity. In addition, the new guidance requires reporting entities to present reclassification adjustments from OCI to net income on the face of the financial statements. ASU 2011-05 is effective for interim and annual periods, beginning after December 15, 2011. American National’s adoption of this guidance on January 1, 2012 is not expected to have material effect on its consolidated financial statements.

 

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In July 2011, the FASB issued ASU No. 2011-06, Fees Paid to the Federal Government by Health Insurers. ASU 2011-06 addresses questions about how health insurers should recognize and classify in their income statements fees mandated by the Patient Protection and Affordable Care Act, which imposes an annual fee on health insurers for each calendar year beginning on or after January 1, 2014. The new guidance specifies that the liability for the fee should be estimated and recorded in full once the entity provides qualifying health insurance in the applicable calendar year. The corresponding deferred cost is then amortized to expense using a straight-line method of allocation unless another method better allocates the fee over the calendar year that it is payable. ASU 2011-06 is effective for calendar years beginning after December 31, 2013. American National’s adoption of this guidance on January 1, 2014 is not expected to have material effect on its consolidated financial statements.

 

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4. INVESTMENTS
The cost or amortized cost and estimated fair value of investments in fixed maturity and equity securities are shown below (in thousands):
                                 
    June 30, 2011  
            Gross     Gross        
    Cost or     Unrealized     Unrealized     Estimated Fair  
    Amortized Cost     Gains     Losses     Value  
Fixed maturity securities
                               
Bonds held-to-maturity
                               
U.S. treasury and other U.S. government corporations and agencies
  $ 20,819     $ 253     $     $ 21,072  
States of the U.S. and political subdivisions of the states
    415,443       12,150       (1,962 )     425,631  
Foreign governments
    29,032       5,179             34,211  
Corporate debt securities
    7,856,671       513,975       (16,184 )     8,354,462  
Residential mortgage-backed securities
    761,888       40,178       (3,095 )     798,971  
Commercial mortgage-backed securities
    31,340             (11,055 )     20,285  
Collateralized debt securities
    7,151       61       (1,018 )     6,194  
Other debt securities
    38,959       3,998             42,957  
 
                       
Total bonds held-to-maturity
    9,161,303       575,794       (33,314 )     9,703,783  
 
                       
 
                               
Bonds available-for-sale
                               
U.S. treasury and other U.S. government corporations and agencies
    6,660       691             7,351  
States of the U.S. and political subdivisions of the states
    588,924       22,217       (1,206 )     609,935  
Foreign governments
    5,000       1,890             6,890  
Corporate debt securities
    3,202,467       236,603       (16,432 )     3,422,638  
Residential mortgage-backed securities
    224,418       14,623       (614 )     238,427  
Collateralized debt securities
    18,131       1,558       (194 )     19,495  
Other debt securities
    14,154       1,015             15,169  
 
                       
Total bonds available-for-sale
    4,059,754       278,597       (18,446 )     4,319,905  
 
                       
 
                               
Total fixed maturity securities
    13,221,057       854,391       (51,760 )     14,023,688  
 
                       
 
                               
Equity securities
                               
Common stock
                               
Consumer goods
    144,796       66,174       (2,347 )     208,623  
Energy and utilities
    118,427       77,122       (753 )     194,796  
Finance
    119,553       54,604       (3,433 )     170,724  
Healthcare
    74,324       43,940       (1,044 )     117,220  
Industrials
    61,366       55,371       (123 )     116,614  
Information technology
    111,442       58,670       (2,193 )     167,919  
Materials
    16,396       17,090       (11 )     33,475  
Telecommunication services
    31,571       14,092       (55 )     45,608  
 
                       
Total common stock
    677,875       387,063       (9,959 )     1,054,979  
Preferred stock
    30,958       9,459             40,417  
 
                       
Total equity securities
    708,833       396,522       (9,959 )     1,095,396  
 
                       
 
                               
Total investments in securities
  $ 13,929,890     $ 1,250,913     $ (61,719 )   $ 15,119,084  
 
                       

 

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    December 31, 2010  
            Gross     Gross        
    Cost or     Unrealized     Unrealized     Estimated Fair  
    Amortized Cost     Gains     Losses     Value  
Fixed maturity securities
                               
Bonds held-to-maturity
                               
U.S. treasury and other U.S. government corporations and agencies
  $ 23,117     $ 288     $     $ 23,405  
States of the U.S. and political subdivisions of the states
    422,249       7,117       (6,920 )     422,446  
Foreign governments
    29,020       4,910             33,930  
Corporate debt securities
    7,293,501       478,353       (33,077 )     7,738,777  
Residential mortgage-backed securities
    661,516       33,702       (3,398 )     691,820  
Commercial mortgage-backed securities
    31,340             (17,758 )     13,582  
Collateralized debt securities
    8,562       80       (327 )     8,315  
Other debt securities
    44,245       3,314             47,559  
 
                       
Total bonds held-to-maturity
    8,513,550       527,764       (61,480 )     8,979,834  
 
                       
 
                               
Bonds available-for-sale
                               
U.S. treasury and other U.S. government corporations and agencies
    13,268       643       (4 )     13,907  
States of the U.S. and political subdivisions of the states
    583,163       15,142       (4,193 )     594,112  
Foreign governments
    5,000       1,967             6,967  
Corporate debt securities
    3,030,671       197,485       (26,587 )     3,201,569  
Residential mortgage-backed securities
    259,560       13,250       (1,417 )     271,393  
Collateralized debt securities
    19,468       1,459       (218 )     20,709  
Other debt securities
    14,187       769             14,956  
 
                       
Total bonds available-for-sale
    3,925,317       230,715       (32,419 )     4,123,613  
 
                       
 
                               
Total fixed maturity securities
    12,438,867       758,479       (93,899 )     13,103,447  
 
                       
 
                               
Equity securities
                               
Common stock
                               
Consumer goods
    154,106       63,538       (1,052 )     216,592  
Energy and utilities
    121,727       72,471       (933 )     193,265  
Finance
    119,975       55,175       (1,571 )     173,579  
Healthcare
    78,256       31,907       (1,654 )     108,509  
Industrials
    59,856       47,649             107,505  
Information technology
    108,178       62,284       (161 )     170,301  
Materials
    16,469       15,540             32,009  
Telecommunication services
    31,678       12,484       (34 )     44,128  
 
                       
Total common stock
    690,245       361,048       (5,405 )     1,045,888  
Preferred stock
    30,420       6,714       (267 )     36,867  
 
                       
Total equity securities
    720,665       367,762       (5,672 )     1,082,755  
 
                       
 
                               
Total investments in securities
  $ 13,159,532     $ 1,126,241     $ (99,571 )   $ 14,186,202  
 
                       

 

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Investment securities
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. Residential and commercial mortgage-backed securities, which are not due at a single maturity, have been allocated to their respective categories based on the year of final contractual maturity. The amortized cost and estimated fair value, by contractual maturity of fixed maturity securities are shown below (in thousands):
                                 
    June 30, 2011  
    Bonds Held-to-Maturity     Bonds Available-for-Sale  
    Amortized     Estimated Fair     Amortized     Estimated Fair  
    Cost     Value     Cost     Value  
 
                               
Due in one year or less
  $ 661,860     $ 680,710     $ 203,904     $ 209,512  
Due after one year through five years
    3,684,092       3,974,700       1,902,384       2,051,071  
Due after five years through ten years
    3,763,181       3,960,951       1,431,518       1,507,277  
Due after ten years
    1,046,320       1,082,369       516,948       547,323  
 
                       
 
    9,155,453       9,698,730       4,054,754       4,315,183  
 
                               
Without single maturity date
    5,850       5,053       5,000       4,722  
 
                       
 
                               
Total
  $ 9,161,303     $ 9,703,783     $ 4,059,754     $ 4,319,905  
 
                       
Available-for-sale securities are sold throughout the year for various reasons. All gains and losses were determined using specific identification of the securities sold. Proceeds from the sales of these securities, with the realized gains and losses, are shown below (in thousands):
                                 
    Three months ended June 30,     Six months ended June 30,  
    2011     2010     2011     2010  
 
                               
Proceeds from sales of available-for-sale securities
  $ 45,738     $ 88,587     $ 99,350     $ 205,500  
Gross realized gains
    6,808       8,392       20,977       22,875  
Gross realized losses
    (31 )     (881 )     (840 )     (1,147 )
There were no securities transferred from held-to-maturity to available-for-sale during the six months ended June 30, 2011 and 2010.

 

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Derivative Instruments
American National purchases derivative contracts (equity-indexed options) that serve as economic hedges against fluctuations in the equity markets to which equity-indexed annuity products are exposed. Equity-indexed annuities include a fixed host annuity contract and an embedded equity derivative. These derivative instruments are not designated as hedges. The following tables detail the estimated fair value and the gain or loss on derivatives related to equity-indexed annuities (in thousands):
                     
    Location of Asset (Liability) Reported in the   Estimated Fair Value  
Derivatives Not Designated   Consolidated Statements of Financial   June 30,     December 31,  
as Hedging Instruments   Position   2011     2010  
 
                   
Equity-indexed options
  Other invested assets   $ 71,525     $ 66,716  
Equity-indexed annuity embedded derivative
  Future policy benefits - Annuity     (65,025 )     (59,644 )
                                     
    Location of Gains (Losses)   Gains (Losses) Recognized in Income on Derivatives  
Derivatives Not Designated   Recognized in the Consolidated   Three months ended June 30,     Six months ended June 30,  
as Hedging Instruments   Statements of Operations   2011     2010     2011     2010  
 
                                   
Equity-indexed options
  Net investment income   $ (1,818 )   $ (10,252 )   $ 5,297     $ (11,889 )
Equity-indexed annuity embedded derivative
  Interest credited to policyholder account balances     2,697       12,628       (3,608 )     12,911  
Unrealized gains (losses) on securities
Unrealized gains (losses) on available-for-sale securities, presented in the stockholders’ equity section of the consolidated statements of financial position, are net of deferred tax expense of $187,279,000 and $100,000,000 as of June 30, 2011 and 2010, respectively.
The change in the net unrealized gains (losses) on available-for-sale securities are shown below (in thousands):
                 
    Six months ended June 30,  
    2011     2010  
 
               
Bonds available-for-sale
  $ 61,855     $ 110,639  
Equity Securities
    24,473       (75,633 )
Adjustment to deferred policy acquisition costs
    (21,475 )     (39,480 )
 
           
 
    64,853       (4,474 )
Less: Provision (benefit) for federal income taxes
    22,668       (1,509 )
 
           
 
    42,185       (2,965 )
Change in unrealized (gains) losses of investments attributable to participating policyholders’ interest
    (2,636 )     (1,058 )
 
           
Total
  $ 39,549     $ (4,023 )
 
           

 

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Gross unrealized losses on investment securities and the estimated fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, are shown below (in thousands):
                                                 
    June 30, 2011  
    Less than 12 months     12 Months or more     Total  
    Unrealized     Estimated     Unrealized     Estimated     Unrealized     Estimated  
    Losses     Fair Value     Losses     Fair Value     Losses     Fair Value  
Fixed maturity securities
                                               
Bonds held-to-maturity
                                               
States of the U.S. and political subdivisions of the states
  $ 1,954     $ 91,522     $ 8     $ 152     $ 1,962     $ 91,674  
Corporate debt securities
    11,905       641,872       4,279       85,425       16,184       727,297  
Residential mortgage-backed securities
    176       18,768       2,919       42,738       3,095       61,506  
Commercial mortgage-backed securities
                11,055       20,286       11,055       20,286  
Collateralized debt securities
                1,018       4,511       1,018       4,511  
 
                                   
Total bonds held-to-maturity
    14,035       752,162       19,279       153,112       33,314       905,274  
 
                                   
 
                                               
Bonds available-for-sale
                                               
States of the U.S. and political subdivisions of the states
    1,206       64,408                   1,206       64,408  
Corporate debt securities
    5,078       290,519       11,354       125,627       16,432       416,146  
Residential mortgage-backed securities
    33       14,096       581       17,676       614       31,772  
Collateralized debt securities
                194       3,557       194       3,557  
 
                                   
Total bonds available-for-sale
    6,317       369,023       12,129       146,860       18,446       515,883  
 
                                   
Total fixed maturity securities
    20,352       1,121,185       31,408       299,972       51,760       1,421,157  
 
                                   
 
                                               
Equity securities
                                               
Common stock
                                               
Consumer goods
    1,648       23,916       699       12,727       2,347       36,643  
Energy and utilities
    524       5,490       229       1,429       753       6,919  
Finance
    1,258       16,722       2,175       8,058       3,433       24,780  
Healthcare
    559       2,799       485       6,236       1,044       9,035  
Industrials
    123       1,870                   123       1,870  
Information technology
    2,191       10,356       2       47       2,193       10,403  
Materials
    11       50                   11       50  
Telecommunications services
    55       506                   55       506  
 
                                   
Total equity securities
    6,369       61,709       3,590       28,497       9,959       90,206  
 
                                   
Total investments in securities
  $ 26,721     $ 1,182,894     $ 34,998     $ 328,469     $ 61,719     $ 1,511,363  
 
                                   

 

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    December 31, 2010  
    Less than 12 months     12 Months or more     Total  
    Unrealized     Estimated     Unrealized     Estimated     Unrealized     Estimated  
    Losses     Fair Value     Losses     Fair Value     Losses     Fair Value  
Fixed maturity securities
                                               
Bonds held-to-maturity
                                               
States of the U.S. and political subdivisions of the states
  $ 6,898     $ 195,634     $ 22     $ 878     $ 6,920     $ 196,512  
Corporate debt securities
    22,493       912,554       10,584       128,721       33,077       1,041,275  
Residential mortgage-backed securities
    579       57,160       2,819       64,798       3,398       121,958  
Commercial mortgage-backed securities
                17,758       13,583       17,758       13,583  
Collateralized debt securities
                327       5,465       327       5,465  
 
                                   
Total bonds held-to-maturity
    29,970       1,165,348       31,510       213,445       61,480       1,378,793  
 
                                   
 
                                               
Bonds available-for-sale
                                               
U.S. treasury and other U.S. government corporations and agencies
    4       7,040                   4       7,040  
States of the U.S. and political subdivisions of the states
    4,193       151,860                   4,193       151,860  
Corporate debt securities
    8,378       249,240       18,209       159,227       26,587       408,467  
Residential mortgage-backed securities
    81       26,909       1,336       29,393       1,417       56,302  
Collateralized debt securities
                218       4,664       218       4,664  
 
                                   
Total bonds available-for-sale
    12,656       435,049       19,763       193,284       32,419       628,333  
 
                                   
Total fixed maturity securities
    42,626       1,600,397       51,273       406,729       93,899       2,007,126  
 
                                   
 
                                               
Equity securities
                                               
Common stock
                                               
Consumer goods
    440       25,333       612       19,419       1,052       44,752  
Energy and utilities
    642       7,093       291       1,289       933       8,382  
Finance
    1,217       7,954       354       11,204       1,571       19,158  
Healthcare
    813       14,927       841       5,523       1,654       20,450  
Information technology
    156       2,013       5       44       161       2,057  
Telecommunications services
    34       393                   34       393  
 
                                   
Total common stock
    3,302       57,713       2,103       37,479       5,405       95,192  
Preferred stock
    231       6,133       36       4,464       267       10,597  
 
                                   
Total equity securities
    3,533       63,846       2,139       41,943       5,672       105,789  
 
                                   
Total investments in securities
  $ 46,159     $ 1,664,243     $ 53,412     $ 448,672     $ 99,571     $ 2,112,915  
 
                                   
For all investment securities with an unrealized loss, including those in an unrealized loss position for 12 months or more, American National performs a quarterly analysis to determine if an OTTI loss should be recorded. As of June 30, 2011, the securities with unrealized losses were not deemed to be other-than-temporarily impaired. Even though the duration of the unrealized losses on some of the securities exceeds one year, American National has no intent to sell and it is not more-likely-than-not that American National will be required to sell these securities prior to recovery. Recovery is expected in a reasonable period of time for equity securities.

 

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Net investment income and realized investments gains (losses)
Net investment income and realized investments gains (losses) before federal income taxes are shown below (in thousands):
                                                                 
    Net Investment Income     Realized Investment Gains (Losses)     Net Investment Income     Realized Investment Gains (Losses)  
    Three months ended June 30,     Three months ended June 30,     Six months ended June 30,     Six months ended June 30,  
    2011     2010     2011     2010     2011     2010     2011     2010  
 
                                                               
Bonds
  $ 174,379     $ 163,211     $ 2,784     $ 6,853     $ 344,399     $ 325,299     $ 13,107     $ 16,552  
Equity securities
    7,491       6,081       6,278       3,867       13,407       12,128       18,814       10,019  
Mortgage loans
    54,976       41,949                   102,707       81,842              
Real estate
    31,850       33,718       12,491       (123 )     54,575       61,599       13,113       2,002  
Options
    (1,818 )     (10,252 )                 5,297       (11,889 )            
Other invested assets
    10,040       9,088       (77 )     (23 )     20,314       20,712       (77 )     (54 )
 
                                               
 
    276,918       243,795       21,476       10,574       540,699       489,691       44,957       28,519  
Investment expenses
    (26,746 )     (32,014 )                 (51,455 )     (59,808 )            
Increase in allowances
                1,450       6,240                         6,042  
 
                                               
Total
  $ 250,172     $ 211,781     $ 22,926     $ 16,814     $ 489,244     $ 429,883     $ 44,957     $ 34,561  
 
                                               
Other-than-temporary impairments
The other-than-temporary impairments for the periods indicated are shown below (in thousands):
                                 
    Three months ended        
    June 30,     Six months ended June 30,  
    2011     2010     2011     2010  
 
                               
Equity securities
  $     $ (1,505 )   $     $ (2,750 )
 
                       

 

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5. VARIABLE INTEREST ENTITIES
In the normal course of investment activities, American National and its wholly-owned subsidiaries, enter into various real estate partnership agreements. Generally, real estate partnership opportunities are presented to American National by a sponsor, with the significant activities being conducted on behalf of the sponsor. American National participates in the design of these entities, but in most cases American National’s involvement is limited to financing. Through analysis performed by American National, some of these partnerships have been determined to be variable interest entities (“VIEs”). In certain instances, in addition to an economic interest in the entity, American National holds the power to direct the most significant activities of the entity and is deemed the primary beneficiary or consolidator of the entity. The assets of the consolidated VIEs are restricted and must be used first to settle the liabilities of the VIE. Creditors or beneficial interest holders of these VIEs have no recourse to the general credit of American National, as American National’s obligation is limited to the amount of its committed investment. The total assets and liabilities relating to VIEs in which American National is the primary beneficiary and which are consolidated in American National’s financial statements for the periods indicated are as follows (in thousands):
                 
    June 30,     December 31,  
    2011     2010  
Investment real estate
  $ 155,289     $ 156,441  
Short-term investments
    890       1,991  
Cash and cash equivalents
    3,954       1,164  
Accrued investment income
    1,920       2,035  
Other receivables
    14,275       16,524  
Other assets
    4,018       3,884  
 
           
Total assets of consolidated VIEs
  $ 180,346     $ 182,039  
 
           
 
               
Notes payable
  $ 58,436     $ 60,140  
Other liabilities
    1,769       3,499  
 
           
Total liabilities of consolidated VIEs
  $ 60,205     $ 63,639  
 
           
For other real estate partnerships in which American National is involved, the major decisions that most significantly impact the economic activities of the partnership require unanimous consent of all partners. As a result, American National is not the primary beneficiary and these entities were not consolidated. The following table presents the carrying amount and maximum exposure to loss relating to VIEs for which American National holds significant variable interests but is not the primary beneficiary and which have not been consolidated (in thousands):
                                 
    June 30, 2011     December 31, 2010  
            Maximum             Maximum  
    Carrying     Exposure to     Carrying     Exposure to  
    Amount     Loss     Amount     Loss  
 
                               
Investment in unconsolidated affiliates
  $ 62,886     $ 62,886     $ 36,226     $ 36,226  
Financial or other support was not provided to investees designated as VIEs in the form of liquidity arrangements, guarantees, and/or other commitments by third parties that may affect the fair value or risk of American National’s variable interest in the investees designated as VIEs as of June 30, 2011 or December 31, 2010.

 

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6. CREDIT LOSSES
A financing receivable is a contractual right to receive money on demand or on fixed or determinable dates that is recognized as an asset in a company’s statement of financial position. Mortgage loans on real estate are the only financing receivables reported by American National.
Nonaccrual and Past Due Mortgage Loans
Interest ceases to be accrued for loans on which interest is more than 90 days past due, when the collection of interest is not considered probable, or when a loan is in foreclosure. Interest received on non-accrual status mortgage loans is included in net investment income in the period received. Once a loan becomes current, it is placed back into accrual status.
The amount of commercial mortgage loans placed on nonaccrual status is shown in the table below (in thousands):
                 
    June 30, 2011     December 31, 2010  
 
               
Office
  $ 8,436     $  
Retail
    12,264       3,685  
 
           
Total
  $ 20,700     $ 3,685  
 
           
The age analysis of past due commercial mortgage loans is shown in the table below (in thousands):
                                                 
    June 30, 2011  
    30-59 Days     60-89 Days     Greater Than     Total Past             Total  
    Past Due     Past Due     90 Days     Due     Current     Mortgage Loans  
 
                                               
Office
  $     $     $ 8,436     $ 8,436     $ 846,451     $ 854,887  
Industrial
                            746,160       746,160  
Retail
    1,179             12,264       13,443       518,787       532,230  
Other
                            639,963       639,963  
 
                                   
Total
  $ 1,179     $     $ 20,700     $ 21,879     $ 2,751,361     $ 2,773,240  
 
                                   
                                                 
    December 31, 2010  
    30-59 Days     60-89 Days     Greater Than     Total Past             Total  
    Past Due     Past Due     90 Days     Due     Current     Mortgage Loans  
 
                                               
Office
  $     $     $     $     $ 798,651     $ 798,651  
Industrial
                            858,241       858,241  
Retail
    8,579             3,685       12,264       456,983       469,247  
Other
                            596,763       596,763  
 
                                   
Total
  $ 8,579     $     $ 3,685     $ 12,264     $ 2,710,638     $ 2,722,902  
 
                                   
Allowance for Credit Losses
Each loan is evaluated quarterly and placed in a watchlist if events occurred or circumstances exist that could indicate that American National will be unable to collect all amounts due according to the contractual terms of the loan. If, in evaluating loans for inclusion in the watchlist, sufficient analysis is performed to conclude that a loan is fully collectible, no allowance is required. All loans in the watchlist are then analyzed individually for impairment. Fair value is determined by estimating the present value of future cash flows or the fair value of the underlying collateral. Estimation techniques vary depending on the quality of available data, the type of collateral, and other factors. When the fair value analysis shows that all of the amounts due are not collectible, the difference between the estimated fair value and the loan balance is recorded as an allowance (a loss). The allowance is reviewed quarterly to determine whether further allowance is required, or whether recovery of the asset is assured and the allowance can be reduced.
Loans that are not evaluated individually for collectibility are segregated by collateral property-type and location and allowance factors are applied. These factors are developed annually, and reviewed quarterly based on our historical loss experience adjusted for the expected trend in the rate of foreclosure losses. Allowance factors are higher for loans of certain property types and in certain regions based on loss experience or a blended historical loss factor.

 

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The allowance for credit losses and recorded investment in commercial mortgage loans are shown in the table below (in thousands):
                         
    Collectively     Individually        
    Evaluated     Evaluated        
    for Impairment     for Impairment     Total  
Allowance for credit losses:
                       
December 31, 2010
  $ 11,395     $ 2,393     $ 13,788  
Charge-offs
          (1,900 )     (1,900 )
 
                 
June 30, 2011
  $ 11,395     $ 493     $ 11,888  
 
                 
 
                       
Mortgage Loans:
                       
June 30, 2011
  $ 2,522,069     $ 251,171     $ 2,773,240  
 
                 
December 31, 2010
  $ 2,481,997     $ 240,905     $ 2,722,902  
 
                 
Impaired loans
Mortgage loans on real estate are considered impaired when, based on current information and events, it is probable that American National will be unable to collect all amounts due according to the contractual terms of the loan agreement. American National closely monitors its commercial mortgage loan portfolio on a loan-by-loan basis. Loans with an estimated collateral value less than the loan balance, as well as loans with other characteristics indicative of higher than normal credit risks are reviewed quarterly for purposes of establishing an allowance for credit losses and placing loans on non-accrual status as necessary. The allowance account for mortgage loans on real estate is maintained at a level believed adequate by management and reflects management’s best estimate of probable credit losses, including losses incurred at the reporting date but not yet identified by specific loan. Management’s periodic evaluation of the adequacy of the allowance for credit losses is based on past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of the underlying collateral, composition of the loan portfolio, current economic conditions and other relevant factors. Loans are charged off as uncollectible only when the loan is forgiven by a legal agreement. Prior to charging off the loan, an allowance is recorded based on the estimated recoverable amount. Upon forgiveness, the allowance is reduced and the loan balance is reduced which results in no further gain or loss.
The detail of impaired loans with an allowance recorded by collateral property type is shown in the table below (in thousands):
                                         
    Six months ended June 30, 2011  
            Unpaid             Average     Interest  
    Recorded     Principal     Related     Recorded     Income  
    Investment     Balance     Allowance     Investment     Recognized  
 
                                       
Retail
  $ 6,679     $ 9,072     $ 493     $ 6,679     $  
 
                             
                                         
    Year ended December 31, 2010  
            Unpaid             Average     Interest  
    Recorded     Principal     Related     Recorded     Income  
    Investment     Balance     Allowance     Investment     Recognized  
 
                                       
Retail
  $ 6,679     $ 9,072     $ 2,393     $ 7,573     $ 406  
 
                             
During the six months ended June 30, 2011, American National did not record interest income on impaired loans using a cash-basis method of accounting.

 

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Credit Quality Indicators
The credit quality of the mortgage loan portfolio is assessed monthly to determine the credit risk of each borrower. A loan is classified as performing or non-performing based on whether all of the contractual terms of the loan have been met. Retail loans classified as non-performing amounted to $12,264,000 as of June 30, 2011 and December 31, 2010. Office loans classified as non-performing amounted to $8,436,000 and $0 at June 30, 2011 and December 31, 2010, respectively. All other loans were classified as performing.
7. CREDIT RISK MANAGEMENT
American National employs a strategy to invest funds at the highest return possible commensurate with sound and prudent underwriting practices to ensure a well-diversified investment portfolio.
Bonds
Management believes American National’s bond portfolio is diversified and of investment grade. The bond portfolio distributed by credit quality rating, using both S&P and Moody’s ratings, is shown below:
                 
    June 30,     December 31,  
    2011     2010  
 
               
AAA
    10.0 %     10.0 %
AA
    10.4       10.2  
A
    38.1       37.0  
BBB
    37.0       37.2  
BB and below
    4.5       5.6  
 
           
Total
    100.0 %     100.0 %
 
           
Equity Securities
American National’s equity securities by market sector distribution are shown below:
                 
    June 30,     December 31,  
    2011     2010  
 
               
Consumer goods
    19.0 %     20.7 %
Financials
    18.9       16.6  
Energy and utilities
    17.9       18.5  
Information technology
    15.3       16.3  
Industrials
    10.7       10.3  
Healthcare
    10.7       10.4  
Communications
    4.2       4.2  
Materials
    3.1       3.0  
Government-sponsored
    0.2        
 
           
Total
    100.0 %     100.0 %
 
           

 

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Mortgage loans and investment real estate
American National makes mortgage loans and invests in real estate primarily in the commercial sector in areas that offer the potential for property value appreciation. Generally, mortgage loans are secured by first liens on income-producing real estate. American National attempts to maintain a diversified portfolio of mortgage loans and real estate properties by considering the property-type as well as the geographic distribution of the property which is the underlying mortgage collateral or investment property.
Mortgage loans and investment real estate by property-type distribution are as follows:
                                 
    Mortgage Loans     Investment Real Estate  
    June 30,     December 31,     June 30,     December 31,  
    2011     2010     2011     2010  
 
                               
Office buildings
    30.9 %     29.3 %     22.9 %     20.8 %
Industrial
    26.8       31.5       16.8       24.1  
Shopping centers
    19.2       17.3       39.2       35.6  
Hotels and motels
    12.0       12.5       2.2       2.0  
Other
    11.1       9.4       18.9       17.5  
 
                       
Total
    100.0 %     100.0 %     100.0 %     100.0 %
 
                       
Mortgage loans and investment real estate by geographic distribution are as follows:
                                 
    Mortgage Loans     Investment Real Estate  
    June 30,     December 31,     June 30,     December 31,  
    2011     2010     2011     2010  
 
                               
West South Central
    24.5 %     23.0 %     67.5 %     61.2 %
South Atlantic
    20.7       19.3       11.2       18.4  
East North Central
    18.6       20.4       5.4       5.6  
Pacific
    9.9       9.4       2.4       2.2  
Mountain
    6.8       7.4       7.5       1.3  
Middle Atlantic
    6.0       6.2              
East South Central
    5.9       6.5       5.2       10.1  
West North Central
    4.0       4.1       0.8       1.2  
New England
    2.9       3.1              
Other
    0.7       0.6              
 
                       
Total
    100.0 %     100.0 %     100.0 %     100.0 %
 
                       

 

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8. FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amount and estimated fair value of financial instruments are shown below (in thousands):
                                 
    June 30, 2011     December 31, 2010  
    Carrying     Estimated     Carrying     Estimated  
    Amount     Fair Value     Amount     Fair Value  
Financial assets:
                               
Fixed maturity securities
                               
Bonds held-to-maturity
                               
U.S. treasury and other U.S. government corporations and agencies
  $ 20,819     $ 21,072     $ 23,117     $ 23,405  
States of the U.S. and political subdivisions of the states
    415,443       425,631       422,249       422,446  
Foreign governments
    29,032       34,211       29,020       33,930  
Corporate debt securities
    7,856,671       8,354,462       7,293,501       7,738,777  
Residential mortgage-backed securities
    761,888       798,971       661,516       691,820  
Commercial mortgage-backed securities
    31,340       20,285       31,340       13,582  
Collateralized debt securities
    7,151       6,194       8,562       8,315  
Other debt securities
    38,959       42,957       44,245       47,559  
 
                       
Total bonds held-to-maturity
    9,161,303       9,703,783       8,513,550       8,979,834  
 
                       
Bonds available-for-sale
                               
U.S. treasury and other U.S. government corporations and agencies
    7,351       7,351       13,907       13,907  
States of the U.S. and political subdivisions of the states
    609,935       609,935       594,112       594,112  
Foreign governments
    6,890       6,890       6,967       6,967  
Corporate debt securities
    3,422,638       3,422,638       3,201,569       3,201,569  
Residential mortgage-backed securities
    238,427       238,427       271,393       271,393  
Collateralized debt securities
    19,495       19,495       20,709       20,709  
Other debt securities
    15,169       15,169       14,956       14,956  
 
                       
Total bonds available-for-sale
    4,319,905       4,319,905       4,123,613       4,123,613  
 
                       
Total fixed maturity securities
    13,481,208       14,023,688       12,637,163       13,103,447  
 
                       
Equity securities
                               
Common stock
                               
Consumer goods
    208,623       208,623       216,592       216,592  
Energy and utilities
    194,796       194,796       193,265       193,265  
Finance
    170,724       170,724       173,579       173,579  
Healthcare
    117,220       117,220       108,509       108,509  
Industrials
    116,614       116,614       107,505       107,505  
Information technology
    167,919       167,919       170,301       170,301  
Materials
    33,475       33,475       32,009       32,009  
Telecommunication services
    45,608       45,608       44,128       44,128  
Preferred stock
    40,417       40,417       36,867       36,867  
 
                       
Total equity securities
    1,095,396       1,095,396       1,082,755       1,082,755  
 
                       
Options
    71,525       71,525       66,716       66,716  
Mortgage loans on real estate, net of allowance
    2,734,625       2,801,562       2,679,909       2,703,674  
Policy loans
    386,715       386,715       380,505       380,505  
Short-term investments
    475,593       475,593       486,206       486,206  
Separate account assets
    785,700       785,700       780,563       780,563  
 
                       
Total financial assets
  $ 19,030,762     $ 19,640,179     $ 18,113,817     $ 18,603,866  
 
                       
Financial liabilities:
                               
Investment contracts
  $ 9,361,605       9,361,605     $ 8,586,041     $ 8,586,041  
Liability for embedded derivatives of equity-indexed annuities
    65,025       65,025       59,644       59,644  
Notes payable
    58,436       58,436       60,140       60,140  
Separate account liabilities
    785,700       785,700       780,563       780,563  
 
                       
Total financial liabilities
  $ 10,270,766     $ 10,270,766     $ 9,486,388     $ 9,486,388  
 
                       

 

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Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability. A fair value hierarchy is used to determine fair value based on a hypothetical transaction at the measurement date from the perspective of a market participant. An asset or liability’s classification within the fair value hierarchy is based on the lowest level of significant input to its valuation. The input levels are defined as follows:
      Level 1 Unadjusted quoted prices in active markets for identical assets or liabilities. American National defines active markets based on average trading volume for equity securities. The size of the bid/ask spread is used as an indicator of market activity for fixed maturity securities.
      Level 2 Quoted prices in markets that are not active or inputs that are observable directly or indirectly. Level 2 inputs include quoted prices for similar assets or liabilities other than quoted prices in Level 1; quoted prices in markets that are not active; or other inputs that are observable or can be derived principally from or corroborated by observable market data for substantially the full term of the assets or liabilities.
      Level 3 Unobservable inputs that are supported by little or no market activity and are significant to the fair value of the assets or liabilities. Unobservable inputs reflect American National’s own assumptions about the assumptions that market participants would use in pricing the asset or liability. Level 3 assets and liabilities include financial instruments whose values are determined using pricing models and third-party evaluation, as well as instruments for which the determination of fair value requires significant management judgment or estimation.
American National has evaluated the various types of securities in its investment portfolio to determine an appropriate fair value hierarchy level based upon trading activity and the observability of market inputs. Based on the results of this evaluation and investment class analysis, each price was classified into Level 1, 2, or 3.
American National utilizes a pricing service to estimate fair value measurements for approximately 99.0% of fixed maturity securities. The pricing service utilizes market quotations for fixed maturity securities that have quoted prices in active markets. Since fixed maturity securities generally do not trade on a daily basis, the pricing service prepares estimates of fair value measurements for these securities using its proprietary pricing applications, which include available relevant market information, benchmark curves, benchmarking of like securities, sector groupings and matrix pricing. Additionally, the pricing service uses an Option Adjusted Spread model to develop prepayment and interest rate scenarios.
The pricing service evaluates each asset class based on relevant market information, relevant credit information, perceived market movements and sector news. The market inputs utilized in the pricing evaluation, listed in the approximate order of priority, include: benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data, and economic events. The extent of the use of each market input depends on the asset class and the market conditions. Depending on the security, the priority of the use of inputs may change or some market inputs may not be relevant. For some securities, additional inputs may be necessary.
American National has reviewed the inputs and methodology used by the pricing service and the techniques applied by the pricing service to produce quotes that represent the fair value of a specific security. The review of the pricing services methodology confirms the service is utilizing information from organized transactions or a technique that represents a market participant’s assumptions. American National does not adjust quotes received by the pricing service.
The pricing service utilized by American National has indicated that they will only produce an estimate of fair value if there is objectively verifiable information available. If the pricing service discontinues pricing an investment, American National would be required to produce an estimate of fair value using some of the same methodologies as the pricing service, but would have to make assumptions for market-based inputs that are unavailable due to market conditions.

 

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The fair value estimates of most fixed maturity securities including municipal bonds are based on observable market information rather than market quotes. Accordingly, the estimates of fair value for such fixed maturity securities provided by the pricing service are included in the amount disclosed in Level 2 of the hierarchy.
Additionally, American National holds a small amount of fixed maturity securities that have characteristics that make them unsuitable for matrix pricing. For these fixed maturity securities, a quote from a broker (typically a market maker) is obtained. Due to the disclaimers on the quotes that indicate that the price is indicative only, American National includes these fair value estimates in Level 3. The pricing of certain private placement debt also includes significant non-observable inputs, the internally determined credit rating of the security, and an externally provided credit spread, and are classified in Level 3.
For public common and preferred stocks, American National receives prices from a nationally recognized pricing service that are based on observable market transactions and these securities are disclosed in Level 1. For certain preferred stock, current market quotes in active markets are unavailable. In these instances, American National receives an estimate of fair value from the pricing service that provides fair value estimates for the fixed maturity securities. The service utilizes some of the same methodologies to price the preferred stocks as it does for the fixed maturity securities. These estimates for equity securities are disclosed in Level 2.
Some assets and liabilities do not fit the hierarchical model for determining fair value. For policy loans, the carrying amount approximates their fair value, because the policy loans cannot be separated from the policy contract. The fair value of investment contract liabilities is determined in accordance with GAAP rules on insurance products and is estimated using a discounted cash flow model, assuming American National’s current interest rates on new products. The carrying value for these contracts approximates their fair value. The carrying amount for notes payable approximates their fair value.

 

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The quantitative disclosures regarding fair value hierarchy measurements of the financial instruments are shown below (in thousands):
                                 
    Fair Value Measurement as of June 30, 2011 Using:  
            Quoted Prices in             Significant  
            Active Markets for     Significant Other     Unobservable  
    Total Estimated     Identical Assets     Observable Inputs     Inputs  
    Fair Value     (Level 1)     (Level 2)     (Level 3)  
Financial assets:
                               
Fixed maturity securities
                               
Bonds held-to-maturity
                               
U.S. treasury and other U.S. government corporations and agencies
  $ 21,072     $     $ 21,072     $  
States of the U.S. and political subdivisions of the states
    425,631             425,493       138  
Foreign governments
    34,211             34,211        
Corporate debt securities
    8,354,462             8,296,996       57,466  
Residential mortgage-backed securities
    798,971             797,024       1,947  
Commercial mortgage-backed securities
    20,285             20,285        
Collateralized debt securities
    6,194                   6,194  
Other debt securities
    42,957             42,957        
 
                       
Total bonds held-to-maturity
    9,703,783             9,638,038       65,745  
 
                       
Bonds available-for-sale
                               
U.S. treasury and other U.S. government corporations and agencies
    7,351             7,351        
States of the U.S. and political subdivisions of the states
    609,935             607,410       2,525  
Foreign governments
    6,890             6,890        
Corporate debt securities
    3,422,638             3,414,291       8,347  
Residential mortgage-backed securities
    238,427             238,420       7  
Collateralized debt securities
    19,495             19,233       262  
Other debt securities
    15,169             15,169        
 
                       
Total bonds available-for-sale
    4,319,905             4,308,764       11,141  
 
                       
Total fixed maturity securities
    14,023,688             13,946,802       76,886  
 
                       
Equity securities
                               
Common stock
                               
Consumer goods
    208,623       208,623              
Energy and utilities
    194,796       194,796              
Finance
    170,724       170,724              
Healthcare
    117,220       117,220              
Industrials
    116,614       116,614              
Information technology
    167,919       167,919              
Materials
    33,475       33,475              
Telecommunication services
    45,608       45,608              
Preferred stock
    40,417       40,417                
 
                       
Total equity securities
    1,095,396       1,095,396              
 
                       
Options
    71,525                   71,525  
Mortgage loans on real estate
    2,801,562             2,801,562        
Short-term investments
    475,593             475,593        
Separate account assets
    785,700             785,700        
 
                       
Total financial assets
  $ 19,253,464     $ 1,095,396     $ 18,009,657     $ 148,411  
 
                       
Financial liabilities:
                               
Liability for embedded derivatives of equity-indexed annuities
  $ 65,025     $     $     $ 65,025  
Separate account liabilities
    785,700             785,700        
 
                       
Total financial liabilities
  $ 850,725     $     $ 785,700     $ 65,025  
 
                       

 

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    Fair Value Measurement as of December 31, 2010 Using:  
            Quoted Prices in             Significant  
            Active Markets for     Significant Other     Unobservable  
    Tota Estimated     Identical Assets     Observable Inputs     Inputs  
    Fair Value     (Level 1)     (Level 2)     (Level 3)  
Financial assets:
                               
Fixed maturity securities
                               
Bonds held-to-maturity
                               
U.S. treasury and other U.S. government corporations and agencies
  $ 23,405     $     $ 23,405     $  
States of the U.S. and political subdivisions of the states
    422,446             422,308       138  
Foreign governments
    33,930             33,930        
Corporate debt securities
    7,738,777             7,680,834       57,943  
Residential mortgage-backed securities
    691,820             689,487       2,333  
Commercial mortgage-backed securities
    13,582             13,582        
Collateralized debt securities
    8,315                   8,315  
Other debt securities
    47,559             47,559        
 
                       
Total bonds held-to-maturity
    8,979,834             8,911,105       68,729  
 
                       
Bonds available-for-sale
                               
U.S. treasury and other U.S. government corporations and agencies
    13,907             13,907        
States of the U.S. and political subdivisions of the states
    594,112             591,587       2,525  
Foreign governments
    6,967             6,967        
Corporate debt securities
    3,201,569             3,182,625       18,944  
Residential mortgage-backed securities
    271,393             271,376       17  
Collateralized debt securities
    20,709             20,447       262  
Other debt securities
    14,956             14,956        
 
                       
Total bonds available-for-sale
    4,123,613             4,101,865       21,748  
 
                       
Total fixed maturity securities
    13,103,447             13,012,970       90,477  
 
                       
Equity securities
                               
Common stock
                               
Consumer goods
    216,592       216,592              
Energy and utilities
    193,265       193,265              
Finance
    173,579       173,579              
Healthcare
    108,509       108,509              
Industrials
    107,505       107,505              
Information technology
    170,301       170,301              
Materials
    32,009       32,009              
Telecommunication services
    44,128       44,128              
Preferred stock
    36,867       36,867              
 
                       
Total equity securities
    1,082,755       1,082,755              
 
                       
Options
    66,716                   66,716  
Mortgage loans on real estate
    2,703,674             2,703,674        
Short-term investments
    486,206             486,206        
Separate account assets
    780,563             780,563        
 
                       
Total financial assets
  $ 18,223,361     $ 1,082,755     $ 16,983,413     $ 157,193  
 
                       
Financial liabilities:
                               
Liability for embedded derivatives of equity-indexed annuities
  $ 59,644     $     $     $ 59,644  
Separate account liabilities
    780,563             780,563        
 
                       
Total financial liabilities
  $ 840,207     $     $ 780,563     $ 59,644  
 
                       

 

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For financial instruments measured at fair value on a recurring basis using significant unobservable inputs (Level 3) during the period, a reconciliation of the beginning and ending balances is shown below at estimated fair value (in thousands):
                                 
                    Liability for        
    Investment             Embedded        
    Securities     Options     Derivatives     Total  
 
                               
Balance at December 31, 2010
  $ 90,477     $ 66,716     $ (59,644 )   $ 97,549  
Total realized and unrealized investment gains/losses
                               
Included in other comprehensive income
    (258 )                 (258 )
Net fair value change included in realized gains/losses
    168                   168  
Net gain for derivatives included in net investment income
          5,297             5,297  
Net fair value change included in interest credited
                (5,381 )     (5,381 )
Purchases and settlements/maturities
                               
Purchases
    12       8,876             8,888  
Sales
    (10,181 )                 (10,181 )
Settlements/maturities
    (3,332 )     (9,364 )           (12,696 )
 
                       
Balance at June 30, 2011
  $ 76,886     $ 71,525     $ (65,025 )   $ 83,386  
 
                       
 
                               
Balance at December 31, 2009
  $ 36,966     $ 32,801     $ (22,487 )   $ 47,280  
Total realized and unrealized investment gains/losses
                               
Included in other comprehensive income
    1,178                   1,178  
Net fair value change included in realized gains/losses
    (17 )                 (17 )
Net loss for derivatives included in net investment income
          (11,889 )           (11,889 )
Net fair value change included in interest credited
                (854 )     (854 )
Purchases and settlements/maturities
                               
Purchases
    50,141       23,465             73,606  
Sales
    (1,054 )                 (1,054 )
Settlements/maturities
          (3,033 )           (3,033 )
Gross transfers into Level 3
    5,913                   5,913  
Gross transfers out of Level 3
    (11,227 )                 (11,227 )
 
                       
Balance at June 30, 2010
  $ 81,900     $ 41,344     $ (23,341 )   $ 99,903  
 
                       
The transfers into Level 3 were the result of existing securities no longer being priced by the third-party pricing service at the end of the period. In accordance with American National’s pricing methodology, these securities are being valued using similar techniques as the pricing service; however, the service-developed data is used in the process, which results in unobservable inputs and a corresponding transfer into Level 3.
The transfers out of Level 3 were securities being priced by a third-party service at the end of the period, using inputs that are observable or derived from market data, which resulted in classification of these assets as Level 2.
There were no transfers between Level 1 and Level 2 fair value hierarchies.

 

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9. DEFERRED POLICY ACQUISITION COSTS
Deferred policy acquisition costs and premiums are shown below (in thousands):
                                         
                    Accident     Property &        
    Life     Annuity     & Health     Casualty     Total  
Balance at December 31, 2010
  $ 661,377     $ 446,996     $ 64,967     $ 145,086     $ 1,318,426  
 
                             
Additions
    39,519       71,024       6,740       139,701       256,984  
Amortization
    (34,683 )     (42,804 )     (10,435 )     (132,086 )     (220,008 )
Effect of change in unrealized gains/losses on available-for-sale securities
    (3,310 )     (18,165 )                 (21,475 )
 
                             
Net change
    1,526       10,055       (3,695 )     7,615       15,501  
 
                             
Balance at June 30, 2011
  $ 662,903     $ 457,051     $ 61,272     $ 152,701     $ 1,333,927  
 
                             
 
                                       
Premiums for the six months ended:
                                       
June 30, 2011
  $ 135,860     $ 51,600     $ 117,028     $ 567,162     $ 871,650  
 
                             
June 30, 2010
  $ 138,318     $ 80,960     $ 136,265     $ 573,969     $ 929,512  
 
                             
Commissions comprise the majority of the additions to deferred policy acquisition costs for each year.
All amounts for the present value of future profits resulting from the acquisition of life insurance portfolios have been accounted for in accordance with the relevant accounting literature and are immaterial in all periods presented.
10. LIABILITY FOR UNPAID CLAIMS AND CLAIM ADJUSTMENT EXPENSES
Liability for unpaid claims and claim adjustment expenses for accident and health, and property and casualty insurance are included in the liability for policy and contract claims in the consolidated statements of financial position and represent the amount estimated for claims that have been reported but not settled and claims incurred but not reported. Liability for unpaid claims are estimated based upon American National’s historical experience and other actuarial assumptions that consider the effects of current developments, anticipated trends and risk management programs, reduced for anticipated salvage and subrogation. The effects of changes in such estimated liability are included in the consolidated results of operations in the period in which the changes occur.
Activities in the liability for unpaid claims and claim adjustment expenses (“claims”) are shown below (in thousands):
                 
    2011     2010  
 
               
Unpaid claims balance at January 1
  $ 1,210,126     $ 1,214,996  
Less reinsurance recoverables
    222,635       252,502  
 
           
Net beginning balance
    987,491       962,494  
 
           
Incurred claims related to:
               
Current
    592,779       651,212  
Prior years
    (37,616 )     (57,596 )
 
           
Total incurred claims
    555,163       593,616  
 
           
Paid claims related to:
               
Current
    323,021       332,629  
Prior years
    234,110       218,958  
 
           
Total paid claims
    557,131       551,587  
 
           
Net balance
    985,523       1,004,523  
Plus reinsurance recoverables
    285,889       246,783  
 
           
Unpaid claims balance at June 30
  $ 1,271,412     $ 1,251,306  
 
           

 

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The potential uncertainty caused by volatility in loss development profiles is adjusted through the selection of loss development factor patterns for each line of insurance. The net and gross reserve calculations have shown favorable development for the last several years as a result of favorable loss emergence compared to what was implied by the loss development patterns used in the original estimation of losses in prior years. Estimates for ultimate incurred claims and claims adjustment expenses attributable to insured events of prior years decreased by approximately $37,616,000 during the first six months of 2011 and $57,596,000 during the same period in 2010.
11. NOTES PAYABLE
American National’s real estate holding subsidiaries are partners in certain ventures determined to be VIEs, and are consolidated in American National’s consolidated financial statements. At June 30, 2011, the current portion and the long term portion of the notes payable to third-party lenders associated with these consolidated VIEs were $0 and $58,436,000, respectively. At December 31, 2010, the current portion and long-term portion of the notes payable to third-party lenders associated with these consolidated VIEs were $47,632,000 and $12,508,000, respectively. The long-term notes payable have interest rates equivalent to adjusted LIBOR plus 1.00% and 2.50% margins. The average interest rate on the long-term notes payable during the first six months of 2011 and 2010 was 3.15%, and will mature in 2012, 2016 and 2049. Each of these notes is secured by the real estate owned through the respective venture entity, and American National’s liability for these notes is limited to the amount of its investment in the respective venture, which totaled $21,526,000 at June 30, 2011 and $21,224,000 at December 31, 2010.
12. FEDERAL INCOME TAXES
The federal income tax provisions vary from the amounts computed when applying the statutory federal income tax rate. A reconciliation of the effective tax rate to the statutory federal income tax rate is shown below (in thousands, except percentages):
                                                                 
    Three Months Ended June 30,     Six Months Ended June 30,  
    2011     2010     2011     2010  
    Amount     Rate     Amount     Rate     Amount     Rate     Amount     Rate  
 
                                                               
Income tax expense on pre-tax income
  $ 13,347       35.0 %   $ 9,734       35.0 %   $ 35,303       35.0 %   $ 24,563       35.0 %
Tax-exempt investment income
    (2,024 )     (5.3 )     (2,277 )     (8.2 )     (4,067 )     (4.0 )     (4,561 )     (6.5 )
Dividend exclusion
    (1,440 )     (3.8 )     (1,357 )     (4.9 )     (2,704 )     (2.7 )     (2,848 )     (4.1 )
Miscellaneous tax credits, net
    (2,129 )     (5.6 )     (1,843 )     (6.6 )     (4,129 )     (4.1 )     (3,577 )     (5.1 )
Other items, net
    (2,923 )     (7.6 )     (950 )     (3.4 )     (2,674 )     (2.7 )     (254 )     (0.3 )
 
                                               
Total
  $ 4,831       12.7 %   $ 3,307       11.9 %   $ 21,729       21.5 %   $ 13,323       19.0 %
 
                                               

 

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The tax effects of temporary differences that gave rise to the deferred tax assets and liabilities are shown below (in thousands):
                 
    June 30,     December 31,  
    2011     2010  
DEFERRED TAX ASSETS:
               
Investments, principally due to impairment losses
  $ 100,578     $ 106,445  
Investment in real estate and other invested assets principally due to investment valuation allowances
    8,831       9,237  
Policyholder funds, principally due to policy reserve discount
    237,680       230,496  
Policyholder funds, principally due to unearned premium reserve
    33,488       31,840  
Non-qualified pension
    28,639       29,345  
Participating policyholders’ surplus
    33,312       31,180  
Pension
    39,123       37,759  
Commissions and other expenses
    15,422       13,870  
Tax carryforwards
    32,269       26,599  
Other assets
    555        
 
           
Gross deferred tax assets
    529,897       516,771  
 
           
 
               
DEFERRED TAX LIABILITIES:
               
Available-for-sale securities, principally due to net unrealized gains
    (226,025 )     (195,840 )
Investment in bonds, principally due to accrual of discount on bonds
    (15,072 )     (16,639 )
Deferred policy acquisition costs, due to difference between GAAP and tax amortization methods
    (354,523 )     (350,981 )
Property, plant and equipment, principally due to difference between GAAP and tax depreciation methods
    (4,898 )     (5,668 )
Other liabilities
          (1,380 )
 
           
Gross deferred tax liabilities
    (600,518 )     (570,508 )
 
           
Total net deferred tax asset (liability)
  $ (70,621 )   $ (53,737 )
 
           
Management believes that a sufficient level of taxable income will be achieved to utilize the deferred tax assets of the companies in the consolidated federal tax return, therefore, no valuation allowance was recorded as of June 30, 2011 and December 31, 2010. However, if not utilized beforehand, approximately $32,269,000 in ordinary loss tax carryforwards will expire at the end of tax year 2030.
American National recognizes interest expense and penalties related to uncertain tax positions. Interest expense and penalties are included in the “Other operating expenses” line in the consolidated statements of operations. No interest expense was incurred for the six months ended June 30, 2011 and for the year ended December 31, 2010. Also, no provision for penalties was established for uncertain tax positions. Management does not believe that there are any uncertain tax benefits that could be recognized within the next twelve months that would decrease American National’s effective tax rate.
The statute of limitations for the examination of federal income tax returns by the Internal Revenue Service (“IRS”) for years 2006 to 2009 has either been extended or has not expired. In the opinion of management, all prior year deficiencies have been paid or adequate provisions have been made for any tax deficiencies that may be upheld.
Approximately $34,441,000 in net federal income taxes were paid to the IRS during the six months ended June 30, 2011. Federal income taxes netting to approximately $26,852,000 were paid to the IRS during the same period in 2010.

 

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13. COMPONENTS OF COMPREHENSIVE INCOME (LOSS)
The details on the unrealized gains and losses included in comprehensive income (loss), and the related tax effects thereon, are shown below (in thousands):
                         
    Before Federal     Federal Income     Net of Federal  
    Income Tax     Tax Expense     Income Tax  
June 30, 2011
                       
Total holding gains (losses) during the period
  $ 106,854     $ 37,399     $ 69,455  
Reclassification adjustment for net (gains) losses realized in net income
    (20,526 )     (7,214 )     (13,312 )
 
                 
Unrealized gains (losses) on available-for-sale securities
    86,328       30,185       56,143  
Adjustment to deferred policy acquisition costs
    (21,475 )     (7,517 )     (13,958 )
Unrealized (gains) losses on investments attributable to participating policyholders’ interest
    (4,055 )     (1,419 )     (2,636 )
 
                 
Net unrealized gain (loss)
  $ 60,798     $ 21,249     $ 39,549  
 
                 
 
                       
June 30, 2010
                       
Total holding gains (losses) during the period
  $ 56,177     $ 19,662     $ 36,515  
Reclassification adjustment for net (gains) losses realized in net income
    (21,171 )     (7,355 )     (13,816 )
 
                 
Unrealized gains (losses) on available-for-sale securities
    35,006       12,307       22,699  
Adjustment to deferred policy acquisition costs
    (39,480 )     (13,816 )     (25,664 )
Unrealized (gains) losses on investments attributable to participating policyholders’ interest
    (1,628 )     (570 )     (1,058 )
 
                 
Net unrealized gain (loss)
  $ (6,102 )   $ (2,079 )   $ (4,023 )
 
                 
14. STOCKHOLDERS’ EQUITY AND NONCONTROLLING INTERESTS
Common stock
American National has only one class of common stock with a par value of $1.00 per share and 50,000,000 authorized shares. The amounts outstanding at the dates indicated are shown below:
                 
    June 30,     December 31,  
    2011     2010  
Common stock
               
Shares issued
    30,832,449       30,832,449  
Treasury shares
    4,011,165       4,011,472  
Restricted shares
    261,334       261,334  
 
           
Unrestricted outstanding shares
    26,559,950       26,559,643  
 
           
Stock-based compensation
American National has one stock-based compensation plan which allows for grants of Non-Qualified Stock Options, Stock Appreciation Rights (“SAR”), Restricted Stock (“RS”) Awards, Restricted Stock Units (“RSU”), Performance Awards, Incentive Awards or any combination of these. The number of shares available for grants under the plan cannot exceed 2,900,000 shares, and no more than 200,000 shares may be granted to any one individual in any calendar year.
RS Awards entitle the participant to full dividend and voting rights. Unvested shares are restricted as to disposition, and are subject to forfeiture under certain circumstances. Compensation expense is recognized over the vesting period. The restrictions on these awards lapse after 10 years, and feature a graded vesting schedule in the case of the retirement of an award holder. Restricted stock has been granted, with a total of 340,334 shares granted at an exercise price of zero, of which 261,334 shares are unvested. The compensation expense recorded for the three months and six months ended June 30, 2011 was $670,000 and $1,333,000, respectively. The compensation expense recorded for the three and six months ended June 30, 2010 was $667,000 and $1,340,000, respectively.

 

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The SARs give the holder the right to cash compensation based on the difference between the price of a share of stock on the grant date and the price on the exercise date. The SARs vest at a rate of 20% per year for 5 years and expire 5 years after the vesting period. American National uses the Black-Scholes option pricing model to calculate the fair value and compensation expense for SARs. The fair value of the SARs was $13,000 and $17,000 at June 30, 2011 and December 31, 2010, respectively. Compensation income was recorded totaling $0 and $4,000 for the three and six months ended June 30, 2011, respectively. Compensation income was recorded totaling $1,138,000 and $1,583,000 for the three and six months ended June 30, 2010, respectively.
RSUs are awarded after achieving the objectives of a performance based incentive compensation plan. In 2011, RSUs were also awarded as part of the Board of Directors compensation. The RSUs vest after two or three years when they will be converted to American National’s common stock on a one for one basis. These awards result in compensation expense to American National over the vesting period. Compensation expense was $523,000 and $813,000 for the three and six months ended June 30, 2011, respectively. Compensation expense was $237,000 and $260,000 for the three and six months ended June 30, 2010, respectively.
SAR, RS and RSU information for the period indicated is shown below:
                                                 
            SAR Weighted-             RS Weighted-             RSU Weighted-  
            Average Grant             Average Grant             Average Grant  
    SAR Shares     Date Fair Value     RS Shares     Date Fair Value     RS Units     Date Fair Value  
 
                                               
Outstanding at December 31, 2010
    144,727     $ 109.40       261,334     $ 102.98       9,419     $ 109.29  
 
                                         
Granted
                            61,481       79.63  
Exercised
    (133 )                       (480 )     79.63  
Forfeited
    (4,358 )     115.63                   (854 )     86.47  
Expired
    (11,100 )     103.11                          
 
                                         
Outstanding at June 30, 2011
    129,136       109.77       261,334       102.98       69,566       83.56  
 
                                         
The weighted-average contractual remaining life for the outstanding SAR shares as of June 30, 2011, is 4.0 years. The weighted-average exercise price, which is the same with the weighted-average grant date fair value above, for these shares is $109.77 per share. Of the shares outstanding, 93,557 are exercisable at a weighted-average exercise price of $108.65 per share.
The weighted-average contractual remaining life for the outstanding RS shares as of June 30, 2011, is 5.5 years. The weighted-average price at the date of grant for these shares is $102.98 per share. None of the shares outstanding were exercisable.
The weighted-average contractual remaining life for the outstanding RSUs as of June 30, 2011, is 2.5 years. The weighted-average price at the date of grant for these units is $83.56 per share. None of the outstanding units were exercisable.

 

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Earnings (losses) per share
Basic earnings (losses) per share was calculated using a weighted-average number of shares outstanding of 26,559,821 and 26,558,832 at June 30, 2011 and 2010, respectively. The Restricted Stock resulted in diluted earnings per share as follows:
                                 
    Three months ended June 30,     Six months ended June 30,  
    2011     2010     2011     2010  
 
                               
Weighted average shares outstanding
    26,559,950       26,558,832       26,559,821       26,558,832  
Incremental shares from restricted stock
    146,195       110,996       141,203       110,996  
 
                       
Total shares for diluted calculations
    26,706,145       26,669,828       26,701,024       26,669,828  
 
                               
Net income (loss) from continuing operations attributable to American National Insurance Company and Subsidiaries
  $ 30,058,000     $ 24,844,000     $ 78,540,000     $ 59,399,000  
Net income (loss) from discontinued operations
          1,778,000             2,001,000  
 
                       
Net income (loss) attributable to American National Insurance Company and Subsidiaries
  $ 30,058,000     $ 26,622,000     $ 78,540,000     $ 61,400,000  
 
                       
 
                               
Basic earnings (loss) per share from continued operations
  $ 1.13     $ 0.93     $ 2.96     $ 2.24  
Basic earnings (loss) per share from discontinued operations
        $ 0.07           $ 0.07  
 
                       
 
                               
Basic earnings (loss) per share
  $ 1.13     $ 1.00     $ 2.96     $ 2.31  
 
                       
 
                               
Diluted earnings (loss) per share from continued operations
  $ 1.13     $ 0.93     $ 2.94     $ 2.23  
Diluted earnings (loss) per share from discontinued operations
          0.07             0.07  
 
                       
 
                               
Diluted earnings (loss) per share
  $ 1.13     $ 1.00     $ 2.94     $ 2.30  
 
                       
Dividends
American National Insurance Company’s payment of dividends to stockholders is restricted by statutory regulations. The restrictions require life insurance companies to maintain minimum amounts of capital and surplus, and in the absence of special approval, limit the payment of dividends to the greater of statutory net gain from operations on an annual non-cumulative basis, or 10% of statutory surplus. Additionally, insurance companies are not permitted to distribute the excess of stockholders’ equity determined on a GAAP basis over that determined on a statutory basis. American National Insurance Company’s statutory capital and surplus was $1,994,645,000 at June 30, 2011 and $1,954,149,000 at December 31, 2010.
The same restrictions on amounts that can transfer in the form of dividends, loans, or advances to the parent company apply to American National’s insurance subsidiaries. Dividends received by the parent company from its non-insurance subsidiaries was zero for the three and six months ended June 30, 2011 and 2010.
At June 30, 2011, approximately $1,392,437,000 of American National’s consolidated stockholders’ equity represents net assets of its insurance subsidiaries, compared to approximately $1,396,736,000 at December 31, 2010. Any transfer of these net assets to American National would be subject to statutory restrictions or approval.
Noncontrolling interests
American National County Mutual Insurance Company (“County Mutual”) is a mutual insurance company that is owned by its policyholders. County Mutual has a management agreement, which effectively gives complete control of County Mutual to American National. As a result, County Mutual is included in the consolidated financial statements of American National. The interests that the policyholders of County Mutual have in the financial position of County Mutual is reflected as noncontrolling interest totaling $6,750,000 at June 30, 2011 and December 31, 2010.
American National’s wholly-owned subsidiary, ANTAC, Inc., is a partner in various joint ventures. ANTAC exercises significant control or ownership to certain of these joint ventures, resulting in their consolidation into the American National consolidated financial statements. As a result of the consolidation, the interest of the other partners of the joint ventures is shown as noncontrolling interests. Noncontrolling interests were a deficit of $14,339,000 and $2,708,000 at June 30, 2011 and December 31, 2010, respectively.

 

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15. SEGMENT INFORMATION
American National and its subsidiaries are engaged principally in the insurance business. Management organizes the business into five operating segments:
    The Life segment markets whole, term, universal and variable life insurance on a national basis primarily through employee and multiple-line agents, direct marketing channels and independent third-party marketing organizations.
    The Annuity segment develops, sells and supports fixed, equity-indexed, and variable annuity products. These products are primarily sold through independent agents and brokers, but are also sold through financial institutions, multiple-line agents and employee agents.
    The Health segment’s primary lines of business are Medicare Supplement, stop loss, other supplemental health products and credit disability insurance. Health products are typically distributed through independent agents and managing general underwriters.
    The Property and Casualty segment writes personal, commercial and credit-related property insurance. These products are primarily sold through multiple-line agents and independent agents.
    The Corporate and Other business segment consists of net investment income on the investments not allocated to the insurance segments and the operations of non-insurance lines of business.
The accounting policies of the segments are the same as those referred to in Note 2. Many of the principal factors that drive the profitability of each operating segment are separate and distinct. All income and expense amounts specifically attributable to policy transactions are recorded directly to the appropriate operating segment. Income and expenses not specifically attributable to policy transactions are allocated to each segment as follows:
    Recurring income from bonds and mortgage loans is allocated based on the funds accumulated by each line of business at the average yield available from these assets.
    Net investment income from all other assets is allocated to the insurance segments in accordance with the amount of equity allocated to each segment, with the remainder recorded in the Corporate and Other business segment.
    Expenses are allocated based upon various factors, including premium and commission ratios within the respective operating segments.
    Realized gains or losses on investments and equity in earnings of unconsolidated affiliates are allocated to the Corporate and Other business segment.
    Federal income taxes have been applied to the net earnings of each insurance segment based on a fixed tax rate. Any difference between the amount allocated to the insurance segments and the total federal income tax is allocated to the Corporate and Other business segment.
Beginning in 2011, American National discontinued the allocation of a “default charge” to its segments to improve the comparability for measuring business results between segments and between periods. This default charge represented compensation to the Corporate and Other business segment for the risk it assumed for realized investment losses through a charge to the insurance segments. This reduced the amount of net investment income allocated to those insurance segments. Net investment income of each business segment in the prior year was reclassified to be comparable with the current year’s measurement basis.

 

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The following tables summarize results of operations by operating segments (in thousands):
                                                 
    Three months ended June 30, 2011  
                            Property &     Corporate &        
    Life     Annuity     Health     Casualty     Other     TOTAL  
Premiums and other revenues:
                                               
Premiums
  $ 69,474     $ 32,110     $ 58,384     $ 275,848     $     $ 435,816  
Other policy revenues
    42,068       4,311                         46,379  
Net investment income
    60,411       144,439       3,425       18,312       23,585       250,172  
Other income
    898       (43 )     3,603       1,556       1,107       7,121  
 
                                   
Total operating revenues
    172,851       180,817       65,412       295,716       24,692       739,488  
Realized gains (losses)on investments
                            22,926       22,926  
 
                                   
Total premium and other revenues
    172,851       180,817       65,412       295,716       47,618       762,414  
 
                                   
 
                                               
Benefits, losses and expenses:
                                               
Policyholder benefits
    79,854       42,837                         122,691  
Claims incurred
                39,466       254,431             293,897  
Interest credited to policyholders’ account balances
    15,080       84,059                         99,139  
Commissions for acquiring and servicing policies
    22,921       29,576       7,100       59,803       3       119,403  
Other operating expenses
    46,139       13,475       12,419       31,154       9,874       113,061  
Change in deferred policy acquisition costs
    (2,287 )     (15,603 )     1,362       (7,383 )           (23,911 )
 
                                   
Total benefits, losses and expenses
    161,707       154,344       60,347       338,005       9,877       724,280  
 
                                   
 
                                               
Income (loss) from continuing operations before federal income taxes, and equity in earnings/losses of unconsolidated affiliates
  $ 11,144     $ 26,473     $ 5,065     $ (42,289 )   $ 37,741     $ 38,134  
 
                                   
                                                 
    Three months ended June 30, 2010  
                            Property &     Corporate &        
    Life     Annuity     Health     Casualty     Other     TOTAL  
Premiums and other revenues:
                                               
Premiums
  $ 68,873     $ 40,608     $ 67,841     $ 287,497     $     $ 464,819  
Other policy revenues
    42,690       4,038                         46,728  
Net investment income
    58,421       119,177       3,963       18,494       11,726       211,781  
Other income
    953       85       2,954       1,857       1,662       7,511  
 
                                   
Total operating revenues
    170,937       163,908       74,758       307,848       13,388       730,839  
Realized gains (losses) on investments
                            15,309       15,309  
 
                                   
Total premiums and other revenues
    170,937       163,908       74,758       307,848       28,697       746,148  
 
                                   
 
                                               
Benefits, losses and expenses:
                                               
Policyholder benefits
    74,468       50,442                         124,910  
Claims incurred
                45,351       258,014             303,365  
Interest credited to policyholders’ account balances
    13,302       66,222                         79,524  
Commissions for acquiring and servicing policies
    23,954       26,456       9,362       56,126       2       115,900  
Other operating expenses
    42,983       17,804       12,973       32,604       6,401       112,765  
Change in deferred policy acquisition costs
    (1,534 )     (14,683 )     981       (2,890 )           (18,126 )
 
                                   
Total benefits, losses and expenses
    153,173       146,241       68,667       343,854       6,403       718,338  
 
                                   
 
                                               
Income (loss) from continuing operations before federal income taxes, and equity in earnings/losses of unconsolidated affiliates
  $ 17,764     $ 17,667     $ 6,091     $ (36,006 )   $ 22,294     $ 27,810  
 
                                   

 

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    Six months ended June 30, 2011  
                            Property &     Corporate &        
    Life     Annuity     Health     Casualty     Other     TOTAL  
Premiums and other revenues:
                                               
Premiums
  $ 135,860     $ 51,600     $ 117,028     $ 567,162     $     $ 871,650  
Other policy revenues
    86,911       8,599                         95,510  
Net investment income
    119,493       292,324       6,841       36,378       34,208       489,244  
Other income
    1,698       121       6,520       3,500       1,675       13,514  
 
                                   
Total operating revenues
    343,962       352,644       130,389       607,040       35,883       1,469,918  
Realized gains (losses) on investments
                            44,957       44,957  
 
                                   
Total premium and other revenues
    343,962       352,644       130,389       607,040       80,840       1,514,875  
 
                                   
 
                                               
Benefits, losses and expenses:
                                               
Policyholder benefits
    156,541       72,810                         229,351  
Claims incurred
                81,073       469,942             551,015  
Interest credited to policyholders’ account balances
    30,136       175,394                         205,530  
Commissions for acquiring and servicing policies
    43,783       59,549       13,566       112,725       6       229,629  
Other operating expenses
    86,682       41,036       23,996       61,892       21,854       235,460  
Change in deferred policy acquisition costs
    (4,836 )     (28,220 )     3,695       (7,615 )           (36,976 )
 
                                   
Total benefits, losses and expenses
    312,306       320,569       122,330       636,944       21,860       1,414,009  
 
                                   
 
                                               
Income (loss) from continuing operations before federal income taxes, and equity in earnings/losses of unconsolidated affiliates
  $ 31,656     $ 32,075     $ 8,059     $ (29,904 )   $ 58,980     $ 100,866  
 
                                   
                                                 
    Six months ended June 30, 2010  
                            Property &     Corporate &        
    Life     Annuity     Health     Casualty     Other     TOTAL  
Premiums and other revenues:
                                               
Premiums
  $ 138,318     $ 80,960     $ 136,265     $ 573,969     $     $ 929,512  
Other policy revenues
    83,776       7,948                         91,724  
Net investment income
    117,306       244,285       8,017       37,345       22,930       429,883  
Other income
    1,790       161       5,290       3,895       2,290       13,426  
 
                                   
Total operating revenues
    341,190       333,354       149,572       615,209       25,220       1,464,545  
Realized gains (losses) on investments
                            31,811       31,811  
 
                                   
Total premium and other revenues
    341,190       333,354       149,572       615,209       57,031       1,496,356  
 
                                   
 
                                               
Benefits, losses and expenses:
                                               
Policyholder benefits
    147,006       98,137                         245,143  
Claims incurred
                98,190       493,217             591,407  
Interest credited to policyholders’ account balances
    27,994       145,892                         173,886  
Commissions for acquiring and servicing policies
    43,662       51,149       19,115       108,848       3       222,777  
Other operating expenses
    86,375       33,884       25,112       63,270       17,332       225,973  
Change in deferred policy acquisition costs
    (4,144 )     (28,940 )     2,893       (2,818 )           (33,009 )
 
                                   
Total benefits, losses and expenses
    300,893       300,122       145,310       662,517       17,335       1,426,177  
 
                                   
 
                                               
Income (loss) from continuing operations before federal income taxes, and equity in earnings/losses of unconsolidated affiliates
  $ 40,297     $ 33,232     $ 4,262     $ (47,308 )   $ 39,696     $ 70,179  
 
                                   

 

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16. COMMITMENTS AND CONTINGENCIES
Commitments
In the ordinary course of operations, American National and its subsidiaries had commitments outstanding at June 30, 2011, to purchase, expand or improve real estate, to fund mortgage loans, and to purchase other invested assets aggregating $273,264,000, of which $264,790,000 is expected to be funded in 2011. The remaining balance of $8,474,000 will be funded in 2012 and beyond. As of June 30, 2011, all of the mortgage loan commitments have fixed interest rates.
In September 2010, American National renewed a 365-day $100,000,000 short-term variable rate borrowing facility containing a $55,000,000 subfeature for the issuance of letters of credit. Borrowings under the facility are at the discretion of the lender and would be used only for funding American National’s working capital requirements. The combination of borrowings and outstanding letters of credit cannot exceed $100,000,000 at any time. As of June 30, 2011 and December 31, 2010 the outstanding letters of credit were $33,759,000 and $37,452,000, respectively, and there were no borrowings on this facility to meet working capital requirements.
Guarantees
In the normal course of business, American National has guaranteed bank loans for customers of a third-party marketing operation. The bank loans are used to fund premium payments on life insurance policies issued by American National. The loans are secured by the cash values of the life insurance policies. If the customer were to default on the bank loan, American National would be obligated to pay off the loans. As the cash values of the life insurance policies always equal or exceed the balance of the loans, management does not foresee any loss on these guarantees. The total amount of the guarantees outstanding as of June 30, 2011, was approximately $206,513,000 while the total cash value of the related life insurance policies was approximately $207,821,000.
Litigation
As previously disclosed, American National negotiated a settlement agreement with Plaintiff in a putative class action lawsuit, Rand v. American National Insurance Company (U.S. District Court for the Northern District of California, filed February 12, 2009). During the quarter ended March 31, 2011, American National reserved $12,000,000 for this settlement agreement. The Court has reviewed the settlement agreement terms and entered an Order of Preliminary Approval and ordered notice to go to the parties. The Court is expected to hold a final approval hearing in the fall of 2011. In the event final approval is not granted, American National believes that it has meritorious defenses to this lawsuit; however, no prediction can be made as to the probability or remoteness of any recovery against American National.
American National and certain subsidiaries are also defendants in various other lawsuits concerning alleged failure to honor certain loan commitments, alleged breach of certain agency and real estate contracts, various employment matters, allegedly deceptive insurance sales and marketing practices, and other litigation arising in the ordinary course of operations. Certain of these lawsuits include claims for compensatory and punitive damages. After reviewing these matters with legal counsel, management is of the opinion that the ultimate resultant liability, if any, would not have a material adverse effect on American National’s consolidated financial position or results of operations. However, these lawsuits are in various stages of development, and future facts and circumstances could result in management’s changing its conclusions.
In addition, it should be noted that the frequency of large damage awards, which bear little or no relation to the economic damages incurred by plaintiffs in some jurisdictions, continue to create the potential for an unpredictable judgment in any given lawsuit. It is possible that, if the defenses in these lawsuits are not successful, and the judgments are greater than management can anticipate, the resulting liability could have a material impact on the consolidated financial results.

 

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17. DISCONTINUED OPERATIONS
On December 31, 2010, American National sold its wholly-owned broker-dealer subsidiary, Securities Management & Research, Inc. (“SM&R”), to a third-party financial services corporation. The sale qualified for discontinued operations accounting and accordingly, the results of operations for this subsidiary are presented as discontinued operations in American National’s consolidated statements of operations for the three and six months ended June 30, 2010. SM&R had previously been a component of the Corporate and Other business segment.
The following table summarizes income from discontinued operations:
                 
    Three months     Six months  
    ended June 30,     ended June 30,  
    2010     2010  
Revenues:
               
Net investment income
  $ 36     $ 145  
Realized investment gains (losses)
    2,935       2,930  
Other Income
    3,058       6,507  
 
           
 
               
Total revenues
    6,029       9,582  
 
           
 
               
Expenses
               
Other operating costs
    3,297       6,550  
 
           
 
               
Total expenses
    3,297       6,550  
 
           
 
               
Income (loss) from discontinued operations before federal income tax
    2,732       3,032  
 
               
Income tax expense (benefit)
    954       1,031  
 
           
 
               
Income (loss) from discontinued operations, net of tax
  $ 1,778     $ 2,001  
 
           
Cash flows related to discontinued operations have been combined with cash flows from continuing operations within each category of the consolidated statements of cash flows, the effect of which is immaterial to all periods presented.

 

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18. RELATED PARTY TRANSACTIONS
American National has entered into recurring transactions and agreements with certain related parties as a part of its ongoing operations. These include mortgage loans, management contracts, agency commission contracts, marketing agreements, accident and health insurance contracts and legal services. The impact on the consolidated financial statements of the significant related party transactions for the periods indicated, is shown below (in thousands):
                                     
                        Amount due to/(from)  
        Dollar Amount of Transactions     American National  
        Six months ended June 30,     June 30,     December 31,  
Related Party   Financial Statement Line Impacted   2011     2010     2011     2010  
 
                                   
Gal-Tex Hotel Corporation
  Mortgage loans on real estate   $ 488     $ 454     $ 10,463     $ 10,951  
Gal-Tex Hotel Corporation
  Net investment income     390       424       63       66  
Gal-Tex Hotel Corporation
  Other operating expenses     132       131       25       21  
Gal-Tex Hotel Corporation
  Accident and health premiums     30       48       15       56  
Moody Insurance Group, Inc.
  Commissions for acquiring and servicing policies     1,092       1,392       (818 )     (7,173 )
Moody Insurance Group, Inc.
  Other operating expenses     32       70              
National Western Life Ins. Co.
  Accident and health premiums     102       76       14       14  
National Western Life Ins. Co.
  Other operating expenses     789       738       (68 )     (71 )
Moody Foundation
  Accident and health premiums     151       152       8       7  
Greer, Herz and Adams, LLP
  Other operating expenses     2,026       5,849       434       251  
Information Regarding Related Parties and Transactions
Mortgage Loans to Gal-Tex Hotel Corporation (“Gal-Tex”): The Moody Foundation and the Libbie Shearn Moody Trust own 34.0% and 50.2%, respectively, of Gal-Tex Hotel Corporation (“Gal-Tex”). The Moody Foundation and the Libbie Shearn Moody Trust also own approximately 22.9% and 37.1%, respectively, of American National. American National held a first mortgage loan issued to Gal-Tex secured by hotel property in San Antonio, Texas. This loan was originated in 1999, had a balance of $10,463,000 as of June 30, 2011, has a current interest rate of 7.30%, and has a final maturity date of April 1, 2019. This loan is current as to principal and interest payments.
Management Contracts with Gal-Tex: American National entered into management contracts with Gal-Tex for the management of a hotel and adjacent fitness center owned by American National. Such contracts can be terminated upon thirty days’ prior written notice.
Transactions with Moody Insurance Group, Inc.: Robert L. Moody, Jr. (“RLM Jr.”) is the son of American National’s Chairman and Chief Executive Officer, brother of two of American National’s directors, and he is one of American National’s advisory directors. RLM Jr., mainly through his wholly-owned insurance agency, Moody Insurance Group, Inc. (“MIG”), has entered into a number of agency agreements with American National and some of its subsidiaries in connection with the marketing of insurance products.
MIG and American National are also parties to a Consulting and Special Marketing Agreement concerning development and marketing of new products. In addition to consulting fees paid under such agreement, compensation also includes dividends on shares of American National’s Restricted Stock granted to MIG as a consultant.
Health Insurance Contracts with Certain Affiliates: American National’s Merit Plan is insured by National Western Life Insurance Company (“National Western”). Robert L. Moody, Sr., American National’s Chairman of the Board and Chief Executive Officer, is also the Chairman of the Board, Chief Executive Officer, and controlling stockholder of National Western. The Merit Plan is an insured medical plan that supplements American National’s core medical insurance plan for certain officers by providing coverage for co-pays, deductibles, and other out-of-pocket expenses that are not covered by the core medical insurance plan, limited to medical expenses that could be deducted by the recipient for federal income tax purposes.
In addition, American National insures substantially similar plans offered by National Western, Gal-Tex, and The Moody Foundation to certain of their officers. American National also insures The Moody Foundation’s basic health insurance plan.
Transactions with Greer, Herz & Adams, L.L.P.: Irwin M. Herz, Jr. is one of American National’s advisory directors and a Partner with Greer, Herz & Adams, L.L.P. which serves as American National’s General Counsel.

 

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ITEM 2.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Set forth on the following pages is management’s discussion and analysis (“MD&A”) of financial condition and results of operations for the three and six months ended June 30, 2011 and 2010 of American National Insurance Company and its subsidiaries (referred to in this document as “we”, “our”, “us”, or the “Company”). Such information should be read in conjunction with our consolidated unaudited financial statements included in Item 1, Financial Statements, of this Form 10-Q.
INDEX
         
    42  
 
       
    43  
 
       
    43  
 
       
    43  
 
       
    43  
 
       
    44  
 
       
    45  
 
       
    47  
 
       
    51  
 
       
    53  
 
       
    58  
 
       
    58  
 
       
    61  
 
       
    62  
 
       
    62  
 
       
    63  
 
       
    63  

 

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Forward-Looking Statements
Certain statements contained herein are forward-looking statements. The forward-looking statements are made pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995, and include estimates and assumptions related to economic, competitive and legislative developments. Forward looking statements may be identified by words such as “expects,” “intends,” “anticipates,” “plans,” “believes,” “estimates,” “will” or words of similar meaning; and include, but are not limited to, statements regarding the outlook of our business and financial performance. These forward-looking statements are subject to change and uncertainty, which are, in many instances, beyond our control and have been made based upon our expectations and beliefs concerning future developments and their potential effect upon us. There can be no assurance that future developments will be in accordance with our expectations, or that the effect of future developments on us will be as anticipated. These forward-looking statements are not a guarantee of future performance and involve risks and uncertainties. There are certain important risks and uncertainties that could cause actual results to differ, possibly materially, from expectations or estimates reflected in such forward-looking statements. These factors include among others:
    domestic and international economic and financial factors, including the performance and fluctuations of fixed income, equity, real estate, credit capital and other financial markets;
    differences between actual experience regarding mortality, morbidity, persistency, surrender experience, interest rates or market returns, and the assumptions we use in pricing our products, establishing liabilities and reserves or for other purposes;
    the effect of increased claims activity from natural or man-made catastrophes, pandemic disease, or other events resulting in catastrophic loss of life or property;
    adverse determinations in litigation or regulatory matters and our exposure to contingent liabilities, including and in connection with our divestiture or winding down of businesses;
    inherent uncertainties in the determination of investment allowances and impairments and in the determination of the valuation allowance on the deferred income tax asset;
    investment losses and defaults;
    competition in our product lines;
    attraction and retention of qualified employees and agents;
    ineffectiveness of risk management policies and procedures in identifying, monitoring and managing risks;
    the availability, affordability and adequacy of reinsurance protection;
    the effects of emerging claim and coverage issues;
    the cyclical nature of the insurance business;
    the effects of inflation on claim payments in our property and casualty and health lines;
    interest rate fluctuations;
    changes in our experiences related to deferred policy acquisition costs;
    the ability and willingness of counterparties to our reinsurance arrangements and derivative instruments to pay balances due to us;
    changes in our financial strength ratings;
    domestic or international military actions;
    the effects of extensive government regulation of the insurance industry;
    changes in tax and securities law;
    changes in statutory or U.S. generally accepted accounting principles (“GAAP”), practices or policies;
    regulatory or legislative changes or developments;
    the effects of unanticipated events on our disaster recovery and business continuity planning;
    failures or limitations of our computer, data security and administration systems;
    risks of employee error or misconduct;
    the introduction of alternative healthcare solutions; and
    changes in assumptions for retirement expense.
We describe these risks and uncertainties in detail in Item IA, Risk Factors, in our 2010 Annual Report on Form 10-K filed with the SEC on March 2, 2011. It has never been a matter of corporate policy for us to make specific projections relating to future earnings, and we do not endorse any projections regarding future performance made by others. Additionally, we do not publicly update or revise forward-looking statements based on the outcome of various foreseeable or unforeseeable events.

 

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Overview
We are a diversified insurance and financial services company, offering a broad spectrum of life, annuity, health, and property and casualty insurance products. Chartered in 1905, we are headquartered in Galveston, Texas. We operate in all 50 states, the District of Columbia, Guam, American Samoa and Puerto Rico.
General Trends
There were no material changes to the general trends we are experiencing, as discussed in the MD&A included in our 2010 Annual Report on Form 10-K filed with the SEC on March 2, 2011.
Critical Accounting Estimates
The unaudited interim consolidated financial statements have been prepared in conformity with GAAP. In addition to GAAP, insurance companies have to apply specific SEC regulations when preparing the consolidated financial statements. The preparation of the consolidated financial statements in accordance with GAAP requires us to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and notes. Actual results could differ from results reported using those estimates.
Our accounting policies inherently require the use of judgments relating to a variety of assumptions and estimates, particularly expectations of current and future mortality, morbidity, persistency, expenses, interest rates, and property and casualty frequency, severity, claim reporting and settlement patterns. Due to the inherent uncertainty when using the assumptions and estimates, the effect of certain accounting policies under different conditions or assumptions could be different from those reported in the consolidated financial statements.
For a discussion of our critical accounting estimates, see the MD&A in our 2010 Annual Report on Form 10-K filed with the SEC on March 2, 2011. There were no material changes in accounting policies from December 31, 2010.
Recently Issued Accounting Pronouncements
Refer to Note 3, Recently Issued Accounting Pronouncements, of the Notes to the Unaudited Consolidated Financial Statements.

 

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Consolidated Results of Operations
The following is a discussion of our consolidated results of operations. For discussions of our segment results, see the “Results of Operations and Related Information by Segment” section. The following table sets forth the consolidated results of operations (in thousands):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
Premiums and other revenues:
                                               
Premiums
  $ 435,816     $ 464,819     $ (29,003 )   $ 871,650     $ 929,512     $ (57,862 )
Other policy revenues
    46,379       46,728       (349 )     95,510       91,724       3,786  
Net investment income
    250,172       211,781       38,391       489,244       429,883       59,361  
Realized investments gains, net
    22,926       15,309       7,617       44,957       31,811       13,146  
Other income
    7,121       7,511       (390 )     13,514       13,426       88  
 
                                   
Total premiums and other revenues
    762,414       746,148       16,266       1,514,875       1,496,356       18,519  
 
                                   
 
                                               
Benefits, losses and expenses:
                                               
Policyholder benefits
    122,691       124,910       (2,219 )     229,351       245,143       (15,792 )
Claims incurred
    293,897       303,365       (9,468 )     551,015       591,407       (40,392 )
Interest credited to policyholders’ account balances
    99,139       79,524       19,615       205,530       173,886       31,644  
Commissions for acquiring and servicing policies
    119,403       115,900       3,503       229,629       222,777       6,852  
Other operating expenses
    113,061       112,765       296       235,460       225,973       9,487  
Change in deferred policy acquisition costs (1)
    (23,911 )     (18,126 )     (5,785 )     (36,976 )     (33,009 )     (3,967 )
 
                                   
Total benefits and expenses
    724,280       718,338       5,942       1,414,009       1,426,177       (12,168 )
 
                                   
 
                                               
Income before other items and federal income taxes
  $ 38,134     $ 27,810     $ 10,324     $ 100,866     $ 70,179     $ 30,687  
 
                                   
     
(1)   A negative amount of net change indicates more expense was deferred than amortized and represents a decrease to expenses in the periods indicated.
Consolidated earnings increased during the three and six months ended June 30, 2011 compared to 2010. The increase was primarily driven by an improved property and casualty segment results, an increase in net investment income greater than the increase in interest credited to policyholders’ account balances and an increase in net realized investment gains. The increases were partially offset by a decrease in premiums.
In the Consolidated Results of Operations above and in the segment discussions that follow, certain amounts in the prior year have been reclassified to conform to current year presentation. See Note 15, Segment Information, of the Notes to the Unaudited Consolidated Financial Statements.

 

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Results of Operations and Related Information by Segment
Life
The Life segment markets traditional life insurance products such as whole and term life, and interest-sensitive life insurance products such as universal life and variable universal life as well as indexed universal life. These products are marketed on a nationwide basis through employee agents, multiple-line agents, independent agents, brokers and direct marketing channels. Life segment financial results for the periods indicated were as follows (in thousands):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
Premiums and other revenues:
                                               
Premiums
  $ 69,474     $ 68,873     $ 601     $ 135,860     $ 138,318     $ (2,458 )
Other policy revenues
    42,068       42,690       (622 )     86,911       83,776       3,135  
Net investment income
    60,411       58,421       1,990       119,493       117,306       2,187  
Other income
    898       953       (55 )     1,698       1,790       (92 )
 
                                   
Total premiums and other revenues
    172,851       170,937       1,914       343,962       341,190       2,772  
 
                                   
 
                                               
Benefits, losses and expenses:
                                               
Policyholder benefits
    79,854       74,468       5,386       156,541       147,006       9,535  
Interest credited to policyholders’ account balances
    15,080       13,302       1,778       30,136       27,994       2,142  
Commissions for acquiring and servicing policies
    22,921       23,954       (1,033 )     43,783       43,662       121  
Other operating expenses
    46,139       42,983       3,156       86,682       86,375       307  
Change in deferred policy acquisition costs (1)
    (2,287 )     (1,534 )     (753 )     (4,836 )     (4,144 )     (692 )
 
                                   
Total benefits and expenses
    161,707       153,173       8,534       312,306       300,893       11,413  
 
                                   
 
                                               
Income before other items and federal income taxes
  $ 11,144     $ 17,764     $ (6,620 )   $ 31,656     $ 40,297     $ (8,641 )
 
                                   
     
(1)   A negative amount of net change indicates more expense was deferred than amortized and represents a decrease to expenses in the periods indicated.
For the three and six months ended June 30, 2011, earnings decreased compared to the same periods in 2010. The overall decreases were primarily attributable to an increase in policyholder benefits. The decrease during the six-month period was partially offset by an increase in other policy revenues.
Premiums and other revenues
Changes in premiums are primarily driven by new sales during the period and the persistency of in-force policies. Premiums were relatively flat in the three and six months ended June 30, 2011.
Other policy revenues include mortality charges, earned policy service fees and surrender charges on interest-sensitive life insurance policies. The increase during the six-month period was primarily driven by growth in total mortality charges, as well as an increase in terminations during the first quarter, resulting in additional surrender charges and related fees.
Benefits, losses and expenses
Policyholder benefits increased for the three and six months ended June 30, 2011 compared to 2010. The increases were the result of higher mortality cost net of reinsurance.

 

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The following table presents the components of the change in DAC (in thousands):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
 
                                               
Acquisition cost capitalized
  $ 19,130     $ 20,050     $ (920 )   $ 39,519     $ 38,148     $ 1,371  
Amortization of DAC
    (16,843 )     (18,516 )     1,673       (34,683 )     (34,004 )     (679 )
 
                                   
Change in deferred policy acquisition costs (1)
  $ 2,287     $ 1,534     $ 753     $ 4,836     $ 4,144     $ 692  
 
                                   
     
(1)   A positive amount of net change indicates more expense was deferred than amortized and represents a decrease to expenses in the periods indicated.
Policy In-Force Information
The following table summarizes changes in the Life segment’s in-force amounts (in thousands):
                         
    Six months ended June 30,        
    2011     2010     Change  
 
                       
Life insurance in-force
                       
Traditional life
  $ 46,519,820     $ 45,656,727     $ 863,093  
Interest-sensitive life
    23,685,084       24,042,637       (357,553 )
 
                 
Total life insurance in-force
  $ 70,204,904     $ 69,699,364     $ 505,540  
 
                 
The following table summarizes changes in the Life segment’s number of policies in-force:
                         
    Six months ended June 30,        
    2011     2010     Change  
 
                       
Number of policies in-force
                       
Traditional life
    2,234,613       2,311,928       (77,315 )
Interest-sensitive life
    176,775       175,560       1,215  
 
                 
Total number of policies
    2,411,388       2,487,488       (76,100 )
 
                 
There was an increase in total life insurance in-force for the six months ended June 30, 2011 when compared to 2010. The increase to our traditional life products is believed to be the result of consumers seeking contract guarantees due to the economic environment in recent years. This increase was partially offset by a decrease in our interest-sensitive life policies as the result of lower prevailing interest rates.
The decrease in our policy count is attributable to surrenders and lapses, as well as new business activity being comprised of fewer, but larger face-value policies.

 

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Annuity
We develop, sell and support a variety of immediate and deferred annuities, including fixed, equity-indexed and variable products. We sell these products through independent agents, brokers, financial institutions, multiple-line and employee agents. Annuity segment financial results for the periods indicated were as follows (in thousands):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
Premiums and other revenues:
                                               
Premiums
  $ 32,110     $ 40,608     $ (8,498 )   $ 51,600     $ 80,960     $ (29,360 )
Other policy revenues
    4,311       4,038       273       8,599       7,948       651  
Net investment income
    144,439       119,177       25,262       292,324       244,285       48,039  
Other income
    (43 )     85       (128 )     121       161       (40 )
 
                                   
Total premiums and other revenues
    180,817       163,908       16,909       352,644       333,354       19,290  
 
                                   
 
                                               
Benefits, losses and expenses:
                                               
Policyholder benefits
    42,837       50,442       (7,605 )     72,810       98,137       (25,327 )
Interest credited to policyholders’ account balances
    84,059       66,222       17,837       175,394       145,892       29,502  
Commissions for acquiring and servicing policies
    29,576       26,456       3,120       59,549       51,149       8,400  
Other operating expenses
    13,475       17,804       (4,329 )     41,036       33,884       7,152  
Change in deferred policy acquisition costs (1)
    (15,603 )     (14,683 )     (920 )     (28,220 )     (28,940 )     720  
 
                                   
Total benefits and expenses
    154,344       146,241       8,103       320,569       300,122       20,447  
 
                                   
 
                                               
Income before other items and federal income taxes
  $ 26,473     $ 17,667     $ 8,806     $ 32,075     $ 33,232     $ (1,157 )
 
                                   
     
(1)   A negative amount of net change indicates more expense was deferred than amortized and represents a decrease to expenses in the periods indicated.
Earnings increased for the three months ended June 30, 2011 compared to 2010 primarily as the result of the growth in net investment income outpacing the growth in interest credited to policyholders’ account balances.
Earnings decreased for the six months ended June 30, 2011 compared to 2010 primarily as the result of an increase in other operating expenses. The decrease was partially offset by the growth in net investment income outpacing the growth in interest credited to policyholders’ account balances. The increase in other operating expenses was primarily the result of an accrual for a previously disclosed litigation matter. For additional information, see Note 16, Commitments and Contingencies, of the Notes to the Unaudited Consolidated Financial Statements. Without this accrual, earnings would have increased $10.8 million compared to the first six months of 2010.
Premiums and other revenues
Annuity premium and deposit amounts received are shown in the table below (in thousands):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
 
                                               
Fixed deferred annuity
  $ 483,259     $ 256,117     $ 227,142     $ 1,031,605     $ 446,392     $ 585,213  
Single premium immediate annuity
    48,797       41,801       6,996       82,607       82,775       (168 )
Equity-indexed deferred annuity
    42,959       124,791       (81,832 )     76,653       248,955       (172,302 )
Variable deferred annuity
    19,835       22,677       (2,842 )     46,114       48,304       (2,190 )
 
                                   
Total
    594,850       445,386       149,464       1,236,979       826,426       410,553  
Less: policy deposits
    562,740       404,778       157,962       1,185,379       745,466       439,913  
 
                                   
Total earned premiums
  $ 32,110     $ 40,608     $ (8,498 )   $ 51,600     $ 80,960     $ (29,360 )
 
                                   
Fixed deferred annuity deposits increased significantly for the three and six months ended June 30, 2011 compared to 2010. The increase was primarily a result of our marketing efforts to expand bank distribution through the development of new accounts. In addition, continued depressed interest rates help make our fixed deferred annuity rates more attractive relative to other competing financial products.
Equity-indexed annuities allow policyholders to participate in equity returns while also having certain downside protection resulting from guaranteed minimum crediting rates. Deposits for this product decreased during the three and six months ended June 30, 2011 as compared to the same period in 2010. This decrease was primarily due to lower fixed investment yields resulting in lower declared indexed crediting terms.

 

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Net investment income, a key component of the Annuity segment profitability, increased for the three and six months ended June 30, 2011 compared to 2010. The increase was mainly attributed to a 12.3% and 11.4% increase in the assets backing the in-force fixed deferred annuity account balances in the three and six-month periods, respectively. Net investment income resulting from options added $8.4 million and $17.2 million to the three and six-month increases, respectively.
Benefits, losses and expenses
Policyholder benefits consist primarily of reserve increases and benefit payments on single premium immediate annuity contracts. The changes in this expense are in line with the changes in total earned premiums in the current and comparable periods.
Interest credited to policyholders’ account balances increased for the three and six months ended June 30, 2011 compared to the same period during 2010. These increases were primarily the result of the previously mentioned increases in the assets backing our annuity products. Refer to the “Options and Derivatives” discussion for further analysis of these results.
Commissions increased for the six months ended June 30, 2011 compared to 2010 primarily due to the increase in annuity deposits during the period.
Other operating expenses increased during the six months ended June 30, 2011 compared to 2010 primarily as the result of an accrual related to the previously disclosed litigation matter. Without this accrual, other operating expenses would have decreased $4.8 million.
The change in DAC represents acquisition costs capitalized, net of amortization of existing DAC. The amortization of DAC is calculated in proportion to gross profits. The following table presents the components of the change in DAC (in thousands):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
 
                                               
Acquisition cost capitalized
  $ 35,487     $ 32,251     $ 3,236     $ 71,024     $ 63,405     $ 7,619  
Amortization of DAC
    (19,884 )     (17,568 )     (2,316 )   $ (42,804 )     (34,465 )     (8,339 )
 
                                   
Change in deferred policy acquisition costs (1)
  $ 15,603     $ 14,683     $ 920     $ 28,220     $ 28,940     $ (720 )
 
                                   
     
(1)   A positive amount of net change indicates more expense was deferred than amortized and is a decrease to expense in the periods indicated.
The increases in acquisition costs capitalized during the three and six months ended June 30, 2011 as compared to the same periods in 2010, were the result of higher premium and deposit inflows and related commissions during 2011 as compared to 2010.
An important measure of the Annuity segment is the amortization of DAC as a percentage of gross profits. The amortization of DAC as a percentage of gross profits for the three and six months ended June 30, 2011, was 36.8%, and 41.0%, respectively, compared to 37.3% and 38.7%, respectively, for the same periods in 2010. The increases in the ratios were primarily driven by the increase in surrenders during the first six months of 2011 compared to 2010.

 

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We utilize equity options as a means to hedge equity-indexed deferred annuity benefits. Equity-indexed deferred annuities include a fixed host annuity contract and an embedded equity derivative. Interest credited to policyholders’ account balances is generally comprised of interest accruals to fixed deferred annuity account balances. In addition to the accrual of interest on the host contract, the gain or loss on the embedded equity derivative is also recognized as interest credited to policyholders’ account balances for equity-indexed deferred annuities. Embedded derivative gains and losses can introduce material fluctuations in interest credited from one period to the next.
The profits on fixed deferred annuity contracts are driven by interest spreads and, to a lesser extent, other policy fees. When determining crediting rates for fixed deferred annuities, management considers current investment yields in setting new money crediting rates and looks at average portfolio yields when setting renewal rates. Management also takes into account target spreads established by pricing models while factoring in price levels needed to maintain a competitive position. Target interest spreads vary by product depending on specific attributes.
Options and Derivatives
Shown below is the analysis of net investment income without equity options along with the related option returns, and interest credited to policyholders’ account balances without equity-indexed deferred annuities along with the related equity-indexed deferred annuities gain (loss) (in thousands):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
Net investment income
                                               
Without options
  $ 147,187     $ 129,429     $ 17,758     $ 287,957     $ 256,174     $ 31,783  
Option returns
    (1,818 )     (10,252 )     8,434       5,297       (11,889 )     17,186  
 
                                               
Interest credited to policy account balances
                                               
Without equity-indexed deferred annuities
    82,622       73,135       9,487       162,996       149,090       13,906  
Equity-indexed deferred annuities
    1,812       (6,913 )     8,725       12,398       (3,198 )     15,596  
Net investment income without option returns, as well as the related interest credited to policyholders’ account balances without equity-indexed deferred annuities, increased during the three and six months ended June 30, 2011, compared to the same periods in 2010. The increases were due to sales of our annuity products which resulted in an overall increase in the investment asset base of 12.3% and 11.4% during the three and six months ended June 30, 2011, respectively.
Net investment income with option returns, as well as the related equity-indexed deferred annuity gain (loss), increased during the three and six months ended June 30, 2011 as compared to the same periods in 2010. The increases were due to the improved performance of the S&P 500 Index during the three and six months ended June 30, 2011 as compared to the deterioration during the same periods in 2010.

 

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Account Values
We monitor account values and changes in those values as key indicators of the performance of our Annuity segment. Changes in account values may result from net inflows, surrenders, policy fees, interest credited and market value changes. Account values and reserves of our annuity products increased during the first six months of 2011 compared to the same period in 2010, primarily as the result of new deposits and interest credited. Shown below are the changes in account values (in thousands):
                 
    Six months ended June 30,  
    2011     2010  
Fixed deferred annuity:
               
Account value, beginning of period
  $ 9,006,692     $ 8,151,366  
Net inflows
    504,751       262,074  
Fees
    (6,109 )     (5,483 )
Interest credited
    175,929       148,062  
 
           
Account value, end of period
  $ 9,681,263     $ 8,556,019  
 
           
 
               
Variable deferred annuity:
               
Account value, beginning of period
  $ 415,757     $ 400,624  
Net outflows
    (17,151 )     (1,018 )
Fees
    (2,463 )     (2,409 )
Change in market value and other
    16,171       (11,639 )
 
           
Account value, end of period
  $ 412,314     $ 385,558  
 
           
 
               
Single premium immediate annuity:
               
Reserve, beginning of period
  $ 903,126     $ 820,295  
Net inflows
    19,400       17,094  
Interest and mortality
    21,284       20,936  
 
           
Reserve, end of period
  $ 943,810     $ 858,325  
 
           

 

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Health
The Health segment primarily focuses on supplemental and limited benefit coverage products including Medicare Supplement insurance for the aged population as well as hospital surgical and cancer policies for the general population. In 2011, premium volume was concentrated in our Medicare Supplement (43.9%) and medical expense (21.6%) lines. Our other health products include credit accident and health policies, stop loss, and dental coverage. Health products are distributed through a network of independent agents and Managing General Underwriters (“MGU”). Health segment results for the periods indicated were as follows (in thousands):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
Premiums and other revenues:
                                               
Premiums
  $ 58,384     $ 67,841     $ (9,457 )   $ 117,028     $ 136,265     $ (19,237 )
Net investment income
    3,425       3,963       (538 )     6,841       8,017       (1,176 )
Other income
    3,603       2,954       649       6,520       5,290       1,230  
 
                                   
Total premiums and other revenues
    65,412       74,758       (9,346 )     130,389       149,572       (19,183 )
 
                                   
 
                                               
Benefits, losses and expenses:
                                               
Claims incurred
    39,466       45,351       (5,885 )     81,073       98,190       (17,117 )
Commissions for acquiring and servicing policies
    7,100       9,362       (2,262 )     13,566       19,115       (5,549 )
Other operating expenses
    12,419       12,973       (554 )     23,996       25,112       (1,116 )
Change in deferred policy acquisition costs (1)
    1,362       981       381       3,695       2,893       802  
 
                                   
Total benefits and expenses
    60,347       68,667       (8,320 )     122,330       145,310       (22,980 )
 
                                   
 
                                               
Income before other items and federal income taxes
  $ 5,065     $ 6,091     $ (1,026 )   $ 8,059     $ 4,262     $ 3,797  
 
                                   
     
(1)   A negative amount of net change indicates more expense was deferred than amortized and represents a decrease to expenses in the periods indicated.
Earnings for the three months ended June 30, 2011 remained relatively flat compared to 2010. Earnings improved for the six months ended June 30, 2011 compared to 2010, primarily due to a reduction in claims incurred and a decrease in commissions partially offset by a decrease in premiums.
Premiums and other revenues
Health premiums for the periods indicated are as follows (in thousands, except percentages):
                                                                 
    Three months ended June 30,     Six months ended June 30,  
    2011     2010     2011     2010  
    Premiums     Premiums     Premiums     Premiums  
    dollars     percentage     dollars     percentage     dollars     percentage     dollars     percentage  
 
                                                               
Medicare Supplement
  $ 25,231       43.2 %   $ 29,731       43.8     $ 51,331       43.9 %   $ 60,122       44.1 %
Medical expense
    11,955       20.4       17,587       25.9       25,239       21.6       36,461       26.7  
Group
    8,619       14.8       7,203       10.6       15,715       13.4       14,302       10.5  
Credit accident and health
    5,015       8.6       5,421       8.0       10,157       8.7       10,843       8.0  
MGU
    3,485       6.0       3,573       5.3       6,473       5.5       5,747       4.2  
All other
    4,079       7.0       4,326       6.4       8,113       6.9       8,790       6.5  
 
                                               
Total
  $ 58,384       100.0 %   $ 67,841       100.0 %   $ 117,028       100.0 %   $ 136,265       100.0 %
 
                                               
Earned premiums decreased during the three and six months ended June 30, 2011 compared to 2010, primarily due to the discontinuation of sales of our medical expense insurance plans effective June 30, 2010. Additionally sales of our Medicare Supplement product decreased.

 

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Our in-force certificates or policies as of the dates indicated are as follows:
                                 
    June 30,  
    2011     2010  
    number     percentage     number     percentage  
 
                               
Medicare Supplement
    43,783       7.1 %     54,198       8.9 %
Medical expense
    9,040       1.5       14,692       2.4  
Group
    16,687       2.7       13,504       2.2  
Credit accident and health
    283,533       45.8       298,897       49.0  
MGU
    119,264       19.3       71,377       11.7  
All other
    146,773       23.7       157,468       25.8  
 
                       
Total
    619,080       100.0 %     610,136       100.0 %
 
                       
Our total in-force policies had a net increase during the six months ended June 30, 2011 compared to 2010, primarily due to an increase in MGU production.
Benefits, losses and expenses
Claims incurred decreased during the three and six months ended June 30, 2011 compared to the same periods in 2010. The decrease was primarily due to the discontinuance of sales of our medical expense insurance plans as well as the decrease in sales of our Medicare Supplement products.
Commissions decreased for the three and six months ended June 30, 2011 as compared to the same period in 2010, consistent with lower premiums.
The following table presents the components of the change in DAC (in thousands):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
 
                                               
Acquisition cost capitalized
  $ 3,721     $ 4,978     $ (1,257 )   $ 6,740     $ 9,320     $ (2,580 )
Amortization of DAC
    (5,083 )     (5,959 )     876       (10,435 )     (12,213 )     1,778  
 
                                   
Change in deferred policy acquisition costs (1)
  $ (1,362 )   $ (981 )   $ (381 )   $ (3,695 )   $ (2,893 )   $ (802 )
 
                                   
     
(1)   A negative amount of net change indicates less expense was deferred than amortized and represents an increase to expenses in the periods indicated.
Acquisition cost capitalized decreased for the three and six months ended June 30, 2011 as compared to the same period in 2010, primarily due to the decrease in sales.

 

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Property and Casualty
Property and Casualty business is written through our Multiple-Line and Credit Insurance Division agents. Property and Casualty segment results for the periods indicated were as follows (in thousands, except percentages):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
Premiums and other revenues:
                                               
Net premiums written
  $ 294,526     $ 304,663     $ (10,137 )   $ 584,787     $ 600,656     $ (15,869 )
 
                                   
 
                                               
Net premiums earned
  $ 275,848     $ 287,497     $ (11,649 )   $ 567,162     $ 573,969     $ (6,807 )
Net investment income
    18,312       18,494       (182 )     36,378       37,345       (967 )
Other income
    1,556       1,857       (301 )     3,500       3,895       (395 )
 
                                   
Total premiums and other revenues
    295,716       307,848       (12,132 )     607,040       615,209       (8,169 )
 
                                   
 
                                               
Benefits, losses and expenses:
                                               
Claims incurred
    254,431       258,014       (3,583 )     469,942       493,217       (23,275 )
Commissions for acquiring and servicing policies
    59,803       56,126       3,677       112,725       108,848       3,877  
Other operating expenses
    31,154       32,604       (1,450 )     61,892       63,270       (1,378 )
Change in deferred policy acquisition costs (1)
    (7,383 )     (2,890 )     (4,493 )     (7,615 )     (2,818 )     (4,797 )
 
                                   
Total benefits and expenses
    338,005       343,854       (5,849 )     636,944       662,517       (25,573 )
 
                                   
 
                                               
Loss before other items and federal income taxes
  $ (42,289 )   $ (36,006 )   $ (6,283 )   $ (29,904 )   $ (47,308 )   $ 17,404  
 
                                   
 
                                               
Loss ratio
    92.2 %     89.7 %     2.5       82.9 %     85.9 %     (3.0 )
Underwriting expense ratio
    30.3       29.9       0.4       29.4       29.5       (0.1 )
 
                                   
Combined ratio
    122.5 %     119.6 %     2.9       112.3 %     115.4 %     (3.1 )
 
                                   
 
                                               
Gross catastrophe losses
  $ 152,918     $ 78,335     $ 74,583     $ 189,954     $ 119,660     $ 70,294  
Net catastrophe losses
    62,802       57,990       4,812       90,830       97,019       (6,189 )
 
                                               
Effect of net catastrophe losses on the combined ratio
    27.0       21.2       5.8       18.2       17.4       0.8  
 
                                   
Combined ratio without net catastrophe losses
    95.5 %     98.4 %     (2.9 )     94.1 %     98.0 %     (3.9 )
 
                                   
     
(1)   A negative amount of net change indicates more expense was deferred than amortized and represents a decrease to expenses in the periods indicated.
The Property and Casualty segment results deteriorated during the three months ended June 30, 2011 compared to 2010, primarily due to severe weather events. Through the six months ended June 30, 2011 results improved compared to 2010. This improvement is primarily due to rate increases and changes to our reinsurance programs.
Premiums and other revenues
Net premiums written and earned decreased primarily due to an increase in our catastrophe reinsurance reinstatement premium as the result of higher catastrophe reinsurance recoveries in 2011 compared to 2010. During the three and six months ended June 30, 2011 our catastrophe reinstatement premium increased by $9.3 million and $10.2 million, respectively, over the same periods in 2010. Without the increase in reinstatement premium, written and earned premiums would have remained relatively flat.
Benefits, losses and expenses
Claims incurred include losses and loss adjustment expenses (“LAE”) on property and casualty policies. Claims incurred decreased during the three and six months ended June 30, 2011 compared to 2010. The three-month decrease was driven primarily by decreases in our commercial auto, other commercial and credit-related property products. The six-month decrease was driven primarily by decreases in personal auto, agribusiness, and credit-related property products.
The loss ratio deteriorated for the three months ended June 30, 2011 and improved for the six months ended June 30, 2011 compared to the same periods in 2010. The quarter-to-date change was driven by a decrease in premiums earned, while the year-to-date change in loss ratio was primarily being driven by the previously discussed decrease in claims incurred.

 

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Gross catastrophe losses set a second quarter record for the Company of $152.9 million. The significant increases in our gross catastrophe losses were offset by additional catastrophe reinsurance recoveries in 2011 compared to 2010. The additional catastrophe reinsurance recovery was attributable to lower catastrophe loss retention. Four of the largest catastrophes were wind and thunderstorm events, resulting in hail, tornadoes and wind damage, and were spread across the Southeast and Midwest, affecting 24 states. These storms represented 68.3% and 47.2% of our net catastrophe losses in the three and six months ended June 30, 2011, respectively.
April 2011 recorded more tornadoes than any month in U.S. history, and EF-5 tornadoes that occurred during the first half of 2011 have already tied the record number of EF-5 tornadoes which occurred in 1974. One of these tornadoes impacted primarily Alabama in late April, while another impacted primarily Joplin, Missouri in May. These two storms alone accounted for $119.6 million in gross catastrophe losses, and $28.6 million in net catastrophe losses during both the three and six-month periods ending June 30, 2011.
Net catastrophe losses contributed 27.0% and 18.2% to the combined ratio during the three and six months ended June 30, 2011, respectively, compared to 21.2% and 17.4%, respectively, for the same periods in 2010. The combined ratio excluding net catastrophe losses improved to 95.5% and 94.1% for the three and six months ending June 30 2011 compared with 98.4% and 98.0% for the same periods in 2010. This improvement was primarily driven by rate increases. We continue to evaluate and manage our aggregate catastrophe risk exposures. We manage our risk with targeted rate changes and reinsurance coverage.
For the three and six months ended June 30, 2011, the net favorable prior year loss and LAE development was $2.5 million and $27.9 million, respectively, compared to $17.5 million and $44.1 million favorable development for the three and six months ended June 30, 2010, respectively. This favorable development is being driven primarily by our workers’ compensation, personal auto and commercial liability lines, which show better than expected loss emergence compared to what was implied by the loss development patterns used in the previous estimation of losses.
Products
Our Property and Casualty segment consists of three product lines: (i) Personal Lines, which we market primarily to individuals, represent 59.2% of net premiums written, (ii) Commercial Lines, which focus primarily on businesses engaged in agricultural and other targeted markets, represent 29.8% of net premiums written, and (iii) Credit-related property insurance products which are marketed to and through financial institutions and retailers and represent 11.0% of net premiums written.

 

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Personal Products
Property and Casualty segment results for Personal Products for the periods indicated were as follows (in thousands, except percentages):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
Net premiums written
                                               
Auto
  $ 110,962     $ 116,603     $ (5,641 )   $ 228,410     $ 235,829     $ (7,419 )
Homeowner
    52,077       58,152       (6,075 )     100,001       107,139       (7,138 )
Other Personal
    8,731       10,641       (1,910 )     18,024       20,909       (2,885 )
 
                                   
Total net premiums written
    171,770       185,396       (13,626 )     346,435       363,877       (17,442 )
 
                                   
 
                                               
Net premiums earned
                                               
Auto
    117,269       116,930       339       234,812       230,498       4,314  
Homeowner
    48,026       51,834       (3,808 )     103,500       105,677       (2,177 )
Other Personal
    8,550       9,873       (1,323 )     17,855       19,319       (1,464 )
 
                                   
Total net premiums earned
  $ 173,845     $ 178,637     $ (4,792 )   $ 356,167     $ 355,494     $ 673  
 
                                   
 
                                               
Loss ratio
                                               
Auto
    78.3 %     73.9 %     4.4       72.9 %     75.3 %     (2.4 )
Homeowner
    188.8       162.7       26.1       138.9       122.4       16.5  
Other Personal
    88.6       58.6       30.0       83.5       59.7       23.8  
Personal line loss ratio
    109.3 %     98.8 %     10.5       92.6 %     88.4 %     4.2  
 
                                               
Combined Ratio
                                               
Auto
    99.9 %     96.3 %     3.6       94.2 %     97.4 %     (3.2 )
Homeowner
    217.2       188.8       28.4       165.4       147.9       17.5  
Other Personal
    97.6       65.6       32.0       90.5       67.2       23.3  
Personal line combined ratio
    132.2 %     121.5 %     10.7       114.7 %     110.7 %     4.0  
Personal Automobile: Net premiums earned increased in our personal automobile line during the first six months of 2011 compared to the same period in 2010, due to rate increases implemented in prior years now being fully realized. Net premiums written have declined as the result of a reduction in retention rates due to rate increases and competition.
The loss and combined ratios have increased for the three months ended June 30, 2011 compared to the same periods in 2010 primarily due to an increase in weather related claims coupled with an increase in the frequency and severity of accident claims. These ratios improved for the six months ended June 30, 2011 primarily due to the previously mentioned rate increases.
Homeowners: Net premiums written and earned decreased during the three and six months ended June 30, 2011 compared to the same periods in 2010. This was primarily attributable to reinstatement premiums as a result of higher reinsurance recoveries from the catastrophic events.
The loss and combined ratios deteriorated during the three and six months ended June 30, 2011 compared to the same periods in 2010 due primarily to the decrease in premiums in addition to a 7.5% and 11.1% increase in claims incurred, respectively. These increases were primarily a result of an increase in the severity and frequency of claims from severe weather.
Other Personal: This product line is comprised primarily of watercraft, rental-owner and umbrella coverages for individuals seeking to protect their personal property not covered within their homeowner and auto policies. Net premiums written and earned have decreased during the three and six months ended June 30, 2011 as compared to the same periods in 2010. Premiums are trending commensurate with the reduction in the homeowners and personal automobile lines as policies are typically sold in conjunction with one another.
The loss and combined ratios increased during the three and six months ended June 30, 2011 compared to the same periods in 2010 due to increased umbrella claims and decreased premiums. As this is currently our smallest line of business in our Personal Products line, minor fluctuations in results can more easily cause volatility in these ratios.

 

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Commercial Products
Property and Casualty segment results for Commercial Products for the periods indicated were as follows (in thousands, except percentages):
                                                 
    Three months ended June 30,             Six months ended June 30,        
    2011     2010     Change     2011     2010     Change  
Net premiums written
                                               
Other Commercial
  $ 38,312     $ 37,769     $ 543     $ 74,170     $ 72,200     $ 1,970  
Agribusiness
    25,755       28,576    <