MetLife 2004 Annual Report Download - page 52

METLIFE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Accounting Policies
Business
‘‘MetLife’’ or the ‘‘Company’’ refers to MetLife, Inc., a Delaware corporation incorporated in 1999 (the ‘‘Holding Company’’), and its subsidiaries,
including Metropolitan Life Insurance Company (‘‘Metropolitan Life’’). MetLife is a leading provider of insurance and other financial services to individual
and institutional customers. The Company offers life insurance, annuities, automobile and homeowner’s insurance and retail banking services to
individuals, as well as group insurance, reinsurance and retirement & savings products and services to corporations and other institutions.
Basis of Presentation
The accompanying consolidated financial statements include the accounts of (i) the Holding Company and its subsidiaries; (ii) partnerships and joint
ventures in which the Company has control; and (iii) variable interest entities (‘‘VIEs’’) for which the Company is deemed to be the primary beneficiary.
Closed block assets, liabilities, revenues and expenses are combined on a line-by-line basis with the assets, liabilities, revenues and expenses outside
the closed block based on the nature of the particular item (see Note 6). Assets, liabilities, revenues and expenses of the general account for 2004
include amounts related to certain separate accounts previously reported in separate account assets and liabilities. See ‘‘— Application of Recent
Accounting Pronouncements.’’ Intercompany accounts and transactions have been eliminated.
The Company uses the equity method of accounting for investments in equity securities in which it has more than a 20% interest and for real estate
joint ventures and other limited partnership interests in which it has more than a minor equity interest or more than minor influence over the partnership’s
operations, but does not have a controlling interest and is not the primary beneficiary. The Company uses the cost method of accounting for real estate
joint ventures and other limited partnership interests in which it has a minor equity investment and virtually no influence over the partnership’s operations.
Minority interest related to consolidated entities included in other liabilities was $1,145 million and $950 million at December 31, 2004 and 2003,
respectively.
Certain amounts in the prior years’ consolidated financial statements have been reclassified to conform with the 2004 presentation.
Summary of Critical Accounting Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (‘‘GAAP’’) requires
management to adopt accounting policies and make estimates and assumptions that affect amounts reported in the consolidated financial statements.
The most critical estimates include those used in determining: (i) investment impairments; (ii) the fair value of investments in the absence of quoted market
values; (iii) application of the consolidation rules to certain investments; (iv) the fair value of and accounting for derivatives; (v) the capitalization and
amortization of deferred policy acquisition costs (‘‘DAC’’), including value of business acquired (‘‘VOBA’’); (vi) the liability for future policyholder benefits;
(vii) the liability for litigation and regulatory matters; and (viii) accounting for reinsurance transactions and employee benefit plans. In applying these policies,
management makes subjective and complex judgments that frequently require estimates about matters that are inherently uncertain. Many of these
policies, estimates and related judgments are common in the insurance and financial services industries; others are specific to the Company’s
businesses and operations. Actual results could differ from those estimates.
Investments
The Company’s principal investments are in fixed maturities, mortgage and other loans and real estate, all of which are exposed to three primary
sources of investment risk: credit, interest rate and market valuation. The financial statement risks are those associated with the recognition of
impairments and income, as well as the determination of fair values. The assessment of whether impairments have occurred is based on management’s
case-by-case evaluation of the underlying reasons for the decline in fair value. Management considers a wide range of factors about the security issuer
and uses its best judgment in evaluating the cause of the decline in the estimated fair value of the security and in assessing the prospects for near-term
recovery. Inherent in management’s evaluation of the security are assumptions and estimates about the operations of the issuer and its future earnings
potential. Considerations used by the Company in the impairment evaluation process include, but are not limited to: (i) the length of time and the extent to
which the market value has been below cost or amortized cost; (ii) the potential for impairments of securities when the issuer is experiencing significant
financial difficulties; (iii) the potential for impairments in an entire industry sector or sub-sector; (iv) the potential for impairments in certain economically
depressed geographic locations; (v) the potential for impairments of securities where the issuer, series of issuers or industry has suffered a catastrophic
type of loss or has exhausted natural resources; (vi) the Company’s ability and intent to hold the security for a period of time sufficient to allow for the
recovery of its value to an amount equal to or greater than cost or amortized cost; (vii) unfavorable changes in forecasted cash flows on asset-backed
securities; and (viii) other subjective factors, including concentrations and information obtained from regulators and rating agencies. In addition, the
earnings on certain investments are dependent upon market conditions, which could result in prepayments and changes in amounts to be earned due to
changing interest rates or equity markets. The determination of fair values in the absence of quoted market values is based on: (i) valuation
methodologies; (ii) securities the Company deems to be comparable; and (iii) assumptions deemed appropriate given the circumstances. The use of
different methodologies and assumptions may have a material effect on the estimated fair value amounts. In addition, the Company enters into certain
structured investment transactions, real estate joint ventures and limited partnerships for which the Company may be deemed to be the primary
beneficiary and, therefore, may be required to consolidate such investments. The accounting rules for the determination of the primary beneficiary are
complex and require evaluation of the contractual rights and obligations associated with each party involved in the entity, an estimate of the entity’s
expected losses and expected residual returns and the allocation of such estimates to each party.
Derivatives
The Company enters into freestanding derivative transactions primarily to manage the risk associated with variability in cash flows or changes in fair
values related to the Company’s financial assets and liabilities. The Company also uses derivative instruments to hedge its currency exposure associated
with net investments in certain foreign operations. The Company also purchases investment securities, issues certain insurance policies and engages in
certain reinsurance contracts that have embedded derivatives. The associated financial statement risk is the volatility in net income which can result from
(i) changes in fair value of derivatives not qualifying as accounting hedges; (ii) ineffectiveness of designated hedges; and (iii) counterparty default. In
addition, there is a risk that embedded derivatives requiring bifurcation are not identified and reported at fair value in the consolidated financial statements.
Accounting for derivatives is complex, as evidenced by significant authoritative interpretations of the primary accounting standards which continue to
evolve, as well as the significant judgments and estimates involved in determining fair value in the absence of quoted market values. These estimates are
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