Prudential 2006 Annual Report Download - page 41

Account values in our institutional investment products business amounted to $48.1 billion as of December 31, 2005, an increase of
$400 million from December 31, 2004. The increase in account values was driven by interest on general account business, market value
increases and client reinvestment of interest income and dividends on customer funds, mainly offset by net withdrawals. Net withdrawals
deteriorated $559 million largely due to the transfer in 2005 of approximately $1.2 billion in account values to our Asset Management
segment. An increase in structured settlement sales during 2005 partially offset these transfers. In addition, the prior year reflects only the
initial nine months of sales and withdrawal activity from the retirement business acquired from CIGNA.
International Insurance and Investments Division
As a U.S.-based company with significant business operations outside the U.S., we seek to mitigate the risk that future unfavorable
foreign currency exchange rate movements will reduce our U.S. dollar equivalent earnings. The operations of our International Insurance
and International Investments segments are subject to currency fluctuations that can materially affect their U.S. dollar results from period to
period even if results on a local currency basis are relatively constant. As discussed further below, we enter into forward currency
derivative contracts, as well as “dual currency” and “synthetic dual currency” investments as part of our strategy to effectively fix the
currency exchange rates for a portion of our prospective non-U.S. dollar denominated earnings streams.
The financial results of our International Insurance segment and International Investments segment, excluding the global commodities
group, for all periods presented reflect the impact of an intercompany arrangement with Corporate and Other operations pursuant to which
the segments’ non-U.S. dollar denominated earnings in all countries are translated at fixed currency exchange rates. The fixed rates are
determined in connection with a currency hedging program designed to mitigate the risk that unfavorable exchange rate changes will
reduce the segments’ U.S. dollar equivalent earnings. Pursuant to this program, Corporate and Other operations executes forward currency
contracts with third parties to sell the hedged currency in exchange for U.S. dollars at a specified exchange rate. The maturities of these
contracts correspond with the future periods in which the identified non-U.S. dollar denominated earnings are expected to be generated.
This program is primarily associated with the International Insurance segment’s businesses in Japan, Korea and Taiwan and the
International Investments segment’s businesses in Korea and Europe. The intercompany arrangement with Corporate and Other operations
increased (decreased) revenues and adjusted operating income of each segment as follows for the periods indicated:
Year ended December 31,
2006 2005 2004
(in millions)
Impact on revenues and adjusted operating income:
International Insurance ............................................................................... $50 $(38) $ (75)
International Investments ............................................................................. (7) (6) —
Total International Insurance and Investments Division ..................................................... $43 $(44) $ (75)
Results of Corporate and Other operations include any differences between the translation adjustments recorded by the segments and
the gains or losses recorded from the forward currency contracts. The net effect of this program within the Corporate and Other operations
was losses of $1 million, $11 million, and $9 million for the years ended December 31, 2006, 2005, and 2004, respectively.
In addition, our Japanese insurance operations hold dual currency investments in the form of fixed maturities and loans. The principal
of these dual currency investments are yen-denominated while the related interest income is U.S. dollar denominated. These investments
are the economic equivalent of exchanging what would otherwise be fixed streams of yen-denominated interest income for fixed streams of
U.S. dollars. Our Japanese insurance operations also hold investments in yen-denominated investments that have been coupled with cross-
currency coupon swap agreements, creating synthetic dual currency investments. The yen/U.S. dollar exchange rate is effectively fixed, as
we are obligated in future periods to exchange fixed amounts of Japanese yen interest payments generated by the yen-denominated
investments for U.S. dollars at the yen/U.S. dollar exchange rates specified by the cross-currency coupon swap agreements. The effect of
these reverse dual currency and synthetic reverse dual currency investments is taken into account as part of our currency hedging program.
As of December 31, 2006 and December 31, 2005, the principal of these investments were ¥545 billion, or $4.9 billion, and ¥225 billion, or
$2.0 billion, respectively. For the years ended December 31, 2006, and 2005, the weighted average yield generated by these investments
was 2.7% and 2.5%, respectively. For information regarding the weighted average exchange rate resulting from these investments see
“—Dual Currency Investments,” below.
Presented below is the fair value of these instruments as reflected on our balance sheet for the periods presented.
December 31,
2006
December 31,
2005
(in millions)
Forward currency contracts ........................................................................... $105 $110
Cross-currency coupon swap agreements ................................................................ 54 41
Foreign exchange component of interest on dual currency investments ......................................... 11 19
Total ......................................................................................... $170 $170
Our Japanese insurance operations also hold U.S. dollar denominated securities in their investment portfolio, which are discussed in
further detail in “—Realized Investment Gains and General Account Investments—General Account Investments.”
PRUDENTIAL FINANCIAL, INC. 2006 ANNUAL REPORT
39