Unum 2007 Annual Report Download - page 32

Management’s Discussion and Analysis of
Financial Condition and Results of Operations
30 Unum 2007 Annual Report
Closed Block Reinsurance Recapture from Centre Life Reinsurance Ltd.
During 2005, we recaptured a closed block of individual disability business that included approximately $1.6 billion in invested assets
and $185.0 million of annual premium. The effective date of the recapture was August 8, 2005.
Prior to recapture, the reinsurance contract had an embedded derivative that required the bifurcation of the derivative from the basic
reinsurance contract. The fair value attributed to the embedded derivative was reported in fixed maturity securities, and the change in
the fair value of this embedded derivative was reported as a realized investment gain or loss during the period of change. At the date
of recapture, the embedded derivative was terminated, and the time value component of this derivative was recognized as a realized
investment loss of $9.4 million before tax.
The underlying operating results of the reinsurance contract, prior to recapture, were reflected in other income. The recapture therefore
did not have a material impact on operating income for the Individual Disability — Closed Block segment.
On a statutory basis of reporting, the recapture increased statutory surplus $57.5 million in Unum America. The recapture did not
have a material impact on our targeted RBC objectives for our U.S. insurance subsidiaries.
Critical Accounting Estimates
We prepare our financial statements in accordance with GAAP. The preparation of financial statements in conformity with GAAP requires
us to make estimates and assumptions that affect amounts reported in our financial statements and accompanying notes. The accounting
estimates we deem to be most critical to our results of operations and balance sheets are those related to reserves for policy and contract
benefits, deferred acquisition costs, investments, and income taxes. Estimates and assumptions could change in the future as more
information becomes known, which could impact the amounts reported and disclosed in our financial statements.
For additional information, refer to our significant accounting policies in Note 1 of the “Notes to Consolidated Financial Statements.”
Reserves for Policy and Contract Benefits
Our largest liabilities are reserves for claims that we estimate we will eventually pay to our policyholders. The two primary categories
of reserves are policy reserves for claims not yet incurred and claim reserves for claims that have been incurred or are estimated to have
been incurred but not yet reported to us. These reserves equaled $36.9 billion at December 31, 2007 and 2006, or approximately 80 percent
of our total liabilities. Reserves ceded to reinsurers were $6.6 billion and $7.6 billion at December 31, 2007 and 2006, respectively, and
are reported as a reinsurance recoverable in our consolidated balance sheets.
Policy Reserves
Policy reserves are established in the same period we issue a policy and equal the difference between projected future policy benefits
and future premiums, allowing a margin for expenses and profit. These reserves relate primarily to our traditional non interest-sensitive
products, including our individual disability, individual and group long-term care, and voluntary benefits products in our Unum US segment;
individual disability products in our Unum UK segment; disability and cancer and critical illness policies in our Colonial Life segment; and,
the Individual Disability — Closed Block segment products. The reserves are calculated based on assumptions that were appropriate at the
date the policy was issued and are not subsequently modified unless the policy reserves become inadequate (i.e., loss recognition occurs).
 •Persistencyassumptionsarebasedonouractualhistoricalexperienceadjustedforfutureexpectations.
 •Claimincidenceandclaimresolutionrateassumptionsrelatedtomortalityandmorbidityarebasedonactualexperience
or industry standards adjusted as appropriate to reflect our actual experience and future expectations.
 •Discountrateassumptionsarebasedonourcurrentandexpectednetinvestmentreturns.
In establishing policy reserves, we use assumptions that reflect our best estimate while considering the potential for adverse variances
in actual future experience, which results in a total policy reserve balance that has an embedded reserve for adverse deviation. We do
not, however, establish an explicit and separate reserve as a provision for adverse deviation from our assumptions.