Unum 2010 Annual Report Download - page 26

Management’s Discussion and Analysis of
Financial Condition and Results of Operations
Unum
2010
24
Key Assumptions
The calculation of policy and claim reserves involves numerous assumptions, but the primary assumptions used to calculate reserves
are (1) the discount rate, (2) the claim resolution rate, and (3) the claim incidence rate for policy reserves and IBNR claim reserves. Of these
assumptions, our discount rate and claim resolution rate assumptions have historically had the most significant effects on our level of
reserves because many of our product lines provide benefit payments over an extended period of time.
1. The discount rate, which is used in calculating both policy reserves and incurred and IBNR claim reserves, is the interest rate that
we use to discount future claim payments to determine the present value. A higher discount rate produces a lower reserve. If the
discount rate is higher than our future investment returns, our invested assets will not earn enough investment income to support
our future claim payments. In this case, the reserves may eventually be insufficient. We set our assumptions based on our current
and expected future investment yield of the assets supporting the reserves, considering current and expected future market
conditions. If the investment yield on new investments that are purchased is below or above the investment yield of the existing
investment portfolio, it is likely that the discount rate assumption on claims will be established to reect the effect of the new
investment yield.
2. The claim resolution rate, used for both policy reserves and incurred and IBNR claim reserves, is the probability that a disability
claim will close due to recovery or death of the insured. It is important because it is used to estimate how long benefits will be paid
for a claim. Estimated resolution rates that are set too high will result in reserves that are lower than they need to be to pay the
claim benefits over time. Claim resolution assumptions involve many factors, including the cause of disability, the policyholder’s
age, the type of contractual benefits provided, and the time since initially becoming disabled. We use our own claim experience to
develop our claim resolution assumptions. These assumptions are established for the probability of death and the probability of
recovery from disability. Our studies review actual claim resolution experience over a number of years, with more weight placed on
our experience in the more recent years. We also consider any expected future changes in claim resolution experience.
3. The incidence rate, used for policy reserves and IBNR claim reserves, is the rate at which new claims are submitted to us. The
incidence rate is affected by many factors, including the age of the insured, the insured’s occupation or industry, the benefit plan
design, and certain external factors such as consumer confidence and levels of unemployment. We establish our incidence
assumption using a historical review of actual incidence results along with an outlook of future incidence expectations.
Establishing reserve assumptions is complex and involves many factors. Reserves, particularly for policies offering insurance coverage
for long-term disabilities, are dependent on numerous assumptions other than just those presented in the preceding discussion. The impact
of internal and external events, such as changes in claims management procedures, economic trends such as the rate of unemployment
and the level of consumer confidence, the emergence of new diseases, new trends and developments in medical treatments, and legal
trends and legislative changes, among other factors, will inuence claim incidence and resolution rates. Reserve assumptions differ by
product line and by policy type within a product line. Additionally, in any period and over time, our actual experience may have a positive
or negative variance from our long-term assumptions, either singularly or collectively, and these variances may offset each other. We test
the overall adequacy of our reserves using all assumptions and with a long-term view of our expected experience over the life of a block of
business rather than test just one or a few assumptions independently that may be aberrant over a short period of time. Therefore it is not
possible to bifurcate the assumptions to evaluate the sensitivity of a change in each assumption, but rather in the aggregate by product
line. We have presented in the following section an overview of our trend analysis for key assumptions and the results of variability in our
assumptions, in aggregate, for the reserves which we believe are reasonably possible to have a material impact on our future financial
results if actual claims yield a materially different amount than what we currently expect and have reserved for, either favorable or
unfavorable.
Trends in Key Assumptions
Because our actual experience regarding persistency and claim incidence has varied very little from our policy reserve and IBNR claim
reserve assumptions, we have had minimal adjustments to our persistency assumptions and claim incidence assumptions during the years
2008 through 2010. Generally, we do not expect our mortality and morbidity claim incidence trends or our persistency trends to change