Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

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Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with the Selected Financial Data and Torchmark’s Consolidated Financial Statements and Notes thereto appearing elsewhere in this report.

RESULTS OF OPERATIONS



		How Torchmark Views Its Operations. Torchmark is the holding company for a group of insurance companies that market primarily individual life and supplemental health insurance to lower middle to middle income households throughout the United States. We view our operations by segments, which are the insurance product lines of life, health, and annuities, and the investment segment that supports the product lines. Segments are aligned based on their common characteristics, comparability of the profit margins, and management techniques used to operate each segment.
		Insurance Product Line Segments. The insurance product line segments involve the marketing, underwriting, and administration of policies. Each product line is further segmented by the various distribution units that market the insurance policies. Each distribution unit operates in a niche market offering insurance products designed for that particular market. Whether analyzing profitability of a segment as a whole, or the individual distribution units within the segment, the measure of profitability used by management is the underwriting margin, which is:
		Premium revenue Less: Policy obligations Policy acquisition costs and commissions
		Investment Segment. The investment segment involves the management of our capital resources, including investments and the management of corporate debt and liquidity. Our measure of profitability for the investment segment is excess investment income, which is:
		Net investment income Less: Required interest on net policy liabilities Financing costs

TMK 2018 FORM 10-K

CURRENT YEAR HIGHLIGHTS:


•	Net income as a return on equity (ROE) was 12.3%(1) and net operating income as an ROE, excluding net unrealized gains on the fixed maturity portfolio was 14.6%(1,2).


•	Total premium increased by 4% over the prior year. Life premium increased by 4% for the year from $2.3 billion to $2.4 billion. Life underwriting margin increased 8% from $604 million in 2017 to $652 million in 2018.


•	Net investment income increased 4% over the prior year. In addition, excess investment income, a measure used by management as explained below, increased by 2% over the prior year.


•	During 2018, the Company repurchased 4.4 million shares at a total cost of $372 million for an average share price of $84.38.

The following represents net income and net operating income from continuing operations for the 3 years ended December 31, 2018.


(1)	In 2017, tax legislation revised the corporate income tax rate from 35% to 21% effective January 1, 2018. See Note 5—Income Taxes for further discussion. In 2018, income tax expense was calculated based on the 21% rate as compared with a 35% rate for 2017.

In addition, the Company recorded an adjustment of $874 million to net income during 2017. In 2018, the Company completed its analysis of the tax legislation and recorded an additional $798 thousand adjustment related to the remeasurement of the deferred tax assets and liabilities based on the 21% rate. As the impact of the tax legislation was treated as a non-operating event, it was excluded from net operating income.


(2)	Net operating income is considered a non-GAAP measure and it has been used consistently by Torchmark’s management for many years to evaluate the operating performance of the Company. It differs from net income primarily because it excludes certain non-operating items such as realized gains and losses and certain significant and unusual items included in net income. Net income is the most directly comparable GAAP measure.

(2)

Net operating income is considered a non-GAAP measure and it has been used consistently by Torchmark’s management for many years to evaluate the operating performance of the Company. It differs from net income primarily because it excludes certain non-operating items such as realized gains and losses and certain significant and unusual items included in net income. Net income is the most directly comparable GAAP measure.

Net operating income as an ROE, excluding net unrealized gains on the fixed maturity portfolio, is also considered a non-GAAP measure. Management utilizes this measure to view the business without the effect of the unrealized gains or losses, which are primarily attributable to fluctuation in interest rates on the available for sale portfolio.

Summary of Operations

Net income was $701 million in 2018, compared with $1.5 billion in 2017. This decrease was primarily due to an $874 million increase to net income in 2017, relating to new tax legislation as described above. Net income increased in 2017 from $550 million in 2016. On a diluted per common share basis, 2018 net income fell 50% to $6.09 after a 172% increase in 2017. Net income per diluted common share in 2017 rose to $12.22 from $4.49 in 2016. As previously noted, 2017 net income per diluted common share includes the effect of the adjustment to net income relating to new tax legislation. The percentage growth in net income per share results continues to exceed the growth in dollar amounts due to our share repurchase program. Each year’s net income per share was affected by realized gains (losses), which were $(0.01), $0.15, and $(0.06), in 2018, 2017 and 2016, respectively. More information concerning realized gains and losses can be found under the caption Realized Gains and Losses in this report.

Net operating income from continuing operations rose each year over the prior year from $549 million in 2016 to $574 million in 2017 to $707 million in 2018. Net operating income is the consolidated total of segment profits after tax and

TMK 2018 FORM 10-K

as such is considered a non-GAAP measure. Net income is the most directly comparable GAAP measure. We do not consider realized gains and losses to be a component of our core insurance operations or operating segments. Additionally, net income was affected by certain significant and unusual non-operating items in each of the years 2016 through 2018. We do not view these items as components of core operating results because they are not indicative of past performance or future prospects of the insurance operations. We remove items such as these that relate to prior periods or are non-operating items when evaluating the results of current operations, and therefore exclude such items from our segment analysis for current periods.

Torchmark’s operations on a segment-by-segment basis are discussed in depth under the appropriate captions following in this report.

Analysis of Profitability by Segment

(Dollar amounts in thousands)



	2018			2017			2016			2018 Change			%		2017 Change			%
Life insurance underwriting margin	$	652,301		$	604,337		$	573,762		$	47,964		8		$	30,575		5
Health insurance underwriting margin	236,053			219,508			210,056			16,545			8		9,452			4
Annuity underwriting margin	10,376			10,562			9,394			(186		)	(2	)	1,168			12
Excess investment income	245,094			239,363			224,031			5,731			2		15,332			7
Other insurance:
Other income	1,236			1,270			1,534			(34		)	(3	)	(264		)	(17	)
Administrative expense	(223,941		)	(210,590		)	(196,598		)	(13,351		)	6		(13,992		)	7
Corporate and other	(50,476		)	(43,285		)	(34,913		)	(7,191		)	17		(8,372		)	24
Pre-tax total	870,643			821,165			787,266			49,478			6		33,899			4
Applicable taxes	(163,669		)	(247,484		)	(237,906		)	83,815			(34	)	(9,578		)	4
Net operating income from continuing operations	706,974			573,681			549,360			133,293			23		24,321			4
Discontinued operations—Part D, net of tax	—			—			9,033			—			—		(9,033		)	(100	)
Net operating income	706,974			573,681			558,393			133,293			23		15,288			3
Reconciling items, net of tax:
Realized gains (losses)—investments	7,327			20,217			(6,944		)	(12,890		)			27,161
Realized loss—redemption of debt	(8,752		)	(2,627		)	—			(6,125		)			(2,627		)
Part D adjustments—discontinued operations	(44		)	(3,769		)	1,156			3,725					(4,925		)
Guaranty fund assessments	—			(1,171		)	—			1,171					(1,171		)
Administrative settlements	(3,590		)	(5,628		)	(2,467		)	2,038					(3,161		)
Non-operating fees	(1,247		)	(187		)	(359		)	(1,060		)			172
Tax reform adjustment	798			873,978			—			(873,180		)			873,978
Net income	$	701,466		$	1,454,494		$	549,779		$	(753,028	)	(52	)	$	904,715		165

The life insurance segment is our strongest segment and is the largest contributor to earnings in each year presented. This segment contributed $48 million in 2018 and $31 million in 2017 to the growth in our underwriting margin. Also contributing to growth in income in both years was our health insurance segment, which provided $17 million of additional margin in 2018 and $9 million in 2017.

Total revenues rose 4% or $148 million in 2018 to $4.3 billion from the prior year. Life premium rose 4% or $100 million in 2018 to $2.4 billion. Life premium increased $117 million in 2017 to $2.3 billion. Health premium increased 4% to $1.0 billion in 2018 and contributed $39 million to 2018 revenue growth, after having gained 3% to $976 million in 2017. Health premium contributed $29 million to 2017 revenue growth. Net investment income rose 4% or $35 million in 2018, and rose 5% or $41 million in 2017.

Life insurance premium and underwriting margins have grown in each of the last three years ended December 31, 2018. The increase in life premium was driven by sales growth and improvements in persistency. Life underwriting

TMK 2018 FORM 10-K

margin as a percent of premium increased in 2018 to 27%, after remaining flat at 26% in 2016 and 2017. Net life sales decreased $4 million in 2018 to $413 million. The decline is primarily attributable to flat sales in the American Income Exclusive Agency due to lack of growth in agent count and productivity, and a decline in sales in our Globe Life Direct Response unit as a result of operational changes intended to improve profitability on new business. Net life sales increased between 2016 and 2017. The life insurance segment is discussed further in this report under the caption Life Insurance.

Health insurance premium income increased 4% to $1.0 billion in 2018. Health net sales also rose 9% to $172 million during 2018 attributable to both individual and group sales. Group sales vary significantly from period to period due to the impact of large groups that are sold from time-to-time. First-year collected health premium rose 9% to $148 million from the prior year total of $136 million as a result of higher net sales in 2017. Health margins as a percentage of premium increased to 23% as a result of favorable policy obligations as a percentage of premium, while underwriting income increasing to $236 million for 2018 primarily as a result of favorable policy obligations and growth in premium income. Underwriting income was $220 million in 2017 compared with $210 million in 2016. The health insurance segment is discussed further in this report under the caption Health Insurance.

We do not currently market stand-alone fixed or deferred annuities. See the caption Annuities for discussion of the Annuity segment.

Excess investment income, the measure of profitability of our investment segment, increased 2% to $245 million from the prior year amount of $239 million. In 2017, excess investment income increased 7%. Excess investment income, is based on three major components: net investment income, required interest on net policy liabilities (interest applicable to insurance products), and financing costs. In 2018, net investment income rose 4%, compared with 5% in 2017. At the same time, our investment portfolio grew 5% in 2018 and 6% in 2017, on an amortized cost basis. Growth in excess investment income continues to be impeded by investing at yields lower than the yield on dispositions and the average yield on the entire portfolio. Excess investment income per common share, reflecting the impact of our share repurchase program, increased 6% in 2018 to $2.13 from $2.01 in 2017. See further discussion under the caption Investments.

Insurance administrative expenses were up 6.3% in 2018 when compared with the prior year period, and increased to 6.5% as a percentage of premium from 6.4% in 2017 and 6.3% in 2016. The increase in administrative expenses is primarily due to an increase in other employee costs and investments in information technology. See further discussion under the caption Administrative expenses.

TMK 2018 FORM 10-K

SHARE PURCHASES

Torchmark has an ongoing share repurchase program that began in 1986, and is reviewed quarterly by management and annually reaffirmed by the Board of Directors. The program was reaffirmed on August 7, 2018. With no specified authorization amount, we determine the amount of repurchases based on the amount of the excess cash flow at the Parent Company, general market conditions, and other alternative uses. The majority of these purchases are made from excess cash flow. Excess cash flow at the Parent Company is primarily comprised of dividends received from the insurance subsidiaries less interest expense paid on its debt, dividends paid to Torchmark shareholders, and other limited operating activities. Additionally, when stock options are exercised, proceeds from these exercises and the resulting tax benefit are used to repurchase additional shares on the open market to minimize dilution as a result of the option exercises. The Board of Directors has authorized the Company’s share repurchase program in amounts and with timing that management, in consultation with the Board, determines to be in the best interest of the Company and its shareholders. The following chart summarizes share purchase activity for each of the last three years.

Analysis of Share Purchases

(Amounts in thousands)



	2018			2017			2016
Purchases with:	Shares	Amount		Shares	Amount		Shares	Amount
Share repurchase program	4,406	$	371,794	4,126	$	324,622	5,208	$	311,332
Option proceeds	571	49,955		1,103	88,367		1,487	93,452
Total	4,977	$	421,749	5,229	$	412,989	6,695	$	404,784

With the significant pullback of the overall stock market in December, the Company accelerated approximately $25 million of repurchases from 2019 to 2018 at an average price of approximately $76.00. The repurchases were paid from cash at the Parent Company and issuance of commercial paper.

Throughout the remainder of this discussion, share purchases refer only to those made from excess cash flow at the Parent Company.

TMK 2018 FORM 10-K

A discussion of each of Torchmark’s segments follows. The following discussions are presented in the manner we view our operations, as described in Note 14—Business Segments.

LIFE INSURANCE

Life insurance is our largest insurance segment, with 2018 life premium representing 70% of total premium. Life underwriting income before other income and administrative expense represented 73% of the total in 2018. Additionally, investments supporting the reserves for life products produce the majority of excess investment income attributable to the investment segment.

We use three statistical measures as indicators of premium growth and sales over the near term: “annualized premium in force,” “net sales,” and “first-year collected premium.”


•	Annualized premium in force is defined as the premium income that would be received over the following twelve months at any given date on all active policies if those policies remain in force throughout the twelve-month period. Annualized premium in force is an indicator of potential growth in premium revenue.


•	Net sales is annualized premium issued (gross premium that would be received during the policies' first year in force and assuming that none of the policies lapsed or terminated), net of cancellations in the first thirty days after issue, except in the case of Globe Life Direct Response where net sales is annualized premium issued at the time the first full premium is paid after any introductory offer period has expired. We believe that net sales is a better indicator of the rate of premium growth as compared with annualized premium issued.

•

Net sales is annualized premium issued (gross premium that would be received during the policies' first year in force and assuming that none of the policies lapsed or terminated), net of cancellations in the first thirty days after issue, except in the case of Globe Life Direct Response where net sales is annualized premium issued at the time the first full premium is paid after any introductory offer period has expired. We believe that net sales is a better indicator of the rate of premium growth as compared with annualized premium issued.


•	First-year collected premium is defined as the premium collected during the reporting period for all policies in their first policy year. First-year collected premium takes lapses into account in the first year when lapses are more likely to occur, and thus is a useful indicator of how much new premium is expected to be added to premium income in the future.

The following table presents the summary of results of life insurance. Further discussion of the results by distribution channel is included below.

Life Insurance

Summary of Results

(Dollar amounts in thousands)



	2018					2017					2016
	Amount			% of Premium		Amount			% of Premium		Amount			% of Premium
Premium and policy charges	$	2,406,555		100		$	2,306,547		100		$	2,189,333		100

Policy obligations	1,591,790			66		1,549,602			67		1,475,477			67
Required interest on reserves	(636,040		)	(26	)	(607,007		)	(26	)	(577,827		)	(26	)
Net policy obligations	955,750			40		942,595			41		897,650			41
Commissions, premium taxes, and non-deferred acquisition expenses	190,007			8		177,111			8		164,476			8
Amortization of acquisition costs	608,497			25		582,504			25		553,445			25
Total expense	1,754,254			73		1,702,210			74		1,615,571			74
Insurance underwriting margin before other income and administrative expenses	$	652,301		27		$	604,337		26		$	573,762		26

TMK 2018 FORM 10-K

Life insurance premium rose 4% to $2.4 billion in 2018 after having increased 5% in 2017 to $2.3 billion. Life insurance products are marketed through several distribution channels. Premium income by distribution channel for each of the last three years is as follows:

Life Insurance

Premium by Distribution Channel

(Dollar amounts in thousands)



	2018			2017			2016
	Amount		% of Total	Amount		% of Total	Amount		% of Total
American Income Exclusive Agency	$	1,081,333	45	$	999,279	43	$	913,355	42
Globe Life Direct Response	828,935		34	812,907		35	782,765		36
Liberty National Exclusive Agency	278,878		12	274,635		12	270,476		12
Other Agencies	217,409		9	219,726		10	222,737		10
	$	2,406,555	100	$	2,306,547	100	$	2,189,333	100

Annualized life premium in force was $2.5 billion at December 31, 2018, an increase of 4% over $2.4 billion a year earlier. Annualized life premium in force was $2.3 billion at December 31, 2016.

The following table shows net sales information for each of the last three years by distribution channel.

Life Insurance

Net Sales by Distribution Channel

(Dollar amounts in thousands)



	2018			2017			2016
	Amount		% of Total	Amount		% of Total	Amount		% of Total
American Income Exclusive Agency	$	223,924	54	$	223,259	54	$	209,856	51
Globe Life Direct Response	126,133		31	135,704		33	150,267		36
Liberty National Exclusive Agency	49,173		12	46,886		11	40,159		10
Other Agencies	13,293		3	10,233		2	11,673		3
	$	412,523	100	$	416,082	100	$	411,955	100

The table below discloses first-year collected life premium by distribution channel.

Life Insurance

First-Year Collected Premium by Distribution Channel

(Dollar amounts in thousands)



	2018			2017			2016
	Amount		% of Total	Amount		% of Total	Amount		% of Total
American Income Exclusive Agency	$	190,680	60	$	182,538	58	$	173,573	56
Globe Life Direct Response	82,432		26	92,057		29	98,496		31
Liberty National Exclusive Agency	36,463		11	33,191		10	29,103		9
Other Agencies	10,342		3	9,633		3	11,458		4
	$	319,917	100	$	317,419	100	$	312,630	100

TMK 2018 FORM 10-K

While American Income Exclusive Agency has historically marketed primarily to members of labor unions, this agency has diversified in recent years by focusing heavily on other affinity groups, third party internet vendor leads, and referrals to help ensure sustainable growth. This agency is Torchmark’s largest contributor to life premium of any distribution channel at 45% of Torchmark’s 2018 total. This agency produced premium income of $1.1 billion, an increase of 8% over the prior year total of $999 million, after having risen 9% in 2017. First-year collected premium was $191 million compared with $183 million in 2017, an increase of 4%. First-year collected premium rose 5% in 2017. Net sales increased to $224 million in 2018 over the 2017 total of $223 million. Net sales increased 6% in 2017 over the 2016 total of $210 million. Sales growth in our captive agencies is generally dependent on growth in the size of the agency force. The American Income Exclusive Agency's average producing agent count rose slightly to 6,971 in 2018, compared with 6,962 in 2017. The average producing agent count is based on the actual count at the end of each week during the period.

The American Income Exclusive Agency continues to focus on growing and strengthening the agency force. In addition to offering financial incentives and training opportunities, the agency has made considerable investments in information technology, including launching a lead mapping and customer relationship management tool for the agency force. We anticipate this tool will help enhance agent productivity and agent retention.

The Globe Life Direct Response unit offers adult and juvenile life insurance through a variety of direct-to-consumer marketing approaches, which include direct mailings, insert media, and electronic media. These different approaches support and complement one another in the unit’s efforts to reach the consumer. The Globe Life Direct Response channel’s long-term growth has been fueled by constant innovation. In recent years, electronic media production has grown rapidly as management has aggressively increased marketing activities related to internet and mobile technology, and has focused on driving traffic to the inbound call center. We continually introduce new initiatives in this unit in an attempt to increase response rates.

While the juvenile market is an important source of sales, it also is a vehicle to reach the parents and grandparents of juvenile policyholders, who are more likely to respond favorably to a Globe Life Direct Response solicitation for life coverage on themselves than is the general adult population. Also, both juvenile policyholders and their parents are low acquisition-cost targets for sales of additional coverage over time.

Globe Life Direct Response’s life premium income rose 2% to $829 million, representing 34% of Torchmark’s total life premium during 2018. Life premium in this channel increased 4% in 2017 to $813 million over the 2016 total of $783 million. Net sales of $126 million for this group decreased 7% from $136 million in 2017, after a 10% decrease in 2017 due to operational changes designed to maximize underwriting margin dollars. In 2019, we expect sales to be relatively flat or increase slightly. First-year collected premium decreased 10% to $82 million in 2018 after having decreased 7% in 2017.

The Liberty National Exclusive Agency markets individual and group life insurance to lower middle to middle-income customers. Life premium income for this agency was $279 million in 2018, an increase of 2% from $275 million in 2017. Life premium income in 2016 totaled $270 million. Net sales increased 5% during 2018 to $49 million over the 2017 total of $47 million. Net sales in 2017 increased 17%. The continued increases in net sales reflect changes in structure of the agency that were put in place several years ago. Recent growth in middle management within the agency should help continue this growth. First-year collected premium increased 10% to $36 million during 2018 and increased 14% in 2017 to $33 million.

The Liberty average producing agent count increased from 2,017 in 2017 to 2,156 in 2018. We continue to execute our long term plan to grow this agency through expansion from small-town markets in the southeast to more densely populated areas with larger pools of potential agent recruits and customers. Expansion of this agency’s presence into more heavily populated, less-penetrated areas will help create long term agency growth. Additionally, the agency's prospecting training program has helped to improve the ability of agents to develop new work site marketing business.

The Other Agencies distribution channels offering life insurance include the Military Agency, the UA Independent Agency (which predominantly writes health insurance), and various smaller distribution channels. The Other Agencies contributed $217 million of life premium income, or 9% of Torchmark’s total in 2018, but contributed only 3% of net sales for the year.

TMK 2018 FORM 10-K

HEALTH INSURANCE

Health insurance sold by Torchmark includes primarily Medicare Supplement insurance, critical illness coverage, accident coverage, and other limited-benefit supplemental health products. In this analysis, all health coverage plans other than Medicare Supplement are classified as limited-benefit plans.

Health premium accounted for 30% of our total premium in 2018, while the health underwriting margin accounted for 26% of total underwriting margin, reflective of the lower underwriting margin as a percent of premium for health compared with life insurance. As noted under the caption Life Insurance, we have emphasized life insurance sales relative to health, due to life’s superior profitability and its greater contribution to excess investment income.

The following table presents the summary of results for health insurance.

Health Insurance

Summary of Results

(Dollar amounts in thousands)



	2018					2017					2016
	Amount			% of Premium		Amount			% of Premium		Amount			% of Premium
Premium	$	1,015,339		100		$	976,373		100		$	947,663		100

Policy obligations	649,188			64		628,640			65		612,725			65
Required interest on reserves	(83,243		)	(8	)	(77,792		)	(8	)	(73,382		)	(8	)
Net policy obligations	565,945			56		550,848			57		539,343			57
Commissions, premium taxes, and non-deferred acquisition expenses	88,553			9		86,044			9		84,819			9
Amortization of acquisition costs	124,788			12		119,973			12		113,445			12
Total expense	779,286			77		756,865			78		737,607			78
Insurance underwriting margin before other income and administrative expense	$	236,053		23		$	219,508		22		$	210,056		22

Health premium increased 4% from $976 million in 2017 to $1.0 billion in 2018. Health underwriting margin increased 8% from $220 million in 2017 to $236 million in 2018. Further discussion is included below by distribution channels.

TMK 2018 FORM 10-K

Premium income by distribution channel for each of the last three years is as follows:

Health Insurance

Premium by Distribution Channel

(Dollar amounts in thousands)



	2018			2017			2016
	Amount		% of Total	Amount		% of Total	Amount		% of Total
United American Independent Agency
Limited-benefit plans	$	10,992		$	11,438		$	12,704
Medicare Supplement	370,084			352,690			342,311
	381,076		38	364,128		37	355,015		38
Family Heritage Exclusive Agency
Limited-benefit plans	273,275			253,534			236,075
Medicare Supplement	—			—			—
	273,275		27	253,534		26	236,075		25
Liberty National Exclusive Agency
Limited-benefit plans	147,250			144,128			142,026
Medicare Supplement	44,128			52,079			59,772
	191,378		19	196,207		20	201,798		21
American Income Exclusive Agency
Limited-benefit plans	93,093			88,776			84,064
Medicare Supplement	220			260			318
	93,313		9	89,036		9	84,382		9
Direct Response
Limited-benefit plans	439			545			552
Medicare Supplement	75,858			72,923			69,841
	76,297		7	73,468		8	70,393		7
Total Premium
Limited-benefit plans	525,049		52	498,421		51	475,421		50
Medicare Supplement	490,290		48	477,952		49	472,242		50
	$	1,015,339	100	$	976,373	100	$	947,663	100

TMK 2018 FORM 10-K

We market supplemental health insurance products through a number of distribution channels. The following table presents net sales by distribution channel for the last three years.

Health Insurance

Net Sales by Distribution Channel

(Dollar amounts in thousands)



	2018			2017			2016
	Amount		% of Total	Amount		% of Total	Amount		% of Total
United American Independent Agency
Limited-benefit plans	$	480		$	500		$	558
Medicare Supplement	69,487			60,670			55,451
	69,967		41	61,170		39	56,009		39
Family Heritage Exclusive Agency
Limited-benefit plans	60,268			56,534			51,349
Medicare Supplement	—			—			—
	60,268		35	56,534		36	51,349		35
Liberty National Exclusive Agency
Limited-benefit plans	22,098			20,407			19,513
Medicare Supplement	—			—			9
	22,098		13	20,407		13	19,522		13
American Income Exclusive Agency
Limited-benefit plans	14,432			13,943			12,666
Medicare Supplement	—			—			—
	14,432		8	13,943		9	12,666		9
Direct Response
Limited-benefit plans	—			—			—
Medicare Supplement	4,769			5,582			5,560
	4,769		3	5,582		3	5,560		4
Total Net Sales
Limited-benefit plans	97,278		57	91,384		58	84,086		58
Medicare Supplement	74,256		43	66,252		42	61,020		42
	$	171,534	100	$	157,636	100	$	145,106	100

TMK 2018 FORM 10-K

The following table discloses first-year collected health premium by distribution channel.

Health Insurance

First-Year Collected Premium by Distribution Channel

(Dollar amounts in thousands)



	2018			2017			2016
	Amount		% of Total	Amount		% of Total	Amount		% of Total
United American Independent Agency
Limited-benefit plans	$	395		$	458		$	547
Medicare Supplement	62,325			54,393			64,848
	62,720		42	54,851		40	65,395		47
Family Heritage Exclusive Agency
Limited-benefit plans	47,422			44,535			40,822
Medicare Supplement	—			—			—
	47,422		32	44,535		33	40,822		29
Liberty National Exclusive Agency
Limited-benefit plans	17,809			16,425			16,103
Medicare Supplement	—			2			6
	17,809		12	16,427		12	16,109		11
American Income Exclusive Agency
Limited-benefit plans	15,249			14,673			13,710
Medicare Supplement	—			—			—
	15,249		10	14,673		11	13,710		10
Direct Response
Limited-benefit plans	—			—			—
Medicare Supplement	5,111			5,657			4,457
	5,111		4	5,657		4	4,457		3
Total First-Year Collected Premium
Limited-benefit plans	80,875		55	76,091		56	71,182		51
Medicare Supplement	67,436		45	60,052		44	69,311		49
	$	148,311	100	$	136,143	100	$	140,493	100

The UA Independent Agency consists of independent agencies appointed with Torchmark who may also sell for other companies. The UA Independent Agency was Torchmark’s largest health agency in terms of health premium income. In 2018, premium income was $381 million, representing 38% of Torchmark’s total health premium. Net sales were $70 million, or 41% of Torchmark’s health sales. This agency is also Torchmark’s largest producer of Medicare Supplement insurance, with Medicare Supplement premium income of $370 million. The UA Independent Agency represents 75% of all Torchmark Medicare Supplement premium and 94% of Medicare Supplement net sales. Medicare Supplement premium in this agency rose 5% in 2018. Total health premium increased 5% in 2018 and 3% in 2017. Medicare Supplement net sales increased 15% in 2018 from the prior year, primarily as a result of an increase in individual sales.

The Family Heritage Exclusive Agency primarily markets limited-benefit supplemental health insurance in non-urban areas. Most of their policies include a cash-back feature, such as a return of premium, where any excess of premiums over claims paid is returned to the policyholder at the end of a specified period stated within the insurance policy. Management expects to grow this agency through geographic expansion and continuing incorporation of Torchmark’s recruiting systems. The Family Heritage Agency contributed $60 million in net sales in 2018, compared with $57 million in 2017 and $51 million in 2016. Health premium income was $273 million in 2018, representing 27% of Torchmark’s health premium. This compared with $254 million or 26% of health premium in 2017 and $236 million or 25% in 2016.

TMK 2018 FORM 10-K

Underwriting margin as a percent of premium was 24%, up from 22% for the year ended December 31, 2017. The increase was primarily attributed to the runoff of older business and the growing portion of new business sold at higher margins. The average producing agent count was 1,064 for the year ended December 31, 2018, compared with 995 for the same period in 2017, an increase of 7%.

The Liberty National Exclusive Agency represented 19% of all Torchmark health premium income at $191 million in 2018. The Liberty Agency markets limited-benefit supplemental health products consisting primarily of critical illness insurance. Much of Liberty’s health business is now generated through work site marketing targeting small businesses of 10 to 25 employees. In 2018, health premium income declined 2% after declining 3% during 2017. Liberty’s health premium decline is primarily attributable to its declining Medicare Supplement block. Liberty's first-year collected premium increased 8% to $18 million in 2018 compared with an increase of 2% in 2017, reflecting the steady increase in net sales of limited-benefit plans in the agency.

Other distribution. Certain of our other distribution channels market health products, although their main emphasis is on life insurance. On a combined basis, they accounted for 16% of health premium in 2018 and 17% in 2017. The American Income Exclusive Agency primarily markets accident plans. The Direct Response group markets primarily Medicare Supplements to employer or union-sponsored groups. Direct Response added $5 million of Medicare Supplement net sales in 2018 and $6 million in 2017 and 2016.

ANNUITIES

Our fixed annuity balances at the end of 2018 and 2017 were $1.18 billion and $1.25 billion, respectively. Underwriting income was $10.4 million, $10.6 million, and $9.4 million for the three years ended December 31, 2018, respectively.

We do not currently market stand-alone fixed or deferred annuity products, favoring instead protection-oriented life and health insurance products. Therefore, we do not expect that annuities will be a significant portion of our business or marketing strategy going forward.

TMK 2018 FORM 10-K

ADMINISTRATIVE EXPENSES

Operating expenses are included in the Corporate and Other segment and are classified into two categories: insurance administrative expenses and expenses of the Parent Company. Insurance administrative expenses generally include those expenses incurred after a policy has been issued. Expenses associated with the issuance of our insurance policies are reflected as acquisition expenses and included in the determination of underwriting margin. The following table is an analysis of operating expenses for the three years ended December 31, 2018.

Operating Expenses Selected Information

(Dollar amounts in thousands)



	2018			2017			2016
	Amount		% of Premium	Amount		% of Premium	Amount		% of Premium
Insurance administrative expenses:
Salaries	$	100,688	2.9	$	96,185	2.9	$	91,415	2.9
Non-salary employee costs	35,565		1.0	33,539		1.0	29,852		1.0
Information technology costs	29,286		0.9	26,048		0.8	23,303		0.7
Other administrative expense	49,215		1.4	46,066		1.4	43,727		1.4
Legal expense—insurance	9,187		0.3	8,752		0.3	8,301		0.3
Total insurance administrative expenses	223,941		6.5	210,590		6.4	196,598		6.3
Parent Company expense	10,684			9,631			8,587
Stock-based compensation expense	39,792			37,034			26,326
Administrative settlements	3,590			—			—
Non-operating fees	1,578			—			553
Total operating expenses, per Consolidated Statements of Operations	$	279,585		$	257,255		$	232,064



Insurance administrative expenses:
Increase (decrease) over prior year	6.3	%	7.1	%	5.6	%
Total operating expenses:
Increase (decrease) over prior year	8.7	%	10.9	%	3.7	%

The 6.3% increase in insurance administrative expenses was primarily due to an increase in other employee costs and information technology salaries and expenses. Other employee costs increased primarily due to higher pension expense driven by lower interest rates. The increase in information technology costs reflects investments related to data analytics capabilities, administrative systems modernizations, and information security programs. The increase in stock-based compensation expense was primarily due to higher expense associated with equity awards, reflecting Torchmark's higher share price as compared with the same period a year ago.

TMK 2018 FORM 10-K

INVESTMENTS

We manage our capital resources including investments, debt, and cash flow through the investment segment. Excess investment income represents the profit margin attributable to investment operations and is the measure that we use to evaluate the performance of the investment segment as described in Note 14—Business Segments. It is defined as net investment income less both the required interest on net policy liabilities and the interest cost associated with capital funding or “financing costs.”

We also view excess investment income per diluted common share as an important and useful measure to evaluate the performance of the investment segment. It is defined as excess investment income divided by the total diluted weighted average shares outstanding, representing the contribution by the investment segment to the consolidated earnings per share of the Company. Since implementing our share repurchase program in 1986, we have used $7.5 billion of excess cash flow at the Parent Company to repurchase Torchmark shares after determining that the repurchases provided a greater risk adjusted after-tax return than other investment alternatives. If we had not used this excess cash to repurchase shares, but had instead invested it in interest-bearing assets, we would have earned more investment income and had more shares outstanding. As excess investment income per diluted common share incorporates all capital resources, we believe that excess investment income per diluted share is a useful measure to evaluate the investment segment. In order to put all capital resource uses on a comparable basis, we believe that excess investment income per diluted share is an appropriate measure of the investment segment.

Excess Investment Income. The following table summarizes Torchmark’s investment income and excess investment income.

Analysis of Excess Investment Income

(Dollar amounts in thousands except for per share data)



	2018			2017			2016
Net investment income	$	882,512		$	847,885		$	806,903
Interest on net insurance policy liabilities:
Interest on reserves	(766,640		)	(734,370		)	(702,340		)
Interest on deferred acquisition costs	219,298			210,380			202,813
Net required interest	(547,342		)	(523,990		)	(499,527		)
Financing costs	(90,076		)	(84,532		)	(83,345		)
Excess investment income	$	245,094		$	239,363		$	224,031

Excess investment income per diluted share	$	2.13		$	2.01		$	1.83

Mean invested assets (at amortized cost)	$	16,249,161		$	15,376,781		$	14,461,502
Average net insurance policy liabilities(1)	9,744,200			9,359,780			8,945,850
Average debt and preferred securities (at amortized cost)	1,650,138			1,458,706			1,379,933


(1)	Net of deferred acquisition costs, excluding the associated unrealized gains and losses thereon.

Excess investment income increased $6 million or 2% during 2018 after increasing 7% during 2017. Excess investment income per diluted common share increased 6% during 2018 after increasing 10% during 2017. Excess investment income per diluted common share generally increases at a faster pace than excess investment income because the number of diluted shares outstanding generally decreases from year to year as a result of our share repurchase program.

Net investment income increased at a compound annual growth rate of 4% during the last three years. Growth in net investment income has been negatively impacted in recent years by the declining interest rate environment during which time we have invested new money and reinvested the proceeds from bonds that matured or were called or otherwise disposed of at yield rates less than what we earned on these bonds before their maturity or disposition. We currently expect that the average annual turnover rate of fixed maturity assets during the next five years will not exceed 1% to 3% of the portfolio, and will not have a significant negative impact on the growth of net investment income. The following chart presents the growth in net investment income and the growth in mean invested assets.

TMK 2018 FORM 10-K



	2018		2017		2016
Growth in net investment income	4.1	%	5.1	%	4.3	%
Growth in mean invested assets (at amortized cost)	5.7	%	6.3	%	5.6	%

Should interest rates, especially long-term rates, rise, Torchmark's net investment income would benefit due to higher interest rates on new purchases. While such a rise in interest rates could adversely affect the fair value of the fixed maturities portfolio, we could withstand an increase in interest rates of approximately 30 to 35 basis points before the net unrealized gains on our fixed maturity portfolio as of December 31, 2018 would be eliminated. Should interest rates increase further than that, we would not be concerned with potential interest rate driven unrealized losses in our fixed maturity portfolio because we have the intent and, more importantly, the ability, to hold our fixed maturities to maturity.

Required interest on net insurance policy liabilities reduces net investment income as it is the amount of net investment income considered by management necessary to “fund” the required interest included in the insurance segments. As such, it is removed from the investment segment and applied to the insurance segments to offset the effect of the required interest from the insurance segments. As discussed in Note 14-Business Segments, management believes this provides a more meaningful analysis of the investment and insurance segments. Required interest is based on the actuarial interest assumptions used in discounting the benefit reserve liability and the amortization of deferred acquisition costs for our insurance policies in force.

The great majority of our life and health insurance policies are fixed interest-rate protection policies, not investment products, and are accounted for under current accounting guidance for long-duration insurance products which mandates that interest rate assumptions for a particular block of business be “locked in” for the life of that block of business. Each calendar year, we set the discount rate to be used to calculate the benefit reserve liability and the amortization of the deferred acquisition cost asset for all insurance policies issued that year. That rate is based on the new money yields that we expect to earn on cash flow received in the future from policies of that issue year, and cannot be changed. The discount rate used for policies issued in the current year has no impact on the in force policies issued in prior years as the rates of all prior issue years are also locked in. As such, the overall discount rate for the entire in force block is a weighted average of the discount rates being used from all issue years. Changes in the overall weighted-average discount rate over time are caused by changes in the mix of the reserves and the deferred acquisition cost asset by issue year on the entire block of in force business. Business issued in the current year has very little impact on the overall weighted-average discount rate due to the size of our in force business.

Since actuarial discount rates are locked in for life on essentially all of our business, benefit reserves and deferred acquisition costs are not affected by interest rate fluctuations unless a loss recognition event occurs. Due to the strength of our underwriting margins, we do not expect an extended low-interest-rate environment to cause a loss recognition event.

TMK 2018 FORM 10-K

Information about interest on net policy liabilities is shown in the following table.

Required Interest on Net Insurance Policy Liabilities

(Dollar amounts in thousands)



	Required Interest			Average Net Insurance Policy Liabilities			Average Discount Rate
2018
Life and Health	$	493,557		$	8,535,842		5.78	%
Annuity	53,785			1,208,358			4.45
Total	$	547,342		$	9,744,200		5.62
Increase in 2018	4.46		%	4.11		%
2017
Life and Health	$	468,038		$	8,099,319		5.78	%
Annuity	55,952			1,260,461			4.44
Total	$	523,990		$	9,359,780		5.60
Increase in 2017	4.90		%	4.63		%
2016
Life and Health	$	442,021		$	7,658,639		5.77	%
Annuity	57,506			1,287,211			4.47
Total	$	499,527		$	8,945,850		5.58
Increase in 2016	4.55		%	4.33		%

Financing costs for the investment segment primarily consist of interest on our various debt instruments and are deducted from excess investment income. The table below presents the components of financing costs and reconciles interest expense per the Consolidated Statements of Operations.

Analysis of Financing Costs

(Dollar amounts in thousands)



	2018		2017		2016
Interest on funded debt	$	74,324	$	74,115	$	75,988
Interest on term loan	3,177		2,336		993
Interest on short-term debt	12,570		8,076		6,360
Other	5		5		4
Financing costs	$	90,076	$	84,532	$	83,345

In 2018, financing costs increased primarily due to higher interest rates on the short-term debt. More information on our debt transactions are disclosed in the Financial Condition section of this report and in Note 11—Debt.

Realized Gains and Losses. Our life and health insurance companies collect premium income from policyholders for the eventual payment of policyholder benefits, sometimes paid many years or even decades in the future. Since benefits are expected to be paid in future periods, premium receipts in excess of current expenses are invested to provide for these obligations. For this reason, we hold a significant investment portfolio as a part of our core insurance operations. This portfolio consists primarily of high-quality fixed maturities containing an adequate yield to provide for the cost of carrying these long-term insurance product obligations. As a result, fixed maturities are generally held for long periods to support the liabilities. Expected yields on these investments are taken into account when setting insurance premium rates and product profitability expectations.

Despite our intent to hold fixed maturity investments for a long period of time, investments are occasionally sold or called, resulting in a realized gain or loss. These gains and losses generally occur only incidentally, usually as the result of bonds sold because of deterioration in investment quality of issuers or calls by the issuers. Investment losses are also caused by write downs due to impairments. We do not engage in trading investments for profit.

TMK 2018 FORM 10-K

Therefore, gains or losses which occur in protecting the portfolio or its yield, or which result from events that are beyond our control, are only secondary to our core insurance operations of providing insurance coverage to policyholders.

Realized gains and losses can be significant in relation to the earnings from core insurance operations, and as a result, can have a material positive or negative impact on net income. The significant fluctuations caused by gains and losses can cause period-to-period trends of net income that are not indicative of historical core operating results or predictive of the future trends of core operations. Accordingly, they have no bearing on core insurance operations or segment results as we view operations. For these reasons, and in line with industry practice, we remove the effects of realized gains and losses when evaluating overall insurance operating results.

The following table summarizes our tax-effected realized gains (losses) by component for each of the years in the three-year period ended December 31, 2018.

Analysis of Realized Gains (Losses), Net of Tax

(Dollar amounts in thousands, except for per share data)



	Year Ended December 31,
	2018						2017						2016
	Amount			Per Share			Amount			Per Share			Amount			Per Share
Fixed maturities:
Sales	$	(11,005	)	$	(0.10	)	$	2,587		$	0.02		$	(17,209	)	$	(0.14	)
Called or tendered	15,520			0.14			20,292			0.17			10,290			0.08
Write-downs	—			—			(159		)	—			—			—
Other	2,812			0.02			(2,503		)	(0.02		)	(25		)	—
Realized investment gains (losses)	7,327			0.06			20,217			0.17			(6,944		)	(0.06		)

Loss on redemption of debt	(8,752		)	(0.07		)	(2,627		)	(0.02		)	—			—
Total realized gains (losses)	$	(1,425	)	$	(0.01	)	$	17,590		$	0.15		$	(6,944	)	$	(0.06	)

As described in Note 4—Investments under the caption Other-than-temporary impairments, the Company recorded $245 thousand ($159 thousand, net of tax) in security write-downs in 2017. We did not incur any write downs in our fixed maturity portfolio as a result of other-than-temporary impairment for the years 2018 and 2016. See Note 11—Debt for further discussion on loss on redemption of debt.

Investment Acquisitions. Torchmark’s investment policy calls for investing primarily in investment grade fixed maturities that meet our quality and yield objectives. We generally prefer to invest in securities with longer maturities because they more closely match the long-term nature of our policy liabilities. We believe this strategy is appropriate since our expected future cash flows are generally stable and predictable and the likelihood that we will need to sell invested assets to raise cash is low. If longer-term securities that meet our quality and yield objectives are not available, we do not relax our quality objectives; instead, we consider investing in shorter-term or lower yielding securities taking into consideration the slope of the yield curve and other factors.

During calendar years 2016 through 2018, Torchmark invested predominately in fixed maturity securities, primarily in corporate bonds with longer-term maturities. The following table summarizes selected information for fixed maturity purchases for the last three years. The effective annual yield shown is the yield calculated to the potential termination date that produces the lowest yield, commonly referred to as the “worst call date.” For non-callable bonds, the worst-call date is always the maturity date. For callable bonds, the worst-call date is the call date that produces the lowest yield (or the maturity date, if the yield calculated to the maturity date is lower than the yield calculated to each call date).

TMK 2018 FORM 10-K

Fixed Maturity Acquisitions Selected Information

(Dollar amounts in thousands)



	Year Ended December 31,
	2018			2017			2016
Cost of acquisitions(1):
Investment-grade corporate securities	$	877,512		$	1,308,567		$	1,505,135
Investment-grade municipal securities	269,360			—			13,023
Other investment-grade securities	8,708			6,042			14,727
Total fixed maturity acquisitions	$	1,155,580		$	1,314,609		$	1,532,885

Effective annual yield (one year compounded)(2)	4.97		%	4.67		%	4.67		%
Average life (in years to next call)	17.0			23.0			24.6
Average life (in years to maturity)	22.8			24.0			25.4
Average rating	A-			BBB+			BBB+


(1)	Includes unsettled trades of $41 thousand for 2018 and $3 million for 2016.


(2)	Tax-equivalent basis, where the yield on tax-exempt securities is adjusted to produce a yield equivalent to the pretax yield on taxable securities.

We prefer to invest primarily in bonds that are not callable (on other than a make-whole basis) prior to maturity, but we periodically invest some funds in callable bonds when the incremental yield available on such bonds warrants doing so. For investments in callable bonds, the actual life of the investment will depend on whether the issuer calls the investment prior to the maturity date. Given our investments in callable bonds, the actual average life of our investments cannot be known at the time of the investment. Absent sales and "make-whole calls", however, the average life will not be less than the average life to next call and will not exceed the average life to maturity. Data for both of these average life measures is provided in the above chart.

From 2016 through 2018, acquisitions consisted of securities spanning a diversified range of issuers, industry sectors, and geographical regions. All of the acquired securities were investment grade. In addition to the fixed maturity acquisitions, Torchmark invested $94 million in other long-term investments in 2018 compared with $55 million in 2017 and $20 million in 2016.

New cash flow available for investment has been primarily provided through our insurance operations, cash received on existing investments, and proceeds from dispositions. While calls increase funds available for investment, as noted earlier in this discussion, they can also have a negative impact on investment income if the proceeds from the calls are reinvested in bonds that have lower yields than those of the bonds that were called. Issuer calls were $146 million in 2018, $371 million in 2017, and $182 million in 2016.

Approximately 95% of our investments at book value are in a diversified fixed maturity portfolio. Policy loans, which are secured by policy cash values, make up 3% of our investments. We also have investments in equity securities, commercial mortgages, and limited partnerships.

We are not a party to any credit default swaps or other derivative contracts. We do not participate in securities lending, we have no off-balance sheet investments, and we do not have any exposure to European sovereign debt at December 31, 2018. In the prior year, it was announced by the head of the United Kingdom's Financial Conduct Authority that they plan to phase out the floating rate, London Interbank Offered Rate (LIBOR), by the end of 2021. Uncertainty remains as to what will be the replacement floating rate. As of December 31, 2018, Torchmark had limited assets and liabilities that utilize LIBOR as a benchmark rate. We will continue to monitor the progress towards the establishment of a new floating rate.

Since fixed maturities represent such a significant portion of our investment portfolio, the remainder of the discussion of portfolio composition will focus on fixed maturities. See a breakdown of the Company's other investments in Other Investment Information within Note 4—Investments.

TMK 2018 FORM 10-K

Selected information concerning the fixed maturity portfolio is as follows:

Fixed Maturities

Fixed Maturity Portfolio Selected Information



	At December 31,
	2018		2017
Average annual effective yield(1)	5.55	%	5.60	%
Average life, in years, to:
Next call(2)	16.9		17.5
Maturity(2)	18.7		19.1
Effective duration to:
Next call(2, 3)	10.0		10.8
Maturity(2, 3)	10.8		11.5


(1)	Tax-equivalent basis, where the yield on tax-exempt securities is adjusted to produce a yield equivalent to the pretax yield on taxable securities.


(2)	Torchmark calculates the average life and duration of the fixed maturity portfolio two ways:


(a)	based on the next call date which is the next call date for callable bonds and the maturity date for noncallable bonds, and


(b)	based on the maturity date of all bonds, whether callable or not.


(3)	Effective duration is a measure of the price sensitivity of a fixed-income security to a particular change in interest rates.

TMK 2018 FORM 10-K

Credit Risk Sensitivity. The following tables summarize certain information about the major corporate sectors and security types held in our fixed maturity portfolio at December 31, 2018 and 2017.

Fixed Maturities by Sector

At December 31, 2018

(Dollar amounts in thousands)



	Below Investment Grade										Total Fixed Maturities									% of Total Fixed Maturities
	Cost or Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value			Cost or Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value		At Amortized Cost	At Fair Value

Corporates:
Financial
Insurance - life, health, P&C	$	66,310	$	3,836	$	(8,674	)	$	61,472		$	1,941,967	$	181,552	$	(28,158	)	$	2,095,361	12	13
Banks	27,075		—		(1,348		)	25,727			871,485		50,205		(16,730		)	904,960		6	5
Other financial	74,958		—		(19,584		)	55,374			946,316		31,118		(42,627		)	934,807		6	6
Total financial	168,343		3,836		(29,606		)	142,573			3,759,768		262,875		(87,515		)	3,935,128		24	24
Utilities
Electric	36,889		176		(3,277		)	33,788			1,458,193		188,136		(14,943		)	1,631,386		10	10
Gas and water	—		—		—			—			531,313		29,710		(9,456		)	551,567		3	3
Total utilities	36,889		176		(3,277		)	33,788			1,989,506		217,846		(24,399		)	2,182,953		13	13
Industrial - Energy
Pipelines	40,553		—		(4,762		)	35,791			925,689		50,835		(25,395		)	951,129		6	6
Exploration and production	17,187		—		(1,554		)	15,633			548,099		30,969		(17,518		)	561,550		3	3
Oil field services	—		—		(1		)	(1		)	49,837		3,893		(715		)	53,015		—	—
Refiner	—		—		—			—			84,255		8,183		(1,496		)	90,942		1	1
Driller	44,820		—		(17,247		)	27,573			44,820		—		(17,247		)	27,573		—	—
Total energy	102,560		—		(23,564		)	78,996			1,652,700		93,880		(62,371		)	1,684,209		10	10
Industrial - Basic materials
Chemicals	—		—		—			—			554,481		8,818		(25,302		)	537,997		4	3
Metals and mining	57,409		92		(1,492		)	56,009			386,782		33,868		(2,500		)	418,150		2	3
Forestry products and paper	—		—		—			—			111,612		7,329		(2,711		)	116,230		—	1
Total basic materials	57,409		92		(1,492		)	56,009			1,052,875		50,015		(30,513		)	1,072,377		6	7
Industrial - Consumer, non-cyclical	33,847		587		(6,710		)	27,724			2,024,230		76,669		(89,536		)	2,011,363		13	12
Other industrials	46,852		—		(3,311		)	43,541			1,364,192		62,338		(42,222		)	1,384,308		9	8
Industrial - Transportation	26,213		—		(2,592		)	23,621			569,786		47,496		(10,325		)	606,957		4	4
Other corporate sectors	135,873		982		(16,241		)	120,614			1,371,624		47,006		(69,913		)	1,348,717		9	9
Total corporates	607,986		5,673		(86,793		)	526,866			13,784,681		858,125		(416,794		)	14,226,012		88	87
Other fixed maturities:
Government (U.S., municipal, and foreign)	306		93		—			399			1,763,496		90,475		(4,537		)	1,849,434		11	11
Collateralized debt obligations	57,769		22,014		(6,414		)	73,369			57,769		22,014		(6,414		)	73,369		—	1
Other asset-backed securities	—		—		—			—			146,546		2,159		(633		)	148,072		1	1
Mortgage-backed securities(1)	—		—		—			—			979		67		(1		)	1,045		—	—
Total fixed maturities	$	666,061	$	27,780	$	(93,207	)	$	600,634		$	15,753,471	$	972,840	$	(428,379	)	$	16,297,932	100	100


(1)	Includes GNMA's

TMK 2018 FORM 10-K

Fixed Maturities by Sector

At December 31, 2017

(Dollar amounts in thousands)



	Below Investment Grade									Total Fixed Maturities									% of Total Fixed Maturities
	Cost or Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value		Cost or Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value		At Amortized Cost	At Fair Value

Corporates:
Financial
Insurance - life, health, P&C	$	66,489	$	3,896	$	(3,650	)	$	66,735	$	2,018,315	$	346,364	$	(4,588	)	$	2,360,091	14	14
Banks	27,104		—		(2,727		)	24,377		747,249		117,724		(3,007		)	861,966		5	5
Other financial	74,956		—		(17,661		)	57,295		853,583		74,765		(18,524		)	909,824		6	6
Total financial	168,549		3,896		(24,038		)	148,407		3,619,147		538,853		(26,119		)	4,131,881		25	25
Utilities
Electric	20,713		1,159		—			21,872		1,463,872		306,812		(1,275		)	1,769,409		10	11
Gas and water	—		—		—			—		520,418		64,726		(120		)	585,024		3	3
Total utilities	20,713		1,159		—			21,872		1,984,290		371,538		(1,395		)	2,354,433		13	14
Industrial - Energy
Pipelines	40,590		937		(1,092		)	40,435		880,379		117,765		(2,320		)	995,824		6	6
Exploration and production	28,174		1,180		(85		)	29,269		527,581		79,784		(2,620		)	604,745		4	4
Oil field services	33,867		—		(6,004		)	27,863		83,722		11,074		(6,004		)	88,792		1	1
Refiner	—		—		—			—		73,106		17,430		—			90,536		—	—
Driller	54,561		87		(14,448		)	40,200		54,561		87		(14,448		)	40,200		—	—
Total energy	157,192		2,204		(21,629		)	137,767		1,619,349		226,140		(25,392		)	1,820,097		11	11
Industrial - Basic materials
Chemicals	—		—		—			—		541,785		59,216		(20		)	600,981		3	3
Metals and mining	57,438		7,727		—			65,165		387,134		85,105		—			472,239		3	3
Forestry products and paper	—		—		—			—		112,175		16,911		—			129,086		1	1
Total basic materials	57,438		7,727		—			65,165		1,041,094		161,232		(20		)	1,202,306		7	7
Industrial - Consumer, non-cyclical	21,334		—		(4,498		)	16,836		1,834,778		192,887		(6,494		)	2,021,171		12	12
Other industrials	47,136		2,965		—			50,101		1,326,051		179,694		(671		)	1,505,074		9	9
Industrial - Transportation	26,443		1,581		(162		)	27,862		553,435		90,211		(195		)	643,451		3	4
Other corporate sectors	143,995		5,076		(9,387		)	139,684		1,310,445		123,588		(13,236		)	1,420,797		9	8
Total corporates	642,800		24,608		(59,714		)	607,694		13,288,589		1,884,143		(73,522		)	15,099,210		89	90
Other fixed maturities:
Government (U.S., municipal, and foreign)	306		—		(105		)	201		1,501,865		147,772		(1,507		)	1,648,130		10	9
Collateralized debt obligations	59,150		20,084		(7,653		)	71,581		59,150		20,084		(7,653		)	71,581		—	—
Other asset-backed securities	—		—		—			—		144,040		4,790		—			148,830		1	1
Mortgage-backed securities(1)	—		—		—			—		1,457		118		(1		)	1,574		—	—
Total fixed maturities	$	702,256	$	44,692	$	(67,472	)	$	679,476	$	14,995,101	$	2,056,907	$	(82,683	)	$	16,969,325	100	100


(1)	Includes GNMA's

The net unrealized gain position in the fixed maturity portfolio decreased by 72% from $2.0 billion at December 31, 2017 to $544 million at December 31, 2018, primarily as a result of an increase in market interest rates.

Corporate securities, which consist of bonds and redeemable preferred stocks, were the largest component of the fixed maturity portfolio, representing 88% of amortized cost and 87% of fair value. The remainder of the portfolio is invested primarily in securities issued by the U.S. government and U.S. municipalities. The Company holds insignificant amounts in foreign government bonds, collateralized debt obligations, asset-backed securities, and agency mortgage-backed securities. Corporate securities are diversified over a variety of industry sectors and issuers. As shown in the chart above, financial, utility, and energy sectors represented approximately 47% of the portfolio.

TMK 2018 FORM 10-K

At December 31, 2018, the total fixed maturity portfolio consists of 611 issuers, with 222 issuers within the financial, utility, and energy sectors.

For more information about our fixed maturity portfolio by component at December 31, 2018 and 2017, including a discussion of other-than-temporary impairments, an analysis of unrealized investment losses and a schedule of maturities, see Note 4—Investments.

An analysis of the fixed maturity portfolio by a composite quality rating at December 31, 2018 is shown in the following table. The composite rating for each security, other than private-placement securities managed by third parties, is the average of the security’s ratings as assigned by Moody’s Investor Service, Standard & Poor’s, Fitch Ratings, and Dominion Bond Rating Service, LTD. The ratings assigned by these four nationally recognized statistical rating organizations are evenly weighted when calculating the average. The composite quality rating is created using a methodology developed by Torchmark Corporation using ratings from the various rating agencies noted above. The composite quality rating is not a Standard & Poor's credit rating. Standard & Poor's does not sponsor, endorse or promote the composite quality rating and shall not be liable for any use of the composite quality rating. Included in the chart below are private placement fixed maturity holdings of $600 million at amortized cost ($596 million at fair value) for which the ratings were assigned by the third party managers.

Fixed Maturities by Rating

At December 31, 2018

(Dollar amounts in thousands)



	Amortized Cost		%	Fair Value		%	Average Composite Quality Rating on Amortized Cost
Investment grade:
AAA	$	750,101	5	$	766,341	5
AA	1,222,158		8	1,282,834		8
A	3,983,869		25	4,378,152		26
BBB+	3,606,143		23	3,707,078		23
BBB	3,695,585		23	3,746,661		23
BBB-	1,829,554		12	1,816,232		11
Investment grade	15,087,410		96	15,697,298		96	A-

Below investment grade:
BB	403,649		3	362,090		2
B	164,052		1	123,904		1
Below B	98,360		—	114,640		1
Below investment grade	666,061		4	600,634		4	B+
	$	15,753,471	100	$	16,297,932	100

Weighted average composite quality rating							BBB+

TMK 2018 FORM 10-K

Fixed Maturities by Rating

At December 31, 2017

(Dollar amounts in thousands)



	Amortized Cost		%	Fair Value		%	Average Composite Quality Rating on Amortized Cost
Investment grade:
AAA	$	649,559	4	$	689,356	4
AA	1,095,502		7	1,222,148		7
A	4,139,252		28	4,959,570		29
BBB+	3,493,309		23	3,936,939		23
BBB	3,302,118		22	3,696,880		22
BBB-	1,613,105		11	1,784,956		11
Investment grade	14,292,845		95	16,289,849		96	A-

Below investment grade:
BB	413,425		3	397,063		2
B	152,454		1	133,582		1
Below B	136,377		1	148,831		1
Below investment grade	702,256		5	679,476		4	B+
	$	14,995,101	100	$	16,969,325	100

Weighted average composite quality rating							BBB+

An analysis of changes in our portfolio of below-investment grade fixed maturities at amortized cost is as follows:

Below-Investment Grade Fixed Maturities

(Dollar amounts in thousands)



	Year Ended December 31,
	2018			2017
Balance at beginning of year	$	702,256		$	751,144
Downgrades by rating agencies	29,724			61,691
Upgrades by rating agencies	(10,934		)	(55,345		)
Dispositions	(58,827		)	(59,420		)
Write down of other-than-temporarily impaired securities	—			(245		)
Amortization and other	3,842			4,431
Balance at end of year	$	666,061		$	702,256

Our investment policy regarding fixed maturities is to acquire only investment-grade obligations. Thus, any increases in below investment-grade issues are a result of ratings downgrades of existing holdings.

Market Risk Sensitivity. Torchmark’s investment securities are exposed to interest rate risk, meaning the effect of changes in financial market interest rates on the current fair value of the company’s investment portfolio. Since 95% of the book value of our investments is attributable to fixed maturity investments (and virtually all of these investments are fixed-rate investments), the portfolio is highly subject to market risk. Declines in market interest rates generally result in the fair value of the investment portfolio rising, and increases in interest rates cause the fair value to decline. Under normal market conditions, we are not concerned about unrealized losses that are interest rate driven since we would not expect to realize them. We have the intent, and more importantly, the ability to hold our investments to maturity. The long-term nature of our insurance policy liabilities and strong cash-flow operating position substantially

TMK 2018 FORM 10-K

mitigate any future need to liquidate portions of the portfolio. The increase or decrease in the fair value of insurance liabilities and debt due to increases or decreases in market interest rates largely offsets the impact of rates on the investment portfolio. However, as is permitted by GAAP, these liabilities are not recorded at fair value.

The following table illustrates the market risk sensitivity of our interest-rate sensitive fixed maturity portfolio at December 31, 2018 and 2017. This table measures the effect of a parallel shift in interest rates (as represented by the U.S. Treasury curve) on the fair value of the fixed maturity portfolio. The data measures the change in fair value arising from an immediate and sustained change in interest rates in increments of 100 basis points.

Market Value of Fixed Maturity Portfolio

(Dollar amounts in thousands)



	At December 31,
Change in Interest Rates(1)	2018		2017
(200)	$	20,264,000	$	21,456,000
(100)	18,128,000		19,024,000
0	16,298,000		16,969,000
100	14,720,000		15,221,000
200	13,352,000		13,724,000

(1) In basis points.

TMK 2018 FORM 10-K

FINANCIAL CONDITION

Liquidity. Liquidity provides Torchmark with the ability to meet on demand the cash commitments required by its business operations and financial obligations. Our liquidity is primarily derived from three sources: positive cash flow from operations, a portfolio of marketable securities, and a line of credit facility.

Insurance Subsidiary Liquidity. The operations of our insurance subsidiaries have historically generated substantial cash inflows in excess of immediate cash needs. Sources of cash flows for the insurance subsidiaries include primarily premium and investment income. Cash outflows from operations include policy benefit payments, commissions, administrative expenses, and taxes. The funds to provide for policy benefits, the majority of which are paid in future periods, are invested primarily in long-term fixed maturities to meet these long-term obligations. In addition to investment income, maturities and scheduled repayments in the investment portfolio are sources of cash. Excess cash available from the insurance subsidiaries’ operations is generally distributed as a dividend to the Parent Company, subject to regulatory restriction. The dividends are generally paid in amounts equal to the subsidiaries’ prior year statutory net income excluding realized capital gains. While the leading source of the excess cash is investment income, due to our high underwriting margins and effective expense control, a significant portion of the excess cash also comes from underwriting income.

Parent Company Liquidity. Cash flows from the insurance subsidiaries are used to pay interest and principal repayments on Parent Company debt, operating expenses of the Parent Company, and Parent Company dividends to Torchmark shareholders.



	Year Ended December 31,
	Projected 2019		2018		2017		2016
Liquidity Sources:
Dividends from Subsidiaries	$	465,000	$	448,142	$	453,904	$	437,566
Excess Cash Flows	360,000		349,243		329,556		310,791

For more information on the restrictions on the payment of dividends by subsidiaries, see the Restrictions section of Note 12—Shareholders’ Equity. Although these restrictions exist, dividend availability from subsidiaries historically has been more than sufficient for the cash flow needs of the Parent Company.

Short-Term Borrowings. An additional source of Parent Company liquidity is a line of credit facility with a group of lenders which allows unsecured borrowings and stand-by letters of credit up to $750 million, which could be extended up to $1 billion. While Torchmark can request the extension, it is not guaranteed. In May 2016, Torchmark amended the facility to extend the maturity date to May 2021. The amendment also allowed for an additional $100 million term loan as discussed under the caption Credit Facility in Note 11—Debt. The facility is further designated as a back-up line of credit for a commercial paper program as well as the stand-by letters of credit as discussed below. As of December 31, 2018, we had available $293 million of additional borrowing capacity under this facility, compared with $249 million a year earlier. There have been no difficulties in accessing the commercial paper market during the three years ended December 31, 2018.

Torchmark expects to have readily available funds for 2019 and the foreseeable future to conduct its operations and to maintain target capital ratios in the insurance subsidiaries through internally generated cash flow and the credit facility. In the unlikely event that more liquidity is needed, the Company could generate additional funds through multiple sources including, but not limited to, the issuance of debt, an additional short-term credit facility, and intercompany borrowing.

Consolidated Liquidity. Consolidated net cash inflows provided from continuing operations were $1.3 billion in 2018, compared with $1.4 billion in 2017 and $1.2 billion in 2016. In addition to cash inflows from operations, our companies received proceeds from maturities, calls, and repayments of fixed maturities in the amount of $344 million in 2018, compared with $489 million in 2017 and $236 million in 2016.

Our cash and short-term investments were $184 million at the end of 2018 compared with $246 million at the end of 2017. Additionally, we have a portfolio of marketable fixed securities that are available for sale in the event of an

TMK 2018 FORM 10-K

unexpected need. These securities had a fair value of $16.3 billion at December 31, 2018. However, our strong cash flows from operations, investment maturities, and the availability of our commercial paper and credit line make any need to sell securities for liquidity unlikely.

Off-Balance Sheet Arrangements. As a part of its aforementioned credit facility, Torchmark had outstanding $155 million in stand-by letters of credit at December 31, 2018. On March 14, 2018, the letters of credit were amended to reduce the amount outstanding from $177 million as of December 31, 2017. These letters are issued among our subsidiaries, one of which is an offshore captive reinsurer, and have no impact on company obligations as a whole. Any future regulatory changes that restrict the use of off-shore captive reinsurers might require Torchmark to obtain third-party financing, which could cause an insignificant increase in financing costs.

As of December 31, 2018, we had no unconsolidated affiliates and no guarantees of the obligations of third party entities. All of our guarantees were guarantees of the performance of consolidated subsidiaries, as disclosed in Note 6—Commitments and Contingencies.

The following table presents information about future payments under our contractual obligations for the selected periods as of December 31, 2018.

Contractual Obligations

(Dollar amounts in thousands)



	Actual Liability		Total Payments		Less than One Year		One to Three Years		Three to Five Years		More than Five Years
Fixed and determinable:
Debt—principal(1)	$	1,665,033	$	1,686,462	$	308,975	$	86,875	$	315,612	$	975,000
Debt—interest(2)	11,605		1,276,173		73,087		141,404		121,959		939,723
Capital leases	—		—		—		—		—		—
Operating leases			23,339		4,304		7,768		4,671		6,596
Purchase obligations(3)	50,883		306,151		27,938		27,636		5,723		244,854
Postretirement obligations(4)	187,599		306,764		22,769		50,697		58,393		174,905
Future insurance obligations(5)	13,953,826		54,494,356		1,589,229		3,069,440		2,978,454		46,857,233
Total	$	15,868,946	$	58,093,245	$	2,026,302	$	3,383,820	$	3,484,812	$	49,198,311


(1)	Debt is itemized in Note 11—Debt.


(2)	Interest on debt is based on our fixed contractual obligations.


(3)	Purchase obligations include various long-term non-cancelable purchase commitments as well as commitments to provide capital for low-income housing tax credit interests.

(4)

Pension obligations are primarily liabilities in trust funds that are calculated in accordance with the terms of the pension plans. They are offset by invested assets in the trusts, which are funded through periodic contributions by Torchmark in a manner which will provide for the settlement of the obligations as they become due. Therefore, our obligations are offset by those assets when reported on Torchmark’s Consolidated Balance Sheets. At December 31, 2018, these pension obligations were $556 million, but there were also assets of $393 million in the pension entities. The schedule of pension benefit payments covers ten years and is based on the same assumptions used to measure the pension obligations, except there is no interest assumption because the payments are undiscounted. Please refer to Note 9—Postretirement Benefits for more information on pension obligations.

(5)

Future insurance obligations consist primarily of estimated future contingent benefit payments on policies in force at December 31, 2018. These estimated payments were computed using assumptions for future mortality, morbidity and persistency. The actual amount and timing of such payments may differ significantly from the estimated amounts shown. Management believes that the assets supporting the liability of $14 billion at December 31, 2018, along with future premiums and investment income, will be sufficient to fund all future insurance obligations.

Capital Resources. Torchmark’s capital structure consists of short-term debt (the commercial paper facility described in Note 11—Debt and the current maturity of funded debt), long-term funded debt, and shareholders’ equity. A complete analysis and description of long-term debt issues outstanding is presented in Note 11.

Debt: The carrying value of the long-term debt was $1.4 billion at December 31, 2018, which increased from $1.1 billion a year earlier.

TMK 2018 FORM 10-K

On September 27, 2018, Torchmark completed the issuance and sale of $550 million in aggregate principal of Torchmark’s 4.55% Senior Notes due 2028. The notes were sold pursuant to Torchmark’s shelf registration statement on Form S-3. The net proceeds from the sale of the notes were $543 million, after giving effect to the underwriting discounts and commissions and offering expenses payable by Torchmark. Torchmark used the net proceeds from the sale of the notes to redeem the $293 million outstanding principal amount on Torchmark’s 9.25% Senior Notes on October 29, 2018, the payment of $11 million for the make-whole premium plus accrued and unpaid interest of $10 million, and to fund $150 million of additional capital to its insurance subsidiaries. Torchmark used the remaining net proceeds to repay outstanding commercial paper and for general corporate purposes. Torchmark received the following credit ratings on the new debt from:



	Moody's	S&P	Fitch	AM Best
Credit rating	Baa1	A	BBB+	a-

Due to increasing variable interest rates, on June 15, 2018, the Company called its $20 million Junior Subordinated Debentures.

On November 17, 2017, Torchmark completed the issuance and sale of $125 million in aggregate principal of Torchmark’s 5.275% Junior Subordinated Debentures due 2057. The debentures were sold in a private placement pursuant to exemptions from the registration requirements of the Securities Act of 1933. The initial purchaser of the debentures was outside the United States. The net proceeds from the sale of the debentures were $123.3 million, after giving effect to the discount payable to the initial purchaser and expenses of the offering of the debentures. Torchmark used the net proceeds from the offering of the debentures to repay the $125 million outstanding principal of the 5.875% Junior Subordinated Debentures that were due December 15, 2052 and that were callable beginning December 15, 2017.

Subsidiary Capital: The National Association of Insurance Commissioners (NAIC) has established a risk-based factor approach for determining threshold risk-based capital levels for all insurance companies. This approach was designed to assist the regulatory bodies in identifying companies that may require regulatory attention. A Risk-Based Capital (RBC) ratio is typically determined by dividing adjusted total statutory capital by the amount of risk-based capital determined using the NAIC’s factors. If a company’s RBC ratio approaches two times the RBC amount, the company must file a plan with the NAIC for improving their capital levels (this level is commonly referred to as “Company Action Level” RBC). Companies typically hold a multiple of the Company Action Level RBC depending on their particular business needs and risk profile.

Our goal is to maintain statutory capital within our insurance subsidiaries at levels necessary to support our current ratings. For 2018, Torchmark targeted a consolidated Company Action Level RBC ratio of 300% to 320%. The Company believes this capital level is more than adequate and is sufficient to support its current ratings given the nature of its business and its risk profile. Due to changes in the insurance company’s capital levels as a result of the new tax legislation effective January 1, 2018, the Parent Company used approximately $150 million of the net proceeds from the issuance of senior notes in 2018 to provide additional capital to its insurance subsidiaries. As of December 31, 2018, our consolidated Company Action Level RBC ratio was 326%, slightly above our targeted range.

Torchmark is targeting a consolidated Company Action Level RBC ratio in the range of 300% to 320% for 2019.

Shareholder's Equity: As noted under the caption Analysis of Share Purchases within this report, we have an ongoing share repurchase program.

Torchmark has continually increased the quarterly dividend on its common shares over the past three years.



	Year Ended December 31,
	Projected 2019		2018		2017		2016
Quarterly dividend by annual year	$	0.1725	$	0.1600	$	0.1500	$	0.1400

Shareholders’ equity was $5.4 billion at December 31, 2018, compared with $6.2 billion at December 31, 2017, a decrease of $816 million or 13%. During the twelve months since December 31, 2017, shareholders’ equity was reduced

TMK 2018 FORM 10-K

by $1.1 billion of after-tax unrealized losses as well as $372 million in share purchases under the repurchase program and an additional $50 million in share purchases to offset the dilution from stock option exercises. Shareholder's equity was increased by $701 million of net income during this period.

We plan to use excess cash available at the Parent Company as efficiently as possible in the future. Possible uses of excess cash flow include, but are not limited to, share repurchases, acquisitions, increases in shareholder dividends, investment in securities, or repayment of short-term debt. We will determine the best use of excess cash after ensuring that targeted capital levels are maintained in our companies. If market conditions are favorable, we currently expect that share repurchases will continue to be a primary use of those funds.

We maintain a significant available-for-sale fixed maturity portfolio to support our insurance policy liabilities. Current accounting guidance requires that we revalue our portfolio to fair market value at the end of each accounting period. The period-to-period changes in fair value, net of their associated impact on deferred acquisition costs and income tax, are reflected directly in shareholders’ equity. Changes in the fair value of the portfolio can result from changes in interest rates and liquidity in financial markets. While a majority of invested assets are revalued, accounting rules do not permit interest-bearing insurance policy liabilities to be valued at fair value in a consistent manner as that of assets, with changes in value applied directly to shareholders’ equity.

Due to the size of our policy liabilities in relation to our shareholders’ equity, this inconsistency in measurement usually has a material impact on the reported value of shareholders’ equity. Fluctuations in interest rates cause undue volatility in the period-to-period presentation of our shareholders’ equity, capital structure, and financial ratios which would be essentially removed if interest-bearing liabilities were valued in the same manner as assets. From time to time, the market value of our fixed maturity portfolio may be depressed as a result of bond market illiquidity which could result in a significant decrease in shareholders’ equity. Due to the long-term nature of our fixed maturities and liabilities and the strong cash flows consistently generated by our insurance subsidiaries, we have the intent and ability to hold our securities to maturity. As such, we do not expect to incur losses due to fluctuations in market value of fixed maturities caused by interest rate changes and temporarily illiquid markets. Accordingly, our management, credit rating agencies, lenders, many industry analysts, and certain other financial statement users prefer to remove the effect of this accounting rule when analyzing our balance sheet, capital structure, and financial ratios.

The following table presents selected data related to our capital resources. Additionally, the table presents the effect of this accounting guidance on relevant line items, so that investors and other financial statement users may determine its impact on Torchmark’s capital structure. Excluding the effect of unrealized gains and losses on the fixed maturity portfolio from shareholders' equity is considered non-GAAP. Below we include the reconciliation to GAAP.

Selected Financial Data

(Dollar amounts in thousands except per share and percentage data)



	At December 31, 2018						At December 31, 2017						At December 31, 2016
	GAAP			Effect of Accounting Rule Requiring Revaluation (1)			GAAP			Effect of Accounting Rule Requiring Revaluation (1)			GAAP			Effect of Accounting Rule Requiring Revaluation (1)
Fixed maturities	$	16,297,932		$	544,461		$	16,969,325		$	1,974,224		$	15,245,861		$	1,057,811
Deferred acquisition costs	4,137,925			(5,270		)	3,958,063			(10,819		)	3,783,158			(10,281		)
Total assets	23,095,722			539,191			23,474,985			1,963,405			21,436,087			1,047,530
Short-term debt	307,848			—			328,067			—			264,475			—
Long-term debt	1,357,185			—			1,132,201			—			1,133,165			—
Shareholders’ equity	5,415,177			425,961			6,231,421			1,551,090			4,566,861			680,894
Book value per diluted share	48.11			3.79			52.95			13.18			37.76			5.63
Debt to capitalization(2)	23.5		%	(1.5		)%	19.0		%	(4.8		)%	23.4		%	(3.1		)%
Diluted shares outstanding	112,561			—			117,696			—			120,958			—
Actual shares outstanding	110,693			—			114,593			—			118,031			—


(1)	Amount added to (deducted from) comprehensive income to produce the stated GAAP item.


(2)	Torchmark’s debt covenants require that the effect of the accounting guidance requiring revaluation be removed to determine this ratio. This ratio is computed by dividing total debt by the sum of debt and shareholders’ equity.

TMK 2018 FORM 10-K

Torchmark’s ratio of earnings before interest and taxes to interest requirements (times interest earned) was 10.6 times in 2018, compared with 10.8 times in 2017 and 10.3 times in 2016 based on continuing operations. This times-interest-earned ratio is computed by dividing interest expense into the sum of pre-tax income from continuing operations and interest expense. A discussion of our interest expense is included in the discussion of financing costs under the caption Investments in this report.

Financial Strength Ratings. The financial strength of our major insurance subsidiaries is rated by Standard & Poor’s and A. M. Best. The following chart presents these ratings for our five largest insurance subsidiaries at December 31, 2018.



	Standard & Poor’s	A.M. Best
Liberty National	AA-	A+ (Superior)
Globe Life	AA-	A+ (Superior)
United American	AA-	A+ (Superior)
American Income	AA-	A+ (Superior)
Family Heritage	NR	A+ (Superior)

A.M. Best states that it assigns an A+ (Superior) rating to insurance companies that have, in its opinion, a superior ability to meet their ongoing insurance obligations.

The AA financial strength rating category is assigned by Standard & Poor’s Corporation (S&P) to those insurers which have very strong capacity to meet its financial commitments which differs from the highest-rated insurers only to a small degree. An insurer rated A has strong capacity to meet its financial commitments but it is somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than insurers in higher-rated categories. The plus sign (+) or minus sign (-) shows the relative standing within the major rating category.

OTHER ITEMS

Litigation. Torchmark and its subsidiaries are subject to being named as parties to pending or threatened litigation, much of which involves punitive damage claims based upon allegations of agent misconduct at the insurance subsidiaries. Such punitive damage claims may have the potential for significant adverse results since Torchmark and its subsidiaries operate in jurisdictions where large punitive damage awards bearing little or no relation to actual damages continue to be awarded. This bespeaks caution since it is impossible to predict the likelihood or extent of punitive damages that may be awarded if liability is found in any given case. Based upon information presently available, and in light of legal and other factual defenses available to Torchmark and its subsidiaries, contingent liabilities arising from threatened and pending litigation are not presently considered by us to be material. For more information concerning litigation, please refer to Note 6—Commitments and Contingencies.

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CRITICAL ACCOUNTING POLICIES

Future Policy Benefits. Due to the long-term nature of insurance contracts, our insurance companies are liable for policy benefit payments that will be made in the future. The liability for future policy benefits is determined by standard actuarial procedures common to the life insurance industry. The accounting policies for determining this liability are disclosed in Note 1—Significant Accounting Policies.

Approximately 88% of our liabilities for future policy benefits at December 31, 2018 were traditional insurance liabilities where the liability is determined as the present value of future benefits less the present value of the portion of the gross premium required to pay for such benefits. The assumptions used in estimating the future benefits for this portion of business are set at the time of contract issue. These assumptions are “locked in” and are not revised for the lifetime of the contracts, except where there is a premium deficiency, as defined in Note 1—Significant Accounting Policies under the caption Future Policy Benefits. Otherwise, variability in the accrual of policy reserve liabilities after policy issuance is caused only by variability of the inventory of in force policies.

The remaining portion of liabilities for future policy benefits pertains to business accounted for as deposit business, where the recorded liability is the fund balance attributable to the benefit of policyholders as determined by the policy contract at the consolidated financial statement date. Accordingly, there are no assumptions used to determine the future policy benefit liability for deposit business.

Deferred Acquisition Costs. Certain costs of acquiring new business are deferred and recorded as an asset. Deferred acquisition costs consist primarily of sales commissions and other underwriting costs such as advertising related to the successful issuance of a new insurance contract as indicated in Note 1—Significant Accounting Policies under the caption Deferred Acquisition Costs in the Notes to Consolidated Financial Statements. Additionally, the cost of acquiring blocks of insurance business or insurance business through the purchase of other companies, known as the value of insurance acquired (VOBA), is included in deferred acquisition costs. Our policies for accounting for deferred acquisition costs and the associated amortization are reported under the same caption in Note 1—Significant Accounting Policies.

Over 99% of our recorded amounts for deferred acquisition costs at December 31, 2018 were related to traditional products and are being amortized over the premium-paying period in proportion to the present value of actual historic and estimated future gross premiums. The projection assumptions for this business are set at the time of contract issue. These assumptions are “locked-in” at that time and, except where there is a loss recognition issue, are not revised for the lifetime of the contracts. Absent a premium deficiency, variability in amortization after policy issuance is caused only by variability in premium volume. We have not recorded a deferred acquisition cost loss recognition event for assets related to this business for any period in the three years ended December 31, 2018.

Less than 1% of deferred acquisition costs pertain to deposit business for which deferred acquisition costs are amortized over the estimated lives of the contracts in proportion to actual and estimated future gross profits. These contracts are not subject to lock-in. The assumptions must be updated when actual experience or other evidence suggests that earlier estimates should be revised. Revisions related to our deposit business assets have not had a material impact on the amortization of deferred acquisition costs during the three years ended December 31, 2018.

Policy Claims and Other Benefits Payable. This liability consists of known benefits currently payable and an estimate of claims that have been incurred but not yet reported to us. The estimate of unreported claims is based on prior experience and is made after careful evaluation of all information available to us. However, the factors upon which these estimates are based can be subject to change from historical patterns. Factors involved include the litigation environment, regulatory mandates, and the introduction of policy types for which claim patterns are not well established, and medical trend rates and medical cost inflation as they affect our health claims. Changes in these estimates, if any, are reflected in the earnings of the period in which the adjustment is made. We believe that the estimates used to produce the liability for claims and other benefits, including the estimate of unsubmitted claims, are the most appropriate under the circumstances. However, there is no certainty that the resulting stated liability will be our ultimate obligation. At this time, we do not expect any change in this estimate to have a material impact on earnings or financial position consistent with our historical experience.

Valuation of Fixed Maturities. We hold a substantial investment in high-quality fixed maturities to provide for the funding of our future policy contractual obligations over long periods of time. While these securities are generally expected to be held to maturity, they are classified as available for sale and are sold from time to time, primarily to

TMK 2018 FORM 10-K

manage risk. We report this portfolio at fair value. Fair value is the price that we would expect to receive upon sale of the asset in an orderly transaction. The fair value of the fixed maturity portfolio is primarily affected by changes in interest rates in financial markets, having a greater impact on longer-term maturities. Because of the size of our fixed maturity portfolio, small changes in rates can have a significant effect on the portfolio and the reported financial position of the Company. This impact is disclosed in 100 basis point increments under the caption Market Risk Sensitivity in this report. However, as discussed under the caption Financial Condition in this report, we believe these unrealized fluctuations in value have no meaningful impact on our actual financial condition and, as such, we remove them from consideration when viewing our financial position and financial ratios.

At times, the values of our fixed maturities can also be affected by illiquidity in the financial markets. Illiquidity would contribute to a spread widening, and accordingly to unrealized losses, on many securities that we would expect to be fully recoverable. Even though our fixed maturity portfolio is available for sale, we have the ability and intent to hold the securities until maturity as a result of our strong and stable cash flows generated from our insurance products. Considerable information concerning the policies, procedures, classification levels, and other relevant data concerning the valuation of our fixed maturity investments is presented in Note 1—Significant Accounting Policies and in Note 4—Investments under the captions Fair Value Measurements in both notes.

Impairment of Investments. We continually monitor our investment portfolio for investments where fair value has declined below carrying value and that have become impaired in value. While the values of the investments in our portfolio constantly fluctuate due to market conditions, an other-than-temporary impairment charge is recorded only when a security has experienced a decline in fair market value which is deemed to be other than temporary. The policies and procedures that we use to evaluate and account for impairments of investments are disclosed in Note 1—Significant Accounting Policies and the discussions under the captions Investments and Realized Gains and Losses in this report. While every effort is made to make the best estimate of status and value with the information available regarding an other-than-temporary impairment, it is difficult to predict the future prospects of a distressed or impaired security.

Defined benefit pension plans. We maintain funded defined benefit plans covering most full-time employees. We also have an unfunded nonqualified defined benefit plan covering certain key and other employees. Our obligations under these plans are determined actuarially based on specified actuarial assumptions. In accordance with GAAP, an expense is recorded each year as these pension obligations grow due to the increase in the service period of employees and the interest cost associated with the passage of time. These obligations are offset, at least in part, by the growth in value of the assets in the funded plans. At December 31, 2018, our gross liability under these plans was $556 million, but was offset by assets of $393 million.

The actuarial assumptions used in determining our obligations for pensions include employee mortality and turnover, retirement age, the expected return on plan assets, projected salary increases, and the discount rate at which future obligations could be settled. These assumptions have an important effect on the pension obligation. A decrease in the discount rate or rate of return on plan assets will cause an increase in the pension obligation. A decrease in projected salary increases will cause a decrease in this obligation. Small changes in assumptions may cause significant differences in reported results for these plans. For example, a sensitivity analysis is presented below for the impact of change in the discount rate and the long-term rate of return on assets assumed on our defined benefit pension plans expense for the year 2018 and projected benefit obligation as of December 31, 2018.

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Pension Assumptions

(Dollar amounts in thousands)



Assumption	Change(1)		Impact on Expense			Impact on Projected Benefit Obligation

Discount Rate(2):
Increase	25		$	(2,450	)	$	(20,542	)
Decrease	(25	)	2,679			21,765
Expected Return(3):
Increase	25		(1,037		)	—
Decrease	(25	)	1,037			—


(1)	In basis points.


(2)	The discount rate for determining the net periodic benefit cost was 3.75% for 2018. The discount rate used for determining the projected benefit obligation as of December 31, 2018 was 4.37%.


(3)	The expected long-term return rate assumed was 6.72%.

The Company determines mortality assumptions through the use of published mortality tables that reflect broad-based studies of mortality and published longevity improvement scales.

The criteria used to determine the primary assumptions are discussed in Note 9—Postretirement Benefits. While we have used our best efforts to determine the most reliable assumptions, given the information available from Company experience, economic data, independent consultants and other sources, we cannot be certain that actual results will be the same as expected. The assumptions are reviewed annually and revised, if necessary, based on more current information available to us. Note 9—Postretirement Benefits also contains information about pension plan assets, investment policies, and other related data.

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CAUTIONARY STATEMENTS

We caution readers regarding certain forward-looking statements contained in the foregoing discussion and elsewhere in this document, and in any other statements made by us or on our behalf whether or not in future filings with the Securities and Exchange Commission. Any statement that is not a historical fact, or that might otherwise be considered an opinion or projection concerning us or our business, whether express or implied, is meant as and should be considered a forward-looking statement. Such statements represent our opinions concerning future operations, strategies, financial results or other developments.

Forward-looking statements are based upon estimates and assumptions that are subject to significant business, economic and competitive uncertainties, many of which are beyond our control. If these estimates or assumptions prove to be incorrect, the actual results may differ materially from the forward-looking statements made on the basis of such estimates or assumptions. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable events or developments, which may be national in scope, related to the insurance industry generally, or applicable to Torchmark specifically. Such events or developments could include, but are not necessarily limited to:


(1)	Changes in lapse rates and/or sales of our insurance policies as well as levels of mortality, morbidity, and utilization of healthcare services that differ from our assumptions;


(2)	Federal and state legislative and regulatory developments, particularly those impacting taxes and changes to the federal Medicare program that would affect Medicare Supplement;


(3)	Market trends in the senior-aged health care industry that provide alternatives to traditional Medicare, such as health maintenance organizations (HMOs) and other managed care or private plans, and that could affect the sales of traditional Medicare Supplement insurance;


(4)	Interest rate changes that affect product sales and/or investment portfolio yield;


(5)	General economic, industry sector or individual debt issuers’ financial conditions that may affect the current market value of securities that we own, or that may impair issuers’ ability to pay interest due us on those securities;


(6)	Changes in pricing competition;


(7)	Litigation results;


(8)	Levels of administrative and operational efficiencies that differ from our assumptions;


(9)	Our inability to obtain timely and appropriate premium rate increases for health insurance policies due to regulatory delay;


(10)	The customer response to new products and marketing initiatives; and


(11)	Reported amounts in the consolidated financial statements which are based on our estimates and judgments which may differ from the actual amounts ultimately realized.

Readers are also directed to consider other risks and uncertainties described in our other documents on file with the Securities and Exchange Commission.

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