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KEMPER CORP - 10-K - Management's Discussion and Analysis of Financial Condition and Results of Operations.(Edgar Glimpses Via Acquire Media NewsEdge) Index to Management's Discussion and Analysis of Financial Condition and Results of Operations Summary of Results 27 Catastrophes 28 Loss and LAE Reserve Development 30 Non-GAAP Financial Measures 30 Kemper Preferred 32 Kemper Specialty 36 Kemper Direct 40 Life and Health Insurance 43 Investment Results 46 Investment Quality and Concentrations 50 Investments in Limited Liability Companies and Limited Partnerships 52 Interest and Other Expenses 53 Income Taxes 53 Liquidity and Capital Resources 53 Off-Balance Sheet Arrangements 56 Contractual Obligations 56 Critical Accounting Estimates 57 Recently Issued Accounting Pronouncements 63 26-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations SUMMARY OF RESULTS Net Income was $217.7 million ($3.81 per unrestricted common share) for the year ended December 31, 2013, compared to $103.4 million ($1.75 per unrestricted common share) for the year ended December 31, 2012. Income from Continuing Operations was $214.5 million ($3.75 per unrestricted common share) in 2013, compared to $91.8 million ($1.55 per unrestricted common share) in 2012. Catastrophe losses and LAE from continuing operations (excluding loss and LAE reserve development from prior accident years) were $50.7 million before tax for the year ended December 31, 2013, compared to $124.5 million in 2012, a decrease of $73.8 million. Catastrophe losses and LAE before tax decreased by $64.3 million and $6.0 million, in the Kemper Preferred and Kemper Direct segments, respectively. The Company reported Income from Discontinued Operations of $3.2 million and $11.6 million for the years ended December 31, 2013 and 2012, respectively. A reconciliation of Total Segment Net Operating Income to Net Income for the years ended December 31, 2013, 2012 and 2011 is presented below: 2013 2012 Increase Increase DOLLARS IN MILLIONS 2013 2012 (Decrease) 2011 (Decrease) Segment Net Operating Income (Loss): Kemper Preferred $ 63.1 $ (11.2 ) $ 74.3 $ (17.6 ) $ 6.4 Kemper Specialty 10.4 1.2 9.2 19.8 (18.6 ) Kemper Direct 27.1 (0.9 ) 28.0 (27.5 ) 26.6 Life and Health Insurance 89.3 90.8 (1.5 ) 98.9 (8.1 ) Total Segment Net Operating Income 189.9 79.9 110.0 73.6 6.3 Unallocated Net Operating Loss (30.7 ) (26.1 ) (4.6 ) (26.5 ) 0.4 Consolidated Net Operating Income 159.2 53.8 105.4 47.1 6.7 Net Income (Loss) From: Net Realized Gains on Sales of Investments 64.4 42.5 21.9 21.9 20.6 Net Impairment Losses Recognized in Earnings (9.1 ) (4.5 ) (4.6 ) (7.3 ) 2.8 Income from Continuing Operations 214.5 91.8 122.7 61.7 30.1 Income from Discontinued Operations 3.2 11.6 (8.4 ) 12.8 (1.2 ) Net Income $ 217.7 $ 103.4 $ 114.3 $ 74.5 $ 28.9 Earned Premiums were $2,025.8 million in 2013, compared to $2,107.1 million in 2012, a decrease of $81.3 million. Earned Premiums decreased by $44.6 million, $27.0 million, $7.0 million and $2.7 million in the Kemper Direct, Kemper Specialty, Life and Health Insurance and Kemper Preferred segments, respectively. Net Investment Income increased by $18.8 million in 2013 due primarily to $17.1 million in higher net investment income from Equity Method Limited Liability Investments and $12.3 million in higher net investment income from Dividends on Equity Securities, partially offset by $10.6 million of lower net investment income from Interest and Dividends on Fixed Maturities. Net Realized Gains on Sales of Investments were $99.1 million in 2013, compared to $65.4 million in 2012. The Company sold the building where Kemper's corporate offices are headquartered and recognized a realized gain of $43.6 million in 2013. Net Impairment Losses Recognized in Earnings for the years ended December 31, 2013 and 2012 were $13.9 million and $6.9 million, respectively. The Company cannot predict when or if similar investment gains or losses may occur in the future. See MD&A, "Investment Results," for additional information pertaining to investment performance. 27-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) CATASTROPHES The Company manages its exposure to catastrophes and other natural disasters through a combination of geographical diversification, management of the amount and location of new business production in certain regions and primary catastrophe reinsurance programs for its property and casualty insurance businesses. Coverage for each primary catastrophe reinsurance program is provided in various layers (see Note 20, "Catastrophe Reinsurance," to the Consolidated Financial Statements for further discussion of these programs). In addition to these programs, the Kemper Preferred segment had a reinsurance treaty covering the three-year period that ended June 1, 2013 for catastrophe losses in North Carolina at retentions lower than the Company's primary catastrophe reinsurance programs ("the Kemper Preferred NC Program"). The Company purchases reinsurance from the FHCF for hurricane losses in Florida at retentions lower than the Company's primary catastrophe reinsurance programs. Catastrophe reinsurance premiums for the Company's primary reinsurance programs, the Kemper Preferred NC Program and the FHCF reduced earned premiums for the years ended December 31, 2013, 2012 and 2011 by the following: DOLLARS IN MILLIONS 2013 2012 2011 Kemper Preferred $ 23.2 $ 24.6 $ 20.0 Kemper Specialty 0.1 0.1 0.1 Kemper Direct 0.3 0.4 0.8 Life and Health Insurance - 2.0 2.3Total Ceded Catastrophe Reinsurance Premiums $ 23.6 $ 27.1 $ 23.2 The Life and Health Insurance segment did not renew its catastrophe reinsurance program in 2013. See MD&A, "Life and Health Insurance," for additional information. Catastrophe losses and LAE (excluding loss and LAE reserve development) by business segment for the years ended December 31, 2013, 2012 and 2011 are presented below: DOLLARS IN MILLIONS 2013 2012 2011 Kemper Preferred $ 41.1 $ 105.4 $ 144.2 Kemper Specialty 3.7 4.8 3.8 Kemper Direct 2.3 8.3 6.7 Life and Health Insurance 3.6 6.0 9.1Total Catastrophe Losses and LAE $ 50.7 $ 124.5 $ 163.8 28-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) CATASTROPHES (Continued) The number of catastrophic events and catastrophe losses and LAE (excluding loss and LAE reserve development) by range of loss for the years ended December 31, 2013, 2012 and 2011 are presented below: Year Ended Dec 31, 2013 Dec 31, 2012 Dec 31, 2011 Number of Losses and Number of Losses and Number of Losses and DOLLARS IN MILLIONS Events LAE Events LAE Events LAE Range of Losses and LAE Per Event: Below $5 27 $ 44.3 19 $ 25.6 22 $ 37.4 $5 - $10 1 6.4 5 39.4 3 21.9 $10 - $15 - - 1 11.0 1 10.9 $15 - $20 - - - - 2 37.2 $20 - $25 - - - - 1 23.0 Greater Than $25 - - 1 48.5 1 33.4 Total 28 $ 50.7 26 $ 124.5 30 $ 163.8 As shown in the preceding table, catastrophe losses and LAE decreased for the year ended December 31, 2013, compared to 2012, due primarily to no occurrences of events with losses in excess of $25 million in 2013, compared with one event in 2012; no occurences of losses in the $10 million to $15 million range in 2013, compared with one event in 2012; and lower frequency and severity of losses ranging from $5 million to $10 million per event in 2013, compared to 2012, partially offset by higher frequency and severity of losses below $5 million per event in 2013, compared to 2012. As shown in the preceding table, catastrophe losses and LAE decreased for the year ended December 31, 2012, compared to 2011, due primarily to lower severity of losses below $5 million per event in 2012, compared to 2011, and lower frequency of losses in excess of $15 million per event in 2012, compared to 2011, partially offset by higher frequency of losses ranging from $5 million to $10 million per event in 2012, compared to 2011. The five events in the $5 million to $10 million range and one event in the $10 million to $15 million range for the year ended December 31, 2012 were related to hail or wind events in either Texas, Colorado or the Midwest and mid-Atlantic states. In the fourth quarter of 2012, the Company incurred claims related to one event in the greater than $25 million range which was Superstorm Sandy. In late October 2012, Superstorm Sandy, a named catastrophe and at one point a level two hurricane while over the Atlantic ocean, caused a significant amount of damage in several northeastern states. Catastrophe losses and LAE for the year ended December 31, 2012 includes $48.5 million related to Superstorm Sandy, of which $44.0 million is included in the Kemper Preferred segment. Events below $5 million for the year ended December 31, 2011 are due primarily to spring storms. In the second quarter of 2011, the United States experienced a high volume of spring storms, including a record level of tornadoes in April resulting in two events in the $15 million to $20 million range and one event which was $32.1 million. In the third quarter of 2011, the Company incurred claims related to one event in the $20 million to $25 million range which was Hurricane Irene. Catastrophe losses and LAE for the year ended December 31, 2011 includes $23.0 million related to Hurricane Irene, of which $22.1 million is included in the Kemper Preferred segment. Total catastrophe loss and LAE reserves, net of reinsurance recoverables, developed favorably by $14.5 million, $6.3 million and $6.4 million in 2013, 2012 and 2011, respectively. Favorable catastrophe loss and LAE reserve development in 2013 included favorable development of $1.5 million from Superstorm Sandy and favorable development, net of reinsurance, of $2.0 million resulting from a final assessment issued by the Mississippi Windstorm Underwriting Association ("MWUA") that reduced the Company's share of MWUA's losses for the 2004 through 2006 policy periods. See MD&A, "Loss and LAE Reserve Development," of this 2013 Annual Report for catastrophe loss and LAE reserve development by business segment. 29-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) LOSS AND LAE RESERVE DEVELOPMENT Increases (decreases) in the Company's property and casualty loss and LAE reserves for the years ended December 31, 2013, 2012 and 2011 to recognize adverse (favorable) loss and LAE reserve development from prior accident years in continuing operations, hereinafter also referred to as "reserve development" in the discussion of segment results, is presented below: DOLLARS IN MILLIONS 2013 2012 2011 Kemper Preferred: Non-catastrophe $ (15.6 ) $ 1.4 $ (13.6 ) Catastrophe (11.9 ) (6.2 ) (5.5 ) Total (27.5 ) (4.8 ) (19.1 ) Kemper Specialty: Non-catastrophe (4.9 ) (2.4 ) (9.5 ) Catastrophe - 0.1 0.1 Total (4.9 ) (2.3 ) (9.4 ) Kemper Direct: Non-catastrophe (25.0 ) (17.5 ) (4.4 ) Catastrophe (0.6 ) (0.3 ) 0.5 Total (25.6 ) (17.8 ) (3.9 ) Life and Health Insurance: Non-catastrophe 0.2 (0.4 ) (1.1 ) Catastrophe (2.0 ) 0.1 (1.5 ) Total (1.8 ) (0.3 ) (2.6 ) Decrease in Total Loss and LAE Reserves Related to Prior Years: Non-catastrophe (45.3 ) (18.9 ) (28.6 ) Catastrophe (14.5 ) (6.3 ) (6.4 ) Decrease in Total Loss and LAE Reserves Related to Prior Years $ (59.8 ) $ (25.2 ) $ (35.0 ) See MD&A, "Critical Accounting Estimates," of this 2013 Annual Report for additional information pertaining to the Company's process of estimating property and casualty insurance reserves for losses and LAE, and the estimated variability thereof, development of property and casualty insurance losses and LAE, and a discussion of some of the variables that may impact them. NON-GAAP FINANCIAL MEASURES Pursuant to the rules and regulations of the SEC, the Company is required to file consolidated financial statements prepared in accordance with the accounting principals generally accepted in the United States ("GAAP"). The Company is permitted to include non-GAAP financial measures in its filings provided that they are defined along with an explanation of their usefulness to investors, are no more prominent than the comparable GAAP financial measures and are reconciled to such GAAP financial measures. These non-GAAP financial measures should not be considered a substitute for the comparable GAAP financial measures, as they do not fully recognize the overall profitability of the Company's business. Underlying Combined Ratio The following discussions for the Kemper Preferred, Kemper Specialty and Kemper Direct segments use the non-GAAP financial measures of (i) Underlying Losses and LAE and (ii) Underlying Combined Ratio. Underlying Losses and LAE (also referred to in the discussion as "Current Year Non-catastrophe Losses and LAE") exclude the impact of catastrophe losses, and loss and LAE reserve development from the Company's Incurred Losses and LAE, which is the most directly comparable GAAP financial measure. The Underlying Combined Ratio is computed by adding the Current Year Non-catastrophe Losses and LAE Ratio with the Incurred Expense Ratio. The most directly comparable GAAP financial measure is the combined ratio, which uses total incurred losses and LAE, including the impact of catastrophe losses, and loss and LAE reserve development. 30-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) NON-GAAP FINANCIAL MEASURES (Continued) The Company believes Underlying Losses and LAE and the Underlying Combined Ratio are useful to investors and are used by management to reveal the trends in the Company's Property and Casualty insurance businesses that may be obscured by catastrophe losses and prior year reserve development. These catastrophe losses may cause the Company's loss trends to vary significantly between periods as a result of their incidence of occurrence and magnitude, and can have a significant impact on incurred losses and LAE and the combined ratio. Prior year reserve developments are caused by unexpected loss development on historical reserves. Because reserve development relates to the re-estimation of losses from earlier periods, it has no bearing on the performance of the Company's insurance products in the current period. The Company believes it is useful for investors to evaluate these components separately and in the aggregate when reviewing the Company's underwriting performance. Consolidated Net Operating Income Consolidated Net Operating Income is an after-tax, non-GAAP measure and is computed by excluding from Income from Continuing Operations the after-tax impact of 1) Net Realized Gains on Sales of Investments, 2) Net Impairment Losses Recognized in Earnings related to investments and 3) other significant non-recurring or infrequent items that may not be indicative of ongoing operations. Significant non-recurring items are excluded when (a) the nature of the charge or gain is such that it is reasonably unlikely to recur within two years, and (b) there has been no similar charge or gain within the prior two years. The most directly comparable GAAP financial measure is Income from Continuing Operations. The Company believes that Consolidated Net Operating Income provides investors with a valuable measure of its ongoing performance because it reveals underlying operational performance trends that otherwise might be less apparent if the items were not excluded. Net Realized Gains on Sales of Investments and Net Impairment Losses Recognized in Earnings related to investments included in the Company's results may vary significantly between periods and are generally driven by business decisions and external economic developments such as capital market conditions that impact the values of the Company's investments, the timing of which is unrelated to the insurance underwriting process. Significant non-recurring items are excluded because, by their nature, they are not indicative of the Company's business or economic trends. A reconciliation of Consolidated Net Operating Income to Income from Continuing Operations for the years ended December 31, 2013, 2012 and 2011 is presented below: DOLLARS IN MILLIONS 2013 2012 2011 Consolidated Net Operating Income $ 159.2 $ 53.8 $ 47.1 Net Income (Loss) From: Net Realized Gains on Sales of Investments 64.4 42.5 21.9 Net Impairment Losses Recognized in Earnings (9.1 ) (4.5 ) (7.3 ) Income from Continuing Operations $ 214.5 $ 91.8 $ 61.7 There were no applicable significant non-recurring items that the Company excluded from the calculation of Consolidated Net Operating Income for the years ended December 31, 2013, 2012 and 2011. 31-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER PREFERRED Selected financial information for the Kemper Preferred segment follows: DOLLARS IN MILLIONS 2013 2012 2011 Net Premiums Written $ 847.8 $ 891.7 $ 868.8 Earned Premiums: Automobile $ 503.6 $ 515.5 $ 510.9 Homeowners 317.9 308.5 294.9 Other Personal 55.2 55.4 54.0 Total Earned Premiums 876.7 879.4 859.8 Net Investment Income 55.7 45.0 48.8 Other Income 0.2 0.4 0.3 Total Revenues 932.6 924.8 908.9 Incurred Losses and LAE related to: Current Year: Non-catastrophe Losses and LAE 578.8 608.4 584.6 Catastrophe Losses and LAE 41.1 105.4 144.2 Prior Years: Non-catastrophe Losses and LAE (15.6 ) 1.4 (13.6 ) Catastrophe Losses and LAE (11.9 ) (6.2 ) (5.5 ) Total Incurred Losses and LAE 592.4 709.0 709.7 Insurance Expenses 252.5 243.8 239.8 Operating Profit (Loss) 87.7 (28.0 ) (40.6 ) Income Tax Benefit (Expense) (24.6 ) 16.8 23.0 Segment Net Operating Income (Loss) $ 63.1 $ (11.2 ) $ (17.6 ) Ratios Based On Earned Premiums Current Year Non-catastrophe Losses and LAE Ratio 66.1 % 69.1 % 67.9 % Current Year Catastrophe Losses and LAE Ratio 4.7 12.0 16.8 Prior Years Non-catastrophe Losses and LAE Ratio (1.8 ) 0.2 (1.6 ) Prior Years Catastrophe Losses and LAE Ratio (1.4 ) (0.7 ) (0.6 ) Total Incurred Loss and LAE Ratio 67.6 80.6 82.5 Incurred Expense Ratio 28.8 27.7 27.9 Combined Ratio 96.4 % 108.3 % 110.4 % Underlying Combined Ratio Current Year Non-catastrophe Losses and LAE Ratio 66.1 % 69.1 % 67.9 % Incurred Expense Ratio 28.8 27.7 27.9 Underlying Combined Ratio 94.9 % 96.8 % 95.8 % Non-GAAP Measure Reconciliation Underlying Combined Ratio 94.9 % 96.8 % 95.8 % Current Year Catastrophe Losses and LAE Ratio 4.7 12.0 16.8 Prior Years Non-catastrophe Losses and LAE Ratio (1.8 ) 0.2 (1.6 ) Prior Years Catastrophe Losses and LAE Ratio (1.4 ) (0.7 ) (0.6 ) Combined Ratio as Reported 96.4 % 108.3 % 110.4 % 32-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER PREFERRED (Continued) INSURANCE RESERVES Dec 31, Dec 31, DOLLARS IN MILLIONS 2013 2012 Insurance Reserves: Automobile $ 276.7 $ 287.6 Homeowners 97.9 123.7 Other Personal 38.2 41.0 Insurance Reserves $ 412.8 $ 452.3 Insurance Reserves: Loss Reserves: Case $ 259.2 $ 284.7 Incurred but Not Reported 97.4 105.5 Total Loss Reserves 356.6 390.2 LAE Reserves 56.2 62.1 Insurance Reserves $ 412.8 $ 452.3 2013 Compared with 2012 Earned Premiums in the Kemper Preferred segment decreased by $2.7 million for the year ended December 31, 2013, compared to 2012, due primarily to lower volume of $44.3 million, partially offset by higher average premium of $41.6 million. Earned premiums on automobile insurance decreased by $11.9 million in 2013, compared to 2012, due primarily to lower volume of $24.8 million, partially offset by higher average premium of $12.9 million. Earned premiums on homeowners insurance increased by $9.4 million in 2013, compared to 2012, due primarily to higher average premium of $26.6 million, partially offset by lower volume of $17.2 million. Earned premiums on other personal insurance decreased by $0.2 million in 2013, compared to 2012, due primarily to lower volume of $2.3 million, partially offset by higher average premium of $2.1 million. Net Investment Income in the Kemper Preferred segment increased by $10.7 million for the year ended December 31, 2013, compared to 2012, due primarily to higher net investment income from Equity Method Limited Liability Investments, higher dividends on equity securities and higher levels of investments allocated to the Kemper Preferred segment, partially offset by lower yields on fixed maturities. The Kemper Preferred segment reported net investment income from Equity Method Limited Liability Investments of $10.1 million in 2013, compared to $4.0 million in 2012. Operating Profit in the Kemper Preferred segment was $87.7 million for the year ended December 31, 2013, compared to an Operating Loss of $28.0 million in 2012. Operating results improved due primarily to lower catastrophe losses and LAE (excluding reserve development), lower underlying losses and LAE as a percentage of earned premiums, higher favorable loss and LAE reserve development and higher net investment income, partially offset by higher insurance expenses as a percentage of earned premiums. Underlying losses and LAE exclude the impact of catastrophes and loss and LAE reserve development. Catastrophe losses and LAE (excluding reserve development) were $41.1 million in 2013, compared to $105.4 million in 2012. Underlying losses and LAE as a percentage of earned premiums improved due to lower underlying losses as a percentage of earned premiums in homeowners insurance and other personal insurance. Favorable loss and LAE reserve development (including catastrophe development) was $27.5 million in 2013, compared to $4.8 million in 2012. Kemper Preferred continues to take actions intended to improve profitability, including additional rate increases, enhanced pricing segmentation, higher deductibles, in particular for wind or hail events, and other underwriting actions. Automobile insurance incurred losses and LAE were $388.5 million, or 77.1% of automobile insurance earned premiums, for the year ended December 31, 2013, compared to $413.7 million, or 80.3% of automobile insurance earned premiums, in 2012. Automobile insurance incurred losses as a percentage of automobile earned premiums decreased by 3.2% due primarily to a favorable impact from a change in loss and LAE reserve development and lower catastrophe losses and LAE (excluding reserve development), partially offset by higher underlying losses and LAE as a percentage of automobile insurance earned premiums. Favorable loss and LAE reserve development was $3.2 million in 2013, compared to adverse loss and LAE reserve development of $7.3 million in 2012. Catastrophe losses and LAE (excluding reserve development) were $3.5 million in 2013, 33-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER PREFERRED (Continued) compared to $12.7 million in 2012. Underlying losses and LAE as a percentage of automobile insurance earned premiums were 77.1% in 2013, compared to 76.4% in 2012. Underlying losses and LAE as a percentage of automobile insurance earned premiums increased due primarily to higher severity of bodily injury and collision losses, partially offset by higher average premium and lower frequency of bodily injury and comprehensive claims. Homeowners insurance incurred losses and LAE were $183.6 million, or 57.8% of homeowners insurance earned premiums, for the year ended December 31, 2013, compared to $264.5 million, or 85.7% of homeowners insurance earned premiums, in 2012. Homeowners insurance incurred losses and LAE as a percentage of homeowners insurance earned premiums decreased due primarily to lower catastrophe losses and LAE (excluding reserve development), lower underlying losses and LAE as a percentage of homeowners insurance earned premiums and higher levels of favorable loss and LAE reserve development. Catastrophe losses and LAE (excluding reserve development) on homeowners insurance were $36.4 million in 2013, compared to $87.8 million in 2012. Catastrophe losses and LAE (excluding reserve development) incurred in 2012 were due in part to $44.0 million of catastrophe losses and LAE from Superstorm Sandy and several hail and wind events throughout the United States. Underlying losses and LAE as a percentage of homeowners insurance earned premiums were 52.4% in 2013, compared to 60.3% in 2012. Underlying losses and LAE as a percentage of homeowners insurance earned premiums decreased by 7.9% due primarily to lower severity of losses and higher average premium. Favorable loss and LAE reserve development was $19.2 million in 2013, compared to $9.4 million in 2012. Other personal insurance incurred losses and LAE were $20.3 million, or 36.8% of other personal insurance earned premiums, for the year ended December 31, 2013, compared to $30.8 million, or 55.6% of other personal insurance earned premiums, in 2012. Other personal insurance incurred losses and LAE decreased by $10.5 million due primarily to lower underlying losses and LAE as a percentage of other personal insurance earned premiums, lower catastrophe losses and LAE (excluding reserve development) and higher levels of favorable loss and LAE reserve development. Underlying losses and LAE as a percentage of other personal insurance earned premiums were 43.8% in 2013, compared to 51.6% in 2012. Underlying losses and LAE as a percentage of other personal insurance earned premiums decreased by 7.8% due primarily to lower frequency of umbrella liability insurance claims, lower severity of losses in other insurance lines (excluding umbrella liability) and higher average premium, partially offset by higher severity of umbrella liability insurance losses. Catastrophe losses and LAE (excluding reserve development) were $1.2 million in 2013, compared to $4.9 million in 2012. Favorable loss and LAE reserve development was $5.1 million in 2013, compared to $2.7 million in 2012. Insurance Expenses increased by $8.7 million for the year ended December 31, 2013, compared to 2012, due primarily to higher employee compensation and agent incentives related to improved performance and higher regulatory audit and examination costs. The Kemper Preferred segment reported Segment Net Operating Income of $63.1 million for the year ended December 31, 2013, compared to Segment Net Operating Loss of $11.2 million in 2012. The Kemper Preferred segment's effective income tax rate differs from the federal statutory income tax rate due primarily to tax-exempt investment income and dividends received deductions. Tax-exempt investment income and dividends received deductions were $16.7 million in 2013, compared to $20.2 million in 2012. 2012 Compared with 2011 Earned Premiums in the Kemper Preferred segment increased by $19.6 million for the year ended December 31, 2012, compared to 2011, due primarily to higher volume, and to a lesser extent, higher average premium. Earned premiums on automobile insurance increased by $4.6 million in 2012, compared to 2011, due primarily to higher volume, partially offset by lower average premium. Earned premiums on homeowners insurance increased by $13.6 million in 2012, compared to 2011, due primarily to higher volume and, to a lesser extent, higher average premium. Earned premiums on other personal insurance increased by $1.4 million in 2012, compared to 2011, due primarily to higher volume and, to a lesser extent, higher average premium. Net Investment Income in the Kemper Preferred segment decreased by $3.8 million for the year ended December 31, 2012, compared to 2011, due primarily to lower net investment income from Equity Method Limited Liability Investments. The Kemper Preferred segment reported net investment income from equity method limited liability investments of $4.0 million in 2012, compared to $8.0 million in 2011. Operating Loss in the Kemper Preferred segment decreased by $12.6 million before taxes for the year ended December 31, 2012, compared to 2011, due primarily to lower incurred catastrophe losses and LAE, partially offset by lower levels of 34-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER PREFERRED (Continued) favorable loss and LAE reserve development, higher underlying losses and LAE as a percentage of earned premiums and lower Net Investment Income. Catastrophe losses and LAE (excluding reserve development) were $105.4 million in 2012, compared to $144.2 million in 2011. Favorable loss and LAE reserve development (including catastrophe development) was $4.8 million in 2012, compared to $19.1 million in 2011. Underlying losses and LAE as a percentage of earned premiums were 69.1% in 2012, compared to 67.9% in 2011. Automobile insurance incurred losses and LAE were $413.7 million, or 80.3% of automobile insurance earned premiums, for the year ended December 31, 2012, compared to $389.5 million, or 76.2% of automobile insurance earned premiums, in 2011. Automobile insurance incurred losses and LAE as a percentage of automobile earned premiums increased by 4.1% due primarily to higher underlying losses and LAE as a percentage of automobile insurance earned premiums and an unfavorable impact from a change in loss and LAE reserve development, partially offset by lower incurred catastrophe losses and LAE (excluding reserve development). Underlying losses and LAE as a percentage of automobile insurance earned premiums were 76.4% in 2012, compared to 73.8% in 2011. Underlying losses and LAE as a percentage of automobile insurance earned premiums increased due primarily to higher frequency in bodily injury coverages and higher severity in all coverages, partially offset by lower frequency in comprehensive and personal injury protection coverages. Unfavorable loss and LAE reserve development was $7.4 million in 2012, compared to favorable loss and LAE reserve development of $1.3 million in 2011. Catastrophe losses and LAE (excluding reserve development) were $12.7 million in 2012, compared to $14.1 million in 2011. Homeowners insurance incurred losses and LAE were $264.5 million, or 85.7% of homeowners insurance earned premiums, for the year ended December 31, 2012, compared to $293.5 million, or 99.5% of homeowners insurance earned premiums, in 2011. Homeowners insurance incurred losses and LAE as a percentage of homeowners insurance earned premiums decreased due primarily to lower catastrophe losses and LAE (excluding reserve development), lower underlying losses and LAE as a percentage of homeowners insurance earned premiums, partially offset by lower levels of favorable loss and LAE reserve development. Catastrophe losses and LAE (excluding reserve development) on homeowners insurance were $87.8 million in 2012, compared to $124.5 million in 2011. Catastrophe losses and LAE incurred in 2012 were due in part to $44.0 million of catastrophe losses and LAE from Superstorm Sandy and several hail and wind events throughout the United States. For the year ended December 31, 2011, the catastrophe losses were primarily related to Hurricane Irene and several severe tornadoes and other storms throughout the United States. Underlying losses and LAE as a percentage of homeowners insurance earned premiums were 60.3% in 2012, compared to 61.6% in 2011. Underlying losses and LAE as a percentage of homeowners insurance earned premiums decreased by 1.3% due primarily to lower non-catastrophe storm losses, partially offset by higher fire and water damage losses. Favorable non-catastrophe loss and LAE reserve development was $3.6 million in 2012, compared to $7.1 million in 2011. Other personal insurance incurred losses and LAE were $30.8 million, or 55.6% of other personal insurance earned premiums, for the year ended December 31, 2012, compared to $26.7 million, or 49.4% of other personal insurance earned premiums, in 2011. Other personal insurance incurred losses and LAE increased by $4.1 million due primarily to lower levels of favorable loss and LAE reserve development and higher underlying losses and LAE, partially offset by lower catastrophe losses and LAE (excluding reserve development). Favorable loss and LAE reserve development was $2.7 million in 2012, compared to $5.0 million in 2011. Underlying losses and LAE were $28.6 million in 2012, compared to $26.1 million in 2011. Catastrophe losses and LAE (excluding reserve development) were $4.9 million in 2012, compared to $5.6 million in 2011. Insurance Expenses increased by $4.0 million for the year ended December 31, 2012, compared to 2011, due primarily to increased new business and renewal production. The Kemper Preferred segment reported Segment Net Operating Loss of $11.2 million for the year ended December 31, 2012, compared to Segment Net Operating Loss of $17.6 million in 2011. The Kemper Preferred segment's effective income tax rate differs from the federal statutory income tax rate due primarily to tax-exempt investment income and dividends received deductions. Tax-exempt investment income and dividends received deductions were $20.2 million in 2012, compared to $24.5 million in 2011. 35-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER SPECIALTY Selected financial information for the Kemper Specialty segment follows: DOLLARS IN MILLIONS 2013 2012 2011 Net Premiums Written $ 383.1 $ 415.1 $ 438.2 Earned Premiums: Personal Automobile $ 340.5 $ 376.3 $ 405.2 Commercial Automobile 52.3 43.5 40.0 Total Earned Premiums 392.8 419.8 445.2 Net Investment Income 21.8 19.0 22.8 Other Income 0.3 0.3 0.5 Total Revenues 414.9 439.1 468.5 Incurred Losses and LAE related to: Current Year: Non-catastrophe Losses and LAE 315.6 347.9 358.4 Catastrophe Losses and LAE 3.7 4.8 3.8 Prior Years: Non-catastrophe Losses and LAE (4.9 ) (2.4 ) (9.5 ) Catastrophe Losses and LAE - 0.1 0.1 Total Incurred Losses and LAE 314.4 350.4 352.8 Insurance Expenses 88.2 91.5 91.5 Operating Profit (Loss) 12.3 (2.8 ) 24.2 Income Tax Benefit (Expense) (1.9 ) 4.0 (4.4 ) Segment Net Operating Income $ 10.4 $ 1.2 $ 19.8 Ratios Based On Earned Premiums Current Year Non-catastrophe Losses and LAE Ratio 80.3 % 83.0 % 80.4 % Current Year Catastrophe Losses and LAE Ratio 0.9 1.1 0.9 Prior Years Non-catastrophe Losses and LAE Ratio (1.2 ) (0.6 ) (2.1 ) Prior Years Catastrophe Losses and LAE Ratio - - - Total Incurred Loss and LAE Ratio 80.0 83.5 79.2 Incurred Expense Ratio 22.5 21.8 20.6 Combined Ratio 102.5 % 105.3 % 99.8 % Underlying Combined Ratio Current Year Non-catastrophe Losses and LAE Ratio 80.3 % 83.0 % 80.4 % Incurred Expense Ratio 22.5 21.8 20.6 Underlying Combined Ratio 102.8 % 104.8 % 101.0 % Non-GAAP Measure Reconciliation Underlying Combined Ratio 102.8 % 104.8 % 101.0 % Current Year Catastrophe Losses and LAE Ratio 0.9 1.1 0.9 Prior Years Non-catastrophe Losses and LAE Ratio (1.2 ) (0.6 ) (2.1 ) Prior Years Catastrophe Losses and LAE Ratio - - - Combined Ratio as Reported 102.5 % 105.3 % 99.8 % 36-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER SPECIALTY (Continued) INSURANCE RESERVES Dec 31, Dec 31, DOLLARS IN MILLIONS 2013 2012 Insurance Reserves: Personal Automobile $ 140.5 $ 164.8 Commercial Automobile 49.3 43.9 Other 6.6 7.2 Insurance Reserves $ 196.4 $ 215.9 Insurance Reserves: Loss Reserves: Case $ 120.7 $ 130.9 Incurred but Not Reported 44.1 48.3 Total Loss Reserves 164.8 179.2 LAE Reserves 31.6 36.7 Insurance Reserves $ 196.4 $ 215.9 2013 Compared with 2012 Earned Premiums in the Kemper Specialty segment decreased by $27.0 million for the year ended December 31, 2013, compared to 2012, due to lower earned premiums on personal automobile insurance, partially offset by higher earned premiums on commercial automobile insurance. Personal automobile insurance earned premiums decreased by $35.8 million in 2013, compared to 2012, as lower volume of personal automobile insurance decreased personal automobile insurance earned premiums by $63.4 million, while higher average premium accounted for a $27.6 million increase in earned premiums. Personal automobile insurance policies in force were approximately 208,000 at December 31, 2013, compared to 260,000 at the beginning of 2013 and 302,000 at the beginning of 2012. Commercial automobile insurance earned premiums increased by $8.8 million in 2013, compared to 2012, due primarily to higher volume from an increase in new business production. Net Investment Income in the Kemper Specialty segment increased by $2.8 million for the year ended December 31, 2013, compared to 2012, due primarily to higher net investment income from Equity Method Limited Liability Investments and higher dividends on equity securities, partially offset by lower yields on fixed maturities. The Kemper Specialty segment reported net investment income of $4.0 million from Equity Method Limited Liability Investments in 2013, compared to $1.7 million for 2012. Operating Profit in the Kemper Specialty segment was $12.3 million for the year ended December 31, 2013, compared to Operating Loss of $2.8 million in 2012. Operating results improved due primarily to lower underlying losses and LAE as a percentage of earned premiums, higher net investment income and a higher level of favorable reserve development, partially offset by higher underwriting expenses as a percentage of earned premiums. Personal automobile insurance operating results increased by $27.8 million for the year ended December 31, 2013, compared to 2012, due primarily to a favorable impact from a change in loss and LAE reserve development and lower underlying losses and LAE as a percentage of personal automobile insurance earned premiums. Underlying losses and LAE exclude the impact of catastrophes and loss and LAE reserve development. Loss and LAE reserve development on personal automobile insurance had a favorable effect of $1.9 million in 2013, compared to an adverse effect of $10.3 million in 2012. Underlying losses and LAE were $271.9 million, or 79.9% of personal automobile insurance earned premiums in 2013, compared to $312.5 million, or 83.1% of personal automobile insurance earned premiums in 2012. Personal automobile insurance underlying losses and LAE as a percentage of personal automobile insurance earned premiums decreased due primarily to higher average premium and lower frequency of bodily injury and comprehensive claims, partially offset by higher severity of losses in all coverages. 37-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER SPECIALTY (Continued) Commercial automobile insurance operating profit decreased by $12.7 million for the year ended December 31, 2013, compared to 2012, due primarily to lower levels of favorable loss and LAE reserve development and higher underlying losses and LAE as a percentage of commercial automobile insurance earned premiums, partially offset by higher net investment income. Favorable loss and LAE reserve development on commercial automobile insurance was $3.0 million in 2013, compared to favorable development of $12.6 million in 2012. Underlying losses and LAE as a percentage of commercial automobile insurance earned premiums were 83.5% in 2013, compared to 81.4% in 2012. Underlying losses and LAE as a percentage of commercial automobile insurance earned premiums increased due primarily to higher frequency of bodily injury, property damage and comprehensive claims and higher severity of property damage and collision losses, partially offset by higher average premium. Insurance expenses as a percentage of earned premiums was 22.5% for the year ended December 31, 2013, compared to 21.8% in 2012. Insurance expenses as a percentage of earned premiums increased due primarily to higher incentive pay due to improving performance and higher fixed costs as a percentage of earned premiums. Segment Net Operating Income in the Kemper Specialty segment was $10.4 million for the year ended December 31, 2013, compared to $1.2 million in 2012. The Kemper Specialty segment's effective income tax rate differs from the federal statutory income tax rate due primarily to tax-exempt investment income and dividends received deductions. Tax-exempt investment income and dividends received deductions were $6.4 million in 2013, compared to $8.5 million in 2012. 2012 Compared with 2011 Earned Premiums in the Kemper Specialty segment decreased by $25.4 million for the year ended December 31, 2012, compared to 2011, due primarily to lower earned premiums for personal automobile insurance, partially offset by higher earned premiums on commercial automobile insurance. Personal automobile insurance earned premiums decreased by $28.9 million in 2012, compared to 2011, due primarily to lower volume, partially offset by higher average premium. Personal automobile insurance policies in force were approximately 260,000 at December 31, 2012, compared to 302,000 at the beginning of 2012 and 329,000 at the beginning of 2011. Commercial automobile insurance earned premiums increased by $3.5 million in 2012, compared to 2011, due primarily to higher volume from an increase in new business production. Net Investment Income in the Kemper Specialty segment decreased by $3.8 million for the year ended December 31, 2012, compared to 2011, due primarily to lower net investment income from equity method limited liability investments and lower levels of investments allocated to Kemper Specialty. The Kemper Specialty segment reported net investment income of $1.7 million from equity method limited liability investments in 2012, compared to $3.7 million for 2011. Operating Loss in the Kemper Specialty segment was $2.8 million for the year ended December 31, 2012, compared to Operating Profit of $24.2 million in 2011. Operating results deteriorated due primarily to higher underlying losses and LAE as a percentage of earned premiums, lower favorable reserve development, lower net investment income and higher underwriting expenses as a percentage of earned premiums. Personal automobile insurance operating results decreased by $30.5 million for the year ended December 31, 2012, compared to 2011, due primarily to higher underlying losses and LAE as a percentage of personal automobile insurance earned premiums, unfavorable loss and LAE reserve development, higher insurance expenses as a percentage of personal automobile insurance earned premiums and lower net investment income. Underlying losses and LAE were $312.5 million, or 83.0% of personal automobile insurance earned premiums in 2012 compared to $328.5 million, or 81.1% of personal automobile insurance earned premiums in 2011. Personal automobile insurance underlying losses and LAE as a percentage of personal automobile insurance earned premiums increased due primarily to higher claims handling costs in 2012, compared to 2011. Loss and LAE reserve development on personal automobile insurance had an adverse effect of $10.3 million in 2012, compared to a favorable effect of $3.6 million in 2011, and was related primarily to the 2011 and 2010 accident years. 38-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER SPECIALTY (Continued) Commercial automobile insurance operating profit increased by $3.3 million for the year ended December 31, 2012, compared to 2011, due primarily to the favorable effects of loss and LAE reserve development, partially offset by higher underlying losses and LAE as a percentage of commercial automobile insurance earned premiums. Favorable loss and LAE reserve development on commercial automobile insurance was $12.6 million in 2012, of which $5.9 million related to 2011 and 2010 accident years, with the balance of $6.7 million dispersed over several older accident years. Favorable loss and LAE reserve development was $6.1 million in 2011. Underlying losses and LAE as a percentage of commercial automobile insurance earned premiums were 81.5% in 2012, compared to 74.3% in 2011, and increased due primarily to higher frequency of losses. Other insurance operating profit increased by $0.2 million for the year ended December 31, 2012, compared to 2011. Other insurance consists of certain reinsurance pools in run-off and other personal insurance in run-off. Loss and LAE reserve development on certain reinsurance pools in run-off, had adverse development of $0.4 million in 2011. There was no loss and LAE reserve development on reinsurance pools in run-off in 2012. Insurance expenses as a percentage of earned premiums was 21.8% for the year ended December 31, 2012, compared to 20.6% in 2011. Insurance expenses as a percentage of earned premiums increased in 2012, compared to 2011, due primarily to higher expenses associated with information technology initiatives. Segment Net Operating Income in the Kemper Specialty segment was $1.2 million for the year ended December 31, 2012, compared to $19.8 million in 2011. The Kemper Specialty segment's effective income tax rate differs from the federal statutory income tax rate due primarily to tax-exempt investment income and dividends received deductions. Tax-exempt investment income and dividends received deductions were $8.5 million in 2012, compared to $11.3 million in 2011. 39-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER DIRECT Selected financial information for the Kemper Direct segment follows: DOLLARS IN MILLIONS 2013 2012 2011 Net Premiums Written $ 111.3 $ 147.3 $ 209.0 Earned Premiums: Automobile $ 115.0 $ 158.3 $ 213.3 Homeowners 8.3 9.5 9.2 Other Personal 0.1 0.2 0.2 Total Earned Premiums 123.4 168.0 222.7 Net Investment Income 13.4 13.9 17.4 Other Income - - 0.1 Total Revenues 136.8 181.9 240.2 Incurred Losses and LAE related to: Current Year: Non-catastrophe Losses and LAE 85.8 139.0 194.8 Catastrophe Losses and LAE 2.3 8.3 6.7 Prior Years: Non-catastrophe Losses and LAE (25.0 ) (17.5 ) (4.4 ) Catastrophe Losses and LAE (0.6 ) (0.3 ) 0.5 Total Incurred Losses and LAE 62.5 129.5 197.6 Insurance Expenses 34.7 57.2 76.3 Write-off of Intangible Asset from Direct Response Acquisition - - 13.5 Operating Profit (Loss) 39.6 (4.8 ) (47.2 ) Income Tax Benefit (Expense) (12.5 ) 3.9 19.7 Segment Net Operating Income (Loss) $ 27.1 $ (0.9 ) $ (27.5 ) Ratios Based On Earned Premiums Current Year Non-catastrophe Losses and LAE Ratio 69.5 % 82.8 % 87.5 % Current Year Catastrophe Losses and LAE Ratio 1.9 4.9 3.0 Prior Years Non-catastrophe Losses and LAE Ratio (20.3 ) (10.4 ) (2.0 ) Prior Years Catastrophe Losses and LAE Ratio (0.5 ) (0.2 ) 0.2 Total Incurred Loss and LAE Ratio 50.6 77.1 88.7 Incurred Expense Ratio, Including Write-off of Intangible Asset 28.1 34.0 40.3 Combined Ratio 78.7 % 111.1 % 129.0 % Underlying Combined Ratio Current Year Non-catastrophe Losses and LAE Ratio 69.5 % 82.8 % 87.5 % Incurred Expense Ratio, Including Write-off of Intangible Asset 28.1 34.0 40.3 Underlying Combined Ratio 97.6 % 116.8 % 127.8 % Non-GAAP Measure Reconciliation Underlying Combined Ratio 97.6 % 116.8 % 127.8 % Current Year Catastrophe Losses and LAE Ratio 1.9 4.9 3.0 Prior Years Non-catastrophe Losses and LAE Ratio (20.3 ) (10.4 ) (2.0 ) Prior Years Catastrophe Losses and LAE Ratio (0.5 ) (0.2 ) 0.2 Combined Ratio as Reported 78.7 % 111.1 % 129.0 % 40-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER DIRECT (Continued) INSURANCE RESERVES Dec 31, Dec 31, DOLLARS IN MILLIONS 2013 2012 Insurance Reserves: Automobile $ 128.6 $ 173.3 Homeowners 2.0 2.7 Other 2.8 1.8 Insurance Reserves $ 133.4 $ 177.8 Insurance Reserves: Loss Reserves: Case $ 91.3 $ 115.4 Incurred but Not Reported 27.5 39.7 Total Loss Reserves 118.8 155.1 LAE Reserves 14.6 22.7 Insurance Reserves $ 133.4 $ 177.8 2013 Compared with 2012 In 2012, the Company announced that the Kemper Direct segment would continue to solicit business for its worksite and affinity programs and would place its direct-to-consumer operations in run-off. Kemper Direct policies in-force declined 25% in 2013 and is expected to decline 25% to 35% in 2014 as a result of this and other actions. Kemper Direct believes that it should be able to manage its underlying loss and LAE ratio, but believes there is upward pressure on the expense ratio as fixed expenses will be spread over a declining premium base. Earned Premiums in the Kemper Direct segment decreased by $44.6 million for the year ended December 31, 2013, compared to 2012, due primarily to lower volume, partially offset by higher average premium. Net Investment Income in the Kemper Direct segment decreased by $0.5 million for the year ended December 31, 2013, compared to 2012, due primarily to lower levels of investments allocated to the Kemper Direct segment and lower yields on investments in fixed maturities, partially offset by higher net investment income from Equity Method Limited Liability Investments and higher dividends on equity securities. The Kemper Direct segment reported Operating Profit of $39.6 million for the year ended December 31, 2013, compared to an Operating Loss of $4.8 million in 2012. Operating results improved, due primarily to lower underlying losses and LAE, higher levels of favorable reserve development, lower insurance expenses and lower catastrophe losses and LAE. Incurred losses and LAE were $62.5 million, or 50.6% as a percentage of earned premiums, for the year ended December 31, 2013, compared to $129.5 million, or 77.1% as a percentage of earned premiums, in 2012. Incurred losses and LAE decreased in 2013, due primarily to the impact of lower earned premiums, lower underlying losses and LAE as a percentage of earned premiums, higher levels of favorable loss and LAE reserve development and lower catastrophe losses and LAE (excluding reserve development). Underlying losses and LAE as a percentage of earned premiums were 69.5% in 2013, compared to 82.8% in 2012. Underlying losses and LAE as a percentage of earned premiums decreased due primarily to lower severity of automobile insurance losses and lower frequency of automobile insurance claims. Favorable loss and LAE reserve development was $25.6 million in 2013, compared to $17.8 million in 2012. Catastrophe losses and LAE (excluding reserve development) were $2.3 million in 2013, compared to $8.3 million in 2012. 41-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) KEMPER DIRECT (Continued) Insurance Expenses were $34.7 million, or 28.1% of earned premiums, for the year ended December 31, 2013, compared to $57.2 million, or 34.0% of earned premiums, in 2012. Insurance Expenses as a percentage of earned premiums decreased due primarily to reduced salaries and marketing related expenses. Kemper Direct reported Segment Net Operating Income of $27.1 million for the year ended December 31, 2013, compared to a Segment Net Operating Loss of $0.9 million in 2012. The Kemper Direct segment's effective income tax rate differs from the federal statutory income tax rate due primarily to tax-exempt investment income and dividends received deductions. Tax-exempt investment income and dividends received deductions were $4.0 million in 2013, compared to $6.2 million in 2012. 2012 Compared with 2011 Earned Premiums in the Kemper Direct segment decreased by $54.7 million for the year ended December 31, 2012, compared to 2011, due primarily to lower volume, partially offset by higher average premium rates. Net Investment Income in the Kemper Direct segment decreased by $3.5 million for the year ended December 31, 2012, compared to 2011, due primarily to lower net investment income from Equity Method Limited Liability Investments and lower levels of investments allocated to Kemper Direct. Net investment income from Equity Method Limited Liability Investments was $1.3 million in 2012, compared to $2.9 million in 2011. The Kemper Direct segment reported an Operating Loss of $4.8 million for the year ended December 31, 2012, compared to an Operating Loss of $47.2 million in 2011. Operating results improved in the Kemper Direct segment in 2012, compared to 2011, due primarily to lower levels of unprofitable business, higher levels of favorable reserve development, the impact of the partial write-off in 2011 of an intangible asset from the acquisition of Direct Response Corporation ("Direct Response") that did not recur in 2012 and lower underlying losses and LAE, partially offset by lower net investment income. Incurred losses and LAE were $129.5 million, or 77.1% as a percentage of earned premiums, for the year ended December 31, 2012, compared to $197.6 million, or 88.7% as a percentage of earned premiums, in 2011. Incurred losses and LAE decreased in 2012, due primarily to the impact of lower earned premiums, higher levels of favorable loss and LAE reserve development and lower underlying losses and LAE as a percentage of earned premiums, partially offset by higher incurred catastrophe losses and LAE (excluding reserve development). Favorable loss and LAE reserve development was $17.8 million in 2012, compared to $3.9 million in 2011. Underlying losses and LAE as a percentage of earned premiums were 82.8% in 2012, compared to 87.5% in 2011. Underlying losses and LAE as a percentage of earned premiums decreased in both automobile and homeowners insurance. Catastrophe losses and LAE (excluding reserve development) were $8.3 million in 2012, compared to $6.7 million in 2011. The Incurred Expense Ratio, including Write-off of Intangible Asset, was 34.0% of earned premiums for the year ended December 31, 2012, compared to 40.3% of earned premiums in 2011. In 2011, the book of business acquired in connection with the acquisition of Direct Response was not improving at the rate that Kemper Direct had initially expected, and Kemper Direct determined that the customer relationships intangible asset related to the Direct Response acquisition was impaired at December 31, 2011 and recognized a charge of $13.5 million in 2011 to write down the asset to its estimated fair value. Insurance Expenses as a percentage of earned premiums were 34.0% in 2012, compared to 34.3% of earned premiums in 2011. Insurance Expenses as a percentage of earned premiums decreased due primarily to reduced acquisition and marketing related expenses, partially offset by other underwriting costs not declining at the same pace as earned premiums. Kemper Direct reported a Segment Net Operating Loss of $0.9 million for the year ended December 31, 2012, compared to a Segment Net Operating Loss of $27.5 million in 2011. The Kemper Direct segment's effective income tax rate differs from the federal statutory income tax rate due primarily to tax-exempt investment income and dividends received deductions. Tax-exempt investment income and dividends received deductions were $6.2 million in 2012, compared to $8.7 million in 2011. 42-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) LIFE AND HEALTH INSURANCE Selected financial information for the Life and Health Insurance segment follows: DOLLARS IN MILLIONS 2013 2012 2011 Earned Premiums: Life $ 392.7 $ 393.4 $ 395.1 Accident and Health 161.4 165.2 166.3 Property 78.8 81.3 84.5 Total Earned Premiums 632.9 639.9 645.9 Net Investment Income 209.9 204.3 200.5 Other Income 0.2 0.1 0.1 Total Revenues 843.0 844.3 846.5Policyholders' Benefits and Incurred Losses and LAE 387.9 393.1 385.6 Insurance Expenses 318.2 310.8 308.6 Operating Profit 136.9 140.4 152.3 Income Tax Expense (47.6 ) (49.6 ) (53.4 ) Segment Net Operating Income $ 89.3 $ 90.8 $ 98.9 INSURANCE RESERVES Dec 31, Dec 31, DOLLARS IN MILLIONS 2013 2012 Insurance Reserves: Future Policyholder Benefits $ 3,157.7 $ 3,103.1 Incurred Losses and LAE Reserves: Life 37.6 36.8 Accident and Health 22.2 21.7 Property 5.3 7.0 Total Incurred Losses and LAE Reserves 65.1 65.5 Insurance Reserves $ 3,222.8 $ 3,168.6 2013 Compared with 2012 Earned Premiums in the Life and Health Insurance segment decreased by $7.0 million for the year ended December 31, 2013, compared to 2012. Earned premiums on life insurance decreased by $0.7 million in 2013, compared to 2012, due primarily to a lower volume of insurance, as a decrease of $6.4 million from life insurance products offered by the Kemper Home Service Companies ("KHSC") was partially offset by an increase of $5.7 million from life insurance products offered by Reserve National. In late 2012, Reserve National began offering its life insurance products through an expanded network of brokers and non-exclusive independent agents (See Item 1A., "Risk Factors" entitled "Reserve National's operating history with its expanded distribution channels and new products is limited"). Earned premiums on accident and health insurance decreased by $3.8 million in 2013, compared to 2012, due primarily to lower volume of insurance resulting primarily from the run-off of certain health insurance products, partially offset by higher volume of supplemental health insurance products and higher average premium. The Company believes that some of the health insurance products previously sold by Reserve National could be adversely impacted by some provisions of the Health Care Acts. In particular, a provision which sets minimum loss ratios for health insurance policies; a provision, beginning in 2014, establishing health insurance exchanges; and a provision, beginning in 2014, prohibiting the renewal of certain policies issued by Reserve National after the issuance of the Health Care Acts could adversely impact Reserve National's business. Such affected health insurance products (the "Affected Products") accounted for $49.6 million, or 31%, of the Life and Health Insurance segment's accident and health insurance earned premiums in 2013 and $62.5 million, or 38%, of the Life and Health Insurance segment's accident and health insurance earned premiums in 2012. Reserve National has been adapting its business model in response to the Health Care Acts and ceased selling the Affected Products at the end of 2011 and began transitioning its sales to supplemental health insurance products that are not expected to be as severely impacted by the Health Care Acts. Reserve National expects earned premiums from the Affected Products to decrease by approximately 37% in 2014 and expects an increase in earned premiums from sales of supplemental insurance 43-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) LIFE AND HEALTH INSURANCE (Continued) products to offset much of the decline. Earned premiums on property insurance decreased by $2.5 million in 2013, compared to 2012, due primarily to lower volume of insurance from the run-off and, in certain geographical areas, the non-renewal of insurance policies providing dwelling coverage ("Dwelling Policies"), partially offset by the impact of non-renewing the Life and Health Insurance segment's catastrophe reinsurance program. Catastrophe reinsurance premiums reduced earned premiums by $2.0 million for the year ended December 31, 2012 with no such reduction in 2013. Given the actions taken by KHSC to reduce its exposures to catastrophes and except for catastrophe reinsurance provided by the FHCF, KHSC did not renew its catastrophe reinsurance program in 2013. The Life and Health Insurance segment has been intentionally running off Dwelling Policies to reduce its exposure to catastrophe risks. Over the last several years, the Life and Health Insurance segment has halted new sales of Dwelling Policies in all markets and non-renewed Dwelling Policies in certain geographical, mainly coastal, areas while continuing to renew policies in other geographical areas. Earned premiums from dwelling coverage comprised 23%, 26% and 30% of the Life and Health Insurance segment's earned premiums on property insurance in 2013, 2012 and 2011, respectively. Net Investment Income increased by $5.6 million for the year ended December 31, 2013, compared to 2012, due primarily to a higher level of investments in fixed maturities, higher investment income from Equity Method Limited Liability Investments and higher dividends on equity securities, partially offset by lower book yields on fixed maturities. Net investment income from Equity Method Limited Liability Investments was $8.4 million for the year ended December 31, 2013, compared to $1.8 million in 2012. Operating Profit in the Life and Health Insurance segment was $136.9 million before taxes for the year ended December 31, 2013, compared to $140.4 million in 2012. Policyholders' Benefits and Incurred Losses and LAE decreased by $5.2 million in 2013 due primarily to lower underlying losses on property insurance, lower catastrophe losses and LAE and higher favorable loss and LAE reserve development, partially offset by higher policyholders' benefits on life insurance and higher incurred accident and health insurance losses. Policyholders' benefits on life insurance were $269.6 million in 2013, compared to $265.3 million in 2012, an increase of $4.3 million. Policyholders' benefits on life insurance increased due primarily to higher volume of insurance from policies issued by Reserve National and slightly higher mortality rates related to insurance policies issued by KHSC, partially offset by the impact of a higher lapse rate for KHSC's in-force book of business. Incurred accident and health insurance losses were $90.9 million, or 56.3% of accident and health insurance earned premiums, in 2013, compared to $88.9 million, or 53.8% of accident and health insurance earned premiums, in 2012. Incurred accident and health insurance losses as a percentage of accident and health insurance earned premiums increased due primarily to higher severity of accident and health insurance losses, partially offset by lower frequency of claims. Incurred losses and LAE on property insurance were $27.4 million, or 34.8% of property insurance earned premiums, in 2013, compared to $38.9 million, or 47.8% of property insurance earned premiums, in 2012. Underlying losses and LAE on property insurance were $25.6 million, or 32.5% of property insurance earned premiums, in 2013, compared to $33.2 million, or 40.8% of property insurance earned premiums, in 2012 and decreased due primarily to lower severity of insurance losses. Catastrophe losses and LAE (excluding reserve development) were $3.6 million in 2013, compared to $6.0 million in 2012. Favorable loss and LAE reserve development was $1.8 million in 2013, compared to $0.3 million in 2012. Favorable loss and LAE reserve development in 2013 resulted primarily from a final assessment issued by the MWUA that reduced KHSC's share of MWUA's losses for the 2004 through 2006 policy periods by $2.0 million. Insurance Expenses in the Life and Health Insurance segment increased by $7.4 million in 2013, compared to 2012, due primarily to higher legal costs and start-up expenses to expand Reserve National's distribution channels, partially offset by lower commissions. Certain state insurance regulators, legislators and treasurers/controllers are involved in an array of initiatives that could result in significant changes to the application of unclaimed property laws and related claims handling practices with respect to life insurance policies. These initiatives seek, in various ways, to impose a new duty on the part of life insurers to proactively search for deaths of their insureds. It is the Company's position that state officials lack the legal authority to impose new requirements that have the effect of changing the terms of existing life insurance contracts. See Item 1A., "Risk Factors," under the caption "Unclaimed Property Risk Factor" MD&A, "Liquidity and Capital Resources," and Note 23, "Contingencies," to the Consolidated Financial Statements for additional information about these matters. Segment Net Operating Income in the Life and Health Insurance segment was $89.3 million for the year ended December 31, 2013, compared to $90.8 million in 2012. 44-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) LIFE AND HEALTH INSURANCE (Continued) 2012 Compared with 2011 Earned Premiums in the Life and Health Insurance segment decreased by $6.0 million for the year ended December 31, 2012, compared to 2011. Earned premiums on life insurance decreased by $1.7 million in 2012, compared to 2011, due primarily to lower volume of insurance. Earned premiums on accident and health insurance decreased by $1.1 million in 2012, compared to 2011, due primarily to lower volume of insurance resulting from the suspension of sales of the Affected Policies described above and, to a lesser extent, lower volume of Medicare supplement insurance, partially offset by higher volume of supplemental health insurance products and higher average premium. Earned premiums on property insurance decreased by $3.2 million in 2012, compared to 2011, due primarily to lower volume of insurance from the run-off and, in certain geographical areas, the non-renewal of Dwelling Policies. Net Investment Income increased by $3.8 million for the year ended December 31, 2012, compared to 2011, due primarily to higher investment income from Equity Method Limited Liability Investments, partially offset by lower book yields on fixed maturities and lower levels of capital allocated to the segment. Net investment income from Equity Method Limited Liability Investments was income of $1.8 million in 2012, compared to a loss of $6.3 million in 2011. Operating Profit in the Life and Health Insurance segment was $140.4 million for the year ended December 31, 2012, compared to $152.3 million in 2011. Policyholders' Benefits and Incurred Losses and LAE increased by $7.5 million in 2012 due primarily to higher policyholders' benefits on life insurance and the impact of Loss and LAE reserve development on property insurance, partially offset by lower catastrophe losses and LAE and lower underlying losses on property insurance. Policyholders' benefits on life insurance were $265.3 million in 2012, compared to $253.2 million in 2011, an increase of $12.1 million. Policyholder benefits on life insurance increased due primarily to reserve adjustments in 2011 associated with correcting expiry dates for certain extended term life insurance policies and a lower level of net lapse in 2012, partially offset by better mortality experience. Incurred accident and health insurance losses were $88.9 million, or 53.8% of accident and health insurance earned premiums, in 2012, compared to $88.9 million, or 53.4% of accident and health insurance earned premiums, in 2011. Incurred accident and health insurance losses were flat as higher average incurred claim costs for Medicare supplement insurance and, to a lesser extent, a higher average incurred claim cost for hospitalization and limited benefit insurance products, were offset by lower frequency of Medicare supplement insurance claims and, to a lesser extent, lower frequency of hospitalization and limited benefit insurance products. Incurred Losses and LAE on property insurance were $38.9 million in 2012, compared to $43.5 million in 2011. Underlying losses and LAE on property insurance were $33.2 million, or 40.8% of property insurance earned premium, in 2012, compared to $37.0 million, or 43.8% of property insurance earned premium, in 2011. Catastrophe losses and LAE (excluding reserve development) were $6.0 million in 2012, compared to $9.1 million in 2011. Favorable loss and LAE reserve development on property insurance was $0.3 million (including adverse reserve development of $0.1 million on catastrophes) in 2012, compared to favorable reserve development of $2.6 million (including favorable reserve development of $1.5 million on catastrophes) in 2011. Insurance Expenses in the Life and Health Insurance segment increased by $2.2 million in 2012, compared to 2011, due primarily to higher commission and fringe benefit expenses, partially attributable to an increase in the number of career agents employed, and higher amortization of deferred policy acquisition costs. Segment Net Operating Income in the Life and Health Insurance segment was $90.8 million for the year ended December 31, 2012, compared to $98.9 million in 2011. 45-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) INVESTMENT RESULTS Net Investment Income Net Investment Income for the years ended December 31, 2013, 2012 and 2011 was: DOLLARS IN MILLIONS 2013 2012 2011 Investment Income: Interest and Dividends on Fixed Maturities $ 235.5 $ 246.1 $ 246.6 Dividends on Equity Securities 38.0 25.7 25.2 Equity Method Limited Liability Investments 26.4 9.3 9.6 Short-term Investments 0.1 0.2 0.1 Real Estate 20.8 27.4 26.0 Loans to Policyholders 19.8 18.9 17.7 Other - 0.1 0.3 Total Investment Income 340.6 327.7 325.5 Investment Expenses: Real Estate 18.3 26.1 25.9 Other Investment Expenses 7.6 5.7 1.6 Total Investment Expenses 25.9 31.8 27.5 Net Investment Income $ 314.7 $ 295.9 $ 298.0 2013 Compared with 2012 Net Investment Income increased by $18.8 million for the year ended December 31, 2013, compared to 2012, due primarily to higher income on Equity Method Limited Liability Investments, higher dividends on Equity Securities, higher levels of Fixed Maturities, partially offset by lower yields on Fixed Maturities. Interest income from loans to policyholders increased by $0.9 million in 2013, compared to 2012, due to a higher level of loans outstanding. Net investment income from real estate increased by $1.2 million in 2013, compared to 2012, due primarily to income from the early termination of one tenant's lease. 2012 Compared with 2011 Net Investment Income decreased by $2.1 million for the year ended December 31, 2012, compared to 2011, due primarily to higher other investment expenses, partially offset by higher interest income from loans to policyholders and higher real estate net investment income. Interest income from loans to policyholders increased by $1.2 million in 2012, compared to 2011, due to a higher level of loans outstanding. Net investment income from real estate increased by $1.2 million in 2012, compared to 2011, due primarily to higher occupancy. 46-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) INVESTMENT RESULTS (Continued) Net Realized Gains on Sales of Investments The components of Net Realized Gains on Sales of Investments for the years ended December 31, 2013, 2012 and 2011 were: DOLLARS IN MILLIONS 2013 2012 2011 Fixed Maturities: Gains on Sales $ 30.9 $ 56.9 $ 14.2 Losses on Sales (0.4 ) (0.1 ) (0.1 ) Equity Securities: Gains on Sales 21.8 8.3 34.0 Losses on Sales (0.5 ) (0.2 ) (13.5 ) Equity Method Limited Liability Investments: Gains on Sales 2.5 - - Real Estate: Gains on Sales 44.2 0.2 0.1 Other Investments: Gains on Sales 0.1 - - Losses on Sales (0.1 ) - (0.1 ) Trading Securities Net Gains (Losses) 0.6 0.3 (0.9 ) Net Realized Gains on Sales of Investments $ 99.1 $ 65.4 $ 33.7 Gross Gains on Sales $ 99.5 $ 65.4 $ 48.3 Gross Losses on Sales (1.0 ) (0.3 ) (13.7 ) Net Gains (Losses) on Trading Securities 0.6 0.3 (0.9 ) Net Realized Gains on Sales of Investments $ 99.1 $ 65.4 $ 33.7 Fixed Maturities In the first quarter of 2013, the Company sold $138.5 million of Corporate Bonds and Notes in conjunction with a comprehensive review of the prospects of each issuer in the Company's publicly-traded corporate bond portfolio. Realized Gains on Sales of Fixed Maturities for the year ended December 31, 2013 include realized gains of $24.8 million from such sales. In the third quarter of 2012, the Company sold $320.1 million of municipal securities to take advantage of attractive pricing for such securities and for tax planning and other portfolio management purposes. Realized Gains on Sales of Fixed Maturities for the year ended December 31, 2012 include realized gains of $44.9 million from such sales. Equity Securities In the fourth quarter of 2013, the Company sold $47.9 million of common stocks to accelerate the utilization of net operating loss carryforwards. Realized Gains on Sales of Equity Securities for the year ended December 31, 2013 include realized gains of $19.8 million from such sales. Realized Gains on Sales of Equity Securities for the year ended December 31, 2012 include realized gains of $7.8 million from the sale of investments in the common stock and preferred stock of fifteen issuers. Realized Gains on Sales of Equity Securities for the year ended December 31, 2011 include realized gains of $21.6 million from the sale of investments in the common stock and preferred stock of twelve issuers, realized gains of $8.1 from sales of exchange traded funds and $4.3 million from dispositions of limited liability companies and partnerships included in Other Equity Interests. Realized Losses on Sales of Equity Securities for the year ended December 31, 2011 includes a loss of $7.0 million resulting from the contribution of the Company's investment in the common stock of Intermec, Inc. to the Company's pension plan and losses of $5.7 million from sales of exchange traded funds. Real Estate In the third quarter of 2013, the Company sold the building where Kemper's corporate offices are headquartered and recognized a realized gain of $43.6 million. 47-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) INVESTMENT RESULTS (Continued) Net Impairment Losses Recognized in Earnings The components of Net Impairment Losses Recognized in Earnings reported in the Consolidated Statements of Income for the years ended December 31, 2013, 2012 and 2011 were: DOLLARS IN MILLIONS 2013 2012 2011 Fixed Maturities $ (10.3 ) $ (1.9 ) $ (2.2 ) Equity Securities (3.6 ) (1.9 ) (1.9 ) Real Estate - (3.1 ) (7.2 ) Net Impairment Losses Recognized in Earnings $ (13.9 ) $ (6.9 ) $ (11.3 ) The Company regularly reviews its investment portfolio for factors that may indicate that a decline in the fair value of an investment is other than temporary. Losses arising from other-than-temporary declines in fair value are reported in the Consolidated Statements of Income in the period that the declines are determined to be other than temporary. Net Impairment Losses recognized in the Consolidated Statement of Income for the years ended December 31, 2013, 2012 and 2011 include other-than-temporary impairment ("OTTI") losses of $13.9 million, $6.9 million and $11.3 million, respectively. OTTI losses recognized in the Consolidated Statement of Income for the years ended December 31, 2012 and 2011 included pre-tax losses of $3.1 million and $7.2 million, respectively, to write down real estate investments. Net Impairment Losses Recognized in the Consolidated Statements of Income for the year ended December 31, 2013 include losses of $0.8 million due to the Company's intent to sell or requirement to sell bonds of two issuers; credit losses of $9.5 million from other-than-temporary declines in the fair values of investments in fixed maturities of three issuers; and losses of $3.6 million from other-than-temporary declines in the fair values of investments in equity securities of eleven issuers. Net Impairment Losses Recognized in the Consolidated Statements of Income for the year ended December 31, 2012 include losses of $0.4 million due to the Company's intent to sell bonds of one issuer; credit losses of $1.5 million from other-than-temporary declines in the fair values of investments in fixed maturities of two issuers; and losses of $1.9 million from other-than-temporary declines in the fair values of investments in equity securities of eight issuers. The Company classified certain investments in real estate as held for sale in 2012. In connection with such classification, the Company wrote down five properties to their respective estimated net sales prices and recognized impairment losses of $3.1 million in 2012. Net Impairment Losses recognized in the Consolidated Statements of Income for the year ended December 31, 2011 include credit losses of $2.2 million from other-than-temporary declines in the fair values of investments in fixed maturities of one issuer and losses of $0.7 million from other-than-temporary declines in the fair values of investments in equity securities of five issuers and $1.2 million to write down the value of one exchange traded fund that the Company intended to sell in the near term. In connection with the Company's periodic review of the recoverability of its investments in real estate, the Company wrote down four properties to their respective fair values and recognized impairment losses of $7.2 million in 2011. 48-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) INVESTMENT RESULTS (Continued) Total Comprehensive Investment Gains (Losses) Total Comprehensive Investment Gains (Losses) are comprised of Net Realized Gains on Sales of Investments and Net Impairment Losses Recognized in Earnings reported in the Consolidated Statements of Income and unrealized investment gains and losses that are not reported in the Consolidated Statements of Income, but rather are reported in the Consolidated Statements of Comprehensive Income. The components of Total Comprehensive Investment Gains (Losses) for the years ended December 31, 2013, 2012 and 2011 were: DOLLARS IN MILLIONS 2013 2012 2011 Fixed Maturities: Recognized in Consolidated Statements of Income: Gains on Sales $ 30.9 $ 56.9 $ 14.6 Losses on Sales (0.4 ) (0.1 ) (0.1 ) Net Impairment Losses Recognized in Earnings (10.3 ) (1.9 ) (2.2 ) Total Recognized in Consolidated Statements of Income 20.2 54.9 12.3 Recognized in Other Comprehensive Income (Loss) (371.9 ) 69.1 272.8 Total Comprehensive Investment Gains (Losses) on Fixed Maturities (351.7 ) 124.0 285.1 Equity Securities: Recognized in Consolidated Statements of Income: Gains on Sales 21.8 8.3 34.0 Losses on Sales (0.5 ) (0.2 ) (13.5 ) Net Impairment Losses Recognized in Earnings (3.6 ) (1.9 ) (1.9 ) Total Recognized in Consolidated Statements of Income 17.7 6.2 18.6 Recognized in Other Comprehensive Income (Loss) 9.3 29.2 (71.2 ) Total Comprehensive Investment Gains (Losses) on Equity Securities 27.0 35.4 (52.6 ) Equity Method Limited Liability Investments: Recognized in Consolidated Statements of Income: Gains on Sales 2.5 - - Real Estate: Recognized in Consolidated Statements of Income: Gains on Sales 44.2 0.2 0.1 Net Impairment Losses Recognized in Earnings - (3.1 ) (7.2 ) Total Recognized in Consolidated Statements of Income 44.2 (2.9 ) (7.1 ) Other Investments: Recognized in Consolidated Statements of Income: Gains on Sales 0.1 - - Losses on Sales (0.1 ) - (0.1 ) Trading Securities Net Gains (Losses) 0.6 0.3 (0.9 ) Total Recognized in Consolidated Statements of Income 0.6 0.3 (1.0 ) Total Comprehensive Investment Gains (Losses) $ (277.4 ) $ 156.8 $ 224.4 Recognized in Consolidated Statements of Income $ 85.2 $ 58.5 $ 22.8 Recognized in Other Comprehensive Income (Loss) (362.6 ) 98.3 201.6 Total Comprehensive Investment Gains (Losses) $ (277.4 ) $ 156.8 $ 224.4 49-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) INVESTMENT QUALITY AND CONCENTRATIONS The Company's fixed maturity investment portfolio is comprised primarily of high-grade municipal, corporate and agency bonds. At December 31, 2013, 93% of the Company's fixed maturity investment portfolio was rated investment grade, which is defined as a security having a rating of AAA, AA, A or BBB from S&P; a rating of Aaa, Aa, A or Baa from Moody's; a rating of AAA, AA, A or BBB from Fitch; or a rating from the NAIC of 1 or 2. The following table summarizes the credit quality of the fixed maturity investment portfolio at December 31, 2013 and 2012: Dec 31, 2013 Dec 31, 2012 NAIC Fair Value Percentage Fair Value Percentage Rating S&P Equivalent Rating in Millions of Total in Millions of Total 1 AAA, AA, A $ 3,128.1 68.4 % $ 3,319.1 68.3 % 2 BBB 1,119.9 24.5 1,199.0 24.7 3-4 BB, B 144.6 3.1 158.9 3.2 5-6 CCC or Lower 182.4 4.0 183.2 3.8 Total Investments in Fixed Maturities $ 4,575.0 100.0 % $ 4,860.2 100.0 % Gross unrealized losses on the Company's investments in below-investment-grade fixed maturities were $5.5 million and $4.3 million at December 31, 2013 and 2012, respectively. At December 31, 2013, the Company had $162.6 million of bonds issued by states and political subdivisions, commonly referred to as "municipal bonds," that had been pre-refunded with U.S. Government and Government Agencies and Authorities obligations held in trust for the full payment of principal and interest ("Pre-refunded Municipal Bonds"). At December 31, 2013, the Company had $1,198.4 million of investments in municipal bonds that had not been pre-refunded, of which $84.0 million were enhanced with insurance from monoline bond insurers. The Company's municipal bond investment credit-risk strategy is to focus on the underlying credit rating of the issuer and not to rely on the credit enhancement provided by the monoline bond insurer when making investment decisions. To that end, the underlying rating of over 96% of the Company's entire municipal bond portfolio that has not been pre-refunded is AA or higher, half of which are direct obligations of states. The following table summarizes the fair value of the Company's investments in governmental fixed maturities at December 31, 2013 and 2012: Dec 31, 2013 Dec 31, 2012 Percentage Percentage of Total of Total DOLLARS IN MILLIONS Fair Value Investments Fair Value Investments U.S. Government and Government Agencies and Authorities $ 362.2 5.9 % $ 428.9 6.6 % Pre-refunded Municipal Bonds 162.6 2.6 288.5 4.5 States 629.1 10.2 545.1 8.4 Political Subdivisions 128.1 2.1 122.9 1.9 Revenue Bonds 441.2 7.2 444.9 6.9 Total Investments in Governmental Fixed Maturities $ 1,723.2 28.0 % $ 1,830.3 28.3 % The Company's short-term investments primarily consist of overnight repurchase agreements, money market funds and U.S. Treasury bills. At December 31, 2013, the Company had $144.0 million invested in overnight repurchase agreements primarily collateralized by securities issued by the U.S. government, $64.1 million invested in money market funds which primarily invest in U.S. Treasury securities and $48.7 million of U.S. Treasury bills. At the time of borrowing, the repurchase agreements generally require the borrower to provide collateral to the Company at least equal to the amount borrowed from the Company. The Company bears some investment risk in the event that a borrower defaults and the value of collateral falls below the amount borrowed. The Company does not have any investments in sovereign debt securities issued by foreign governments. 50-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) INVESTMENT QUALITY AND CONCENTRATIONS (Continued) The following table summarizes the fair value of the Company's investments in non-governmental fixed maturities by industry at December 31, 2013 and 2012: Dec 31, 2013 Dec 31, 2012 Percentage Percentage of Total of Total DOLLARS IN MILLIONS Fair Value Investments Fair Value Investments Manufacturing $ 1,196.9 19.5 % $ 1,371.1 21.2 % Finance, Insurance and Real Estate 767.9 12.5 780.8 12.1 Transportation, Communication and Utilities 306.7 5.0 289.2 4.5 Services 277.5 4.5 298.6 4.6 Mining 143.1 2.3 143.4 2.2 Retail Trade 75.6 1.2 66.5 1.0 Wholesale Trade 60.7 1.0 57.8 0.9 Agriculture, Forestry and Fishing 18.8 0.3 19.2 0.3 Other 4.6 0.1 3.3 0.1 Total Investments in Non-governmental Fixed Maturities $ 2,851.8 46.4 % $ 3,029.9 46.9 % Eighty-one companies comprised over 75% of the Company's fixed maturity exposure to the Manufacturing industry at December 31, 2013, with the largest single exposure, Merck & Co. Inc., comprising 2.5%, or $29.6 million, of the Company's fixed maturity exposure to such industry. Forty companies comprised over 75% of the Company's exposure to the Finance, Insurance and Real Estate industry at December 31, 2013, with the largest single exposure, Wells Fargo & Company, comprising 4.4%, or $33.9 million, of the Company's exposure to such industry. The following table summarizes the fair value of the Company's ten largest exposures, excluding exposures to short term investments and investments in U.S. Government and Government Agencies and Authorities and Pre-refunded Municipal Bonds, at December 31, 2013: Percentage Fair of Total DOLLARS IN MILLIONS Value Investments Fixed Maturities: States including their Political Subdivisions: Texas $ 85.7 1.4 % Ohio 75.5 1.2 Georgia 64.7 1.0 Colorado 54.5 0.9 Wisconsin 54.2 0.9 Florida 53.1 0.9 Maryland 52.9 0.9 Equity Method Limited Liability Investments: Tennenbaum Opportunities Fund V, LLC 75.9 1.2 Vintage Fund IV, LP 54.0 0.9 Special Value Opportunities Fund, LLC 50.2 0.8 Total $ 620.7 10.1 % 51-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) INVESTMENTS IN LIMITED LIABILITY COMPANIES AND LIMITED PARTNERSHIPS The Company owns investments in various limited liability companies and limited partnerships that primarily invest in distressed debt, mezzanine debt and secondary transactions. The Company's investments in these limited liability companies and limited partnerships are reported either as Equity Method Limited Liability Investments, or Other Equity Interests and included in Equity Securities depending on the accounting method used to report the investment. See Note 2, "Summary of Accounting Policies and Accounting Changes," to the Consolidated Financial Statements. Additional information pertaining to these investments at December 31, 2013 and 2012 is presented below: Reported Value Stated Unfunded Commitment Dec 31, Dec 31, Fund End DOLLARS IN MILLIONS Asset Class Dec 31, 2013 2013 2012 Date Reported as Equity Method Limited Liability Investments at Cost Plus Cumulative Undistributed Earnings: Tennenbaum Opportunities Fund V, LLC Distressed Debt $ - $ 75.9 $ 69.9 10/10/2016 Vintage Fund IV, LP Secondary Transactions 17.4 54.0 58.9 12/31/2016 Special Value Opportunities Fund, LLC Distressed Debt - 50.2 59.4 7/13/2016 BNY Mezzanine - Alcentra Partners III, LP Mezzanine Debt 15.5 19.0 18.9 2021-2022 BNY Mezzanine Partners, LP Mezzanine Debt 0.2 9.5 9.2 4/17/2016 Ziegler Meditech Equity Partners, LP Growth Equity - 7.8 8.9 1/31/2016 Brightwood Capital Fund III, LP Mezzanine Debt - 7.5 - 9/30/2018 Midwest Mezzanine Fund IV, LP Mezzanine Debt 0.3 6.1 6.3 12/18/2016 NYLIM Mezzanine Partners II, LP Mezzanine Debt 3.8 5.5 10.3 7/31/2016 Other Funds (7 LLCs and LPs) 13.2 9.6 11.2 Various Total for Equity Method Limited Liability Investments 50.4 245.1 253.0 Reported as Other Equity Interests at Fair Value: Highbridge Principal Strategies Mezzanine Partners, LP Mezzanine Debt 2.2 20.6 22.1 1/23/2018 Vintage Fund V, LP Secondary Transactions 5.6 12.4 13.7 12/31/2018 Highbridge Principal Strategies Credit Opportunities Fund, LP Hedge Fund - 11.9 11.0 None GS Mezzanine Partners V, LP Mezzanine Debt 12.4 9.0 9.3 12/31/2021 Other (88 LLCs and LPs) 100.9 120.0 85.2 Various Total Reported as Other Equity Interests at Fair Value 121.1 173.9 141.3 Total $ 171.5 $ 419.0 $ 394.3 The Company does not directly participate, as either a lender or borrower of securities, in any securities lending program. The Company does not participate directly in credit default swaps. The Company does not engage directly in hedging activities, including, but not limited to, activities involving interest rate swaps, forward foreign currency contracts, commodities contracts, exchange traded and over-the-counter options or warrants. The Company has limited exposure to such programs and activities by virtue of an investment of $0.6 million at December 31, 2013 included in Other under the heading "Reported as Other Equity Interests at Fair Value" in the preceding table. Such investment consists solely of restricted assets that are being redeemed over several periods. 52-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) INTEREST AND OTHER EXPENSES Interest and Other Expenses was $100.5 million, $85.5 million and $83.9 million for the years ended December 31, 2013, 2012 and 2011, respectively. Interest expense, excluding interest on a mortgage note payable included in real estate investment expense, was $38.1 million, $37.6 million and $36.9 million for the years ended December 31, 2013, 2012 and 2011, respectively. Other Corporate Expenses were $62.4 million, $47.9 million and $47.0 million for the years ended December 31, 2013, 2012 and 2011, respectively. Other Corporate Expenses increased by $14.5 million for the year ended December 31, 2013, compared to 2012, due primarily to higher postretirement benefit costs and salaries. Other Corporate Expenses increased by $0.9 million for the year ended December 31, 2012, compared to 2011, due primarily to higher postretirement benefit costs and salaries. INCOME TAXES The Company's effective income tax rate from continuing operations differs from the Federal statutory income tax rate due primarily to the effects of tax-exempt investment income and dividends received deductions, and the net effects of state income taxes. Tax-exempt investment income and dividends received deductions were $30.1 million, $39.8 million and $50.6 million in 2013, 2012 and 2011, respectively. State income tax expense, net of federal benefit, from continuing operations was $0.2 million, $0.8 million and $1.0 million in 2013, 2012 and 2011, respectively. The Company's effective income tax rate from discontinued operations differs from the Federal statutory income tax rate for the years ended December 31, 2012 and 2011 due primarily to the net effects of state income taxes. State income tax, net of federal taxes, from discontinued operations was $0.7 million of expense and $0.3 million of benefit for the years ended December 31, 2012 and 2011, respectively. State income tax includes changes in the state deferred tax asset valuation allowance and is net of a $0.2 million benefit and $2.3 million benefit for the years ended December 31, 2012, and 2011, respectively. LIQUIDITY AND CAPITAL RESOURCES On March 7, 2012, Kemper entered into the 2016 Credit Agreement, a new four-year, $325.0 million, unsecured, revolving credit agreement, expiring March 7, 2016, with a group of financial institutions. Effective December 31, 2013, Kemper amended the 2016 Credit Agreement to, among other things, reduce the amount of the aggregate commitments under the 2016 Credit Agreement by $100 million, bringing the aggregate commitments to $225 million, and to increase the amount of indebtedness that may be incurred and outstanding in the aggregate at any time in connection with borrowings from the FHLB or issuances of surplus notes by $150 million, to $250 million, provided that the aggregate indebtedness incurred and outstanding in connection with issuances of surplus notes may not exceed $100 million at any one time. The action resulted from the completion in December 2013 of the process initiated by Kemper's subsidiaries, United Insurance and Trinity, to become members of the FHLBs of Chicago and Dallas, respectively. The FHLB memberships provide United and Trinity with access to additional sources of liquidity and consequently reduce the need for such liquidity at the parent company level. The 2016 Credit Agreement replaced Kemper's $245.0 million, unsecured, revolving credit agreement which was scheduled to expire on October 30, 2012 (the "Former Credit Agreement") and was terminated on March 7, 2012. There were no borrowings under the Former Credit Agreement at either December 31, 2011 or at its termination. The 2016 Credit Agreement provides for fixed and floating rate advances for periods up to six months at various interest rates. The 2016 Credit Agreement contains various financial covenants, including limits on total debt to total capitalization, consolidated net worth and minimum risk-based capital ratios for Kemper's largest insurance subsidiaries, United Insurance and Trinity. Proceeds from advances under the 2016 Credit Agreement may be used for general corporate purposes, including repayment of existing indebtedness. Kemper did not borrow under its credit agreements during 2013 and 2012. Kemper borrowed and repaid $95.0 million under the Former Credit Agreement in 2011. There were no outstanding borrowings under the 2016 Credit Agreement at December 31, 2013, and accordingly, $225.0 million was available for future borrowings. Management estimates that it could borrow the full amount under the 2016 Credit Agreement and still meet the financial covenants therein. 53-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) LIQUIDITY AND CAPITAL RESOURCES (Continued) In connection with the finalization of their FHLB memberships, United Insurance and Trinity purchased capital stock in the FHLBs of Chicago and Dallas, respectively. In addition, to complete Trinity's membership in the FHLB of Dallas, which became effective as of December 31, 2013, Trinity and the FHLB of Dallas entered into agreements pursuant to which Trinity may obtain extensions of credit ("FHLB Advances") from the FHLB of Dallas. The amount of FHLB Advances that may be obtained by Trinity will be determined as of any particular date based on a multiple of the amount of capital stock in the FHLB of Dallas that has been purchased by Trinity as of such date. FHLB Advances are subject to collateral requirements as specified in the agreements. There were no FHLB Advances outstanding at December 31, 2013. At December 31, 2013, $250 million of Kemper's 6.00% senior notes due November 30, 2015 (the "2015 Senior Notes") was outstanding. The 2015 Senior Notes are unsecured and may be redeemed in whole at any time or in part from time to time at Kemper's option at specified redemption prices. Interest expense under the 2015 Senior Notes was $15.4 million for each of the years ended December 31, 2013, 2012 and 2011. At December 31, 2013, $360 million of Kemper's 6.00% senior notes due May 15, 2017 (the "2017 Senior Notes") was outstanding. The 2017 Senior Notes are unsecured and may be redeemed in whole at any time or in part from time to time at Kemper's option at specified redemption prices. Interest expense under the 2017 Senior Notes was $22.2 million, $22.1 million and $22.0 million for the years ended December 31, 2013, 2012 and 2011, respectively. Under various state insurance laws, Kemper's insurance subsidiaries may pay dividends without obtaining prior regulatory approval based upon levels of statutory capital and surplus and/or net income, as defined by the applicable state law. Kemper's direct insurance subsidiaries paid dividends of $95.0 million, $95.0 million and $70.5 million in cash to Kemper in 2013, 2012 and 2011, respectively. In 2014, Kemper estimates that its direct insurance subsidiaries would be able to pay $217.0 million in dividends to Kemper without prior regulatory approval. On July 25, 2013, Kemper's subsidiary, One East Wacker LLC ("One East"), sold the building where Kemper's corporate offices are headquartered for a gain of $43.6 million before taxes. In connection with the sale, Kemper entered into a long-term operating lease for five floors of the 41-story office building, with naming and signage rights. One East's proceeds from the sale before taxes, net of repayment of a $45 million mortgage held by Trinity and an advance of $4.0 million from Kemper, and payment of other transaction costs and liabilities, were approximately $50 million. In 2013, One East distributed $48 million of its capital in cash to Kemper. In 2012, Fireside Auto Finance ("FAF") distributed $20 million of its capital to its then parent company, Fireside Securities Corporation ("FSC"), which then, in turn, distributed the same amount to its parent company, Kemper. In 2011, FAF, which was known as Fireside Bank and regulated by the FDIC at the time, distributed $250 million of its capital to its then parent company, FSC, which then, in turn, distributed the same amount to its parent company, Kemper. The undistributed net assets of One East and FAF were not material at December 31, 2013. On February 2, 2011, the Board of Directors approved a new share repurchase program under which Kemper is authorized to repurchase up to $300 million of its common stock. During 2013, Kemper repurchased approximately 3.0 million shares of its common stock at an aggregate cost of $100.4 million in open market transactions under the repurchase program. During 2012, Kemper repurchased approximately 2.0 million shares of its common stock at an aggregate cost of $60.7 million in open market transactions under the new repurchase program. During 2011, Kemper repurchased approximately 0.9 million shares of its common stock at an aggregate cost of $27.4 million in open market transactions. Kemper paid a quarterly dividend to shareholders of $0.24 per common share in each quarter of 2013. Dividends paid were $54.9 million for the year ended December 31, 2013. Kemper directly held cash and investments totaling $156.7 million at December 31, 2013, compared to $190.2 million at December 31, 2012. Sources available for the repayment of indebtedness, repurchases of common stock, future shareholder dividend payments, and the payment of interest on Kemper's senior notes include cash and investments directly held by Kemper, receipt of dividends from Kemper's subsidiaries and borrowings under the 2016 Credit Agreement. 54-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) LIQUIDITY AND CAPITAL RESOURCES (Continued) The primary sources of funds for Kemper's insurance subsidiaries are premiums, investment income and proceeds from the sales and maturity of investments. The primary uses of funds are the payment of policyholder benefits under life insurance contracts, claims under property and casualty insurance contracts and accident and health insurance contracts, the payment of commissions and general expenses and the purchase of investments. Generally, there is a time lag between when premiums are collected and when policyholder benefits and insurance claims are paid. Changes in the legal environment relative to application of state unclaimed property laws and related insurance claims handling practices could result in changes in the manner in which Kemper's life insurance companies administer life insurance death benefits and escheat unclaimed benefits to the states, and could have a significant effect on, including decreasing such time lag due to an acceleration of, the payment and/or remittance of such benefits to the states under their unclaimed property laws relative to what is currently contemplated by Kemper. See Item 1A., "Risk Factors," under the caption "Unclaimed Property Risk Factor" MD&A, "Life and Health Insurance," and Note 23, "Contingencies," to the Consolidated Financial Statements for additional information about these matters. During periods of growth, insurance companies typically experience positive operating cash flows and are able to invest a portion of their operating cash flows to fund future policyholder benefits and claims. During periods in which premium revenues decline, insurance companies may experience negative cash flows from operations and may need to sell investments to fund payments to policyholders and claimants. In addition, if the Company's property and casualty insurance subsidiaries experience several significant catastrophic events over a relatively short period of time, investments may have to be sold in advance of their maturity dates to fund payments, which could either result in investment gains or losses. Management believes that its property and casualty insurance subsidiaries maintain adequate levels of liquidity in the event that they experience several future catastrophic events over a relatively short period of time. Net Cash Provided by Operating Activities increased by $56.4 million for the year ended December 31, 2013, compared to 2012. Net Cash Provided by Operating Activities increased by $90.7 million for the year ended December 31, 2012, compared to 2011. Net Cash Used by Financing Activities increased by $42.3 million for the year ended December 31, 2013, compared to 2012. Kemper used $100.4 million of cash during 2013 to repurchase shares of its common stock, compared to $60.7 million of cash used to repurchase shares of its common stock in 2012. Kemper used $54.9 million of cash to pay dividends for the year ended December 31, 2013, compared to $56.9 million of cash used to pay dividends in 2012. The quarterly dividend rate was $0.24 per common share for each quarter of 2013 and 2012. Net Cash Used by Financing Activities decreased by $291.2 million for the year ended December 31, 2012, compared to 2011. The Company did not use cash for the Repayments of Certificates of Deposits for the year ended December 31, 2012, compared to net cash used of $321.8 million in 2011. Kemper used $60.7 million of cash during 2012 to repurchase shares of its common stock, compared to $27.4 million of cash used to repurchase shares of its common stock in 2011. Kemper used $56.9 million of cash to pay dividends for the year ended December 31, 2012, compared to $58.2 million of cash used to pay dividends in 2011. The quarterly dividend rate was $0.24 per common share for each quarter of 2012 and 2011. Cash available for investment activities in total is dependent on cash flow from Operating Activities and Financing Activities and the level of cash the Company elects to maintain. Net Cash Provided by Investing Activities increased by $111.0 million for the year ended December 31, 2013, compared to 2012. Purchases of Fixed Maturities exceeded Sales of Fixed Maturities by $80.1 million for the year ended December 31, 2013. Sales of Fixed Maturities exceeded Purchases of Fixed Maturities by $41.8 million in 2012. Purchases of Equity Securities exceeded Sales of Equity Securities by $31.3 million for the year ended December 31, 2013. Purchases of Equity Securities exceeded Sales of Equity Securities by $66.9 million for the year ended December 31, 2012. Cash provided by the sale of investment real estate was $102.7 million for the year ended December 31, 2013 compared to $6.0 million for the year ended December 31, 2012. Net cash provided by dispositions of short-term investments was $41.8 million for the year ended December 31, 2013, compared to net cash of $80.0 million used by acquisitions of short-term investments in 2012. Net proceeds from the sale of FAF's inactive loan portfolio provided $16.7 million of cash for the year ended December 31, 2012. Receipts from Automobile Loan Receivables provided $2.0 million of cash for the year ended December 31, 2012. 55-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) LIQUIDITY AND CAPITAL RESOURCES (Continued) Net Cash Provided by Investing Activities decreased by $670.8 million for the year ended December 31, 2012, compared to 2011. Sales of Fixed Maturities exceeded Purchases of Fixed Maturities by $41.8 million for the year ended December 31, 2012. Purchases of Fixed Maturities exceeded Sales of Fixed Maturities by $13.1 million in 2011. Purchases of Equity Securities exceeded Sales of Equity Securities by $66.9 million for the year ended December 31, 2012. Sales of Equity Securities exceeded Purchases of Equity Securities by $49.1 million for the year ended December 31, 2011. Net cash used by acquisitions of short-term investments was $80.0 million for the year ended December 31, 2012, compared to net cash of $155.5 million provided by dispositions of short-term investments in 2011. Net proceeds from the sale of FAF's inactive portfolio of automobile loan receivables provided $16.7 million of cash for the year ended December 31, 2012. Net proceeds from the sale of FAF's active loan portfolio provided $220.7 million of cash for the year ended December 31, 2011. Receipts from Automobile Loan Receivables provided $2.0 million of cash for the year ended December 31, 2012, compared to $166.5 million of cash provided in 2011. OFF-BALANCE SHEET ARRANGEMENTS The Company has no material obligations under a guarantee contract. The Company has no material retained or contingent interests in assets transferred to an unconsolidated entity. The Company has no material obligations, including contingent obligations, under contracts that would be accounted for as derivative instruments. The Company has no obligations, including contingent obligations, arising out of a variable interest in an unconsolidated entity held by, and material to, the Company, where such entity provides financing, liquidity, market risk or credit risk support to, or engages in leasing, hedging or research and development services with the Company. Accordingly, the Company has no material off-balance sheet arrangements. CONTRACTUAL OBLIGATIONS Estimated cash disbursements pertaining to the Company's contractual obligations at December 31, 2013 are as follows: Jan 1, 2014 Jan 1, 2015 Jan 1, 2017 To To To After DOLLARS IN MILLIONS Dec 31, 2014 Dec 31, 2016 Dec 31, 2018 Dec 31, 2018 Total Long Term Debt Obligations $ - $ 250.0 $ 360.0 $ - $ 610.0 Capital Lease Obligations 4.7 4.3 1.6 - 10.6 Operating Lease Obligations 25.1 35.4 24.0 15.3 99.8 Purchase Obligations 1.1 - - - 1.1 Life and Health Insurance Policy Benefits 251.0 424.4 412.1 6,195.0 7,282.5 Property and Casualty Insurance Reserves 454.7 248.4 67.7 72.7 843.5 Other Contractual Obligations Reflected in Long Term Liabilities on the Consolidated Balance Sheet under GAAP 37.2 58.8 10.7 - 106.7 Total Contractual Obligations $ 773.8 $ 1,021.3 $ 876.1 $ 6,283.0 $ 8,954.2 Amounts included in Life and Health Insurance Policy Benefits within the contractual obligations table above represent the estimated cash payments to be made to policyholders and beneficiaries. Such cash outflows are based on the Company's current assumptions for mortality, morbidity and policy lapse, but are undiscounted with respect to interest. Policies must remain in force for the policyholder or beneficiary to receive the benefit under the policy. Depending on the terms of a particular policy, future premiums from the policyholder may be required for the policy to remain in force. The Company estimates that future cash inflows would total $4.1 billion using the same assumptions used to estimate the cash outflows. The Company's Life Insurance Reserves in the Company's Consolidated Balance Sheets are generally based on the historical assumptions for mortality and policy lapse rates and are on a discounted basis. Accordingly, the sum of the amounts presented above for Life and Health Insurance Policy Benefits significantly exceeds the amount of Life and Health Insurance Reserves reported on the Company's Consolidated Balance Sheet at December 31, 2013. In addition to the purchase obligations included above, the Company had certain investment commitments totaling $192.7 million at December 31, 2013. The funding of such investment commitments is dependent on a number of factors, the timing of which is indeterminate. The contractual obligations reported above also exclude the Company's liability of $6.8 million for unrecognized tax benefits. The Company cannot make a reasonably reliable estimate of the amount and period of related future payments for such liability. Other Contractual Obligations Reflected in Long Term Liabilities on the Consolidated Balance Sheet under GAAP primarily consist of interest obligations related to Long Term Debt Obligations. 56-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) CRITICAL ACCOUNTING ESTIMATES Kemper's subsidiaries conduct their businesses in two industries: property and casualty insurance and life and health insurance. Accordingly, the Company is subject to several industry-specific accounting principles under GAAP. The preparation of financial statements in accordance with GAAP requires the use of estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The process of estimation is inherently uncertain. Accordingly, actual results could ultimately differ materially from the estimated amounts reported in a company's financial statements. Different assumptions are likely to result in different estimates of reported amounts. The Company's critical accounting policies most sensitive to estimates include the valuation of investments, the valuation of property and casualty insurance reserves for losses and LAE, the assessment of recoverability of goodwill and the valuation of pension benefit obligations. Valuation of Investments The reported value of the Company's investments was $6,151.3 million at December 31, 2013, of which $5,178.5 million, or 84%, was reported at fair value, $245.1 million, or 4%, was reported under the equity method of accounting, $275.4 million, or 5%, was reported at unpaid principal balance and $452.3 million, or 7%, was reported at cost or depreciated cost. Investments, in general, are exposed to various risks, such as interest rate risk, credit risk, and overall market volatility risk. Accordingly, it is reasonably possible that changes in the fair values of the Company's investments reported at fair value will occur in the near term and such changes could materially affect the amounts reported in the financial statements. Also, it is reasonably possible that changes in the carrying values of the Company's Equity Method Limited Liability Investments will occur in the near term and such changes could materially affect the amounts reported in the financial statements because these issuers follow specialized industry accounting rules which require that they report all of their investments at fair value (See Item 1A., "Risk Factors" entitled "The Company's investment portfolio is exposed to a variety of risks that may negatively impact net investment income and cause realized and unrealized losses"). As more fully described under the heading, "Fair Value Measurements," in Note 2, "Summary of Accounting Policies and Accounting Changes," to the Consolidated Financial Statements, the Company uses a hierarchal framework which prioritizes and ranks the market observability used in fair value measurements. The fair value of the Company's investments measured and reported at fair value was $5,178.5 million at December 31, 2013, of which $4,551.8 million, or 88%, were investments that were based on quoted market prices or significant value drivers that are observable and $626.7 million, or 12%, were investments where at least one significant value driver was unobservable. Fair value measurements based on readily available, active, quoted market prices or for which fair value can be measured from actively quoted prices generally are deemed to have a higher degree of market price observability and a lesser degree of judgment, compared to fair value measurements based on significant unobservable inputs used in measuring fair value. The prices that the Company might realize from actual sales of investments are likely to vary from their respective estimated fair values at December 31, 2013 due to changing market conditions and limitations inherent in the estimation process. The classification of a company's investment in a financial instrument may affect its reported results. For investments classified as trading, a company is required to recognize changes in the fair values into income for the period reported. Both the reported and fair value of the Company's investments classified as trading were $5.0 million at December 31, 2013. For investments in fixed maturities classified as held to maturity, a company is required to carry the investment at amortized cost, with only amortization occurring during the period recognized into income. None of the Company's investments in fixed maturities were classified as held to maturity at December 31, 2013. Changes in the fair value of investments in fixed maturities classified as available for sale, investments in equity securities classified as available for sale and an insurance entity's investments in equity securities without readily determinable fair values are not recognized to income during the period, but rather are recognized as a separate component of Accumulated Other Comprehensive Income until realized. All of the Company's investments in fixed maturities were classified as available for sale at December 31, 2013. Except for investments accounted for under the equity method of accounting or classified as trading, all of the Company's investments in equity securities at December 31, 2013 are reported at fair value with changes in fair value reported in Accumulated Other Comprehensive Income ("AOCI") until realized. The Company's investments accounted for under the equity method of accounting consist of the Company's investments in Equity Method Limited Liability Investments and are valued at cost plus cumulative undistributed comprehensive earnings or losses, and not at fair value. Under GAAP, a company may elect to use the fair value option for some or all of its investments in financial instruments. Under the fair value option, a company is required to recognize changes in the fair values into income for the period reported. The Company has not elected the fair value option for any of its investments in financial instruments. Had the Company elected 57-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) CRITICAL ACCOUNTING ESTIMATES (Continued) the fair value option for all of its investments in financial instruments, the Company's reported net income for the year ended December 31, 2013, would have decreased by $233.6 million. The Company regularly reviews its investments for factors that may indicate that a decline in the fair value of an investment below its cost or amortized cost is other than temporary. Such reviews are inherently uncertain in that the value of the investment may not fully recover or may decline further in future periods. Some factors considered for fixed maturity and equity securities in evaluating whether or not a decline in fair value is other than temporary include, but are not limited to, the following: Fixed Maturity Securities • The financial condition, credit rating and prospects of the issuer; • The extent to which the fair value has been less than amortized cost; • The ability of the issuer to make scheduled principal and interest payments; • The volatility of the investment; • Opinions of the Company's external investment managers; • The Company's intentions to sell or not to sell the investment; and • The Company's determination of whether it will be required to sell the investment before a full recovery in value. Equity Securities • The financial condition and prospects of the issuer; • The length of time and magnitude of the unrealized loss; • The volatility of the investment; • Analyst recommendations and near term price targets; • Opinions of the Company's external investment managers; • Market liquidity; • Debt-like characteristics of perpetual preferred stocks and issuer ratings; and • The Company's intentions to sell or ability to hold the investments until recovery. Changes in these factors from their December 31, 2013 evaluation date could result in the Company determining that a temporary decline in the fair value of an investment held and evaluated at December 31, 2013 is no longer temporary at a subsequent evaluation date. Such determination would result in an impairment loss recognized in earnings in the period such determination is made. Property and Casualty Insurance Reserves for Losses and Loss Adjustment Expenses The Company's Property and Casualty Insurance Reserves are reported using the Company's estimate of its ultimate liability for losses and LAE for claims that occurred prior to the end of any given accounting period but have not yet been paid. The Company had $843.5 million and $970.6 million of gross loss and LAE reserves at December 31, 2013 and 2012, respectively. Property and Casualty Insurance Reserves for the Company's business segments at December 31, 2013 and 2012 were: DOLLARS IN MILLIONS 2013 2012 Business Segments: Kemper Preferred $ 412.8 $ 452.3 Kemper Specialty 196.4 215.9 Kemper Direct 133.4 177.8 Life and Health Insurance 5.3 7.0 Total Business Segments 747.9 853.0 Discontinued Operations 83.0 100.7 Unallocated Reserves 12.6 16.9Total Property and Casualty Insurance Reserves $ 843.5 $ 970.6 58-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) CRITICAL ACCOUNTING ESTIMATES (Continued) In estimating the Company's Property and Casualty Insurance Reserves, the Company's actuaries exercise professional judgment and must consider, and are influenced by, many variables that are difficult to quantify. Accordingly, the process of estimating and establishing the Company's Property and Casualty Insurance Reserves is inherently uncertain and the actual ultimate net cost of known and unknown claims may vary materially from the estimated amounts reserved. The reserving process is particularly imprecise for claims involving asbestos, environmental matters, construction defect and other emerging and/or long-tailed exposures which may not be discovered or reported until years after the insurance policy period has ended. Property and Casualty Insurance Reserves related to the Company's discontinued operations are predominantly long-tailed exposures, $35.2 million of which was related to asbestos, environmental matters and construction defect exposures at December 31, 2013. The Company's actuaries generally estimate reserves at least quarterly for most product lines and/or coverage levels using accident quarters or accident months spanning 10 or more years, depending on the size of the product line and/or coverage level or emerging issues relating to them. The Company's actuaries use a variety of generally accepted actuarial loss reserving estimation methodologies, including, but not limited to, the following: • Incurred Loss Development Methodology; • Paid Loss Development Methodology; • Bornhuetter-Ferguson Incurred Loss Methodology; • Bornhuetter-Ferguson Paid Loss Methodology; and • Frequency and Severity Methodology. The Company's actuaries generally review the results of at least four of the estimation methodologies, two based on paid data and two based on incurred data, to initially estimate the ultimate losses and LAE for the current accident quarter and re-estimate the ultimate losses and LAE for previous accident quarters to determine if changes in the previous estimates of the ultimate losses and LAE are indicated by the most recent data. In some cases, the methodologies produce a cluster of estimates with a tight band of indicated possible outcomes. In other cases, however, the methodologies produce conflicting results and wider bands of indicated possible outcomes, and the Company's actuaries perform additional analyses before making their final selections. However, such bands do not necessarily constitute a range of outcomes, nor does the Company's management or the Company's actuaries calculate a range of outcomes. The key assumption in these estimation methodologies is that patterns observed in prior periods are indicative of how losses and LAE are expected to develop in the future and that such historical data can be used to predict and estimate ultimate losses and LAE. However, changes in the Company's business processes, by their very nature, are likely to affect the development patterns, which generally results in the historical development factors becoming less reliable over time in predicting how losses and LAE will ultimately develop. The ultimate impact of a single change in a business process is difficult to quantify and detect, and even more difficult if several changes to business processes occur over several years. Initially after a change is implemented, there are fewer data points, as compared to the historical data, for the Company's actuaries to analyze. With fewer data points to analyze, the Company's actuaries cannot be certain that observed differences from the historical data trends are a result of the change in business process or merely a random fluctuation in the data. As the Company's actuaries observe more data points following the change in business process, the Company's actuaries can gain more confidence in whether the change in business process is affecting the development pattern. The challenge for the Company's actuaries is how much weight to place on the development patterns based on the older historical data and how much weight to place on the development patterns based on more recent data. At a minimum, the Company's actuaries analyze 45 product and/or coverage levels for over 40 separate current and prior accident quarters for both losses and LAE using many of the loss reserving estimation methodologies identified above as well as other generally accepted actuarial estimation methodologies. In all, there are over 10,000 combinations of accident quarters, coverage levels, and generally accepted actuarial estimation methodologies used to estimate the Company's unpaid losses and LAE. In some cases, the Company's actuaries make adjustments to the loss reserving estimation methodologies identified above or use additional generally accepted actuarial estimation methodologies to estimate ultimate losses and LAE. For each accident quarter, the point estimate selected by the Company's actuaries is not necessarily one of the points produced by any particular one of the methodologies utilized, but often is another point selected by the Company's actuaries, using their professional judgment, that takes into consideration each of the points produced by the several loss reserving estimation methodologies used. In some cases, for a particular product, the current accident quarter may not have enough paid claims data to rely upon, leading the Company's actuaries to conclude that the incurred loss development methodology provides a better estimate than the paid loss development methodology. Therefore, the Company's actuaries may give more weight to the 59-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) CRITICAL ACCOUNTING ESTIMATES (Continued) incurred loss development methodology for that particular accident quarter. As an accident quarter ages for that same product, the actuary may gain more confidence in the paid loss development methodology and begin to give more weight to the paid loss development methodology. The Company's actuaries' quarterly selections are summed by product and/or coverage levels to create the actuarial indication of the ultimate losses. More often than not, the actuarial indication for a particular product line and accident quarter is most heavily weighted towards the incurred loss development methodology, particularly for short-tail lines such as personal automobile insurance. Historically, the incurred loss development methodology has been more reliable in predicting ultimate losses for short-tail lines, especially in the more recent accident quarters, compared with the paid loss development methodology. However, in some circumstances changes can occur which impact numerous variables, including, but not limited to, those variables identified below that are difficult to quantify and/or impact the predictive value of prior development patterns relied upon in the incurred loss development methodology and paid loss development methodology. In those circumstances, the Company's actuaries must make adjustments to these loss reserving estimation methodologies or use additional generally accepted actuarial estimation methodologies. In those circumstances, the Company's actuaries, using their professional judgment, may place more weight on the adjusted loss reserving estimation methodologies or other generally accepted actuarial estimation methodologies until the newer development patterns fully emerge and the Company's actuaries can fully rely on the unadjusted loss reserving estimation methodologies. In the event of a wide variation among results generated by the different projection methodologies, the Company's actuaries further analyze the data using additional techniques. In estimating reserves, the Company's actuaries exercise professional judgment and must consider, and are influenced by, many variables that are difficult to quantify, such as: • Changes in the level of minimum case reserves, and the automatic aging of those minimum case reserves; • Changes to claims practices, including, but not limited to, changes in the reporting and impact of large losses, timing of reported claims, adequacy of case reserves, implementation of new systems for handling claims, turnover of claims department staffs, timing and depth of the audit review of claims handling procedures; • Changes in underwriting practices; • Changes in the mix of business by state, class and policy limit within product line; • Growth in new lines of business; • Changes in the attachment points of the Company's reinsurance programs; • Medical costs, including, but not limited to, the ability to assess the extent of injuries and the impact of inflation; • Repair costs, including, but not limited to, the impact of inflation and the availability of labor and materials; • Changes in the judicial environment, including, but not limited to, the interpretation of policy provisions, the impact of jury awards and changes in case law; and • Changes in state regulatory requirements. A change in any one or more of the foregoing factors is likely to result in a projected ultimate net loss and LAE that is different from the previously estimated reserve and/or previous frequency and severity trends. Such changes in estimates may be material. For example, the Company's actuaries review frequency (number of claims per policy or exposure), severity (dollars of loss per claim) and average premium (dollars of premium per exposure). Actual frequency and severity experienced will vary depending on changes in mix by class of insured risk. Similarly, the actual frequency and rate of recovery from reinsurance will vary depending on changes in the attachment point for reinsurance. In particular, in periods of high growth or expansion into new markets, there may be additional uncertainty in estimating the ultimate losses and LAE. The contributing factors of this potential risk are changes in the Company's mix by policy limit and mix of business by state or jurisdiction. Actuaries use historical experience and trends as predictors of how losses and LAE will emerge over time. However, historical experience may not necessarily be indicative of how actual losses and LAE will emerge. Changes in case reserve adequacy, changes in minimum case reserves and changes in internal claims handling procedures could impact the timing and recognition of incurred claims and produce an estimate that is either too high or too low if not adjusted for by the actuary. For example, if, due to changes in claims handling procedures, actual claims are settled more rapidly than they were settled historically, the estimate produced by the paid loss development methodology would tend to be overstated if the actuary did not identify and adjust for the impact of the changes in claims handling procedures. Similarly, if, due to changes in claims handling procedures, actual claim reserves are set at levels higher than past experience, the estimate produced by the incurred loss development methodology would tend to be overstated if the actuary did not identify and adjust for the impact of the changes in claims handling procedures. 60-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) CRITICAL ACCOUNTING ESTIMATES (Continued) The final step in the quarterly loss and LAE reserving process involves a comprehensive review of the actuarial indications by the Company's corporate actuary and corporate management who apply their collective judgment and determine the appropriate estimated level of reserves to record. Numerous factors are considered in this determination process, including, but not limited to, the assessed reliability of key loss trends and assumptions that may be significantly influencing the current actuarial indications, changes in claim handling practices or other changes that affect the timing of payment or development patterns, changes in the mix of business, the maturity of the accident year, pertinent trends observed over the recent past, the level of volatility within a particular line of business, the improvement or deterioration of actuarial indications in the current period as compared to prior periods, and the amount of reserves related to third party pools for which the Company does not have access to the underlying data and, accordingly, relies on calculations provided by such pools. The Company's goal is to ensure that its total reserves for property and casualty insurance losses and LAE are adequate to cover all costs, while sustaining minimal variation from the time reserves for losses and LAE are initially estimated until losses and LAE are fully developed. Changes in the Company's estimates of these losses and LAE over time, also referred to as "development," will occur and may be material. Favorable development is recognized and reported in the Consolidated Financial Statements when the Company decreases its previous estimate of ultimate losses and LAE and results in an increase in net income in the period recognized, whereas adverse development is recognized and reported in the Consolidated Financial Statements when the Company increases its previous estimate of ultimate losses and LAE and results in a decrease in net income. The Company reported total favorable development of $64.6 million, $31.5 million and $33.1 million before tax for the years ended December 31, 2013, 2012 and 2011, respectively. Development for each of the Company's continuing business segments and Unitrin Business Insurance for the years ended December 31, 2013, 2012 and 2011, was: Favorable (Adverse) Development DOLLARS IN MILLIONS 2013 2012 2011 Continuing Operations: Kemper Preferred $ 27.5 $ 4.8 $ 19.1 Kemper Specialty 4.9 2.3 9.4 Kemper Direct 25.6 17.8 3.9 Life and Health Insurance 1.8 0.3 2.6 Total Favorable Development from Continuing Operations, Net 59.8 25.2 35.0 Discontinued Operations 4.8 6.3 (1.9 ) Total Favorable Development, Net $ 64.6 $ 31.5 $ 33.1 Development in the Kemper Preferred segment comprised the largest portion of the Company's development reported in continuing operations in 2013 and 2011. Additional information regarding the Kemper Preferred development is discussed below. Development in the Kemper Direct segment comprised a significant portion of the Company's development in 2013 and the largest portion of the Company's development reported in 2012. Kemper Direct's operations have undergone significant changes, including changes in underwriting, claims handling and mix of business by state and distribution channel, over the last several years. The effect of these and other changes on the historical development factors used to estimate Kemper Direct's loss and LAE reserves is difficult to quantify and predict. Development in the Life and Health Insurance segment in 2011 is due primarily to development on certain hurricanes. See MD&A, "Life and Health Insurance." In 2008, the Company sold its Unitrin Business Insurance operations. The Company retained Property and Casualty Insurance Reserves for unpaid insured losses that occurred prior to June 1, 2008, the effective date of the sale. Development in Unitrin Business Insurance comprised all of the Company's development reported in discontinued operations. Estimated Variability of Property and Casualty Insurance Reserves Although development will emerge in all of the Company's product lines, development in Kemper Preferred segment's personal automobile insurance product line could have the most significant impact due to the relative size of its loss and LAE reserves. To further illustrate the sensitivity of Kemper Preferred segment's reserves for automobile insurance losses and LAE to changes in the cumulative development factors, for each quarterly evaluation point the Company's actuaries calculated the variability of cumulative development factors observed in the incurred loss development methodology using one standard deviation. The Company believes that one standard deviation of variability is a reasonably likely scenario to measure variability for its loss and LAE reserves under the incurred development method for automobile insurance. Assuming that the Kemper Preferred segment's automobile insurance loss and LAE reserves were based solely on the incurred loss development methodology and 61-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) CRITICAL ACCOUNTING ESTIMATES (Continued) the variability in the cumulative development factors occurred within one standard deviation, the Company estimates that Kemper Preferred's automobile insurance loss and LAE reserves could have varied by $32.4 million in either direction at December 31, 2013 for all accident years combined under this scenario. In addition to the factors described above, other factors may also impact loss reserve development in future periods. These factors include governmental actions, including court decisions interpreting existing laws, regulations or policy provisions, developments related to insurance policy claims and coverage issues, adverse or favorable outcomes in pending claims litigation, the number and severity of insurance claims, the impact of inflation on insurance claims and the impact of required participation in windpools and joint underwriting associations and residual market assessments. Although the Company's actuaries do not make specific numerical assumptions about these factors, changes in these factors from past patterns will impact historical loss development factors and, in turn, future loss reserve development. Significant favorable changes in one or more factors will lead to favorable future loss reserve development, which could result in the actual loss developing closer to, or even below, the lower end of the Company's estimated reserve variability. Significant unfavorable changes in one or more factors will lead to unfavorable loss reserve development, which could result in the actual loss developing closer to, or even above, the higher end of the Company's estimated reserve variability. Accordingly, due to these factors and the other factors enumerated throughout the MD&A and the inherent limitations of the loss reserving estimation methodologies, the estimated and illustrated reserve variability may not necessarily be indicative of the Company's future reserve variability, which could ultimately be greater than the estimated and illustrated variability. In addition, as previously noted, development will emerge in all of the Company's product lines over time. Accordingly, the Company's future reserve variability could ultimately be greater than the illustrated variability. Additional information pertaining to the estimation of, and development of, the Company's Property and Casualty Insurance Reserves is contained in Item 1 of Part I of this 2013 Annual Report under the heading "Property and Casualty Loss and Loss Adjustment Expense Reserves." Goodwill Recoverability While the Company believes that none of its reporting units with material Goodwill are at risk of failing step one of the goodwill impairment test, the process of determining whether or not an asset, such as Goodwill, is impaired or recoverable relies on projections of future cash flows, operating results and market conditions. Such projections are inherently uncertain and, accordingly, actual future cash flows may differ materially from projected cash flows. In evaluating the recoverability of Goodwill, the Company performs a discounted cash flow analysis for each of the Company's reporting units carrying Goodwill. The discounted cash value may be different from the fair value that would result from an actual transaction between a willing buyer and a willing seller. Such analyses are particularly sensitive to changes in discount rates and investment rates. Changes to these rates might result in material changes in the valuation and determination of the recoverability of Goodwill. For example, an increase in the rate used to discount cash flows will decrease the discounted cash value. There is likely to be a similar, but not necessarily as large as, increase in the investment rate used to project the cash flows resulting from investment income earned on the Company's investments. Accordingly, an increase in the investment rate would increase the discounted cash value. Pension Benefit Obligations The process of estimating the Company's pension benefit obligations and pension benefit costs is inherently uncertain and the actual cost of benefits may vary materially from the estimates recorded. These liabilities are particularly volatile due to their long-term nature and are based on several assumptions. The main assumptions used in the valuation of the Company's pension benefit obligations are: • Estimated mortality of the participants and beneficiaries eligible for benefits; • Estimated expected long-term rates of returns on investments; • Estimated compensation increases; • Estimated employee turnover; and • Estimated rate used to discount the expected benefit payment to a present value. 62-------------------------------------------------------------------------------- Kemper Corporation and Subsidiaries Management's Discussion and Analysis of Financial Condition and Results of Operations-(Continued) CRITICAL ACCOUNTING ESTIMATES (Continued) A change in any one or more of these assumptions is likely to result in present value of expected benefit payments to differ from the actuarial estimate at December 31, 2013. Such changes in estimates may be material. For example, a one-percentage point decrease in the Company's estimated discount rate would increase the pension benefit obligation at December 31, 2013 by $72.7 million, while a one-percentage point increase in the rate would decrease the pension benefit obligation at December 31, 2013 by $59.1 million. A one-percentage point decrease in the Company's estimated long-term rate of return on plan assets would increase the pension expense for the year ended December 31, 2013 by $4.2 million, while a one-percentage point increase in the rate would decrease pension expense by $4.2 million for the same period. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS Except for rules and interpretive releases of the SEC under authority of federal securities laws and a limited number of grandfathered standards, the FASB Accounting Standards Codification ("ASC") is the sole source of authoritative GAAP recognized by the Financial Accounting Standards Board ("FASB") that is applicable to the Company. The FASB issues Accounting Standards Updates ("ASUs") to amend the authoritative literature in ASC. Changes in accounting standards that are most critical or relevant to the Company are discussed in Note 2, "Summary of Accounting Policies and Accounting Changes," to the Consolidated Financial Statements under the headings "Adoption of New Accounting Standards" and "Accounting Standards Not Yet Adopted." The accounting changes discussed are as follows: • ASU 2013-02, Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income • ASU 2013-11, Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists. There were ten other ASUs issued in 2013 that amend the original text of ASC. These ASU's are not expected to have an impact on the Company. There have been five ASUs issued in 2014 that amend the original text of ASC. These ASU's are not expected to have an impact on the Company. 63-------------------------------------------------------------------------------- |