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Section 1: 10-K (FORM 10-K)

Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2017
or
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number: 001-18298
Kemper Corporation
(Exact name of registrant as specified in its charter)
Delaware
 
95-4255452
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
One East Wacker Drive, Chicago, Illinois
 
60601
(Address of principal executive offices)
 
(Zip Code)
(312) 661-4600
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
 
Name of each exchange on which registered
Common Stock, $0.10 par value per share
 
New York Stock Exchange
7.375% Subordinated Debentures due 2054
 
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  x    No  ¨
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.    Yes  ¨    No  x
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.    ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer  x    Accelerated filer  ¨    Non-accelerated filer  ¨    Smaller reporting company  ¨
           Emerging growth company  ¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition
period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.     ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
As of June 30, 2017, the aggregate market value of the registrant’s common stock held by non-affiliates of the registrant was $2.0 billion based on the closing sale price as reported on the New York Stock Exchange. Solely for purposes of this calculation, all executive officers and directors of the registrant are considered affiliates.
Registrant had 51,463,199 shares of common stock outstanding as of January 31, 2018.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the Annual Meeting of Shareholders to be held on May 2, 2018 are incorporated by reference into Part III.



Table of Contents
 
 
 
 
Caution Regarding Forward-Looking Statements
 
 
 
 
Part I
 
 
 
 
Item 1.
Business
Item 1A.
Risk Factors
Item 1B.
Unresolved Staff Comments
Item 2.
Properties
Item 3.
Legal Proceedings
Item 4.
Mine Safety Disclosures
 
 
 
 
Part II
 
 
 
 
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 6.
Selected Financial Data
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
Item 8.
Financial Statements and Supplementary Data
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A.
Controls and Procedures
Item 9B.
Other Information
 
 
 
 
Part III
 
 
 
 
Item 10.
Directors, Executive Officers and Corporate Governance
Item 11.
Executive Compensation
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13.
Certain Relationships and Related Transactions, and Director Independence
Item 14.
Principal Accounting Fees and Services
 
 
 
 
Part IV
 
 
 
 
Item 15.
Exhibits, Financial Statement Schedules
Item 16.
Form 10-K Summary
 
 
 
Exhibit Index
Power of Attorney
Signatures
Financial Statement Schedules:
 
Schedule 1 - Investments Other than Investments in Related Parties
Schedule 2 - Parent Company Financial Statements
Schedule 3 - Supplementary Insurance Information
Schedule 4 - Reinsurance Schedule



Caution Regarding Forward-Looking Statements
This 2017 Annual Report on Form 10-K (the “2017 Annual Report”), including, but not limited to, the accompanying consolidated financial statements of Kemper Corporation (“Kemper” or the “Registrant”) and its subsidiaries (individually and collectively referred to herein as the “Company”) and the notes thereto appearing in Item 8 herein (the “Consolidated Financial Statements”), the Management’s Discussion and Analysis of Financial Condition and Results of Operations appearing in Item 7 herein (the “MD&A”) and the other Exhibits and Financial Statement Schedules filed as a part hereof or incorporated by reference herein, may contain or incorporate by reference information that includes or is based on forward-looking statements within the meaning of the safe-harbor provisions of the Private Securities Litigation Reform Act of 1995.
Forward-looking statements give expectations or forecasts of future events. The reader can identify these statements by the fact that they do not relate strictly to historical or current facts. They use words such as “believe(s),” “goal(s),” “target(s),”
“estimate(s),” “anticipate(s),” “forecast(s),” “project(s),” “plan(s),” “intend(s),” “expect(s),” “might,” “may,” “could” and other terms of similar meaning. Forward-looking statements, in particular, include statements relating to future actions, prospective services or products, future performance or results of current and anticipated services or products, sales efforts, expenses, the outcome of contingencies such as legal proceedings, trends in operations and financial results.
Any or all forward-looking statements may turn out to be wrong, and, accordingly, Kemper cautions readers not to place undue reliance on such statements. Kemper bases these statements on current expectations and the current economic environment as of the date of this 2017 Annual Report. They involve a number of risks and uncertainties that are difficult to predict. These statements are not guarantees of future performance; actual results could differ materially from those expressed or implied in the forward-looking statements. Forward-looking statements can be affected by inaccurate assumptions or by known or unknown risks and uncertainties that may be important in determining the Company’s actual future results and financial condition.
In addition to the factors discussed below under Item 1A., “Risk Factors,” in this 2017 Annual Report, the reader should consider the following list of general factors that, among others, could cause the Company’s actual results and financial condition to differ materially from estimated results and financial condition.
Factors related to the legal and regulatory environment in which Kemper and its subsidiaries operate
Evolving practices and interpretations by regulators and courts that increase operating costs and potential liabilities, particularly any that involve retroactive application of new requirements, including, but not limited to, state initiatives related to unclaimed property laws or claims handling practices with respect to life insurance policies and the proactive use of death verification databases;
Adverse outcomes in litigation or other legal or regulatory proceedings involving Kemper or its subsidiaries or affiliates;
Governmental actions, including, but not limited to, implementation of new federal and state laws and regulations, and court decisions interpreting existing laws and regulations or policy provisions;
Uncertainties related to regulatory approval of insurance rates, policy forms, insurance products, license applications, dividends from insurance subsidiaries, acquisitions of businesses and other matters within the purview of state insurance regulators;
Factors relating to insurance claims and related reserves in the Company’s insurance businesses
The incidence, frequency and severity of catastrophes occurring in any particular reporting period or geographic area, including natural disasters, pandemics and terrorist attacks or other man-made events;
The number and severity of insurance claims (including those associated with catastrophe losses);
Changes in facts and circumstances affecting assumptions used in determining loss and loss adjustment expenses (“LAE”) reserves, including, but not limited to, the number and severity of insurance claims, changes in claims handling procedures and closure patterns and development patterns;
The impact of inflation on insurance claims, including, but not limited to, the effects on personal injury claims of increasing medical costs and the effects on property claims attributed to scarcity of resources available to rebuild damaged structures, including labor and materials and the amount of salvage value recovered for damaged property;
Developments related to insurance policy claims and coverage issues, including, but not limited to, interpretations or decisions by courts or regulators that may govern or influence losses incurred in connection with hurricanes and other catastrophes;
Orders, interpretations or other actions by regulators that impact the reporting, adjustment and payment of claims;

 
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Changes in the pricing or availability of reinsurance, or in the financial condition of reinsurers and amounts recoverable therefrom;
Factors related to the Company’s ability to compete
Changes in the ratings by rating agencies of Kemper and/or its insurance company subsidiaries with regard to credit, financial strength, claims paying ability and other areas on which the Company is rated;
The level of success and costs incurred in realizing or maintaining economies of scale, integrating acquired businesses and implementing significant business initiatives, including, but not limited to, those related to expense and claims savings, consolidations, reorganizations and technology;
Absolute and relative performance of the Company’s products and services, including, but not limited to, the level of success achieved in designing and introducing new insurance products;
The ability of the Company to maintain the availability of critical systems and manage technology initiatives cost-effectively to address insurance industry developments and regulatory requirements;
Heightened competition, including, with respect to pricing, consolidations of existing competitors or entry of new competitors and alternate distribution channels, introduction of new technologies, emergence of telematics, refinements of existing products and development of new products by current or future competitors;
Expected benefits and synergies from mergers, acquisitions and/or divestitures that may not be realized to the extent anticipated, within expected time frames or at all, due to a number of factors including, but not limited to, the loss of key agents/brokers, customers or employees, increased costs, fees, expenses and related charges and delays caused by factors outside of the Company’s control;
Factors relating to the business environment in which Kemper and its subsidiaries operate
Changes in general economic conditions, including, but not limited to, performance of financial markets, interest rates, inflation, unemployment rates and fluctuating values of particular investments held by the Company;
Absolute and relative performance of investments held by the Company;
Changes in insurance industry trends and significant industry developments;
Changes in consumer trends and significant consumer or product developments;
Changes in capital requirements, including the calculations thereof, used by regulators and rating agencies;
Regulatory, accounting or tax changes that may affect the cost of, or demand for, the Company’s products or services or after-tax returns from the Company’s investments;
The impact of required participation in windpools and joint underwriting associations, residual market assessments and assessments for insurance industry insolvencies;
Changes in distribution channels, methods or costs resulting from changes in laws or regulations, lawsuits or market forces;
Increased costs and risks related to cybersecurity and information technology, including, but not limited to, identity theft, data breaches and system disruptions affecting services and actions taken to minimize the risks thereof; and
Factors Relating to the Proposed Acquisition of Infinity Property and Casualty Corporation (“Infinity”)
The satisfaction of the conditions precedent to the consummation of the Merger, including, without limitation, the receipt of shareholder and regulatory approvals (including approvals, authorizations and clearance by antitrust authorities and insurance regulators necessary to complete such proposed merger transaction) on the terms desired or anticipated (and the risk that such approvals may result in the imposition of conditions that could adversely affect the combined company or the expected benefits of such proposed merger transaction);
Unanticipated difficulties or expenditures relating to such proposed merger transaction;
Risks relating to the value of Kemper common stock to be issued in the proposed transaction;
Disruptions of Kemper’s and Infinity’s current plans, operations and relationships with third persons caused by the announcement and pendency of such proposed merger transaction, including, without limitation, the ability of the combined company to hire and retain any personnel; and
Legal proceedings that may be instituted against Kemper and Infinity following announcement of such proposed merger transaction.


 
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Other risks and uncertainties described from time to time in Kemper’s filings with the U.S. Securities and Exchange Commission (“SEC”).
Kemper cannot provide any assurances that the results contemplated in any forward-looking statements will be achieved or will be achieved in any particular timetable or that future events or developments will not cause such statements to be inaccurate. Kemper assumes no obligation to correct or update any forward-looking statements publicly for any changes in events or developments or in the Company’s expectations or results subsequent to the date of this 2017 Annual Report. Kemper advises the reader, however, to consult any further disclosures Kemper makes on related subjects in its filings with the SEC.


 
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PART I
Item 1.    Business.
Kemper is a diversified insurance holding company, with subsidiaries that provide automobile, homeowners, life, health, and other insurance products to individuals and businesses. Kemper’s annual reports on Form 10-K, quarterly reports on Form 10‑Q, current reports on Form 8-K and amendments thereto are accessible free of charge through Kemper’s website, kemper.com, and as soon as reasonably practicable after such materials are filed with, or furnished to, the SEC.


(a) GENERAL DEVELOPMENT OF BUSINESS
Registrant is a holding company incorporated under the laws of the State of Delaware in 1990, with equity securities traded on the New York Stock Exchange (the “NYSE”). On August 25, 2011, Registrant adopted its current name, Kemper Corporation, and changed its NYSE ticker symbol to KMPR. Prior to the name change, the Registrant was known as Unitrin, Inc. and traded under the NYSE ticker symbol UTR.
Pending Acquisition of Infinity
On February 13, 2018, Kemper and Infinity announced that they had entered into an Agreement and Plan of Merger (the “Infinity Merger Agreement”), by and among Kemper, Vulcan Sub, Inc., an Ohio corporation and a wholly owned subsidiary of Kemper (“Kemper Merger Sub”), and Infinity, under which Kemper will acquire Infinity in a cash and stock transaction. Pursuant to the Infinity Merger Agreement, Kemper Merger Sub will merge with and into Infinity, with Infinity surviving as a wholly owned subsidiary of Kemper (the “Infinity Merger”). The Infinity Merger is expected to close in the third quarter of 2018, subject to the satisfaction or waiver of applicable closing conditions, including the approval of shareholders of both companies and receipt of required regulatory clearances and approvals. Additional information pertaining to the Infinity Merger and the Infinity Merger Agreement is contained in Item 1A., “Risk Factors” and Note 26, “Subsequent Events,” to the Consolidated Financial Statements appearing in Item 8 of Part II of this 2017 Annual Report and our current report on Form 8-K filed with the SEC on the date hereof and subsequent filings with the SEC.

(b) BUSINESS SEGMENT FINANCIAL DATA
Financial information about Kemper’s business segments for the years ended December 31, 2017, 2016 and 2015 is contained in the following sections of this 2017 Annual Report and is incorporated herein by reference: (i) Note 18, “Business Segments,” to the Consolidated Financial Statements and (ii) MD&A.
(c) DESCRIPTION OF BUSINESS
The Company is engaged, through its subsidiaries, in the property and casualty insurance and life and health insurance businesses. The Company conducts its operations through two operating segments: Property & Casualty Insurance and Life & Health Insurance. The Company conducts its operations solely in the United States.
Kemper’s subsidiaries employ approximately 5,550 full-time associates supporting their operations, of which approximately 1,850 are employed in the Property & Casualty Insurance segment, approximately 3,200 are employed in the Life & Health Insurance segment and the remainder are employed in various corporate and other staff and shared functions.

 
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Property and Casualty Insurance Business
General
The Property & Casualty Insurance segment provides automobile, homeowners, renters, fire, umbrella and other types of property and casualty insurance to individuals and commercial automobile insurance to businesses. Property insurance indemnifies an insured with an interest in physical property for loss of, or damage to, such property. Casualty insurance primarily covers liability for damage to property of, or injury to, a person or entity other than the insured. In most cases, casualty insurance also obligates the insurance company to provide a defense for the insured in litigation arising out of events covered by the policy.
The Property & Casualty Insurance segment distributes its products primarily through independent agents and brokers who are paid commissions for their services. In addition, the Life & Health Insurance segment’s career agents also sell contents coverage for personal property to its customers.
Earned premiums from automobile insurance accounted for 61%, 58% and 54% of the Company’s consolidated insurance premiums earned in 2017, 2016 and 2015, respectively. Revenues from automobile insurance accounted for 55%, 53% and 48% of Kemper’s consolidated revenues from continuing operations in 2017, 2016 and 2015, respectively. Automobile insurance products include personal automobile insurance, ranging from preferred to nonstandard risks, and commercial automobile insurance. Nonstandard personal automobile insurance policyholders tend to have difficulty obtaining standard or preferred risk insurance, usually because of their driving records, claims experience or premium payment history. Homeowners insurance accounted for 11%, 12% and 14% of the Company’s consolidated insurance premiums earned in 2017, 2016 and 2015, respectively. Homeowners insurance accounted for 11%, 12% and 13% of the Company’s consolidated revenues from continuing operations in 2017, 2016 and 2015, respectively.
The Property & Casualty Insurance segment is headquartered in Chicago, Illinois, and conducts business in more than 40 states and the District of Columbia. The segment’s insurance products are offered by approximately 16,500 independent insurance agents and brokers. As shown in the following table, five states provided 80% of the segment’s premium revenues in 2017.
State
 
Percentage of Total Premiums
California
 
55
%
Texas
 
11

New York
 
8

North Carolina
 
4

Oregon
 
2

Property and Casualty Loss and Loss Adjustment Expense Reserves
The Company’s reserves for losses and LAE for property and casualty insurance (“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.
Property and Casualty Insurance Reserves by business segment at December 31, 2017 and 2016 were:
DOLLARS IN MILLIONS
 
2017
 
2016
Business Segments:
 
 
 
 
Property & Casualty Insurance
 
$
976.3

 
$
884.1

Life & Health Insurance
 
4.1

 
4.5

Total Business Segments
 
980.4

 
888.6

Discontinued Operations
 
33.1

 
38.6

Unallocated Reserves
 
3.3

 
4.2

Total Property and Casualty Insurance Reserves
 
$
1,016.8

 
$
931.4

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

 
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ultimate net cost of 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 that 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, of which $16.3 million was related to asbestos, environmental matters and construction defect exposures at December 31, 2017. See MD&A, “Critical Accounting Estimates,” under the caption “Property and Casualty Insurance Reserves for Losses and Loss Adjustment Expenses” beginning on page 64 for a discussion of the Company’s reserving process and the factors considered by the Company’s actuaries in estimating the Company’s Property and Casualty Insurance Reserves.
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 minimizing 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, also referred to as “development,” will occur over time 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.
Development of property and casualty insurance losses and LAE from prior accident years for each of the Company’s continuing business segments and discontinued operations in 2017, 2016 and 2015 was:
DOLLARS IN MILLIONS
 
Favorable (Adverse) Development
2017
 
2016
 
2015
Continuing Operations:
 
 
 
 
 
 
Property & Casualty Insurance
 
$
(19.5
)
 
$
14.3

 
$
12.9

Life & Health Insurance
 
(0.9
)
 
0.1

 
(1.4
)
Total Favorable (Adverse) Development from Continuing Operations, Net
 
(20.4
)
 
14.4

 
11.5

Discontinued Operations
 
1.5

 
6.3

 
8.6

Total Favorable (Adverse) Development, Net
 
$
(18.9
)
 
$
20.7

 
$
20.1

See MD&A, “Loss and LAE Reserve Development,” “Property & Casualty Insurance,” and “Life & Health Insurance,” for the impact of development on the results reported by the Company’s business segments. Also see MD&A, “Critical Accounting Estimates,” under the caption “Property and Casualty Insurance Reserves for Losses and Loss Adjustment Expenses” beginning on page 64 for additional information about the Company’s reserving practices.
See Note 6, “Property and Casualty Insurance Reserves,” to the Consolidated Financial Statements for information about incurred and paid claims development for the 2013-2016 accident years as of December 31, 2017, net of reinsurance and indemnification, as well as cumulative claim frequency and the total of incurred but not reported (“IBNR”) liabilities, including expected development on reported claims included within the net incurred losses and allocated LAE amounts as of December 31, 2017. See Note 6, “Property and Casualty Insurance Reserves,” to the Consolidated Financial Statements for a tabular reconciliation of the three most recent annual periods setting forth the Company’s Property and Casualty Insurance Reserves as of the beginning of each year, incurred losses and LAE for insured events of the current year, changes in incurred losses and LAE for insured events of prior years, payments of losses and LAE for insured events of the current year, payments of losses and LAE for insured events of prior years and the Company’s Property and Casualty Insurance Reserves at the end of the year and additional information regarding the nature of adjustments to incurred losses and LAE for insured events of prior years.
Catastrophe Losses
Catastrophes and natural disasters are inherent risks of the property and casualty insurance business. These catastrophic events and natural disasters include, without limitation, hurricanes, tornadoes, earthquakes, hailstorms, wildfires, high winds and winter storms. Such events result in insured losses that are, and are expected to be, a material factor in the results of operations and financial position of Kemper’s property and casualty insurance companies. Further, because the level of insured losses that could occur in any one year cannot be accurately predicted, these losses contribute to material year-to-year fluctuations in the results of operations and financial position of these companies. Specific types of catastrophic events are more likely to occur at certain times within the year than others. This factor adds an element of seasonality to property and casualty insurance claims. The occurrence and severity of catastrophic events cannot be accurately predicted in any year. However, some geographic locations are more susceptible to these events than others. The Company has endeavored to manage its direct insurance exposures in certain regions that are prone to naturally occurring catastrophic events through a combination of geographic

 
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diversification, restrictions on the amount and location of new business production in such regions, modifications of, and/or limitations to coverages and deductibles for certain perils in such regions and reinsurance. The Company has adopted the industry-wide catastrophe classifications of storms and other events promulgated by Insurance Services Office, Inc. (“ISO”) to track and report losses related to catastrophes. ISO classifies a disaster as a catastrophe when the event causes $25 million or more in direct insured losses to property and affects a significant number of policyholders and insurers. ISO-classified catastrophes are assigned a unique serial number recognized throughout the insurance industry. The discussions throughout this 2017 Annual Report utilize ISO’s definition of catastrophes.
The process of estimating and establishing reserves for catastrophe losses is inherently uncertain and the actual ultimate cost of a claim, net of reinsurance recoveries, may vary materially from the estimated amount reserved. See Item 1A., “Risk Factors,” under the caption “Catastrophe losses could materially and adversely affect the Company’s results of operations, liquidity and/or financial condition” for a discussion of catastrophe risk. See Note 20, “Catastrophe Reinsurance,” to the Consolidated Financial Statements for a discussion of the factors that influence the process of estimating and establishing reserves for catastrophes.
Reinsurance
The Company manages its exposure to catastrophes and other natural disasters through a combination of geographical diversification, restrictions on the amount and location of new business production in such regions, modifications of, and/or limitations to coverages and deductibles for certain perils in such regions and reinsurance. To limit its exposures to catastrophic events, the Company maintains a catastrophe reinsurance program for the Property & Casualty Insurance segment. Coverage for the catastrophe reinsurance program is provided in various layers and reinsurance contracts. Additionally, for 2018, the Company has entered into an aggregate excess property catastrophe reinsurance contract (the “2018 Aggregate Catastrophe Reinsurance Contract”) for the Property & Casualty Insurance segment. The Property & Casualty Insurance segment and the Life & Health Insurance segment also purchase reinsurance from the Florida Hurricane Catastrophe Fund (the “FHCF”) for hurricane losses in Florida at retentions lower than those described below for the Company’s catastrophe reinsurance program.
Coverage for the Property & Casualty Insurance segment’s catastrophe reinsurance program for 2018 is provided by three multi-year excess of loss reinsurance contracts and an annual aggregate excess of loss reinsurance contract. The first reinsurance contract provides coverage over the three-year period of January 1, 2016 through December 31, 2018 (the “2016 Reinsurance Contract”). The 2016 Reinsurance Contract provides coverage in two layers, which together provide coverage for losses on individual catastrophes of $300 million in excess of $50 million. Under the 2016 Reinsurance Contract, the percentage of coverage is 31.66% for each year in the three-year period, and participation of each reinsurer remains the same over the entire three-year period. Accordingly, the 2016 Reinsurance Contract provides coverage for 31.66% of losses on individual catastrophes of $300 million in excess of $50 million in 2018. The second reinsurance contract provides coverage over the three-year period of January 1, 2017 through December 31, 2019 (the “2017 Reinsurance Contract”). The 2017 Reinsurance Contract provides coverage in two layers, which together provide coverage for losses on individual catastrophes of $200 million in excess of $50 million, a $100 million reduction in the coverage for losses on individual catastrophes in excess of $50 million provided under the 2016 Reinsurance Contract. Under the 2017 Reinsurance Contract, the percentage of coverage is 31.66% for each year in the three-year period, and participation of each reinsurer remains the same over the entire three-year period. Accordingly, the 2017 Reinsurance Contract provides coverage for 31.66% of losses on individual catastrophes of $200 million in excess of $50 million in 2018. The third reinsurance contract provides coverage over the three-year period of January 1, 2018 through December 31, 2020 (the “2018 Reinsurance Contract”). The 2018 Reinsurance Contract provides coverage in two layers, which together provide coverage for losses on individual catastrophes of $200 million in excess of $50 million, which is consistent with the coverage provided under the 2017 Reinsurance Contract. Under the 2018 Reinsurance Contract, the percentage of coverage is 31.66% for each year in the three-year period, and participation of each reinsurer remains the same over the entire three-year period. Accordingly, the 2018 Reinsurance Contract provides coverage for 31.66% of losses on individual catastrophes of $200 million in excess of $50 million in 2018.

 
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Coverage on individual catastrophes provided under the three multi-year excess of loss reinsurance contracts for 2018 (January 1, 2018 to December 31, 2018) is provided in various layers as summarized below.
 
 
Catastrophe Losses
and LAE
 
Combined Percentage
of Coverage
DOLLARS IN MILLIONS
 
In Excess of
 
Up to
 
Retained
 
$

 
$
50.0

 
%
1st Layer of Coverage (Combination of 2018, 2017 and 2016 Reinsurance Contracts)
 
50.0

 
150.0

 
95.0

2nd Layer of Coverage (Combination of 2018 and 2017 Reinsurance Contracts)
 
150.0

 
250.0

 
63.3

2nd Layer of Coverage (2016 Reinsurance Contract)
 
150.0

 
350.0

 
31.7

The estimated annual premium in 2018 for the three multi-year excess of loss reinsurance contracts presented in the preceding table is $10.7 million. In the event that the Company’s incurred catastrophe losses and LAE covered by its catastrophe reinsurance program exceed the retention for a particular layer, the program allows for one reinstatement of such coverage. In such an instance, the Company is required to pay a reinstatement premium to the reinsurers to reinstate the full amount of the limit available under such layer. The reinstatement premium for the first layer of coverage is a percentage of the full original premium based on the ratio of the losses in excess of the Company’s retention to the reinsurers’ coverage limit. The reinstatement premium for the second layer of coverage is a percentage of half the original premium based on the ratio of the losses in excess of the Company’s retention to the reinsurers’ coverage limit.
The 2018 Aggregate Catastrophe Reinsurance Contract is effective for the period of January 1, 2018 through December 31, 2018 and provides coverage for accumulated catastrophe losses of $50 million in excess of $60 million on losses arising out of one or more of the following perils from storms or storm systems that are not named storms: (1) windstorm; (2) hail; (3) tornado and (4) fire; including ensuing collapse and water damage.
Coverage provided under the 2018 Aggregate Catastrophe Reinsurance Contract (January 1, 2018 to December 31, 2018) is summarized below.
 
 
Aggregate Catastrophe
Losses and LAE
DOLLARS IN MILLIONS
 
In Excess of
 
Up to
Retained
 
$

 
$
60.0

Coverage
 
60.0

 
110.0

The estimated annual premium for the 2018 Aggregate Catastrophe Reinsurance Contract is $9.0 million.
The coverage presented in the preceding tables differs from the coverage provided in 2017. See Note 20, “Catastrophe Reinsurance,” to the Consolidated Financial Statements for information pertaining to the catastrophe reinsurance program for the Property & Casualty Insurance segment for 2017. To maintain the same level and percentage of coverage in subsequent years as provided by the catastrophe reinsurance program in 2018, the Property & Casualty Insurance segment will need to purchase additional reinsurance in the future for the portion of coverage expiring at the end of 2018, 2019 and 2020.
In addition to the catastrophe loss exposures caused by natural events described above, Kemper’s property and casualty insurance companies are exposed to losses from catastrophic events that are not the result of acts of nature, such as acts of terrorism, the nature, occurrence and severity of which in any period cannot be accurately predicted. The companies have reinsurance coverage to address certain exposures to potential future terrorist attacks. The reinsurance coverage for certified events, as designated by the federal government, is from the Terrorist Risk Insurance Act and the coverage for non-certified events is available in the catastrophe reinsurance program for Kemper’s Property & Casualty Insurance segment. However, certain perils, such as biological, chemical, nuclear pollution or contamination, are excluded from the reinsurance coverage for non-certified events.
In addition to the catastrophe reinsurance programs described above, Kemper’s property and casualty insurance companies utilize other reinsurance arrangements to limit their maximum loss, provide greater diversification of risk and minimize exposures on larger risks.
Under the various reinsurance arrangements, Kemper’s property and casualty insurance companies are indemnified by reinsurers for certain losses incurred under insurance policies issued by the reinsurers. As indemnity reinsurance does not discharge an insurer from its direct obligations to policyholders on risks insured, Kemper’s property and casualty insurance

 
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companies remain directly liable. However, provided that the reinsurers meet their obligations, the net liability for Kemper’s property and casualty insurance companies is limited to the amount of risk that they retain. Kemper’s property and casualty insurance companies purchase their reinsurance only from reinsurers rated “A-” or better by A. M. Best Co., Inc. (“A.M. Best”), at the time of purchase. A.M. Best is an organization that specializes in rating insurance and reinsurance companies.
For further discussion of the reinsurance programs, see Note 20, “Catastrophe Reinsurance,” and Note 21, “Other Reinsurance,” to the Consolidated Financial Statements.
Pricing
Pricing levels for property and casualty insurance products are influenced by many factors, including the frequency and severity of claims, state regulation and legislation, competition, general business and economic conditions, including market rates of interest, inflation, expense levels, and judicial decisions. In addition, many state regulators require consideration of investment income when approving or setting rates, which could reduce underwriting margins. See MD&A under the caption “Property & Casualty Insurance.”
Competition
Based on the most recent annual data published by A.M. Best, as of the end of 2016, there were 1,186 property and casualty insurance groups in the United States. Kemper’s property and casualty group was among the top 9% of property and casualty insurance groups in the United States as measured by net written premiums, policyholders’ surplus and admitted assets in 2016. Among all personal lines automobile insurance writers, Kemper’s property and casualty group was the 21st largest writer as measured by net written premiums in 2016.
Rankings by admitted assets, net premiums written and capital and surplus were:
 
 
Ordinal
 
Percentile
Measurement
 
Rank
 
Rank
Net Admitted Assets
 
85
 
92
%
Net Written Premiums
 
51
 
95

Capital and Surplus
 
97
 
91

In 2016, the U.S. property and casualty insurance industry’s estimated net premiums written were $538 billion, of which nearly 80% were accounted for by the top 50 groups of property and casualty insurance companies. Kemper’s property and casualty insurance companies wrote less than 1% of the industry’s 2016 premium volume.
The property and casualty insurance industry is highly competitive, particularly with respect to personal automobile insurance. Kemper’s property and casualty insurance companies compete on the basis of, among other measures, (i) using suitable pricing segmentation, (ii) maintaining underwriting discipline, (iii) settling claims timely and efficiently, (iv) offering products in selected markets or geographies, (v) utilizing technological innovations for the marketing and sale of insurance, (vi) controlling expenses, (vii) maintaining adequate ratings from A.M. Best and other ratings agencies and (viii) providing quality services to independent agents and policyholders. See Item 1A., “Risk Factors,” under the caption “The insurance industry is highly competitive, making it difficult to grow profitability and within expectations of investors.
Life and Health Insurance Business
The Company’s Life & Health Insurance segment consists of Kemper’s wholly-owned subsidiaries, United Insurance Company of America (“United Insurance”), The Reliable Life Insurance Company (“Reliable”), Union National Life Insurance Company (“Union National Life”), Mutual Savings Life Insurance Company (“Mutual Savings Life”), United Casualty Insurance Company of America (“United Casualty”), Union National Fire Insurance Company (“Union National Fire”), Mutual Savings Fire Insurance Company (“Mutual Savings Fire”) and Reserve National Insurance Company (“Reserve National”). As discussed below, United Insurance, Reliable, Union National Life, Mutual Savings Life, United Casualty, Union National Fire and Mutual Savings Fire (the “Kemper Home Service Companies”) distribute their products through a network of employee, or “career” agents. Reserve National distributes its products through a network of independent agents and brokers. These career agents, independent agents and brokers are paid commissions for their services. Earned premiums from life insurance accounted for 16%, 17% and 19% of the Company’s consolidated insurance premiums earned in 2017, 2016 and 2015, respectively. Revenues from life insurance accounted for 22%, 23% and 25% of the Company’s consolidated revenues from continuing operations in 2017, 2016 and 2015, respectively.

 
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As shown in the following table, five states provided 51% of the premium revenues in this segment in 2017.
State
 
Percentage of Total Premiums
Texas
 
22
%
Louisiana
 
11

Alabama
 
7

Mississippi
 
6

Florida
 
5

Kemper Home Service Companies
The Kemper Home Service Companies, based in St. Louis, Missouri, focus on providing individual life and supplemental accident and health insurance products to customers of modest incomes who desire basic protection for themselves and their families. Their leading product is ordinary life insurance, including permanent and term insurance. Face amounts of these policies are lower than those of policies typically sold to higher income customers by other companies in the life insurance industry. Approximately 75% of the Life & Health Insurance segment’s premium revenues are generated by the Kemper Home Service Companies.
The Kemper Home Service Companies employ nearly 2,200 career agents to distribute insurance products in 25 states and the District of Columbia. These career agents are full-time employees who call on customers in their homes to sell insurance products, provide services related to policies in force and collect premiums, typically monthly. Premiums average approximately $22 per policy per month with an average face value of $5,700. Permanent and term policies are offered primarily on a non-participating, guaranteed-cost basis. These career agents also distribute and/or service certain property insurance products for the Kemper Home Service Companies.
Reserve National
Reserve National, based in Oklahoma City, Oklahoma, is licensed in 49 states and the District of Columbia. The Company has traditionally specialized in the sale of individual Medicare Supplement insurance and limited health insurance coverages, such as fixed indemnity, specified disease, and accident-only plans, primarily to individuals in rural areas who often do not have access to a broad array of accident and health insurance products. The Company’s insurance products can be tailored to meet individual and family needs. Reserve National’s traditional distribution channel consists of approximately 500 independent agents.
Reserve National began expanding its distribution channels during 2013 by launching two marketing channel initiatives —Kemper Senior Solutions and Kemper Benefits. Kemper Senior Solutions markets life insurance and home health care products focusing on the individual, senior-age demographic of the market place. Kemper Benefits sells voluntary products in the employer market place. Brokers and non-exclusive independent agents are utilized to market and distribute products in these new distribution channels. Reserve National currently has approximately 4,300 independent agents appointed in connection with these initiatives.
Reinsurance
Consistent with insurance industry practice, the Company’s life and health insurance subsidiaries utilize reinsurance arrangements to limit their maximum loss, provide greater diversification of risk and minimize exposures on larger risks. As the face amounts of the Company’s issued policies are relatively small, the ceded risks and corresponding premiums are also relatively small, particularly when compared to other companies in the industry. The segment is also exposed to losses from catastrophes arising from insurance policies distributed by career agents of the Kemper Home Service Companies. Over the last several years, the Kemper Home Service Companies have been intentionally reducing their exposure to catastrophic events through the run-off of their dwelling insurance business. Accordingly, except for reinsurance provided by the FHCF for catastrophe losses in Florida, the Kemper Home Service Companies do not carry any other catastrophe reinsurance coverage.

 
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Lapse Ratio
The lapse ratio is a measure of a life insurer’s loss of in-force policies. For a given year, this ratio is commonly computed as the total face amount of individual life insurance policies lapsed, surrendered, expired and decreased during such year, less policies increased and revived during such year, divided by the total face amount of policies at the beginning of the year plus the face amount of policies issued and reinsurance assumed in the prior year. The Life & Health Insurance segment’s lapse ratio for individual life insurance was 6% in 2017, 2016 and 2015.
The customer base served by the Kemper Home Service Companies and competing life insurance companies tends to have a higher incidence of lapse than other demographic segments of the population. Thus, to maintain or increase the level of its business, the Kemper Home Service Companies must write a high volume of new policies.
Pricing
Premiums for life and health insurance products are based on assumptions with respect to mortality, morbidity, investment yields, expenses, and lapses and are also affected by state laws and regulations, as well as competition. Pricing assumptions are based on the experience of Kemper’s life and health insurance subsidiaries, as well as the industry in general, depending on the factor being considered. The actual profit or loss produced by a product will vary from the anticipated profit if the actual experience differs from the assumptions used in pricing the product.
Premiums for policies sold by the Kemper Home Service Companies are set at levels designed to cover the relatively high cost of “in-home” servicing of such policies. As a result, Kemper Home Service Companies’ premiums have a higher expense load than the life insurance industry average.
Premiums for Medicare supplement and other accident and health policies must take into account the rising costs of medical care. The annual rate of medical cost inflation has historically been higher than the general rate of inflation, necessitating frequent rate increases, most of which are subject to approval by state regulators.
Competition
Based on the most recent data published by A.M. Best, as of the end of 2016, there were 428 life and health insurance company groups in the United States. The Company’s Life & Health Insurance segment ranked in the top 23% of life and health insurance company groups, as measured by admitted assets, net premiums written and capital and surplus. Rankings by admitted assets, net premiums written and capital and surplus were:
 
 
Ordinal
 
Percentile
Measurement
 
Rank
 
Rank
Net Admitted Assets
 
89
 
79
%
Net Written Premiums
 
87
 
79

Capital and Surplus
 
96
 
77

Kemper’s life and health insurance subsidiaries generally compete by using appropriate pricing, offering products to selected markets or geographies, controlling expenses, maintaining adequate ratings from A.M. Best and providing competitive services to agents and policyholders.
Investments
The quality, nature and amount of the various types of investments that can be made by insurance companies are regulated by state laws. Depending on the state, these laws permit investments in qualified assets, including, but not limited to, municipal, state and federal government obligations, corporate bonds, real estate, preferred and common stocks, investment partnerships, limited liability investment companies and limited partnerships. In addition, the quality, nature and amount of the various types of investments held by Kemper’s insurance subsidiaries affect the amount of asset risk calculated by regulators and rating agencies in determining required capital. See “Regulation” immediately following this subsection and Item 1A., “Risk Factors,” under the caption “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.
The Company employs a total return investment strategy, with an emphasis on yield, while maintaining liquidity to meet both its short- and medium-term insurance obligations. See the discussions of the Company’s investments under the headings “Investment Results,” “Investment Quality and Concentrations,” “Investments in Limited Liability Companies and Limited

 
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Partnerships,” “Liquidity and Capital Resources” and “Critical Accounting Estimates,” in the MD&A, “Quantitative and Qualitative Disclosures about Market Risk,” in Item 7A and Note 4, “Investments,” Note 13, “Income from Investments,” and Note 22, “Fair Value Measurements,” to the Consolidated Financial Statements.
Regulation
Overview of State Regulation
Kemper’s insurance subsidiaries are subject to extensive regulation, but not exclusively, at the state level. Such regulation pertains to a variety of matters, including, but not limited to, policy forms, rate setting, licensing to transact business, market conduct, trade practices, underwriting standards, claims practices, transactions with affiliates, payment of dividends, nature and amount of investments, solvency, reserve adequacy, statutory accounting methods, risk management and corporate governance. In addition, insurance regulatory authorities perform periodic examinations of an insurer’s financial condition, market conduct activities and other affairs. Some of these matters are discussed in more detail below.
Approval of Policy Rates and Forms
The majority of Kemper’s insurance operations are in states requiring prior approval by regulators before proposed policy or coverage forms and rates for property, casualty, or health insurance policies may be implemented and used. The Company’s ability to respond to market developments or increased costs can be adversely impacted by lengthy delays in the approval process or by the failure to receive the required approval of state regulators.
Restrictions on Withdrawal, Cancellation and Nonrenewal
Many states have laws restricting an insurer’s ability to withdraw from a particular market. Laws that limit an insurer’s ability to cancel or non-renew a block of policies by line of business, or that subject their withdrawal to prior approval requirements, may restrict the ability of our insurance subsidiaries to exit unprofitable markets.
Financial Reports and Standards
Insurance companies are required to report their financial condition and results of operation in accordance with statutory accounting principles prescribed or permitted by state insurance regulators in conjunction with the National Association of Insurance Commissioners (“NAIC”). State insurance regulators also prescribe the form and content of statutory financial statements, set minimum reserve and loss ratio requirements and establish standards for the types and amounts of investments. In addition, state laws or regulations require minimum capital and surplus levels and incorporate risk-based capital (“RBC”) standards promulgated by the NAIC. These RBC standards are intended to assess the level of risk inherent in an insurance company’s business and consider items such as asset risk, credit risk, underwriting risk and other business risks relevant to its operations. In accordance with RBC formulas, a company’s RBC requirements are calculated and compared to its total adjusted capital to determine whether regulatory intervention is warranted. At December 31, 2017, the total adjusted capital of each of Kemper’s insurance subsidiaries exceeded the minimum levels required under applicable RBC requirements.
Guaranty Funds and Risk Pools
Kemper’s insurance subsidiaries are required to pay assessments up to prescribed limits to fund policyholder losses or liabilities of insolvent insurance companies under the guaranty fund laws of most states in which they transact business. Kemper’s insurance subsidiaries are also required to participate in various involuntary pools or assigned risk pools, principally involving windstorms and high risk drivers. In most states, the involuntary pool participation of Kemper’s insurance subsidiaries is determined in proportion to their voluntary writings of related lines of business in such states.
Cybersecurity Regulation
Insurance regulators have been focusing increased attention on data security during financial exams, and new laws and regulations have been enacted or are pending that would impose new requirements and standards for protecting personally identifiable information of insurance company policyholders. For example, the New York Department of Financial Services cybersecurity regulation became effective in August 2017 requiring a cybersecurity program which promotes the protection of customer information as well as the information technology systems of regulated entities. In addition, the NAIC has adopted a new model data security law that imposes additional requirements on insurance companies to the extent the model law is ultimately adopted by the respective state legislatures. The NAIC has also strengthened and enhanced the cybersecurity guidance included in its handbook for state insurance examiners. The Company anticipates a continuing focus on new

 
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regulatory and legislative proposals at the state and federal levels that further regulate practices regarding privacy and security of personal information.
Holding Company Regulation, Including Enterprise Risk Management and Governance
We are regulated as an insurance holding company system and are subject to the insurance holding company acts of the states in which our insurance subsidiaries are domiciled and, in some case, additional states in which the insurance subsidiary is deemed commercially domiciled. These acts contain certain reporting requirements as well as restrictions on transactions between an insurer and its affiliates. These holding company laws and regulations generally require insurance companies within an insurance holding company system to register with the insurance department of each state where they are domiciled and to file with those states’ insurance departments certain reports describing capital structure, ownership, financial condition, certain intercompany transactions, an enterprise risk report and general business operations. In addition, various notice and reporting requirements generally apply to transactions between insurance companies and their affiliates within the insurance holding company system, depending on the size and nature of the transactions. Some insurance holding company laws and regulations require prior regulatory approval or, in certain circumstances, prior notice of certain material intercompany transfers of assets as well as certain transactions between insurance companies, their parent holding companies and affiliates.
Dividends
As a holding company with no significant business operations of its own, Kemper relies on dividends from its insurance subsidiaries to meet its obligations. Certain dividends and distributions by an insurance subsidiary are subject to prior approval by the insurance regulators of the state in which it is domiciled or commercially domiciled. See Item 1A., “Risk Factors,” under the caption, “The ability of Kemper to service its debt, to pay dividends to its shareholders and/or make repurchases of its stock may be materially impacted by lack of timely and/or sufficient dividends received from its subsidiaries.”
Change in Control Requirements
State insurance laws also impose requirements that must be met prior to a change of control of an insurance company or insurance holding company based on the insurer’s state of domicile and, in some cases, additional states in which the insurance subsidiary is deemed commercially domiciled. These requirements may include the advance filing of specific information with the state insurance regulators, a public hearing on the matter, and the review and approval of the change of control by such regulators. The Company has insurance subsidiaries domiciled or deemed commercially domiciled in Alabama, California, Illinois, Louisiana, Missouri, New York, Oklahoma, Oregon, Texas and Wisconsin. In these states, except Alabama, “control” generally is presumed to exist through the direct or indirect ownership of 10% or more of the voting securities of an insurance company. Control is presumed to exist in Alabama with a 5% or more ownership interest in such securities. Any purchase of Kemper’s shares that would result in the purchaser owning Kemper’s voting securities in the foregoing percentages for the states indicated would be presumed to result in the acquisition of control of the Company’s insurance subsidiaries in those states. Therefore, acquisitions subject to the 10% threshold generally would require the prior approval of insurance regulators in each state in which the Company’s insurance subsidiaries are domiciled or deemed commercially domiciled, including those in Alabama, while acquisitions subject to the 5% threshold generally would require the prior approval of only Alabama regulators. Similarly, consistent with the Model Holding Company Act, several of the states in which the Company’s insurance subsidiaries are domiciled have enacted legislation that requires either the divesting and/or acquiring company to notify regulators of, and in some cases to receive regulatory approval for, a change in control.
Many state statutes also require pre-acquisition notification to state insurance regulators of a change of control of an insurance company licensed in the state if specific market concentration thresholds would be triggered by the acquisition. Such statutes authorize the issuance of a cease and desist order with respect to the insurance company if certain conditions, such as undue market concentration, would result from the acquisition. These regulatory requirements may deter, delay or prevent transactions effecting control of Kemper or its insurance subsidiaries, or the ownership of Kemper’s voting securities, including transactions that could be advantageous to Kemper’s shareholders.
Many states have made, or are in the process of making, modifications to their holding company laws. These modifications impose new reporting requirements and substantially expand the oversight and examination powers of state insurance regulators to assess enterprise risks within the entire holding company system that may arise from both insurance and non-insurance subsidiaries. They also impose new reporting requirements on affiliated transactions and divestiture of a controlling interest in an insurance subsidiary.

 
13


Federal Government Regulation
Dodd-Frank Wall Street Reform and Consumer Protection Act and Other Financial Reform Efforts
As part of an effort to strengthen the regulation of the financial services market, the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) was enacted in 2010. The Dodd-Frank Act also created the Federal Insurance Office (“FIO”) within the U.S. Department of the Treasury (“Treasury”). The FIO monitors the insurance industry, provides advice to the Financial Stability Oversight Council (“FSOC”), represents the U.S. on international insurance matters, and studies the current regulatory system. The FIO submitted reports to Congress in 2013 and 2014 addressing how to improve and modernize the system of insurance regulation. The Dodd-Frank Act includes a number of financial reforms and regulations that may affect our business and financial reporting. However, the 2016 presidential and congressional election results have created uncertainty regarding the future of the Dodd-Frank Act and how it may impact our business.
Additional regulations or new requirements may emerge from activities of various regulatory entities, including the Federal Reserve Board, FIO, FSOC, NAIC and the International Association of Insurance Supervisors (“IAIS”), that are evaluating solvency and capital standards for insurance company groups. The outcome of these actions is uncertain; however, these actions may result in an increase in the level of capital and liquidity required by insurance holding companies.
Affordable Care Act
In 2010, the Patient Protection and Affordable Care Act, or ACA, as well as the Health Care and Education Reconciliation Act of 2010 (collectively, the “Health Care Acts”) became law, causing significant changes to the U.S. health care system. Since then, significant regulations have been enacted by the U.S. Department of Health and Human Services, or HHS, the Department of Labor and the Department of Treasury. The legislation and regulations are far-reaching and are intended to expand access to health insurance coverage over time by mandating that most individuals obtain and certain employers offer to their employees health insurance coverage that meets prescribed minimum benefit requirements, as well as establishing minimum loss ratios, rating restrictions, mandates for coverage of defined essential health benefits, restrictions or prohibitions on pre-existing condition exclusions and annual and lifetime policy limits. As a result of the complexity of the law, its impact on health care in the United States, the continuing modification and interpretation of the Health Care Acts made by statute, rule and/or executive order, and the on-going efforts to repeal or replace the ACA, we continue to analyze and refine our estimates of the ultimate impact of the Health Care Acts on our business, cash flows, financial condition and results of operations. Additionally, certain Kemper health insurance subsidiaries are potentially subject to the Health Insurance Providers Fee (the “Fee”) imposed on health insurers by the ACA. Recently enacted legislation placed a moratorium on the Fee otherwise payable in 2019. Additionally, there is currently legislation pending in the U.S. Congress that would repeal the Fee.
HIPAA and Gramm-Leach-Bliley Act
The federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, imposes obligations for issuers of health insurance coverage and health benefit plan sponsors. This law requires guaranteed renewability of health care coverage for most group health plans and certain individuals. Also, the law limited exclusions based on preexisting medical conditions.
The administrative simplification provisions of HIPAA imposed a number of requirements on covered entities, including insurers. The requirements include uniform standards of common electronic health care transactions; privacy and security regulations; and unique identifier rules for employers, health plans and providers. Additional federal privacy and security requirements, including breach notification, improved enforcement and additional limitations on use and disclosure of protected health information were passed through the Health Information Technology for Economic and Clinical Health, or HITECH, Act provisions of the American Recovery and Reinvestment Act of 2009 and corresponding implementing regulations.
The federal Gramm-Leach-Bliley Act generally places restrictions on the disclosure of non-public information to non-affiliated third parties, and requires financial institutions, including insurers, to provide customers with notice regarding how their non-public personal information is used, including an opportunity to “opt out” of certain disclosures. State departments of insurance and certain federal agencies adopted implementing regulations as required by federal law. In addition, a number of states have adopted data security laws and/or regulations, regulating data security and/or requiring security breach notification, which may apply to us in certain circumstances.

 
14


Item 1A.    Risk Factors.
Kemper is exposed to numerous risk factors that could cause actual results to differ materially from recent results or anticipated future results. The following discussion details the significant risk factors that are specific to the Company. In addition to those described below, the Company’s business, financial condition and results of operations could be materially affected by other factors not presently known by, or considered material to, the Company. Readers are advised to consider all of these factors along with the other information included in this 2017 Annual Report, including the factors set forth under the caption “Caution Regarding Forward-Looking Statements” beginning on page 1, and to consult any further disclosures Kemper makes on related subjects in its filings with the SEC.
Risks Relating to Legal and Regulatory Environment
Kemper’s insurance subsidiaries are subject to significant regulation, and the evolving legal and regulatory landscape in which they operate could result in increased operating costs, reduced profitability and limited growth.
Kemper’s insurance subsidiaries operate under an extensive insurance regulatory system. Current laws and regulations encompass a wide variety of matters, including policy forms, premium rates, licensing, market conduct, trade practices, claims practices, reserve and loss ratio requirements, investment standards, statutory capital and surplus requirements, restrictions on the payment of dividends, approvals of transactions involving a change in control of one or more insurance companies, restrictions on transactions among affiliates and consumer privacy and data security. They also require the filing of annual and quarterly financial reports and holding company reports. Pre-approval requirements often restrict the companies from implementing premium rate changes for property, casualty and health insurance policies, introducing new, or making changes to existing, policy forms and many other actions. Insurance regulators conduct periodic examinations of Kemper’s insurance subsidiaries and can suspend or delay their operations or licenses, require corrective actions, and impose penalties or other remedies available for compliance failures. For a more detailed discussion of the regulations applicable to Kemper’s subsidiaries and related emerging developments, see “Regulation” in Item 1, beginning on page 12.
These laws and regulations, and their interpretation by the various regulators and courts, are undergoing continual revision and expansion. The legal and regulatory landscape within which Kemper’s insurance subsidiaries conduct their businesses is often unpredictable. As industry practices and regulatory, judicial, political, social and other conditions change, issues may emerge, whether intended or not. These changes and emerging issues could adversely affect Kemper’s insurance subsidiaries in a variety of ways, including, for example, by expanding coverages beyond the underwriting intent, increasing the number or size of claims, accelerating the payment of claims or adding to operational costs. Industry practices that were once considered approved, compliant and reasonable may suddenly be deemed unacceptable by virtue of a court or regulatory ruling or changes in regulatory enforcement policies and practices. It is not possible for the Company to predict such shifts in legal or regulatory enforcement or to accurately estimate the impact they may have on the Company and its operations.
One area where the legal and regulatory landscape is experiencing significant change is in connection with the mandated use of death verification databases by life insurance companies in their policy administration and claims handling practices. In recent years, many states have adopted new laws requiring insurers to proactively use such databases, including the Social Security Administration’s Death Master File (the “DMF”), to varying degrees in order to ascertain if an insured may be deceased. More than half of the states have adopted such laws, and Kemper cannot predict whether additional states will enact similar legislation or, if enacted, what form such legislation may take. These laws require the insurer to initiate the claims process even though the insureds’ beneficiaries have not submitted a claim, including proof of death, as required by regulator-approved policy forms and the insurer was otherwise unaware of the insured’s death. In a related development, many states have expanded the application of their unclaimed property laws, particularly as they relate to life insurance proceeds, and the treasurers or controllers of a large number of states have engaged audit firms to examine the practices of life insurance companies with respect to the reporting and remittance of such proceeds under unclaimed property laws. The push to alter historic practices that were previously considered lawful and appropriate relative to both claims handling and remittance of life insurance policy proceeds under unclaimed property laws has caused the Company to be involved in compliance audits, market conduct examinations and litigation. The Company is in the process of implementing a voluntary, comprehensive process that began in 2016 to compare life insurance records against the DMF and other databases to determine if any of its insured may be deceased. See Note 2, “Summary of Accounting Policies and Accounting Changes,” and Note 23, “Contingencies,” to the Consolidated Financial Statements for further details.
The financial services industry, including insurance companies and their holding company systems, remains under regulatory scrutiny. While it is not possible to predict how new laws or regulations or new interpretations of existing laws and regulations may impact the operations of Kemper’s insurance subsidiaries, several developments have the potential to significantly impact such operations. This includes increased regulatory focus on cybersecurity and state adoption of extensive modifications to state

 
15


holding company laws that substantially expand the oversight and examination powers of state insurance regulators beyond licensed insurance companies to their non-insurance affiliates and their organizations as a whole, particularly with respect to enterprise risk. In addition, the Health Care Acts have resulted in regulations affecting health insurers such as Reserve National, and potential changes to the state insurance regulatory system may result from the Dodd-Frank Act. See the discussion of these matters under “Regulation” in Item 1, beginning on page 12.
These new developments and significant changes in, or new interpretations of, existing laws and regulations could make it more expensive for Kemper’s insurance subsidiaries to conduct and grow their businesses which could materially impact the Company’s operating results.
Legal and regulatory proceedings are unpredictable and could produce one or more unexpected verdicts against the Company that could materially and adversely affect the Company’s financial results for any given period.
Kemper and its subsidiaries are from time to time involved in lawsuits, regulatory inquiries and other legal proceedings arising out of the ordinary course of their businesses. Some of these proceedings may involve matters particular to Kemper or one or more of its subsidiaries, while others may pertain to business practices in the industry in which Kemper and its subsidiaries operate. Some lawsuits may seek class action status that, if granted, could expose the Company to potentially significant liability by virtue of the size of the putative classes. These matters often raise difficult factual and legal issues and are subject to uncertainties and complexities. The outcomes of these matters are difficult to predict, and the amounts or ranges of potential loss at particular stages in the proceedings are in most cases difficult or impossible to ascertain. A further complication is that even where the possibility of an adverse outcome is remote under traditional legal analysis, juries sometimes substitute their subjective views in place of facts and established legal principles. Given the unpredictability of the legal and regulatory landscape in which the Company operates, there can be no assurance that one or more of these matters will not produce a result that could materially and adversely affect the Company’s financial results for any given period.
For information about the Company’s pending legal proceedings, see Note 23, “Contingencies,” to the Consolidated Financial Statements.
Risks Relating to Catastrophes and Estimating Property and Casualty Insurance Losses and Loss Adjustment Expenses
Catastrophe losses could materially and adversely affect the Company’s results of operations, liquidity and/or financial condition.
Kemper’s property and casualty insurance subsidiaries are subject to claims arising out of catastrophes that may have a significant effect on their results of operations, liquidity and financial condition. Catastrophes can be caused by various events, including, but not limited to, hurricanes, tornadoes, windstorms, earthquakes, hailstorms, explosions, severe winter weather and wildfires and may include man-made events, such as terrorist attacks and hazardous material spills. The incidence, frequency and severity of catastrophes are inherently unpredictable and may be impacted by the uncertain effects of climate change. The extent of the Company’s losses from a catastrophe is a function of both the total amount of insured exposure in the geographic area affected by the event and the severity of the event. The Company could experience more than one severe catastrophic event in any given period.
Kemper’s life and health insurance subsidiaries are particularly exposed to risks of catastrophic mortality, such as pandemic or other events that result in large numbers of deaths. In addition, the occurrence of such an event in a concentrated geographic area could have a severe disruptive effect on the Company’s workforce and business operations. The likelihood and severity of such events cannot be predicted and are difficult to estimate.
The property and casualty insurance subsidiaries use catastrophe modeling tools developed by third parties to project their potential exposure to property damage resulting from catastrophic events under various scenarios. Such models are based on various assumptions and judgments which may turn out to be wrong. The actual impact of one or more catastrophic events could adversely and materially differ from these projections.
Changes in the availability and cost of catastrophe reinsurance and in the ability of reinsurers to meet their obligations could result in Kemper’s insurance subsidiaries retaining more risk and could adversely and materially affect the Company’s results of operations, financial condition and/or liquidity.
Kemper’s property and casualty insurance subsidiaries seek to reduce their exposure to catastrophe losses through the purchase of catastrophe reinsurance. Catastrophe reinsurance does not relieve such subsidiaries of their direct liability to their policyholders. As long as the reinsurers meet their obligations, the net liability for such subsidiaries is limited to the amount of risk that they retain. While such subsidiaries’ principal reinsurers are each rated “A-” or better by A.M. Best at the time

 
16


reinsurance is purchased, the Company cannot be certain that reinsurers will pay the amounts due from them either now, in the future, or on a timely basis. A reinsurer’s insolvency or inability to make payments under the terms of its reinsurance agreement could materially and adversely affect the Company’s financial position, results of operations and liquidity.
In addition, market conditions beyond the Company’s control determine the availability of the reinsurance protection that Kemper’s property and casualty insurance subsidiaries may purchase. A decrease in the amount of reinsurance protection that such subsidiaries purchase generally should increase their risk of a more severe loss. However, if the amount of available reinsurance is reduced, such subsidiaries may be forced to incur additional expenses for reinsurance or may not be able to obtain sufficient reinsurance on acceptable terms, which could adversely affect the ability of such subsidiaries to write future insurance policies or result in their retaining more risk with respect to such policies.
The extent to which Kemper’s insurance subsidiaries can manage their catastrophe exposure through underwriting strategies may be limited by law or regulatory action and could adversely and materially affect the Company’s results of operations, financial condition and/or liquidity.
Kemper’s property and casualty insurance subsidiaries also manage their exposure to catastrophe losses through underwriting strategies such as reducing exposures in, or withdrawing from, catastrophe-prone areas, establishing appropriate guidelines for insurable structures, and setting appropriate rates, deductibles, exclusions and policy limits. The extent to which such subsidiaries can manage their exposure through such strategies may be limited by law or regulatory action. For example, laws and regulations may limit the rate or timing at which insurers may non-renew insurance policies in catastrophe-prone areas or require insurers to participate in wind pools and joint underwriting associations. Generally, an insurer’s participation in such pools and associations are based on the insurer’s market share determined on a state-wide basis. Accordingly, even though Kemper’s property and casualty insurance subsidiaries may not incur a direct insured loss as a result of managing direct catastrophe exposures, they may incur indirect losses from required participation in pools and associations. Laws and regulations requiring prior approval of policy forms and premium rates may limit the ability of Kemper’s property and casualty insurance subsidiaries to increase rates or deductibles on a timely basis, which may result in additional losses or lower returns than otherwise would have occurred in an unregulated market. See the risk factor above under the title “Kemper’s insurance subsidiaries are subject to significant regulation, and the evolving legal and regulatory landscape in which they operate could result in increased operating costs, reduced profitability and limited growth.
Estimating losses and LAE for determining property and casualty insurance reserves, or determining premium rates, is inherently uncertain, and the Company’s results of operations may be materially impacted if the Company’s insurance reserves or premium rates are insufficient.
The Company establishes loss and LAE reserves to cover estimated liabilities, which remain unpaid as of the end of each accounting period, and to investigate and settle all claims incurred under the property and casualty insurance policies that it has issued. Loss and LAE reserves are established for claims that have been reported to the Company as of the end of the accounting period, as well as for claims that have occurred but have not yet been reported to the Company. The estimates of loss and LAE reserves are based on the Company’s assessment of the facts and circumstances known to it at the time, as well as estimates of the impact of future trends in the severity of claims, the frequency of claims and other factors.
The process of estimating property and casualty insurance reserves is complex and imprecise. The reserves established by the Company are inherently uncertain estimates and could prove to be inadequate to cover its ultimate losses and expenses for insured events that have occurred. The estimate of the ultimate cost of claims for insured events that have occurred must take into consideration many factors that are dependent on the outcome of future events associated with the reporting, investigation and settlement of claims. The impacts on the Company’s estimates of property and casualty insurance reserves from these factors are difficult to assess accurately. A change in any one or more of the factors is likely to result in a projected ultimate loss that is different than the previous projected ultimate loss and may have a material impact on the Company’s estimate of the projected ultimate loss. Increases in the estimates of ultimate losses and LAE will decrease earnings, while decreases in such estimates will increase earnings, as reported by the Company in the results of its operations for the periods in which the changes to the estimates are made by the Company. See MD&A, “Critical Accounting Estimates,” under the caption “Property and Casualty Insurance Reserves for Losses and Loss Adjustment Expenses” beginning on page 64 for a discussion of the Company’s reserving process and the factors considered by the Company’s actuaries in estimating the Company’s Property and Casualty Insurance Reserves.
The Company’s actuaries also consider trends in the severity and frequency of claims and other factors when determining the premium rates to charge for its property and casualty insurance products. An unanticipated change in any one or more of these factors or trends, as well as a change in competitive conditions, may also result in inadequate premium rates charged for

 
17


insurance policies issued by Kemper’s property and casualty insurance subsidiaries in the future. Such pricing inadequacies could have a material impact on the Company’s operating results.
Risks Relating to Competition
A downgrade in the ratings of Kemper or its insurance subsidiaries could materially and adversely affect the Company.
Third-party rating agencies assess the financial strength and rate the claims-paying ability of insurance companies based on criteria established by the rating agencies. Third-party ratings are important competitive factors in the insurance industry. Financial strength ratings are used to assess the financial strength and quality of insurers. Ratings agencies may downgrade the ratings of Kemper and/or its insurance subsidiaries or require Kemper to retain more capital in its insurance businesses to maintain existing ratings following developments that they deem negative. This can include factors directly related to the Company, such as an increase in the catastrophic risk retained by Kemper’s insurance subsidiaries, or developments in industry or general economic conditions. A downgrade by A.M. Best in the ratings of Kemper’s insurance subsidiaries, particularly those operating in the preferred and standard market or offering homeowners insurance, could result in a substantial loss of business if independent agents and brokers or policyholders of such subsidiaries move to other companies with higher claims-paying and financial strength ratings. Any substantial loss of business could materially and adversely affect the financial condition and results of operations of such subsidiaries. A downgrade in Kemper’s credit rating by Standard & Poor’s (“S&P”), Moody’s Investors Services (“Moody’s”) or Fitch Ratings (“Fitch”) may reduce Kemper’s ability to access the capital markets or may increase the cost to refinance existing debt.
The insurance industry is highly competitive, making it difficult to grow profitability and within expectations of investors.
The Company’s insurance businesses face significant competition, and their ability to compete is affected by a variety of issues relative to others in the industry, such as quality of management, product pricing, service quality, financial strength and name recognition. Competitive success is based on many factors, including, but not limited to, the following:
Competitiveness of prices charged for insurance policies;
Sophistication of pricing segmentation;
Design and introduction of insurance products to meet emerging consumer trends;
Selection and retention of agents and other business partners;
Compensation paid to agents;
Underwriting discipline;
Selectiveness of sales markets;
Effectiveness of marketing materials and name recognition;
Product and technological innovation;
Ability to settle claims timely and efficiently;
Ability to detect and prevent fraudulent insurance claims;
Effectiveness of deployment and use of information technology across all aspects of operations;
Ability to control operating expenses;
Financial strength ratings; and
Quality of services provided to, and ease of doing business with, independent agents and brokers or policyholders.
The inability to compete effectively in any of the Company’s insurance businesses could materially reduce the Company’s customer base and revenues and could materially and adversely affect the future results and financial condition of the Company.
See “Competition” in Item 1 of Part I beginning on page 9 and page 11, for more information on the competitive rankings in the property and casualty insurance markets and the life and health insurance markets, respectively, in the United States.
Risks Relating to Technology Initiatives, Security of Personal Data and Availability of Critical Systems
Technology initiatives could present significant economic and competitive challenges to the Company. Failure to complete and implement such initiatives in a timely manner could result in the loss of business and incurrence of internal use software development costs that may not be recoverable.
Data and analytics play an increasingly important role in the insurance industry. The Company may periodically initiate multi-year technology projects to enhance operations or replace aging systems. While technology developments can facilitate the use of data and analytics, streamline business processes and ultimately reduce the cost of operations, technology initiatives can present significant economic and organizational challenges to the Company and potential short-term cost and implementation

 
18


risks. In addition, projections of expenses and implementation schedules could change materially and costs could escalate over time, while the ultimate utility of a technology initiative could deteriorate over time.
Due to the highly-regulated nature of the financial services industry, the Company also faces rising costs and competing time constraints in adapting technology to meet compliance requirements of new and proposed regulations. The costs to develop and implement systems to replace the Company’s aging systems and to comply with new regulatory requirements as needed over time are expected to be material. Due to the complexities involved, there can be no assurances that new multi-year projects will be successful and that the costs incurred to develop and implement replacement systems will be recoverable. Furthermore, failure to implement replacement systems in a timely manner could result in loss of business from the Company’s inability to design and introduce new insurance products that meet emerging consumer needs competitive trends.
Failure to maintain the security of personal data may result in lost business, reputational harm, legal costs and regulatory penalties.
Kemper’s insurance subsidiaries obtain and store vast amounts of personal data that can present significant risks to the Company and its customers and employees. An increasing array of laws and regulations govern the use and storage of such data, including, for example, social security numbers, credit card data and protected health information. Despite the implementation of various security measures, the Company’s data systems, or those of its third party administrators and other business partners working on behalf of the Company, may be vulnerable to security breaches due to the increasing sophistication of cyber-attacks, viruses, malware, hackers and other external hazards, as well as equipment and system failures and inadvertent errors, negligence or intentional misconduct of employees and/or contractors. The Company also relies on the ability of its business partners to maintain secure systems and processes that comply with legal requirements and protect personal data. These increased risks and expanding regulatory requirements related to personal data privacy and security expose the Company to potential data loss and resulting damages, regulatory fines and other liabilities, reputational risk and significant increases in compliance and litigation costs. Although Kemper maintains cyber risk insurance, there is no guarantee that it will be sufficient to cover all of the costs of one or more data breach incidents that could occur.
The Company relies increasingly on electronic payments from policyholders, including, but not limited to, payment by credit and debit cards. In the event of non-compliance with the Payment Card Industry Data Security Standard, an information security framework for organizations that handle cardholder information for the major debit, credit, prepaid, e-purse, ATM and point-of-sale cards, such organizations could prevent Kemper’s insurance subsidiaries from collecting premium payments from customers by way of such cards and impose significant fines on Kemper’s insurance subsidiaries.
Failure to maintain the availability of critical systems may result in lost business, reputational harm, legal costs and regulatory penalties.
The Company’s business operations rely on the continuous availability of its computer systems, including computer systems used by third party administrators working on behalf of the Company. In addition to disruptions caused by cyber-attacks or other data breaches, such systems may be adversely affected by natural and man-made catastrophes. The failure of the Company, or its third party administrators or other business partners, to maintain business continuity in the wake of such events may prevent the timely completion of critical processes across its operations, including, for example, insurance policy administration, claims processing, billing, treasury and investment operations and payroll. These failures could result in significant loss of business, fines and litigation.
Risks Relating to Investments
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.
The Company maintains a diversified investment portfolio that is exposed to significant financial and capital market risks, including interest rate (risk-free and spread), equity price, and liquidity, as well as risks from changes in tax laws and regulations and other risks from changes in general economic conditions.
The interest rate environment has a significant impact on the Company’s financial results and position. In recent years, rates have been at or near historic lows. A protracted low interest rate environment would continue to place pressure on net investment income, particularly related to fixed income securities, short-term investments and limited liability investment companies and limited partnerships accounted for under the equity method of accounting (“Equity Method Limited Liability Investments”) that invest in distressed and mezzanine debt of other companies. A decline in interest rates would generally increase the carrying value of the Company’s fixed income securities and its Equity Method Limited Liability Investments that exhibit debt-like characteristics, but it may adversely affect the Company’s investment income as it invests cash in new

 
19


investments that may yield less than the portfolio’s average rate. In a declining interest rate environment, borrowers may seek to refinance their borrowings at lower rates and, accordingly, prepay or redeem securities the Company holds as investments more quickly than the Company initially expected. Such prepayment or redemption action may cause the Company to reinvest the redeemed proceeds in lower yielding investments. An increase in interest rates would generally reduce the carrying value of a substantial portion of the Company’s investment portfolio, particularly fixed income securities and Equity Method Limited Liability Investments.
The Company invests a portion of its investment portfolio in equity securities, which generally have more volatile returns than fixed income securities and may experience sustained periods of depressed values. There are multiple factors that could negatively impact the performance of the Company’s equity portfolio, including general economic conditions, industry or sector deterioration and issuer-specific concerns. A decline in equity values may result in a decrease in dividend income, realized losses upon sales of the securities, or other-than-temporary impairment charges on securities still held.
Interest rates and equity returns also have a significant impact on the Company’s pension and other postretirement employee benefit plans. In addition to the impact on carrying values and yields of the underlying assets of the funded plans, interest rates also impact the discounting of the projected and accumulated benefit obligations of the plans. A decrease in interest rates may have a negative impact on the funded status of the plans.
The nature and cash flow needs of the Company and the insurance industry in general present certain liquidity risks that may impact the return of the investment portfolio. If the Company were to 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 to claimants, which could result in realized losses. Additionally, increases in illiquidity in the financial markets may increase uncertainty in the valuations of the Company’s investments. This increases the risk that the fair values reported in the Company’s consolidated financial statements may differ from the actual price that may be obtained in an orderly sales transaction.
The Company has also benefited from certain tax laws related to its investment portfolio, including dividends received deductions and tax-exempt investment income. Changes in tax laws may have a detrimental effect on the after-tax return of the Company’s investment portfolio. A reduction in income tax rates could also reduce the demand for tax-preferenced securities and result in a decline in the value of the Company’s investment portfolio of such securities.
The Company’s entire investment portfolio is subject to broad risks inherent in the financial markets, including, but not limited to, inflation, regulatory changes, inactive capital markets, governmental and social stability, economic outlooks, unemployment and recession. Changes to these risks and how the market perceives them may impact the financial performance of the Company’s investments.
Kemper and its insurance subsidiaries are subject to various capital adequacy measurements that are significantly impacted by various characteristics of their invested assets, including, but not limited to, asset type, class, duration and credit rating. The Company’s insurance subsidiaries are also subject to various limitations on the amounts at which they can invest in individual assets or certain asset classes in the aggregate. Asset risk is one factor used by insurance regulators and rating agencies to determine required capital for Kemper’s insurance subsidiaries. Accordingly, a deterioration in the quality of the investments held by Kemper’s insurance subsidiaries or an increase in the investment risk inherent in their investment portfolios could increase capital requirements. See the risk factor below under the title “The ability of Kemper to service its debt, pay dividends to its shareholders and/or make repurchases of its stock may be materially impacted by lack of timely and/or sufficient dividends received from its subsidiaries.” These factors may inhibit the Company from shifting its investment mix to produce higher returns. The Company is also subject to concentration of investment risk to the extent that the portfolio is heavily invested, at any particular time, in specific asset types, classes, industries, sectors or collateral types, among other defining features. Developments and the market’s perception thereof in any of these concentrations may exacerbate the negative effects on the Company’s investment portfolio compared to other companies.
The determination of the fair values of the Company’s investments and whether a decline in the fair value of an investment is other-than-temporary are based on management’s judgment and may prove to be materially different than the actual economic outcome.
The Company holds a significant amount of assets without readily available, active, quoted market prices or for which fair value cannot be measured from actively quoted prices. These assets are generally deemed to require a higher degree of judgment in measuring fair value. The assumptions used by management to measure fair values could turn out to be different than the actual amounts that may be realized in an orderly transaction with a willing market participant could be either lower or higher than the Company’s estimates of fair value.

 
20


The Company reviews its investment portfolio for factors that may indicate that a decline in the fair value of an investment is other-than-temporary. This evaluation is based on subjective factors, assumptions and estimates and may be materially different than the actual economic outcome, which may result in the Company recognizing additional losses in the future as new information emerges or recognizing losses currently that may never materialize in the future in an orderly transaction with a willing market participant.
Risks Relating to Servicing Debt, Paying Dividends and/or Repurchasing Stock
The ability of Kemper to service its debt, pay dividends to its shareholders and/or make repurchases of its stock may be materially impacted by lack of timely and/or sufficient dividends received from its subsidiaries.
As a holding company, Kemper depends on the dividend income that it receives from its subsidiaries as the primary source of funds to meet its payment obligations. Kemper’s insurance subsidiaries are subject to significant regulatory restrictions under state insurance laws and regulations that limit their ability to declare and pay dividends. These laws and regulations impose minimum solvency and liquidity requirements on dividends between affiliated companies and require prior notice to, and may require approval from, state insurance regulators before dividends can be paid. In addition, third-party rating agencies monitor statutory capital and surplus levels for capital adequacy. Even though a dividend may be payable without regulatory approval, an insurance subsidiary may forgo paying a dividend to Kemper and retain the capital to maintain or improve the ratings of Kemper’s insurance subsidiaries, or to offset increases in required capital from increases in premium volume or investment risk. The inability of one or more of Kemper’s insurance subsidiaries to pay sufficient dividends to Kemper may materially affect Kemper’s ability to pay its debt obligations on time, to pay dividends to its shareholders or make repurchases of its stock.
General Risks Relating to Mergers, Acquisitions and/or Divestitures
The expected benefits and synergies from mergers, acquisitions and/or divestitures may not be realized to the extent anticipated or within the anticipated time frames.
The Company routinely evaluates opportunities for transactions such as mergers, acquisitions and/or divestitures that would enhance its business and align with the Company’s strategic plans. Kemper’s ability to achieve the anticipated financial benefits from transactions may not be realized, due to any number of factors including, but not limited to, integration difficulties or failures, the loss of key agents/brokers, customers or employees, unexpected or underestimated liabilities, increased costs, fees, expenses and charges related to transactions, or may be delayed by factors outside of the Company’s control. Furthermore, such adverse events could result in a decrease in the estimated fair value of goodwill or other intangible assets established as a result of such transactions, triggering an impairment. These and other factors could have a negative impact on Kemper’s financial condition, profitability and results from operations.
Risks Relating to the Infinity Merger
Failure to complete the proposed Merger within the expected timeframe or at all could have a material adverse impact on our business, financial condition and results of operations.
Approvals, Clearance and Closing Conditions
There can be no assurance that the Infinity Merger will occur. The closing of the Infinity Merger is subject to certain conditions, including, among others, (i) the adoption of the Infinity Merger Agreement by the holders of at least a majority of the outstanding shares of Infinity common stock entitled to vote thereon, (ii) approval of the issuance of shares of Kemper’s common stock in the Infinity Merger by the holders of at least a majority of the shares of Kemper common stock entitled to vote thereon and present in person or represented by proxy at the meeting of Kemper’s stockholders called for such purpose, (iii) the receipt of certain regulatory approvals including the expiration or earlier termination of the waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, approvals of applicable state insurance regulators identified in the Infinity Merger Agreement and the receipt of any other regulatory approval the failure of which to be obtained would reasonably be likely to have a material adverse effect on Kemper or its subsidiaries, (iv) no court order or other legal restraint or prohibition preventing the consummation of the Infinity Merger being in effect, (v) the continued employment of a certain number of specified Infinity leadership management employees and certain percentages of sub-groups of a broader set of key Infinity employees, (vii) no exercise of appraisal rights in connection with the Infinity Merger by Infinity shareholders holding more than 10% of the outstanding shares of Infinity’s common stock, (viii) the absence of any action commenced by a governmental entity wherein a judgment would reasonably be expected to prevent the consummation of the Infinity Merger or impose a “materially burdensome condition” (as defined in the Infinity Merger Agreement), (ix) in the case of each party’s obligation to effect the Infinity Merger, the absence of a material adverse effect with respect to the other party since the date of the Infinity Merger Agreement and (x) subject to materiality exceptions, the accuracy of the representations and warranties

 
21


made by Kemper and Kemper Merger Sub, on the one hand, and Infinity, on the other hand, and compliance by Kemper and Kemper Merger Sub, on the one hand, and Infinity, on the other hand, in all material respects with each party’s respective obligations under the Infinity Merger Agreement. Such closing conditions are not solely under the control of Kemper and/or Infinity and, accordingly, there can be no assurance that such closing conditions will be satisfied in a timely matter or at all.
In particular, before the proposed transactions contemplated by the Infinity Merger Agreement, including the Infinity Merger, may be completed, various clearances and approvals must be obtained from certain regulatory and governmental authorities. These regulatory and governmental entities may impose conditions on the granting of such approvals. Such conditions and the process of obtaining regulatory approvals could have the effect of delaying completion of the Infinity Merger or of imposing additional costs or limitations on the combined company following the Infinity Merger. The regulatory approvals may not be received at all, may not be received in a timely fashion and may contain conditions on the completion of the Infinity Merger. If any such conditions constitute a “materially burdensome condition” (as defined in the Infinity Merger Agreement), the parties may not be obligated to complete the Infinity Merger, and either Kemper or Infinity may have the right to terminate the Infinity Merger Agreement.
Impact on Our Ongoing Business
If the Infinity Merger is not completed, our ongoing business may be adversely affected, and we will be subject to several risks and consequences, including the following:
we will be required to pay certain costs related to the Infinity Merger, whether or not the Infinity Merger is completed, such as legal, accounting and other costs incurred in connection with the transaction;
under the Infinity Merger Agreement, we are subject to certain restrictions on the conduct of our business prior to completing the Infinity Merger that may adversely affect our ability to execute certain of our business strategies; and
our management may spend substantial time and resources, including time and resources devoted to planning integration activities, related to the transaction, which could otherwise have been devoted to other opportunities that may have been beneficial to us.
In addition, if the Infinity Merger is not completed, we may experience negative reactions from the financial markets and from our agents, policyholders and employees. We also could be subject to litigation related to the Infinity Merger.
We will incur significant transaction and integration costs in connection with the Infinity Merger.
If the transaction is completed, we expect to incur various costs associated with completing the transaction, including financial advisory costs, and integrating the operations of the two companies. A substantial majority of these costs will be non-recurring expenses resulting from the transaction including (i) transaction costs, including costs to compensate financial advisors for their services, (ii) facilities and systems consolidation and integration costs and (iii) employment related costs. We may incur additional unanticipated costs to integrate our business with Infinity’s business. As a result of such integration and consolidation activities, we may abandon, or shorten the useful lives, of assets that we currently use, which may result in us impairing an asset or accelerating depreciation and/or amortization of such assets. Although we expect that the elimination of redundant costs, as well as the realization of other efficiencies related to the integration of the businesses, will offset such incremental, non-recurring costs over time, this net benefit may not be achieved in the near term, or at all.
The announcement and pendency of the Infinity Merger may adversely affect Kemper’s business, financial condition and results of operations.
The announcement and pendency of the Infinity Merger with Infinity may cause disruptions and create uncertainty surrounding Kemper’s business, which could affect its relationships with agents, employees and business partners, regardless of whether the Infinity Merger is consummated. In addition, Kemper has diverted, and will continue to divert, management resources towards the completion of the proposed transaction that may divert management’s attention and Kemper’s resources from ongoing business and operations.
The price of Kemper common stock might increase or decline prior to the completion of the Infinity Merger, which would change the value of the Infinity Merger consideration to be received by Infinity shareholders pursuant to the Infinity Merger Agreement.
The price of our common stock might increase or decline prior to the completion of the transaction, which would change the value of the consideration to be received by Infinity’s shareholders at the closing, which could result in the shareholders of either, or both, companies not approving the transaction. Upon completion of the Infinity Merger, each share of Infinity common stock issued and outstanding as of immediately prior to the consummation of the Infinity Merger (other than as set

 
22


forth in the Infinity Merger Agreement) will be canceled and converted into, at the election of the holder of such share, the right to receive $51.60 in cash and 1.2019 shares of Kemper common stock for each share of Infinity common stock, without interest thereon. The Infinity Merger Agreement also provides for an election procedure allowing each Infinity shareholder to seek all cash or all 0stock consideration, subject to automatic proration and adjustment (See Note 26, “Subsequent Events,” to the Consolidated Financial Statements for more information). The exchange ratio for determining the number of shares of Kemper common stock that Infinity shareholders will receive in the Infinity Merger is fixed and will not be adjusted for changes in the market price of Kemper’s common stock. A significant increase in the price of Kemper common stock could result in Kemper recognizing substantially more goodwill resulting from the transaction than currently contemplated. We are required to evaluate goodwill for recoverability at least annually based on facts and circumstances existing as of the dates of such evaluations. We cannot make any assurances that goodwill will be recoverable at any of such evaluation dates.
The Infinity Merger Agreement contains provisions that may discourage other companies from trying to acquire Kemper.
The Infinity Merger Agreement contains provisions that apply both during the pendency of the Infinity Merger transaction with Infinity as well as afterward should the Infinity Merger with Infinity not be consummated that may discourage a third party from submitting a business combination proposal to Kemper that might result in greater value to Kemper’s stockholders than the Infinity Merger. These Infinity Merger Agreement provisions include a general prohibition on Kemper soliciting, or, subject to certain exceptions, entering into discussions with any third party regarding any acquisition proposal or offers for competing transactions.
The issuance of shares of Kemper common stock to Infinity shareholders pursuant to the Infinity Merger Agreement will reduce the percentage ownership interests of Kemper’s pre-existing stockholders.
If the transaction is completed, we expect to issue approximately 13.2 million shares of Kemper common stock to Infinity’s shareholders and Infinity’s shareholders will own approximately 20% of the combined company. The issuance of such shares of our common stock will result in a significant reduction in the relative percentage interests of our current stockholders in earnings, voting, liquidation value and book and market value. While, excluding the impact of non-recurring transaction and integration costs, we currently anticipate that the Infinity Merger will be accretive to Kemper’s earnings per share in the first year following the completion of the transaction,our expectation is based on estimates, which may materially change. We could also encounter additional transaction and integration related costs or other factors such as the failure to realize all of the benefits anticipated in the transaction. All of these factors could cause dilution to our earnings per share or decrease or delay the expected accretive effect of the transaction, which may result in a decrease in the price of our common stock.
To be successful, the combined company following the Infinity Merger must retain and motivate key employees, including those experienced with post-acquisition integration, and failure to do so could seriously harm the combined company.
The success of the combined company following the Infinity Merger largely depends on the skills, experience and continued efforts of management and other key personnel for each of Kemper and Infinity. As a result, to be successful, the combined company must retain and motivate executives and other key employees. Certain specified management employees of Infinity have executed retention letters and related employment agreements with Kemper to continue their employment for a period of two years following the Infinity Merger. However, certain key managers and functional area employees will continue to be at‑will employees following the Infinity Merger and there is no assurance that these individuals will remain with the combined company. If these personnel were to leave, the combined company may experience increased difficulty in managing the ongoing business operations and integrating the businesses and may not be able to adequately replace such personnel, which could have a material adverse effect on the combined company’s overall business, results of operations and financial condition.
We cannot assure our shareholders that the risks described above in this risk factor will not materialize and will not materially adversely affect our business, financial results and stock prices.
Item 1B.    Unresolved Staff Comments.
Not applicable.

 
23


Item 2.    Properties.
Owned Properties
Kemper’s subsidiaries together own and occupy six buildings located in six states consisting of approximately 21,000 square feet in the aggregate. One of Kemper’s subsidiaries owns two buildings totaling approximately 6,000 square feet which were vacant at December 31, 2017. Kemper’s subsidiaries hold, solely for investment purposes, additional properties that are not occupied by Kemper or its subsidiaries.
Leased Facilities
The Company leases five floors, or approximately 67,000 square feet, in a 41-story office building in Chicago for its corporate headquarters and Property & Casualty Insurance segment’s headquarters. The lease expires in September 2023. Kemper’s Property & Casualty Insurance segment leases facilities with an aggregate square footage of approximately 452,000 at 14 locations in nine states. The latest expiration date of the existing leases is in June 2025. Kemper’s Life & Health Insurance segment leases facilities with aggregate square footage of approximately 470,000 at 127 locations in 28 states. The latest expiration date of the existing leases is in January 2025. Kemper’s corporate data processing operation leases facilities with aggregate square footage of approximately 36,000 square feet at three locations in three states. The latest expiration date of the existing leases is in June 2021.
The properties described above are in good condition. The properties utilized in the Company’s operations consist of facilities suitable for general office space, call centers and data processing operations.
Item 3.    Legal Proceedings.
Proceedings
Information concerning pending legal proceedings is incorporated herein by reference to Note 23, “Contingencies,” to the Consolidated Financial Statements.
Item 4.    Mine Safety Disclosures.
Not applicable.

 
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PART II
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
Market Information
Kemper’s common stock is traded on the New York Stock Exchange (the “NYSE”) under the symbol of “KMPR.” Quarterly information pertaining to market prices of Kemper common stock in 2017 and 2016 is presented below.
DOLLARS PER SHARE
 
Three Months Ended
 
Year Ended
Mar 31,
2017
 
Jun 30,
2017
 
Sep 30,
2017
 
Dec 31,
2017
 
Dec 31,
2017
Common Stock Market Prices:
 
 
 
 
 
 
 
 
 
 
High
 
$
45.85

 
$
42.10

 
$
53.05

 
$
71.52

 
$
71.52

Low
 
38.35

 
36.55

 
36.35

 
52.85

 
36.35

Close
 
39.90

 
38.60

 
53.00

 
68.90

 
68.90

 
 
 
 
 
 
 
 
 
 
 
DOLLARS PER SHARE
 
Three Months Ended
 
Year Ended
Mar 31,
2016
 
Jun 30,
2016
 
Sep 30,
2016
 
Dec 31,
2016
 
Dec 31,
2016
Common Stock Market Prices:
 
 
 
 
 
 
 
 
 
 
High
 
$
36.73

 
$
33.20

 
$
39.52

 
$
45.95

 
$
45.95

Low
 
23.51

 
28.42

 
30.87

 
35.30

 
23.51

Close
 
29.57

 
30.98

 
39.32

 
44.30

 
44.30

Holders
As of January 24, 2018, the number of record holders of Kemper’s common stock was 3,410.

 
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Dividends
Quarterly information pertaining to payment of dividends on Kemper’s common stock is presented below.
DOLLARS PER SHARE
 
Three Months Ended
 
Year Ended
Mar 31,
2017
 
Jun 30,
2017
 
Sep 30,
2017
 
Dec 31,
2017
 
Dec 31,
2017
Cash Dividends Paid to Shareholders (per share)
 
$
0.24

 
$
0.24

 
$
0.24

 
$
0.24

 
$
0.96

 
 
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended
 
Year Ended
DOLLARS PER SHARE
 
Mar 31,
2016
 
Jun 30,
2016
 
Sep 30,
2016
 
Dec 31,
2016
 
Dec 31,
2016
Cash Dividends Paid to Shareholders (per share)
 
$
0.24

 
$
0.24

 
$
0.24

 
$
0.24

 
$
0.96

Kemper’s insurance subsidiaries are subject to various state insurance laws that may restrict the ability of these insurance subsidiaries to pay dividends without prior regulatory approval. See MD&A, “Liquidity and Capital Resources” and Note 9, “Shareholders’ Equity,” to the Consolidated Financial Statements for information on Kemper’s ability and intent to pay dividends.
Issuer Purchases of Equity Securities
Information pertaining to purchases of Kemper common stock for the three months ended December 31, 2017 follows.
 
 
 
 
 
 
Total
 
Maximum
 
 
 
 
 
 
Number of Shares
 
Dollar Value of Shares
 
 
 
 
Average
 
Purchased as Part
 
that May Yet Be
 
 
Total
 
Price
 
of Publicly
 
Purchased Under
 
 
Number of Shares
 
Paid per
 
Announced Plans
 
the Plans or Programs
Period
 
Purchased (1)
 
Share
 
or Programs (1)
 
(Dollars in Millions)
October 2017
 
323

 
$
54.85

 

 
$
243.7

November 2017
 
547

 
$
66.60

 

 
$
243.7

December 2017
 

 
$

 

 
$
243.7

(1) On August 6, 2014, Kemper’s Board of Directors authorized the repurchase of up to 300 million of Kemper’s common stock. The repurchase program has no expiration date. See MD&A, “Liquidity and Capital Resources.”
The preceding table includes 870 shares withheld to satisfy the tax withholding obligations on the vesting of restricted stock awards under Kemper’s long-term equity-based compensation plans during the quarter ended December 31, 2017.

 
26


Kemper Common Stock Performance Graph
The following graph assumes $100 invested on December 31, 2012 in (i) Kemper common stock, (ii) the S&P MidCap 400 Index and (iii) the S&P Supercomposite Insurance Index, in each case with dividends reinvested. Kemper is a constituent of each of these two indices.
The comparisons in the graph below are based on historical data and are not intended to forecast the possible future performance of Kemper common stock.
392174308_chart-5ff38bb9230c5e5db2d.jpg
Company / Index
 
2012
 
2013
 
2014
 
2015
 
2016
 
2017
Kemper Corporation
 
$
100.00

 
$
142.51

 
$
129.24

 
$
136.80

 
$
167.40

 
$
265.72

S&P MidCap 400 Index
 
100.00

 
133.50

 
146.54

 
143.35

 
173.08

 
201.20

S&P Supercomposite Insurance Index
 
100.00

 
145.74

 
158.44

 
164.21

 
195.19

 
226.39


 
27


Item 6.     Selected Financial Data.
Selected financial information as of and for the years ended December 31, 2017, 2016, 2015, 2014 and 2013 is presented below.
DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS
 
2017
 
2016
 
2015
 
2014
 
2013
FOR THE YEAR
 
 
 
 
 
 
 
 
 
 
Earned Premiums
 
$
2,350.0

 
$
2,220.0

 
$
2,009.6

 
$
1,862.2

 
$
2,025.8

Net Investment Income
 
327.2

 
298.3

 
302.6

 
309.1

 
314.7

Other Income
 
4.0

 
3.2

 
3.7

 
1.4

 
0.8

Net Realized Gains on Sales of Investments
 
56.5

 
33.1

 
52.1

 
39.1

 
99.1

Net Impairment Losses Recognized in Earnings
 
(14.3
)
 
(32.7
)
 
(27.2
)
 
(15.2
)
 
(13.9
)
Total Revenues
 
$
2,723.4

 
$
2,521.9

 
$
2,340.8

 
$
2,196.6

 
$
2,426.5

Income from Continuing Operations
 
$
119.9

 
$
12.7

 
$
80.2

 
$
112.6

 
$
214.5

Income from Discontinued Operations
 
1.0

 
4.1

 
5.5

 
1.9

 
3.2

Net Income
 
$
120.9

 
$
16.8

 
$
85.7

 
$
114.5

 
$
217.7

Per Unrestricted Share:
 
 
 
 
 
 
 
 
 
 
Income from Continuing Operations
 
$
2.32

 
$
0.25

 
$
1.55

 
$
2.08

 
$
3.75

Income from Discontinued Operations
 
0.02

 
0.08

 
0.10

 
0.04

 
0.06

Net Income
 
$
2.34

 
$
0.33

 
$
1.65

 
$
2.12

 
$
3.81

Per Unrestricted Share Assuming Dilution:
 
 
 
 
 
 
 
 
 
 
Income from Continuing Operations
 
$
2.31

 
$
0.25

 
$
1.55

 
$
2.08

 
$
3.74

Income from Discontinued Operations
 
0.02

 
0.08

 
0.10

 
0.04

 
0.06

Net Income
 
$
2.33

 
$
0.33

 
$
1.65

 
$
2.12

 
$
3.80

Dividends Paid to Shareholders Per Share
 
$
0.96

 
$
0.96

 
$
0.96

 
$
0.96

 
$
0.96

AT YEAR END
 
 
 
 
 
 
 
 
 
 
Total Assets
 
$
8,376.2

 
$
8,210.5

 
$
8,036.1

 
$
7,833.4

 
$
7,656.4

Insurance Reserves
 
$
4,537.8

 
$
4,406.7

 
$
4,203.8

 
$
4,007.6

 
$
4,061.0

Unearned Premiums
 
653.9

 
618.7

 
613.1

 
536.9

 
598.9

Long-term Debt, Current and Non-current
 
592.3

 
751.6

 
750.6

 
752.1

 
606.9

All Other Liabilities
 
476.6

 
458.3

 
476.2

 
446.1

 
338.1

Total Liabilities
 
6,260.6

 
6,235.3

 
6,043.7

 
5,742.7

 
5,604.9

Shareholders’ Equity
 
2,115.6

 
1,975.2

 
1,992.4

 
2,090.7

 
2,051.5

Total Liabilities and Shareholders’ Equity
 
$
8,376.2

 
$
8,210.5

 
$
8,036.1

 
$
7,833.4

 
$
7,656.4

Book Value Per Share
 
$
41.11

 
$
38.52

 
$
38.82

 
$
39.88

 
$
36.86



 
28


Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Index to
Management’s Discussion and Analysis of
Financial Condition and Results of Operations
 
 
Summary of Results
Catastrophes
Loss and LAE Reserve Development
Non-GAAP Financial Measures
Property & Casualty Insurance
Life & Health Insurance
Investment Results
Investment Quality and Concentrations
Investments in Limited Liability Companies and Limited Partnerships
Expenses
Income Taxes
Liquidity and Capital Resources
Off-Balance Sheet Arrangements
Contractual Obligations
Critical Accounting Estimates
Recently Issued Accounting Pronouncements


 
29

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations





SUMMARY OF RESULTS
Net Income was $120.9 million ($2.34 per unrestricted common share) for the year ended December 31, 2017, compared to $16.8 million ($0.33 per unrestricted common share) for the year ended December 31, 2016. Income from Continuing Operations was $119.9 million ($2.32 per unrestricted common share) in 2017, compared to $12.7 million ($0.25 per unrestricted common share) in 2016.
A reconciliation of Segment Net Operating Income to Consolidated Net Operating Income (a non-GAAP financial measure) and to Net Income for the years ended December 31, 2017, 2016 and 2015 is presented below.
DOLLARS IN MILLIONS
 
2017
 
2016
 
Increase
(Decrease)
in Income
from 2016
to 2017
 
2015
 
Increase
(Decrease)
in Income
from 2015
to 2016
Segment Net Operating Income (Loss):
 
 
 
 
 
 
 
 
 
 
Property & Casualty Insurance
 
$
7.8

 
$
(2.9
)
 
$
10.7

 
$
26.7

 
$
(29.6
)
Life & Health Insurance
 
90.8

 
30.3

 
60.5

 
71.7

 
(41.4
)
Total Segment Net Operating Income
 
98.6

 
27.4

 
71.2

 
98.4

 
(71.0
)
Corporate and Other Net Operating Income (Loss) From:
 
 
 
 
 
 
 
 
 
 
Effects of Tax Law Changes
 
7.4

 

 
7.4

 

 

Other
 
(13.5
)
 
(15.0
)
 
1.5

 
(28.5
)
 
13.5

Corporate and other Net Operating Loss
 
(6.1
)
 
(15.0
)
 
8.9

 
(28.5
)
 
13.5

Consolidated Net Operating Income
 
92.5

 
12.4

 
80.1

 
69.9

 
(57.5
)
Net Income (Loss) From:
 
 
 
 
 
 
 
 
 
 
Net Realized Gains on Sales of Investments
 
36.7

 
21.5

 
15.2

 
33.9

 
(12.4
)
Net Impairment Losses Recognized in Earnings
 
(9.3
)
 
(21.2
)
 
11.9

 
(17.7
)
 
(3.5
)
Loss from Early Extinguishment of Debt
 

 

 

 
(5.9
)
 
5.9

Income from Continuing Operations
 
119.9

 
12.7

 
107.2

 
80.2

 
(67.5
)
Income from Discontinued Operations
 
1.0

 
4.1

 
(3.1
)
 
5.5

 
(1.4
)
Net Income
 
$
120.9

 
$
16.8

 
$
104.1

 
$
85.7

 
$
(68.9
)
Net Income
2017 Compared with 2016
The Company’s net income increased by $104.1 million in 2017, compared to 2016. In the Property & Casualty Insurance segment, segment net operating results increased by $10.7 million due primarily to lower underlying losses and LAE as a percentage of earned premiums and, to a lesser extent, lower insurance expenses as a percentage of earned premiums and higher net investment income from Alternative Investments, partially offset by higher incurred catastrophe losses and LAE (excluding reserve development). See MD&A, “Property & Casualty Insurance,” beginning on page 36 for additional discussion of the segment’s results. In the Life & Health Insurance segment, segment net operating income increased by $60.5 million due primarily to a $50.5 million after-tax charge in 2016 to recognize the impact of using death verification databases in the Company’s operations, including to determine its IBNR liability for unpaid claims and claims adjustment expenses for life insurance products. See MD&A, “Life & Health Insurance,” beginning on page 46 for additional discussion of the segment’s results. The Company’s results were also positively impacted in 2017, compared to 2016, by higher net realized gains on sales of investments, lower impairment losses recognized in earnings and a lower unallocated net operating loss, due primarily to an income tax benefit of $7.4 million to recognize the effects of changes in the federal income tax law. See MD&A, “Investment Results,” beginning on page 51 and MD&A, “Income Taxes,” beginning on page 58 for additional discussion.
2016 Compared with 2015
The Company’s net income decreased by $68.9 million in 2016, compared to 2015. In the Property & Casualty Insurance segment, segment net operating results deteriorated by $29.6 million due primarily to higher incurred catastrophe losses and LAE (excluding reserve development) and higher underlying losses and LAE as a percentage of earned premiums, partially offset by lower insurance expenses as a percentage of earned premiums and the impact of the write-off of internal use software in 2015. See MD&A, “Property & Casualty Insurance,” beginning on page 36 for additional discussion of the segment’s

 
30

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


SUMMARY OF RESULTS (Continued)
results. See MD&A, “Expenses,” beginning on page 57 for additional information related to the internal use software write-off. In the Life & Health Insurance segment, segment net operating income decreased by $41.4 million due primarily to a $50.5 million after-tax charge to recognize the impact of using death verification databases in the Company’s operations, including to determine its IBNR liability for unpaid claims and claims adjustment expenses for life insurance products, partially offset by the impact of an adjustment recorded in 2015 to correct deferred premium reserves on certain limited pay life insurance policies and lower insurance expenses. See MD&A, “Life & Health Insurance,” beginning on page 46 for additional discussion of the segment’s results. The Company’s results were also significantly and negatively impacted in 2016, compared to 2015, by lower net realized gains on sales of investments and positively impacted in 2016, compared to 2015, from a loss from early extinguishment of debt in 2015. See MD&A, “Investment Results,” beginning on page 51, MD&A, “Expenses” beginning on page 57, and MD&A, “Liquidity and Capital Resources,” beginning on page 59 for additional discussion.
Revenues
2017 Compared with 2016
Earned Premiums were $2,350.0 million in 2017, compared to $2,220.0 million in 2016, an increase of $130.0 million. Earned Premiums increased by $121.2 million and $8.8 million in the Property & Casualty Insurance segment and Life & Health Insurance segment, respectively. See MD&A, “Property & Casualty Insurance,” beginning on page 36 and MD&A, “Life & Health Insurance,” beginning on page 46 for discussion of the changes in each segment’s earned premiums.
Net Investment Income increased by $28.9 million in 2017 due primarily to higher investment returns from Alternative Investments and higher level of investments in fixed income securities, partially offset by lower yields on fixed income securities. Net Investment Income from Alternative Investments, which consist of Equity Method Limited Liability Investments, Fair Value Option Investments and other limited liability investments included in Equity Securities, increased by $27.1 million. Alternative investment income from Equity Method Limited Liability Investments, other limited liability investments included in Equity Securities, and Fair Value Option Investments increased by $17.3 million, $6.6 million and $3.2 million, respectively, in 2017, compared to 2016. See MD&A, “Investment Results,” under the sub-caption “Net Investment Income” beginning on page 51 for additional discussion.

Net Realized Gains on Sales of Investments were $56.5 million in 2017, compared to $33.1 million in 2016. See MD&A, “Investment Results,” under the sub-caption “Net Realized Gains on Sales of Investments” beginning on page 52 for additional discussion. Net Impairment Losses Recognized in Earnings in 2017 and 2016 were $14.3 million and $32.7 million, respectively. See MD&A, “Investment Results,” under the sub-caption “Net Impairment Losses Recognized in Earnings” beginning on page 53 for additional discussion. The Company cannot predict when or if similar investment gains or losses may occur in the future.

2016 Compared with 2015
Earned Premiums were $2,220.0 million in 2016, compared to $2,009.6 million in 2015, an increase of $210.4 million. Earned Premiums increased by $199.6 million and $10.8 million in the Property & Casualty Insurance segment and Life & Health Insurance segment, respectively. See MD&A, “Property & Casualty Insurance,” beginning on page 36 and MD&A, “Life & Health Insurance,” beginning on page 46 for discussion of the changes in each segment’s earned premiums.
Net Investment Income decreased by $4.3 million in 2016 due primarily to lower investment returns from Alternative Investments, lower levels and lower returns on investments in equity securities excluding Alternative Investments, and higher level of investments in fixed income securities, partially offset by lower yields on fixed income securities. Net Investment Income from Alternative Investments decreased by $9.2 million. Alternative investment income from Equity Method Limited Liability Investments and Fair Value Option Investments decreased by $11.5 million and $2.1 million, respectively, in 2016, compared to 2015, while alternative investment income from other limited liability investments included in Equity Securities increased by $4.4 million. See MD&A, “Investment Results,” under the sub-caption “Net Investment Income” beginning on page 51 for additional discussion.

 
31

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


SUMMARY OF RESULTS (Continued)
Net Realized Gains on Sales of Investments were $33.1 million in 2016, compared to $52.1 million in 2015. See MD&A, “Investment Results,” under the sub-caption “Net Realized Gains on Sales of Investments” beginning on page 52 for additional discussion. Net Impairment Losses Recognized in Earnings in 2016 and 2015 were $32.7 million and $27.2 million, respectively. See MD&A, “Investment Results,” under the sub-caption “Net Impairment Losses Recognized in Earnings” beginning on page 53 for additional discussion. The Company cannot predict when or if similar investment gains or losses may occur in the future.
CATASTROPHES
Catastrophes and natural disasters are inherent risks of the property and casualty insurance business. These catastrophic events and natural disasters include, without limitation, hurricanes, tornadoes, earthquakes, hailstorms, wildfires, high winds and winter storms. Such events result in insured losses that are, and will continue to be, a material factor in the results of operations and financial position of the Company’s property and casualty insurance companies. Further, because the level of these insured losses occurring in any one year cannot be accurately predicted, these losses may contribute to material year-to-year fluctuations in the results of operations and financial position of these companies. Specific types of catastrophic events are more likely to occur at certain times within the year than others. This factor adds an element of seasonality to property and casualty insurance claims. The Company has adopted the industry-wide catastrophe classifications of storms and other events promulgated by ISO to track and report losses related to catastrophes. ISO classifies a disaster as a catastrophe when the event causes $25.0 million or more in direct insured losses to property and affects a significant number of policyholders and insurers. ISO-classified catastrophes are assigned a unique serial number recognized throughout the insurance industry. The discussions that follow utilize ISO’s definition of catastrophes.
The number of ISO-classified catastrophic events and catastrophe losses and LAE, net of reinsurance recoveries, (excluding loss and LAE reserve development) by range of loss and business segment for the years ended December 31, 2017, 2016 and 2015 are presented below.
 
 
Year Ended
 
 
Dec 31, 2017
 
Dec 31, 2016
 
Dec 31, 2015
DOLLARS IN MILLIONS
 
Number of Events
 
Losses and LAE
 
Number of Events
 
Losses and LAE
 
Number of Events
 
Losses and LAE
Range of Losses and LAE Per Event:
 
 
 
 
 
 
 
 
 
 
 
 
Below $5
 
39

 
$
61.3

 
39

 
$
37.6

 
37

 
$
43.6

$5 - $10
 
1

 
5.3

 
2

 
13.5

 
3

 
24.7

$10 - $15
 
2

 
21.4

 

 

 

 

$15 - $20
 

 

 

 

 

 

$20 - $25
 
1

 
24.4

 

 

 

 

Greater Than $25
 
2

 
72.5

 
2

 
64.0

 

 

Total
 
45

 
$
184.9

 
43

 
$
115.1

 
40

 
$
68.3

 
 
 
 
 
 
 
 
 
 
 
 
 
Property & Casualty Insurance
 
 
 
$
179.0

 
 
 
$
109.6

 
 
 
$
64.5

Life & Health Insurance
 
 
 
5.9

 
 
 
5.5

 
 
 
3.8

Total Catastrophe Losses and LAE
 
 
 
$
184.9

 
 
 
$
115.1

 
 
 
$
68.3

2017 Compared with 2016
As shown in the preceding table, catastrophe losses and LAE increased for the year ended December 31, 2017, compared to 2016, due primarily to an increase in the severity of losses on ISO-classified catastrophe events with losses and LAE of less than $15.0 million and estimated losses and LAE associated with two California wildfires in the fourth quarter of 2017 and a Texas hailstorm in March of 2017 (aggregate estimated losses and LAE of $96.4 million, net of reinsurance recoveries), compared to estimated losses and LAE of two significant catastrophe events in 2016 (a Texas hailstorm in March of 2016 and another Texas hailstorm in April of 2016 with aggregate estimated losses and LAE of $64.0 million). In accordance with the terms of the Company’s catastrophe reinsurance program, the Company estimates reinsurance recoveries for losses and LAE incurred related to the two California wildfires, which are classified as separate events by ISO, but a single event under the

 
32

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


CATASTROPHES (Continued)
Company’s catastrophe reinsurance agreement, to be $11.9 million in 2017. The Company did not have any reinsurance recoveries on catastrophe losses and LAE in 2016 or 2015.
2016 Compared with 2015
As shown in the preceding table, catastrophe losses and LAE increased for the year ended December 31, 2016, compared to 2015, due primarily to two significant catastrophe events in 2016 exceeding $25 million of losses (a hailstorm in Texas in March with losses and LAE of $36.0 million and another hailstorm in Texas in April with losses and LAE of $28.0 million), compared to no such events in 2015, partially offset by lower severity of events below $10 million of losses in 2016, compared to 2015.
Catastrophe Reinsurance
The Company primarily manages its exposure to catastrophes and other natural disasters through a combination of geographical diversification, restrictions on the amount and location of new business production in such regions, modifications of, and/or limitations to coverages and deductibles for certain perils in such regions and a catastrophe reinsurance program for the Property & Casualty Insurance segment. Coverage for this segment’s catastrophe reinsurance program is provided in various contracts and layers. The Property & Casualty Insurance segment also purchases reinsurance from the FHCF for hurricane losses in Florida at retentions lower than its catastrophe reinsurance program. The Life & Health Insurance segment also purchases reinsurance from the FHCF for hurricane losses in Florida. Except for the coverage provided by the FHCF, the Life & Health Insurance segment does not carry any other catastrophe reinsurance coverage.
In 2017, the Property & Casualty Insurance segment had catastrophe reinsurance recoveries of $11.9 million under the catastrophe reinsurance program. Catastrophe recoveries under the FHCF were not material in 2017. Neither segment had catastrophe reinsurance recoveries in 2016 or 2015.
In 2017, the Company paid $0.8 million in reinstatement premium to reinstate the first layer of coverage under the Property & Casualty Insurance segment’s catastrophe reinsurance program. The Company did not pay any reinstatement premium in 2016 or 2015.
See the “Reinsurance” subsections of the “Property and Casualty Insurance Business” and “Life and Health Insurance Business” sections of Item 1(c), “Description of Business,” and Note 20, “Catastrophe Reinsurance,” to the Consolidated Financial Statements for additional information on the Company’s reinsurance programs.

 
33

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, 2017, 2016 and 2015 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, are presented below.
DOLLARS IN MILLIONS
 
2017
 
2016
 
2015
Property & Casualty Insurance:
 
 
 
 
 
 
Non-catastrophe
 
$
24.5

 
$
4.9

 
$
(5.0
)
Catastrophe
 
(5.0
)
 
(19.2
)
 
(7.9
)
Total
 
19.5

 
(14.3
)
 
(12.9
)
Life & Health Insurance:
 
 
 
 
 
 
Non-catastrophe
 
0.4

 

 
1.3

Catastrophe
 
0.5

 
(0.1
)
 
0.1

Total
 
0.9

 
(0.1
)
 
1.4

Increase (Decrease) in Total Loss and LAE Reserves Related to Prior Years:
 
 
 
 
 
 
Non-catastrophe
 
24.9

 
4.9

 
(3.7
)
Catastrophe
 
(4.5
)
 
(19.3
)
 
(7.8
)
Increase (Decrease) in Total Loss and LAE Reserves Related to Prior Years
 
$
20.4

 
$
(14.4
)
 
$
(11.5
)
See MD&A, “Property & Casualty Insurance,” MD&A, “Life & Health Insurance,” and Note 6, “Property and Casualty Insurance Reserves,” to the Consolidated Financial Statements for additional information on the Company’s reserve development. See MD&A, “Critical Accounting Estimates,” of this 2017 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 principles 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 businesses.
Underlying Combined Ratio
The following discussions of segment results 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 prior years 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 Insurance Expense (including write-offs of long-lived assets) Ratio. The most directly comparable GAAP financial measure is the Combined Ratio, which is computed by adding total incurred losses and LAE, including the impact of catastrophe losses and loss and LAE reserve development from prior years, with the Insurance Expense (including write-offs of long-lived assets) Ratio. 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 & Casualty Insurance business 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 years, it has no bearing on the performance of the Company’s insurance products that were in force in the current period. The Company believes it is

 
34

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


NON-GAAP FINANCIAL MEASURES (Continued)
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 financial 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;
3) Loss from Early Extinguishment of Debt; and
4) 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. 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, 2017, 2016 or 2015.
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. Loss from Early Extinguishment of Debt is driven by the Company’s financing and refinancing decisions and capital needs, as well as external economic developments such as debt market conditions, 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.

 
35

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


PROPERTY & CASUALTY INSURANCE
Selected financial information for the Property & Casualty Insurance segment is presented below.
DOLLARS IN MILLIONS
 
2017
 
2016
 
2015
Net Premiums Written
 
$
1,769.6

 
$
1,620.9

 
$
1,406.2

Earned Premiums
 
$
1,736.0

 
$
1,614.8

 
$
1,415.2

Net Investment Income
 
94.3

 
72.4

 
73.3

Other Income
 
1.1

 
0.5

 
0.6

Total Revenues
 
1,831.4

 
1,687.7

 
1,489.1

Incurred Losses and LAE related to:
 
 
 
 
 
 
Current Year:
 
 
 
 
 
 
Non-catastrophe Losses and LAE
 
1,251.5

 
1,223.9

 
1,034.6

Catastrophe Losses and LAE
 
179.0

 
109.6

 
64.5

Prior Years:
 
 
 
 
 
 
Non-catastrophe Losses and LAE
 
24.5

 
4.9

 
(5.0
)
Catastrophe Losses and LAE
 
(5.0
)
 
(19.2
)
 
(7.9
)
Total Incurred Losses and LAE
 
1,450.0

 
1,319.2

 
1,086.2

Insurance Expenses, Excluding Write-offs of Long-lived Assets
 
382.8

 
385.7

 
368.1

Write-offs of Long-lived Assets
 

 

 
11.1

Operating Profit (Loss)
 
(1.4
)
 
(17.2
)
 
23.7

Income Tax Benefit
 
9.2

 
14.3

 
3.0

Segment Net Operating Income (Loss)
 
$
7.8

 
$
(2.9
)
 
$
26.7

 
 
 
 
 
 
 
Ratios Based On Earned Premiums
 
 
 
 
 
 
Current Year Non-catastrophe Losses and LAE Ratio
 
72.1
 %
 
75.8
 %
 
73.2
 %
Current Year Catastrophe Losses and LAE Ratio
 
10.3

 
6.8

 
4.6

Prior Years Non-catastrophe Losses and LAE Ratio
 
1.4

 
0.3

 
(0.4
)
Prior Years Catastrophe Losses and LAE Ratio
 
(0.3
)
 
(1.2
)
 
(0.6
)
Total Incurred Loss and LAE Ratio
 
83.5

 
81.7

 
76.8

Insurance Expense Ratio, Excluding Write-offs of Long-lived Assets
 
22.1

 
23.9

 
26.0

Impact on Ratio from Write-offs of Long-lived Assets
 

 

 
0.8

Combined Ratio
 
105.6
 %
 
105.6
 %
 
103.6
 %
Underlying Combined Ratio
 
 
 
 
 
 
Current Year Non-catastrophe Losses and LAE Ratio
 
72.1
 %
 
75.8
 %
 
73.2
 %
Insurance Expense Ratio, Excluding Write-offs of Long-lived Assets
 
22.1

 
23.9

 
26.0

Impact on Ratio from Write-offs of Long-lived Assets
 

 

 
0.8

Underlying Combined Ratio
 
94.2
 %
 
99.7
 %
 
100.0
 %
Non-GAAP Measure Reconciliation
 
 
 
 
 
 
Underlying Combined Ratio
 
94.2
 %
 
99.7
 %
 
100.0
 %
Current Year Catastrophe Losses and LAE Ratio
 
10.3

 
6.8

 
4.6

Prior Years Non-catastrophe Losses and LAE Ratio
 
1.4

 
0.3

 
(0.4
)
Prior Years Catastrophe Losses and LAE Ratio
 
(0.3
)
 
(1.2
)
 
(0.6
)
Combined Ratio as Reported
 
105.6
 %
 
105.6
 %
 
103.6
 %

 
36

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


PROPERTY & CASUALTY INSURANCE (Continued)
CATASTROPHE FREQUENCY AND SEVERITY
 
 
Dec 31, 2017
 
Dec 31, 2016
DOLLARS IN MILLIONS
 
Number of Events
 
Losses and LAE
 
Number of Events
 
Losses and LAE
Range of Losses and LAE Per Event:
 
 
 
 
 
 
 
 
Below $5
 
39

 
$
57.3

 
39

 
$
33.0

$5 - $10
 
2

 
14.7

 
2

 
13.2

$10 - $15
 
1

 
10.2

 

 

$15 - $20
 

 

 

 

$20 - $25
 
1

 
24.4

 

 

Greater Than $25
 
2

 
72.4

 
2

 
63.4

Total
 
45

 
$
179.0

 
43

 
$
109.6

INSURANCE RESERVES
DOLLARS IN MILLIONS
 
Dec 31,
2017
 
Dec 31,
2016
Insurance Reserves:
 
 
 
 
Automobile
 
$
795.9

 
$
754.1

Homeowners
 
139.7

 
88.9

Other
 
40.7

 
41.1

Insurance Reserves
 
$
976.3

 
$
884.1

Insurance Reserves:
 
 
 
 
Loss Reserves:
 
 
 
 
Case
 
$
602.4

 
$
598.0

Incurred But Not Reported
 
239.3

 
158.2

Total Loss Reserves
 
841.7

 
756.2

LAE Reserves
 
134.6

 
127.9

Insurance Reserves
 
$
976.3

 
$
884.1

See MD&A, “Critical Accounting Estimates,” under the caption “Property and Casualty Insurance Reserves for Losses and Loss Adjustment Expenses” beginning on page 64 for additional information pertaining to the Company’s process of estimating property and casualty insurance reserves for losses and LAE, development of property and casualty insurance losses and LAE from prior accident years, also referred to as “reserve development” in the discussion of segment results, estimated variability of property and casualty insurance reserves for losses and LAE, and a discussion of some of the variables that may impact development of property and casualty insurance losses and LAE and the estimated variability of property and casualty insurance reserves for losses and LAE.
Acquisition of Alliance United
As discussed in Note 3, “Acquisition of Business,” to the Consolidated Financial Statements, the Company completed its acquisition of Alliance United on April 30, 2015. Alliance United is a provider of nonstandard personal automobile insurance in California and has added significant scale to the Property & Casualty Insurance segment’s premium base. The results of Alliance United’s operations have been included in the Company’s consolidated results since the date of its acquisition, which can obscure certain comparisons of year-over-year results, particularly when analyzing overall segment results as well as the nonstandard personal automobile insurance line of business.

 
37

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


PROPERTY & CASUALTY INSURANCE (Continued)
Overall
2017 Compared with 2016
The Property & Casualty Insurance segment reported Segment Net Operating Income of $7.8 million for the year ended December 31, 2017, compared to Segment Net Operating Loss of $2.9 million in 2016. Segment net operating results improved by $10.7 million due primarily to lower underlying losses and LAE as a percentage of earned premiums, particularly in the Company’s nonstandard automobile insurance business, lower insurance expenses as a percentage of earned premiums and higher net investment income from Alternative Investments, partially offset by higher incurred catastrophe losses and LAE (excluding reserve development) and an unfavorable change in loss and LAE reserve development.
Earned Premiums in the Property & Casualty Insurance segment increased by $121.2 million in 2017, compared to 2016, as higher average earned premium and higher volume accounted for increases of $103.3 million and $17.9 million, respectively. All product lines experienced an increase in average earned premium, although the overall impact on Earned Premiums was driven primarily by nonstandard personal automobile insurance and preferred personal automobile insurance, which had increases due to higher average earned premium of $77.7 million and $14.8 million, respectively. The higher volume was driven by nonstandard personal automobile insurance, which had a volume increase of $56.6 million, partially offset primarily by volume decreases in preferred personal automobile insurance, homeowners insurance and commercial automobile insurance of $16.6 million, $13.2 million, and $6.1 million, respectively.
Net Investment Income in the Property & Casualty Insurance segment increased by $21.9 million in 2017, compared to 2016, due primarily to higher investment income from Alternative Investments, and to a lesser extent, higher levels of non-alternative investments. The Property & Casualty Insurance segment reported Net Investment Income from Alternative Investments of $37.4 million in 2017, compared to $20.2 million in 2016.
Underlying losses and LAE as a percentage of earned premiums were 72.1% in 2017, a decrease of 3.7 percentage points, compared to 2016, driven primarily by improvements in nonstandard personal automobile insurance, particularly in the Alliance United business. Underlying incurred losses and LAE exclude the impact of catastrophes and loss and LAE reserve development. Catastrophe losses and LAE (excluding reserve development) were $179.0 million in 2017, compared to $109.6 million in 2016, which is an increase of $69.4 million due primarily to California wildfires and higher average severity on catastrophic events with losses and LAE (excluding reserve development) of less than $15 million in 2017, compared to 2016. This increase was partially offset by two large catastrophes, both Texas hailstorms, occurring in 2016, with aggregate estimated losses and LAE of $63.4 million, compared to one such Texas hailstorm, occurring in 2017, with estimated losses and LAE of $42.6 million. Adverse loss and LAE reserve development (including catastrophe reserve development) was $19.5 million in 2017, compared to favorable development of $14.3 million in 2016. Adverse development in 2017 was driven primarily by preferred personal automobile insurance.
Insurance expenses were $382.8 million, or 22.1% of earned premiums, in 2017, an improvement of 1.8 percentage points compared to 2016, driven primarily by a mix shift in business written in the segment toward nonstandard personal automobile insurance, which runs at a lower expense ratio, improvement in the Alliance United expense ratio, an increase in the percentage of software development costs eligible for capitalization, cost reduction initiatives and premium growth outpacing growth in fixed costs.
The Property & Casualty Insurance 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 $25.6 million in 2017, compared to $23.7 million in 2016.
2016 Compared with 2015
The Property & Casualty Insurance segment reported Segment Net Operating Loss of $2.9 million for the year ended December 31, 2016, compared to Segment Net Operating Income of $26.7 million in 2015. Segment net operating results deteriorated by $29.6 million due primarily to higher incurred catastrophe losses and LAE (excluding reserve development) and higher net operating losses from Alliance United, largely due to it being included in 2016 results for the full year. The deterioration was partially offset by lower underlying losses and LAE as a percentage of earned premiums in the legacy business and the write-off of internal-use software in 2015.

 
38

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


PROPERTY & CASUALTY INSURANCE (Continued)
Earned Premiums in the Property & Casualty Insurance segment increased by $199.6 million in 2016, compared to 2015. Excluding the $235.9 million impact from Alliance United, earned premiums decreased by $36.3 million, as lower volume accounted for a decrease of $55.6 million, while higher average earned premium accounted for an increase of $19.3 million. Excluding Alliance United, the lower volume was driven primarily by preferred personal automobile insurance, homeowners insurance and nonstandard personal automobile insurance, which had volume decreases of $28.3 million, $11.9 million and $9.0 million, respectively. Excluding Alliance United, the increase in average earned premium was driven primarily by nonstandard personal automobile insurance, which had an increase of $15.3 million.
Net Investment Income in the Property & Casualty Insurance segment decreased by $0.9 million in 2016, compared to 2015, due primarily to lower investment income from Alternative Investments and a lower level of non-alternative investments, partially offset by investment income from the investments acquired from the acquisition of, and the capital contributed to, Alliance United and higher yields on non-alternative investments. The Property & Casualty Insurance segment reported Net Investment Income from Alternative Investments of $20.2 million in 2016, compared to $25.3 million in 2015.
Underlying losses and LAE as a percentage of earned premiums were 75.8% in 2016, an increase of 2.6 percentage points, compared to 2015. Alliance United, which runs at a higher underlying losses and LAE ratio but lower insurance expense ratio, added 8.4 percentage points to the overall underlying losses and LAE ratio in 2016, compared to adding 4.8 percentage points in 2015. Excluding the impact of Alliance United, underlying losses and LAE as a percentage of earned premiums were 67.4% in 2016, compared to 68.4% in 2015, or a decrease of 1.0 percentage points, as all product lines improved with the exception of preferred personal automobile insurance, which deteriorated. Underlying incurred losses and LAE exclude the impact of catastrophes and loss and LAE reserve development. Catastrophe losses and LAE (excluding reserve development) were $109.6 million in 2016, compared to $64.5 million in 2015, which is an increase of $45.1 million due primarily to two separate hailstorms in Texas—one in March 2016 with estimated losses and LAE of $36.0 million and another in April 2016 with estimated losses and LAE of $27.4 million. The increase was partially offset by reduced severity of catastrophic events with losses and LAE (excluding reserve development) of less than $10 million in 2016, compared to 2015. Excluding the impact of Alliance United, favorable loss and LAE reserve development (including favorable catastrophe reserve development of $19.2 million in 2016 and $7.9 million in 2015) was $19.4 million in 2016, compared to $20.6 million in 2015.
Insurance expenses were $385.7 million, or 23.9% of earned premiums, in 2016. Excluding a write-off of a long-lived asset, insurance expenses were $368.1 million, or 26.0% of earned premiums, in 2015. The improvement in the ratio of 2.1 percentage points from 2015 to 2016 was due primarily to the inclusion of Alliance United, which runs at a lower insurance expense ratio, for a full year in 2016. Excluding the impact of the write-off and Alliance United, insurance expenses decreased by $12.7 million in 2016, compared to 2015, and decreased as a percentage of earned premiums from 28.8% in 2015 to 28.4% in 2016.
The Property & Casualty Insurance segment’s effective income tax rate differs from the federal statutory income tax rate due primarily to tax-exempt investment income, dividends received deductions and estimated indemnification recoveries recognized in earnings pursuant to the Alliance United purchase agreement. Tax-exempt investment income and dividends received deductions were $23.7 million in 2016, compared to $22.6 million in 2015. Indemnification recoveries result in an adjustment to the tax purchase price and are excluded from the determination of taxable income and income tax expense. Estimated indemnification recoveries recognized in earnings were $0.7 million in 2016, all of which has been reported as a reduction of Insurance Expenses. Estimated indemnification recoveries recognized in earnings were $10.4 million in 2015, of which $5.9 million has been reported as a reduction of Incurred Losses and LAE and $4.5 million has been recorded as a reduction of Insurance Expenses.

 
39

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


PROPERTY & CASUALTY INSURANCE (Continued)
Preferred Personal Automobile Insurance
Selected financial information for the preferred personal automobile insurance product line follows.
DOLLARS IN MILLIONS
 
2017
 
2016
 
2015
Net Premiums Written
 
$
424.4

 
$
426.1

 
$
434.5

Earned Premiums
 
$
422.8

 
$
424.6

 
$
449.9

Incurred Losses and LAE related to:
 
 
 
 
 
 
Current Year:
 
 
 
 
 
 
Non-catastrophe Losses and LAE
 
$
309.0

 
$
308.0

 
$
319.5

Catastrophe Losses and LAE
 
11.3

 
11.6

 
3.0

Prior Years:
 
 
 
 
 
 
Non-catastrophe Losses and LAE
 
19.5

 
4.9

 
(15.0
)
Catastrophe Losses and LAE
 
(0.2
)
 
(0.3
)
 
(0.2
)
Total Incurred Losses and LAE
 
$
339.6

 
$
324.2

 
$
307.3

Ratios Based On Earned Premiums
 
 
 
 
 
 
Current Year Non-catastrophe Losses and LAE Ratio
 
73.0
%
 
72.6
 %
 
70.9
 %
Current Year Catastrophe Losses and LAE Ratio
 
2.7

 
2.7

 
0.7

Prior Years Non-catastrophe Losses and LAE Ratio
 
4.6

 
1.2

 
(3.3
)
Prior Years Catastrophe Losses and LAE Ratio
 

 
(0.1
)
 

Total Incurred Loss and LAE Ratio
 
80.3
%
 
76.4
 %
 
68.3
 %
2017 Compared with 2016
Earned premiums in preferred personal automobile insurance decreased by $1.8 million in 2017, compared to 2016, as lower volume accounted for a decrease of $16.6 million, while higher average earned premium accounted for an increase of $14.8 million. The run-off of the direct-to-consumer business accounted for approximately 60% of the decrease in earned premiums attributed to lower volume. Incurred losses and LAE were $339.6 million, or 80.3% of earned premiums, in 2017, compared to $324.2 million, or 76.4% of earned premiums, in 2016. Incurred losses and LAE as a percentage of earned premiums increased due primarily to a higher level of adverse loss and LAE reserve development and higher underlying losses and LAE as a percentage of related earned premiums. Underlying losses and LAE as a percentage of related earned premiums were 73.0% in 2017, compared to 72.6% in 2016, which was a deterioration of 0.4 percentage points due primarily to higher severity of losses, particularly on bodily injury coverages, partially offset by lower frequency of claims on most coverages, particularly bodily injury. Catastrophe losses and LAE (excluding reserve development) were $11.3 million in 2017, compared to $11.6 million in 2016, both periods experiencing higher losses than average due primarily to Hurricane Harvey in 2017, and hailstorms in Texas in both 2017 and 2016. Adverse loss and LAE reserve development was $19.3 million in 2017, compared to $4.6 million in 2016.
2016 Compared with 2015
Earned premiums in preferred personal automobile insurance decreased by $25.3 million in 2016, compared to 2015, as lower volume accounted for a decrease of $28.3 million, while higher average earned premium accounted for an increase of $3.0 million. The run-off of the direct-to-consumer business accounted for approximately 60% of the decrease in earned premiums attributed to lower volume. Incurred losses and LAE were $324.2 million, or 76.4% of earned premiums, in 2016, compared to $307.3 million, or 68.3% of earned premiums, in 2015. Incurred losses and LAE as a percentage of earned premiums increased due to an unfavorable change in loss and LAE reserve development, higher incurred catastrophe losses and LAE (excluding reserve development) and higher underlying losses and LAE as a percentage of earned premiums. Underlying losses and LAE as a percentage of related earned premiums were 72.6% in 2016, compared to 70.9% in 2015, which was an deterioration of 1.7 percentage points due primarily to slightly higher severity of losses on most coverages.

 
40

Kemper Corporation and Subsidiaries
Management’s Discussion and Analysis of Financial Condition and Results of Operations—(Continued)


PROPERTY & CASUALTY INSURANCE (Continued)
Catastrophe losses and LAE (excluding reserve development) were $11.6 million in 2016, compared to $3.0 million in 2015. This increase was driven primarily by the two aforementioned hailstorms in Texas in 2016. Loss and LAE reserve development was adverse by $4.6 million in 2016, compared to favorable development of $15.2 million in 2015.
Non-standard Personal Automobile Insurance
Selected financial information for the nonstandard personal automobile insurance product line for the years ended December 31, 2017, 2016 and 2015 is presented in the following table. The results for the year ended December 31, 2015 for Alliance United include only the last eight months of the period, which is the period since the date of acquisition.
DOLLARS IN MILLIONS
 
2017
 
2016
 
2015
Net Premiums Written
 
$
992.3

 
$
832.6

 
$
596.0

Earned Premiums
 
$
954.3

 
$
820.0

 
$
577.8

Incurred Losses and LAE related to:
 
 
 
 
 
 
Current Year:
 
 
 
 
 
 
Non-catastrophe Losses and LAE
 
$
750.4

 
$
714.3

 
$
500.9

Catastrophe Losses and LAE
 
4.8

 
5.7

 
3.7

Prior Years:
 
 
 
 
 
 
Non-catastrophe Losses and LAE
 
3.1

 
6.8

 
13.5

Catastrophe Losses and LAE
 
(0.2
)
 
(0.1
)
 
(0.1
)
Total Incurred Losses and LAE
 
$
758.1

 
$
726.7

 
$
518.0

Ratios Based On Earned Premiums
 
 
 
 
 
 
Current Year Non-catastrophe Losses and LAE Ratio
 
78.6
%
 
87.1
%
 
86.8
%
Current Year Catastrophe Losses and LAE Ratio
 
0.5

 
0.7

 
0.6

Prior Years Non-catastrophe Losses and LAE Ratio