Cigna 10Q


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q

[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2006

OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

for the transition period from _____ to _____

Commission file number 1-08323

CIGNA Corporation
(Exact name of registrant as specified in its charter)

Delaware
  
06-1059331
(State or other jurisdiction
  
(I.R.S. Employer
of incorporation or organization)
  
Identification No.)

Two Liberty Place, 1601 Chestnut Street
Philadelphia, Pennsylvania 19192
(Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code (215) 761-1000

Not Applicable
(Former name, former address and former fiscal year, if changed since last report)

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 is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes x    No _

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, 2006, 110,894,350 shares of the issuer's common stock were outstanding.

 
CIGNA CORPORATION

INDEX

 Page No.

PART I. FINANCIAL INFORMATION
     
 
     
 
 
 
 
 
 
 
   
 
 
   
 
 
 
   
 
   
 
   
 
     
     
 
  
     
     
     
     
     
 
As used herein, CIGNA refers to one or more of CIGNA Corporation and its consolidated subsidiaries.


 
Item 1. Financial Statements
  
                   
CIGNA CORPORATION
  
CONSOLIDATED STATEMENTS OF INCOME
  
(In millions, except per share amounts)
  
                   
   
Three Months Ended
  
Six Months Ended
  
   
June 30,
  
June 30,
  
   
2006
  
2005
   
2006
    
2005
  
                   
REVENUES
                          
Premiums and fees
  
$
3,369
  
$
3,408
  
$
6,637
  
$
6,770
  
Net investment income
    
299
   
331
   
628
   
661
 
Other revenues
    
424
   
366
   
790
   
1,002
 
Realized investment gains
    
6
   
2
   
150
   
19
 
Total revenues
    
4,098
   
4,107
   
8,205
   
8,452
 
                           
BENEFITS AND EXPENSES
                          
Health Care medical claims expense
    
1,493
   
1,598
   
2,941
   
3,054
 
Other benefit expenses
    
825
   
827
   
1,613
   
1,695
 
Other operating expenses
    
1,372
   
1,245
   
2,715
   
2,601
 
Total benefits and expenses
    
3,690
   
3,670
   
7,269
   
7,350
 
                           
INCOME FROM CONTINUING OPERATIONS
                          
BEFORE INCOME TAXES (BENEFITS)
    
408
   
437
   
936
   
1,102
 
                           
Income taxes (benefits):
                          
Current
    
65
   
168
   
319
   
227
 
Deferred
    
70
   
(102
)
  
(8
)
  
68
 
Total taxes
    
135
   
66
   
311
   
295
 
                           
INCOME FROM CONTINUING OPERATIONS
   
273
   
371
   
625
   
807
 
INCOME FROM DISCONTINUED OPERATIONS
   
-
   
349
   
-
   
349
 
NET INCOME
 
$
273
  
$
720
  
$
625
  
$
1,156
  
                           
EARNINGS PER SHARE - BASIC
                         
INCOME FROM CONTINUING OPERATIONS
  
$
2.37
  
$
2.88
  
$
5.31
  
$
6.21
  
INCOME FROM DISCONTINUED OPERATIONS
    
-
   
2.70
   
-
   
2.69
 
NET INCOME
  
$
2.37
  
$
5.58
  
$
5.31
  
$
8.90
  
                           
EARNINGS PER SHARE - DILUTED
                         
INCOME FROM CONTINUING OPERATIONS
  
$
2.33
  
$
2.82
  
$
5.22
  
$
6.11
  
INCOME FROM DISCONTINUED OPERATIONS
    
-
   
2.66
   
-
   
2.65
 
NET INCOME
 
$
2.33
  
$
5.48
  
$
5.22
  
$
8.76
  
                           
DIVIDENDS DECLARED PER SHARE
  
$
0.025
  
$
0.025
  
$
0.050
  
$
0.050
  
                           
The accompanying Notes to the Financial Statements are an integral part of these statements.
  
 
1

 
CONSOLIDATED BALANCE SHEETS  
  
(In millions, except per share amounts)  
  
                    
       
As of
 
  
 
As of
 
 
 
 
 
June 30,
 
  
 
December 31,
 
 
      
 
  
2006
     
  
  
2005
  
                    
ASSETS
                          
Investments:
                          
Fixed maturities, at fair value (amortized cost, $12,019; $13,873)
        
$
12,423
        
$
14,947
  
Equity securities, at fair value (cost, $133; $113)
          
149
         
135
 
Mortgage loans
          
3,957
         
3,934
 
Policy loans
          
1,408
         
1,337
 
Real estate
          
109
         
80
 
Other long-term investments
          
462
         
504
 
Short-term investments
          
56
         
439
 
Total investments
          
18,564
         
21,376
 
Cash and cash equivalents
          
1,388
         
1,709
 
Accrued investment income
          
233
         
282
 
Premiums, accounts and notes receivable
          
1,321
         
1,598
 
Reinsurance recoverables
          
8,118
         
7,018
 
Deferred policy acquisition costs
          
663
         
618
 
Property and equipment
          
612
         
638
 
Deferred income taxes
          
1,188
         
1,087
 
Goodwill
          
1,622
         
1,622
 
Other assets, including other intangibles
         
302
         
306
 
Separate account assets
          
8,265
         
8,609
 
Total assets
        
$
42,276
        
$
44,863
  
                           
LIABILITIES
                          
Contractholder deposit funds
        
$
9,211
        
$
9,676
  
Future policy benefits
          
8,424
         
8,626
 
Unpaid claims and claim expenses
          
4,279
         
4,281
 
Health Care medical claims payable
          
1,019
         
1,165
 
Unearned premiums and fees
          
534
         
515
 
Total insurance and contractholder liabilities
          
23,467
         
24,263
 
Accounts payable, accrued expenses and other liabilities
          
4,449
         
5,127
 
Short-term debt
          
376
         
100
 
Long-term debt
          
950
         
1,338
 
Nonrecourse obligations
          
75
         
66
 
Separate account liabilities
          
8,265
         
8,609
 
Total liabilities
          
37,582
         
39,503
 
                       
CONTINGENCIES - NOTE 14
                          
                           
SHAREHOLDERS' EQUITY
                          
Common stock (par value per share, $0.25; shares issued, 160; 160)
          
40
         
40
 
Additional paid-in capital
          
2,428
         
2,385
 
Net unrealized appreciation, fixed maturities
  
$
33
        
$
195
       
Net unrealized appreciation, equity securities
    
19
         
24
       
Net unrealized depreciation, derivatives
    
(23
)
        
(14
)
      
Net translation of foreign currencies
    
14
         
2
       
Minimum pension liability adjustment
    
(725
)
        
(716
)
      
Accumulated other comprehensive loss
          
(682
)
        
(509
)
Retained earnings
          
5,686
         
5,162
 
Less treasury stock, at cost
          
(2,778
)
        
(1,718
)
Total shareholders' equity
          
4,694
         
5,360
 
                           
Total liabilities and shareholders' equity
        
$
42,276
        
$
44,863
  
                           
SHAREHOLDERS' EQUITY PER SHARE
        
$
42.33
        
$
44.23
  
                           
The accompanying Notes to the Financial Statements are an integral part of these statements.
 
2

 
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME AND CHANGES IN SHAREHOLDERS' EQUITY   
  
(In millions)    
  
                     
Three Months Ended June 30,
      
 2006
       
2005
  
                     
Common stock
        
$
40
       
$
40
  
                           
Additional paid-in capital, April 1
         
2,419
         
2,339
 
Effect of issuance of stock for employee benefits plans
          
9
         
17
 
Additional paid-in capital, June 30
          
2,428
         
2,356
 
                           
Accumulated other comprehensive loss, April 1
          
(602
)
        
(483
)
Net unrealized appreciation (depreciation), fixed maturities
  
$
(67
)
  
(67
)
$
127
   
127
 
Net unrealized depreciation, equity securities
    
(1
)
  
(1
)
  
(5
)
  
(5
)
Net unrealized appreciation (depreciation) on securities
    
(68
)
        
122
       
Net unrealized appreciation (depreciation), derivatives
    
(8
)
  
(8
)
  
9
   
9
 
Net translation of foreign currencies
    
5
   
5
   
(8
)
  
(8
)
Minimum pension liability adjustment
   
(9
)
  
(9
)
  
(30
)
  
(30
)
Other comprehensive income (loss)
    
(80
)
        
93
       
Accumulated other comprehensive loss, June 30
          
(682
)
        
(390
)
                           
Retained earnings, April 1
          
5,425
         
4,070
 
Net income
    
273
   
273
   
720
   
720
 
Effects of issuance of stock for employee benefits plans
          
(9
)
        
(29
)
Common dividends declared
          
(3
)
        
(3
)
Retained earnings, June 30
          
5,686
         
4,758
 
                           
Treasury stock, April 1
          
(1,930
)
        
(657
)
Repurchase of common stock
          
(876
)
        
(349
)
Other, primarily issuance of treasury stock for employee benefit plans
          
28
         
121
 
Treasury stock, June 30
          
(2,778
)
        
(885
)
TOTAL COMPREHENSIVE INCOME AND SHAREHOLDERS' EQUITY
  
$
193
  
$
4,694
 
$
813
 
$
5,879
  
                           
Six Months Ended June 30,
                          
                           
Common stock
         $ 
40
        $ 
40
 
                           
Additional paid-in capital, January 1
          
2,385
         
2,360
 
Effects of issuance of stock for employee benefits plans
          
43
         
(4
)
Additional paid-in capital, June 30
          
2,428
         
2,356
 
                           
Accumulated other comprehensive loss, January 1
          
(509
)
        
(336
)
Net unrealized depreciation, fixed maturities
  
$
(162
)
  
(162
)
$
(19
)
  
(19
)
Net unrealized depreciation, equity securities
    
(5
)
  
(5
)
  
(7
)
  
(7
)
Net unrealized depreciation on securities
    
(167
)
        
(26
)
      
Net unrealized appreciation (depreciation), derivatives
    
(9
)
  
(9
)
  
7
   
7
 
Net translation of foreign currencies
    
12
   
12
   
(5
)
  
(5
)
Minimum pension liability adjustment
   
(9
)
  
(9
)
  
(30
)
  
(30
)
Other comprehensive loss
    
(173
)
        
(54
)
      
Accumulated other comprehensive loss, June 30
          
(682
)
        
(390
)
                           
Retained earnings, January 1
          
5,162
         
3,679
 
Net income
    
625
   
625
   
1,156
   
1,156
 
Effects of issuance of stock for employee benefits plans
          
(95
)
        
(71
)
Common dividends declared
          
(6
)
        
(6
)
Retained earnings, June 30
          
5,686
         
4,758
 
                           
Treasury stock, January 1
          
(1,718
)
        
(540
)
Repurchase of common stock
          
(1,295
)
        
(589
)
Other, primarily issuance of treasury stock for employee benefit plans
          
235
         
244
 
Treasury stock, June 30
          
(2,778
)
        
(885
)
TOTAL COMPREHENSIVE INCOME AND SHAREHOLDERS' EQUITY
  
$
452
  
$
4,694
 
$
1,102
 
$
5,879
  
                           
The accompanying Notes to the Financial Statements are an integral part of these statements.
3

 
CONSOLIDATED STATEMENTS OF CASH FLOWS
  
(In millions)
  
           
   
Six Months Ended June 30,
  
   
2006
  
2005
  
           
CASH FLOWS FROM OPERATING ACTIVITIES
              
Net income
  
$
625
  
$
1,156
  
Adjustments to reconcile net income to net cash provided by operating activities:
              
Income from discontinued operations
    
-
   
(349
)
Insurance liabilities
    
(160
)
  
(312
)
Reinsurance recoverables
    
47
   
(21
)
Deferred policy acquisition costs
    
(38
)
  
(29
)
Premiums, accounts and notes receivable
    
159
   
68
 
Accounts payable, accrued expenses and other liabilities
    
(393
)
  
92
 
Current income taxes
    
134
   
6
 
Deferred income taxes
    
(8
)
  
68
 
Realized investment (gains)
   
(150
)
  
(19
)
Depreciation and amortization
    
107
   
112
 
Gains on sales of businesses
   
(33
)
  
(348
)
Mortgage loans originated and held for sale
    
(312
)
  
-
 
Proceeds from sales of mortgage loans held for sale
     99      -  
Other, net
    
4
   
(5
)
Net cash provided by operating activities
    
81
   
419
 
               
CASH FLOWS FROM INVESTING ACTIVITIES
              
Proceeds from investments sold:
             
Fixed maturities
   
1,745
   
1,481
 
Equity securities
    
17
   
4
 
Mortgage loans
    
292
   
175
 
Other (primarily short-term investments)
    
893
   
6
 
Investment maturities and repayments:
              
Fixed maturities
   
505
   
635
 
Mortgage loans
    
147
   
159
 
Investments purchased:
              
Fixed maturities
   
(1,592
)
  
(1,834
)
Equity securities
    
(40
)
  
(6
)
Mortgage loans
    
(545
)
  
(380
)
Other (primarily short-term investments)
    
(485
)
  
(697
)
Conversion of single premium annuity business
    
(45
)
  
-
 
Property and equipment, net
    
(67
)
  
(51
)
Net cash provided by (used in) investing activities
    
825
   
(508
)
               
CASH FLOWS FROM FINANCING ACTIVITIES
              
Deposits and interest credited to contractholder deposit funds
    
293
    
339
 
Withdrawals and benefit payments from contractholder deposit funds
    
(318
)
  
(269
)
Change in cash overdraft position
    
(4
)
  
(219
)
Repayment of long-term debt
    
(100
)
  
-
 
Repurchase common stock
    
(1,273
)
  
(576
)
Issuance of common stock
    
180
   
180
 
Common dividends paid
    
(6
)
  
(6
)
Net cash used in financing activities
    
(1,228
)
  
(551
)
               
Effect of foreign currency rate changes on cash and cash equivalents
    
1
   
-
 
               
Net decrease in cash and cash equivalents
    
(321
)
  
(640
)
Cash and cash equivalents, beginning of period
    
1,709
   
2,519
 
               
Cash and cash equivalents, end of period
  
$
1,388
  
$
1,879
  
               
Supplemental Disclosure of Cash Information:
              
Income taxes paid, net
 
$
164
  
$
209
  
Interest paid
  
$
52
  
$
52
  
               
The accompanying Notes to the Financial Statements are an integral part of these statements.
4
 

CIGNA CORPORATION
NOTES TO THE FINANCIAL STATEMENTS

 
NOTE 1 - BASIS OF PRESENTATION

The consolidated financial statements include the accounts of CIGNA Corporation, its significant subsidiaries, and variable interest entities of which CIGNA is the primary beneficiary, which are referred to collectively as “CIGNA.” Intercompany transactions and accounts have been eliminated in consolidation. These consolidated financial statements were prepared in conformity with accounting principles generally accepted in the United States of America.

The interim financial statements are unaudited but include all adjustments (including normal recurring adjustments) necessary, in the opinion of management, for a fair statement of financial position and results of operations for the periods reported. The interim consolidated financial statements and notes should be read in conjunction with the Consolidated Financial Statements and Notes in CIGNA’s Annual Report to Shareholders and Form 10-K for the year ended December 31, 2005.

The preparation of interim financial statements necessarily relies heavily on estimates. This and certain other factors, such as the seasonal nature of portions of the insurance business as well as competitive and other market conditions, call for caution in estimating full year results based on interim results of operations.

Certain reclassifications have been made to prior period amounts to conform to the 2006 presentation, including the elimination of certain intercompany purchases and sales of short-term investments in the investing activities section of the statement of cash flows. This reclassification had no net impact on the prior year net purchases and sales of short-term investments or the total cash flows from investing activities.

NOTE 2 - RECENT ACCOUNTING
PRONOUNCEMENTS

Uncertain tax positions. In 2006, the staff of the Financial Accounting Standards Board (FASB) issued an interpretation of Statement of Financial Accounting Standards (SFAS) No. 109, "Accounting for Income Taxes," providing guidance to recognize and measure uncertain tax positions that are "more likely than not" to result in a benefit if challenged by the IRS. The guidance clarifies that the amount of tax benefit recognized should be measured using management's best estimate based on the most favorable expected benefit with greater than fifty percent likelihood of being realized. The interpretation also requires that interest expense and penalties be recognized for any reserved portion of an uncertain tax position beginning when the effect of that position is reported to tax authorities. CIGNA expects to implement this interpretation as required in the first quarter of 2007 with no material effects to the financial statements.
 
Certain financial instruments. In 2006, the FASB issued an amendment related to SFAS No. 133, "Accounting for Derivatives and Hedging Activities," for implementation in the first quarter of 2007. The amendment clarifies when certain financial instruments and features of financial instruments must be treated as derivatives and reported on the balance sheet at fair value with changes in fair value reported in net income. CIGNA will implement the amendment beginning with financial instruments acquired in the first quarter of 2007, with no material effects to the financial statements expected at adoption. However, this amendment may affect future income recognition for certain financial instruments if additional derivatives are identified because any changes in their fair values will be recognized in net income each period.

Deferred acquisition costs. In 2005, the American Institute of Certified Public Accountants issued a Statement of Position (SOP), "Accounting by Insurance Enterprises for Deferred Acquisition Costs in Connection With Modifications or Exchanges of Insurance Contracts," for implementation in the first quarter of 2007. The SOP requires that deferred acquisition costs be expensed in full when the original contract is substantially changed by election or amendment of an existing contract feature or by replacement with a new contract. CIGNA expects to implement the SOP for contract changes beginning in the first quarter of 2007 with no material effects to the
 
 
5
 
financial statements at implementation. Although substantial contract changes are not expected to occur, the effect of this SOP in future periods may vary based on the nature and volume of any such contract changes.
 
Other-than-temporary impairment. Effective January 1, 2006, CIGNA implemented guidance provided by the FASB on evaluating fixed maturities and equity securities for other-than-temporary impairment. Because this guidance is largely a summary of existing accounting principles generally accepted in the United States of America, there was no material effect in accounting for fixed maturities and equity securities with other-than-temporary impairments at implementation on January 1, 2006. See Note 11 for a review of declines in fair value of fixed maturities and equity securities.
 
Stock compensation. SFAS No. 123 (as revised in 2004 and referred to as SFAS 123R,) “Share-Based Payment” was effective January 1, 2006. This standard, which CIGNA early adopted effective October 1, 2004, requires companies to recognize in net income an estimate of expense for stock awards and options over their vesting periods typically determined as of the date of grant. CIGNA records compensation expense for stock options over their vesting periods based on the estimated fair value of the stock options, which is calculated using an option-pricing model. Compensation expense is recorded for restricted stock grants and deferred stock units over their vesting periods based on fair value, which is equal to the market price of CIGNA common stock on the date of grant.

Compensation cost and related tax benefits for stock options, restricted stock and deferred stock units were as follows:
 
           
   
Three Months
 
Six Months
 
 
 
Ended
 
Ended
 
 
 
June 30,
 
June 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Compensation cost
  
$
11
  
$
8
  
$
23
  
$
14
  
Tax benefits
  
$
4
  
$
3
  
$
8
  
$
5
  
 
Compensation expense for stock options was determined using the following data:
 

           
   
Three Months
 
Six Months
 
 
 
Ended
 
Ended
 
 
 
June 30,
 
June 30,
 
(Options in thousands)
 
2006
 
2005
 
2006
 
2005
  
Options granted
    
7
   
37
   
531
   
818
 
Weighted average fair
                          
   value of options granted
  
$
37.06
  
$
37.01
  
$
43.88
  
$
34.02
  
 
CIGNA calculated the average fair value using the Black-Scholes option pricing model. The following assumptions were used for the periods indicated:
 

       
   
As of June 30,
 
   
2006
 
2005
  
Dividend yield
    
0.1
%
  
0.1
%
Expected volatility
    
35.0
%
  
35.0
%
Risk-free interest rate
    
4.6
%
  
3.9
%
Expected option life
    
4.5  
 years   
5.25 
years
               

The expected volatility reflects CIGNA's past daily stock price volatility. Volatility implied in the market prices of traded options was not considered a good indicator of future volatility because remaining maturities of traded options are less than one year. CIGNA developed the expected option life by considering certain factors, including assumptions used by other companies with comparable stock option plan features and CIGNA's cancellation of a replacement option feature in June 2004.
 
 
6

Restricted stock granted and the average fair value at the date of grant were as follows:
 
           
   
Three Months
 
Six Months
 
 
 
Ended
 
Ended
 
 
 
June 30,
 
June 30,
 
(Grants in thousands)
 
2006
 
2005
 
2006
 
2005
  
Restricted stock granted
    
4
   
30
   
197
   
312
 
Weighted average fair value
  
$
111.90
  
$
94.47
  
$
122.27
  
$
91.66
  
                           
 
NOTE 3 - INCOME TAXES

During the second quarter of 2005, the Congressional Joint Committee on Taxation approved CIGNA's refund claim relating to a tax loss incurred from the sale of a business in 1999 and the completion of the IRS audit for 2000-2002. Pursuant to this approval, CIGNA recorded total tax benefits of $430 million consisting of:

·  
$287 million resulting from capital losses realized in connection with the divestiture of the property and casualty insurance operations in 1999, which is included in income from discontinued operations; and
·  
$143 million resulting primarily from the release of tax reserves and valuation allowances of which:
·  
$81 million is reported as income from continuing operations; and
·  
$62 million relates to the divestiture of CIGNA's Brazilian health care business, which is included in income from discontinued operations.

NOTE 4 - ACQUISITIONS AND DISPOSITIONS

CIGNA may from time to time acquire or dispose of assets, subsidiaries or lines of business. Significant transactions are described below.

Sale of Retirement Benefits Business. On April 1, 2004, CIGNA sold its retirement benefits business, excluding the corporate life insurance business, for cash proceeds of $2.1 billion. The sale resulted in an initial after-tax gain of $809 million, of which $267 million after-tax was recognized immediately. The after-tax gain was subsequently reduced by $3 million to reflect additional taxes on the sale. In the second quarter of 2006, the after-tax gain was increased by $12 million to reflect the conversion of the single premium annuity business to indemnity coinsurance (see below). Both of these adjustments are reflected in the deferred portion of the gain.

As this transaction was primarily in the form of a reinsurance arrangement under which CIGNA retains the contractual obligation to pay these liabilities, $542 million of the initial after-tax gain was deferred. Subsequent to the original reinsurance transaction, the buyer of the retirement benefits business has entered into agreements with most of the insured parties relieving CIGNA of any remaining contractual obligation to those parties (novation). Additional such agreements are expected.

The deferred gain is amortized at the rate at which earnings from the sold business would have been expected to emerge (primarily 15 years on a declining basis) until CIGNA is relieved of any remaining contractual obligation. At the time of novation, CIGNA accelerates amortization of a portion of the deferred gain and also reduces the associated contractholder deposit funds, future policy benefits, reinsurance recoverables and separate account balances. As of June 30, 2006 the remaining contractholder deposit funds and future policy benefits associated with the sold retirement benefits business totaled $2.5 billion. See Note 8 for additional information on reinsurance recoverables associated with the sale of the retirement benefits business.
 
 
7

CIGNA recognized deferred gain amortization in other revenues in the Run-off Retirement segment as follows:
 
           
(In millions)
  
Pre-Tax
 
After-Tax
 
Three Months Ended June 30,
          
2006
          
Accelerated deferred gain amortization
  
$
2
  
$
5
  
Normal deferred gain amortization
  
$
4
  
$
3
  
2005
              
Accelerated deferred gain amortization
  
$
45
  
$
29
  
Normal deferred gain amortization
  
$
4
  
$
3
  
Six Months Ended June 30,
             
2006
              
Accelerated deferred gain amortization
  
$
6
  
$
6
  
Normal deferred gain amortization
  
$
6
  
$
4
  
2005
              
Accelerated deferred gain amortization
  
$
305
  
$
198
  
Normal deferred gain amortization
  
$
18
  
$
12
  

The remaining pre-tax deferred gain as of June 30, 2006 was $71 million.

In 2005, in connection with a modified coinsurance arrangement, CIGNA received units of the buyer’s separate accounts and continues to carry those units as separate account assets on its balance sheet for the business not yet directly assumed by the buyer. At June 30, 2006, there were approximately $3.2 billion of separate account assets and liabilities associated with this business not yet directly assumed by the buyer.

From April 1, 2004 through March 31, 2006, CIGNA had a modified coinsurance arrangement relating to the single premium annuity business sold to the buyer. Under the arrangement, CIGNA retained the invested assets supporting the reinsured liabilities. These invested assets were held in a business trust established by CIGNA.

Effective April 1, 2006, the buyer converted this modified coinsurance arrangement to an indemnity reinsurance structure and took ownership of the trust assets. CIGNA transferred invested assets to the buyer and recorded a reinsurance recoverable of approximately $1.6 billion in the second quarter of 2006, which corresponds to the liabilities for the single premium annuity business held by CIGNA as of June 30, 2006. As a result of the conversion to indemnity coinsurance, CIGNA increased the pre-tax deferred gain by approximately $17 million ($12 million after-tax). The additional deferred gain will be amortized on a basis consistent with the original deferred gain.
 
NOTE 5 - EARNINGS PER SHARE

Basic and diluted earnings per share were computed as follows:
 
               
(Dollars in millions, except
 
 
 
Effect of
 
 
 
per share amounts)
 
Basic
 
Dilution
 
Diluted
  
Three Months Ended June 30,
              
2006
              
Income from continuing operations
  
$
273
    
-
 
$
273
  
Shares (in thousands):
                    
Weighted average
    
115,411
   
-
   
115,411
 
Options and restricted stock grants
          
1,567
   
1,567
 
Total shares
    
115,411
   
1,567
   
116,978
 
EPS
  
$
2.37
  
$
(0.04
)
$
2.33
  
2005
                    
Income from continuing operations
  
$
371
    
-
 
$
371
  
Shares (in thousands):
                    
Weighted average
    
128,986
   
-
   
128,986
 
Options and restricted stock grants
          
2,360
   
2,360
 
Total shares
    
128,986
   
2,360
   
131,346
 
EPS
  
$
2.88
  
$
(0.06
)
$
2.82
  
Six Months Ended June 30,
                    
2006
                    
Income from continuing operations
  
$
625
    
-
 
$
625
  
Shares (in thousands):
                    
Weighted average
    
117,666
   
-
   
117,666
 
Options and restricted stock grants
          
2,067
   
2,067
 
Total shares
    
117,666
   
2,067
   
119,733
 
EPS
  
$
5.31
  
$
(0.09
)
$
5.22
  
2005
                    
Income from continuing operations
  
$
807
    
-
 
$
807
  
Shares (in thousands):
                    
Weighted average
    
129,850
   
-
   
129,850
 
Options and restricted stock grants
          
2,182
   
2,182
 
Total shares
    
129,850
   
2,182
   
132,032
 
EPS
  
$
6.21
  
$
(0.10
)
$
6.11
  
 
 
8

The following outstanding employee stock options were not included in the computation of diluted earnings per share because their effect would have increased diluted earnings per share (antidilutive) as the estimated proceeds from their exercise was greater than the average share price of CIGNA's common stock for the period.
 
           
   
Three Months
 
Six Months
 
 
 
Ended
 
Ended
 
 
 
June 30,
 
June 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Antidilutive options
    
2.0
   
3.3
   
1.3
   
4.8
 
                           

CIGNA held 49,134,111 shares of common stock in Treasury as of June 30, 2006, and 31,460,719 shares as of June 30, 2005.

NOTE 6 - HEALTH CARE MEDICAL CLAIMS PAYABLE

Medical claims payable for the Health Care segment reflects estimates of the ultimate cost of claims that have been incurred but not yet reported (IBNR), those which have been reported but not yet paid (reported claims in process) and other medical expense payable, which primarily comprises accruals for provider incentives and other amounts payable to providers. IBNR comprises the majority of the reserve balance as follows:
 
           
 
 
June 30,
 
December 31,
 
(In millions)
 
2006
 
2005
  
IBNR
  
$
896
  
$
1,004
  
Reported claims in process
    
74
   
116
 
Other medical expense payable
    
49
   
45
 
Medical claims payable
  
$
1,019
  
$
1,165
  
 
Activity in medical claims payable was as follows:
           
 
 
As of
 
As of
 
(In millions)
 
June 30, 2006
 
December 31, 2005
  
Beginning Balance - Jan. 1
  
$
1,165
  
$
1,594
  
Less: Reinsurance and other
             
     amounts recoverable
    
342
   
497
 
Beginning Balance, net
    
823
   
1,097
 
Incurred claims related to:
             
     Current year
    
3,094
   
6,631
 
     Prior years
    
(153
)
  
(326
)
     Total incurred
    
2,941
   
6,305
 
Paid claims related to:
              
     Current year
    
2,453
   
5,844
 
     Prior years
    
570
   
735
 
     Total paid
    
3,023
   
6,579
 
Ending Balance, net
    
741
   
823
 
Add: Reinsurance and other
             
     amounts recoverable
    
278
   
342
 
Ending Balance
  
$
1,019
  
$
1,165
  
 
For the following reasons, the amount of incurred claims related to prior years do not directly correspond to an increase or decrease in CIGNA's net income in the period recognized.

First, due to the nature of CIGNA's retrospectively experience-rated business, only adjustments to medical claims payable on accounts in deficit affect net income. An increase or decrease to medical claims payable on accounts in deficit, in effect, accrue to CIGNA and directly impact net income. An account is in deficit when the accumulated medical costs and administrative charges, including profit charges, exceed the accumulated premium received. Adjustments to medical claims payable on accounts in surplus accrue directly to the policyholder with no impact on net income. An account is in surplus when the premium received exceeds the medical expense and administrative charges, including profit charges.

Second, CIGNA consistently recognizes the actuarial best estimate of the ultimate liability within a level of confidence, as required by actuarial standards of practice, which require that the liabilities be adequate under moderately adverse conditions. As such, a portion of the incurred claims related to prior years represents the amount established to achieve that level of confidence, which may be offset by an equivalent amount established as part of the estimate of incurred claims related to current years. A change in incurred claims related to prior
 
 
9
 
years which is completely offset in this manner will not affect CIGNA's net income.

The favorable incurred claims related to prior years’ reserves of $153 million for the six months ended June 30, 2006 and $326 million for the year ended December 31, 2005 was a result of actual experience differing from CIGNA's key assumptions. Specifically, the favorable impact is primarily due to higher than expected completion factors reflecting better than expected time to process and lower than expected medical cost trends.

The determination of liabilities for health care medical claims payable requires CIGNA to make critical accounting estimates. CIGNA describes the assumptions used to develop the reserves for these death benefits, and provides the effects of hypothetical changes in those assumptions on page 24 of CIGNA's June 30, 2006 Form 10-Q.
 
NOTE 7 - GUARANTEED MINIMUM DEATH BENEFIT AND INCOME BENEFIT CONTRACTS

CIGNA’s reinsurance operations, which were discontinued in 2000 and are now an inactive business in run-off mode, reinsured a guaranteed minimum death benefit under certain variable annuities issued by other insurance companies. These variable annuities are essentially investments in mutual funds combined with a death benefit. CIGNA has equity and other market exposures as a result of this product.

The determination of liabilities for guaranteed minimum death benefits requires CIGNA to make critical accounting estimates. CIGNA describes the assumptions used to develop the reserves for these death benefits, and provides the effects of hypothetical changes in those assumptions on page 26 of CIGNA’s 2005 Annual Report to Shareholders. CIGNA regularly evaluates the assumptions used in establishing reserves and changes its estimates if actual experience or other evidence suggests that earlier assumptions should be revised. If actual experience differs from the assumptions (including lapse, partial surrender, mortality, interest rates and volatility) used in estimating these reserves, the resulting change could have a material adverse effect on CIGNA’s consolidated results of operations, and in certain situations, could have a material adverse effect on CIGNA’s financial condition.

During the first quarter of 2005, CIGNA completed its normal review of assumptions and recorded an after-tax charge of $11 million ($17 million pre-tax). This charge primarily resulted from an update to lapse assumptions based on emerging experience. The charge also reflected updates to partial surrender assumptions, reflecting the impact of stock market declines, as well as other assumptions. CIGNA had future policy benefit reserves for guaranteed minimum death benefit contracts of $932 million as of June 30, 2006, and $951 million as of December 31, 2005.

The following provides information about CIGNA’s reserving methodology and assumptions for guaranteed minimum death benefits as of June 30, 2006:

·  
The reserves represent estimates of the present value of net amounts expected to be paid, less the present value of net future premiums. Included in net amounts expected to be paid is the excess of the guaranteed death benefits over the values of the contractholders’ accounts (based on underlying equity and bond mutual fund investments).
·  
The reserves include an estimate for partial surrenders that essentially lock in the death benefit for a particular policy based on annual election rates that vary from 0-23% depending on the net amount at risk for each policy and whether surrender charges apply.
·  
The mean investment performance assumption is 5% considering CIGNA's program to reduce equity market exposures using futures contracts. In addition, the results of futures contracts are reflected in the liability calculation as a component of investment returns.
·  
The volatility assumption is 15-30%, varying by equity fund type; 3-8%, varying by bond fund type; and 1% for money market funds.
·  
The discount rate is 5.75%.
·  
The mortality assumption is 70-75% of the 1994 Group Annuity Mortality table, with 1% annual improvement beginning January 1, 2000.
·  
The lapse rate assumption is 0-15%, depending on contract type, policy duration and the ratio of the net amount at risk to account value.

As of June 30, 2006, the aggregate fair value of the underlying mutual fund investments was $36.8 billion. The death benefit coverage in force as of that date (representing the amount that CIGNA
 
 
10
 
would have to pay if all 1.0 million contractholders had died on that date) was $6.3 billion. The death benefit coverage in force represents the excess of the guaranteed benefit amount over the fair value of the underlying mutual fund investments.
 
The notional amount of futures contract positions held by CIGNA at June 30, 2006, was $1.1 billion. CIGNA recorded in other revenues a pre-tax gain of $16 million for the second quarter and a pre-tax loss of $24 million for the six months of 2006, compared with a pre-tax loss of $21 million for the second quarter and a pre-tax gain of $17 million for the six months of 2005 primarily from futures contracts. Expense offsets reflecting corresponding changes in liabilities for these guaranteed minimum death benefit contracts were included in benefits and expenses.

For further information and details on these contracts and the program adopted to reduce related equity market risk, refer to Note 6 of CIGNA's 2005 Annual Report to Shareholders.

CIGNA has also written reinsurance contracts with issuers of variable annuity contracts that provide annuitants with certain guarantees related to minimum income benefits. See Note 14 for further information.

NOTE 8 - REINSURANCE

In the normal course of business, CIGNA’s insurance subsidiaries enter into agreements with other insurance companies to assume and cede reinsurance. Reinsurance is ceded primarily to limit losses from large exposures and to permit recovery of a portion of direct losses. Reinsurance does not relieve the originating insurer of liability. CIGNA evaluates the financial condition of its reinsurers and monitors their concentrations of credit risk.

Retirement benefits business. CIGNA had a reinsurance recoverable of $2.5 billion as of June 30, 2006, and $1.2 billion as of December 31, 2005 from Prudential Retirement Insurance and Annuity Company resulting from the sale of the retirement benefits business, which was primarily in the form of a reinsurance arrangement. The increase from 2005 includes $1.6 billion as a result of the conversion of the single premium annuity business to indemnity coinsurance effective April 1, 2006. The reinsurance recoverable is secured primarily by fixed maturities and mortgage loans held in business trusts established by the reinsurer. This recoverable is reduced as CIGNA's reinsured liabilities are paid or directly assumed by the reinsurer.

Individual life and annuity reinsurance. CIGNA had a reinsurance recoverable of $4.9 billion at June 30, 2006, and $5.0 billion at December 31, 2005, from Lincoln National Corporation that arose from the 1998 sale of CIGNA’s individual life insurance and annuity business through an indemnity reinsurance arrangement.

Unicover and other run-off reinsurance. The Run-off Reinsurance operations participate in a workers’ compensation reinsurance pool, which ceased accepting new risks in early 1999. This pool was formerly managed by Unicover Managers, Inc. The pool purchased significant reinsurance (retrocessional) protection for its assumed risks. Disputes concerning these retrocessional contracts have resulted in a number of arbitrations, most of which have been resolved or settled. The remaining disputes are expected to be substantially resolved in 2006.

Run-off Reinsurance also includes other (non-Unicover) workers’ compensation reinsurance contracts and personal accident reinsurance contracts, including contracts assumed in the London market. CIGNA is in dispute and arbitration with some ceding companies over the validity or amount of liabilities assumed under their contracts and expects that these disputes and arbitrations will be substantially resolved by 2008.

In addition, CIGNA obtained retrocessional reinsurance coverage for a significant portion of its liabilities under these contracts, and some of these retrocessionaires have disputed the validity or amount of liabilities assumed under their contracts
 
 
11
 
with CIGNA. Many of these disputes with retrocessionaires have been resolved or settled. Most of the remaining significant disputes relating to the retrocessional reinsurance coverage are expected to be resolved by 2008. CIGNA bears the risk of loss if the retrocessionaires are unable to meet their reinsurance obligations to CIGNA.

Unfavorable claims experience related to workers’ compensation and personal accident exposures is possible and could result in future losses, including losses attributable to the inability to recover amounts from retrocessionaires (due to disputes with the retrocessionaires or their financial condition).

CIGNA’s reserves for amounts recoverable from retrocessionaires, as well as for underlying reinsurance exposures assumed by CIGNA, are considered appropriate as of June 30, 2006, based on current information. However, it is possible that future developments could have a material adverse effect on CIGNA’s consolidated results of operations and, in certain situations, could have a material adverse effect on CIGNA’s financial condition.

Other reinsurance. CIGNA could have losses if reinsurers fail to indemnify CIGNA on other reinsurance arrangements, either because of reinsurer insolvencies or contract disputes. However, management does not expect charges for other unrecoverable reinsurance to have a material adverse effect on CIGNA’s consolidated results of operations, liquidity or financial condition.

Effects of reinsurance. In CIGNA’s consolidated income statements, premiums and fees were net of ceded premiums, and benefits and expenses were net of reinsurance recoveries, in the following amounts:
 
           
   
Three Months
 
Six Months
 
 
 
Ended
 
Ended
 
 
 
June 30,
 
June 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Premiums and fees
                  
Individual life insurance
                 
   and annuity business sold
  
$
64
  
$
69
  
$
128
  
$
136
  
Other
    
53
   
55
   
98
   
96
 
Total
  
$
117
  
$
124
  
$
226
  
$
232
  
Reinsurance recoveries
                          
Individual life insurance
                          
   and annuity business sold
  
$
78
  
$
77
  
$
153
  
$
140
  
Other
    
10
   
25
    
45
   
68
 
Total
  
$
88
  
$
102
  
$
198
  
$
208
  

NOTE 9 - PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS

Pension benefits. Components of net pension cost were as follows:
 
           
   
Three Months
 
Six Months
 
 
 
Ended
 
Ended
 
 
 
June 30,
 
June 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Service cost
  
$
16
  
$
19
  
$
35
  
$
36
  
Interest cost
    
56
   
55
   
111
   
110
 
Expected return on plan assets
    
(52
)
  
(44
)
  
(104
)
  
(90
)
Amortization of:
                          
Net loss from past experience
    
35
   
34
   
76
   
70
 
Prior service cost
    
-
   
-
   
-
   
(1
)
Net pension cost
  
$
55
  
$
64
  
$
118
  
$
125
  
 
 
During the second quarter of 2006, CIGNA's minimum pension liability increased primarily due to the annual update of plan census data. This resulted in a decrease to shareholder’s equity of $9 million after-tax. During the second quarter of 2005, CIGNA recorded a similar charge which resulted in a decrease to shareholder’s equity of $30 million after-tax.
 
CIGNA funds its qualified pension plans by at least the minimum amount required by the Employee
 
 
12
 
Retirement Income Security Act of 1974, as amended (ERISA).
 
During 2005, CIGNA made pension contributions to the domestic and international pension plans totaling $544 million which included an acceleration of expected contributions to meet domestic pension plan funding requirements in 2006 and 2007. Therefore, CIGNA does not expect to make domestic pension plan contributions in 2006, unless federal legislation currently being discussed changes the minimum funding requirements and increases CIGNA's required funding.
 
Other postretirement benefits. Components of net other postretirement benefit cost were as follows:
 
           
   
Three Months
 
Six Months
 
 
 
Ended
 
Ended
 
 
 
June 30,
 
June 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Service cost
  
$
-
  
$
-
  
$
1
  
$
1
  
Interest cost
    
6
   
4
   
12
   
13
 
Expected return on plan assets
    
(1
)
  
-
   
(1
)
  
(1
)
Amortization of:
                          
    Net gain from past experience
    
-
   
(1
)
  
(1
)
  
(1
)
    Prior service cost
    
(4
)
  
(3
)
  
(8
)
  
(8
)
Net other postretirement
                         
    benefit cost
  
$
1
  
$
-
  
$
3
  
$
4
  
 
NOTE 10 - COST REDUCTION PROGRAM
 
First quarter 2005 program. In the first quarter of 2005, CIGNA implemented a plan to further streamline operations in the health care business and in supporting areas. As a result, CIGNA recognized in other operating expenses a total pre-tax charge of $51 million ($33 million after-tax) for severance costs during the first quarter of 2005. The table below quantifies CIGNA's cost reduction activity (pre-tax) for severance under this program:
 
               
(In millions)
  
Health Care
 
Corporate
 
Total
  
Balance as of December 31, 2005
  
$
6
  
$
13
  
$
19
  
First quarter 2006 activity
    
(5
)
  
(3
)
  
(8
)
Balance as of March 31, 2006
    
1
   
10
   
11
 
Second quarter 2006 activity
    
-
   
(5
)
  
(5
)
Balance as of June 30, 2006
  
$
1
  
$
5
  
$
6
  
                     
 
CIGNA substantially completed this program during the second quarter of 2006.
 
NOTE 11 - INVESTMENTS

Realized Investment Gains and Losses

The following realized gains and losses on investments exclude amounts required to adjust future policy benefits for certain annuities:
 

           
   
Three Months
 
Six Months
 
 
 
Ended
 
Ended
 
 
 
June 30,
 
June 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Fixed maturities
  
$
(18
)
$
2
  
$
(14
)
$
15
  
Equity securities
    
(8
)
  
(1
)
  
(5
)
  
-
 
Mortgage loans
    
-
   
(2
)
  
(6
)
  
(2
)
Real estate
    
-
   
(1
)
  
-
   
(1
)
Other investments,
                         
    including derivatives
    
32
   
4
   
175
   
7
 
Realized investment gains,
                         
    before income taxes
    
6
   
2
   
150
   
19
 
Less income taxes
    
3
   
1
   
53
   
7
 
Net realized investment gains
  
$
3
  
$
1
  
$
97
  
$
12
  
 
For the second quarter and six months of 2006, realized investment results reflect:

·  
gains on other investments from sales of equity interests in real estate limited liability entities; and
·  
losses on fixed maturities largely due to the impact of rising interest rates on investments where CIGNA cannot demonstrate the intent and ability to hold until recovery.

Fixed Maturities and Equity Securities

Sales of available-for-sale fixed maturities and equity securities were as follows:
 
           
   
Three Months
 
Six Months
 
 
 
Ended
 
Ended
 
 
 
June 30,
 
June 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Proceeds from sales
  
$
1,222
  
$
887
  
$
1,762
  
$
1,485
  
Gross gains from sales
  
$
11
  
$
7
  
$
27
  
$
22
  
Gross losses from sales
  
$
(21
)
$
(8
)
$
(33
)
$
(14
)
                           
 
Fixed maturities included securities of $34 million at June 30, 2006 and $39 million at December 31, 2005 classified as trading. These securities are carried at fair value with changes in fair value reported in other revenues.
 
 
13

As of June 30, 2006, CIGNA had commitments to purchase $163 million of fixed maturities during the remainder of 2006.

Review of Declines in Fair Value. Management reviews fixed maturities and equity securities for impairment based on criteria that include:
        ·
length of time and severity of decline;
·  
financial health and specific near term prospects of the issuer;
·  
changes in the regulatory, economic or general market environment of the issuer’s industry or geographic region; and
·  
ability and intent to hold until recovery.
 
As of June 30, 2006, fixed maturities (primarily investment grade corporate bonds) and equity securities with a decline in fair value from cost were as follows, including the length of time of such decline:
 
               
(In millions)
  
Fair Value
  
Amortized Cost
  
Unrealized Depreciation
  
Fixed Maturities:
              
One year or less:
              
    Investment grade
  
$
4,258
  
$
4,404
  
$
(146
)
    Below investment grade
  
$
227
  
$
233
  
$
(6
)
More than one year:
                    
    Investment grade
  
$
899
  
$
946
  
$
(47
)
    Below investment grade
  
$
25
  
$
26
  
$
(1
)
Equity Securities:
                    
    Less than one year
  
$
20
  
$
21
  
$
(1
)
 
The unrealized depreciation of investment grade fixed maturities is primarily due to increases in interest rates since purchase.

CIGNA recorded pre-tax impairments in fixed maturities of $18 million in the second quarter and $27 million for the six months of 2006, compared with $2 million in the second quarter and $10 million for the six months of 2005.

Mortgage Loans

In connection with CIGNA’s investment strategy to enhance investment yields by selling senior participations, as of June 30, 2006, mortgage loans includes $122 million of mortgage loans originated with the intent to sell. These mortgage loans held for sale are carried at the lower of cost or market with any resulting valuation allowance reported in realized investment gains and losses. Also in connection with this strategy, CIGNA entered into commitments to extend credit under commercial mortgage loans at a fixed rate of interest. As these mortgage loans will also be held for sale, these commitments are treated as derivatives and pre-tax decreases in their fair values of approximately $2 million are reported in realized investment gains and losses.

Other Long-term Investments

As of June 30, 2006, CIGNA had commitments to contribute:

·  
$293 million to limited liability entities that hold either real estate or loans to real estate entities; and
·  
$283 million to entities that hold securities.

NOTE 12 - ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

Accumulated other comprehensive income (loss) excludes:

·  
amounts required to adjust future policy benefits for certain annuities; and
·  
amounts required to adjust other liabilities after the initial reclassification of unrealized appreciation under a modified coinsurance arrangement and prior to the April 1, 2006 transfer of invested assets to the buyer of the retirement benefits business.
 
 
14

 
Changes in accumulated other comprehensive income (loss) were as follows:
 
               
(In millions)
 
Pre-tax
 
Tax (Expense) Benefit
 
After-tax
  
Three Months Ended June 30,
             
2006
              
Net unrealized depreciation, securities:
              
Unrealized depreciation on securities
              
    held
  
$
(130
)
$
45
  
$
(85
)
Losses realized on securities
    
26
   
(9
)
  
17
 
Net unrealized depreciation, securities
  
$
(104