CIGNA 3rd Quarter 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 September 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 September 30, 2006, 102,567,908 shares of the issuer's common stock were outstanding.




CIGNA CORPORATION

INDEX
 
   
Page No.
PART I.
FINANCIAL INFORMATION
       
 
Item 1.
Financial Statements
 
   
Consolidated Income Statements
   
Consolidated Balance Sheets
   
Consolidated Statements of Comprehensive
   
Income and Changes in Shareholders' Equity
  
   
Consolidated Statements of Cash Flows
   
Notes to the Financial Statements
       
 
Item 2.
Management's Discussion and Analysis
   
of Financial Condition and Results of Operations
  
       
 
Item 3.
Quantitative and Qualitative Disclosures About
   
Market Risk
  
 
 
    
 
Item 4.
Controls and Procedures
 
 
    
PART II.
OTHER INFORMATION
       
 
Item 1.
Legal Proceedings
       
       
 
Item 1A.
Risk Factors
       
 
Item 2.
Unregistered Sales of Equity Securities and
   
Use of Proceeds
  
       
 
Item 6.
Exhibits
       
SIGNATURE
EXHIBIT INDEX


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
    
Nine Months Ended
   
September 30,
    
September 30,
   
2006
  
2005
    
2006
  
2005
                   
REVENUES
                  
Premiums and fees
$
3,433
$
3,381
 
$
10,070
$
10,151
Net investment income
  
296
 
334
   
924
 
995
Other revenues
  
360
 
298
   
1,150
 
1,300
Realized investment gains
  
48
 
9
   
198
 
28
Total revenues
  
4,137
 
4,022
   
12,342
 
12,474
                   
BENEFITS AND EXPENSES
                  
Health Care medical claims expense
  
1,595
 
1,579
   
4,536
 
4,633
Other benefit expenses
  
743
 
786
   
2,356
 
2,481
Other operating expenses
  
1,353
 
1,274
   
4,068
 
3,875
Total benefits and expenses
  
3,691
 
3,639
   
10,960
 
10,989
                   
INCOME FROM CONTINUING OPERATIONS
                  
BEFORE INCOME TAXES (BENEFITS)
  
446
 
383
   
1,382
 
1,485
                   
Income taxes (benefits):
                  
Current
  
158
 
(58)
    
477
 
169
Deferred
  
(14)
  
182
   
(22)
  
250
Total taxes
  
144
 
124
   
455
 
419
                   
INCOME FROM CONTINUING OPERATIONS
 
302
 
259
 
 
927
 
1,066
                   
INCOME (LOSS) FROM DISCONTINUED OPERATIONS,
                 
NET OF TAXES
 
(4)
  
-
   
(4)
  
349
                   
NET INCOME
$
298
$
259
 
$
923
$
1,415
                   
EARNINGS PER SHARE - BASIC
                 
                   
INCOME FROM CONTINUING OPERATIONS
$
2.83
$
2.04
 
$
8.14
$
8.27
                   
INCOME (LOSS) FROM DISCONTINUED OPERATIONS
  
(0.03)
  
-
   
(0.04)
  
2.71
                   
NET INCOME
$
2.80
$
2.04
 
$
8.10
$
10.98
                   
EARNINGS PER SHARE - DILUTED
                 
                   
INCOME FROM CONTINUING OPERATIONS
$
2.79
$
2.00
 
$
8.00
$
8.12
                   
INCOME (LOSS) FROM DISCONTINUED OPERATIONS
  
(0.04)
  
-
   
(0.03)
  
2.66
                   
NET INCOME
$
2.75
$
2.00
 
$
7.97
$
10.78
                   
                   
DIVIDENDS DECLARED PER SHARE
$
0.025
$
0.025
 
$
0.075
$
0.075
                   
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
 
 
 
 
September 30,
 
 
 
 
December 31,
 
 
 
 
2006
 
 
 
 
2005
                   
ASSETS
                  
Investments:
                  
Fixed maturities, at fair value (amortized cost, $11,549; $13,873)
    
$
12,345
     
$
14,947
Equity securities, at fair value (cost, $131; $113)
      
148
       
135
Mortgage loans
      
4,108
       
3,934
Policy loans
      
1,406
       
1,337
Real estate
      
105
       
80
Other long-term investments
      
394
       
504
Short-term investments
      
95
       
439
Total investments
      
18,601
       
21,376
Cash and cash equivalents
      
1,208
       
1,709
Accrued investment income
      
260
       
282
Premiums, accounts and notes receivable
      
1,402
       
1,598
Reinsurance recoverables
      
7,886
       
7,018
Deferred policy acquisition costs
      
684
       
618
Property and equipment
      
617
       
638
Deferred income taxes
      
1,104
       
1,087
Goodwill
      
1,721
       
1,622
Other assets, including other intangibles
     
363
       
306
Separate account assets
      
8,343
       
8,609
Total assets
    
$
42,189
 
    
$
44,863
                   
LIABILITIES
                  
Contractholder deposit funds
    
$
8,952
     
$
9,676
Future policy benefits
      
8,466
       
8,626
Unpaid claims and claim expenses
      
4,305
       
4,281
Health Care medical claims payable
      
1,017
       
1,165
Unearned premiums and fees
      
511
       
515
Total insurance and contractholder liabilities
      
23,251
       
24,263
Accounts payable, accrued expenses and other liabilities
      
4,774
       
5,127
Short-term debt
      
455
 
 
 
 
100
Long-term debt
      
1,028
 
 
 
 
1,338
Nonrecourse obligations
      
81
 
 
 
 
66
Separate account liabilities
      
8,343
 
 
 
 
8,609
Total liabilities
      
37,932
 
 
 
 
39,503
       
 
        
 
CONTINGENCIES - NOTE 15
                  
                   
SHAREHOLDERS' EQUITY
                  
Common stock (par value per share, $0.25; shares issued, 160; 160)
      
40
       
40
Additional paid-in capital
      
2,440
       
2,385
Net unrealized appreciation, fixed maturities
$
185
 
 
 
$
195
 
 
Net unrealized appreciation, equity securities
 
23
 
 
 
 
24
 
 
Net unrealized depreciation, derivatives
 
(13)
 
 
 
 
(14)
 
 
Net translation of foreign currencies
 
27
 
 
 
 
2
 
 
Minimum pension liability adjustment
 
(725)
 
 
 
 
(716)
    
Accumulated other comprehensive loss
      
(503)
 
 
 
 
(509)
Retained earnings
 
 
 
5,974
 
 
 
 
5,162
Less treasury stock, at cost
 
 
 
(3,694)
 
 
 
 
(1,718)
Total shareholders' equity
 
 
 
4,257
 
 
 
 
5,360
                   
Total liabilities and shareholders' equity
    
$
42,189
     
$
44,863
                   
SHAREHOLDERS' EQUITY PER SHARE
    
$
41.50
     
$
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 September 30,
      
 2006
      
2005
 
                     
Common stock
        
$
40
       
$
40
  
                           
Additional paid-in capital, July 1
         
2,428
         
2,356
 
Effect of issuance of stock for employee benefits plans
          
12
         
11
 
Additional paid-in capital, September 30
          
2,440
         
2,367
 
                           
Accumulated other comprehensive loss, July 1
          
(682
)
        
(390
)
Net unrealized appreciation (depreciation), fixed maturities
  
$
152
    
152
 
$
(128
)
  
(128
)
Net unrealized appreciation, equity securities
    
4
   
4
   
2
   
2
 
Net unrealized appreciation (depreciation) on securities
    
156
         
(126
)
      
Net unrealized appreciation (depreciation), derivatives
    
10
   
10
   
(5
)
  
(5
)
Net translation of foreign currencies
    
13
   
13
   
-
   
-
 
Other comprehensive income (loss)
    
179
         
(131
)
      
Accumulated other comprehensive loss, September 30
          
(503
)
        
(521
)
                           
Retained earnings, July 1
          
5,686
         
4,758
 
Net income
    
298
   
298
   
259
   
259
 
Effects of issuance of stock for employee benefits plans
          
(7
)
        
(34
)
Common dividends declared
          
(3
)
        
(4
)
Retained earnings, September 30
          
5,974
         
4,979
 
                           
Treasury stock, July 1
          
(2,778
)
        
(885
)
Repurchase of common stock
          
(931
)
        
(466
)
Other, primarily issuance of treasury stock for employee benefit plans
          
15
         
144
 
Treasury stock, September 30
          
(3,694
)
        
(1,207
)
TOTAL COMPREHENSIVE INCOME AND SHAREHOLDERS' EQUITY
  
$
477
  
$
4,257
 
$
128
 
$
5,658
  
                           
Nine Months Ended September 30,
      
                           
Common stock
        
$
40
       
$
40
  
                           
Additional paid-in capital, January 1
          
2,385
         
2,360
 
Effects of issuance of stock for employee benefits plans
          
55
         
7
 
Additional paid-in capital, September 30
          
2,440
         
2,367
 
                           
Accumulated other comprehensive loss, January 1
          
(509
)
        
(336
)
Net unrealized depreciation, fixed maturities
  
$
(10
)
  
(10
)
$
(147
)
  
(147
)
Net unrealized depreciation, equity securities
    
(1
)
  
(1
)
  
(5
)
  
(5
)
Net unrealized depreciation on securities
    
(11
)
        
(152
)
      
Net unrealized appreciation, derivatives
    
1
   
1
   
2
   
2
 
Net translation of foreign currencies
    
25
   
25
   
(5
)
  
(5
)
Minimum pension liability adjustment
   
(9
)
  
(9
)
  
(30
)
  
(30
)
Other comprehensive income (loss)
    
6
         
(185
)
      
Accumulated other comprehensive loss, September 30
          
(503
)
        
(521
)
                           
Retained earnings, January 1
          
5,162
         
3,679
 
Net income
    
923
   
923
   
1,415
   
1,415
 
Effects of issuance of stock for employee benefits plans
          
(102
)
        
(105
)
Common dividends declared
          
(9
)
        
(10
)
Retained earnings, September 30
          
5,974
         
4,979
 
                           
Treasury stock, January 1
          
(1,718
)
        
(540
)
Repurchase of common stock
          
(2,226
)
        
(1,055
)
Other, primarily issuance of treasury stock for employee benefit plans
          
250
         
388
 
Treasury stock, September 30
          
(3,694
)
        
(1,207
)
TOTAL COMPREHENSIVE INCOME AND SHAREHOLDERS' EQUITY
  
$
929
  
$
4,257
 
$
1,230
 
$
5,658
  
                           
                           
The accompanying Notes to the Financial Statements are an integral part of these statements.
 
 
3

 
CONSOLIDATED STATEMENTS OF CASH FLOWS
  
(In millions)
  
           
   
Nine Months Ended September 30,
  
   
2006
  
2005
  
           
CASH FLOWS FROM OPERATING ACTIVITIES
              
Net income
  
$
923
  
$
1,415
  
Adjustments to reconcile net income to net cash provided by operating activities:
              
(Income) loss from discontinued operations, net of taxes
    
4
   
(349
)
Insurance liabilities
    
(283
)
  
(447
)
Reinsurance recoverables
    
81
   
1
 
Deferred policy acquisition costs
    
(45
)
  
(45
)
Premiums, accounts and notes receivable
    
98
   
159
 
Accounts payable, accrued expenses and other liabilities
    
(236
)
  
(401
)
Current income taxes
    
214
   
(72
)
Deferred income taxes
    
(22
)
  
250
 
Realized investment (gains)
   
(198
)
  
(28
)
Depreciation and amortization
    
155
   
170
 
Gains on sales of businesses
   
(48
)
  
(374
)
Mortgage loans originated and held for sale
    
(315
)
  
-
 
Proceeds from sales of mortgage loans held for sale
    
99
   
-
 
Other, net
    
(47
)
  
(26
)
Net cash provided by operating activities
    
380
   
253
 
               
CASH FLOWS FROM INVESTING ACTIVITIES
              
Proceeds from investments sold:
             
Fixed maturities
   
2,591
   
2,110
 
Equity securities
    
18
   
10
 
Mortgage loans
    
363
   
262
 
Other (primarily short-term investments)
    
1,133
   
527
 
Investment maturities and repayments:
              
Fixed maturities
   
677
   
707
 
Mortgage loans
    
291
   
205
 
Investments purchased:
              
Fixed maturities
   
(2,172
)
  
(2,377
)
Equity securities
    
(42
)
  
(9
)
Mortgage loans
    
(908
)
  
(858
)
Other (primarily short-term investments)
    
(515
)
  
(804
)
Property and equipment, net
    
(93
)
  
(32
)
Conversion of single premium annuity business
    
(45
)
  
-
 
Other acquisitions and dispositions, net cash used
    
(18
)
  
-
 
Cash provided by investing activities of discontinued operations
    
32
   
-
 
Other, net
    
-
   
(18
)
Net cash provided by (used in) investing activities
    
1,312
   
(277
)
               
CASH FLOWS FROM FINANCING ACTIVITIES
              
Deposits and interest credited to contractholder deposit funds
    
396
   
464
 
Withdrawals and benefit payments from contractholder deposit funds
    
(512
)
  
(748
)
Change in cash overdraft position
    
12
   
(219
)
Repayment of long-term debt
    
(100
)
  
-
 
Repurchase common stock
    
(2,181
)
  
(1,034
)
Issuance of common stock
    
197
   
301
 
Common dividends paid
    
(9
)
  
(10
)
Net cash used in financing activities
    
(2,197
)
  
(1,246
)
               
Effect of foreign currency rate changes on cash and cash equivalents
    
4
   
2
 
               
Net decrease in cash and cash equivalents
    
(501
)
  
(1,268
)
Cash and cash equivalents, beginning of period
    
1,709
   
2,519
 
               
Cash and cash equivalents, end of period
  
$
1,208
  
$
1,251
  
               
Supplemental Disclosure of Cash Information:
              
Income taxes paid, net
 
$
232
  
$
218
  
Interest paid
  
$
72
  
$
75
  
               
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.

Discontinued Operations. Summarized financial data for discontinued operations primarily represents:

·  
a loss associated with the Brazilian life insurance operations in the third quarter of 2006 as disclosed in Note 4;
·  
realized gains on the disposition of certain directly owned real estate investments in the third quarter of 2006 as disclosed in Note 11; and
·  
certain tax benefits recognized in 2005 as disclosed in Note 3.
 
           
   
Three Months
  
Nine Months
  
   
Ended
  
Ended
  
   
September 30,
  
September 30,
  
(In millions)
  
2006
  
2005
  
2006
  
2005
  
Income before income
                 
(taxes) benefits
  
$
19
  
$
-
  
$
19
  
$
-
  
Income (taxes) benefits
    
(7
)
  
-
   
(7
)
  
349
 
Income from operations
    
12
   
-
   
12
   
349
 
Impairment loss, net of tax
    
(16
)
  
-
   
(16
)
  
-
 
Income (loss) from
                         
discontinued operations,
                          
net of taxes
  
$
(4
)
$
-
  
$
(4
)
$
349
  
 
Unless otherwise indicated, amounts in these Notes exclude the effects of discontinued operations.

NOTE 2 - RECENT ACCOUNTING PRONOUNCEMENTS

Pension and other retirement benefit plans. In 2006, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 158, "Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans," requiring that the overfunded or underfunded status of all defined benefit postretirement plans be measured as the difference between the fair value of plan assets and the benefit obligation and recognized in the statement of financial position. Changes in actuarial gains and losses and prior service costs are required to be recognized in other comprehensive income, net of tax, each period. CIGNA will implement this standard as required in the fourth quarter of 2006, with no material effects to the financial statements expected. The estimated
 
 
5
 
 
impact at implementation is sensitive to changes in key assumptions including movements in interest rates and the market value of plan assets. SFAS 158 will not impact CIGNA's pension expense, funding requirements or financial covenants.
 
Fair value measurements. In 2006, FASB issued SFAS No. 157, "Fair Value Measurements," to clarify how to measure fair value and to expand disclosures about fair value measurements. Implementation is required in the first quarter of 2008 with any changes to the fair values of assets or liabilities to be reported generally in net income or, for fixed maturities and equity securities held for sale and derivatives that hedge future cash flows, in accumulated comprehensive income for the period. CIGNA is presently evaluating these new requirements to determine if early implementation will be applied and whether any changes to the fair value measurements of its assets and liabilities will result at implementation.
 
Uncertain tax positions. In 2006, the FASB issued an interpretation of 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.

Measuring financial statement misstatements. In 2006, the Securities Exchange Commission staff issued Staff Accounting Bulletin (SAB) No. 108, "Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements." This SAB requires that the effects of misstatements be quantified for each financial statement. CIGNA expects to implement this SAB as required in the fourth quarter of 2006 with no material effects to the financial statements because CIGNA currently uses an approach consistent with the new requirement when assessing the effects of prior year misstatements.

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 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.
 
 
6
 
 
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
 
Nine Months
 
 
 
Ended
 
Ended
 
 
 
September 30,
 
September 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Compensation cost
  
$
10
  
$
10
  
$
33
  
$
24
  
Tax benefits
  
$
4
  
$
4
  
$
12
  
$
9
  
                           
 
Stock options granted and the average fair value at the date of grant were as follows:
           
   
Three Months
 
Nine Months
 
 
 
Ended
 
Ended
 
 
 
September 30,
 
September 30,
 
(Options in thousands)
 
2006
 
2005
 
2006
 
2005
  
Options granted
    
17
   
7
   
548
   
825
 
Weighted average fair
                          
value of options granted
  
$
38.01
  
$
41.33
  
$
43.70
  
$
34.08
  
 
CIGNA calculated the average fair value using the Black-Scholes option pricing model. The following assumptions were used:
       
   
                    As of September 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.

Restricted stock granted and the average fair value at the date of grant were as follows:
           
   
Three Months
 
Nine Months
 
 
 
Ended
 
Ended
 
 
 
September 30,
 
September 30,
 
(Grants in thousands)
 
2006
 
2005
 
2006
 
2005
  
Restricted stock granted
    
13
   
19
   
210
   
331
 
Weighted average fair value
  
$
105.14
  
$
104.90
  
$
121.23
  
$
92.45
  
 
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 $437 million, including $7 million recorded in the third quarter of 2005, 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
·  
$150 million resulting primarily from the release of tax reserves and valuation allowances of which:
·  
$88 million is reported as income from continuing operations. This amount includes $4 million of interest income; and
·  
$62 million relates to the divestiture of CIGNA's Brazilian health care business, which is included in income from discontinued operations.
 
 
 
7

 
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.

Star HRG Acquisition. On July 11, 2006, CIGNA acquired the operating assets of STAR-HRG, a leading provider of low cost health plans and other employee benefits coverage for hourly and part-time workers and their families, for $156 million, including assumed liabilities. The acquisition was accounted for as a purchase, and was financed through the issuance of a note payable to the sellers (see Note 12). The purchase price was allocated as follows: $57 million to identifiable intangible assets and the remaining $99 million to goodwill.

Intangible assets (primarily customer lists, software and trademarks) associated with the acquisition are being amortized on a straight line basis over periods from 3-10 years.

The results of Star-HRG are included in the accompanying consolidated financial statements from the date of the acquisition.

Sale of the Brazilian Life Insurance Operations. In the third quarter of 2006, CIGNA entered into negotiations to sell its Brazilian life insurance business. The sale is expected to close within a year and as a result, CIGNA has classified this business as a discontinued operation. CIGNA recognized an impairment loss with respect to this business of $16 million after-tax, primarily related to the write-off of unrecoverable foreign tax credits and foreign currency translation losses.

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 September 30, 2006 the remaining contractholder deposit funds and future policy benefits associated with the sold retirement benefits business totaled $2.4 billion. See Note 8 for additional information on reinsurance recoverables associated with the sale of the retirement benefits business.
 
 
8
 
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 September 30,
          
2006
          
Accelerated deferred gain amortization
  
$
2
  
$
1
  
Normal deferred gain amortization
  
$
2
  
$
1
  
2005
              
Accelerated deferred gain amortization
  
$
10
  
$
2
  
Normal deferred gain amortization
  
$
3
  
$
2
  
Nine Months Ended September 30,
              
2006
              
Accelerated deferred gain amortization
  
$
8
  
$
7
  
Normal deferred gain amortization
  
$
8
  
$
5
  
2005
              
Accelerated deferred gain amortization
  
$
315
  
$
200
  
Normal deferred gain amortization
  
$
21
  
$
14
  
 
The remaining pre-tax deferred gain as of September 30, 2006 was $67 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 September 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 March 31, 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 September 30,
              
2006
              
Income from continuing
              
operations
  
$
302
    
-
 
$
302
  
Shares (in thousands):
                    
Weighted average
    
106,581
   
-
   
106,581
 
Options and restricted stock grants
          
1,654
   
1,654
 
Total shares
    
106,581
   
1,654
   
108,235
 
EPS
  
$
2.83
  
$
(0.04
)
$
2.79
  
2005
                    
Income from continuing
                    
operations
  
$
259
    
-
 
$
259
  
Shares (in thousands):
                    
Weighted average
    
126,888
   
-
   
126,888
 
Options and restricted stock grants
          
2,795
   
2,795
 
Total shares
    
126,888
   
2,795
   
129,683
 
EPS
  
$
2.04
  
$
(0.04
)
$
2.00
  
Nine Months Ended September 30,
                    
2006
                    
Income from continuing
                    
operations
  
$
927
    
-
 
$
927
  
Shares (in thousands):
                    
Weighted average
    
113,930
   
-
   
113,930
 
Options and restricted stock grants
          
1,929
   
1,929
 
Total shares
    
113,930
   
1,929
   
115,859
 
EPS
  
$
8.14
  
$
(0.14
)
$
8.00
  
2005
                    
Income from continuing
                    
operations
  
$
1,066
    
-
 
$
1,066
  
Shares (in thousands):
                    
Weighted average
    
128,852
   
-
   
128,852
 
Options and restricted stock grants
          
2,386
   
2,386
 
Total shares
    
128,852
   
2,386
   
131,238
 
EPS
  
$
8.27
  
$
(0.15
)
$
8.12
  
 
 
9
 
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 their exercise price was greater than the average share price of CIGNA's common stock for the period.
           
   
Three Months
 
Nine Months
 
 
 
Ended
 
Ended
 
 
 
September 30,
 
September 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Antidilutive options
    
1.8
   
0.3
   
1.5
   
3.3
 
 
CIGNA held 57,460,553 shares of common stock in Treasury as of September 30, 2006, and 34,248,300 shares as of September 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:
           
   
September 30,
 
December 31,
 
(In millions)
 
2006
 
2005
  
IBNR
  
$
868
  
$
1,004
  
Reported claims in process
    
84
   
116
 
Other medical expense payable
    
65
   
45
 
Medical claims payable
  
$
1,017
  
$
1,165
  
 
Activity in medical claims payable was as follows:
           
   
As of
  
As of
  
(In millions)
  
September 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
    
4,705
   
6,631
 
Prior years
    
(169
)
  
(326
)
Total incurred
    
4,536
   
6,305
 
Paid claims related to:
              
Current year
    
4,012
   
5,844
 
Prior years
    
593
   
735
 
Total paid
    
4,605
   
6,579
 
Ending Balance, net
    
754
   
823
 
Add: Reinsurance and other
             
amounts recoverable
    
263
   
342
 
Ending Balance
  
$
1,017
  
$
1,165
  
 
For the nine months ended September 30, 2006, actual experience differed from CIGNA's key assumptions, resulting in favorable incurred claims related to prior years’ medical claims payable of $169 million, or 2.5% of the current year incurred claims as reported for the year ended December 31, 2005. For the year ended December 31, 2005, actual experience differed from CIGNA's key assumptions, resulting in favorable incurred claims related to prior years’ medical claims payable of $326 million, or 4.7% of the current year incurred claims as reported for the year ended December 31, 2004. Specifically, the favorable impact is due to faster than expected completion factors and lower than expected medical cost trends, both of which included an assumption for moderately adverse experience.

Actual completion factors were faster than expected, resulting in a reduction of the medical claims payable of $92 million for the nine months ended September 30, 2006 and $205 million for the year ended December 31, 2005. This reduction represented 1.4% in 2006 and 3.0% in 2005 of the current year incurred claims as reported for the years ended December 31, 2005 and 2004, respectively, for the insured book of business. The faster completion factors reflected better than expected time to process claims, driven by higher auto-adjudication rates, the impact of claim recoveries and more timely submissions of provider claims.
 
10

 
Actual medical cost trend was lower than estimated, resulting in a reduction of the medical claims payable of $77 million for the nine months ended September 30, 2006 and $121 million for the year ended December 31, 2005. This reduction represented 1.2% in 2006 and 1.7% in 2005 of the current year incurred claims as reported for the years ended December 31, 2005 and 2004, respectively, for the insured book of business. The better than expected medical cost trend was driven by lower inpatient, outpatient and pharmacy service utilization and lower than expected unit cost trends. The lower than expected unit cost trends reflected provider contracting initiatives and the mix of services provided.

The corresponding impact of favorable prior year development on net income was $43 million for the nine months ended September 30, 2006 and $137 million for the year ended December 31, 2005, or 0.6% in 2006 and 2.0% in 2005 of the current year incurred claims as reported for the years ended December 31, 2005 and 2004, respectively. The change in the amount of the incurred claims related to prior years in the medical claims payable liability does not directly correspond to an increase or decrease in CIGNA's net income recognized for the following reasons:

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 accumulated premium received exceeds the accumulated medical costs 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 CIGNA establishes the liability for each incurral year, CIGNA ensures that its assumptions appropriately consider moderately adverse conditions. When a portion of the development related to the prior year incurred claims is offset by an increase deemed appropriate to address moderately adverse conditions for the current year incurred claims, CIGNA does not consider that offset amount as having any impact on net income.  

The determination of liabilities for health care medical claims payable requires CIGNA to make critical accounting estimates. See “Critical Accounting Estimates” on page 26 for additional information.
 
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 
 
 
11
 
 
stock market declines, as well as other assumptions. CIGNA had future policy benefit reserves for guaranteed minimum death benefit contracts of $904 million as of September 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 September 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 September 30, 2006, the aggregate fair value of the underlying mutual fund investments was $37.1 billion. The death benefit coverage in force as of that date (representing the amount that CIGNA would have to pay if all of the approximately 900,000 contractholders had died on that date) was $5.9 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 September 30, 2006, was $979 million. CIGNA recorded in other revenues pre-tax losses of $32 million for the third quarter and $56 million for the nine months of 2006, compared with pre-tax losses of $45 million for the third quarter and $28 million for the nine 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 15 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 $2.4 billion as of September 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 change from 2005 includes an increase of $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 by fixed maturities 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.
 
 
12

 
Individual life and annuity reinsurance. CIGNA had a reinsurance recoverable of $4.8 billion at September 30, 2006, and $5.0 billion at December 31, 2005, from The Lincoln National Life Insurance Company 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 been substantially resolved or settled.

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 engaged in arbitrations, disputes or investigations with several ceding companies over the validity of, or amount of liabilities assumed under, their contracts. These arbitrations, disputes and investigations are in various stages.

CIGNA bought retrocessional reinsurance for a significant portion of its assumed reinsurance liabilities. Some of the retrocessionaires have disputed the validity of, or amount of liabilities assumed under, their contracts with CIGNA. Many of these disputes with retrocessionaires have been resolved or settled. CIGNA is appealing in court an adverse award in a retrocessional enforcement arbitration and recently commenced another retrocessional enforcement arbitration. These arbitrations and disputes are in various stages.

Unfavorable claims experience related to workers’ compensation and personal accident risks is possible and could result in future losses, including losses attributable to the inability to recover amounts claimed from retrocessionaires because of disputes with them 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 September 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. In addition, CIGNA bears the risk of loss if the retrocessionaires are unable to meet their reinsurance obligations to CIGNA.

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
 
Nine Months
 
 
 
Ended
 
Ended
 
 
 
September 30,
 
September 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Premiums and fees
                  
Individual life insurance
                 
and annuity business sold
  
$
59
  
$
66
  
$
187
  
$
202
  
Other
    
57
   
51
   
155
   
147
 
Total
  
$
116
  
$
117
  
$
342
  
$
349
  
Reinsurance recoveries
                          
Individual life insurance
                          
and annuity business sold
  
$
85
  
$
93
  
$
238
  
$
233
  
Other
    
60
   
68
   
105
   
136
 
Total
  
$
145
  
$
161
  
$
343
  
$
369
  
 
 
13
 
NOTE 9 - PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS

Pension benefits. Components of net pension cost were as follows:
           
   
Three Months
 
Nine Months
 
 
 
Ended
 
Ended
 
 
 
September 30,
 
September 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Service cost
  
$
18
  
$
18
  
$
53
  
$
54
  
Interest cost
    
56
   
56
   
167
   
166
 
Expected return on plan assets
    
(52
)
  
(46
)
  
(156
)
  
(136
)
Amortization of:
                          
Net loss from past experience
    
38
   
35
   
114
   
105
 
Prior service cost
    
-
   
-
   
-
   
(1
)
Net pension cost
  
$
60
  
$
63
  
$
178
  
$
188
  
 
Through the nine months 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. Through the nine months 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 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.
 
Other postretirement benefits. Components of net other postretirement benefit cost were as follows:
           
   
Three Months
 
Nine Months
 
 
 
Ended
 
Ended
 
 
 
September 30,
 
September 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Service cost
  
$
1
  
$
1
  
$
2
  
$
2
  
Interest cost
    
7
   
7
   
19
   
20
 
Expected return on plan assets
    
-
   
(1
)
  
(1
)
  
(2
)
Amortization of:
                          
Net gain from past experience
    
(1
)
  
-
   
(2
)
  
(1
)
Prior service cost
    
(5
)
  
(4
)
  
(13
)
  
(12
)
Net other postretirement
                         
benefit cost
  
$
2
  
$
3
  
$
5
  
$
7
  
 
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
 
Third quarter 2006 activity
    
(1
)
  
-
   
(1
)
Balance as of September 30, 2006
  
$
-
  
$
5
  
$
5
  
 
CIGNA substantially completed this program during the second quarter of 2006.
14
 
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
 
Nine Months
 
 
 
Ended
 
Ended
 
 
 
September 30,
 
September 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Fixed maturities
  
$
(18
)
$
10
  
$
(32
)
$
25
  
Equity securities
    
(1
)
  
2
   
(6
)
  
2
 
Mortgage loans
    
(1
)
  
-
   
(7
)
  
(2
)
Real estate
    
-
   
1
   
-
   
-
 
Other investments,
                         
including derivatives
    
68
   
(4
)
  
243
   
3
 
Realized investment gains
                         
from continuing operations,
                          
before income taxes
    
48
   
9
   
198
   
28
 
Less income taxes
    
14
   
3
   
67
   
10
 
Realized investment gains
                         
from continuing operations
    
34
   
6
   
131
   
18
 
Realized investment gains from
                         
discontinued operations
                          
before income taxes
    
19
   
-
   
19
   
-
 
Less income taxes
    
7
   
-
   
7
   
-
 
Realized investment gains
                         
from discontinued operations
    
12
   
-
   
12
   
-
 
Net realized investment gains
  
$
46
  
$
6
  
$
143
  
$
18
  

For the third quarter and nine months of 2006, realized investment results from continuing operations primarily 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.

For the third quarter and nine months of 2006, realized investment results from discontinued operations reflect gains on sale of directly owned real estate properties held for the production of investment income. Proceeds on these sales have been separately identified in the statement of cash flows.

Fixed Maturities and Equity Securities

Sales of available-for-sale fixed maturities and equity securities were as follows:
           
   
Three Months
 
Nine Months
 
 
 
Ended
 
Ended
 
 
 
September 30,
 
September 30,
 
(In millions)
 
2006
 
2005
 
2006
 
2005
  
Proceeds from sales
  
$
847
  
$
635
  
$
2,609
  
$
2,120
  
Gross gains from sales
  
$
5
  
$
11
  
$
32
  
$
33
  
Gross losses from sales
  
$
(22
)
$
(4
)
$
(55
)
$
(18
)
 
Fixed maturities included securities of $31 million at September 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.

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 September 30, 2006, fixed maturities (primarily investment grade corporate bonds) with a decline in fair value from cost were as follows, including the length of time of such decline:
               
   
 
 
Amortized
 
Unrealized
 
(In millions)
 
Fair Value
 
Cost
 
Depreciation
  
Fixed Maturities:
              
One year or less:
              
Investment grade
  
$
1,083
  
$
1,101
  
$
(18
)
Below investment grade
  
$
150
  
$
152
  
$
(2
)
More than one year:
                    
Investment grade
  
$
1,411
  
$
1,452
  
$
(41
)
Below investment grade
  
$
52
  
$
54
  
$
(2
)
                     
 
The unrealized depreciation of investment grade fixed maturities is primarily due to increases in interest rates since purchase. There were no equity securities with a material decline in fair value from cost as of September 30, 2006.
 
 
15
 
CIGNA recorded pre-tax impairments in fixed maturities of $1 million for the third quarter and $28 million for the nine months of 2006, compared with $10 million for the nine months of 2005.

Mortgage Loans

In connection with CIGNA’s investment strategy to enhance investment yields by selling senior participations, mortgage loans includes $125 million of mortgage loans originated with the intent to sell as of September 30, 2006. 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 for the nine months of 2006 are reported in realized investment gains and losses.

Other Long-term Investments

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

·  
$308 million to limited liability entities that hold either real estate or loans to real estate entities; and
·  
$265 million to entities that hold securities.

NOTE 12 - DEBT

In connection with the Star HRG acquisition in the third quarter of 2006, CIGNA issued to the seller a note payable of $151 million due as follows:

·  
$72 million at 5.40% due 11/1/06; and
·  
$79 million at 6.37% due in 2021.

In August 2006, CIGNA filed a universal shelf registration statement on Form S-3ASR with the SEC to take advantage of its status as a “well known seasoned issuer” under the Securities Offering Reform Act. CIGNA may issue debt, equity or other securities from time to time, with amount, price, and terms to be determined at the time of sale.

In May 2006, CIGNA entered into a five year revolving credit and letter of credit agreement for $1.75 billion which replaced its previous credit agreement. Of this amount, up to $1.25 billion may be used for letters of credit. CIGNA entered into the agreement for general corporate purposes, including support for the issuance of commercial paper and to obtain statutory reserve credit for certain reinsurance arrangements. There were no amounts outstanding under the credit facility nor any letters of credit issued as of September 30, 2006.

NOTE 13 - 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 under a modified coinsurance arrangement, which terminated on April 1, 2006.

Changes in accumulated other comprehensive income (loss) were as follows:
               
   
 
 
Tax
 
 
 
 
 
 
 
(Expense)
 
After-
 
(In millions)
 
Pre-tax
 
Benefit
 
tax
  
Three Months Ended September 30,
              
2006
              
Net unrealized appreciation, securities:
              
Net unrealized appreciation on securities
              
arising during the year
  
$
218
  
$
(75
)
$
143
  
Plus: reclassification adjustment for losses included in net income
    
19
   
(6
)
  
13
 
Net unrealized appreciation, securities
  
$
237
  
$
(81
)
$
156
  
Net unrealized appreciation,
                    
derivatives
  
$
16
  
$
(6
)
$
10
  
Net translation of foreign
                   
currencies
  
$
21
  
$
(8
)
$
13
  
2005
                    
Net unrealized depreciation, securities:
                    
Net unrealized depreciation on securities
                    
arising during the year
  
$
(183