Delphi Financial Group 2006 Annual Report

Exceeding Growth 2 0 0 6 A N N U Targets A L R E P O R T Delphi Financial Group, Inc. is an integrated employee benefit services company. We are a leader in managing all aspects of employee absence to enhance the productivity of our clients and we provide the related insurance coverages: group life, long-term and short-term disability, excess workers’ compensation for self-insured employers, travel accident and dental. Our asset accumulation business emphasizes individual fixed annuity products. Delphi’s common stock is listed on the New York Stock Exchange under the symbol DFG. 2006 Highlights ◆ Delphi achieved record profits and operating earnings per share growth of 19% – well above our expectations. ◆ Premiums rose 17% to surpass the $1 billion milestone. ◆ Reliance Standard’s premium growth was boosted by a 35% increase in premiums from our Custom Disability Solutions turnkey division. ◆ Safety National achieved record premiums and production, including renewals of more than half of the former excess workers’ compensation clients of Employers Re. ◆ We strengthened our management team with the addition of Don Sherman in the newly-created position of President and Chief Operating Officer. ◆ Standard & Poor’s raised its outlook on Delphi’s senior debt rating to positive from stable. ◆ We raised our cash dividend 33% and improved the liquidity of our common stock by enacting a 3-for-2 stock split. “ Our excellent financial performance gained increased recognition from investors, rating agencies and the bank market. ” Financial Highlights DELPHI FINANCIAL GROUP, INC. (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) Years Ended December 31, Income Statement Data: Core Premium and Fee Income(1) Total Premium and Fee Income Net Investment Income Operating Earnings(2) Net Income Balance Sheet Data: Total Assets Long-Term Debt Shareholders’ Equity Diluted Per Share Data(4): Operating Earnings(2) Net Income Book Value Weighted Average Shares Outstanding (in thousands) 2006 2005 2004 2003 2002 $ 1,114,123 $ 965,293 $ 812,011 $ 696,704 $ 578,532 1,156,578 990,211 828,077 711,612 623,415 255,871 223,569 202,444 186,337 161,983 145,561 120,832(4) 111,351(3) 87,024 77,686(5) (4) (3) 142,068 113,334 123,543 98,916 60,652(5) 5,670,475 263,750 1,174,808 5,276,170 234,750 1,033,039 4,829,467 157,750 939,848 4,177,532 143,750 798,440 3,734,942 118,139 681,655 1.62(5) 1.27(5) $ 14.55 47,831 2.86 2.40(4) 2.25(3) 1.81 2.79 2.25(4) 2.50(3) 2.06 $ 23.70 $ 20.97 $ 19.57 $ 16.99 50,939 50,267 49,412 48,035 (1) The non-GAAP financial measure “core premium and fee income” excludes premiums from non-core group employee benefit products which include products that have been discontinued, such as reinsurance facilities and excess casualty insurance, newer products which have not demonstrated their financial potential, products which are not expected to comprise a significant percentage of earned premiums and products for which sales are episodic in nature, such as loss portfolio transfers. Premiums from non-core group employee benefit products were $42,455, $24,918, $16,066, $14,908, and $44,883 in 2006, 2005, 2004, 2003, and 2002, respectively. Total premium and fee income is the most comparable financial measure calculated in accordance with Generally Accepted Accounting Principles (“GAAP”). (2) The non-GAAP financial measure “operating earnings” excludes realized investment gains and losses (net of the related income tax expense or benefit), gains and losses on extinguishment of debt and capital securities (net of the related income tax expense or benefit) and income and loss from discontinued operations (net of the related income tax expense or benefit). Realized investment losses and gains (net of the related income tax benefit or expense) for 2006, 2005, 2004, 2003, 2002 were $(558), $5,852, $10,049, $8,271 and $(18,505), respectively, or $(0.01) per share, $0.12 per share, $0.21 per share, $0.17 per share and $(0.39) per share, respectively. The loss on extinguishment of debt and capital securities (net of the related income tax benefit) for 2002 was $216 or $0.00 per share.The (loss) income from discontinued operations (net of the related income tax benefit or expense) for 2006, 2005, 2004, 2003 and 2002 were $(2,935), $(13,350), $2,143, $3,621 and $1,687, respectively, or $(0.06) per share, $(0.27) per share, $0.04 per share, $0.08 per share and $0.04 per share, respectively. Net income is the most comparable financial measure calculated in accordance with GAAP. Management believes that the non-GAAP financial measure “operating earnings” is informative when analyzing the trends relating to the Company’s insurance operations. This measure excludes realized investment gains and losses, gains and losses on extinguishment of debt and capital securities and income and loss from discontinued operations because these items arise from events that, to a significant extent, are within management’s discretion and can fluctuate significantly, thus distorting comparisons between periods. Investment gains and losses may be realized based on management’s decision to dispose of an investment or management’s judgment that a decline in the market value of any investment is other than temporary. Gains and losses on extinguishment of debt and capital securities may be realized based on management’s decision to repay or repurchase debt. Discontinued operations occur based on management’s decision to exit or sell a particular business. Thus, realized investment gains and losses, gains and losses on extinguishment of debt and capital securities and results from discontinued operations are not reflective of the Company’s ongoing earnings capacity, and trends in the earnings of the Company’s underlying insurance operations can be more clearly identified without the effects of these items. For these reasons, management uses these measures to assess performance and make operating decisions, and the Company understands that analysts and investors typically utilize measures of these types when evaluating the financial performance of insurers. However, gains and losses of these types, particularly as to investments, are likely to occur periodically and should not be considered a substitute for GAAP measures as an indication of the Company’s overall performance and may not be calculated in the same manner as similarly titled captions in other companies’ financial statements. (3) Includes a release of federal income tax reserves of approximately $6.6 million or $0.13 per share. (4) Prior period results per share and applicable share amounts have been restated to reflect stock dividends distributed in 2006. Corein Millions) and Fee Income(1) Premium (Dollars $1000 mp ou An nd n Gr ual o wth Ra te 18% Book Value Per Share(4) $25 nn nd A w Gro ual at th R % e 13 $800 Co $20 Com pou $600 $15 $400 $10 $200 $5 $0 2002 2003 2004 2005 2006 $0 2002 2003 2004 2005 2006 1 Chairman’s Letter to Shareholders was an outstanding year for Delphi Financial. We achieved excellent financial performance in all significant measures and as a result continued to gain increased recognition from investors, rating agencies and the bank market. Delphi’s common stock rose 32% in 2006. We took advantage of our strong financial position to return capital to shareholders by raising our cash dividend and repurchasing shares. We also bolstered our management team and expanded the market leadership positions of our insurance businesses. Delphi has grown rapidly over the past five years and we passed a significant milestone in 2006 as insurance premiums surpassed $1 billion, more than double the amount in 2001. To help maintain our strong growth, I was very pleased to welcome Don Sherman to Delphi’s management team in April as our new President and Chief Operating Officer. By separating the chief executive and chief operating officer roles, I felt we could bring increased focus to both our insurance and investment operations, as well as to larger scale strategic initiatives. Don has been a director of Delphi since 2002 and in that role was consistently helpful to our senior management team. Prior to joining Delphi, Don was Chief Executive Officer of Waterfield Mortgage Company, which he built over 17 years into the largest private bank in Indiana and the largest private mortgage originator and servicer in the U.S. I have known Don for over 25 years and am enjoying working closely with him to lead Delphi in our next stage of growth. 2006 Stellar Financial Performance Surpasses Targets Delphi achieved operating earnings per share growth of 19% in 2006, well ahead of the guidance we provided early in the year. Shareholders’ equity rose 14% to $1.2 billion at year-end and operating return on beginning equity reached 14.1%, also above our expectations. We outperformed our internal targets for all key metrics, including premium growth, combined ratio, invested asset growth and investment yield. Premiums increased 17% to $1.1 billion, driven by 18% growth in excess workers’ compensation premiums at Safety National and 17% growth in group disability premiums at Reliance Standard Life. Our combined ratio improved to 93.2% from 94.1% in 2005, driven in part by lower expense ratios as we realized economies of scale. The influx of premiums contributed to a 15% increase in invested assets, which reached $4.5 billion at the end of 2006. Despite the challenging interest rate environment, we achieved a tax equivalent yield of 6.6% on our investment portfolio, up from 6.4% in 2005. The combination of strong asset growth and investment performance enabled us to grow investment income by 14%. In our asset accumulation segment at Reliance Standard, operating profits rose 28% as we achieved wider spreads and growth in funds under management, which reached $1.1 billion at the end of 2006. 2 Expanded Market Leadership and Distribution Premium growth in our insurance businesses benefited from the success of important strategic initiatives begun in 2004 and 2005 to add new distribution and expand our leadership positions in our attractive niche markets. Safety National’s strong growth in excess workers’ compensation premiums was boosted by record levels of production, which rose 24% to $57 million. Our renewal rights agreement with Employers Re contributed significantly to these results. Most of these renewals involved increased rates and higher self-insured retentions – the critical point where risk shifts from our clients to us. This achievement solidified Safety National’s position as the market leader in our niche of providing excess workers’ compensation coverage for smaller and mid-sized self-insured employers. Reliance Standard’s disability premium growth was driven by a 35% increase in premiums from our turnkey disability business, which we entered at the end of 2004 through a strategic alliance with several health insurers that do not have disability expertise. This initiative provides significant alternative distribution to smaller employers we would not be able to reach through our broker distribution channel. In 2006, we significantly strengthened our market position by purchasing the assets of IDR, a Portland, Maine-based disability risk and claims manager that was our outsourcing partner. We also hired about 100 employees formerly employed by IDR and created a new turnkey division of Reliance Standard, Custom Disability Solutions (CDS). Reliance Standard hired a new chief executive officer for CDS who has built a strong management team to capitalize on attractive growth opportunities in this market. Better Margins in Niche Markets Delphi’s earnings growth continues to benefit from Reliance Standard’s strong market position in our small case niche, which has historically been more profitable and faster growing than the large case segment. Smaller companies are increasing their payrolls and with the job market staying tight are adding employee benefits to attract and retain employees. We expanded our sales force and continued to emphasize smaller cases, which generally have higher profit margins. Voluntary products also carry better margins, and we continue to focus on this niche. Production of voluntary products rose 80% in 2006 and represented 10% of Reliance Standard’s total production, up from 6% in 2005. We expect voluntary products to continue increasing in importance as employers seek to control costs while still expanding benefits. “Delphi has built an impressive track record Safety National continued to capitalize on the firm market for excess workers’ compensation and we see no signs the market will soften of earnings growth over significantly in the near term. Since the dramatic market turn that began in 2001, Safety National has achieved cumulative increases of the past five years. ” 60% in excess workers’ compensation rates, compounded by a 57% increase on average in self-insured retention levels. In the past five years we have clearly taken in substantially more premiums for less risk, but we believe Safety National is just beginning to realize the expected margin improvement from this trend because actual results from the hard market years are now starting to emerge. We are already reaping the benefits of Safety National’s unique business model, with strong built-in growth from the buildup of insurance reserves and the compounding of investment income. Premiums from excess workers’ compensation surpassed $260 million in 2006, compared to a low of $48 million in 1999 during the last soft market cycle. While rates are peaking, demand for our coverage remains strong as employers seek to avoid generally high primary workers’ compensation rates by shifting to self-insurance, either on their own or through associations. Safety National has also taken advantage of an improved competitive environment over the past several years, as competitors such as Employers Re left the market. 3 Realizing Tangible Benefits from Improved Ratings Delphi maintained our conservative capital structure in 2006, with corporate debt to capitalization ratio of 18% at year-end and interest coverage ratio of 12 times. Our strong balance sheet and cash flow was recognized in August by Standard & Poor’s, which revised its outlook on our senior debt rating to positive with the expectation of raising its rating by one notch within 12 months. This action by S&P and positive actions from A.M Best and others over the past year demonstrate the continued success of the deleveraging strategy we implemented in 2001. We expect to realize tangible benefits from these higher ratings as some of our capital securities and bonds become callable over the next two years and we are able to refinance our debt at more attractive rates and terms. Delphi’s improved ratings are already providing tangible benefits in the bank market. In October, we expanded our five year bank revolving credit facility from $200 million to $250 million, with better terms and lower costs. With our strong cash flow, $130 million in unused borrowing capacity on the new bank facility and $117 million of financial assets at the holding company, Delphi has excellent financial flexibility to support the growth opportunities in our insurance businesses and return value to shareholders through higher dividends and share repurchases. We have increased our cash dividend five times since it was instituted in 2001, including a 33% increase in 2006. In the first quarter of 2006, we repurchased 480,900 shares (adjusted for the 3-for-2 stock split effected on June 1, 2006), and have remaining authorization to repurchase approximately 900,000 shares. Exceeding Future Growth Expectations I am very proud of Delphi’s accomplishments in 2006 and even more excited about the future. We will continue to capitalize on the favorable conditions in our niche markets and take advantage of our leading market positions. Delphi has built an impressive track record of earnings growth over the past five years and we remain committed to creating substantial future value for our shareholders by continuing to exceed our growth targets. Respectfully submitted, Robert Rosenkranz Chairman of the Board Robert Rosenkranz, Chairman and Chief Executive Officer of Delphi Financial, rang the Closing Bell at the New York Stock Exchange on November 7, 2006 to celebrate the tenth anniversary of the Company’s listing on the NYSE. On its first day of NYSE trading on October 31, 1996, Delphi’s shares closed at $11.32 per share (adjusted for subsequent stock splits), and approximately 28,000 shares were traded. Ten years later, Delphi’s shares traded at approximately $40 and average daily trading volume was over 200,000 shares. An investment of $100 in Delphi on October 31, 1996 grew to $362 in ten years, while over the same period an investment of $100 in the S&P 500 Index grew to $229 and an investment of $100 in the Russell 2000 Index grew to $257. 4 Delphi at a Glance ◆ Group life insurance ◆ Long- and short-term ◆ disability insurance ◆ Travel accident insurance ◆ Dental insurance ◆ Asset accumulation ◆ Individual fixed annuities ◆ Institutional funding agreements Excess workers’ compensation insurance for self-insured employers ◆ Absence management services ◆ Integrated Employee Benefits program Through our three top-tier subsidiaries, Delphi is a leader in managing all aspects of employee absence to help our clients’ employees get well and back to productive work. The company’s insurance subsidiaries are leading providers of group life, disability and excess workers’ compensation coverage to small and mid-sized employers. Our unique Integrated Employee Benefits program, targeted at larger employers, combines disability coverage from Reliance Standard and excess workers’ compensation coverage from Safety National with Matrix’s productivity-enhancing absence management services. Delphi is a pioneer in providing clients nationwide with all of these capabilities on a fully integrated basis. 2006 Group Employee Benefits Premiums = $1,124.1 million 2006 Group Employee Benefits Operating Income = $225.4 million Group Life 28% Excess Workers’ Compensation 23% Group Life 17% Excess Workers’ Compensation 47% Long Term and Short Term Disability 41% Travel Accident/ Dental/Other Core 4% Group Non-Core Products 4% Long Term and Short Term Disability 35% Travel Accident/ Dental/Other Core 1% 5 President’s Letter to Shareholders am excited to report to you for the first time as President and Chief Operating Officer of Delphi Financial. From my service on the Company’s board since 2002, I was very familiar with the strength of our businesses and, most importantly for me, the quality of our management team. I have known Bob Rosenkranz for over 25 years and have tremendous respect for his accomplishments and the track record he has built at Delphi. I could not think of a better opportunity than to work with Bob and our management team to help take Delphi to our next stage of growth. As I approach my first anniversary in my new role at Delphi, I continue to be impressed with the talent and dedication of our entire team and the overall commitment throughout the Company to exceeding our growth targets and building long-term value for our shareholders. I Safety National 2006 marked the fifth year since the dramatic market turn that began in the excess workers’ compensation market in 2001, and Safety National continued to capitalize on healthy demand and an improved competitive environment. Safety National’s excess workers’ compensation premiums rose 18% in 2006 to a record $260 million, which is more than 3.5 times the amount of premium we had in 2001. We achieved average rate increases of 1% and our average self-insured retention, the important point where the risk shifts from our client to us, grew 6%. Since the market turn in 2001, both rates and self-insured retentions have risen cumulatively by approximately 60%. The average deferral period on known open claims is approximately 15 years, which drives the buildup of our reserves and the compounding effect of investment income. Due to this favorable business model, excess workers’ compensation remains our most profitable insurance line, representing 23% of group employee benefit premiums and 47% of operating profits from this segment in 2006. We expect margins to remain attractive as actual claims experience is recognized from the past several years in which we have taken in substantially more premiums for risks that we “There are substantial barriers believe will prove to generate lower future losses. Under the leadership of Chairman Harry Ilg and Chief compensation market, including Executive Officer Terry Schoeninger, the management team at Safety National has continued to expand our our proprietary database and market leadership position in our niche. In 2006, Safety ” National generated record new excess workers’ experienced underwriting staff. compensation production of $57 million, which was more than the entire excess workers’ compensation premium we had in 2000. Production growth was driven by overall strong demand for our coverage and by renewals of former clients of Employers Re, which accounted for just under half of production. Employers Re, which had been a respected competitor of Safety National for many years, exited the excess workers’ compensation business in 2005 and we purchased the renewal rights and hired four underwriters who worked on this business at Employers Re. We were very pleased with our success in renewing more than half of the former Employers Re clients up for renewal, most with increased rates and higher self-insured retentions. to entry in the excess workers’ 6 $300 $250 $200 $150 $100 $50 $0 Co un mpo nn d A ual w Gro at th R % e 26 The market has remained firm in early 2007, with rates basically unchanged and self-insured retentions rising slightly in the important January renewals, when Safety National typically writes about 30% of our business. We do not currently see signs that the market will soften significantly any time soon. Demand for our coverage remains strong from employers who self-insure as a preferred alternative to the primary workers’ compensation market, where rates remain high in just about every part of the country besides California. We continue to experience growth in our self-insured association membership, which reflects participation by smaller companies who are unable to self-insure on their own but are seeking an alternative to save money. 2006 We believe there are substantial barriers to entry in the excess workers’ compensation market, including our proprietary database and experienced underwriting staff. Since excess workers’ compensation coverage is treated similarly to reinsurance from an insurance regulatory standpoint, we generally do not have to file rating plan revisions or report claims information on a policy-by-policy basis, so there is no place a competitor could get publicly available data to underwrite the business. This is also not an insurance line that offers instant profit gratification, since it takes several years for claims experience and reserves to develop and to get the margin benefits from compounding of investment income. So we expect the competitive environment in excess workers’ compensation to remain attractive for the foreseeable future. 2002 2003 2004 2005 Reliance Standard Life Reliance Standard continued to improve profits in 2006 by emphasizing our small case niche of companies with 10 to 500 employees, which has historically been our most profitable segment. We achieved a 15% increase in core group employee benefit premiums, driven by a 17% increase in group disability premiums. Chief Executive Officer Larry Daurelle and his management team were successful in building on our strong market position in our traditional sales channel focused on group employee benefit brokers and at the same time expanding our turnkey disability business, which provides significant alternative distribution to the “We continued to reap the attractive small case disability market. In our traditional broker distribution channel, Reliance benefits of our larger sales force Standard continued to reap the benefits of our larger and the investments we’ve made sales force and the investments we’ve made in in technology and training. ” technology and training to improve productivity and enhance service to our brokers. Our sales force, which has grown at a compounded annual rate of 10% over the past six years, reached 125 reps at the end of 2006, operating out of 26 sales offices nationwide. This expansion strategy has helped Reliance Standard move up steadily in the rankings of industry leaders. According to industry market research firms, in 2006 Reliance Standard was the 6th largest carrier nationwide by new sales of group long-term disability, one rank higher than the previous year. Reliance Standard also ranked as the 12th largest group life carrier by new sales. Reliance Standard continues to emphasize smaller cases in our sales efforts, as shown by an 18% increase in new cases sold in 2006 compared to a 12.5% gain in new premium production. Our average premium per case was $21,000 in 2006, which was unchanged from 2005 but down from $26,000 in 2003. We continue to focus on the under-penetrated segment of the group benefits market, with about 20% of our new sales coming from first-time buyers of our products. 7 These smaller companies tend to offer more conservative benefits and can be less price-sensitive. We also benefited from our focus on voluntary products, which have better margins. Production of voluntary products, which are 100% employee-paid insurance plans offered at affordable group rates, rose 80% in 2006 and represented 10% of Reliance Standard’s total production, up from 6% in 2005. We expect voluntary products to continue increasing in importance as employers seek to control costs while still expanding benefits. Our technology initiative at Reliance Standard, called PACS, has been critical to our ability to drive higher case counts and realize economies of scale. The sales and underwriting phase of the project, which rolled out in September 2002, has enabled us to handle much larger numbers of quotes and improve our response time to brokers, without adding at all to underwriting staff. The claims phase of PACS began implementation in late 2005, and we are already seeing substantial benefits in improved work flows and efficiencies. The third phase, which will incorporate finance and administrative functions, is scheduled to begin a staged deployment in 2007. Expanding RSL Sales Force In recognition of our commitment to technological % improvement, Reliance Standard was recently named a Model te 10 th Ra G row 125 Carrier by Celent, a leading industry research firm, for using nual An ound Comp technology to increase efficiencies in policy administration. 100 These efficiencies included a 60% reduction in the time needed to issue contracts and a 40% reduction in paper costs due to 75 electronic distribution of materials. Our alternative distribution turnkey initiative began in the fourth quarter of 2004 when Reliance Standard formed a 25 strategic alliance with about a dozen health and life insurers to provide a turnkey disability service handling all underwriting 0 2006 2000 2001 2002 2003 2004 2005 and claims management. These insurers do not have disability expertise in-house but want to offer disability coverage to their customers, which are mostly companies with less than 300 employees that we would not come across in our regular broker distribution channel. Reliance Standard outsourced the claims management and some underwriting functions of our turnkey business to IDR, a disability risk and claims manager in Portland, Maine. In April 2006, Reliance Standard purchased the assets of IDR’s Portland claims management operation for a nominal amount, hired about 100 employees who were working on our turnkey disability business there and formed a new division of Reliance Standard called Custom Disability Solutions, or CDS. Reliance Standard hired a new President and Chief Executive Officer of the CDS division, Gerald Bannach, a respected industry veteran. Under our new leadership, we have built a strong management team and achieved strong premium growth in our turnkey business in 2006. Turnkey disability premiums, which are structured as an assumed reinsurance arrangement, grew 35% to $51 million in 2006. We are excited about the growth opportunity in this attractive market and are working to expand the in-force block of business from our existing strategic alliance partners while at the same time adding new turnkey disability clients. 50 Matrix/Integrated Employee Benefits Delphi’s Integrated Employee Benefits program made a strong contribution to our premium and production growth in 2006. In this unique program, we combine value-added services from Matrix Absence Management with insurance coverages from Reliance Standard and Safety National to give us a differentiated approach in the larger case market. Matrix is a national leader in providing return-to-work services that help leading companies achieve meaningful productivity gains. This strategy helps us achieve attractive margins by avoiding purely price-driven competition that is more typical in selling insurance products to large employers. 8 Revenues from the Integrated Employee Benefits program, which are primarily insurance premiums, increased 21% to $157 million, compared with just $5 million following our strategic purchase of Matrix in 1998. Production from new Integrated Employee Benefits clients, which is primarily at Reliance Standard, grew 45% to $32 million, accounting for more than 11% of Delphi’s core group employee benefits production. We achieved strong production growth as a result of improved marketing efforts that enable us to pre-qualify potential clients who are most seriously interested in implementing return-to-work programs and increasing productivity. We are also benefiting from the growing trend toward outsourcing of benefits management to help companies handle the burden of legal and administrative requirements such as Family and Medical Leave Act compliance. Integrated Employee Benefit Program Revenues Premiums and Fees (Dollars in Millions) $160 nua l G th row Ra te 21% $120 Co mp d oun An $80 Asset Accumulation 2002 2003 2004 2005 2006 Reliance Standard’s asset accumulation business, which is primarily focused on selling individual fixed annuities, achieved strong profit growth in 2006 driven by wider spreads and increased assets under management. Operating income in this segment rose 28% to $30 million, as we continued to be successful in generating wider spreads in part by reducing crediting rates on our older, more profitable book of annuities while still maintaining high persistency levels. Asset Accumulation Segment Funds under management in this segment grew 8% to $1.1 billion at the end of 2006, including $100 million from a new institutional funding agreement program we launched in the $1200 first quarter. We view this new product, which is targeted solely at institutional investors, as complementary to our retail annuity business. The institutional product gives us $1000 another market to gather assets, which is particularly important since our fixed annuity business has had a more challenging sales environment in recent years. In 2006, new $800 fixed annuity sales declined to $91 million from $95 million the prior year, as we continued to stay disciplined in setting crediting rates to hit our target spreads of 150-250 basis $600 2002 2003 2004 2005 2006 points, which are well above industry averages. We have the advantage of being opportunistic in this business due to the minimal overhead of our distribution, which is done entirely through a network of independent wholesalers that contract with retail agents focusing primarily on the retiree market. We will continue to explore opportunities to add more institutional assets as market conditions allow and are optimistic about continued profit growth in this segment based on our ability to capture target spreads. (Dollars in Millions) Funds Under Management Investments and Capital Structure Delphi’s investment income exceeded our targets in 2006 as rapid growth in invested assets and strong investment performance helped us overcome a challenging interest rate environment. Investment income rose 14% to $256 million, boosted by a 15% increase in invested assets to $4.5 billion at the end of 2006. Our tax 9 equivalent yield improved to 6.6% from 6.4% in 2005, reflecting the benefit of a higher level of tax-exempt interest income as we invested more of Safety National’s growing assets in municipal bonds. We continued to achieve excellent total returns on our portfolio, which in total were 292 basis points better than our benchmark, the Lehman U.S. Aggregate Index of investment-grade bonds. Our investment portfolio remained conservative from a credit and interest rate perspective, with the average credit quality of our bonds at AA and non“Our solid investment investment grade bonds declining to below 6% of the portfolio portfolio and improved at the end of 2006 from 7% a year ago. We also maintained the conservative capital structure we established when our deleveraging strategy was completed in early 2001. Our debt to capital ratio was 18% at the end of 2006 and we earned our interest expense more than 12 times over. Book value per share excluding mark-to-market adjustments rose 13% to $23.35. Our solid investment portfolio and improved capital structure continued to gain positive recognition from the rating agencies. In August, Standard & Poor’s revised its outlook on our senior debt rating to positive with the expectation of raising its BBB rating by one notch within 12 months. Our higher ratings should bring tangible benefits over the next two years as some of our capital securities and $144 million of senior notes are callable, giving us the opportunity to refinance at more attractive rates and terms. Delphi capitalized on our improved financial position and ratings in October to expand our five year bank revolving credit facility from $200 million to $250 million, with better terms and lower costs. We were pleased that the bank market recognized our improved credit profile and operating performance. In addition to $130 million in unused borrowing capacity on the new facility at the end of 2006, we had $117 million in excess financial assets at the holding company. The financial flexibility we have from these resources and our strong cash flow enhances our ability to capitalize on growth opportunities in our insurance businesses Investment Portfolio and return value to shareholders through higher December 31, 2006 = $4.5 billion dividends and share repurchases. Our cash dividend Corporates & Other Fixed Corporates & Other Fixed increased by 33% in 2006, which was the fifth Maturity Securities Maturity Securities increase since we instituted a cash dividend in 2001. (Investment Grade) (High Yield) We repurchased 480,900 shares in the first quarter Equity Securities 27% 5% of 2006 and have remaining authorization to Municipal Bonds 1% 17% repurchase approximately 900,000 shares. We also Short-Term Investments 9% improved the liquidity of our common stock by U.S. Treasury & Mortage Loans instituting a 3-for-2 stock split on June 1, 2006. Other Government 4% These positive actions demonstrate our confidence Guaranteed Securities Other in the future outlook for Delphi’s growth and our Mortgage-Backed 6% 10% Securities commitment to building long-term value for our 21% shareholders. Respectfully submitted, capital structure continued to gain positive recognition from the rating agencies. ” Donald A. Sherman President and Chief Operating Officer 10 Board of Directors Robert Rosenkranz Chairman of the Board and Chief Executive Officer Delphi Financial Group, Inc. Donald A. Sherman President and Chief Operating Officer Delphi Financial Group, Inc. Kevin R. Brine Managing Director of Brine Management, L.L.C. Lawrence E. Daurelle President and Chief Executive Officer Reliance Standard Life Insurance Company Edward A. Fox Former Chairman of the Board SLM Corporation James N. Meehan Retired Managing Director Bank of America Steven A. Hirsh Chairman of the Board and President Astro Communications, Inc. Harold F. Ilg Chairman of the Board Safety National Casualty Corp. James M. Litvack Economic Consultant Philip R. O’Connor Vice President Constellation New Energy, Inc. Robert M. Smith, Jr. Executive Vice President Delphi Financial Group, Inc. Robert F. Wright President and Chief Executive Officer Robert F. Wright Associates, Inc. Corporate Information Corporate Headquarters 1105 North Market Street, Suite 1230 P.O. Box 8985 Wilmington, DE 19899 (302) 478-5142 • (302) 427-7663 Fax Registrar and Stock Transfer Agent American Stock Transfer & Trust Company Shareholder Services 59 Maiden Lane, Plaza Level New York, NY 10038 (800) 937-5449 Annual Meeting Tuesday, May 8, 2007, at 10:00AM University Club One West 54th Street New York, NY 10019 Independent Accountants Ernst & Young LLP Two Commerce Square, Suite 4000 2001 Market Street Philadelphia, PA 19103 Investor Relations Delphi Financial Group, Inc. 590 Madison Avenue New York, NY 10022 (212) 303-4349 • (212) 319-6171 Fax www.delphifin.com Trading Market New York Stock Exchange Common Stock Symbol: DFG 30-Year Senior Notes Symbol: DFY Principal Subsidiaries Delphi Capital Management, Inc. 590 Madison Avenue New York, NY 10022 (212) 838-7000 • (212) 838-7598 Fax Reliance Standard Life Insurance Company Two Commerce Square 2001 Market Street, Suite 1500 Philadelphia, PA 19103-7090 (800) 351-7500 • (267) 256-3556 Fax www.rsli.com Safety National Casualty Corporation 2043 Woodland Parkway, Suite 200 St. Louis, MO 63146 (888) 995-5300 • (314) 995-3843 Fax www.sncc.com Matrix Absence Management, Inc. 5225 Hellyer Avenue, Suite 210 San Jose, CA 95138-1001 (800) 980-1006 • (408) 360-9441 Fax www.matrixcos.com Principal Officers Delphi Financial Group, Inc. Robert Rosenkranz Chairman of the Board and Chief Executive Officer Donald A. Sherman President and Chief Operating Officer Thomas W. Burghart Vice President and Treasurer Chad W. Coulter Senior Vice President, Secretary and General Counsel Bernard J. Kilkelly Vice President, Investor Relations Nita Savage Vice President, Finance Robert M. Smith, Jr. Executive Vice President Reliance Standard Life Insurance Company Lawrence E. Daurelle President and Chief Executive Officer Thomas W. Burghart Vice President and Treasurer Warren M. Cohen Vice President, Actuarial Chad W. Coulter Vice President, General Counsel and Assistant Secretary Charles T. Denaro Vice President, Secretary and Deputy General Counsel Daniel Falkenstein Vice President, Information Services Christopher A. Fazzini Senior Vice President, Sales and Marketing Dan R. Green Vice President, Underwriting Debra G. Staples Vice President, Claims Administration Safety National Casualty Corporation Harold F. Ilg Chairman of the Board Terrence T. Schoeninger President and Chief Executive Officer John P. Csik Senior Vice President of Finance Duane A. Hercules Executive Vice President and Treasurer Eugene R. Maier Senior Vice President, Underwriting Jeffrey W. Otto Senior Vice President, General Counsel Stuart M. Presson Senior Vice President, Marketing Carleton S. Reynolds, III Vice President, Workers’ Compensation Claims Gerald R. Scott Executive Vice President Mark A. Wilhelm Executive Vice President Matrix Absence Management, Inc. Ivars Zvirbulis President and Chief Operating Officer Michael W. Fredericksen Vice President and Chief Financial Officer Suzanne Wilson Vice President, Administration, Human Resources and Secretary www.delphifin.com