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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K


ý


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

For the fiscal year ended December 31, 20062008

OR

o

 


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 1-16725

PRINCIPAL FINANCIAL GROUP, INC.
(Exact name of Registrant as specified in its charter)

Delaware
(State or other jurisdiction of
incorporation or organization)
 711 High Street,
Des Moines, Iowa 50392
(Address of principal executive offices)
 42-1520346
(I.R.S. Employer
Identification Number)

(515) 247-5111
(Registrant's telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

Title of each class
Common Stock, par value $0.01
Series B Non-Cumulative Perpetual Preferred Stock
 Name of each exchange on which registered
New York Stock Exchange
New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:
Series A Non-Cumulative Perpetual Preferred Stock

 

 

        Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yesý Noo

        Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yeso Noý

        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. Yesý Noo

        Indicate by check mark if disclosure of delinquent filers pursuant Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment of this Form 10-K.oý

        Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a non-accelerated filer.smaller reporting company. See the definitions of "accelerated filer and large"large accelerated filer", "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.

Large accelerated filerý    Accelerated filero    Non-accelerated filero

Large accelerated filer ýAccelerated filer oNon-accelerated filer o
(Do not check if a smaller reporting company)
Smaller reporting company o

        Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.) Yeso Noý

        As of February 20, 2007,11, 2009, there were outstanding 267,878,346259,560,962 shares of Common Stock, $0.01 par value per share of the Registrant.

        The aggregate market value of the shares of the Registrant's common equity held by non-affiliates of the Registrant was $14,973,612,997$10,868,279,906 based on the closing price of $55.65$41.97 per share of Common Stock on the New York Stock Exchange on June 30, 2006.2008.

Documents Incorporated by Reference

        The information required to be furnished pursuant to Part III of this Form 10-K is set forth in, and is hereby incorporated by reference herein from, the Registrant's definitive proxy statement for the annual meeting of stockholders to be held on May 22, 2007,19, 2009, to be filed by the Registrant with the United States Securities and Exchange Commission pursuant to Regulation 14A not later than 120 days after the year ended December 31, 2006.2008.





PRINCIPAL FINANCIAL GROUP, INC.
TABLE OF CONTENTS

PART I 4

Item 1.

 

Business

 


4


Item 1A.

 

Risk Factors

 

19

18


Item 1B.

 

Unresolved Staff Comments

 

26

31


Item 2.

 

Properties

 

26

31


Item 3.

 

Legal Proceedings

 

26

31


Item 4.

 

Submission of Matters to a Vote of Security Holders

 

27

31


 

 

Executive Officers of the Registrant

 
27

31


PART II

 

28

32


Item 5.

 

Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

28

32


Item 6.

 

Selected Financial Data

 

29

34


Item 7.

 

Management's Discussion and Analysis of Financial Condition and Results of Operations

 

32

36


Item 7A.

 

Quantitative and Qualitative Disclosures About Market Risk

 

84

83


Item 8.

 

Financial Statements and Supplementary Data

 


90

  Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting 91
  Report of Independent Registered Public Accounting Firm 92
  Consolidated Statements of Financial Position 93
  Consolidated Statements of Operations 94
  Consolidated Statements of Stockholders' Equity 95
  Consolidated Statements of Cash Flows 97
  Notes to Consolidated Financial Statements 99

Item 9.

 

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

 

190

193


Item 9A.

 

Controls and Procedures

 

190

193


Item 9B.

 

Other Information

 

190

193


PART III

 

191

194


Item 10.

 

Directors, Executive Officers and Corporate GoveranceGovernance

 

191

194


Item 11.

 

Executive Compensation

 

191

194


Item 12.

 

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

 

191

194


Item 13.

 

Certain Relationships and Related Transactions, and Director Independence

 

192

194


Item 14.

 

Principal Accounting Fees and Services

 

192

194


PART IV

 

193

195


Item 15.

 

Exhibits and Financial Statement Schedules

 

193

195


Signatures

 

197

196

 
Report of Independent Registered Public Accounting Firm on Schedules

 

198

197

 Schedule I — Summary of Investments — Other Than Investments in Related Parties 199198
 Schedule II — Condensed Financial Information of Registrant (Parent Only) 200199
 Schedule III — Supplementary Insurance Information 204203
 Schedule IV — Reinsurance 206205
 Exhibit Index 207206


NOTE CONCERNING FORWARD-LOOKING STATEMENTS

        This Annual Report on Form 10-K, including the Management's Discussion and Analysis of Financial Condition and Results of Operations, contains statements which constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including statements relating to trends in operations and financial results and the business and the products of the Registrant and its subsidiaries, as well as other statements including words such as "anticipate," "believe," "plan," "estimate," "expect," "intend" and other similar expressions. Forward-looking statements are made based upon management's current expectations and beliefs concerning future developments and their potential effects on the Company.us. Such forward-looking statements are not guarantees of future performance.

        Actual results may differ materially from those included in the forward-looking statements as a result of risks and uncertainties. Those risks and uncertainties including,include, but are not limited to the following: (1) a decline or increased volatilityrisk factors listed in the securities markets could result in investors withdrawing from the markets or decreasing their rates of investment, either of which could reduce our net income, revenues and assets under management; (2) our investment portfolio is subject to several risks which may diminish the value of our invested assets and affect our sales, profitability and the investment returns credited to our customers; (3) competition from companies that may have greater financial resources, broader arrays of products, higher ratings and stronger financial performance may impair our ability to retain existing customers, attract new customers and maintain our profitability; (4) a downgrade in any of our ratings may increase policy surrenders and withdrawals, reduce new sales and terminate relationships with distributors, and impact existing liabilities, any of which could adversely affect our profitability and financial condition; (5) our efforts to reduce the impact of interest rate changes on our profitability and surplus may not be effective; (6) if we are unable to attract and retain sales representatives and develop new distribution sources, sales of our products and services may be reduced; (7) our international businesses face political, legal, operational and other risks that could reduce our profitability in those businesses; (8) our reserves established for future policy benefits and claims may prove inadequate, requiring us to increase liabilities; (9) our ability to pay stockholder dividends and meet our obligations may be constrained by the limitations on dividends Iowa insurance laws impose on Principal Life Insurance Company ("Principal Life"); (10) the pattern of amortizing our deferred policy acquisition costs ("DPAC") on our Statement of Financial Accounting Standard ("SFAS") No. 97Accounting and Reporting by Insurance Enterprises for Certain Long-Duration Contracts and for Realized Gains and Losses from the Sale of Investments ("SFAS 97") products may change, impacting both the level of the asset and the timing of our operating earnings; (11) we may need to fund deficiencies in our closed block ("Closed Block") assets; (12) a pandemic, terrorist attack, or other catastrophic event could adversely affect our earnings; (13) our reinsurers could default on their obligations or increase their rates, which could adversely impact our earnings and profitability; (14) we may encounter difficulty integrating WM Advisors, Inc. and may incur substantial costs in connection with the integration; (15) changes in laws, regulations or accounting standards may reduce our profitability; (16) litigation and regulatory investigations may affect our financial strength or reduce our profitability; (17) fluctuations in foreign currency exchange rates could reduce our profitability; and (18) applicable laws and our stockholder rights plan, certificate of incorporation and by-laws may discourage takeovers and business combinations that our stockholders might consider in their best interests.Item 1A. "Risk Factors."



PART I

Item 1.    Business

        The Principal Financial Group, Inc. ("PFG") is a leading provider of retirement savings, investment and insurance products and services with $256.9$247.0 billion in assets under management ("AUM") and approximately eighteen19.1 million customers worldwide as of December 31, 2006.2008.

        Our U.S. and international operations concentrate primarily on asset accumulation and asset management. In addition, we offer a broad range of individual and group life insurance, group health insurance, and individual and group disability insurance and group dental and vision insurance.

        We primarily focus on small and medium sizedmedium-sized businesses, which we define as companies with less than 1,000 employees, providing a broad array of retirement and employee benefit solutions to meet the needs of the business, the business owner and their employees. With over 32,00033,000 plans, we are the leading provider of corporate defined contribution plans in the U.S., according to Spectrem Group. We are also the leading employee stock ownership plan consultant. In addition, we are a leading provider of nonqualified plans, defined benefit plans and plan termination annuities. We are also one of the largest providers of non-medicalspecialty benefits insurance product solutions.

        We believe small and medium sizedmedium-sized businesses are an underserved market, offering attractive growth opportunities in the U.S. in retirement services and other employee benefits. We also believe there is a significant opportunity to leverage our U.S. retirement expertise into select international markets that have adopted or are moving toward private sector defined contribution pension systems. This opportunity is particularly compelling as aging populations around the world are driving increased demand for retirement accumulation, retirement asset management and retirement income management solutions.

Our OperatingReportable Segments

        We organize our businesses into the following operatingreportable segments:

        We also have a Corporate and Other segment, which consists of the assets and activities that have not been allocated to any other segment.



        The following table summarizes our operating revenues for our products and services, which are described in each of the subsequent operating segment discussions:

 
 For the year ended December 31,
 
 
 2006
 2005
 2004
 
 
 (in millions)

 
U.S. Asset Management and Accumulation:          
 Full-service accumulation $1,383.6 $1,267.4 $1,177.2 
 Mutual funds  344.9  206.6  182.1 
 Individual annuities  582.8  471.6  393.8 
 Bank and trust services  53.0  38.8  33.7 
 Eliminations  (168.8) (62.6) (53.3)
  
 
 
 
  Total Accumulation  2,195.5  1,921.8  1,733.5 
 Investment only  1,080.7  1,002.3  931.6 
 Full-service payout  830.8  863.5  811.8 
  
 
 
 
  Total Guaranteed  1,911.5  1,865.8  1,743.4 
  
 
 
 
  Total U.S. Asset Accumulation  4,107.0  3,787.6  3,476.9 
 Principal Global Investors  488.1  417.3  343.4 
 Eliminations  (83.5) (71.1) (58.7)
  
 
 
 
  Total U.S. Asset Management and Accumulation  4,511.6  4,133.8  3,761.6 
International Asset Management and Accumulation  605.4  604.5  518.4 
Life and Health Insurance:          
 Individual life insurance  1,344.7  1,361.7  1,370.4 
 Health insurance  2,077.7  1,894.3  1,806.9 
 Specialty benefits insurance  1,316.0  1,131.5  1,004.0 
 Eliminations  (2.2)    
  
 
 
 
  Total Life and Health Insurance  4,736.2  4,387.5  4,181.3 
Corporate and Other  (27.4) (59.1) (23.0)
  
 
 
 
Total operating revenues $9,825.8 $9,066.7 $8,438.3 
  
 
 
 
Total operating revenues $9,825.8 $9,066.7 $8,438.3 
Net realized/unrealized capital gains (losses), including recognition of front-end fee revenues and certain market value adjustments to fee revenues  44.2  (22.2) (114.9)
Operating revenues from discontinued real estate investments  0.5  (2.8) (2.5)
  
 
 
 
Total U.S. GAAP revenues $9,870.5 $9,041.7 $8,320.9 
  
 
 
 

U.S. Asset Management and Accumulation Segment

        Our U.S. Asset Management and Accumulation segment consists of:

        For financial results for the U.S. Asset Management and Accumulation segment, seeSee Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 19, Segment Information."Information" for financial results of our segments, including our operating revenues for our products and services described in each of the subsequent segment discussions.

U.S. Asset Accumulation Segment

        Our asset accumulation activities in the U.S. date back to the 1940s when we first began providing pension plan products and services. We now offer a comprehensive portfolio of asset accumulation products and services for retirement savings and investment:


        We organize our U.S. asset accumulation operations into six product and service categories: full-servicefull service accumulation, Principal Funds (our mutual funds,fund business), individual annuities, bank and trust services, investment only and full-servicefull service payout.


Full-ServiceFull Service Accumulation

Products

        We offer a wide variety of investment and administrative products for defined contribution pension plans, including 401(k) and 403(b) plans, defined benefit pension plans, non-qualifiednonqualified executive benefit plans and ESOPs. A 403(b) plan is a plan described in Section 403(b) of the Internal Revenue Code that provides retirement benefits for employees of tax-exempt organizations and public schools.

        Full-serviceFull service accumulation products respond to the needs of plan sponsors seeking both administrative and investment services for defined contribution plans or defined benefit plans. The investment component of both the defined contribution and defined benefit plans may be in the form of a general account, separate account or a mutual fund offering. In addition, defined contribution plans may also offer their own employer security as an investment option.

        As of December 31, 2006,2008, we provided full-servicefull service accumulation products to 32,13933,054 defined contribution pension plans, of which 26,18927,195 were 401(k) plans, covering 2.93.3 million plan participants, and to 2,7852,710 defined benefit pension plans, covering 329,275351,409 plan participants. As of December 31, 2006,2008, approximately 70%72% of our full-servicefull service accumulation account values were managed by our affiliated asset manager, Principal Global Investors. Third-party asset managers provide asset management services with respect to the remaining assets.

        We deliver both administrative and investment services to our defined contribution plan and defined benefit plan customers through annuities and mutual funds. Annuities and the underlying investment options are not required to be registered with the United States Securities and Exchange Commission ("SEC"). Our mutual fund offering is called Principal Advantage. It is a qualified plan product based on our series mutual fund, Principal Investors Fund, and is a registered product with the SEC.Funds, Inc. We offer investments covering the full range of stable value, equity, fixed income, real estate and international investment options managed by our affiliated asset manager, Principal Global Investors as well as third-party asset managers.

        On December 17, 2004, we entered into a strategic agreement to acquire ABN AMRO Trust Services Company ("Principal Services Trust Company"), the Chicago-based pension and retirement business of ABN AMRO. As of December 31, 2004, Principal Services Trust Company provided full-service defined contribution recordkeeping and investment services in the U.S., administering approximately 280 401(k) plans with more than 120,000 participants, representing $4.0 billion in full-service account values. The transaction closed on December 31, 2004 and the business was fully integrated into full-service accumulation in early 2006.

Markets and Distribution

        We offer our full-servicefull service accumulation products and services to employer-sponsored pension plans, including qualified and non-qualifiednonqualified defined contribution plans and defined benefit plans. Our primary target market is plans sponsored by small and medium-sized businesses, which we believe remains under-penetrated. Only 15%According to Spectrem Group, in 2007, only 21% of businesses with between 510 and 99 employees, and 47%41% of businesses with between 100 and 500 employees, offered a 401(k) plan in 2006, according to Spectrem Group.plan. The same study indicates that 63%68% of employers with between 500 and 1,000 employees; 71%81% of employers with between 1,000 and 5,000 employees; and 90%86% of employers with 5,000 or more employees offered a 401(k) plan in 2006.2007.

        We distribute our full-servicefull service accumulation products and services nationally, primarily through a captive retirement services sales force. As of December 31, 2006,2008, approximately 345325 retirement services sales representatives in over 43 offices, operating as a wholesale distribution network, maintained relationships with over 9,3478,208 independent brokers, consultants and agents. Retirement services sales representatives are an integral part of the sales process alongside the referring consultant or independent broker. We compensate retirement services sales representatives through a blend of salary and production-based incentives, while we pay independent brokers, consultants and agents a commission or fee.

        As of December 31, 2006,2008, we had a separate staff of over 255229 service and education specialists located in the sales offices who play a key role in the ongoing servicing of pension plans by:by providing local services to our customers, such as reviewing plan performance, investment options and plan design; communicating the customers' needs and feedback to us;us and helping employees understand the benefits of their pension plans. The following summarizes our distribution channels:



        We believe that our approach to full-servicefull service accumulation plan services distribution gives us a local sales and service presence that differentiates us from many of our competitors. We have also recently established a number of marketing and distribution relationships to increase the sales of our accumulation products with firms such as Bank of America and Smith Barney.products.

MutualPrincipal Funds

        We have been providing mutual funds to customers since 1969. We offer mutual funds to individuals, businesses and institutional investors for use within variable life and variable annuity contracts, for use in employer-sponsored pension plans, as a rollover investment option, and for general investment purposes.

Products and Services

        We were        Principal Funds plans to grow into a top advisor sold mutual fund company with a sales force focused on multiple channels. As of November 2008, as reported by the Financial Research Corporation, we are ranked 19 (up from 24 in August 2008) according to AUM (long term funds and exchange traded funds only) of the top quartile among U.S.50 advisor sold mutual fund managers in terms of total mutual fund assets under management as of December 31, 2006, according to the Investment Company Institute ("ICI"). The value of our mutual fund assets we managed was $56.0 billion as of December 31, 2006, including the assets under management from our acquisition of WM Advisors, Inc. At $56.0 billion in assets under management, we rank 41st according to the ICI.funds. We provide accounting, compliance, corporate governance and product development and transfer agency functions for all mutual funds we organize. As of December 31, 2006,2008, our mutual fund operations served approximately 1,800,0001.8 million mutual fund shareholder accounts.

        Principal Variable Contracts Fund.Funds, Inc.    Principal Variable Contracts FundFunds, Inc. is a series mutual fund, which as of December 31, 2006, provided 31 investment options for use as funding choices in variable annuity and variable life insurance contracts issued by Principal Life. As of December 31, 2006, this fund had $4.8 billion in assets under management (excluding assets under management from the acquisition of WM Advisors, Inc.). We report the results for the funds backing variable annuity contracts in this segment under "Individual Annuities." We report the results for the funds backing variable life insurance contracts in the Life and Health Insurance segment.

        Principal Investors Fund.    Principal Investors Fund is a series mutual fund, which as of December 31, 2006,2008, offered 5572 investment options. This fund acts as the funding vehicle for Principal Advantage, the defined contribution product described above under "U.S. Asset Management and Accumulation Segment-Full-ServiceSegment-Full Service Accumulation Products." This fund also offers four retail classes of shares ("J shares") to individuals for IRA rollovers ("J shares") and general investment purposes (A, B and C shares) and a class of shares ("I shares") offered primarily to specified institutional investors. As of December 31, 2006, this2008, the retail classclasses of shares had $8.4$20.8 billion in assets under management (excluding assets under management from the acquisition of WM Advisors, Inc.); $1.2 billion of this retail class invests in other share classes of Principal Investors Funds.AUM. All other share classes of Principal Investors Funds, Inc., including seed money, had $20.3$17.7 billion of assets under management.AUM. We report the results for this fund, excluding the retail class of shares,AUM, under "Full-Service"Full Service Accumulation." We report the results of the three retail share classesAUM under "Mutual"Principal Funds."

        Principal Variable Contracts Funds, Inc.    Principal Variable Contracts Funds, Inc. is a series mutual fund, which, as of December 31, 2008, provided 40 investment options for use as funding choices in variable annuity and variable life insurance contracts issued by Principal Life Insurance Company ("Principal Life") and other insurance companies. As of December 31, 2008, this fund had $4.6 billion in AUM. AUM backing Principal Life variable annuity contracts is reported in this segment under "Individual Annuities." AUM backing Principal Life variable life insurance contracts is reported in the Life and Health Insurance segment.

        Principal Managed Portfolio.    Principal Managed Portfolio is a wrap product offered by our registered investment advisor, Princor Financial Services Corporation ("Princor"), which permits the client to invest only invests in Principal Investors Funds. We started to market this product in mid-2005.Funds, Inc. Clients are charged a quarterly asset basedasset-based fee on this account. As of December 31, 2006,2008, Principal Managed Portfolio had accumulated $378.7$482.3 million in assets.

        Principal Passage Fee Based Brokerage Account.Advisory Select.    Principal PassageAdvisory Select is a fee based brokerage account.non-discretionary wrap product offered by our registered investment advisor, Princor, which permits the client to invest in a broad array of investments. Clients are charged a quarterly asset basedasset-based fee on their account in lieu of traditional transaction based commissions.this account. As of December 31, 2006,2008, Principal Passage accountsAdvisory Select had accumulated $1.4 billion$744.9 million in assets.

        WM Advisors, Inc. Acquisition.    On July 25,December 31, 2006, we announced a definitive agreement to acquirecompleted the purchase of WM Advisors, Inc. ("WM Advisors") and its subsidiaries from Washington Mutual, Inc. for a total cost of $741.1 million in cash at the time of closing. WM Advisors, Inc. was the manager of the WM Funds, a family of 40 retail mutual funds and variable trustcontract mutual funds. As of December 31, 2006, the WM Funds acquired had $22.5 billion in assets under management. The transaction closed on December 31, 2006, for a total cost of $741.1 million in cash, subject to closing adjustments..AUM. During 2007, the WM Funds were integrated into the Principal Funds, Inc. and Principal Variable Contracts Funds, Inc.



Markets and Distribution

        Our markets for retail mutual funds are individuals seeking to accumulate savings for retirement and other purposes and small businesses seeking to use mutual funds as the funding vehicle for pension plans, as well as non-qualifiednonqualified individual savings plans utilizing payroll deductions. We also market our retail mutual funds to participants in pension plans who are departing their plans and reinvesting their retirement assets into individual retirement accounts.

        Our retail mutual funds are sold primarily through our affiliated financial representatives, independent brokers registered with our securities broker-dealer, Princor, registered representatives from other broker-dealers, direct deposits from our employees and others and Principal Connection. Princor, asPrincipal Connection is our direct response distribution channel for retail financial services products to individuals. Principal Connection's services are available over the marketing arm of our mutual fund business,phone, on the Internet or by mail. Princor recruits, trains and supervises registered representatives selling our products. With the WM Advisors, Inc. acquisition, we will obtainobtained established relationships with a number of marketing and outside broker dealerbroker-dealer distributors to increase the sales of our mutual fund products.


Individual Annuities

        Individual annuities offer a tax-deferred means of accumulating retirement savings, and provideas well as a tax-efficient source of income during the payout period.

Products

        We offer both fixed and variable annuities to individuals and pension plans. Individual annuities may be categorized in two ways: (1) deferred, in which case assets accumulate until the contract is surrendered, the customer dies or the customer begins receiving benefits under an annuity payout option, or (2) immediate,immediate/payout, in which case payments begin within one year of issue and continue for a fixed period of time or for life.

        Fixed Deferred Annuities.    Our individual fixed deferred annuities consist of both single premium deferred annuity contracts ("SPDAs") and flexible premium deferred annuity contracts ("FPDAs"). Some FPDA contracts limit the period of time deposits are allowed (i.e.(e.g., only one year). For most contracts, the principal amount is guaranteed. We credit the customer's account with a fixed interest rate and for a specified time period, typically one, year.three or five years. Thereafter, we reset, typically annually, the interest rate credited to the contract based upon our discretion, taking into account market and other conditions. We also offer a fixed deferred annuity where the interest credited is linked to an external equity index, subject to maximum and minimum values. Our major source of income from fixed deferred annuities is the spread between the investment income earned on the underlying general account assets and the interest rate credited to the contracts. We bear the investment risk because, while we credit customers' accounts with a stated interest rate, we cannot be certain the investment income we earn on our general account assets will exceed that rate. Our affiliated asset manager, Principal Global Investors manages the assets supporting these contracts.

        Variable Deferred Annuities.    Our individualIndividual variable deferred annuity products consist almost entirely of flexible premium deferred variable annuity contracts. These contractsannuities are savings vehicles through which the customer makes a single depositone or a series ofmore deposits of varying amounts and intervals. Customers have the flexibility to allocate their deposits to investment sub-accounts managed by Principal Global Investors, or other third-party asset managers. As of December 31, 2006, 65%2008, 73% of our $4.8$3.8 billion in variable annuity account balances was allocated to investment sub-accounts and our general account, which are managed by Principal Global Investors and 35%27% was allocated to investment sub-accounts managed by third-party asset managers. Generally speaking, the customers bear the investment risk and have the right to allocate their assets among various separate investment sub-accounts. The value of the annuity fluctuates in accordance with the experience of the investment sub-accounts chosen by the customer. Customers have the option to allocate all or a portion of their account to our general account, in which case we credit interest at rates we determine, subject to contractual minimums. Customers may also elect an enhanced death benefit guaranteesguarantee (commonly known in the industry as a guaranteed minimum death benefit, or "GMDB") and/or a living benefit guarantee commonly(commonly known in the industry as a guaranteed minimum withdrawal benefit, ("GMWB"or "GMWB"). TheWe bear the GMDB and GMWB feature became available in 2005.investment risk. We attempt to hedge the GMWB investment risk through the use of sophisticated risk management techniques. As of December 31, 2008, $1.0 billion of the $3.8 billion of variable annuity account value has the GMWB rider. Our major source of revenue from variable annuities is mortality and expense fees we charge to the customer, generally determined as a percentage of the market value of the assets held in a separate investment sub-account.

        Fixed Immediate Annuities.    Our individual fixed immediate annuities consist almost exclusively of single premium immediate annuity contracts ("SPIAs"). SPIAs are products where the customer makes a single deposit, and from which periodic benefit payments are made. Payments may be contingent upon the survival of one or two individuals, or payments may be fixed, meaning payments are contractually guaranteed and do not depend on the continuing survival of any individual. Our major source of income from fixed immediate annuities is the spread between the investment income earned on the underlying general account assets and the interest rate implied in the calculation of annuity benefit payments. We bear the investment risk because we cannot be certain the investment income we earn on our general account assets will exceed the rate implied in the SPIA contracts. Our affiliated asset manager, Principal Global Investors manages the assets supporting these contracts.



Markets and Distribution

        Our target markets for individual annuities include owners, executives and employees of small and medium-sized businesses, and individuals seeking to accumulate and/or eventually receive distributions of assets for retirement. We market both fixed and variable annuities to both qualified and non-qualifiednonqualified pension plans.

        We sell our individual annuity products through our affiliated financial representatives, who accounted for 40%20%, 43%,26% and 35%40% of annuity sales for the years ended December 31, 2006, 20052008, 2007 and 2004,2006, respectively. The remaining sales were made through banks, brokerage general agencies, banks, mutual fund companies, Principal Connection and unaffiliated broker-dealer firms. Although ourthe overall percentage of sales from affiliated financial representatives has declined, they continued to be significant in 2006.the primary distribution channel of our variable deferred annuities. The overall percentage decline is a result of focused efforts to increase fixed annuity sales through non-affiliated distribution channels.


Bank and Trust Services

        Bank and trust services include Principal Bank and Principal Trust Company (formerly known as Trustar).Company. Principal Bank our electronic banking operation, is a federal savings bank that began its activities in February 1998. It offers traditional retailWe market flexible banking products and services via other PFG affiliates, the telephone Internet, ATM or by mail.Internet. Our current products and services include a suite of consumer checking and savings accounts, money market accounts, certificates of deposit, consumer loans, first mortgagehome equity loans, home equity loans,lines of credit, credit cards, debit cards, small account rollovers from qualified retirement plans and health savings accounts.accounts ("HSAs"). In addition, we offer deposit and loan services to small and medium-sized businesses. As of December 31, 2006,2008, Principal Bank had approximately 139,000210,000 customers and approximately $1.5$2.3 billion in assets, primarily funded by retail customer deposits in checking accounts, money market accounts and certificates of deposit.assets.

        We market our Principal Bank products and services to prospects and our existing customers, and external prospects, through Principal Connection, our affiliated financial representatives and other means such as the Internet, direct mail, and targeted advertising. Through Principal Bank, wePFG affiliates with a primary focus on deepening existing relationships with customers of PFG. We also pursue asset retention strategies with our customers who seek to transfer assets from our other asset accumulation products by offering them our banking products and services.

        Principal Trust Company is a Delaware state chartered non-deposit trust company. Principal Trust Company, chartered in 1899 as Delaware Charter Guarantee and Trust Company, is one of the largest non-deposit trust companies in the nation. As of December 31, 2006,2008, we served as trustee to over 280,000365,000 accounts and held assets in excess of $50$60.6 billion. Principal Trust Company may not accept deposits and cannot make personal or commercial loans.

        Principal Trust Company specializes in providing affordable and innovative trust solutions directed at self-directed tax-advantaged savings accounts, such as Individual Retirement Accounts ("IRAs"), Health Savings Accounts ("HSAs")personal trusts and a full array of employee benefit plans and accounts including 401(k) and 403(b) plans, defined benefit pension plans, non-qualifiednonqualified executive benefit plans and ESOPs. We provide thesemarket our trust services to Principalour customers through our PFG affiliates and through non-affiliated brokerage firms, clearing firms, financial advisors and asset managers.

Investment Only

Products

        The three primary products for which we provide investment-onlyinvestment only services are: guaranteed investment contracts ("GICs");GICs; funding agreements;agreements and other investment-onlyinvestment only products.

        GICs and funding agreements pay a specified rate of return. The rate of return can be a floating rate based on an external market index or a fixed rate. Our investment-onlyinvestment only products contain provisions disallowing or limiting early surrenders, including penalties for early surrenders and minimum notice requirements.

        Deposits to investment-onlyinvestment only products are predominantly in the form of single payments. As a result, the level of new deposits can fluctuate from one fiscal quarter to another. Assets invested in GICs and funding agreements generate a spread between the investment income earned by us and the amount credited to the customer. Our other investment-onlyinvestment only products consist of separate accounts invested in either equities or fixed income instruments. Our affiliated asset manager, Principal Global Investors manages the assets supporting investment-onlyinvestment only account values.

Markets and Distribution

        We market GICs and funding agreements primarily to pension plan sponsors and other institutions. We also offer them as part of our full-servicefull service accumulation products. We sell our GICs primarily to plan sponsors for funding of tax-qualified retirement plans. We sell our funding agreements directly to institutions that may or may not be pension funds and unconsolidated special purpose vehicles domiciled either in the U.S. or offshore for funding agreement-backed note programs. The funding agreements sold as part of these funding agreement-backed note programs work by having investors purchase debt obligations from the special purpose vehicle which, in turn, purchases the funding agreement from us with terms similar to those of the debt obligations. The strength of this market is dependent on debt capital market conditions. As a result, our sales through this channel can vary widely from one quarter to another. In addition to



the special purpose vehicle selling the funding agreement-backed notes to U.S. and foreign institutional investors, the special purpose vehicle may also sell notes to U.S. retail investors through a SEC-registered shelf debt issuance program. Due to a downturn in the credit market, we reduced the amount of medium term note and GIC issuances in 2008. As economic conditions change, we will reassess the use of our medium term note and GIC programs.

Full-ServiceFull Service Payout

Products

        Full-serviceFull service payout products respond to the needs of pension plan participants who, upon retirement or termination of their employment, seek a guaranteed income stream. Plan participants who seek these services include those from pension plans we service, as well as pension plans other providers service. We primarily offer single premium group annuities, which are immediate or deferred annuities that provide a current or future specific income amount, fully guaranteed by us. These are available to defined contribution and defined benefit plan participants. We make regular



payments to individuals, invest the underlying assets on their behalf and provide tax reporting to them. We also reinsure single premium immediate annuities issued by another insurer.

        Single premium group annuities are traditionally used in conjunction with defined benefit plans, particularly those where the plan is being terminated. In such instances, the plan sponsor transfers all its obligations under the plan to an insurer by paying a single premium. Increasingly, these products are purchased by defined contribution plan participants who reach retirement age. Generally, plan sponsors restrict their purchases to insurance companies with superior or excellent financial quality ratings because the Department of Labor has mandated that annuities be purchased only from the "safest available" insurers.

        Premium received from full-servicefull service payout products are generally in the form of single payments. As a result, the level of new premiums can fluctuate depending on the number of retirements and large-scale annuity sales in a particular fiscal quarter. Our affiliated asset manager, Principal Global Investors manages the assets supporting full-servicefull service payout account values.

Markets and Distribution

        Our primary distribution channel for full-servicefull service payout products is comprised of several specialized home office sales consultants working through consultants and brokers that specialize in this type of business. Our sales consultants also make sales directly to institutions. Our nationally dispersed retirement services sales representatives act as a secondary distribution channel for these products. Principal Connection also distributes full-servicefull service payout products to participants in plans we service who are terminating employment or retiring. Principal Connection is our direct response distribution channel for retail financial services products to individuals. Principal Connection's services are available over the phone, on the Internet or by mail.

U.S.Global Asset Management Segment

        Our Global Asset Management segment consists of Principal Global Investors and its affiliates. We focus on providing a diverse range of asset management services covering a broad range of asset classes, investment styles and portfolio structures to our other segments and third-party institutional clients.

        As of December 31, 2006,2008, Principal Global Investors, together with its affiliates, Principal Real Estate Investors, Spectrum Asset Management, Post Advisory Group, Columbus Circle Investors, and Edge Asset Management and Morley Financial Services managed $191.4$190.0 billion in assets. Morley Financial Services was acquired on August 31, 2007. Edge Asset Management which consistswas acquired on December 31, 2006, as part of the investment advisor portion of our WM Advisors, Inc. acquisition,acquisition. We have offices outside of the U.S. in Australia, Hong Kong, Japan, Singapore and the United Kingdom.

Products and Services

Fee Mandate Business

        Our fee mandate business provides focused investment advisory services for equities, fixed income and asset allocation and has been in business since 1944 and is located in Seattle, Washington. Principal Global Investors provides asset management services to our other operating segments and to third-party institutional clients.

        On October 24, 2005, Principal Real Estate Investors and U.S. Bank National Association announced that they agreed to create Principal Commercial Funding II, a jointly-owned business that will compete in the commercial mortgage-backed securities ("CMBS") market. Principal Real Estate Investors is the real estate investment arm of Principal Global Investors. U.S. Bank National Association is the principal banking subsidiary of U.S. Bancorp. The new company is the CMBS platform for both Principal Real Estate Investors and U.S. Bank National Association and focuses on securitizing commercial mortgages originated by both Principal Real Estate Investors and U.S. Bank National Association on its behalf. Principal Commercial Funding II began operations immediately, and started contributing collateral to securitizations during the first quarter of 2006.

Products

        Principal Global Investors provides a full range of asset management services coveringacross a broad range of asset classes, investment styles and portfolio structures:structures. These services are provided for a fee as defined by the client mandate. We are diversified across three primary asset classes.

        Equity Investments.    As of December 31, 2006,2008, Principal Global Investors, along with Columbus Circle Investors and Edge Asset Management managed $52.5$41.9 billion in global equity assets. Our equity capabilities encompass large-cap, mid-cap and small-cap stocks in developed and emerging markets worldwide. As of December 31, 2006, 48%2008, 38% of equity assets under management wereAUM was derived from our pension products, 35%30% from other products of the Principal Financial Group,PFG and the remaining 17%32% from third-party institutional clients.



        Fixed Income Investments.    Principal Global Investors, along with Spectrum Asset Management, Post Advisory Group, and Edge Asset Management and Morley Financial Services managed $100.2$108.4 billion in global fixed income assets as of December 31, 2006.2008. Collectively, we provide our clients with access to investment-grade corporate debt, government bonds, mortgage-backed, asset-backed and commercial mortgage-backed securities, high yield and municipal bonds, private and syndicated debt instruments and preferred securities. As of December 31, 2006, 37%2008, 35% of these assets were derived from our pension products, 25%24% from other products of the Principal Financial Group,PFG, and the remaining 38%41% from third-party institutional clients.

        Real Estate Investments.    Principal Global Investors, through its affiliate Principal Real Estate Investors, managed a portfolio of primarily U.S. commercial real estate assets of $37.7$36.9 billion as of December 31, 2006.2008. Principal Real Estate Investors provides our clients with a broad range of real estate investment options, including private real estate equity, commercial mortgages, credit tenant debt, construction-permanent financing, bridge/mezzanine loans, commercial mortgage-backed securities and real estate investment trusts. Principal Global Investors had $0.4 billion of assets under management as of December 31, 2006, from bridge/mezzanine loans and commercial mortgages, which appear on its statement of financial position. As of December 31, 2006,2008, 40% of the commercial real estate portfolio was derived from our pension products, 27% from other products of the Principal Financial Group,PFG and the remaining 33% from third-party institutional clients.


Spread and Securitization Business

        Our spread and securitization business consists of Principal Commercial Acceptance and our terminated commercial mortgage securities issuance operation. Principal Commercial Acceptance offers commercial real estate niche financing opportunities, including bridge/mezzanine loans and land loans. We had $0.3 billion of bridge/mezzanine loans as of December 31, 2008, and we are no longer originating new loans for this business. During the third quarter of 2008, we made a decision to terminate our commercial mortgage securities issuance operation, which does not qualify for discontinued operations treatment under U.S. generally accepted accounting principles ("U.S. GAAP"), but is excluded from segment operating earnings for all time periods presented.

Markets and Distribution

        Principal Global InvestorsWe employed 110132 institutional sales, relationship management and client service professionals as of December 31, 2006,2008, who worked with consultants and directly with large investors to acquire and retain third-party institutional clients. As of December 31, 2006,2008, Principal Global Investors and its affiliates hashave approximately 400500 third-party institutional clients with $59.1$70.3 billion of assets under management.AUM in 53 countries.

International Asset Management and Accumulation Segment

        Our International Asset Management and Accumulation segment consists of Principal International, which has operations in Brazil, Chile, Mexico,China, Hong Kong Brazil,Special Administrative Region ("SAR"), India, ChinaIndonesia, Malaysia, Mexico and Malaysia.Singapore. We focus on countries with large middle classes, favorable demographics and a trend toward private sectorgrowing long-term savings with defined contribution pension systems.markets. We entered these countries through acquisitions, start-up operations and joint ventures.

        On May 26, 2005, we announced jointly with our partner, ING, the intent to liquidate the ING/Principal Pensions Company, Ltd. operation in Japan. On December 20, 2005, the liquidation process was completed with a formal liquidation filing to the Japanese corporate registry.

        The decision to liquidate the ING/Principal Pensions Company, Ltd. operation in Japan followed a careful evaluation of the joint venture's activities and its prospects for further growth in the Japanese market. After consideration of all the issues, both ING and The Principal determined that the market for defined contribution pensions was unlikely to meet initial expectations.

        On July 2, 2004, we closed the sale of Principal International Argentina S.A. ("PI Argentina"), our subsidiary in Argentina, and its wholly owned subsidiaries, Principal Life Compania de Seguros, S.A. and Principal Retiro Compania de Seguros de Retiro, S.A. Our total after-tax proceeds from the sale were approximately U.S. $29.2 million.

        The decision to sell PI Argentina was made with a view toward focusing our resources, executing on core strategic priorities and in core markets, and meeting stockholder expectations. Changing market dynamics since the 2001 economic crisis in Argentina led us to conclude that the interests of our stockholders would best be served by our exit of this market.

        PI Argentina qualified for discontinued operations treatment; therefore, the income from discontinued operations has been removed from our results of continuing operations and segment operating earnings for all periods presented. We have separately disclosed the operating, investing and financing portions of the cash flows attributable to our discontinued operations in our consolidated statements of cash flows. The results of operations for PI Argentina are reported as other after-tax adjustments in our International Asset Management and Accumulation segment

        On October 31, 2002, we sold substantially all of BT Financial Group to Westpac Banking Corporation ("Westpac"). Our total after-tax proceeds from the sale were approximately U.S. $900.0 million. This amount includes cash proceeds from Westpac, tax benefits and a gain from unwinding the hedged asset associated with our investment in BT Financial Group.

        The decision to sell BT Financial Group was made with a view toward focusing our resources, executing on core strategic priorities and meeting stockholder expectations. Changing market dynamics since our acquisition of BT Financial Group, including industry consolidation, led us to conclude that the interests of BT Financial Group clients and staff would be best served under Westpac's ownership.


        BT Financial Group is accounted for as a discontinued operation and therefore, the income from discontinued operations has been removed from our results of continuing operations and segment operating earnings for all periods presented. We have separately disclosed the operating, investing and financing portions of the cash flows attributable to our discontinued operations in our consolidated statements of cash flows. The historical results of operations (excluding corporate overhead) for BT Financial Group are reported as other after-tax adjustments.

        For financial results for the International Asset Management and Accumulation segment see Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 19 Segment Information."

Principal International

        The activities of Principal International reflect our efforts to accelerate the growth of our assets under managementAUM by capitalizing on the international trend toward private sector defined contribution pension systems.systems and individual long-term savings. Through Principal International, we offer retirement products and services, annuities, long-term mutual funds, institutional asset management and life insurance and institutional asset management. We have operations in Chile, Mexico, Hong Kong, Brazil, India, China, and Malaysia.accumulation products.

Products, Markets and Distribution

Asia/Pacific Region        Brazil.    In Brazil, we offer pension, retirement and asset accumulation products through a minority-held joint venture, Brasilprev Vida e Previdencia, arrangement with Banco do Brasil, which had over a 4,000 branch network as of September 30, 2008. Brasilprev has an exclusive agreement with Banco do Brasil in order to distribute pension, retirement and long-term asset accumulation products. Our joint venture provides defined contribution products, complementary life protection and payout solutions such as permanent and temporary annuities for the retirement needs of employers and individuals. Banco do Brasil's employees sell these products directly to individual clients through its bank branches. In addition, our joint venture reaches corporate clients through two wholesale distribution channels: (1) a network of independent brokers who sell to the public and (2) Banco do Brasil's corporate account executives selling to existing and prospective corporate clients. Based upon managed assets, our joint venture ranked third in the private pension market as of November 2008.

        Hong Kong.Chile.    Our subsidiaryIn Chile, we offer long-term savings products, retirement annuities, mutual funds, life insurance accumulation products, mortgage loans and institutional asset management services.

        We offer retirement annuities to individuals exiting the pre-retirement accumulation system. We distribute our annuity products through a network of brokers and independent agents, of which we had approximately 400 as of December 31, 2008.

        We serve the individual voluntary/complementary long-term savings market by offering "APV plans" (qualified individual retirement solutions) and "APVC plans", which are similar to the U.S. 401(k) product line. As of September 30, 2008, we ranked first in AUM for mutual fund companies offering these plans. We distribute to retail clients through our proprietary sales force, financial advisors, brokerage houses, alliances with financial institutions and the largest retailer in Chile, Falabella.

        In addition, we offer life insurance accumulation products (qualified and nonqualified) to individuals through brokers and financial advisors. We originate, sell and service individual residential mortgage loans in Chile through our independent distribution network, composed primarily of real estate brokers and developers. We also offer asset management services to pension funds, insurance companies, mutual fund companies and investment platforms through our proprietary sales force.

        China.  �� In China, we offer mutual funds through a minority-held joint venture with China Construction Bank ("CCB"). We sell mutual funds primarily through our partner bank, CCB. This bank delivers expansive distribution capabilities for the joint venture in terms of brand awareness and the number of outlets, of which we had approximately 14,000 as of December 31, 2008.


        Hong Kong isSAR.    In Hong Kong, we sell defined contribution pension, mutual fund and institutional asset management products.

        We actively competingcompete in the defined contribution pension plan market. The government requires both employers and employees each to contribute 5% of an employee's income to a Mandatory Provident Fund.Fund ("MPF"). We target small and medium-sized employers and distribute products through strategic alliances with insurance companies, mutual funds orbrokers, consultants, banks and direct marketing and through our own sales representatives. Our strategicalliance partners help distribute our Mandatory Provident FundMPF products and services or use our administrative and investment services in their own products. Our Mandatory Provident Fund products and services are marketed by agents under the various distribution arrangements we have with our strategic partners. On January 31, 2004, our wholly owned subsidiary, Principal Asset Management Company (Asia) Limited, purchased a 100% ownership of Dao Heng Fund Management in Hong Kong from Guoco Group Limited. Effective September 17, 2004, we changed the name of this subsidiary to Principal Fund Management (Hong Kong) Limited. This acquisition increases our presence

        We compete in the Hong Kong defined contribution pension market and increases the potential of our long-term mutual fund operations.market with distribution provided primarily through strategic alliances with banks to retail customers. The institutional segment has placed an emphasis on platform sales to unit-linked insurance providers and MPF providers, with the advantage of getting regular inflows. In 2006, we initiated our development of an effort to grow institutional asset management, business for the institutional market.Hong Kong will leverage Principal Global Investors' regional asset management and sales resources to jointly secure mandates.

        India.    In India, we offer mutual funds and asset management services to both retail and corporate customers.

We own 65% of Principal PNB Asset Management Company in India. This company competescompete in the mutual fund market, managing and administering funds for both individuals and corporations.corporations through a majority-owned joint venture with Punjab National Bank and Vijaya Bank ("Banks"), two large Indian commercial banks with a combined branch network of approximately 5,500. We sell our mutual funds through regional offices and regionalother bank branches located throughout India. In addition to the current mutual fund business, we are positioning ourselves to compete in the emerging pension and long-term savings market in India.

        On August 31, 2003, we announced thatDiscussions are taking place with our wholly owned subsidiary, Principal Financial Group (Mauritius) Ltd. ("PFGM"), had entered into a joint venture agreement with Punjab National Bank ("PNB")partners to review the optimal ownership and Vijaya Bank, two large Indian commercial banks with a combined 5,000 branch network, to sell long-term mutual funds and related financial services in India. We closed the transaction on May 5, 2004. As part of this transaction, we rolled our then existing fund management company, Principal Asset Management Company, into the joint venture. We retained 65% of the new company, sold 30% to PNB, who merged their own PNB funds into the new company, and 5% to Vijaya Bank.

        On October 21, 2004, PFGM funded a 65% stake in the start-up company PNB Principal Financial Planners Pvt. Ltd. ("PFP"). This company is a distributor of financial products including mutual fund products for other providers, bonds, retail debt offerings, and portfolio management services. Business operationsorganizational structure for the company commenced in July of 2005.

        On February 21, 2005, PFGM acquired a 26% stake and management control of PNB Principal Insurance Advisory Company Pvt. Ltd. ("PPIAC"), an insurance brokerage company in India.

        On October 10, 2006, PFGM funded a 26% stake and obtained management control in the start-up company Principal PNB Life Insurance Company Limited. This company will compete in the life insurance sector in India.future.

        Malaysia.    After purchasing an additional 10% on August 31, 2005,In Malaysia, we now own a 40% interest in aoffer conventional and Islamic mutual funds through our minority-held joint venture with our partner CIMB-Berhad,CIMB Group, a large Malaysian bank holding company.company with a presence in many southeast Asian countries. The company markets mutual funds through wholesale bank channels and its own sales force.force of around 6,500 agents. The joint venture's main bank channel is through the approximately 400 CIMB Bank branches. As of December 31, 2008, our joint venture company ranked third in unit trust assets managed and second in Islamic unit trust assets managed in the Malaysian asset management industry. In addition, the company manages a significant amount of institutional asset mandates.

        On October 30, 2006, our joint venture company in Malaysia, CIMB-Principal, announced its intention to purchase the mutual fund andmandates ranking second among asset management companies of the former Southern Bank Bhd ("SBB"), SBB Mutual Berhad and SBB Asset Management Sdn Bhd. On February 5, 2007, we invested an additional RM$192.4 million Malaysian ringgits ("RM$") (approximately U.S. $55.1 million) to retain our 40% ownership interest in the larger CIMB-Principal.

        China.    On August 7, 2005, Principal Financial Group announced that it entered into a joint venture agreement with China Construction Bank ("CCB") to market mutual funds in the People's Republic of China. We closed the



transaction on September 19, 2005 with a 25% ownership in CCB-Principal Asset Management Company, Ltd. We sell mutual funds primarily through our partner bank, CCB. This bank delivers expansive distribution capabilities for the joint venture in terms of brand awareness and the sheer number of outlets (14,250).

Latin America

        Brazil.    We own 46% of BrasilPrev Seguros e Previdencia S.A. ("BrasilPrev"), a private pension company in Brazil, through a joint venture arrangement with Banco do Brasil, Brazil's largest bank with a 3,960 branch network. We are Banco do Brasil's exclusive partner for distributing pension, retirement and asset accumulation products. BrasilPrev provides defined contribution products and annuities for the retirement needs of employers and individuals. Banco do Brasil's employees sell directly to individual clients through its bank branches. In addition, BrasilPrev reaches corporate clients through two wholesale distribution channels: (1) a network of independent brokers who sell to the public, and (2) in coordination with Banco do Brasil's corporate account executives to reach Banco do Brasil's existing corporate clients. Based upon managed assets, BrasilPrev ranked 3rd in the private pension market with U.S. $5.8 billion as of December 2006.

        Chile.    We own Principal Companía de Seguros de Vida Chile S.A., a Chilean insurance company, that primarily sells retirement annuities to individuals exiting the pre-retirement accumulation system. We distribute our annuity products through a network of brokers and 213 independent agents as of December 31, 2006. We also market life accumulation products (qualified and non-qualified) to individuals through brokers. Based upon assets, we were ranked as the fifth largest life insurance company in Chile as of September 30, 2006, according to the Superintendencia de Valores y Seguros, the Chilean regulatory agency for insurance companies. We also own Principal Administradora General de Fondos S.A. Its primary business focus is to serve the voluntary/complementary long-term savings market offering "APV plans" (qualified individual solutions). As of December 31, 2006, we rank first2008. The joint venture began an asset management start-up operation in AUM for mutual fund companies offering these plans. We distribute to retail clients through our proprietary sales force, alliances with financial institutions and the largest retailer in Chile, Falabella. We also own Principal Créditos Hipotecarios S.A. Through this business, we originate, sell and service mortgage loans in Chile. We established PrincipalSingapore, CIMB-Principal Asset Management Chile(S) Pte Ltd, in 2006 to2007. Through the Malaysia joint venture, we acquired a small asset management operation in Indonesia, PT Niaga Aset Manajemen, as well as the fund business of CIMB-GK in 2008.

        Mexico.    In Mexico, we offer defined contribution pension products, mutual funds, annuities and asset management services to institutional clients.

        Mexico.    We own Principal Afore S.A. de C.V., a        Through our private pension company, which manageswe manage and administersadminister more than three2.9 million individual retirement accounts under the mandatory privatized social security system in effect for all non-government employees in Mexico; Principal Fondos de Inversión, S.A. de C.V. ("PFI"),Mexico. We distribute products and services through a proprietary sales force of sales representatives, of which we had approximately 1,200 as of December 31, 2008, as well as independent brokers, who sell directly to individuals.

        Through our mutual fund company, Principal Pensiones S.A. de C.V., ("Principal Pensiones"), anwe distribute products and services through a sales force of approximately 100 employees and through distribution agreements with other financial entities. We administer annuities and life products that complement these annuities, which we previously distributed directly to customers who were exiting the pre-retirement accumulation system. We suspended sales of our annuity company; and Principal México Compañía de Seguros S.A. de C.V., ("Principal Seguros"), a life insurance company.products in Mexico beginning in 2007 due to unfavorable market conditions.

        Our focus is on both pre-retirement and post-retirement savings plans. As of December 31, 2006, we distribute Principal Afore S.A. de C.V.'s products and services through a proprietary sales force of approximately 1,000 sales representatives as well as independent brokers, who sell directly to individuals. PFI distributes its products and services through a sales force of approximately 113 employees and through distribution agreements with other financial entities. Principal Pensiones distributes annuities directly to customers that are exiting the pre-retirement accumulation system. Our life insurance company, Principal Seguros, primarily focuses on manufacturing life products to complement our annuities business. In 2006, Mexico has also initiated institutional asset management for institutional clients,services, offering both domestic and international products.

Life and Health Insurance Segment

        Our Life and Health Insurance segment offers (1) individual life insurance, (2) group health insurance and (3) specialty benefits, includingwhich includes group dental, group vision, group life, group long-term anddisability, group short-term disability and individual disability insurance throughout the U.S. We focus on providing comprehensive insurance solutions for small-to-medium sizedsmall and medium-sized businesses.

        For financial results for the Life and Health Insurance segment see Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 19 Segment Information."

Individual Life Insurance

        We began as an individual life insurer in 1879. Our U.S. operations administer approximately 616,000600,000 individual life insurance policies with $105.8$121.3 billion of individual life insurance in force as of December 31, 2006.2008. As of September 30, 2006,2008, our life insurance business was ranked 27th17th in the United StatesU.S. for annualized sales according to LIMRA.


Products and Services

        We offer a variety of individual life insurance products, including universal and variable universal life insurance and term life insurance. We target the personal insurance with aneeds of owners and executives of small and medium-sized businesses and have an increasing focus on also using these products for nonqualified executive benefits for small-to-medium sized businesses.benefits. In addition, we also market our products to meet traditional retail insurance needs.

        Nonqualified Executive Benefits.    Small and medium-sized companies are challenged with how to build quality benefits packages for executives, how to transition the company's ownership to a partner or family member and how to save the



amount of money they desire for retirement. ExecutivesIn addition, executives and other key employees often have personal insurance needs. These needs are the focus of our products within the individual life insurance arena.

        We have a growing focus and expertise in providing executive life insurance benefits to companies designated by the Internal Revenue Service ("IRS") as S-corporations,S corporations, in addition to traditional C-corporationC corporation clients. As a growing segment of the small-to-medium sizedsmall and medium-sized business market, S-corporationsS corporations require unique plan designs that meet very specific legal requirements.

        Universal and Variable Universal Life Insurance.    Universal and variable universal life insurance products offer life insurance protection for which both the premium and the death benefit may be adjusted by the policyholder. Universal life insurance usually includes a cash value account that accumulates at a floatingcredited interest rate with a minimum rate guarantee.based on the investment returns of the block of business. Variable universal life insurance substitutesis credited with the investment returns of the various investment options for the single floating interest rate of universal life insurance.

selected. For the year ended December 31, 2006, 84%2008, 90% of individual life insurance annualized first year premium sales have come from universal and variable universal life insurance products. Universal and variable universal life insurance represent 46%represents 61% of individual life insurance premium and deposits for the year ended December 31, 2006,2008, and 44%48% of individual life insurance in force as of December 31, 2006.2008. Variable universal life insurance products represented 52%41% of our universal and variable universal life insurance deposits for the year ended December 31, 2006.2008.

        After removinga deduction for policy level expenses, for a policy, we credit net deposits to an account maintained for the policyholder. For universal life contracts, the entire account balance is invested in our general account. Interest is credited to the policyholder's account based on the earnings on general account investments. For variable universal life contracts, the policyholder may allocate the account balance among our general account and a variety of separate account choices. Interest is credited on amounts allocated to the general account in the same manner as for universal life. Net investment performance on separate account investments is allocated directly to the policyholder accounts; the policyholder bears the investment risk. Some of our universal life and variable universal life insurance contracts contain what are commonly referred to as "secondary" or "no-lapse" guarantee provisions. A no-lapse guarantee keeps the contract in force, even if the contractholder's account balance is insufficient to cover all of the contract charges, provided that the contractholder has continually paid a specified minimum premium.

        In November 2006, Principal Life established a wholly owned reinsurance subsidiary, Principal Reinsurance Company of Vermont ("PVT"), which reinsures a portion of our universal life "secondary" or "no-lapse" guarantee provisions through an intercompany reinsurance agreement with Principal Life. The transaction, which was accompanied with a third party letter of credit issued to PVT and guaranteed by Principal Financial Group, Inc.("PFG"), reduced our statutory capital requirements and allowed us to redeploy capital for other general corporate purposes.

        Traditional Life Insurance.    Traditional life insurance includes participating whole life, adjustable life products and non-participating term life insurance products. Participating products and non-participating term life insurance products each represented 10% and 6%, respectively,5% of our individual life insurance annualized first year premium sales for the year ended December 31, 2006,2008, and 32%25% and 24%27%, respectively, of individual life insurance in force as of December 31, 2006.2008. Adjustable life insurance products provide a guaranteed benefit in return for the payment of a fixed premium and allow the policyholder to changereset the premium and face amount combination. Term insurance products provide a guaranteed death benefit for a specified period of time in return for the payment of a fixed premium. Policyholder dividends are not paid on term insurance.

Group Health Insurance

        We began offering group health insurance in 1941. We offer a variety of traditional group medical insurance products, includingconsumer driven high deductible health plans with health savings accounts.HSAs, administrative services and wellness products. We also provide administrative services on a fee-for-service basis for medical, dental, disability, vision and wellness benefits.

Products and Services

        Our group health insurance products described below provide appropriate interactions forinclude a range of programs and services designed to meet the needs of our members along a continuum ofacross the health care management, from wellness services to acute and chronic care and disease management programs.continuum. These programs include carethe spectrum of wellness services, utilization management, a transplant network, chroniccase management, disease management pre-natal assistance and 24-hourspecialty programs including transplant services. Members have access to online health management resources such asincluding a broad range of health content, symptom checkers, prescription drug information and provider information. The programs are designed to promote informed health care consumers, advance evidence based medicine and to optimize both the quality and cost of health care received by our members.

        Group Health Insurance.    As of December 31, 2006,2008, we provided group medical insurance benefits to more than 21,60016,800 employer customers and their 643,000449,000 employees and dependents. Our traditional group medical insurance plans



provide reimbursement of medical expenses for insured employees and their dependents. These members are responsible for deductibles, co-payments and co-insurance. Our products are well-positioned to address our members' preferences for a variety of provider choices and preferred provider discounts. Through our wholly owned subsidiary, HealthRisk Resource Group, LLC., we negotiate discounts with providers on claims for which we have no other pre-arranged discount.



        Our consumer-driven health care plans offer greater flexibility for employers and more opportunity for members to take charge of their health and health care. We offer Health Reimbursement Arrangements ("HRA") and Health Savings Accounts. The Principal HRA is an employer funded benefit plan that allows the employer to design a consumer driven health care program to meet their specific needs. The employer determines if a deductible applies before the HRA, what percentage the HRA reimburses, the maximum benefit, the ability to roll over the funds to future periods, and accessibility of the funds when employment has ended. The Principal Health Savings Account, ("Principal HSA") can be funded by employers and employee members. Money can be contributed pre-tax and grows tax free. Funds can be used to pay for qualified medical expenses tax free. The account is portable from job to job or from work to retirement. The Principal HSA is coupled with a high deductible health plan, typically either insured or administered by Principal Life. The Principal HSAwhich features a checking account with a debit card and certificates of deposit through Principal Bank and investment options through Princor Financial Services Corporation. Because of these internal resources and expertise, we are uniquely positioned to offer competitive and high-quality health savings account plans and high deductible health plans.Princor.

        Fee-for-Service.    We offer administration of group medical, dental, disability and vision benefits on a fee-for-service basis to almost 370over 310 self-insured employers and their approximately 1.1 million735,000 employees and dependents as of December 31, 2006. The acquisition of J.F. Molloy and Associates in 2004 added 106 self-insured employers.2008.

        Wellness Company.    We also recognize the importance of promoting healthy behavior. Our 2004 acquisition of J.F. Molloy and Associates included Molloy Wellness Company. The wellness company, now known as Principal Wellness Company broughtcontributes expertise in providing wellness screenings, counseling and services to employers and their employees, demonstrating health improvement through reduced health insurance claim costs, reduced absenteeism and increased employee productivity. This preventative focus is currently beinghas been integrated into both our fully-insured and fee-for-service offerings. We provide wellness services to almost 300over 420 employers and nearly 105,000their 138,000 employees.

Specialty Benefits

        Specialty Benefits, includingbenefits, which includes group dental, vision and life insurance, as well as individual and group disability insurance, areis an important component of the employee benefit offering at small-to-medium sizesmall and medium-sized businesses. We offer both traditional employer sponsored and voluntary products for group dental, vision, life and disability. We began selling our first specialty benefit products in 1941 with group disability and group life insurance. We began selling individual disability insurance in 1952 and group dental and group vision insurance in the late 1960's.1960s.

Products and Services

        Group Dental and Vision Insurance.    Group dental and vision insurance plans provide partial reimbursement for dental and vision expenses. As of December 31, 2006,2008, we had approximately 37,00036,000 group dental and vision insurance policies in force covering more than 913,000over 943,000 employee lives. According to LIMRA, we were the third5th largest group dental insurer in terms of number of contracts/employer groups in force in 2005.2007. In addition to indemnity and PPOpreferred provider organization dental offered on both an employer paid and voluntary basis, we offer a prepaid dental plan in Arizona through our Principal Dental Services, Inc. subsidiary.

        Group Life Insurance.    Group life insurance provides coverage to employees and their dependents for a specified period. As of December 31, 2006,2008, we had over 53,000nearly 49,600 group policies providing $113.0$121.0 billion of group life insurance in force to approximately 2.22.1 million employee lives. According to LIMRA in 2005,2007, we were ranked third3rd in the U.S. in terms of the number of life insurance contracts in force. We currently sell traditional group life insurance that does not provide for accumulation of cash values on both an employer paid and voluntary basis. Our group life insurance business remains focused on the traditional, annually renewable term product. Group term life and group universal life accounted for 95%96% and 5%4%, respectively, of our total group life insurance in force as of December 31, 2006. As of January 1, 2004, we2008. We no longer market group universal life insurance to new employer groups.

        Group Disability Insurance.    Group disability insurance provides a benefit to insured employees who become disabled. Our group disability products include both short-term and long-term disability, offered on both an employer paid and voluntary basis. Long-term disability represents 62% of total group disability premium, while short-term disability represents 38% of total group disability premium. In addition, we provide disability management services, also called rehabilitation services, to assist individuals in returning to work as quickly as possible following disability. We also work with disability claimants to improve the approval rate of Social Security benefits, thereby reducing payment of benefits by the amount of Social Security payments received. As of December 31, 2006,2008, we served approximately 1.4 million employee lives under nearly 30,00031,000 contracts, with our group short-term disability business being ranked fourth4th and our group long-term disability business being ranked seventh7th in the U.S. as of December 31, 2005,2007, in terms of number of contracts/employer groups in force, according to LIMRA.

        Individual Disability Insurance.    Individual disability insurance products provide a benefit to the insured member in the event he/she becomes disabled. In most instances, this benefit is in the form of a monthly income. In addition to income replacement, we offer products to pay business overhead expenses for a disabled business owner and for the purchase by the other business owners of the disabled business owner's interests in the business. As of December 31,



2006, 2008, we served approximately 105,000120,000 individual disability policyholders, with our individual disability business being ranked seventh7th in the U.S. as of December 31, 2005,2007, in terms of premium in force, according to LIMRA.


Life and Health Markets and Distribution

        For each of our products, administration and distribution channels are customized to meet customer needs and expectations for that product.

        We sell our individual life and individual disability income products in all 50 states and the District of Columbia, primarily targeting owners and executives of small and medium-sized businesses. Small and medium-sized business sales represented 74%83% of individual life sales and 64%63% of individual disability sales for the year ended December 31, 2006,2008, based on first year annualized premium.

        We distribute our individual insurance products through our affiliated financial representatives and independent brokers, as well as other marketing and distribution alliances. Affiliated financial representatives were responsible for 56%29% of individual life insurance sales based on first year annualized premium and 19%17% of individual disability sales for the year ended December 31, 2006.2008. We had 1,0291,050 affiliated financial representatives in 2930 offices. Although they are independent contractors, we have a close tie with affiliated financial representatives and we offer them benefits, training and access to tools and expertise. To meet the needs of the various markeingmarketing channels, particularly the independent brokers, we employ wholesale distributors — Advance Planning Regional Vice Presidents for individual life and Disability Income Regional Vice Presidents for individual disability. A key differentiator in the nonqualified executive benefit sale is our Advance Planning Regional Vice Presidents,Presidents-Nonqualified Plans, who are not only wholesalers but also consultants and subject-matter experts providing point-of-sale support in closing cases.

        We market our group medical, life, disability, dental and vision insurance products to small and medium-sized businesses, primarily targeting our sales toward owners and human resources professionals. We sell our group life, disability and dental products in all 50 states and the District of Columbia. We sell vision coverage in 48 states, plus the District of Columbia. We sell our group medical insurance in 3534 states and the District of Columbia with a growing focus on 13 states that we consider to have the best competitive environments. They are also considered to be attractive markets because of a lack of deep penetration by HMOs and a favorable regulatory environment.Columbia. We continually adapt our products and pricing to meet local market conditions. We market our fee-for-service capabilities to employers that self-insure their employees' benefits. We sell our fee-for-service business in all 50 states and the District of Columbia.

        Group insurance and fee-for-service products are distributed through independent benefit brokers, consultants, financial planners and the same channels that sell our U.S. asset accumulation products. To reach these marketers, we employ three types of wholesale distributors: our medical sales representatives, our non-medical sales representatives (for Specialty Benefits products) and twoan independent wholesale organizations, Rogers Benefit Group and Excelsior Benefits, dedicatedorganization to marketingmarket group medical, life, disability, dental and vision insurance products. We have also formed a number of strategic distribution alliances with national brokerages and regional brokerage agencies.

        The non-medical group insurance market continues to see a shift to voluntary/worksite products. In keeping with this market change, which shifts the funding of such products from the employer to the employee, we have enhanced our focus on our voluntary benefits platform. We believe the voluntary/worksite market presents growth opportunities, and we will continue to develop strategies to capitalize on this expanding market.

        As of December 31, 2006,2008, we had 131132 medical and non-medical sales representatives and 113124 service representatives in 4238 offices. Our medical and non-medical sales representatives accounted for 73%74% of our group insurance sales for the year ended December 31, 2006.2008. The group sales force plays a key role in the ongoing servicing of the case by providing local, responsive services to our customers and their brokers, such as renewing contracts, revising plans and solving any administrative issues; communicating the customers' needs and feedback to us; and helping employees understand the benefits of their plans.

        Rogers Benefit Group is a marketing and service organization that represents major high quality insurance carriers specializing in group medical, life, disability and dental insurance plans. Our relationship with Rogers Benefit Group dates back to its creation in 1970. It accounted for 25% of our group insurance sales for the year ended December 31, 2006.

Corporate and Other Segment

        Our Corporate and Other segment manages the assets representing capital that has not been allocated to any other segment. Financial results of the Corporate and Other segment primarily reflect our financing activities (including interest expense and preferred stock dividends), income on capital not allocated to other segments, inter-segment eliminations, income tax risks and certain income, expenses and other after-tax adjustments not allocated to the segments based on the nature of such items.

        For financial results for Corporate and Other see Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 19 Segment Information".



Competition

        Competition in our operating segments is based on a number of factors including: scale, service, product features, price, investment performance, commission structure, distribution capacity, financial strength ratings and name recognition. We compete for customers and distributors with a large number of financial services companies such as banks, mutual funds, broker-dealers, insurers and asset managers. Some of these companies offer a broader array of products, more competitive pricing, greater diversity of distribution sources, better brand recognition or, with respect to insurers, higher financial strength ratings. Some may also have greater financial resources with which to compete or may have better investment performance at various times.

        Competition in the retirement services market is very fragmented. Our main competitors in this market include Fidelity, Nationwide, AXA,ING, Mass Mutual, Vanguard and Manulife.John Hancock. We believe the infrastructure and system support needed to meet the needs of the small and medium-sized business market is a significant barrier to entry for our competitors. Many



of our competitors in the mutual fund industry are larger, have been established for a longer period of time, offer less expensive products, have deeper penetration in key distribution channels and have more resources than we do. There were over 8,1318,000 mutual funds in the U.S. as of November 30, 2005December 31, 2007 according to the ICI 2008 Investment Company Institute 2006 Mutual Fund Fact Book. The institutional asset management market has grown at a rapid pace over the last decade. Our primary competitors in this market are large institutional asset management firms, such as Black Rock, PIMCO, J.P. Morgan Chase, Morgan Stanley Investment Management and T. Rowe Price, some of which offer a broader array of investment products and services and are better known. The asset management business has relatively few barriers to entry and continually attracts new entrants. The variable annuity market is also highly competitive. As we expand into additional distribution channels for this product, weWe will face strong competition from NationwideLincoln Financial Group and Hartford.John Hancock. Competition in the international markets in which we operate comes primarily from local financial services firms and other international companies operating on a stand-alone basis or in a partnership with local firms, including ING, AXA, Allianz and AIG.American International Group, Inc. ("AIG"). In the highly competitive life and health insurance business, our competitors include other insurers and managed health care organizations such as UNUM, Guardian, Northwestern Mutual Life,Lincoln Financial Group, MetLife, Manulife, Blue Cross and Blue Shield, organizations,UnitedHealthcare, Aetna and health maintenance organizations such as United Health Care and Aetna.CIGNA. We believe we distinguish ourselves from our competitors through our:

Ratings

        Insurance companies are assigned financial strength ratings by rating agencies based upon factors relevant to policyholders. Financial strength ratings are generally defined as opinions as to an insurer's financial strength and ability to meet ongoing obligations to policyholders. Information about ratings provides both industry participants and insurance consumers meaningful insights on specific insurance companies. Higher ratings generally indicate financial stability and a stronger ability to pay claims.

        Principal Life has been assigned the following long-term insurance financial strength ratings:

Rating Agency

 Financial Strength Rating
 Rating Structure
A.M. Best Company, Inc. A+ ("Superior") with a stable outlook Second highest of 16 rating levels
Fitch Ratings AAAA- ("Very Strong") with a stablerating watch — negative outlook ThirdFourth highest of 21 rating levels
Moody's Investors Service Aa2 ("Excellent") with a stablenegative outlook Third highest of 21 rating levels
Standard & Poor's Rating Services AA ("Very Strong") with a stablecredit watch — negative outlook Third highest of 21 rating levels

        A.M. Best's ratings for insurance companies range from "A++" to "S". A.M. Best indicates that "A++" and "A+" ratings are assigned to those companies that in A.M. Best's opinion have superior ability to meet ongoing obligations to policyholders. Fitch's ratings for insurance companies range from "AAA" to "C". Fitch "AA" ratings indicate very strong capacity to meet policyholder and contractholder obligations on a timely basis. Moody's Investors Service ratings for insurance companies range from "Aaa" to "C". Moody's Investors Service indicates that "Aa" ratings are assigned to those companies that have demonstrated excellent financial security. Standard & Poor's ratings for insurance companies range from "AAA" to "R". Standard & Poor's indicates that "AA" ratings are assigned to those companies that have demonstrated very strong financial security characteristics. In evaluating a company's financial and operating performance, these rating agencies review its profitability, leverage and liquidity, as well as its book of business, the adequacy and soundness of its reinsurance, the quality and estimated market value of its assets, the adequacy of its policy reserves, the soundness of its risk management programs, the experience and competency of its management and other factors. The four rating agencies referenced have placed negative outlooks on the U.S. life insurance industry. A negative outlook means that the rating of many U.S. life insurance companies may be downgraded due to the impact of negative market conditions.



        We believe that our strong ratings are an important factor in marketing our products to our distributors and customers, since ratings information is broadly disseminated and generally used throughout the industry. Our ratings reflect each rating agency's opinion of our financial strength, operating performance and ability to meet our obligations to policyholders and are not evaluations directed toward the protection of investors. Such ratings are neither a rating of securities nor a recommendation to buy, hold or sell any security, including our common stock. For more information on ratings, see Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Financial Strength Rating and Credit Ratings."


Regulation

        Our businesses are subject to regulation and supervision by U.S. federal and state regulatory authorities as well as non-U.S. regulatory authorities for our operations outside the U.S., which can have a significant effect on our business. Our businesses are also affected by U.S. federal, state and local tax laws as well as tax laws for jurisdictions outside the U.S.

        PFG, our parent holding company, is not licensed as an insurer, investment advisor, broker-dealer, bank or other regulated entity. However, because it is the holding company for all of our operations, it is subject to regulation of our regulated entities, including as an insurance holding company and savings and loan holding company. We are subject to legal and regulatory requirements applicable to public companies, including public reporting and disclosure, securities trading, accounting and financial reporting and corporate governance.

U.S. Insurance Regulation

        We are subject to the insurance holding company laws in the states where our insurance companies are domiciled. Principal Life and Principal National Life Insurance Company are domiciled in Iowa and their principal insurance regulatory authority is the Insurance Division of the Department of Commerce of the State of Iowa. Our other U.S. insurance companies are principally regulated by the insurance departments of the states in which they are domiciled. These laws generally require each insurance company directly or indirectly owned by the holding company to register with the insurance department in the insurance company's state of domicile and to furnish financial and other information about the operations of the companies within the holding company system. Transactions affecting the insurers in the holding company system must be fair and at arm's length. Most states have insurance laws that require regulatory approval of a direct or indirect change in control of an insurer or an insurer's holding company and laws requiring prior notification of state insurance departments of a change in control of a non-domiciliary insurance company doing business in that state.

        Annually, our U.S. insurance companies must submit an opinion from a board-appointed qualified actuary to state insurance regulators, where licensed, on whether the statutory assets held backing statutory reserves are sufficient to meet contractual obligations and related expenses of the insurer. If such an opinion cannot be rendered noting the sufficiency of assets, then the insurance company must set up additional statutory reserves drawing from available statutory surplus until such an opinion can be given.

        State insurance departments have broad administrative powers over the insurance business, including insurance company licensing and examination, agent licensing, establishment of reserve requirements and solvency standards, premium rate regulation, admittance of assets to statutory surplus, policy form approval, unfair trade and claims practices regulation and other matters. State insurance statutes also typically place restrictions and limitations on the amount of dividends or other distributions payable by insurance company subsidiaries to their parent companies. See Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources" for further detail.

        In order to enhance the regulation of insurer solvency, the National Association of Insurance Commissioners ("NAIC") has established risk-based capital standards. The standards require life insurers to submit a report to state regulators on an annual basis regarding their risk-based capital based upon four categories of risk: asset risk, insurance risk, interest rate risk and business risk. As of December 31, 2008, the statutory surplus of each of our U.S. life insurance companies exceeded the minimum level of risk-based capital requirements required before state insurance departments would take action against an insurer.

        State and federal insurance and securities regulatory authorities and other state law enforcement agencies and attorneys general regularly make inquiries and conduct examinations or investigations regarding our compliance with, among other things, insurance laws and securities laws.

        Each state has insurance guaranty association laws under which insurers doing business in a state can be assessed, up to prescribed limits, in order to cover contractual benefit obligations of insolvent insurance companies. The guaranty associations levy assessments on each member insurer in a jurisdiction on the basis of the proportionate share of the premiums written by such insurer in the lines of business in which the insolvent insurer is engaged. Some jurisdictions permit the member insurers to recover the assessments paid through full or partial premium tax offsets.

Securities Regulation

        Insurance and investment products such as variable annuities, variable life insurance and some funding agreements that constitute securities and mutual fund products are subject to securities laws and regulations, including state securities regulation as well as federal regulation under the SEC, the Financial Industry Regulatory Authority and other regulatory authorities. These regulations affect investment advice, sales and related activities for these products.

        We also have entities which are registered as investment advisers with the SEC under the Investment Advisers Act of 1940.


Employee Retirement Income Security Act

        As we provide products and services for U.S. employee benefit plans, we are subject to regulation under the Employee Retirement Income Security Act ("ERISA"). ERISA provisions include reporting and disclosure requirements and standards of conduct.

Banking Regulation

        We are a savings and loan holding company for Principal Bank, a federal savings bank, which is regulated by the Office of Thrift Supervision. Principal Bank is also a member of the Federal Deposit Insurance Corporation ("FDIC") and subject to its regulations.

Environmental Regulation

        As we own and operate real property, we are subject to federal, state and local environmental laws and could be subject to environmental liabilities and costs associated with required remediation of our properties. We routinely have environmental assessments performed for real estate being acquired or used as collateral for commercial mortgages we use for investment.

Regulation of International Businesses

        Our international businesses are supervised by regulatory authorities in the jurisdictions in which they operate.

Risk Management

        Like all financial services companies, we are exposed to a wide variety of financial, operational and other risks, as described in Item 1A,1A. "Risk Factors".Factors." Effective enterprise risk management is, therefore, a key component of our business model. Enterprise risk management enableshelps us to:

        We use a variety of methods to help us identify, monitor, measure, communicate and manage our risks within established limits and risk tolerances.

        Our Board of Directors and senior management are knowledgeable of and accountable for key risks. Our Board meets at least quarterly and regularly hears reports from the Chief Executive Officer, the Chief Operating Officer, the business unit Presidents, the Chief Financial Officer and the Chief Investment Officer. The Board has several committees, which include the Audit Committee, the Human Resources Committee and the Nominating and Governance Committee that meet at least quarterly and address various aspects of risks. In addition, the Board of Directors and senior management receive quarterly updates from the Chief Risk Officer.

        We also have several senior management groups and committees that meet on a regular and frequent basis to discuss various issues and risks associated with our businesses. These committees encompass numerous functions such as discussing and setting business unit and company strategy, reviewing and approving potential uses of corporate capital and setting investment policy and reviewing its implementation. Many key members of senior management serve on multiple committees, allowing them to provide oversight and take a holistic view of our key risks.

        Our enterprise risk management program is executed via a federated model. The Chief Risk Officer and the corporate risk units are independent of the business units, and work closely with the business units, providing oversight and integration of all risk management activities. Each business unit is responsible for identifying, monitoring, measuring and managing its risks, as well as monitoring how its risks impact ourthe enterprise's overall risk exposure. The business units provide risk reports to the Chief Risk Officer quarterly with current risk management information.

        We have established risk tolerances from an overall corporate perspective as well as for specific types of risks. All potentially significant actions are considered in terms of the possible impact on our risk profile, including the capital required, the impact on near term and long-term earnings and the ability to meet our targets with respect to return on equity, liquidity, debt/capital, cash coverage and other ratios and metrics. We monitor a variety of risk metrics on an on-goingongoing basis and make any necessary adjustments to help us stay within our established risk tolerances. We have developed a Business Continuity Management Program that identifies critical business functions and includes plans for their protection and recovery in the event of a disaster or other business interruption. We continually monitor emerging risks, and we regularly build upon our already strong risk management practices to incorporate updated modeling tools,



processes and metrics.metrics which we actively use to better understand and manage our business. We monitor three key risk metrics as part of our enterprise risk management framework:

Employees

        As of December 31, 2006,2008, we had 15,28916,234 employees. None of our employees are subject to collective bargaining agreements governing employment with us. We believe that our employee relations are satisfactory.

Internet Website

        Our Internet website can be found at www.principal.com. We make available free of charge on or through our Internet website, access to our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after such material is filed with or furnished to the SEC. Also available free of charge on our Internet website, and in print to any requesting stockholder, is our code of business conduct and ethics, corporate governance guidelines and charters for the audit, human resources and nominating and governance committees of our boardBoard of directors.Directors. Also see Item 10,10. "Directors, Executive Officers and Corporate Governance."



Item 1A.    Risk Factors

        This section provides an overview of the risks that may impact our performance in the future.

Adverse capital and credit market conditions may significantly affect our ability to meet liquidity needs, as well as our access to capital and cost of capital.

        Since mid 2007, the capital and credit markets have been experiencing extreme volatility and disruption. Beginning in the second half of 2008, the volatility and disruption have reached unprecedented levels and the markets have exerted downward pressure on availability of liquidity and credit capacity for certain issuers. For example, recently credit spreads have widened considerably. Our results of operations, financial condition, cash flows and statutory capital position could be materially adversely affected by continued disruptions in the capital and credit markets.

        We maintain a level of cash and securities which, combined with expected cash inflows from investments and operations, is believed adequate to meet anticipated short-term and long-term benefit and expense payment obligations. However, withdrawal and surrender levels may differ from anticipated levels for a variety of reasons, such as changes in economic conditions or changes in our claims paying ability and financial strength ratings. For additional information regarding our exposure to interest rate risk and the impact of a downgrade in our financial strength ratings, see " — Changes in interest rates or credit spreads may adversely affect our results of operations, financial condition and liquidity, and our net investment income can vary from period-to-period" and " — A declinedowngrade in our financial strength or increasedcredit ratings may increase policy surrenders and withdrawals, reduce new sales and terminate relationships with distributors, impact existing liabilities and increase our cost of capital, any of which could adversely affect our profitability and financial condition." In the event our current internal sources of liquidity do not satisfy our needs, we may have to seek additional financing and, in such case, we may not be able to successfully obtain additional financing on favorable terms, or at all. The availability of additional financing will depend on a variety of factors such as market conditions, the general availability of credit, the volume of trading activities, the overall availability of credit to the financial services industry, our credit ratings and credit capacity, as well as customers' or lenders' perception of our long- or short-term financial prospects. Similarly, our access to funds may be impaired if regulatory authorities or rating agencies take negative actions against us.

        With the uncertainty surrounding the length and severity of the current global recession, we believe it is prudent capital management to continue to explore any and all options available to us to maximize capital flexibility, including accessing the capital markets, utilizing our commercial paper program, cost cutting and internal efficiency initiatives, U.S. government sources of funding and transactions with strategic and other investors. Disruptions, uncertainty or volatility in the capital and credit markets may also limit our access to capital required to operate our business, most significantly our insurance operations. Such market conditions may limit our ability to replace, in a timely manner, maturing liabilities; satisfy statutory capital requirements; fund redemption requests on insurance or other financial products; generate fee income and market-related revenue to meet liquidity needs and access the capital necessary to grow our business. As such, we may be forced to delay raising capital, issue shorter tenor securities than we prefer, utilize available internal resources or bear an unattractive cost of capital which could decrease our profitability and significantly reduce our financial flexibility and liquidity. We will closely monitor market opportunities to issue securities at favorable terms, explore other capital raising transactions, and continue to follow developments of government programs.

        For further discussion on liquidity risk management, see Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources."


Difficult conditions in the global capital markets and the economy generally may materially adversely affect our business and results of operations and we do not expect these conditions to improve in the near future.

        Our results of operations are materially affected by conditions in the global capital markets and the economy generally, both in the U.S. and elsewhere around the world. The stress experienced by global capital markets that began in the second half of 2007 continued and substantially increased during 2008. Recently, concerns over the availability and cost of credit, the U.S. mortgage market, a declining real estate market in the U.S., inflation, energy costs and geopolitical issues have contributed to increased volatility and diminished expectations for the economy and the markets going forward. These factors, combined with volatile oil prices, declining business and consumer confidence and increased unemployment, have precipitated a recession. In addition, the fixed-income markets are experiencing a period of extreme volatility which has negatively impacted market liquidity conditions. Initially, the concerns on the part of market participants were focused on the subprime segment of the mortgage-backed securities market. However, these concerns have since expanded to include a broad range of mortgage- and asset-backed and other fixed income securities, including those rated investment grade, the U.S. and international credit and interbank money markets, generally, and a wide range of financial institutions and markets, asset classes and sectors. As a result, the market for fixed income instruments has experienced decreased liquidity, increased price volatility, credit downgrade events and increased probability of default. Securities that are less liquid are more difficult to value and may be hard to dispose of. These events and the continuing market upheavals have had and may continue to have an adverse effect on the value of our investment portfolio. Our AUM and revenues may decline in such circumstances and our profit margins could erode. In addition, in the event of extreme prolonged market events, such as the global credit crisis, we could incur significant losses. Even in the absence of a market downturn, we are exposed to substantial risk of loss due to market volatility.

        Factors such as consumer spending, business investment, government spending, the volatility and strength of the capital markets, investor and consumer confidence and inflation all affect the business and economic environment and, ultimately, the amount and profitability of our business. In an economic downturn characterized by higher unemployment, lower family income, lower corporate earnings, lower business investment, negative investor sentiment and lower consumer spending, the demand for our financial and insurance products could be adversely affected. In addition, we may experience an elevated incidence of claims and lapses or surrenders of policies. Our policyholders may choose to defer paying insurance premiums or stop paying insurance premiums altogether. In addition, participants within the retirement plans we administer may elect to reduce or stop their payroll deferrals to these plans, which would reduce AUM and revenues. Adverse changes in the economy could affect net income negatively and could have a material adverse effect on our business, results of operations and financial condition.

Continued declines and volatility in the equity markets could reduce our AUM and may result in investors withdrawing from the markets or decreasing their rates of investment, eitherall of which could reduce our net income, revenues and assets under management.net income.

        Favorable performance by the U.S.Domestic and international securitiesequity markets increases investments in these marketshave been experiencing severe declines and benefits our asset management and accumulation businesses and increases our assets under management.heightened volatility. Because the revenues of our asset management businessesand accumulation business are, to a large extent, based on the value of assets under management,AUM, a decline in these securitiesdomestic and global equity markets wouldwill decrease our revenues. Turmoil in these securities markets could lead investors to withdraw from these markets, decrease their rates of investment or refrain from making new investments which may reduce our net income, revenues and AUM.

        For further discussion on equity risk management, see Item 7A. "Quantitative and Qualitative Disclosures About Market Risk — Equity Risk."

There can be no assurance that actions of the U.S. government, Federal Reserve and other governmental and regulatory bodies for the purpose of stabilizing the financial markets will achieve the intended effect.

        In response to the financial crisis affecting the banking system, financial markets, investment banks and other financial institutions, on October 3, 2008, the Emergency Economic Stabilization Act of 2008 (the "EESA") was signed into law. Pursuant to the EESA, the U.S. Treasury has the authority to, among other things, make equity investments in certain financial institutions and purchase mortgage-backed and other securities from financial institutions for an aggregate amount of up to $700.0 billion. As a savings and loan holding company subject to oversight of the Office of Thrift Supervision, we have applied to participate in the U.S. Department of the Treasury's Capital Purchase Program ("TCPP"). If we participate in TCPP, we would issue preferred shares and warrants to the Treasury. The amount for which a company can apply is prescribed by the TCPP application. We have applied for and could participate in up to $2.0 billion under the program. If we were to participate in the TCPP, we would be subject to certain limitations. Prior to the third anniversary of our participation, unless we had redeemed all of the preferred stock issued under the TCPP or the U.S. Treasury had transferred all of the preferred stock to a third party, the consent of the U.S. Treasury would be required for us to, among other things, increase our common stock dividend or repurchase our common stock or other preferred stock (with certain exceptions, including the repurchase of our common stock to offset share dilution from equity-based employee compensation awards).


        The federal government, Federal Reserve and other governmental and regulatory bodies have taken and, in light of the continuing economic crisis, are considering taking other actions to address the financial crisis, including future investments in other financial institutions. There can be no assurance as to what impact such actions will have on the financial markets, including the extreme levels of volatility currently being experienced. Such continued volatility could materially and adversely affect our business, financial condition and results of operations, or the trading price of our common stock.

Our participation in a securities lending program may subject us to potential liquidity and other risks.

        We have previously participated in a securities lending program for our general account whereby primarily fixed income securities were loaned by us to third parties, primarily major brokerage firms and commercial banks. The borrowers of our securities provided us with cash collateral, which we separately maintained. We invested such cash collateral in other securities, primarily U.S. Treasuries, U.S. government agency securities, U.S. government agency collateralized repurchase agreements and government money market funds. During the third quarter of 2008, we decided to temporarily unwind the securities lending program due to a downturn in current economic conditions. As of December 31, 2008, we did not have any general account securities on loan, nor was the general account liable for any cash collateral.

        We may consider resuming our general account securities lending program when and if market conditions improve in the future. If we choose to resume the program in the future, we may be exposed to liquidity and other risks associated with securities lending.

Changes in interest rates or credit spreads may adversely affect our results of operations, financial condition and liquidity, and our net income can vary from period-to-period.

        We are exposed to significant financial and capital markets risk, including changes in interest rates, credit spreads, equity prices, real estate values, foreign currency exchange rates, market volatility, the performance of the economy in general, the performance of the specific obligors included in our portfolio and other factors outside our control. Our exposure to interest rate risk relates primarily to the market price and cash flow variability associated with changes in interest rates. A rise in interest rates will increase the net unrealized loss position of our investment portfolio and, if long-term interest rates rise dramatically within a six to twelve month time period, certain of our life insurance and annuities businesses may be exposed to disintermediation risk. Disintermediation risk refers to the risk that our policyholders may surrender their contracts in a rising interest rate environment, requiring us to liquidate assets under management.in an unrealized loss position. Due to the long-term nature of the liabilities associated with certain of our life insurance businesses, sustained declines in long-term interest rates may subject us to reinvestment risks and increased hedging costs. In other situations, declines in interest rates may result in increasing the duration of certain life insurance liabilities, creating asset and liability duration mismatches.

        Our investment portfolio also contains interest rate sensitive instruments, such as fixed income securities, which may be adversely affected by changes in interest rates from governmental monetary policies, domestic and international economic and political conditions and other factors beyond our control. A rise in interest rates would increase the net unrealized loss position of our investment portfolio, offset by our ability to earn higher rates of return on funds reinvested. Conversely, a decline in interest rates would decrease the net unrealized loss position of our investment portfolio, offset by lower rates of return on funds reinvested. Although we take measures to manage the economic risks of investing in a changing interest rate environment, we may not be able to mitigate the interest rate risk of our assets relative to our liabilities.

        Our exposure to credit spreads primarily relates to market price variability and reinvestment risk associated with changes in credit spreads. A widening of credit spreads will increase the net unrealized loss position of the investment portfolio, will increase losses associated with credit-based derivatives that do not qualify or have not been designated for hedge accounting where we assume credit exposure and, if issuer credit spreads increase as a result of fundamental credit deterioration, would likely result in higher other-than-temporary impairments. Credit spread tightening will reduce net investment income associated with new purchases of fixed maturities. Credit spread tightening may also cause an increase in the reported value of certain liabilities that are valued using a discount rate that reflects our own credit spread. In addition, market volatility may make it difficult to value certain of our securities if trading becomes less frequent. As such, valuations may include assumptions or estimates that may have significant period-to-period changes, which could have a material adverse effect on our results of operations or financial condition. Recent credit spreads on both corporate and structured securities have widened, resulting in continuing depressed pricing. Continuing challenges include continued weakness in the U.S. residential real estate market and increased mortgage delinquencies, investor anxiety over the U.S. economy, rating agency downgrades of various structured products and financial issuers, unresolved issues with structured investment vehicles and monolines, deleveraging of financial institutions and hedge funds and a serious dislocation in the inter-bank market. If significant, continued volatility, changes in interest rates, changes in credit spreads and defaults, a lack of pricing transparency, market liquidity, declines in equity prices, declines in inflation-adjusted investments and the strengthening or weakening of foreign currencies against the U.S. dollar, individually or in tandem,


could continue to have a material adverse effect on our results of operations, financial condition or cash flows through realized losses, impairments and changes in unrealized positions.

Our investment portfolio is subject to several risks whichthat may diminish the value of our invested assets and affect our sales, profitability and the investment returns credited to customers, which could reduce our customers.sales, revenues, AUM and net income.

        We are subject to the risk that the issuers of the fixed maturity securities we own will default on principal and interest payments, particularly if a major downturn in economic activity occurs. As of December 31, 2006,2008, our U.S. investment operations held $42.4$38.8 billion of fixed maturity securities, or 75%70% of total U.S. invested assets, of which approximately 4.7%5.2% were below investment grade, including $16.9$252.1 million, or 0.04%0.65% of our total fixed maturity securities which we classified as either "problem," "potential problem,"problem" or "restructured." See Item 7,7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Investments — U.S. Investment Operations — Fixed Maturity Securities."

        Our U.S. fixed maturity securities portfolio includes securities collateralized by residential and commercial mortgage loans. As of December 31, 2008, our U.S. investment operations held $6.6 billion of mortgage-backed securities, or 17% of our total fixed maturity securities portfolio. Changes in mortgage delinquency or recovery rates, credit rating changes by rating agencies, bond insurer strength or rating, and the quality of service provided by service providers on securities in our portfolios could lead to write-downs on these securities. See Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Investments — U.S. Investment ResultsOperations — Fixed Maturity Securities."

        As of December 31, 2006, our2008, the international investment operations of our fully consolidated subsidiaries held $2.3$2.1 billion, of fixed maturity securities, or 69%64%, of total international invested assets.assets in fixed maturity securities, of which 18% are government bonds. Some of these securitiesnon-government bonds have been rated on the basis of the issuer's country credit rating while others haverating. However, the ratings relationship between national ratings and global ratings is not been ratedlinear with the U.S. The starting point for national ratings differs by external agencies,country, which makes the assessment of credit quality more difficult. See Item 7,7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Investments — International Investment Operations." An increase in defaults on our fixed maturity securities portfolio could harm our financial strength and reduce our profitability.

        Our commercial mortgage loan portfolio faces both delinquency and default risk. Commercial mortgage loans of $10.1$11.3 billion represented 17%19% of our total invested assets as of December 31, 2006.2008. As of December 31, 2006,2008, loans that were in the process of foreclosure totaled $10.6$26.0 million, or 0.11%0.2% of our commercial mortgage loan portfolio. The performance of our commercial mortgage loan portfolio,investments, however, may fluctuate in the future. An increase in the delinquency rate of, and defaults under, our commercial mortgage loan portfolio could harm our financial strength and decrease our profitability.

        As of December 31, 2006,2008, approximately $8.3$9.5 billion, or 82%83%, of our commercial mortgage loans before valuation allowance had amortizing balloon payment maturities. A balloon maturity is a loan with larger dollar amounts of payments becoming due in the later years of the loan. The default rate on commercial mortgage loans with balloon payment maturities has historically been higher than for commercial mortgage loans with standard repayment schedules. Since most of the principal is being repaid at maturity, the amount of loss on a default is generally greater than on other commercial mortgage loans. An increase in defaults on such loans as a result of the foregoing factors could harm our financial strength and reducedecrease our net income.profitability.

        As of December 31, 2006, ourWe hold certain investments that may lack liquidity, such as privately placed fixed maturity securities, commercial mortgage loans and real estate investmentsinvestments. These asset classes represented approximately 41% of the value of our invested assets.assets as of December 31, 2008. Even some of our very high quality assets have been more illiquid as a result of the recent challenging market conditions.

        If we require significant amounts of cash on short notice, we may have difficulty selling these investments at attractive prices, in a timely manner, be forced to sell them for less than we otherwise would have been able to realize or both. The reported value of our relatively illiquid types of investments, our investments in the asset classes described above and, at times, our high quality, generally liquid asset classes, do not necessarily reflect the lowest possible price for the asset. If we were forced to sell certain of our assets in the current market, there can be no assurance that we will be able to sell them for the prices at which we have recorded them and we may be forced to sell them at significantly lower prices.


        We use derivative instruments to hedge various risks we face in our businesses. See Item 7A,7A. "Quantitative and Qualitative Disclosures About Market Risk." We enter into a variety of derivative instruments, including interest rate swaps, swaptions, futures, currency swaps, currency forwards, credit default swaps, total return swaps, bond forwards, mortgage-backed security forwards,treasury lock agreements, commodity swaps and options, with a number of counterparties.counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks and other investment funds and other institutions. Many of these transactions expose us to credit risk in the event of default of our counterparty. If however, our counterparties fail to honor their obligations under the derivative instruments, we will have failed to effectively hedge the related risk. That failureIn addition, with respect to secured transactions, our credit risk may harmbe exacerbated when the collateral held by us cannot be realized upon or is liquidated at prices not sufficient to recover the full amount of the loan or derivative exposure due to it. We also have exposure to these financial institutions in the form of unsecured debt instruments and equity investments. Such losses or impairments to the carrying value of these assets may materially and adversely affect our business and results of operations.

        Many of our derivative transactions with financial strength and reduceother institutions specify the circumstances under which the parties are required to post collateral. The amount of collateral we may be required to post under these agreements may increase under certain circumstances, which could adversely affect our profitability.liquidity. In addition, under the terms of some of our transactions we may be required to make payment to our counterparties related to any decline in the market value of the specified assets. Such payments could have an adverse effect on our liquidity. Furthermore, with respect to any such payments, we will have unsecured risk to the counterparty as these amounts are not required to be segregated from the counterparty's other funds, are not held in a third-party custodial account, and are not required to be paid to us by the counterparty until the termination of the transaction.


        Liability under environmental protection laws resulting from our commercial mortgage loan portfolio and real estate investments may harm our financial strength and reduce our profitability. Under the laws of several states, contamination of a property may give rise to a lien on the property to secure recovery of the costs of cleanup. In some states, this kind of lien has priority over the lien of an existing mortgage against the property, which would impair our ability to foreclose on that property should the related loan be in default. In addition, under the laws of some states and under the federal Comprehensive Environmental Response, Compensation and Liability Act of 1980, we may be liable for costs of addressing releases or threatened releases of hazardous substances that require remedy at a property securing a mortgage loan held by us, if our agents or employees have become sufficiently involved in the hazardous waste aspects of the operations of the related obligor on that loan, regardless of whether or not the environmental damage or threat was caused by the obligor. We also may face this liability after foreclosing on a property securing a mortgage loan held by us. This may harm our financial strength and decrease our profitability.

        Credit extensions in the state of California accounted for 17%20%, or $1.8$2.2 billion, of our commercial mortgage loan portfolio as of December 31, 2006.2008. Due to this concentration of commercial mortgage loans in California, we are exposed to potential losses resulting from the risk of an economic downturn in California as well as to catastrophes, such as earthquakes, that may affect the region. While we generally do not require earthquake insurance for properties on which we make commercial mortgage loans, we do take into account property specific engineering reports, construction type and geographical concentration by fault lines in our investment underwriting guidelines. If economic conditions in California do not improve or continue to deteriorate or catastrophes occur, we may in the future, experience delinquencies or defaults on the portion of our commercial mortgage loan portfolio located in California, in the future, which may harm our financial strength and reduce our profitability.

Our valuation of fixed maturity and equity securities may include methodologies, estimations and assumptions which are subject to differing interpretations and could result in changes to investment valuations that may materially adversely affect our results of operations or financial condition.

        Fixed maturity securities, equity securities and short-term investments which are reported at fair value on our consolidated statements of financial position represented the majority of our total cash and invested assets. Statement of Financial Accounting Standard ("SFAS") No. 157,Fair Value Measurements ("SFAS 157"), establishes a three-level hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The level in the fair value hierarchy is based on the priority of the inputs to the respective valuation technique. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to



unobservable inputs (Level 3). An asset or liability's classification within the fair value hierarchy is based on the lowest level of significant input to its valuation.

        At December 31, 2008, approximately 32%, 61% and 7% of our net assets and liabilities reported at fair value represented Level 1, Level 2 and Level 3, respectively. Our Level 1 assets and liabilities primarily include exchange traded equity securities, mutual funds and U.S. Treasury bonds. Our Level 2 assets and liabilities primarily include fixed maturity securities (including public and private bonds), equity securities, over-the-counter derivatives and other investments for which public quotations are not available but that are priced by third-party pricing services or internal models using observable inputs. Our Level 3 assets and liabilities include certain fixed maturity securities, private equity securities, complex derivatives and embedded derivatives. Level 3 securities contain at least one significant unobservable market input and as a result considerable judgment may be used in determining the fair values. These fair values are generally obtained through the use of valuation models or methodologies using at least one significant unobservable input or broker quotes. Prices provided by independent pricing services or independent broker quotes that are used in the determination of fair value can vary for a particular security.

        For additional information on our valuation methodology, see Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 17, Fair Value of Financial Instruments."

        During periods of market disruption including periods of significantly rising or high interest rates, rapidly widening credit spreads or illiquidity, it may be difficult to value certain of our securities, for example collateralized mortgage obligations and collateralized debt obligations, if trading becomes less frequent and/or market data becomes less observable. There may be certain asset classes that were in active markets with significant observable data that become illiquid due to the current financial environment. In such cases, more securities may fall to Level 3 and thus require more subjectivity and management judgment. As such, valuations may include inputs and assumptions that are less observable or require greater estimation as well as valuation methods that require greater estimation, which could result in values that are different from the value at which the investments may be ultimately sold. Further, rapidly changing and unprecedented credit and equity market conditions could materially impact the valuation of securities as reported within our consolidated financial statements and the period-to-period changes in value could vary significantly. Decreases in value may have a material adverse effect on our results of operations or financial condition.

The determination of the amount of allowances and impairments taken on our investments is highly subjective and could materially impact our results of operations or financial position.

        The determination of the amount of allowances and impairments vary by investment type and is based upon our monthly evaluation and assessment of known and inherent risks associated with the respective asset class. Such evaluations and assessments are revised as conditions change and new information becomes available. There can be no assurance that our management has accurately assessed the level of impairments taken and allowances reflected in our financial statements. Furthermore, additional impairments may need to be taken or allowances provided for in the future. Historical trends may not be indicative of future impairments or allowances.

        Additionally, our management considers a wide range of factors about the security issuer and uses their best judgment in evaluating the cause of the decline in the estimated fair value of the security and in assessing the prospects for recovery. Inherent in management's evaluation of the security are assumptions and estimates about the operations of the issuer and its future earnings potential. For further information regarding our impairment methodology, see Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Investments — U.S. Investment Operations — Fixed Maturity Securities."

Gross unrealized losses may be realized or result in future impairments, resulting in a reduction in our net income.

        Fixed maturity securities that are classified as available-for-sale ("AFS") are reported on the consolidated statements of financial position at fair value. Unrealized gains or losses on AFS securities are recognized as a component of equity and are, therefore, excluded from net income. Our U.S. investment operations held gross unrealized losses on fixed maturity securities of $8.2 billion pre-tax as of December 31, 2008, and the component of gross unrealized losses for securities trading down 20% or more for over six months was approximately $1.8 billion pre-tax. The accumulated change in fair value of the AFS securities is recognized in net income when the gain or loss is realized upon the sale of the asset or in the event that the decline in fair value is determined to be other than temporary (referred to as an other-than-temporary impairment). Realized losses or impairments may have a material adverse impact on our net income in a particular quarter or annual period.


Competition from companies that may have greater financial resources, broader arrays of products, higher ratings and stronger financial performance may impair our ability to retain existing customers, attract new customers and maintain our profitability.

        We believe that our ability to compete is based on a number of factors including scale, service, product features, price, investment performance, commission structure, distribution capabilities,capacity, financial strength ratings and name recognition. We compete with a large number of financial services companies such as banks, mutual funds, broker-dealers, insurers and asset managers, many of which have advantages over us in one or more of the above competitive factors.

        Each of our segments faces strong competition. The primary competitors for our U.S. Asset Accumulation and Global Asset Management and Accumulation segmentsegments are asset managers, banks, broker-dealers and insurers. Our ability to increase and retain assets under managementAUM is directly related to the performance of our investments as measured against market averages and the performance of our competitors. Even when securities prices are generally rising, performance can be affected by investment styles. Also, there is a risk that we may not be able to attract and retain the top talent needed to compete in our industry.

        Competition for our International Asset Management and Accumulation segment comes primarily from local financial services firms and other international companies operating on a stand-alone basis or in partnership with local firms.

        Our Life and Health Insurance segment competes with insurers and managed health maintenancecare organizations.

        National banks, with their large existing customer bases, may increasingly compete with insurers as a result of court rulings allowing national banks to sell annuity products in some circumstances, and as a result of legislation removing restrictions on bank affiliations with insurers. Specifically, the Gramm-Leach-Bliley Act of 1999 permits mergers that combine commercial banks, insurers and securities firms under one holding company. These developments may increase competition, in particular for our asset management and accumulation businesses, by substantially increasing the number, size and financial strength of potential competitors who may be able to offer, due to economies of scale, more competitive pricing than we can.

        In response to current market conditions, the U.S. and foreign governments in the markets we serve have taken actions, including but not limited to, direct government control or investment in certain entities. We may find that these actions create, among other things, unforeseen competitive advantages for our competitors due to explicit or implied support from the government.

A downgrade in any of our financial strength or credit ratings may increase policy surrenders and withdrawals, reduce new sales and terminate relationships with distributors, and impact existing liabilities and increase our cost of capital, any of which could adversely affect our profitability and financial condition.

        Nationally Recognized Statistical Rating Organizations ("NRSROs") publish financial strength ratings on U.S. life insurance companies that are indicators of an insurance company's ability to meet contractholder and policyholder obligations. NRSROs also assign credit ratings on non-life insurance entities, such as PFG and Principal Financial Services, Inc. ("PFS"). Credit ratings are indicators of a debt issuer's ability to meet the terms of debt obligations in a timely manner, and are important factors in overall funding profile and ability to access external capital.

Ratings are important factors in establishing the competitive position of insurance companies.companies and maintaining public confidence in products being offered. A ratingratings downgrade, or the potential for such a downgrade, could, among other things:


        Any of these consequences could adversely affect our profitability and financial condition.

        Certain aspectsIn recent months, each of A.M. Best Company, Inc., Fitch Ratings Ltd., Moody's Investors Service, and Standard & Poor's has revised its outlook for the U.S. life insurance industry to negative from stable. Of the many issues cited, the



negative outlook is primarily based on expectations for higher-than-normal credit losses, negative impact of the volatile equity market on earnings, and reduced financial flexibility.

        These outlook revisions signal increased review of U.S. life insurance companies by A.M. Best Company, Inc., Fitch Ratings, Ltd., Moody's Investors Service, and Standard & Poor's. As a result, it is possible that there will be changes in the benchmarks for capital, liquidity, earnings and other factors used by these NRSROs that are critical to a ratings assignment at a particular rating level. If any such changes are made, it is possible that such changes could have an impact on the ratings of U.S. life insurance companies, including ours, which could adversely impact our businesses help us mitigate potential liquidity risk:

financial condition.

Our efforts to reduce the impact of interest rate changes on our profitability and surplusretained earnings may not be effective.

        We attempt to significantly reduce the impact of changes in interest rates on the profitability and surplusretained earnings of our asset accumulation and life and health insurance operations. We accomplish this reduction primarily by managing the duration of our assets relative to the duration of our liabilities. During a period of rising interest rates, policy surrenders, withdrawals and requests for policy loans may increase as customers seek to achieve higher returns. Despite our efforts to reduce the impact of rising interest rates, we may be required to sell assets to raise the cash necessary to respond to such surrenders, withdrawals and loans, thereby realizing capital losses on the assets sold. Liquidations may result in capital losses, particularly in periods of volatile interest rates and credit spreads. Because volatile interest rates and credit spreads often make it more difficult to sell certain fixed income securities, there is also a risk that we will find it difficult to raise the cash necessary to fund a very large amount of withdrawal activity. An increase in policy surrenders and withdrawals may also require us to accelerate amortization of DPACdeferred policy acquisition costs ("DPAC") relating to these contracts, which would further reduce our net income.profitability.

        During periods of declining interest rates, borrowers may prepay or redeem mortgages and bonds that we own, which would force us to reinvest the proceeds at lower interest rates. For some of our products, such as guaranteed investment contractsGICs and funding agreements, we are unable to lower the rate we credit to customers in response to the lower return we will earn on our investments. In addition, it may be more difficult for us to maintain our desired spread between the investment income we earn and the interest we credit to our customers during periods of declining interest rates, thereby reducing our profitability.

        For further discussion on interest rate risk management, see Item 7A,7A. "Quantitative and Qualitative InformationDisclosures About Market Risk — Interest Rate Risk".Risk."

If we are unable to attract and retain sales representatives and develop new distribution sources, sales of our products and services may be reduced.

        We distribute our asset accumulation, asset management and life, health and specialty benefit insurance products and services through a variety of distribution channels, including our own internal sales representatives, independent brokers, banks, broker-dealers and other third-party marketing organizations. We must attract and retain sales representatives to sell our products. Strong competition exists among financial services companies for efficient sales representatives. We compete with other financial services companies for sales representatives primarily on the basis of our financial position, support services and compensation and product features. If we are unable to attract and retain sufficient sales representatives to sell our products, our ability to compete and revenues from new sales would suffer.

Our international businesses face political, legal, operational and other risks that could reduce our profitability in those businesses.

        Our international businesses are subject to comprehensive regulation and supervision from central and/or local governmental authorities in each country in which we operate. New interpretations of existing laws and regulations or the adoption of new laws and regulations may harm our international businesses and reduce our profitability in those businesses.

        Our international businesses face political, legal, operational and other risks that we do not face in our operations in the U.S. We face the risk of discriminatory regulation, nationalization or expropriation of assets, price controls and exchange controls or other restrictions that prevent us from transferring funds from these operations out of the countries in which they operate or converting local currencies we hold into U.S. dollars or other currencies. Some of our international businesses are, and are likely to continue to be, in emerging or potentially volatile markets. In addition, we rely on local staff, including local sales forces, in these countries andwhere there is a risk that we may encounter labor problems with local staff, especially in countries where workers' associations and trade unions are strong. If our business model, including in some cases a joint venture model, is not successful in a particular country, we may lose all or most of our investment in that country.



Our reserves established for future policy benefitsWe may face losses if our actual experience differs significantly from our pricing and claims may prove inadequate, requiring us to increase liabilities.reserving assumptions.

        Our earnings dependprofitability depends significantly upon the extent to which our actual claims experience is consistent with the assumptions used in setting prices for our products and establishing liabilities for future insurance and annuity policy benefits and claims. The liabilitypremiums that we have establishedcharge and the liabilities that we hold for future policy benefits isare based on assumptions concerning a number of factors, including the amount of premiums that we will receive in the future, rate of return on assets we purchase with premiums received, expected claims, mortality, morbidity, expenses and persistency, which is the measurement of the percentage of insurance policies remaining in force from year to year, as measured by premiums.year. However, due to the nature of the underlying risks and the high degree of uncertainty associated with the determination of the liabilities for unpaid policy benefits and claims, we cannot determine precisely the amounts which we will ultimately pay to settle these liabilities. As a result, we may experience volatility in the level of our profitability and our reserves from period to period,period-to-period, particularly for our health and disability insurance products. To the extent that actual claims experience is less favorable than our underlying assumptions, we could be required to increase our liabilities, which may harm our financial strength and reduce our profitability.

        For example, if mortality rates are higher than our pricing assumptions, we will be required to make greater claims payments on our life insurance policies than we had projected. However, this risk is partially offset by our payout annuity business, where an increase in mortality rates will result in a decrease in benefit payments. Our operating earnings may also be adversely impacted by an increase in morbidity rates.

        Our operating earnings may also be adversely impacted if our actual investment earnings differ from our pricing and reserve assumptions. Changes in economic conditions may lead to changes in market interest rates or changes in our investment strategies, either of which could cause our actual investment earnings to differ from our pricing and reserve assumptions.

        For additional information on our insurance reserves, see Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies and Estimates — Insurance Reserves".

Our ability to pay stockholder dividends and meet our obligations may be constrained by the limitations on dividends Iowa insurance laws impose on Principal Life.

        We are an insurance holding company whose assets include all of the outstanding shares of the common stock of Principal Life and other direct subsidiaries. Our ability to pay dividends to our stockholders and meet our obligations, including paying operating expenses and any debt service, depends upon the receipt of dividends from Principal Life. Iowa insurance laws impose limitations on the ability of Principal Life to pay dividends to us. Any inability of Principal Life to pay dividends to us in the future may cause us to be unable to pay dividends to our stockholders and meet our other obligations. See Item 7,7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources" for a discussion of regulatory restrictions on Principal Life's ability to pay us dividends.

The pattern of amortizing our DPAC and other actuarial balances on our SFAS 97investment contract, participating life insurance and universal life-type products may change, impacting both the level of the asset and the timing of our operating earnings.net income.

        Amortization of the DPAC asset depends on the actual and expected profits generated by the lines of business that generatedincurred the expenses. Expected profits are dependent on assumptions regarding a number of factors including investment returns, benefit payments, expenses, mortality and policy lapse. Due to the uncertainty associated with establishing these assumptions, we cannot, with precision, determine the exact pattern of profit emergence. As a result, amortization of DPAC will vary from period to period.period-to-period. To the extent that actual experience emerges less favorably than expected, or our expectation for future profits decreases, the DPAC asset may be reduced, reducing our profitability in the current period.

        For additional information, see Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operation — Critical Accounting Policies and Estimates — Deferred Policy Acquisition Costs and Other Actuarial Balances."

We may need to fund deficiencies in our Closed Block assets.

        In connection with its conversion in 1998 into a stock life insurance company, Principal Life established an accounting mechanism, known as a "Closed Block,"Block" for the benefit of participating ordinary life insurance policies that had a dividend scale in force on July 1, 1998. Dividend scales are the actuarial formulas used by life insurance companies to determine amounts payable as dividends on participating policies based on experience factors relating to, among other things, investment results, mortality, lapse rates, expenses, premium taxes and policy loan interest and utilization rates. The Closed Block was designed to provide reasonable assurance to policyholders included in the Closed Block that, after the conversion, assets would be available to maintain the aggregate dividend scales in effect for 1997 if the experience underlying such scales were to continue.


        We allocated assets to the Closed Block as of July 1, 1998, in an amount such that we expectexpected their cash flows, together with anticipated revenues from the policies in the Closed Block, to be sufficient to support the Closed Block business, including payment of claims, expenses, charges and taxes and to provide for the continuation of aggregate dividend scales in accordance with the 1997 policy dividend scales if the experience underlying such scales continues,continued, and to allow for appropriate adjustments in such scales if the experience changes.changed. We bear the costs of expenses associated with Closed Block policies and, accordingly, these costs were not funded as part of the assets allocated to the Closed Block. Any increase in such costs in the future will be borne by us. As of December 31, 2006,2008, Closed Block assets and liabilities were $4,824.0$4,436.4 million and $5,821.3$5,711.8 million, respectively.

        We will continue to pay guaranteed benefits under the policies included in the Closed Block, in accordance with their terms. The Closed Block assets, cash flows generated by the Closed Block assets and anticipated revenues from polices included in the Closed Block may not be sufficient to provide for the benefits guaranteed under these policies. If they are not sufficient, we must fund the shortfall. Even if they are sufficient, we may choose for business reasons to support dividend payments on policies in the Closed Block with our general account funds.



        The Closed Block assets, cash flows generated by the Closed Block assets and anticipated revenues from policies in the Closed Block will benefit only the holders of those policies. In addition, to the extent that these amounts are greater than the amounts estimated at the time we funded the Closed Block, dividends payable in respect of the policies included in the Closed Block may be greater than they would have been in the absence of a Closed Block. Any excess earningsnet income will be available for distribution over time to Closed Block policyholders but will not be available to our stockholders.

A pandemic, terrorist attack or other catastrophic event could adversely affect our earnings.net income.

        Our mortality and morbidity experience could be adversely impacted by a catastrophic event. In addition, a severe catastrophic event may cause significant volatility in global financial markets, disruptions to commerce and reduced economic activity. The resulting macroeconomic conditions could adversely affect our cash flows, as well as the value and liquidity of the company'sour invested assets. We may also experience operational disruptions if our employees are unable or unwilling to come to work due to a pandemic or other catastrophe. We have developed extensive contingency plans to minimize the risk of operational disruptions. In addition, our use of reinsurance reduces our exposure to adverse mortality experience. Despite these measures, we may still be exposed to losses in the event of a pandemic, terrorist attack or other catastrophe.

Our reinsurers could default on their obligations or increase their rates, which could adversely impact our earningsnet income and profitability.

        We cede material amounts of insurance to other insurance companies through reinsurance. See Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 1, Nature of Operations and Significant Accounting Policies." However, we remain liable to the policyholder, even if the reinsurer defaults on its obligations with respect to the ceded business. If a reinsurer fails to meet its obligations, we will be forced to cover the claims on the reinsured policies. In addition, a reinsurer insolvency may cause us to lose our reserve credits on the ceded business, in which case the Principalwe would be required to establish additional reserves.

        The premium rates charged by the Companythat we charge are based, in part, on the assumption that reinsurance will be available at a certain cost. Some of our reinsurance contracts contain provisions which limit the reinsurer's ability to increase rates on in-force business; however, some do not. If a reinsurer raises the rates that it charges on a block of in-force business, our profitability may be negatively impacted if we are not able to pass the increased costs on to the customer. If reinsurers raise the rates that they charge on new business, we may be forced to raise the premiums that we charge, which could have a negative impact on our competitive position.

        To mitigate the risks associated with the use of reinsurance, we carefully select our reinsurers, and we monitor their ratings and financial condition on a regular basis. We also spread our business among several reinsurers, in order to diversify our risk exposure.

We may encounter difficultyface risks arising from acquisitions of businesses.

        We have engaged in acquisitions of businesses in the past, and expect to continue to do so in the future. We face a number of risks arising from acquisition transactions, including difficulties in integrating WM Advisors, Inc.the acquired business into our operations, difficulties in assimilating and may incur substantial costsretaining employees and intermediaries, difficulties in retaining the existing customers of the acquired entity, unforeseen liabilities that arise in connection with the integration.acquired business and unfavorable market conditions that could negatively impact our growth expectations for the acquired business. These risks may prevent us from realizing the expected benefits from acquisitions and could result in the impairment of goodwill and/or intangible assets recognized at the time of acquisition.

        Integrating WM Advisors, Inc. intoFor additional information on our business operations will be a complex, time-consuming and expensive process. We may encounter substantial difficulties, costs and delays in integrating WM Advisors, Inc., including difficulties and expenses we did not anticipate, such as

        As a result, we may not be able to realize the expected revenue growthOperations — Critical Accounting Policies and other benefits we hope to achieve from the acquisition of WM Advisors, Inc. In addition, we may be required to spend additional time or money on integration that we would otherwise spend on the developmentEstimates — Goodwill and expansion of our business.Other Intangible Assets."


Changes in laws, regulations or accounting standards may reduce our profitability.

        Our insurance business is subject to comprehensive state regulation and supervision throughout the U.S.U.S and in the international markets in which we operate. We are also impacted by federal legislation and administrative policies in areas such as employee benefit plan regulation, financial services regulations and federal taxation. The primary purpose of state regulation of the insurance business is to protect policyholders, not stockholders. The laws of the various states establish insurance departments with broad powers to regulate such matters as:



        State insurance regulators, federal regulators and the National Association of Insurance Commissioners, or NAIC continually reexamine existing laws and regulations, and may impose changes in the future.

        State insurance guaranty associations have the right to assess insurance companies doing business in their state for funds to help pay the obligations of insolvent insurance companies to policyholders and claimants. Because the amount and timing of an assessment is beyond our control, the liabilities we have established for these potential assessments may not be adequate.

        Federal legislation and administrative policies in areas such as employee benefit plan regulation, financial services regulation and federal taxation can reduce our profitability. For example, Congress has, from time to time, considered legislation relating to changes in the Employee Retirement Income Security Act of 1974 to permit application of state law remedies, such as consequential and punitive damages, in lawsuits for wrongful denial of benefits, which, if adopted, could increase our liability for damages in future litigation. Additionally, new interpretations of existing laws and the passage of new legislation may harm our ability to sell new policies and increase our claims exposure on policies we issued previously. In addition, reductions in contribution levels to defined contribution plans may decrease our profitability.

        Current federal income tax laws generally permit the tax-deferred accumulation of earnings on the premiums paid by the holders of annuities and life insurance products. Taxes, if any, are payable on income attributable to a distribution under the contract for the year in which the distribution is made. Congress has, from time to time, considered legislation that would reduce or eliminate the benefit of such deferral of taxation on the accretion of value within life insurance and non-qualifiednonqualified annuity contracts. Enactment of this legislation, including a simplified "flat tax" income structure with an exemption from taxation for investment income, could result in fewer sales of our insurance, annuity and investment products.

        From time to time, Congress, as well as foreign, state and local governments, considers legislation that could increase our tax costs. If such legislation is adopted, our profitability could be negatively impacted.

        The Economic Growth and Tax Relief Reconciliation Act of 2001 (the "Act") amended the federal estate tax laws by increasing the amount of the unified credit beginning in 2002, thereby increasing the amount of property not subject to the estate tax. The Act also gradually reduces the federal estate tax rate over a period of years beginning in 2002, and repeals the tax entirely in 2010. The law in effect prior to the Act, however, is reinstated for years after 2010. Through the year ended December 31, 2006,2008, we received recurring premium of $29.4$55.7 million for survivorship life insurance policies we have sold. A significant number of these policies were purchased for the purpose of providing cash to pay federal estate


taxes. The reduction of the federal estate tax and temporary repeal could result in policyholders reducing coverage under, or surrendering, these policies.

        Our asset management and accumulation and life insurance businesses are subject to various levels of regulation under federal, state and foreign securities laws. These laws and regulations are primarily intended to protect investors in the securities markets or investment advisory or brokerage clients and generally grant supervisory agencies broad administrative powers, including the power to limit or restrict the conduct of business for failure to comply with such laws and regulations. The downturn in the financial markets and resulting market-wide losses have caused legislative and regulatory bodies to consider various changes to existing securities laws and the legal framework governing the financial industry. Changes to these laws or regulations that restrict the conduct of our business could siginificantly increase our compliance costs and reduce our profitability.

        Accounting standards are subject to change and can negatively impact our profitability. See Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 1, Nature of Operations and Significant Accounting Policies." In addition to recently issued accounting guidance, the standard setters have a full agenda of topics they plan to review, any of which have the potential to negatively impact our profitability. The results for past accounting periods are not necessarily indicative of the results to be expected for any future accounting period.


A computer system failure or security breach could disrupt our business, damage our reputation and adversely impact our profitability.

        Several years agoWe rely on computer systems to conduct business, including customer service, marketing and sales activities, customer relationship management and producing financial statements. While we have policies, procedures, automation and backup plans designed to prevent or limit the International Accounting Standards Board ("IASB")effect of failure, our computer systems may be vulnerable to disruptions or breaches as the result of natural disasters, man-made disasters, criminal activity, pandemics, or other events beyond our control. The failure of our computer systems for any reason could disrupt our operations, result in the loss of customer business and the Financial Accounting Standards Board (the "FASB") launched a project to converge International Financial Reporting Standards ("IFRS")adversely impact our profitability.

        We retain confidential information on our computer systems, including customer information and U.S. generally accepted accounting principles ("U.S. GAAP"). Progress has been made in recent years by both Boards in reducing key differences between the two sets of standards. There are many differences between U.S. GAAP and IFRS that impact those using, preparing, auditing or regulating cross-border financial reporting. Most recently, a joint project to develop a common conceptual framework that converges and improves upon the frameworkproprietary business information. Any compromise of the two Boards has been undertaken. As the project to converge IFRS and U.S. GAAP and their respective conceptual frameworks continue, current GAAP fundamentals may be modified to become consistent with IFRS, which may result in changessecurity of our computer systems that results in the financial statementsdisclosure of U.S. companies.personally identifiable customer information could damage our reputation, expose us to litigation, increase regulatory scrutiny and require us to incur significant technical, legal and other expenses.

LitigationResults of litigation and regulatory investigations may affect our financial strength or reduce our profitability.

        We are a plaintiff or defendant in actions arising out of our insurance businesses and investment operations. We are, from time to time, also involved in various governmental, regulatory and administrative proceedings and inquiries. These factors may affect our financial strength or reduce our profitability. For further discussion on litigation and regulatory investigation risk, see Item 3,3. "Legal Proceedings."

From time to time we may become subject to tax audits, tax litigation or similar proceedings, and as a result we may owe additional taxes, interest and penalties in amounts that may be material.

        We are subject to income taxes in the United States as well as many other jurisdictions. In determining our provisions for income taxes and our accounting for tax-related matters in general, we are required to exercise judgment. We regularly make estimates where the ultimate tax determination is uncertain. We cannot assure you that the final determination of any tax audit, appeal of the decision of a taxing authority, tax litigation or similar proceedings will not be materially different from that reflected in our historical financial statements. The assessment of additional taxes, interest and penalties could be materially adverse to our current and future results of operations and financial condition.

Fluctuations in foreign currency exchange rates could reduce our profitability.

        Principal International generally writes policies denominated in various local currencies and invests the premiums and deposits in local currencies. Although investing in local currencies limits the effect of currency exchange rate fluctuation on local operating results, fluctuations in such rates affect the translation of these results into our consolidated financial statements. For further discussion on foreign currency exchange risk, see Item 7A,7A. "Quantitative and Qualitative Disclosures About Market Risk — Foreign Currency Risk."


Applicable laws and our stockholder rights plan, certificate of incorporation and by-laws may discourage takeovers and business combinations that our stockholders might consider in their best interests.

        State laws and our certificate of incorporation and by-laws may delay, defer, prevent, or render more difficult a takeover attempt that our stockholders might consider in their best interests. For instance, they may prevent our stockholders from receiving the benefit from any premium to the market price of our common stock offered by a bidder in a takeover context. Even in the absence of a takeover attempt, the existence of these provisions may adversely affect the prevailing market price of our common stock if they are viewed as discouraging takeover attempts in the future.

        State laws and our certificate of incorporation and by-laws may also make it difficult for stockholders to replace or remove our management. These provisions may facilitate management entrenchment, which may delay, defer or prevent a change in our control, which may not be in the best interests of our stockholders.

        The following provisions, included in our certificate of incorporation and by-laws, may also have anti-takeover effects and may delay, defer or prevent a takeover attempt that our stockholders might consider in their best interests. In particular, our certificate of incorporation and by-laws:

        In addition, Section 203 of the General Corporation Law of the State of Delaware may limit the ability of an "interested stockholder" to engage in business combinations with us. An interested stockholder is defined to include persons owning 15% or more of our outstanding voting stock.


        Our stockholder rights plan may have anti-takeover effects. The stockholder rights plan is designed to protect our stockholders in the event of unsolicited offers to acquire us and other coercive takeover tactics, which, in the opinion of our boardBoard of directors,Directors, could impair the board's ability to represent stockholder interests. Our stockholder rights plan might render an unsolicited takeover more difficult or less likely to occur, even though such a takeover might offer our stockholders the opportunity to sell their stock at a price above the prevailing market price and may be favored by our stockholders.

Our financial results may be adversely impacted by global climate changes.

        Atmospheric concentrations of carbon dioxide and other greenhouse gases have increased dramatically since the industrial revolution, resulting in a gradual increase in global average temperatures and an increase in the frequency and severity of natural disasters. These trends are expected to continue in the future, and have the potential to impact nearly all sectors of the economy to varying degrees. Our initial research indicates that climate change does not pose an imminent or significant threat to our operations or business, but we will continue to monitor new developments in the future.

        Potential impacts may include the following:



Item 1B.    Unresolved Staff Comments

        None.


Item 2.    Properties

        WeAs of December 31, 2008, we own 2526 properties in our home office complex in Des Moines, Iowa, and in various other locations. Of these 2526 properties, 1011 are office buildings, 2 are warehouse facilities, 1211 are parking lots and ramps, and 1 is a park/green space.space and 1 is a childcare center. Of the office and warehouse space, we occupy approximately 92%90% of the 2.782.8 million square feet of space in these buildings. The balance of the space in these buildings is rented to commercial tenants.tenants or is occupied by the property management company servicing these properties. Of the parking properties there are approximately 5,323 stalls.5,119 stalls, which does not include additional stalls that will be created once construction of a new parking ramp is completed. We lease office space for various offices located throughout the U.S. and internationally. We believe that our owned and leased properties are suitable and adequate for our current business operations.


Item 3.    Legal Proceedings

        We are regularly involvedDisclosure concerning material legal proceedings can be found in litigation, both as a defendantItem 8. "Financial Statements and as a plaintiff, but primarily as a defendant. Litigation naming us as a defendant ordinarily arises out of our business operations as a provider of asset managementSupplementary Data, Notes to Consolidated Financial Statements, Note 15, Contingencies, Guarantees and accumulation productsIndemnifications" under the caption, "Litigation and services, life, health and disability insurance. Some of the lawsuits are class actions, or purport to be, and some include claims for punitive damages. In addition, regulatory bodies, such as state insurance departments, the SEC, the National Association of Securities Dealers, Inc., the Department of Labor and other regulatory bodies regularly make inquiries and conduct examinations or investigations concerning our compliance with, among other things, insurance laws, securities laws, Employee Retirement Income Security Act ("ERISA") and laws governing the activities of broker-dealers.

        Several lawsuits have been filed against other insurance companies and insurance brokers alleging improper conduct relating to the payment and non-disclosure of contingent compensation and bid-rigging activity. Several of these suits were filed as purported class actions. Several state attorneys general and insurance regulators have initiated industry-wide inquiries or other actions relating to compensation arrangements between insurance brokers and insurance companies and other industry issues. Beginning in March of 2005, we have received subpoenas and interrogatories from the offices of the Attorneys General of New York and Connecticut seeking information related to compensation agreements with brokers and agents and the sale of retirement products and services. We are cooperating with these inquiries. To date, none of these Attorneys General investigations has resulted in any action against us. We are, however, engaged in discussions with the Connecticut and New York Attorney General's Office with respect to broker payments relating to sales of our single premium group annuity products,Regulatory Contingencies," which primarily fund terminating defined benefit plans. Atis incorporated here by this point, we cannot predict the outcome of these discussions. We have received other requests from regulators and other governmental authorities relating to other industry issues and may receive additional such requests, including subpoenas and interrogatories, in the future.

        On December 23, 2004, a lawsuit was filed in Iowa state court against us and our wholly owned subsidiaries, Principal Life and Principal Financial Services, Inc., on behalf of a proposed class comprised of the settlement class in the Principal Life sales practices class action settlement, which was approved in April 2001 by the United States District Court for the Southern District of Iowa. This more recent lawsuit claims that the treatment of the settlement costs of that sales practices litigation in relation to the allocation of demutualization consideration to Principal Life policyholders was inappropriate. Demutualization allocation was done pursuant to the terms of a plan of demutualization approved by the policyholders in July 2001 and Insurance Commissioner of the State of Iowa in August 2001. The lawsuit further claims that such allocation was not accurately described to policyholders during the demutualization process and is a breach of the sales practices settlement. On January 27, 2005, we filed a notice to remove the action from state court to the United States District Court for the Southern District of Iowa. On July 22, 2005, the plaintiff's motion to remand the action to state court was denied, and our motion to dismiss the lawsuit was granted. On September 21, 2005, the plaintiff's motion to alter or amend the judgment was denied. On October 4, 2005, the plaintiff filed a notice of appeal to the United States Court of Appeals for the Eighth Circuit. Oral argument was held on April 20, 2006. On October 20, 2006, the Court of Appeals affirmed our motion to dismiss.

        On November 8, 2006, a trustee of Fairmount Park Inc. Retirement Savings Plan filed a putative class action lawsuit in the United States District Court for the Southern District of Illinois against Principal Life. The Complaint alleges, among other things, that Principal Life breached its alleged fiduciary duties while performing services to 401(k) plans by failing to disclose, or adequately disclose, to employers or plan participants the fact that Principal Life receives "revenue sharing fees from mutual funds that are included in its pre-packaged 401(k) plans" and allegedly failed to use the revenue to defray the expenses of the services provided to the plans. Principal Life has filed its Answer and a Motion to Transfer



and intends to aggressively defend the lawsuit. Plaintiff further alleges that these acts constitute prohibited transactions under ERISA. Plaintiff seeks to certify a class of all retirement plans to which Principal Life was a service provider and for which Principal Life received and retained "revenue sharing" fees from mutual funds. Plaintiff seeks declaratory, injunctive and monetary relief. Principal Life intends to aggressively defend the lawsuit.

        While the outcome of any pending or future litigation cannot be predicted, management does not believe that any pending litigation will have a material adverse effect on our business or financial position. The outcome of litigation is always uncertain, and unforeseen results can occur. It is possible that such outcomes could materially affect net income in a particular quarter or annual period.reference.


Item 4.    Submission of Matters to a Vote of Security Holders

        No matter was submitted to a vote of our security holders of Principal Financial Group, Inc. during the fourth quarter of the fiscal year covered by this report.

Executive Officers of the Registrant

        The following information is furnished with respect to each of theour executive officers, of the Company, each of whom is elected by and serves at the pleasure of the Board of Directors.

        J. Barry Griswell, 57,59, has been a Director of the Company since 2001 and of Principal Life since 1998, Chairman of the Board of Directors of the Company and Principal Life since January 1, 2002. Prior to his retirement as an employee of the Company on December 31, 2008, Mr. Griswell was Chairman of the Company and Principal Life since May 2008; Chairman and Chief Executive Officer of the Company and Principal Life since 2002, a director of the Company since 2001,from June 2006 until April 2008 and a Principal Life director since 1998. Prior thereto, he had beenChairman, President of the Company from April 2001 until June 2006,and Chief Executive Officer of the Company since April 2001, and President and Chief Executive Officer of Principal Life since January 2000. He is a Chartered Life Underwriter, a Chartered Financial Consultant and a LIMRA Leadership Institute Fellow.from 2002 until May 2006. Mr. Griswell currently serves as President of The Community Foundation of Greater Des Moines. Mr. Griswell is also a director of Herman Miller, Inc., a public company that is an office furnishings designer and manufacturer. He is Chairman of the Board and Chair of the Board's Executive Committee.

        John E. Aschenbrenner, 57,59, who heads the Life and Health Insurance division of our operations, has been President, Insurance and Financial Services, of the Company and of Principal Life since December 2003. Prior to that time, he served as Executive Vice President of the Company since April 2001, and Executive Vice President of Principal Life since January 2000. Mr. Aschenbrenner servesserved as a director of the Principal Mutual Funds.Funds from September 1998 to September 2006.

        Michael H. Gersie, 58,60, has beenwas, until his retirement on December 31, 2008, Executive Vice President of the Company and Principal Life. He served as the Company's Chief Financial Officer of the Company sincefrom April 2001 and Executive Vice Presidentuntil August 2008, and Chief Financial Officer of Principal Life sincefrom January 2000.2000 until August 2008.

        Daniel J. Houston, 4547, heads the Retirement and Investor Services division of our operations. He was named President, Retirement and Investor Services of the Company and of Principal Life in February 2008, and was named Executive Vice President, Retirement and Investor Services, in June 2006. He has served as a Senior Vice President of Principal Life since 2000.


        Ellen Z. Lamale, 53,55, has been Senior Vice President and Chief Risk Officer of the Company and Principal Life since May 2008. Prior to that time, she was Senior Vice President and Chief Actuary of the Company since April 2001 and Senior Vice President and Chief Actuary of Principal Life since June 1999.

        Julia M. Lawler, 47,49, has been Senior Vice President and Chief Investment Officer of the Company and of Principal Life since July 2002. From 2000 - 2002, she was President of the Real Estate Equity Group of Principal Global Investors, LLC. From 1999 - 2000, she was Vice President — Capital Markets.

        Terrance J. Lillis, 56, has been Senior Vice President and Chief Financial Officer of the Company and of Principal Life since August 2008 and Senior Vice President of the Company and Principal Life since May 2008. Prior to that time, he was Chief Financial Officer — Retirement and Investor Services division of Principal Life since December 2001.

James P. McCaughan, 53,55, who heads the Global Asset Management division of our operations, has been President, Global Asset Management of the Company and of Principal Life since December 2003. Prior to that time, he served as Executive Vice President and global head of asset management for the Company and Principal Life since April 2002. From 2000 - 2002, he was CEOChief Executive Officer of the Americas division of Credit Suisse Asset Management in New York, New York.

        Mary A. O'Keefe, 50,52, who heads Corporate Relations and Strategic Development, has been Senior Vice President and Chief Marketing Officer of the Company and Principal Life since February 2005, Senior Vice President of the Company since April 2001, and Senior Vice President of Principal Life since January 1998.

        Gary P. Scholten, 49,51, has been Senior Vice President and Chief Information Officer of the Company and Principal Life since November 2002. From 1998 - 2002, he was Vice President of retail information services of Principal Life.

        Karen E. Shaff,52,54, has been Executive Vice President and General Counsel of the Company and of Principal Life since February 2004. Prior thereto, she was Senior Vice President and General Counsel of the Company since April 2001, and Senior Vice President and General Counsel of Principal Life since January 2000.

        Norman R. Sorensen, 61,63, has been President of Principal International, Inc. since 1998, Executive Vice President, International Asset Accumulation, of the Company and Principal Life since February 2008, Senior Vice President, International Asset Accumulation of the Company, since April 2001, and Senior Vice President of Principal Life since December 1998.

        Larry D. Zimpleman, 55,57, has been a Director of the Company and Principal Life since 2006. He has been Chief Executive Officer and President of the Company and Principal Life since May 2008 and was President and Chief Operating Officer since Juneof the Company and Principal Life from 2006 and heads the Retirement and Investor Services division of our operations.to May 2008. He has beenwas President, Retirement and Investor Services of the Company and of Principal Life sincefrom December 2003. Prior thereto, he2003 through May 2006. Mr. Zimpleman served as head of our International Asset Accumulation business since January 2003, our U. S. Asset Accumulation business since February 2002, and Executive Vice Presidentchairman of the Company and Principal Life since August 2001. Previously, Mr. Zimpleman was Senior Vice



President of Principal Life from June 1999 — August 2001. Mr. Zimpleman serves on the Company's Board and as Chairman of the Boardboard and a director of the Principal Mutual Funds.Funds from December 2001 to December 2008.

PART II


PART II

Item 5.    Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

        Our common stock began trading on the New York Stock Exchange ("NYSE") under the symbol "PFG" on October 23, 2001. Prior to such date, there was no established public trading market for our common stock. On February 20, 2007,11, 2009, there were 494,151458,671 stockholders of record of our common stock.

        The following table presents the high and low prices for our common stock on the NYSE for the periods indicated and the dividends declared per share during such periods.

 
 High
 Low
 Dividends
2006         
 First quarter $50.72 $45.91  
 Second quarter $55.93 $48.51  
 Third quarter $56.47 $52.62  
 Fourth quarter $59.40 $53.75 $0.80

2005

 

 

 

 

 

 

 

 

 
 First quarter $41.96 $37.61  
 Second quarter $42.30 $36.80  
 Third quarter $48.37 $41.80  
 Fourth quarter $52.00 $45.78 $0.65
 
 High Low Dividends 

2008

          
 

First quarter

 $68.94 $47.23   
 

Second quarter

 $59.53 $41.90   
 

Third quarter

 $54.28 $34.80   
 

Fourth quarter

 $45.49 $8.78 $0.45 

2007

          
 

First quarter

 $64.17 $57.87   
 

Second quarter

 $64.92 $56.56   
 

Third quarter

 $63.24 $51.52   
 

Fourth quarter

 $70.85 $60.55 $0.90 

        We declared an annual cash dividend of $0.80$0.45 per common share on November 7, 2006,October 11, 2008, and paid such dividend on December 15, 2006,5, 2008, to stockholders of record on the close of business on November 22, 2006.14, 2008. We declared an annual cash dividend of $0.65$0.90 per common share on November 2, 2005,October 29, 2007, and paid such dividend on December 16, 2005,7, 2007, to stockholders of record on the close of business on November 17, 2005.16, 2007. Future dividend decisions will be based on and affected by a number of factors, including our operating results and financial requirements and the impact of regulatory restrictions. See Item 7,7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources" for a discussion of regulatory restrictions on Principal Life's ability to pay us dividends.



        The following table presents the amount of our share purchase activity for the periods indicated:


Issuer Purchases of Equity Securities

Period

 Total Number of Shares (or Units) Purchased(1)
 Average Price Paid per Share (or Unit)
 Total Number of Shares (or Units) Purchased as Part of Publicly Announced Plans or Programs
 Maximum Number (or Approximate Dollar Value) of Shares (or Units) that May Yet Be Purchased Under the Plans or Programs (in millions) (2)(3)(4)
January 1, 2006 - January 31, 2006 886,250 $47.19 886,200 $208.2
February 1, 2006 - February 28, 2006 824,276 $48.14 814,895 $169.0
March 1, 2006 - March 31, 2006 1,672,028 $49.06 1,655,200 $87.7
April 1, 2006 - April 30, 2006 1,102,043 $49.58 1,102,000 $33.1
May 1, 2006 - May 31, 2006 8,296,702 $64.26(3)8,296,702 $
June 1, 2006 - June 30, 2006  $  $
July 1, 2006 - July 31, 2006  $  $
August 1, 2006 - August 31, 2006  $  $
September 1, 2006 - September 30, 2006 84,406 $53.59  $
October 1, 2006 - October 31, 2006 218 $52.25  $
November 1, 2006 - November 30, 2006 1,664,568 $(3)1,664,568 $250.0
December 1, 2006 - December 31, 2006  $  $250.0
  
    
   
Total 14,530,491    14,419,565   
  
    
   
Period Total Number
of Shares
(or Units)
Purchased(1)
 Average
Price Paid
per Share
(or Unit)
 Total Number
of Shares
(or Units)
Purchased as Part
of Publicly
Announced Plans
or Programs
 Maximum Number (or
Approximate Dollar Value)
of Shares (or Units) that
May Yet Be Purchased
Under the Plans or
Programs (in millions)
(2)
 

January 1, 2008 — January 31, 2008

  901,207 $0.03(2) 900,831 $250.0 

February 1, 2008 — February 29, 2008

  102,476 $58.42   $250.0 

March 1, 2008 — March 31, 2008

  881 $55.21   $250.0 

April 1, 2008 — April 30, 2008

  766 $57.07   $250.0 

May 1, 2008 — May 31, 2008

   $   $250.0 

June 1, 2008 — June 30, 2008

  720 $55.48   $250.0 

July 1, 2008 — July 31, 2008

  2,188 $45.16   $250.0 

August 1, 2008 — August 31, 2008

  3,198 $42.16   $250.0 

September 1, 2008 — September 30, 2008

  759 $45.35   $250.0 

October 1, 2008 — October 31, 2008

  519 $22.61   $250.0 

November 1, 2008 — November 30, 2008

  398 $45.79   $250.0 

December 1, 2008 — December 31, 2008

  434 $13.81   $250.0 
            

Total

  1,013,546     900,831    
            

(1)
The number of shares includes shares of common stock utilized to execute certain stock incentive awards in 2006: 502008: 376 shares in January, 9,381102,476 shares in February, 16,828881 shares in March, 43766 shares in April, 84,406720 shares in June, 2,188 shares in July, 3,198 shares in August, 759 shares in September, and 218519 shares in October.October, 398 shares in November and 434 shares in December.

(2)
InDuring November 2005,2007, our Board of Directors authorized a repurchase program of up to $250.0 million of our outstanding common stock. On May 18, 2006, the program announced in November 2005 was completed.

(3)
In May 2006, our Board of Directors authorized ashare repurchase program of up to $500.0 million of our outstanding common stock. WeOn November 30, 2007, we entered into an accelerated common stock repurchase agreement with a third party investment bank for an aggregate purchase price of $250.0 million. On this date, we paid $500.0$250.0 million and received the initial delivery of 7.72.9 million common shares, while retaining the right to receive additional common shares depending on the volume weighted average shareweighted-average price offor our common stock over the program's duration.execution period. The program was completed in November 2006. Under this program,January 2008, at which time we purchased 9.3received 0.9 million additional common shares at an average price of $53.59.

(4)
On November 28, 2006, our Board of Directors authorized a repurchase program of up to $250.0 million of our outstanding common stock.under this agreement. As of December 31, 2006, no2008, $250.0 million remained under the November 2007 authorization. In the fourth quarter of 2008, we suspended purchases have been madeof the remaining $250.0 million available under this program.the November 2007 authorization.


Item 6.    Selected Financial Data

        The following table sets forth certain selected historical consolidated financial information of Principal Financial Group, Inc.PFG. We derived the consolidated financial information (except for amounts referred to as "Other Supplemental Data") for each of the years ended December 31, 2006, 20052008, 2007 and 20042006 and as of December 31, 20062008 and 20052007 from our audited consolidated financial statements and notes to the financial statements included in this Form 10-K. We derived the consolidated financial information (except for amounts referred to as "Other Supplemental Data") for the years ended December 31, 20032005 and 20022004 and as of December 31, 2004, 20032006, 2005 and 20022004 from our audited consolidated financial statements not included in this Form 10-K. The following summary of consolidated financial information (except for amounts referred to as "Other Supplemental Data") has been prepared in accordance with U.S. GAAP.


        In order to fully understand our consolidated financial information, you should also read Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations" and our audited consolidated financial statements and the notes to the financial statements included in this Form 10-K. The results for past accounting periods are not necessarily indicative of the results to be expected for any future accounting period.

 
 As of or for the year ended December 31,
 
 
 2006(1)
 2005(1)
 2004(1)
 2003
 2002
 
 
 ($ in millions, except per share data and as noted)

 
Income Statement Data:                
Revenues:                
 Premiums and other considerations $4,305.3 $3,975.0 $3,710.0 $3,630.7 $3,877.8 
 Fees and other revenues  1,902.5  1,717.8  1,491.7  1,196.5  954.2 
 Net investment income  3,618.0  3,360.1  3,224.0  3,229.4  3,173.1 
 Net realized/unrealized capital gains (losses)  44.7  (11.2) (104.8) (63.2) (374.1)
  
 
 
 
 
 
  Total revenues $9,870.5 $9,041.7 $8,320.9 $7,993.4 $7,631.0 
  
 
 
 
 
 
Income from continuing operations, net of related income taxes $1,033.7 $891.5 $700.9 $644.7 $446.4 
Income (loss) from discontinued operations, net of related income taxes(2)  30.6  27.5  130.4  105.0  (23.2)
  
 
 
 
 
 
Income before cumulative effect of accounting changes  1,064.3  919.0  831.3  749.7  423.2 
Cumulative effect of accounting changes, net of related income taxes(3)      (5.7) (3.4) (280.9)
  
 
 
 
 
 
Net income  1,064.3  919.0  825.6  746.3  142.3 
Preferred stock dividends(4)  33.0  17.7       
  
 
 
 
 
 
Net income available to common stockholders $1,031.3 $901.3 $825.6 $746.3 $142.3 
  
 
 
 
 
 

Earnings per Share Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
Income from continuing operations, net of related income taxes, per share                
 Basic $3.67 $3.03 $2.24 $1.98 $1.27 
 Diluted $3.63 $3.01 $2.23 $1.97 $1.27 
Net income per share:                
 Basic $3.78 $3.13 $2.64 $2.29 $0.41 
 Diluted $3.74 $3.11 $2.62 $2.28 $0.41 
Common shares outstanding at year-end (in millions)  268.4  280.6  300.6  320.7  334.4 
Weighted-average common shares outstanding for the year  272.9  287.9  313.3  326.0  350.2 
Weighted-average common shares and potential common shares outstanding for the year for computation of diluted earnings per share (in millions)  275.5  289.9  314.7  326.8  350.7 
Cash dividends per common share $0.80 $0.65 $0.55 $0.45 $0.25 

Balance Sheet Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
Total assets $143,658.1 $127,035.4 $113,798.1 $107,754.4 $89,870.6 
Long-term debt $1,553.8 $898.8 $843.5 $1,374.3 $1,332.5 
Series A preferred stock $ $ $ $ $ 
Series B preferred stock  0.1  0.1       
Common stock  3.8  3.8  3.8  3.8  3.8 
Additional paid-in capital  8,141.8  8,000.0  7,269.4  7,153.2  7,106.3 
Retained earnings  2,824.1  2,008.6  1,289.5  630.4  29.4 
Accumulated other comprehensive income  846.9  994.8  1,313.3  1,171.3  635.8 
Treasury stock, at cost  (3,955.9) (3,200.1) (2,331.7) (1,559.1) (1,118.1)
  
 
 
 
 
 
Total stockholders' equity $7,860.8 $7,807.2 $7,544.3 $7,399.6 $6,657.2 
  
 
 
 
 
 
 
 As of or for the year ended December 31, 
 
 2008(1) 2007(1) 2006(1) 2005 2004 
 
 ($ in millions, except per share data and as noted)
 

Income Statement Data:

                

Revenues:

                
 

Premiums and other considerations

 $4,209.2 $4,634.1 $4,305.3 $3,975.0 $3,710.0 
 

Fees and other revenues

  2,426.5  2,634.7  1,902.5  1,717.8  1,491.7 
 

Net investment income

  3,994.3  3,966.5  3,620.6  3,358.0  3,223.6 
 

Net realized capital gains (losses)

  (694.1) (328.8) 44.7  (11.2) (104.8)
            
  

Total revenues

 $9,935.9 $10,906.5 $9,873.1 $9,039.6 $8,320.5 
            

Income from continuing operations, net of related income taxes

 $458.1 $840.1 $1,035.4 $890.2 $700.6 

Income from discontinued operations, net of related income taxes(2)

    20.2  28.9  28.8  130.7 
            

Income before cumulative effect of accounting change

  458.1  860.3  1,064.3  919.0  831.3 

Cumulative effect of accounting change, net of related income taxes

          (5.7)
            

Net income

  458.1  860.3  1,064.3  919.0  825.6 

Preferred stock dividends(3)

  33.0  33.0  33.0  17.7   
            

Net income available to common stockholders

 $425.1 $827.3 $1,031.3 $901.3 $825.6 
            

Earnings per Common Share Data:

                

Income from continuing operations, net of related income taxes, per share:

                
 

Basic

 $1.64 $3.04 $3.67 $3.03 $2.24 
 

Diluted

 $1.63 $3.01 $3.64 $3.01 $2.23 

Net income per share:

                
 

Basic

 $1.64 $3.12 $3.78 $3.13 $2.64 
 

Diluted

 $1.63 $3.09 $3.74 $3.11 $2.62 

Common shares outstanding at year-end (in millions)

  259.3  259.1  268.4  280.6  300.6 

Weighted-average common shares outstanding for the year (in millions)

  259.3  265.4  272.9  287.9  313.3 

Weighted-average common shares and potential common shares outstanding
for the year for computation of diluted earnings per share (in millions)

  261.1  268.1  275.5  289.9  314.7 

Cash dividends per common share

 $0.45 $0.90 $0.80 $0.65 $0.55 


 As of or for the year ended December 31,

 2006(1)
 2005(1)
 2004(1)
 2003
 2002
 As of or for the year ended December 31, 

 ($ in millions, except as noted)

 2008(1) 2007(1) 2006(1) 2005 2004 

 ($ in millions, except as noted)
 

Balance Sheet Data:

 

Total assets

 $128,182.4 $154,520.2 $143,658.1 $127,035.4 $113,798.3 

Long-term debt

 
$

1,290.5
 
$

1,398.8
 
$

1,511.3
 
$

855.7
 
$

799.8
 

Series A preferred stock

 
$

 
$

 
$

 
$

 
$

 

Series B preferred stock

 0.1 0.1 0.1 0.1  

Common stock

 3.9 3.9 3.8 3.8 3.8 

Additional paid-in capital

 8,376.5 8,295.4 8,141.8 8,000.0 7,269.4 

Retained earnings

 3,722.5 3,414.3 2,824.1 2,008.6 1,289.5 

Accumulated other comprehensive income (loss)

 (4,911.6) 420.2 846.9 994.8 1,313.3 

Treasury stock, at cost

 (4,718.6) (4,712.2) (3,955.9) (3,200.1) (2,331.7)
           

Total stockholders' equity

 $2,472.8 $7,421.7 $7,860.8 $7,807.2 $7,544.3 
           
Other Supplemental Data:           
Assets under management ($in billions) $256.9 $195.2 $167.0 $144.3 $110.5

AUM ($ in billions)

 $247.0 $311.1 $256.9 $195.2 $167.0 
Number of employees (actual) 15,289 14,507 13,976 14,976 15,038 16,234 16,585 15,289 14,507 13,976 

(1)
For a discussion of items materially affecting the comparability of 2006, 2005,2008, 2007 and 2004,2006, please see Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations — Transactions Affecting Comparability of Results of Operations."

(2)
See Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 3, Discontinued Operations" for a description of our discontinued operations.operations for 2007 and 2006. For each of the years ended December 31, 2005 and 2004, income from discontinued operations related to our sale of Principal Residential Mortgage, Inc. and operating revenues of real estate properties that qualify for discontinued operations treatment. In addition, discontinued operations for the year ended December 31, 2004, includes the impact of the sale of our Argentine companies in 2004.

(3)
See Item 8. "Financial Statements and Supplementary Data — Notes to Consolidated Financial Statements, Note 1, Nature of Operations and Significant Accounting Policies" for a description of recent accounting changes.

(4)
On June 16, 2005, we issued 13.0 million shares of non-cumulative perpetual preferred stock under our shelf registration.stock. We declared preferred stock dividends of $33.0 million in 2008, 2007 and 2006 and $17.7 million in 2006 and 2005, respectively.2005.


Item 7.    Management's Discussion and Analysis of Financial Condition and Results of Operations

        The following analysis discusses our financial condition as of December 31, 2006,2008, compared with December 31, 2005,2007, and our consolidated results of operations for the years ended December 31, 2006, 20052008, 2007 and 2004,2006, and, where appropriate, factors that may affect our future financial performance. The discussion should be read in conjunction with our audited consolidated financial statements and the related notes to the financial statements and the other financial information included elsewhere in this Form 10-K.

Forward-Looking Information

        Our narrative analysis below contains forward-looking statements intended to enhance the reader's ability to assess our future financial performance. Forward-looking statements include, but are not limited to, statements that represent our beliefs concerning future operations, strategies, financial results or other developments, and contain words and phrases such as "anticipate," "believe," "plan," "estimate," "expect," "intend," and similar expressions. Forward-looking statements are made based upon management's current expectations and beliefs concerning future developments and their potential effects on us. Such forward-looking statements are not guarantees of future performance.

        Actual results may differ materially from those included in the forward-looking statements as a result of risks and uncertainties. Those risks and uncertainties including,include, but are not limited to the following: (1) a decline or increased volatilityrisk factors listed in the securities markets could result in investors withdrawing from the markets or decreasing their rates of investment, either of which could reduce our net income, revenues and assets under management; (2) our investment portfolio is subject to several risks which may diminish the value of our invested assets and affect our sales, profitability and the investment returns credited to our customers; (3) competition from companies that may have greater financial resources, broader arrays of products, higher ratings and stronger financial performance may impair our ability to retain existing customers, attract new customers and maintain our profitability; (4) a downgrade in any of our ratings may increase policy surrenders and withdrawals, reduce new sales and terminate relationships with distributors, and impact existing liabilities, any of which could adversely affect our profitability and financial condition; (5) our efforts to reduce the impact of interest rate changes on our profitability and surplus may not be effective; (6) if we are unable to attract and retain sales representatives and develop new distribution sources, sales of our products and services may be reduced; (7) our international businesses face political, legal, operational and other risks that could reduce our profitability in those businesses; (8) our reserves established for future policy benefits and claims may prove inadequate, requiring us to increase liabilities; (9) our ability to pay stockholder dividends and meet our obligations may be constrained by the limitations on dividends Iowa insurance laws impose on Principal Life; (10) the pattern of amortizing our DPAC on our SFAS 97 products may change, impacting both the level of the asset and the timing of our operating earnings; (11) we may need to fund deficiencies in our Closed Block assets; (12) a pandemic, terrorist attack, or other catastrophic event could adversely affect our earnings; (13) our reinsurers could default on their obligations or increase their rates, which could adversely impact our earnings and profitability (14) we may encounter difficulty integrating WM Advisors, Inc. and may incur substantial costs in connection with the integration; (15) changes in laws, regulations or accounting standards may reduce our profitability; (16) litigation and regulatory investigations may affect our financial strength or reduce our profitability; (17) fluctuations in foreign currency exchange rates could reduce our profitability; and (18) applicable laws and our stockholder rights plan, certificate of incorporation and by-laws may discourage takeovers and business combinations that our stockholders might consider in their best interests.Item 1A. "Risk Factors."

Overview

        We provide financial products and services through the following reportable segments:


        Our historical results contained a Mortgage Banking segment, which engaged in originating, purchasing, selling and servicing residential mortgage loans in the U.S. On July 1, 2004, we closed the sale of Principal Residential Mortgage, Inc. to CitiMortgage, Inc., described further in "Transactions Affecting Comparability of Results of Operations."

Economic Factors and Trends

        Modest resultsThe significant decline in the equity markets along with an increase induring 2008, which was partially offset by positive net cash flow haveflows, has led to increasesdecreases in asset accumulation'sour U.S. Asset Accumulation segment's account values and our asset management's assets under management.Global Asset Management segment's AUM. Since account values and AUM are the base by which these businesses generate profits, the decline in account values and AUM has put pressure on our profits. In addition, the credit market disruptions in 2008 resulted in an increase in our realized capital losses, which are reflected in net income, and unrealized capital losses, which are reflected in accumulated other comprehensive income.

        In our International Asset Management and Accumulation segment, we continued to grow our existing business through organic growth in our existing subsidiaries and a combination ofthrough new joint ventures and strategic acquisitions. Additionally, the global credit market disruptions, market illiquidity, and foreign currency depreciation during the second half of 2008 resulted in a decrease in our International Asset Management and Accumulation segment's AUM and an increase in our unrealized capital losses, which are reflected in accumulated other comprehensive income.


        OverIn our Life and Health segment, we continue to shift the past few years, we have shifted our marketing emphasis of our individual life insurance business to universal and variable universal life insurance products from traditional life insurance productsproducts. In our health insurance and fee-for-service businesses we continue to experience membership declines due to lower sales and higher lapses. Our specialty benefits insurance business is experiencing a slowdown in growth relative to prior years due to a combination of lower sales and higher lapses, as well as reduced growth in salaries and the number of covered lives of our Lifeexisting customers. This slowdown is a direct reflection of the increasingly competitive marketplace and Health segment. We are alsoeconomic pressures facing our customers.

        Given the aforementioned market conditions, and our expectation that these very challenging financial and operating conditions, which have continued into 2009, will not improve significantly in the early stagesshort term, we have built additional liquidity by increasing cash and cash equivalent holdings. Currently, new cash inflows are primarily being invested in cash, short-term government-backed securities and other liquid investments. As a result of aincreased cash holdings, current yields will be lower than historically experienced. This trend toward voluntary products sponsored by employers.is expected to continue as long as market conditions remain strained and we continue to invest new cash inflows in cash and liquid investments.

Profitability

        Our profitability depends in large part upon our:

Critical Accounting Policies and Estimates

        The increasing complexity of the business environment and applicable authoritative accounting guidance requires us to closely monitor our accounting policies. Our significant accounting policies are described in Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 1, Nature of Operations and Significant Accounting Policies".Policies." We have identified fiveseven critical accounting policies that are complex and require significant judgment and estimates about matters that are inherently uncertain. A summary of our critical accounting policies is intended to enhance the reader's ability to assess our financial condition and results of operations and the potential volatility due to changes in estimates and changes in guidance. The identification, selection and disclosure of critical accounting estimates and policies have been discussed with the Audit Committee of the Board of Directors.

Valuation and Impairment of Invested AssetsFixed Income Investments

        Fixed Maturities, Available-for-Sale.    Fixed maturity securities include bonds, mortgage-backed securities and redeemable preferred stock. We classify our fixed maturity securities as either available-for-sale or trading and, accordingly, carry them at fair value in the statementconsolidated statements of financial position. The fair values of our public fixed maturity securities are primarily based on quoted market prices or estimates from independent pricing services. However, 23%In addition, 21% of our invested asset portfolio is invested in fixed maturity securities that are private market assets, where there are no readily available market quotes to determine the fair market value. TheseThe majority of these assets are valued using a spread pricing matrix.matrix that utilizes observable market inputs. Securities are grouped into pricing categories that vary by asset class, sector, rating and average life. Each pricing category is assigned a risk spread based on studies of observable public market data or market clearing data from the investment professionals assigned to specific security classes. The expected cash flows of the security are then discounted back at the current Treasury curve plus the appropriate risk spread. Although the matrix valuation approach provides a fair valuation of each pricing category, the valuation of an individual security within each pricing category may actually be impacted by company specific factors. Certain market events that could impact the valuation of securities include issuer credit ratings, business climate, management changes, litigation and government actions among others. An interest

        Over the past several months, we have seen credit market disruption as the result of widening spreads and illiquid markets. Structured investment transactions where we rely on broker quotes have been particularly impacted given the thinly traded markets (approximately 1% of the fixed maturity securities portfolio). We have received broker quotes that are outside a normal range for historical spreads and, in our view, are generally conservative given the quality of the



underlying cash flows. Analysis has been performed to reconcile these external values to our view of the transaction. In certain circumstances, we have used our internal models in lieu of external values, as we have determined the internal value better reflects fair value.

        A rate increase inbased on the rangecombined movement of 20 tointerest rates and credit spreads of 100 basis points while holding credit spreads constant, produceswould produce a total valuesvalue of $38.1 billion and $36.7approximately $33.7 billion, as compared to the recorded amount of $38.5$35.1 billion related to our fixed maturity, available-for-sale


assets held by the Principal Life general account as of December 31, 2006. This portfolio has2008. Given the recent unprecedented market disruption, a weighted average life of 7 years. An analysis of historical changes100 basis point movement in the 7-year Treasurycombined portfolio rate supports our belief that an interest rate change of 20 to 100 basis points is reasonably likely.

        Investments classified as available-for-sale are subject to impairment reviews. When evaluating a fixed maturity security for impairment, we consider relevant facts and circumstances in evaluating whether thea credit or interest-related impairment is other than temporary. Relevant facts and circumstances considered include: (1) the extent and length of time the fair value has been below cost; (2) the reasons for the decline in value; (3) the financial position and access to capital of the issuer, including the current and future impact of any specific events;events and (4) our ability and intent to hold the security for a period of time that allows for the recovery of value which, in some cases, may extend to maturity. When it is determined that the decline in value is other than temporary the carrying value of the security is reduced to its fair value, with a corresponding charge to net income. The corresponding charge is referred to as an other-than-temporary impairment and is reported as a net realized/unrealized capital loss in our consolidated statement of operations.

        There are a number of significant risks and uncertainties inherent in the process of monitoring impairments and determining if an impairment is other than temporary. These risks and uncertainties include: (1) the risk that our assessment of an issuer's ability to meet all of its contractual obligations will change based on changes in the credit characteristics of that issuer; (2) the risk that the economic outlook will be worse than expected or have more of an impact on the issuer than anticipated; (3) the risk that our investment professionals are making decisions based on fraudulent or misstated information in the financial statements provided by issuers;issuers and (4) the risk that new information obtained by us or changes in other facts and circumstances lead us to change our intent to hold the security until it recovers in value. Any of these situations could result in a charge to net income in a future period. At December 31, 2006,2008, we had $16,464.3$31,428.4 million in available-for-sale fixed maturity securities with gross unrealized losses totaling $308.5$8,317.3 million. Included in the gross unrealized losses are losses attributable to both movements in market interest rates as well as temporarymovement in credit issues.spreads. Net income would be reduced by approximately $308.5$8,317.3 million, on a pre-tax basis, if all the securities in an unrealized loss position were deemed to be other than temporarily impaired.

        Mortgage Loans.    Mortgage loans consist primarily of commercial mortgage loans on real estate. At December 31, 2006,2008, commercial mortgage loans aggregated to $10,090.3$11,279.3 million. Commercial mortgage loans are generally reported at cost adjusted for amortization of premiums and accrual of discounts, computed using the interest method and net of valuation allowances. Commercial mortgage loans held for sale are carried at the lower of cost or fair value, less cost to sell, and reported as mortgage loans in the statements of financial position.

        Commercial mortgage loans on real estate are considered impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due according to contractual terms of the loan agreement. When we determine that a loan is impaired, a valuation allowanceloss is establishedrecognized for the difference between the carrying amount of the mortgage loan and the estimated value. Estimated value is based on either the present value of the expected future cash flows discounted at the loan's effective interest rate, the loan's observable market price or fair value of the collateral. The change in valuation allowance is reported as a net realized/unrealized capital loss on our consolidated statements of operations.

        The determination of the calculation and the adequacy of the mortgage loan valuation allowance and mortgage impairments are subjective. Our periodic evaluation and assessment of the adequacy of the mortgage loan valuation allowance for losses and the need for mortgage impairments is based on known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay, the estimated value of the underlying collateral, composition of the loan portfolio, current economic conditions, loss experience and other relevant factors. The calculation for determining loan specificmortgage impairment amounts is also subjective,includes additional subjectivity, as it requires estimating the amounts and timing of future cash flows expected to be received on specific impaired loans. OurThus, our financial position is sensitive to changes in estimated cash flows from mortgages, the value of the collateral and changes in the economic environment in general. The total valuation allowance for losses can be expected to increase when economic conditions worsen and decrease when economic conditions improve.

        We have a large experienced commercial real estate staff centrally located in Des Moines, which includes commercial mortgage underwriters, loan closers, loan servicers, engineers, appraisers, credit analysts, research staff, legal staff, information technology personnel and portfolio managers. Experienced commercial real estate senior management adheres to a disciplined process in reviewing all transactions for approval on a consistent basis. The typical commercial mortgage loan for us averages in the upper 50 percent loan-to-value range at origination with a net operating income coverage ratio of 1.7 times the annual debt service and is internally rated A on a bond equivalent basis. Based on the most recent analysis, our commercial mortgage portfolio has an overall loan-to-value ratio of 62% with a 1.8 times debt service coverage. The large equity cushion and strong debt service coverage in our commercial mortgage investments will help insulate us from stress during times of weak commercial real estate fundamentals.


Derivatives

        We primarily use derivatives to hedge or reduce exposure to market risks. The fair values of derivative instruments are determined using either pricing valuation models that utilize market observable inputs or broker quotes. The valuation models consider projected discounted cash flows, relevant swap curves and appropriate implied volatilities. Additionally, we issue certain annuity contracts and other insurance contracts and have certain other obligations that include embedded derivatives that have been bifurcated from the host contract. The fair value of embedded derivatives in annuity contracts and other insurance contracts is calculated based on actuarial and capital market assumptions, including non-performance risk, reflecting the projected cash flows over the life of the contract, and incorporating expected policyholder behavior.

        The accounting for derivatives is complex and interpretations of the applicable accounting standards continue to evolve. Judgment is applied in determining the availability and application of hedge accounting designations and the appropriate accounting treatment. Judgment and estimates are used to determine the fair value of some of our derivatives. Volatility in net income can result from changes in fair value of derivatives that do not qualify or are not designated for hedge accounting and changes in fair value of embedded derivatives.

Deferred Policy Acquisition Costs and Other Actuarial Balances

        Commissions and other costs (underwriting, issuance and agency expenses) that vary with and are primarily related to the acquisition of new and renewal insurance policies and investment contract business are capitalized to the extent recoverable. Maintenance costs and acquisition costs that are not deferrable are charged to operationsnet income as incurred.

        Amortization Based on Estimated Gross Profits.    DPAC for universal life-type insurance contracts, participating life insurance policies and certain investment contracts are amortized over the expected lifetime of the policies in relation to estimated gross profits. In addition to DPAC, the following actuarial balances are also amortized in relation to estimated gross profits or contract assessments.

        At issue and each valuation date, we develop an estimate of the expected future gross profits. These estimated gross profits contain assumptions relating to mortality, morbidity, lapses, investment yield and expenses. As actual experience emerges, the gross profits may vary from those expected either in magnitude or timing, in which case a true-up to actual occurs as a charge or credit to current net income. In addition, we are required to revise our assumptions regarding future experience as soon as the current assumptions are no longer actuarially credible. Both actions, reflecting actual experience and changing future estimates, can change both the current amount and the future amortization pattern of the DPAC asset and related actuarial balances.

        For individual variable life insurance, individual variable annuities and group annuities which have separate account U.S. equity investment options, we utilize a mean reversion methodology (reversion to the mean assumption), a common industry practice, to determine the future domestic equity market growth rate assumption used for the calculation of estimated gross profits. If actual annualized U.S. equity market performance varies from our 8% long-term assumption, we assume different performance levels over the next 30 quarters such that the mean return is equal to the long-term assumption over the mean reversion period. However, our mean reversion process generally limits assumed returns to a range of 4-12% during the mean reversion period. The 12% cap was reached during the third quarter of 2008. Therefore, we will not adjust the equity return assumption by the amount needed to result in a mean return equal to the long-term assumption.


        Internal Replacements.    We review polices for modifications that result in the exchange of an existing contract for a new contract. If the new contract is determined to be an internal replacement that is substantially changed from the replaced contract, any unamortized DPAC and related actuarial balances are written off and acquisition costs related to the new contract are capitalized as appropriate. If the new contract is substantially unchanged, we continue to amortize the existing DPAC and related actuarial balances.

        Recoverability.    DPAC and sales inducement assets are subject to recoverability testing at the time of policy issue and loss recognition testing on an annual basis, or when an event occurs that may warrant loss recognition. Likewise, PVFP is subject to impairment testing on an annual basis, or when an event occurs that may warrant impairment. If loss recognition or impairment is necessary, the asset balances are written off to the extent that it is determined that future policy premiums and investment income or gross profits are not adequate to cover related losses and expenses.

        Sensitivities.    As of December 31, 2008, the net balance of DPAC and related actuarial balances was a $3,164.2 million asset. We perform sensitivity analyses to assess the impact that certain assumptions have on our DPAC and related actuarial balances. The following table shows the estimated immediate impact of various assumption changes on our DPAC and related actuarial balances.

 
 Estimated impact to
net income (1)
 
 
 (in millions)
 

Reducing the future equity return assumption by 1%

 $(8.0)

Reducing the future general account net investment return assumption by 0.5% (2)

 $(48.8)

Removing the mean reversion methodology from the estimated gross profit calculation

 $(17.3)

A one-time, 10% drop in equity market values

 $(11.8)

Increasing all future lapse rate assumptions by 10% of the baseline assumption (3)

 $(24.7)

(1)
Reflects the net impact of changes to the DPAC asset, sales inducement asset, unearned revenue liability, reinsurance asset or liability, PVFP and additional benefit reserves.

(2)
Net investment return represents net investment income plus net realized capital gains (losses).

(3)
This calculation reflects an increase in lapse rates only for products where increasing the lapse rate leads to a write-down of the DPAC asset. Lapse rates were left unchanged for those products where an increase in lapse rates would lead to a write-up of the DPAC asset.

        Amortization Based on Premium-Paying Period.    DPAC of non-participating term life insurance and individual disability insurance policies are amortized over the premium-paying period of the related policies using assumptions consistent with those used in computing policyholder liabilities. Once these assumptions are made for a given policy or group of policies, they will not be changed over the life of the policy.policy unless a loss recognition event occurs. As of December 31, 2008, these policies accounted for less than 10% of our total DPAC balance.

Goodwill and Other Intangible Assets

        DPAC for universal life-type insurance contracts, participating life insurance policiesGoodwill and investment contracts are amortized overother intangibles include the expected lifetimecost of acquired subsidiaries in excess of the policies in relation to the emergence of estimated gross profits.

        At issue and each valuation date, we develop an estimatefair value of the expected future gross profits. These estimated gross profits contain assumptions relating to mortality, morbidity, investment yieldnet tangible assets recorded in connection with acquisitions. Goodwill and expenses. As actual experience emerges, the gross profits may vary from those expected either in magnitude or timing in which case a true-up to actual



occurs as a charge or credit to current operations. In addition, weintangible assets with indefinite lives are required to revise our assumptions regarding future experience as soon as the current assumptionsnot amortized. Rather, they are no longer actuarially credible. Both actions, reflecting actual experience and changing future estimates, can change the amount of the asset and the pattern of future amortization.

        For individual variable annuities and group annuities which have separate account equity investment options, we utilize a mean reversion method (reversion to the mean assumption), a common industry practice, to determine the future domestic equity market growth rate assumption usedtested for the amortization of DPAC. This practice assumes that the expectation for long-term appreciation is not changed by minor short-term market fluctuations.

        DPAC are subject to recoverability testing at the time of policy issue and loss recognition testingimpairment on an annual basis during the fourth quarter each year or when an event occursmore frequently if events or changes in circumstances indicate that may warrant loss recognition.the asset might be impaired. The process of evaluating goodwill and other intangibles with indefinite lives for impairment requires several judgments and assumptions to be made to determine the fair value, including the method used to determine fair value, discount rates, expected levels of cash flows, revenues and earnings, and the selection of comparable companies used to develop market-based assumptions.

        Intangible assets that do not have indefinite lives are amortized as related benefits emerge and are reviewed periodically for indicators of impairment in value. If loss recognitionfacts and circumstances suggest possible impairment, the sum of the estimated undiscounted future cash flows expected to result from the use of the asset is necessary, DPAC are written offcompared to the extent that itcurrent carrying value of the asset. If the undiscounted future cash flows are less than the carrying value, an impairment loss is determined that future policy premiums and investment income or gross profits are not adequate to coverrecognized for the excess of the carrying amount of assets over their fair value. For those products amortized as related losses and expenses.

        The total DPAC asset balance as of December 31, 2006, was $2.4 billion. Based on historical experience, we believe a 1% changebenefits emerge, the most significant assumptions involved in the long-term investment performance rate assumption on separate accountsestimation of future benefits include surrender/lapse rates, interest margins and mortality.

        Despite the challenging economic environment, we did not recognize a material impairment in our DPAC models2008 consolidated statement of operations. Investment management contracts acquired in our 2006 purchase of WM Advisors, Inc. is reasonably likely. Suchthe most material intangible asset included in our 2008 consolidated statement of financial position with a change would cause an estimated $9.2 million change incarrying value of $608.0 million. Higher than expected net cash flows and significantly lower than expected expenses more than offset lower than expected market returns on the DPACunderlying assets acquired. As a result, the fair value of this intangible asset as of December 31, 2006. Also, removing2008, was in excess of its carrying value. Although we did not recognize a material impairment in our 2008 consolidated statement of operations, we cannot predict certain future events that might



adversely affect the mean reversion methodology from the DPAC asset calculation would increase thereported value of goodwill and other intangible assets that totaled $375.5 million and $925.3 million as of December 31, 2006 DPAC balance by $0.8 million.2008, respectively. Such events include, but are not limited to, strategic decisions made in response to economic and competitive conditions, the impact of the economic environment on our customer base, interest rate movements, further declines in the equity markets, the legal environment in which the businesses operate, or a material negative change in our relationships with significant customers. Additional information about impairments is described in Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 4, Goodwill and Other Intangible Assets."

Insurance Reserves

        Reserves are liabilities representing estimates of the amounts that will come due, at some point in the future, to or on behalf of our policyholders. U.S. GAAP, allowing for some degree of managerial judgment, prescribes the methods of establishing reserves.

        Future policy benefits and claims include reserves for traditional individual and group life insurance, accident and health insurance and individual and group annuities that provide periodic income payments, which are computed using assumptions of mortality, morbidity, lapse, investment performance and expense. These assumptions are based on our experience and are periodically reviewed against industry standards to ensure actuarial credibility. For long duration insurance contracts, once these assumptions are made for a given policy or group of policies, they will not be changed over the life of the policy. However, significant changes in experience or assumptions may require us to provide for expected future losses on a product by establishing premium deficiency reserves. Premium deficiency reserves may also be established for short duration contracts to provide for expected future losses. Our reserve levels are reviewed throughout the year using internal analysis including, among other things, experience studies, claim development analysis and annual statutory asset adequacy analysis. To the extent experience indicates potential loss recognition, we recognize losses on certain lines of business. The ultimate accuracy of the assumptions on these long-tailed insurance products cannot be determined until the obligation of the entire block of business on which the assumptions were made is extinguished. Short-term variances of actual results from the assumptions used in the computation of the reserves are reflected in current period net income and can impact quarter-to-quarter net income.

        Future policy benefits and claims also include reserves for incurred but unreported health, disability and life insurance claims. We recognize claims costs in the period the service was provided to our policyowners. However, claims costs incurred in a particular period are not known with certainty until after we receive, process and pay the claims. We determine the amount of this liability using actuarial methods based on historical claim payment patterns as well as emerging medical cost trends, where applicable, to determine our estimate of claim liabilities. We also look back to assess how our prior periods' estimates developed. To the extent appropriate, changes in such development are recorded as a change to current period claim expense. For the years ending 2006, 2005 and 2004,Historically, the amount of the claim reserve adjustment made in that periodsubsequent reporting periods for prior period estimates was within a reasonable range given our normal claim fluctuations.

Benefit Plans

        The reported expense and liability associated with pension and other postretirement benefit plans requires the use of assumptions. Numerous assumptions are made regarding the discount rate, expected long-term rate of return on plan assets, turnover, expected compensation increases, health care claim costs, health care cost trends, retirement rates and mortality. The discount rate and the expected return on plan assets have the most significant impact on the level of cost.

        The assumed discount rate is determined by projecting future benefit payments inherent in the Projected Benefit Obligation and discounting those cash flows using rates baseda spot yield curve known as the Citigroup Pension Discount Curve. This curve is constructed from the Treasury curve by adding option-adjusted spreads that are drawn from the double-A corporate sector of the Salomon Broad Investment-Grade Bond Index. The bonds with excessive call exposure are excluded, as are securities with option-adjusted spreads that are more than two standard deviations away from the preliminary average. The final spreads are determined using this call-protected sample of double-A corporate bonds. Based on the Bloomberg AA Finance yield to maturity curves. For 2006this methodology for 2008 year-end, we set the discount rate at 6.15%.6.00% as compared to 6.30% for 2007 year-end. A 0.25% decrease in the discount rate would increase pension benefits Projected Benefit Obligation ("PBO") and the 20072009 Net Periodic Pension Cost ("NPPC") by approximately $58.9$65.4 million and $8.7$9.7 million, respectively. A 0.25% decrease in the discount rate would increase other post-retirementpostretirement benefits Accumulated Postretirement Benefit Obligation ("APBO") and the 20072009 Net Periodic Benefit Cost ("NPBC") by approximately $8.5$11.8 million and $0.8$1.3 million, respectively. A 0.25% increase in the discount rate would result in decreases in benefit obligations and expenses at a level generally commensurate with thatthose noted above.



        The assumed long-term rate of return on plan assets is set at the long-term rate expected to be earned based on the long-term investment policy of the plans and the various classes of the invested funds. Historical and future expected returns of multiple asset classes were analyzed to develop a risk-free real rate of return and risk premiums for each asset class. The overall long-term rate for each asset class was developed by combining a long-term inflation component, the risk free real rate of return and the associated risk premium. A weighted average rate was developed based on long-term returns for each asset class, the plan's target asset allocation policy and the tax structure of the trusts. For the 20062008 NPPC



and 20062008 NPBC, an 8.25% and 7.3%7.30% weighted average long-term rate of return was used, respectively. For the 20072009 NPPC and 20072009 NPBC, an 8.25%8.00% and 7.3%7.30% weighted average long-term rate of return assumption will be used, respectively. A 0.25% decrease in the assumed long-term rate of return would increase 20072009 NPPC by approximately $3.5$2.5 million and the 20072009 NPBC by approximately $1.2$0.9 million. A 0.25% increase in this rate would result in a decrease to expense at the same levels. The expectedassumed return on plan assets is based on the fair market value of plan assets as of September 30, 2006.December 31, 2008.

        The compensation increase assumption is generally set at a rate consistent with current and expected long-term compensation and salary policy, including inflation.

        Actuarial gains and losses are amortized using a straight-line amortization method over the average remaining service period of employees, which is approximately 98 years for pension costs and approximately 13 years for other postretirement benefit costs.

        Prior service costs are amortized on a weighted average basis over approximately 86 years for both pension and other postretirement benefit costs.

Income Taxes

        We provide for income taxes based on our estimate of the liability for taxes due. Our tax accounting represents management's best estimate of various events and transactions, such as completion of tax audits or establishment of, or changes to, a valuation allowance associated with certain deferred tax assets, which could have an impact onaffect our estimates and effective tax rate in a particular quarter or annual period.

        Inherent in the provision for income taxes are estimates regarding the deductibility of certain items, the timing of income and expense recognition and the current or future realization of capital losses and certain tax credits. The current economic environment has resulted in a significant increase in realized and unrealized losses on our fixed maturity securities. The corresponding deferred tax asset by taxing jurisdiction will more likely than not be fully realized considering our buy-and-hold investment philosophy for securities experiencing unrealized losses and available tax planning strategies that management is willing to implement for securities experiencing realized losses, if necessary. Our tax planning strategy is to sell various appreciated securities and other capital assets that if sold would result in sufficient capital gains to realize the deferred tax assets, thus minimizing the need for a valuation allowance.

        In the event our estimates of the ultimate deductibility of certain items, the timing of the recognition of income and expense or the current or future realization of capital losses and certain tax credits differ from prior estimates due to the receipt of new information, we may be required to significantly change the provision for income taxes recorded in the consolidated financial statements. Any such change could significantly affect the amounts reported in the consolidated financial statements in the year these estimates change. A further significant decline in value of assets incorporated into our tax planning strategies could lead to an increase of our valuation allowance on deferred tax assets having an adverse effect on current and future results.

        In addition, the amount of income taxes paid is subject to audits in various jurisdictions. Tax benefits are recognized for book purposes when the probablemore-likely-than-not threshold is met with regard to the validity of thean uncertain tax position. Once this threshold is met, for each uncertain tax reporting issue,position, we provide for our best estimaterecognize in earnings the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement with the payments to be made toIRS or received from the Internal Revenue Service and other income taxing authorities for audits ongoing or not yet commenced. We had $226.2 million and $251.5 million of current income tax receivables associated with outstanding audits reported as other assets in our consolidated statements of financial position as of December 31, 2008 and 2007, respectively. We believe that we have adequate defenses against, or sufficient provisions for, the contested issues, but final resolution of contested issues could take several years while legal remedies are pursued. Consequently, we do not anticipate the ultimate resolution of audits ongoing or not yet commenced to have a material impact on our net income.

Transactions Affecting Comparability of Results of Operations

Acquisitions

        We acquired the following businesses, among others, during the past three years:

        Morley Financial Services, Inc.    On August 31, 2007, we acquired Morley Financial Services, Inc. ("Morley Financial Services") from Nationwide Mutual Insurance Company, for $75.0 million in cash. Morley Financial Services is a stable value asset manager with approximately $14.0 billion in institutional AUM at the time of purchase. The operations of Morley Financial Services are reported and consolidated in our Global Asset Management segment.

WM Advisors, Inc.    On July 25,December 31, 2006, we announced a definitive agreement to acquireacquired WM Advisors, Inc. ("WM Advisors") and its subsidiaries from Washington Mutual,  Inc. for a total cost of $741.1 million in cash at the time of closing. As of December 31, 2006, WM Advisors, withInc. had approximately $28.0 billion in assets under management, providesAUM and provided investment advisory services to mutual funds, variable trust funds



and asset allocation portfolios to approximately 800,000 shareholder accounts nationwide. We closed the transaction on December 31, 2006, for a total cost of $741.1 million in cash, subject to closing adjustments.. The operations of WM Advisors, Inc. are reported and consolidated in our U.S. Asset Accumulation and Global Asset Management and Accumulation segment.segments.

        Principal Global Services Private LimitedLimited.    In December 2005, we formed Principal Global Services Private Limited ("PGS"), which began operations in Pune, India, as of August 2006. PGS employees perform services for our U.S. operations including claims data entry, 401(k) processing, ITinformation technology ("IT") coding/application development and IT quality assurance. PGS start upstart-up costs arewere reported in our Corporate and Other segment through 2006. Beginning in 2007, expenses will beare allocated to the segments for which services are performed.


        Principal Commercial Funding II.    On October 24, 2005, Principal Real Estate Investors and U.S. Bank National Association announced that they agreed to create Principal Commercial Funding II, a jointly-owned business that will compete in the CMBS market. Principal Real Estate Investors is the real estate investment arm of Principal Global Investors. U.S. Bank National Association is the principal banking subsidiary of U.S. Bancorp. The new company is the CMBS platform for both Principal Real Estate Investors and U.S. Bank National Association and focuses on securitizing commercial mortgages originated by both Principal Real Estate Investors and U.S. Bank National Association on its behalf. Principal Commercial Funding II began operations immediately, and began contributing collateral to securitizations during the first quarter of 2006. The operations of Principal Commercial Funding II are reported in our U.S. Asset Management and Accumulation segment using the equity method of accounting.

        CCB-Principal Asset Management Company, Ltd.    On August 7, 2005, we announced that we entered into a joint venture agreement with China Construction Bank ("CCB") to market mutual funds in the People's Republic of China. We closed the transaction on September 19, 2005 with a 25% ownership in CCB-Principal Asset Management Company, Ltd. The operations of CCB-Principal Asset Management Company, Ltd. are reported in our International Asset Management and Accumulation segment using the equity method of accounting.

        PNB Principal Insurance Advisory Company Pvt. Ltd.    On February 21, 2005, Principal Financial Group (Mauritius) Ltd. ("PFGM") acquired a 26% stake and management control of PNB Principal Insurance Advisory Company Pvt. Ltd. ("PPIAC"), an insurance brokerage company in India. The operations of PPIAC are reported and consolidated in our International Asset Management and Accumulation segment.

        ABN AMRO Trust Services Company.    On December 17, 2004, we entered into a strategic agreement to acquire ABN AMRO Trust Services Company ("Principal Services Trust Company"), the Chicago-based pension and retirement business of ABN AMRO. As of December 31, 2004, Principal Services Trust Company provided full-service defined contribution recordkeeping and investment services in the U.S., administering approximately 280 401(k) plans with more than 120,000 participants, representing $4.0 billion in full-service account values. The transaction closed on December 31, 2004 and the business was fully integrated into full-service accumulation in early 2006.

        Columbus Circle Investors.    On October 14, 2004, we agreed to purchase a 70% interest in Columbus Circle Investors ("Columbus Circle"). The acquisition of Columbus Circle increased our assets under management by $3.9 billion. Columbus Circle has specialized expertise in the management of growth equities. We closed the transaction on January 3, 2005. The operations of Columbus Circle are reported in our U.S. Asset Management and Accumulation segment.

        Principal Fund Management (Hong Kong) Limited.    On January 31, 2004, our wholly owned subsidiary, Principal Asset Management Company (Asia) Limited, purchased a 100% ownership of Dao Heng Fund Management in Hong Kong from Guoco Group Limited ("Guoco"). Effective September 17, 2004, we changed the name of this subsidiary to Principal Fund Management (Hong Kong) Limited. This acquisition increases our presence in the Hong Kong defined contribution pension market and increases the potential of our long-term mutual fund operations. We report these operations in our International Asset Management and Accumulation segment.

Dispositions

        We entered into disposition agreements or disposed of the following businesses, among others, during the past three years:

        Post Advisory Group, LLC.    Effective January 1, 2009, we sold certain asset management contracts within our Post Advisory Group, LLC subsidiary. The transaction does not qualify for discontinued operations treatment under U.S. GAAP. The realized capital gain from the sale, which will be reflected in our Global Asset Management segment, is not material.

        Principal Dental Services, Inc.    Effective July 1, 2006, we sold five dental offices which were substantially all of the assets of Dental Net Group, one component of Principal Dental Services, Inc. The realized gain was reported in our Life and Health segment.

        ING/Principal Pensions Company Ltd.Discontinued Operations.    On May 26, 2005, we announced jointly with our partner, ING, the intent to liquidate the ING/Principal Pensions Company, Ltd. operation in Japan. On December 20, 2005, the liquidation process was completed with a formal liquidation filing to the Japanese corporate registry. The results of ING/Principal Pensions Company Ltd. were reported in our International Asset Management and Accumulation segment.

        Real Estate Investments.    In 2005 and 2006, we sold certain real estate properties previously held for investment purposes. These propertiesFor divestitures that qualify for discontinued operations treatment; therefore, the income from discontinued operations has been removed from our results of continuing operations for all periods presented. The gains on disposal are reported as other after-tax adjustments in our Corporatetreatment, see Item 8. "Financial Statements and Other segment. All assets, including cash, and liabilities of the discontinued operations have been reclassifiedSupplementary Data, Notes to separate discontinued asset and liability line items on the consolidated statements of financial position. We have separately disclosed the operating, investing and financing portions of the cash flows attributable to our discontinued operations in our consolidated statements of cash flows.Consolidated Financial Statements, Note 3, Discontinued Operations."

        The properties were sold to take advantage of positive real estate market conditions in specific geographic locations and to further diversify our real estate portfolio.Other



        Selected financial information for the discontinued operations related to our real estate investments is as follows:

 
 December 31,
 
 2006
 2005
 
 (in millions)

Assets     ��
Real estate $ $99.3
All other assets    3.9
  
 
 Total assets $ $103.2
  
 

Liabilities

 

 

 

 

 

 
All other liabilities $ $4.5
  
 
 Total liabilities $ $4.5
  
 
 
 For the year ended December 31,
 
 2006
 2005
 2004
 
 (in millions)

Total revenues $(0.5)$2.8 $2.5
  
 
 
Income from discontinued operations:         
 Income (loss) before income taxes $(0.5)$2.8 $2.5
 Income taxes (benefits)  (0.2) 1.0  0.9
 Gain on disposal of discontinued operations  47.5  34.3  
 Income taxes on disposal  16.6  12.0  
  
 
 
Net income $30.6 $24.1 $1.6
  
 
 

        Principal International Argentina S.A.Commercial Mortgage Securities Issuance Operation.    On July 2, 2004,During the third quarter of 2008, we closed the sale of PI Argentina, our subsidiary in Argentina, and its wholly owned subsidiaries, Principal Life Compañímade a de Seguros, S.A. and Principal Retiro Compañía de Seguros de Retiro, S.A. Our total after-tax proceeds from the sale were approximately U.S. $29.2 million.

        The decision to sell PI Argentina was made with a view toward focusingterminate our resources, executing in core strategic priorities and markets and meeting stockholders expectations. Changing market dynamics since the 2001 economic crisis in Argentina led us to conclude that the interests of our stockholders would best be served by our exit of this market.

        PI Argentina qualified for discontinued operations treatment, therefore, the income from discontinued operations has been removed from our results of continuing operations and segment operating earnings for all periods presented in our International Asset Management and Accumulation segment. We have separately disclosed the operating, investing and financing portions of the cash flows attributable to our discontinued operations in our consolidated statements of cash flows.

        Selected financial information for the discontinued operations of PI Argentina is as follows:

 
 For the year ended December 31,
 
 
 2006
 2005
 2004
 
 
 (in millions)

 
Total revenues $ $ $5.8 
  
 
 
 
Income from discontinued operations:          
 Income before income taxes(1) $ $ $0.3 
 Income taxes(1)      0.1 
 Loss on disposal of discontinued operations      (15.9)
 Income tax benefits on disposal      (25.7)
  
 
 
 
Net income $ $ $10.0 
  
 
 
 

(1)
The 2004 summary results of operations information is for the six months ended prior to the July 2, 2004, sale of PI Argentina and, accordingly, there is no statement of operations data to present subsequent to the date of the sale.

        Principal Residential Mortgage, Inc.    On July 1, 2004, we closed the sale of Principal Residential Mortgage, Inc. to CitiMortgage, Inc. Our total after-tax proceeds from the sale were approximately $620.0 million. Our Mortgage Banking segment,commercial mortgage securities issuance operation which includes Principal Residential Mortgage, Inc., is accounted for as a discontinued operation, and therefore, the income from discontinued operations (excluding corporate overhead) has been removed from our results of continuing operations and segment operating earnings for all periods presented. We have separately disclosed the operating, investing and financing portions of the cash flows attributable to our discontinued operations in our consolidated statements of cash flows. Corporate overhead allocated to our Mortgage Banking segment does not qualify for discontinued operations treatment and isunder U.S. GAAP. Therefore, the results of the terminated commercial mortgage securities issuance operation are still included in our resultsconsolidated income from continuing operations.

        As a result of continuing operations andour decision to terminate our commercial mortgage securities issuance operation, amounts previously included in our Global Asset Management segment operating earnings related to this operation have been removed from operating earnings for all periods prior to July 1, 2004.

        The decision to sell Principal Residential Mortgage, Inc. was made with a view toward intensifying our strategic focus on our core retirementpresented and risk protection businessare reported as well as achieving our longer-term financial objectives. In addition, the sale was also viewed as a positive move for our stockholders as it allows us to move forward from an improved capital position, with better financial flexibilityother after-tax adjustments. Our commercial mortgage securities issuance operation had operating revenues of $(32.2) million, $30.1 million and greater stability of earnings.

        Selected financial information$60.6 million for the discontinued operationsyears ended December 31, 2008, 2007 and 2006, respectively and after-tax operating earnings (losses) of our Mortgage Banking segment is as follows:

 
 For the year ended December 31,
 
 
 2006
 2005
 2004
 
 
 (in millions)

 
Total revenues $ $ $446.1 
  
 
 
 
Loss from continuing operations, net of related income taxes (represents corporate overhead) $ $ $(10.3)
Income (loss) from discontinued operations          
 Income before income taxes      48.3 
 Income taxes      18.3 
 Gain (loss) on disposal of discontinued operations    (1.7) 134.7 
 Income taxes relating to the disposal of discontinued operations    3.3  42.4 
  
 
 
 
 Income (loss) from discontinued operations, net of related income taxes    (5.0) 122.3 
  
 
 
 
Net income (loss) $ $(5.0)$112.0 
  
 
 
 

(1)
The 2004 summary results of operations information is$(28.1) million, $5.7 million and $28.7 million for the six monthsyears ended prior to the July 1, 2004, sale of Principal Residential Mortgage, Inc.December 31, 2008, 2007 and accordingly, there is no statement of operations data to present subsequent to the date of the sale.
2006, respectively.

        Our U.S.        SBB Mutual Berhad and SBB Asset Management and Accumulation segment held residential mortgage banking escrow deposits (reported as other liabilities) as of December 31, 2003. The purchaser (or acquirer) closed out the banking escrow deposit accountsSdn Bhd.    On February 5, 2007, we invested an additional RM$192.4 million Malaysian ringgits ("RM$") (approximately U.S. $55.1 million) to retain our 40% ownership interest in CIMB-Principal, our joint venture company in Malaysia, as a result of its decision to purchase the sale. U.S.mutual fund and asset management companies of the former Southern Bank Bhd ("SBB") Mutual Berhad and SBB Asset Management and Accumulation total revenues from this arrangement reclassified to discontinued operations for the year ended December 31, 2004 was $(5.6) million. Loss from discontinued operations net of related income taxes, for the year ended December 31, 2004, was $3.5 million.

        BT Financial Group.    On October 31, 2002, we sold substantially all of BT Financial Group to Westpac. Our total after-tax proceeds from the sale were approximately U.S. $900.0 million. This amount includes cash proceeds from Westpac, tax benefits and a gain from unwinding the hedged asset associated with our investment in BT Financial Group.Sdn Bhd.

        The decision to sell BT Financial Group was made with a view toward focusing our resources, executing on core strategic priorities and meeting stockholder expectations. Changing market dynamics since our acquisition of BT Financial Group, including industry consolidation, led us to conclude that the interests of BT Financial Group clients and staff would be best served under Westpac's ownership.

        Changes to the loss on discontinued operations due to the close of a tax audit resulted in an increase to net income of $8.4 million in 2005. We have separately disclosed the operating, investing and financing portions of the cash flows attributable to our discontinued operations in our consolidated statements of cash flows.

Other

        Principal Reinsurance Company of Vermont.    In November 2006, Principal Life established a wholly owned reinsurance subsidiary, Principal Reinsurance Company of Vermont, which reinsures a portion of our universal life "secondary" or "no-lapse" guarantee provisions through an intercompany reinsurance agreement with Principal Life. The transaction, which was accompanied with a third party letter of credit issued to PVT and guaranteed by PFG, reduced our statutory capital requirements and allowed us to redeploy capital for other general corporate purposes.


        Senior Note Issuance.    On October 16 and December 5,During fourth quarter 2006, we issued $500.0$600.0 million and $100.0 million, respectively, of senior notes from our shelf registration, which was filed with the SEC in December 2003.notes. The notes will bear interest at a rate of 6.05% per year. Interest on the notes is payable semi-annually on April 15 and October 15, beginningand began on April 15, 2007. The notes will mature on October 15, 2036. A portion of the proceeds was used to fund the acquisition of WM Advisors, Inc., with the remaining proceeds being used for general corporate purposes.

        SBB Mutual Berhad and SBB Asset Management Sdn Bhd.Reinsurance Subsidiaries.    On October 30,In December 2008, Principal Life established a wholly owned insurance subsidiary, Principal Life Insurance Company of Iowa II, which reinsured a portion of our universal life "secondary" or "no-lapse" guarantee provisions, through an intercompany reinsurance agreement with Principal Life. The reinsurance agreement, which is guaranteed by PFG, allows us to redeploy capital for other corporate purposes.

        In November 2006, our joint venture company in Malaysia, CIMB-Principal, announced its intention to purchase the mutual fund and asset management companiesPrincipal Life established a wholly owned reinsurance subsidiary, Principal Reinsurance Company of the former Southern Bank BhdVermont ("SBB"PVT"), SBB Mutual Berhadwhich reinsured a portion of our universal life "secondary" or "no-lapse" guarantee provisions as well as our current term product, through intercompany reinsurance agreements with Principal Life. The reinsurance agreements, which are accompanied with a third party letter of credit issued to PVT and SBB Asset Management Sdn Bhd. On February 5, 2007, we invested an additional RM$192.4 million Malaysian ringgits ("RM$") (approximately U.S. $55.1 million)guaranteed by PFG, allow us to retain our 40% ownership interest in the larger CIMB-Principal.redeploy capital for other general corporate purposes.

Fluctuations in Foreign Currency to U.S. Dollar Exchange Rates

        Fluctuations in foreign currency to U.S. dollar exchange rates for countries in which we have operations can affect reported financial results. In years when foreign currencies weaken against the U.S. dollar, translating foreign currencies



into U.S. dollars results in fewer U.S. dollars to be reported. When foreign currencies strengthen, translating foreign currencies into U.S. dollars results in more U.S. dollars to be reported.

        Foreign currency exchange rate fluctuations create variances in our financial statement line items but have not had a material impact on our consolidated income from continuing operations. Our consolidated income from continuing operations was positively impacted $5.4$6.1 million, $7.1$5.9 million and $1.7$5.4 million for the years ended December 31, 2006, 2005,2008, 2007 and 20042006, respectively, as a result of fluctuations in foreign currency to U.S. dollar exchange rates.rates for our foreign operations. For a discussion of our approaches to foreign currency exchange rate risk, see Item 7A. "Quantitative and Qualitative Disclosures about Market Risk — Foreign Currency Risk."

Stock-Based Compensation Plans

        As of December 31, 2006, we have the 2005 Stock Incentive Plan, the Employee Stock Purchase Plan, the 2005 Directors Stock Plan, the Stock Incentive Plan, the Directors Stock Plan and the Long-Term Performance Plan ("Stock-Based Compensation Plans"). As of May 17, 2005, no new grants will be made under the Stock Incentive Plan, the Directors Stock Plan or the Long-Term Performance Plan. Under the terms of the 2005 Stock Incentive Plan, grants may be nonqualified stock options, incentive stock options qualifying under Section 422 of the Internal Revenue Code, restricted stock, restricted stock units, stock appreciation rights, performance shares, performance units, or other stock based awards. The 2005 Directors Stock Plan provides for the grant of nonqualified stock options, restricted stock, restricted stock units, or other stock-based awardsFor information related to our nonemployee directors. To date, we have not granted any incentive stock options, restricted stock or performance units.

        The compensation cost that was charged against income for the Stock-Based Compensation Plans, was $65.5 million, $52.2 millionsee Item 8. "Financial Statements and $47.5 million, and the related income tax benefit recognized in the income statement was $21.3 million, $16.9 million and $15.1 million for the years ended December 31, 2006, 2005 and 2004, respectively. For awards with graded vesting, we use an accelerated expense attribution method. The total compensation cost capitalized as part of the cost of an asset was $3.4 million, $1.6 million and $2.6 million for the years ended December 31, 2006, 2005 and 2004, respectively.

        Beginning in 2006, we granted performance share awardsSupplementary Data, Notes to certain employees under the 2005 Stock Incentive Plan. The performance share awards are treated as an equity award and are paid in shares. Whether the performance shares are earned depends upon the participant's continued employment through the performance period (except in the case of an approved retirement) and our performance against three-year goals set at the beginning of the performance period. A return on equity objective and an earnings per share objective must be achieved for any of the performance shares to be earned. If the performance requirements are not met, the performance shares will be forfeited and no compensation cost is recognized and any previously recognized compensation cost is reversed. There is no maximum contractual term on these awards.

        The total compensation cost related to nonvested awards not yet recognized is $40.5 million. This compensation cost is expected to be recognized over a weighted average period of approximately 1.8 years.Consolidated Financial Statements, Note 20, Stock-Based Compensation Plans."

Defined Benefit Pension and 401(k) Benefit Expense

        Effective January 1, 2006, we made changes to our retirement program, including the Principal Select Savings Plan ("401(k)") and the Principal Pension Plan ("Pension Plan") and the corresponding nonqualified plans. The qualified and nonqualified Pension Plans' changes include a reduction to the traditional and cash balance formulas, a change in the early retirement factors, and the removal of the cost of living adjustments for traditional benefits earned after January 1, 2006. The qualified and nonqualified 401(k) Plans' company match increased from 50% of a 6% deferral to 75% of an 8% deferral. The Pension Plan changes reduced the Pension Plan expense in 2006, while the 401(k) changes increased the 401(k) expense.



        The 20062008 annual pension benefit expense that was reflected in net income for substantially all of our employees and certain agents was $34.6$12.3 million pre-tax, which was a $14.0an $11.8 million decrease from the 20052007 pre-tax pension expense of $48.6$24.1 million. This decrease is primarily due to the reductionincrease in the Pension Plan formulas and asset performance in excess of our 8.5% long-term assumption. Partially offsetting this was an increase attributable to the use of a lower discount rate and lowergreater than estimated returns on plan assets. The expected long-term asset return assumption.on plan assets assumption remained at 8.25%. The discount rate used to develop the 20062008 expense was loweredraised to 5.75%6.3%, downup from the 6.0%6.15% discount rate used to develop the 20052007 expense. The long-term asset assumption was also lowered to 8.25%, down from the 8.50% assumption used to develop the 2005 expense. The 2006 decrease in pension expense was offset by an approximately $19.7 million increase in the qualified and nonqualified 401(k) Plans' company matching expense resulting from the January 1, 2006 changes.

        The 20072009 annual pension benefit expense for substantially all of our employees and certain agents is expected to be $24.0$157.6 million pre-tax, which is a $10.6$145.3 million decreaseincrease from the 20062008 pre-tax pension expense that was reflected in net income of $34.6$12.3 million. This decreaseincrease is primarily due to the increasemuch lower than expected asset returns and a decrease in our discount rate andrate. The expected long-term return on plan asset performance in excessassumption was lowered to 8.0% based on a review of our 8.25% assumption.this assumption during 2008. The discount rate used to develop the 20072009 expense was raisedlowered to 6.15%6.0%, updown from the 5.75%6.3% discount rate used to develop the 20062008 expense. The long-term asset assumption remained at 8.25%.

Recent Accounting Changes

        For recent accounting changes, see Item 8. "Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements, Note 1, Nature of Operations and Significant Accounting Policies."

Results of Operations

        The following table presents summary consolidated financial information for the years indicated:

 
 For the year ended December 31,
 
 
 2006
 2005
 2004
 
 
 (in millions)

 
Revenues:          
 Premiums and other considerations $4,305.3 $3,975.0 $3,710.0 
 Fees and other revenues  1,902.5  1,717.8  1,491.7 
 Net investment income  3,618.0  3,360.1  3,224.0 
 Net realized/unrealized capital gains (losses)  44.7  (11.2) (104.8)
  
 
 
 
  Total revenues  9,870.5  9,041.7  8,320.9 
Expenses:          
 Benefits, claims and settlement expenses  5,692.4  5,282.9  4,959.5 
 Dividends to policyholders  290.7  293.0  296.7 
 Operating expenses  2,558.7  2,342.1  2,185.6 
  
 
 
 
  Total expenses  8,541.8  7,918.0  7,441.8 
  
 
 
 
Income from continuing operations before income taxes  1,328.7  1,123.7  879.1 
Income taxes  295.0  232.2  178.2 
  
 
 
 
  Income from continuing operations, net of related income taxes  1,033.7  891.5  700.9 
Income from discontinued operations, net of related income taxes  30.6  27.5  130.4 
  
 
 
 
Income before cumulative effect of accounting changes  1,064.3  919.0  831.3 
Cumulative effect of accounting change, net of related income taxes      (5.7)
  
 
 
 
Net income  1,064.3  919.0  825.6 
Preferred stock dividends  33.0  17.7   
  
 
 
 
 Net income available to common stockholders $1,031.3 $901.3 $825.6