Edgar Filing: LINCOLN NATIONAL CORP

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D. C. 20549

FORM 10-Q

(Mark One)

x	Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

	For the quarterly period ended September 30, 2006.

¨	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 1-6028

LINCOLN NATIONAL CORPORATION

(Exact name of registrant as specified in its charter)


Indiana	35-1140070
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

1500 Market Street, Suite 3900, Philadelphia, Pennsylvania	19102-2112
(Address of principal executive offices)	(Zip Code)

(215) 448-1400

Registrant’s telephone number, including area code

Not Applicable

Former name, former address and former fiscal year, if changed since last report

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non- accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act.

(Check one): Large accelerated filer x Accelerated filer ¨ Non- accelerated filer ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

As of November 1, 2006, 277,379,975 shares of common stock of the registrant were outstanding.

Item 1. Financial Statements

LINCOLN NATIONAL CORPORATION

CONSOLIDATED BALANCE SHEETS

	September 30,			December 31,
	2006			2005
	(Unaudited)
	(in millions)
ASSETS
Investments:
Securities available-for-sale, at fair value:
Fixed maturity (cost: 2006- $54,931; 2005-$32,384)	$	55,824		$	33,443
Equity (cost: 2006- $647; 2005-$137)		662			145
Trading securities		3,172			3,246
Mortgage loans on real estate		7,581			3,663
Real estate		424			183
Policy loans		2,725			1,862
Derivative investments		349			175
Other investments		870			452
Total Investments		71,607			43,169
Cash and invested cash		1,108			2,312
Deferred acquisition costs and value of businesses acquired		8,172			5,163
Premiums and fees receivable		346			343
Accrued investment income		928			526
Amounts recoverable from reinsurers		8,007			6,926
Goodwill		4,498			1,194
Other assets		2,703			1,480
Assets held in separate accounts		74,357			63,747
Total Assets	$	171,726		$	124,860

LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Insurance and Investment Contract Liabilities:
Insurance policy and claim reserves	$	14,720		$	11,703
Investment contract and policyholder funds		58,517			35,592
Total Insurance and Investment Contract Liabilities		73,237			47,295
Short-term debt		559			120
Long-term debt
Senior notes		2,330			999
Junior subordinated debentures issued to affiliated trusts		333			334
Capital securities		1,072			-
Reinsurance related derivative liability		233			292
Funds withheld reinsurance liabilities		2,085			2,012
Deferred gain on indemnity reinsurance		779			836
Other liabilities		4,698			2,841
Liabilities related to separate accounts		74,357			63,747
Total Liabilities		159,683			118,476
Shareholders' Equity:
Series A preferred stock-10,000,000 shares authorized
(2006 liquidation value-$1)		1			1
Common stock-800,000,000 shares authorized		7,448			1,775
Retained earnings		3,986			4,081
Accumulated Other Comprehensive Income:
Net unrealized gain on securities available-for-sale		478			497
Net unrealized gain on derivative instruments		56			7
Foreign currency translation adjustment		137			83
Minimum pension liability adjustment		(63	)		(60	)
Total Accumulated Other Comprehensive Income		608			527
Total Shareholders' Equity		12,043			6,384
Total Liabilities and Shareholders' Equity	$	171,726		$	124,860

See accompanying Notes to the Consolidated Financial Statements.

LINCOLN NATIONAL CORPORATION

CONSOLIDATED STATEMENTS OF INCOME

	Three Months Ended					Nine Months Ended
	September 30,					September 30,
	2006			2005		2006			2005
	(Unaudited)
	(in millions, except per share amounts)
Revenue:
Insurance premiums	$	426		$	83	$	959		$	226
Insurance fees		676			448		1,841			1,294
Investment advisory fees		83			68		242			185
Communications sales		60			-		117			-
Net investment income		1,108			671		2,855			2,034
Realized gain (loss)		(10	)		4		(16	)		7
Amortization of deferred gain on indemnity reinsurance		19			19		56			57
Other revenue and fees		125			102		351			285
Total Revenue		2,487			1,395		6,405			4,088
Benefits and Expenses:
Benefits		1,201			589		2,961			1,750
Underwriting, acquisition, insurance and other expenses		728			482		1,949			1,494
Communications expenses		31			-		61			-
Interest and debt expense		67			21		154			65
Total Benefits and Expenses		2,027			1,092		5,125			3,309
Income before Federal income taxes		460			303		1,280			779
Federal income taxes		96			74		346			173
Net Income	$	364		$	229	$	934		$	606

Net Income Per Common Share:
Basic	$	1.31		$	1.33	$	3.82		$	3.50
Diluted	$	1.29		$	1.30	$	3.76		$	3.44

See accompanying Notes to the Consolidated Financial Statements.

LINCOLN NATIONAL CORPORATION

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

	Nine Months Ended September 30,
	Number of Shares						Amounts
	2006			2005			2006			2005
	(Unaudited)						(Unaudited)
	(in millions, except for share amounts)
Series A Preferred Stock:
Balance at beginning-of-year		15,515			16,912		$	1		$	1
Conversion into common stock		(1,602	)		(1,017	)		-			-
Balance at September 30		13,913			15,895			1			1
Common Stock:
Balance at beginning-of-year		173,768,078			173,557,730			1,775			1,655
Issued for acquisition		112,301,906			-			5,632			-
Conversion of series A preferred stock		25,632			16,272			-			-
Stock compensation/issued for benefit plans		5,456,670			1,920,236			179			105
Deferred compensation payable in stock		161,715			53,617			9			2
Retirement of common stock		(14,373,938	)		(2,331,000	)		(147	)		(22	)
Balance at September 30		277,340,063			173,216,855			7,448			1,740
Retained Earnings:
Balance at beginning-of-year								4,081			3,590
Comprehensive income								1,015			296
Less other comprehensive income (loss) (net of
federal income tax):
Net unrealized loss on securities available-
for-sale, net of reclassification adjustment								(19	)		(254	)
Net unrealized gain (loss) on derivative instruments								49			(5	)
Foreign currency translation adjustment								54			(55	)
Minimum pension liability adjustment								(3	)		4
Net Income								934			606
Retirement of common stock								(709	)		(82	)
Dividends declared:
Series A preferred ($1.50 per share)								-			-
Common (2006-$1.14; 2005-$1.10)								(320	)		(191	)
Balance at September 30								3,986			3,923
Net Unrealized Gain on Securities Available-for-Sale:
Balance at beginning-of-year								497			823
Change during the period								(19	)		(254	)
Balance at September 30								478			569
Net Unrealized Gain on Derivative Instruments:
Balance at beginning-of-year								7			14
Change during the period								49			(5	)
Balance at September 30								56			9
Foreign Currency Translation Adjustment:
Accumulated adjustment at beginning-of-year								83			154
Change during the period								54			(55	)
Balance at September 30								137			99
Minimum Pension Liability Adjustment:
Balance at beginning-of-year								(60	)		(61	)
Change during the period								(3	)		4
Balance at September 30								(63	)		(57	)
Total Shareholders' Equity at September 30							$	12,043		$	6,284
Common Stock at End of Quarter:
Assuming conversion of preferred stock								277,571,615			173,471,175
Diluted basis								281,348,962			176,296,287

See accompanying Notes to the Consolidated Financial Statements.

LINCOLN NATIONAL CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

	Nine Months Ended
	September 30,
	2006			2005
	(Unaudited)
	(in millions)
Cash Flows from Operating Activities:
Net income	$	934		$	606
Adjustments to reconcile net income to net cash provided by operating activities:
Deferred acquisition costs and value of business acquired		(448	)		(280	)
Premiums and fees receivable		59			(4	)
Accrued investment income		(47	)		(40	)
Policy liabilities and accruals		(315	)		(298	)
Contractholder funds		992			1,076
Net trading securities purchases, sales and maturities		56			(121	)
Gain on reinsurance embedded derivative/trading securities		(3	)		(5	)
Increase in funds withheld liability		73			128
Amounts recoverable from reinsurers		215			(143	)
Federal income taxes		73			100
Stock-based compensation expense		35			37
Depreciation		44			60
Gain on sale of subsidiaries/business		-			(14	)
Realized loss on investments and derivative instruments		16			13
Amortization of deferred gain		(56	)		(58	)
Other		316			(189	)
Net Adjustments		1,010			262
Net Cash Provided by Operating Activities		1,944			868

Cash Flows from Investing Activities:
Securities-available-for-sale:
Purchases		(7,165	)		(4,139	)
Sales		4,557			2,133
Maturities		2,250			1,788
Purchase of other investments		(352	)		(698	)
Sale or maturity of other investments		63			839
Increase in cash collateral on loaned securities		(55	)		89
Purchase of Jefferson Pilot Stock, net of cash acquired of $39		(1,826	)		-
Proceeds from sale of subsidiaries/business		-			14
Other		134			33
Net Cash Provided by (Used in) Investing Activities		(2,394	)		59

Cash Flows from Financing Activities:
Issuance of long-term debt		2,045			-
Payment of long-term debt		-			(241	)
Net increase (decrease) in short-term debt		(564	)		144
Universal life and investment contract deposits		5,398			3,649
Universal life and investment contract withdrawals		(5,397	)		(3,270	)
Investment contract transfers		(1,257	)		(1,044	)
Common stock issued for benefit plans		153			70
Retirement of common stock		(852	)		(104	)
Dividends paid to shareholders		(280	)		(191	)
Net Cash (Used in) Provided by Financing Activities		(754	)		(987	)
Net (Decrease) Increase in Cash and Invested Cash		(1,204	)		(60	)
Cash and Invested Cash at Beginning-of-Year		2,312			1,662
Cash and Invested Cash at September 30	$	1,108		$	1,602

See accompanying Notes to the Consolidated Financial Statements.

LINCOLN NATIONAL CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1.	Basis of Presentation

The accompanying Consolidated Financial Statements include Lincoln National Corporation and its majority-owned subsidiaries (“LNC” or the “Company” which also may be referred to as “we” or “us”). As discussed below in Note 2 we completed our merger with Jefferson-Pilot Corporation on April 3, 2006. Through subsidiary companies, we operate multiple insurance and investment management businesses divided into seven business segments (see Note 8). The collective group of companies uses “Lincoln Financial Group” as its marketing identity. We report less than majority-owned entities in which we have at least a 20% interest on the equity basis. These unaudited Consolidated Financial Statements have been prepared in conformity with accounting principles generally accepted in the United States (“GAAP”). In the opinion of management, these statements include all normal recurring adjustments necessary for a fair presentation of the results.

These financial statements should be read in conjunction with the audited Consolidated Financial Statements and the accompanying notes incorporated by reference into our latest annual report on Form 10-K for the year ended December 31, 2005 (“2005 Form 10-K”). On April 3, 2006, LNC filed a Current Report on Form 8-K dated April 3, 2006 that incorporated the audited financial statements and notes for Jefferson-Pilot as of December 31, 2005 and 2004, and for the years ended December 31, 2005, 2004 and 2003 from Jefferson-Pilot’s Annual Report on Form 10-K for the year ended December 31, 2005. The accompanying unaudited Consolidated Financial Statements should also be read in conjunction with those financial statements and notes.

Operating results for the three and nine months ended September 30, 2006 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2006. All material intercompany accounts and transactions have been eliminated in consolidation.

Certain amounts reported in prior periods’ unaudited Consolidated Financial Statements have been reclassified to conform to the 2006 presentation. These reclassifications have no effect on net income or shareholders’ equity of the prior periods. Included in these reclassifications is the change in the definition of cash flows from funds withheld liabilities from financing to operating cash flows in the unaudited Consolidated Statements of Cash Flows. While this had no effect on total cash flow, for the nine months ended September 30, 2005, net cash provided by operating activities and net cash used in financing activities were increased and decreased, respectively, by $128 million. A similar reclassification in our Consolidated Statements of Cash Flows for the years ended December 31, 2005, 2004 and 2003 would have increased net cash provided by operating activities (with corresponding decreases in net cash provided by (used) in financing activities) by $117 million, $77 million, and $56 million, resulting in net cash provided by operating activities of $1.1 billion, $1.1 billion and $1.0 billion, respectively.

2.	Business Combination

On April 3, 2006, we completed our merger with Jefferson-Pilot Corporation (“Jefferson-Pilot”) by acquiring 100% of the outstanding shares of Jefferson-Pilot in a transaction accounted for under the purchase method of accounting prescribed by SFAS No.141, “Business Combinations” (“SFAS 141”). Jefferson-Pilot’s results of operations are included in our results of operations beginning April 3, 2006. As a result of the merger, our product portfolio was expanded, and we now offer fixed and variable universal life, fixed annuities, including indexed annuities, variable annuities, mutual funds and institutional accounts, 401(k) and 403(b) offerings, and group life, disability and dental insurance products. We also own and operate television and radio stations in selected markets in the Southeastern and Western United States and produce and distribute sports programming.

SFAS 141 requires that the total purchase price be allocated to the assets acquired and liabilities assumed based on their fair values at the merger date. We are in the process of finalizing our internal studies of the fair value of the net assets acquired including investments, value of business acquired (“VOBA”), intangible assets and certain liabilities. As such, the preliminary fair values in the table below are subject to adjustment as additional information is obtained, which may result in adjustments to goodwill, which we do not expect to be material. During the three months ended September 30, 2006, adjustments were made to the purchase price and estimated fair value of assets acquired, which resulted in a decrease in goodwill of $5 million. Further adjustments may be required as additional information becomes available, however, we do not expect such adjustments to be material.

The aggregate consideration paid for the merger was as follows:

(in millions, except share data)	Share Amounts
LNC common shares issued		112,301,906
Purchase price per share of LNC common share ⁽¹⁾	$	48.98
Fair value of common shares issued			$	5,501
Cash paid to Jefferson Pilot shareholders				1,800
Fair value of Jefferson-Pilot stock options ⁽²⁾				131
Transaction costs				65
Total purchase price			$	7,497

(1)	The value of the shares of LNC common stock exchanged with Jefferson-Pilot shareholders was based upon the average of the closing prices of LNC common stock for the five day trading period ranging from two days before, to two days after, October 10, 2005, the date the merger was announced.
(2)	Includes certain stock options that vested immediately upon the consummation of the merger. Any future income tax deduction related to these vested stock options will be recognized on the option exercise date as an adjustment to the purchase price and recorded to goodwill.

The fair value of Jefferson-Pilot’s net assets assumed in the merger was $4.2 billion. Goodwill of $3.3 billion resulted from the excess of purchase price over the fair value of Jefferson-Pilot’s net assets. We paid a premium over the fair value of Jefferson-Pilot’s net assets for a number of potential strategic and financial benefits that are expected to be realized as a result of the merger including, but not limited to, the following:

Greater size and scale with improved earnings diversification and strong financial flexibility;

Broader, more balanced product portfolio;

Larger distribution organization; and

Value creation opportunities through expense savings and revenue enhancements across business units.

The following table summarizes the preliminary fair values of the net assets acquired as of the acquisition date:

(in millions)	Preliminary Fair Value
Investments	$	27,905
Due from reinsurers		1,296
Value of business acquired		2,478
Goodwill		3,302
Other assets		1,642
Assets held in separate accounts		2,574
Policy liabilities		(26,527	)
Long-term debt		(905	)
Income tax liabilities		(849	)
Accounts payable, accruals and other liabilities		(845	)
Liabilities related to separate accounts		(2,574	)
Total purchase price	$	7,497

The goodwill resulting from the merger was allocated to the following segments:

(in millions)
Individual Markets:
Life Insurance	$	1,326
Annuities		988
Total Individual Markets		2,314
Employer Markets: Group Protection		281
Lincoln Financial Media		707
Total goodwill	$	3,302

The following table summarizes the fair value of identifiable intangible assets acquired in the merger and reported in other assets.

			Weighted
			Average
			Amortization
(in millions)			Period
Lincoln Financial Media:
FCC licenses	$	638		N/A
Sports production rights		11		5 years
Network affiliation agreements		10		21 years
Other		11		16 years
Total Lincoln Financial Media		670
Individual Markets - Life Insurance:
Sales force		100		25 years
Total indentifiable intangibles	$	770

Identifiable intangibles not subject to amortization	$	638		N/A
Identifiable intangibles subject to amortization		132		22 years
Total identifiable intangibles	$	770

The following unaudited pro forma condensed consolidated results of operations assume that the merger with Jefferson-Pilot was completed as of January 1, 2006 and 2005:

	Three
	Months Ended		Nine Months Ended
	September 30,		September 30,
(in millions, except per share amounts)	2005		2006		2005
Revenue	$	2,433	$	7,476	$	7,181

Net income		364		1,048		1,046

Net income per common share:
Basic	$	1.14	$	4.29	$	3.26
Diluted	$	1.12	$	4.23	$	3.22

We initially financed the cash portion of the merger consideration by borrowing $1.8 billion under a credit agreement that we entered into with a group of banks in December 2005 (the “bridge facility”). During the second quarter of 2006, we issued the following debt securities:

	Net
	Proceeds
Security	(in millions)		Interest Due
$500M Floating Rate Senior Notes, due 4/6/2009 ⁽¹⁾	$	499		Quarterly in January, April, July and October
$500M 6.15% Senior Notes, due 4/7/2036 ⁽²⁾		492		Semi-annually in April and October
Capital Securities
$275M 6.75% Junior Subordinated Debentures, due 4/20/2066 ⁽³⁾		266		Quarterly in January, April, July and October
$800M 7% Junior Subordinated Debentures, due 5/17/2066 ⁽⁴⁾		788		Semi-annually in May and November
Total proceeds	$	2,045

(1)	Interest at a rate of three-month LIBOR plus 0.11%.
(2)	Redeemable any time subject to a make-whole provision.
(3)	Redeemable in whole or in part on or after April 20, 2011 (and prior to such date in whole or in part under certain circumstances).
(4)	Redeemable in whole or in part on or after May 17, 2016 (and prior to such date in whole or in part under certain circumstances). Beginning May 17, 2016, interest is due quarterly in February, May, August and November.

We used the net proceeds from the offerings, and other cash, to repay the outstanding loan balance under the bridge facility.

At the time of the merger, the following debt securities that were previously issued by Jefferson-Pilot were included within our Consolidated Balance Sheet:

Junior subordinated debentures issued by Jefferson-Pilot in 1997 consist of $211 million at an interest rate of 8.14% and $107 million at an interest rate of 8.285%. Interest is paid semi-annually. These debentures mature in 2046, but are redeemable prior to maturity at our option beginning January 15, 2007, with two-thirds subject to a call premium of 4.07% and the remainder subject to a call premium of 4.14%, each grading to zero as of January 15, 2017. Premiums arose from recording these securities at their respective fair values, which were based on discounted cash flows using our incremental borrowing rate at the date of the merger. The premiums are being amortized to the respective call dates using an approximate effective yield methodology. The unamortized premiums included in the amounts above totaled $9 million. As we expect to call these securities within the next twelve months, they have been reported in short-term debt on our consolidated balance sheet.

Ten-year term notes of $284 million at 4.75% and $300 million of floating rate EXtendible Liquidity Securities® (“EXL”s) that currently have a maturity of August 2007, subject to periodic extension through 2011. Each quarter, the holders must make an election to extend the maturity of the EXLs for 13 months, otherwise they become due and payable on the next maturity date to which they had previously been extended. The EXLs bear interest at LIBOR plus a spread, which increases annually to a maximum of 10 basis points. The amount reported on our consolidated balance sheet is net of a $16 million discount that arose from recording the ten-year term notes at their respective fair values based on discounted cash flows using our incremental borrowing rate at the date of merger. The discount is being accreted over the remaining life using an approximate effective yield methodology.

See our current reports on Form 8-K filed with the SEC on April 3, 2006, April 7, 2006, April 20, 2006, May 9, 2006 and May 17, 2006 for additional information.

3.	Changes in Accounting Principles and Changes in Estimates

SFAS No. 123(R) - Share-Based Payment. In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 123 (revised 2004), “Share-Based Payment” (“SFAS 123(R)”), which is a revision of SFAS 123, “Accounting for Stock-based Compensation” (“SFAS 123”). SFAS 123(R) requires us to recognize at fair value all costs resulting from share-based payments to employees, except for equity instruments held by employee share ownership plans. Similar to SFAS 123 under SFAS 123(R), the fair value of share-based payments are recognized as a reduction to earnings over the period an employee is required to provide service in exchange for the award. We had previously adopted the retroactive restatement method under SFAS No. 148, “Accounting for Stock-based Compensation - Transition and Disclosure,” and restated all periods presented to reflect stock-based employee compensation cost under the fair value accounting method for all employee awards granted, modified or settled in fiscal years beginning after December 15, 1994.

Effective January 1, 2006, we adopted SFAS 123(R), using the modified prospective transition method. Under that transition method, compensation cost recognized in 2006 includes: (a) compensation cost for all share-based payments granted prior to but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS 123, and (b) compensation cost for all share-based payments granted subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of SFAS 123(R). Results from prior periods have not been restated. The effect of adopting SFAS 123(R) did not have a material effect on our income before Federal income taxes, net income and basic and diluted earnings per share.

SFAS 123(R) eliminates the alternative under SFAS 123 permitting the recognition of forfeitures as they occur. Expected forfeitures, resulting from the failure to satisfy service or performance conditions, must be estimated at the grant date, thereby recognizing compensation expense only for those awards expected to vest. In accordance with SFAS 123(R), we have included estimated forfeitures in the determination of compensation costs for all share-based payments. Estimates of expected forfeitures must be reevaluated at each balance sheet date, and any change in the estimate recognized retrospectively in net income in the period of the revised estimate.

Prior to the adoption of SFAS 123(R), we presented all tax benefits of deductions resulting from the exercise of stock options as operating cash flows in the Statement of Cash Flows. SFAS 123(R) requires the cash flows from tax benefits resulting from tax deductions in excess of the compensation costs recognized to be classified as financing cash flows. Our

excess tax benefits are classified as financing cash flows, prospectively, in our Statement of Cash Flows for the nine months ended September 30, 2006.

We issue share-based compensation awards under an authorized plan, subject to specific vesting conditions. Generally, compensation expense is recognized ratably over a three-year vesting period, but recognition may be accelerated upon the occurrence of certain events. For awards that specify an employee will vest upon retirement and an employee is eligible to retire before the end of the normal vesting period, we would record compensation expense over the period from the grant date to the date of retirement eligibility. As a result of adopting SFAS 123(R), we have revised the prior method of recording unrecognized compensation expense upon retirement and use the non-substantive vesting period approach for all new share-based awards granted after January 1, 2006. Under the non-substantive vesting period approach, we recognize compensation cost immediately for awards granted to retirement-eligible employees, or ratably over a period from the grant date to the date retirement eligibility is achieved. If we would have applied the non-substantive vesting period approach to all share based compensation awards granted prior to January 1, 2006, it would not have a material effect on our results of operations or financial position.

See Note 11 for more information regarding our stock-based compensation plans.

FSP 115-1 - The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. In November 2005, the FASB issued FASB Staff Position (“FSP”) FAS 115-1 and FAS 124-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments” (“FSP 115-1”). The guidance in FSP 115-1 nullifies the accounting and measurement provisions of Emerging Issues Task Force No. 03-1 - “The Meaning of Other Than Temporary Impairments and Its Application to Certain Investments” references existing guidance, and supersedes EITF Topic No. D-44 “Recognition of Other-Than-Temporary Impairment upon the Planned Sale of a Security Whose Cost Exceeds Fair Value.” FSP 115-1 was effective for reporting periods beginning after December 15, 2005, on a prospective basis. Our existing policy for recognizing other-than-temporary impairments is consistent with the guidance in FSP 115-1, and includes the recognition of other than temporary impairments of securities resulting from credit related issues as well as declines in fair value related to rising interest rates, where we do not have the intent to hold the securities until either maturity or recovery. We adopted FSP 115-1 effective January 1, 2006. The adoption of FSP 115-1 did not have a material effect on our consolidated financial condition or results of operations.

Statement of Position 05-1. In September 2005, the Accounting Standards Executive Committee of the American Institute of Certified Public Accountants (“AICPA”) issued Statement of Position (“SOP”) 05-1, “Accounting by Insurance Enterprises for Deferred Acquisition Costs in Connection with Modifications or Exchanges of Insurance Contracts” (“SOP 05-1”). SOP 05-1 addresses the accounting for Deferred Acquisition Costs (“DAC”) on internal replacements other than those described in SFAS No. 97, “Accounting and Reporting by Insurance Enterprises for Certain Long-Duration Contracts and for Realized Gains and Losses from the Sale of Investments.” An internal replacement is defined by SOP 05-1 as a modification in product benefits, features, rights or coverages that occurs by (a) exchanging the contract for a new contract, (b) amending, endorsing or attaching a rider to the contract, or (c) electing a feature or coverage within a replaced contract. Contract modifications that result in a substantially unchanged contract will be accounted for as a continuation of the replaced contract. Contract modifications that result in a substantially changed contract should be accounted for as an extinguishment of the replaced contract, and any unamortized DAC, unearned revenue and deferred sales charges must be written-off. SOP 05-1 is to be applied prospectively and is effective for internal replacements occurring in fiscal years beginning after December 15, 2006. We expect to adopt SOP 05-1 effective January 1, 2007. We are currently evaluating the potential effects of SOP 05-1 on our consolidated financial condition and results of operations.

SFAS No. 155 - Accounting for Certain Hybrid Financial Instruments - an amendment of FASB Statements No. 133 and 140. In February 2006, the FASB issued SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments - an amendment of FASB Statements No. 133 and 140” (“SFAS 155”), which permits fair value remeasurement for a hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation. Under SFAS 155, an entity may make an irrevocable election to measure a hybrid financial instrument at fair value, in its entirety, with changes in fair value recognized in earnings. SFAS 155 also: (a) clarifies which interest-only strips and principal-only strips are not subject to the requirements of SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS 133”); (b) eliminates the interim guidance in SFAS 133 Implementation Issue No. D1, “Application of Statement 133 to Beneficial Interests in Securitized Financial Assets,” and establishes a requirement to evaluate beneficial interests in securitized financial assets to identify interests that are either freestanding derivatives or hybrid financial instruments that contain an embedded derivative requiring bifurcation; (c) clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives; and (d) eliminates restrictions on a qualifying special-purpose entity’s ability to hold passive derivative financial instruments that pertain to beneficial interests that are or contain a derivative financial instrument. We expect to adopt SFAS 155 beginning January 1, 2007, for all financial instruments acquired, issued, or subject to a remeasurement event occurring after that date. Upon adoption of SFAS 155, the fair value election may also be applied to hybrid financial instruments that had previously been bifurcated pursuant to SFAS 133. Prior period restatement is not permitted. SFAS 155 is not expected to have a material impact on our consolidated financial condition and results of

operations at adoption, however, application of the requirements of SFAS 155 may result in the classification of additional derivative transactions with changes in fair value recognized in net income.

FASB Interpretation No. 48 - Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109. In July 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 establishes criteria that an individual tax position must meet for any part of the benefit of the tax position to be recognized in the financial statements. These criteria include determining whether it is more-likely-than-not that a tax position will be sustained upon examination by the appropriate taxing authority. If the tax position meets the more-likely-than-not threshold, the position is measured as the largest amount of benefit that is greater than fifty percent likely of being realized upon ultimate settlement. If a tax position does not meet the more-likely-than-not recognition threshold, the benefit is not recognized in the financial statements. Upon adoption of FIN 48, the guidance will be applied to all tax positions, and only those tax positions meeting the more-likely-than-not threshold will be recognized or continue to be recognized in the financial statements. Tax positions that previously failed to meet the more-likely-than-not recognition threshold should be recognized in the first subsequent financial reporting period in which that threshold is met. In addition, FIN 48 expands disclosure requirements to include additional information related to unrecognized tax benefits. FIN 48 is effective for fiscal years beginning after December 15, 2006, and the cumulative effect of applying the provisions of FIN 48 will be reported as an adjustment to the opening balance of retained earning for that fiscal year. We are currently evaluating the potential effects of FIN 48 on our consolidated financial condition and results of operations.

SFAS No. 157 - Fair Value Measurements. In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”), which establishes a framework for measuring fair value under current accounting pronouncements that require or permit fair value measurement. SFAS 157 retains the exchange price notion, but clarifies that exchange price is the price in an orderly transaction between market participants to sell the asset or transfer the liability in the most advantageous market for that asset or liability. Fair value measurement is based on assumptions used by market participants in pricing the asset or liability, which may include inherent risk, restrictions on the sale or use of an asset, or nonperformance risk which would include the reporting entity's own credit risk. SFAS 157 establishes a three-level fair value hierarchy, which prioritizes the inputs to valuation techniques used to measure fair value. The highest priority is given to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs in situations where there is little or no market activity for the asset or liability. In addition, SFAS 157 expands the disclosure requirements for annual and interim reporting to focus on the inputs used to measure fair value, including those measurements using significant unobservable inputs, and the effects of the measurements on earnings. SFAS 157 will be applied prospectively and is effective for fiscal years beginning after November 15, 2007. Retrospective application is required for certain financial instruments as a cumulative effect adjustment to the opening balance of retained earnings. We are currently evaluating the effects of SFAS 157 on our consolidated financial condition and results of operations.

SFAS No. 158 - Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans - an amendment of FASB Statements No. 87, 88, 106, and 132(R). In September 2006, the FASB issued SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans - an amendment of FASB Statements No. 87, 88, 106, and 132(R)” (“SFAS 158”). The guidance requires us to recognize on the balance sheet the funded status of our defined benefit postretirement plans as either an asset or liability, depending on the plans’ funded status, with changes in the funded status recognized through other comprehensive income. The funded status is measured as the difference between the fair value of the plan assets and the projected benefit obligation, for pension plans, or the accumulated postretirement benefit obligation for postretirement benefit plans. Prior service costs or credits and net gains or losses which are not recognized in current net periodic benefit cost, pursuant to SFAS No. 87, “Employers’ Account for Pensions” or SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions,” must be recognized in other comprehensive income, net of tax, in the period in which they occur. As these items are recognized in net periodic benefit cost, the amounts accumulated in other comprehensive income are adjusted. Disclosure requirements have also been expanded to separately provide information on the prior service costs or credits and net gains and losses recognized in other comprehensive income and their effects on net periodic benefit costs. SFAS 158 is effective for fiscal years ending after December 15, 2006 and is applied prospectively. We will adopt the provisions of SFAS 158 as of December 31, 2006. Using the measurement of plan assets and benefit obligations at December 31, 2005 as a basis for determining the financial statement impact of SFAS 158, accumulated other comprehensive income would be reduced by approximately $67 million. The funded status of the plans we maintain as a result of our merger with Jefferson-Pilot was recognized in our Consolidated Balance Sheet as of the merger date.

4.	Federal Income Taxes

The effective tax rate was 21% and 24% for the third quarter of 2006 and 2005, respectively. The effective tax rate for the nine months ended September 30, 2006 and 2005 was 27% and 22%, respectively. Differences in the effective rates and the U.S. statutory rate of 35% are the result of the separate account dividends-received deduction (“DRD”), foreign tax credits and other tax preference items.

The separate account DRD is estimated for the current year using information from the most recently completed tax return. As knowledge of the underlying factors becomes known, current year estimated DRD is revised and reflected in the effective tax rate of that period. Factors that affect the estimate include known actual mutual fund distributions and fee income from the our variable insurance products, changes in eligible dividends received by the mutual funds, amounts of distributions from these mutual funds, appropriate levels of taxable income as well as the utilization of capital loss carry forwards at the mutual fund level. Our DRD increased $27 million and $39 million for the three and nine months ended September 30, 2006 from the same 2005 periods, including a tax benefit of $20 million for the three and nine months ended September 30, 2006, resulting from true-ups related to prior years’ tax returns. There were no material true-up adjustments in 2005.

We also receive a credit against our U.S. tax liability for foreign taxes paid by us from our separate account assets. The increased allocation of separate account investments to the international equity markets during 2005 and 2006 has increased the amount of these foreign tax credits (“FTC”). In the three and nine months ended September 30, 2006, we reported a net benefit of $7 million and $12 million, respectively, for the separate account FTC, including a $5 million third quarter adjustment comprised of a $4 million true-up related to a prior year tax return and $1 million related to the 2006 year.

We are required to establish a valuation allowance for any gross deferred tax assets that are unlikely to reduce taxes payable in future years’ tax returns. At September 30, 2006, we believe that it is more likely than not that all gross deferred tax assets will reduce taxes payable in future years. Our Federal income tax liability at December 31, 2004 included a valuation allowance of $47 million attributable to the net operating losses of our foreign life reinsurance subsidiary domiciled in Barbados. This valuation allowance was reduced to zero as of December 31, 2005, including reductions of $13 million and $43 million in the third quarter and first nine months of 2005, respectively.

We are subject to annual tax examinations from the Internal Revenue Service ("IRS"). During the first quarter of 2006, the IRS completed its examination for the tax years 1999 through 2002 with assessments resulting in a payment that was not material to our consolidated results of operations. In addition to taxes assessed and interest, the payment included a deposit relating to a portion of the assessment, which we continue to challenge. We believe this portion of the assessment is inconsistent with existing law, and are protesting it through the established IRS appeals process. We do not anticipate that any adjustments that might result from such audits would be material to our consolidated results of operations or financial condition. The Jefferson-Pilot subsidiaries acquired in the April 2006 merger are subject to a separate IRS examination cycle. During the second quarter of 2006, the IRS completed its examinations for the tax years 2000-2003 of Jefferson-Pilot Corporation and its subsidiaries, resulting in a refund that was not material to our consolidated results of operations.

5.	Supplemental Financial Data

A rollforward of DAC and value of business acquired on the Consolidated Balance Sheet is as follows:

	Nine Months Ended
	September 30,
(in millions)	2006			2005
Balance at beginning-of-year	$	5,163		$	4,590
Business acquired		2,478			-
Deferral		1,061			675
Amortization		(613	)		(396	)
Adjustment related to realized gains on securities available-for-sale		(39	)		(40	)
Adjustment related to unrealized losses on securities
available-for-sale		56			228
Foreign currency translation adjustment		66			(68	)
Balance at end-of-period	$	8,172		$	4,989

Realized gains and losses on investments and derivative instruments on the Consolidated Statements of Income for the nine months ended September 30, 2006 and 2005 are net of amounts amortized against DAC of $39 million and $40 million, respectively. In addition, realized gains and losses for the nine months ended September 30, 2006 and 2005 are net of adjustments made to policyholder reserves of $(1) million. We have either a contractual obligation or a consistent historical practice of making allocations of investment gains or losses to certain policyholders and to certain reinsurance arrangements.

A rollforward of deferred sales inducements, included in other assets on the Consolidated Balance Sheet, is as follows:

	Nine Months Ended
	September 30,
(in millions)	2006			2005
Balance at beginning-of-year	$	129		$	86
Capitalized		58			44
Amortization		(14	)		(12	)
Balance at end-of-period	$	173		$	118

Details underlying underwriting, acquisition, insurance and other expenses on the Consolidated Statements of Income are as follows:

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
(in millions)	2006			2005			2006			2005
Commissions	$	439		$	232		$	1,096		$	649
General and administrative expenses		421			364			1,129			1,012
Deferred acquisition costs net of amortization		(198	)		(140	)		(448	)		(279	)
Other intangibles amortization		3			2			11			6
Taxes, licenses and fees		50			21			131			78
Restructuring charges - includes merger-integration expenses		1			3			11			28
Other merger-integration expenses		12			-			19			-
Total	$	728		$	482		$	1,949		$	1,494

As discussed in Note 2, the excess of the purchase price for the Jefferson-Pilot merger over the fair value of net assets acquired totaled $3.3 billion.

The carrying amount of goodwill by reportable segment is as follows:

(in millions)	Balance at December 31, 2005		Jefferson-Pilot Merger (Note 2)		Balance at September 30, 2006
Individual Markets:
Life Insurance	$	855	$	1,326	$	2,181
Annuities		44		988		1,032
Employer Markets:
Retirement Products		20		-		20
Group Protection		-		281		281
Investment Management		261		-		261
Lincoln Financial Media		-		707		707
Lincoln UK*		14		-		16
Total	$	1,194	$	3,302	$	4,498

* Changes in the carrying amount of goodwill for the Lincoln UK segment from December 31, 2005 to September 30, 2006, are due to the translation of the balances from British pounds to U.S. dollars based on the prevailing exchange rate as of the respective balance sheet dates.

Details of investment contract and policyholder funds on the Consolidated Balance Sheet are as follows:

	September 30,		December 31,
(in millions)	2006		2005
Premium deposit funds	$	20,709	$	21,713
Other policyholder funds		36,783		12,972
Deferred front end loads		924		796
Undistributed earnings on participating business		101		111
Total	$	58,517	$	35,592

6.	Insurance Benefit Reserves

We issue variable contracts through our separate accounts for which investment income and investment gains and losses accrue directly to, and investment risk is borne by, the contractholder (traditional variable annuities). We also issue variable annuity and life contracts through separate accounts that include various types of guaranteed minimum death benefit (“GMDB”) features, a guaranteed minimum withdrawal benefit (“GMWB”) and guaranteed income benefits (“GIB”). The GMDB features generally include those where we contractually guarantee that the contractholder receives (a) a return of no less than total deposits made to the contract less any partial withdrawals, (b) total deposits made to the contract less any partial withdrawals plus a minimum return, or (c) the highest contract value on any contract anniversary date through age 80 minus any payments or withdrawals following such contract anniversary.

The following table provides information on the GMDB features outstanding at September 30, 2006 and December 31, 2005. (Note that our variable contracts with guarantees may offer more than one type of guarantee in each contract; therefore, the amounts listed are not mutually exclusive.) The net amount at risk (“NAR”) is defined as the current guaranteed minimum death benefit in excess of the current account balance at the balance sheet date.

	In Event of Death
	September 30,			December 31,
(dollars in billions)	2006			2005
Return of net deposit
Account value	$	35.5		$	31.9
NAR		0.1			0.1
Average attained age of contractholders		54			53
Return of net deposits plus a minimum return
Account value	$	0.4		$	0.3
NAR		-			-
Average attained age of contractholders		66			66
Guaranteed minimum return		5	%		5	%
Highest specified anniversary account value minus
withdrawals post anniversary
Account value	$	21.0		$	18.8
NAR		0.3			0.4
Average attained age of contractholders		63			63

The following summarizes the liabilities for GMDB:

	September 30,			September 30,
(in millions)	2006			2005
Balance at beginning of year	$	15		$	18
Changes in reserves		11			5
Benefits paid		(5	)		(11	)
Balance at end-of-period	$	21		$	12

The changes to the benefit reserves amounts above are reflected in benefits in the Consolidated Statements of Income. Also included in benefits are the results of the hedging program, which included losses of $(1) million and $(3) million for GMDB for the three and nine months ended September 30, 2006, respectively, and $(4) million and $(2) million for the three and nine months ended September 30, 2005, respectively.

Approximately $12.2 billion and $8.2 billion of separate account values at September 30, 2006 and December 31, 2005 were attributable to variable annuities with a GMWB feature. This GMWB feature offers the contractholder a guarantee equal to the initial deposit adjusted for any subsequent purchase payments or withdrawals. There are one-year and five-year step-up options, which allow the contractholder to step up the guarantee. GMWB features are considered to be derivatives under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” resulting in the guarantees being recognized at fair value, with changes in fair value being reported in net income.

Approximately $2.2 billion and $1.2 billion of separate account values at September 30, 2006 and December 31, 2005, respectively, were attributable to variable annuities with a GIB feature. Similar to GMWB features, the GIB feature is considered a derivative with the resulting guarantees being recognized at fair value and changes in fair value being reported in net income.

Separate account balances attributable to variable annuity contracts with guarantees are as follows:

	September 30,			December 31,
(in billions)	2006			2005
Asset Type
Domestic equity	$	36.3		$	32.2
International equity		5.2			4.2
Bonds		5.9			5.1
Total		47.4			41.5
Money market		5.1			4.0
Total	$	52.5		$	45.5
Percent of total variable annuity separate account values		74	%		96	%

Liabilities of $132 million related to life insurance policies with no-lapse guarantees (secondary guarantees) are included in investment contract and policyholder funds within the consolidated balance sheet as of September 30, 2006. These liabilities are calculated by multiplying the benefit ratio (present value of total expected secondary guarantee benefits over the life of the contract divided by the present value of total expected assessments over the life of the contract) by the cumulative assessments recorded from contract inception through the balance sheet date less the cumulative secondary guarantee benefit payments plus interest. If experience or assumption changes result in a new benefit ratio, the reserves are unlocked to reflect the changes in a manner similar to deferred policy acquisition costs and value of business acquired.

7.	Restrictions and Contingencies

Statutory Restrictions

Our insurance subsidiaries are subject to certain insurance department regulatory restrictions as to the transfer of funds and payment of dividends to the holding company. Generally, these restrictions pose no short-term liquidity concerns for the holding company. For example, under Indiana laws and regulations, our Indiana insurance subsidiaries, including one of our major insurance subsidiaries, The Lincoln National Life Insurance Company (“LNL”), may pay dividends to LNC only from unassigned surplus, without prior approval of the Indiana Insurance Commissioner (the “Commissioner”), or must receive prior approval of the Commissioner to pay a dividend if such dividend, along with all other dividends paid within the preceding twelve consecutive months, would exceed the statutory limitation. The current statutory limitation is the greater of (i) 10% of the insurer’s policyholders’ surplus, as shown on its last annual statement on file with the Commissioner or (ii) the insurer’s statutory net gain from operations for the previous twelve months, but in no event to exceed statutory unassigned surplus. Indiana law gives the Commissioner broad discretion to disapprove requests for dividends in excess of these limits. Our other major insurance subsidiaries, Jefferson-Pilot Life Insurance Company, Jefferson Pilot Financial Insurance Company, and Jefferson Pilot LifeAmerica Insurance Company are domiciled in North Carolina, Nebraska and New Jersey, respectively, and are subject to similar, but not identical, restrictions.

LNL is recognized as an accredited reinsurer in the state of New York, which effectively enables it to conduct reinsurance business with unrelated insurance companies that are domiciled within the state of New York. As a result, in addition to regulatory restrictions imposed by the state of Indiana, LNL is also subject to the regulatory requirements that the State of New York imposes upon accredited reinsurers. These include reserve requirements, which differ from Indiana’s requirements.

The New York regulations require LNL to report more reserves to the state of New York. As a result, the level of statutory surplus that LNL reports to New York is less than the statutory surplus reported to Indiana and the National Association of Insurance Commissioners. If New York requires LNL to maintain a higher level of capital to remain an accredited reinsurer in New York, LNL’s ability to pay dividends to us could be constrained. However, we do not expect that LNL’s ability to pay dividends during 2006 will be constrained as a result of our status in New York.

Lincoln UK’s operations consist primarily of unit-linked life and pension products, which are similar to U.S. produced variable life and annuity products. Lincoln UK’s insurance subsidiaries are regulated by the U.K. Financial Services Authority (“FSA”) and are subject to capital requirements as defined by the U.K. Capital Resources Requirement (formerly the Required Minimum Solvency Margin). All insurance companies operating in the U.K. also have to complete a risk-based capital (“RBC”) assessment to demonstrate to the FSA that they hold sufficient capital to cover their risks. RBC requirements in the U.K. are different than the NAIC requirements. In addition, the FSA has imposed certain minimum capital requirements for the combined U.K. subsidiaries. Lincoln UK maintains approximately 1.5 to 2 times the required capital as prescribed by the regulatory margin. As is the case with regulated insurance companies in the U.S., changes to regulatory capital requirements can impact the dividend capacity of the UK insurance subsidiaries and cash flow to us.

Reinsurance

Our amounts recoverable from reinsurers represent receivables from and reserves ceded to reinsurers. We obtain reinsurance from a diverse group of reinsurers and we monitor concentration, as well as financial strength ratings of our principal reinsurers. Swiss Re Life & Health America, Inc. (“Swiss Re”) represents our largest reinsurance exposure. In 2001, we sold our reinsurance business to Swiss Re primarily through indemnity reinsurance arrangements. Because we are not relieved of our liability to the ceding companies for this business, the liabilities and obligations associated with the reinsured contracts remain on our Consolidated Balance Sheets with a corresponding reinsurance receivable from the business sold to Swiss Re, which totaled $4.1 billion at September 30, 2006 and December 31, 2005. Swiss Re has funded a trust with a balance of $1.7 billion at September 30, 2006 to support this business. In addition to various remedies that we would have in the event of a default by Swiss Re, we continue to hold assets in support of certain of the transferred reserves. These assets consist of those reported as trading securities and certain mortgage loans. Our liabilities for funds withheld and embedded derivatives included $2.1 billion and $0.2 billion, respectively, at September 30, 2006 related to the business sold to Swiss Re.

United Kingdom Selling Practices

Various selling practices of the Lincoln UK operations have come under scrutiny by the U.K. regulators. These include the sale and administration of individual pension products and mortgage endowments. Regarding the sale and administration of pension products to individuals, regulatory agencies have raised questions as to what constitutes appropriate advice to individuals who bought pension products as an alternative to participation in an employer-sponsored plan. In cases of alleged inappropriate advice, an extensive investigation has been or is being carried out and the individual put in a position similar to what would have been attained if the individual had remained in an employer-sponsored plan.

At September 30, 2006 and December 31, 2005, the aggregate liability associated with Lincoln UK selling practices was $6 million and $13 million, respectively. The liabilities reflect our assessment of the likely outcome of known issues and are based on estimates that are subject to uncertainty. Future changes in complaint levels or changes in the regulatory position on time limits for making a complaint regarding the sale of mortgage endowment contracts could affect Lincoln UK’s ultimate exposure to mis-selling issues, although we believe that any future change would not materially affect our consolidated financial position.

In July 2006, we negotiated a memorandum of understanding with certain of our liability carriers, from whom we received a reimbursement during the third quarter of 2006 of $26 million for certain losses incurred in connection with certain United Kingdom selling practices. The reimbursement was included in net income for the third quarter. We continue to pursue claims with other liability carriers and we cannot reasonably predict either the timing or the amount of any future reimbursements.

Marketing and Compliance Issues

There continues to be a significant amount of federal and state regulatory activity in the industry relating to numerous issues including, but not limited to, market timing and late trading of mutual fund and variable insurance products and broker-dealer access arrangements. Like others in the industry, we have received inquiries including requests for information and/or subpoenas from various authorities including the SEC, National Association of Securities Dealers (“NASD”), and the New York Attorney General, as well as notices of potential proceedings from the SEC and NASD. We are in the process of responding to, and in some cases have settled or are in the process of settling, certain of these inquiries and potential proceedings. We continue to cooperate fully with such authorities.

Regulators also continue to focus on replacement and exchange issues. Under certain circumstances companies have been held responsible for replacing existing policies with policies that were less advantageous to the policyholder. Our management continues to monitor compliance procedures to minimize any potential liability. Due to the uncertainty surrounding all of these matters, it is not possible to provide a meaningful estimate of the range of potential outcomes; however it is management’s opinion that future developments will not materially affect our consolidated financial position.

Media Commitments

Lincoln Financial Media has commitments to purchase future sports programming rights, and for employment contracts, leases and syndicated television programming of approximately $287 million through 2011and $16 million thereafter. We have offset the purchase of these programming rights by receiving commitments from other entities to purchase a portion of our sports programming rights of approximately $203 million through 2011, as well as by entering into advertising contracts with customers for the airing of commercials. These commitments are not reflected as an asset or liability in our Consolidated Balance Sheet because the programs are not currently available for use.

Other Contingency Matters

We and our subsidiaries are involved in various pending or threatened legal proceedings, including purported class actions, arising from the conduct of business. In some instances, these proceedings include claims for unspecified or substantial punitive damages and similar types of relief in addition to amounts for alleged contractual liability or requests for equitable relief. After consultation with legal counsel and a review of available facts, it is management’s opinion that these proceedings ultimately will be resolved without materially affecting our consolidated financial position.

State guaranty funds assess insurance companies to cover losses to policyholders of insolvent or rehabilitated companies. Mandatory assessments may be partially recovered through a reduction in future premium taxes in some states. We have accrued for expected assessments net of estimated future premium tax deductions.

Guarantees

We have guarantees with off-balance-sheet risks having contractual values of $3 million and $4 million at September 30, 2006 and December 31, 2005, respectively.

Certain of our subsidiaries have sold commercial mortgage loans through grantor trusts, which issued pass-through certificates. These subsidiaries have agreed to repurchase any mortgage loans which remain delinquent for 90 days at a repurchase price substantially equal to the outstanding principal balance plus accrued interest thereon to the date of repurchase. In case of default by the borrowers, we have recourse to the underlying real estate. It is management’s opinion that the value of the properties underlying these commitments is sufficient that in the event of default, the impact would not be material to us. These guarantees expire in 2009.

We guarantee the repayment of operating leases on facilities that we have subleased to third parties, which obligate us to pay in the event the third parties fail to perform their payment obligations under the subleasing agreements. We have recourse to the third parties enabling us to recover any amounts paid under our guarantees. The annual rental payments subject to these guarantees are $15 million and expire in 2009.

Derivative Instruments

We maintain an overall risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate risk, foreign currency risk, equity risk, and credit risk. We assess these risks by continually identifying and monitoring changes in interest rate exposure, foreign currency exposure, equity market exposure, and credit exposure that may adversely impact expected future cash flows and by evaluating hedging opportunities. Derivative instruments that are currently used as part of our interest rate risk management strategy include interest rate swaps, interest rate futures and interest rate caps. Derivative instruments that are used as part of our foreign currency risk management strategy include foreign currency swaps and foreign exchange forwards. Call options on our stock, total return swaps, put options and equity futures are used as part of our equity market risk management strategy. We also use credit default swaps as part of our credit risk management strategy.

As a result of our acquisition of Jefferson-Pilot, we now distribute indexed annuity contracts. These contracts permit the holder to elect an interest rate return or an equity market component, where interest credited to the contracts is linked to the performance of the S&P 500^® index. Policyholders may elect to rebalance index options at renewal dates, either annually or biannually. At each renewal date, we have the opportunity to re-price the indexed component by establishing participation rates, subject to minimum guarantees. We purchase S&P 500^® index call options that are highly correlated to the portfolio allocation decisions of our policyholders, such that we are economically hedged with respect to equity returns for the current reset period. The mark-to-market of the options held impacts net investment income and generally offsets the change in value of the embedded derivative within the indexed annuity which is recorded as a component of interest credited to policyholders’ within insurance benefits. SFAS 133 requires that we calculate fair values of index options we may purchase in the future to hedge policyholder index allocations in future reset periods. These fair values represent an estimate of the cost of the options we will purchase in the future, discounted back to the date of the balance sheet, using current market indicators of volatility and interest rates. Changes in the fair values of these liabilities are included in interest credited. The notional amounts of policyholder fund balances allocated to the equity-index options were $2.2 billion at September 30, 2006.

By using derivative instruments, we are exposed to credit risk (our counterparty fails to make payment) and market risk (the value of the instrument falls and we are required to make a payment). When the fair value of a derivative contract is positive, this generally indicates that the counterparty owes us and, therefore, creates a credit risk for us equal to the extent of the fair value gain in the derivative. When the fair value of a derivative contract is negative, we owe the counterparty and therefore we have no credit risk, but have been affected by market risk. We minimize the credit risk in derivative instruments by entering into transactions with high quality counterparties with minimum credit ratings that are reviewed regularly by us, by limiting the amount of credit exposure to any one counterparty, and by requiring certain counterparties to post collateral if our credit risk exceeds certain limits. We also maintain a policy of requiring that all derivative contracts be governed by an International Swaps and Derivatives Association (“ISDA”) Master Agreement. We do not believe that the credit or market risks associated with derivative instruments are material to any insurance subsidiary or the Company.

We and our insurance subsidiaries are required to maintain minimum ratings as a matter of routine practice in negotiating ISDA agreements. Under some ISDA agreements our insurance subsidiaries have agreed to maintain certain financial strength or claims-paying ratings. A downgrade below these levels could result in termination of the derivatives contract at which time any amounts payable by us would be dependent on the market value of the underlying derivative contract. In certain transactions, we and the counterparty have entered into a collateral support agreement requiring us to post collateral upon significant downgrade. We do not believe the inclusion of termination or collateralization events pose any material threat to the liquidity position of any insurance subsidiary or the Company.

Market risk is the adverse effect that a change in interest rates, currency rates, implied volatility rates, or a change in certain equity indexes or instruments has on the value of a financial instrument. We manage the market risk by establishing and monitoring limits as to the types and degree of risk that may be undertaken.

Our derivative instruments are monitored by our risk management committee as part of that committee’s oversight of our derivative activities. Our derivative instruments committee is responsible for implementing various hedging strategies that are developed through our analysis of financial simulation models and other internal and industry sources. The resulting hedging strategies are then incorporated into our overall risk management strategies.

8.	Segment Information

In the quarter ended June 30, 2006, we completed our merger with Jefferson-Pilot and changed our management organization. We also realigned our reporting segments to reflect the current manner by which our chief operating decision makers view and manage the business. All segment data for reporting periods have been adjusted to reflect the current segment reporting. As a result of these changes, we provide products and services in five operating businesses: (1) Individual Markets, (2) Employer Markets, (3) Investment Management, (4) Lincoln UK and (5) Lincoln Financial Media, and report results through seven business segments. The following is a brief description of these segments.

Individual Markets. The Individual Markets business provides its products through two segments, Individual Annuities and Individual Life Insurance. Through its Individual Annuities segment, Individual Markets provides tax-deferred investment growth and lifetime income opportunities for its clients by offering individual fixed annuities, including indexed annuities, and variable annuities. The Individual Life Insurance segment offers wealth protection and transfer opportunities through both single and survivorship versions of universal life, variable universal life, interest-sensitive whole life, term insurance, as well as a linked-benefit product, which is a universal life insurance policy linked with riders that provide for long-term care costs.

Employer Markets. The Employer Markets business provides its products through two segments, Retirement Products and Group Protection, formerly referred to as Benefit Partners. Through its Retirement Products segment, which consists of its Defined Contribution and Executive Benefits businesses, Employer Markets provides employer-sponsored variable and fixed annuities, mutual-fund based programs in the 401(k), 403(b), and 457 marketplaces and corporate/bank owned life insurance. The Group Protection segment offers group non-medical insurance products, principally term life, disability and dental, to the employer marketplace through various forms of contributory and noncontributory plans. Most of our group contracts are sold to employers with fewer than 500 employees.

Investment Management. The Investment Management segment, through Delaware Investments, provides a broad range of managed accounts and portfolios, mutual funds, subadvised funds, and other investment products to individual investors and to institutional investors such as private and public pension funds, foundations, and endowment funds. Delaware Investments is the marketing name for Delaware Management Holdings, Inc. and its subsidiaries.

Lincoln UK. Lincoln UK is headquartered in Barnwood, Gloucester, England, and is licensed to do business throughout the United Kingdom. Lincoln UK primarily focuses on protecting and enhancing the value of its existing customer base. The segment accepts new deposits from existing relationships and markets a limited range of new products. Lincoln UK’s product portfolio principally consists of unit-linked life and pension products, which are similar to U.S. produced variable life and annuity products, where the risk associated with the underlying investments is borne by the policyholders.

Lincoln Financial Media. The Lincoln Financial Media segment operates domestic radio and television broadcasting stations and produces syndicated collegiate sports programming. Federal Communications Commission (“FCC”) licenses, which are required for operations, are subject to periodic renewal. All of our licenses are current.

We also have “Other Operations,” which includes the financial data for operations that are not directly related to the business segments, unallocated items (such as corporate investment income on assets not allocated to our business units, interest expense on short-term and long-term borrowings, and certain expenses, including restructuring and merger-related expenses) and the historical results of the former reinsurance segment, which was sold to Swiss Re in the fourth quarter of 2001, along with the ongoing amortization of deferred gain on the indemnity reinsurance portion of the transaction with Swiss Re.

Segment operating revenue and income (loss) from operations are internal measures used by our management and Board of Directors to evaluate and assess the results of our segments. Operating revenue is GAAP revenue excluding realized gains and losses on investments and derivative instruments, gains and losses on reinsurance embedded derivative/trading securities, gains and losses on sale of subsidiaries/businesses and the amortization of deferred gain arising from reserve development on business sold through reinsurance. Income (loss) from operations is GAAP net income excluding net realized investment gains and losses, losses on early retirement of debt, reserve development net of related amortization on business sold through reinsurance and cumulative effect of accounting changes. Our management and Board of Directors believe that operating revenue and income (loss) from operations explain the results of our ongoing businesses in a manner

that allows for a better understanding of the underlying trends in our current businesses because net realized investment gains and losses, reserve development net of related amortization on business sold through reinsurance and cumulative effect of accounting changes are unpredictable and not necessarily indicative of current operating fundamentals or future performance of the business segments, and in many instances, decisions regarding these items do not necessarily relate to the operations of the individual segments. Operating revenue and income (loss) from operations do not replace revenues and net income as the GAAP measures of our consolidated results of operations.

The following tables show financial data by segment:

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
(in millions)	2006			2005			2006			2005
Revenue:
Segment Operating Revenue:
Individual Markets:
Individual Annuities	$	597		$	363		$	1,524		$	1,050
Life Insurance		895			459			2,297			1,409
Individual Markets Total		1,492			822			3,821			2,459
Employer Markets:
Retirement Products		349			298			1,006			872
Group Protection		332			-			687			-
Employer Markets Total		681			298			1,693			872
Investment Management ⁽¹⁾		140			123			415			347
Lincoln UK		72			103			223			256
Lincoln Financial Media⁽²⁾		60			-			117			-
Other Operations		86			68			244			227
Consolidating adjustments		(34	)		(23	)		(93	)		(80	)
Net realized investment results ⁽³⁾		(10	)		4			(16	)		6
Reserve development net of related amortization
on business sold through reinsurance		-			-			1			1
Total	$	2,487		$	1,395		$	6,405		$	4,088
Net Income:
Segment Operating Income:
Individual Markets:
Individual Annuities	$	129		$	79		$	285		$	181
Life Insurance		123			65			339			186
Individual Markets Total		252			144			624			367
Employer Markets:
Retirement Products		65			56			195			152
Group Protection		29			-			66			-
Employer Markets Total		94			56			261			152
Investment Management ⁽¹⁾		13			5			41			8
Lincoln UK		8			10			29			30
Lincoln Financial Media		15			-			27			-
Other Operations		(11	)		12			(38	)		44
Net realized investment results ⁽⁴⁾		(7	)		2			(11	)		4
Reserve development net of related amortization
on business sold through reinsurance		-			-			1			1
Net Income	$	364		$	229		$	934		$	606

(1)	Revenues for the Investment Management segment include inter-segment revenues for asset management services provided to our other segments. These inter-segment revenues totaled $24 million and $25 million for the three months ended September 30, 2006 and 2005, and $72 million and $74 million for the nine months ended September 30, 2006 and 2005, respectively.
(2)	Lincoln Financial Media revenues are net of $8 million and $17 million of commissions paid to agencies during the third quarter of 2006 and the six months since the merger.
(3)	Includes realized losses on investments and derivative instruments of $6 million and $1 million for the three months ended September 30, 2006 and 2005, respectively; gain (loss) on reinsurance embedded derivative/trading securities of $ (4) million and $5 million for the three months ended September 30, 2006 and 2005, respectively. Includes realized losses on investments and derivative instruments of $20 million and $13 million for the nine months ended September 30, 2006 and 2005, gain on reinsurance embedded derivative/trading securities of $4 million and $5 million for the nine months ended September 30, 2006 and 2005, respectively; and gain on sale of subsidiaries/businesses of $14 million for the nine months ended September 30, 2005.

(4)

Includes after-tax realized losses on investments and derivative instruments of $5 million and $1 million for the three months ended September 30, 2006 and 2005, respectively; gain (loss) on reinsurance embedded derivative/trading securities of $(2) million and $3 million for the three months ended September 30, 2006 and 2005, respectively. Includes realized losses on investments and derivative instruments of $13 million and $8 million for the nine months ended September 30, 2006 and 2005, respectively; gain on reinsurance embedded derivative/trading securities of $2 million and $3 million for the nine months ended September 30, 2006 and 2005, respectively; and gain on sale of subsidiaries/businesses of $9 million for the nine months ended September 30, 2005.

	As of
(in millions)	September 30, 2006
Assets:
Individual Markets
Individual Life Insurance	$	41,426
Individual Annuities		67,056
Employer Markets
Retirement Products		35,953
Group Protection		2,306
Investment Management		565
Lincoln UK		10,384
Lincoln Financial Media		1,487
Other Operations		25,201
Consolidating adjustments		(12,652	)
Total	$	171,726

9.	Earnings Per Share

The income used in the calculation of our diluted earnings per share is net income reduced by minority interest adjustments related to outstanding stock options under the Delaware Investments U.S., Inc. (“DIUS”) stock option incentive plan of less than $1 million for all periods presented.

A reconciliation of the denominator in the calculations of basic and diluted net income per share is as follows:

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2006			2005			2006			2005
Denominator: [number of shares]
Weighted-average shares as used in basic calculation		278,472,606			172,614,421			244,436,546			173,018,733
Conversion of preferred stock		229,398			258,153			236,090			262,342
Non-vested stock		1,215,886			1,401,023			1,296,788			1,223,935
Average stock options outstanding during the period		17,027,119			6,957,917			14,198,174			6,246,594
Assumed acquisition of shares with assumed proceeds and
benefits from exercising stock options		(14,296,624	)		(6,086,239	)		(12,150,774	)		(5,467,039	)
Shares repurchaseable from measured but unrecognized
stock option expense		(1,532,286	)		(650,891	)		(1,303,201	)		(552,577	)
Average deferred compensation shares		1,301,204			1,340,854			1,281,868			1,278,772
Weighted-average shares, as used in diluted calculation		282,417,303			175,835,238			247,995,491			176,010,760

In the event the average market price of our common stock exceeds the issue price of stock options, such options would be dilutive to our earnings per share and will be shown in the table above. Participants in our deferred compensation plans that select our stock for measuring the investment return attributable to their deferral amounts will be paid out in our stock. These deferred compensation plan obligations are dilutive and are shown in the table above.

10.

Employee Benefit Plans

Pension and Other Post-retirement Plans

As a result of our merger with Jefferson-Pilot, we maintain defined benefit pension plans and post-retirement benefit plans for the former U.S. employees of Jefferson-Pilot and have included these plans in the tables below as of April 3, 2006. The components of net periodic benefit expense for our defined benefit pension plans and post-retirement benefit plans are as follows:

							Other Post-retirement
	Pension Benefits						Benefits
	Three months ended						Three months ended
	September 30,						September 30,
(in millions)	2006			2005			2006		2005
U.S. Plans:
Service cost	$	9		$	5		$	1	$	1
Interest cost		15			8			2		1
Expected return on plan assets		(19	)		(11	)		-		-
Recognized net actuarial losses		1			1			-		-
Net periodic benefit expense	$	6		$	3		$	3	$	2

Non-U.S. Plans:
Service cost	$	-		$	-
Interest cost		4			4
Expected return on plan assets		(4	)		(3	)
Recognized net actuarial (gains) losses		1			1
Net periodic benefit expense	$	1		$	2

							Other Post-retirement
	Pension Benefits						Benefits
	Nine months ended						Nine months ended
	June 30,						June 30,
(in millions)	2006			2005			2006			2005
U.S. Plans:
Service cost	$	23		$	14		$	2		$	2
Interest cost		38			25			6			4
Expected return on plan assets		(48	)		(33	)		(1	)		-
Recognized net actuarial losses		2			1			-			-
Net periodic benefit expense	$	15		$	7		$	7		$	6

Non-U.S. Plans:
Service cost	$	1		$	1
Interest cost		12			12
Expected return on plan assets		(13	)		(10	)
Recognized net actuarial (gains) losses		3			2
Net periodic benefit expense	$	3		$	5

11.

Stock-Based Incentive Compensation Plans

See Note 8 to the Consolidated Financial Statements in our 2005 Form 10-K for a detailed discussion of stock and incentive compensation.

We have various incentive plans for our employees, agents and directors and our subsidiaries that provide for the issuance of stock options, stock incentive awards, stock appreciation rights (“SARs”), restricted stock awards, restricted stock

units (“performance shares”), and deferred stock units. DIUS has a separate stock option incentive plan. We have a policy of issuing new shares to satisfy option exercises. Total pre-tax compensation expense (income) for all of our stock-based incentive compensation plans is as follows:

	Three Months Ended					Nine Months Ended
(in millions)	September 30,					September 30,
	2006			2005		2006			2005
Stock options	$	6		$	2	$	11		$	9
Shares		11			8		21			20
Cash awards		2			1		3			3
DIUS stock options		2			4		7			12
SARs		(1	)		-		(1	)		2
Restricted stock		1			1		2			1
Total	$	21		$	16	$	43		$	47

Recognized tax benefit	$	7		$	6	$	15		$	16

Outstanding options to acquire Jefferson-Pilot common stock that existed immediately prior to the date of the merger remain subject to the same terms and conditions that existed, except that each of these stock options is now or will be exercisable for LNC common stock equal to the number of shares of Jefferson-Pilot common stock subject to such option multiplied by 1.0906 (rounded down to the nearest whole share), with the exercise price determined by dividing the exercise price of the Jefferson-Pilot options by 1.0906 (rounded up to the sixth decimal place). Grants of Jefferson-Pilot stock options in February 2006 will generally continue to vest in one-third annual increments. All employee and director stock options outstanding as of December 31, 2005 vested and became exercisable upon closing the merger. Jefferson-Pilot stock options held by its non-employee agents did not become fully vested and exercisable in connection with the merger, but will vest in accordance with the applicable option agreement.

LNC Stock-Based Incentive Plans

Information with respect to stock option and performance share awards, granted under our long-term incentive plans is provided in the table below.

	September 30,
	2006	2005
Awards
10-year LNC stock options	-	370,646
Performance share units	174,173	435,827

Outstanding at September 30
10-year LNC stock options	851,194	988,797
Non-employee agent stock options	536,262	-
Performance share units	1,011,690	1,588,610

In the second quarter of 2006, a performance period from 2006 - 2008 was approved by the Compensation Committee. Participants in this performance period received one-half of their award in 10-year LNC stock options, with the remainder of the award in a combination of performance shares and cash. Stock options granted for this performance period vest ratably over the three-year period, based solely on a service condition. Depending on the performance, the actual amount of performance units could range from zero to 200% of the granted amount.

For the three-year performance periods 2004-2006 and 2005-2007, the performance measures for determining the actual amount of 10-year LNC stock options and all performance share units were established at the beginning of each three-year performance period. Depending on the performance, the actual amount of stock options and performance share units awarded could range from zero to 200% of the granted amount, with the amount in excess of 100% resulting in a payout of additional shares. Certain Jefferson-Pilot executives were brought into the 2004-2006 and 2005-2007 plans on a pro-rata basis. Non-employee agent stock options are five-year options with some vesting based on the agents’ future performance and others vesting upon grant based on past performance.

The option price assumptions used for our stock option incentive plans were as follows:

Nine Months Ended Sepember 30, 2006