-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, KrUNJnmMqSbL7EqrIfImqZZ6AWN8ToW1HAFbgFT+sw2tFKruAIdFWHuCI1Y/+LOB d5wA+kLv+fQgw3BlLyhXsA== 0000021175-00-000021.txt : 20000411 0000021175-00-000021.hdr.sgml : 20000411 ACCESSION NUMBER: 0000021175-00-000021 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 7 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000329 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CNA FINANCIAL CORP CENTRAL INDEX KEY: 0000021175 STANDARD INDUSTRIAL CLASSIFICATION: FIRE, MARINE & CASUALTY INSURANCE [6331] IRS NUMBER: 366169860 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-05823 FILM NUMBER: 583629 BUSINESS ADDRESS: STREET 1: CNA PLZ CITY: CHICAGO STATE: IL ZIP: 60685 BUSINESS PHONE: 3128225000 MAIL ADDRESS: STREET 1: CNA PLAZA CITY: CHICAGO STATE: IL ZIP: 60685 10-K 1 1999 FORM 10-K - ----------------------------------------------------------------------------- - ----------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Year Ended December 31, 1999 Commission File Number 1-5823 ---------------- CNA FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) DELAWARE 36-6169860 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) CNA PLAZA CHICAGO, ILLINOIS 60685 (Address of principal executive offices) (Zip Code) (312) 822-5000 (Registrant's telephone number, including area code) SECURITIES REGISTERED PURSUANT TO SECTION 12(B)OF THE ACT: NAME OF EACH EXCHANGE ON TITLE OF EACH CLASS WHICH REGISTERED ------------------- ----------------------- Common Stock New York Stock Exchange with a par value Chicago Stock Exchange of $2.50 per share Pacific Exchange SECURITIES REGISTERED PURSUANT TO SECTION 12(G)OF THE ACT: None ------------ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K 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 to this Form 10-K. [ ] Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes No.... As of March 24, 2000, 183,293,131 shares of common stock were outstanding and the aggregate market value of the common stock of CNA Financial Corporation held by non-affiliates was approximately $746 million. DOCUMENTS INCORPORATED BY REFERENCE: Portions of the CNA Financial Corporation 1999 Annual Report to Shareholders are incorporated by reference into Parts I and II of this Report. Portions of the CNA Financial Corporation Proxy Statement prepared for the 2000 annual meeting of shareholders, pursuant to Regulation 14A, are incorporated by reference into Part III of this Report. - ------------------------------------------------------------------------------ - ------------------------------------------------------------------------------ CNA FINANCIAL CORPORATION ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1999 Item Page Number PART I Number 1. Business........................................................ 3 2. Properties...................................................... 10 3. Legal Proceedings............................................... 11 4. Submission of Matters to a Vote of Security Holders............. 11 Executive Officers of the Registrant............................ 12 PART II 5. Market for the Registrant's Common Stock and Related Stockholder Matters.................................. 13 6. Selected Financial Data......................................... 13 7. Management's Discussion and Analysis of Financial Condition and Results of Operations........................................ 13 7A. Quantitative and Qualitative Disclosures about Market Risk....... 13 8. Financial Statements and Supplementary Data..................... 13 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure....................... 13 PART III 10. Directors and Executive Officers of the Registrant............... 14 11. Executive Compensation........................................... 14 12. Security Ownership of Certain Beneficial Owners and Management... 14 13. Certain Relationships and Related Transactions................... 14 PART IV 14. Financial Statements, Schedules, Exhibits and Reports on Form 8-K......................................................... 15 2 PART I ITEM 1. BUSINESS CNA Financial Corporation (CNAF or the Company) was incorporated in 1967 and is an insurance holding company whose primary subsidiaries consist of property/casualty and life insurance companies. Collectively CNAF and its subsidiaries are referred to as CNA. CNA's property/casualty insurance operations are conducted by Continental Casualty Company (CCC), incorporated 1897, and its affiliates, and The Continental Insurance Company (CIC), organized 1853, and its affiliates. Life insurance operations are conducted by Continental Assurance Company (CAC), incorporated 1911, and its life insurance affiliates. CIC became an affiliate of the Company in 1995 as a result of the acquisition of The Continental Corporation (Continental). The principal business of Continental is the ownership of a group of property and casualty insurance companies. CNA serves businesses and individuals with a broad range of insurance and other risk management products and services. Insurance products include property and casualty coverages; life, accident and health insurance; and pensions products and annuities. CNA services include risk management, information services, healthcare management and claims administration. CNA products are marketed through agents, brokers, managing general agents and direct sales. CNA's principal market is the United States. CNA conducts its operations through seven operating segments: Agency Market Operations, Specialty Operations, CNA Re, Global Operations, Risk Management, Group Operations and Life Operations. Discussions of each segment including the products offered, the customers served and the distribution channels used is set forth in the Management's Discussion and Analysis section of the 1999 Annual Report to Shareholders, incorporated by reference in Item 7, herein. On March 20, 2000 CCC proposed to CNA Surety Corporation (CNA Surety) that CCC make a cash tender offer at $13.00 per share for all shares of CNA Surety common stock not already owned by CCC and its affiliates. CCC and its affiliates owned approximately 63 percent of the outstanding shares of CNA Surety common stock on March 20, 2000. CCC intends to condition the tender offer upon receiving enough shares so that its ownership reaches at least 90 percent. If this ownership threshold is achieved, CCC would then acquire the remaining outstanding shares of CNA Surety common stock not tendered to CCC through a statutory "short-form" merger process. Stockholders who do not tender their shares to CCC during the tender offer would also receive $13.00 per share in cash for their stock in the short-form merger. COMPETITION Due to market pressures, the insurance environment remains intensely competitive. CNA competes with a large number of stock and mutual insurance companies and other entities for both producers and customers, and must continuously allocate resources to refine and improve its insurance products and services. There are approximately 3,400 individual companies that sell property/casualty insurance in the United States. CNAF's consolidated property/casualty subsidiaries ranked as the 5th largest property/casualty insurance organization based upon 1998 statutory net written premiums. There are approximately 1,500 companies selling life insurance in the United States. CAC is ranked as the 35th largest life insurance organization based on 1998 consolidated statutory premium volume. DIVIDENDS BY INSURANCE SUBSIDIARIES The payment of dividends to CNAF by its insurance subsidiaries without prior approval of the affiliates' domiciliary state insurance commissioners is limited by formula. This formula varies by state. The formula used by the majority of the states provides that the greater of 10% of prior year statutory surplus or prior year statutory net income, less the aggregate of all dividends paid during the twelve months prior to date of payment is available to be paid as a dividend to the parent company. Some states, however, have an additional stipulation that dividends cannot exceed prior year's surplus. Based upon the formulae applied by the respective domiciliary states of CNAF's 3 insurance subsidiaries, approximately $887 million in dividends can be paid to CNAF by those subsidiaries in 2000 without prior approval. However, all dividends must be reported to the domiciliary insurance department prior to declaration and payment. REGULATION The insurance industry is subject to comprehensive and detailed regulation and supervision throughout the United States. Each state has established supervisory agencies with broad administrative powers relative to licensing insurers and agents, approving policy forms, establishing reserve requirements, fixing minimum interest rates for accumulation of surrender values and maximum interest rates of policy loans, prescribing the form and content of statutory financial reports, and regulating solvency and the type and amount of investments permitted. Such regulatory powers also extend to premium rate regulations which require that rates not be excessive, inadequate or unfairly discriminatory. In addition to regulation of dividends by insurance subsidiaries discussed above, intercompany transfers of assets may be subject to prior notice or approval by the state insurance regulator, depending on the size of such transfers and payments in relation to the financial position of the insurance affiliates making the transfer. Insurers are also required by the states to provide coverage to insureds who would not otherwise be considered eligible by the insurers. Each state dictates the types of insurance and the level of coverage which must be provided to such involuntary risks. CNA's share of these involuntary risks is mandatory and generally a function of its respective share of the voluntary market by line of insurance in each state. Reform of the U.S. tort liability system is another issue facing the insurance industry. Although federal standards would create more uniform laws, tort reform supporters still look primarily to the states for passage of reform measures. Over the last decade, many states have passed some type of reform, but more recently, a number of state courts have modified or overturned these reforms. Additionally, new causes of action and theories of damages continue to be proposed in state court actions or by legislatures. Continued unpredictability in the law means that insurance underwriting and rating is expected to be difficult in commercial lines, professional liability and some specialty coverages. Although the federal government and its regulatory agencies do not directly regulate the business of insurance, federal legislative and regulatory initiatives can impact the insurance business in a variety of ways. These initiatives and legislation include tort reform proposals; proposals to overhaul the Superfund hazardous waste removal and liability statute; financial services modernization legislation, which includes provisions to remove barriers that prevent banks from engaging in the insurance business; and various tax proposals affecting insurance companies. In the mid 1990's the National Association of Insurance Commissioners (NAIC) adopted risk based capital (RBC) requirements for both life insurance companies and property/casualty insurance companies. The requirements are to be utilized by state insurance departments as a minimum capital requirement identifying companies that merit further regulatory action. The formulae were not developed to differentiate adequately capitalized companies that operate with capital levels higher than the RBC requirements. Therefore, it is inappropriate and inadvisable to use the formulae to rate or rank insurers. At December 31, 1999 and 1998, all of the Company's life and property & casualty companies had adjusted capital in excess of amounts requiring any regulatory action. REINSURANCE Information as to CNA's reinsurance activities is set forth in Note G of the Consolidated Financial Statements of the 1999 Annual Report to Shareholders, incorporated by reference in Item 8, herein. 4 EMPLOYEE RELATIONS As of December 31, 1999, CNA had approximately 19,600 full-time equivalent employees and has experienced satisfactory labor relations. CNA has never had work stoppages due to labor disputes. CNA has comprehensive benefit plans for substantially all of its employees, including retirement plans, savings plans, disability programs, group life programs and group health care programs. See Note I of the Consolidated Financial Statements of the 1999 Annual Report to Shareholders for further discussion, incorporated by reference in Item 8, herein. GOVERNMENT CONTRACTS CNA's premium revenue include premiums under contracts involving U.S. government employees and their dependents. Such premiums were approximately $2.1 billion, $2.0 billion and $2.1 billion in 1999, 1998 and 1997, respectively. BUSINESS SEGMENTS Information as to CNA's business segments is set forth in Note M of the Consolidated Financial Statements of the 1999 Annual Report to Shareholders, incorporated by reference in Item 8, herein. Additional information as to CNA's business segments is set forth in the Management's Discussion and Analysis of Financial Condition and Results of Operations section of the 1999 Annual Report to Shareholders, incorporated by reference in Item 7, herein. 5 SUPPLEMENTARY INSURANCE DATA The following table sets forth supplementary insurance data. - ------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31 1999 1998 1997 (In millions of dollars, except ratio information) - ------------------------------------------------------------------------------- TRADE RATIOS - GAAP BASIS (A) Loss ratio....................................... 87.1% 81.8% 77.1% Expense ratio.................................... 32.4 33.6 31.3 Combined ratio (before policyholder dividends)... 119.5 115.4 108.4 Policyholder dividend ratio...................... 0.3 1.1 0.5 TRADE RATIOS - STATUTORY BASIS (A) Loss ratio....................................... 87.1% 81.5% 77.5% Expense ratio.................................... 33.8 32.8 30.7 Combined ratio (before policyholder dividends)... 120.9 114.3 108.2 Policyholder dividend ratio...................... 0.3 1.0 0.8 GROSS LIFE INSURANCE IN-FORCE Group............................................$394,743 $317,720 $239,843 Life (c)......................................... 75,247 76,674 71,755 -------- -------- -------- $469,990 $394,394 $311,598 ======== ======== ======== OTHER DATA - STATUTORY BASIS (B) Property/casualty capital and surplus*..........$ 8,679 $ 7,623 $ 7,123 Life capital and surplus........................ 1,222 1,109 1,223 Written premium to surplus ratio............... 1.1 1.4 1.4 Capital and surplus-percent of total liabilities..................................... 21.9% 20.5% 22.4% Participating policyholders-percent of gross life insurance in force......................... 0.5% 0.5% 0.7% - ------------------------------------------------------------------------------- *Surplus includes equity of property/casualty companies' ownership in life insurance subsidiaries. (a) Trade ratios reflect the results of CNA's property/casualty insurance subsidiaries. Trade ratios are industry measures of property/casualty underwriting results. The loss ratio is the percentage of incurred claim and claim adjustment expenses to premiums earned. The expense ratio, using amounts determined in accordance with statutory accounting principles (GAAP), is the percentage of underwriting expenses, including the amortization of deferred acquisition costs, to premiums earned. The expense ratio, using amounts determined in accordance with statutory accounting practices, is the percentage of underwriting expenses (with no deferral of acquisition costs) to premiums written. The combined ratio is the sum of the loss and expense ratios. The policyholder dividend ratio is the ratio of dividends incurred to premiums earned. (b) Other data is determined in accordance with statutory accounting practices. Dividends of $570 million, $410 million and $175 million, were paid to CNAF by CCC in 1999, 1998 and 1997, respectively. Insurance subsidiaries have received, or will receive, reimbursement from CNAF for general management and administrative expenses, unallocated loss adjustment expenses and investment expenses of $203 million, $189 million and $217 million, in 1999, 1998 and 1997, respectively. Life statutory capital and surplus as a percent of total liabilities is determined after excluding Separate Account liabilities and reclassifying the statutorily required Asset Valuation and Interest Maintenance Reserves as surplus. (c) Lapse ratios for individual life insurance, as measured by surrenders and withdrawals as a percentage of average ordinary life insurance in force, were 10.9%, 14.7%, and 6.4% in 1999, 1998 and 1997, respectively. 6 SUPPLEMENTARY INSURANCE DATA--(CONTINUED) The following table displays the distribution of gross written premiums for the CNA's property/casualty operations: -------------------------------------------------------------------------- GROSS WRITTEN PREMIUM PERCENT OF TOTAL YEAR ENDED DECEMBER 31 1999 1998 1997 -------------------------------------------------------------------------- New York.................................. 8.2% 9.5% 9.9% California................................ 7.1 8.2 8.8 Texas..................................... 5.7 6.0 6.2 Florida................................... 4.6 4.6 4.8 Pennsylvania.............................. 4.3 4.7 5.1 New Jersey................................ 3.8 4.4 4.3 Illinois.................................. 3.8 4.5 4.4 All other states, countries or political 46.5 48.0 48.0 subdivisions (a).......................... Reinsurance assumed....................... 16.0 10.1 8.5 ------------------------------- 100.0% 100.0% 100.0% ========================================================================== (a) No other state, country or political subdivision accounts for more than 3.0% of gross written premium. Approximately 97% of CNA's premiums are derived from the United States. Premiums from any individual foreign country are not significant. PROPERTY/CASUALTY CLAIM AND CLAIM ADJUSTMENT EXPENSES The following loss reserve development table illustrates the change over time of reserves established for property/casualty claims and claim adjustment expenses at the end of the preceding eleven calendar years for CNA's property/casualty operations. The first section shows the reserves as originally reported at the end of the stated year. The second section, reading down, shows the cumulative amounts paid as of the end of successive years with respect to the originally reported reserve liability. The third section, reading down, shows re-estimates of the originally recorded reserve as of the end of each successive year, which is the result of the Company's property/casualty insurance subsidiaries' expanded awareness of additional facts and circumstances that pertain to the unsettled claims. The last section compares the latest re-estimated reserve to the reserve originally established, and indicates whether the original reserve was adequate or inadequate to cover the estimated costs of unsettled claims. 7 PROPERTY/CASUALTY CLAIM AND CLAIM ADJUSTMENT EXPENSES--(CONTINUED) The loss reserve development table for property/casualty operations is cumulative and, therefore, ending balances should not be added since the amount at the end of each calendar year includes activity for both the current and prior years.
- ----------------------------------------------------------------------------------------------------------------------- SCHEDULE OF PROPERTY/CASUALTY LOSS RESERVE DEVELOPMENT CALENDAR YEAR ENDED 1989(a) 1990(a) 1991(a) 1992(a) 1993(a) 1994(a) 1995(b) 1996 1997(a) 1998(d) 1999(e) (In millions of dollars) - ----------------------------------------------------------------------------------------------------------------------- Gross reserves for unpaid claim and claim expenses. $ -- $16,530 $17,712 $20,034 $20,812 $21,639 $31,044 $29,395 $28,533 $28,317 26,631 Ceded recoverable..... -- 3,440 3,297 2,867 2,491 2,705 6,089 5,660 5,326 5,424 6,273 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------ Net reserves for unpaid claim and claim expenses. 11,267 13,090 14,415 17,167 18,321 18,934 24,955 23,735 23,697 22,893 20,358 ------- ------- ------- ------- ------- ------- ------- -------- ------ ------- ------ CUMULATIVE NET PAID AS OF: One year later........ 2,670 3,285 3,411 3,706 3,629 3,656 6,510 5,851 5,954 7,460 -- Two years later....... 4,724 5,623 6,024 6,354 6,143 7,087 10,485 9,796 11,102 -- -- Three years later..... 6,294 7,490 7,946 8,121 8,764 9,195 13,363 13,627 -- -- -- Four years later...... 7,534 8,845 9,218 10,241 10,318 10,624 16,407 -- -- -- -- Five years later...... 8,485 9,726 10,950 11,461 12,489 12,666 -- -- -- -- -- Six years later....... 9,108 11,207 11,951 12,308 14,249 -- -- -- -- -- -- Seven years later..... 10,393 12,023 12,639 13,947 -- -- -- -- -- -- -- Eight years later..... 11,086 12,592 14,166 -- -- -- -- -- -- -- -- Nine years later...... 11,563 14,019 -- -- -- -- -- -- -- -- -- Ten years later....... 12,897 -- -- -- -- -- -- -- -- -- -- NET RESERVES RE-ESTIMATED AS OF: End of initial year... 11,267 13,090 14,415 17,167 18,321 18,934 24,955 23,735 23,697 22,893 20,358 One year later........ 11,336 12,984 16,032 17,757 18,250 18,922 24,864 23,479 23,508 23,920 -- Two years later....... 11,371 14,693 16,810 17,728 18,125 18,500 24,294 23,140 23,702 -- -- Three years later..... 13,098 15,737 16,944 17,823 17,868 18,008 23,814 23,666 -- -- -- Four years later...... 14,118 15,977 17,376 17,765 17,511 17,354 24,679 -- -- -- -- Five years later...... 14,396 16,440 17,329 17,560 17,082 19,558 -- -- -- -- -- Six years later....... 14,811 16,430 17,293 17,285 20,066 -- -- -- -- -- -- Seven years later..... 14,810 16,551 17,069 18,974 -- -- -- -- -- -- -- Eight years later..... 14,995 16,487 18,553 -- -- -- -- -- -- -- -- Nine years later...... 14,973 17,792 -- -- -- -- -- -- -- -- -- Ten years later....... 16,155 -- -- -- -- -- -- -- -- -- -- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Total net (deficiency) (4,888) (4,702) (4,138) (1,807) (1,745) (624) 276 31 (495) (1,027) -- redundancy - ---------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------- Schedule of Property/Casualty Loss Reserve Development Calendar Year Ended 1989(a) 1990(a) 1991(a) 1992(a) 1993(a) 1994(a) 1995(b) 1996 1997(c) 1998(d) 1999(e) (In millions of dollars) - --------------------------------------------------------------------------------------------------------------------- Reconciliation to gross re-estimated reserves: Net reserves re-estimated.......... 16,155 17,792 18,553 18,974 20,666 19,558 24,679 23,666 23,702 23,920 -- Re-estimated ceded recoverable........... -- 405 667 926 1,095 1,366 7,484 8,334 8,634 9,021 -- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Total gross re-estimated reserves 16,155 18,197 19,220 19,900 21,161 20,924 32,163 32,000 32,336 32,941 -- - ---------------------------------------------------------------------------------------------------------------------- - ---------------------------------------------------------------------------------------------------------------------- Net (deficiency) redundancy related to: Asbestos claims........ (3,496) (3,365) (3,321) (1,633) (1,033) (999) (811) (910) (806) (560) -- Environmental claims... (978) (972) (929) (886) (445) (276) (197) (136) (138) 84 -- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Total asbestos and environmental (4,474) (4,337) (4,250) (2,519) (1,478) (1,275) (1,008) (1,046) (944) (476) -- Other claims........... (414) (365) 112 712 (267) 651 1,284 1,077 449 (551) -- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Total net (deficiency) redundancy (4,888) (4,702) (4,138) (1,807) (1,745) (624) 276 31 (495) (1,027) -- ======= ======= ======= ======= ======= ======= ======= ======= ======= ======= ======= - ----------------------------------------------------------------------------------------------------------------------
(a) Reflects reserves of CNA's property/casualty insurance subsidiaries, excluding Continental reserves, which were acquired on May 10, 1995 (the Acquisition Date). Accordingly, the reserve development (net reserves recorded at the end of the year, as initially estimated, less net reserves re-estimated as of subsequent years) does not include Continental. In 1995, CNA recorded adverse reserve development of $134 million related to the reserves of Continental, on the Acquisition Date. (b) Includes Continental gross reserves of $9,713 million and net reserves of $6,063 million acquired on the Acquisition Date and subsequent development thereon. (c) Includes net and gross reserves of acquired companies of $57 million and $64 million. (d) Includes net and gross reserves of acquired companies of $122 million and $223 million. (e) Ceded recoverable includes net reserves transferred under retroactive reinsurance agreements of $784 million, as of December 31, 1999. 8 PROPERTY/CASUALTY CLAIM AND CLAIM ADJUSTMENT EXPENSES--(CONTINUED) Additional information as to CNA's property/casualty claim and claim expense reserves and reserve development is set forth in Notes A and E of the Consolidated Financial Statements of the 1999 Annual Report to Shareholders, incorporated by reference in Item 8, herein. INVESTMENTS Information as to the Company's investments is set forth in Notes B and C of the Consolidated Financial Statements of the 1999 Annual Report to Shareholders, incorporated by reference in Item 8, herein. Additional information as to the Company's investments is set forth in the Management's Discussion and Analysis section of the 1999 Annual Report to Shareholders, incorporated by reference in Item 7, herein. 9 ITEM 2. PROPERTIES CNA Plaza, owned by Continental Assurance Company, serves as the home office for CNAF and its insurance subsidiaries. An adjacent building (located at 55 E. Jackson Blvd.), jointly owned by Continental Casualty Company and Continental Assurance Company, is partially situated on grounds under leases expiring in 2058. Approximately 25% of the adjacent building is rented to non-affiliates. CNAF's subsidiaries lease office space in various cities throughout the United States and in other countries. The following table sets forth certain information with respect to the principal office buildings owned or leased by CNAF's subsidiaries: ------------------------------------------------------------------------ AMOUNT OF BUILDING OWNED AND OCCUPIED OR LEASED BY CNA OR ITS LOCATION SUBSIDIARIES PRINCIPAL USAGE ------------------------------------------------------------------------ CNA Plaza 1,144,378 sq. ft.* Principal Executive 333 S. Wabash Offices of CNAF Chicago, Illinois 180 Maiden Lane 1,115,100* Property/Casualty New York, New York Insurance Offices 55 E. Jackson Blvd. 440,292* Principal Executive Chicago, Illinois Offices of CNAF 200 S. Wacker Drive 265,727** Property/Casualty Chicago, Illinois Insurance Offices 401 Penn Street 254,589* Leased to tenants Reading, Pennsylvania 100 CNA Drive 251,363* Life Insurance Offices Nashville, Tennessee 1111 E. Broad St. 225,470** Property/Casualty Columbus, Ohio Insurance Offices 40 Wall Street 199,238** Property/Casualty New York, New York Insurance Offices 1110 Ward Avenue 186,687* Property/Casualty Honolulu, Hawaii Insurance Offices 3501 State Highway 66 183,184** Property/Casualty Neptune, New Jersey Insurance Offices 2405 Lucien Way 178,744** Property/Casualty Maitland, Florida Insurance Offices 333 Glen Street 164,032** Property/Casualty Glens Falls, New York Insurance Offices 1100 Cornwall Road 147,884** Property/Casualty Monmouth Junction, Insurance Offices New Jersey 600 North Pearl Street 139,151** Property/Casualty Dallas, Texas Insurance Offices * Represents property owned by CNAF or its subsidiaries. ** Represents property leased by CNAF or its subsidiaries. 10 ITEM 3. LEGAL PROCEEDINGS Information as to CNA's legal proceedings is set forth in Note F of the Consolidated Financial Statements of 1999 Annual Report to Shareholders, incorporated by reference in Item 8, herein. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 11
EXECUTIVE OFFICERS OF THE REGISTRANT POSITION AND OFFICES HELD FIRST BECAME WITH REGISTRANT OFFICER OF CNA NAME AGE PRINCIPAL OCCUPATION DURING PAST FIVE YEARS Laurence A. Tisch Chief Executive 77 * Co-Chairman of the Board of Loews Corporation. Officer, CNA President, Chief Executive Officer and Director of Financial CBS, Inc. until November 1995. Executive officer of Corporation the Registrant since 1974. Bernard L. Hengesbaugh Chairman of the 53 1980 Chairman of the Board and Chief Executive Officer of Board and Chief CNA Insurance Companies since February 1999. Executive Executive Officer, Vice President and Chief Operating Officer of CNA CNA Insurance Insurance Companies from February 1998 until February Companies 1999. Senior Vice President of CNA Insurance Companies since November 1990. Executive officer of the Registrant since 1996. Robert V. Deutsch Senior Vice 40 1999 Senior Vice President and Chief Financial Officer of President and CNA Financial Corporation since August 1999. From Chief Financial June 1987 until August 1999, Mr. Deutsch was Officer, CNA Executive Vice President, Chief Financial Officer, Financial Chief Actuary and Assistant Secretary of Executive Corporation Risk Inc. Executive Officer of the Registrant since 1999. Jonathan D. Kantor Senior Vice 44 1994 Senior Vice President, General Counsel and Secretary President, of the Registrant since 1998. Senior Vice President, General Counsel General Counsel and Secretary of CNA Insurance and Secretary, Companies since 1997. Prior thereto, Group Vice CNA Financial President of CNA Insurance Companies since 1994. Corporation Executive Officer of the Registrant since 1997. Thomas F. Taylor Executive Vice 48 1992 Executive Vice President, Underwriting Policy Group President, CNA of CNA Insurance Companies since June 1999. From Insurance 1998 to 1999, Senior Vice President of CNA Insurance Companies Companies. From 1992 thru 1998, President and Chief Operating Officer Financial Insurance division of CNA Insurance Companies. Executive Officer of the Registrant since 1999.
Officers are elected and hold office until their successors are elected and qualified, and are subject to removal by the Board of Directors. *Mr. Tisch is not an officer of CNA. 12 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS Incorporated herein by reference from page 76 of the 1999 Annual Report to Shareholders. ITEM 6. SELECTED FINANCIAL DATA Incorporated herein by reference from page 1 of the 1999 Annual Report to Shareholders. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Incorporated herein by reference from pages 13 through 41 of the 1999 Annual Report to Shareholders. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Incorporated herein by reference from pages 35 through 37 of the 1999 Annual Report to Shareholders. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Consolidated Balance Sheets - December 31, 1999 and 1998 Consolidated Statements of Operations - Year Ended December 3l, 1999, 1998 and 1997 Consolidated Statements of Stockholders' Equity - December 31, 1999, 1998 and 1997 Consolidated Statements of Cash Flows - Year Ended December 31, 1999, 1998 and 1997 Notes to Consolidated Financial Statements Independent Auditors' Report The above Consolidated Financial Statements, the related Notes to the Consolidated Financial Statements and the Independent Auditors' Report are incorporated herein by reference from pages 42 through 74 of the 1999 Annual Report to Shareholders. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. 13 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Information required in Part III has been omitted as the Registrant intends to file a definitive proxy statement pursuant to Regulation 14A with the Securities and Exchange Commission not later than 120 days after the close of its fiscal year. ITEM 11. EXECUTIVE COMPENSATION Information required in Part III has been omitted as the Registrant intends to file a definitive proxy statement pursuant to Regulation 14A with the Securities and Exchange Commission not later than 120 days after the close of its fiscal year. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information required in Part III has been omitted as the Registrant intends to file a definitive proxy statement pursuant to Regulation 14A with the Securities and Exchange Commission not later than 120 days after the close of its fiscal year. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information required in Part III has been omitted as the Registrant intends to file a definitive proxy statement pursuant to Regulation 14A with the Securities and Exchange Commission not later than 120 days after the close of its fiscal year. 14 PART IV ITEM 14. FINANCIAL STATEMENTS, SCHEDULES, EXHIBITS AND REPORTS ON FORM 8-K Page (a) 1. FINANCIAL STATEMENTS: Number ------ A separate index to the Consolidated Financial Statements is presented in Part II, Item 8................................. 13 (a) 2. FINANCIAL STATEMENT SCHEDULES: Schedule I Summary of Investments....................... 18 Schedule II Condensed Financial Information (Parent Company)............................. 19 Schedule III Supplementary Insurance Information.......... 23 Schedule IV Reinsurance.................................. 24 Schedule V Valuation and Qualifying Accounts............ 24 Schedule VI Supplementary Information Concerning Property/Casualty Insurance Operations.... 25 Independent Auditors' Report.................................... 26 (a) 3. EXHIBITS: Exhibit Description of Exhibit Number ----------------------------- (3) Articles of incorporation and by-laws: Certificate of Incorporation of CNA Financial Corporation, as amended May 20, 1999 ........................................ 3.1* By-Laws of CNA Financial Corporation, as amended February 10, 1999 (Exhibit 3.2 to 1998 Form 10-K incorporated herein by reference.)........................................... 3.2 (4) Instruments defining the rights of security holders, including indentures: CNA Financial Corporation hereby agrees to furnish to the Commission upon request copies of instruments with respect to long-term debt, pursuant to Item 601(b) (4) (iii) of Regulation S-K................................................. -- (10) Material contracts: Federal Income Tax Allocation Agreement dated February 29, 1980 between CNA Financial Corporation and Loews Corporation (Exhibit 10.2 to 1987 Form 10-K incorporated herein by reference.).................................................... 10.1 15 PART IV ITEM 14. FINANCIAL STATEMENTS, SCHEDULES, EXHIBITS AND REPORTS ON FORM 8-K (CONTINUED) Exhibit Description of Exhibit Number ----------------------------- ------- (10) Material contracts (continued): Continuing Services Agreement between CNA Financial Corporation and Edward J. Noha, dated February 27, 1991 (Exhibit 6.0 to 1991 Form 8-K, filed March 18, 1991, incorporated herein by reference.)..................................................... 10.2 CNA Employees' Retirement Benefit Equalization Plan, as amended through January 1, 1994 ........................................ 10.3* CNA Employees' Supplemental Savings Plan, as amended through January 1, 1994................................................. 10.4* Agreement between Fibreboard Corporation and Continental Casualty Company, dated April 9, 1993 (Exhibit A to 1993 Form 8-K filed April 12, 1993 incorporated herein by reference.)............... 10.5 Settlement Agreement entered into on October 12, 1993 by and among Fibreboard Corporation, Continental Casualty Company, CNA Casualty of California, Columbia Casualty Company and Pacific Indemnity Company together the "Parties" (Exhibit 10.1 to September 30, 1993 Form 10-Q incorporated herein by reference.)..................................................... 10.6 Continental Casualty Company "CNA" Annual Incentive Bonus Plan Provisions (Exhibit 10.1 to 1994 Form 10K incorporated herein by reference.).................................................. 10.7 Employment Agreement between CNA Financial Corporation and Philip L. Engel, dated December 31, 1995 (Exhibit 10.3 to 1995 Form 10-K incorporated herein by reference.).................... 10.8 Letter extending employment Agreement between CNA Financial Corporation and Philip L. Engel, dated February 17, 1999 (Exhibit 10.17 to 1998 Form 10-K incorporated herein by reference.)...... 10.9 Continuing Services Agreement between CNA Financial Corporation and Dennis H. Chookaszian, dated February 9, 1999 (Exhibit 10.2 to 1998 Form 10-K incorporated herein by reference.)....................10.10 Employment Agreement between CNA Financial Corporation and Bernard Hengesbaugh, dated February 9, 1999 (Exhibit 10.18 to...10.11 CNA Financial Corporation 2000 Long-Term Incentive Plan, dated August 4, 1999 (Exhibit 4.1 to 1999 Form S-8 filed August 4, 1999, incorporated herein by reference.)..............................10.12 16 PART IV ITEM 14. FINANCIAL STATEMENTS, SCHEDULES, EXHIBITS AND REPORTS ON FORM 8-K (CONTINUED) Exhibit Description of Exhibit Number ----------------------------- ------- (10) Material Contracts (continued): Employment Agreement between CNA Financial Corporation and Robert V. Deutsch, dated August 16, 1999 (Exhibit 10 to September 30, 1999 Form 10-Q incorporated herein by reference.)..................................................10.13 Employment Agreement between CNA Financial Corporation and Thomas F. Taylor dated November 2, 1999.........................10.14* (12) Computation of Ratio of Earnings to Fixed Charges............... 12.1* (13) 1999 Annual Report.............................................. 13.1* (21) Primary Subsidiaries of CNAF.................................... 21.1* (23) Independent Auditors' Consent................................... 23.1* (27) Financial Data Schedule......................................... 27* *Filed herewith 17 SCHEDULE I CNA FINANCIAL CORPORATION SUMMARY OF INVESTMENTS
- ---------------------------------------------------------------------------------------------------------------- DECEMBER 31 1999 1998 ----------------------------- ----------------------------- COST OR Cost or AMORTIZED FAIR CARRYING Amortized Fair Carrying (In millions of dollars) COST VALUE VALUE Cost Value Value - ---------------------------------------------------------------------------------------------------------------- Fixed maturities available-for-sale: Bonds: United States government and government agencies and authorities-taxable......... $ 9,777 $ 9,619 $ 9,619 $ 9,507 $ 9,694 $ 9,694 States, municipalities and political subdivisions-tax exempt.................. 4,514 4,396 4,396 6,127 6,321 6,321 Foreign governments and political subdivisions............................. 1,472 1,429 1,429 1,543 1,545 1,545 Public utilities.......................... 368 354 354 683 694 694 Convertibles and bonds with warrants attached................................. 135 135 135 1 1 1 All other corporate....................... 11,619 11,185 11,185 11,614 11,724 11,724 Redeemable preferred stocks................... 63 130 130 36 94 94 ------- ------- ------- ------- ------- ------- Total fixed maturities available-for-sale 27,948 27,248 27,248 29,511 30,073 30,073 ------- ======= ------- ------- ======= ------- Equity securities available-for-sale: Common stocks: Banks, trusts and insurance companies.... 16 10 10 10 6 6 Public utilities.......................... 14 14 14 - - - Industrial and other........................ 858 3,320 3,320 724 1,659 1,659 Non-redeemable preferred stocks................ 262 266 266 321 305 305 ------- ------- ------- ------- ------- ------ Total equity securities available-for-sale $ 1,150 $ 3,610 $ 3,610 $ 1,055 $ 1,970 $ 1,970 ------- ======= ------- ------- ======= ------ Mortgage loans................................... 44 44 57 57 Real estate...................................... 3 3 5 5 Policy loans..................................... 192 192 177 177 Other invested assets............................ 1,036 1,108 806 858 Short-term investments........................... 3,355 3,355 4,037 4,037 - ---------------------------------------------------------------------------------------------------------------- TOTAL INVESTMENTS $33,728 $35,560 $35,648 $37,177 ================================================================================================================
18 CNA FINANCIAL CORPORATION SCHEDULE II (PARENT COMPANY) CONDENSED FINANCIAL INFORMATION
FINANCIAL POSITION - ----------------------------------------------------------------------------------------- DECEMBER 31 1999 1998 (In millions of dollars) - ----------------------------------------------------------------------------------------- ASSETS: Cash........................................................... $ 4 $ - Investments in subsidiaries.................................... 10,604 10,865 Deferred income taxes.......................................... 852 995 Notes receivable from affiliates............................... 534 514 Short-term investments......................................... 3 3 Federal income taxes receivable................................. 241 234 Other.......................................................... 19 5 -------- -------- Total assets............................................ $12,257 $12,616 ======== ======== LIABILITIES: Debt........................................................... $ 2,492 $ 2,475 Amounts due to affiliates...................................... 798 984 Other.......................................................... 29 - -------- -------- Total liabilities....................................... 3,319 3,459 STOCKHOLDERS' EQUITY: Accumulated other comprehensive income......................... 1,157 991 Other stockholders' equity..................................... 7,781 8,166 -------- -------- Total stockholders' equity.............................. 8,938 9,157 - ------------------------------------------------------------------------------------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $12,257 $12,616 ==========================================================================================
RESULTS OF OPERATIONS - -------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31 1999 1998 1997 (In millions of dollars) - -------------------------------------------------------------------------------------------- REVENUES: Equity in income of subsidiaries before income tax: Operating income............................................ $ 2 $ (52) $ 956 Realized investment gains................................... 307 695 742 Net investment income.......................................... 8 25 12 Realized investment gains (losses)............................. 8 (2) (4) -------- --------- ------- 325 666 1,706 -------- --------- ------- EXPENSES: Administrative and general..................................... 203 189 217 Interest....................................................... 160 148 131 Other.......................................................... 3 -- -- -------- --------- ------- 366 337 348 -------- --------- ------- Income (loss) before income tax and cumulative effect of a change in acccounting principle........................ (41) 329 1,358 Income tax expense (benefit)............................ (88) 47 392 Cumulative effect of a change in accounting principle, net tax of $95......................................... (177) - - - -------------------------------------------------------------------------------------------- NET INCOME (LOSS) $ (130) $ 282 $ 966 ============================================================================================ See accompanying Notes to Condensed Financial Information.
19 SCHEDULE II (continued) CNA FINANCIAL CORPORATION (PARENT COMPANY) CONDENSED FINANCIAL INFORMATION
STATEMENTS OF CASH FLOWS - -------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31 1999 1998 1997 (In millions of dollars) - -------------------------------------------------------------------------------------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss)........................................... $ (130) $ 282 $ 966 Adjustments to reconcile net income (loss) to net cash flows from operating activities: Distributions in excess of earnings (undistributed earnings) of affiliates............................... 197 (159) (1,523) Realized losses (gains)................................. (8) 2 4 Deferred income taxes................................... 43 47 144 Changes in: Federal income taxes................................... (7) (60) 79 Other, net............................................. 304 143 352 ------- -------- ------- TOTAL ADJUSTMENTS..................................... 529 (27) (944) ------- -------- ------- NET CASH FLOWS FROM OPERATING ACTIVITIES.............. 399 255 22 ------- -------- ------- CASH FLOWS FROM INVESTING ACTIVITIES: Change in short-term investments............................ -- 11 (15) Capital contribution to subsidiaries........................ (207) (257) -- Purchase of preferred stock of subsidiaries................. -- (305) -- Other....................................................... 8 -- (4) ------- -------- ------- NET CASH FLOWS FROM INVESTING ACTIVITIES.............. (199) (551) (19) ------- -------- ------- CASH FLOWS FROM FINANCING ACTIVITIES:.......................... Dividends paid to preferred shareholders.................... (13) (7) (6) Proceeds from issuance of long-term debt.................... 175 1,000 -- Principal payments on long-term debt........................ (158) (490) -- Issuance (redemption) of cumulative exchangeable preferred stock........................................... (200) 200 -- Purchase of treasury stock.................................. -- (102) -- Loans to subsidiaries....................................... -- (305) -- ------ -------- ------- NET CASH FLOWS FROM FINANCING ACTIVITIES.............. (196) 296 (6) ------ -------- ------- NET CASH FLOWS........................................ 4 -- (3) Cash at beginning of year...................................... -- -- - --------------------------------------------------------------------------------------------- CASH AT END OF YEAR $ 4 $ -- $ -- ============================================================================================= Supplemental disclosures of cash flow information: Cash paid: Interest............................................... $169 $ 129 $ 134 Federal income taxes................................... 279 143 95 Non-cash transactions: Notes receivable for the issue of stock................. 19 44 -- ============================================================================================= See accompanying Notes to Condensed Financial Information. 20
SCHEDULE II (continued) CNA FINANCIAL CORPORATION (PARENT COMPANY) CONDENSED FINANCIAL INFORMATION NOTES TO CONDENSED FINANCIAL INFORMATION a. Basis of presentation The condensed financial information of CNA Financial Corporation (Parent Company) should be read in conjunction with the Consolidated Financial Statements and Notes thereto included in the CNA Financial Corporation 1999 Annual Report to Shareholders. Investments in subsidiaries are accounted for using the equity method of accounting. Certain amounts applicable to prior years have been reclassified to conform to classifications followed in 1999. In the first quarter of 1999, CNA adopted Statement of Position 97-3 "Accounting by Insurance and Other Enterprises for Insurance-Related Assessments"(SOP 97-3). SOP 97-3 requires that insurance companies recognize liabilities for insurance-related assessments when an assessment is probable and will be imposed, when it can be reasonably estimated, and when the event obligating the entity to pay an imposed or probable assessment has occurred on or before the date of the financial statements. Adoption of SOP 97-3 resulted in an after-tax charge of $177 million as a cumulative effect of a change in accounting principle. The pro forma effect of adoption on reported results for prior periods is not significant. b. Debt ------------------------------------------------------------------------- DECEMBER 31 1999 1998 (In millions of dollars) ------------------------------------------------------------------------- Variable Rate Debt: Commercial paper.................................. $ 675 $ 500 Credit facility................................... 77 235 Senior Notes: 6.25%, due November 15, 2003...................... 249 249 6.50% , due April 15, 2005........................ 497 497 6.75%, due November 15, 2006...................... 248 248 6.45%, due January 15, 2008....................... 149 149 6.60%, due December 15, 2008...................... 199 199 6.95%, due January 15, 2018....................... 148 148 7.25% Debenture, due November 15, 2023............... 247 247 1.0% Urban Development Action Grant, due May 7, 2019.. 3 3 ------------------------------------------------------------------------- TOTAL $2,492 $2,475 ========================================================================= The Parent Company has a $795 million revolving credit facility (the Facility) that expires in May 2001. The amount available under the Facility is reduced by the Parent Company's outstanding commercial paper borrowings. As of December 31, 1999, there was $43 million of unused borrowing capacity under the Facility. The interest rate on the Facility is equal to the London Interbank Offered Rate (LIBOR), plus 16 basis points. Additionally, there is an annual facility fee of 9 basis points on the entire facility. The average interest rate on the borrowings under the Facility, excluding facility fees, at December 31, 1999 and 1998, was 6.66% and 5.49%, respectively. The weighted-average interest rate on commercial paper at December 31, 1999 was 6.50% compared to 5.89% at December 31, 1998. Generally, commercial paper has a weighted-average maturity of 40 days. 21 SCHEDULE II (continued) CNA FINANCIAL CORPORATION (PARENT COMPANY) CONDENSED FINANCIAL INFORMATION NOTES TO CONDENSED FINANCIAL INFORMATION--(CONTINUED) To offset the variable rate characteristics of the Facility and the interest rate risk associated with periodically reissuing commercial paper, the Parent Company is party to interest rate swap agreements with several banks, which have an aggregate notional principal amount of $650 million at both December 31, 1999 and 1998, and which terminate from May 2000 to December 2000. These agreements require the Parent Company to pay interest at a fixed rate, averaging 6.07% at both December 31, 1999 and 1998, in exchange for the receipt of three month LIBOR. The combined weighted average cost of borrowings, including facility fees, of the Facility, commercial paper borrowings and interest rate swaps was 6.47% and 6.36% at December 31, 1999 and 1998, respectively. On February 15, 2000, Standard & Poor's lowered the Parent Company's senior debt rating from A- to BBB and lowered the Parent Company's preferred stock rating from BBB to BB+. As a result of these actions, the facility fee payable on the aggregate amount of the Facility was increased to 12 1/2 basis points per annum and the interest rate on the Facility was increased to LIBOR plus 27 1/2 basis points. Additionally, as a result of these actions, the Parent Company purchased and retired approximately $30 million of its outstanding money market preferred stock in February 2000, and announced its intention to purchase or redeem the remaining outstanding shares. In 1998, the Parent Company issued $1 billion of senior notes under a $1 billion Registration Statement on Form S-3 filed with the Securities and Exchange Commission on August 18, 1997. This shelf registration incorporated $250 million of securities remaining available for issuance from a prior shelf registration. Since filing the shelf registration, the Parent Company has issued in four separate offerings senior notes with an aggregate principal amount of $1 billion. On April 15, 1999, the Parent Company retired $100 million of 8.25% senior notes. On August 2, 1999, the Parent Company repaid its $157 million, 11% Secured Mortgage Notes, due June 30, 2013. The gain realized on the transaction was not significant. c. Management and administrative expenses The Parent Company has reimbursed, or will reimburse, its subsidiaries for the net of general management and administrative expenses, unallocated loss adjustment expenses and investment expense of $203 million, $189 million and $217 million in 1999, 1998 and 1997, respectively. d. Capital contributions In 1999 and 1998, the Parent Company contributed approximately $200 million and $257 million to the capital of its subsidiaries. There were no contributions made by the Parent Company to the capital of its subsidiaries in 1997. 22
SCHEDULE III CNA FINANCIAL CORPORATION SUPPLEMENTARY INSURANCE INFORMATION - ------------------------------------------------------------------------------------------------------------------- GROSS INSURANCE RESERVES ----------------------------------------- CLAIM INSURANCE DEFERRED AND FUTURE POLICY- NET NET CLAIMS AND ACQUISITION CLAIM POLICY UNEARNED HOLDERS' PREMIUM INVESTMENT POLICYHOLDERS' (In millions of dollars) COSTS EXPENSE BENEFITS PREMIUMS FUNDS REVENUE INCOME BENEFITs - ------------------------------------------------------------------------------------------------------------------- DECEMBER 31, 1999 Agency Market Operations...$ - $ - $ - $ - $ - $ 4,799 $ 686 $ 4,431 Specialty Operations....... - - - - - 1,001 245 951 CNA Re..................... - - - - - 1,176 161 707 Global Operations.......... - - - - - 1,010 132 585 Risk Management............ - - - - - 801 154 909 Group Operations........... - - - - - 3,571 130 3,177 Life Operations............ - - - - - 936 556 871 Corporate.................. - - - - - 35 47 127 Eliminations............... - - - - - (47) - (41) Consolidated Operations.... 2,436 27,356 5,996 5,103 710 - - - --------------------------------------------------------------------------------------- $ 2,436 $27,356 $ 5,996 $ 5,103 $ 710 $13,282 $ 2,101 $11,717 ======================================================================================= December 31, 1998 Agency Market Operations...$ - $ - $ - $ - $ - $ 5,247 $ 744 $ 3,871 Specialty Operations....... - - - - - 1,092 245 1,011 CNA Re..................... - - - - - 944 163 670 Global Operations.......... - - - - - 941 110 490 Risk Management............ - - - - - 823 144 893 Group Operations........... - - - - - 3,733 133 3,375 Life Operations............ - - - - - 823 525 855 Corporate.................. - - - - - (26) 82 103 Eliminations............... - - - - - (41) - - Consolidated Operations.... 2,422 29,154 5,352 5,039 855 - - - --------------------------------------------------------------------------------------- $ 2,422 $29,154 $ 5,352 $ 5,039 $ 855 $13,536 $ 2,146 $11,268 ======================================================================================= December 31, 1997 Agency Market Operations...$ - $ - $ - $ - $ - $ 5,092 $ 787 $ 4,277 Specialty Operations....... - - - - - 1,251 268 1,092 CNA Re..................... - - - - - 898 153 694 Global Operations.......... - - - - - 854 117 594 Risk Management............ - - - - - 776 158 567 Group Operations........... - - - - - 3,936 117 3,272 Life Operations............ - - - - - 797 501 838 Corporate.................. - - - - - 20 108 59 Eliminations............... - - - - - - - (22) Consolidated Operations.... 2,142 29,520 4,782 4,700 789 - - - --------------------------------------------------------------------------------------- $ 2,142 $29,520 $ 4,782 $ 4,700 $ 789 $13,624 $ 2,209 $11,371 ======================================================================================= *Premiums written relates to property/casualty companies only.
23 SCHEDULE III CONTINUED CNA FINANCIAL CORPORATION SUPPLEMENTARY INSURANCE INFORMATION - ----------------------------------------------------------- INSURANCE AMORTIZATION CLAIMS AND OF DEFERRED OTHER POLICYHOLDERS' ACQUISITION OPERATING PREMIUMS BENEFITS COSTS EXPENSES WRITTEN* - ----------------------------------------------------------- $ 4,339 $ 1,182 $ 347 $ 3,667 907 187 102 948 998 290 76 1,275 578 231 315 1,080 755 71 417 839 3,053 2 697 804 1,122 180 94 337 196 - 226 37 (48) - (188) - - - - - - ------------------------------------------------------ $ 11,900 $ 2,143 $ 2,086 $ 8,987 ====================================================== $ 4,436 $ 1,239 $ 427 $ 5,461 949 175 171 1,023 707 252 57 908 589 224 247 985 765 98 378 889 3,171 5 758 1,008 997 178 104 295 274 9 166 - (41) - 13 - - - - - - ---------------------------------------------------- $ 11,847 $ 2,180 $ 2,321 $10,569 ==================================================== $ 3,871 $ 1,242 $ 384 $ 5,085 1,011 247 149 1,267 670 247 79 1,091 490 173 221 812 785 101 304 706 3,408 - 680 963 949 120 147 247 211 8 149 15 - - (13) - - - - - - ---------------------------------------------------- $ 11,395 $ 2,138 $ 2,100 $10,186 ==================================================== SCHEDULE IV CNA FINANCIAL CORPORATION REINSURANCE Assumed/ Year Ended December 31 Direct Assumed Ceded Net Net % - ------------------------------------------------------------------------------- (In millions of dollars) 1999 earned premiums: Property/casualty $ 9,158 $ 1,816 $ 2,199 $ 8,775 20.7% Accident and health 3,730 198 397 3,531 5.6 Life 1,174 222 420 976 22.7 - ------------------------------------------------------------------------------- Total 1999 earned premiums $14,062 $ 2,236 $ 3,016 $13,282 16.8% =============================================================================== 1998 earned premiums: Property/casualty $ 8,327 $ 1,549 $ 897 $ 8,979 17.3% Accident and health 3,745 176 256 3,665 4.8 Life 1,014 159 281 892 17.8 - ------------------------------------------------------------------------------- Total 1998 earned premiums $13,086 $ 1,884 $ 1,434 $13,536 13.9% =============================================================================== 1997 earned premiums: Property/casualty $ 8,528 $ 1,101 $ 612 $ 9,017 12.2% Accident and health 3,723 259 280 3,702 7.0 Life 908 128 131 905 14.1 - ------------------------------------------------------------------------------- Total 1997 earned premiums $13,159 $ 1,488 $ 1,023 $13,624 10.9% ===============================================================================
SCHEDULE V CNA FINANCIAL CORPORATION VALUATION AND QUALIFYING ACCOUNTS - ---------------------------------------------------------------------------------------------- BALANCE BALANCE AT CHARGED TO CHARGED TO AT BEGINNING COSTS AND OTHER END OF (In millions of dollars) OF PERIOD EXPENSES AMOUNTS DEDUCTIONS PERIOD - ---------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31, 1999 Deducted from assets: Allowance for doubtful accounts: Receivables.....................$ 328 $ (6) $ -- $ 12 $ 310 ===== ====== ====== ===== ===== YEAR ENDED DECEMBER 31, 1998 Deducted from assets: Allowance for doubtful accounts: Receivables......................$ 303 $ 35 $ -- $ 10 $ 328 ===== ====== ====== ===== ===== YEAR ENDED DECEMBER 31, 1997 Deducted from assets: Allowance for doubtful accounts: Receivables......................$ 277 $ 30 $ -- $ 4 $ 303 ===== ====== ====== ===== ===== - ----------------------------------------------------------------------------------------------
24
SCHEDULE VI CNA FINANCIAL CORPORATION SUPPLEMENTARY INFORMATION CONCERNING PROPERTY/CASUALTY INSURANCE OPERATIONS - --------------------------------------------------------------------------------------------------------- CONSOLIDATED PROPERTY/ CASUALTY ENTITIES -------------------------- AS OF AND FOR THE YEAR ENDED DECEMBER 31 1999 1998 1997 (In millions of dollars) - --------------------------------------------------------------------------------------------------------- Deferred acquisition costs................................................... $ 1,126 $ 1,279 $ 1,162 Reserves for unpaid claims and claim adjustment expenses..................... 26,631 28,317 28,533 Discount deducted from claim and claim adjustment expense reserves above (based on interest rates ranging from 3.5% to 7.5%).......................... 2,376 2,380 2,409 Unearned premiums............................................................ 5,103 5,039 4,700 Earned premiums.............................................................. 9,901 10,079 9,927 Net investment income........................................................ 1,648 1,731 1,790 Incurred claim and claim adjustment expenses related to current year......... 7,287 7,903 7,942 Incurred claim and claim adjustment expenses related to prior years.......... 1,027 263 (256) Amortization of deferred acquisition costs................................... 2,004 2,042 2,017 Paid claim and claim expenses................................................ 9,964 8,745 8,376 Net premiums written......................................................... 8,987 10,569 10,186 - ---------------------------------------------------------------------------------------------------------
25 INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders CNA Financial Corporation We have audited the consolidated financial statements of CNA Financial Corporation (an affiliate of Loews Corporation) and subsidiaries as of December 31, 1999 and 1998, and for each of the three years in the period ended December 31, 1999 and have issued our report thereon dated February 23, 2000, which report includes an explanatory paragraph as to certain accounting changes; such consolidated financial statements and report are included in the Company's 1999 Annual Report to Shareholders and are incorporated herein by reference. Our audits also included the financial statement schedules of CNA Financial Corporation and subsidiaries listed in Item 14. These financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion based on our audits. In our opinion, such financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly in all material respects the information set forth therein. Deloitte & Touche LLP Chicago, Illinois February 23, 2000 26 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. CNA Financial Corporation By /S/Laurence A. Tisch ---------------------------- Laurence A. Tisch Chief Executive Officer (Principal Executive Officer) By /S/Robert V. Deutsch ---------------------------- Robert V. Deutsch Senior Vice President and Chief Financial Officer (Principal Accounting Officer) Date: March 29, 2000 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the date indicated. SIGNATURE TITLE | | | /S/Antoinette Cook Bush Director | - ------------------------------------ | Antoinette Cook Bush | | | /S/Dennis H. Chookaszian Director | - ------------------------------------ | Dennis H. Chookaszian | | | /S/Ronald L. Gallatin Director | Dated - ------------------------------------ | Ronald L. Gallatin | March 29, 2000 | | /S/Robert P. Gwinn Director | - ------------------------------------ | Robert P. Gwinn | | | /S/Bernard L. Hengesbaugh Director | - ------------------------------------ | Bernard L. Hengesbaugh | 27 SIGNATURES--(continued) SIGNATURE TITLE | | /S/Walter F. Mondale Director | - ------------------------------------ | Walter F. Mondale | | | /S/Edward J. Noha Chairman of the Board | - ------------------------------------ | Edward J. Noha and Director | | | /S/Joseph Rosenberg Director | - ------------------------------------ | Joseph Rosenberg | | | /S/James S. Tisch Director | Dated - ------------------------------------ | James S. Tisch | March 29, 2000 | | /S/Laurence A. Tisch Chief Executive Officer | - ------------------------------------ | Laurence A. Tisch and Director | | | /S/Preston R. Tisch Director | - ------------------------------------ | Preston R. Tisch | | | /S/Marvin Zonis Director | - ------------------------------------ | Marvin Zonis | 28 EXHIBIT 12.1 CNA FINANCIAL CORPORATION COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
- ---------------------------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31 1999 1998 1997 1996 1995 (In millions of dollars, except ratios) - ---------------------------------------------------------------------------------------------------------------- Income (loss) before income tax, net of minority interest.....$ (41) $ 329 $1,358 $ 1,345 $ 1,042 Adjustments: Interest expense........................................... 202 219 198 200 182 Interest element of operating lease rental................. 35 47 34 32 47 ------- ------- ------ ------- ------- Earnings before fixed charges.................................$ 196 $ 595 $1,590 $ 1,577 $ 1,271 ======= ======= ====== ======= ======= Fixed charges: Interest expense...........................................$ 202 $ 219 $ 198 $ 200 $ 182 Interest element of operating lease rental................. 35 47 34 32 47 ------- ------- ------ ------- ------- Total fixed charges...........................................$ 237 $ 266 $ 232 $ 232 $ 229 ======= ======= ====== ======= ======= Ratio of earnings to fixed charges (1)........................ 0.8 2.2 6.8 6.8 5.6 - ----------------------------------------------------------------------------------------------------------------
(1) For purposes of computing this ratio, earnings consist of income before income taxes plus fixed charges of consolidated companies. Fixed charges consist of interest and that portion of operating lease rental expense which is deemed to be an interest factor for such rentals. 29 EXHIBIT 21.1 PRIMARY SUBSIDIARIES OF CNAF PLACE OF COMPANY INCORPORATION - ------- ------------- American Casualty Company of Reading, Pennsylvania Pennsylvania CNA Casualty of California California CNA Reinsurance Company, Ltd. United Kingdom CNA Surety Corporation Delaware Columbia Casualty Company Illinois Convida, Inc. Bahamas Continental Assurance Company Illinois Continental Casualty Company Illinois Continental Insurance Company of New Jersey New Jersey Firemen's Insurance Company of Newark, New Jersey New Jersey First Insurance Company of Hawaii Hawaii National Fire Insurance Company of Hartford Connecticut National-Ben Franklin Insurance Company of Illinois Illinois Pacific Insurance Company California RSKCo Claims Services, Inc. Illinois The Buckeye Union Insurance Company Ohio The Continental Insurance Company New Hampshire The Fidelity and Casualty Company of New York New Hampshire Transcontinental Insurance Company New York 30 EXHIBIT 21.1 - (continued) PRIMARY SUBSIDIARIES OF CNAF--(continued) PLACE OF COMPANY INCORPORATION - ------- ------------ Transportation Insurance Company Illinois Valley Forge Insurance Company Pennsylvania Valley Forge Life Insurance Company Pennsylvania Western National Warranty Corporation Arizona All other subsidiaries, when aggregated, are not considered significant. 31 EXHIBIT 23.1 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in Registration Statement Nos. 333-69741 and 333-84447 of CNA Financial Corporation and subsidiaries on Forms S-3 and S-8, respectively, of our reports dated February 23, 2000, appearing in and incorporated by reference in the Annual Report on the Form 10-K of CNA Financial Corporation and subsidiaries for the year ended December 31, 1999. DELOITTE & TOUCHE LLP Chicago, Illinois March 29, 2000 32 CNA FINANCIAL CORPORATION CNA PLAZA CHICAGO, ILLINOIS 60685 G-123177-A (99) EX-3.1 2 CERTIFICATE OF INCORPORATION CERTIFICATE OF AMENDMENT OF CERTIFICATE OF INCORPORATION CNA Financial Corporation, a corporation organized and existing under and by virtue of the General Corporation Law of the State of Delaware, does hereby certify: FIRST: That at a meeting of the Board of Directors of CNA Financial Corporation resolutions were duly adopted setting forth a proposed amendment to the Certificate of Incorporation of said corporation, declaring said amendment to be advisable and calling a meeting of the stockholders of said corporation for consideration thereof. The resolution setting forth the proposed amendment is as follows: WHEREAS, the board deems it advisable that the amount of authorized common stock of the Company be increased from 200,000,000 to 500,000,000 shares; NOW, THEREFORE, BE IT RESOLVED, that the matter be submitted to the shareholders at the next meeting and subject to their approval, the first paragraph of Article Fourth of the Certificate of Incorporation be amended to read as follows: FOURTH. The total number of shares of all classes of capital stock which the Company shall have authority to issue is Five Hundred Twelve Million Five Hundred Thousand (512,500,000) shares which shall be divided into two classes as follows: Twelve Million Five Hundred Thousand (12,500,000) shares of Preferred Stock without par value (Preferred Stock) and Five Hundred Million (500,000,000) shares of Common Stock with the par value of $2.50 per share (Common Stock). SECOND: That thereafter, pursuant to a resolution of its Board of Directors, the annual meeting of the stockholders of said corporation was duly called and held, upon notice in accordance with Section 222 of the General Corporation Law of the State of Delaware at which meeting the necessary number of shares as required by statute were voted in favor of the amendments. THIRD: That said amendments were duly adopted in accordance with the provisions of Section 242 of the General Corporation Law of the State of Delaware. FOURTH: That the capital of said Corporation will not be reduced under or by reason of said amendments. IN WITNESS WHEREOF, said CNA Financial Corporation has caused this Certificate to be signed by Jonathan D. Kantor, Senior Vice President, General Counsel and Secretary, and attested by its Assistant Secretary this 10th day of May, 1999. CNA FINANCIAL CORPORATION ATTEST: - ------------------------ ---------------------------- Mary A. Ribikawskis Jonathan D. Kantor Assistant Secretary Senior Vice President, General Counsel and Secretary CERTIFICATE OF AMENDMENT OF CERTIFICATE OF INCORPORATION CNA Financial Corporation, a corporation organized and existing under and by virtue of the General Corporation Law of the State of Delaware, does hereby certify: FIRST: That at a meeting of the Board of Directors of CNA Financial Corporation resolutions were duly adopted setting forth a proposed amendment to the Certificate of Incorporation of said corporation, declaring said amendment to be advisable and calling a meeting of the stockholders of said corporation for consideration thereof. The resolution setting forth the proposed amendment is as follows: WHEREAS, the board deems it advisable that the amount of authorized common stock of the Company be increased from 200,000,000 to 500,000,000 shares; NOW, THEREFORE, BE IT RESOLVED, that the matter be submitted to the shareholders at the next meeting and subject to their approval, the first paragraph of Article Fourth of the Certificate of Incorporation be amended to read as follows: FOURTH. The total number of shares of all classes of capital stock which the Company shall have authority to issue is Five Hundred Twelve Million Five Hundred Thousand (512,500,000) shares which shall be divided into two classes as follows: Twelve Million Five Hundred Thousand (12,500,000) shares of Preferred Stock without par value (Preferred Stock) and Five Hundred Million (500,000,000) shares of Common Stock with the par value of $2.50 per share (Common Stock). SECOND: That thereafter, pursuant to a resolution of its Board of Directors, the annual meeting of the stockholders of said corporation was duly called and held, upon notice in accordance with Section 222 of the General Corporation Law of the State of Delaware at which meeting the necessary number of shares as required by statute were voted in favor of the amendments. THIRD: That said amendments were duly adopted in accordance with the provisions of Section 242 of the General Corporation Law of the State of Delaware. FOURTH: That the capital of said Corporation will not be reduced under or by reason of said amendments. IN WITNESS WHEREOF, said CNA Financial Corporation has caused this Certificate to be signed by Jonathan D. Kantor, Senior Vice President, General Counsel and Secretary, and attested by its Assistant Secretary this 10th day of May, 1999. CNA FINANCIAL CORPORATION ATTEST: /S/Mary A. Ribikawskis S/Jonathan D. Kantor - ------------------------ ---------------------------- Mary A. Ribikawskis Jonathan D. Kantor Assistant Secretary Senior Vice President, General Counsel and Secretary EX-10.3 3 CNA EMPLOYEES' SUPPLEMENTAL SAVINGS PLAN Amendment No. 3 To The CNA EMPLOYEES' SUPPLEMENTAL SAVINGS PLAN WHEREAS: The CNA Employees' Supplemental Savings Plan was established January 1, 1987 by CNA Financial Corporation and Continental Casualty Company to provide deferred compensation benefits for employees whose compensation exceeds the coverage limitations under the CNA Employees' Savings Plan; and WHEREAS: Said companies desire to amend the Plan to provide for immediate distribution of the employees' accounts in a lump sum upon Plan termination: NOW, THEREFORE: The following section of the CNA Employees' Supplemental Savings Plan is hereby amended to read as set forth on the attached restated page: Section 9.2 The attached restated page has been marked for identification "Amendment No. 3". This Amendment shall become effective January 1, 1994. Dated at Chicago, Illinois this 4th day of April, 1994. ATTEST: CNA FINANCIAL CORPORATION /S/MARY A. RIBIKAWSKIS By /S/DONALD M. LOWRY Assistant Secretary Senior Vice President, Secretary and General Counsel ATTEST: CONTINENTAL CASUALTY COMPANY /S/MARY A. RIBIKAWSKIS By /S/DONALD M. LOWRY Assistant Secretary Senior Vice President, Secretary and General Counsel SECTION 9 Amendment and Termination of the Plan 9.1 Amendment The Employer reserves the right at any time, and from time to time, to modify or amend in whole or in part any or all of the provisions of the Plan. This right of the Employer is subject to the conditions that the value of any Participant's Accounts may not be diminished by reason of any modification or amendment. 9.2 Termination The Plan may be terminated at any time by the Employer. Upon the termination of the Plan all amounts allocated to each Participant's Employer Account shall become fully vested and nonforfeitable. Upon termination of the Plan, the Employer shall cause the Accounts of the Participants to be valued as of the termination date, and the Account balances shall be distributed in the manner set forth in Section 7. Amendment No. 4 To the CNA EMPLOYEES' SUPPLEMENTAL SAVINGS PLAN WHEREAS: The CNA Employees' Supplemental Savings Plan was established January 1, 1987 by CNA Financial Corporation and Continental Casualty Company to provide deferred compensation benefits for employees whose compensation exceeds the coverage limitations under the CNA Employees' Savings Plan; and WHEREAS: Said companies desire to amend the Plan with respect to the definition of Regular Base Salary and the method of crediting interest to Participants' Accounts. NOW, THEREFORE: The following sections of the CNA Employees' Supplemental Savings Plan are hereby amended to read as set forth on the attached restated pages. Section 1.13 and 3.3 The attached restated pages have been marked for identification "Amendment No. 4". This Amendment shall become effective January 1, 1994. Dated at Chicago, Illinois this 9th day of June, 1995. ATTEST: CNA FINANCIAL CORPORATION /S/MARY A. RIBIKAWSKIS By /S/DONALD M. LOWRY Assistant Secretary Senior Vice President, Secretary and General Counsel ATTEST: CONTINENTAL CASUALTY COMPANY /S/MARY A. RIBIKAWSKIS By /S/DONALD M. LOWRY Assistant Secretary Senior Vice President, Secretary and General Counsel EX-10.4 4 CNA EMPLOYEES' RETIRMENT BENEFIT EQUALIZATION PLAN Amendment No. 2 To The CNA EMPLOYEES' RETIREMENT BENEFIT EQUALIZATION PLAN WHEREAS: The CNA Employees' Retirement Benefit Equalization Plan was established January 1, 1990 by CNA Financial Corporation and Continental Casualty Company to provide deferred compensation benefits for employees whose compensation exceeds the coverage limitations under the CNA Employees' Retirement Plan; and WHEREAS: Said companies desire to amend the Plan to provide for the availability of a lump sum benefit upon Plan termination. NOW, THEREFORE: The following sections of the CNA Employees' Retirement Benefit Equalization Plan are hereby amended to read as set forth on the attached restated pages: Sections 2.0, 5.4, 6.3, and 7.2 The attached restated pages have been marked for identification "Amendment No. 2". This Amendment shall become effective January 1, 1994. Dated at Chicago, Illinois this 4th day of April, 1994. ATTEST: CNA FINANCIAL CORPORATION /S/MARY A. RIBIKAWSKIS By /S/DONALD M. LOWRY Assistant Secretary Senior Vice President, Secretary and General Counsel ATTEST: CONTINENTAL CASUALTY COMPANY /S/MARY A RIBIKAWSKIS By /S/DONALD M. LOWRY Assistant Secretary Senior Vice President, Secretary and General Counsel Amendment No. 3 To The CNA EMPLOYEES' RETIREMENT BENEFIT EQUALIZATION PLAN WHEREAS: The CNA Employees' Retirement Benefit Equalization Plan was established January 1, 1990 by CNA Financial Corporation and Continental Casualty Company to provide deferred compensation benefits for employees whose compensation exceeds the coverage limitations under the CNA Employees' Retirement Plan; and WHEREAS: Said companies desire to amend the Plan to revise the definition of compensation; NOW, THEREFORE: The following section of the CNA Employees' Retirement Benefit Equalization Plan is hereby amended to read as set forth on the attached restated page: Section 2.3 The attached restated page has been marked for identification "Amendment No. 3". This Amendment shall become effective January 1, 1994. Dated at Chicago, Illinois this 9th day of June, 1995. ATTEST: CNA FINANCIAL CORPORATION /S/MARY A. RIBIKAWSKIS By /S/DONALD M. LOWRY Assistant Secretary Senior Vice President, Secretary and General Counsel ATTEST: CONTINENTAL CASUALTY COMPANY /S/MARY A. RIBIKAWSKIS /S/DONALD M. LOWRY Assistant Secretary Senior Vice President, Secretary and General Counsel 2.3 "Compensation" means, for the purpose of determining the Excess Benefit and Supplemental Benefit under this Plan, compensation as defined in Section 1 of the Retirement Plan, but excluding any incentive compensation. Contributions to a participant's Deferred Account under the CNA Employees' Supplemental Savings Plan shall also be included as "Compensation." 2.4 "ERISA" means the Employee Retirement Income Security Act of 1974 and amendments thereto. 2.5 "Excess Benefit" means the excess, if any, of (i) the retirement allowance which would have been payable to or with respect to a participant under the Retirement Plan had the limitations on benefits imposed by Section 7 of the Retirement Plan not been applicable over (ii) the retirement allowance payable to or with respect to the participant under the Retirement Plan. 2.6 "Plan" means the CNA Employees Retirement Benefit Equalization Plan as from time to time in effect. 2.7 "Retirement Plan" means the CNA Employees' Retirement Plan. 2.8 "Supplemental Benefit" means the excess, if any, of (i) the retirement allowance that would have been payable to or with respect to a participant under the Retirement Plan had the amount of the participant's total annual compensation paid by the Company been included in the term "Compensation" under the Retirement Plan over (ii) the sum of (a) the retirement allowance payable to or with respect to the Participant under the Retirement Plan and (b) any Excess Benefit payable under this Plan. SECTION 3 Plan Participation 3.1 Participation Participation in the Plan shall be limited to those participants in the Retirement Plan and their surviving spouses, contingent annuitants and beneficiaries who, as a result of the limitations on benefits that may be paid or accrued under the Retirement Plan by reason of Section 415 of the Code and the limitation on compensation which may be taken into account under the Retirement Plan by reason of Section 401(a)(17) of the Code, receive or will receive a lesser amount of retirement income under the Retirement Plan than otherwise would be paid or payable in the absence of such limitations. EX-10.14 5 EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT (the "Agreement") is made as of the 2d day of November, 1999 (the "Signing Date"), by and between CNA Financial Corporation, a Delaware corporation (the "Company"), and Thomas F. Taylor ("Executive"); WITNESSETH: WHEREAS, Executive currently serves as Senior Vice President, Specialty Department of the principal subsidiaries of the Company (i.e., the CNA insurance companies, hereinafter the "CNA Companies"), and, commencing as of June 14, 1999, the Company desires to promote Executive to the position of Executive Vice President, Property/Liability of the CNA Companies, and Executive desires to be employed in that position, all under the terms and subject to the conditions set forth below: NOW, THEREFORE, in consideration of the foregoing premises and the promises and covenants herein, the parties hereto agree as follows: 1. EMPLOYMENT TERM. The Company and Executive agree that the Company shall continue to employ Executive to perform the duties of Senior Vice President, Specialty Department of the CNA Companies until June 13, 1999. Effective as of June 14, 1999 (the "Effective Date"), Executive shall cease to be Senior Vice President, Specialty Department of the CNA Companies, and shall be appointed as Executive Vice President, Property/Liability of the CNA Companies on the terms and subject to the conditions set forth herein for a term continuing through and until December 31, 2002 or such earlier date as of which Executive's employment is terminated in accordance with Section 6 hereof. 2. DUTIES OF EXECUTIVE. (a) Executive shall assume the duties and responsibilities of Executive Vice President, Property/Liability of the CNA Companies as of the Effective Date. As Executive Vice President, Property/Liability, Executive shall set policy and direction related to underwriting, claims, and actuarial functions across all CNA property/liability operations. Executive shall report to the Chairman and Chief Executive Officer of the CNA Companies (the "Chairman"). Executive may be elected to and shall serve as a member of the Board of Directors of one or more of the CNA Companies, and if so elected Executive agrees to serve on such boards in such capacity without additional compensation; provided that nothing in this Agreement shall require that the shareholders of any company elect Executive to its board of directors. (b) Executive shall diligently and to the best of his abilities assume, perform, and discharge the duties and responsibilities of Executive Vice President, Property/Liability of the CNA Companies, as well as such other specific duties and responsibilities as the Chairman shall assign or designate to Executive from time to time. Executive shall devote substantially all of his working time to the performance of his duties as set forth herein and shall not, without the prior written consent of the Chairman, accept other employment or render or perform other services, nor shall he have any direct or indirect ownership interest in any other business which is in competition with the business of the Company or the CNA Companies, other than in the form of publicly traded securities constituting less than five percent (5%) of the outstanding securities of a corporation (determined by vote or value) or limited partnership interests constituting less than five percent (5%) of the value of any such partnership. The foregoing shall not preclude Executive from engaging in charitable, professional, and personal investment activities, provided that, in the judgment of the Chairman, such activities do not materially interfere with his performance of his duties and responsibilities hereunder. (c) The services to be provided by the Executive in accordance with this Agreement shall be performed at the principal executive offices of the Company or at such other location or locations as the Chairman may require from time to time. It is understood and agreed by the parties hereto that, regardless of where the Executive is required to perform services in accordance with this Agreement, the Executive shall maintain his residence in New York; provided that the Executive may, in his sole discretion, relocate his residence to the Chicago, Illinois area. 3. COMPENSATION. (a) Salary. The Company shall pay to Executive, commencing June 14, 1999 and continuing for the period he is employed by the Company hereunder, an annual base salary of SIX HUNDRED FIFTY THOUSAND AND NO ONE HUNDREDTHS DOLLARS ($650,000.00), payable not less frequently than monthly (the "Base Compensation"). Such salary rate shall be increased by 5% as of each March 1 occurring during the term of the Agreement, beginning with March 1, 2000. In no event shall Executive's salary rate be reduced to an amount that is less than the amount specified in this paragraph (a), or to an amount that is less than the amount that he was previously receiving without Executive's written consent. (b) Incentive Compensation Award. Executive shall be entitled to an Incentive Compensation Award, in accordance with the CNA Financial Corporation Incentive Compensation Plan for Certain Executive Officers (the "Incentive Compensation Plan"). The amount of the Incentive Compensation Award shall be based on the performance of the Company and its subsidiaries during the performance period of the 3d and 4th quarters of calendar year 1999, and during the performance periods of calendar years 2000, 2001, and 2002, respectively, and the award for each performance period shall be payable in a cash lump sum as soon as practicable after the end of the period, but in no event prior to the date on which the Committee, as that term is defined in the Incentive Compensation Plan (the " Committee"), certifies the amount, if any, which has been earned for the period. The amount of the Incentive Compensation Award for Executive shall be determined according to the performance criteria and amounts established by the Committee in its August 4, 1999 meeting subject to the annual review and certification by the Committee of the awards. The actual amount of the Incentive Compensation Award payable to Executive with respect to the 3d and 4th quarters of calendar year 1999 and calendar years 2000, 2001 and 2002 shall be determined by the Committee based on Executive's and the Company's overall performance, but in all events the amount of the Incentive Compensation Award shall not be less than 75% nor more than 100% of the calculation of the awards based on the preliminary criteria and amounts established by the Committee in its August 4, 1999 meeting. For purposes of this paragraph (b), the term "Net Income" shall have the meaning ascribed to it in the Incentive Compensation Plan; provided that, for the avoidance of doubt, it is recited here that the term "Net Income" of the Company and its subsidiaries for any performance period shall mean the after tax Net Income of the Company and all of its subsidiaries for the performance period as reflected on the companies' audited consolidated financial statements for such performance period as filed with the Securities and Exchange Commission less an amount equal to the "Net Realized Investment Gains" included in Net Income as reported in the audited consolidated financial statements, but increased by an amount equal to the "Net Realized Investment Losses" included in Net Income as reported in the audited financial statements. The foregoing notwithstanding, (I) the Net Income shall be determined without taking into account any entry intended to reflect the cumulative effect in prior periods of any change in accounting principles used in preparing current period financial statements, and (II) the amount of Net Income for 1999 shall be determined without including any adjustments provided by SOP 97-3 (i.e., as though SOP 97-3 were inapplicable to any aspect of such determination). (c) Long-Term Incentive Award. During the term of this Agreement, Executive shall be entitled to awards under the CNA Financial Corporation 2000 Long-Term Incentive Plan ("LTIP") according to the performance criteria and amounts established by the Committee in its August 4, 1999 meeting and subject to the annual review and certification by the Committee of the awards; provided, however, that any award made in accordance with the terms of the LTIP shall be contingent on approval of the LTIP by the Company's shareholders at the Company's 2000 annual shareholders meeting. 4. OTHER BENEFITS. Executive shall be entitled to participate in the various benefit plans, programs or arrangements established and maintained by the Company from time to time and applicable to senior executives of the Company such as, but not by way of limitation, vacation pay, health and major medical insurance, dental insurance, life insurance, long-term disability insurance, both qualified and supplemental retirement or savings plans, and long-term incentive compensation plans, and to receive all fringe benefits made available to Grade 96 employees of the Company. Executive's entitlement to participate in any such plan, program or arrangement shall, in each case, be subject to the terms and conditions thereof. However, in determining the amount of Executive's retirement benefit under the CNA Employees' Retirement Benefit Equalization Plan or any other supplemental retirement plan or program in which Executive may participate, Executive's compensation or pensionable earnings shall be deemed to include the incentive compensation awards payable under Section (3)(b) to Executive (with such amounts to be includible at the time they would otherwise be paid in the absence of any elective deferral by Executive). 5. EXPENSE REIMBURSEMENT. Executive shall be entitled to reimbursement by the Company for all reasonable and customary travel and other business expenses incurred by Executive in carrying out his duties under this Agreement, in accordance with the general reimbursement policies adopted by the Company from time to time. Executive shall report all such expenditures not less frequently than monthly accompanied by adequate records and such other documentary evidence as required by the Company or by Federal or state tax statutes or regulations governing the substantiation of such expenditures. 6. TERMINATION OF EMPLOYMENT. Executive's employment with the Company hereunder shall continue until the earlier of December 31, 2002 or the date on which his employment is terminated pursuant to this Section 6. Either party may terminate Executive's employment with the Company by written notice to the other party effective as of the date specified in such notice and Executive's employment shall automatically terminate in the event of Executive's death. Upon termination of Executive's employment under this Agreement, the rights of the parties under this Agreement shall be determined pursuant to this Section 6. 6.1 DEATH AND DISABILITY. In the event of the death of Executive or, at the Company's election, in the event of his Permanent Disability (as defined below) during the term of this Agreement and while Executive is in the employ of the Company, Executive's employment shall terminate; provided, however, that: (a) The Executive (or his personal representatives, heirs or beneficiaries as the case may be) shall be entitled to: (v) Any unpaid Base Compensation, including credited but unused vacation pay accrued up to the date of such termination. (w) Any unpaid Incentive Compensation Award described in paragraph 3(b) with respect to the performance period prior to Executive's death or Permanent Disability. (x) A pro-rata portion of the amount of the Incentive Compensation Award earned for the performance period in which the termination occurs determined by multiplying the Incentive Compensation Amount earned through the end of the performance period in which termination occurs (as determined by actual performance through the end of that period) by the number of days in the performance period prior to the date of termination and dividing such product by the number of days in the performance period. (y) If Executive's termination of employment occurs before the last day of the Performance Period with respect to a Long-Term Incentive Award, Executive (or Executive's estate) shall be entitled to a payment with respect to the Long-Term Incentive Award in accordance with the terms of the award, with the amount determined as though Executive remained employed by the Company through the end of the Performance Period, and the performance through Executive's date of termination of employment was extrapolated to the end of the period, but subject to a pro rata reduction for the portion of the Performance Period after Executive's termination of employment. Distribution under this paragraph (y) shall be made as soon as practicable after Executive's date of termination. (z) Any unexercised option to purchase stock of the Company held by Executive upon termination of employment may be exercised on or after the date of termination only as to that portion of the covered shares for which it was exercisable immediately prior to the date of termination, and may be exercised through the one-year anniversary of such date of termination, but in no event later than the date on which such option would expire if Executive had remained employed by the Company. (b) Except as otherwise provided in this Section 6, the rights of Executive or his personal representatives, heirs or beneficiaries under any benefit plan, program or arrangement in which he was participating at the time of his termination, including any benefits which shall have accrued and vested under the terms of any plan, program or arrangement described in Section 4, and his right under any long-term incentive compensation plan, shall be determined by the applicable terms of such plans, programs or arrangements. For purposes of this Agreement, the term "Permanent Disability" means a physical or mental condition of Executive which, as determined by the Board, in its sole discretion based on all available medical information, is expected to continue indefinitely and which renders Executive incapable of performing any substantial portion of the services contemplated hereunder. 6.2 TERMINATION FOR CAUSE BY THE COMPANY. In the event that Executive shall engage in any conduct which the Board, in good faith, shall determine to be fraudulent, a substantial breach of any material provision of this Agreement, willful malfeasance or gross negligence, or inconsistent with the dignity and character of a senior executive of the Company, and only if such conduct is determined by the Board, acting in good faith, to have a material adverse effect on the business of the Company (defined herein as "Cause"), the Company shall have the right to terminate Executive's employment with the Company by written notice to Executive effective as of the date of such notice. Following such termination, the Company shall pay any unpaid Base Compensation accrued through the date of termination, any unpaid Incentive Compensation Award described in paragraph 3(b) with respect to the performance period prior to the date of such termination, and unused vacation time accrued prior to the date of such termination. However, upon such termination, Executive's right to payments or otherwise with respect to any other annual Incentive Award, any Long-Term Incentive Award that is unpaid as of the date of termination, and any option that is unexercised on the date of termination, shall be forfeited, and the Company have no further obligations under this Agreement. 6.3 TERMINATION FOR CONVENIENCE BY THE COMPANY. In the event Executive's employment is terminated by the Company for any reason not described in subsections 6.1 or 6.2 above, the obligations of the parties hereto shall be deemed discharged, provided, however, that: (a) The Company shall pay to Executive or his personal representatives, heirs, or beneficiaries, as the case may be, (i) any unpaid Base Compensation, including credited but unused vacation pay accrued up to the date of such termination, (ii) any unpaid Incentive Compensation Award described in paragraph 3(b) with respect to the performance period prior to the date of such termination, and (iii) termination payments at the annual rate equal to: (w) Executive's annual rate of Base Compensation as in effect immediately prior to his date of termination; plus (x) Executive's target annual incentive compensation as previously determined by the Committee; plus (y) Executive's target long term cash incentive compensation as previously determined by the Committee; plus (z) An amount equal to the Discounted Value of 33,000 shares of Company common stock as of the date of termination, with the "Discounted Value" of a share of Company common stock being equal to (a) 48% of (i) the average of the highest and lowest trading prices of common stock on the date of termination as reported as the New York Stock Exchange-Composite Transactions for such day as reported by the Wall Street Journal, Mid-West Edition, or (ii) if Company common stock is not traded on the date of termination, such average on the next preceding day on which such stock is traded, or (iii) if Company common stock is not then listed on the New York Stock Exchange, such average as reported on the principal national securities exchange or national automated stock quotation system on which Company common stock is traded or quoted, or (b) if higher, the par value of a share of Company common stock; with such termination payment to be made in substantially equal installments, not less frequently than monthly, for a period of twenty-four (24) months following such termination. (b) If Executive's termination of employment occurs before the last day of the Performance Period with respect to a Long-Term Incentive Award, Executive (or Executive's estate) shall be entitled to a payment with respect to the Long-Term Incentive Award in accordance with the terms of the terms of the award, with the amount determined as though Executive remained employed by the Company through the end of the Performance Period, and based on actual performance for the period, but subject to a pro rata reduction for the portion of the Performance Period after Executive's date of termination. Distribution under this paragraph (b) for the Performance Period shall be made at the normally scheduled time for such distribution (determined without regard to the occurrence of Executive's date of termination). (c) Any unexercised option held by Executive upon termination of employment shall expire on the date of termination with respect to all covered shares; provided, however, that the Committee, in its discretion, may provide for extension of the exercise date, except that such extended date may not be later than the earlier of the one-year anniversary of Executive's date of termination or the date on which such option would expire if Executive had remained employed by the Company; and further provided that the Committee may, in its discretion, permit continued vesting of the options during such extension period. (d) Except as otherwise provided in this Section 6, the rights of Executive or his personal representatives, heirs, or beneficiaries under any benefit plan, program or arrangement in which he participated at the time of such termination, including any benefits which shall have accrued and vested under the terms of any plan described in Section 4, and his rights under any long-term incentive compensation plan, shall be determined by the applicable terms of such plans, programs or arrangements (provided that he shall not be entitled to any amounts under the annual Incentive Compensation Plan for the performance period in which the termination occurs). (e) In the event any payments made to Executive under this subsection 6.3 shall be found to constitute an "excess parachute payment" within the meaning of section 280(G) of the Internal Revenue Code or other payment subject to a federal excise tax, the Company shall pay to Executive, in addition to any payment obligation under the foregoing provisions of this paragraph 6.3, an amount equal to the amount of such excise tax, plus a tax gross-up payment in the amount of the aggregate additional federal, state, and local income, excise or other taxes payable by Executive with respect to the receipt of such excise tax payment. 6.4 TERMINATION FOR GOOD REASON BY EXECUTIVE. (a) In the event that Executive's employment is terminated by Executive for "good reason," the Company's obligations shall be the same as they would have been, and Executive shall receive the same payments and other benefits that he would have received, had the Company terminated his employment pursuant to subsection 6.3. (b) For purposes of this Agreement, the term "good reason" means without the Executive's written consent (i) a change in Executive's reporting relationship such that Executive no longer reports directly to the Chairman, (ii) a reduction in the rate of Executive's Base Compensation, or a material reduction in the target award opportunities under the Incentive Compensation Plan or the Long-Term Incentive Plan in violation of paragraph 3(b) or 3(c), or (iii) the Executive being required to relocate his residence from New York in violation of paragraph 2(c). 6.5 VOLUNTARY RESIGNATION BY EXECUTIVE. In the event that Executive's employment is terminated by Executive other than pursuant to subsection 6.4 or as a direct result of his death or Permanent Disability (as described in subsection 6.1), the Company shall pay any unpaid Base Compensation accrued through the date of termination, any unpaid Incentive Compensation Award described in paragraph 3(b) with respect to the performance period prior to the date of such termination, and unused vacation time accrued prior to the date of such termination. However, upon such termination, Executive's right to payments or otherwise with respect to any other annual Incentive Award, any Long-Term Incentive Award that is unpaid as of the date of termination, and any option that is unexercised on the date of termination, shall not be deemed to be earned, and the Company have no further obligations under this Agreement. 6.6 FAILURE TO EXTEND AGREEMENT. In the event that this Agreement has not been extended or renewed by mutual agreement at the end of its term on December 31, 2002 and the employment of Executive continues, then the following shall apply: (a) Such employment shall constitute an employment at will from month to month. During Executive's employment following December 31, 2002, (i) he shall receive salary at the annual rate of 325% of his annual Base Compensation as of December 31, 2002; (ii) the terms of this Agreement that governed Executive's benefits and perquisites prior to January 1, 2003 will continue to apply, and will be in addition to Executive's salary specified in clause (i) above; (iii) Executive shall be entitled to payment with respect to the Incentive Compensation Award for calendar year 2002 to the extent provided by this Agreement, but Executive will not be entitled to an Incentive Compensation Award or any other incentive compensation award for performance periods beginning after December 31, 2002. (b) If the Company terminates Executive's employment following December 31, 2002, or if the Company and Executive shall not have mutually agreed to the terms of, and entered into, a new employment prior to March 31, 2003, then Executive's employment shall terminate on April 1, 2003, and the Company's obligations shall be the same as they would have been, and Executive shall receive the same payments and other benefits that he would have received, had the Company terminated his employment pursuant to subsection 6.3. Notwithstanding the foregoing provisions of this paragraph (b), if Executive's employment with the Company terminates following Executive's rejection of an offer by the Company to extend the period of the Agreement on substantially the same terms prior to termination, and at a salary rate that is not less than Executive's salary rate prior to the termination, and with the amount payable under the Incentive Compensation Plan and Long-Term Incentive Plan (or successor plans) at a target level of achievement not less than the amounts payable under those plans (or successor plans) at a target level of achievement prior to the termination (referred to as a "Comparable Employment Offer"), then his employment shall be treated as having been terminated in accordance with paragraph 6.5 (relating to voluntary resignation), and Executive shall not be entitled to payments, benefits or other amounts after termination of employment under this paragraph (b), and shall not be entitled to payments, benefits or other amounts after termination of employment under paragraph 6.3. However, it is understood by the parties that if, following extensions of the term of this Agreement, Executive's employment terminates by reason of a failure to further extend the term, and as of the last day of the term (determined without regard to the automatic month-to-month extensions described in paragraph (a) next above), Executive has attained age 55, then the restriction of the preceding sentence shall not apply, and Executive's right to benefits shall be determined without regard to whether he rejected the Company's offer to renew. 6.7 PENSION ENHANCEMENT. (a) If Executive's employment with the Company terminates under circumstances described in subsection 6.1 (relating to termination by reason of death or Disability), subsection 6.3 (relating to termination for convenience by the Company), subsection 6.4 (relating to termination for Good Reason by Executive), or subsection 6.6 (relating to failure to extend Agreement), then, in addition to any other benefits to which Executive is entitled, he shall be entitled to an Enhanced Pension payable from the CNA Financial Corporation Supplemental Executive Retirement Plan (or, in the discretion of the Company, under another non-qualified plan or arrangement maintained by the Company), or Executive's spouse as of the date of his termination (his "Wife") shall be entitled to a Survivor Enhanced Pension, to the extent provided in this subsection 6.7. (b) Notwithstanding the provisions of paragraph (a) above, Executive shall not be entitled to an Enhanced Pension if his employment with the Company terminates under circumstances described in subsection 6.6 (relating to failure to extend Agreement), and such termination of employment follows Executive's rejection of a Comparable Employment Offer by the Company to extend the period of the Agreement. It is understood by the parties that if, following extensions of the term of this Agreement, Executive's employment terminates by reason of a failure to further extend the Agreement term as described in subsection 6.6, and as of the last day of the term (determined without regard to the automatic month-to-month extensions described in paragraph 6.6(a)), Executive has attained age 55, then the restriction of this paragraph (b) shall not apply, and Executive's right to benefits shall be determined without regard to whether he rejected the Company's offer to renew. (c) The "Enhanced Pension" shall be comprised of equal monthly installment payments from the Company commencing on the first day of the calendar month following the two-year anniversary of Executive's date of termination of employment with the Company (the "Payment Commencement Date"), and continuing on a monthly basis through the calendar month in which Executive's death occurs. Executive may elect to receive payment of the Enhanced Pension in the form of a joint and surviving spouse benefit, subject to the following: (i) any such alternative form of benefit shall be actuarially equivalent to the benefit to which he would otherwise be entitled in accordance with this subsection 6.7 in the absence of this sentence; (ii) any election of an alternate form of payment shall be filed by Executive with the Company in writing in a form reasonably acceptable to the Company not later than 30 days after Executive's date of termination; and (iii) actuarial equivalency shall be determined using the assumptions and methodology applicable to the CNA Employees' Retirement Benefit Equalization Plan as of Executive's date of termination. (d) The amount of each such monthly payment of the Enhanced Pension shall be such that the present value of the payments, determined as of the Payment Commencement Date, would be $2,000,000, with such amount determined based on the premium that would be required to purchase such a commercial annuity as of the Payment Commencement Date. However, if Executive's employment terminates on or after December 31, 2002, and on or before April 1, 2003, under circumstances that would otherwise result in his being entitled to an Enhanced Pension, then the monthly amount determined in accordance with the preceding sentence shall be not less than $14,432.86. Notwithstanding the foregoing provisions of this paragraph (d), in no event will the annual rate of payments of the Enhanced Pension to Executive, when added to the amount of Executive's benefits from the CNA Employees' Retirement Plan (the "Qualified Retirement Plan") and the CNA Employees' Retirement Benefit Equalization Plan (the "Retirement Equalization Plan") exceed 2/3's of Executive's annual rate of Base Compensation as in effect on his date of termination. For purposes of this paragraph (d), the benefits under the Qualified Retirement Plan and the Retirement Equalization Plan shall be determined as though such benefits are distributed as a single life annuity for the life of Executive commencing on the Payment Commencement Date, with the deemed amount of such payments actuarially equivalent to the form in fact being provided under the Qualified Retirement Plan and the Retirement Equalization Plan (using the actuarial assumptions then applicable to each of the respective plans). No amounts shall be payable under this subsection 6.7 if Executive is not living on the two year anniversary of his date of termination of employment, and his Wife is not living on such two-year anniversary. (e) If the provisions of paragraph (a) are applicable, and Executive is not living on the two year anniversary of his date of termination of employment (and his death occurs on or after his date of termination), and his Wife is living on such two-year anniversary, his Wife shall be entitled to an "Enhanced Survivor Pension" which shall be comprised of equal monthly installment payments from the Company commencing on the first day of the calendar month following the two-year anniversary of Executive's date of termination of employment with the Company (the "Survivor Payment Commencement Date"), and continuing on a monthly basis through the calendar month in which his Wife's death occurs. The amount of each such monthly payment of the Enhanced Survivor Pension shall be such that the present value of the payments, determined as of the Payment Commencement Date, would be $1,000,000, with such amount determined based on the premium that would be required to purchase such a commercial annuity as of the Payment Commencement Date. However, if Executive's employment terminates on or after December 31, 2002, and on or before April 1, 2003, under circumstances that would otherwise result in his Wife being entitled to an Enhanced Survivor Pension, then the monthly amount determined in accordance with the preceding sentence shall be not less than $7,659.82. Notwithstanding the foregoing provisions of this paragraph (e), in no event will the annual rate of payments of the Enhanced Survivor Pension, when added to the surviving spouse benefits from the Qualified Retirement Plan and the Retirement Equalization Plan, exceed 1/3 of Executive's annual rate of Base Compensation as in effect on his date of termination. For purposes of this paragraph (e), the benefits under the Qualified Retirement Plan and the Retirement Equalization Plan shall be determined as though such benefits are distributed as a joint and 50% surviving spouse annuity benefit for the life of Executive and his Wife spouse commencing on the Survivor Payment Commencement Date, with the deemed amount of such payments actuarially equivalent to the form in fact being provided under the Qualified Retirement Plan and the Retirement Equalization Plan (using the actuarial assumptions then applicable to each of the respective plans). (f) Illustrations of a manner of computation of the amount of the payments that the parties have agreed is acceptable is set forth as Supplement 1 to this Agreement. 7. CONFIDENTIALITY. Executive agrees that, while he is employed by the Company, and at all times thereafter, he shall continue to hold in a fiduciary capacity for the benefit of the Company all secret or confidential information, knowledge or data relating to the Company and any other business or entity in which at any relevant time the Company holds greater than a 10% equity (voting or non-voting) interest (an "Affiliate") that shall have been obtained by Executive during his employment by or affiliation with the Company and that shall not be public knowledge other than by acts of Executive or his representative ("Confidential Material"). Executive shall not, without the prior written consent of the Chairman, communicate or divulge any Confidential Material to anyone other than the Company and those designated by it. 8. COMPETITION. Executive hereby agrees that, while he is employed by the Company, and for a period of 24 months following the date of his termination of employment with the Company for any reason, he will not, directly or indirectly, without the prior written approval of the Chairman, enter into any business relationship (either as principal, agent, board member, officer, consultant, stockholder, employee or in any other capacity) with any business or other entity that at any relevant time engages in the business of insurance (a "Competitor"); provided, however, that such prohibited activity shall not include the ownership of less than 5% of the voting securities of any publicly traded corporation regardless of the business of such corporation. Upon the written request of Executive, the Chairman will determine whether a business or other entity constitutes a "Competitor" for purposes of this Section 8; provided that the Chairman may require Executive to provide such information as the Chairman determines to be necessary to make such determination; and further provided that the current and continuing effectiveness of such determination may be conditioned on the accuracy of such information, and on such other factors as the Chairman may determine. 9. SOLICITATION. Executive agrees that while he is employed by the Company, and for a period of 36 months following his termination of employment with the Company for any reason, he will not employ, offer to employ, engage as a consultant, or form an association with any person who is then, or who during the preceding one year was, an employee of the Company or any Affiliate, nor will he assist any other person in soliciting for employment or consultation any person who is then, or who during the preceding one year was, an employee of the Company or any Affiliate. 10. NON-INTERFERENCE. Executive agrees that while he is employed by the Company, and for a period of 36 months following his termination of employment with the Company for any reason, he will not disturb or attempt to disturb any business relationship or agreement between either the Company or an Affiliate and any other person or entity. 11. ASSISTANCE WITH CLAIMS. Executive agrees that, while he is employed by the Company, and for a reasonable period (not less than 60 months) thereafter, he will be available, on a reasonable basis, to assist the Company and its subsidiaries and affiliates in the prosecution or defense of any claims, suits, litigation, arbitrations, investigations, or other proceedings, whether pending or threatened ("Claims") that may be made or threatened by or against the Company or any of its subsidiaries or affiliates. Executive agrees, unless precluded by law, to promptly inform the Company if he is requested (i) to testify or otherwise become involved in connection with any Claim against the Company or any subsidiary or affiliate or (ii) to assist or participate in any investigation (whether governmental or private) of the Company or any subsidiary or affiliate or any of their actions, whether or not a lawsuit has been filed against the Company or any of its subsidiaries or affiliates relating thereto. For periods following the 36-month anniversary of the date of Executive's termination of employment with the Company, the Company agrees to provide reasonable compensation to Executive for such assistance. 12. RETURN OF MATERIALS. Executive shall, at any time upon the request of the Company, and in any event upon the termination of his employment with the Company, for whatever reason, immediately return and surrender to the Company all originals and all copies, regardless of medium, of property belonging to the Company or the Affiliates, created or obtained by Executive as a result of or in the course of or in connection with his employment with the Company regardless of whether such items constitute proprietary information, provided that Executive shall be under no obligation to return written materials acquired from third parties which are generally available to the public. Executive acknowledges that all such materials are, and will remain, the exclusive property of the Company and the Affiliates. 13. EFFECT OF BREACH. Executive acknowledges that his violation of the covenants set forth in Sections 7, 8, 9, 10, and 12 could cause the Company or the Affiliates irreparable harm and he agrees that the Company and the Affiliates shall be entitled to injunctive relief restraining Executive from actual or threatened breach of the covenants and that if bond is required to be posted in order for the Company or the Affiliates to secure such relief said bond need only be in a nominal amount. The right of the Company or the Affiliates to seek injunctive relief shall be in addition to any other remedies available to the Company and the Affiliates with respect to an alleged or threatened breach. 14. LIMITATION ON REMEDIES. The Company shall not be entitled to suspend payments otherwise due to Executive by reason of Executive's violation of Sections 7, 8, 9, 10, and 12 (whether before or after a judgment is obtained by the Company against Executive). The Company shall not be entitled to set off against the amounts payable to Executive under this Agreement any amounts owed to the Company by Executive. Nothing in this Section 14 shall limit the remedies of the Company and the Affiliates in the case of Executive's violation of this Agreement, except as otherwise specifically provided in this Section 14. 15. EFFECT OF COVENANTS. Nothing in Sections 7 through 14 shall be construed to adversely affect the rights that the Company and the Affiliates would possess in the absence of the provisions of such Sections. 16. REVISION. The parties hereto expressly agree that in the event that any of the provisions, covenants, warranties or agreements in this Agreement are held to be in any respect an unreasonable restriction upon Executive or are otherwise invalid, for whatsoever cause, then the court or arbitrator so holding is hereby authorized to (a) reduce the territory to which said covenant, warranty or agreement pertains, the period of time in which said covenant, warranty or agreement operates or the scope of activity to which said covenant, warranty or agreement pertains or (b) effect any other change to the extent necessary to render any of the restrictions contained in this Agreement enforceable. 17. SEVERABILITY. Each of the terms and provisions of this Agreement is to be deemed severable in whole or in part and, if any term or provision of the application thereof in any circumstances should be invalid, illegal or unenforceable, the remaining terms and provisions or the application thereof to circumstances other than those as to which it is held invalid, illegal or unenforceable, shall not be affected thereby and shall remain in full force and effect. 18. BINDING AGREEMENT; ASSIGNMENT. This Agreement shall be binding upon the parties hereto and their respective heirs, successors, personal representatives and assigns. The Company shall have the right to assign this Agreement to any successor in interest to the business, or any majority part thereof, of the Company or any joint venture or partnership to which the Company is a joint venturer or general partner which conducts substantially all of the Company's business. Executive shall not assign any of his obligations or duties hereunder and any such attempted assignment shall be null and void. 19. CONTROLLING LAW; JURISDICTION. This Agreement shall be governed by, interpreted and construed according to the laws of the State of Illinois (without regard to conflict of laws principles). 20. ARBITRATION OF ALL DISPUTES. Any controversy or claim arising out of or relating to this Agreement (or the breach thereof) shall be settled by final, binding and non-appealable arbitration in Chicago, Illinois by three arbitrators. Except as otherwise expressly provided in this Section 20, the arbitration shall be conducted in accordance with the rules of the American Arbitration Association (the "Association") then in effect. One of the arbitrators shall be appointed by the Company, one shall be appointed by Executive, and the third shall be appointed by the first two arbitrators. If the first two arbitrators cannot agree on the third arbitrator within 30 days of the appointment of the second arbitrator, then the third arbitrator shall be appointed by the Association. This Section 20 shall not be construed to limit the Company's right to obtain relief under Section 13 with respect to any matter or controversy subject to Section 13 and, pending a final determination by the arbitrator with respect to any such matter or controversy, the Company shall be entitled to obtain any such relief by direct application to state, federal or other applicable court, without being required to first arbitrate such matter or controversy. 21. ENTIRE AGREEMENT. Except as otherwise expressly set forth herein, this Agreement contains the entire agreement of the parties with regard to the subject matter hereof, supersedes all prior agreements and understandings, written or oral, and may only be amended by an agreement in writing signed by the parties thereto. Upon execution of this Agreement by both the Company and Executive, Executive shall relinquish all rights to any amounts that would otherwise be payable for the performance year 1999 (otherwise payable in 2003) under the Specialty Operations Long-Term Incentive Plan. Nothing in this paragraph 21 shall be construed to reduce any amount which Executive would otherwise receive under the Specialty Operations Long-Term Incentive Plan for performance years ending before January 1, 1999; provided that the effectiveness of this Agreement shall be conditioned on Executive and the Company executing the Deferral Agreement set forth as Supplement 2 to this Agreement, which is attached to and forms a part of this Agreement, and the provisions of the Deferral Agreement shall be applicable to the rights of Executive under Specialty Operations Long-Term Incentive Plan for performance years 1995 and 1996 (payable in 2000 and 2001, respectively), and 1997 and 1998 (payable in 2001 and 2002, respectively). 22. ADDITIONAL DOCUMENTS. Each party hereto shall, from time to time, upon request of the other party, execute any additional documents which shall reasonably be required to effectuate the purposes hereof. 23. INCORPORATION. The introductory recitals hereof are incorporated in this Agreement and are binding upon the parties hereto. 24. FAILURE TO ENFORCE. The failure to enforce any of the provisions of this Agreement shall not be construed as a waiver of such provisions. Further, any express waiver by any party with respect to any breach of any provision hereunder by any other party shall not constitute a waiver of such party's right to thereafter fully enforce each and every provision of this Agreement. 25. SURVIVAL. Except as otherwise set forth herein, the obligations contained in this Agreement shall survive the termination, for any reason whatsoever, of Executive's employment with the Company. 26. HEADINGS. All numbers and headings contained herein are for reference only and are not intended to qualify, limit or otherwise affect the meaning or interpretation of any provision contained herein. 27. NOTICES. Notices and all other communications provided for in this Agreement shall be in writing and shall be delivered personally or sent by registered or certified mail, return receipt requested, postage prepaid (provided that international mail shall be sent via overnight or two-day delivery), or sent by facsimile or prepaid overnight courier to the parties at the addresses set forth below (or such other addresses as shall be specified by the parties by like notice). Such notices, demands, claims and other communications shall be deemed given: (a) in the case of delivery by overnight service with guaranteed next day delivery, the next day or the day designated for delivery; (b) in the case of certified or registered U.S. mail, five days after deposit in the U.S. mail; or (c) in the case of facsimile, the date upon which the transmitting party received confirmation of receipt by facsimile, telephone or otherwise; provided, however, that in no event shall any such communications be deemed to be given later than the date they are actually received. Communications that are to be delivered by the U.S. mail or by overnight service or two-day delivery service are to be delivered to the addresses set forth below: If to the Company: CNA Financial Corporation CNA Plaza Chicago, IL 60685 Attn: Corporate Secretary Facsimile No.: (312)817-0511 If to Executive: Thomas F. Taylor 78 Pine Cove Road Fair Haven, NJ 07704 or to such other address as either party shall furnished to the other party in writing in accordance with the provisions of this Section 27. 28. GENDER. The masculine, feminine or neuter pronouns used herein shall be interpreted without regard to gender, and the use of the singular or plural shall be deemed to include the other whenever the context so requires. IN WITNESS WHEREOF, the parties hereto have executed this Agreement on the Signing Date. CNA FINANCIAL CORPORATION By: /S/JONATHAN D. KANTOR Title: Senior Vice President, General Counsel and Secretary THOMAS F. TAYLOR /S/THOMAS F. TAYLOR SUPPLEMENT 1 ILLUSTRATIONS OF ENHANCED PENSION For illustrative purposes only; actual calculations to be made at time of payment commencement date based on compensation, actuarial equivalence and other factors existing at that time.
--------------------- PAYMENT COMMENCEMENT DATE-------------- 12/31/04 12/31/07 12/31/10 12/31/13 TARGET BENEFIT Target Benefit [Max (66-2/3% of Base, $ 501,637.50 $ 580,708.11 $ 672,242.23 $778,204.41 Plan Benefit)] SOURCES AT PAYMENT COMMENCEMENT DATE Qualified Plan $ 35,754.84 (a)$ 36,495.86 $ 62,168.51 $ 97,416.72 SERP 120,473.79 (b) 247,007.27 410,872.29 647,883.38 Enhanced Pension 173,194.26 179,601.96 187,619.54 32,904.31 Total $ 329,422.89 $ 463,105.09 $ 660,660.34 778,204.41 Present Value at Payment Commencement Date Qualified Plan $ 133,480.19 (a)$ 406,408.25 $ 662,708.26 $ 985,426.67 SERP (Includes Pre-62 Supplement) 1,682,264.81 (c) 2,766,533.75 4,394,788.74 6,553,716.33 Enhanced Pension 2,000,000.00 2,000,000.00 2,000,000.00 332,846.23 Total $3,815,745.00 $5,172,942.00 $7,057,497.00 $7,871,989.23 ---------------------------- PAYMENT COMMENCEMENT DATE------- 12/31/04 12/31/07 12/31/10 12/31/13 SPOUSE BENEFITS TARGET BENEFIT Target Benefit [Max (33-1/3% of Base, $ 250,818.75 $ 290,354.06 $336,121.11 $ 389,102.20 Plan Benefit)] SOURCES AT PAYMENT COMMENCEMENT DATE Qualified Plan $ 16,447.23 (a)$ 17,591.00 $ 29,592.21 $ 45,785.86 SERP 59,792.34 (d) 119,057.50 195,575.21 304,505.19 Enhanced Pension 91,917.78 96,473.78 102,208.30 38,811.15 Total $ 168,157.35 $ 233,122.28 $ 327,375.72 $ 389,102.20 PRESENT VALUE AT PAYMENT COMMENCEMENT DATE Qualified Plan $ 56,430.25 (a)$ 182,339.69 $ 289,528.44 $ 418,572.72 SERP (Includes Pre-62 Supplement) 778,473.75 (c) 1,241,275.31 1,919,373.56 2,783,775.28 Enhanced Pension 1,000,000.00 1,000,000.00 1,000,000.00 354,810.17 Total $1,834,904.00 $2,423,615.00 $3,208,902.00 $3,557,158.17
(a) Not available until age 65. Present value reflects deferred payment at age 65. (b) $156,228.63 prior to age 62. (c) Includes subsidy on the qualified benefit not payable at the current age. (d) $76,239.57 prior to age 65. Supplement 2 DEFERRAL AGREEMENT THIS AGREEMENT (the "Agreement"), made and entered into as of the 2nd day of November, 1999 (the "Signing Date"), by and between CNA Financial Corporation, a Delaware corporation (the "Company"), and Thomas F. Taylor (the "Executive"); WITNESSETH THAT: WHEREAS, the Company has required the deferral of compensation payable to the Executive by the Company and the Related Companies (as defined below) under the Specialty Operations Long-Term Incentive Plan that would otherwise be non-deductible by reason of section 162(m) of the Code (as defined below), and thereby avoid the loss of such deduction, and the Executive has accepted such deferral, and the parties have agreed to enter into this Agreement providing for the deferral and for compensation to be provided to the Executive in return for his acquiescence to such deferral; NOW, THEREFORE, in consideration of the mutual covenants and agreements set forth below, it is hereby covenanted and agreed by the Executive and the Company as follows: 1. Effective Date. This Agreement shall be effective with respect to amounts payable under the Specialty Operations Long-Term Incentive Plan that are attributable to performance years 1995 and 1996 (payable in 2000 and 2001, respectively), and 1997 and 1998 (payable in 2001 and 2002, respectively) which relate to Executive (the "Covered Compensation"). 2. Deferred Amount. If any Covered Compensation otherwise payable to the Executive by the Company or any Related Company would be non-deductible by reason of Code section 162(m), such amount shall not be paid to the Executive when otherwise due, but an amount equal to the foregone payment shall instead be credited to the Executive's Deferral Account in accordance with this paragraph 2 and paragraph 3. In determining the amounts subject to deferral under this paragraph 2, the following shall apply: (a) To the extent necessary in determining whether amounts payable to the Executive would be non-deductible for any year, the Committee (as defined below) shall make the determinations required under this paragraph 2 based on an estimate of the total compensation to be paid to the Executive for the year (including both cash and non-cash compensation and benefits that would be taken into account in determining whether the limitations of Code section 162(m) are exceeded). (b) In determining whether amounts payable to the Executive would be non-deductible for any year, the Committee shall assume that, to the extent that such total annual compensation exceeds $1 million, the excess is attributable to Covered Compensation (not to exceed the maximum amount of Covered Compensation otherwise payable during that year). (c) In estimating the Executive's total compensation for any year, the Committee may request that the Executive forecast whether, for the year, he will be receiving any compensation the timing of which is in the Executive's discretion. 3. Deferral Account. The Deferral Account balance shall be credited with the amount determined in accordance with paragraph 2, as of the date on which such amount would otherwise have been paid to the Executive were it not for deferral under this Agreement. For any period during which amounts are credited to the Deferral Account, they shall be credited with interest at the interest rates applicable to accounts maintained under the CNA Employees' Supplemental Savings Plan (the "Supplemental Plan") for the respective period. 4. Time of Payment of Deferred Amount. Amounts credited to the Executive's Deferral Account shall be paid upon the earliest of the following: (a) As soon as practicable after the Committee determines that such amounts will be deductible when paid (provided that the Committee reasonably determines that payment of such amounts will not cause other amounts (whether cash or non-cash) to become non-deductible by reason of Code section 162(m)). (b) As soon as practicable after the Committee determines that such amounts will not be deductible by the Company when paid, and that further deferral will not result in such amounts becoming deductible. (c) As soon as practicable after the beginning (but not later than January 30) of the first calendar year following the calendar year in which the Executive ceases to be employed by the Company and all Related Companies Payment shall be made under this paragraph 4 not later than the date determined under paragraph (c), regardless of whether such payments are deductible by the Company. 5. Form of Payment of Deferred Amount. To the extent that an amount is payable to or on behalf of the Executive with respect to the Deferral Account in accordance with paragraph 4, it shall be paid by the Company in a cash lump sum. 6. Other Costs and Benefits. This Agreement is intended to defer, but not to eliminate, payment of compensation to the Executive. Accordingly, if any compensation or benefits that would otherwise be provided to the Executive in the absence of this Agreement are reduced or eliminated by reason of deferral under this Agreement, the Company shall equitably compensate the Executive for such reduction or elimination, and the Company shall reimburse the Executive for any increased or additional penalty taxes which he may incur by reason of deferral under this Agreement which would not have been incurred in the absence of such deferral, except that no reimbursement will be made for taxes resulting from an increase or decrease in individual income tax rates, or resulting from an increase in the amount of compensation payable to the Executive by reason of the accrual of earnings or any other provision of this Agreement. 7. Transferability. Awards granted under this Agreement are not transferable except as designated by the Executive by will or by the laws of descent and distribution. If any benefits deliverable to the Executive under this Agreement have not been delivered at the time of the Executive's death, such rights shall be exercisable by the Designated Beneficiary, and such benefits shall be delivered to the Designated Beneficiary, in accordance with the provisions of the applicable terms of this Agreement. The "Designated Beneficiary" shall be the beneficiary or beneficiaries designated by the Executive to receive benefits under the Company's group term life insurance plan. If the deceased Executive fails to designate a beneficiary, or if the Designated Beneficiary does not survive the Executive, any benefits distributable to the Executive shall be exercised by or distributed to the legal representative of the estate of the Executive. If the deceased Executive designates a beneficiary and the Designated Beneficiary survives the Executive but dies before the complete distribution of benefits to the Designated Beneficiary under this Agreement, then any benefits distributable to the Designated Beneficiary shall be distributed to the legal representative of the estate of the Designated Beneficiary. 8. Related Companies. The term "Related Company" means any company during any period in which compensation paid to the Executive by such company would be required to be aggregated with compensation paid to the Executive by the Company, in accordance with the affiliated group rules applicable to Code section 162(m). The Company shall enter into such arrangements with the Related Companies as it shall deem appropriate to implement the terms of this Agreement, and shall inform the Executive of any material failure to provide for such implementation. 9. Committee. This Agreement shall be administered by the committee responsible for administering the Supplemental Plan (the "Committee"), in accordance with rules applicable to that plan. 10. Statements. The Committee shall provide the Executive with statements of the Executive's Deferral Account at substantially the same time as those statements are provided under the Supplemental Plan. Upon request of the Executive, the Committee shall provide the computations of amounts under paragraph 2 and paragraph 4. 11. Notices. Any notices required to be given by the Company to the Executive shall be provided in writing, and either personally delivered to the Executive, or mailed by registered mail, postage prepaid, to the Executive at the last mailing address provided by the Executive to the Company. 12. Limitation of Implied Rights. Neither the Executive nor any other person shall, by reason of this Agreement, acquire any right in or title to any assets, funds or property of the Company whatsoever, including, without limitation, any specific funds, assets, or other property which the Company, in its sole discretion, may set aside in anticipation of a liability under this Agreement. The Executive shall have only a contractual right to the amounts payable under this Agreement, unsecured by any assets of the Company, and nothing contained in this Agreement shall constitute a guarantee that the assets of the Company shall be sufficient to pay any benefits to any person. The Company shall not be entitled to set off against the amounts payable to the Executive under this Agreement any amounts owed to the Company by the Executive. 13. Code. For purposes of this Agreement, the term "Code" means the Internal Revenue Code of 1986, as amended. References to sections of the Code also refer to any successor provisions thereof. References in this Agreement to an amount being "deductible" refer to its being deductible by the Company or a Related Company for Federal income tax purposes; provided, however, that if deductibility would not be precluded by reason of Code section 162(m), then it shall be deemed to be "deductible" for purposes of this Agreement, regardless of whether it is non-deductible for any other reason. If, after the Effective Date, there is a change in the provisions or interpretation of Code section 162(m) which would have a material effect on the benefits to the Executive or the Company, the parties shall negotiate in good faith to preserve the benefit of this Agreement for both parties; provided, however, that nothing in this Agreement shall be construed to require the Executive to consent to any change in the Agreement without reasonable compensation therefore. 14. Amendment. This Agreement may be amended or canceled only by mutual agreement of the parties in writing without the consent of any other person. So long as the Executive lives, no person, other than the parties hereto, shall have any rights under or interest in this Agreement or the subject matter hereof. 15. Applicable Law. This Agreement shall be construed and administered in accordance with the laws of the State of Illinois to the extent that such laws are not preempted by the laws of the United States of America. IN WITNESS WHEREOF, the parties hereto have executed this Agreement on the Signing Date. CNA FINANCIAL CORPORATION By: /S/JONATHAN D. KANTOR Title: Senior Vice President, General Counsel and Secretary THOMAS F. TAYLOR /S/THOMAS F. TAYLOR EX-13.1 6 1999 ANNUAL REPORT CNA FINANCIAL CORPORATION 1999 ANNUAL REPORT FOCUSED ON PERFORMANCE TABLE OF CONTENTS FINANCIAL HIGHLIGHTS.......................................... 1 CHAIRMAN'S LETTER............................................. 2 FINANCIAL POSITION............................................ 5 MANAGEMENT ROUNDTABLE......................................... 6 MANAGEMENT'S DISCUSSION AND ANALYSIS.......................... 13 CONSOLIDATED BALANCE SHEETS................................... 42 CONSOLIDATED STATEMENTS OF OPERATIONS......................... 44 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY............... 45 CONSOLIDATED STATEMENTS OF CASH FLOWS.......................... 46 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.................... 48 INDEPENDENT AUDITORS' REPORT.................................. 74 DIRECTORS..................................................... 75 OFFICERS...................................................... 75 COMPANY INFORMATION........................................... 76 CNA FINANCIAL CORPORATION COMPANY PROFILE CNA Financial Corporation is a holding company whose primary subsidiaries consist of property/casualty and life insurance companies. Collectively, these subsidiaries comprise CNA, one of the largest insurance organizations in the United States. CNA serves businesses and individuals with a broad range of insurance and other risk management products and services. Insurance products include property and casualty coverages; life, accident and health insurance; and pension products and annuities. CNA services include risk management, information services, health care management and claims administration. CNA products and services are marketed through agents, brokers, managing general agents and direct sales. CNA Financial Corporation, with 1999 revenues of $16.4 billion, assets of $61.2 billion and stockholders' equity of $8.9 billion, is the holding company of Continental Casualty Company, incorporated in 1897, Continental Assurance Company, incorporated in 1911, and The Continental Corporation, incorporated in 1853. CNA Financial Corporation stock is traded primarily on the New York Stock Exchange, and is approximately 86 percent owned by Loews Corporation. 1999 ANNUAL REPORT FINANCIAL HIGHLIGHTS RESULTS OF OPERATIONS & FINANCIAL CONDITION
- ----------------------------------------------------------------------------------------------------------------- As of and for the Year Ended December 31 1999 1998 1997 1996 1995* (In millions of dollars, except per share data and ratios) - ----------------------------------------------------------------------------------------------------------------- RESULTS OF OPERATIONS Revenues $16,403 $17,162 $17,199 $16,988 $14,700 Net operating income (loss) (145) (152) 488 578 463 Net realized investment gains 192 434 478 387 294 Cumulative effect of a change in accounting principle, net of tax (177) - - - - - ------------------------------------------------------------------------------------------------------------------ NET INCOME (LOSS) $ (130) $ 282 $ 966 $ 965 $ 757 ================================================================================================================= EARNINGS PER SHARE Net operating income(loss) $ (0.85) $(0.86) $ 2.59 $ 3.08 $ 2.46 Net realized investment gains, net of tax and minority interest 1.04 2.35 2.58 2.09 1.59 Cumulative effect of a change in accounting principle, net of tax and minority interest (0.96) - - - - - ----------------------------------------------------------------------------------------------------------------- NET INCOME (LOSS) $ (0.77) $ 1.49 $ 5.17 $ 5.17 $ 4.05 ================================================================================================================== FINANCIAL CONDITION Invested assets $35,560 $37,177 $36,203 $35,412 $35,886 Total assets 61,219 62,432 61,675 60,455 60,360 Reserves 39,165 40,400 39,829 39,981 40,803 Debt 2,881 3,160 2,897 2,765 3,026 Stockholders' equity 8,938 9,157 8,309 7,060 6,739 Book value per common share 47.66 47.89 44.01 37.27 35.52 Return on average stockholders' equity -1.4% 3.2% 12.6% 14.0% 13.4% STATUTORY SURPLUS - ------------------------------------------------------------------------------------------------------------------ Property/casualty companies** $ 8,679 $ 7,593 $ 7,123 $ 6,349 $ 5,696 Life insurance companies 1,222 1,109 1,224 1,163 1,056 ================================================================================================================== * RESULTS OF OPERATIONS DATA INCLUDES THE CONTINENTAL CORPORATION SINCE ITS ACQUISITION ON MAY 10, 1995. ** SURPLUS INCLUDES EQUITY OF PROPERTY/CASUALTY COMPANIES OWNERSHIP IN LIFE INSURANCE SUBSIDIARIES.
CNA FINANCIAL CORPORATION 1 FOCUSED ON PERFORMANCE CHAIRMAN'S LETTER Dear Shareholder: According to conventional wisdom, we are in a "mature" industry. Certainly, when you look at the recent financial and stock market performance of our company - and of most of our competitors - that perception seems true. But we beg to differ. There is nothing conventional about the accelerating impact of technology in an economy that is more global every day, or the fact that risks facing our customers are becoming more varied and complex. As an organization focused on helping businesses manage such risks, we believe this time of change presents the greatest opportunity in our working lives. We believe our industry is on the threshold of a new era of growth - particularly for companies like CNA that have the vision and financial strength to adapt. But before expanding on our vision, you and I know that there is still much work to be done right now to improve CNA's operating performance and shareholder value. 2 1999 ANNUAL REPORT Important progress In the year since I became chief executive officer of the CNA Insurance Companies, I believe we have made tremendous progress in sharpening our focus and building a solid financial foundation to help us pursue our vision successfully. Our multi-year turnaround plan is firmly in place and the momentum from 1999 is carrying over into 2000. That said, this management team is not satisfied with our progress, as the bottom line has not yet improved commensurate with our actions. This became especially true when some of the worst storms Europe had ever seen, together with reserve strengthening, combined to wipe out three straight quarters of progress we had made in increasing our net operating income. But we remain focused on performance. Our drive to improve the quality of our underwriting across the board remains central to our strategy, today and tomorrow. We are shedding under-priced business in troubled lines -almost $1.2 billion of property/casualty premiums on a base of $6.8 billion - and making significant progress in achieving adequate rates on the remaining risks. We have taken more than $380 million out of our run-rate cost of operations as a down payment on our relentless determination to be a low cost competitor. These steps are putting us on the right track. And while there are challenges to meet, they should not obscure three truths about CNA: o We continue to have one of the strongest balance sheets in the industry - despite a $363 million after-tax reserve strengthening in loss and allocated loss adjustment expense for prior periods. This strength gives us the financial flexibility to invest in our vision and to fix weak businesses. o We have many lines of business delivering outstanding underwriting results, including insurance to protect officers and directors, liability insurance for professionals, warranty and our majority-owned CNA Surety operation. o We have one of the most effective partnerships with agents and brokers in the sector. Much of our progress, especially in the troubled standard commercial lines market, is due to the strength of these relationships. Getting focused on business The stage is now set for us to reach our vision: to be the premier underwriter of the risks facing businesses. This required some very difficult decisions. In the end, we decided to exit long-time CNA businesses that, however successful in their own right, did not fit with our core strategy. So, last year, we transferred our personal insurance business to Allstate and sold the majority of our interest in AMS Services, Inc., an insurance technology provider, to a private management partnership. In the first quarter of 2000, we also announced a decision to explore the sale of our life and life reinsurance businesses. In total, CNA will re-deploy substantial assets to concentrate on businesses where we hold strategic advantages - such as specialized products and services targeted to businesses. A new opportunity With the rise of e-commerce, service- and technology-based enterprises, and the globalization of businesses of virtually any size, the needs for risk management products and services are evolving rapidly. This creates an enormous opportunity that will require real focus and talent to capture. The opportunity comes in two forms: o Existing clients need new products and services to address their evolving risks. The markets our customers serve are changing, their exposures are changing, and the ways they choose to communicate and interact with us are changing. CNA FINANCIAL CORPORATION 3 o Entirely new types of businesses are being created with a unique set of risks and insurance needs. They, too, will look to us for new products and services. Our objective is to make the most of this opportunity by refocusing CNA on its core strength as the underwriter of choice in the business insurance market. Completing our turnaround plan lays the essential underwriting and management foundation for making our vision a bottom-line success. Thanks for the hard work Before closing, I want to thank the people of CNA for their commitment to building a stronger company. I also want to thank our entire senior leadership team, which was made even stronger with the addition of Bob Deutsch as our chief financial officer late in 1999. Finally, I want to recognize Ron Gallatin, who joined our board of directors in February 2000. We welcome the perspective and experience he brings to our organization. The work we have undertaken in 1999 has not been easy. But I am confident our ongoing actions to improve operational and financial performance, in combination with the company's strong and stable balance sheet, will enable CNA to take full advantage of the changes sweeping through our industry. In this way, we will be able to deliver enhanced value to our shareholders in the years ahead. Thank you for your continued support. Sincerely, Bernard L. Hengesbaugh Chairman and Chief Executive Officer CNA Insurance Companies March 15, 2000 4 1999 ANNUAL REPORT FINANCIAL HIGHLIGHTS FINANCIAL POSITION (1989-1999) FINANCIAL POSITION This page of CNA Financial Corporation's annual report has four bar graphs which illustrate the trend in revenues, assets, stockholders' equity and book value per common share from 1989 through 1999. ($ IN BILLIONS EXCEPT PER SHARE DATA) |-----------------------|----------|---------|---------------|---------------| |Measurement Period | | | Stockholders'| Book Value Per| | (Fiscal Year Covered) | Revenues | Assets | Equity | Common Share* | |-----------------------|----------|---------|---------------|---------------| |FYE 12/31/89...........| 9.1 | 30.9 | 4.2 | 21.58 | |FYE 12/31/90...........| 9.9 | 34.7 | 4.5 | 23.41 | |FYE 12/31/91...........| 11.1 | 39.2 | 5.1 | 26.75 | |FYE 12/31/92...........| 10.8 | 39.7 | 4.8 | 25.02 | |FYE 12/31/93...........| 11.0 | 41.9 | 5.4 | 28.22 | |FYE 12/31/94...........| 11.0 | 44.3 | 4.5 | 23.71 | |FYE 12/31/95...........| 14.7 | 60.4 | 6.7 | 35.52 | |FYE 12/31/96...........| 17.0 | 60.5 | 7.1 | 37.27 | |FYE 12/31/97...........| 17.2 | 61.7 | 8.3 | 44.01 | |FYE 12/31/98...........| 17.2 | 62.4 | 9.2 | 47.89 | |FYE 12/31/99...........| 16.4 | 61.2 | 8.9 | 47.66 | |-----------------------|----------|---------|---------------|---------------| *Previous years have been restated for 3 for 1 stock split that occurred on 5/98. CNA FINANCIAL CORPORATION 5 MANAGEMENT ROUNDTABLE QUESTIONS & ANSWERS In the 1998 CNA Financial Corporation annual report, CNA Insurance Companies Chairman and Chief Executive Officer Bernard L. Hengesbaugh stated that conditions in the insurance industry had never been more competitive and that CNA's operating performance was unacceptable to CNA's management and board. Given these critical factors, 1999 was a year in which management focused on operating performance. To help shareholders measure CNA's progress to date and understand its strategy for handling challenges still facing the company, the following section features a roundtable discussion with several key CNA officers. In it, they answer the tough questions most often asked by investors and financial analysts. Featured are Bernie Hengesbaugh; Bob Deutsch, senior vice president and chief financial officer; Mike McGavick, president and chief operating officer of Agency Market Operations; and Tom Taylor, executive vice president. 6 1999 ANNUAL REPORT Where does CNA stand today versus a year ago? HENGESBAUGH: In short, we continue to work our turnaround plan to bring our operating performance back up to the level of the top companies in the business. We improved underwriting discipline, reduced expenses and strengthened our management team. As a result, CNA is in a fundamentally stronger position today than we were a year ago. Even so, you reported a significant operating loss for the year. How do you account for this performance? DEUTSCH: Well, for the year, we strengthened loss and allocated loss adjustment expense reserves for prior periods by $363 million after taxes, $235 million of which was taken in the fourth quarter based upon recently-completed actuarial studies. It became clear that losses on our existing business - primarily our 1997 and 1998 accident years - were developing higher than our earlier estimates, so we adjusted our reserves accordingly. We also strengthened our 1999 accident year by $103 million after-tax in the fourth quarter. With this reserve action behind us, we are well positioned to deliver strong operating results in 2000. And by that statement, I do not in any way mean to suggest that we will let our overall reserve adequacy slip in order to deliver earnings. We also had catastrophe losses for the full year of $253 million after-tax versus $218 million for the full year 1998. The principal drivers were the French and Danish windstorms in the fourth quarter and Hurricane Floyd in the third quarter. After two years of disappointing performance, your stock is selling below book value. Why should anyone be an investor in CNA? DEUTSCH: To begin with, we have a goal of being a top quartile performer in our industry, which, given current interest rates, would be in the range of 10-12 percent. And of course, we're not performing anywhere near that level right now. We believe the key is improvement in our net operating income. That's why we're so focused on underwriting discipline and expense reduction. As we improve those areas, we believe our shareholders will be rewarded. The best insurance companies produce operating returns on equity north of 10 percent. We're on a program of getting ourselves positioned to compete at those levels. When we get there, I believe the market will recognize the inherent value of CNA. The market values financial strength in insurance companies. How would you characterize the strength of CNA's balance sheet? DEUTSCH: In a word, excellent. The strength of our balance sheet really arises from our investments, reserve position and capital structure. Our investments in Global Crossing and Canary Wharf Group plc continue to have a favorable impact on our equity position. Global Crossing is a provider of Internet and long distance services with an undersea digital fiber-optic cable network. Canary Wharf is a publicly-traded holding company that operates the Canary Wharf Real Estate development in the London docklands. Since year-end 1998, the market value of these two holdings increased approximately $1.5 billion to $2.4 billion at the end of 1999. The market values of Global Crossing and Canary Wharf at December 31 were $1.8 billion and $600 million, respectively, virtually all of which is unrealized gains. Offsetting the equity gains were unrealized losses in our bond portfolio. Bond interest rates generally increased across the yield curve by approximately 175 basis points during 1999. This shift contributed to a $1.3 billion unfavorable change in unrealized bond market values for CNA, from an unrealized gain at year-end 1998 of $600 million to an unrealized loss at December 31 of $700 million. As for reserves, we emphasize a conservative philosophy. The paid and incurred loss activity during the year indicated that market conditions had led to higher loss ratios than we expected, and we stepped up to those indications. While no one can CNA FINANCIAL CORPORATION 7 guarantee that our actuarial estimates will not change over time, we believe that the reserves are in a strong position to withstand further changes. The pricing and underwriting actions taken over the last several quarters will strengthen our financial position. We also have a solid capital structure. Our stockholders' equity was $8.9 billion at the end of 1999. Assets were $61.2 billion, and overall debt levels, including preferred stock, decreased by approximately $479 million, or 14 percent. This capital structure provides a strong base to build on as we move into the future. In 1999, we made important progress in getting the deep financial resources of this company moving in the right direction. As this momentum builds, we continue to believe that the value of the CNA franchise will be fully recognized and the commitment of our shareholders will be well rewarded. What will it take for CNA to become a top performer? HENGESBAUGH: The first thing we have to do is produce strong returns from our insurance operations and our investment portfolio. On the investment side, we are already there. So the real question for the CNA leadership team is this -How do we get the financial muscle in this company working to help us produce superior operating returns? As we thought about that question, there was a clear recognition of what needed to be done, especially for our property/casualty businesses. We are in a tough part of the cycle right now. And we knew if CNA was going to get any benefit from future improvement in the market, however slight, then some very important changes had to take place within CNA very quickly. So in 1999, we started on what in fact is a turnaround plan for CNA. It is not business as usual, and it has involved a lot of rethinking of what we're doing and how we're doing it. While the plan involves a whole series of strategic activities, the real day-to-day priorities are underwriting discipline, expense reduction and overall improvement of the operating results. OK, let's start with underwriting discipline. Can you give us an update? HENGESBAUGH: A key priority of our turnaround plan is improved underwriting discipline. Taking the lead in this process is our new Underwriting Policy Group, headed by Tom Taylor, that we formed in 1999. This small group of experts in underwriting, claims and pricing is working closely with our business leaders to enhance underwriting proficiency across all our operations. We are totally focused on rebuilding the disciplines required to serve our customers and produce superior underwriting results. TAYLOR: Adding to what Bernie said, there really is a broader context here. Several of our specialty businesses -- directors and officers, warranty, surety, credit, fidelity and non-medical professional liability -- are already solid performers. These are strong businesses we are looking to grow. The businesses that need the most work are middle markets, large accounts and medical malpractice. We are getting off underpriced business and working with our key agents and brokers to achieve necessary price increases. For the year, we did not renew $1.2 billion in property/casualty business on a base of $6.8 billion as we worked to achieve adequate pricing and implemented key re-underwriting actions. Average price increases were between 5 and 6 percent, with retention holding in the 70 to 80 percent range throughout the year. How are your agents and brokers handling this? HENGESBAUGH: We have tremendous support from our brokers and independent agents in middle-market commercial business, which is one of the toughest segments for price competition. Their cooperation and support really validates our position on the fundamental need for adequate pricing in middle-market commercial lines. Our agents know we are committed to working with them over the long term, and they are giving us every indication that they want to work with us. After four consecutive quarters of essential price increases, we are encouraged by our progress. We also recognize that our work to achieve adequate pricing doesn't stop here. We'll need continued underwriting discipline - and more than one renewal cycle of price increases - to get our entire property/casualty book up to an appropriate level of profitability. How about a specific example. Could you tell us about your efforts in commercial middle markets? MCGAVICK: First of all, we are aggressively getting off accounts that have been unprofitable. Where we can't find a solution that is acceptable to us, we're getting off the risk. Secondly, and a much more difficult task, is getting adequate price on business that we want to retain. Usually, this is business that many companies would like to have. We have steadfast resolve in getting 8 1999 ANNUAL REPORT an adequate price, even in this business. In 1999, we did not renew nearly $750 million of commercial premiums on a base of $3.4 billion as we worked through critical underwriting and pricing initiatives. It is also important to look at the quarter-to-quarter trend. In middle-market business, as we work to attain rate adequacy, average price increases were 2 percent in the first quarter, 6 percent in the second quarter, 8 percent in the third quarter and 9 percent in the fourth quarter. Retention has been holding steady in the 70 to 75 percent range throughout the year. You increased prices in commercial middle markets and still produced an underwriting loss. Has anything really changed? MCGAVICK: When you look at the fundamentals of our book of business, we are in a much better position now than at the start of 1999. At that point, we were coming off two quarters of price decreases - 0.5 percent in the third quarter of 1998 and 1 percent in the fourth quarter - and these rolled over into our 1999 operating results. Now we are sitting on four consecutive quarters of necessary price increases that reached 9 percent in the fourth quarter, and we expect these actions will work their way into our results for 2000. At the end of 1998, we were looking back on a year when new business relative to total business was at an all-time high. Loss ratios on new business are generally higher than on renewal business, and that's what was rolling into our operating results in 1999. By contrast, we were much more disciplined on new business in 1999. As a result, a larger proportion of more adequately priced business will be rolling into our 2000 results. Another key fundamental relates to our cost structure. At the end of 1998, we were in the early stages of transforming a 20-year-old operating platform. Going into 2000, the transformation is virtually complete. Centralized processing, restructured claims functions and greater focus on territorial underwriting are expected to take $100 million out of our annual operating costs and to improve our service to agents and customers. Finally, at the end of 1998, our incentives for agents and underwriters rewarded volume. Today, we have much stronger incentives for agents and employees tied to the bottom line. When you consider all these factors, we are in a fundamentally stronger position going forward. What about progress on your large account business? TAYLOR: In this business, we continue to see some signs of firming in the market. For the year, we did not renew $75 million in premium on a base of nearly $500 million. In the process, however, we achieved an average price increase of 8 percent with the retention percentage running in the upper 70s. So we think we're going in the right direction here. How are you doing in your medical malpractice business? TAYLOR: It's still a very competitive market, and we are sticking by our resolve to achieve adequate rates. For the year, we did not renew about $105 million in business on a base of $470 million. For the business we renewed, we achieved price increases that averaged 7 percent for the year with the retention percentage in the low 80s. The biggest pricing issues in medical malpractice have been with corporate accounts, that is, large physician groups and hospitals. Here, we achieved average price increases of almost 12 percent on renewal business for the year, with retention around 70 percent. We are also encouraged by the firming in our nursing home business, where we renewed more than 83 percent of our accounts for the year, and achieved average price increases of 10 percent. Business we did not renew includes accounts we chose to offer no renewal terms as well as accounts we offered terms with increases in price significantly larger than the amounts mentioned earlier. Do you think you're on the right track now? TAYLOR: The pricing and retention indicators in these three property/casualty businesses tell us that we're on the right track. We are also achieving other improvements in terms, such as deductibles, coinsurance and insurance to value. As we work our plan, we recognize that there is a tier of players out there that seems intent on growing their market share. But we strongly feel we need to get the price necessary to make this business stable over a longer period of time, and so we're sticking with our plan. How long can you sustain your pricing initiatives? TAYLOR: With our retention rates holding up, we think there is still more room for achieving fair prices in our book of property/casualty business. We are also encouraged by a number of signs we are seeing in the market, including trends in reinsurance, the pricing initiatives of our competitors and the combined ratios of key business lines. CNA FINANCIAL CORPORATION 9 This gives us breathing room to focus on the other fundamentals of underwriting - - loss control, risk selection, claims handling and so on. That's critical, because sustained profitability really goes back to achieving excellence across the entire underwriting process. MCGAVICK: CNA's scale in middle markets turns into a major advantage in the kind of transition market Tom just described. Such a market plays to our advantages of scale and agency relationships. Agents want to maintain their volume and relationships with CNA and so choose to continue to do business with us. We both win, and that's what we see starting to happen. Turning to new business, what are your plans? MCGAVICK: We're focusing on those markets where we know we have the underwriting expertise and customer knowledge that differentiate us from the competition. Although we're cautious in writing new business, we are going to stay in the game, particularly with our top agents. We will work together with them on new business when we think we can get an adequate rate, and the business is in a class where we have some distinct knowledge. HENGESBAUGH: I'd also add that there are some pockets in the overall company that are showing growth. CNA Re is reporting a good flow of new business in its facultative and Canadian operations. The international group in Europe is expanding as a result of the 1998 acquisition of Maritime Insurance. Surety net written premium is up 11 percent. Guarantee & Credit grew 13 percent. What progress have you made on expense reduction? HENGESBAUGH: As we've said, expense reduction is another major priority in our turnaround plan. It goes back to 1998, when we launched an initiative to ensure that each of our businesses is working with an operating platform that is on a par with its most cost-efficient competitors. Each business committed to quarterly expense reduction targets, with an aggregate goal of reducing CNA's annualized running rate expense by $300-350 million by the end of 1999. We completed the effort in the fourth quarter and exceeded this very important goal. It was tough, but we got it done by thinking much more creatively about how to work certain parts of our operating platform. One important example is the investment we have made in our commercial insurance processing center. Of course, the expense reduction effort doesn't stop here. It's now hard-wired into our management process, and our intent is to keep it going year after year. What we've learned is that this whole process is really all about simplification and getting focused on what really matters to our customers, agents and brokers. That is going to serve us well across all our businesses going forward. Why aren't the expense reductions made in 1998 and 1999 going to show up in financial results until 2000? DEUTSCH: From a consolidated level, it's very hard to see the impact on our expense ratios of what we're doing. It's clouded by two factors. First, we are measuring these expense reductions on a run-rate basis. This means that, as we're making these reductions during the year, we're still left with the transition costs in the expense ratio for the current year. In 2000, however, we should begin to see the effect of these efforts. Second, our net written premiums were off by $1.5 billion as a result of the actions we've taken in re-underwriting our book, walking away from unprofitable business and completing the personal insurance business transaction with Allstate. These factors cause the expense ratio to increase given the fixed nature of some expenses. To follow up, what impact has expense reduction had on employee morale? What about service to your agents, brokers and customers? HENGESBAUGH: There's no question that 1999 was a challenging year for CNA employees, agents and brokers, and we have been watching that very carefully. My sense from meeting with employees is that achieving our running-rate expense reduction and operating income goals in many businesses and moving ahead on our turnaround plan are helping build confidence. It's confidence in our ability to accomplish what looked like very difficult goals. And that confidence is absolutely necessary to make this turnaround work all the way through. MCGAVICK: I'd add that when we said that we had to radically change our expense structure, we also said the job had to be done while making our underwriting and service better. That was the twin mission. So we radically redesigned the way we handle business. We consolidated all premium processing and policy issue functions from 24 branches to a central facility in Florida. This frees our underwriters, who remain local, from backroom headaches, and lower costs. Service hasn't been where it needs to be, but our agents have hung in there with us, because I think they see the value of the model as well. 10 1999 ANNUAL REPORT That's important because if you want to be a preferred agency company, you have to have a preferred service capability, and we think we have an operating model that can get us there. There are still pockets of service problems, as you would expect with any massive conversion. But when fully operational, we think our processing center will get us to one of the best expense ratios among our competitors and to a world-class level of service to agents and insureds. Let's focus now on operating income. HENGESBAUGH: Consistent improvement in net operating income is key to our turnaround plan. In 1999, we had three consecutive quarters of improved operating income. In the fourth quarter, there were some unique events that interrupted the momentum temporarily - the reserve strengthening and the catastrophe losses. But it is the momentum that is really important to us. Hitting our targets for three quarters is an early sign of a management team that is committed to and capable of meeting the targets we have set out. The fourth-quarter results only make us more focused on improving the fundamentals and getting right back on track. You announced in the first quarter that you are exploring the sale of your individual life and life reinsurance operations. Can you explain the strategy behind this? HENGESBAUGH: Our strategy going forward is to concentrate on insurance products and services for businesses. We believe that sharpening our focus in this way will make CNA a more valued provider to our customers, a better partner for our distributors and a stronger performer for our shareholders. As an employer, we will be able to provide better opportunities for people who are excited by the challenge of applying our core underwriting expertise to the issues faced by small, medium and large businesses. In 1999, we took an important step in sharpening our focus with the transfer of our personal insurance business to Allstate. We also sold most of our stake in AMS Services, an insurance technology company. So, to sum up, by dedicating our substantial resources to the needs of businesses, we are very well equipped for a leadership position in this rapidly expanding marketplace. What are your plans for the $1 billion in capital freed up by the personal lines insurance business transaction with Allstate? DEUTSCH: The Allstate transaction closed on October 1, 1999. Over time, it will free up a good portion of capital, and we will be faced with the issue of capital deployment. That issue is being addressed as part of the overall turnaround plan. We have begun a complete capital allocation review for all of our businesses. All options will be open, including dividends or other alternatives, to get the capital base in line with our business opportunities. For each business, we are evaluating the value we add to our customers, the fit with the rest of CNA's operations, the risk/return equation and our relative expertise. This is a long-term analysis, but in the meantime, no one gets a pass. Each of our businesses is required to earn a competitive rate of return over a reasonable period of time. HENGESBAUGH: I'd also say that our capital allocation strategy is not simply a one-sided matter of exiting businesses. Rather, if we see good opportunities to re-deploy capital that fit with our overall approach, we will seize those as well. CNA FINANCIAL CORPORATION 11 Is share buy back an option you're considering? What about acquisitions? DEUTSCH: We have had a stock buy-back program in place since November 1998. To the extent we have excess capital for it, and under the right market conditions, we would consider buying back stock under our existing program. But there are a lot of issues in these decisions. A simple measure such as premiums to surplus might show us as overcapitalized. Outside constituencies, on the other hand, are looking at a completely different set of measures of capital adequacy. As for acquisitions, we certainly don't want to say never. If we make an acquisition, it has to be at a very attractive price. And then there's the question of how we would pay for it. With our stock as undervalued as it is, we would not want to use our stock as acquisition currency. A lot of companies are doing what you're doing - cutting expenses and repricing the business. Wouldn't it make sense for more of these companies to consolidate? HENGESBAUGH: On the property/casualty side, gaining expense reduction through a consolidation is extremely challenging. Having gone through this ourselves with the Continental merger, we did in fact extract cost from the system. But I think there also are some diseconomies of size and scale. For instance, if you increase the span of control of your underwriting managers, that can be a great economy of scale. But, if not done the right way, it also could be disastrous to your loss ratio. Another problem relates to shared distributors. They don't like to put all their eggs into one basket. So a combined company may not be able to hold onto all the business of the two separate companies. The final item is that technology is moving so quickly that it doesn't always require size to get some of the economies. For example, the Internet already is altering the cost and the speed with which we can get things done with our clients and brokers. Can you tell us where you are with e-commerce? MCGAVICK: We see electronic commerce and the Internet as another way to leverage the value of our relationships with partners and customers. In commercial insurance, our agent-centered strategy provides value-added tools and services to the independent agent, who we believe will continue to be the dominant distribution channel in middle markets. For example, our electronic capabilities enable agents to underwrite, rate and submit policies for small business customers at the point of sale. The Internet also gives them access to real-time claim status and all of our commercial policy forms, and makes it easy to process commercial auto endorsements. Our product guides and sales kits are available via the Internet, and it allows agents and staff to provide immediate feedback on CNA service. We're using our experience in these areas to develop broader and more robust e-commerce capabilities in all of our businesses. Are the days of the large insurance organization numbered? Why should a company as big as CNA exist? HENGESBAUGH: While scale may not always produce the economies people expect, it does have some major advantages. Foremost is the fact that a large, financially sound company such as CNA can leverage both capital resources and brand recognition in ways that smaller companies can't. TAYLOR: In addition, there is the matter of underwriting knowledge. For example, in our professional liability business for architects and engineers, scale is critical because it has allowed us over time to understand more about the risks architects and engineers face - and the problems we can help them solve - than just about anybody in the business. If we didn't have the cross-section that we do of business, we couldn't get to those understandings; and in fact that's a major competitive advantage. Finally, what makes you think that CNA can create superior shareholder value over the long term in an industry as mature as insurance? HENGESBAUGH: It's certainly true that the traditional insurance products like workers' compensation and property are mature. But that doesn't mean insurance is not a growth industry. It's just not going to grow through traditional products alone. Over the last 10 years or so, the economy has been growing much faster than insurance premiums. That means there is a lot of wealth that needs protection but it's not being addressed by traditional insurance industry products. The insurance organizations that can develop the new products and respond to these changing exposures are going to be the winners. For example, CNA is a leading provider of commercial equipment maintenance programs that cover the computers, copiers, fax machines and other equipment that a business owner relies on. Instead of separate service agreements, the customer saves money and enjoys the convenience of having one number to call for repairs. That's just one of many opportunities for non-traditional products that respond to changing needs. So we believe that insurance in fact is a growth industry. It's an industry that needs to grow with the rest of the global economy, and we intend to be a big part of it. 12 1999 ANNUAL REPORT MANAGEMENT'S DISCUSSION AND ANALYSIS The following discussion highlights significant factors influencing the consolidated results of operations and financial condition of CNA Financial Corporation and subsidiaries (CNA or the Company). This discussion should be read in conjunction with the Consolidated Financial Statements and the related notes, appearing on pages 42 through 73, and the five-year summary of selected financial highlights appearing on page 1. The discussion also includes an overview of each of the Company's seven operating segments, the products offered, the customers served, the distribution channels used and an analysis of operating results. Because distinct investment portfolios are not maintained for each insurance segment, the discussion of investment results, including investment income and realized investment gains, is on a consolidated basis and begins on page 32. The 1999 and 1998 provisions for restructuring and other related charges are also discussed on a consolidated basis beginning on page 31. CNA FINANCIAL CORPORATION 13 - ------------------------------------------------------------------------------ CONSOLIDATED OPERATIONS BUSINESS OVERVIEW CNA is one of the largest insurance organizations in the United States and, based on 1998 net written premium, is the fifth largest property/casualty company and the thirty-fifth largest life insurance company. CNA's overall goal is to create long-term enterprise value by pursuing disciplined underwriting as well as operating efficiencies. CNA conducts its operations through the seven segments listed below. In addition to the seven segments, certain other activities are reported in a Corporate segment. AGENCY MARKET OPERATIONS SPECIALTY OPERATIONS CNA RE GLOBAL OPERATIONS RISK MANAGEMENT GROUP OPERATIONS LIFE OPERATIONS These segments reflect the way in which CNA distributes its products to the marketplace and the way in which it manages operations and makes business decisions. A more detailed description of each segment is included later in this discussion. OPERATING RESULTS The following chart summarizes the consolidated operating results for each of the last three years.
CONSOLIDATED OPERATIONS - ------------------------------------------------------------------------------------------ Year Ended December 31 1999 1998 1997 - ------------------------------------------------------------------------------------------ (In millions of dollars, except per share data) Operating revenues: Premiums $13,282 $13,536 $13,624 Net investment income 2,101 2,146 2,209 Other 705 799 628 - ------------------------------------------------------------------------------------------ Total operating revenues 16,088 16,481 16,461 Benefits and other expenses 16,331 16,567 15,831 Restructuring and other related charges 83 246 - - ------------------------------------------------------------------------------------------ Operating income (loss) before income tax and minority interest (326) (332) 630 Income tax benefit (expense) 211 200 (132) Minority interest (30) (20) (10) - ------------------------------------------------------------------------------------------ Net operating income (loss) (145) (152) 488 Net realized investment gains, net of tax and minority interest 192 434 478 Cumulative effect of a change in accounting principle, net of tax and minority interest (177) - - - ------------------------------------------------------------------------------------------ NET INCOME (LOSS) $ (130) $ 282 $ 966 ==========================================================================================
CONSOLIDATED OPERATIONS - ------------------------------------------------------------------------------------------ Year Ended December 31 1999 1998 1997 - ------------------------------------------------------------------------------------------ (In millions of dollars, except per share data) BASIC AND DILUTED EARNINGS PER SHARE Net operating income (loss) $(0.85) $(0.86) $ 2.59 Net realized investment gains, net of tax and minority interest 1.04 2.35 2.58 Cumulative effect of a change in accounting principle, net of tax and minority interest (0.96) - - - ------------------------------------------------------------------------------------------ NET INCOME (LOSS) $(0.77) $ 1.49 $ 5.17 ==========================================================================================
14 1999 ANNUAL REPORT Total operating revenues were $16.1 billion in 1999 and $16.5 billion in 1998 and 1997. Premiums declined $253 million in 1999 principally in the property/casualty product lines, due to price competition in the industry combined with the Company's focus on underwriting discipline, and the increased use of reinsurance. Premiums for the Company's Life and Group Operations were down $49 million, principally due to the exit from selected medical markets in late 1998. Premiums for 1998 declined by $107 million when compared to 1997. This decrease was primarily due to intense price competition facing the commercial lines insurance market. The Company had a net operating loss for the year ended December 31, 1999 of $145 million, or $0.85 per share, compared to a net operating loss of $152 million, or $0.86 per share, for the year ended December 31, 1998. The 1999 operating loss includes $363 million after-tax in loss and allocated loss adjustment expense reserve strengthening for prior periods. Included in this amount is $33 million after-tax for excess workers' compensation reinsurance. After-tax catastrophe losses were approximately $35 million higher in 1999. The operating loss also includes $54 million, or $0.29 per share, in after-tax restructuring and other related charges. This compares to $169 million, or $0.91 per share, in after-tax restructuring and other related charges in 1998. The 1999 operating loss also reflects an after-tax benefit of $51 million, or $0.28 per share, resulting from regulatory changes in the basis on which certain insurance-related assessments are calculated. Discussions of the results of operations from the Company's segments follow: CNA FINANCIAL CORPORATION 15 AGENCY MARKET OPERATIONS BUSINESS OVERVIEW Agency Market Operations builds on the Company's long and successful relationship with the independent agency distribution system to market a broad range of property/casualty insurance products and services to both businesses and individuals. Business products include workers' compensation, commercial packages, general liability and commercial auto, as well as a variety of creative risk management services. Products for individuals were primarily personal auto and homeowners insurance. In addition, in 1997, Agency Market Operations launched a professional employer organization, CNA UniSource, which provides various employer-related services. Agency Market Operations is comprised of the following four groups. COMMERCIAL INSURANCE Commercial Insurance (CI) provides traditional property/casualty insurance products such as workers' compensation, general and product liability, property, commercial auto and umbrella coverage to businesses with less than $1 million in annual premiums. The majority of CI customers are small and medium-sized businesses. CI is among the market leaders in applying industry segmentation techniques to design products and services tailored to the needs of its targeted customer groups. During 1998, CI completed an extensive review of its business and developed a new, more effective operating model, that management believes will position CI as a world class competitor for the new century. The basis for this model was to move decision-making authority and resources closer to CI's customers. CI's focus during 1999 was the transition to this operating model. The model includes branches, located throughout the U.S., that provide customer support in the areas of underwriting, loss control, sales and claims, and a centralized processing center in Maitland, Florida that houses premium processing and accounting for all branches, and includes a call center for increased customer service. Eight claim service centers, located throughout the U.S., provide customers and claimants with improved service through more specialized claim handling and easier claim reporting. The efficiencies resulting from these changes are expected to decrease expenses in underwriting and claims through the implementation of new technology, process redesign and centralization. In addition, CI recognizes that an even lower cost platform is necessary to be successful in the small commercial marketplace. During 2000, CI will be consolidating its underwriting for small commercial products with the existing centralized processing. Management expects that this centralization, along with the implementation of new technology, tools and processes, will allow CI to improve underwriting and further lower the cost model related to its small commercial business. PERSONAL INSURANCE On October 1, 1999, certain CNA subsidiaries completed a previously announced transaction with The Allstate Corporation (Allstate) involving the transfer of substantially all of CNA's personal lines insurance business. See Note O to the Consolidated Financial Statements. Personal Insurance (PI) sold primarily personal auto and homeowners coverages and also offered excess liability, separate scheduled property, boat-owners and other recreational vehicle insurance. These coverages were primarily sold in a package product. CNA E&S CNA E&S (E&S) provides specialized insurance and other financial products for a wide array of commercial customers. Risks covered by E&S are generally viewed as high risk and less predictable in exposure than those covered by the more traditional insurers. By combining superior insurance and financial expertise with a detailed understanding of customer operations and future direction, E&S is able to create and implement innovative business solutions that are valued by the customer. In addition, E&S actively seeks business partners who can supplement CNA resources and enhance value for the customer. CNA UNISOURCE CNA UniSource offers outsourcing services and other financial products that relieve businesses of many administrative tasks, allowing them more time to focus on their core objectives. CNA UniSource provides human resources (HR) information technology, payroll and benefits processing and Professional Employer Organization (PEO) services. CNA UniSource is also engaged in delivering Internet-based HR and payroll administrative services and is a leader in the implementation of HR information outsourcing for large-scale businesses. When it functions as a PEO, CNA UniSource establishes a co-employment relationship with its clients and contractually assumes substantial employer administrative responsibilities such as regulatory compliance and benefits administration. At December 31, 1999, CNA Unisource had 768 clients with over 30,000 co-employees and conducts business in 45 states and the District of Columbia via 30 geographically dispersed service offices and a state-of-the-art customer service call center. The number of co-employees grew 150 percent compared with 1998. The primary sales force is comprised of independent insurance agencies. Management expects significant growth in the number of clients and co-employees over the next several years. 16 1999 ANNUAL REPORT OPERATING RESULTS - --------------------------------------------------------------------- Year Ended December 31 1999 1998 1997 (In millions of dollars) - --------------------------------------------------------------------- Net earned premiums $4,799 $5,247 $5,092 Benefits and expenses 5,791 6,050 5,491 Restructuring and other related charges 60 96 - - --------------------------------------------------------------------- Underwriting loss (1,052) (899) (399) Net investment income 686 744 787 Other revenues 80 48 50 Other expenses 77 52 6 - --------------------------------------------------------------------- Pre-tax operating income (loss) (363) (159) 432 Income tax benefit (expense) 162 105 (106) - --------------------------------------------------------------------- NET OPERATING INCOME (LOSS) $(201) $(54) $326 ===================================================================== RATIOS Loss and loss adjustment expenses 90.4% 83.1% 74.9% Expenses 31.0 32.6 31.8 Dividends 0.5 1.4 1.1 - --------------------------------------------------------------------- COMBINED 121.9% 117.1% 107.8% ===================================================================== SUMMARY Agency Market Operations consists primarily of commercial property/casualty insurance. For the first nine months of 1999, Agency Market Operations also includes results of PI, which was transferred to Allstate effective October 1, 1999. Net written premium for the combined CI and E&S business units was $3.3 billion in 1999, down from $3.8 billion in 1998. This decrease reflects the impact of the increased use of reinsurance and efforts to achieve adequate pricing and the shedding of unprofitable business. Agency Market Operations had a net operating loss of $201 million, compared with a $54 million loss in 1998. The larger loss was due primarily to strengthening of prior year reserves and the loss ratio for the 1999 accident year. Partially offsetting the effect of the reserve strengthening was the positive impact of reinsurance, rate and underwriting actions and regulatory changes in the basis on which certain insurance-related assessments are calculated. PREMIUMS Earned premiums decreased by $448 million in 1999 from the prior year. This decrease was mainly attributable to the transfer of essentially all the Company's PI business to Allstate in the fourth quarter, which resulted in a decrease in net earned premiums of $297 million. Net earned premiums for the combined CI and E&S business units decreased $153 million during 1999, primarily due to rate and underwriting actions taken to improve the core book of business and the impacts of reinsurance agreements executed in 1999. Earned premiums for 1998 increased by $155 million, or approximately 3.0%, which was primarily attributable to premiums from involuntary risks. The increase in involuntary risk premiums in 1998 as compared with 1997 was largely a function of the 1997 involuntary risk premiums being reduced by a revision of prior years' estimated premiums. Earned premiums for PI grew $61 million in 1998. Contributing to the growth was the strong product identity of the Personal Package policy, a personal insurance product providing a wide range of available coverage options and the convenience of single policy delivery and combined billing. UNDERWRITING RESULTS Underwriting losses for 1999 were $1.1 billion as compared to $899 million in 1998 due to deterioration in the combined ratio partially offset by reductions in volume. The combined ratio for 1999 increased 4.8 points due to an increase in the loss ratio of 7.3 points partially offset by decreases in the expense and dividend ratios of 1.6 points and 0.9 points, respectively. The increase in the loss ratio is principally due to increased adverse loss reserve development in 1999 partially offset by the beneficial effects of reinsurance agreements executed in 1999. The 1999 adverse loss reserve development included development related to automobile, workers' compensation and packaged general liability exposures. The decrease in the expense ratio is attributable to lower restructuring and other related charges in 1999 as compared to 1998. See the discussion of restructuring and other related charges on page 31 and Note N to the Consolidated Financial Statements. Additionally, Agency Market Operations' 1999 expense ratio benefited 0.9 points from regulatory changes in the basis on which certain insurance-related assessments are calculated. Underwriting results for 1998 declined by $500 million as compared with 1997 due to a combination of increases in volume and an increase in the combined ratio. The combined ratio for 1998 increased 9.3 points primarily attributable to an 8.2 point increase in the loss ratio. Contributing to this increase were net changes in reserve development and catastrophe losses. Restructuring and other related charges also contributed to the increase in the combined ratio. Net adverse reserve development in 1998 was $168 million as compared with net favorable reserve development of $276 million in 1997. Management strengthened reserves in 1998 primarily in response to deteriorating claim experience for asbestos and other mass tort exposures. Reserves were also increased for construction defect claims. Beginning in 1997, actions were taken to mitigate further exposure to construction defect liabilities that arose almost exclusively out of exposures underwritten in California. The favorable loss development in involuntary risks in 1997 was attributable to better than expected results in workers' compensation and private passenger automobile lines stemming from improved frequency and severity in these lines. In 1998, catastrophe losses were $131 million higher than the 1997 losses of $68 million. CNA FINANCIAL CORPORATION 17 SPECIALTY OPERATIONS BUSINESS OVERVIEW Specialty Operations provides a broad array of professional, financial and specialty property/casualty products and services through a network of brokers, managing general agencies and independent agencies. Specialty Operations provides creative solutions for managing the risks of its clients, including architects, engineers, lawyers, healthcare professionals, financial intermediaries and corporate directors and officers. Specialty Operations is composed of three principal groups. CNA PRO CNA Pro is one of the largest providers of non-medical professional liability insurance and risk management services in the U.S. CNA Pro's customers include architects and engineers, lawyers, accountants and real estate agents and brokers, along with a broad range of large and small corporate clients and not-for-profit organizations. CNA Pro's products include errors and omissions, directors and officers, and employment practices liability coverages and a broad range of fidelity products. Products are distributed on a national basis through a variety of channels including brokers, agents and managing general agents. CNA HEALTHPRO CNA HealthPro offers a comprehensive set of specialized insurance products and clinical risk management consulting services designed to assist health care providers in managing the quality-of-care risks associated with the delivery of healthcare. Key customer segments include individual, small group and large corporate purchasers of malpractice insurance. Caronia Corporation, acquired during 1997, provides third-party claims administration for medical professional liability insureds. CNA GUARANTY AND CREDIT CNA Guaranty and Credit provides credit insurance on short-term trade receivables for domestic and international clients and credit enhancement products that focus on asset backed transactions. Credit insurance is primarily distributed through captive agents with additional distribution through brokers and financial institutions. Credit enhancement products are distributed through specialty brokers and directly to customers. OTHER OPERATIONS Other operations consisted principally of Hedge Financial Products, which focused on securitization of insurance risk and the embedding of financial protections within traditional insurance programs, and agricultural and entertainment insurance business. During 1999 and 1998 the Company decided to exit Hedge Financial Products, and argiculture and entertainment insurance businesses, respectively. OPERATING RESULTS - ------------------------------------------------------------------- Year Ended December 31 1999 1998 1997 (In millions of dollars) - ------------------------------------------------------------------- Net earned premiums $1,001 $1,092 $1,251 Benefits and expenses 1,166 1,251 1,397 Restructuring and other related charges - 5 - - -------------------------------------------------------------------- Underwriting loss (165) (164) (146) Net investment income 235 245 268 Other revenues 19 27 14 Other expenses 30 44 10 - -------------------------------------------------------------------- Pre-tax operating income 59 64 126 Income tax expense (10) (6) (31) - -------------------------------------------------------------------- NET OPERATING INCOME $49 58 95 ==================================================================== RATIOS Loss and loss adjustment expenses 90.6% 87.0% 80.8% Expenses 25.9 28.1 30.9 - -------------------------------------------------------------------- COMBINED 116.5% 115.1% 111.7% ==================================================================== SUMMARY Specialty Operations' operating income for 1999 declined principally because of unfavorable loss reserve development in CNA HealthPro related to prior policy years. Modest premium growth in non-medical professional liability and financial insurance was offset by declines in medical malpractice due to efforts to achieve needed price increases and eliminate unprofitable business. Specialty Operations remains committed to conservative underwriting practices in this difficult environment. PREMIUMS Earned premiums for 1999 declined $91 million, or 8.3%, from 1998 levels, primarily due to declines in CNA HealthPro and businesses exited. Premiums for CNA HealthPro declined $40 million, due mainly to two new ceded reinsurance agreements covering 1999 risks and business lost due to efforts to achieve price increases and eliminate unprofitable business. Hedge, agriculture and entertainment premiums decreased a combined $46 million from 1998 due to the decision to exit from these lines of business. Premiums in 1998 decreased by $159 million, or approximately 12.7%, compared with 1997. The decrease was largely attributable to an approximate $100 million reduction in premiums caused by management's decision to exit the agricultural insurance market. The remaining decline in premiums in 1998 was due to increased price competition and management's resolve not to accept inadequately priced business. 18 1999 ANNUAL REPORT Specialty Operations' commitment to prudent underwriting and responsible pricing is expected to continue to limit premium growth until general market pricing improves. UNDERWRITING RESULTS The underwriting loss for 1999 was $165 million, essentially unchanged from 1998, due to the offsetting impacts of a higher combined ratio and lower earned premiums. The combined ratio for 1999 increased 1.4 points due principally to a 3.6 point increase in the loss ratio, which was negatively impacted by adverse claim experience in the medical malpractice and non-medical professional liability lines of business. The impact of adverse claim experience in these lines to business was to increase the 1999 loss ratio for Specialty Operations by 6.6 points over its 1998 level. The 1999 loss ratio was favorably impacted by 4.1 points due to the exit from the agricultural insurance line of business. The expense declined 2.2 points in 1999 due principally to businesses exited. The underwriting loss for 1998 worsened by $18 million over 1997 due to deterioration in the loss ratio, partially offset by a decrease in volume. While the exit of the agricultural and entertainment lines of business, as well as decisions not to write inadequately priced business, had a favorable impact, an unfavorable change in medical malpractice reserve development resulted in the net increase in the loss ratio of 6.2 points. CNA FINANCIAL CORPORATION 19 CNA RE BUSINESS OVERVIEW CNA Re operates globally as a reinsurer in the broker market, offering both treaty and facultative products through major offices in London and Chicago. CNA Re's operations include the business of CNA Reinsurance Company Limited (CNA Re U.K.), a U.K. company, and U.S. operations based in Chicago. While CNA Re's primary product is traditional treaty reinsurance, it is also developing positions in facultative and financial reinsurance. CNA Re also participates in Lloyd's of London through CNA Corporate Capital Ltd., which provides capital to Lloyd's Syndicate 1229. CNA Re U.K. writes in both the London market and other European markets through its headquarters in London and offices in Amsterdam, Milan, Singapore and Zurich. As one of the largest reinsurers in this market, CNA Re U.K. has ratings of A (Strong) from Standard & Poor's, A (Excellent) from A.M. Best and A3 (Good) from Moody's. CNA Re U.K. writes U.S. and international treaty and professional liability business, including medical malpractice, errors and omissions, and directors and officers coverages. The U.S. operations of CNA Re provide products to the North American markets. Treaty products include working layer property, working layer casualty, property catastrophe, workers' compensation, products liability, general liability, professional liability, specialty and excess and surplus lines. In addition, financial reinsurance products are offered as well as property and casualty facultative reinsurance. OPERATING RESULTS - ------------------------------------------------------------------- Year Ended December 31 1999 1998 1997 (In millions of dollars) - ------------------------------------------------------------------- Net earned premiums $1,176 $944 $898 Benefits and expenses 1,369 1,005 991 Restructuring and other related charges - 1 - - ------------------------------------------------------------------- Underwriting loss (193) (62) (93) Net investment income 161 163 153 Other revenues 4 5 7 Other expenses - 11 5 - ------------------------------------------------------------------- Pre-tax operating income (loss) (28) 95 62 Income tax benefit (expense) 15 (27) (11) - ------------------------------------------------------------------- NET OPERATING INCOME (LOSS) $(13) $68 $51 =================================================================== RATIOS Loss and loss adjustment expenses 84.9% 74.9% 74.6% Expenses 31.5 31.7 35.8 - ------------------------------------------------------------------- COMBINED 116.4% 106.6% 110.4% =================================================================== SUMMARY Net operating income in 1999 was adversely affected by $122 million in after-tax catastrophe losses, compared with $50 million in after-tax catastrophe losses in 1998. The 1999 results also include $23 million in after-tax reserve strengthening related to excess workers' compensation reinsurance. Premium growth for the year was the result of new business and expansion of profitable treaty relationships. PREMIUMS Earned premiums increased $232 million, or 24.6%, versus 1998. This growth occurred in both foreign and domestic markets in the professional and standard lines of business. Growth was experienced via expansion of treaty relationships with existing clients, the continued development of new product lines and growth in global facultative operations and the Canadian branch. Earned premiums in 1998 increased by $46 million, or 5.1%, compared with 1997. The increase in 1998 premiums was primarily a function of adverse premium development of prior year estimates recorded in 1997. UNDERWRITING RESULTS CNA Re's 1999 combined ratio increased by 9.8 points compared to 1998, primarily as a result of a 10.0 point increase in the loss ratio. As previously noted, the underwriting results for 1999 were dramatically impacted by the series of European windstorms, Hurricane Floyd and other international catastrophes, which contributed to an aggregate 9.4 point increase in 1999's loss ratio relative to 1998. The improvement in underwriting results of $31 million in 1998, as compared with 1997, was driven by a 4.1 point decline in the expense ratio. The decrease in underwriting expenses in 1998 as compared with 1997 was principally due to the start-up costs associated with expansion into facultative reinsurance and the establishment of branch offices abroad during 1997. 20 1999 ANNUAL REPORT GLOBAL OPERATIONS BUSINESS OVERVIEW Global Operations provides products and services to U.S.-based customers, customers expanding overseas and foreign customers. Product distribution is primarily through brokers and independent agents. The major product lines include marine, commercial and contract surety, warranty and specialty products, as well as commercial property and casualty. Global Operations is composed of five principal groups. MARINE On July 1, 1998, CNA completed the acquisition of Maritime Insurance Co., Ltd. (Maritime Ltd.), based in the U.K., and its Canadian subsidiary, Eastern Marine Underwriters (EMU), strengthening CNA's position as a global marine insurer. In 1999, CNA launched the marketing brand, CNA Maritime, which unites three industry leaders to serve global ocean marine needs. Marine Office of America Corp. (MOAC), a leading provider of ocean marine insurance in the U.S., offers hull, cargo, primary and excess marine liability, offshore energy, marine claims and recovery products and services. Business is sold through national brokers, regional marine specialty brokers and independent agencies, which work closely with MOAC's ten branch offices located throughout the U.S. Maritime Ltd. is a leading marine cargo and related marine insurance specialist with markets extending across Europe and throughout the world. EMU serves the Canadian market. As foreign subsidiaries, Maritime Ltd. and EMU are included in the results of, and are managed by, the International business unit. Growth is expected to result from leveraging the relationships with CNA's domestic producers, implementing e-commerce, and providing customers with services and products throughout the world. SURETY On October 1, 1997, Global Operations completed the merger of CNA's surety operations with Capsure Holdings Corp.'s subsidiaries, Western Surety Company and Universal Surety of America to form CNA Surety Corporation (CNA Surety). CNA owns approximately 63% of CNA Surety. CNA Surety, which is traded on the New York Stock Exchange (SUR), is the largest publicly traded provider of surety bonds, with approximately 9% of that market. Among its U.S. competitors, CNA Surety has the most extensive distribution system and one of the most diverse surety product lines, offering small, medium and large contract and commercial surety bonds. CNA Surety provides surety and fidelity bonds in all 50 states through a combined network of approximately 37,000 independent agencies. Growth is expected to come from CNA Surety's broad product and distribution resources and international expansion. WARRANTY CNA's warranty operation (Warranty) is the fourth largest warranty underwriter in the U.S., providing extended service contracts, warranties and related insurance products that protect the consumer or business from the financial burden associated with the breakdown, under-performance or maintenance of a product. Warranty's key market segments consist of vehicle, retail, home, commercial and original equipment manufacturer. Each market segment distributes its product via a sales force employed or contracted through a program administrator. CNA National Warranty Corporation sells vehicle warranty services in the U.S. and Canada. In July 1998, Warranty expanded into the home warranty segment with the acquisition of a 90% interest in Home Security of America, Inc., one of the largest home warranty administrators in the U.S. Also, in January 1998 the Company acquired a joint venture interest in Specialty Underwriters, a provider of innovative equipment maintenance management services to companies worldwide. As these entities are not licensed insurance companies, they purchase coverages from various CNA affiliates to back the warranty products they sell. Warranty expects growth from cross marketing efforts with other CNA businesses, increasing product distribution via the CNA independent agency force and introducing several warranty products in the international marketplace. INTERNATIONAL International is responsible for coordinating and managing the direct business of the foreign property/casualty operations of CNA. This business identifies and capitalizes on strategic indigenous opportunities outside the U.S. by continuing to build its own capabilities and by initiating acquisitions, strategic alliances and start-up operations that allow for expansion into targeted markets. In addition, International provides U.S.-based customers that are expanding their operations overseas with a single source for their commercial insurance needs. To this end, International has placed underwriters within CI branches. International currently oversees operations in Europe, Latin America, Canada and Asia. In Europe, CNA formed CNA Insurance Company (Europe) Limited (CIE) in 1996, which is based in London. CIE has since opened offices in France, Germany and the Netherlands and has purchased a managing general agent in Denmark. Through its network of offices, International intends to build on the successes of several CNA specialty products (including travel and accident, warranty and financial lines insurance) and introduce those products across Europe. International also includes the results of U.K. based Maritime Ltd. In Latin America, the Company acquired a 70% interest in Omega A.R.T. in 1997, a workers' compensation company domiciled in Argentina. Omega ranks as the fourth largest workers' compensation company in Argentina based on premium volume. CNA FINANCIAL CORPORATION 21 CNA Canada, formed in 1998, sells a broad array of property/casualty and specialty insurance products through brokers and managing general agents. The results of EMU are also included in International. The short to mid-term growth opportunities for International are in the more mature foreign insurance markets, such as Europe and Canada, and in specialty insurance products. In the longer term, emphasis will be on the emerging insurance markets in Latin America and Asia. FIRST INSURANCE COMPANY OF HAWAII First Insurance Company of Hawaii, Ltd. (FICOH) is the oldest domestic insurer in the state of Hawaii, dating back to 1911. FICOH is also the largest commercial insurance company and the second largest property/casualty insurance company in the state. FICOH offers commercial and personal lines solely in the state of Hawaii. Distributed through independent agencies, the business mix has historically been approximately 65% commercial and 35% personal lines. On November 1, 1999, Tokio Marine & Fire Insurance Co. Ltd. (Tokio) and CNA executed an agreement to increase Tokio's ownership share from 40% to 50%, resulting in equal ownership by CNA and Tokio. Additionally, on November 1, 1999, Tokio merged their Hawaii-based operations into FICOH. CNA retains control over FICOH's daily operations. CNA views this transaction as a positive step in the ongoing strategic relationship between CNA and Tokio. CNA's partnership with Tokio is expected to generate growth opportunities and facilitate international expansion. Additionally, CNA foresees growth opportunities through collaborative partnerships between FICOH and other CNA businesses. OPERATING RESULTS - ----------------------------------------------------------------- Year Ended December 31 1999 1998 1997 (In millions of dollars) - ----------------------------------------------------------------- Net earned premiums $1,010 $941 $854 Benefits and expenses 1,037 991 858 Restructuring and other related charges - 1 - - ----------------------------------------------------------------- Underwriting loss (27) (51) (4) Net investment income 132 110 117 Other revenues 120 82 29 Other expenses 100 80 26 - ----------------------------------------------------------------- Pre-tax operating income 125 61 116 Income tax expense (33) (18) (35) Minority interest (28) (25) (29) - ----------------------------------------------------------------- NET OPERATING INCOME $64 $18 $52 ================================================================= Ratios Loss and loss adjustment expenses 56.9% 62.2% 57.4% Expenses 45.5 42.8 43.0 Dividends 0.3 0.4 0.1 - ----------------------------------------------------------------- COMBINED 102.7% 105.4% 100.5% ================================================================= SUMMARY Global Operations' 1999 net operating income increased $46 million over 1998 levels. Underwriting loss improved primarily due to improved loss experience in Surety, International and MOAC. MOAC and International have benefited from a change in the mix of business that has reduced exposure to catastrophes and large property losses. Increased net investment income for 1999 was primarily due to the inclusion of a full year's results for Maritime Ltd. The increase in other revenues predominantly reflects growth in non-insurance operations, discussed further below. PREMIUMS Earned premiums increased $69 million, or 7.3%, from 1998 levels. International contributed $56 million of the increase, the majority of which was attributable to a full year's premiums from Maritime Ltd. Surety contributed increased premium of $29 million, due to generally favorable domestic economic conditions for public construction and expansion internationally. Warranty premiums increased $24 million over 1998, mainly due to robust sales of new automobiles. Partially offsetting this growth was a decrease in premiums in MOAC of $49 million due to competitive marine market conditions. Earned premiums in 1998 increased by $87 million, or approximately 10.2%, compared with 1997. This increase was primarily attributable to the effects of acquisitions and mergers, including Omega, Maritime Ltd. and CNA Surety, which added approximately $165 million. Offsetting this growth was the sale of a book of business and MOAC's strategic decision to exit unprofitable non-core lines of business. UNDERWRITING RESULTS Underwriting results improved $24 million from 1998 due to a decrease in the combined ratio of 2.7 points. This was primarily due to improved loss ratios in MOAC, Surety and CNA International partially offset by an increase in the loss ratio in Warranty. The improvement in the MOAC and International loss ratios was due to a change in the mix of business that reduced exposure to catastrophes and large property losses. The decrease in Surety's loss ratio was due to favorable loss development of $13 million in 1999 compared to $4 million in 1998. The increase in the loss ratio in Warranty was due to unfavorable loss experience in its automotive business. Global Operations' underwriting results declined in 1998 by $47 million as compared with 1997 due to deterioration in the loss ratio of 4.8 points. The deterioration was due to a net unfavorable change in loss development of $64 million and higher catastrophe losses of $21 million. The change in net unfavorable development of $64 million was comprised of approximately $111 million unfavorable year-over-year change related to Surety, MOAC and discontinued pools, offset in part by favorable year-over-year change of approximately $47 million related principally to the International and Warranty businesses. 22 1999 ANNUAL REPORT OTHER REVENUES AND EXPENSES Other revenues were $120 million in 1999, an increase of $38 million over 1998 results. The growth was primarily attributable to non-insurance warranty revenues of $98 million, which compares favorably to 1998 and 1997 revenues of $77 million and $28 million, respectively. Non-insurance results included warranty sales associated with CNA National Warranty Corporation, Home Security of America, and Specialty Underwriters. Revenues related to this business grew approximately 27% over 1998. CNA FINANCIAL CORPORATION 23 RISK MANAGEMENT BUSINESS OVERVIEW Risk Management (RM) markets and sells insurance products and services to large U.S.-based companies. These customers have a minimum of $1 million or more in casualty claims each year. It is estimated that there are approximately 8,500 targeted companies within this market segment. RM is one of 11 significant competitors and has a very strong reputation and presence, particularly as a writer of casualty insurance lines. RM includes two groups. RISK TRANSFER Risk Transfer writes property/casualty lines of insurance. The casualty insurance business focuses on workers' compensation, commercial auto liability, general liability through traditional and innovative financial risk products, and excess coverage needs. The excess products provide umbrella, excess workers' compensation and high excess coverages. Over the last two years, domestic and global property capabilities have been increased, providing primary, inland marine and excess property facilities. Global property includes a strategic alliance with Protection Mutual to address the needs of the highly protected risk customer. Global property also includes Northrock Insurance Company Limited, a wholly owned subsidiary in Bermuda, offering property excess of loss insurance coverages. RSKCoSM Formed in 1998, RSKCoSM provides total risk management services (integrated and single component) related to claims, loss control, cost management and information services to the commercial insurance marketplace. RSKCo'sSM capabilities include: CLAIM SERVICES: Services that allow customers to select from a single source the desired level of service-from an integrated claims package to any component service. LOSS CONTROL: Pre-loss prevention services include industrial hygiene, laboratory, ergonomics, field consulting and training, property, environmental and transportation loss control. Driver training is provided through Smith System Driver Improvement Institute, Inc., a wholly owned subsidiary. COST MANAGEMENT: Post-loss cost control services through case management, medical bill review, preferred provider organizations and other unique partnerships to reduce lost work days through rapid response, quality care and effective coordination. INFORMATION SERVICES: These services include data access, reporting tools, information and benchmarking analysis, consulting and custom reporting services. OPERATING RESULTS - ---------------------------------------------------------------------- Year Ended December 31 1999 1998 1997 (In millions of dollars) - ---------------------------------------------------------------------- Net earned premiums $801 $823 $776 Benefits and expenses 936 1,018 974 - ---------------------------------------------------------------------- Underwriting loss (135) (195) (198) Net investment income 154 144 158 Risk management services revenues 316 230 194 Risk management services expenses 307 227 216 Non-insurance restructuring and other related charges 10 88 - - ---------------------------------------------------------------------- Pre-tax operating income (loss) 18 (136) (62) Income tax benefit 1 48 25 - ---------------------------------------------------------------------- NET OPERATING INCOME (LOSS) $19 $(88) $(37) ====================================================================== Ratios Loss and loss adjustment expenses 94.3% 89.1% 101.8% Expenses 22.6 30.7 24.3 Dividends - 3.9 -0.6 - ---------------------------------------------------------------------- COMBINED 116.9% 123.7% 125.5% ====================================================================== SUMMARY Despite reserve strengthening, overall results rebounded to net operating income. Positively influencing results were underwriting expense savings, reinsurance programs, the impact of favorable regulatory changes in the basis on which certain insurance-related assessments are calculated, and reduced restructuring-related charges compared to those recorded in 1998. Earned premiums decreased primarily due to greater use of reinsurance, program redesign and disciplined underwriting of new and renewal business. PREMIUMS Earned premiums for Risk Management declined $22 million or 2.7% in 1999, as compared with 1998. This decrease resulted from Risk Management's decision to take advantage of a favorable reinsurance market and cede a larger portion of its direct premiums, the redesign of existing risk management programs and lost business as a result of pricing actions taken in a difficult market. Earned premiums in 1998 increased by $47 million, or 6.1%, as compared with 1997. The increase is due to growth of $30 million in the property facility business which was introduced in the latter part of 1997, underlying momentum in Risk Management's core primary casualty business, and new business growth. 24 1999 ANNUAL REPORT UNDERWRITING RESULTS Risk Management's underwriting loss decreased $60 million in 1999 as the combined ratio for 1999 decreased 6.8 points due to decreases in the expense and dividend ratios of 8.1 points and 3.9 points, respectively, partially offset by an increase in the loss ratio of 5.2 points. The increase in the loss ratio was principally the result of adverse loss development in prior year reserves, which was primarily related to asbestos exposures, offset in part by the beneficial effects of reinsurance agreements executed in 1999. Risk Management's expense ratio benefited 4.9 points from regulatory changes in the basis on which certain insurance-related assessments are calculated. The decrease in the dividend ratio is due to favorable development in dividend reserves. Underwriting losses in 1998 remained consistent with 1997 as the aforementioned increase in premiums of $47 million was offset by a like increase in benefits and expenses as customers moved to guaranteed cost insurance. Restructuring and other related charges in 1999 and 1998, as discussed on page 31 and Note N to the Consolidated Financial Statements, were $10 million and $88 million, respectively. Risk management services revenues and expenses in 1999 include revenues for services provided by RSKCoSM to other units within the Risk Management segment that are eliminated at the consolidated level. Such intrasegment revenue and expenses eliminated at the consolidated level were $176 million for the year ended December 31, 1999. CNA FINANCIAL CORPORATION 25 GROUP OPERATIONS BUSINESS OVERVIEW Group Operations provides a broad array of group life and health insurance products and services to employers, affinity groups and other entities that purchase insurance as a group. Its products and services are primarily distributed through brokers. In addition, Group Operations provides health insurance to federal employees, retirees and their families; managed care and self-funded medical excess insurance; medical provider network management and administration services; and reinsurance for life and health insurers. Group Operations includes five principal groups. SPECIAL BENEFITS Special Benefits provides group term life insurance, short and long term disability, statutory disability, long term care and accident products. Products are marketed through a nationwide operation of 31 sales offices, third party administrators, managing general agents and insurance consultants. PROVIDER MARKETS Provider Markets is comprised of two major businesses. CNA Health Partners provides comprehensive managed care services to employers offering self-funded medical plans and to healthcare provider networks, including provider organizations that manage capitated risks. Services offered include network development and management, medical management, medical claims administration, consulting services and management services. Group Reinsurance writes assumed reinsurance on health, life and other related products written on a group basis, as well as excess risk coverages related to health care. LIFE REINSURANCE Life Reinsurance reinsures individual life and health products marketed by unaffiliated life insurance companies throughout North America. Sales are through an internal sales force. See page 39 for further discussion. FEDERAL MARKETS Federal Markets is the second largest provider of health insurance benefits to federal employees, and operates through the Mail Handlers Benefit Plan under the Federal Employees Health Benefit Plan (FEHBP). In addition to insuring approximately one million members, Federal Markets is responsible for all claim management activities under the plan, such as large case management, hospital and provider bill negotiations, fraud detection activities and vendor contracts. HEALTH BENEFITS Health Benefits markets direct mail specialty products such as accidental death and dismemberment, term life and dental insurance to bank customers and federal employees. OPERATING RESULTS - ----------------------------------------------------------------- Year Ended December 31 1999 1998 1997 (In millions of dollars) - ----------------------------------------------------------------- Net earned premiums $3,571 $3,733 $3,936 Net investment income 130 133 117 Other revenues 40 24 17 - ----------------------------------------------------------------- Total operating revenues 3,741 3,890 4,070 Benefits 3,053 3,171 3,408 Expenses 699 763 680 Restructuring and other related charges 5 39 - - ----------------------------------------------------------------- Pre-tax operating loss (16) (83) (18) Income tax benefit 10 35 10 - ----------------------------------------------------------------- NET OPERATING LOSS $(6) $(48) $(8) ================================================================= SUMMARY Group Operations experienced $42 million of improved operating results in 1999 over 1998. Key components of the improvement include better underwriting results in Special Benefits' life and disability product lines, the exit of selected medical markets and lower restructuring and other related charges, partially offset by adverse losses and reserve development in the personal accident business. PREMIUMS Earned premiums declined in 1999 by $162 million, or 4.3%, from 1998. Health Benefits premiums declined $344 million, almost entirely due to the exit of selected medical markets in late 1998. Approximately half of the Health Benefits decline was offset by premium growth in Federal Markets of $70 million reflecting medical claim trends, and growth in Life Reinsurance and Special Benefits of $60 million and $53 million, respectively. During 1998, premiums decreased by approximately 5.2% or $203 million as compared with 1997. The decrease was attributable, in part, to a $166 million decrease in the medical lines of coverage in Health Benefits, resulting from the decision to exit certain markets. Additionally, due to changes in coverage terms, FEHBP premiums decreased by $90 million. These decreases were offset, in part, by premium growth of $65 million across almost all other lines of business. OPERATING RESULTS Pre-tax operating loss in 1999 improved by $67 million compared to 1998. Health Benefits pre-tax operating income improved $81 million, due to the exit from the employer health and affinity lines of business in 1998 and due to the restructuring and other related charges recorded in 1998. Offsetting these improvements was a decline in Special Benefits' pre-tax operating income of $19 million due to adverse losses and reserve development in personal accident business, partially offset by improved underwriting results on life and disability products. 26 1999 ANNUAL REPORT Pre-tax operating loss in 1998 increased by $65 million as compared with 1997. The increase was primarily due to restructuring and other related charges of $39 million related to the decision to exit the insured comprehensive medical portion of the employer and affinity markets. The majority of the inforce business was sold effective January 1, 1999. Earned premiums for these lines of business was approximately $400 million in 1998. In addition, Special Benefits 1998 accident coverages experienced $30 million in increased losses, both from adverse claim developments and unusually high claim activity in the traditional accident insurance line. CNA FINANCIAL CORPORATION 27 LIFE OPERATIONS BUSINESS OVERVIEW Life Operations provides financial protection to individuals through a full product line of term life insurance, universal life insurance, long term care insurance, annuities and other products. Life Operations also provides retirement services products to institutions in the form of various investment products and administration services. Life Operations has several distribution relationships and partnerships including managing general agencies, other independent agencies working with CNA life sales offices, a network of brokers and dealers and various other independent insurance consultants. Life Operations is composed of four principal groups. INDIVIDUAL LIFE Individual Life offers primarily level premium term life insurance, universal life insurance and related products. New sales of term life have placed CNA as first or close to first in the market in each of the last three years. RETIREMENT SERVICES Retirement Services markets annuities and investment products and services to both retail and institutional customers. LONG TERM CARE Long Term Care products provide reimbursement for covered nursing home and home health care expenses incurred due to physical or mental disability. OTHER OPERATIONS Other Life Operations businesses include viatical settlements and developing operations in certain international markets. See page 39 for further discussion. OPERATING RESULTS - ---------------------------------------------------------------- Year Ended December 31 1999 1998 1997 (In millions of dollars) - ---------------------------------------------------------------- SALES VOLUME Individual Life $ 873 $761 $645 Retirement Services 1,824 986 1,035 Long Term Care 343 299 251 International 78 50 41 Other 105 91 45 - ---------------------------------------------------------------- TOTAL $3,223 $2,187 $2,017 ================================================================ Net earned premiums $936 $823 $797 Net investment income 556 525 501 Other revenues 123 115 105 - ---------------------------------------------------------------- Total operating revenues 1,615 1,463 1,403 Benefits 1,122 998 950 Expenses 277 295 266 Restructuring and other related charges - 7 - - ---------------------------------------------------------------- Pre-tax operating income 216 163 187 Income tax expense (71) (58) (66) - ---------------------------------------------------------------- NET OPERATING INCOME $145 $105 $121 ================================================================ SUMMARY Life Operations experienced strong growth in revenues and profitability in 1999. Premium growth was primarily due to strong sales in retirement-related and long term care products, as well as an increasing base of direct premiums for life products. Net operating income growth was achieved primarily in Retirement Services, Individual Life and in the viatical settlements business. SALES Sales volume increased to $3.2 billion in 1999, up 47.4% from 1998, principally due to increased sales of Retirement Services products. Sales volume in 1998 was 8.4% higher than 1997. Sales volume is a cash-based measure which includes premium and annuity considerations, investment deposits and other sales activity that are not reported as premiums under generally accepted accounting principles. The 1999 increase represents strong sales in Retirement Services and a growing base of premiums for Life and Long Term Care. Despite an increased use of reinsurance, net premium revenues have also shown strong growth, increasing 13.7% in 1999 and 3.3% in 1998. Individual Life sales volume of $873 million represents a 14.7% increase over 1998's $761 million. Individual Life earned premiums were $306 million in 1999, down 4.7% from $321 million in 1998. The primary reason for this decrease was a reinsurance treaty that was completed in late 1998 that lowered the Company's life insurance retention levels. Individual Life premiums in 1998 decreased from $373 million in 1997, driven primarily by increased use of reinsurance. 28 1999 ANNUAL REPORT Sales volume for Retirement Services increased to $1.8 billion in 1999 from $1.0 billion in 1998, primarily related to increased sales of institutional investment products. Variable annuity sales increased 87% to $110 million. Retirement Services earned premiums were $216 million in 1999, up 22.2% from 1998 premium of $177 million. 1998 earned premiums were essentially unchanged from 1997 levels. The decreased sales volume from 1997 to 1998 was primarily due to the discontinuance of fixed individual annuities and the lower volume of guaranteed investment contracts sold in institutional markets due to the interest rate and stock market environments in 1998. Long Term Care sales volume of $343 million in 1999 represents a 14.7% increase over the 1998 level of $299 million. Long Term Care premiums increased 16.6% in 1998 and 22.2% or $61 million in 1999 to reach $336 million. International sales climbed to $78 million in 1999, for a second consecutive year of growth, fueled primarily by retirement annuity sales in Chile. Viatical sales volume has also continued to experience year-to-year growth, to reach $105 million in 1999. Viatical sales volume is measured as amounts paid to insureds, along with other related costs, in return for assignment of their life insurance policies. OPERATING RESULTS Life Operations continues to show strong performance in the individual life market, where net operating income increased $7 million in 1999 to $83 million, because of expense savings and improved mortality experience. Also, effective use of reinsurance has reduced Life Operations exposure to volatility in its results. Net operating income for Retirement Services for 1999 of $37 million increased $16 million, or 76%, from 1998. This was primarily due to favorable investment performance in the portfolio supporting Retirement Services' Index 500 product, and improved sales and economies of scale in the trust and banking services operation. Net operating income from the viatical settlements business improved by $12 million due primarily to expense reductions and the recent entry into the profitable high net worth market. CNA FINANCIAL CORPORATION 29 CORPORATE Corporate results consist of interest expense on corporate borrowings, certain run-off insurance operations, asbestos claims related to Fibreboard Corporation (Fibreboard), financial guarantee insurance contracts, and certain non-insurance operations, including the operations of AMS Services, Inc. (AMS), an information technology and agency software development subsidiary. See Notes F and O to the Consolidated Financial Statements. The operating loss for 1999 was $202 million, approximately $10 million better than 1998. The improvement was primarily attributable to decreased losses from AMS of $20 million (each on an after-tax basis), partially offset by increased losses from run-off insurance operations. In the fourth quarter of 1999, the Company sold most of its interest in AMS. Operating losses for 1998 increased by $99 million compared with 1997. This increase was primarily attributed to a net unfavorable change in loss development on asbestos claims related to Fibreboard of approximately $46 million after-tax, an increase in operating losses attributable to AMS, a decrease in investment income and an increase in interest expense. 30 1999 ANNUAL REPORT RESTRUCTURING AND OTHER RELATED CHARGES On August 5, 1998, CNA announced estimates of the financial implications of its initiatives to achieve world-class performance. "World-class performance," as defined by the Company, refers to the Company's intention to position each of its strategic business units (SBU) as a market leader by sharpening its focus on customers and employing new technology to work smarter and faster. In the third quarter of 1998, the Company finalized and approved a plan to restructure its operations. The restructuring plan focused on a gross reduction in the then-current workforce of approximately 4,500 employees resulting in a net reduction of approximately 2,400 employees, the consolidation of certain processing centers, the closing of various facilities, and the exiting of certain businesses. The details of the restructuring and other related charges recognized in 1998 and 1999 are discussed in Note N to the Consolidated Financial Statements. The initial expectation from management was that the Company's initiatives would result in a reduction of approximately 2 points in the Company's expense ratio due to savings of approximately $300 to $350 million on an annualized basis. As of December 31, 1999, the Company had completed essentially all aspects of its restructuring plan. Management estimates the Company has achieved annualized run-rate expense savings of $381 million. "Annualized run-rate expense savings," as defined by the Company, refers to the difference between the normalized current expense ratio and a base-line expense ratio applied to a base-line measure of revenue, generally written premiums. Approximately $70 million of the annualized run-rate savings relate to the Personal Insurance business transferred to Allstate. See Note O to the Consolidated Financial Statements for a discussion of the Personal Insurance transaction. The normalization of the current expense ratio involves adjusting the expense ratio, exclusive of restructuring and other related charges, for other expenses that are not expected to recur or persist in the restructured operating platform. Because many of the expenses to which these adjustments relate are included in the results of operations determined in accordance with generally accepted accounting principles, the annualized run-rate expense savings cannot be interpreted as the difference in expenses incurred in 1999 compared to 1998. Management expects that the effects of the restructured operating platform will be reflected in the 2000 results. The table below presents the remaining accrued restructuring and other related charges as of December 31, 1999 and management's estimate of the timing of its payout. ACCRUED RESTRUCTURING AND OTHER RELATED CHARGES - ------------------------------------------------------------------------------- EMPLOYEE TERMINATION AND RELATED LEASE BUSINESS BENEFIT TERMINATION EXIT (In millions of dollars) COSTS COSTS COSTS TOTAL - ------------------------------------------------------------------------------- Accrued costs at December 31, 1999 $4 $27 $15 $46 =============================================================================== 2000 $4 $12 $13 $29 2001 - 6 2 8 2002 - 4 - 4 2003 - 2 - 2 2004 - 1 - 1 Thereafter - 2 - 2 - ------------------------------------------------------------------------------- Total future payments $4 $27 $15 $46 =============================================================================== CNA FINANCIAL CORPORATION 31 INVESTMENTS The components of net investment income for the years ended December 31, 1999, 1998 and 1997 are presented in the following table NET INVESTMENT INCOME Year Ended December 31 (In millions of dollars) 1999 1998 1997 - --------------------------------------------------------------------- Fixed maturity securities: Bonds: Taxable $1,509 $1,490 $1,522 Tax-exempt 267 340 288 Redeemable preferred stocks - 2 7 Equity securities 36 33 37 Mortgage loans and real estate 4 5 10 Policy loans 11 11 6 Short-term investments 188 241 321 Securities lending transactions, net 26 10 9 Other invested assets 101 67 56 - --------------------------------------------------------------------- 2,142 2,199 2,256 Investment expenses (41) (53) (47) - --------------------------------------------------------------------- NET INVESTMENT INCOME $2,101 $2,146 $2,209 ===================================================================== Lower net investment income in 1999 compared to 1998 is due to lower investment bases in the fixed maturity securities and short-term investments segments of the portfolio, which collectively declined $3.5 billion. Portions of these portfolios were liquidated in connection with the Personal Insurance transaction with Allstate and to fund payments from the Fibreboard escrow. See Notes F and O to the Consolidated Financial Statements. Additionally, the yield realized on fixed maturity securities was lower in 1999 than in 1998. The bond segment of the investment portfolio yielded 6.1% in 1999 compared to 6.4% in 1998 and 1997. Partially offsetting these declines in 1999 were increases in income from expansion of the securities lending program and other invested assets. Lower net investment income in 1998 compared to 1997 is attributable to a lower average level of assets invested in interest bearing securities. The components of net realized investment gains for the years ended December 31, 1999, 1998 and 1997 are presented in the following table: NET REALIZED INVESTMENT GAINS Year Ended December 31 (In millions of dollars) 1999 1998 1997 - --------------------------------------------------------------------- Realized investment gains (losses): Fixed maturity securities: U.S. Government bonds $ (177) $ 265 $ 249 Corporate and other taxable bonds (78) 67 142 Tax-exempt bonds (44) 90 49 Asset-backed bonds (13) 39 36 Other 1 6 (24) - --------------------------------------------------------------------- Total fixed maturity securities (311) 467 452 Equity securities 366 38 103 Derivative securities 39 12 (7) Other invested assets 214 178 205 - --------------------------------------------------------------------- Total net realized investment gains 308 695 753 Allocated to participating policyholders 7 (14) (15) Income tax expense (123) (247) (260) - --------------------------------------------------------------------- NET REALIZED INVESTMENT GAINS $ 192 $ 434 $ 478 ===================================================================== Significant investment gains were realized in 1999 on the Company's investments in Global Crossing, Ltd., and Canary Wharf Group plc; aggregate realized investment gains on these positions were approximately $342 million. Partially offsetting these gains in 1999 were realized losses in the tax-exempt portion of the fixed maturity securities segment of the portfolio. The value of the Company's investments declined in 1999 due to increases in interest rates and, as previously mentioned, there were portfolio liquidations in connection with the Personal Insurance transaction with Allstate and payments to the Fibreboard escrow. Other realized investment gains in 1999 include gains from the Company's investments in limited partnerships and the AMS transaction, partially offset by the loss on the Personal Insurance transaction. See Note O to the Consolidated Financial Statements. Other realized gains for the year ended December 31, 1997, includes a $95 million gain related to the CNA Surety transaction. See Note O to the Consolidated Financial Statements. 32 1999 ANNUAL REPORT The following table details the carrying value of CNA's general and separate account investments as of the end of each of the last two years: GENERAL AND SEPARATE ACCOUNT INVESTMENTS - ------------------------------------------------------------------------ December 31 (In millions of dollars) 1999 % 1998 % - ------------------------------------------------------------------------ GENERAL ACCOUNT INVESTMENTS Fixed maturity securities: Bonds: Taxable $22,722 64% $23,658 64% Tax-exempt 4,396 12 6,321 17 Redeemable preferred stocks 130 - 94 - Equity securities: Common stocks 3,344 9 1,665 5 Non-redeemable preferred stocks 266 1 305 1 Mortgage loans and real estate 47 - 62 - Policy loans 192 1 177 - Other invested assets 1,108 3 858 2 Short-term investments 3,355 10 4,037 11 - ------------------------------------------------------------------------ TOTAL GENERAL ACCOUNT INVESTMENTS $35,560 100% $37,177 100% ======================================================================== SEPARATE ACCOUNT INVESTMENTS Fixed maturity securities: Taxable bonds $ 3,260 72% $ 4,155 81% Equity securities: Common stocks 240 5 264 5 Non-redeemable preferred stocks 21 1 33 1 Other invested assets 493 11 218 4 Short-term investments 489 11 473 9 - ------------------------------------------------------------------------ TOTAL SEPARATE ACCOUNT INVESTMENTS $ 4,503 100% $ 5,143 100% ======================================================================== The Company's general and separate account investment portfolios consist primarily of publicly traded government bonds, asset-backed securities, mortgage-backed securities, municipal bonds, and corporate bonds. Total separate account investments at fair value were approximately $4.5 billion and $5.1 billion at December 31, 1999 and 1998, respectively, with taxable fixed maturity securities representing approximately 72.4% and 80.8% of the totals, respectively. Approximately 52.8% and 64.3% of separate account investments at December 31, 1999 and 1998, respectively, are used to fund guaranteed investment contracts for which Continental Assurance Company guarantees principal and a specified return to the contractholders. The duration of fixed maturity securities included in the guaranteed investment contract portfolio is matched approximately with the corresponding payout pattern of the liabilities of the guaranteed investment contracts. A primary objective in the management of the fixed maturity portfolio is to maximize total return relative to underlying liabilities and appropriate market benchmarks. In achieving this goal, assets may be sold to take advantage of market conditions, other investment opportunities and credit and tax considerations. This activity will produce realized gains and losses depending on then-current interest rates. The Company's investment policies for both the general and separate accounts emphasize high credit quality and diversification by industry, issuer and issue. Assets supporting interest rate sensitive liabilities are segmented within the general account to facilitate asset/liability duration management. The general account portfolio consists primarily of high quality (rated BBB or higher) bonds, 94.2% and 93.3% of which are rated as investment grade at December 31, 1999 and 1998, respectively. The following table summarizes the ratings of CNA's general account bond portfolio at carrying value: GENERAL ACCOUNT BOND RATINGS - ------------------------------------------------------------------------ December 31 (In millions of dollars) 1999 % 1998 % - ------------------------------------------------------------------------ U.S. government and affiliated securities $ 8,781 32% $ 9,443 31% Other AAA rated 9,692 36 11,595 39 AA and A rated 4,465 16 4,884 16 BBB rated 2,598 10 2,061 7 Below investment grade 1,582 6 1,996 7 - ------------------------------------------------------------------------ TOTAL $ 27,118 100% $29,979 100% ======================================================================== The following table summarizes ratings of CNA's guaranteed investment contract portion of the separate account bond portfolio at carrying value: GUARANTEED SEPARATE ACCOUNT BOND RATINGS - ------------------------------------------------------------------------ December 31 (In millions of dollars) 1999 % 1998 % - ------------------------------------------------------------------------ U.S. government and affiliated securities $ 52 2% $ 167 5% Other AAA rated 1,514 65 1,977 61 AA and A rated 356 15 476 15 BBB rated 335 14 339 11 Below investment grade 85 4 269 8 - ------------------------------------------------------------------------ TOTAL $ 2,342 100% $ 3,228 100% ======================================================================== In the above tables approximately 95.4% and 91.5% of the general account bond portfolio and 96.9% and 95.7% of the guaranteed investment contract bond portfolio were U.S. government agencies or were rated by Standard & Poor's or Moody's Investors Service at December 31, 1999 and 1998, respectively. The remaining bonds were rated by other rating agencies, outside brokers or Company management. High yield securities are bonds rated as below investment grade (below BBB) by bond rating agencies and other unrated securities which, in the opinion of management, are below investment grade. High yield securities generally involve a greater degree of risk than CNA FINANCIAL CORPORATION 33 investment grade securities. However, expected returns should compensate for the added risk. This risk is also considered in the interest rate assumptions in the underlying insurance products. CNA's concentration in high yield bonds, including guaranteed separate account business, was 4.7% and 6.1% of total investments as of December 31, 1999 and 1998, respectively. Included in CNA's fixed maturity securities at December 31, 1999 (general and guaranteed investment contract portfolios) are $8.6 billion of asset-backed securities, at fair value, consisting of approximately 12.8% in U.S. government agency issued pass-through certificates, 56.7% in collateralized mortgage obligations (CMOs), 20.5% in corporate asset-backed obligations and 10.0% in corporate mortgage-backed pass-through certificates. The majority of CMOs held are actively traded in liquid markets and are priced by broker-dealers. CMOs are subject to prepayment risks that tend to vary with changes in interest rates. During periods of declining interest rates, CMOs generally prepay faster as the underlying mortgages are prepaid and refinanced by the borrowers in order to take advantage of the lower rates. Conversely, during periods of rising interest rates, prepayments generally slow, which may result in a decrease in yield or a loss as a result of the slower prepayments. CNA limits the risks associated with interest rate fluctuations and prepayments by concentrating its CMO investments in planned amortization classes with relatively short principal repayment windows. CNA avoids investments in complex mortgage derivatives without readily ascertainable market prices. At December 31, 1999, the fair value of asset-backed securities was approximately $249 million lower than the amortized cost compared with net unrealized gains of approximately $163 million at December 31, 1998. Short-term investments at December 31, 1999 and 1998 primarily consisted of commercial paper and money market funds. The components of the general account short-term investments portfolio are presented in the following table: SHORT-TERM INVESTMENTS - ------------------------------------------------------- December 31 (In millions of dollars) 1999 1998 - ------------------------------------------------------- Commercial paper $ 1,988 $ 2,405 U.S. Treasury securities 41 506 Money market funds 904 401 Other 422 725 - ------------------------------------------------------- TOTAL SHORT-TERM INVESTMENTS $ 3,355 $ 4,037 ======================================================= CNA invests in certain derivative financial instruments primarily to reduce its exposure to market risk (principally interest rate, equity price and foreign currency risk). CNA considers the derivatives in its general account to be held for purposes other than trading. Derivative securities, except for interest rate swaps associated with certain corporate borrowings, are recorded at fair value at the reporting date, and changes in fair value are reported in realized investment gains and losses. The interest rate swaps on corporate borrowings are accounted for using accrual accounting with the related income or expense recorded as an adjustment to interest expense; adjustments to fair value are not recognized. Certain derivatives in the separate accounts are held for trading purposes. These derivatives relate to an indexed group annuity contract for institutional investors, which guarantees the Standard & Poor's 500 Composite Stock Price Index (S&P 500) rate of return plus 25 basis points annually. Deposits are received from the customer and held for a three-year period with no payout until the end of the period. CNA mitigates the risk associated with the contract liability by a combination of purchasing S&P 500 futures contracts in a notional amount equal initially to the original customer deposit and investing the remaining cash primarily in high quality investments. The number of futures contracts is adjusted regularly to approximate the liability to the contractholder. Changes in fair value of separate account derivatives held for trading purposes are reported as a component of net investment income. The Company's largest equity holding in a single issue is Global Crossing, Ltd. (Global Crossing) common stock. As of December 31, 1999, the Company owned 36.4 million shares of Global Crossing valued at $1,822 million, which represented 4.6% of Global Crossing's outstanding common stock. Unrealized gains associated with this security were approximately $1,764 million at December 31, 1999. In May 1999, Global Crossing entered into a transaction to merge Frontier Corporation (Frontier) into a subsidiary of Global Crossing. As part of the Frontier merger agreement, certain shareholders of Global Crossing, including the Company, entered into a voting agreement to limit their sales of Global Crossing common stock to ensure that 51% of the outstanding shares of Global Crossing would vote in favor of the merger. A large proportion of those shareholders, including the Company, also agreed to suspend their rights under a shareholders' agreement and a registration rights agreement until the closing of the Frontier transaction. The voting agreement was amended on September 2, 1999 to continue the limitation on sales and to delay the exercise of those rights described in the previous sentence until the earlier of the termination of the Frontier transaction or six months after the closing of the Frontier transaction. The Frontier merger closed on September 28, 1999. Beginning on March 28, 2000, the Company has the right to require Global Crossing to register up to 25% of the Company's holdings under the Securities Act of 1933 (the Act), and beginning on August 13, 2000, to require Global Crossing to register up to an additional 25% of the Company's holdings. The Company's holdings of Global Crossing were not acquired in a public offering, and may not be sold to the public unless the sale is registered or exempt from the registration requirements of the Act. Such exemptions will include sales pursuant to Rule 144 under the Act if such sales meet the requirements of the Rule. Subsequent to December 31, 1999, CNA entered into option agreements intended to hedge a substantial portion of the market risk associated with approximately half of its holdings of Global Crossing. The Company also has a significant equity investment in Canary Wharf Group plc. The carrying value of this investment was $622 million as of December 31, 1999. Unrealized gains on this investment were $621 million as of December 31, 1999. 34 1999 ANNUAL REPORT MARKET RISK Market risk is a broad term related to economic losses due to adverse changes in the fair value of a financial instrument. According to the Securities and Exchange Commission (SEC) disclosure rules, discussions regarding market risk focus on only one element of market risk: price risk. Price risk relates to changes in the level of prices due to changes in interest rates, equity prices, foreign exchange rates or other factors that relate to market volatility of the rate, index or price underlying the financial instrument. The Company's primary market risk exposures are due to changes in interest rates, although the Company has certain exposures to changes in equity prices and foreign currency exchange rates. Active management of market risk is integral to the Company's operations. The Company may manage its exposure to market risk, within defined tolerance ranges by: 1) changing the character of future investments purchased or sold, 2) using derivatives to offset the market behavior of existing assets and liabilities, or assets expected to be purchased and liabilities expected to be incurred, or 3) rebalancing its existing asset and liability portfolios. For purposes of this disclosure, market risk sensitive instruments are to be divided into two categories: instruments entered into for trading purposes and instruments entered into for purposes other than trading. With the exception of financial instruments supporting the Company's S&P 500 separate account product, the Company does not generally hold or issue financial instruments for trading purposes. INTEREST RATE RISK The Company has exposure to economic losses due to interest rate risk arising from changes in the level or volatility of interest rates. The Company attempts to mitigate its exposure to interest rate risk through active portfolio management. The Company may also reduce this risk by utilizing instruments such as interest rate swaps, interest rate caps, commitments to purchase securities, options, futures and forwards. This exposure is also mitigated by the Company's asset/liability matching strategy. EQUITY PRICE RISK The Company is exposed to equity price risk as a result of its investment in equity securities and equity derivatives. Equity price risk results from changes in the level or volatility of equity prices which affect the value of equity securities or instruments which derive their value from such securities or indexes. CNA attempts to mitigate its exposure to such risks by limiting its investment in any one security or index. FOREIGN EXCHANGE RATE RISK Foreign exchange rate risk arises from the possibility that changes in foreign currency exchange rates will impact the value of financial instruments. The Company has foreign exchange rate exposure when it buys or sells foreign currencies or financial instruments denominated in a foreign currency. The Company's foreign transactions are primarily denominated in Canadian Dollars, British Pounds, German Deutsche Marks, Chilean Pesos, Argentinean Pesos and Japanese Yen. This exposure is mitigated by the Company's asset/liability matching strategy and through the use of forward contracts for those instruments that are not matched. SENSITIVITY ANALYSIS CNA monitors its sensitivity to interest rate risk by evaluating the change in its financial assets and liabilities relative to fluctuations in interest rates. The evaluation is made using an instantaneous change in interest rates of varying magnitudes on a static balance sheet to determine the effect such a change in rates would have on the recorded market value of the Company's investments and the resulting effect on stockholders' equity. The range of changes chosen reflects the Company's view of changes which are reasonably possible over a one-year period. The selection of the range of values chosen to represent changes in interest rates should not be construed as the Company's prediction of future market events, but rather an illustration of the impact of such events. The sensitivity analysis estimates the change in the market value of the Company's interest-sensitive assets and liabilities that were held on December 31, 1999 and 1998 due to instantaneous parallel shifts in the year-end yield curve of 100 and 150 basis points with all other variables held constant. The interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Accordingly, the analysis may not be indicative of, is not intended to provide, and does not provide a precise forecast of the effect of changes of market interest rates on the Company's income or stockholders' equity. Further, the computations do not contemplate any actions CNA would undertake in response to changes in interest rates. A 100 and 150 basis point increase in market interest rates would result in a pre-tax decrease in the financial instrument position of $1.4 billion and $2.1 billion, respectively, at December 31, 1999, compared to $1.7 billion and $2.6 billion, respectively, at December 31, 1998. Similarly, a 100 and 150 basis point decrease in market interest rates would result in a pre-tax increase in the net financial instrument position of $1.5 billion and $2.2 billion, respectively, at December 31, 1999 compared to $1.6 billion and $2.4 billion at December 31, 1998. The Company's debt, including certain related interest rate swap agreements, as of December 31, 1999 and 1998, is denominated in U.S. dollars. At December 31, 1999 and 1998, approximately 93% of the Company's long-term debt has been issued at or effectively converted to fixed rates, and as such, interest expense would not be impacted by interest rate shifts. The impact of a 100 and 150 basis point increase in interest rates on the fixed rate debt would result in a decrease in the market value of the debt by $132 million and $193 million, respectively, at December 31, 1999, compared to $157 million and $229 million, respectively, at December 31, 1998. The impact of CNA FINANCIAL CORPORATION 35 a 100 and 150 basis point decrease in the interest rates would result in an increase in the market value of fixed rate debt by $147 million and $225 million, respectively, at December 31, 1999, compared to $174 million and $268 million, respectively, at December 31, 1998. The impact of a 100 and 150 basis point increase in interest rates on the variable rate debt at December 31, 1999 and 1998 would result in an additional $2 million and $3 million, respectively, in interest expense per year. Similarly, a 100 and 150 basis point decrease in interest rates would result in like decreases in interest expense per year. Equity price risk was measured assuming an instantaneous 10% and 25% change in the S&P 500 from its level as of December 31, 1999 and 1998, with all other variables held constant. The Company's equity holdings were assumed to be positively correlated with the S&P 500. At December 31, 1999, a 10% and 25% decrease in the S&P 500 would result in a $505 million and $1.3 billion decrease, respectively, compared to $320 million and $795 million decrease, respectively, at December 31, 1998, in the market value of the Company's equity investments. Of these amounts, $105 million and $261 million, respectively, in the current year, and $92 million and $229 million, respectively, in the prior year would be offset by decreases in liabilities to customers under variable annuity contracts. Similarly, increases in the S&P 500 would result in like increases in the market value of the Company's equity investments and increases in liabilities to customers under variable annuity contracts. The sensitivity analysis also assumes an instantaneous 10% and 20% change in the foreign currency exchange rates versus the U.S. dollar from their levels at December 31, 1999 and 1998, with all other variables held constant. At December 31, 1999, a 10% and 20% strengthening of the U.S. dollar versus other currencies would result in decreases of $337 million and $673 million, respectively, in the market value of certain financial instruments that are denominated in foreign currencies, compared to $220 million and $441 million, respectively, at December 31, 1998. Weakening of the U.S. dollar versus all other currencies would result in like increases in the market value of certain financial instruments that are denominated in foreign currencies. The following tables present the estimated effects on the market value of the Company's financial instruments at December 31, 1999 and 1998, due to an increase in interest rates of 100 basis points, a 10% decline in the S&P 500 , and a decline of 10% in foreign currency exchange rates.
MARKET RISK SCENARIO 1 - ---------------------------------------------------------------------------------------- DECEMBER 31, 1999 MARKET INTEREST CURRENCY EQUITY (In millions of dollars) VALUE RATE RISK RISK RISK HELD FOR OTHER THAN TRADING PURPOSES General account: Fixed maturity securities $ 27,248 $ (1,268) $ (149) $ (14) Equity securities 3,610 - (84) (361) Short term investments 3,355 (2) (26) - Interest rate caps 4 5 - - Equity index futures - 19 - - Other derivative securities 12 (8) (59) 3 - ---------------------------------------------------------------------------------------- TOTAL GENERAL ACCOUNT 34,229 (1,254) (318) (372) - ---------------------------------------------------------------------------------------- Separate accounts: Fixed maturity securities 2,927 (115) (16) (2) Equity securities 240 - - (24) Short term investments 59 - - - Other derivative securities (1) (7) - - - ---------------------------------------------------------------------------------------- TOTAL SEPARATE ACCOUNTS 3,225 (122) (16) (26) - ---------------------------------------------------------------------------------------- TOTAL ALL SECURITIES HELD FOR OTHER THAN TRADING PURPOSES 37,454 (1,376) (334) (398) - ---------------------------------------------------------------------------------------- HELD FOR TRADING PURPOSES - ---------------------------------------------------------------------------------------- Separate accounts: Fixed maturity securities 333 (12) (1) - Equity securities 19 - - (2) Short term investments 430 - (2) - Equity index futures - 2 - (105) Other derivative securities - (1) - - - ---------------------------------------------------------------------------------------- TOTAL ALL SECURITIES HELD FOR TRADING PURPOSES 782 (11) (3) (107) - ---------------------------------------------------------------------------------------- TOTAL ALL SECURITIES $ 38,236 $ (1,387) $ (337) $ (505) ======================================================================================== DEBT $ (2,881) $ 132 $ - $ - ========================================================================================
36 1999 ANNUAL REPORT
MARKET RISK SCENARIO 1 (continued) - ---------------------------------------------------------------------------------------- DECEMBER 31, 1998 MARKET INTEREST CURRENCY EQUITY (In millions of dollars) VALUE RATE RISK RISK RISK - ---------------------------------------------------------------------------------------- HELD FOR OTHER THAN TRADING PURPOSES General account $ 36,066 $ (1,551) $ (199) $ (195) Separate accounts 4,231 (163) (18) (31) HELD FOR TRADING PURPOSES separate accounts 698 (10) (3) (94) - ---------------------------------------------------------------------------------------- TOTAL ALL SECURITIES $ 40,995 $ (1,724) $ (220) $ (320) ======================================================================================== DEBT $ (3,160) $ 157 $ - $ - ========================================================================================
The following tables present the estimated effects on the market value of the Company's financial instruments at December 31, 1999 and 1998, due to an increase in interest rates of 150 basis points, a 25% decline in the S&P 500 index, and a decline of 20% in foreign currency exchange rates.
MARKET RISK SCENARIO 2 - ---------------------------------------------------------------------------------------- DECEMBER 31, 1999 MARKET INTEREST CURRENCY EQUITY (In millions of dollars) VALUE RATE RISK RISK RISK - ---------------------------------------------------------------------------------------- (In millions of dollars) HELD FOR OTHER THAN TRADING PURPOSES General account: Fixed maturity securities $ 27,248 $ (1,878) $ (298) $ (35) Equity securities 3,610 - (168) (902) Short term investments 3,355 (3) (51) - Interest rate caps 4 11 - - Equity index futures - 29 - - Other derivative securities 12 (13) (118) 9 - ---------------------------------------------------------------------------------------- TOTAL GENERAL ACCOUNT 34,229 (1,854) (635) (928) - ---------------------------------------------------------------------------------------- Separate accounts: Fixed maturity securities 2,927 (170) (32) (4) Equity securities 240 - - (60) Short term investments 59 - (1) - Other derivative securities (1) (11) - - - ---------------------------------------------------------------------------------------- TOTAL SEPARATE ACCOUNTS 3,225 (181) (33) (64) - ---------------------------------------------------------------------------------------- TOTAL ALL SECURITIES HELD FOR OTHER THAN TRADING PURPOSES 37,454 (2,035) (668) (992) - ---------------------------------------------------------------------------------------- HELD FOR TRADING PURPOSES Separate accounts: Fixed maturity securities 333 (18) (1) (1) Equity securities 19 - - (5) Short term investments 430 - (4) - Equity index futures - 3 - (261) Other derivative securities - (2) - - - ---------------------------------------------------------------------------------------- TOTAL ALL SECURITIES HELD FOR TRADING PURPOSES $ 782 $ (17) $ (5) $ (267) ======================================================================================== TOTAL ALL SECURITIES $ 38,236 $ (2,052) $ (673) $ (1,259) ======================================================================================== DEBT $ (2,881) $ 193 $ - $ - ======================================================================================== HELD FOR OTHER THAN TRADING PURPOSES General account $ 36,066 (2,349) (398) (483) Separate accounts 4,231 (254) (36) (78) HELD FOR TRADING PURPOSES Separate accounts 698 (14) (7) (234) - ---------------------------------------------------------------------------------------- TOTAL ALL SECURITIES $ 40,995 $ (2,617) $ (441) $ (795) ======================================================================================== DEBT $ (3,160) $ 229 $ - $ - ========================================================================================
CNA FINANCIAL CORPORATION 37 LIQUIDITY AND CAPITAL RESOURCES The principal operating cash flow sources of CNA's property/casualty and life insurance subsidiaries are premiums and investment income. The primary operating cash flow uses are payments for claims, policy benefits and operating expenses. For the year ended December 31, 1999, net cash used in operating activities was $2.6 billion, compared with net cash used of $949 million and $193 million in 1998 and 1997, respectively. The significant increase in net cash used in operating activities in 1999 is principally attributable to (a) the net transfer of $1.1 billion in cash to Allstate in connection with the transaction involving the Company's Personal Insurance business and (b) a payment of $1.1 billion from escrow pursuant to the settlement between the Company, Pacific Indemnity and Fibreboard known as the Trilateral Agreement. See Notes O and F to the Consolidated Financial Statements regarding these transactions. Excluding these significant, non-recurring transactions, the Company would have reported net cash used in operating activities in 1999 of approximately $400 million, significantly improved from 1998. Improvement in net cash used in operating activities is primarily due to lower levels of paid operating expenses, which declined by more that 30%, relative to the lower levels of net premiums collected, which declined by less than 15%. Benefits paid, adjusted for the Allstate and Fibreboard payments, were slightly higher in 1999 than 1998. Notwithstanding the improvement in 1999, the Personal Insurance transaction had an adverse impact on net cash used in operations because the Personal Insurance business has historically contributed an inflow of operating cash. The transfer of this business on October 1, 1999 resulted in a reduction in net cash inflow of approximately $128 million in the fourth quarter of 1999. The Company had substantially lower operating cash flows in 1998 and 1997, primarily due to increases in insurance receivables. The Company is separated into three intercompany reinsurance pools: the Continental Casualty Company Pool (CCC Pool), The Continental Insurance Company Pool (CIC Pool) and the Continental Assurance Company Pool (CAC Pool). The CCC Pool, CIC Pool and CAC Pool are comprised of 9, 15 and 2 legal insurance entities, respectively, domiciled in a total of 13 states and doing business in the 50 U.S. states territories, and in Canada (the Pool Companies). To the extent a Pool Company's currently due claim liabilities may exceed its readily available liquid assets, the Company may be called upon to contribute capital to that company. Furthermore, such capital would likely be obtained in the form of a dividend from another Pool Company, possibly in a different pool, which may or may not require the approval of insurance regulators in the jurisdiction of the dividend-paying company. Accordingly, management must continuously monitor the capital allocation among the pools and the liquidity and capital resources of the individual Pool Companies. The National Association of Insurance Commissioners has completed the process of codifying Statutory Accounting Practices (Codification) to promote standardization of methods, and is encouraging each state to adopt Codification as soon as possible, with a proposed implementation date of January 1, 2001. Related statutory accounting changes are not expected to significantly impact the Company's statutory capital requirements. On April 19, 1999, a Registration Statement on Form S-3 filed with the SEC which became effective, relating to $600 million in senior and subordinated debt, junior debt, common stock, preferred stock and warrants. No securities have been issued under this Registration Statement. CNA has a $795 million revolving credit facility (the Facility) that expires in May 2001. The amount available under the Facility is reduced by the amount of CNA's outstanding commercial paper borrowings. As of December 31, 1999, outstanding loans under the Facility were $77 million and outstanding commercial paper was $675 million, compared to $235 million and $500 million, respectively, as of December 31, 1998. As of December 31, 1999, there was $43 million of unused borrowing capacity under the Facility. The interest rate on the Facility was equal to the London Interbank Offered Rate (LIBOR) plus 16 basis points. Additionally, there was an annual facility fee of 9 basis points on the entire facility. The average interest rate on the borrowings under the Facility, excluding facility fees, at December 31, 1999 and 1998, was 6.66% and 5.49%, respectively. The weighted-average interest rate on commercial paper was 6.50% and 5.89% at December 31, 1999 and 1998, respectively. To offset the variable rate characteristics of the Facility and the interest rate risk associated with periodically reissuing commercial paper, CNA is party to interest rate swap agreements with several banks, which have an aggregate notional principal amount of $650 million at both December 31, 1999 and 1998. The combined weighted-average cost of borrowings, including facility fees, on the Facility, commercial paper borrowings and interest rate swaps, was 6.47% and 6.36% at December 31, 1999 and 1998, respectively. On February 15, 2000, Standard & Poor's lowered the Company's senior debt rating from A- to BBB and lowered the Company's preferred stock rating from BBB to BB+. As a result of these actions the facility fee payable on the aggregate amount of the Facility was increased to 12 1/2 basis points per annum and the interest rate on the Facility was increased to LIBOR plus 27 1/2 basis points. Additionally, as a result of these actions, the Company purchased and retired approximately $30 million of its outstanding money market preferred stock in February 2000, and announced its intention to purchase or redeem the remaining outstanding shares. On April 15, 1999, CNA retired $100 million of 8.25% senior notes. 38 1999 ANNUAL REPORT On August 2, 1999, the Company repaid its $157 million, 11% Secured Mortgage Notes, due June 30, 2013. The gain realized on the transaction was not significant. On December 23, 1998, CNA sold $200 million of preferred stock to its majority shareholder, Loews Corporation. On June 30, 1999, CNA redeemed the preferred stock at par plus accrued dividends. In 1998, CNA issued $1 billion of senior notes under a $1 billion Registration Statement on Form S-3 filed with the SEC on August 18, 1997. This shelf registration incorporated $250 million of securities remaining available for issuance from a prior shelf registration. Since filing this shelf registration, CNA has issued in four separate offerings senior notes with an aggregate principal amount of $1 billion. Proceeds from these debt issues were used to repay or refinance existing debt, provide funds for acquisitions, and increase the capital of Continental Casualty Company. As previously mentioned, on February 15, 2000, Standard & Poor's lowered its ratings on the Company's senior debt and preferred stock. At the same time, they lowered the rating of the CCC Pool and affirmed all other ratings. Additionally, Standard & Poor's changed the outlook for all the rated entities from negative to stable. On February 24, 2000 A.M. Best affirmed all ratings but assigned a negative outlook. Also on February 24, 2000, Duff & Phelps reaffirmed all ratings but moved the outlook on the CCC Pool rating to negative from stable. The CAC Pool outlook remained at stable. On March 8, 2000, the Company announced that it is exploring the sale of its individual life insurance and life reinsurance businesses. The Company has engaged the services of an investment banking firm to assist with this transaction. As expected, several of the major rating agencies placed their ratings of the CAC Pool under review as a result of this announcement. Each rating agency has slightly different terms for this special review: Standard & Poor's placed the rating on CreditWatch with developing implications; A.M. Best placed the rating under review with developing implications; Duff & Phelps placed the rating on Rating Watch - Uncertain, implying it could be upgraded or downgraded in the future. When an insurance company experiences a significant event which might be pertinent to its financial strength rating or claims-paying ability rating, the major rating agencies generally place that company's rating under special review. Such events may include merger, sale, recapitalization, regulatory action, or other significant event. On March 14, 2000, Moody's lowered all of the Company's ratings except for the Company's commercial paper rating. Continental Assurance Company and Valley Forge Life Insurance Company remain under review by Moody's - direction uncertain. The outlook on all other rated entities remained at stable. The table below represents ratings issued by A.M. Best, Moody's, Standard & Poor's, and Duff & Phelps for the CCC Pool, the CIC Pool and the CAC Pool as of March 14, 2000. Also rated as of March 14, 2000 were CNA's senior debt, commercial paper and preferred stock and The Continental Corporation's (Continental) senior debt.
|------------------|---------------------|-------------------------------------------------| | | INSURANCE RATINGS | DEBT AND PREFERRED STOCK RATINGS | | |---------------------|------------------------------------|------------| | | CCC CAC CIC | CNA |Continental | | |---------------------|------------------------------------|------------| | | | Commercial Preferred | | | |Financial Strength |Senior Debt Paper Stock | Senior Debt| | |---------------------|------------|------------|----------|------------| |A.M. Best | A A A- | - | - | - | - | |Moody's | A2 A2* A2 | Baa1 | P2 | baa1 | Baa2 | |Standard & Poor's | A AA- A- | BBB | A2 | BB+ | BBB- | | | | | | | | | |---------------------| | | | | | |CLAIMS PAYING ABILITY| | | | | | |---------------------| | | | | |Duff & Phelps | AA- AA - | A- | - | BBB+ | - | |------------------|---------------------|------------|------------|----------|------------|
*Continental Assurance Company and Valley Forge Life Insurance Co. are rated separately by Moody's and both have an A2 rating. CNA FINANCIAL CORPORATION 39 YEAR 2000 CNA estimates that the total amount spent on Year 2000 readiness matters was $66 million. Prior to 1997, the Company did not specifically separate technology charges for Year 2000 from other information technology charges. In addition, while some hardware charges are included in the above figure, the Company's hardware costs typically are included as part of ongoing technology updates and not specifically as part of the Year 2000 project. All funds spent have been financed from current operating funds. The Company believes that it has successfully resolved the Year 2000 issue. Over the year-end transition weekend, there were no problems observed that would affect the normal processing of CNA business. Since that time, no significant processing or other computer problems related to Year 2000 have arisen. CNA does not expect any CNA systems processing problems related to Year 2000 going forward that would have a material impact on the results of operations, cash flows or equity of CNA. Property/casualty insurance companies may have an underwriting exposure related to the Year 2000 issue. Coverage, if any, will depend on the facts and circumstances of the claim and the provisions of the policy. The Company has received notices of a limited number of Year 2000-related policy claims. The Company does not believe that the adverse impact, if any, in connection with claims related to the Year 2000 will be material on the results of operations, cash flows or equity of CNA. 40 1999 ANNUAL REPORT ACCOUNTING STANDARDS In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard 133, "Accounting for Derivative Instruments and Hedging Activities." This statement requires that an entity recognize all derivative investments as either assets or liabilities in the balance sheet and measure those instruments at fair value. If certain conditions are met, a derivative may be specifically designated as (a) a hedge of the exposure to changes in the fair value of a recognized asset or liability or an unrecognized firm commitment, (b) a hedge of the exposure to variable cash flows of a forecasted transaction, or (c) a hedge of the foreign currency exposure of a net investment in a foreign operation, an unrecognized firm commitment, an available-for-sale security, or a foreign-currency-denominated forecasted transaction. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation. This Statement is effective for fiscal years beginning after June 15, 2000. CNA is currently evaluating the effects of this Statement on its accounting and reporting of derivative securities and hedging activities. In October 1998, the American Institute of Certified Public Accountant's Accounting Standards Executive Committee issued Statement of Position 98-7, "Accounting for Insurance and Reinsurance Contracts That Do Not Transfer Insurance Risk." This guidance excludes long-duration life and health insurance contracts from its scope. This Statement of Position is effective for financial statements in the year 2000, with early adoption encouraged. CNA does not expect the adoption to have a significant impact on the results of operations or equity of the Company. FORWARD-LOOKING STATEMENTS The statements contained in this management discussion and analysis which are not historical facts are forward-looking statements. When included in this management discussion and analysis, the words "believe," "expects," "intends," "anticipates," "estimates," and analogous expressions are intended to identify forward-looking statements. Such statements inherently are subject to a variety of risks and uncertainties that could cause actual results to differ materially from those projected. Such risks and uncertainties include, among others, the impact of competitive products, policies and pricing; product and policy demand and market responses; development of claims and the effect on loss reserves; the performance of reinsurance companies under reinsurance contracts with the Company; general economic and business conditions; changes in financial markets (interest rate, credit, currency, commodities and stocks); changes in foreign, political, social and economic conditions; regulatory initiatives and compliance with governmental regulations; judicial decisions and rulings; the effect on the Company of changes in rating agency policies and practices; the results of financing efforts; changes in the Company's composition of operating segments; the actual closing of contemplated transactions and agreements and various other matters and risks (many of which are beyond the Company's control) detailed in the Company's Securities and Exchange Commission filings. These forward-looking statements speak only as of the date of this management discussion and analysis. The Company expressly disclaims any obligation or undertaking to release publicly any updates or revisions to any forward-looking statement contained herein to reflect any change in the Company's expectations with regard thereto or any change in events, conditions or circumstances on which any statement is based. CNA FINANCIAL CORPORATION 41 CONSOLIDATED BALANCE SHEETS BALANCE SHEETS
- ---------------------------------------------------------------------------------------------------------- December 31, December 31, (In millions of dollars, except share data) 1999 1998 - ---------------------------------------------------------------------------------------------------------- ASSETS Investments: Fixed maturity securities available-for-sale (amortized cost: $27,948 and $29,511)....................................................................$27,248 $30,073 Equity securities available-for-sale (cost: $1,150 and $1,055).............. 3,610 1,970 Mortgage loans and real estate (less accumulated depreciation: $1 and $1)... 47 62 Policy loans................................................................ 192 177 Other invested assets....................................................... 1,108 858 Short-term investments ..................................................... 3,355 4,037 -------- -------- TOTAL INVESTMENTS......................................................... 35,560 37,177 Cash.......................................................................... 153 217 Receivables: Reinsurance................................................................. 8,023 6,894 Insurance .................................................................. 4,483 5,198 Less allowance for doubtful accounts........................................ (310) (328) Deferred acquisition costs.................................................... 2,436 2,422 Prepaid reinsurance premiums.................................................. 1,468 323 Accrued investment income..................................................... 387 392 Receivables for securities sold............................................... 284 255 Federal income taxes recoverable (includes: $241 and $234 due from Loews)..... 269 251 Deferred income taxes......................................................... 852 995 Property and equipment at cost (less accumulated depreciation: $701 and $695). 746 824 Intangibles................................................................... 328 368 Other......................................................................... 1,937 2,241 Separate account business..................................................... 4,603 5,203 - ----------------------------------------------------------------------------------------------------- TOTAL ASSETS $61,219 $62,432 =====================================================================================================
See accompanying Notes to Consolidated Financial Statements. 42 1999 ANNUAL REPORT CONSOLIDATED BALANCE SHEETS BALANCE SHEETS
- ---------------------------------------------------------------------------------------------------------- December 31, December 31, (In millions of dollars, except share data) 1999 1998 - ---------------------------------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities: Insurance reserves: Claim and claim adjustment expense ........................................$27,356 $29,154 Unearned premiums.......................................................... 5,103 5,039 Future policy benefits..................................................... 5,996 5,352 Policyholders' funds....................................................... 710 855 Collateral on loaned securities............................................... 1,300 130 Payables for securities purchased............................................. 135 316 Participating policyholders' equity........................................... 121 140 Debt.......................................................................... 2,881 3,160 Other......................................................................... 3,881 3,722 Separate account business..................................................... 4,603 5,203 -------- -------- TOTAL LIABILITIES......................................................... 52,086 53,071 -------- -------- Commitments and contingencies Minority interest............................................................... 195 204 Stockholders' equity: Common stock ($2.50 par value; Authorized as of December 31, 1999 - 500,000,000 shares; Authorized as of December 31, 1998 - 200,000,000 shares; Issued - 185,525,907 shares; Outstanding as of December 31, 1999 - 184,406,931 shares, Outstanding as of December 31, 1998 - 183,889,569 shares)................... 464 464 Preferred stock............................................................... 150 350 Additional paid-in capital.................................................... 126 126 Retained earnings............................................................. 7,114 7,258 Accumulated other comprehensive income........................................ 1,188 1,064 Treasury stock, at cost....................................................... (41) (61) --------- -------- 9,001 9,201 Notes receivable for the issue of stock....................................... (63) (44) --------- -------- TOTAL STOCKHOLDERS' EQUITY................................................ 8,938 9,157 - ----------------------------------------------------------------------------------------------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $61,219 $62,432 =====================================================================================================
CNA FINANCIAL CORPORATION 43 CONSOLIDATED FINANCIAL STATEMENTS CONSOLIDATED STATEMENTS OF OPERATIONS
- ---------------------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31, (In millions of dollars, except per share data) 1999 1998 1997 - ---------------------------------------------------------------------------------------------------------- Revenues: Premiums....................................................................$13,282 $13,536 $13,624 Net investment income....................................................... 2,101 2,146 2,209 Realized investment gains, net of participating policyholders' and minority interests....................................... 315 681 738 Other ..................................................................... 705 799 628 -------- -------- -------- Total revenues 16,403 17,162 17,199 -------- -------- -------- Claims, benefits and expenses: Insurance claims and policyholders' benefits............................... 11,900 11,847 11,395 Amortization of deferred acquisition costs................................. 2,143 2,180 2,138 Other operating expenses................................................... 2,086 2,321 2,100 Restructuring and other related charges ................................... 83 246 - Interest................................................................... 202 219 198 -------- -------- -------- Total claims, benefits and expenses 16,414 16,813 15,831 -------- -------- -------- Income (loss) before income tax and cumulative effect of a change in accounting principle................................. (11) 349 1,368 Income tax benefit (expense)................................................. 88 (47) (392) Minority interest expense.................................................... (30) (20) (10) -------- -------- -------- Income before cumulative effect of a change in accounting principle.......... 47 282 966 Cumulative effect of a change in accounting principle, net of tax of $95..... (177) - - -------- -------- -------- NET INCOME (LOSS).......................................................$ (130) $ 282 $ 966 ========================================================================================================== BASIC AND DILUTED EARNINGS PER SHARE Income before cumulative effect of a change in accounting principle..........$ 0.19 $ 1.49 $ 5.17 Cumulative effect of a change in accounting principle, net of tax............ (0.96) - - -------- -------- -------- Income (loss)................................................................$ (0.77) $ 1.49 $ 5.17 ======== ======== ======== Weighted average outstanding common shares and common stock equivalents (in millions of shares)... ..................... 184.2 184.9 185.4 ==========================================================================================================
See accompanying Notes to Consolidated Financial Statements. 44 1999 ANNUAL REPORT CONSOLIDATED FINANCIAL STATEMENTS CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Notes Accumulated Receivable Additional Other for Total Common Preferred Paid-in Retained Comprehensive Treasury the Issue Stockholders' (In millions of dollars) Stock Stock Capital Earnings Income Stock of Stock Equity - -------------------------------------------------------------------------------------------------------------------- BALANCE, JANUARY 1, 1997 $464 $150 $126 $6,024 $ 299 $ (3) $ - $7,060 Comprehensive income: Net income............ - - - 966 - - - 966 Other comprehensive income.............. - - - - 290 - - 290 ------- Total comprehensive income............... 1,256 Preferred dividends..... - - - (7) - - - (7) - -------------------------------------------------------------------------------------------------------------------- BALANCE, DECEMBER 31, 1997 464 150 126 6,983 589 (3) - 8,309 Comprehensive income: Net income............ - - - 282 - - - 282 Other comprehensive income.............. - - - - 475 - - 475 ------- Total comprehensive income............... 757 Issuance of preferred stock - 200 - - - - - 200 Purchase of treasury stock - - - - - (102) - (102) Issue of stock for notes receivable......... - - - - - 44 (44) - Preferred dividends..... - - - (7) - - - (7) - -------------------------------------------------------------------------------------------------------------------- BALANCE, DECEMBER 31, 1998 464 350 126 7,258 1,064 (61) (44) 9,157 Comprehensive income: Net loss.............. - - - (130) - - - (130) Other comprehensive income.............. - - - - 124 - - 124 -------- Total comprehensive loss................. (6) Redemption of preferred stock................. - (200) - - - - - (200) Issue of stock for notes receivable........ - - - (1) - 20 (19) - Preferred dividends..... - - - (13) - - - (13) - -------------------------------------------------------------------------------------------------------------------- BALANCE, DECEMBER 31, 1999 $464 $150 $126 $7,114 $1,188 $(41) $(63) $8,938 ====================================================================================================================
See accompanying Notes to Consolidated Financial Statements. CNA FINANCIAL CORPORATION 45 CONSOLIDATED FINANCIAL STATEMENTS CONSOLIDATED STATEMENTS OF CASH FLOWS - --------------------------------------------------------------------------- Year Ended December 31 (In millions of dollars) 1999 1998 1997 - --------------------------------------------------------------------------- CASH FLOWS FROM OPERATING ACTIVITIES: - ------------------------------------- Net income (loss)........................ $ (130) $ 282 $ 966 Adjustments to reconcile net income (loss) to net cash flows from operating activities: Minority interest ..................... 30 20 10 Deferred income tax provision.......... 43 47 144 Net realized investment gains.......... (315) (681) (738) Amortization of intangibles............ 23 93 30 Amortization of bond discount.......... (39) (208) (100) Depreciation........................... 185 166 158 Changes in: Receivables, net..................... (472) 718 147 Deferred acquisition costs........... 1 (280) (288) Accrued investment income............ 6 (3) 119 Federal income taxes recoverable..... (17) (233) 116 Prepaid reinsurance premiums......... (1,145) (121) 93 Insurance reserves................... (1,190) 586 (133) Other................................ 376 101 (717) - --------------------------------------------------------------------------- Total adjustments .................. (2,514) (1,231) (1,159) - --------------------------------------------------------------------------- NET CASH FLOWS FROM OPERATING ACTIVITIES ............. (2,644) (949) $ (193) - --------------------------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES: - ------------------------------------- Purchases of fixed maturity securities... $(45,515) $(39,039) $(42,492) Proceeds from fixed maturity securities: Sales.................................. 43,587 35,480 38,429 Maturities, calls and redemptions...... 2,996 3,564 2,997 Purchases of equity securities........... (1,575) (1,071) (1,323) Proceeds from sale of equity securities.. 1,803 848 1,406 Change in short-term investments......... 703 823 1,112 Change in collateral on loaned securities............................... 1,170 (23) 53 Change in other investments.............. 151 62 421 Purchases of property and equipment, net.................................... (250) (261) (280) Acquisitions, net of cash acquired....... (19) (120) (104) Other, net............................... 86 180 (7) - --------------------------------------------------------------------------- NET CASH FLOWS FROM INVESTING ACTIVITIES 3,137 443 212 - --------------------------------------------------------------------------- 46 1999 ANNUAL REPORT CONSOLIDATED FINANCIAL STATEMENTS CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) - --------------------------------------------------------------------------- 1999 1998 1997 - --------------------------------------------------------------------------- CASH FLOWS FROM FINANCING ACTIVITIES: - ------------------------------------- Dividends paid to preferred stockholders.. $ (13) $ (7) $ (6) Purchase of treasury stock................ - (102) - Receipts from investment contracts credited to policyholder account balances........................ 7 6 7 Return of policyholder account balances on investment contracts.......... (78) (20) (26) Principal payments on long-term debt........ (450) (730) (5) Proceeds from issuance of long-term debt.... 177 993 137 Issuance (redemption) of preferred stock.... (200) 200 - Net cash flows from financing activities.... (557) 340 107 Net change in cash.......................... (64) (166) 126 - --------------------------------------------------------------------------- CASH AT BEGINNING OF PERIOD.............. 217 383 257 - --------------------------------------------------------------------------- CASH AT END OF PERIOD $ 153 $ 217 $ 383 =========================================================================== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: - -------------------------------------------------- Cash paid: Interest expense......................... $ 201 $ 210 $ 201 Federal income taxes..................... 279 143 95 Non-cash transactions: Notes receivable for the issue of stock.. 19 44 - Exchange of Canary Wharf Limited Partnership interest into common stock. 539 - - =========================================================================== See accompanying Notes to Consolidated Financial Statements. CNA FINANCIAL CORPORATION 47 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: - ---------------------------------------------------- BASIS OF PRESENTATION The consolidated financial statements include CNA Financial Corporation and its subsidiaries, which include property/casualty insurance companies (principally Continental Casualty Company and The Continental Insurance Company) and life insurance companies (principally Continental Assurance Company and Valley Forge Life Insurance Company), collectively CNA or the Company. Loews Corporation (Loews) owns approximately 86% of the outstanding common stock of the Company. The accompanying consolidated financial statements have been prepared in conformity with generally accepted accounting principles (GAAP). Certain amounts applicable to prior years have been reclassified to conform with the 1999 presentation. All material intercompany amounts have been eliminated. The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. BUSINESS CNA serves a wide spectrum of customers, including small, medium and large businesses; associations; professionals; and groups and individuals with a broad range of insurance and risk management products and services. Insurance products include property and casualty coverages; life, accident and health insurance; and pension products and annuities. CNA services include risk management, information services, healthcare management, claims administration and employee leasing/payroll processing. CNA products and services are marketed through agents, brokers, managing general agents and direct sales. INSURANCE PREMIUM REVENUES Insurance premiums on property/casualty and accident and health insurance contracts are earned ratably over the terms of the policies after provision for estimated adjustments on retrospectively rated policies and deductions for ceded insurance. Revenues on universal life-type contracts are comprised of contract charges and fees, which are recognized over the coverage period. Other life insurance premiums and annuities are recognized as revenue when due after deductions for ceded insurance premiums. CLAIM AND CLAIM ADJUSTMENT EXPENSE RESERVES Claim and claim adjustment expense reserves, except reserves for structured settlements, workers' compensation lifetime claims and accident and health disability claims, are not discounted and are based on (a) case basis estimates for losses reported on direct business, adjusted in the aggregate for ultimate loss expectations, (b) estimates of unreported losses, (c) estimates of losses on assumed insurance, (d) estimates of future expenses to be incurred in settlement of claims and (e) estimates of claim recoveries, exclusive of reinsurance recoveries which are reported as an asset. Management considers current conditions and trends as well as past Company and industry experience in establishing these estimates. The effects of inflation, which can be significant, are implicitly considered in the reserving process and are part of the recorded reserve balance. Claim and claim adjustment expense reserves represent management's estimates of ultimate liabilities based on currently available facts and case law and the ultimate liability may vary significantly from such estimates. CNA regularly reviews its reserves, and any adjustments to the previously established reserves are recognized in operating income in the period the need for such adjustments becomes apparent. Structured settlements have been negotiated for claims on certain property/casualty insurance policies. Structured settlements are agreements to provide fixed periodic payments to claimants. Certain structured settlements are funded by annuities purchased from Continental Assurance Company for which the related annuity obligations are reported in future policy benefits reserves. Obligations for structured settlements not funded by annuities are included in claim and claim adjustment expense reserves and carried at present values determined using interest rates ranging from 6.0% to 7.5%. At December 31, 1999 and 1998 the discounted reserves for unfunded structured settlements were $883 million and $893 million, respectively (net of discounts of $1,483 million and $1,511 million, respectively). Workers' compensation lifetime claim reserves and accident and health disability claim reserves are calculated using mortality and morbidity assumptions based on the Company's and industry experience, and are discounted at interest rates allowed by insurance regulators that range from 3.5% to 6.0%. At December 31, 1999 and 1998, such discounted reserves totaled $2,174 million and $2,277 million, respectively (net of discounts of $893 million and $869 million, respectively). FUTURE POLICY BENEFITS RESERVES Reserves for traditional life insurance products (whole and term life products) are computed using the net level premium method, which incorporates actuarial assumptions as to interest rates, mortality, morbidity, withdrawals and expenses. Actuarial assumptions generally vary by plan, age at issue and policy duration, and include a margin for adverse 48 1999 ANNUAL REPORT deviation. Interest rates range from 3% to 9% and mortality, morbidity and withdrawal assumptions are based on CNA and industry experience prevailing at the time of issue. Expense assumptions include the estimated effects of inflation and expenses to be incurred beyond the premium paying period. Reserves for universal life-type contracts are equal to the account balances that accrue to the benefit of the policyholders. Interest crediting rates ranged from 4.45% to 7.25% for the three years ended December 31, 1999. INVOLUNTARY RISKS CNA's participation in involuntary risk pools is mandatory and generally a function of its proportionate share of the voluntary market, by line of insurance, in each state in which it does business. In the first quarter of 1999, CNA adopted Statement of Position 97-3 "Accounting by Insurance and Other Enterprises for Insurance-Related Assessments"(SOP 97-3). SOP 97-3 requires that insurance companies recognize liabilities for insurance-related assessments when an assessment is probable and will be imposed, when it can be reasonably estimated, and when the event obligating the entity to pay an imposed or probable assessment has occurred on or before the date of the financial statements. Adoption of SOP 97-3 resulted in an after-tax charge of $177 million as a cumulative effect of a change in accounting principle. The pro forma effect of adoption on reported results for prior periods is not significant. REINSURANCE Amounts recoverable from reinsurers are estimated in a manner consistent with claim and claim adjustment expense reserves or future policy benefits reserves and reported as a recoverable in the consolidated balance sheets. DEFERRED ACQUISITION COSTS Costs of acquiring property/casualty insurance business that vary with and are primarily related to the production of such business are deferred and amortized ratably over the period the related premiums are recognized. Such costs include commissions, premium taxes and certain underwriting and policy issuance costs. Anticipated investment income is considered in the determination of the recoverability of deferred acquisition costs. Life acquisition costs are capitalized and amortized based on assumptions consistent with those used for computing future policy benefits reserves. Acquisition costs on traditional life business are amortized over the assumed premium paying periods. Universal life and annuity acquisition costs are amortized in proportion to the present value of estimated gross profits over the products' assumed duration. To the extent that unrealized gains or losses on available-for-sale securities would result in an adjustment of deferred policy acquisition costs, had those gains or losses actually been realized, an adjustment to deferred acquisition costs is recorded as an adjustment to unrealized investment gains or losses which are included in accumulated other comprehensive income and reported as a component of stockholders' equity. INVESTMENTS VALUATION OF INVESTMENTS CNA classifies its fixed maturity securities (bonds and redeemable preferred stocks) and its equity securities as available-for-sale, and as such, they are carried at fair value. The amortized cost of fixed maturity securities is adjusted for amortization of premiums and accretion of discounts to maturity, and amortization and accretion are included in investment income. Changes in fair value are reported as a component of other comprehensive income. Investments are written down to estimated fair values, and losses are recognized in income, when a decline in value is determined to be other than temporary. Mortgage loans are carried at unpaid principal balances, including unamortized premium or discount. Real estate is carried at depreciated cost. Policy loans are carried at unpaid balances. Short-term investments are carried at amortized cost, which approximates fair value. Other invested assets include joint ventures, limited partnerships, certain derivative securities and other investments. The joint ventures and limited partnerships are carried at CNA's equity in the investees' net assets. CNA accounts for its derivative securities at fair value. Under this method, the derivative securities are recorded in the consolidated balance sheets at fair value at the reporting date and changes in fair value are recognized in realized investment gains and losses. For interest rate swaps associated with certain corporate borrowings, amounts due or payable under these swaps are recorded as an adjustment to interest expense and changes in the fair value of the swaps are not recognized in the Company's consolidated financial statements. INVESTMENT GAINS AND LOSSES All securities transactions are recorded on the trade date. Realized investment gains and losses are determined on the basis of the amortized cost of the specific securities sold. EQUITY IN AFFILIATES CNA uses the equity method of accounting for investments in companies in which its ownership interest of the voting shares is at least twenty percent but not greater than fifty percent. Equity in operating income of these affiliates is reported in other income. Equity in investment gains or losses is included in realized investment gains or losses, or other comprehensive income, as appropriate. SECURITIES LENDING ACTIVITIES CNA lends securities to unrelated parties, primarily major brokerage firms. Borrowers of these securities must deposit collateral with CNA equal to 100% of the fair value of the securities if the collateral is cash, or 102% if the collateral is securities. Cash deposits from these transactions are invested in short-term investments (primarily commercial paper) and a liability is recognized for the obligation to return the collateral. CNA continues to receive the interest on loaned debt securities as beneficial owner, and accordingly, loaned debt securities are included in fixed maturity securities. CNA FINANCIAL CORPORATION 49 SEPARATE ACCOUNT BUSINESS Continental Assurance Company and Valley Forge Life Insurance Company write investment and annuity contracts. The supporting assets and liabilities of certain of these contracts are legally segregated and reported as assets and liabilities of separate account business. Continental Assurance Company guarantees principal and a specified return to the contractholders on approximately 53% and 64% of the separate account business at December 31, 1999 and 1998, respectively. Substantially all assets of the separate account business are carried at fair value. Separate account liabilities are carried at contract values. INCOME TAXES The Company accounts for income taxes under the liability method. Under the liability method deferred income taxes are recognized for temporary differences between the financial statement and tax return bases of assets and liabilities. Temporary differences primarily relate to insurance reserves (principally discounting of claim and claim adjustment expense reserves and differences in the calculation of unearned premium reserves), deferred acquisition costs and net unrealized investment gains or losses. PROPERTY AND EQUIPMENT Property and equipment are carried at cost less accumulated depreciation. Depreciation is based on the estimated useful lives of the various classes of property and equipment and determined principally on accelerated methods. EARNINGS PER SHARE Earnings per share applicable to common stock are based on weighted-average outstanding shares, retroactively adjusted for all stock splits. The computation of earnings per share for the years ended December 31, 1999, 1998 and 1997 was as follows: EARNINGS PER SHARE - ----------------------------------------------------------------------------- Year ended December 31 (In millions of dollars) 1999 1998 1997 - ----------------------------------------------------------------------------- Net income (loss) $ (130) $ 282 $ 966 Less: Preferred dividends (13) (7) (7) - ----------------------------------------------------------------------------- Net income (loss) applicable to common stock $ (143) $ 275 $ 959 Weighted average outstanding common shares and common stock equivalents (in millions of shares) 184.2 184.9 185.4 - ----------------------------------------------------------------------------- BASIC AND DILUTED EARNINGS (LOSS) PER SHARE $ (0.77) $ 1.49 $ 5.17 ============================================================================= NOTE B - INVESTMENTS: - --------------------- The significant components of net investment income are presented in the following table: NET INVESTMENT INCOME - ------------------------------------------------------------------ Year ended December 31 (In millions of dollars) 1999 1998 1997 - ------------------------------------------------------------------ Fixed maturity securities $ 1,776 $ 1,832 $ 1,817 Short-term investments 188 241 321 Other 178 126 118 - ------------------------------------------------------------------ 2,142 2,199 2,256 Investment expenses (41) (53) (47) - ------------------------------------------------------------------ NET INVESTMENT INCOME $ 2,101 $ 2,146 $ 2,209 ================================================================== Net realized investment gains (losses) and net unrealized appreciation (depreciation) in investments are set forth in the following table: NET INVESTMENT APPRECIATION
- ------------------------------------------------------------------------------------------- Year ended December 31 (In millions of dollars) 1999 1998 1997 - ------------------------------------------------------------------------------------------- Net realized investment gains (losses): Fixed maturity securities: Gross realized gains $ 269 $ 621 $ 651 Gross realized losses (580) (154) (199) - ------------------------------------------------------------------------------------------- Net realized gains (losses) on fixed maturity securities (311) 467 452 Equity securities: Gross realized gains 481 119 137 Gross realized losses (115) (81) (34) - ------------------------------------------------------------------------------------------- Net realized gains on equity securities 366 38 103 Other realized investment gains 253 190 198 - ------------------------------------------------------------------------------------------- Total net realized investment gains 308 695 753 Allocation to participating policyholders and minority interest 7 (14) (15) Income tax expense (123) (247) (260) - ------------------------------------------------------------------------------------------- Net realized investment gains 192 434 478 - ------------------------------------------------------------------------------------------- Net unrealized appreciation (depreciation) in investments: Fixed maturity securities (1,262) 34 347 Equity securities 1,545 796 (38) Other 33 (112) 72 - ------------------------------------------------------------------------------------------- Total net unrealized appreciation in investments 316 718 381 Net change in unrealized appreciation (depreciation) on separate accounts and other (74) 5 - Allocation to participating policyholders and minority interest 24 (6) (9) Deferred income tax expense (100) (249) (101) - ------------------------------------------------------------------------------------------- Net unrealized appreciation in investments 166 468 271 - ------------------------------------------------------------------------------------------- NET APPRECIATION IN INVESTMENTS $ 358 $ 902 $ 749 ===========================================================================================
50 1999 ANNUAL REPORT Other realized investment gains for the years ended December 31, 1999 and 1997, include gains and losses related to the sale of certain operations or affiliates. See Note O. The following table provides a summary of investments in fixed maturity securities and equity securities available-for-sale: SUMMARY OF FIXED MATURITY AND EQUITY SECURITIES
- -------------------------------------------------------------------------------------------- COST OR GROSS GROSS AMORTIZED UNREALIZED UNREALIZED FAIR (In millions of dollars) COST GAINS LOSSES VALUE - -------------------------------------------------------------------------------------------- DECEMBER 31, 1999 United States Treasury securities and obligations of government agencies $ 8,431 $ 14 $ 127 $ 8,318 Asset-backed securities 7,253 14 228 7,039 States, municipalities and political subdivisions -- tax-exempt 4,514 16 134 4,396 Corporate securities 5,502 34 303 5,233 Other debt securities 2,185 36 89 2,132 Redeemable preferred stocks 63 72 5 130 - -------------------------------------------------------------------------------------------- Total fixed maturity securities 27,948 186 886 27,248 Equity securities 1,150 2,635 175 3,610 - -------------------------------------------------------------------------------------------- TOTAL $29,098 $ 2,821 $ 1,061 $30,858 ============================================================================================ DECEMBER 31, 1998 United States Treasury securities and obligations of government agencies $ 7,568 $ 183 $ 17 $ 7,734 Asset-backed securities 8,096 130 12 8,214 States, municipalities and political subdivisions -- tax-exempt 6,127 206 12 6,321 Corporate securities 5,074 135 143 5,066 Other debt securities 2,610 104 70 2,644 Redeemable preferred stocks 36 60 2 94 - -------------------------------------------------------------------------------------------- Total fixed maturity securities 29,511 818 256 30,073 Equity securities 1,055 1,051 136 1,970 - -------------------------------------------------------------------------------------------- TOTAL $30,566 $ 1,869 $ 392 $32,043 ============================================================================================
The following table summarizes fixed maturity securities by contractual maturity at December 31, 1999: CONTRACTUAL MATURITY - ------------------------------------------------------------------------ COST OR AMORTIZED FAIR (In millions of dollars) COST VALUE - ------------------------------------------------------------------------ Due in one year or less $ 1,554 $ 1,541 Due after one year through five years 6,513 6,388 Due after five years through ten years 7,040 6,557 Due after ten years 5,588 5,723 Asset-backed securities 7,253 7,039 - ------------------------------------------------------------------------ TOTAL $ 27,948 $ 27,248 ======================================================================== Actual maturities may differ from contractual maturities because some securities may be called or prepaid with or without call or prepayment penalties. The carrying value of investments (other than equity securities) that did not produce income during 1999 was $54 million. At December 31, 1999, the fair value of the Company's investments in the common stock of Global Crossing, Ltd. (Global Crossing) and the Vista Fund (a money market fund) were $1,822 million and $903 million, respectively. No other investments, other than investments in U.S. government securities, exceeded 10% of stockholders' equity. RESTRICTED INVESTMENTS On December 30, 1993, CNA deposited $987 million in an escrow account pursuant to the Fibreboard Global Settlement Agreement. The majority of the funds are included in short-term investments and are invested primarily in U.S. Treasury securities. The escrow account amounted to $36 million and $1,130 million at December 31, 1999 and 1998, respectively. During 1999, the Company paid approximately $1.1 billion from escrow to the Fibreboard Trust, which was established to administer claims pursuant to the Trilateral Agreement. See Note F. The Company may from time to time invest in securities that have a limited market or the sale of which may be restricted in whole or in part. In May 1999, Global Crossing entered into a transaction to merge Frontier Corporation (Frontier) into a subsidiary of Global Crossing. As part of the Frontier merger agreement, certain shareholders of Global Crossing, including the Company, entered into a voting agreement to limit their sales of Global Crossing common stock to ensure that 51% of the outstanding shares of Global Crossing would vote in favor of the merger. A large proportion of those shareholders, including the Company, also agreed to suspend their rights under a shareholders' agreement and a registration rights agreement until the closing of the Frontier transaction. The voting agreement was amended on September 2, 1999 to continue the limitation on sales and to delay the exercise of those rights described in the previous sentence until the earlier of the termination of the Frontier transaction or CNA FINANCIAL CORPORATION 51 six months after the closing of the Frontier transaction. The Frontier merger closed on September 28, 1999. Beginning on March 28, 2000, the Company has the right to require Global Crossing to register up to 25% of the Company's holdings under the Securities Act of 1933 (the Act), and beginning on August 13, 2000, to require Global Crossing to register up to an additional 25% of the Company's holdings. The Company's holdings of Global Crossing were not acquired in a public offering, and may not be sold to the public unless the sale is registered or exempt from the registration requirements of the Act. Such exemptions will include sales pursuant to Rule 144 under the Act if such sales meet the requirements of the Rule. Subsequent to December 31, 1999, CNA entered into option agreements intended to hedge a substantial portion of the market risk associated with approximately half of its holdings of Global Crossing. Cash and securities with carrying values of $1.8 billion and $1.7 billion were deposited by the Company's insurance subsidiaries under requirements of regulatory authorities as of December 31, 1999 and 1998, respectively. NOTE C - FINANCIAL INSTRUMENTS: - ------------------------------- In the normal course of business, CNA invests in various financial assets, incurs various financial liabilities, and enters into agreements involving derivative securities, including off-balance sheet financial instruments. Fair values are required to be disclosed for all financial instruments for which it is practicable to estimate fair value, whether or not such values are recognized in the consolidated balance sheets. Management attempts to obtain quoted market prices for the purposes of these disclosures. Where quoted market prices are not available, fair values are estimated using present value or other valuation techniques. These techniques are significantly affected by management's assumptions, including discount rates and estimates of future cash flows. Potential taxes and other transaction costs have not been considered in estimating fair values. The estimates presented herein are not necessarily indicative of the amounts that CNA would realize in a current market exchange. Non-financial instruments--such as real estate, deferred acquisition costs, property and equipment, deferred income taxes and intangibles--and certain financial instruments specifically identified in the accounting literature--such as insurance reserves and leases--are excluded from the fair value disclosures. Thus, the fair value amounts cannot be aggregated to determine the underlying economic value of the Company. The carrying amounts reported in the consolidated balance sheets for cash, short-term investments, accrued investment income, receivables for securities sold, federal income taxes recoverable, securities sold under repurchase agreements, payables for securities purchased and certain other assets and other liabilities approximate fair value because of the short-term nature of these items. These assets and liabilities are not listed in the following tables. The carrying amounts and estimated fair values of CNA's other financial instrument assets and liabilities are listed in the following tables. Derivative financial instruments are shown in a separate table. FINANCIAL ASSETS - ------------------------------------------------------------------------------ 1999 1998 -------------------- ---------------------- December 31 CARRYING ESTIMATED Carrying Estimated (In millions of dollars) AMOUNT FAIR VALUE Amount Fair Value - ------------------------------------------------------------------------------ Investments: Fixed maturity securities $27,248 $27,248 $30,073 $30,073 Equity securities 3,610 3,610 1,970 1,970 Mortgage loans 44 42 57 61 Policy loans 192 179 177 173 Other invested assets 1,108 1,108 858 858 Separate account business: Fixed maturity securities 3,260 3,260 4,155 4,155 Equity securities 260 260 297 297 Other 493 493 216 216 Notes receivable for the issue of stock 63 56 44 39 - ------------------------------------------------------------------------------ The following methods and assumptions were used by CNA in estimating the fair value for the above financial assets. The fair values of fixed maturity securities and equity securities were based on quoted market prices, where available. For securities not actively traded, fair values were estimated using values obtained from independent pricing services or quoted market prices of comparable instruments. The fair values for mortgage loans and policy loans were estimated using discounted cash flow analyses at interest rates currently offered for similar loans to borrowers of comparable credit quality. Loans with similar characteristics were aggregated for purposes of these calculations. Valuation techniques to determine fair value of other invested assets and other separate account business assets consisted of discounting cash flows and obtaining quoted market prices of the investments, comparable instruments or the underlying assets of the investments. 52 1999 ANNUAL REPORT FINANCIAL LIABILITIES - ------------------------------------------------------------------------------ 1999 1998 ------------------- --------------------- December 31 CARRYING ESTIMATED Carrying Estimated (In millions of dollars) AMOUNT FAIR VALUE Amount Fair Value - ------------------------------------------------------------------------------ Premium deposits and annuity contracts $ 1,293 $ 1,240 $ 1,259 $ 1,205 Debt 2,881 2,775 3,160 3,179 Financial guarantee contracts 111 100 240 231 Separate account business: Guaranteed investment contracts 1,516 1,518 2,423 2,478 Variable separate accounts 1,505 1,505 1,268 1,268 Deferred annuities 117 125 85 102 Other 571 571 600 600 - ------------------------------------------------------------------------------ Premium deposits and annuity contracts were valued based on cash surrender values and the outstanding fund balances. CNA's senior notes and debentures were valued based on quoted market prices. The fair value for other long-term debt was estimated using discounted cash flow analyses based on current incremental borrowing rates for similar borrowing arrangements. The fair value of the liability for financial guarantee contracts was based on discounted cash flows utilizing interest rates currently offered for similar contracts. The fair values of guaranteed investment contracts and deferred annuities of the separate account business were estimated using discounted cash flow calculations based on interest rates currently offered for similar contracts with similar maturities. The fair values of the liabilities for variable separate account business were based on the quoted market values of the underlying assets of each variable separate account. The fair value of other separate account liabilities approximate their carrying value because of their short-term nature. DERIVATIVE FINANCIAL INSTRUMENTS CNA invests in derivative financial instruments in the normal course of business primarily to reduce its exposure to market risk (principally interest rate, equity stock price and foreign currency risk). Financial instruments used for such purposes include interest rate swaps, interest rate caps, put and call options, commitments to purchase securities, futures and forwards. Other than derivatives held in certain separate accounts, the Company generally does not hold or issue these instruments for trading purposes. CNA also uses derivatives to mitigate the risk associated with its indexed group annuity contracts by purchasing S&P 500 futures contracts in a notional amount equal to the portion of the customer liability related to S&P 500 exposure. The gross notional principal or contractual amounts of derivative financial instruments in the general account at December 31, 1999 and 1998 were $2,062 million and $1,667 million, respectively. The gross notional principal or contractual amounts of derivative financial instruments in the separate accounts were $1,627 million and $1,193 million at December 31, 1999 and 1998, respectively. The contractual or notional amounts are used to calculate the exchange of contractual payments under the agreements and are not representative of the potential for gain or loss on these instruments. The fair values associated with derivative financial instruments are generally affected by interest rates, equity prices and foreign currency exchange rates. The credit exposure associated with non-performance by the counterparties to these instruments is generally limited to the gross fair value asset related to the instruments recognized in the consolidated balance sheets. The Company continuously monitors the credit worthiness of its counterparties. The Company generally does not require collateral from its derivative investment counterparties. The fair value of derivatives generally represent the estimated amounts that CNA would expect to receive or pay upon termination of the contracts at the reporting date. Dealer quotes are available for substantially all of CNA's derivatives. For derivative instruments not actively traded, fair values are estimated using values obtained from independent pricing services, costs to settle or quoted market prices of comparable instruments. A summary of the aggregate contractual or notional amounts, estimated fair values and gains or losses related to derivative financial instruments as of and for the year ended December 31, 1999 and 1998 are presented on the following page. CNA FINANCIAL CORPORATION 53 SUMMARY OF DERIVATIVE FINANCIAL STATEMENTS
- ---------------------------------------------------------------------------------------------- FAIR VALUE ------------------------ DECEMBER 31, 1999 CONTRACTUAL RECOGNIZED (In millions of dollars) NOTIONAL AMOUNT ASSET (LIABILITY) GAIN (LOSS) - ---------------------------------------------------------------------------------------------- GENERAL ACCOUNT - --------------- Interest rate swaps on corporate $ 650 $ -- $ -- $ -- borrowings Total return swaps 7 -- -- 11 Interest rate caps 500 4 -- 4 Commitments to purchase government and municipal securities 127 -- (1) (1) Futures sold, not yet purchased 153 -- -- 9 Forwards 591 9 -- 21 Options purchased 25 4 -- (5) Options written 9 -- -- -- - ---------------------------------------------------------------------------------------------- TOTAL $2,062 $ 17 $ (1) $ 39 ============================================================================================== SEPARATE ACCOUNTS - ----------------- Futures purchased $1,113 $ -- $ -- $ 131 Futures sold, not yet purchased 79 -- -- 2 Forwards -- -- -- -- Commitments to purchase government and municipal securities 228 -- (2) (4) Options purchased 108 1 -- (1) Options written 99 -- -- 4 - ---------------------------------------------------------------------------------------------- TOTAL $1,627 $ 1 $ (2) $ 132 ==============================================================================================
SUMMARY OF DERIVATIVE FINANCIAL STATEMENTS (CONTINUED)
- ---------------------------------------------------------------------------------------------- FAIR VALUE ------------------------ DECEMBER 31, 1998 CONTRACTUAL/ RECOGNIZED (In millions of dollars) NOTIONAL AMOUNT ASSET (LIABILITY) GAIN (LOSS) - ---------------------------------------------------------------------------------------------- GENERAL ACCOUNT - --------------- Interest rate swaps on corporate $ 650 $ -- $ (10) $ -- borrowings Total return swaps 78 -- (10) (30) Interest rate caps 500 1 -- (2) Futures sold, not yet purchased 158 -- -- (3) Forwards 211 -- (1) (6) Options purchased 70 3 -- 51 Options written -- -- -- 2 - ---------------------------------------------------------------------------------------------- TOTAL $1,667 $ 4 $ (21) $ 12 ============================================================================================== SEPARATE ACCOUNTS - ----------------- Futures purchased $ 928 $ 2 $ -- $ 156 Futures sold, not yet purchased 51 -- -- (1) Forwards 2 -- -- -- Commitments to purchase government and municipal securities 69 1 -- 4 Options purchased 77 1 -- (1) Options written 66 -- -- 2 - ---------------------------------------------------------------------------------------------- TOTAL $1,193 $ 4 $ -- $ 160 ==============================================================================================
The Company has entered into interest rate swap agreements to convert the variable rate of its borrowings under a revolving credit facility and its commercial paper program to a fixed rate. The Company was party to interest rate swap agreements with several banks with an aggregate notional principal amount of $650 million, at December 31, 1999 and 1998. Those agreements, which terminate from May 2000 to December 2000, effectively fix the Company's interest cost on $650 million of variable rate debt for the years ending December 31, 1999 and 1998. CNA also has outstanding total return swaps which primarily represent an exchange of the 90-day treasury bill rate for the change in the Goldman Sachs Commodities Index. Futures are contracts to buy or sell a standard quantity and quality of a commodity, financial instrument or index at a specified future date and price. Forwards are contracts between two parties to purchase and sell a specific quantity of a commodity, government security, foreign currency, or other financial instrument at a price specified at contract inception, with delivery and settlement at a specified future date. Commitments to purchase government and municipal securities are agreements to purchase securities in the future at a predetermined price. Options are contracts that grant the purchaser, for a premium payment, the right, but not the obligation, to either purchase or sell a financial instrument at a specified price within a specified period of time. An interest rate cap consists of a guarantee given by the issuer 54 1999 ANNUAL REPORT to the purchaser in exchange for the payment of a premium. This guarantee states that if interest rates rise above a specified rate the issuer will pay to the purchaser the difference between the then current market rate and the specified rate on the notional principal amount. NOTE D - INCOME TAXES: - ---------------------- CNA and its eligible subsidiaries (CNA Tax Group) are included in the consolidated Federal income tax return of Loews and its eligible subsidiaries. Loews and CNA have agreed that for each taxable year, CNA will (i) be paid by Loews the amount, if any, by which the Loews consolidated Federal income tax liability is reduced by virtue of the inclusion of the CNA Tax Group in the Loews consolidated Federal income tax return, or (ii) pay to Loews an amount, if any, equal to the Federal income tax which would have been payable by the CNA Tax Group filing a separate consolidated tax return. In the event that Loews should have a net operating loss in the future computed on the basis of filing a separate consolidated tax return without the CNA Tax Group, CNA may be required to repay tax recoveries previously received from Loews. This agreement between Loews and CNA may be canceled by either party upon thirty days written notice. For 1999 and 1998, the inclusion of the CNA Tax Group in the consolidated Federal income tax return of Loews has resulted in a decreased Federal income tax liability for Loews. Accordingly, Loews has paid or will pay to CNA approximately $288 million for 1999 and $83 million for 1998. In 1997, the inclusion of the CNA Tax Group into the consolidated Federal income tax return of Loews increased the Loews Federal income tax liability. Accordingly, CNA has paid Loews approximately $210 million for 1997. At December 31, 1999, the CNA Tax Group had accumulated net operating losses of approximately $390 million from 1999 and 1998, available to be carried back or forward. These net operating losses expire beginning in 2018. A reconciliation between the Federal income tax at statutory rates and CNA's effective income taxes, after giving effect to minority interest, but before giving effect to the cumulative effect of a 1999 change in accounting principle for SOP 97-3 is as follows: TAX RATE RECONCILIATION - ---------------------------------------------------------------------------- YEAR ENDED DECEMBER 31 (In millions of dollars) 1999 1998 1997 - ---------------------------------------------------------------------------- Income tax (benefit) expense at statutory rates $(14) $115 $475 Tax benefit from tax exempt income (84) (103) (91) Other expense, including state income taxes 10 35 8 - ---------------------------------------------------------------------------- EFFECTIVE INCOME TAX (BENEFIT) EXPENSE $(88) $ 47 $392 ============================================================================ The composition of CNA's total income tax (benefit) expense allocated between operating income and realized investment gains and losses, excluding the cumulative effect of the 1999 change in accounting principle for SOP 97-3 is as follows: COMPONENTS OF TAX PROVISION - ---------------------------------------------------------------------------- YEAR ENDED DECEMBER 31 (In millions of dollars) 1999 1998 1997 - ---------------------------------------------------------------------------- Income tax (benefit) expense on operating income $(211) $(200) $132 Income tax expense on realized investment gains 123 247 260 - ---------------------------------------------------------------------------- TOTAL INCOME TAX (BENEFIT) EXPENSE $ (88) $ 47 $392 ============================================================================ The current and deferred components of CNA's income tax (benefit) expense, excluding the cumulative effect of the 1999 change in accounting principle for SOP 97-3, are as follows: CURRENT AND DEFERRED TAXES - ---------------------------------------------------------------------------- YEAR ENDED DECEMBER 31 (In millions of dollars) 1999 1998 1997 - ---------------------------------------------------------------------------- Current tax (benefit) expense $(226) $ - $248 Deferred tax expense 138 47 144 - ---------------------------------------------------------------------------- TOTAL INCOME TAX (BENEFIT) EXPENSE $ (88) $ 47 $392 ============================================================================ CNA FINANCIAL CORPORATION 55 On January 1, 1999, CNA adopted SOP 97-3, and as a result, an accrued liability was established for financial reporting purposes, but not for income tax purposes. Consequently on January 1, 1999, as part of the $177 million cumulative after-tax effect of SOP 97-3, a deferred tax asset of $95 million was established. During 1999, changes in this assessment accrual reduced the associated deferred tax asset by $23 million. The deferred tax effect of this assessment accrual and other significant components of CNA's deferred tax assets and liabilities as of December 31, 1999 and 1998, respectively, are set forth in the table below. COMPONENTS OF NET DEFERRED TAX ASSETS - ------------------------------------------------------------------------ DECEMBER 31 (In millions of dollars) 1999 1998 - ------------------------------------------------------------------------ Gross deferred tax assets: Insurance reserves: Property/casualty claim reserves $ 1,058 $ 1,183 Unearned premium reserves 335 372 Life reserves 213 195 Other insurance reserves 26 27 Postretirement benefits other than pensions 149 142 Net operating losses 137 - Accrued assessments and guarantees 72 - Restructuring costs 10 56 Other 257 295 - ------------------------------------------------------------------------ TOTAL GROSS DEFERRED TAX ASSETS 2,257 2,270 - ------------------------------------------------------------------------ Gross deferred tax liabilities: Deferred acquisition costs (778) (748) Net unrealized gains (627) (527) - ------------------------------------------------------------------------ TOTAL GROSS DEFERRED TAX LIABILITIES (1,405) (1,275) - ------------------------------------------------------------------------ NET DEFERRED TAX ASSETS $ 852 $ 995 ======================================================================== CNA has a history of profitability and as such, CNA's management believes it is more likely than not that the deferred tax assets will be realized. NOTE E - CLAIM AND CLAIM ADJUSTMENT EXPENSE RESERVES: - ----------------------------------------------------- CNA's property/casualty insurance claim and claim adjustment expense reserves represent the estimated amounts necessary to settle all outstanding claims, including claims which are incurred but not reported, as of the reporting date. The Company's reserve projections are based primarily on detailed analysis of the facts in each case, CNA's experience with similar cases and various historical development patterns. Consideration is given to such historical patterns as field reserving trends, loss payments, pending levels of unpaid claims and product mix, as well as court decisions, economic conditions and public attitudes. All of these factors can affect the estimation of reserves. Establishing loss reserves is an estimation process. Many factors can ultimately affect the final settlement of a claim and, therefore, the reserve that is needed. Changes in the law, results of litigation, medical costs, the cost of repair materials and labor rates can all impact ultimate claim costs. In addition, time can be a critical part of reserving determinations since the longer the span between the incidence of a loss and the payment or settlement of the claim, the more variable the ultimate settlement amount can be. Accordingly, short-tail claims, such as property damage claims, tend to be more reasonably estimable than long-tail claims, such as general liability and professional liability claims. The table below provides a reconciliation between beginning and ending claim and claim adjustment expense reserves for 1999, 1998 and 1997. 56 1999 ANNUAL REPORT RECONCILIATION OF CLAIM AND CLAIM ADJUSTMENT EXPENSE RESERVES
- ------------------------------------------------------------------------------------------------- Year Ended December 31 (In millions of dollars) 1999 1998 1997 - ------------------------------------------------------------------------------------------------- Reserves at beginning of year: Gross $28,317 $28,533 $29,357 Ceded 5,424 5,326 5,660 - ------------------------------------------------------------------------------------------------- Net reserves at beginning of year 22,893 23,207 23,697 Net reserves transferred under retroactive reinsurance agreements (1,024) -- -- Net reserves of acquired insurance companies at date of acquisition -- 122 57 - ------------------------------------------------------------------------------------------------- Total net adjustments (1,024) 122 57 - ------------------------------------------------------------------------------------------------- Net incurred claims and claim adjustment expenses: Provision for insured events of current year 7,287 7,903 7,942 Increase (decrease) in provision for insured events of prior years 1,027 263 (256) Amortization of discount 139 143 143 - ------------------------------------------------------------------------------------------------- Total net incurred 8,453 8,309 7,829 - ------------------------------------------------------------------------------------------------- Net payments attributable to: Current year events 2,744 2,791 2,514 Prior year events 7,460 5,954 5,862 Reinsurance recoverable against net reserves transferred under retroactive reinsurance agreements (240) -- -- - ------------------------------------------------------------------------------------------------- Total net payments 9,964 8,745 8,376 - ------------------------------------------------------------------------------------------------- Net reserves at end of year 20,358 22,893 23,207 Ceded reserves at end of year 6,273 5,424 5,326 - ------------------------------------------------------------------------------------------------- GROSS RESERVES AT END OF YEAR* $26,631 $28,317 $28,533 =================================================================================================
* Excludes life claim and claim adjustment expense reserves and intercompany eliminations of $725 million, $837 million and $987 million as of December 31, 1999, 1998 and 1997, respectively, included in the consolidated balance sheets. The increase (decrease) in provision for insured events of prior years (reserve development) is comprised of the following components: RESERVE DEVELOPMENT - ----------------------------------------------------------------------- Year Ended December 31 (In millions of dollars) 1999 1998 1997 - ----------------------------------------------------------------------- Asbestos $ 560 $ 243 $ 105 Environmental pollution and other mass tort (84) 227 -- Other 551 (207) (361) - ----------------------------------------------------------------------- TOTAL $1,027 $ 263 $(256) ======================================================================= ENVIRONMENTAL POLLUTION, OTHER MASS TORT AND ASBESTOS RESERVES Environmental pollution clean-up is the subject of both federal and state regulation. By some estimates, there are thousands of potential waste sites subject to clean-up. The insurance industry is involved in extensive litigation regarding coverage issues. Judicial interpretations in many cases have expanded the scope of coverage and liability beyond the original intent of the policies. The Comprehensive Environmental Response Compensation and Liability Act of 1980 (Superfund) and comparable state statutes (mini-Superfund) govern the clean-up and restoration of abandoned toxic waste sites and formalize the concept of legal liability for clean-up and restoration by Potentially Responsible Parties (PRPs). Superfund and the mini-Superfunds establish mechanisms to pay for clean-up of waste sites if PRPs fail to do so, and to assign liability to PRPs. The extent of liability to be allocated to a PRP is dependent on a variety of factors. Further, the number of waste sites subject to clean-up is unknown. To date, approximately 1,300 clean-up sites have been identified by the Environmental Protection Agency on its National Priorities List (NPL). The addition of new clean-up sites to the NPL has slowed in recent years. Many clean-up sites have been designated by state authorities as well. Many policyholders have made claims against various CNA insurance subsidiaries for defense costs and indemnification in connection with environmental pollution matters. These claims relate to accident years 1989 and prior, which coincides with CNA's adoption of the Simplified Commercial General Liability coverage that includes an absolute pollution exclusion. CNA and the insurance industry are disputing coverage for many such claims. Key coverage issues include whether clean-up costs are considered damages under the policies, trigger of coverage, allocation of liability among triggered policies, applicability of pollution exclusions and owned property exclusions, the potential for joint and several liability and definition of an occurrence. To date, courts have been inconsistent in their rulings on these issues. A number of proposals to reform Superfund have been made by various parties. However, no reforms were enacted by Congress in 1999 and it is unclear as to what positions the Congress or the CNA FINANCIAL CORPORATION 57 Administration will take in 2000 and what legislation, if any, will result. If there is legislation, and in some circumstances even if there is no legislation, the federal role in environmental clean-up may be significantly reduced in favor of state action. Substantial changes in the federal statute or the activity of the EPA may cause states to reconsider their environmental clean-up statutes and regulations. There can be no meaningful prediction of the pattern of regulation that would result. Due to the inherent uncertainties described above, including the inconsistency of court decisions, the number of waste sites subject to clean-up, and the standards for clean-up and liability, the ultimate liability of CNA for environmental pollution claims may vary substantially from the amount currently recorded. As of December 31, 1999 and 1998, CNA carried approximately $463 million and $787 million, respectively, of claim and claim adjustment expense reserves, net of reinsurance recoverables, for reported and unreported environmental pollution and other mass tort claims. In 1999, CNA recorded $84 million of favorable development compared to $227 million of adverse development in 1998. The changes were based upon the Company's continuous review of these types of exposures, as well as its internal study and annual analysis of environmental pollution and other mass tort claims. The 1999 analysis indicated favorable results in the number of new claims being reported in the other mass tort area. The 1998 analysis indicated deterioration in claim experience related mainly to pollution claims. CNA's insurance subsidiaries also have exposure to asbestos claims, including those attributable to CNA's litigation with Fibreboard Corporation. A detailed discussion of CNA's litigation with Fibreboard Corporation regarding asbestos-related bodily injury claims can be found in Note F. Estimation of asbestos claim reserves involves many of the same limitations as for environmental pollution claims discussed above, such as inconsistency of court decisions, specific policy provisions, allocation of liability among insurers, missing policies and proof of coverage. As of December 31, 1999 and 1998, CNA carried approximately $684 million and $1,456 million, respectively, of claim and claim adjustment expense reserves, net of reinsurance recoverables, for reported and unreported asbestos-related claims. In 1999, CNA recorded $560 million of adverse development compared to $243 million of adverse development in 1998. The reserve strengthening in 1999 for asbestos related claims, was a result of management's continuous review of development with respect to these exposures, as well as a review of the results of the Company's annual analysis of these claims which was completed in conjunction with the study of environmental pollution and other mass tort claims. This analysis indicated continued deterioration in claim counts for asbestos related claims. The results of operations in future years may continue to be adversely affected by environmental pollution and other mass tort, and asbestos claim mass claims and claim adjustment expenses. Management will continue to monitor these liabilities and make further adjustments as warranted. The following table provides additional data related to CNA's environmental pollution, other mass tort and asbestos-related claim and claim adjustment expense reserves. ENVIRONMENTAL POLLUTION, OTHER MASS TORT AND ASBESTOS RESERVES
- -------------------------------------------------------------------------------------------- 1999 1998 -------------------------------- ----------------------------- ENVIRONMENTAL Environmental December 31 POLLUTION AND Pollution and (In millions of dollars) OTHER MASS TORT ASBESTOS Other Mass Tort Asbestos - -------------------------------------------------------------------------------------------- Gross reserves $ 618 $ 946 $ 828 $1,547 Less ceded reserves (155) (262) (41) (91) - -------------------------------------------------------------------------------------------- NET RESERVES $ 463 $ 684 $ 787 $1,456 ============================================================================================
OTHER PROPERTY AND CASUALTY RESERVES Other lines unfavorable claim and claim adjustment expense reserve development for 1999 of $551 million was due to unfavorable loss development of approximately $540 million for standard commercial lines, approximately $60 million for medical malpractice, and approximately $70 million for accident and health. These unfavorable changes were partially offset by favorable development of approximately $120 million in non-medical professional liability and assumed reinsurance on older accident years. The unfavorable development in standard commercial lines was due to commercial automobile liability and workers compensation losses being higher than expected in recent accident years. In addition, the number of claims reported for commercial multiple-peril liability claims from older accident years has not decreased as much as expected. The unfavorable development for medical malpractice was also due to losses being higher than expected for recent accident years. The accident and health unfavorable development is due to higher than expected claim reporting on assumed personal accident coverage in recent accident years. Other lines favorable claim and claim adjustment expense reserve development for 1998 of $207 million was due to favorable loss development of approximately $100 million in commercial lines business and approximately $105 million of favorable loss development in personal lines business. The favorable development in the commercial lines business was primarily attributable to improved frequency and severity in the commercial auto lines for older accident years, as well as some continued improvement in workers' compensation for older years. The favorable development in the personal lines business was attributable to improved trends, particularly in personal auto liability. FINANCIAL GUARANTEE RESERVES Through August 1, 1989, CNA's property/casualty operations wrote financial guarantee insurance in the form of surety bonds, and also insured equity policies. These bonds primarily represented industrial development bond guarantees and, in the case of insured equity policies, typically extended in initial terms from ten to thirteen years. For these guarantees and policies CNA received an advance premium, which is non-refundable and is recognized over the exposure period and in proportion to the underlying risk insured. 58 1999 ANNUAL REPORT At December 31, 1999 and 1998, gross exposure of financial guarantee surety bonds and insured equity policies was $352 million and $507 million, respectively. The degree of risk to CNA related to this exposure is substantially reduced through reinsurance, diversification of exposures and collateral requirements. In addition, security interests in improved real estate are also commonly obtained on the financial guarantee risks. Approximately 37% and 36% of the risks were ceded to reinsurers at December 31, 1999 and 1998, respectively. Total exposure, net of reinsurance, amounted to $222 million and $323 million at December 31, 1999 and 1998, respectively. At December 31, 1999 and 1998, collateral consisting of letters of credit, cash reserves and debt service reserves amounted to $62 million and $38 million, respectively. Gross unearned premium reserves for financial guarantee contracts were $11 million and $8 million at December 31, 1999 and 1998, respectively. Gross claim and claim adjustment expense reserves totaled $100 million and $232 million at December 31, 1999 and 1998, respectively. NOTE F - LEGAL PROCEEDINGS AND CONTINGENT LIABILITIES: - -------------------------------------------------------- FIBREBOARD CORPORATION LITIGATION An agreement between Continental Casualty Corporation (Casualty), Pacific Indemnity and Fibreboard Corporation (Fibreboard) (the Trilateral Agreement) has obtained final court approval and its implementation has substantially resolved Casualty's exposure with respect to asbestos claims involving Fibreboard. The Trilateral Agreement calls for payment by Casualty and Pacific Indemnity of an aggregate $2.0 billion, of which Casualty's portion is approximately $1.46 billion, to Fibreboard to resolve (a) all claims by Fibreboard and (b) all filed but unsettled asbestos claims as of August 23, 1993, and all future asbestos claims against Fibreboard. Casualty has paid all amounts required under this obligation of the Trilateral Agreement. Casualty is also obligated to pay asbestos claims settled as of August 23, 1993. Through December 31, 1999, Casualty, Fibreboard and plaintiff attorneys had reached settlements with respect to approximately 133,000 claims, for an estimated settlement amount of approximately $1.63 billion plus any applicable interest. Approximately $1.72 billion (including interest of $184 million) was paid by Casualty through December 31, 1999. Such payments have been partially recovered from Pacific Indemnity. While there does exist the possibility of further adverse developments with respect to Fibreboard claims, management does not anticipate subsequent reserve adjustments, if any, to materially affect the equity of CNA. Management will continue to monitor the potential liabilities with respect to Fibreboard asbestos claims and will make adjustments to claim reserves if warranted. During 1999, the Company paid approximately $1.1 billion from escrow to the Fibreboard Trust, which was established to administer claims pursuant to the Trilateral Agreement. TOBACCO LITIGATION Three insurance subsidiaries of the Company are defendants in a lawsuit arising out of policies allegedly issued to Liggett Group, Inc. (Liggett). Although it did not issue policies to Liggett, the Company also has been named as a defendant in this lawsuit, which was filed by Liggett and Brooke Group Holding Inc. in Delaware Superior Court, New Castle County on January 26, 2000. The lawsuit, which involves numerous insurers, concerns coverage issues relating to hundreds of tobacco-related claims asserted against Liggett over the past twenty years. However, Liggett only began submitting claims for coverage under the policies in January 2000. All of the policies issued by subsidiaries of the Company that have been located to date contain exclusions for tobacco-related claims. Based on facts and circumstances currently known, management believes that the ultimate outcome of the pending litigation should not materially affect the financial condition of CNA. IGI CONTINGENCY In 1997, CNA Reinsurance Company Limited (CNA Re Ltd.) entered into an arrangement with IOA Global, Ltd. (IOA), an independent managing general agent based in Philadelphia, Pennsylvania, to develop and manage a book of accident and health coverages. Pursuant to this arrangement, IGI Underwriting Agencies, Ltd. (IGI), a personal accident reinsurance managing general underwriter, was appointed to underwrite and market the book under the supervision of IOA. Over the past three years, IGI bound CNA Re Ltd. on a number of reinsurance arrangements with respect to personal accident insurance worldwide (the IGI Program). Under various arrangements CNA Re Ltd. both assumed risks as a reinsurer and also ceded a substantial portion of those risks to other companies, including other CNA Insurance subsidiaries and ultimately a group of reinsurers participating in a reinsurance pool known as the Associated Accident and Health Reinsurance Underwriters (AAHRU) Facility. CNA's Group Health business unit participated as a pool member in the AAHRU Facility in varying percentages over the past three years. CNA has undertaken a review of the IGI Program and, among other things, has determined that approximately $20 million of premium was assumed by CNA Re Ltd. with respect to United States workers' compensation "carve-out" insurance. CNA is aware that a number of reinsurers with respect to such carve-out insurance have disavowed their obligations under various legal theories. If one or more such companies are successful in avoiding or reducing their liabilities, then it is likely that CNA's liability will also be reduced. Moreover, based on information known at this time, CNA reasonably believes it has strong grounds for avoiding altogether a substantial portion of its carve-out exposure through legal action. As noted, CNA arranged substantial reinsurance protection to manage its exposures under the IGI Program. Although CNA believes it CNA FINANCIAL CORPORATION 59 has valid and enforceable reinsurance contracts with the AAHRU Facility and other reinsurers with respect to United States workers' compensation carve-out business, it is unable to predict to what extent such reinsurers would dispute their liabilities to CNA. Legal actions could result, and the resolution of any such actions could take years. CNA has a reserve of $50 million as of December 31, 1999 with respect to the United States workers' compensation carve-out exposure it incurred through the IGI Program. These reserves were established net of estimated recoveries from retrocessionaires and the estimate of ultimate losses is subject to considerable uncertainty. As a result of these uncertainties, the results of operations in future years may be adversely affected by potentially significant reserve additions. Management does not believe that any such future reserve additions will be material to equity. OTHER LITIGATION CNA and its subsidiaries are also parties to other litigation arising in the ordinary course of business. The outcome of this other litigation will not, in the opinion of management, materially affect the results of operations or equity of CNA. NOTE G - REINSURANCE: - --------------------- CNA assumes and cedes insurance with other insurers and reinsurers and members of various reinsurance pools and associations. CNA utilizes reinsurance arrangements to limit its maximum loss, provide greater diversification of risk and minimize exposures on larger risks. The reinsurance coverages are tailored to the specific risk characteristics of each product line and CNA's retained amount varies by type of coverage. Generally, property risks are reinsured on an excess of loss, per risk basis. Liability coverages are generally reinsured on a quota share basis in excess of CNA's retained risk. CNA's life reinsurance includes coinsurance, yearly renewable term and facultative programs. The ceding of insurance does not discharge the primary liability of the Company. CNA places reinsurance with carriers only after careful review of the nature of the contract and a thorough assessment of the reinsurers' credit quality and claims settlement practices. Further, CNA generally requires collateral, primarily in the form of bank letters of credit from carriers that are not authorized reinsurers in CNA's states of domicile. Such collateral was approximately $1,191 million and $774 million at December 31, 1999 and 1998, respectively. CNA's largest recoverables from a single reinsurer, including prepaid reinsurance premiums, were approximately $788 and $510 million at December 31, 1999, and were with The Allstate Corporation (Allstate) and Lloyds of London, respectively. Insurance claims and policyholders' benefits are net of reinsurance recoveries of $3,272 million, $994 million and $1,309 million for 1999, 1998 and 1997, respectively. Life premiums are primarily from long duration contracts and property/casualty premiums and accident and health premiums are primarily from short duration contracts. The effects of reinsurance on earned premiums are shown in the following table: COMPONENTS OF EARNED PREMIUMS - ----------------------------------------------------------------------------- Year Ended December 31 (In millions of dollars) Direct Assumed Ceded Net - ----------------------------------------------------------------------------- 1999 EARNED PREMIUMS: Property/casualty $ 9,158 $ 1,816 $ 2,199 $ 8,775 Accident and health 3,730 198 397 3,531 Life 1,174 222 420 976 - ----------------------------------------------------------------------------- TOTAL 1999 EARNED PREMIUMS $14,062 $ 2,236 $ 3,016 $13,282 ============================================================================= 1998 EARNED PREMIUMS: Property/casualty $ 8,327 $ 1,549 $ 897 $ 8,979 Accident and health 3,745 176 256 3,665 Life 1,014 159 281 892 - ----------------------------------------------------------------------------- TOTAL 1998 EARNED PREMIUMS $13,086 $ 1,884 $ 1,434 $13,536 ============================================================================= 1997 EARNED PREMIUMS: Property/casualty $ 8,528 $ 1,101 $ 612 $ 9,017 Accident and health 3,723 259 280 3,702 Life 908 128 131 905 - ----------------------------------------------------------------------------- TOTAL 1997 EARNED PREMIUMS $13,159 $ 1,488 $ 1,023 $13,624 ============================================================================= 60 1999 ANNUAL REPORT The effects of reinsurance on written premiums are shown in the following table: COMPONENTS OF WRITTEN PREMIUMS - ----------------------------------------------------------------------------- Year Ended December 31 (In millions of dollars) Direct Assumed Ceded Net - ----------------------------------------------------------------------------- 1999 WRITTEN PREMIUMS: Property/casualty $ 9,114 $ 1,948 $ 3,262 $ 7,800 Accident and health 3,764 194 412 3,546 Life 1,177 196 429 944 - ----------------------------------------------------------------------------- TOTAL 1999 WRITTEN PREMIUMS $14,055 $ 2,338 $ 4,103 $12,290 ============================================================================= 1998 WRITTEN PREMIUMS: Property/casualty $ 8,765 $ 1,429 $ 969 $ 9,225 Accident and health 3,785 178 257 3,706 Life 1,014 159 281 892 - ----------------------------------------------------------------------------- TOTAL 1998 WRITTEN PREMIUMS $13,564 $ 1,766 $ 1,507 $13,823 ============================================================================= 1997 WRITTEN PREMIUMS: Property/casualty $ 8,576 $ 1,262 $ 693 $ 9,145 Accident and health 3,592 133 155 3,570 Life 908 128 131 905 - ----------------------------------------------------------------------------- TOTAL 1997 WRITTEN PREMIUMS $13,076 $ 1,523 $ 979 $13,620 ============================================================================= The impact of reinsurance on life insurance in-force is shown in the following table: COMPONENTS OF LIFE INSURANCE IN-FORCE - -------------------------------------------------------------------------- December 31 (In millions of dollars) Direct Assumed Ceded Net - -------------------------------------------------------------------------- 1999 $339,255 $ 130,735 $184,376 $285,614 1998 297,488 96,906 128,896 265,498 1997 235,468 76,130 74,262 237,336 ========================================================================== NOTE H - DEBT: Debt consists of the following obligations at December 31, 1999 and 1998: DEBT - ------------------------------------------------------------------------ December 31 (In millions of dollars) 1999 1998 - ------------------------------------------------------------------------ Variable rate debt: Commercial paper $ 675 $ 500 Credit facility - CNA 77 235 Credit facility - CNA Surety 100 113 Senior notes: 8.25%, due April 15, 1999 - 100 7.25%, due March 1, 2003 143 147 6.25%, due November 15, 2003 249 249 6.50% , due April 15, 2005 497 497 6.75%, due November 15, 2006 248 248 6.45%, due January 15, 2008 149 149 6.60%, due December 15, 2008 199 199 8.375%, due August 15, 2012 81 98 6.95%, due January 15, 2018 148 148 7.25% debenture, due November 15, 2023 247 247 11.0% secured mortgage notes, due June 30, 2013 - 157 6.9% - 17.02% secured capital leases, due through December 31, 2011 42 46 Other debt, due through 2019 (rates of 1.0% to 6.60%) 26 27 - ------------------------------------------------------------------------ TOTAL DEBT $2,881 $3,160 ======================================================================== CNA has a $795 million revolving credit facility (the Facility) that expires in May 2001. The amount available under the Facility is reduced by CNA's outstanding commercial paper borrowings. As of December 31, 1999, there was $43 million of unused borrowing capacity under the Facility. The interest rate on the Facility was equal to the London Interbank Offered Rate (LIBOR), plus 16 basis points. Additionally, there was an annual facility fee of 9 basis points on the entire facility. The average interest rate on the borrowings under the Facility, excluding facility fees, at December 31, 1999 and 1998, was 6.66% and 5.49%, respectively. The weighted-average interest rate on commercial paper at December 31, 1999 was 6.50% compared to 5.89% at December 31, 1998. Generally, commercial paper has a weighted average maturity of 40 days. To offset the variable rate characteristics of the Facility and the interest rate risk associated with periodically reissuing commercial paper, CNA is party to interest rate swap agreements with several banks, which have an aggregate notional principal amount of $650 million at both December 31, 1999 and 1998, and which terminate from May 2000 to December 2000. These agreements require CNA to pay interest at a fixed rate, averaging 6.07% at both December 31, 1999 and 1998, in exchange for the receipt of the three month LIBOR. The effect of the interest rate swaps was to increase interest expense CNA FINANCIAL CORPORATION 61 by approximately $4 million, $2 million and $4 million for the years ending December 31, 1999, 1998 and 1997, respectively. The combined weighted-average cost of borrowings, including facility fees, of the Facility, commercial paper borrowings and interest rate swaps was 6.47% and 6.36% at December 31, 1999 and 1998, respectively. On February 15, 2000, Standard & Poor's lowered the Company's senior debt rating from A- to BBB and lowered the Company's preferred stock rating from BBB to BB+. As a result of these actions the facility fee payable on the aggregate amount of the Facility was increased to 12 1/2 basis points per annum and the interest rate on the Facility was increased to LIBOR plus 27 1/2 basis points. In 1998, CNA issued $1 billion of senior notes under a $1 billion Registration Statement on Form S-3 filed with the Securities and Exchange Commission on August 18, 1997. This shelf registration incorporated $250 million of securities remaining available for issuance from a prior shelf registration. Since filing the shelf registration, the Company has issued senior notes in four separate offerings with an aggregate principal amount of $1 billion. On April 15, 1999, CNA retired $100 million of 8.25% senior notes. On August 2, 1999, the Company repaid its $157 million, 11% Secured Mortgage Notes, due June 30, 2013. The gain realized on the transaction was not significant. CNA Surety Corporation (CNA Surety), a 63% owned subsidiary of the Company, has entered into a $130 million, 5 year revolving credit facility that expires in September 2002. The interest rate on facility borrowings is based on LIBOR plus 20 basis points. Additionally, there is an annual facility fee of 10 basis points on the entire facility. The average interest rate on the borrowings under this facility, including facility fees, at December 31, 1999 and 1998, was 6.49% and 5.53%, respectively. The combined aggregate maturities for debt at December 31, 1999, are presented in the following table: MATURITY OF DEBT - ---------------------------------------------------------- Year Ended December 31 (In millions of dollars) - ---------------------------------------------------------- 2000 $ 3 2001 755 2002 103 2003 399 2004 5 Thereafter 1,632 Less original issue discount (16) - ---------------------------------------------------------- TOTAL $ 2,881 ========================================================== Commercial paper is reported as due in 2001 in the foregoing table because the commercial paper program is fully supported by the Facility. NOTE I - BENEFIT PLANS: - ------------------------ PENSION AND POSTRETIREMENT HEALTHCARE AND LIFE INSURANCE BENEFIT PLANS CNA sponsors noncontributory pension plans covering all full-time employees age 21 or over who have completed at least one year of service. While the terms of the plans vary, benefits are generally based on years of credited service and the employee's highest sixty consecutive months of compensation. CNA's funding policy is to make contributions in accordance with applicable governmental regulatory requirements. The assets of the plans are invested primarily in U.S. government securities with the balance in mortgage backed securities, equity investments and short-term investments. CNA provides certain health care benefits for eligible retirees, through age 64, and provides life insurance and reimbursement of Medicare Part B premiums for all eligible retired persons. The funding for these plans is generally to pay covered expenses as they are incurred. In 1999, the Company recorded curtailment and other related charges of approximately $8 million related to the transfer of personal lines insurance business to Allstate as discussed in Note O. This transaction resulted in a reduction of the pension and postretirement benefit obligations of $44 million and $2 million, respectively. A 1999 amendment to the postretirement plan that affected early retirement eligibility and level of employer subsidy resulted in a net reduction in the postretirement benefit obligation of approximately $40 million at December 31, 1999. Additionally, in 1999, the Company amended its benefit plans to introduce RSKCo Choice. The amendment resulted in a reduction in the pension and postretirement benefit obligations of approximately $10 million and $8 million, respectively. In 1998, CNA amended the Continental Post-Retirement Plan to make the benefits available to Continental retirees equivalent to the benefits available to CNA retirees. As a result of this amendment, the Company's consolidated postretirement benefit obligation was reduced by $99 million. The Company recorded curtailment charges of approximately $19 million in 1998 related to its restructuring activities as discussed in Note N. These curtailments resulted in a reduction of the pension and postretirement benefit obligations of $88 million and $34 million, respectively. 62 1999 ANNUAL REPORT The following table provides a reconciliation of benefit obligations: BENEFIT OBLIGATIONS AND ACCRUED BENEFIT COSTS - ----------------------------------------------------------------------------- POSTRETIREMENT PENSION BENEFITS BENEFITS ---------------- ----------------- (In millions of dollars) 1999 1998 1999 1998 - ----------------------------------------------------------------------------- Benefit obligation at January 1 $1,900 $1,780 $ 321 $ 377 Change in benefit obligation: Service cost 64 58 11 11 Interest cost 129 126 22 28 Participants' contributions - - 4 5 Plan amendments (10) - (48) (99) Actuarial gain (loss) (130) 118 (5) 67 Curtailment (44) (88) (2) (34) Special termination benefits 3 - - - Acquisition 2 - - - Benefits paid (99) (94) (35) (34) - ----------------------------------------------------------------------------- Benefit obligation at December 31 1,815 1,900 268 321 - ----------------------------------------------------------------------------- Fair value of plan assets at January 1 1,424 1,313 - - Change in plan assets: Actual return on plan assets (17) 105 - - Acquisition 2 - - - Company contributions 142 100 31 29 Participants' contributions - - 4 5 Benefits paid (99) (94) (35) (34) - ----------------------------------------------------------------------------- Fair value of plan assets at December 31 1,452 1,424 - - - ----------------------------------------------------------------------------- Funded status (363) (476) (268) (321) Unrecognized net actuarial loss 173 239 41 51 Unrecognized prior service cost (benefit) 39 60 (132) (97) - ----------------------------------------------------------------------------- ACCRUED BENEFIT COST $ (151) $ (177) $ (359) $ (367) ============================================================================= The components of net periodic benefit costs are presented in the following table: NET PERIODIC BENEFIT COSTS - -------------------------------------------------------------------------- POSTRETIREMENT PENSION BENEFITS BENEFITS Year ended December 31 ------------------ ----------------- (In millions of dollars) 1999 1998 1997 1999 1998 1997 - -------------------------------------------------------------------------- Service cost $ 64 $ 58 $ 54 $ 11 $ 11 $ 10 Interest cost on projected benefit obligation 129 126 119 22 28 25 Expected return on plan assets (100) (97) (98) - - - Prior service cost amortization 6 10 11 (13) (4) - Actuarial loss 8 4 6 3 1 - Transition amount amortization - (2) (5) - - - Curtailment loss 8 17 - - 2 - - -------------------------------------------------------------------------- NET PERIODIC BENEFIT COST $ 115 $ 116 $ 87 $ 23 $ 38 $ 35 ========================================================================== Actuarial assumptions are set forth in the following table: ACTUARIAL ASSUMPTIONS - ------------------------------------------------------------------------------ POSTRETIREMENT PENSION BENEFITS BENEFITS ------------------- -------------------- December 31 1999 1998 1997 1999 1998 1997 - ------------------------------------------------------------------------------ Discount rate 7.75% 6.75% 7.25% 7.75% 6.75% 7.25% Expected return on plan assets 8.00 7.00 7.50 N/A N/A N/A Rate of compensation increases 5.70 5.70 5.70 N/A N/A N/A - ------------------------------------------------------------------------------ CNA FINANCIAL CORPORATION 63 The assumed health care cost trend rate used in measuring the accumulated postretirement benefit obligation was 8% in 1999, declining to an ultimate rate of 5% in 2002. The health care cost trend rate assumption has a significant effect on the amount of the benefit obligation and periodic cost reported. An increase in the assumed health care cost trend rate of 1% in each year would increase the accumulated postretirement benefit obligation as of December 31, 1999 by $12 million and the aggregate net periodic postretirement benefit cost for 1999 by $2 million. A decrease in the assumed health care cost trend rate of 1% in each year would decrease the accumulated postretirement benefit obligation as of December 31, 1999 by $11 million and the aggregate net periodic postretirement benefit cost for 1999 by $2 million. SAVINGS PLANS CNA sponsors savings plans, which are generally contributory plans, that allow employees to make regular contributions of up to 16% of their salary, subject to contain limitations prescribed by the Internal Revenue Service. CNA contributes an additional amount equal to 70% of the first 6% of salary contributed by the employee. Contributions by the Company to the savings plans were $23 million, $25 million and $23 million in 1999, 1998 and 1997, respectively. STOCK OPTIONS The Board of Directors approved the CNA Long-Term Incentive Plan (the LTI Plan) during the third quarter of 1999, which authorizes the grant of options to certain management personnel for up to 2.0 million shares of the Company's common stock. All options granted have 10-year terms and vest ratably over the four-year period following the date of grant. The number of shares available for the granting of options under the LTI Plan as of December 31, 1999, was approximately 1.7 million. The following table presents activity under the LTI Plan during 1999: OPTION PLAN ACTIVITY - --------------------------------------------------------------------- Weighted Average Option Number of Price Per Shares Share - --------------------------------------------------------------------- Balance at January 1, 1999 - $ - Options granted 294,900 35.21 Options forfeited 3,600 35.09 Options exercised - - - --------------------------------------------------------------------- Balance at December 31, 1999 291,300 $ 35.21 ===================================================================== The weighted-average remaining contractual life of options granted was 9.6 years and the range of exercise prices on those options was $35.09 to $36.53. No options were exercisable at December 31, 1999. The fair value of granted options was estimated at the grant date using the Black-Scholes option-pricing model. The weighted-average fair value of options granted during 1999 was $11.82. The following weighted-average assumptions were used for the year ended December 31, 1999: risk free interest rate of 6.2%; expected dividend yield of 0.0%; expected option life of five years; and expected stock price volatility of 22.9%. CNA Surety has reserved shares of its common stock for issuance to directors, officers, employees and certain advisors of CNA Surety through incentive stock options, non-qualified stock options and stock appreciation rights under a separate plan (CNA Surety Plan). CNA Surety has also reserved shares of its common stock for issuance to Capsure Holdings Corp. (Capsure) option holders under the CNA Surety Corporation Replacement Stock Option Plan (Replacement Plan). The CNA Surety Plan and the Replacement Plan have an aggregate number of 3.0 million shares available for which options may be granted. At December 31, 1999, approximately 1.2 million options were outstanding under these two plans. The Company follows the financial disclosure provisions of Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" (Statement 123) with respect to its stock-based incentive plans. The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations, in accounting for its plan as permitted by Statement 123. Accordingly, no compensation cost has been recognized for any of the aforementioned plans, as the exercise price of the granted options equaled the market price of the underlying stock at the grant date. However, had the Company applied the fair value provision of Statement 123, the Company's net income, including the pro forma effect of the options issued under the CNA Surety Plan and the Replacement Plan, for the year ended December 31, 1999, would have been a loss of $131 million, or loss per share of $0.78. NOTE J - LEASES: - ---------------- CNA occupies facilities under lease agreements that expire at various dates through 2015. CNA's home office is partially situated on grounds under leases expiring in 2058. In addition, data processing, office and transportation equipment are leased under agreements that expire at various dates through 2004. Most leases contain renewal options that provide for rent increases based on prevailing market conditions. CNA has vacated certain owned and leased facilities in connection with its restructuring and other related activities (see Note N). These facilities have been leased or subleased under lease agreements that expire at various dates through 2014. Lease expense for the years ended December 31, 1999, 1998 and 1997 was $81 million, $134 million and $105 million, respectively. Sublease income for the years ended December 31, 1999, 1998 and 1997 was $7 million, $5 million and $5 million, respectively. The table on the following page presents the future minimum lease payments to be made under non-cancelable operating leases along with lease and sublease future minimum receipts to be received on owned and leased properties at December 31, 1999. 64 1999 ANNUAL REPORT FUTURE LEASE PAYMENTS AND RECEIPTS - --------------------------------------------------------------------------- Future Minimum Lease Future Minimum Lease (In millions of dollars) Payments Receipts - --------------------------------------------------------------------------- 2000 $ 163 $ 45 2001 103 44 2002 90 41 2003 72 39 2004 47 38 Thereafter 153 306 - --------------------------------------------------------------------------- TOTAL $ 628 $ 513 =========================================================================== NOTE K - STOCKHOLDERS' EQUITY AND STATUTORY FINANCIAL INFORMATION: - ------------------------------------------------------------------
SUMMARY OF CAPITAL STOCK - ----------------------------------------------------------------------------------------------------- Number of Shares December 31 1999 1998 - ----------------------------------------------------------------------------------------------------- Preferred stock, without par value, non-voting: Authorized 12,500,000 12,500,000 Money market cumulative preferred stock, without par value, non-voting; Issued and outstanding: Series E (stated value $100,000 per share) 750 750 Series F (stated value $100,000 per share) 750 750 Cumulative, exchangeable preferred stock, without par value, non-voting; Series G (stated value $100,000 per share) -- 2,000 Common stock with par value of $2.50; Authorized 500,000,000 200,000,000 Issued 185,525,907 185,525,907 Outstanding 184,406,931 183,889,569 Treasury stock 1,118,976 1,636,338 - -----------------------------------------------------------------------------------------------------
On May 20, 1999, the Company increased the number of authorized shares of common stock from 200,000,000 to 500,000,000. On May 6, 1998, CNA's Board of Directors approved a three-for-one split of the Company's common stock which increased the outstanding common shares from 61,798,262 to 185,394,786. The shares were distributed on June 1, 1998 to shareholders of record on May 22, 1998. The dividend rate on money market preferred stock is determined approximately every 49 days by auction. The money market preferred stock is redeemable at CNA's option, as a whole or in part, at $100,000 per share plus accrued and unpaid dividends. As of December 31, 1999, preferred dividends declared and payable were approximately $7 million. On February 15, 2000, the Company announced its intention to purchase or redeem all outstanding shares of its money market preferred stock. On August 5, 1998, CNA's Board of Directors approved a plan (the Share Repurchase Program) to purchase, in the open market or through privately negotiated transactions, its outstanding common stock from time to time, as the Company's management deems appropriate. During 1998, pursuant to the announced Share Repurchase Program, CNA purchased 2,734,800 shares of its common stock for approximately $102 million. Total shares classified on the December 31, 1999 and December 31, 1998 balance sheets as treasury stock are 1,118,976 and 1,636,338, respectively, resulting in a decrease in stockholders' equity of approximately $41 million and $61 million, respectively. On October 9, 1998, CNA filed a Registration Statement on Form S-8 with the Securities and Exchange Commission registering $60 million of $2.50 par value common stock, to be offered pursuant to the CNA Officer Stock Ownership Plan. On October 9, 1998, prior to the opening of the trading session on the New York Stock Exchange, CNA sold 1,229,583 shares of common stock that were held in treasury to certain senior officers of CNA at the average of the highest and lowest sale price on the New York Stock Exchange composite transactions, which was at a price of $34.91 per share. The purchases were financed by full recourse, collateralized loans from CNA, which, at December 31, 1998, were $44 million, including accrued interest. The loans are ten year notes, which bear interest at the Applicable Federal Rate (AFR) for October 1998 (5.39%), compounding semi-annually. During 1999, CNA sold an additional 507,362 shares of common stock that were held in treasury to certain senior officers of CNA, at the average of the highest and lowest sale prices on the New York Stock Exchange composite transactions, for the dates of the sales. The purchases were financed by full recourse, collateralized loans from CNA which at December 31, 1999, totaling approximately $20 million, including accrued interest. The loans are ten-year notes, which bear interest at the AFR for March 1999 (5.23%) and August 1999 (6.14%), compounding semi-annually. On December 23, 1998, CNA issued 2,000 shares of Series G cumulative, exchangeable preferred stock to Loews for $200 million. On June 30, 1999 CNA repurchased the Series G preferred stock from Loews. STATUTORY ACCOUNTING PRACTICES CNA's insurance subsidiaries are domiciled in various jurisdictions. These subsidiaries prepare statutory financial statements in accordance with accounting practices prescribed or otherwise permitted by the respective jurisdictions' insurance regulators. Prescribed statutory accounting practices are set forth in a variety of publications of the National Association of Insurance Commissioners as well as state laws, regulations, and general administrative rules. The Company's insurance subsidiaries have no material permitted accounting practices. CNA's ability to pay dividends to its stockholders is affected, in CNA FINANCIAL CORPORATION 65 part, by receipt of dividends from its subsidiaries. The payment of dividends to CNA by its insurance subsidiaries without prior approval of the insurance department of each subsidiary's domiciliary jurisdiction is limited by formula. Dividends in excess of these amounts are subject to pre-approval by the respective state insurance departments. As of December 31, 1999, approximately $887 million of dividend payments would not be subject to insurance department pre-approval. Combined statutory capital and surplus and net income (loss), determined in accordance with accounting practices prescribed by the regulations and statutes of various insurance regulators, for property/casualty and life insurance subsidiaries are as follows: STATUTORY INFORMATION - ------------------------------------------------------------------------------- Statutory Capital and Statutory Net Surplus Income(Loss) ---------------------- -------------------------- December 31 Year Ended December 31 (Unaudited) ---------------------- -------------------------- (In millions of dollars) 1999 1998 1999 1998 1997 - ------------------------------------------------------------------------------- Property/casualty companies* $8,679 $7,593 $361 $161 $1,043 Life insurance companies 1,222 1,109 77 (57) 43 - ------------------------------------------------------------------------------- * Surplus includes equity of property/casualty companies' ownership in life insurance subsidiaries. NOTE L - COMPREHENSIVE INCOME: - ------------------------------ Comprehensive income is comprised of all changes to stockholders' equity, except those changes resulting from transactions with stockholders in their capacity as stockholders. The components of comprehensive income are shown below: COMPREHENSIVE INCOME
- ------------------------------------------------------------------------------------------- Year ended December 31 (In millions of dollars) 1999 1998 1997 - ------------------------------------------------------------------------------------------- Net income (loss) $(130) $ 282 $ 966 Other comprehensive income: Change in unrealized gains/losses on general account investments: Holding gains (losses) arising during the period 729 925 567 Unrealized losses (gains) at beginning of period included in realized gains/losses during the period (413) (207) (186) - ------------------------------------------------------------------------------------------- Net change in unrealized gains/losses on general account 316 718 381 investments Net change in unrealized gains (losses) on separate (74) 5 - accounts and other Foreign currency translation adjustment (42) 7 19 Minority interest and other 24 (6) (9) - ------------------------------------------------------------------------------------------- Other comprehensive income, before tax 224 724 391 Deferred income tax expense related to other comprehensive (100) (249) (101) income - ------------------------------------------------------------------------------------------- Other comprehensive income, net of tax 124 475 290 - ------------------------------------------------------------------------------------------- TOTAL COMPREHENSIVE INCOME (LOSS) $ (6) $ 757 $1,256 ===========================================================================================
In the preceding table, deferred income tax expense related to other comprehensive income is attributable to each of the components of other comprehensive income in equal proportion except for the foreign currency translation adjustment, for which there are no deferred taxes. The following table displays the components of accumulated other comprehensive income included in the consolidated balance sheets at December 31, 1999 and 1998. ACCUMULATED OTHER COMPREHENSIVE INCOME - ----------------------------------------------------------------- December 31 (In millions of dollars) 1999 1998 - ----------------------------------------------------------------- Foreign currency translation adjustment $ 31 $ 73 Net unrealized gains on investments 1,157 991 - ----------------------------------------------------------------- ACCUMULATED OTHER COMPREHENSIVE INCOME $1,188 $1,064 ================================================================= 66 1999 ANNUAL REPORT NOTE M - BUSINESS SEGMENTS: - --------------------------- CNA conducts its operations through seven operating segments: Agency Market Operations, Specialty Operations, CNA Re, Global Operations, Risk Management, Group Operations and Life Operations. In addition to the seven operating segments, certain other activities are reported in a Corporate segment. These segments reflect the way in which CNA distributes its products to the marketplace and the way in which it manages operations and makes business decisions. Agency Market Operations provides a wide range of property/casualty products to individuals and small to mid-size businesses. Specialty Operations provides a broad array of professional, financial and specialty property/casualty products and services. CNA Re offers primarily traditional property/casualty treaty reinsurance. Global Operations provides marine, casualty, surety, warranty and specialty products. Risk Management serves the property/casualty needs of large domestic commercial businesses by offering customized, solution-based strategies to address risk management needs. Group Operations offers a broad array of group life and health insurance and reinsurance products to employers, affinity groups and other entities that purchase insurance as a group. Life Operations provides financial protection to individuals through a full product line of term life insurance, universal life insurance, long-term care insurance and annuities and provides retirement service products to institutional markets. Corporate segment results consist of interest expense on corporate borrowings, certain run-off insurance operations, asbestos claims related to Fibreboard Corporation, financial guarantee insurance contracts, and certain non-insurance operations, principally the operations of AMS Services, Inc. (AMS), an information technology and agency software development subsidiary. See Note O to the consolidated financial statements regarding the sale of a significant portion of the Company's investment in AMS during 1999. The accounting policies of the segments are the same as those described in the summary of significant accounting polices. The Company manages its assets on a legal entity basis while segment operations are conducted across legal entities, as such assets are not readily identifiable by individual segment. In addition, distinct investment portfolios are not maintained for each segment, and accordingly, allocation of assets to each segment is not performed. Therefore investment income and realized investment gains/losses are allocated based on each segment's net carried insurance reserves, as adjusted. All intersegment income and expense has been eliminated. Risk Management's other revenues and expenses in 1999 include revenues for services provided by RSKCoSM to other units within the Risk Management segment that are eliminated at the consolidated level. Such intrasegment revenue and expenses eliminated at the consolidated level were $176 million for the year ended December 31, 1999. Income taxes have been allocated on the basis of the taxable income of the segments. Approximately 97% of the Company's premiums are derived from the United States. Premiums from any individual foreign country are not significant. Group Operations' revenues include $2.1 billion, $2.0 billion and $2.1 billion in 1999, 1998 and 1997, respectively, under contracts covering U.S. government employees and their dependents (FEHBP). SEGMENT RESULTS
- ---------------------------------------------------------------------------------------------------------- Agency Year Ended December 31, 1999 Market Specialty Global Risk (In millions of dollars) Operations Operations CNA Re Operations Management - ---------------------------------------------------------------------------------------------------------- Net earned premiums $ 4,799 $ 1,001 $ 1,176 $ 1,010 $ 801 Benefits and Expenses 5,791 1,166 1,369 1,037 936 Restructuring and other related charges 60 - - - - - ---------------------------------------------------------------------------------------------------------- Underwriting gain (loss) (1,052) (165) (193) (27) (135) Net investment income 686 235 161 132 154 Other revenues 80 19 4 120 316 Other expenses 77 30 - 100 307 Non-insurance restructuring & related charges - - - - 10 - ---------------------------------------------------------------------------------------------------------- Pre-tax operating income (loss) (363) 59 (28) 125 18 Income tax benefit (expense) 162 (10) 15 (33) 1 Minority interest - - - (28) - - ---------------------------------------------------------------------------------------------------------- Net operating income (loss) (excluding realized investment gains (losses)) (201) 49 (13) 64 19 Realized investment gains, net of tax and minority interest 75 38 21 15 19 Cumulative effect of a change in accounting principle, net of tax (93) (3) - (3) (74) - ---------------------------------------------------------------------------------------------------------- Net income (loss) $ (219) $ 84 $ 8 $ 76 $ (36) ==========================================================================================================
Group Life Operations Operations Corporate Eliminations Total - --------------------------------------------------------------------- $ 3,571 $ 936 $ 35 $ (47) $ 13,282 3,706 1,331 228 (224) 15,340 5 - - - 65 - --------------------------------------------------------------------- (140) (395) (193) 177 (2,123) 130 556 47 - 2,101 40 123 204 (196) 710 46 68 387 (19) 996 - - 8 - 18 - --------------------------------------------------------------------- (16) 216 (337) - (326) 10 (71) 137 - 211 - - (2) - (30) - --------------------------------------------------------------------- (6) 145 (202) - (145) 4 (31) 51 - 192 (2) (2) - - (177) - --------------------------------------------------------------------- $ (4) $ 112 $ (151) $ - $ (130) ===================================================================== CNA FINANCIAL CORPORATION 67 SEGMENT RESULTS (CONTINUED)
- ---------------------------------------------------------------------------------------------------------- Agency Year Ended December 31, 1998 Market Specialty Global Risk (In millions of dollars) Operations Operations CNA Re Operations Management - ---------------------------------------------------------------------------------------------------------- Net earned premiums $ 5,247 $ 1,092 $ 944 $ 941 $ 823 Benefits and Expenses 6,050 1,251 1,005 991 1,018 Restructuring and other related charges 96 5 1 1 - - ---------------------------------------------------------------------------------------------------------- Underwriting gain (loss) (899) (164) (62) (51) (195) Net investment income 744 245 163 110 144 Other revenues 48 27 5 82 230 Other expenses 52 44 11 80 227 Non-insurance restructuring & related charges - - - - 88 - ---------------------------------------------------------------------------------------------------------- Pre-tax operating income (loss) (159) 64 95 61 (136) Income tax benefit (expense) 105 (6) (27) (18) 48 Minority interest - - - (25) - - ---------------------------------------------------------------------------------------------------------- Net operating income (loss) (excluding realized investment gains (losses)) (54) 58 68 18 (88) Realized investment gains, net of tax and minority interest 171 57 27 17 31 - ---------------------------------------------------------------------------------------------------------- Net income (loss) $ 117 $ 115 $ 95 $ 35 $ (57) ==========================================================================================================
- --------------------------------------------------------------------- Group Life Operations Operations Corporate Eliminations Total - --------------------------------------------------------------------- $ 3,733 $ 823 $ (26) $ (41) $ 13,536 3,903 1,225 308 (57) 15,694 39 3 - - 145 - --------------------------------------------------------------------- (209) (405) (334) 16 (2,303) 133 525 82 - 2,146 24 115 284 (16) 799 31 68 360 - 873 - 4 9 - 101 - --------------------------------------------------------------------- (83) 163 (337) - (332) 35 (58) 121 - 200 - - 5 - (20) - --------------------------------------------------------------------- (48) 105 (211) - (152) 29 82 20 - 434 - --------------------------------------------------------------------- $ (19) $ 187 $ (191) $ - $ 282 ===================================================================== SEGMENT RESULTS (CONTINUED)
- ---------------------------------------------------------------------------------------------------------- Agency Year Ended December 31, 1997 Market Specialty Global Risk (In millions of dollars) Operations Operations CNA Re Operations Management - ---------------------------------------------------------------------------------------------------------- Net earned premiums $ 5,092 $ 1,251 $ 898 $ 854 $ 776 Benefits and expenses 5,491 1,397 991 858 974 - ----------------------------------------------------------------------------------------------------------- Underwriting gain(loss) (399) (146) (93) (4) (198) Net investment income 787 268 153 117 158 Other revenues 50 14 7 29 194 Other expenses 6 10 5 26 216 - ----------------------------------------------------------------------------------------------------------- Pre-tax operating income (loss) 432 126 62 116 (62) Income tax benefit (expense) (106) (31) (11) (35) 25 Minority interest - - - (29) - - ----------------------------------------------------------------------------------------------------------- Net operating income (loss) (excluding realized investment gains/(losses) 326 95 51 52 (37) Realized investment gains, net of tax and minority interest 187 63 34 20 37 - ----------------------------------------------------------------------------------------------------------- NET INCOME (LOSS) $ 513 $ 158 $ 85 $ 72 $ - ===========================================================================================================
- --------------------------------------------------------------------- Group Life Operations Operations Corporate Eliminations Total - --------------------------------------------------------------------- $ 3,936 $ 797 $ 20 $ - $ 13,624 4,069 1,158 323 (24) 15,237 - --------------------------------------------------------------------- (133) (361) (303) 24 (1,613) 117 501 108 - 2,209 17 105 249 (37) 628 19 58 267 (13) 594 - --------------------------------------------------------------------- (18) 187 (213) - 630 10 (66) 82 - (132) - - 19 - (10) - --------------------------------------------------------------------- (8) 121 (112) - 488 28 124 (15) - 478 - --------------------------------------------------------------------- $ 20 $ 245 $ (127) $ - $ 966 ===================================================================== 68 1999 ANNUAL REPORT NOTE N - RESTRUCTURING AND OTHER RELATED CHARGES: - ------------------------------------------------- The Company finalized and approved a restructuring plan (the Plan) in August 1998. In connection with the Plan, the Company incurred various expenses that were recorded in the third and fourth quarters of 1998 and throughout 1999. These restructuring and other related charges primarily related to the following activities: planned reductions in the workforce; the consolidation of certain processing centers; the exiting of certain businesses and facilities; the termination of lease obligations; and the writeoff of certain assets related to these activities. The Plan contemplates a gross reduction in workforce of 4,500 employees, resulting in a planned net reduction of approximately 2,400 employees. As of December 31, 1999, the Company had completed essentially all aspects of the Plan. The Company accrued $220 million of these restructuring and other related charges in the third quarter of 1998 (the Initial Accrual). Other charges such as parallel processing costs, relocation costs, and retention bonuses, did not qualify for accrual under GAAP and have been charged to expense as incurred (Period Costs). The Company incurred Period Costs of $83 million and $26 million during 1999 and the fourth quarter of 1998, respectively. The Company incurred restructuring and other related charges of $246 million in 1998 that were comprised of the Initial Accrual and fourth quarter Period Costs, and which included the following: a) costs and benefits related to planned employee terminations of $98 million, of which $53 million related to severance and outplacement costs, $24 million related to other employee transition related costs and $21 million related to benefit plan curtailment costs; b) writedown of certain assets to their fair value of $74 million, of which $59 million related to a writedown of an intangible asset, and $15 million of abandoned leasehold improvements and other related fixed assets associated with leases that were terminated as part of the restructuring plan; c) lease termination costs of $42 million; d) losses incurred on the exiting of certain businesses of $32 million. The 1998 restructuring and other related charges incurred by Agency Market Operations were approximately $96 million. These charges included employee severance and outplacement costs of $43 million related to the planned net reduction in the workforce of approximately 1,200 employees. Lease termination costs of approximately $29 million were incurred in connection with the consolidation of four regional offices into two zone offices and a reduction of the number of claim processing offices from 24 to 8. The Agency Market Operations charges also included benefit plan curtailment costs of $12 million, parallel processing charges of $7 million and $5 million of fixed asset writedowns. Through December 31, 1998, approximately 364 Agency Market Operations employees, the majority of whom were loss adjusters and office support staff had been released. The 1999 Period Costs incurred by Agency Market Operations were approximately $60 million. These charges included employee related expenses (outplacement, retention bonuses and relocation costs) of $23 million, parallel processing costs of $16 million and consulting expenses of $10 million. Other charges, including technology and facility charges, were approximately $15 million. Additionally, Agency Market Operations reduced its estimate for lease termination costs by $4 million during 1999. During 1999, approximately 1,000 Agency Market Operations employees, the majority of whom were office support staff, were released. The 1998 restructuring and other related charges incurred by Risk Management were approximately $88 million. These charges included lease termination costs associated with the consolidation of claim offices in 36 market territories of approximately $8 million. In addition, employee severance and outplacement costs relating to the planned net reduction in workforce of approximately 200 employees were approximately $10 million and the writedown of fixed and intangible assets was approximately $64 million. Parallel processing and other charges were approximately $6 million. Through December 31, 1998, approximately 152 Risk Management employees had been released, the majority of whom were claim adjusters and office support staff. The charges related to fixed and intangible assets were primarily due to a writedown of an intangible asset (goodwill) related to Alexsis, Inc., a wholly owned subsidiary acquired by the Company in 1995 that provided claims administration services for unrelated parties. As part of the Company's periodic reviews of asset recoverability and as a result of several adverse events, the Company concluded, based on an undiscounted cash flow analysis completed in the third quarter of 1998, that an impairment existed, and based on a discounted cash flow analysis, that a $59 million writeoff was necessary. The adverse events contributing to this conclusion included operating losses from the business, the loss of several significant customers whose business volume with this operation constituted a large portion of the revenue base, and substantial changes in the overall market demand for the services offered by this operation which, in turn, had negative effects on the prospects for achieving the profitability levels necessary to recover the intangible asset. The 1999 Period Costs incurred by Risk Management were approximately $10 million. These charges included employee related expenses of $3 million and parallel processing charges of $3 million. Other charges, including consulting and facility charges, were approximately $7 million. Additionally, Risk Management reduced its estimate for lease termination costs by $2 million and its estimate of employee severance costs by $1 million during 1999. During 1999, approximately 136 Risk Management employees were released, the majority of whom were claims adjusters and office support staff. The 1998 restructuring and other related charges incurred by Group Operations were approximately $39 million. These charges included approximately $29 million of costs related to the Company's decision to exit the Employer Health and Affinity lines of business. These costs represent the Company's estimate of losses in connection with fulfilling the remaining obligations under contracts. Earned premiums for these lines of business were approximately $400 million in 1998. The 1998 charges also included employee severance and outplacement costs of approximately $7 million related to the planned net reduction in workforce of approximately 400 employees. Charges CNA FINANCIAL CORPORATION 69 for lease termination costs and fixed asset writedowns were $3 million. Through December 31, 1998, approximately 56 Group Operations employees had been released. The majority of the released employees were claims and sales support staff. The 1999 Period Costs incurred by Group Operations were approximately $5 million. These charges include $7 million of employee severance and related charges. Additionally, Group Operations reduced its estimate for business exit costs by $2 million during 1999. During 1999, approximately 300 Group Operations employees were released, the majority of whom were claims adjusters and sales support staff. For the other segments of the Company, restructuring and other related charges were approximately $23 million in 1998. Charges related primarily to the closing of leased facilities were $3 million and employee severance and outplacement costs related to planned net reductions of 600 employees in the current workforce and benefit costs associated with those reductions were $13 million. In addition, there were charges of $4 million related to the writedown of certain assets and $3 million related to the exiting of certain businesses. Through December 31, 1998, approximately 270 employees of these other segments, most of whom were underwriters and office support staff, had been released. For the other segments of the Company, Period Costs were approximately $8 million for 1999. These charges were primarily for employee termination related costs. Through December 31, 1999, approximately 600 employees of these other segments, most of whom were underwriters and office support staff, had been released. The following table sets forth the major categories of the Initial Accrual and the activity in the accrual during 1998 and 1999. ACCRUED RESTRUCTURING AND OTHER RELATED CHARGES
- ----------------------------------------------------------------------------------------------- Employee Termination and Lease Related Benefit Writedown Termination Business (In millions of dollars) Costs of Assets Costs Exit Costs Total - ----------------------------------------------------------------------------------------------- Initial Accrual $72 $74 $42 $32 $220 Payments charged against liability (14) - - - (14) Costs that did not require cash (21) (74) - - (95) - ----------------------------------------------------------------------------------------------- Accrued costs at December 31, 1998 37 - 42 32 111 Payments charged against liability (32) - (9) (15) (56) Reduction in estimated costs (1) - (6) (2) (9) - ----------------------------------------------------------------------------------------------- Accrued costs at December 31, 1999 $4 $- $27 $15 $ 46 ================================================================================================
NOTE O - SIGNIFICANT TRANSACTIONS: - ---------------------------------- PERSONAL INSURANCE TRANSACTION On October 1, 1999, certain subsidiaries of CNA completed a transaction with Allstate, whereby CNA's personal lines insurance business and related employees were transferred to Allstate. Approximately $1.1 billion of cash and $1.1 billion of additional assets (primarily premium receivables and deferred policy acquisition costs) were transferred to Allstate, and Allstate assumed $2.2 billion of claim and claim adjustment expense reserves. Additionally, CNA received $140 million in cash which consisted of (i) $120 million in ceding commission for the reinsurance of the CNA personal insurance business by Allstate, and (ii) $20 million for an option exercisable during 2002 to purchase 100% of the common stock of five CNA insurance subsidiaries at a price equal to GAAP carrying value as of the exercise date. Also, CNA invested $75 million in a ten year equity-linked note issued by Allstate. CNA will continue to write new and renewal personal insurance policies and to reinsure this business with Allstate companies, until such time as Allstate exercises its option to buy the five CNA subsidiaries. Prior to 2002, the Company will concentrate the direct writing of personal lines insurance business into the five optioned companies, such that most, if not all, business related to this transaction will be written by those companies by the date Allstate exercises its option. CNA continues to have primary liability on policies reinsured by Allstate. CNA will continue to have an ongoing interest in the profitability of CNA's personal lines insurance business and the related successor business through an agreement licensing the "CNA Personal Insurance" trademark and a portion of CNA's Agency Market Operations distribution system to Allstate for use in Allstate's personal insurance agency business for a period of five years. Under this agreement, CNA will receive a royalty fee based on the business volume of personal insurance policies sold through the CNA agents for a period of six years. In addition, the $75 million equity-linked note will be redeemed on September 30, 2009 (subject to earlier redemption on stated contingencies) for an amount equal to the face amount plus or minus an amount not exceeding $10 million, depending on the underwriting profitability of the CNA personal insurance business. CNA also shares in any reserve development related to claim and claim adjustment expense reserves transferred to Allstate at the transaction date. Under the reserve development sharing agreement, 80% of any favorable or adverse reserve development up to $40 million and 90% of any favorable or adverse reserve development in excess of $40 million inure to CNA. CNA's obligation with respect to unallocated loss adjustment expense reserves was settled at the transaction date, and is therefore not subject to the reserve sharing arrangement. 70 1999 ANNUAL REPORT The retroactive portion of the reinsurance transaction, consisting primarily of the cession of claim and claim adjustment expense reserves approximating $1.0 billion, was not recognized as reinsurance because criteria for risk transfer was not met for this portion of the transaction. The related consideration paid was recorded as a deposit and is included in reinsurance receivables in the consolidated balance sheets. The prospective portion of the transaction, which as of the transaction date consisted primarily of the cession of $1.1 billion of unearned premium reserves, has been recorded as reinsurance. The related consideration paid was recorded as prepaid reinsurance premiums. Premiums ceded after the transaction date will follow this same treatment. The $20 million received from Allstate for the option to purchase the five CNA subsidiaries was deferred and will not be recognized until Allstate exercises its option, at which time it will be recorded in realized gains and losses. CNA recognized an after-tax realized loss of approximately $39 million related to the transaction, consisting primarily of the accrual of lease obligations and the write-down of assets that related specifically to the Personal Insurance lines of business. The ceding commission related to the prospective portion of the transaction will be recognized in proportion to the recognition of the unearned premium reserve to which it relates. $51 million of the ceding commission was earned in 1999. Royalty fees earned in 1999 were approximately $7 million. The Personal Insurance lines transferred to Allstate contributed net earned premiums of $1,354 million, $1,622 million and $1,607 million and pre-tax operating income of $89 million, $97 million and $237 million for the nine months ended September 30, 1999 and the years ended December 31, 1998 and 1997, respectively. SALE OF AMS SERVICES, INC. On November 30, 1999, CNA sold the majority of its interest in AMS Services, Inc. (AMS), a software development company serving the insurance agency market. Prior to the sale, CNA owned 89% of AMS and consolidated AMS in its financial statements. As a result of the sale, CNA owns 9% of AMS and therefore AMS is no longer consolidated. CNA recognized an after-tax gain of $21 million on the sale. Total assets of AMS as of the sale date were approximately $135 million. CNA's share of the AMS' operating results were $206 million, $264 million, and $216 million of operating revenue and $8 million, $28 million, and $10 million of operating losses, for the eleven months ended November 30, 1999, and the years ended December 31, 1998 and 1997, respectively. MERGER WITH CAPSURE HOLDINGS CORP. In the fourth quarter of 1996, CNA entered into a merger agreement with Capsure Holdings Corp. (Capsure) to merge CNA's surety business with the business of Capsure and form a new stock company, CNA Surety Corporation (CNA Surety), of which CNA owns approximately 63%. The transaction closed on September 30, 1997 and was accounted for as a sale of approximately 39% of CNA's previous surety business and a purchase of 61% of Capsure. In conjunction with the closing of the transaction, CNA realized an investment gain of $95 million. CNA Surety's results of operations have been included in CNA's consolidated results of operations, net of minority interest subsequent to September 30, 1997. At December 31, 1997, total assets of CNA Surety were $727 million. CNA Surety's revenues and net income for the three months ended December 31, 1997 were approximately $71 million and $11 million, respectively. CNA FINANCIAL CORPORATION 71 NOTE P - UNAUDITED QUARTERLY FINANCIAL DATA: - -------------------------------------------- UNAUDITED QUARTERLY FINANCIAL DATA
- ------------------------------------------------------------------------------------------ (In millions of dollars, except per share data) First Second Third Fourth Year - -------------------------------------------------------------------------------------------- 1999 QUARTERS Revenues $4,386 $4,387 $3,922 $3,708 $16,403 Net operating income (loss) excluding realized gains/losses 28 45 82 (300) (145) Net realized investment gains (losses) 144 109 (53) (8) 192 - -------------------------------------------------------------------------------------------- Net Income (loss) before cumulative effect of a change in accounting principle 172 154 29 (308) 47 Cumulative effect of a change in accounting principle, net of tax (177) - - - (177) - -------------------------------------------------------------------------------------------- Net income (loss) $ (5) $ 154 $ 29 $ (308) $ (130) ============================================================================================ Basic and diluted earnings (loss) per share $(0.05) $ 0.82 $ 0.15 $(1.68) $ (0.77) ============================================================================================ 1998 QUARTERS Revenues $4,354 $4,466 $4,170 $4,172 $17,162 Net operating income (loss) excluding realized gains/losses 117 64 (70) (263) (152) Net realized investment gains 116 146 56 116 434 - ------------------------------------------------------------------------------------------ Net income (loss) $ 233 $ 210 $ (14) $ (147) $ 282 ========================================================================================== Earnings (loss) per share $ 1.25 $ 1.12 $(0.09) $(0.81) $ 1.49 ========================================================================================== 1997 QUARTERS Revenues $4,172 $4,273 $4,337 $4,417 $17,199 Net operating income excluding realized gains/losses 136 126 121 105 488 Net realized investment gains 42 109 153 174 478 - ------------------------------------------------------------------------------------------ Net income $ 178 $ 235 $ 274 $ 279 $ 966 ========================================================================================== Earnings per share $ 0.95 $ 1.26 $ 1.47 $ 1.49 $ 5.17 ==========================================================================================
72 1999 ANNUAL REPORT NOTE Q- RELATED PARTY TRANSACTIONS: - ----------------------------------- CNA reimburses or pays directly to Loews for management fees, travel and related expenses, and expenses of investment facilities and services provided to CNA. Amounts paid to Loews amounted to approximately $13 million, $13 million and $11 million in 1999, 1998 and 1997, respectively. CNA and its eligible subsidiaries are included in the consolidated Federal income tax return of Loews and its eligible subsidiaries. See Note D for a detailed description of the income tax agreement between the Company and Loews. Note D also includes payments made between the Company and Loews pursuant to this agreement. CNA writes, at standard rates, a limited amount of insurance for Loews and its affiliates. The total premiums from Loews and its affiliates were $5 million for 1999, and $6 million for 1998 and 1997. CNA assumes the risk for a limited amount of insurance from R.V.I. Guaranty Company, Inc. (RVI), a 50% owned affiliate. CNA assumed approximately $5 million in written premiums from RVI during 1999. CNA sponsors a stock ownership plan whereby the Company finances the purchase of Company stock by certain executive officers. See Note K for a detailed discussion of this plan. CNA FINANCIAL CORPORATION 73 INDEPENDENT AUDITORS' REPORT THE BOARD OF DIRECTORS AND STOCKHOLDERS OF CNA FINANCIAL CORPORATION: We have audited the consolidated balance sheets of CNA Financial Corporation (an affiliate of Loews Corporation) and subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the over financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of CNA Financial Corporation and subsidiaries as of December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1999 in conformity with generally accepted accounting principles. As discussed in Note A to the consolidated financial statements, the Company changed its method of accounting for liabilities for insurance-related assessments in 1999. DELOITTE & TOUCHE LLP Chicago, Illinois February 23, 2000 74 1999 ANNUAL REPORT DIRECTORS - ------------------------------------------ Antoinette Cook Bush 1,2,3 Partner Skadden, Arps, Slate, Meagher & Flom LLP Dennis H. Chookaszian 2*,3 Chairman and Chief Executive Officer mPower Ronald L. Gallatin 1,2,3,4 Independent Consultant Robert P. Gwinn 1,2,3,4 Retired Chairman and Chief Executive Officer Encyclopedia Britannica Bernard L. Hengesbaugh 2,3 Chairman and Chief Executive Officer CNA Insurance Companies Walter F. Mondale 1,2,3 Partner Dorsey & Whitney LLP Edward J. Noha 2,3 Chairman of the Board CNA Financial Corporation Joseph Rosenberg 2,3 Senior Investment Strategist Loews Corporation James S. Tisch 2,3* Chief Executive Officer and President Loews Corporation Laurence A. Tisch 2,3 Chief Executive Officer CNA Financial Corporation Co-Chairman of the Board Loews Corporation Preston R. Tisch 2,3 Co-Chairman of the Board Loews Corporation Marvin Zonis 1*,2,3,4 Professor of International Political Economy University of Chicago Graduate School of Business COMMITTEES OF THE BOARD: - ----------------------------------- 1. Audit 2. Executive 3. Finance 4. Incentive Compensation * indicates committee chairperson OFFICERS - ----------------------------------- Laurence A. Tisch Chief Executive Officer CNA Financial Corporation Bernard L. Hengesbaugh Chairman and Chief Executive Officer CNA Insurance Companies Robert V. Deutsch Senior Vice President and Chief Executive Officer CNA Financial Corporation Jonathan D. Kantor Senior Vice President, General Counsel and Secretary CNA Financial Corporation Thomas F. Taylor Executive Vice President CNA Insurance Companies CNA FINANCIAL CORPORATION 75 COMPANY INFORMATION - ---------------------------------------------------------------- COMPANY HEADQUARTERS CNA Financial Corporation CNA Plaza 333 South Wabash Avenue Chicago, Illinois 60685 312-822-5000 www.cna.com STOCKHOLDER INFORMATION - ---------------------------------------------------------------- CNA's common stock is listed on the New York Stock Exchange, the Chicago Stock Exchange and the Pacific Exchange, and is traded on the Philadelphia Stock Exchange. Its trading symbol is CNA. SHARES OUTSTANDING As of March 15, 2000, CNA had 184 million shares of common stock outstanding. Approximately 86 percent of CNA's outstanding common stock is owned by Loews Corporation. CNA had 2,634 stockholders of record at March 15, 2000. COMMON STOCK INFORMATION The table below shows the high and low closing sales prices for CNA's common stock based on the New York Stock Exchange Composite Transactions. No dividends have been paid on CNA's common stock in order to develop and maintain a strong surplus position for CNA's insurance subsidiaries, which is necessary to support growth in an increasingly competitive environment. CNA's ability to pay dividends is influenced, in part, by dividend restrictions of its principal operating insurance subsidiaries as described in Note K to the Consolidated Financial Statements. COMMON STOCK INFORMATION - -------------------------------------------------------------------- 1999 1998 ------------------------------------------ Quarter HIGH LOW High Low - -------------------------------------------------------------------- Fourth 42 1/8 33 15/16 44 11/16 34 1/2 Third 41 1/4 34 5/16 47 35 1/8 Second 45 5/16 35 1/16 53 5/16 45 1/2 First 41 33 51 42 1/16 - -------------------------------------------------------------------- ANNUAL MEETING The Annual Meeting of Stockholders will be held at 10:00 a.m. Central time on Thursday, May 11, 2000, in Room 207N, CNA Plaza, 333 South Wabash Avenue, Chicago. Shareholders unable to attend are requested to exercise their right to vote by proxy. Proxy materials will be mailed to shareholders prior to the meeting. FORM 10-K A copy of CNA Financial Corporation's annual report on Form 10-K, which is filed with the Securities and Exchange Commission, will be furnished to shareholders without charge upon written request to: Jonathan D. Kantor Senior Vice President, General Counsel and Secretary CNA Financial Corporation CNA Plaza, 43 South Chicago, Illinois 60685 INDEPENDENT AUDITORS Deloitte & Touche LLP 180 North Stetson Avenue Chicago, Illinois 60601 INVESTOR RELATIONS Donald P. Lofe, Jr. Group Vice President, Corporate Finance CNA Financial Corporation CNA Plaza, 22 South Chicago, Illinois 60685 312-822-3993 TRANSFER AGENT AND REGISTRAR - ---------------------------------------------------------------- First Chicago Trust Company, a Division of EquiServe P.O. Box 2500 Jersey City, New Jersey 07303-2500 TELEPHONE Inside the United States 1-800-446-2617 Outside the United States 1-201-324-0498 TDD/TTY for hearing impaired 1-201-222-4955 (Operators are available Monday - Friday, 8:30 a.m. to 7:00 p.m. Eastern time. An interactive automated system is available around the clock every day.) INTERNET http://www.equiserve.com CERTIFICATE TRANSFERS BY MAIL EquiServe P.O. Box 2589 Jersey City, New Jersey 07303-2506 CERTIFICATE TRANSFERS BY PRIVATE COURIER EquiServe Transfer Department 525 Washington Boulevard Jersey City, New Jersey 07310 CERTIFICATE TRANSFERS BY MESSENGER EquiServe c/o Securities Transfer and Reporting Service, Inc. 100 William Street, Galleria New York, New York 10038 76 1999 ANNUAL REPORT APPENDIX OMITTED GRAPH MATERIAL AND OTHER Exhibit 13.1 - CNA Financial Corporation Annual Report: * Bar graphs of: - Revenues for the period 1989 and 1999. - Assets for the period of 1989 through 1999. - Stockholders' equity for the period 1989 through 1999. - Book value per common share 1989 through 1999. (See page 5 of Exhibit 13.1 for a table showing the data points used in the above graphs. The following is on outquote located in the margins from the "Letters to Our Shareholders', found on pages 4 through 7 of the annual report. "Completing our turn-around plan lays the essential underwriting and management foundation for making our vision a bottom-line success." EX-27 7 ARTICLE 7 FDS FOR 10-K
7 0000021175 CNA FINANCIAL CORPORATION 1,000,000 12-MOS DEC-31-1999 JAN-1-1999 DEC-31-1999 27,248 0 0 3,610 44 3 35,560 153 8,023 2,436 61,219 33,352 5,103 121 710 2,881 0 150 464 8,324 61,219 13,282 2,101 315 705 11,900 2,143 2,169 (11) (88) 47 0 0 (177) (130) (0.77) (0.77) 21,869 7,287 1,027 2,744 7,460 20,358 1,027
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