ALL

Business Context and Reporting Period

This Form 10-Q covers The Allstate Corporation for the quarterly period ended March 31, 2003. The Company operates through four primary segments: Allstate Protection (Property-Liability), Discontinued Lines and Coverages, Allstate Financial (Life and Annuities), and Corporate and Other. The financial statements are unaudited and reflect normal recurring accruals.

Key Financial Metrics

Material Changes vs. Prior Period

• Net Income Surge: Net income increased by $570 million (600%) compared to Q1 2002. This was primarily driven by the absence of a $331 million after-tax goodwill impairment charge recorded in Q1 2002 due to a change in accounting principles (SFAS No. 142).
• Property-Liability Performance: Underwriting income improved significantly to $413 million from $43 million. The combined ratio improved by 6.1 points to 93.1%, driven by higher premiums earned, lower mold losses in Texas, and favorable prior year reserve reestimates. Catastrophe losses increased to $133 million but remained below historical averages.
• Allstate Financial Decline: Operating income for the Allstate Financial segment decreased 42.7% to $82 million. This was caused by accelerated amortization of deferred policy acquisition costs (DAC) totaling $89 million pre-tax due to poor equity market performance, lower mortality margins, and increased operating expenses.
• Investment Results: Realized capital losses decreased significantly to a net loss of $2 million (after-tax) compared to $103 million in the prior year, reflecting improved market conditions relative to the previous period.

Guidance, Outlook, and Risks

• Outlook: Management expects the pace of policy count decline to slow, with sequential quarterly increases in standard auto and homeowners policies in force by year-end. Advertising expenses are expected to increase by $75 million to $125 million in 2003.
• Accounting Changes: The Company adopted SFAS No. 148, beginning to expense the fair value of stock options granted after January 1, 2003, with an estimated annual impact of $5 million after-tax. The Company is assessing the impact of FIN 46 regarding the consolidation of Variable Interest Entities (VIEs).
• Legal Proceedings: Significant litigation includes nationwide class actions regarding the use of aftermarket auto parts, "inherent diminished value" claims, medical bill review processes, and worker classification issues. Management believes the ultimate liability, if any, is not expected to have a material effect on financial position.
• Reserve Uncertainty: Reserves for asbestos and environmental claims remain subject to significant uncertainty due to evolving legal theories and court decisions. Approximately 52% of these reserves are for incurred but not reported losses.
• Investment Risks: The Company faces potential risks regarding the definition of "other-than-temporary impairment" under pending EITF guidance, which could require the recognition of unrealized losses as realized losses.

Key Facts for Investor Verification

• Goodwill Impact: Verify the comparability of Q1 2003 results to Q1 2002, noting the $331 million non-cash goodwill impairment charge in 2002 that artificially depressed prior-year earnings.
• DAC Unlocking: Review the $89 million pre-tax acceleration of DAC amortization in Allstate Financial, driven by the reset of equity market return assumptions from 13.25% to 8%.
• Mold Losses: Confirm the reduction in Texas mold losses from $119 million in Q1 2002 to $16 million in Q1 2003, a key driver of the improved loss ratio.
• Policy Counts: Monitor the trend in Policies In Force (PIF), which declined in standard auto (-3.6%) and non-standard auto (-20.0%) segments due to strategic underwriting tightening.
• Liquidity: Note the Company's access to $1.20 billion in credit facilities and a commercial paper program with $880 million remaining capacity as of March 31, 2003.