CNO

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended June 30, 2006, for Conseco, Inc. (also referred to as CNO Financial Group, Inc. in the request metadata, though the filing identifies the registrant as Conseco, Inc.). The company is a holding company for a group of insurance companies operating in the United States, focusing on supplemental health insurance, annuities, and individual life insurance. The company operates through two primary segments: Bankers Life (career agents and direct marketing) and Conseco Insurance Group (independent producers), along with an Other Business in Run-off segment and corporate operations.

Key Financial Metrics

Revenue and Profit (Six Months Ended June 30, 2006):

• Total Revenues: $2,205.8 million (up from $2,134.7 million in 2005).
• Net Income: $42.3 million (down significantly from $169.9 million in 2005).
• Net Income Applicable to Common Stock: $23.3 million (down from $150.9 million in 2005).
• Earnings Per Share (Basic): $0.15 (down from $1.00 in 2005).
• Income Before Taxes: $66.2 million (down from $267.1 million in 2005).

Balance Sheet Highlights (as of June 30, 2006):

• Total Assets: $31,551.2 million (flat compared to $31,557.3 million at Dec 31, 2005).
• Total Liabilities: $27,254.6 million.
• Total Shareholders' Equity: $4,296.6 million (down from $4,519.8 million).
• Investments: Total investments were $24,361.7 million, with actively managed fixed maturities at fair value totaling $21,690.8 million.
• Cash and Cash Equivalents: $245.4 million ($206.2 million unrestricted, $39.2 million restricted).

Cash Flow (Six Months Ended June 30, 2006):

• Net Cash Provided by Operating Activities: $471.2 million (down from $655.9 million in 2005).
• Net Cash Used by Investing Activities: $379.9 million.
• Net Cash Used by Financing Activities: $122.9 million.

Debt and Liquidity:

• Notes Payable (Direct Corporate Obligations): $805.5 million.
• Investment Borrowings: $350.4 million.
• Debt to Total Capital Ratio: 16%.

Material Changes vs. Prior Period

The most significant material change was a sharp decline in profitability driven by litigation costs. Costs related to a tentative litigation settlement totaled $174.7 million for the six months ended June 30, 2006, compared to only $5.9 million in the same period in 2005. This settlement relates to the "Cost of Insurance Litigation" involving life insurance policies.

Additionally, Accumulated Other Comprehensive Income (Loss) swung from a positive $71.7 million at year-end 2005 to a negative $445.6 million at June 30, 2006. This $517.3 million decrease was primarily due to a decline in the fair value of actively managed fixed maturity investments.

Segment performance varied significantly:

• Bankers Life: Reported income before taxes of $131.8 million, an increase from $129.6 million in 2005, driven by growth in premium collections.
• Conseco Insurance Group: Reported a loss before taxes of $55.0 million, a stark contrast to the $134.8 million profit in 2005, almost entirely due to the $165.8 million litigation settlement charge.
• Other Business in Run-off: Income before taxes dropped to $32.4 million from $47.4 million, reflecting adverse development in prior period claim reserves for long-term care products.

Guidance, Outlook, Risks, and Unusual Items

Unusual Items:

• Litigation Settlement: The company announced a tentative settlement of the "Cost of Insurance Litigation" on August 1, 2006. The settlement involves policy benefit enhancements and a settlement fund for former policyholders. The company recorded $157.0 million in the second quarter and $17.7 million in the first quarter of 2006 related to this matter.
• Investment Writedowns: The company recorded $3.5 million in writedowns of investments deemed to have other-than-temporary declines in fair value during the first six months of 2006.

Risks and Contingencies:

• Long-Term Care (LTC) Reserves: The "Other Business in Run-off" segment continues to face adverse claim experience on LTC products, particularly in Florida. The company is seeking rate increases and has implemented improved claim adjudication processes.
• Regulatory Actions: The company settled a market conduct examination with the Minnesota Commerce Department, paying a $2.5 million fine. Management estimates potential additional costs from this settlement will not exceed $5 million beyond current accruals.
• Director and Officer Loans: The company is actively collecting on loans to former directors and officers. Approximately $30.1 million is estimated to be collectible, with $22.2 million payable to former trust preferred security holders.
• Interest Rate Risk: The company holds a significant portfolio of fixed maturities ($21.7 billion). Changes in interest rates affect the fair value of these assets and the amortization of insurance acquisition costs.

Outlook:

Management expects the execution of premium rate increases on long-term care products to continue over the next four quarters. The company anticipates that the loss recognized in the first half of 2006 related to the Medicare Part D quota-share agreement will be offset by income in later periods. No specific financial guidance for the full year was provided in this text.

Investor Verification Checklist

• Litigation Settlement Finality: Verify the status of the "Cost of Insurance Litigation" settlement, including court approval and the final cost impact, as the $174.7 million charge was based on a tentative agreement.
• Long-Term Care Reserve Adequacy: Monitor the "Other Business in Run-off" segment for further adverse development in LTC claim reserves and the success of rate increase filings in various states.
• Investment Portfolio Performance: Review the $932.1 million in gross unrealized losses on fixed maturities to assess the risk of future "other-than-temporary" impairment charges.
• Regulatory Compliance: Track the outcome of the Minnesota market conduct examination settlement and any potential additional claims from policyholders.
• Debt Covenants: Confirm continued compliance with the Amended Credit Facility covenants, specifically the debt-to-total capitalization ratio (currently 15%) and interest coverage ratios.