CNA Financial Corporation — Q3 2012 Form 10-Q
Reporting period: Three and nine months ended September 30, 2012. Amounts are in millions of dollars except per-share data. CNA is approximately 90% owned by Loews Corporation.
Financial performance
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Total revenue | $2,466 | $2,175 | $7,113 | $6,688 |
| Net earned premiums | $1,781 | $1,732 | $5,098 | $4,942 |
| Net investment income | $601 | $394 | $1,719 | $1,531 |
| Net operating income attributable to CNA | $216 | $91 | $594 | $418 |
| Net income attributable to CNA | $221 | $75 | $637 | $419 |
| Diluted EPS | $0.82 | $0.28 | $2.36 | $1.56 |
Management attributed stronger results principally to higher investment income, including substantially improved limited partnership results, and lower catastrophe losses. Net realized investment results also improved. Net investment income included limited partnership income of $89 million in Q3 2012, compared with a loss of $93 million in Q3 2011.
Nine-month operating cash flow was $993 million, versus $813 million in 2011. The company received a $75 million federal income tax refund during 2012. Investing activities used $747 million, including the Hardy acquisition; financing activities used $195 million. Cash at quarter-end was $129 million.
At September 30, total assets were $58.6 billion and stockholders’ equity was $12.7 billion. Short- and long-term debt totaled $2.57 billion, compared with $2.61 billion at year-end 2011. Cash plus short-term investments totaled $2.61 billion. Insurance reserves included $24.3 billion for claims and claim adjustment expenses, $3.7 billion of unearned premiums, and $11.0 billion of future policy benefits.
Material changes and operating results
- Revenue increased 13% in Q3 and 6% for the nine-month period; CNA-attributable net income rose to $221 million and $637 million, respectively.
- Net catastrophe losses were $27 million for Q3 and $123 million for the nine months, versus $50 million and $205 million in 2011. Favorable prior-year development was $47 million in Q3 and $165 million for nine months, compared with $72 million and $179 million in 2011.
- CNA Specialty’s combined ratio was 93.7% in Q3 and 95.1% year to date. CNA Commercial’s was 106.0% and 106.8%, respectively. Hardy reported an 85.8% Q3 combined ratio. Favorable reserve development contributed to results; CNA Commercial also cited workers’ compensation medical severity and commercial auto claim frequency as adverse factors.
- CNA acquired Hardy Underwriting Bermuda on July 2 for a purchase price of $231 million. Hardy contributed $64 million of earned premiums and $2 million of net income in the reported period. CNA described it as a platform for expanding through Lloyd’s; it expects to provide all capital for Hardy’s 2013 year of account.
- Common dividends were $0.15 per share for Q3, up from $0.10 a year earlier. A further $0.15 dividend was declared October 26, payable November 29.
Outlook, risks and unusual items
- No quantified earnings or revenue guidance is provided. Management stated it believes current cash flows are sufficient for expected working-capital and debt needs in the near term.
- A new four-year, $250 million unsecured revolving credit facility was established; it had no borrowings at September 30. The agreement includes minimum net-worth and leverage covenants. CNA also reported that subsidiary Continental Casualty repaid a $250 million surplus note to CNAF and paid a $300 million dividend.
- Investment income benefited from limited partnerships, which can be volatile. The fixed-maturity portfolio was 92% investment grade; 8% was non-investment grade. Net other-than-temporary impairment losses recognized in earnings were $64 million for Q3 and $114 million for nine months.
- Key risks include uncertainty in claim reserves, reinsurance recoverability and asbestos and environmental claims; catastrophe exposure; market, credit and interest-rate conditions; competition and pricing; regulation; and successful integration of Hardy. Management cautioned that actual reserve outcomes may differ from estimates.
- Potential commitments include up to $118 million in future lease payments under a joint-venture guarantee and $758 million of quantifiable indemnification agreements. CNA had recorded $14 million for indemnification liabilities and said significantly greater future claims were not considered likely. Routine litigation was described as not material.
- The company adopted updated insurance acquisition-cost accounting in 2012. The adoption decreased nine-month CNA net income by $3 million; comparative financial information was adjusted.
- Management concluded disclosure controls were effective. Hardy was excluded from the internal-control evaluation while integration is underway; CNA expected to complete integration by June 30, 2013.
Important facts for investors to verify
- Whether investment-income strength, particularly limited partnership results, is repeatable.
- Reserve adequacy and the sustainability of favorable prior-year development, especially given adverse trends cited in workers’ compensation and commercial auto.
- Hardy’s integration, underwriting performance, required capital commitments, and contribution after acquisition-related intangible amortization.
- Liquidity, debt covenant headroom, subsidiary dividend capacity, and the effect of catastrophe losses or regulatory constraints on capital and future dividends.
- Exposure to investment impairments, non-investment-grade and European holdings, and the stated contingencies and reinsurance recoverability risks.