Business Context and Reporting Period
The Hartford Financial Services Group, Inc. filed this unaudited Form 10-Q for the quarter and nine months ended September 30, 2015. The company provides U.S. property and casualty insurance, group benefits, mutual funds and legacy life and annuity products in runoff. Reporting segments include Commercial Lines, Personal Lines, Property & Casualty Other Operations, Group Benefits, Mutual Funds and Talcott Resolution.
The interim financial statements were reviewed by Deloitte & Touche LLP and prepared under U.S. GAAP. Prior-period amounts were reclassified where necessary, including the Japan business as discontinued operations following its 2014 sale.
Financial Performance and Position
| Metric | Q3 2015 | Q3 2014 | 9M 2015 | 9M 2014 |
|---|---|---|---|---|
| Earned premiums | $3,404 million | $3,337 million | $10,117 million | $9,958 million |
| Total revenues | $4,562 million | $4,769 million | $13,864 million | $13,997 million |
| Income from continuing operations, net of tax | $372 million | $388 million | $1,252 million | $1,004 million |
| Net income | $381 million | $388 million | $1,261 million | $416 million |
| Diluted EPS | $0.90 | $0.86 | $2.94 | $0.89 |
| Operating cash flow | Not separately provided | Not separately provided | $2,000 million | $895 million |
- Fee income declined 15% in the quarter and 10% year to date, primarily because of continued runoff of the Talcott Resolution variable annuity block.
- Net investment income decreased 10% in the quarter to $730 million and 3% year to date to $2,335 million, mainly due to lower income from limited partnerships and alternative investments.
- Net realized capital losses were $44 million in the quarter and $30 million year to date, compared with gains of $69 million and $30 million, respectively, in the prior-year periods. OTTI losses recognized in earnings were $40 million in the quarter and $63 million year to date.
- Core earnings, a non-GAAP measure, were $364 million in the quarter and $1,205 million year to date, compared with $477 million and $1,122 million, respectively, in 2014.
- Property and casualty written premiums increased 3% in the quarter, including 4% Commercial Lines growth and 1% Personal Lines growth. The combined ratio before catastrophes and prior-year development was 93.0% for the consolidated property and casualty businesses in the quarter, compared with 91.9% in the prior year.
- Q3 catastrophe losses were $76 million before tax, compared with $40 million in Q3 2014. Prior-year reserve strengthening was $37 million, compared with a $10 million release in the prior year.
- Group Benefits core earnings margin increased to 5.5% from 4.5% in Q3 2014. Talcott Resolution continuing-operations income increased to $72 million from $28 million, principally because of lower DAC amortization.
Balance Sheet, Debt and Liquidity
| Metric | September 30, 2015 | December 31, 2014 |
|---|---|---|
| Total assets | $231,453 million | $245,013 million |
| Total investments | $74,405 million | $76,278 million |
| Cash | $665 million | $399 million |
| Total debt | $5,526 million | $6,109 million |
| Stockholders’ equity | $18,204 million | $18,720 million |
| Debt to stockholders’ equity | 30% | 33% |
- Cash provided by operating activities was $2.0 billion, while investing activities provided $603 million and financing activities used $2.306 billion.
- The holding company had $2.1 billion of cash, short-term investments and fixed maturities at September 30, 2015. Expected next-twelve-month needs included $167 million of senior notes maturing in November 2015, approximately $335 million of interest payments and approximately $340 million of common dividends.
- The company redeemed $296 million of 4.0% senior notes for $317 million in May 2015, including a make-whole premium. It expected to repay $275 million of 5.5% senior notes at maturity in October 2016.
- No commercial paper or revolving-credit-facility borrowings were outstanding, and the company reported compliance with its credit-facility covenants.
- The company repurchased 18.6 million shares for $800 million during the first nine months and had $1.8 billion remaining under its repurchase authorization at September 30. The board had authorized total repurchases of up to $4.375 billion through December 31, 2016.
- Statutory surplus was $14.943 billion, including $8.415 billion for property and casualty subsidiaries and $6.528 billion for U.S. life subsidiaries.
Material Changes Versus the Prior Comparable Period
- Net income increased substantially for the first nine months, primarily because 2014 included a $659 million after-tax loss on the sale of the Japan business. Excluding that discontinued-operations effect, continuing-operations income increased 25% year to date.
- Quarterly net income declined modestly despite higher premiums, reflecting lower fee income and investment income, realized capital losses, higher catastrophe losses and unfavorable prior-year reserve development.
- Commercial Lines remained profitable but Q3 net income fell to $211 million from $280 million; Personal Lines fell to $19 million from $73 million.
- Property & Casualty Other Operations reported a nine-month loss of $72 million, improved from a $108 million loss, although the company strengthened asbestos reserves by $146 million and environmental reserves by $52 million during its annual evaluations.
- Accumulated other comprehensive income declined to $140 million from $928 million, primarily due to lower unrealized investment gains. Comprehensive income was $473 million year to date versus $1.572 billion in 2014.
- Talcott Resolution total account value declined 8% year over year to approximately $155.6 billion; variable annuity account value declined 18% to $44.5 billion. Variable annuity net outflows were approximately $6.2 billion year to date.
Guidance, Outlook, Risks and Unusual Items
- No formal earnings or revenue guidance is provided in the filing. Management expects net investment income, excluding limited partnerships and alternative investments, to decline if interest rates remain at current levels because reinvestment rates are lower.
- Management described insurance-operating liquidity as sufficient for anticipated needs over the next twelve months, but liquidity is subject to claims, surrender activity, asset sales, regulatory restrictions and market conditions.
- Key market exposures include interest rates, credit spreads, equity markets, foreign exchange rates, energy-sector credit, emerging markets and the performance of variable-annuity hedges. Wider credit spreads increased unrealized losses and contributed to lower investment valuations.
- Variable-annuity guarantees remain sensitive to equity markets, volatility, interest rates and policyholder behavior. The company reported $1.5 billion of retained net amount at risk for GMDB exposure and $0.2 billion for GMWB exposure at September 30, 2015.
- Derivative agreements could require additional collateral or settlement following ratings downgrades. Derivatives with credit-related contingent features had a $1.2 billion net liability fair value; the company had posted $1.6 billion of collateral in the ordinary course.
- Asbestos and environmental reserves were $2.0 billion net, within an estimated range of $1.6 billion to $2.4 billion. Management stated that ultimate liabilities could exceed recorded reserves and that additional losses could materially affect operating results or liquidity.
- The Mutual Funds Litigation seeks substantial damages relating to advisory and distribution fees; the company stated that the possible loss or range of loss could not reasonably be estimated.
- The company expects to adopt amended consolidation guidance using a modified retrospective approach on January 1, 2016, with no material effect expected on the consolidated financial statements.
Important Facts for Investors to Verify
- Reconcile reported net income with core earnings and identify the effect of tax valuation-allowance releases, discontinued operations, DAC unlocks, realized gains and losses, and reinsurance gains.
- Monitor commercial auto, asbestos and environmental reserve development, including the stated $1.6 billion to $2.4 billion reserve range.
- Assess the sensitivity of investment income and accumulated other comprehensive income to interest rates, credit spreads, energy-sector conditions and reinvestment yields.
- Review variable-annuity guarantee exposure, hedge effectiveness, policyholder behavior assumptions and potential collateral requirements after ratings changes.
- Evaluate the sustainability of share repurchases and dividends against holding-company liquidity, debt maturities and statutory dividend capacity.
- Track Talcott Resolution runoff, account values, net outflows and fee-income erosion, as well as the effect on DAC amortization and future earnings.
- Review the unresolved mutual-funds litigation, asbestos and environmental contingencies, regulatory developments and the proposed Department of Labor fiduciary rule.