CNA Financial Corporation — Q2 2013 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2013. Unaudited consolidated results; amounts are in millions except per-share data and ratios. CNA acquired Hardy in July 2012, so 2013 includes Hardy while the comparable 2012 periods do not.
Financial performance
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Total revenues | $2,493 | $2,246 | $4,996 | $4,647 |
| Net earned premiums | $1,800 | $1,668 | $3,564 | $3,317 |
| Net investment income | $578 | $470 | $1,211 | $1,118 |
| Net realized investment gains (losses) | $(14) | $22 | $14 | $58 |
| Net operating income | $204 | $152 | $435 | $378 |
| Net income | $194 | $166 | $444 | $416 |
| Diluted EPS | $0.72 | $0.62 | $1.64 | $1.54 |
| Dividends per share | $0.20 | $0.15 | $0.40 | $0.30 |
- Q2 net income rose $28 million and six-month net income rose $28 million year over year. Higher net operating income more than offset weaker realized investment results.
- Operating income before tax was $290 million in Q2 and $625 million for the first half; the filing reports income tax expense of $86 million and $190 million, respectively.
- Q2 net investment income increased mainly on stronger limited partnership results; fixed-maturity income declined as new investments earned lower rates. Six-month fixed-maturity effective income yield was 5.2%, versus 5.4% in 2012.
Balance sheet, cash flow and liquidity
- At June 30, total assets were $57.6 billion, total liabilities $45.6 billion and stockholders’ equity $11.9 billion. At December 31, 2012, the respective figures were $58.5 billion, $46.2 billion and $12.3 billion.
- Cash was $121 million, down from $156 million at year-end. Total investments were $46.3 billion, versus $47.6 billion.
- Six-month operating cash flow was $569 million, compared with $618 million in 2012; investing cash use was $471 million versus $510 million, and financing cash use was $127 million versus $83 million. Cash ended the period at $121 million.
- Short-term debt was $13 million and long-term debt $2.558 billion, essentially unchanged from year-end. Long-term debt fair value was estimated at $2.912 billion. No amount was outstanding under the $250 million revolving credit facility.
- Management said current cash flows were sufficient for expected working-capital and debt needs. Subsidiary CCC paid $200 million in dividends to CNAF in the first half and could pay approximately $500 million more during the remainder of 2013 without prior Illinois regulatory approval.
- The board declared a $0.20-per-share quarterly dividend on July 26, payable August 28, 2013. Future dividends remain subject to board discretion and regulatory constraints.
Operating segments and material changes
- CNA Specialty: Q2 net income was $144 million versus $112 million; the combined ratio improved to 90.4% from 94.4%. Six-month combined ratio improved to 92.7% from 95.8%. Average renewal rates rose 7% in both periods cited by management; retention was 84% in Q2.
- CNA Commercial: Q2 net income was $104 million versus $65 million, but the combined ratio worsened to 111.7% from 108.1%. The six-month combined ratio was 109.3% versus 107.2%. Q2 net written premiums fell $63 million, partly due to underwriting actions and a transfer of $44 million of in-force business; renewal rates increased 9% and retention was 75%.
- CNA Commercial’s Q2 results included a $30 million after-tax benefit from workers’ compensation residual-market litigation, recorded in other revenues and excluded from the combined ratio. Unfavorable prior-year reserve development included $23 million after tax related to a New York law change affecting the Fund for Reopened Cases.
- Hardy: Reported a Q2 net loss of $2 million and six-month net loss of $9 million. Results included adverse prior-year development related mainly to 2011 catastrophes, including Thailand floods and the New Zealand Lyttelton earthquake, as well as purchase-accounting and foreign-currency costs.
- Life & Group Non-Core: Net loss was $36 million in Q2 versus income of $6 million; the first-half loss was $27 million versus $5 million. Management attributed the deterioration mainly to higher long-term-care claim volume and unfavorable morbidity in Q2.
- Consolidated favorable net prior-year development was $13 million in Q2 and $52 million in the first half, versus $75 million and $118 million in the comparable 2012 periods. Q2 catastrophe losses, net of reinsurance, were $65 million pretax ($43 million after tax); first-half losses were $104 million pretax ($68 million after tax).
Investments, outlook and risks
- Other comprehensive loss was $601 million in Q2 and $705 million for the first half, largely reflecting declines in unrealized investment gains; accumulated other comprehensive income fell from $831 million at year-end to $126 million. This reduced reported equity but was separate from net income.
- At June 30, 91% of the fixed-maturity portfolio was investment grade, compared with 92% at year-end. Gross unrealized losses on available-for-sale securities were $440 million, versus $155 million at year-end. Management attributed losses mainly to market conditions, interest rates and credit spreads, and reported no additional impairment based on its intent and ability to hold the securities.
- Standard & Poor’s upgraded CNA’s property-and-casualty insurance financial-strength ratings to A with a stable outlook and CNAF senior debt to BBB in June 2013.
- The filing provides no specific earnings or revenue guidance. Management’s near-term liquidity view was positive, but results remain exposed to reserve-estimation uncertainty, catastrophe losses, long-term-care claims, reinsurance performance, investment-market volatility, regulatory changes, and the integration and performance of acquired operations.
- Routine litigation was described as not material based on currently known facts. A joint-venture office lease guarantee could require up to approximately $92 million in future payments beyond amounts recorded if other shareholders fail to fund their obligations; management said this was unlikely. Quantifiable indemnifications outstanding totaled $724 million; recorded liabilities were approximately $7 million.
Most important facts for investors to verify
- Whether Specialty’s underwriting improvement and Commercial’s elevated combined ratio persist, and how much reported earnings depend on the $30 million after-tax litigation settlement benefit.
- Developments in reserve adequacy, especially Commercial workers’ compensation and general liability, Hardy catastrophe-related reserves, and long-term-care morbidity.
- Investment portfolio sensitivity to interest rates and credit spreads, including unrealized losses, impairment assessments and limited-partnership returns.
- Cash generation, subsidiary dividend capacity, debt obligations and the board’s future dividend decisions.
- Exposure to catastrophe claims, reinsurance recoveries, legacy asbestos and environmental liabilities, and the disclosed guarantees and indemnifications.