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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Quarterly Period Ended June 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from ____________ to ______________
Commission file number 001-13958
THE HARTFORD FINANCIAL SERVICES GROUP, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 13-3317783
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
HARTFORD PLAZA, HARTFORD, CONNECTICUT 06115-1900
(Address of principal executive offices)
(860) 547-5000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No[ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [X] No[ ]
As of July 31, 2003, there were outstanding 282,409,553 shares of Common Stock,
$0.01 par value per share, of the registrant.
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- 1 -
INDEX
PAGE
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Independent Accountants' Review Report 3
PART I. FINANCIAL INFORMATION
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ITEM 1. FINANCIAL STATEMENTS 4
Condensed Consolidated Statements of Operations - Second Quarter
and Six Months Ended June 30, 2003 and 2002 4
Condensed Consolidated Balance Sheets - June 30, 2003 and December 31, 2002 5
Condensed Consolidated Statements of Changes in Stockholders' Equity -
Six Months Ended June 30, 2003 and 2002 6
Condensed Consolidated Statements of Comprehensive Income (Loss) - Second
Quarter and Six Months Ended June 30, 2003 and 2002 6
Condensed Consolidated Statements of Cash Flows - Six Months Ended
June 30, 2003 and 2002 7
Notes to Condensed Consolidated Financial Statements 8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 24
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 54
ITEM 4. CONTROLS AND PROCEDURES 54
PART II. OTHER INFORMATION
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ITEM 1. LEGAL PROCEEDINGS 54
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 55
Signature 56
Exhibits Index 57
- 2 -
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
To the Board of Directors and Stockholders of
The Hartford Financial Services Group, Inc.
Hartford, Connecticut
We have reviewed the accompanying condensed consolidated balance sheet of The
Hartford Financial Services Group, Inc. and subsidiaries (the "Company") as of
June 30, 2003, and the related condensed consolidated statements of operations
and comprehensive income (loss) for the second quarters and six months ended
June 30, 2003 and 2002, and changes in stockholders' equity and cash flows for
the six months ended June 30, 2003 and 2002. These interim financial statements
are the responsibility of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures and
making inquiries of persons responsible for financial and accounting matters. It
is substantially less in scope than an audit conducted in accordance with
auditing standards generally accepted in the United States of America, the
objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should
be made to such condensed consolidated interim financial statements for them to
be in conformity with accounting principles generally accepted in the United
States of America.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the consolidated balance sheet of the
Company as of December 31, 2002, and the related consolidated statements of
income, changes in stockholders' equity, comprehensive income and cash flows for
the year then ended (not presented herein); and in our report dated February 19,
2003, which includes an explanatory paragraph relating to the Company's change
in its method of accounting for goodwill and indefinite-lived intangible assets
in 2002, we expressed an unqualified opinion on those consolidated financial
statements. In our opinion, the information set forth in the accompanying
condensed consolidated balance sheet as of December 31, 2002 is fairly stated,
in all material respects, in relation to the consolidated balance sheet from
which it has been derived.
DELOITTE & TOUCHE LLP
Hartford, Connecticut
August 1, 2003
- 3 -
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
THE HARTFORD FINANCIAL SERVICES GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
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(IN MILLIONS, EXCEPT FOR PER SHARE DATA) 2003 2002 2003 2002
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(Unaudited) (Unaudited)
REVENUES
Earned premiums $ 2,812 $ 2,640 $ 5,661 $ 5,226
Fee income 656 672 1,273 1,334
Net investment income 810 726 1,606 1,432
Other revenues 147 120 269 233
Net realized capital gains (losses) 257 (166) 204 (173)
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TOTAL REVENUES 4,682 3,992 9,013 8,052
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BENEFITS, CLAIMS AND EXPENSES
Benefits, claims and claim adjustment expenses 2,629 2,482 7,874 4,898
Amortization of deferred policy acquisition costs and present value
of future profits 557 573 1,121 1,128
Insurance operating costs and expenses 625 560 1,192 1,094
Other expenses 242 177 422 364
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TOTAL BENEFITS, CLAIMS AND EXPENSES 4,053 3,792 10,609 7,484
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INCOME (LOSS) BEFORE INCOME TAXES 629 200 (1,596) 568
Income tax expense (benefit) 122 15 (708) 91
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NET INCOME (LOSS) $ 507 $ 185 $ (888) $ 477
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BASIC EARNINGS (LOSS) PER SHARE $ 1.89 $ 0.75 $ (3.39) $ 1.93
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DILUTED EARNINGS (LOSS) PER SHARE [1] $ 1.88 $ 0.74 $ (3.39) $ 1.91
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Weighted average common shares outstanding 268.8 247.4 262.1 246.7
Weighted average common shares outstanding and dilutive potential
common shares [1] 270.2 250.7 262.1 250.2
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Cash dividends declared per share $ 0.27 $ 0.26 $ 0.54 $ 0.52
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<FN>
[1] As a result of the net loss for the six months ended June 30, 2003,
Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings
Per Share", requires the Company to use basic weighted average common
shares outstanding in the calculation of the six months ended June 30,
2003 diluted earnings per share, since the inclusion of options of 1.0
would have been antidilutive to the earnings per share calculation. In the
absence of the net loss, weighted average common shares outstanding and
dilutive potential common shares would have totaled 263.1.
</FN>
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
- 4 -
THE HARTFORD FINANCIAL SERVICES GROUP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
JUNE 30, DECEMBER 31,
(IN MILLIONS, EXCEPT FOR SHARE DATA) 2003 2002
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(Unaudited)
ASSETS
Investments
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Fixed maturities, available for sale, at fair value (amortized cost of $53,185 and $46,241) $ 57,137 $ 48,889
Equity securities, available for sale, at fair value (cost of $614 and $937) 671 917
Policy loans, at outstanding balance 2,889 2,934
Other investments 1,493 1,790
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Total investments 62,190 54,530
Cash 429 377
Premiums receivable and agents' balances 2,822 2,611
Reinsurance recoverables 6,193 5,027
Deferred policy acquisition costs and present value of future profits 6,915 6,689
Deferred income taxes 765 545
Goodwill 1,721 1,721
Other assets 4,210 3,397
Separate account assets 122,556 107,078
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TOTAL ASSETS $ 207,801 $ 181,975
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LIABILITIES
Reserve for future policy benefits and unpaid claims and claim adjustment expenses
Property and casualty $ 21,068 $ 17,091
Life 8,915 8,567
Other policyholder funds and benefits payable 26,254 23,956
Unearned premiums 4,454 3,989
Short-term debt 514 315
Long-term debt 3,337 2,596
Company obligated mandatorily redeemable preferred securities of subsidiary trusts holding
solely junior subordinated debentures ("trust preferred securities") 1,296 1,468
Other liabilities 7,908 6,181
Separate account liabilities 122,556 107,078
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TOTAL LIABILITIES 196,302 171,241
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COMMITMENTS AND CONTINGENCIES (NOTE 5)
STOCKHOLDERS' EQUITY
Common stock - 750,000,000 shares authorized, 285,144,711 and 258,184,483 shares issued,
$0.01 par value 3 3
Additional paid-in capital 3,869 2,784
Retained earnings 5,857 6,890
Treasury stock, at cost - 2,945,592 and 2,943,565 shares (37) (37)
Accumulated other comprehensive income 1,807 1,094
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TOTAL STOCKHOLDERS' EQUITY 11,499 10,734
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TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 207,801 $ 181,975
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SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
- 5 -
THE HARTFORD FINANCIAL SERVICES GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
SIX MONTHS ENDED
JUNE 30,
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(IN MILLIONS, EXCEPT FOR SHARE DATA) 2003 2002
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COMMON STOCK/ADDITIONAL PAID-IN CAPITAL (Unaudited)
Balance at beginning of period $ 2,787 $ 2,364
Issuance of common stock in underwritten offering 1,161 --
Issuance of equity units (112) --
Issuance of shares and compensation expense associated with incentive and stock
compensation plans 32 83
Tax benefit on employee stock options and awards 4 17
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Balance at end of period 3,872 2,464
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RETAINED EARNINGS
Balance at beginning of period 6,890 6,152
Net income (loss) (888) 477
Dividends declared on common stock (145) (128)
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Balance at end of period 5,857 6,501
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TREASURY STOCK, AT COST
Balance at beginning of period (37) (37)
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Balance at end of period (37) (37)
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ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
Balance at beginning of period 1,094 534
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Change in net unrealized gain/loss on securities, net of tax 732 183
Change in net gain/loss on cash-flow hedging instruments, net of tax (38) 14
Foreign currency translation adjustments 19 (3)
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Total other comprehensive income 713 194
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Balance at end of period 1,807 728
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TOTAL STOCKHOLDERS' EQUITY $ 11,499 $ 9,656
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OUTSTANDING SHARES (IN THOUSANDS)
Balance at beginning of period 255,241 245,536
Issuance of common stock in underwritten offering 26,377 --
Issuance of shares under incentive and stock compensation plans 581 2,040
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Balance at end of period 282,199 247,576
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CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
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(IN MILLIONS) 2003 2002 2003 2002
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COMPREHENSIVE INCOME (LOSS) (Unaudited) (Unaudited)
Net income (loss) $ 507 $ 185 $ (888) $ 477
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OTHER COMPREHENSIVE INCOME (LOSS)
Change in net unrealized gain/loss on securities, net of tax 555 418 732 183
Change in net gain/loss on cash-flow hedging instruments, net of tax (15) 31 (38) 14
Foreign currency translation adjustments 10 1 19 (3)
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Total other comprehensive income 550 450 713 194
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TOTAL COMPREHENSIVE INCOME (LOSS) $ 1,057 $ 635 $ (175) $ 671
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SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
- 6 -
THE HARTFORD FINANCIAL SERVICES GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED
JUNE 30,
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(IN MILLIONS) 2003 2002
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(Unaudited)
OPERATING ACTIVITIES
Net income (loss) $ (888) $ 477
ADJUSTMENTS TO RECONCILE NET INCOME (LOSS) TO NET CASH PROVIDED BY OPERATING
ACTIVITIES
Amortization of deferred policy acquisition costs and present value of future profits 1,121 1,128
Additions to deferred policy acquisition costs and present value of future profits (1,568) (1,430)
Change in:
Reserve for future policy benefits and unpaid claims and claim adjustment expenses and
unearned premiums 4,791 795
Reinsurance recoverables (1,184) 24
Receivables (169) (214)
Payables and accruals (217) (121)
Accrued and deferred income taxes (739) 285
Net realized capital (gains) losses (204) 173
Depreciation and amortization 11 35
Other, net 382 (63)
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NET CASH PROVIDED BY OPERATING ACTIVITIES 1,336 1,089
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INVESTING ACTIVITIES
Purchase of investments (16,196) (8,368)
Sale of investments 8,960 4,967
Maturity of investments 1,928 1,254
Sale of affiliates -- 3
Additions to property, plant and equipment (72) (90)
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NET CASH USED FOR INVESTING ACTIVITIES (5,380) (2,234)
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FINANCING ACTIVITIES
Issuance of short-term debt, net -- 16
Issuance of long-term debt 918 --
Repayment of trust preferred securities (180) --
Issuance of common stock in underwritten offering 1,162 --
Net proceeds from investment and universal life-type contracts charged against
policyholder accounts 2,313 1,136
Dividends paid (138) (128)
Proceeds from issuance of shares under incentive and stock purchase plans 17 79
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NET CASH PROVIDED BY FINANCING ACTIVITIES 4,092 1,103
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Foreign exchange rate effect on cash 4 8
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Net increase (decrease) in cash 52 (34)
Cash - beginning of period 377 353
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CASH - END OF PERIOD $ 429 $ 319
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SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
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NET CASH PAID (RECEIVED) DURING THE PERIOD FOR:
Income taxes $ 45 $ (185)
Interest $ 133 $ 119
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
- 7 -
THE HARTFORD FINANCIAL SERVICES GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Dollar amounts in millions except per share data unless otherwise stated)
(unaudited)
NOTE 1. BASIS OF PRESENTATION AND ACCOUNTING POLICIES
(A) BASIS OF PRESENTATION
The Hartford Financial Services Group, Inc. and its consolidated subsidiaries
("The Hartford" or the "Company") provide investment products and life and
property and casualty insurance to both individual and business customers in the
United States and internationally.
The condensed consolidated financial statements have been prepared on the basis
of accounting principles generally accepted in the United States of America,
which differ materially from the accounting practices prescribed by various
insurance regulatory authorities. Subsidiaries in which The Hartford has at
least a 20% interest, but less than a majority ownership interest, are reported
on the equity basis. All material intercompany transactions and balances between
The Hartford, its subsidiaries and affiliates have been eliminated.
The accompanying condensed consolidated financial statements and the condensed
notes as of June 30, 2003, and for the second quarter and six months ended June
30, 2003 and 2002 are unaudited. These financial statements reflect all
adjustments (consisting only of normal accruals) which are, in the opinion of
management, necessary for the fair presentation of the financial position,
results of operations, and cash flows for the interim periods. These condensed
consolidated financial statements and condensed notes should be read in
conjunction with the consolidated financial statements and notes thereto
included in The Hartford's 2002 Form 10-K Annual Report. The results of
operations for the interim periods should not be considered indicative of
results to be expected for the full year.
(B) RECLASSIFICATIONS
Certain reclassifications have been made to prior period financial information
to conform to the current period classifications.
(C) USE OF ESTIMATES
The preparation of financial statements, in conformity with accounting
principles generally accepted in the United States of America, requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
The most significant estimates include those used in determining reserves for
future policy benefits and unpaid claim and claim adjustment expenses; deferred
policy acquisition costs; valuation of investments and derivative instruments;
pension and other postretirement benefits; and contingencies.
(D) SIGNIFICANT ACCOUNTING POLICIES
For a description of accounting policies, see Note 1 of Notes to Consolidated
Financial Statements included in The Hartford's 2002 Form 10-K Annual Report.
(E) ADOPTION OF NEW ACCOUNTING STANDARDS
In May 2003, the Financial Accounting Standards Board ("FASB") issued SFAS No.
150, "Accounting for Certain Financial Instruments with Characteristics of Both
Liabilities and Equity". SFAS No. 150 establishes standards for classifying and
measuring as liabilities certain financial instruments that embody obligations
of the issuer and have characteristics of both liabilities and equity.
Generally, SFAS No. 150 requires liability classification for two broad classes
of financial instruments: (a) instruments that represent, or are indexed to, an
obligation to buy back the issuer's shares regardless of whether the instrument
is settled on a net-cash or gross physical basis and (b) obligations that (i)
can be settled in shares but derive their value predominately from another
underlying instrument or index (e.g. security prices, interest rates, and
currency rates), (ii) have a fixed value, or (iii) have a value inversely
related to the issuer's shares. Mandatorily redeemable equity and written
options requiring the issuer to buyback shares are examples of financial
instruments that should be reported as liabilities under this new guidance.
SFAS No. 150 specifies accounting only for certain freestanding financial
instruments and does not affect whether an embedded derivative must be
bifurcated and accounted for in accordance with SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities".
SFAS No. 150 is effective for instruments entered into or modified after May 31,
2003 and for all other instruments beginning with the first interim reporting
period beginning after June 15, 2003. Adoption of this statement did not have a
material impact on the Company's consolidated financial condition or results of
operations.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN 46"), which requires an enterprise to assess
whether consolidation of an entity is appropriate based upon its interests in a
variable interest entity ("VIE"). A VIE is an entity in which the equity
investors do not have the characteristics of a controlling financial interest or
do not have sufficient equity at risk for the entity to finance its activities
without additional subordinated financial support from other parties. The
initial determination of whether an entity is a VIE shall be made on the date at
which an enterprise becomes involved with the entity. An enterprise shall
consolidate a VIE if it has a variable interest that will absorb a majority of
the VIE's expected losses if they occur, receive a majority of the entity's
expected residual returns if they occur or both. FIN 46 is effective immediately
for new VIEs established or purchased subsequent to January 31, 2003. For VIEs
entered into prior to February 1, 2003, FIN 46 is effective for interim periods
beginning after June 15, 2003. The adoption of FIN 46 did not have a material
impact on the Company's financial condition or results of operations as there
were no material VIEs identified which required consolidation. FIN 46 further
requires the disclosure of certain information related to VIEs in which the
Company holds a significant variable interest. As of June 30, 2003, the Company
did not own any such interests that required disclosure.
- 8 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 1. BASIS OF PRESENTATION AND ACCOUNTING POLICIES (CONTINUED)
(E) ADOPTION OF NEW ACCOUNTING STANDARDS (CONTINUED)
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others" ("FIN 45" or "the Interpretation"). FIN 45 requires
certain guarantees to be recorded at fair value and also requires a guarantor to
make new disclosures, even when the likelihood of making payments under the
guarantee is remote. In general, the Interpretation applies to contracts or
indemnification agreements that contingently require the guarantor to make
payments to the guaranteed party based on changes in an underlying instrument or
indices (e.g., security prices, interest rates, or currency rates) that are
related to an asset, liability or an equity security of the guaranteed party.
The recognition provisions of FIN 45 are effective on a prospective basis for
guarantees issued or modified after December 31, 2002. The disclosure
requirements are effective for financial statements of interim and annual
periods ending after December 15, 2002. For further discussion, see Note 5(c),
"Lease Commitments", of Notes to Condensed Consolidated Financial Statements and
Note 1(h), "Other Investment and Risk Management Activities-Specific
Strategies", of Notes to Consolidated Financial Statements included in The
Hartford's 2002 Form 10-K Annual Report. Adoption of this statement did not have
a material impact on the Company's consolidated financial condition or results
of operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities", which addresses financial accounting and
reporting for costs associated with exit or disposal activities and supercedes
Emerging Issues Task Force ("EITF") Issue No. 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring)" ("Issue 94-3"). The
principal difference between SFAS No. 146 and Issue 94-3 is that SFAS No. 146
requires that a liability for a cost associated with an exit or disposal
activity be recognized when the liability is incurred, rather than at the date
of an entity's commitment to an exit plan. SFAS No. 146 is effective for exit or
disposal activities initiated after December 31, 2002. Adoption of SFAS No. 146
resulted in a change in the timing of when a liability is recognized for certain
restructuring activities after December 31, 2002. Adoption of this statement did
not have a material impact on the Company's consolidated financial condition or
results of operations.
(F) FUTURE ADOPTION OF NEW ACCOUNTING STANDARDS
In July 2003, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued a final Statement of Position
03-1, "Accounting and Reporting by Insurance Enterprises for Certain
Nontraditional Long-Duration Contracts and for Separate Accounts" (the "SOP").
The SOP addresses a wide variety of topics, some of which may have a significant
impact on the Company. The major provisions of the SOP require:
o Recognizing expenses for a variety of contracts and contract features,
including guaranteed minimum death benefits ("GMDB") and annuitization
options, on an accrual basis versus the previous method of recognition upon
payment;
o Reporting and measuring assets and liabilities of certain separate account
products as general account assets and liabilities when specified criteria
are not met;
o Reporting and measuring seed money in separate accounts as general account
assets based on the insurer's proportionate beneficial interest in the
separate account's underlying assets; and
o Capitalizing sales inducements that meet specified criteria and amortizing
such amounts over the life of the contracts using the same methodology as
used for amortizing deferred policy acquisition costs ("DAC").
The SOP is effective for financial statements for fiscal years beginning after
December 15, 2003. At the date of initial application of the SOP, the Company
will have to make various determinations, such as qualification for separate
account treatment, classification of securities in separate account arrangements
not meeting the criteria of the SOP, significance of mortality and morbidity
risk, adjustments to contract holder liabilities, and adjustments to estimated
gross profits, all of which may have a significant effect on the Company's
consolidated financial condition and results of operations.
Based on management's preliminary review of the SOP and market conditions as of
June 30, 2003, it appears that a significant impact to the Company is the
requirement for recording a liability for variable annuity products with a
guaranteed minimum death benefit feature. The determination of this liability is
based on models that involve numerous estimates and subjective judgments,
including those regarding expected market rates of return and volatility,
contract surrender rates and mortality experience. Based on management's
preliminary review of the SOP, the unrecorded GMDB liabilities, net of
anticipated reinsurance recoverables of approximately $300, are estimated to be
between $75 and $85 at June 30, 2003. Net of estimated DAC and income tax
effects, the cumulative effect of establishing the required GMDB reserves as of
June 30, 2003 would result in an estimated reduction of net income of between
$35 and $45. The ultimate actual impact on the Company's financial statements
may differ from management's current estimates.
Since the SOP is not yet effective, the Company has not recorded any liabilities
for the risks associated with GMDB offered on the Company's variable annuity
business, but has consistently recorded the related expenses in the period the
benefits are paid to contractholders. Net of reinsurance, the Company paid $14
and $31 for the second quarter and six months ended June 30, 2003, respectively,
and $9 and $16 for the second quarter and six months ended June 30, 2002,
respectively, in GMDB benefits to contractholders. Further downturns in the
equity markets could increase these payments. At June 30, 2003, the Company held
$64.8 billion of variable annuities in its separate accounts. The Company
estimates its net amount at risk relating to these variable annuities (the
amount by which current account values of its variable annuity contracts are not
sufficient to meet its GMDB commitments) at $17.4 billion. However, at June 30,
2003, approximately 78% of the Company's net amount at risk was covered by
reinsurance, resulting in a retained net amount at risk of $3.8 billion.
- 9 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 1. BASIS OF PRESENTATION AND ACCOUNTING POLICIES (CONTINUED)
(F) FUTURE ADOPTION OF NEW ACCOUNTING STANDARDS (CONTINUED)
In addition to the foregoing impact of the SOP, certain of the Company's fixed
annuity products which are currently recorded as separate account assets and
liabilities are expected to be revalued upon reclassification to the general
account. The Company is currently assessing this requirement and all the other
impacts of the SOP, and has not yet determined the total impact on the Company's
consolidated financial condition or results of operations.
In May 2003, the EITF reached a consensus in EITF Issue No. 03-4, "Determining
the Classification and Benefit Attribution Method for a Cash Balance Pension
Plan", that cash balance plans should be considered defined benefit plans for
purposes of applying SFAS No. 87, "Employers' Accounting for Pension Plans". The
EITF also concluded that the attribution method used to determine the benefit
for the entire plan for certain cash balance plans should be the traditional
unit credit method. The consensus is effective as of the next measurement date
of the plan, which is December 31, 2003, for the Company's cash balance plan.
Any difference between the valuation under the previous attribution method and
the new attribution method should be recognized as an actuarial gain or loss.
Adoption of this issue is not expected to have a material impact on the
Company's consolidated financial condition or results of operations.
In April 2003, the FASB issued guidance in Statement 133 Implementation Issue
No. B36, "Embedded Derivatives: Modified Coinsurance Arrangements and Debt
Instruments That Incorporate Credit Risk Exposures That Are Unrelated or Only
Partially Related to the Creditworthiness of the Obligor of Those Instruments",
("DIG B36") that addresses the instances in which bifurcation of an instrument
into a debt host contract and an embedded credit derivative is required. DIG B36
indicates that bifurcation is necessary in a modified coinsurance arrangement
when the yield on the receivable and payable is based on a specified proportion
of the ceding company's return on either its general account assets or a
specified block of those assets, rather than the overall creditworthiness of the
ceding company. The Company believes that the majority of its modified
coinsurance and funds withheld agreements are not impacted by DIG B36. While the
Company believes there will be no material effect on its consolidated results of
operations or financial condition due to the implementation of this guidance, it
is currently evaluating those potential impacts. The guidance is effective for
quarterly periods beginning after September 15, 2003.
DIG B36 is also applicable to corporate issued debt securities that incorporate
credit risk exposures that are unrelated or only partially related to the
creditworthiness of the obligor. The Company is currently evaluating the impact
of DIG B36 on such corporate issued debt securities. The Company does not
believe the adoption of DIG B36 will have a material effect on the Company's
consolidated financial condition or results of operations.
In April 2003, the FASB issued SFAS No. 149, "Amendment of SFAS No. 133 on
Derivative Instruments and Hedging Activities". The Statement amends and
clarifies accounting for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities under SFAS
No. 133.
SFAS No. 149 amends SFAS No. 133 for decisions made as part of the Derivatives
Implementation Group ("DIG") process that effectively required amendments to
SFAS No. 133, in connection with other FASB projects dealing with financial
instruments. SFAS No. 149 also clarifies under what circumstances a contract
with an initial net investment and purchases and sales of when-issued securities
that do not yet exist meet the characteristics of a derivative as discussed in
SFAS No. 133. In addition, it clarifies when a derivative contains a financing
component that warrants special reporting in the statement of cash flows.
SFAS No. 149 is effective for contracts entered into or modified after June 30,
2003, except as stated below and for hedging relationships designated after June
30, 2003. The provisions of this statement should be applied prospectively,
except as stated below.
The provisions of this statement that relate to SFAS No. 133 DIG issues that
have been effective for fiscal quarters that began prior to June 15, 2003,
should continue to be applied in accordance with their respective effective
dates. In addition, the guidance in SFAS No. 149 related to forward purchases or
sales of when-issued securities or other securities that do not yet exist,
should be applied to both existing contracts and new contracts entered into
after June 30, 2003. The Company has determined that the adoption of SFAS No.
149 will not have a material impact on the Company's consolidated financial
condition or results of operations.
(G) STOCK-BASED COMPENSATION
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure, an Amendment to FASB No. 123", which
provides three optional transition methods for entities that decide to
voluntarily adopt the fair value recognition principles of SFAS No. 123,
"Accounting for Stock Issued to Employees", and modifies the disclosure
requirements of SFAS No. 123. In January 2003, the Company adopted the fair
value recognition provisions of accounting for employee stock compensation and
used the prospective transition method. Under the prospective method,
stock-based compensation expense is recognized for awards granted or modified
after the beginning of the fiscal year in which the change is made. The fair
value of stock-based awards granted during the six months ended June 30, 2003
was $32, after-tax. The fair value of these awards will be recognized as expense
over the awards' vesting periods, generally three years.
All stock-based awards granted or modified prior to January 1, 2003 will
continue to be valued using the intrinsic value-based provisions set forth in
Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock-Issued
to Employees".
- 10 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 1. BASIS OF PRESENTATION AND ACCOUNTING POLICIES (CONTINUED)
(G) STOCK-BASED COMPENSATION (CONTINUED)
Under the intrinsic value method, compensation expense is determined on the
measurement date, which is the first date on which both the number of shares the
employee is entitled to receive and the exercise price are known. Compensation
expense, if any, is measured based on the award's intrinsic value, which is the
excess of the market price of the stock over the exercise price on the
measurement date. The expense, including non-option plans, related to
stock-based employee compensation included in the determination of net income
for the second quarter and six months ended June 30, 2003 is less than that
which would have been recognized if the fair value method had been applied to
all awards granted since the effective date of SFAS No. 123. (For further
discussion of the Company's stock-based compensation plans, see Note 11 of Notes
to Consolidated Financial Statements included in The Hartford's 2002 Form 10-K
Annual Report.)
The following table illustrates the effect on net income (loss) and earnings
(loss) per share as if the fair value method had been applied to all outstanding
and unvested awards in each period.
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
--------------------------- -----------------------
2003 2002 2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Net income (loss), as reported $ 507 $ 185 $ (888) $ 477
Add: Stock-based employee compensation expense included in reported net
income (loss), net of related tax effects [1] 9 1 11 2
Deduct: Total stock-based employee compensation expense determined under
the fair value method for all awards, net of related tax effects (17) (15) (26) (25)
- ------------------------------------------------------------------------------------------------------------------------------------
Pro forma net income (loss) [2] $ 499 $ 171 $ (903) $ 454
- ------------------------------------------------------------------------------------------------------------------------------------
Earnings (loss) per share:
Basic - as reported $ 1.89 $ 0.75 $ (3.39) $ 1.93
Basic - pro forma [2] $ 1.86 $ 0.69 $ (3.45) $ 1.84
Diluted - as reported [3] $ 1.88 $ 0.74 $ (3.39) $ 1.91
Diluted - pro forma [2] [3] $ 1.85 $ 0.68 $ (3.45) $ 1.81
====================================================================================================================================
<FN>
[1] Includes the impact of non-option plans of $1 and $1, respectively, for the
second quarter, and $2 and $2, respectively, for the six months ended June
30, 2003 and 2002.
[2] The pro forma disclosures are not representative of the effects on net
income (loss) and earnings (loss) per share in future periods.
[3] As a result of the net loss in the six months ended June 30, 2003, SFAS No.
128 requires the Company to use basic weighted average common shares
outstanding in the calculation of the six months ended June 30, 2003
diluted earnings (loss) per share, since the inclusion of options of 1.0
would have been antidilutive to the earnings per share calculation. In the
absence of the net loss, weighted average common shares outstanding and
dilutive potential common shares would have totaled 263.1.
</FN>
NOTE 2. GOODWILL AND OTHER INTANGIBLE ASSETS
Effective January 1, 2002, the Company adopted SFAS No. 142, "Goodwill and Other
Intangible Assets", and accordingly ceased all amortization of goodwill.
The following table shows the Company's acquired intangible assets that continue
to be subject to amortization and aggregate amortization expense. Except for
goodwill, the Company has no intangible assets with indefinite useful lives.
JUNE 30, 2003 DECEMBER 31, 2002
------------------------------------------- ---------------------------------------
GROSS CARRYING ACCUMULATED NET GROSS CARRYING ACCUMULATED NET
AMORTIZED INTANGIBLE ASSETS AMOUNT AMORTIZATION AMOUNT AMORTIZATION
- ------------------------------------------------------------------------------------------------------------------------------------
Present value of future profits $ 1,406 $ 323 $ 1,406 $ 274
Renewal rights 46 30 42 27
Other 9 -- -- --
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 1,461 $ 353 $ 1,448 $ 301
====================================================================================================================================
- 11 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 2. GOODWILL AND OTHER INTANGIBLE ASSETS (CONTINUED)
Net amortization expense for the second quarter and six months ended June 30,
2003 was $27 and $52, respectively. Net amortization expense for the second
quarter and six months ended June 30, 2002 was $26 and $52, respectively.
Estimated future net amortization expense for the succeeding five years is as
follows:
FOR THE YEAR ENDED DECEMBER 31,
- -----------------------------------------------------------------
2003 $ 123
2004 $ 117
2005 $ 106
2006 $ 95
2007 $ 80
=================================================================
The carrying amounts of goodwill as of June 30, 2003 and December 31, 2002, are
shown below.
JUNE 30, DECEMBER 31,
2003 2002
- ------------------------------------------------------------------
Life $ 796 $ 796
Property & Casualty 153 153
Corporate 772 772
- ------------------------------------------------------------------
Total $ 1,721 $ 1,721
==================================================================
NOTE 3. INVESTMENTS AND DERIVATIVE INSTRUMENTS
(A) SECURITIES LENDING
The Company has engaged in a securities lending program to generate additional
income, whereby certain domestic fixed income securities are loaned for a short
period of time from the Company's portfolio to qualifying third parties, via a
lending agent. Borrowers of these securities provide collateral of 102% of the
market value of the loaned securities. Acceptable collateral may be in the form
of cash or U.S. Government securities. The market value of the loaned securities
is monitored and additional collateral is obtained if the market value of the
collateral falls below 100% of the market value of the loaned securities. Under
the terms of the securities lending program, the lending agent indemnifies the
Company against borrower defaults. As of June 30, 2003, the fair value of the
loaned securities was approximately $1.0 billion and was included in fixed
maturities. The cash collateral received as of June 30, 2003 of approximately
$1.0 billion was invested in short-term securities and was also included in
fixed maturities, with a corresponding liability recognized for the obligation
to return the collateral recorded in other liabilities. The Company retains a
portion of the income earned from the cash collateral or receives a fee from the
borrower. The Company recorded income from securities lending transactions, net
of lending fees, that was immaterial for the second quarter and six months ended
June 30, 2003, which was included in net investment income.
(B) DERIVATIVE INSTRUMENTS
The Company utilizes a variety of derivative instruments, including swaps, caps,
floors, forwards and exchange traded futures and options, for one of four
Company-approved objectives: to hedge risk arising from interest rate, price or
currency exchange rate volatility; to manage liquidity; to control transaction
costs; or to enter into income enhancement and replication transactions.
All of the Company's derivative transactions are permitted uses of derivatives
under the derivatives use plan filed with and/or approved by, as applicable, by
the State of Connecticut and State of New York insurance departments. The
Company does not make a market or trade in these instruments for the express
purpose of earning short-term trading profits.
For a detailed discussion of the Company's use of derivative instruments, see
Note 1(h) of Notes to Consolidated Financial Statements included in The
Hartford's 2002 Form 10-K Annual Report.
As of June 30, 2003 and December 31, 2002, the Company carried $318 and $299,
respectively, of derivative assets in other investments and $226 and $208,
respectively, of derivative liabilities in other liabilities. In addition, the
Company recognized embedded derivative liabilities related to guaranteed minimum
withdrawal benefits ("GMWB") on certain of its variable annuity contracts of $32
and $48 at June 30, 2003 and December 31, 2002, respectively, in other
policyholder funds. Offsetting reinsurance arrangements recognized as derivative
assets at June 30, 2003 and December 31, 2002 were $32 and $48, respectively,
and were included in reinsurance recoverables.
Cash-Flow Hedges
For the second quarter and six months ended June 30, 2003 and 2002, the
Company's gross gains and losses representing the total ineffectiveness of all
cash-flow hedges were immaterial, with the net impact reported as net realized
capital gains and losses.
Gains and losses on derivative contracts that are reclassified from accumulated
other comprehensive income ("AOCI") to current period earnings are included in
the line item in the statement of income in which the hedged item is recorded.
As of June 30, 2003 and 2002, the after-tax deferred net gains on derivative
instruments accumulated in AOCI that are expected to be reclassified to earnings
during the next twelve months were $11 and $3, respectively. This expectation is
based on the anticipated interest payments on hedged investments in fixed
maturity securities that will occur over the next twelve months, at which time
the Company will recognize the deferred net gains and losses as an adjustment to
interest income over the term of the investment cash flows. The maximum term
over which the Company is hedging its exposure to the variability of future cash
flows (for all forecasted transactions, excluding interest payments on
variable-rate debt) is twelve months. As of June 30, 2003 and December 31, 2002,
the Company held derivative notional value related to strategies categorized as
cash-flow hedges of $2.9 billion and $3.2 billion, respectively. For the second
quarter and six months ended June 30, 2003 and 2002, the net reclassifications
from AOCI to earnings resulting from the discontinuance of cash-flow hedges were
immaterial.
- 12 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 3. INVESTMENTS AND DERIVATIVE INSTRUMENTS (CONTINUED)
(B) DERIVATIVE INSTRUMENTS (CONTINUED)
Fair-Value Hedges
For the second quarter and six months ended June 30, 2003 and 2002, the
Company's gross gains and losses representing the total ineffectiveness of all
fair-value hedges were immaterial, with the net impact reported as net realized
capital gains and losses. All components of each derivative's gain or loss are
included in the assessment of hedge effectiveness. As of June 30, 2003 and
December 31, 2002, the Company held $728 and $800, respectively, in derivative
notional value related to strategies categorized as fair-value hedges.
Other Investment and Risk Management Activities
The Company's other investment and risk management activities primarily relate
to strategies used to reduce economic risk or enhance income, and do not receive
hedge accounting treatment. Swap agreements, interest rate cap and floor
agreements and option contracts are used to reduce economic risk. Income
enhancement and replication transactions include the use of written covered call
options, which offset embedded equity call options, total return swaps and
synthetic replication of cash market instruments. The change in the value of all
derivatives held for other investment and risk management purposes is reported
in current period earnings as net realized capital gains and losses. As of June
30, 2003 and December 31, 2002, the Company held $7.1 billion and $6.8 billion,
respectively, in derivative notional value related to strategies categorized as
Other Investment and Risk Management Activities. In addition, the Company issues
certain variable annuity products that contain a GMWB. The GMWB gives the
policyholder the right to make periodic surrenders that total an amount equal to
the policyholders' premium payments. This guarantee will remain in effect if
periodic surrenders each contract year do not exceed an amount equal to 7% of
total premium payments. If the policyholder chooses to surrender an amount equal
to more than 7% in a contract year, then the guarantee may be reduced to an
amount less than premium payments. In addition, the policyholder has the option,
after a specified time period, to reset the guarantee value to the then-current
account value, if greater. The GMWB represents an embedded derivative liability
in the variable annuity contract. It is carried at fair value and reported in
other policyholder funds. The fair value of the GMWB obligations are calculated
based on actuarial assumptions related to the projected benefits and related
contract charges over the lives of the contracts. Because of the dynamic and
complex nature of these cash flows, stochastic techniques under a variety of
market return scenarios and other best estimate assumptions are used. This model
involves numerous estimates and subjective judgments including those regarding
expected market rates of return and volatility and policyholder behavior.
For all contracts in effect as of June 30, 2003, the Company has entered into a
reinsurance arrangement to offset its exposure to the GMWB for the lives of
those contracts. This arrangement is recognized as a derivative asset and
carried at fair value in reinsurance recoverables. Changes in the fair value of
both the derivative assets and liabilities related to the GMWB are recorded in
net realized capital gains and losses. Beginning in July 2003, the Company has
utilized substantially all of its existing reinsurance under the current
arrangement and will be ceding only a very small number of new contracts.
Substantially all new contracts with the GMWB will not be covered by
reinsurance. These unreinsured contracts are expected to generate some
volatility in net income as the underlying embedded derivative liabilities are
marked to fair value each reporting period, resulting in the recognition of net
realized capital gains or losses in response to changes in certain critical
factors including capital market conditions and policyholder behavior.
For further discussion of the Company's other investment and risk management
activities, see "Other Investments and Risk Management Activities" in Note 1(h)
to Notes of Consolidated Financial Statements included in The Hartford's 2002
Form 10-K Annual Report.
NOTE 4. EARNINGS (LOSS) PER SHARE
The following tables present a reconciliation of net income (loss) and shares
used in calculating basic earnings (loss) per share to those used in calculating
diluted earnings (loss) per share.
SECOND QUARTER ENDED SIX MONTHS ENDED
-------------------------------------- -------------------------------------
NET PER SHARE NET INCOME PER SHARE
JUNE 30, 2003 INCOME SHARES AMOUNT (LOSS) SHARES AMOUNT
- ------------------------------------------------------------------------------------------------------------------------------------
BASIC EARNINGS (LOSS) PER SHARE
Income (loss) available to common shareholders $ 507 268.8 $ 1.89 $ (888) 262.1 $ (3.39)
------------- -----------
DILUTED EARNINGS (LOSS) PER SHARE [1]
Options -- 1.4 -- --
------------------------- --------------------------
Income (loss) available to common shareholders plus
assumed conversions $ 507 270.2 $ 1.88 $ (888) 262.1 $ (3.39)
====================================================================================================================================
<FN>
[1] As a result of the net loss in the six months ended June 30, 2003, SFAS No.
128 requires the Company to use basic weighted average common shares
outstanding in the calculation of the six months ended June 30, 2003
diluted earnings (loss) per share, since the inclusion of options of 1.0
would have been antidilutive to the earnings per share calculation. In the
absence of the net loss, weighted average common shares outstanding and
dilutive potential common shares would have totaled 263.1.
</FN>
- 13 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 4. EARNINGS (LOSS) PER SHARE (CONTINUED)
SECOND QUARTER ENDED SIX MONTHS ENDED
-------------------------------------- -------------------------------------
NET PER SHARE NET PER SHARE
JUNE 30, 2002 INCOME SHARES AMOUNT INCOME SHARES AMOUNT
- ------------------------------------------------------------------------------------------------------------------------------------
BASIC EARNINGS PER SHARE
Income available to common shareholders $ 185 247.4 $ 0.75 $ 477 246.7 $ 1.93
------------- -----------
DILUTED EARNINGS PER SHARE
Options -- 3.3 -- 3.5
------------------------- --------------------------
Income available to common shareholders plus
assumed conversions $ 185 250.7 $ 0.74 $ 477 250.2 $ 1.91
====================================================================================================================================
Basic earnings (loss) per share reflects the actual weighted average number of
common shares outstanding during the period. Diluted earnings (loss) per share
includes the dilutive effect of outstanding options, using the treasury stock
method. Under the treasury stock method exercise of options is assumed, with the
proceeds used to repurchase common stock at the average market price for the
period.
NOTE 5. COMMITMENTS AND CONTINGENCIES
(A) LITIGATION
The Hartford is involved in claims litigation arising in the ordinary course of
business, both as a liability insurer defending third-party claims brought
against insureds and as an insurer defending coverage claims brought against it.
The Hartford accounts for such activity through the establishment of unpaid
claim and claim adjustment expense reserves. Subject to the discussion of the
litigation below involving Mac Arthur Company and its subsidiary, Western
MacArthur Company, both former regional distributors of asbestos products
(collectively or individually, "MacArthur"), and the uncertainties discussed in
(b) below under the caption "Asbestos and Environmental Claims," management
expects that the ultimate liability, if any, with respect to such
ordinary-course claims litigation, after consideration of provisions made for
potential losses and costs of defense, will not be material to the consolidated
financial condition, results of operations or cash flows of The Hartford.
The Hartford also is involved in other kinds of legal actions, some of which
assert claims for substantial amounts. These actions include, among others,
putative state and federal class actions seeking certification of a state or
national class. Such putative class actions have alleged, for example,
underpayment of claims or improper underwriting practices in connection with
various kinds of insurance policies, such as personal and commercial automobile,
premises liability and inland marine. The Hartford also is involved in
individual actions in which punitive damages are sought, such as claims alleging
bad faith in the handling of insurance claims. Management expects that the
ultimate liability, if any, with respect to such lawsuits, after consideration
of provisions made for potential losses and costs of defense, will not be
material to the consolidated financial condition of The Hartford. Nonetheless,
given the large or indeterminate amounts sought in certain of these actions, and
the inherent unpredictability of litigation, it is possible that an adverse
outcome in certain matters could, from time to time, have a material adverse
effect on the Company's consolidated results of operations or cash flows in
particular quarterly or annual periods.
The MacArthur Litigation - Hartford Accident and Indemnity Company ("Hartford
A&I"), a subsidiary of the Company, issued primary general liability policies to
MacArthur during the period 1967 to 1976. MacArthur sought coverage for
asbestos-related claims from Hartford A&I under these policies beginning in
1978. During the period between 1978 and 1987, Hartford A&I paid its full
aggregate limits under these policies plus defense costs. In 1987, Hartford A&I
notified MacArthur that its available limits under these policies had been
exhausted, and MacArthur ceased submitting claims to Hartford A&I under these
policies.
On October 3, 2000, thirteen years after it had accepted Hartford A&I's notice
of exhaustion, MacArthur filed an action against Hartford A&I and another
insurer in the U.S. District Court for the Eastern District of New York,
seeking, for the first time, additional coverage for asbestos bodily injury
claims under the Hartford A&I primary policies on the theory that Hartford A&I
had exhausted only its products aggregate limit of liability, not separate
limits MacArthur alleges to be available for non-products liability. The
complaint sought a declaration of coverage and unquantified damages. On March
28, 2003, the District Court dismissed this action without prejudice on
MacArthur's motion.
On June 3, 2002, The St. Paul Companies, Inc. ("St. Paul") announced a
settlement of a coverage action brought by MacArthur against United States
Fidelity and Guaranty Company ("USF&G"), a subsidiary of St. Paul. Under the
settlement, St. Paul agreed to pay a total of $975 to resolve its asbestos
liability to MacArthur in conjunction with a proposed bankruptcy petition and
pre-packaged plan of reorganization to be filed by MacArthur. USF&G provided at
least twelve years of primary general liability coverage to MacArthur, but,
unlike Hartford A&I, had denied coverage and had refused to pay for defense or
indemnity.
On October 7, 2002, MacArthur filed an action in the Superior Court in Alameda
County, California, against Hartford A&I and two other insurers. As in the
now-dismissed New York action, MacArthur seeks a declaration of coverage and
damages for asbestos bodily injury claims. Four asbestos claimants who allegedly
have obtained default judgments against MacArthur also are joined as plaintiffs;
they seek to recover the amount of their default judgments and additional
damages directly from the defendant insurers and assert a right to an
accelerated trial.
- 14 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 5. COMMITMENTS AND CONTINGENCIES (CONTINUED)
(A) LITIGATION (CONTINUED)
On November 22, 2002, MacArthur filed a bankruptcy petition and proposed plan of
reorganization, which seeks to implement the terms of its settlement with St.
Paul. MacArthur's bankruptcy filings indicate that in conjunction with plan
confirmation it will seek to have the full amount of its current and future
asbestos liability estimated in an amount substantially more than the alleged
liquidated but unpaid claims. If such an estimation is made, MacArthur intends
to ask the Alameda County court to enter judgment against the insurers for the
amount of its total estimated liability, including unliquidated claims and
future demands, less the amount ultimately paid by St. Paul. Hartford A&I has
filed an adversary complaint in the MacArthur bankruptcy seeking a declaratory
judgment that any estimation made in the bankruptcy proceedings is not an
adjudication of MacArthur's asbestos liability for purposes of insurance
coverage. A confirmation trial currently is scheduled to begin November 10,
2003.
In a second amended complaint filed on July 21, 2003 in the Alameda County
action, following Hartford A&I's successful demurrer to the first two
complaints, MacArthur alleges that its liability for liquidated but unpaid
asbestos bodily injury claims is $2.5 billion, of which more than $1.8 billion
consists of unpaid judgments. The ultimate amount of MacArthur's alleged
non-products asbestos liability, including any unresolved present claims and
future demands, is currently unknown.
Hartford A&I intends to defend the MacArthur action vigorously. In the opinion
of management, the ultimate outcome is highly uncertain for many reasons. It is
not yet known, for example, whether Hartford A&I's defenses based on MacArthur's
long delay in asserting claims for further coverage will be successful; how
other significant coverage defenses will be decided; or the extent to which the
claims and default judgments against MacArthur involve injury outside of the
products and completed operations hazard definitions of the policies. In the
opinion of management, an adverse outcome could have a material adverse effect
on the Company's results of operations, financial condition and liquidity.
Bancorp Services, LLC - On March 15, 2002, a jury in the U.S. District Court for
the Eastern District of Missouri issued a verdict in Bancorp Services, LLC
("Bancorp") v. Hartford Life Insurance Company ("HLIC"), et al., in favor of
Bancorp in the amount of $118. The case involved claims of patent infringement,
misappropriation of trade secrets, and breach of contract against HLIC and its
affiliate International Corporate Marketing Group, Inc. ("ICMG"). The judge
dismissed the patent infringement claim on summary judgment. The jury's award
was based on the last two claims. On August 28, 2002, the Court entered an order
awarding Bancorp prejudgment interest on the breach of contract claim in the
amount of $16.
HLIC and ICMG have appealed the judgment on the trade secret and breach of
contract claims. Bancorp has cross-appealed the pretrial dismissal of its patent
infringement claim. The appeal is fully briefed but has not been argued. The
Company's management, based on the advice of its legal counsel, believes that
there is a substantial likelihood that the judgment will not survive at its
current amount. Based on the advice of legal counsel regarding the potential
outcomes of this litigation, the Company recorded an $11 after-tax charge in the
first quarter of 2002 to increase litigation reserves. Should HLIC and ICMG not
succeed in eliminating or reducing the judgment, a significant additional
expense would be recorded in the future.
(B) ASBESTOS AND ENVIRONMENTAL CLAIMS
The Hartford continues to receive claims that assert damages from asbestos- and
environmental-related exposures. Asbestos claims relate primarily to bodily
injuries asserted by those who came in contact with asbestos or products
containing asbestos. Environmental claims relate primarily to pollution and the
related costs.
The Hartford wrote several different categories of insurance coverage to which
asbestos and environmental claims may apply. First, The Hartford wrote direct
policies as a primary liability insurance carrier. Second, The Hartford wrote
direct excess insurance policies providing additional coverage for insureds that
exhausted their underlying liability insurance coverage. Third, The Hartford
acted as a reinsurer assuming a portion of risks previously assumed by other
insurers writing primary, excess and reinsurance coverages. Fourth, The Hartford
participated as a London Market company that wrote both direct insurance and
assumed reinsurance business.
With regard to both environmental and particularly asbestos claims, significant
uncertainty limits the ability of insurers and reinsurers to estimate the
ultimate reserves necessary for unpaid losses and related expenses. Traditional
reserving techniques cannot reasonably estimate the ultimate cost of these
claims, particularly during periods where theories of law are in flux. As a
result of the factors discussed in the following paragraphs, the degree of
variability of reserve estimates for these exposures is significantly greater
than for other, more traditional exposures. In particular, The Hartford believes
there is a high degree of uncertainty inherent in the estimation of asbestos
loss reserves.
In the case of the reserves for asbestos exposures, factors contributing to the
high degree of uncertainty include inadequate development patterns, plaintiffs'
expanding theories of liability, the risks inherent in major litigation, and
inconsistent emerging legal doctrines. Courts have reached inconsistent
conclusions as to when losses are deemed to have occurred and which policies
provide coverage; what types of losses are covered; whether there is an insurer
obligation to defend; how policy limits are applied; whether particular injuries
are subject to the product/completed
- 15 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 5. COMMITMENTS AND CONTINGENCIES (CONTINUED)
(B) ASBESTOS AND ENVIRONMENTAL CLAIMS (CONTINUED)
operation claims aggregate limit; and how policy exclusions and conditions are
applied and interpreted. Furthermore, insurers in general, including The
Hartford, recently have experienced an increase in the number of
asbestos-related claims due to, among other things, more intensive advertising
by lawyers seeking asbestos claimants, plaintiffs' increased focus on new and
previously peripheral defendants, and an increase in the number of insureds
seeking bankruptcy protection as a result of asbestos-related liabilities.
Plaintiffs and insureds have sought to use bankruptcy proceedings, including
"pre-packaged" bankruptcies, to accelerate and increase loss payments by
insurers. In addition, some policyholders have begun to assert new classes of
claims for so-called "non-product" coverages to which an aggregate limit of
liability may not apply. Recently, many insurers, including The Hartford, also
have been sued directly by asbestos claimants asserting that insurers had a duty
to protect the public from the dangers of asbestos. Management believes these
issues are not likely to be resolved in the near future.
In the case of the reserves for environmental exposures, factors contributing to
the high degree of uncertainty include court decisions that have interpreted the
insurance coverage to be broader than originally intended; inconsistent
decisions, especially across jurisdictions; and uncertainty as to the monetary
amount being sought by the claimant from the insured.
Further uncertainties include the effect of the recent acceleration in the rate
of bankruptcy filings by asbestos defendants on the rate and amount of The
Hartford's asbestos claims payments; a further increase or decrease in asbestos
and environmental claims that cannot now be anticipated; whether some
policyholders' liabilities will reach the umbrella or excess layer of their
coverage; the resolution or adjudication of some disputes pertaining to the
amount of available coverage for asbestos claims in a manner inconsistent with
The Hartford's previous assessment of these claims; the number and outcome of
direct actions against The Hartford; and unanticipated developments pertaining
to The Hartford's ability to recover reinsurance for asbestos and environmental
claims. It is also not possible to predict changes in the legal and legislative
environment and their impact on the future development of asbestos and
environmental claims. In particular, it is unknown whether a potential federal
bill concerning asbestos litigation approved by the Senate Judiciary Committee,
or some other potential federal asbestos-related legislation, will be enacted
and, if so, what its effect will be on The Hartford's aggregate asbestos
liabilities. Additionally, the reporting pattern for excess insurance and
reinsurance claims is much longer than direct claims. In many instances, it
takes months or years to determine that the policyholder's own obligations have
been met and how the reinsurance in question may apply to such claims. The delay
in reporting excess and reinsurance claims and exposures adds to the uncertainty
of estimating the related reserves.
Given the factors and emerging trends described above, The Hartford believes the
actuarial tools and other techniques it employs to estimate the ultimate cost of
claims for more traditional kinds of insurance exposure are less precise in
estimating reserves for its asbestos and environmental exposures. The Hartford
regularly evaluates new information in assessing its potential asbestos
exposures.
In the first quarter of 2003, The Hartford conducted a detailed study of its
asbestos exposures. Based on the results of the study, the Company strengthened
its gross and net asbestos reserves by $3.9 billion and $2.6 billion,
respectively. The Company believes that its current asbestos reserves are
reasonable and appropriate. However, analyses of future developments could cause
The Hartford to change its estimates of its asbestos and environmental reserves,
and the effect of these changes could be material to the Company's consolidated
operating results, financial condition and liquidity.
As of June 30, 2003 and December 31, 2002, the Company reported $3.6 billion and
$1.1 billion of net asbestos and $536 and $591 of net environmental reserves,
respectively. Because of the significant uncertainties previously described,
principally those related to asbestos, the ultimate liabilities may exceed the
currently recorded reserves. Any such additional liability (or any range of
additional amounts) cannot be reasonably estimated now but could be material to
The Hartford's future consolidated operating results, financial condition and
liquidity. Consistent with the Company's longstanding reserving practices, The
Hartford will continue to regularly review and monitor these reserves and, where
future circumstances indicate, make appropriate adjustments to the reserves.
(C) LEASE COMMITMENTS
On June 30, 2003, the Company entered into a sale-leaseback of certain furniture
and fixtures with a net book value of $40. The sale-leaseback resulted in a gain
of $15, which was deferred and will be amortized into earnings over the initial
lease term of three years. The lease qualifies as an operating lease for
accounting purposes. At the end of the initial lease term, the Company has the
option to purchase the leased assets, renew the lease for two one-year periods
or return the leased assets to the lessor. If the Company elects to return the
assets to the lessor at the end of the initial lease term, the assets will be
sold, and the Company has guaranteed a residual value on the furniture and
fixtures of $20.
At June 30, 2003, no liability was recorded for this guarantee, as the expected
fair value of the furniture and fixtures at the end of the initial lease term
was greater than the residual value guarantee.
(D) TAX MATTERS
The Hartford's Federal income tax returns are routinely audited by the Internal
Revenue Service ("IRS"). The Company is currently under audit for the 1998-2001
tax years. No material issues have been raised to date by the IRS. Management
believes that adequate provision has been made in the financial statements for
any potential assessments that may result from tax examinations and other
tax-related matters.
The tax provision recorded during the second quarter of 2003, reflects a benefit
of $30, consisting primarily of a change in
- 16 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 5. COMMITMENTS AND CONTINGENCIES (CONTINUED)
(D) TAX MATTERS (CONTINUED)
estimate of the dividends-received deduction ("DRD") tax benefit reported during
2002. The change in estimate was the result of 2002 actual investment
performance on the related separate accounts being unexpectedly out of pattern
with past performance which had been the basis for the estimate. In addition to
the foregoing change in estimate, based on the financial information received by
the Company in preparing its 2002 Federal income tax returns, as well as its
current best judgment, the Company has revised its estimate of the 2003 fiscal
year DRD benefit to $85, from its prior estimate of $63. As a result of this
revised estimate, in the second quarter the Company revised its first quarter
DRD benefit upwards by $5, bringing the total DRD benefit related to the 2003
tax year for the six months ended June 30, 2003 to $43.
NOTE 6. SEGMENT INFORMATION
The Hartford is organized into two major operations: Life and Property &
Casualty. Within these operations, The Hartford conducts business principally in
nine operating segments. Additionally, the capital raising and purchase
accounting adjustment activities related to the June 27, 2000 acquisition of all
of the outstanding shares of Hartford Life, Inc. ("HLI") that the Company did
not already own, as well as capital that has not been allocated to the Company's
insurance subsidiaries are included in Corporate.
Life is organized into four reportable operating segments: Investment Products,
Individual Life, Group Benefits and Corporate Owned Life Insurance ("COLI").
Investment Products offers individual variable and fixed annuities, mutual
funds, retirement plan services and other investment products. Individual Life
sells a variety of life insurance products, including variable life, universal
life, interest sensitive whole life and term life insurance. Group Benefits
sells group insurance products, including group life and group disability
insurance as well as other products, including stop loss and supplementary
medical coverage to employers and employer sponsored plans, accidental death and
dismemberment, travel accident and other special risk coverages to employers and
associations. COLI primarily offers variable products used by employers to fund
non-qualified benefits or other postemployment benefit obligations as well as
leveraged COLI. Life also includes in an Other category, its international
operations, which are primarily located in Japan and Brazil; realized capital
gains and losses; as well as corporate items not directly allocated to any of
its reportable operating segments, principally interest expense; and
intersegment eliminations.
Property & Casualty is organized into five reportable operating segments: the
North American underwriting segments of Business Insurance, Personal Lines,
Specialty Commercial and Reinsurance; and the Other Operations segment, which
includes substantially all of the Company's asbestos and environmental
exposures. "North American" includes the combined underwriting results of the
Business Insurance, Personal Lines, Specialty Commercial and Reinsurance
underwriting segments along with income and expense items not directly allocated
to these segments, such as net investment income, net realized capital gains and
losses, and other expenses including interest, severance and income taxes.
Included in net income for North American in the second quarter ended June 30,
2003 is an expense of $27, after-tax, related to severance costs associated with
several expense reduction initiatives announced in May 2003.
Business Insurance provides standard commercial insurance coverage to small
commercial and middle market commercial business primarily throughout the United
States. This segment offers workers' compensation, property, automobile,
liability, umbrella and marine coverages. Commercial risk management products
and services also are provided.
Personal Lines provides automobile, homeowners' and home-based business
coverages to the members of AARP through a direct marketing operation; to
individuals who prefer local agent involvement through a network of independent
agents in the standard personal lines market; and through the Omni Insurance
Group in the non-standard automobile market. Personal Lines also operates a
member contact center for health insurance products offered through AARP's
Health Care Options.
The Specialty Commercial segment offers a variety of customized insurance
products and risk management services. Specialty Commercial provides standard
commercial insurance products including workers' compensation, automobile and
liability coverages to large-sized companies. Specialty Commercial also provides
bond, professional liability, specialty casualty and agricultural coverages, as
well as core property and excess and surplus lines coverages not normally
written by standard lines insurers. Alternative markets, within Specialty
Commercial, provides insurance products and services primarily to captive
insurance companies, pools and self-insurance groups. In addition, Specialty
Commercial provides third party administrator services for claims
administration, integrated benefits, loss control and performance measurement
through Specialty Risk Services, a subsidiary of the Company.
The Reinsurance segment assumes reinsurance in North America and primarily
writes treaty reinsurance through professional reinsurance brokers covering
various property, casualty, property catastrophe, marine and alternative risk
transfer ("ART") products. ART includes non-traditional reinsurance products
such as multi-year property catastrophe treaties, aggregate of excess of loss
agreements and quota share treaties with single event caps. International
property catastrophe, marine and ART are also written outside of North America
through a London contact office. On May 16, 2003, as part of the Company's
decision to withdraw from the assumed reinsurance business, the Company entered
into a quota share and purchase agreement with Endurance Reinsurance Corporation
of America ("Endurance") whereby the Reinsurance segment retroceded the majority
of its inforce book of business as of April 1, 2003 and sold renewal rights to
Endurance. Under the quota share agreement, Endurance will reinsure most of the
segment's assumed reinsurance contracts that were written on or after January 1,
2002 and that had unearned premium as of April 1, 2003.
- 17 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 6. SEGMENT INFORMATION (CONTINUED)
The Other Operations segment consists of certain property and casualty insurance
operations of The Hartford which have discontinued writing new business and
includes substantially all of the Company's asbestos and environmental
exposures.
The measure of profit or loss used by The Hartford's management in evaluating
the performance of its Life segments is net income. North American underwriting
segments are evaluated by The Hartford's management primarily based upon
underwriting results. Underwriting results represent earned premiums less
incurred claims, claim adjustment expenses and underwriting expenses.
Certain transactions between segments occur during the year that primarily
relate to tax settlements, insurance coverage, expense reimbursements, services
provided, security transfers and capital contributions. In addition, certain
reinsurance stop loss agreements exist between the segments which specify that
one segment will reimburse another for losses incurred in excess of a
predetermined limit. Also, one segment may purchase group annuity contracts from
another to fund pension costs and annuities to settle casualty claims. In
addition, certain intersegment transactions occur in Life. These transactions
include interest income on allocated surplus and the allocation of certain net
realized capital gains and losses through net investment income utilizing the
duration of the segment's investment portfolios. During the six months ended
June 30, 2003, $1.8 billion of securities were sold by the Property & Casualty
operation to the Life operation. For segment reporting, the net gain on this
sale was deferred by the Property & Casualty operation and will be reported as
realized when the underlying securities are sold by the Life operation. On
December 1, 2002, the Company entered into a contract with a subsidiary, whereby
reinsurance will be provided to the Property & Casualty operation. The financial
results of this reinsurance program, net of retrocessions to unrelated
reinsurers, are included in the Specialty Commercial segment.
The following tables present revenues and net income (loss). Underwriting
results are presented for the Business Insurance, Personal Lines, Specialty
Commercial and Reinsurance segments, while net income is presented for all other
segments, along with Life and Property & Casualty, including North American.
REVENUES
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------------------- -----------------------------
2003 2002 2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Life
Investment Products $ 877 $ 766 $ 1,650 $ 1,576
Individual Life 240 249 484 481
Group Benefits 638 654 1,305 1,298
COLI 126 146 253 306
Other [1] 81 (117) 56 (127)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Life 1,962 1,698 3,748 3,534
- ------------------------------------------------------------------------------------------------------------------------------------
Property & Casualty
North American
Earned premiums and other revenues
Business Insurance 897 766 1,777 1,498
Personal Lines 817 772 1,617 1,519
Specialty Commercial 436 333 858 623
Reinsurance 63 172 214 343
- ------------------------------------------------------------------------------------------------------------------------------------
Total North American earned premiums and other revenues 2,213 2,043 4,466 3,983
Net investment income 257 234 500 451
Net realized capital gains (losses) 155 (28) 140 (21)
- ------------------------------------------------------------------------------------------------------------------------------------
Total North American 2,625 2,249 5,106 4,413
Other Operations 92 40 152 96
- ------------------------------------------------------------------------------------------------------------------------------------
Total Property & Casualty 2,717 2,289 5,258 4,509
- ------------------------------------------------------------------------------------------------------------------------------------
Corporate 3 5 7 9
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES $ 4,682 $ 3,992 $ 9,013 $ 8,052
====================================================================================================================================
<FN>
[1] Amounts include net realized capital gains (losses), before-tax, of $50 and
$(120) for the second quarter ended June 30, 2003 and 2002, respectively,
and $2 and $(135) for the six months ended June 30, 2003, and 2002,
respectively.
</FN>
- 18 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 6. SEGMENT INFORMATION (CONTINUED)
NET INCOME (LOSS) SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------------------- -----------------------------
2003 2002 2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Life
Investment Products $ 141 $ 118 $ 239 $ 235
Individual Life 36 35 68 66
Group Benefits 35 30 69 58
COLI 9 10 19 10
Other [1] 22 (92) (26) (98)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Life 243 101 369 271
- ------------------------------------------------------------------------------------------------------------------------------------
Property & Casualty
North American underwriting results
Business Insurance 42 (8) 30 (4)
Personal Lines 3 (24) 55 (35)
Specialty Commercial (4) 8 (4) (2)
Reinsurance (76) (9) (95) (13)
- ------------------------------------------------------------------------------------------------------------------------------------
Total North American underwriting results (35) (33) (14) (54)
Net servicing and other income 3 1 6 3
Net investment income 257 234 500 451
Other expenses [2] (78) (58) (123) (109)
Net realized capital gains (losses) 155 (28) 140 (21)
Income tax expense (73) (15) (112) (42)
- ------------------------------------------------------------------------------------------------------------------------------------
Total North American 229 101 397 228
Other Operations 48 (11) (1,633) (10)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Property & Casualty 277 90 (1,236) 218
- ------------------------------------------------------------------------------------------------------------------------------------
Corporate (13) (6) (21) (12)
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME (LOSS) $ 507 $ 185 $ (888) $ 477
====================================================================================================================================
<FN>
[1] Amounts include net realized capital gains (losses), after-tax, of $32 and
$(76) for the second quarter ended June 30, 2003 and 2002, respectively,
and $1 and $(83) for the six months ended June 30, 2003, and 2002,
respectively.
[2] Amounts include before-tax severance charges of $41 for the second quarter
and six months ended June 30, 2003.
</FN>
NOTE 7. DEBT JUNE 30, DECEMBER, 31,
2003 2002
- --------------------------------------------------------------------
SHORT-TERM DEBT
Commercial paper $ 315 $ 315
Current maturities of long-term debt 199 --
- --------------------------------------------------------------------
TOTAL SHORT-TERM DEBT $ 514 $ 315
====================================================================
LONG-TERM DEBT [1]
6.9% Notes, due 2004 $ -- $ 199
7.75% Notes, due 2005 247 247
2.375% Notes, due 2006 250 --
7.1% Notes, due 2007 198 198
4.7% Notes, due 2007 300 300
6.375% Notes, due 2008 200 200
4.1% Equity Units Notes, due 2008 330 330
2.56% Equity Units Notes, due 2008 690 --
7.9% Notes, due 2010 274 274
7.3% Notes, due 2015 200 200
7.65% Notes, due 2027 248 248
7.375% Notes, due 2031 400 400
- --------------------------------------------------------------------
TOTAL LONG-TERM DEBT $ 3,337 $ 2,596
====================================================================
[1] The Hartford's long-term debt securities are issued by either The Hartford
Financial Services Group, Inc. ("HFSG") or HLI and are unsecured
obligations of HFSG or HLI and rank on a parity with all other unsecured
and unsubordinated indebtedness of HFSG or HLI.
(A) LONG-TERM DEBT
Equity Units Offering
On May 23, 2003, The Hartford issued 12.0 million 7% equity units at a price of
fifty dollars per unit and received net proceeds of $582. Subsequently, on May
30, 2003, The Hartford issued an additional 1.8 million 7% equity units at a
price of fifty dollars per unit and received net proceeds of $87.
Each equity unit offered initially consists of a corporate unit with a stated
amount of fifty dollars per unit. Each corporate unit consists of one purchase
contract for the sale of a certain number of shares of the Company's stock and a
5% ownership interest in one thousand dollars principal amount of senior notes
due August 16, 2008.
The corporate unit may be converted by the holder into a treasury unit
consisting of the purchase contract and a 5% undivided beneficial interest in a
zero-coupon U.S. Treasury security with a principal amount of one thousand
dollars that matures on August 15, 2006. The holder of an equity unit owns the
underlying senior notes or treasury securities but has pledged the senior notes
or treasury securities to the Company to secure the holder's obligations under
the purchase contract.
- 19 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 7. DEBT (CONTINUED)
(A) LONG-TERM DEBT (CONTINUED)
Equity Units Offering (continued)
- ---------------------------------
The purchase contract obligates the holder to purchase, and obligates The
Hartford to sell, on August 16, 2006, for fifty dollars, a variable number of
newly issued common shares of The Hartford. The number of The Hartford's shares
to be issued will be determined at the time the purchase contracts are settled
based upon the then current applicable market value of The Hartford's common
stock. If the applicable market value of The Hartford's common stock is equal to
or less than $45.50, then the Company will deliver 1.0989 shares to the holder
of the equity unit, or an aggregate of 15.2 million shares. If the applicable
market value of The Hartford's common stock is greater than $45.50 but less than
$56.875, then the Company will deliver the number of shares equal to fifty
dollars divided by the then current applicable market value of The Hartford's
common stock to the holder. Finally, if the applicable market value of The
Hartford's common stock is equal to or greater than $56.875, then the Company
will deliver 0.8791 shares to the holder, or an aggregate of 12.1 million
shares. Accordingly, upon settlement of the purchase contracts on August 16,
2006, The Hartford will receive proceeds of approximately $690 and will deliver
between 12.1 million and 15.2 million common shares in the aggregate. The
proceeds will be credited to stockholders' equity and allocated between the
common stock and additional paid-in-capital accounts. The Hartford will make
quarterly contract adjustment payments to the equity unit holders at a rate of
4.44% of the stated amount per year until the purchase contract is settled.
Each corporate unit also includes a 5% ownership interest in one thousand
dollars principal amount of senior notes that will mature on August 16, 2008.
The aggregate maturity value of the senior notes is $690. The notes are pledged
by the holders to secure their obligations under the purchase contracts. The
Hartford will make quarterly interest payments to the holders of the notes
initially at an annual rate of 2.56%. On May 11, 2006, the notes will be
remarketed. At that time, The Hartford's remarketing agent will have the ability
to reset the interest rate on the notes in order to generate sufficient
remarketing proceeds to satisfy the holder's obligation under the purchase
contract. If the initial remarketing is unsuccessful, the remarketing agent will
attempt to remarket the notes, as necessary, on June 13, 2006, July 12, 2006 and
August 11, 2006. If all remarketing attempts are unsuccessful, the Company will
exercise its rights as a secured party to obtain and extinguish the notes.
The total distributions payable on the equity units are at an annual rate of 7%,
consisting of interest (2.56%) and contract adjustment payments (4.44%). The
corporate units are listed on the New York Stock Exchange under the symbol "HIG
PrD".
The present value of the contract adjustment payments of $95 was accrued upon
the issuance of the equity units as a charge to additional paid-in capital and
is included in other liabilities in the accompanying condensed consolidated
balance sheet as of June 30, 2003. Subsequent contract adjustment payments will
be allocated between this liability account and interest expense based on a
constant rate calculation over the life of the purchase contracts. Additional
paid-in capital as of June 30, 2003 also reflected a charge of $17 representing
a portion of the equity unit issuance costs that were allocated to the purchase
contracts.
The equity units have been reflected in the diluted earnings per share
calculation using the treasury stock method, which would be used for the equity
units at any time before the settlement of the purchase contracts. Under the
treasury stock method, the number of shares of common stock used in calculating
diluted earnings per share is increased by the excess, if any, of the number of
shares issuable upon settlement of the purchase contracts over the number of
shares that could be purchased by The Hartford in the market, at the average
market price during the period, using the proceeds received upon settlement. The
Company anticipates that there will be no dilutive effect on its earnings per
share related to the equity units, except during periods when the average market
price of a share of the Company's common stock is above the threshold
appreciation price of $56.875. Because the average market price of The
Hartford's common stock during the quarter ended June 30, 2003 was below this
threshold appreciation price, the shares issuable under the purchase contract
component of the equity units have not been included in the diluted earnings per
share calculation.
Senior Notes Offering
- ---------------------
On May 23, 2003, The Hartford issued 2.375% senior notes due June 1, 2006 and
received net proceeds of $249. Interest on the notes is payable semi-annually on
June 1 and December 1, commencing on December 1, 2003.
- 20 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 7. DEBT (CONTINUED)
(B) SHORT-TERM DEBT
OUTSTANDING
AS OF
-------------------------------
EFFECTIVE EXPIRATION MAXIMUM JUNE 30, DECEMBER 31,
DESCRIPTION DATE DATE AVAILABLE 2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Commercial Paper
The Hartford 11/10/86 N/A $ 2,000 $ 315 $ 315
HLI 2/7/97 N/A 250 -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Total commercial paper $ 2,250 $ 315 $ 315
Revolving Credit Facility
5-year revolving credit facility 6/20/01 6/20/06 $ 1,000 $ -- $ --
3-year revolving credit facility 12/31/02 12/31/05 490 -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Total revolving credit facility $ 1,490 $ -- $ --
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL SHORT-TERM DEBT [1] $ 3,740 $ 315 $ 315
====================================================================================================================================
<FN>
[1] Excludes current maturities of long-term debt of $199 and $0 as of June
30, 2003 and December 31, 2002, respectively.
</FN>
On December 31, 2002, the Company and HLI entered into a joint three-year
Competitive Advance and Revolving Credit Facility with 12 participating banks to
enable the Company and HLI to borrow an aggregate amount of up to $490. As of
June 30, 2003 and December 31, 2002, there were no outstanding borrowings under
this facility.
On February 26, 2003, the Company entered into a Second Amended and Restated
Five-Year Competitive Advance and Revolving Credit Facility with 11
participating banks to amend and restate the Company's ability to borrow an
aggregate amount of up to $1,000. As of June 30, 2003 and December 31, 2002,
there were no outstanding borrowings under this facility.
(C) DESCRIPTION OF TRUST PREFERRED SECURITIES
The Hartford and its subsidiary HLIC, have formed statutory business trusts,
which exist for the exclusive purposes of (i) issuing Trust Securities
representing undivided beneficial interests in the assets of the Trust; (ii)
investing the gross proceeds of the Trust Securities in Junior Subordinated
Deferrable Interest Debentures (Junior Subordinated Debentures) of its parent;
and (iii) engaging in only those activities necessary or incidental thereto.
These Junior Subordinated Debentures and the related income effects are
eliminated in the consolidated financial statements.
The financial structure of Hartford Capital I and III, and Hartford Life Capital
I and II, as of June 30, 2003 and December 31, 2002, were as follows:
Hartford Capital Hartford Life Hartford Life Hartford
III Capital II Capital I Capital I [4]
- ------------------------------------------------------------------------------------------------------------------------------------
TRUST SECURITIES
Issuance date Oct. 26, 2001 Mar. 6, 2001 June 29, 1998 Feb. 28, 1996
Securities issued 20,000,000 8,000,000 10,000,000 20,000,000
Liquidation preference per security $25 $25 $25 $25
Liquidation value (in millions) $500 $200 $250 $500
Coupon rate 7.45% 7.625% 7.20% 7.70%
Distribution payable Quarterly Quarterly Quarterly Quarterly
Distribution guaranteed by [1] The Hartford HLI HLI The Hartford
JUNIOR SUBORDINATED DEBENTURES [2] [3]
Amount owed (in millions) $500 $200 $250 $500
Coupon rate 7.45% 7.625% 7.20% 7.70%
Interest payable Quarterly Quarterly Quarterly Quarterly
Maturity date Oct. 26, 2050 Feb. 15, 2050 June 30, 2038 Feb. 28, 2016
Redeemable by issuer on or after Oct. 26, 2006 Mar. 6, 2006 June 30, 2003 Feb. 28, 2001
- ------------------------------------------------------------------------------------------------------------------------------------
<FN>
[1] The Hartford has guaranteed, on a subordinated basis, all of the Hartford
Capital III obligations under the Hartford Series C Preferred Securities,
including to pay the redemption price and any accumulated and unpaid
distributions to the extent of available funds and upon dissolution,
winding up or liquidation, but only to the extent that Hartford Capital III
has funds to make such payments.
[2] For each of the respective debentures, The Hartford or HLI, has the right
at any time, and from time to time, to defer payments of interest on the
Junior Subordinated Debentures for a period not exceeding 20 consecutive
quarters up to the debentures' maturity date. During any such period,
interest will continue to accrue and The Hartford or HLI may not declare or
pay any cash dividends or distributions on, or purchase, The Hartford's or
HLI's capital stock nor make any principal, interest or premium payments on
or repurchase any debt securities that rank equally with or junior to the
Junior Subordinated Debentures. The Hartford or HLI will have the right at
any time to dissolve the Trust and cause the Junior Subordinated Debentures
to be distributed to the holders of the Preferred Securities.
[3] The Hartford Junior Subordinated Debentures are unsecured and rank junior
and subordinate in right of payment to all senior debt of The Hartford and
are effectively subordinated to all existing and future liabilities of its
subsidiaries.
[4] $180 of the securities for Hartford Capital I were redeemed on June 30,
2003. The Company expects to redeem the remaining $320 of these securities
on September 30, 2003. For further discussion, see Note 11.
</FN>
- 21 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 7. DEBT (CONTINUED)
(D) INTEREST EXPENSE
The following table presents interest expense incurred related to debt and trust
preferred securities for the second quarter and six months ended June 30, 2003
and 2002, respectively.
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------------------- -----------------------------
2003 2002 2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Short-term debt (including current maturities of long-term debt) $ 2 $ 2 $ 3 $ 3
Long-term debt 46 41 89 83
Trust preferred securities 21 22 43 45
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL INTEREST EXPENSE $ 69 $ 65 $ 135 $ 131
====================================================================================================================================
NOTE 8. STOCKHOLDERS' EQUITY
Issuance of Common Stock
- ------------------------
On May 23, 2003, The Hartford issued approximately 24.2 million shares of common
stock pursuant to an underwritten offering at a price to the public of $45.50
per share and received net proceeds of $1.1 billion. Subsequently, on May 30,
2003, The Hartford issued approximately 2.2 million shares of common stock at a
price to the public of $45.50 per share and received net proceeds of $97. On May
23, 2003 and May 30, 2003, The Hartford issued 12.0 million 7% equity units and
1.8 million 7% equity units, respectively. Each equity unit contains a purchase
contract obligating the holder to purchase and The Hartford to sell, a variable
number of newly issued shares of The Hartford's common stock. Upon settlement of
the purchase contracts on August 16, 2006, The Hartford will receive proceeds of
approximately $690 and will deliver between 12.1 million and 15.2 million shares
in the aggregate. For further discussion of the equity units issuance, see Note
7 above.
NOTE 9. ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
Comprehensive income (loss) is defined as all changes in stockholders' equity,
except those arising from transactions with stockholders. Comprehensive income
(loss) includes net income (loss) and other comprehensive income (loss), which
for the Company consists of changes in unrealized appreciation or depreciation
of investments carried at market value, changes in gains or losses on cash-flow
hedging instruments, changes in foreign currency translation gains or losses and
changes in the Company's minimum pension liability.
The components of accumulated other comprehensive income (loss) were as follows:
NET NET GAIN (LOSS) FOREIGN MINIMUM
UNREALIZED ON CASH-FLOW CURRENCY PENSION ACCUMULATED
GAIN ON HEDGING CUMULATIVE LIABILITY OTHER
SECURITIES, INSTRUMENTS, TRANSLATION ADJUSTMENT, COMPREHENSIVE
FOR THE SECOND QUARTER ENDED JUNE 30, 2003 NET OF TAX NET OF TAX ADJUSTMENTS NET OF TAX INCOME (LOSS)
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, BEGINNING OF PERIOD $ 1,621 $ 105 $ (86) $ (383) $ 1,257
Unrealized gain/loss on securities [1] [2] 555 -- -- -- 555
Foreign currency translation adjustments -- -- 10 -- 10
Net gain/loss on cash-flow hedging instruments [1] [3] -- (15) -- -- (15)
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, END OF PERIOD $ 2,176 $ 90 $ (76) $ (383) $ 1,807
====================================================================================================================================
FOR THE SECOND QUARTER ENDED JUNE 30, 2002
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, BEGINNING OF PERIOD $ 371 $ 46 $ (120) $ (19) $ 278
Unrealized gain/loss on securities [1] [2] 418 -- -- -- 418
Foreign currency translation adjustments -- -- 1 -- 1
Net gain/loss on cash-flow hedging instruments [1] [3] -- 31 -- -- 31
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, END OF PERIOD $ 789 $ 77 $ (119) $ (19) $ 728
====================================================================================================================================
- 22 -
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(unaudited)
NOTE 9. ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS) (CONTINUED)
NET NET GAIN (LOSS) FOREIGN MINIMUM
UNREALIZED ON CASH-FLOW CURRENCY PENSION ACCUMULATED
GAIN ON HEDGING CUMULATIVE LIABILITY OTHER
SECURITIES, INSTRUMENTS, TRANSLATION ADJUSTMENT, COMPREHENSIVE
FOR THE SIX MONTHS ENDED JUNE 30, 2003 NET OF TAX NET OF TAX ADJUSTMENTS NET OF TAX INCOME (LOSS)
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, BEGINNING OF PERIOD $ 1,444 $ 128 $ (95) $ (383) $ 1,094
Unrealized gain/loss on securities [1] [2] 732 -- -- -- 732
Foreign currency translation adjustments -- -- 19 -- 19
Net gain/loss on cash-flow hedging instruments [1] [3] -- (38) -- -- (38)
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, END OF PERIOD $ 2,176 $ 90 $ (76) $ (383) $ 1,807
====================================================================================================================================
FOR THE SIX MONTHS ENDED JUNE 30, 2002
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, BEGINNING OF PERIOD $ 606 $ 63 $ (116) $ (19) $ 534
Unrealized gain/loss on securities [1] [2] 183 -- -- -- 183
Foreign currency translation adjustments -- -- (3) -- (3)
Net gain/loss on cash-flow hedging instruments [1] [3] -- 14 -- -- 14
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, END OF PERIOD $ 789 $ 77 $ (119) $ (19) $ 728
====================================================================================================================================
<FN>
[1] Unrealized gain/loss on securities is net of tax and other items of $486
and $226 for the second quarter and $617 and $99 for the six months ended
June 30, 2003 and 2002, respectively. Net gain/loss on cash-flow hedging
instruments is net of tax expense (benefit) of $(8) and $17 for the second
quarter and $(20) and $8 for the six months ended June 30, 2003 and 2002,
respectively.
[2] Net of reclassification adjustment for gains (losses) realized in net
income (loss) of $146 and $(104) for the second quarter and $115 and $(104)
for the six months ended June 30, 2003 and 2002, respectively.
[3] Net of amortization adjustment of $4 and $1 for the second quarter and $13
and $2 for the six months ended June 30, 2003 and 2002, respectively.
</FN>
NOTE 10. REINSURANCE RECAPTURE
On June 30, 2003, the Company recaptured a block of business previously
reinsured with an unaffiliated reinsurer. Under this treaty, HLI reinsured a
portion of the GMDB feature associated with certain of its annuity contracts. As
consideration for recapturing the business and final settlement under the
treaty, the Company has received assets valued at approximately $32 and one
million warrants exercisable for the unaffiliated company's stock. This amount
represents to the Company an advance collection of its future recoveries under
the reinsurance agreement and will be recognized as future losses are recorded
in 2003 or upon the adoption of the SOP (see Note 1(f)). Prospectively, as a
result of the recapture, HLI will be responsible for all of the remaining and
ongoing risks associated with the GMDB related to this block of business. The
recapture increased the net amount at risk retained by the Company at June 30,
2003 by $799, which is included in the net amount at risk discussed in Note
1(f).
NOTE 11. SUBSEQUENT EVENTS
On July 10, 2003, the Company issued 4.625% senior notes due July 15, 2013 and
received net proceeds of $317. Interest on the notes is payable semi-annually on
January 15 and July 15, commencing on January 15, 2004. The Company intends to
use the proceeds, plus available cash, to redeem the remaining $320 of 7.7%
trust preferred securities on September 30, 2003.
On July 18, 2003, the Company entered into an agreement to sell a wholly owned
subsidiary, Trumbull Associates, LLC, for approximately $36, resulting in an
estimated gain of approximately $15, after-tax. The revenues and net income of
Trumbull Associates, LLC were not material to the Company or the Property &
Casualty operation. The transaction is expected to close in the third quarter of
2003.
- 23 -
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(Dollar amounts in millions except share data unless otherwise stated)
Management's Discussion and Analysis of Financial Condition and Results of
Operations ("MD&A") addresses the financial condition of The Hartford Financial
Services Group, Inc. and its subsidiaries (collectively, "The Hartford" or the
"Company") as of June 30, 2003, compared with December 31, 2002, and its results
of operations for the second quarter and six months ended June 30, 2003,
compared to the equivalent 2002 periods. This discussion should be read in
conjunction with the MD&A in The Hartford's 2002 Form 10-K Annual Report.
Certain of the statements contained herein are forward-looking statements. These
forward-looking statements are made pursuant to the safe harbor provisions of
the Private Securities Litigation Reform Act of 1995 and include estimates and
assumptions related to economic, competitive and legislative developments. These
forward-looking statements are subject to change and uncertainty which are, in
many instances, beyond the Company's control and have been made based upon
management's expectations and beliefs concerning future developments and their
potential effect upon the Company. There can be no assurance that future
developments will be in accordance with management's expectations or that the
effect of future developments on The Hartford will be those anticipated by
management. Actual results could differ materially from those expected by the
Company, depending on the outcome of various factors. These factors include: the
difficulty in predicting the Company's potential exposure for asbestos and
environmental claims and related litigation, in particular, significant
uncertainty with regard to the outcome of the Company's current dispute with Mac
Arthur Company and its subsidiary, Western MacArthur Company (collectively or
individually, "MacArthur"); the uncertain nature of damage theories and loss
amounts and the development of additional facts related to the September 11
terrorist attack ("September 11"); the uncertain effect on the Company of the
Jobs and Growth Tax Relief Reconciliation Act of 2003, in particular the
reduction in tax rates on long-term capital gains and most dividend
distributions; the response of reinsurance companies under reinsurance
contracts, the impact of increasing reinsurance rates and the availability and
adequacy of reinsurance to protect the Company against losses; the inability to
effectively mitigate the impact of equity market volatility on the Company's
financial position and results of operations arising from obligations under
annuity product guarantees; the possibility of more unfavorable loss experience
than anticipated; the possibility of general economic and business conditions
that are less favorable than anticipated; the incidence and severity of
catastrophes, both natural and man-made; the effect of changes in interest
rates, the stock markets or other financial markets; stronger than anticipated
competitive activity; unfavorable legislative, regulatory or judicial
developments; the Company's ability to distribute its products through
distribution channels, both current and future; the uncertain effects of
emerging claim and coverage issues; the effect of assessments and other
surcharges for guaranty funds and second-injury funds and other mandatory
pooling arrangements; a downgrade in the Company's claims-paying, financial
strength or credit ratings; the ability of the Company's subsidiaries to pay
dividends to the Company; and other factors described in such forward-looking
statements.
Certain reclassifications have been made to prior year financial information to
conform to the current year presentation.
- --------------------------------------------------------------------------------
INDEX
- --------------------------------------------------------------------------------
Critical Accounting Estimates 24
Consolidated Results of Operations: Operating Summary 26
Life 29
Investment Products 30
Individual Life 31
Group Benefits 31
Corporate Owned Life Insurance ("COLI") 32
Property & Casualty 33
Business Insurance 36
Personal Lines 37
Specialty Commercial 38
Reinsurance 39
Other Operations (Including Asbestos and
Environmental Claims) 40
Investments 43
Capital Markets Risk Management 45
Capital Resources and Liquidity 50
Accounting Standards 54
- --------------------------------------------------------------------------------
CRITICAL ACCOUNTING ESTIMATES
- --------------------------------------------------------------------------------
The preparation of financial statements, in conformity with accounting
principles generally accepted in the United States of America ("GAAP"), requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
The Company has identified the following estimates as critical in that they
involve a higher degree of judgment and are subject to a significant degree of
variability: reserves; valuation of investments and derivative instruments;
deferred policy acquisition costs; pension and other postretirement benefits;
and contingencies. In developing these estimates management makes subjective and
complex judgments that are inherently uncertain and subject to material change
as facts and circumstances develop. Although variability is inherent in these
estimates, management believes the amounts provided are appropriate based upon
the facts available upon compilation of the financial statements.
- 24 -
RESERVES
ASBESTOS AND ENVIRONMENTAL CLAIMS
In the first quarter of 2003, The Hartford conducted a detailed study of its
asbestos exposures. The Company undertook the study consistent with its practice
of regularly updating its reserve estimates as new information becomes
available. As a result of the study, the Company strengthened its gross and net
asbestos reserves by $3.9 billion and $2.6 billion, respectively, during the
first quarter ended March 31, 2003.
The process of estimating asbestos reserves remains subject to a wide variety of
uncertainties, which are detailed in Note 5(b) of Notes to Condensed
Consolidated Financial Statements. Due to these uncertainties, further
developments could cause The Hartford to change its estimates of asbestos
reserves and the effect of these changes could be material to the Company's
consolidated operating results, financial condition and liquidity.
DEFERRED POLICY ACQUISITION COSTS
LIFE
Policy acquisition costs, which include commissions and certain other expenses
that vary with and are primarily associated with acquiring business, are
deferred and amortized over the estimated lives of the contracts, usually 20
years. These deferred costs, together with the present value of future profits
of acquired business, are recorded as an asset commonly referred to as deferred
policy acquisition costs and present value of future profits ("DAC"). At June
30, 2003 and December 31, 2002, the carrying value of the Company's Life
operations' DAC was $5.9 billion and $5.8 billion, respectively. For statutory
accounting purposes, such costs are expensed as incurred.
DAC related to traditional policies are amortized over the premium-paying period
in proportion to the present value of annual expected premium income. DAC
related to investment contracts and universal life-type contracts are deferred
and amortized using the retrospective deposit method. Under the retrospective
deposit method, acquisition costs are amortized in proportion to the present
value of the estimated gross profits ("EGPs") arising principally from projected
investment, mortality and expense margins and surrender charges. The
attributable portion of the DAC amortization is allocated to realized gains and
losses on investments. The DAC balance is also adjusted through other
comprehensive income by an amount that represents the amortization of deferred
policy acquisition costs that would have been required as a charge or credit to
operations had unrealized gains and losses on investments been realized. Actual
gross profits can vary from management's estimates, resulting in increases or
decreases in the rate of amortization.
The Company regularly evaluates its EGPs to determine if actual experience or
other evidence suggests that earlier estimates should be revised. In the event
that the Company were to revise its EGPs, the cumulative DAC amortization would
be adjusted to reflect such revised EGPs in the period the revision was
determined to be necessary. Several assumptions considered to be significant in
the development of EGPs include separate account fund performance, surrender and
lapse rates, estimated interest spread and estimated mortality. The separate
account fund performance assumption is critical to the development of the EGPs
related to the Company's variable annuity and variable life insurance
businesses. The average annual long-term rate of assumed separate account fund
performance (before mortality and expense charges) used in estimating gross
profits for the variable annuity and variable life business was 9% for the
six-month periods ended June 30, 2003 and June 30, 2002. For other products,
including fixed annuities and other universal life-type contracts, the average
assumed investment yield ranged from 5% to 8.5% for the periods ended June 30,
2003 and June 30, 2002.
Due to increased volatility and the decline experienced by the U.S. equity
markets in recent periods, the Company continues to enhance its DAC evaluation
process. The Company has developed sophisticated modeling capabilities, which
allowed it to run a large number of stochastically determined scenarios of
separate account fund performance. These scenarios were then utilized to
calculate a statistically significant range of reasonable estimates of EGPs.
This range was then compared to the present value of EGPs currently utilized in
the DAC amortization model. As of June 30, 2003, the present value of the EGPs
utilized in the DAC amortization model fall within a reasonable range of
statistically calculated present value of EGPs. As a result, the Company does
not believe there is sufficient evidence to suggest that a revision to the EGPs
(and therefore, a revision to the DAC) as of June 30, 2003 is necessary;
however, if in the future the EGPs utilized in the DAC amortization model were
to exceed the margin of the reasonable range of statistically calculated EGPs, a
revision could be necessary. Furthermore, the Company has estimated that the
present value of the EGPs is likely to remain within a reasonable range if
overall separate account returns decline by 15% or less for the remainder of
2003, and if overall separate account returns decline by 10% or less for the
next twelve months, and if certain other assumptions that are implicit in the
computations of the EGPs are achieved.
Additionally, the Company continues to perform analyses with respect to the
potential impact of a revision to future EGPs. If such a revision to EGPs were
deemed necessary, the Company would adjust, as appropriate, all of its
assumptions for products accounted for in accordance with Statement of Financial
Accounting Standards ("SFAS") No. 97, "Accounting and Reporting by Insurance
Enterprises for Certain Long-Duration Contracts and for Realized Gains and
Losses from the Sale of Investments", and reproject its future EGPs based on
current account values at the end of the quarter in which a revision is deemed
to be necessary. To illustrate the effects of this process, assume the Company
had concluded that a revision of the Company's EGPs was required at June 30,
2003. If the Company assumed a 9% average long-term rate of growth from June 30,
2003 forward along with other appropriate assumption changes in determining the
revised EGPs, the Company estimates the cumulative positive adjustment to
amortization would be approximately $90-$105, after-tax. If instead the Company
were to assume a long-term growth rate of 8% in determining the revised EGPs,
the adjustment would be approximately $120-$135, after-tax. Assuming that such
an adjustment were to have been required, the Company anticipates that there
would have been immaterial impacts on its DAC amortization for the 2003 and 2004
years exclusive of the adjustment, and that there would have been positive
earnings effects in later years. Any such adjustment would not affect statutory
income or surplus, due to the prescribed accounting for such amounts that is
discussed above.
Aside from absolute levels and timing of market performance assumptions,
additional factors that will influence this
- 25 -
determination include the degree of volatility in separate account fund
performance and shifts in asset allocation within the separate account made by
policyholders. The overall return generated by the separate account is dependent
on several factors, including the relative mix of the underlying sub-accounts
among bond funds and equity funds as well as equity sector weightings. The
Company's overall separate account fund performance has been reasonably
correlated to the overall performance of the S&P 500 Index (which closed at 975
on June 30, 2003), although no assurance can be provided that this correlation
will continue in the future.
The overall recoverability of the DAC asset is dependent on the future
profitability of the business. The Company tests the aggregate recoverability of
the DAC asset by comparing the amounts deferred to the present value of total
EGPs. In addition, the Company routinely stress tests its DAC asset for
recoverability against severe declines in its separate account assets, which
could occur if the equity markets experienced another significant sell-off, as
the majority of policyholders' funds in the separate accounts is invested in the
equity market. As of June 30, 2003, the Company believed variable annuity
separate account assets could fall by at least 31% before portions of its DAC
asset would be unrecoverable.
OTHER CRITICAL ACCOUNTING ESTIMATES
There have been no material changes to the Company's critical accounting
estimates regarding Property & Casualty DAC; valuation of investments and
derivative instruments; pension and other postretirement benefits; and
contingencies since the filing of the Company's 2002 Form 10-K Annual Report.
- --------------------------------------------------------------------------------
CONSOLIDATED RESULTS OF OPERATIONS: OPERATING SUMMARY
- --------------------------------------------------------------------------------
OPERATING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premiums $ 2,812 $ 2,640 7% $ 5,661 $ 5,226 8%
Fee income 656 672 (2%) 1,273 1,334 (5%)
Net investment income 810 726 12% 1,606 1,432 12%
Other revenues 147 120 23% 269 233 15%
Net realized capital gains (losses) 257 (166) NM 204 (173) NM
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES 4,682 3,992 17% 9,013 8,052 12%
Benefits, claims and claim adjustment expenses 2,629 2,482 6% 7,874 4,898 61%
Amortization of deferred policy acquisition costs
and present value of future profits 557 573 (3%) 1,121 1,128 (1%)
Insurance operating costs and expenses 625 560 12% 1,192 1,094 9%
Other expenses 242 177 37% 422 364 16%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL BENEFITS, CLAIMS AND EXPENSES 4,053 3,792 7% 10,609 7,484 42%
- ------------------------------------------------------------------------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES 629 200 NM (1,596) 568 NM
Income tax expense (benefit) 122 15 NM (708) 91 NM
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME (LOSS) $ 507 $ 185 174% $ (888) $ 477 NM
====================================================================================================================================
The Hartford defines the following as "NM" or not meaningful: increases or
decreases greater than 200%, or changes from a net gain to a net loss position,
or visa versa.
OPERATING RESULTS
Revenues for the second quarter and six months ended June 30, 2003 increased
$690 and $961, respectively, over the comparable 2002 periods. Contributing to
these increases were net realized capital gains and earned pricing increases
within both the Business Insurance and Specialty Commercial segments. Higher net
investment income in the Investment Products segment also contributed to these
increases.
Benefits, claims and expenses increased $261 for the second quarter ended June
30, 2003 over the comparable prior year period. The increase was primarily due
to growth within the Business Insurance, Specialty Commercial and Investment
Products segments. Also contributing to the increase was $41 of severance
charges, before-tax, in Property & Casualty in 2003.
Benefits, claims and expenses increased $3.1 billion for the six months ended
June 30, 2003 over the comparable prior year period primarily due to the
Company's asbestos reserve strengthening actions during the first quarter of
2003.
As compared to the second quarter ended June 30, 2002, net income increased $322
for the second quarter ended June 30, 2003. The increase is primarily due to net
realized capital gains as well as continued strong earned pricing increases in
the Business Insurance and Specialty Commercial segments and the favorable
effect of the rebound in the equity markets on the Investment Products segment.
The net loss for the six months ended June 30, 2003 is primarily due to the
Company's first quarter 2003 asbestos reserve strengthening of $1.7 billion,
after-tax, partially offset by net realized capital gains. Included in net loss
for the six months ended June 30, 2003 is $27 of severance charges, after-tax,
in Property & Casualty. Included in net income for the six months ended June 30,
2002 is the $8 after-tax benefit recognized by Hartford Life, Inc. ("HLI")
related to the reduction of HLI's reserves associated with September 11 and $11
of after-tax expense related to litigation with Bancorp Services, LLC
("Bancorp"). (For further discussion of the Bancorp litigation, see Note 5(a) of
Notes to Condensed Consolidated Financial Statements.)
INCOME TAXES
The Hartford's Federal income tax returns are routinely audited by the Internal
Revenue Service ("IRS"). The Company is
- 26 -
currently under audit for the 1998-2001 tax years. No material issues have been
raised to date by the IRS. Management believes that adequate provision has been
made in the financial statements for any potential assessments that may result
from tax examinations and other tax-related matters.
The tax provision recorded during the second quarter of 2003, reflects a benefit
of $30, consisting primarily of a change in estimate of the dividends-received
deduction ("DRD") tax benefit reported during 2002. The change in estimate was
the result of 2002 actual investment performance on the related separate
accounts being unexpectedly out of pattern with past performance which had been
the basis for the estimate. In addition to the foregoing change in estimate,
based on the financial information received by the Company in preparing its 2002
Federal income tax returns, as well as its current best judgment, the Company
has revised its estimate of the 2003 fiscal year DRD benefit to $85, from its
prior estimate of $63. As a result of this revised estimate, in the second
quarter the Company revised its first quarter DRD benefit upwards by $5,
bringing the total DRD benefit related to the 2003 tax year for the six months
ended June 30, 2003 to $43.
The effective tax rate for the second quarter and six months ended June 30, 2003
was 19% and 44%, respectively, as compared with 8% and 16%, respectively, for
the comparable periods in 2002. Tax-exempt interest earned on invested assets
and the dividends received deduction were the principal causes of the effective
tax rates differing from the 35% U.S. statutory rate.
ADOPTION OF FAIR-VALUE RECOGNITION PROVISIONS FOR STOCK COMPENSATION
In December 2002, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure,
an Amendment to SFAS No. 123", which provides three optional transition methods
for entities that decide to voluntarily adopt the fair value recognition
principles of SFAS No. 123, "Accounting for Stock Issued to Employees", and
modifies the disclosure requirements of that SFAS No. 123. In January 2003, the
Company adopted the fair value recognition provisions of accounting for employee
stock compensation and used the prospective transition method. Under the
prospective method, stock-based compensation expense is recognized for awards
granted or modified after the beginning of the fiscal year in which the change
is made. The fair value of stock-based awards granted during the six months
ended June 30, 2003 was $32, after-tax. The fair value of these awards will be
recognized over the awards' vesting periods, generally three years.
All stock-based awards granted or modified prior to January 1, 2003 will
continue to be valued using the intrinsic value-based provisions set forth in
Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued
to Employees". Under the intrinsic value method, compensation expense is
determined on the measurement date, which is the first date on which both the
number of shares the employee is entitled to receive and the exercise price are
known. Compensation expense, if any, is measured based on the award's intrinsic
value, which is the excess of the market price of the stock over the exercise
price on the measurement date. The expense, including non-option plans, related
to stock-based employee compensation included in the determination of net income
for the second quarters and six months ended June 30, 2003 and 2002 is less than
that which would have been recognized if the fair value method had been applied
to all awards since the effective date of SFAS No. 123. For further discussion
of the Company's stock compensation plans, see Note 11 of Notes to Consolidated
Financial Statements included in The Hartford's 2002 Form 10-K Annual Report.
The following table illustrates the effect on net income and earnings per share
as if the fair value method had been applied to all outstanding and unvested
awards in each period.
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
--------------------------- -----------------------
2003 2002 2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Net income (loss), as reported $ 507 $ 185 $ (888) $ 477
Add: Stock-based employee compensation expense included in reported net
income (loss), net of related tax effects [1] 9 1 11 2
Deduct: Total stock-based employee compensation expense determined under
the fair value method for all awards, net of related tax effects (17) (15) (26) (25)
- ------------------------------------------------------------------------------------------------------------------------------------
Pro forma net income (loss) [2] $ 499 $ 171 $ (903) $ 454
====================================================================================================================================
Earnings (loss) per share:
Basic - as reported $ 1.89 $ 0.75 $ (3.39) $ 1.93
Basic - pro forma [2] $ 1.86 $ 0.69 $ (3.45) $ 1.84
Diluted - as reported [3] $ 1.88 $ 0.74 $ (3.39) $ 1.91
Diluted - pro forma [2] [3] $ 1.85 $ 0.68 $ (3.45) $ 1.81
====================================================================================================================================
<FN>
[1] Includes the impact of non-option plans of $1 and $1, respectively, for the
second quarter and $2 and $2, respectively, for the six months ended June
30, 2003 and 2002.
[2] The pro forma disclosures are not representative of the effects on net
income (loss) and earnings (loss) per share in future periods.
[3] As a result of the net loss in the six months ended June 30, 2003, SFAS No.
128 requires the Company to use basic weighted average common shares
outstanding in the calculation of the six months ended June 30, 2003
diluted earnings (loss) per share, as the inclusion of options of 1.0 would
have been antidilutive to the earnings per share calculation. In the
absence of the net loss, weighted average common shares outstanding and
dilutive potential common shares would have totaled 263.1.
</FN>
ORGANIZATIONAL STRUCTURE
The Hartford is organized into two major operations: Life and Property &
Casualty. Within these operations, The Hartford conducts business principally in
nine operating segments. Additionally, the capital raising and purchase
accounting adjustment activities related to the June 27, 2000 acquisition of all
- 27 -
of the shares of HLI that the Company did not already own ("the HLI
Repurchase"), as well as capital raised that has not been contributed to the
Company's insurance subsidiaries are included in Corporate.
Life is organized into four reportable operating segments: Investment Products,
Individual Life, Group Benefits and Corporate Owned Life Insurance ("COLI"). The
Company also includes in an Other category, its international operations, which
are primarily located in Japan and Brazil; realized capital gains and losses; as
well as corporate items not directly allocated to any of its reportable
operating segments, principally interest expense; and intersegment eliminations.
Property & Casualty is organized into five reportable operating segments: the
North American underwriting segments of Business Insurance, Personal Lines,
Specialty Commercial and Reinsurance; and the Other Operations segment, which
includes substantially all of the Company's asbestos and environmental
exposures. "North American" includes the combined underwriting results of the
Business Insurance, Personal Lines, Specialty Commercial and Reinsurance
underwriting segments along with income and expense items not directly allocated
to these segments, such as net investment income, net realized capital gains and
losses, and other expenses including interest, severance and income taxes.
Included in net income for North American is $27, after-tax, related to
severance costs associated with several expense reduction initiatives announced
in May 2003.
On May 16, 2003, as part of the Company's decision to withdraw from the assumed
reinsurance business, the Company entered into a quota share and purchase
agreement with Endurance Reinsurance Corporation of America ("Endurance")
whereby the Reinsurance segment retroceded the majority of its inforce book of
business as of April 1, 2003 and sold renewal rights to Endurance. Under the
quota share agreement, Endurance will reinsure most of the segment's assumed
reinsurance contracts that were written on or after January 1, 2002 and that had
unearned premium as of April 1, 2003. In addition, Endurance will pay a profit
sharing commission based on the loss performance of property treaty, property
catastrophe and aviation pool unearned premium. Under the purchase agreement,
Endurance will pay additional amounts, subject to a guaranteed minimum of $15,
based on the level of renewal premium on the reinsured contracts over the next
two years. The guaranteed minimum is reflected in net income for the quarter and
six months ended June 30, 2003. Prospectively, due to the nature of the
transaction, the Company will remain subject to ongoing reserve development
relating to all reinsurance contracts incepting before April 2003 that were part
of the Endurance transaction, and to the retained business.
The measure of profit or loss used by The Hartford's management in evaluating
the performance of its Life segments is net income. North American underwriting
segments are evaluated by The Hartford's management primarily based upon
underwriting results. Underwriting results represent earned premiums less
incurred claims, claim adjustment expenses and underwriting expenses.
Certain transactions between segments occur during the year that primarily
relate to tax settlements, insurance coverage, expense reimbursements, services
provided, security transfers and capital contributions. In addition, certain
reinsurance stop loss agreements exist between the segments which specify that
one segment will reimburse another for losses incurred in excess of a
predetermined limit. Also, one segment may purchase group annuity contracts from
another to fund pension costs and annuities to settle casualty claims. In
addition, certain intersegment transactions occur in Life. These transactions
include interest income on allocated surplus and the allocation of certain net
realized capital gains and losses through net investment income, utilizing the
duration of the segment's investment portfolios. During the six months ended
June 30, 2003, $1.8 billion of securities were sold by the Property & Casualty
operation to the Life operation. For segment reporting, the net gain on this
sale was deferred by the Property & Casualty operation and will be reported as
realized when the underlying securities are sold by the Life operation. On
December 1, 2002, the Company entered into a contract with a subsidiary, whereby
reinsurance will be provided to the Property & Casualty operations. The
financial results of this reinsurance program, net of retrocessions to unrelated
reinsurers, are included in the Specialty Commercial segment.
SEGMENT RESULTS
The following is a summary of net income (loss) for each of the Company's Life
segments and aggregate net income (loss) for the Company's Property & Casualty
operations.
NET INCOME (LOSS) SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Life
Investment Products $ 141 $ 118 19% $ 239 $ 235 2%
Individual Life 36 35 3% 68 66 3%
Group Benefits 35 30 17% 69 58 19%
COLI 9 10 (10%) 19 10 90%
Other 22 (92) NM (26) (98) 73%
- ------------------------------------------------------------------------------------------------------------------------------------
Total Life 243 101 141% 369 271 36%
- ------------------------------------------------------------------------------------------------------------------------------------
Property & Casualty
North American 229 101 127% 397 228 74%
Other Operations 48 (11) NM (1,633) (10) NM
- ------------------------------------------------------------------------------------------------------------------------------------
Total Property & Casualty 277 90 NM (1,236) 218 NM
- ------------------------------------------------------------------------------------------------------------------------------------
Corporate (13) (6) (117%) (21) (12) (75%)
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME (LOSS) $ 507 $ 185 174% $ (888) $ 477 NM
====================================================================================================================================
- 28 -
The following is a summary of North American underwriting results by
underwriting segment within Property & Casualty. Underwriting results represent
premiums earned less incurred claims, claim adjustment expenses and underwriting
expenses.
UNDERWRITING RESULTS (BEFORE-TAX) SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
North American
Business Insurance $ 42 $ (8) NM $ 30 $ (4) NM
Personal Lines 3 (24) NM 55 (35) NM
Specialty Commercial (4) 8 NM (4) (2) (100%)
Reinsurance (76) (9) NM (95) (13) NM
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL NORTH AMERICAN UNDERWRITING RESULTS $ (35) $ (33) (6%) $ (14) $ (54) 74%
====================================================================================================================================
In the sections that follow, the Company analyzes the results of operations of
its various segments using the performance measurements that the Company
believes are meaningful.
- --------------------------------------------------------------------------------
LIFE
- --------------------------------------------------------------------------------
OPERATING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premiums $ 706 $ 664 6% $ 1,389 $ 1,373 1%
Fee income 656 672 (2%) 1,273 1,334 (5%)
Net investment income 513 450 14% 1,020 898 14%
Other revenues 37 32 16% 64 64 --
Net realized capital gains (losses) 50 (120) NM 2 (135) NM
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES 1,962 1,698 16% 3,748 3,534 6%
Benefits, claims and claim adjustment expenses 1,086 1,028 6% 2,169 2,085 4%
Amortization of deferred policy acquisition costs
and present value of future profits 175 171 2% 338 323 5%
Insurance operating costs and expenses 395 358 10% 746 715 4%
Other expenses 32 32 -- 65 80 (19%)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL BENEFITS, CLAIMS AND EXPENSES 1,688 1,589 6% 3,318 3,203 4%
- ------------------------------------------------------------------------------------------------------------------------------------
INCOME BEFORE INCOME TAXES 274 109 151% 430 331 30%
Income tax expense 31 8 NM 61 60 2%
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME $ 243 $ 101 141% $ 369 $ 271 36%
====================================================================================================================================
Revenues increased for the second quarter and six months ended June 30, 2003
primarily as a result of realized capital gains reported in the Other category
compared to realized capital losses in the prior year comparable periods and
higher net investment income and earned premiums in the Investment Products
segment. Partially offsetting the revenue increases was lower fee income in the
Investment Products and COLI segments as well as lower net investment income in
the COLI segment. Fee income in the Investment Products segment was lower for
the second quarter and six months ended June 30, 2003 as a result of lower
average account values, specifically in individual annuities and mutual fund
businesses, due primarily to the lower equity market values compared to the
prior year periods. The decrease in COLI revenues for the second quarter and six
months ended June 30, 2003 was primarily as a result of lower net investment
income due to lower average leveraged COLI account values as compared to a year
ago. In addition, COLI had lower fee income resulting from lower equity market
levels and lower sales in the second quarter of 2003 and for the six months
ended June 30, 2003, as compared to the prior year comparable periods.
Benefits, claims and expenses increased for the second quarter and six months
ended June 30, 2003 primarily due to increases in Investment Products interest
credited associated with the growth in the segment and death benefit costs.
Partially offsetting this increase was a decrease in the Group Benefits
segment's loss costs compared to the prior year and a decrease in COLI expenses
consistent with lower COLI revenues. Additionally, the COLI expenses for the six
months ended June 30, 2003 decreased due to a charge incurred in the first
quarter of 2002, associated with the Bancorp Services, LLC ("Bancorp")
litigation. (For further discussion of the Bancorp litigation, see Note 5(a) of
Notes to Condensed Consolidated Financial Statements.)
Net income increased for the second quarter and six months ended June 30, 2003
as a result of the increase in revenues and net realized capital gains described
above compared to a year ago. Group Benefits net income increased driven
principally by decreased benefits and claims expenses. COLI net income increased
$9 for the six months ended June 30, 2003 as compared to the prior year period,
primarily due to the charge for the Bancorp litigation in 2002 discussed above.
Additionally, net income for the six month period ended June 30, 2002 was
positively impacted by an $8 after-tax benefit related to favorable development
on Life's estimated September 11 exposure, which was recognized in the first
quarter of 2002.
The tax provision recorded during the second quarter of 2003, reflects a benefit
of $30, consisting primarily of a change in estimate of the DRD tax benefit
reported during 2002. The change in estimate was the result of 2002 actual
investment performance on the related separate accounts being unexpectedly
- 29 -
out of pattern with past performance which had been the basis for the estimate.
In addition to the foregoing change in estimate, based on the financial
information received by the Company in preparing its 2002 Federal income tax
returns, as well as its current best judgment, the Company has revised its
estimate of the 2003 fiscal year DRD benefit to $85, from its prior estimate of
$63. As a result of this revised estimate, in the second quarter the Company
revised its first quarter DRD benefit upwards by $5, bringing the total DRD
benefit related to the 2003 tax year for the six months ended June 30, 2003 to
$43.
- --------------------------------------------------------------------------------
INVESTMENT PRODUCTS
- --------------------------------------------------------------------------------
OPERATING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Fee income and other $ 411 $ 436 (6%) $ 784 $ 868 (10%)
Earned premiums 143 78 83% 234 210 11%
Net investment income 323 252 28% 632 498 27%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES 877 766 14% 1,650 1,576 5%
Benefits, claims and claim adjustment expenses 451 327 38% 845 700 21%
Insurance operating costs and other expenses 161 164 (2%) 305 332 (8%)
Amortization of deferred policy acquisition costs 121 120 1% 230 234 (2%)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL BENEFITS, CLAIMS AND EXPENSES 733 611 20% 1,380 1,266 9%
- ------------------------------------------------------------------------------------------------------------------------------------
INCOME BEFORE INCOME TAXES 144 155 (7%) 270 310 (13%)
Income tax expense 3 37 (92%) 31 75 (59%)
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME $ 141 $ 118 19% $ 239 $ 235 2%
====================================================================================================================================
Individual variable annuity account values $ 73,748 $ 67,712 9%
Other individual annuity account values 10,587 10,413 2%
Other investment products account values 22,755 19,511 17%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL ACCOUNT VALUES [1] 107,090 97,636 10%
Mutual fund assets under management 17,862 16,216 10%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENT PRODUCTS ASSETS UNDER MANAGEMENT $ 124,952 $ 113,852 10%
- ------------------------------------------------------------------------------------------------------------------------------------
<FN>
[1] Includes policyholder balances for investment contracts and reserves for
future policy benefits for insurance contracts.
</FN>
Revenues in the Investment Products segment increased for the second quarter and
six months ended June 30, 2003 primarily due to higher net investment income and
higher earned premiums. Net investment income increased due to higher general
account assets in the individual annuity business. General account individual
annuity assets were $9.9 billion as of June 30, 2003, an increase of $3.9
billion, or 65%, from June 30, 2002, due to policyholders transfer activity and
increased sales of individual annuities. Additionally, net investment income
related to other investment products increased as a result of the growth in
average assets over the last twelve months in the institutional investment
business, where related assets under management increased $1.8 billion, or 19%,
since June 30, 2002, to $11.2 billion as of June 30, 2003. Assets under
management is an internal performance measure used by the Company since a
significant portion of the Company's revenue is based upon asset values. These
revenues increase or decrease with a rise or fall, respectively, in the level of
average assets under management. The increase in earned premiums is due to
higher sales of certain products in the institutional investment products
business. Partially offsetting the revenue increases was lower fee income for
the second quarter and six months ended June 30, 2003 as a result of lower
average assets, specifically in individual annuities and mutual fund assets, due
primarily to lower equity market levels.
Total benefits, claims and expenses increased for the second quarter and six
months ended June 30, 2003, primarily driven by increased interest credited as a
result of growth in the segment's general account assets discussed above and
death benefit costs.
Net income increased for the second quarter and six months ended June 30, 2003,
primarily as a result of the favorable impact of $21, resulting from the
Company's previously discussed change in estimate of the DRD tax benefit
reported during 2002. The change in estimate was the result of 2002 actual
investment performance on the related separate accounts being unexpectedly out
of pattern with past performance which had been the basis for the estimate. In
addition to the foregoing change in estimate, based on the financial information
received by the Company in preparing its 2002 Federal income tax returns, as
well as its current best judgment, the Company has revised its estimate of the
2003 fiscal year DRD benefit to $80, from its prior estimate of $58. As a result
of this revised estimate, in the second quarter the Company revised its first
quarter DRD benefit upwards by $5, bringing the total DRD benefit related to the
2003 tax year for the six months ended June 30, 2003 to $40. In addition, for
the six months ended June 30, 2003, net income was negatively affected by lower
average assets under management discussed above.
Future net income for the Investment Products segment may be affected by the
effectiveness of the risk management strategies the Company plans to implement
to mitigate the market risk associated with the guaranteed minimum withdrawal
benefit ("GMWB") rider currently being sold with the majority of new variable
annuity contracts. The GMWB rider is considered an embedded derivative for
accounting purposes. Beginning in July 2003, substantially all new contracts
with the GMWB will not be covered by reinsurance. These unreinsured contracts
are expected to generate some volatility in net income as the underlying
embedded derivative liabilities are marked to fair value each reporting period,
resulting in the recognition of net realized capital gains or losses in response
to changes in certain critical factors including capital market conditions and
policyholder behavior. The Company is evaluating alternative risk mitigation
- 30 -
strategies to limit future net income volatility that may be associated with new
sales of variable annuities with the GMWB rider. The Company will carefully
balance the value of product benefits to our policyholders with the Company's
profit objectives and risk tolerance.
- --------------------------------------------------------------------------------
INDIVIDUAL LIFE
- --------------------------------------------------------------------------------
OPERATING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Fee income and other $ 184 $ 180 2% $ 366 $ 350 5%
Earned premiums (6) (1) NM (10) (2) NM
Net investment income 62 70 (11%) 128 133 (4%)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES 240 249 (4%) 484 481 1%
Benefits, claims and claim adjustment expenses 108 112 (4%) 220 226 (3%)
Insurance operating costs and other expenses 39 40 (3%) 78 79 (1%)
Amortization of deferred policy acquisition costs 43 46 (7%) 89 79 13%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL BENEFITS, CLAIMS AND EXPENSES 190 198 (4%) 387 384 1%
- ------------------------------------------------------------------------------------------------------------------------------------
INCOME BEFORE INCOME TAXES 50 51 (2%) 97 97 --
Income tax expense 14 16 (13%) 29 31 (6%)
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME $ 36 $ 35 3% $ 68 $ 66 3%
====================================================================================================================================
Variable life account values $ 4,141 $ 3,760 10%
Total account values $ 8,066 $ 7,635 6%
- ------------------------------------------------------------------------------------------------------------------------------------
Variable life insurance in force $ 66,518 $ 64,930 2%
Total life insurance in force $ 127,520 $ 123,896 3%
====================================================================================================================================
Revenues in the Individual Life segment decreased for the second quarter ended
June 30, 2003 primarily driven by decreases in net investment income and lower
earned premiums. For the six months ended June 30, 2003, revenues increased
slightly due primarily to higher cost of insurance charges, resulting from the
growth in the total life insurance in force, partially offset by decreases in
net investment income and lower earned premiums. The decrease in investment
income was due primarily to lower investment yields. The lower earned premiums
were driven by higher ceded premiums and declining assumed premiums on the
Fortis block of business.
Total benefits, claims and expenses decreased for the second quarter principally
due to lower benefit costs resulting from favorable mortality experience when
compared to the prior year results. For the six months ended June 30, 2003,
total benefits, claims and expenses increased due primarily to higher
amortization of deferred policy acquisition costs resulting from higher gross
profits in the variable life business primarily due to improved mortality.
Net income increased for the second quarter and six months ended June 30, 2003
primarily due to the favorable impact of a $2 DRD benefit as discussed in the
Investment Products segment. In addition, growth in the in force business and
favorable comparable mortality experience were largely offset by lower net
investment income for the second quarter and six months ended June 30, 2003 and
higher amortization of deferred policy acquisition costs for the six months
ended June 30, 2003 when compared to the prior year comparable periods.
- --------------------------------------------------------------------------------
GROUP BENEFITS
- --------------------------------------------------------------------------------
OPERATING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premiums and other $ 573 $ 590 (3%) $ 1,175 $ 1,172 --
Net investment income 65 64 2% 130 126 3%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES 638 654 (2%) 1,305 1,298 1%
Benefits, claims and claim adjustment expenses 451 486 (7%) 940 960 (2%)
Amortization of deferred policy acquisition costs 5 3 67% 9 7 29%
Insurance operating costs and other expenses 138 127 9% 269 258 4%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL BENEFITS, CLAIMS AND EXPENSES 594 616 (4%) 1,218 1,225 (1%)
- ------------------------------------------------------------------------------------------------------------------------------------
INCOME BEFORE INCOME TAXES 44 38 16% 87 73 19%
Income tax expense 9 8 13% 18 15 20%
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME $ 35 $ 30 17% $ 69 $ 58 19%
====================================================================================================================================
Revenues, excluding buyout premiums, in the Group Benefits segment decreased for
the second quarter and six months ended June 30, 2003 primarily due to a
decrease in earned premiums. The premium buyouts were $1 and $29 for the second
quarter and six months ended June 30, 2003, respectively, compared to the prior
year periods that had no premium buyouts. Premiums, excluding buyouts, for the
second quarter and six months ended June 30, 2003 were lower as a result of the
Group Benefits
- 31 -
division's continued pricing and risk management discipline in light of a
challenging competitive and economic environment.
Total benefits, claims and expenses decreased for the second quarter and six
months ended June 30, 2003 due primarily to the favorable loss costs as compared
to the equivalent prior year periods. The segment's loss ratio (defined as
benefits and claims as a percentage of premiums and other considerations,
excluding buyouts) was 78.7% and 79.5% for the second quarter and six months
ended June 30, 2003, respectively as compared to 82.4% and 81.9% for the
comparable prior year periods.
Net income increased for the second quarter and six months ended June 30, 2003
principally due to the favorable loss ratios noted above. However, future net
income growth will be dependent upon the Group Benefits segment's ability to
increase earned premiums and continue to control benefit costs within pricing
assumptions. Although the second quarter and six months ended June 30, 2003 have
been favorably impacted with lower benefit ratios, these ratios may not be
indicative of benefits and claim costs in subsequent periods.
- --------------------------------------------------------------------------------
CORPORATE OWNED LIFE INSURANCE ("COLI")
- --------------------------------------------------------------------------------
OPERATING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Fee income and other $ 69 $ 75 (8%) $ 137 $ 159 (14%)
Net investment income 57 71 (20%) 116 147 (21%)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES 126 146 (14%) 253 306 (17%)
Benefits, claims and claim adjustment expenses 76 102 (25%) 164 217 (24%)
Insurance operating costs and expenses 11 15 (27%) 21 55 (62%)
Dividends to policyholders 25 15 67% 39 20 95%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL BENEFITS, CLAIMS AND EXPENSES 112 132 (15%) 224 292 (23%)
- ------------------------------------------------------------------------------------------------------------------------------------
INCOME BEFORE INCOME TAXES 14 14 -- 29 14 107%
Income tax expense 5 4 25% 10 4 150%
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME $ 9 $ 10 (10%) $ 19 $ 10 90%
====================================================================================================================================
Variable COLI account values $ 20,326 $ 19,076 7%
Leveraged COLI account values 3,137 4,119 (24%)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL ACCOUNT VALUES $ 23,463 $ 23,195 1%
====================================================================================================================================
COLI revenues decreased for the second quarter and six months ended June 30,
2003 due to lower net investment and fee income. Net investment income
decreased, primarily related to the decline in leveraged COLI account values as
a result of surrender activity. Fee income was reduced as the result of lower
equity market levels and lower sales for the second quarter and six months ended
June 30, 2003 as compared to the equivalent prior year periods.
Total benefits, claims and expenses decreased for the second quarter and six
months ended June 30, 2003 as a result of the decline in the leveraged COLI
block noted above. Insurance operating costs and expenses for the six months
ended June 30, 2003 also decreased due to the $11 after-tax expense related to
the Bancorp litigation accrued in the first quarter of 2002. Dividends to
policyholders increased due to an increase in mortality dividends on the
leveraged COLI block.
Net income decreased for the second quarter 2003 as compared to the prior year
due to the decreased revenues and benefits, claims and expenses discussed above.
Net income decreased for the second quarter 2003 as compared to the prior year
due to the decreased revenues and benefits, claims and expenses discussed above.
Net income increased for the six months ended June 30, 2003 as compared to prior
year, principally as a result of the Bancorp litigation expense recorded in the
first quarter of 2002.
- 32 -
- --------------------------------------------------------------------------------
PROPERTY & CASUALTY
- --------------------------------------------------------------------------------
OPERATING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premiums $ 2,106 $ 1,976 7% $ 4,272 $ 3,853 11%
Net investment income 291 271 7% 576 525 10%
Other revenues [1] 113 88 28% 208 169 23%
Net realized capital gains (losses) 207 (46) NM 202 (38) NM
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES 2,717 2,289 19% 5,258 4,509 17%
Benefits, claims and claim adjustment expenses 1,541 1,452 6% 5,702 2,810 103%
Amortization of deferred policy acquisition costs 382 402 (5%) 783 805 (3%)
Insurance operating costs and expenses 230 202 14% 446 379 18%
Other expenses 189 134 41% 321 260 23%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL BENEFITS, CLAIMS AND EXPENSES 2,342 2,190 7% 7,252 4,254 70%
- ------------------------------------------------------------------------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES 375 99 NM (1,994) 255 NM
Income tax expense (benefit) 98 9 NM (758) 37 NM
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME (LOSS) [2] $ 277 $ 90 NM $ (1,236) $ 218 NM
====================================================================================================================================
NORTH AMERICAN PROPERTY & CASUALTY
GAAP UNDERWRITING RATIOS
- ------------------------------------------------------------------------------------------------------------------------------------
Loss ratio 60.6 60.6 -- 59.7 59.9 0.2
Loss adjustment expense ratio 11.9 11.1 (0.8) 12.0 11.3 (0.7)
Expense ratio 26.7 28.0 1.3 26.5 28.5 2.0
Policyholder dividend ratio 0.5 0.9 0.4 0.5 0.7 0.2
Combined ratio 99.7 100.5 0.8 98.7 100.4 1.7
Catastrophe ratio 4.7 2.5 (2.2) 3.7 1.8 (1.9)
====================================================================================================================================
<FN>
[1] Represents servicing revenue.
[2] Includes net realized capital gains (losses), after-tax, of $135 and $(30)
for the second quarter ended June 30, 2003 and 2002, respectively, and $132
and $(24) for the six months ended June 30, 2003 and 2002, respectively.
</FN>
Revenues for Property & Casualty increased $428 for the second quarter and $749
for the six months ended June 30, 2003. The improvement in both periods was due
primarily to an increase in net realized capital gains as well as earned premium
growth in the Business Insurance and Specialty Commercial segments, primarily as
a result of earned pricing increases.
Net income increased $187 for the second quarter and decreased $1.5 billion for
the six months ended June 30, 2003. The increase for the quarter was primarily
due to an increase in net realized capital gains and improved underwriting
results in the Business Insurance and Personal Lines segments resulting
primarily from strong earned pricing and favorable frequency loss costs, despite
higher catastrophes. Also, partially offsetting the net income increase for the
second quarter was an increase of $27, after-tax, related to severance costs
associated with the Company's expense reduction initiatives announced in May
2003. The $1.5 billion decrease in net income for the six month period was
primarily due to the net asbestos reserve strengthening of $1.7 billion,
after-tax, in the first quarter as a result of the completion of the Company's
detailed study of its asbestos exposures. Results for the six month period were
favorably impacted by an increase in net realized capital gains and improved
underwriting results in Personal Lines. In addition, net investment income,
after-tax, rose $14 for the quarter and $30 for the six month period due to
higher invested assets, primarily from strong cash flows.
RATIOS
The previous table and the following segment discussions for the second quarter
and six months ended June 30, 2003 and 2002 include various underwriting ratios.
Management believes that these ratios are useful in understanding the underlying
trends in The Hartford's current insurance underwriting business. However, these
measures should only be used in conjunction with, and not in lieu of,
underwriting income and may not be comparable to other performance measures used
by the Company's competitors. The "loss ratio" is the ratio of claims expense
(exclusive of claim adjustment expenses) to earned premiums. The "loss
adjustment expense ratio" represents the ratio of claim adjustment expenses to
earned premiums. The "expense ratio" is the ratio of underwriting expenses,
excluding bad debts expense, to earned premiums. The "policyholder dividend
ratio" is the ratio of policyholder dividends to earned premiums. The "combined
ratio" is the sum of the loss ratio, the loss adjustment expense ratio, the
expense ratio and the policyholder dividend ratio. These ratios are relative
measurements that describe for every $100 of net premiums earned, the cost of
losses and expenses as defined above, respectively. A combined ratio below 100
demonstrates underwriting profit; a combined ratio above 100 demonstrates
underwriting losses. The "catastrophe ratio" represents the ratio of catastrophe
losses to earned premiums. A catastrophe is an event that causes $25 or more in
industry insured property losses and affects a significant number of property
and casualty policyholders and insurers.
- 33 -
WRITTEN PREMIUMS
Written premiums is a non-GAAP financial measure, which represents the amount of
premiums charged for policies issued during a fiscal period. Earned premiums is
a GAAP measure. Premiums are considered earned and are included in the financial
results on a pro rata basis over the policy period. The following segment
discussions for the second quarter and six months ended June 30, 2003 and 2002,
respectively, include the presentation of written premiums in addition to earned
premiums. Management believes that this performance measure is useful to
investors as it provides an understanding of the underlying trends in the
Company's sales of insurance products.
Premium renewal retention is defined as renewal premium written in the current
period divided by new and renewal premium written in the prior period.
REINSURANCE RECOVERABLES
The Company's net reinsurance recoverables from various property and casualty
reinsurance arrangements amounted to $5.4 billion and $4.2 billion at June 30,
2003 and December 31, 2002, respectively. With respect to the reinsurance
recoverables, the Company is subject to credit risks or other settlement risks
that could cause one or more reinsurers to fail to reimburse the Company under
the terms of these reinsurance arrangements. The Company mitigates these risks
by transacting business with reinsurers that are financially sound and
historically have demonstrated a willingness to meet their contractual
obligations. Of the total net reinsurance recoverables as of December 31, 2002,
$494 relates to the Company's mandatory participation in various involuntary
assigned risk pools, which are backed by the financial strength of the property
and casualty insurance industry. Of the remainder, $2.7 billion, or 72%, were
rated by A.M. Best. Of the total rated by A.M. Best, 91% were rated A-
(excellent) or better. The remaining net recoverables from reinsurers were
comprised of the following: 9% related to Equitas, 6% related to voluntary
pools, 1% related to captive insurance companies, and 12% related to companies
not rated by A.M. Best, of which no single reinsurer constituted more than 0.75%
of the Company's reinsurance recoverable.
Where its contracts permit, the Company secures future claim obligations with
various forms of collateral including irrevocable letters of credit, New York
Regulation 114 trusts, funds held accounts and group wide offsets.
The allowance for unrecoverable reinsurance was $468 at June 30, 2003 and $211
at December 31, 2002. The significant increase was primarily related to the
Company's asbestos reserve strengthening actions during the first quarter of
2003.
RESERVES
Reserving for property and casualty losses is an estimation process. As
additional experience and other relevant claim data become available, reserve
levels are adjusted accordingly. Such adjustments of reserves related to claims
incurred in prior years are a natural occurrence in the loss reserving process
and are referred to as "reserve development". Reserve development that increases
previous estimates of ultimate cost is called "reserve strengthening". Reserve
development that decreases previous estimates of ultimate cost is called
"reserve releases". Reserve development can influence the comparability of year
over year underwriting results and is set forth in the paragraphs and tables
that follow. The "prior accident year development (pts.)" in the following
tables for the second quarter and six months ended June 30, 2003 represents the
ratio of reserve development to earned premiums. For a detailed discussion of
the Company's reserve policies, see Notes 1(l), 7 and 16(b) of Notes to
Consolidated Financial Statements and the Critical Accounting Estimates section
of the MD&A included in The Hartford's 2002 Form 10-K Annual Report.
There was no net reserve strengthening or release in the Business Insurance,
Personal Lines and Specialty Commercial segments for the second quarter and six
months ended June 30, 2003. Reserve strengthening in the Reinsurance segment of
$59 and $94 for the second quarter and six months ended June 30, 2003,
respectively, occurred across multiple accident years, primarily 1997 through
2000, and primarily in the casualty line of traditional reinsurance.
A rollforward of liabilities for unpaid claims and claim adjustment expenses by
segment for the second quarter and six months ended June 30, 2003 for Property &
Casualty follows:
- 34 -
SECOND QUARTER ENDED JUNE 30, 2003
- ------------------------------------------------------------------------------------------------------------------------------------
NORTH
BUSINESS PERSONAL SPECIALTY AMERICAN OTHER
INSURANCE LINES COMMERCIAL REINSURANCE P&C OPERATIONS TOTAL P&C
- ------------------------------------------------------------------------------------------------------------------------------------
BEGINNING LIABILITIES FOR UNPAID CLAIMS
AND CLAIM ADJUSTMENT EXPENSES-GROSS $ 4,922 $ 1,700 $ 5,022 $ 1,617 $ 13,261 $ 7,951 $ 21,212
Reinsurance and other recoverables 388 48 2,007 373 2,816 2,485 5,301
- ------------------------------------------------------------------------------------------------------------------------------------
BEGINNING LIABILITIES FOR UNPAID CLAIMS
AND CLAIM ADJUSTMENT EXPENSES-NET 4,534 1,652 3,015 1,244 10,445 5,466 15,911
- ------------------------------------------------------------------------------------------------------------------------------------
Add: provision for unpaid claims and claim
adjustment expenses 561 602 240 122 1,525 16 1,541
Less: payments 438 578 270 140 1,426 90 1,516
- ------------------------------------------------------------------------------------------------------------------------------------
ENDING LIABILITIES FOR UNPAID CLAIMS AND
CLAIM ADJUSTMENT EXPENSES-NET 4,657 1,676 2,985 1,226 10,544 5,392 15,936
Reinsurance and other recoverables 400 45 1,690 385 2,520 2,612 5,132
- ------------------------------------------------------------------------------------------------------------------------------------
ENDING LIABILITIES FOR UNPAID CLAIMS AND
CLAIM ADJUSTMENT EXPENSES-GROSS $ 5,057 $ 1,721 $ 4,675 $ 1,611 $ 13,064 $ 8,004 $ 21,068
====================================================================================================================================
Earned premium $ 897 $ 785 $ 355 $ 63 $ 2,100 $ 6 $ 2,106
Combined ratio 94.4 99.0 93.2 222.8 99.7
Loss and loss expense paid ratio 48.9 73.6 75.9 223.7 67.9
Loss and loss expense incurred ratio 62.6 76.8 67.2 193.3 72.5
Catastrophe ratio 2.5 8.2 2.5 5.6 4.7
Prior accident year development (pts.) -- -- -- 95.1 2.8
====================================================================================================================================
SIX MONTHS ENDED JUNE 30, 2003
- ------------------------------------------------------------------------------------------------------------------------------------
NORTH
BUSINESS PERSONAL SPECIALTY AMERICAN OTHER
INSURANCE LINES COMMERCIAL REINSURANCE P&C OPERATIONS TOTAL P&C
- ------------------------------------------------------------------------------------------------------------------------------------
BEGINNING LIABILITIES FOR UNPAID CLAIMS
AND CLAIM ADJUSTMENT EXPENSES-GROSS $ 4,744 $ 1,692 $ 4,957 $ 1,614 $ 13,007 $ 4,084 $ 17,091
Reinsurance and other recoverables 366 49 1,998 388 2,801 1,149 3,950
- ------------------------------------------------------------------------------------------------------------------------------------
BEGINNING LIABILITIES FOR UNPAID CLAIMS
AND CLAIM ADJUSTMENT EXPENSES-NET 4,378 1,643 2,959 1,226 10,206 2,935 13,141
- ------------------------------------------------------------------------------------------------------------------------------------
Add: provision for unpaid claims and claim
adjustment expenses 1,159 1,142 505 251 3,057 2,645 5,702
Less: payments 880 1,109 479 251 2,719 188 2,907
- ------------------------------------------------------------------------------------------------------------------------------------
ENDING LIABILITIES FOR UNPAID CLAIMS AND
CLAIM ADJUSTMENT EXPENSES-NET 4,657 1,676 2,985 1,226 10,544 5,392 15,936
Reinsurance and other recoverables 400 45 1,690 385 2,520 2,612 5,132
- ------------------------------------------------------------------------------------------------------------------------------------
ENDING LIABILITIES FOR UNPAID CLAIMS AND
CLAIM ADJUSTMENT EXPENSES-GROSS $ 5,057 $ 1,721 $ 4,675 $ 1,611 $ 13,064 $ 8,004 $ 21,068
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premium $ 1,777 $ 1,557 $ 710 $ 214 $ 4,258 $ 14 $ 4,272
Combined ratio 96.8 95.9 95.8 144.5 98.7
Loss and loss expense paid ratio 49.5 71.1 67.5 117.5 63.8
Loss and loss expense incurred ratio 65.2 73.3 71.1 117.3 71.8
Catastrophe ratio 3.5 4.8 1.7 2.7 3.7
Prior accident year development (pts.) [1] -- -- -- 44.0 2.2
====================================================================================================================================
<FN>
[1] Reinsurance excludes prior accident year premium adjustment of $(10).
</FN>
- 35 -
- --------------------------------------------------------------------------------
BUSINESS INSURANCE
- --------------------------------------------------------------------------------
UNDERWRITING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Written premiums $ 974 $ 835 17% $ 1,964 $ 1,660 18%
Change in unearned premium reserve 77 69 12% 187 162 15%
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premiums 897 766 17% 1,777 1,498 19%
Benefits, claims and claim adjustment expenses 561 497 13% 1,159 963 20%
Amortization of deferred policy acquisition costs 214 184 16% 418 379 10%
Insurance operating costs and expenses 80 93 (14%) 170 160 6%
- ------------------------------------------------------------------------------------------------------------------------------------
UNDERWRITING RESULTS $ 42 $ (8) NM $ 30 $ (4) NM
====================================================================================================================================
Loss ratio 49.8 53.3 3.5 52.3 52.5 0.2
Loss adjustment expense ratio 12.8 11.5 (1.3) 12.9 11.8 (1.1)
Expense ratio 31.0 32.2 1.2 30.8 32.8 2.0
Policyholder dividend ratio 0.8 2.0 1.2 0.8 1.5 0.7
Combined ratio 94.4 99.0 4.6 96.8 98.5 1.7
Catastrophe ratio 2.5 1.3 (1.2) 3.5 1.0 (2.5)
====================================================================================================================================
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
WRITTEN PREMIUM BREAKDOWN [1]
- ------------------------------------------------------------------------------------------------------------------------------------
Small Commercial $ 459 $ 412 11% $ 939 $ 820 15%
Middle Market 515 423 22% 1,025 840 22%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 974 $ 835 17% $ 1,964 $ 1,660 18%
====================================================================================================================================
EARNED PREMIUM BREAKDOWN [1]
Small Commercial $ 442 $ 382 16% $ 872 $ 751 16%
Middle Market 455 384 18% 905 747 21%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 897 $ 766 17% $ 1,777 $ 1,498 19%
====================================================================================================================================
<FN>
[1] The difference between written premiums and earned premiums is
attributable to the change in unearned premium reserve.
</FN>
Business Insurance achieved written premium growth of $139 and $304 for the
second quarter and six months ended June 30, 2003, respectively, compared with
the same periods in 2002. Growth for both periods was primarily due to written
pricing increases of 10% for the second quarter and 12% for the six month period
and new business growth of 18% and 20%, respectively, for the quarter and six
months ended June 30, 2003. Premium renewal retention of 89% for both periods of
2003 was strong and consistent with the prior year periods. The written premium
increase in middle market business of $92 and $185 for the second quarter and
six month periods, respectively, was driven primarily by double-digit written
pricing increases and continued strong new business growth. Small commercial
business increased $47 for the second quarter and $119 for the six month period,
reflecting double-digit written pricing increases and improved premium renewal
retention.
Earned premiums increased $131 for the second quarter and $279 for the six month
period due to strong 2002 and 2003 written pricing increases impacting 2003
earned premium. Earned premiums for middle market business increased $71 and
$158 for the second quarter and six month periods, respectively, and earned
premiums for small commercial business increased $60 and $121 for the second
quarter and six month periods, respectively, reflecting double-digit earned
pricing increases.
Underwriting results increased $50 for the second quarter, with a corresponding
4.6 point decrease in the combined ratio, and improved $34, with a corresponding
1.7 point decrease in the combined ratio, for the six month period, despite
catastrophe losses in the current year periods being higher than catastrophe
losses in the prior year periods. The improvement in underwriting results and
combined ratio for both 2003 periods was driven by double-digit earned pricing
increases, the beneficial effects of which have also contributed to improvement
in the expense ratio. The loss ratio improved for both small commercial and
middle market primarily due to improved frequency of loss and earned pricing
increases. Partially offsetting the improvement in underwriting results were
higher loss ratios for small commercial package policies due to increased
severity.
- 36 -
- --------------------------------------------------------------------------------
PERSONAL LINES
- --------------------------------------------------------------------------------
UNDERWRITING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Written premiums $ 854 $ 789 8% $ 1,624 $ 1,515 7%
Change in unearned premium reserve 69 47 47% 67 55 22%
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premiums 785 742 6% 1,557 1,460 7%
Benefits, claims and claim adjustment expenses 602 591 2% 1,142 1,141 --
Amortization of deferred policy acquisition costs 100 116 (14%) 204 224 (9%)
Insurance operating costs and expenses 80 59 36% 156 130 20%
- ------------------------------------------------------------------------------------------------------------------------------------
UNDERWRITING RESULTS $ 3 $ (24) NM $ 55 $ (35) NM
====================================================================================================================================
Loss ratio 65.6 67.5 1.9 62.0 66.2 4.2
Loss adjustment expense ratio 11.3 12.2 0.9 11.3 12.0 0.7
Expense ratio 22.2 23.0 0.8 22.6 23.7 1.1
Combined ratio 99.0 102.7 3.7 95.9 102.0 6.1
Catastrophe ratio 8.2 4.8 (3.4) 4.8 3.5 (1.3)
Other revenues [1] $ 32 $ 30 7% $ 60 $ 59 2%
- ------------------------------------------------------------------------------------------------------------------------------------
<FN>
[1] Represents servicing revenues.
</FN>
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
WRITTEN PREMIUM BREAKDOWN [1] 2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Business Unit
AARP $ 550 $ 494 11% $ 1,025 $ 921 11%
Other Affinity 36 45 (20%) 78 94 (17%)
Agency 268 250 7% 521 500 4%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 854 $ 789 8% $ 1,624 $ 1,515 7%
====================================================================================================================================
Product Line
Automobile $ 656 $ 604 9% $ 1,265 $ 1,187 7%
Homeowners 198 185 7% 359 328 9%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 854 $ 789 8% $ 1,624 $ 1,515 7%
====================================================================================================================================
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
EARNED PREMIUM BREAKDOWN [1] 2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Business Unit
AARP $ 481 $ 431 12% $ 947 $ 844 12%
Other Affinity 41 49 (16%) 85 99 (14%)
Agency 263 262 -- 525 517 2%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 785 $ 742 6% $ 1,557 $ 1,460 7%
====================================================================================================================================
Product Line
Automobile $ 610 $ 578 6% $ 1,208 $ 1,141 6%
Homeowners 175 164 7% 349 319 9%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 785 $ 742 6% $ 1,557 $ 1,460 7%
====================================================================================================================================
COMBINED RATIOS
Automobile 98.0 102.9 4.9 97.0 103.2 6.2
Homeowners 102.9 102.0 (0.9) 91.9 97.4 5.5
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL 99.0 102.7 3.7 95.9 102.0 6.1
====================================================================================================================================
<FN>
[1] The difference between written premiums and earned premiums is
attributable to the change in unearned premium reserve.
</FN>
Written premiums increased $65 for the second quarter and $109 for the six
months ended June 30, 2003, compared to the same periods in 2002, due to growth
in both the automobile and homeowners lines. The increase in automobile of $52
for the second quarter and $78 for the six month period was primarily due to
written pricing increases of 8% for both the second quarter and six month
period. Premium renewal retention improved to 94% for the second quarter and 93%
for the six months ended June 30, 2003. Homeowners growth of $13 for the second
quarter and $31 for the six month period was also driven by written pricing
increases of 14% for both periods. Premium renewal retention improved to 103%
for the second quarter and six months ended June 30, 2003. The increases in both
automobile and homeowners written premiums for both periods were primarily
- 37 -
due to growth in the AARP program. AARP increased $56 for the second quarter and
$104 for the six month period primarily as a result of double-digit written
pricing increases. Partially offsetting the increase was a $9 decrease for the
second quarter and a $16 decrease for the six month period in written premiums
in other affinity business due to an expected reduction in policy counts as a
result of the Company's strategic decision to de-emphasize other affinity
business. Personal Lines new business growth for the second quarter and six
months ended June 30, 2003 was reduced as a result of pricing increases to
achieve profitability objectives. Sequential quarter growth, however, has
improved for two consecutive quarters.
Earned premiums increased $43 for the second quarter and $97 for the six month
period due primarily to growth in AARP. AARP increased $50 and $103 for the
second quarter and the six month period, respectively, primarily as a result of
earned pricing increases.
Underwriting results increased $27, with a corresponding 3.7 point decrease in
the combined ratio, for the second quarter and improved $90, with a
corresponding 6.1 point decrease in the combined ratio, for the six month
period. Personal Lines financial performance was negatively effected by pre-tax
catastrophe increases of $28, or 3.4 points, for the second quarter and $23, or
1.3 points, for the six month period. Automobile results improved 4.9 combined
ratio points for the quarter and 6.2 combined ratio points for the six month
period due to earned pricing increases and favorable frequency loss costs.
Homeowners underwriting results deteriorated 0.9 combined ratio points for the
second quarter and improved 5.5 combined ratio points for the six month period.
Homeowners results were adversely impacted by significantly higher catastrophes
during the second quarter of 2003. Before catastrophes, the underwriting
experience related to homeowners for both 2003 periods continued to remain
favorable, and the combined ratio improved 11.6 points for the quarter and 9.5
points for the six month period due primarily to double-digit earned pricing
increases and favorable frequency loss costs. Double-digit earned pricing
increases and prudent expense management resulted in a 0.8 point and 1.1 point
decrease in the expense ratio for the second quarter and six month period,
respectively.
- --------------------------------------------------------------------------------
SPECIALTY COMMERCIAL
- --------------------------------------------------------------------------------
UNDERWRITING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Written premiums $ 399 $ 345 16% $ 805 $ 645 25%
Change in unearned premium reserve 44 70 (37%) 95 132 (28%)
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premiums 355 275 29% 710 513 38%
Benefits, claims and claim adjustment expenses 240 182 32% 505 350 44%
Amortization of deferred policy acquisition costs 55 55 -- 111 116 (4%)
Insurance operating costs and expenses 64 30 113% 98 49 100%
- ------------------------------------------------------------------------------------------------------------------------------------
UNDERWRITING RESULTS $ (4) $ 8 NM $ (4) $ (2) (100%)
====================================================================================================================================
Loss ratio 56.4 54.7 (1.7) 58.3 55.1 (3.2)
Loss adjustment expense ratio 10.7 12.2 1.5 12.8 13.1 0.3
Expense ratio 25.3 28.4 3.1 23.9 30.3 6.4
Policyholder dividend ratio 0.7 0.6 (0.1) 0.7 0.7 --
Combined ratio 93.2 96.0 2.8 95.8 99.1 3.3
Catastrophe ratio 2.5 0.3 (2.2) 1.7 0.1 (1.6)
Other revenues [1] $ 81 $ 58 40% $ 148 $ 110 35%
====================================================================================================================================
<FN>
[1] Represents servicing revenues.
</FN>
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
WRITTEN PREMIUM BREAKDOWN [1] 2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Property 116 105 10% 213 196 9%
Casualty 149 147 1% 336 272 24%
Bond 36 40 (10%) 81 76 7%
Professional Liability 78 50 56% 143 93 54%
Other 20 3 NM 32 8 NM
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 399 $ 345 16% $ 805 $ 645 25%
====================================================================================================================================
EARNED PREMIUM BREAKDOWN [1]
Property 96 73 32% 185 133 39%
Casualty 141 115 23% 289 212 36%
Bond 35 36 (3%) 77 71 8%
Professional Liability 72 47 53% 136 88 55%
Other 11 4 175% 23 9 156%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 355 $ 275 29% $ 710 $ 513 38%
====================================================================================================================================
<FN>
[1] The difference between written premiums and earned premiums is
attributable to the change in unearned premium reserve.
</FN>
- 38 -
Written premiums increased $54 and $160 for the second quarter and six months
ended June 30, 2003, respectively, compared with the same periods in 2002
primarily due to growth in professional liability and property, and for the six
month period, the casualty line of business. Professional liability written
premiums grew $28 for the second quarter and $50 for the six month period due to
significant written pricing increases. While property pricing increases continue
to moderate, written premiums increased $11 and $17 for the second quarter and
six months ended June 30, 2003, respectively. Written premiums for casualty
increased $64 for the six month period due primarily to strong written pricing
increases and new business growth reflecting an improved operating environment.
Second quarter casualty growth was negatively impacted by a change in estimate
related to a workers compensation pool as well as a de-emphasis of certain lines
of business.
Earned premiums increased $80 and $197 for the second quarter and the six month
period, respectively, primarily due to earned premium growth across
substantially all lines of business as a result of double-digit earned pricing
increases.
Underwriting results deteriorated $12 for the second quarter and $2 for the six
months ended June 30, 2003, respectively, as higher catastrophes for both
periods of 2003, compared to unusually low catastrophes in the prior periods,
negatively impacted results. In addition, an increase in doubtful accounts
expense of $24 and $27, respectively, contributed to the decrease in
underwriting results for the quarter and six months ended June 30, 2003.
Property and professional liability underwriting results continue to be
favorable due to the hard pricing market. The combined ratio improved 2.8 points
and 3.3 points for the second quarter and the six months ended June 30, 2003,
respectively, primarily due to strong earned pricing, prudent expense management
and higher ceding commissions in professional liability.
- --------------------------------------------------------------------------------
REINSURANCE
- --------------------------------------------------------------------------------
UNDERWRITING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Written premiums $ (99) $ 169 NM $ 175 $ 383 (54%)
Change in unearned premium reserve (162) (3) NM (39) 40 NM
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premiums 63 172 (63%) 214 343 (38%)
Benefits, claims and claim adjustment expenses 122 131 (7%) 251 262 (4%)
Amortization of deferred policy acquisition costs 13 47 (72%) 50 86 (42%)
Insurance operating costs and expenses 4 3 33% 8 8 --
- ------------------------------------------------------------------------------------------------------------------------------------
UNDERWRITING RESULTS $ (76) $ (9) NM $ (95) $ (13) NM
====================================================================================================================================
Loss ratio 178.8 72.5 (106.3) 109.0 72.4 (36.6)
Loss adjustment expense ratio 14.5 2.8 (11.7) 8.2 3.9 (4.3)
Expense ratio 29.4 29.7 0.3 27.3 27.4 0.1
Combined ratio 222.8 105.0 (117.8) 144.5 103.7 (40.8)
Catastrophe ratio 5.6 1.3 (4.3) 2.7 0.4 (2.3)
====================================================================================================================================
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
WRITTEN PREMIUMS BREAKDOWN [1] 2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Traditional reinsurance $ (101) $ 157 NM $ 139 $ 306 (55%)
Alternative risk transfer ("ART") 2 12 (83%) 36 77 (53%)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ (99) $ 169 NM $ 175 $ 383 (54%)
====================================================================================================================================
EARNED PREMIUMS BREAKDOWN [1]
Traditional reinsurance $ 56 $ 150 (63%) $ 191 $ 295 (35%)
Alternative risk transfer ("ART") 7 22 (68%) 23 48 (52%)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 63 $ 172 (63%) $ 214 $ 343 (38%)
====================================================================================================================================
<FN>
[1] The difference between written premiums and earned premiums is
attributable to the change in unearned premium reserve.
</FN>
On May 16, 2003, as part of the Company's decision to withdraw from the assumed
reinsurance business, the Company entered into a quota share and purchase
agreement with Endurance Reinsurance Corporation of America ("Endurance"),
whereby the Reinsurance segment retroceded the majority of its inforce book of
business as of April 1, 2003 and sold renewal rights to Endurance. Under the
quota share agreement, Endurance will reinsure most of the segment's assumed
reinsurance contracts that were written on or after January 1, 2002 and that had
unearned premium as of April 1, 2003. In consideration for Endurance reinsuring
the unearned premium as of April 1, 2003, the Company paid Endurance an amount
equal to unearned premium less the related unamortized commissions/deferred
acquisition costs and an override commission which was established by the
contract. In addition, Endurance will pay a profit sharing commission based on
the loss performance of property treaty, property catastrophe and aviation pool
unearned premium. Under the purchase agreement, Endurance will pay additional
amounts, subject to a guaranteed minimum of $15, based on the level of renewal
premium on the reinsured contracts over the next two years.
- 39 -
Reinsurance written premiums decreased $268 for the second quarter and $208 for
the six months ended June 30, 2003 and earned premiums decreased $109 and $129
for the second quarter and six month period, respectively, primarily due to the
Endurance transaction discussed above. This transaction resulted in a decrease
in written premiums for the Reinsurance segment of $145 for the second quarter
and six months ended June 30, 2003. Partially offsetting the decrease in written
premiums for the six month period were increased participations and growth in
subject premium in traditional reinsurance in the first quarter of 2003 as a
result of continued increases in underlying primary insurance rates.
Underwriting results decreased $67, with a corresponding 117.8 point increase in
the combined ratio, for the second quarter and decreased $82, with a
corresponding 40.8 point increase in the combined ratio, for the six month
period. The decrease in underwriting results and corresponding increase in the
combined ratio for both periods were primarily attributable to adverse loss
development on prior underwriting years, particularly in the casualty lines of
traditional reinsurance. The decrease in the expense ratio for both periods was
primarily due to a decrease in the commission ratio as a result of commissions
earned in connection with the Endurance transaction discussed above.
Underwriting results were negatively impacted by $7 related to the Endurance
transaction. Prospectively, due to the nature of the transaction, the Company
will remain subject to ongoing reserve development relating to all reinsurance
contracts incepting before April 2003 that were part of the Endurance
transaction, and to the retained business.
- --------------------------------------------------------------------------------
OTHER OPERATIONS (INCLUDING ASBESTOS AND ENVIRONMENTAL CLAIMS)
- --------------------------------------------------------------------------------
OPERATING SUMMARY SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------------- -----------------------------------
2003 2002 CHANGE 2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Earned premiums $ 6 $ 21 (71%) $ 14 $ 39 (64%)
Net investment income 34 37 (8%) 76 74 3%
Net realized capital gains (losses) 52 (18) NM 62 (17) NM
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES 92 40 130% 152 96 58%
Benefits, claims and claim adjustment expenses 16 51 (69%) 2,645 94 NM
Insurance operating costs and expenses 2 17 (88%) 14 32 (56%)
Other expenses (income) 1 (11) NM (4) (15) 73%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL BENEFITS, CLAIMS AND EXPENSES 19 57 (67%) 2,655 111 NM
- ------------------------------------------------------------------------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES 73 (17) NM (2,503) (15) NM
Income tax expense (benefit) 25 (6) NM (870) (5) NM
- ------------------------------------------------------------------------------------------------------------------------------------
NET INCOME (LOSS) $ 48 $ (11) NM $ (1,633) $ (10) NM
====================================================================================================================================
The Other Operations segment includes operations that are under a single
management structure, which is responsible for two related activities. The first
activity is the management of certain subsidiaries and operations of The
Hartford that have discontinued writing new business. The second is the
management of claims (and the associated reserves) related to asbestos and
environmental exposures.
The increase in revenues for the second quarter and six months ended June 30,
2003 was primarily due to an increase in net realized capital gains, partially
offset by a decrease in earned premiums. The decline in earned premiums was due
to the runoff of the international reinsurance business that was transferred to
the Other Operations segment in January 2002. The increase in net income in the
second quarter of 2003 as compared to the corresponding prior year period was
driven by both the increase in revenues and a reduced level of benefits, claims
and claim adjustment expenses. The net loss for the six months ended June 30,
2003 was due to the first quarter net reserve strengthening of $1.7 billion,
after-tax, based on the results of the detailed asbestos study that is discussed
in the section that follows.
The paragraphs that follow are background information and a discussion of
asbestos and environmental claims and a summary of the Company's detailed study
of asbestos reserves that gave rise to the reserve strengthening for the six
months ended June 30, 2003.
Asbestos and Environmental Claims
The Hartford continues to receive asbestos and environmental claims, both of
which affect Other Operations. These claims are made pursuant to several
different categories of insurance coverage. First, The Hartford wrote direct
policies as a primary liability insurance carrier. Second, The Hartford wrote
direct excess insurance policies providing additional coverage for insureds that
exhaust their underlying liability insurance coverage. Third, The Hartford acted
as a reinsurer assuming a portion of risks previously assumed by other insurers
writing primary, excess and reinsurance coverages. Fourth, The Hartford
participated as a London Market company that wrote both direct insurance and
assumed reinsurance business.
With regard to both environmental and particularly asbestos claims, significant
uncertainty limits the ability of insurers and reinsurers to estimate the
ultimate reserves necessary for unpaid losses and related expenses. Traditional
actuarial reserving techniques cannot reasonably estimate the ultimate cost of
these claims, particularly during periods where theories of law are in flux. As
a result of the factors discussed in the following paragraphs, the degree of
variability of reserve estimates for these exposures is significantly greater
than for other more traditional exposures. In particular, The Hartford believes
there is a high degree of uncertainty inherent in the estimation of asbestos
loss reserves.
- 40 -
In the case of the reserves for asbestos exposures, factors contributing to the
high degree of uncertainty include inadequate development patterns, plaintiffs'
expanding theories of liability, the risks inherent in major litigation, and
inconsistent emerging legal doctrines. Courts have reached inconsistent
conclusions as to when losses are deemed to have occurred and which policies
provide coverage; what types of losses are covered; whether there is an insurer
obligation to defend; how policy limits are applied; whether particular claims
are product/completed operation claims subject to an aggregate limit; and how
policy exclusions and conditions are applied and interpreted. Furthermore,
insurers in general, including The Hartford, have recently experienced an
increase in the number of asbestos-related claims due to, among other things,
more intensive advertising by lawyers seeking asbestos claimants, plaintiffs'
increased focus on new and previously peripheral defendants and an increase in
the number of insureds seeking bankruptcy protection as a result of
asbestos-related liabilities. Plaintiffs and insureds have sought to use
bankruptcy proceedings, including "pre-packaged" bankruptcies, to accelerate and
increase loss payments by insurers. In addition, some policyholders have begun
to assert new classes of claims for so-called "non-product" coverages to which
an aggregate limit of liability may not apply. Recently, many insurers,
including The Hartford, also have been sued directly by asbestos claimants
asserting that insurers had a duty to protect the public from the dangers of
asbestos. Management believes these issues are not likely to be resolved in the
near future.
In the case of the reserves for environmental exposures, factors contributing to
the high degree of uncertainty include: court decisions that have interpreted
the insurance coverage to be broader than originally intended; inconsistent
decisions, especially across jurisdictions; and uncertainty as to the monetary
amount being sought by the claimant from the insured.
Further uncertainties include the effect of the recent acceleration in the rate
of bankruptcy filings by asbestos defendants on the rate and amount of The
Hartford's asbestos claims payments; a further increase or decrease in asbestos
and environmental claims that cannot now be anticipated; whether some
policyholders' liabilities will reach the umbrella or excess layer of their
coverage; the resolution or adjudication of some disputes pertaining to the
amount of available coverage for asbestos claims in a manner inconsistent with
The Hartford's previous assessment of these claims; the number and outcome of
direct actions against The Hartford; and unanticipated developments pertaining
to The Hartford's ability to recover reinsurance for asbestos and environmental
claims. It is also not possible to predict changes in the legal and legislative
environment and their impact on the future development of asbestos and
environmental claims.
It is unknown whether a potential federal bill concerning asbestos litigation
approved by the Senate Judiciary Committee, or some other potential federal
asbestos-related legislation, will be enacted and, if so, what its effect will
be on The Hartford's aggregate asbestos liabilities. Additionally, the reporting
pattern for excess insurance and reinsurance claims is much longer than direct
claims. The delay in reporting excess and reinsurance claims adds to the
uncertainty of estimating the related reserves.
Given the factors and emerging trends described above, The Hartford believes the
actuarial tools and other techniques it employs to estimate the ultimate cost of
claims for more traditional kinds of insurance exposure are less precise in
estimating reserves for its asbestos and environmental exposures. The Hartford
regularly evaluates new information in assessing its potential asbestos
exposures.
In the first quarter of 2003, The Hartford conducted a detailed study of its
asbestos exposures. Based on the results of the study, the Company strengthened
its gross and net asbestos reserves by $3.9 billion and $2.6 billion,
respectively. The Company believes that its current asbestos reserves are
reasonable and appropriate. However, analyses of future developments could cause
The Hartford to change its estimates of its asbestos and environmental reserves
and the effect of these changes could be material to the Company's consolidated
operating results, financial condition and liquidity.
Reserve Activity
Reserves and reserve activity in the Other Operations segment are categorized
and reported as asbestos, environmental or "all other" activity. The discussion
below relates to reserves and reserve activity, net of applicable reinsurance.
There are a wide variety of claims that drive the reserves associated with
asbestos, environmental and the "all other" category the Company has included in
Other Operations. Asbestos claims relate primarily to bodily injuries asserted
by those who came in contact with asbestos or products containing asbestos.
Environmental claims relate primarily to pollution and related clean-up costs.
The all other category of reserves covers a wide range of insurance coverages,
including liability for breast implants, blood products, construction defects
and lead paint as well as unallocated loss adjustment expense for the Other
Operations segment.
The Other Operations historic book of business contains policies written from
the 1940's to 1992, with the majority of the business spanning the interval 1960
to 1990. The Hartford's experience has been that this book of business has over
time produced significantly higher claims and losses than were contemplated at
inception. The areas of active claim activity have also shifted based on changes
in plaintiff focus and the overall litigation environment. A significant portion
of the claim reserves of the Other Operations segment relates to exposure to the
insurance businesses of other insurers or reinsurers ("whole account" exposure).
Many of these whole account exposures arise from reinsurance agreements
previously written by The Hartford. The Hartford's net exposure in these
arrangements has increased for a variety of reasons, including The Hartford's
commutation of previous retrocessions of such business. Due to the reporting
practices of cedants to their reinsurers, determination of the nature of the
individual risks involved in these whole account exposures (such as asbestos,
environmental, or other exposures) requires various assumptions and estimates,
which are subject to uncertainty, as previously discussed.
Consistent with the Company's long-standing reserving practices, The Hartford
will continue to review and monitor these reserves regularly and, where future
developments indicate, make appropriate adjustments to the reserves. The loss
reserving assumptions, drawn from both industry data and the Company's
experience, have been applied over time to all of this business and have
resulted in reserve strengthening or reserve releases at various times over the
past decade.
- 41 -
The following tables present reserve activity, inclusive of estimates for both
reported and incurred but not reported claims, net of reinsurance, for Other
Operations, categorized by asbestos, environmental and all other claims, for the
second quarter and six months ended June 30, 2003. Also included are the
remaining asbestos and environmental exposures of North American Property &
Casualty.
OTHER OPERATIONS CLAIMS AND CLAIM ADJUSTMENT EXPENSES
FOR THE SECOND QUARTER ENDED JUNE 30, 2003 ASBESTOS ENVIRONMENTAL ALL OTHER [1] TOTAL
- ------------------------------------------------------------------------------------------------------------------------------------
Beginning liability - net $ 3,685 $ 559 $ 1,245 $ 5,489
Claims and claim adjustment expenses incurred 3 3 14 20
Claims and claim adjustment expenses paid 49 26 17 92
- ------------------------------------------------------------------------------------------------------------------------------------
ENDING LIABILITY - NET [2] [3] $ 3,639 [4] $ 536 $ 1,242 $ 5,417
- ------------------------------------------------------------------------------------------------------------------------------------
FOR THE SIX MONTHS ENDED JUNE 30, 2003 ASBESTOS ENVIRONMENTAL ALL OTHER [1] TOTAL
- ------------------------------------------------------------------------------------------------------------------------------------
Beginning liability - net $ 1,118 $ 591 $ 1,250 $ 2,959
Claims and claim adjustment expenses incurred 2,607 4 39 2,650
Claims and claim adjustment expenses paid 86 59 47 192
- ------------------------------------------------------------------------------------------------------------------------------------
ENDING LIABILITY - NET [2] [3] [4] $ 3,639 [4] $ 536 $ 1,242 $ 5,417
- ------------------------------------------------------------------------------------------------------------------------------------
<FN>
[1] Includes unallocated loss adjustment expense reserves.
[2] Ending liabilities include asbestos and environmental reserves reported in
North American Property & Casualty of $15 and $10, respectively, as of June
30, 2003 and of $14 and $10, respectively, as of December 31, 2002.
[3] Gross of reinsurance, asbestos and environmental reserves were $5,846 and
$623, respectively, as of June 30, 2003 and $1,994 and $682, respectively,
as of December 31, 2002.
[4] As of June 30, 2003, the one year and average three year net paid amounts
for asbestos claims are $164 and $111, respectively, resulting in one year
and three year net survival ratios of 22.1 and 32.7 years, respectively.
Net survival ratio is the quotient of the carried reserves divided by the
average annual payment amount and is an indication of the number of years
that the carried reserve would last (i.e. survive) if the future annual
claim payments were consistent with the calculated historical average.
</FN>
At June 30, 2003, asbestos reserves were $3.6 billion, an increase of $2.5
billion compared to $1.1 billion as of December 31, 2002. Net incurred losses
and loss adjustment expenses were $3 for the second quarter of 2003 and $2.6
billion for the six months ended June 30, 2003. The increase in reserves
reflects asbestos claim and litigation trends and is based on a detailed study
of asbestos exposures performed by the Company during the first quarter of 2003.
The Company classifies its asbestos reserves into three categories: direct
insurance; reinsurance and London Market. Direct insurance includes primary and
excess coverage. Assumed Reinsurance includes both "treaty" reinsurance
(covering broad categories of claims or blocks of business) and "facultative"
reinsurance (covering specific risks or individual policies of primary or excess
insurance companies). London Market business includes the business written by
one or more of The Hartford's subsidiaries in the United Kingdom, which are no
longer active in the insurance or reinsurance business. Such business includes
both direct insurance and assumed reinsurance.
The following tables set forth, for the second quarter and six months ended June
30, 2003, paid and incurred loss activity by the three categories of claims for
asbestos and environmental.
PAID AND INCURRED LOSS AND LOSS ADJUSTMENT EXPENSE ("LAE") DEVELOPMENT - ASBESTOS AND ENVIRONMENTAL
ASBESTOS ENVIRONMENTAL
------------------------------------- ------------------------------------
PAID INCURRED PAID INCURRED
FOR THE SECOND QUARTER ENDED JUNE 30, 2003 LOSS & LAE LOSS & LAE LOSS & LAE LOSS & LAE
- ------------------------------------------------------------------------------------------------------------------------------------
Gross
Direct $ 40 $ 4 $ 8 $ 3
Assumed - Domestic 16 -- 3 --
London Market 4 -- 4 --
- ------------------------------------------------------------------------------------------------------------------------------------
Total 60 4 15 3
Ceded (11) (1) 11 --
- ------------------------------------------------------------------------------------------------------------------------------------
NET $ 49 $ 3 $ 26 $ 3
====================================================================================================================================
ASBESTOS ENVIRONMENTAL
------------------------------------- ------------------------------------
PAID INCURRED PAID INCURRED
FOR THE SIX MONTHS ENDED JUNE 30, 2003 LOSS & LAE LOSS & LAE LOSS & LAE LOSS & LAE
- ------------------------------------------------------------------------------------------------------------------------------------
Gross
Direct $ 95 $ 3,027 $ 51 $ 4
Assumed - Domestic 19 585 6 --
London Market 9 363 6 --
- ------------------------------------------------------------------------------------------------------------------------------------
Total 123 3,975 63 4
Ceded (37) (1,368) (4) --
- ------------------------------------------------------------------------------------------------------------------------------------
NET $ 86 $ 2,607 $ 59 $ 4
====================================================================================================================================
- 42 -
- --------------------------------------------------------------------------------
INVESTMENTS
- --------------------------------------------------------------------------------
The Hartford's investment portfolios are primarily divided between Life and
Property & Casualty. The investment portfolios are managed based on the
underlying characteristics and nature of each operation's respective liabilities
and within established risk parameters. (For a further discussion on The
Hartford's approach to managing risks, see the Capital Markets Risk Management
section.)
Please refer to the Investments section of the MD&A in The Hartford's 2002 Form
10-K Annual Report for a description of the Company's investment objectives and
policies.
Return on general account invested assets is an important element of The
Hartford's financial results. Significant fluctuations in the fixed income or
equity markets could weaken the Company's financial condition or its results of
operations. Additionally, changes in market interest rates may impact the period
of time over which certain investments, such as mortgage-backed securities, are
repaid and whether certain investments are called by the issuers. Such changes
may, in turn, impact the yield on these investments and also may result in
reinvestment of funds received from calls and prepayments at rates below the
average portfolio yield.
Fluctuations in interest rates affect the Company's return on, and the fair
value of, fixed maturity investments, which comprised approximately 92% and 90%
of the fair value of its general account invested assets as of June 30, 2003 and
December 31, 2002, respectively. Other events beyond the Company's control could
also adversely impact the fair value of these investments. Specifically, a
downgrade of an issuer's credit rating or default of payment by an issuer could
reduce the Company's investment return.
A decrease in the fair value of any investment that is deemed other than
temporary would result in the Company's recognition of a realized loss in its
financial results prior to the actual sale of the investment.
LIFE
The following table identifies invested assets by type held in the Life general
account as of June 30, 2003 and December 31, 2002.
COMPOSITION OF INVESTED ASSETS
- ------------------------------------------------------------------------------------------------------------------------------------
JUNE 30, 2003 DECEMBER 31, 2002
------------------------------ ---------------------------
AMOUNT PERCENT AMOUNT PERCENT
- ------------------------------------------------------------------------------------------------------------------------------------
Fixed maturities, at fair value $ 34,060 88.8% $ 29,377 86.7%
Equity securities, at fair value 452 1.2% 458 1.3%
Policy loans, at outstanding balance 2,889 7.5% 2,934 8.7%
Limited partnerships, at fair value 243 0.6% 519 1.5%
Other investments 694 1.9% 603 1.8%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS $ 38,338 100.0% $ 33,891 100.0%
====================================================================================================================================
Fixed maturity investments increased 16% since December 31, 2002, primarily the
result of investment and universal life contract sales and operating cash flows.
In March 2003, the Company decided to liquidate its hedge fund limited
partnership investments and reinvest the proceeds in fixed maturity investments.
Hedge fund liquidations have totaled $298 since December 31, 2002. As of June
30, 2003, Life owned approximately $89 of hedge fund investments, all of which
are expected to be liquidated by March 31, 2004.
INVESTMENT RESULTS
The table below summarizes Life's investment results.
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------------------ --------------------------
(Before-tax) 2003 2002 2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Net investment income - excluding policy loan income $ 459 $ 382 $ 908 $ 763
Policy loan income 54 68 112 135
--------------------------------------------------------------
Net investment income - total $ 513 $ 450 $ 1,020 $ 898
Yield on average invested assets [1] 5.9% 6.2% 6.0% 6.2%
- ------------------------------------------------------------------------------------------------------------------------------------
Gross gains on sale $ 91 $ 37 $ 148 $ 74
Gross losses on sale (17) (10) (64) (47)
Impairments (17) (144) (84) (159)
Other, net [2] (7) (3) 2 (3)
--------------------------------------------------------------
Net realized capital gains (losses) $ 50 $ (120) $ 2 $ (135)
====================================================================================================================================
<FN>
[1] Represents annualized net investment income (excluding net realized capital
gains (losses)) divided by average invested assets at cost (fixed
maturities at amortized cost).
[2] Primarily consists of changes in fair value and hedge ineffectiveness on
derivative instruments.
</FN>
For the second quarter and six months ended June 30, 2003, net investment
income, excluding policy loan income, increased $77, or 20%, and $145, or 19%,
compared to the respective prior year periods. The increases in net investment
income were primarily due to income earned on a higher invested asset base, the
result of increased cash flow, partially offset by lower investment yields.
Yields on average invested assets decreased as a result of lower
- 43 -
rates on new investment purchases and decreased policy loan income.
Net realized capital gains (losses) for the second quarter and six months ended
June 30, 2003 improved by $170 and $137, respectively, compared to the
respective prior year periods, primarily as a result of a decrease in other than
temporary impairments on fixed maturities. For the second quarter ended June 30,
2003, fixed maturity impairment losses of $17 primarily consisted of interest
only securities of $12 and commercial mortgage-backed securities of $4. The
interest only security impairments were due to the flattening of the forward
yield curve. For the six months ended June 30, 2003, fixed maturity impairment
losses were $63 and consisted of asset-backed securities of $26, corporate
securities of $21 and interest only and commercial mortgage-backed securities,
as discussed above, of $16. The asset-backed securities impaired primarily
consisted of $12 backed by credit card receivables and $10 of corporate debt.
The corporate securities were concentrated in the following sectors: $7 in
consumer non-cyclical, $7 in transportation, $4 in financial services and $3 in
technology and communications. Also included in net realized capital gains and
losses for the second quarter and six months ended June 30, 2003 were
write-downs for other than temporary impairments on seeded equity and mutual
fund investments of $0 and $21, respectively.
For the second quarter and six months ended June 30, 2002, the fixed maturity
impairment losses of $144 and $159, respectively, consisted of corporate
securities of $110 and $122 and asset-backed securities of $34 and $37. For the
second quarter and six months ended June 30, 2002, impairments of corporate
securities were concentrated in the technology and communications sector and
included a $74 before-tax loss related to securities issued by WorldCom. For the
second quarter and six months ended June 30, 2002, impairments of asset-backed
securities were concentrated in securities backed by aircraft lease receivables
of $19, mutual fund fee receivables of $7, and corporate debt obligations of $6
and $9, respectively.
PROPERTY & CASUALTY
The following table identifies invested assets by type as of June 30, 2003 and
December 31, 2002.
COMPOSITION OF INVESTED ASSETS
- ------------------------------------------------------------------------------------------------------------------------------------
JUNE 30, 2003 DECEMBER 31, 2002
------------------------------ ---------------------------
AMOUNT PERCENT AMOUNT PERCENT
- ------------------------------------------------------------------------------------------------------------------------------------
Fixed maturities, at fair value $ 22,820 96.7% $ 19,446 94.5%
Equity securities, at fair value 219 0.9% 459 2.2%
Limited partnerships, at fair value 203 0.9% 362 1.8%
Other investments 353 1.5% 306 1.5%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS $ 23,595 100.0% $ 20,573 100.0%
====================================================================================================================================
Total fixed maturities increased 17% since December 31, 2002, primarily due to
increased operating cash flow, changes in portfolio allocation and the May
capital raising proceeds. In March 2003, the Company decided to liquidate its
hedge fund limited partnership investments and certain equity securities and
reinvest the proceeds into fixed maturity investments. Equity securities and
hedge fund investment liquidations have totaled $283 and $151, respectively
since December 31, 2002. As of June 30, 2003, Property & Casualty owned
approximately $35 of hedge fund investments, all of which are expected to be
liquidated by March 31, 2004.
INVESTMENT RESULTS
The table below summarizes Property & Casualty's investment results.
SECOND QUARTER ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------------------ --------------------------
2003 2002 2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Net investment income, before-tax $ 291 $ 271 $ 576 $ 525
--------------------------------------------------------------
Net investment income, after-tax [1] $ 221 $ 209 $ 440 $ 408
Yield on average invested assets, before-tax [2] 5.5% 6.0% 5.6% 5.9%
--------------------------------------------------------------
Yield on average invested assets, after-tax [1] [2] 4.2% 4.7% 4.2% 4.6%
- ------------------------------------------------------------------------------------------------------------------------------------
Gross gains on sale $ 212 $ 81 $ 292 $ 143
Gross losses on sale (7) (45) (67) (71)
Impairments (10) (92) (32) (119)
Other, net [3] 12 10 9 9
--------------------------------------------------------------
Net realized capital gains (losses) $ 207 $ (46) $ 202 $ (38)
====================================================================================================================================
<FN>
[1] Due to the significant holdings in tax-exempt investments, after-tax net
investment income and yield are also included.
[2] Represents annualized net investment income (excluding net realized capital
gains (losses)) divided by average invested assets at cost (fixed
maturities at amortized cost).
[3] Primarily consists of changes in fair value and hedge ineffectiveness on
derivative instruments.
</FN>
For the second quarter and six months ended June 30, 2003, before-tax net
investment income increased $20, or 7%, and $51, or 10%, respectively, and
after-tax net investment income increased $12, or 6%, and $32, or 8%,
respectively, compared to the respective prior year periods. The increases in
net investment income were primarily due to income earned on a higher invested
asset base, the result of increased cash flow, partially offset by lower
investment yields. Yields on average invested assets decreased from the prior
year as a result of lower rates on new
- 44 -
investment purchases and the timing of the investment of the May capital raising
proceeds.
Net realized capital gains (losses) for the second quarter and six months ended
June 30, 2003 improved by $253 and $240, respectively, compared to the
respective prior year periods. The improvements were primarily the result of
fixed maturity gains on sales and a decrease in other than temporary
impairments. For the second quarter of 2003, fixed maturity impairment losses of
$7 consisted of interest only securities. The interest only security impairments
were due to the flattening of the forward yield curve. For the six months ended
June 30, 2003, fixed maturity impairment losses were $23, and consisted of
asset-backed securities of $8, corporate securities of $8 and interest only
securities as discussed above of $7. The asset-backed securities impaired
primarily consisted of $5 backed by corporate debt and $2 of credit card
receivables. The corporate securities impaired were primarily concentrated in
the following sectors: $3 in transportation, $2 in technology and communications
and $2 in consumer non-cyclical. Also included in net realized capital gains for
the second quarter and six months ended June 30, 2003 were write-downs for other
than temporary impairments on equity securities of $3 and $9, respectively.
For the second quarter and six months ended June 30, 2002, the fixed maturity
impairment losses of $76 and $94, respectively, consisted of corporate
securities of $61 and $78 and asset-backed securities of $15 and $16. For the
second quarter and six months ended June 30, 2002, impairments of corporate
securities were concentrated in the technology and communications sector and
included a $36 before-tax loss related to securities issued by WorldCom. For the
second quarter and six months ended June 30, 2002, impairments of asset-backed
securities were concentrated in securities backed by aircraft lease receivables
of $8 and corporate debt of $5 and $6, respectively. Also included in net
realized capital losses for the second quarter and six months ended June 30,
2002 were other than temporary impairments on equity securities of $16 and $25,
respectively.
CORPORATE
Certain proceeds from the Company's September 2002 and May 2003 capital raising
activities have been retained in Corporate. As of June 30, 2003 and December 31,
2002, Corporate held $257 and $66, respectively, of short-term fixed maturity
investments. These investments earned $2 of income for the second quarter and
six months ended June 30, 2003.
In connection with the HLI Repurchase, the carrying value of the purchased fixed
maturity investments was adjusted to fair market value as of the date of the
repurchase. This adjustment was reported in Corporate. The amortization of the
adjustment to the fixed maturity investments' carrying values is reported in
Corporate's net investment income. The total amount of amortization for the
second quarter and six months ended June 30, 2003 was $4 and $8, respectively.
The total amount of amortization for the second quarter and six months ended
June 30, 2002 was $5 and $9, respectively.
- --------------------------------------------------------------------------------
CAPITAL MARKETS RISK MANAGEMENT
- --------------------------------------------------------------------------------
The Hartford has a disciplined approach to managing risks associated with its
capital markets and asset/liability management activities. Investment portfolio
management is organized to focus investment management expertise on specific
classes of investments, while asset/liability management is the responsibility
of dedicated risk management units supporting Life, including guaranteed
separate accounts, and Property & Casualty operations. Derivative instruments
are utilized in compliance with established Company policy and regulatory
requirements and are monitored internally and reviewed by senior management.
The Company is exposed to two primary sources of investment and asset/liability
management risk: credit risk, relating to the uncertainty associated with the
ability of an obligor or counterparty to make timely payments of principal
and/or interest, and market risk, relating to the market price and/or cash flow
variability associated with changes in interest rates, securities prices, market
indices, yield curves or currency exchange rates. The Company does not hold any
financial instruments purchased for trading purposes.
Please refer to the Capital Markets Risk Management section of the MD&A in The
Hartford's 2002 Form 10-K Annual Report for a description of the Company's
objectives, policies and strategies.
CREDIT RISK
The Company invests primarily in securities that are rated investment grade, and
has established exposure limits, diversification standards and review procedures
for all credit risks including borrower, issuer and counterparty.
Creditworthiness of specific obligors is determined by an internal credit
evaluation supplemented by consideration of external determinants of
creditworthiness, typically ratings assigned by nationally recognized ratings
agencies. Obligor, asset sector and industry concentrations are subject to
established limits and are monitored on a regular basis. The Hartford is not
exposed to any credit concentration risk of a single issuer greater than 10% of
the Company's stockholders' equity.
The following table identifies fixed maturity securities by type on a
consolidated basis, including guaranteed separate accounts, as of June 30, 2003
and December 31, 2002.
- 45 -
CONSOLIDATED FIXED MATURITIES BY TYPE
- ------------------------------------------------------------------------------------------------------------------------------------
JUNE 30, 2003 DECEMBER 31, 2002
------------------------------------------------- --------------------------------------------
AMORTIZED UNREALIZED UNREALIZED FAIR AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE COST GAINS LOSSES VALUE
- ------------------------------------------------------------------------------------------------------------------------------------
Asset-backed securities ("ABS") $ 6,289 $ 166 $ (189) $ 6,266 $ 6,109 $ 155 $ (173) $ 6,091
Commercial mortgage-backed
securities ("CMBS") 8,992 801 (19) 9,774 6,964 607 (10) 7,561
Collateralized mortgage
obligation ("CMO") 1,068 24 (1) 1,091 909 45 (2) 952
Corporate
Basic industry 3,589 310 (12) 3,887 2,931 194 (19) 3,106
Capital goods 1,468 149 (5) 1,612 1,399 92 (10) 1,481
Consumer cyclical 2,246 195 (9) 2,432 1,873 121 (5) 1,989
Consumer non cyclical 3,360 305 (9) 3,656 3,101 220 (22) 3,299
Energy 1,909 211 (4) 2,116 1,812 137 (10) 1,939
Financial services 7,271 690 (55) 7,906 6,454 441 (100) 6,795
Technology and communications 4,379 589 (11) 4,957 3,972 337 (92) 4,217
Transportation 738 70 (8) 800 707 57 (20) 744
Utilities 2,591 256 (17) 2,830 2,371 147 (60) 2,458
Other 609 41 (2) 648 483 23 -- 506
Government/Government agencies
- Foreign 1,977 206 (9) 2,174 1,780 162 (8) 1,934
Government/Government agencies
- United States 1,376 59 (2) 1,433 764 53 -- 817
Mortgage-backed securities
("MBS") - agency 2,154 45 (1) 2,198 2,739 79 -- 2,818
Municipal - tax-exempt 9,666 931 (5) 10,592 10,029 822 (5) 10,846
Municipal - taxable 388 28 (2) 414 147 20 (1) 166
Redeemable preferred stock 97 6 -- 103 97 6 (1) 102
Short-term 3,783 4 -- 3,787 2,151 2 -- 2,153
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL FIXED MATURITIES $ 63,950 $ 5,086 $ (360) $ 68,676 $ 56,792 $ 3,720 $ (538) $ 59,974
====================================================================================================================================
Total general account fixed
maturities $ 53,185 $ 4,233 $ (281) $ 57,137 $ 46,241 $ 3,062 $ (414) $ 48,889
Total guaranteed separate
account fixed maturities $ 10,765 $ 853 $ (79) $ 11,539 $ 10,551 $ 658 $ (124) $ 11,085
====================================================================================================================================
The Company's fixed maturity gross unrealized losses have declined by $178 from
December 31, 2002 to June 30, 2003 primarily as a result of the credit markets
experiencing a strong sustained rally, as issuers have taken concerted action to
improve their credit quality. An important element of credit remediation
includes a renewed emphasis on improving liquidity and reducing leverage. Many
companies have been able to improve their liquidity and leverage positions
through equity issuances and asset sales. These improving fundamental factors
have led to a sharp tightening of spreads over treasuries for most issuers. The
market value appreciation driven by tightening spreads has been further enhanced
by the general decline in interest rates.
As of June 30, 2003, the Company's fixed maturity portfolio had gross unrealized
losses of $360, of which 68% were concentrated in asset-backed securities and
corporate securities within the financial services sector. The Company's current
view of risk factors relative to these fixed maturity types is as follows:
ABS - As of June 30, 2003, ABS supported by aircraft lease receivables,
corporate debt obligations ("CDO"), credit card and manufactured housing
receivables were in a gross unrealized loss position of $84, $42, $33 and $13,
respectively.
The securities supported by aircraft, aircraft lease payments and enhanced
equipment trust certificates ("aircraft ABS") have continued to decline in value
due to a reduction in lease payments and aircraft values driven by a decline in
airline travel, which resulted in bankruptcies and other financial difficulties
of airline carriers. As a result of these factors, significant risk premiums
have been required by the market for securities in this sector, resulting in
reduced liquidity and lower broker quoted prices. The level of recovery will
depend on economic fundamentals and airline operating performance. Aircraft ABS
will be further stressed if passenger air traffic declines or airlines liquidate
rather than emerge from bankruptcy protection. Approximately 66% of the
Company's investments supported by aircraft ABS payments at June 30, 2003 were
investment grade.
Adverse CDO experience can be attributed to higher than expected default rates
on the collateral, particularly in the technology and utilities sectors, and
lower than expected recovery rates. Improved economic and operating fundamentals
of the underlying security issuers should lead to improved pricing levels.
Approximately 76% of the CDOs owned by the Company at June 30, 2003 were
investment grade.
- 46 -
The unrealized loss position in credit card securities has primarily been caused
by exposure to companies originating loans to sub-prime borrowers. While the
unrealized loss position improved for these holdings during the first half of
this year, the Company believes that this sub-sector will continue to be under
stress and expects holdings to be very sensitive to changes in collateral
performance. Approximately 98% of the Company's investments supported by credit
card receivables at June 30, 2003 were investment grade.
The manufactured housing ("MH") sub-sector, over the past few months, has
continued to deteriorate as the liquidation of repossessed units has been
accelerated. This has caused a rapid increase in loss rates, which has eroded
credit protection and triggered numerous rating agency downgrades. The driving
force behind the increase in loss rates is primarily the relaxed underwriting
standards produced from intense competition among MH lenders beginning in the
mid-1990s. The Company expects elevated loss rates to remain at least over the
short term. In the long term, a less volatile and more sustainable loss rate
will depend, in large part, on general economic conditions and successful
servicing on existing loans. Approximately 94% of the Company's investments
supported by MH receivables at June 30, 2003 were investment grade.
Financial Services - The financial services securities in an unrealized loss
position are primarily variable rate securities with extended maturity dates,
which have been adversely impacted by the reduction in forward interest rates
resulting in lower expected cash flows. Future changes in fair value of these
securities are primarily dependent on forward interest rates. A substantial
percentage of these securities are hedged with interest rate swaps, which
convert the variable rate earned on the securities to a fixed amount. The swaps
receive cash flow hedge accounting treatment and are currently in an unrealized
gain position.
The following table identifies fixed maturities by credit quality on a
consolidated basis, including guaranteed separate accounts, as of June 30, 2003
and December 31, 2002. The ratings referenced below are based on the ratings of
a nationally recognized rating organization or, if not rated, assigned based on
the Company's internal analysis of such securities.
CONSOLIDATED FIXED MATURITIES BY CREDIT QUALITY
- ------------------------------------------------------------------------------------------------------------------------------------
JUNE 30, 2003 DECEMBER 31, 2002
--------------------------------------- ------------------------------------
PERCENT OF PERCENT OF
AMORTIZED TOTAL FAIR AMORTIZED TOTAL FAIR
COST FAIR VALUE VALUE COST FAIR VALUE VALUE
- ------------------------------------------------------------------------------------------------------------------------------------
United States Government/Government agencies $ 4,494 $ 4,614 6.7% $ 4,234 $ 4,397 7.3%
AAA 14,924 16,140 23.6% 13,344 14,358 24.0%
AA 7,094 7,710 11.2% 7,267 7,784 13.0%
A 16,444 17,877 26.0% 15,082 16,034 26.7%
BBB 13,828 14,991 21.8% 11,531 12,121 20.2%
BB & below 3,383 3,557 5.2% 3,183 3,127 5.2%
Short-term 3,783 3,787 5.5% 2,151 2,153 3.6%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL FIXED MATURITIES $ 63,950 $ 68,676 100.0% $ 56,792 $ 59,974 100.0%
====================================================================================================================================
Total general account fixed maturities $ 53,185 $ 57,137 83.2% $ 46,241 $ 48,889 81.5%
Total guaranteed separate account fixed maturities $ 10,765 $ 11,539 16.8% $ 10,551 $ 11,085 18.5%
====================================================================================================================================
As of June 30, 2003 and December 31, 2002, over 94% of the fixed maturity
portfolio was invested in securities rated investment grade (BBB and above). As
of June 30, 2003, below investment grade ("BIG") holdings were diversified by
sector and issuer with the greatest concentration of securities, based upon fair
value, in the following sectors: 16% in technology and communications, 15% in
utilities, 13% in foreign government, 12% in consumer non-cyclical, 11% in
consumer cyclical and 9% in basic industry. As of June 30, 2003, the Company
held no issuer of a BIG security with a fair value in excess of 3% of the total
fair value for BIG securities. As of December 31, 2002, BIG holdings were
concentrated, based upon fair value, in the following sectors: 18% in technology
and communications, 16% in utilities, 14% in foreign government, 11% in basic
industry, 10% in consumer cyclical, and 8% in consumer non-cyclical. As of
December 31, 2002, the Company held no issuer of a BIG security with a fair
value in excess of 4% of the total fair value for BIG securities.
The following table presents the Company's unrealized loss aging for total fixed
maturity and equity securities on a consolidated basis, including guaranteed
separate accounts, as of June 30, 2003 and December 31, 2002, by length of time
the security was in an unrealized loss position.
CONSOLIDATED UNREALIZED LOSS AGING OF TOTAL SECURITIES
- ------------------------------------------------------------------------------------------------------------------------------------
JUNE 30, 2003 DECEMBER 31, 2002
--------------------------------------- ----------------------------------------
AMORTIZED FAIR UNREALIZED AMORTIZED FAIR UNREALIZED
COST VALUE LOSS COST VALUE LOSS
- ------------------------------------------------------------------------------------------------------------------------------------
Three months or less $ 4,672 $ 4,606 $ (66) $ 2,042 $ 1,949 $ (93)
Greater than three months to six months 479 454 (25) 1,542 1,463 (79)
Greater than six months to nine months 617 575 (42) 703 611 (92)
Greater than nine months to twelve months 394 371 (23) 1,820 1,719 (101)
Greater than twelve months 2,516 2,299 (217) 2,351 2,103 (248)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 8,678 $ 8,305 $(373) $ 8,458 $ 7,845 $(613)
====================================================================================================================================
- 47 -
The total securities that were in an unrealized loss position for longer than
six months as of June 30, 2003 primarily consisted of asset-backed securities
and corporate debt. Asset-backed securities backed by aircraft lease
receivables, corporate debt and credit card receivables comprised 29%, 12% and
11%, respectively, of the greater than six months unrealized loss amount. The
significant corporate security industry sectors of financial services, utilities
and transportation comprised 18%, 5% and 3%, respectively, of the greater than
six months unrealized loss amount. As of June 30, 2003, the Company held no
securities of a single issuer that were at an unrealized loss in excess of 5% of
total unrealized losses. The total unrealized loss position of $373 consisted of
$294 in general account losses and $79 in guaranteed separate account losses.
As of June 30, 2003, fixed maturities represented $360, or 97%, of the Company's
total unrealized loss. There were no fixed maturities as of June 30, 2003 with a
fair value less than 80% of the security's amortized cost basis for six
continuous months other than certain asset-backed and commercial mortgage-backed
securities. Other than temporary impairments for certain asset-backed and
commercial mortgage-backed securities are recognized if the fair value of the
security, as determined by external pricing sources, is less than its carrying
amount and there has been a decrease in the present value of the expected cash
flows since the last reporting period. There were no asset-backed or commercial
mortgage-backed securities included in the table above, as of June 30, 2003 and
December 31, 2002, for which management's best estimate of future cash flows
adversely changed during the reporting period. For a detailed discussion of the
other than temporary impairment criteria, see "Valuation of Investments and
Derivative Instruments" included in the Critical Accounting Estimates section of
the MD&A and in Note 1(g) of Notes to Consolidated Financial Statements, both of
which are included in The Hartford's 2002 Form 10-K Annual Report.
Fair values for asset-backed and commercial mortgage-backed securities are
obtained primarily from broker quotations. The Company believes that the recent
price appreciation realized in many corporate sectors has not yet been reflected
in many of the broker quotations received for ABS backed by corporate debt and
that the delay in price appreciation is likely due to the current lack of
liquidity in this sector and the significant risk premium currently attached to
these issues. As of June 30, 2003, no asset-backed securities had an unrealized
loss in excess of $20.
The total securities that were in an unrealized loss position for longer than
six months as of December 31, 2002 primarily consisted of corporate and
asset-backed debt. The significant corporate security industry sectors of
financial services, technology and communications and utilities, along with
diversified equity mutual funds, comprised 18%, 16%, 10% and 7%, respectively,
of the greater than six months unrealized loss amount. Asset-backed securities
backed by credit card receivables, corporate debt and aircraft lease receivables
comprised 11%, 10% and 3%, respectively, of the greater than six months
unrealized loss amount. At December 31, 2002, the Company held no securities of
a single issuer that were at an unrealized loss in excess of 6% of total
unrealized losses. The total unrealized loss position of $613 consisted of $491
in general account losses and $122 in guaranteed separate account losses.
As part of the Company's ongoing monitoring process by a committee of investment
and accounting professionals, the Company has reviewed its investment portfolio
and concluded that there were no additional other than temporary impairments as
of June 30, 2003 and December 31, 2002. Due to the issuers' continued
satisfaction of the securities' obligations in accordance with their contractual
terms and the expectation that they will continue to do so, as well as the
evaluation of the fundamentals of the issuers' financial condition, the Company
believes that the prices of the securities in the sectors identified above were
temporarily depressed primarily as a result of a market dislocation and
generally poor cyclical economic conditions and sentiment. See "Valuation of
Investments and Derivative Instruments" included in the Critical Accounting
Estimates section of MD&A and in Note 1(g) of Notes to Consolidated Financial
Statements both included in The Hartford's 2002 Form 10-K Annual Report.
The evaluation for other than temporary impairments is a quantitative and
qualitative process, which is subject to risks and uncertainties in the
determination of whether declines in the fair value of investments are other
than temporary. The risks and uncertainties include changes in general economic
conditions, the issuer's financial condition or near term recovery prospects and
the effects of changes in interest rates. In addition, for securitized financial
assets with contractual cash flows (e.g. asset-backed securities), projections
of expected future cash flows may change based upon new information regarding
the performance of the underlying collateral.
The following table presents the Company's unrealized loss aging for BIG and
equity securities on a consolidated basis, including guaranteed separate
accounts, as of June 30, 2003 and December 31, 2002.
CONSOLIDATED UNREALIZED LOSS AGING OF BIG AND EQUITY SECURITIES
- ------------------------------------------------------------------------------------------------------------------------------------
JUNE 30, 2003 DECEMBER 31, 2002
----------------------------------------- ------------------------------------------
AMORTIZED FAIR UNREALIZED AMORTIZED FAIR UNREALIZED
COST VALUE LOSS COST VALUE LOSS
- ------------------------------------------------------------------------------------------------------------------------------------
Three months or less $ 334 $ 318 $ (16) $ 274 $ 229 $ (45)
Greater than three months to six months 86 75 (11) 308 267 (41)
Greater than six months to nine months 108 91 (17) 266 213 (53)
Greater than nine months to twelve months 12 5 (7) 576 515 (61)
Greater than twelve months 448 373 (75) 610 517 (93)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL $ 988 $ 862 $ (126) $ 2,034 $ 1,741 $(293)
====================================================================================================================================
The BIG and equity securities that were in an unrealized loss position for
longer than six months as of June 30, 2003 primarily consisted of asset-backed
securities backed by aircraft lease and credit card receivables and corporate
debt. The asset-backed securities along with corporate securities in the
utilities and consumer non-cyclical sectors and diversified equity securities
including mutual funds comprised 63%, 9%, 5% and 9%, respectively, of the BIG
and equity securities that were in an
- 48 -
unrealized loss position for greater than six months at June 30, 2003. The total
unrealized loss position of BIG and equity securities of $126 consisted of $114
in general account losses and $12 in guaranteed separate account losses.
The BIG and equity securities that were in an unrealized loss position for
longer than six months as of December 31, 2002 primarily consisted of corporate
and asset-backed securities backed by credit card receivables. The corporate
securities in the technology and communications, utilities and financial
services sectors, along with diversified equity mutual funds and asset-backed
securities comprised 28%, 16%, 5%, 14% and 11%, respectively, of the BIG and
equity securities that were in an unrealized loss position for greater than six
months at December 31, 2002. The total unrealized loss position of BIG and
equity securities of $293 consisted of $258 in general account losses and $35 in
guaranteed separate account losses.
EQUITY RISK
The Company's operations are significantly influenced by changes in the equity
markets. The Company's profitability depends largely on the amount of assets
under management, which is primarily driven by the level of sales, equity market
appreciation and depreciation and the persistency of the in-force block of
business. A prolonged and precipitous decline in the equity markets, as has been
experienced in recent periods, can have a significant impact on the Company's
operations, as sales of variable products may decline and surrender activity may
increase, as customer sentiment towards the equity market turns negative. The
lower assets under management will have a negative impact on the Company's
financial results, primarily due to lower fee income related to the Investment
Products and Individual Life segments, where a heavy concentration of
equity-linked products are administered and sold. Furthermore, the Company may
experience a reduction in profit margins if a significant portion of the assets
held in the variable annuity separate accounts move to the general account and
the Company is unable to earn an acceptable investment spread, particularly in
light of the low interest rate environment and the presence of contractually
guaranteed minimum interest credited rates, which for the most part are at a 3%
rate.
In addition, prolonged declines in the equity market may also decrease the
Company's expectations of future gross profits, which are utilized to determine
the amount of DAC to be amortized in a given financial statement period. A
significant decrease in the Company's estimated gross profits would require the
Company to accelerate the amount of DAC amortization in a given period,
potentially causing a material adverse deviation in that period's net income.
Although an acceleration of DAC amortization would have a negative impact on the
Company's earnings, it would not affect the Company's cash flow or liquidity
position.
Additionally, the Investment Products segment sells variable annuity contracts
that offer various guaranteed death benefits. For certain guaranteed death
benefits, The Hartford pays the greater of (1) the account value at death; (2)
the sum of all premium payments less prior withdrawals; or (3) the maximum
anniversary value of the contract, plus any premium payments since the contract
anniversary, minus any withdrawals following the contract anniversary. The
Company currently reinsures a significant portion of these death benefit
guarantees associated with its in-force block of business. The Company currently
records the death benefit costs, net of reinsurance, as they are incurred.
Declines in the equity market may increase the Company's net exposure to death
benefits under these contracts.
The Company's total gross exposure (i.e. before reinsurance) to these guaranteed
death benefits as of June 30, 2003 is $17.4 billion. Due to the fact that 78% of
this amount is reinsured, the Company's net exposure is $3.8 billion. This
amount is often referred to as the retained net amount at risk. However, the
Company will only incur these guaranteed death benefit payments in the future if
the policyholder has an in-the-money guaranteed death benefit at their time of
death. In order to analyze the total costs that the Company may incur in the
future related to these guaranteed death benefits, the Company performed an
actuarial present value analysis. This analysis included developing a model
utilizing stochastically generated investment performance scenarios and best
estimate assumptions related to mortality and lapse rates. A range of projected
costs was developed and discounted back to the financial statement date
utilizing the Company's cost of capital, which for this purpose was assumed to
be 9.25%. Based on this analysis, the Company estimated a 95% confidence
interval of the present value of the retained death benefit costs to be incurred
in the future to be a range of $121 to $387. The median of the stochastically
generated scenarios was $183.
On June 30, 2003, the Company recaptured a block of business previously
reinsured with an unaffiliated reinsurer. Under this treaty, HLI reinsured a
portion of the guaranteed minimum death benefit ("GMDB") feature associated with
certain of its annuity contracts. As consideration for recapturing the business
and final settlement under the treaty, the Company has received assets valued at
approximately $32 and one million warrants exercisable for the unaffiliated
company's stock. This amount represents to the Company an advance collection of
its future recoveries under the reinsurance agreement and will be recognized as
future losses are recorded in 2003 or upon the adoption of SOP 03-1 (see
discussion below). Prospectively, as a result of the recapture, HLI will be
responsible for all of the remaining and ongoing risks associated with the GMDB
related to this block of business. The recapture increased the net amount at
risk retained by the Company at June 30, 2003 by $799, which is included in the
net amount at risk discussed above.
In the first quarter of 2004, the Company will adopt the provisions of Statement
of Position 03-1, "Accounting and Reporting by Insurance Enterprises for Certain
Nontraditional Long-Duration Contracts and for Separate Accounts", (the "SOP").
The provisions of the SOP include a requirement for recording a liability for
variable annuity products with a guaranteed minimum death benefit feature. The
determination of this liability is also based on models that involve numerous
estimates and subjective judgments, including those regarding expected market
rates of return and volatility, contract surrender rates and mortality
experience. Based on management's preliminary review of the SOP and current
market conditions, the unrecorded GMDB liabilities, net of reinsurance, are
estimated to be between $75 and $85 at June 30, 2003. Net of estimated DAC and
income tax effects, the cumulative effect of establishing the required GMDB
reserves is expected to result in a reduction of net income of between $35 and
$45. The ultimate actual impact on the
- 49 -
Company's financial statements may differ from management's current estimates.
In addition, the Company issues certain variable annuity products that contain a
GMWB. The GMWB gives the policyholder the right to make periodic surrenders that
total an amount equal to the policyholders' premium payments. This guarantee
will remain in effect if periodic surrenders each contract year do not exceed an
amount equal to 7% of total premium payments. If the policyholder chooses to
surrender an amount equal to more than 7% in a contract year, then the guarantee
may be reduced to an amount less than premium payments. In addition, the
policyholder has the option, after a specified time period, to reset the
guarantee value to the then-current account value, if greater. The GMWB
obligations are derivatives which are required to be carried at fair value in
the financial statements. The fair value of the GMWB obligations are calculated
based on actuarial assumptions related to the projected benefits and related
contract charges over the lives of the contracts. Because of the dynamic and
complex nature of these cash flows, stochastic techniques under a variety of
market return scenarios and other best estimate assumptions are used. This model
involves numerous estimates and subjective judgments including those regarding
expected market rates of return and volatility and policyholder behavior.
Declines in the equity market may increase the Company's exposure to benefits
under these contracts. For all contracts in effect as of June 30, 2003, the
Company has entered into a reinsurance arrangement to offset its exposure to the
GMWB for the remaining lives of those contracts. Beginning in July 2003, the
Company has utilized substantially all of its existing reinsurance under the
current arrangement and will be ceding only a small number of new contracts.
Substantially all new contracts with the GMWB will not be covered by
reinsurance. In the absence of reinsurance coverage, the Company is exposed to
several risks including the risk that fees collected on the GMWB rider may be
inadequate to cover the cost of the rider and provide acceptable profit margins.
In addition, these unreinsured contracts are expected to generate some
volatility in net income as the underlying embedded derivative liabilities are
marked to fair value each reporting period, resulting in the recognition of net
realized capital gains or losses in response to changes in certain critical
factors including capital market conditions and policyholder behavior. In order
to address these risks, the Company is evaluating alternative risk mitigation
strategies such as product design changes and hedging its equity market risk
using capital market instruments.
- --------------------------------------------------------------------------------
CAPITAL RESOURCES AND LIQUIDITY
- --------------------------------------------------------------------------------
Capital resources and liquidity represent the overall financial strength of The
Hartford and its ability to generate cash flows from each of the business
segments and borrow funds at competitive rates to meet operating and growth
needs. The capital structure of The Hartford consists of debt and equity
summarized as follows:
JUNE 30, DECEMBER 31,
2003 2002 CHANGE
- ------------------------------------------------------------------------------------------------------------------------------------
Short-term debt (includes current maturities of long-term debt) $ 514 $ 315 63%
Long-term debt 3,337 2,596 29%
Company obligated mandatorily redeemable preferred securities of subsidiary trusts
holding solely junior subordinated debentures ("trust preferred securities") 1,296 1,468 (12%)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL DEBT $ 5,147 $ 4,379 18%
- ------------------------------------------------------------------------------------------------------------------------------------
Equity excluding accumulated other comprehensive income ("AOCI"), net of tax $ 9,692 $ 9,640 1%
AOCI, net of tax 1,807 1,094 65%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL STOCKHOLDERS' EQUITY $ 11,499 $ 10,734 7%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL CAPITALIZATION INCLUDING AOCI $ 16,646 $ 15,113 10%
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL CAPITALIZATION EXCLUDING AOCI $ 14,839 $ 14,019 6%
- ------------------------------------------------------------------------------------------------------------------------------------
Debt to equity [1] 45% 41%
Debt to capitalization [1] 31% 29%
====================================================================================================================================
<FN>
[1] Excluding trust preferred securities from total debt and AOCI from total
stockholders' equity and total capitalization, the debt to equity ratio
was 40% and 30% and the debt to capitalization ratio was 26% and 21% as of
June 30, 2003 and December 31, 2002, respectively.
</FN>
CONTRACTUAL OBLIGATIONS AND COMMITMENTS
On June 30, 2003, the Company entered into a sale-leaseback of certain furniture
and fixtures with a net book value of $40. The sale-leaseback resulted in a gain
of $15, which was deferred and will be amortized into earnings over the initial
lease term of three years. The lease qualifies as an operating lease for
accounting purposes. At the end of the initial lease term, the Company has the
option to purchase the leased assets, renew the lease for two one-year periods
or return the leased assets to the lessor. If the Company elects to return the
assets to the lessor at the end of the initial lease term, the assets will be
sold, and the Company has guaranteed a residual value on the furniture and
fixtures of $20. If the fair value of the furniture and fixtures were to decline
below the residual value, the Company would have to make up the difference under
the residual value guarantee.
The Company will periodically evaluate whether an accrual is required related to
this residual value guarantee. At June 30, 2003, no liability was recorded for
this guarantee, as the expected fair value of the furniture and fixtures at the
end of the initial lease term was greater than the residual value guarantee.
CAPITALIZATION
The Hartford endeavors to maintain a capital structure that provides financial
and operational flexibility to its insurance subsidiaries, ratings that support
its competitive position in the financial services marketplace, and strong
shareholder returns. As a result, the Company may from time to time raise
capital from
- 50 -
the issuance of stock, debt or other capital securities. The issuance of common
stock, debt or other capital securities could result in the dilution of
shareholder interests or reduced net income due to additional interest expense.
During the second quarter of 2003, the Company increased its capitalization by
$2.1 billion through the issuance of $1.2 billion in common stock, $669 in
equity units and $249 in senior notes. Contributions of proceeds included: $300
to the Company's qualified pension plan, $150 to the life insurance
subsidiaries, $180 to redeem a portion of its Series A 7.7% Cumulative Quarterly
Income Preferred Securities due February 28, 2016, with the balance to be used
in the property and casualty insurance subsidiaries.
The Hartford's total capitalization increased $1.5 billion and total
capitalization excluding AOCI increased $820 as of June 30, 2003 compared to
December 31, 2002. This increase was due to the capital raising stated above and
to the first quarter 2003 net loss of $1.4 billion, which reflects the $1.7
billion, after-tax, charge taken to strengthen reserves as a result of the
Company's comprehensive study of its asbestos related exposure.
DEBT
On May 23, 2003, The Hartford issued 12.0 million 7% equity units at a price of
fifty dollars per unit and received net proceeds of $582. Subsequently, on May
30, 2003, The Hartford issued 1.8 million 7% equity units at a price of fifty
dollars per unit and received net proceeds of $87.
Each equity unit offered initially consists of a corporate unit with a stated
amount of fifty dollars per unit. Each corporate unit consists of one purchase
contract for the sale of a certain number of shares of the Company's stock and a
5% ownership interest in one thousand dollars principal amount of senior notes
due August 16, 2008.
The corporate unit may be converted by the holder into a treasury unit
consisting of the purchase contract and a 5% undivided beneficial interest in a
zero-coupon U.S. Treasury security with a principal amount of one thousand
dollars that matures on August 15, 2006. The holder of an equity unit owns the
underlying senior notes or treasury securities but has pledged the senior notes
or treasury securities to the Company to secure the holder's obligations under
the purchase contract.
The purchase contract obligates the holder to purchase, and obligates The
Hartford to sell, on August 16, 2006, for fifty dollars, a variable number of
newly issued common shares of The Hartford. The number of The Hartford's shares
to be issued will be determined at the time the purchase contracts are settled
based upon the then current applicable market value of The Hartford's common
stock. If the applicable market value of The Hartford's common stock is equal to
or less than $45.50, then the Company will deliver 1.0989 shares to the holder
of the equity unit, or an aggregate of 15.2 million shares. If the applicable
market value of The Hartford's common stock is greater than $45.50 but less than
$56.875, then the Company will deliver the number of shares equal to fifty
dollars divided by the then current applicable market value of The Hartford's
common stock to the holder. Finally, if the applicable market value of The
Hartford's common stock is equal to or greater than $56.875, then the Company
will deliver 0.8791 shares to the holder, or an aggregate of 12.1 million
shares. Accordingly, upon settlement of the purchase contracts on August 16,
2006, The Hartford will receive proceeds of approximately $690 and will deliver
between 12.1 million and 15.2 million common shares in the aggregate. The
proceeds will be credited to stockholders' equity and allocated between the
common stock and additional paid-in-capital accounts. The Hartford will make
quarterly contract adjustment payments to the equity unit holders at a rate of
4.44% of the stated amount per year until the purchase contract is settled.
Each corporate unit also includes a 5% ownership interest in one thousand
dollars principal amount of senior notes that will mature on August 16, 2008.
The aggregate maturity value of the senior notes is $690. The notes are pledged
by the holders to secure their obligations under the purchase contracts. The
Hartford will make quarterly interest payments to the holders of the notes
initially at an annual rate of 2.56%. On May 11, 2006, the notes will be
remarketed. At that time, The Hartford's remarketing agent will have the ability
to reset the interest rate on the notes in order to generate sufficient
remarketing proceeds to satisfy the holder's obligation under the purchase
contract. If the initial remarketing is unsuccessful, the remarketing agent will
attempt to remarket the notes, as necessary, on June 13, 2006, July 12, 2006 and
August 11, 2006. If all remarking attempts are unsuccessful, the Company will
exercise its rights as a secured party to obtain and extinguish the notes.
The total distributions payable on the equity units are at an annual rate of 7%,
consisting of interest (2.56%) and contract adjustment payments (4.44%). The
corporate units are listed on the New York Stock Exchange under the symbol "HIG
PrD".
The present value of the contract adjustment payments of $95 was accrued upon
the issuance of the equity units as a charge to additional paid-in capital and
is included in other liabilities in the accompanying condensed consolidated
balance sheet as of June 30, 2003. Subsequent contract adjustment payments will
be allocated between this liability account and interest expense based on a
constant rate calculation over the life of the purchase contracts. Additional
paid-in capital as of June 30, 2003 also reflected a charge of $17 representing
a portion of the equity unit issuance costs that were allocated to the purchase
contracts.
The equity units have been reflected in the diluted earnings per share
calculation using the treasury stock method, which would be used for the equity
units at any time before the settlement of the purchase contracts. Under the
treasury stock method, the number of shares of common stock used in calculating
diluted earnings per share is increased by the excess, if any, of the number of
shares issuable upon settlement of the purchase contracts over the number of
shares that could be purchased by The Hartford in the market, at the average
market price during the period, using the proceeds received upon settlement. The
Company anticipates that there will be no dilutive effect on its earnings per
share related to the equity units, except during periods when the average market
price of a share of the Company's common stock is above the threshold
appreciation price of $56.875. Because the average market price of The
Hartford's common stock during the quarter ended June 30, 2003 was below this
threshold appreciation price, the shares issuable under the purchase contract
component of the equity units have not been included in the diluted earnings per
share calculation.
- 51 -
On May 23, 2003, The Hartford issued 2.375% senior notes due June 1, 2006 and
received net proceeds of $249. Interest on the notes is payable semi-annually on
June 1 and December 1, commencing on December 1, 2003.
The table below details the Company's short-term debt programs and the
applicable balances outstanding.
OUTSTANDING
AS OF
-------------------------------
EFFECTIVE EXPIRATION MAXIMUM JUNE 30, 2003 DECEMBER 31,
DESCRIPTION DATE DATE AVAILABLE 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Commercial Paper
The Hartford 11/10/86 N/A $ 2,000 $ 315 $ 315
HLI 2/7/97 N/A 250 -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Total commercial paper $ 2,250 $ 315 $ 315
Revolving Credit Facility
5-year revolving credit facility 6/20/01 6/20/06 $ 1,000 $ -- $ --
3-year revolving credit facility 12/31/02 12/31/05 490 -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Total revolving credit facility $ 1,490 $ -- $ --
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL SHORT-TERM DEBT [1] $ 3,740 $ 315 $ 315
====================================================================================================================================
<FN>
[1] Excludes current maturities of long-term debt of $199 and $0 as of June
30, 2003 and December 31, 2002, respectively.
</FN>
STOCKHOLDERS' EQUITY
Issuance of common stock - On May 23, 2003, The Hartford issued approximately
24.2 million shares of common stock pursuant to an underwritten offering at a
price to the public of $45.50 per share and received net proceeds of $1.1
billion. Subsequently, on May 30, 2003, The Hartford issued approximately 2.2
million shares of common stock at a price to the public of $45.50 per share and
received net proceeds of $97. On May 23, 2003 and May 30, 2003, The Hartford
issued 12.0 million 7% equity units and 1.8 million 7% equity units,
respectively. Each equity unit contains a purchase contract obligating the
holder to purchase and The Hartford to sell, a variable number of newly issued
shares of The Hartford's common stock. Upon settlement of the purchase contracts
on August 16, 2006, The Hartford will receive proceeds of approximately $690 and
will deliver between 12.1 million and 15.2 million shares in the aggregate. For
further discussion of the equity units issuance, see the Debt section above.
Dividends - On April 17, 2003, The Hartford declared a dividend on its common
stock of $0.27 per share payable on July 1, 2003 to shareholders of record as of
June 2, 2003.
CASH FLOWS
SIX MONTHS ENDED
JUNE 30,
--------------------------
2003 2002
- ------------------------------------------------------------------
Cash provided by operating activities $ 1,336 $ 1,089
Cash used for investing activities $ (5,380) $ (2,234)
Cash provided by financing activities $ 4,092 $ 1,103
Cash - end of period $ 429 $ 319
==================================================================
The increase in cash provided by financing activities was primarily the result
of capital raising activities in the second quarter and increased proceeds from
investment and universal life-type contracts. The increase in cash provided by
operating activities was primarily the result of the 2003 asbestos reserve
addition offset by changes in receivables, payables and accrual balances. The
increase in cash from financing activities accounted for the majority of the
change in the cash used for investing activities. Operating cash flows for the
six months ended June 30, 2003 and 2002 were adequate to meet liquidity
requirements.
PENSION PLAN
On May 29, 2003, the Company contributed $300 to its U.S. qualified defined
benefit pension plan.
RATINGS
Ratings are an important factor in establishing the competitive position in the
insurance and financial services marketplace. There can be no assurance that the
Company's ratings will continue for any given period of time or that they will
not be changed. In the event the Company's ratings are downgraded, the level of
revenues or the persistency of the Company's business may be adversely impacted.
Upon completion of the Company's asbestos reserve study and the Company's
capital-raising activities, certain of the major independent ratings
organizations revised The Hartford's financial ratings as follows:
On May 23, 2003, Fitch affirmed all ratings on The Hartford Financial Services
Group, Inc. including the fixed income ratings and the insurer financial
strength rating of the Hartford Fire Intercompany Pool. Further, these ratings
have been removed from Rating Watch Negative and now have a Stable Rating
Outlook.
On May 20, 2003, Standard & Poor's removed from CreditWatch and affirmed the
long-term counterparty credit and senior debt rating on The Hartford Financial
Services Group, Inc. and the counterparty credit and financial strength ratings
on the operating companies following the Company's completion of the
capital-raising activities. The outlook is stable.
On May 14, 2003, Moody's downgraded the debt ratings of both The Hartford
Financial Services Group, Inc. and Hartford Life, Inc. to A3 from A2 and their
short-term commercial paper ratings to P-2 from P-1. The outlook on all of the
ratings except for the P-2 rating on commercial paper is negative.
- 52 -
On May 13, 2003, A.M. Best affirmed the financial strength ratings of A+
(Superior) of The Hartford Fire Intercompany Pool and the main operating life
insurance subsidiaries of HLI. Concurrently, A.M. Best downgraded to "a-" from
"a+" the senior debt ratings of The Hartford Financial Services Group, Inc. and
Hartford Life Inc. and removed the ratings from under review.
The following table summarizes The Hartford's significant United States member
companies' financial ratings from the major independent rating organizations as
of August 4, 2003.
A.M. STANDARD
BEST FITCH & POOR'S MOODY'S
- -----------------------------------------------------------------
INSURANCE FINANCIAL
STRENGTH RATINGS:
Hartford Fire A+ AA AA- Aa3
Hartford Life Insurance
Company A+ AA AA- Aa3
Hartford Life & Accident A+ AA AA- Aa3
Hartford Life & Annuity A+ AA AA- Aa3
OTHER RATINGS:
The Hartford Financial
Services Group, Inc.:
Senior debt a- A A- A3
Commercial paper AMB-2 F1 A-2 P-2
Hartford Capital I
quarterly income
preferred securities bbb A- BBB Baa1
Hartford Capital III
trust originated
preferred securities bbb A- BBB Baa1
Hartford Life, Inc.:
Senior debt a- A A- A3
Commercial paper -- F1 A-2 P-2
Hartford Life, Inc.:
Capital I and II trust
preferred securities bbb A- BBB Baa1
Hartford Life Insurance
Company:
Short Term Rating -- -- A-1+ P-2
=================================================================
These ratings are not a recommendation to buy or hold any of The Hartford's
securities and they may be revised or revoked at any time at the sole discretion
of the rating organization.
The agencies consider many factors in determining the final rating of an
insurance company. One consideration is the relative level of statutory surplus
necessary to support the business written. Statutory surplus represents the
capital of the insurance company reported in accordance with accounting
practices prescribed by the applicable state insurance department. The table
below sets forth statutory surplus for the Company's insurance companies.
JUNE 30, DECEMBER 31,
2003 2002
- ------------------------------------------------------------------
Life Operations $ 3,503 $ 3,019
Property & Casualty Operations 4,986 4,871
- ------------------------------------------------------------------
TOTAL $ 8,489 $ 7,890
==================================================================
CONTINGENCIES
Legal Proceedings - The Hartford is involved in claims litigation arising in the
ordinary course of business, both as a liability insurer defending third-party
claims brought against insureds and as an insurer defending coverage claims
brought against it. The Hartford accounts for such activity through the
establishment of unpaid claim and claim adjustment expense reserves. Subject to
the discussion of the litigation involving MacArthur in Part II, Item 1. Legal
Proceedings and the uncertainties related to asbestos and environmental claims
discussed in the MD&A under the caption "Other Operations," management expects
that the ultimate liability, if any, with respect to such ordinary-course claims
litigation, after consideration of provisions made for potential losses and
costs of defense, will not be material to the consolidated financial condition,
results of operations or cash flows of The Hartford.
The Hartford is also involved in other kinds of legal actions, some of which
assert claims for substantial amounts. These actions include, among others,
putative state and federal class actions seeking certification of a state or
national class. Such putative class actions have alleged, for example,
underpayment of claims or improper underwriting practices in connection with
various kinds of insurance policies, such as personal and commercial automobile,
premises liability and inland marine. The Hartford also is involved in
individual actions in which punitive damages are sought, such as claims alleging
bad faith in the handling of insurance claims. Management expects that the
ultimate liability, if any, with respect to such lawsuits, after consideration
of provisions made for potential losses and costs of defense, will not be
material to the consolidated financial condition of The Hartford. Nonetheless,
given the large or indeterminate amounts sought in certain of these actions, and
the inherent unpredictability of litigation, it is possible that an adverse
outcome in certain matters could, from time to time, have a material adverse
effect on the Company's consolidated results of operations or cash flows in
particular quarterly or annual periods.
Legislative Initiatives - Certain elements of the recently enacted Jobs and
Growth Tax Relief Reconciliation Act of 2003, in particular the reduction in tax
rates on long-term capital gains and most dividend distributions, could have a
material effect on The Hartford's sales of variable annuities and other
investment products. In addition, other tax proposals and regulatory initiatives
which are being considered by Congress could have a material effect on the
insurance business. These proposals and initiatives include changes pertaining
to the tax treatment of insurance companies and life insurance products and
annuities, reductions in certain individual tax rates and the estate tax,
reductions in benefits currently received by The Hartford stemming from the
dividends received deduction, changes to the tax treatment of deferred
compensation arrangements, and changes to investment vehicles and retirement
savings plans and incentives. Prospects for enactment and the ultimate market
effect of these proposals are uncertain. Any potential effect to The Hartford's
financial condition or results of operations from the Jobs and Growth Act of
2003 or future tax proposals cannot be reasonably estimated at this time.
On July 10, 2003, the Senate Judiciary Committee approved legislation that, if
enacted, would provide for the creation of a federal asbestos trust fund in
place of the current tort system for determining asbestos liabilities. The
prospects for enactment and the ultimate details of any legislation creating a
federal asbestos trust fund are uncertain. Therefore, any potential effect on
the Company's financial condition or results of operations cannot be reasonably
estimated at this time.
- 53 -
- --------------------------------------------------------------------------------
ACCOUNTING STANDARDS
- --------------------------------------------------------------------------------
For a discussion of accounting standards, see Note 1 of Notes to Condensed
Consolidated Financial Statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information contained in the Capital Markets Risk Management section of
Management's Discussion and Analysis of Financial Condition and Results of
Operations is incorporated herein by reference.
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The Company's principal executive officer and its principal financial officer,
based on their evaluation of the Company's disclosure controls and procedures
(as defined in Exchange Act Rule 13a-15(e)) have concluded that the Company's
disclosure controls and procedures are adequate and effective for the purposes
set forth in the definition thereof in Exchange Act Rule 13a-15(e) as of June
30, 2003.
CHANGE IN INTERNAL CONTROL OVER FINANCIAL REPORTING
There was no change in the Company's internal control over financial reporting
that occurred during the second quarter of 2003 that has materially affected, or
is reasonably likely to materially affect, the Company's internal control over
financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Hartford is involved in claims litigation arising in the ordinary course of
business, both as a liability insurer defending third-party claims brought
against insureds and as an insurer defending coverage claims brought against it.
The Hartford accounts for such activity through the establishment of unpaid
claim and claim adjustment expense reserves. Subject to the discussion of the
litigation involving Mac Arthur Company and its subsidiary, Western MacArthur
Company, both former regional distributors of asbestos products (collectively or
individually, "MacArthur"), below and the uncertainties discussed in Note 5(b)
of Notes to Condensed Consolidated Financial Statements under the caption
"Asbestos and Environmental Claims," management expects that the ultimate
liability, if any, with respect to such ordinary-course claims litigation, after
consideration of provisions made for potential losses and costs of defense, will
not be material to the consolidated financial condition, results of operations
or cash flows of The Hartford.
The Hartford is also involved in other kinds of legal actions, some of which
assert claims for substantial amounts. These actions include, among others,
putative state and federal class actions seeking certification of a state or
national class. Such putative class actions have alleged, for example,
underpayment of claims or improper underwriting practices in connection with
various kinds of insurance policies, such as personal and commercial automobile,
premises liability, and inland marine. The Hartford also is involved in
individual actions in which punitive damages are sought, such as claims alleging
bad faith in the handling of insurance claims. Management expects that the
ultimate liability, if any, with respect to such lawsuits, after consideration
of provisions made for potential losses and costs of defense, will not be
material to the consolidated financial condition of The Hartford. Nonetheless,
given the large or indeterminate amounts sought in certain of these actions, and
the inherent unpredictability of litigation, it is possible that an adverse
outcome in certain matters could, from time to time, have a material adverse
effect on the Company's consolidated results of operations or cash flows in
particular quarterly or annual periods.
As further discussed in the MD&A under the caption "Other Operations," The
Hartford continues to receive environmental and asbestos claims that involve
significant uncertainty regarding policy coverage issues. Regarding these
claims, The Hartford continually reviews its overall reserve levels,
methodologies and reinsurance coverages.
The MacArthur Litigation - Hartford Accident and Indemnity Company ("Hartford
A&I"), a subsidiary of the Company, issued primary general liability policies to
MacArthur during the period 1967 to 1976. MacArthur sought coverage for
asbestos-related claims from Hartford A&I under these policies beginning in
1978. During the period between 1978 and 1987, Hartford A&I paid its full
aggregate limits under these policies plus defense costs. In 1987, Hartford A&I
notified MacArthur that its available limits under these policies had been
exhausted, and MacArthur ceased submitting claims to Hartford A&I under these
policies.
On October 3, 2000, thirteen years after it had accepted Hartford A&I's notice
of exhaustion, MacArthur filed an action against Hartford A&I and another
insurer in the U.S. District Court for the Eastern District of New York, seeking
for the first time additional coverage for asbestos bodily injury claims under
the Hartford A&I primary policies on the theory that Hartford A&I had exhausted
only its products aggregate limit of liability, not separate limits MacArthur
alleges to be available for non-products liability. The complaint sought a
declaration of coverage and unquantified damages. On March 28, 2003, the
District Court dismissed this action without prejudice on MacArthur's motion.
On June 3, 2002, The St. Paul Companies, Inc. ("St. Paul") announced a
settlement of a coverage action brought by MacArthur against United States
Fidelity and Guaranty Company ("USF&G"), a subsidiary of St. Paul. Under the
settlement, St. Paul agreed to pay a total of $975 to resolve its asbestos
liability to MacArthur in conjunction with a proposed bankruptcy petition and
pre-packaged plan of reorganization to be filed by MacArthur. USF&G provided at
least twelve years of primary general liability coverage to MacArthur, but,
unlike Hartford
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A&I, had denied coverage and had refused to pay for defense or indemnity.
On October 7, 2002, MacArthur filed an action in the Superior Court in Alameda
County, California, against Hartford A&I and two other insurers. As in the
now-dismissed New York action, MacArthur seeks a declaration of coverage and
damages for asbestos bodily injury claims. Four asbestos claimants who allegedly
have obtained default judgments against MacArthur also are joined as plaintiffs;
they seek to recover the amount of their default judgments and additional
damages directly from the defendant insurers and assert a right to an
accelerated trial.
In a second amended complaint filed on July 21, 2003 in the Alameda County
action, following Hartford A&I's successful demurrer to the first two
complaints, MacArthur alleges that its liability for liquidated but unpaid
asbestos bodily injury claims is $2.5 billion, of which more than $1.8 billion
consists of unpaid judgments. The ultimate amount of MacArthur's alleged
non-products asbestos liability, including any unresolved present claims and
future demands, is currently unknown.
On November 22, 2002, MacArthur filed a bankruptcy petition and proposed plan of
reorganization, which seeks to implement the terms of its settlement with St.
Paul. MacArthur's bankruptcy filings indicate that in conjunction with plan
confirmation it will seek to have the full amount of its current and future
asbestos liability estimated in an amount substantially more than the alleged
liquidated but unpaid claims. If such an estimation is made, MacArthur intends
to ask the Alameda County court to enter judgment against the insurers for the
amount of its total estimated liability, including unliquidated claims and
future demands, less the estimated amount ultimately paid by St. Paul. Hartford
A&I has filed an adversary complaint in the MacArthur bankruptcy seeking a
declaratory judgment that any estimation made in the bankruptcy proceedings is
not an adjudication of MacArthur's asbestos liability for purposes of insurance
coverage. A confirmation trial currently is scheduled to begin November 10,
2003.
Hartford A&I intends to defend the MacArthur action vigorously. In the opinion
of management, the ultimate outcome is highly uncertain for many reasons. It is
not yet known, for example, whether Hartford A&I's defenses based on MacArthur's
long delay in asserting claims for further coverage will be successful; how
other significant coverage defenses will be decided; or the extent to which the
claims and default judgments against MacArthur involve injury outside of the
products and completed operations hazard definitions of the policies. In the
opinion of management, an adverse outcome could have a material adverse effect
on the Company's results of operations, financial condition and liquidity.
Bancorp Services, LLC - On March 15, 2002, a jury in the U.S. District Court for
the Eastern District of Missouri issued a verdict in Bancorp Services, LLC
("Bancorp") v. Hartford Life Insurance Company ("HLIC"), et al., in favor of
Bancorp in the amount of $118. The case involved claims of patent infringement,
misappropriation of trade secrets, and breach of contract against HLIC and its
affiliate International Corporate Marketing Group, Inc. ("ICMG"). The judge
dismissed the patent infringement claim on summary judgment. The jury's award
was based on the last two claims. On August 28, 2002, the Court entered an order
awarding Bancorp prejudgment interest on the breach of contract claim in the
amount of $16.
HLIC and ICMG have appealed the judgment on the trade secret and breach of
contract claims. Bancorp has cross-appealed the pretrial dismissal of its patent
infringement claim. The appeal is fully briefed but has not been argued. The
Company's management, based on the advice of its legal counsel, believes that
there is a substantial likelihood that the judgment will not survive at its
current amount. Based on the advice of legal counsel regarding the potential
outcomes of this litigation, the Company recorded an $11 after-tax charge in the
first quarter of 2002 to increase litigation reserves. Should HLIC and ICMG not
succeed in eliminating or reducing the judgment, a significant additional
expense would be recorded in the future.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits - See Exhibit Index on page 58.
(b) Reports on Form 8-K:
During the quarterly period ended June 30, 2003, the Company filed the
following Current Reports on Form 8-K:
Dated May 8, 2003, Item 5, Other Events, to provide supplemental financial
disclosure relating to the three fiscal years ended December 31, 2002.
Dated May 30, 2003, Item 7, Financial Statements and Exhibits, to file and
incorporate by reference certain exhibits into the registration statement
on Form S-3 (File No. 333-103915), filed with the Securities and Exchange
Commission on March 19, 2003, as amended on April 10, 2003, and the
registration statement on Form S-3 (File No. 333-105392) filed with the
Securities and Exchange Commission on May 19, 2003 pursuant to Rule 462(b).
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
The Hartford Financial Services Group, Inc.
(Registrant)
/s/ Robert J. Price
-------------------------------------------
Robert J. Price
Senior Vice President and Controller
August 6, 2003
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THE HARTFORD FINANCIAL SERVICES GROUP, INC.
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2003
FORM 10-Q
EXHIBITS INDEX
EXHIBIT NO. DESCRIPTION
---------- -----------
1.01 Underwriting Agreement General Terms and Conditions, dated May
19, 2003, including the Pricing Agreement, dated May 19, 2003
(Common Stock of the Company) (incorporated herein by reference
to Exhibit 1.1 of the Company's Current Report on Form 8-K filed
May 30, 2003).
1.02 Underwriting Agreement General Terms and Conditions, dated May
19, 2003, including the Pricing Agreement, dated May 19, 2003
(Debt Securities of the Company) (incorporated herein by
reference to Exhibit 1.2 of the Company's Current Report on Form
8-K filed May 30, 2003).
1.03 Underwriting Agreement General Terms and Conditions, dated May
19, 2003, including the Pricing Agreement, dated May 19, 2003
(Equity Units of the Company) (incorporated herein by reference
to Exhibit 1.3 of the Company's Current Report on Form 8-K filed
May 30, 2003).
4.01 Supplemental Indenture No. 3, dated as of May 23, 2003, to the
Senior Indenture, dated as of October 20, 1995, between ITT
Hartford Group, Inc. and The Chase Manhattan Bank (National
Association) as Trustee, between the Company and JPMorgan Chase
Bank, as Trustee (incorporated herein by reference to Exhibit
4.1 of the Company's Current Report on Form 8-K filed May 30,
2003).
4.02 Purchase Contract Agreement, dated as of May 23, 2003, between
the Company and JPMorgan Chase Bank, as Purchase Contract Agent
(incorporated herein by reference to Exhibit 4.2 of the
Company's Current Report on Form 8-K filed May 30, 2003).
4.03 Pledge Agreement, dated as of May 23, 2003, between the Company
and JPMorgan Chase Bank, as Collateral Agent, Custodial Agent,
Securities Intermediary and Purchase Contract Agent
(incorporated herein by reference to Exhibit 4.3 of the
Company's Current Report on Form 8-K filed May 30, 2003).
4.04 Remarketing Agreement, dated as of May 23, 2003, between the
Company, Goldman, Sachs & Co., as the Remarketing Agent and
JPMorgan Chase Bank, as Purchase Contract Agent (incorporated
herein by reference to Exhibit 4.4 of the Company's Current
Report on Form 8-K filed May 30, 2003).
15.01 Deloitte & Touche LLP Letter of Awareness.
31.1 Certification of Ramani Ayer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification of David M. Johnson pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Certification of Ramani Ayer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification of David M. Johnson pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
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