##### 



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION  Washington, D.C. 20549
   FORM 10-Q þ
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
    o
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
  
 Commission File Number 1-5823   CNA FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) Delaware
    
    36-6169860(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)CNA PlazaChicago, Illinois
    
    60685(Address of principal executive offices)
    
    (Zip Code)
 (312) 822-5000
(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 ü No o Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes ü No o Indicate the number of shares outstanding of each of the issuers classes
of common stock, as of the latest practicable date. Class
    
    Outstanding at April 26, 2004Common Stock, Par value $2.50
    
    
    255,946,852




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##### 



Item
    
    
    
    PageNumber
    
    
    
    NumberPART I. Financial Information1.
    
    Condensed Consolidated Financial Statements (Unaudited):Condensed Consolidated Balance Sheets at March 31, 2004
and at December 31, 2003
    
    
    3Condensed Consolidated Statements of Operations for the
Three Months Ended March 31, 2004 and 2003
    
    
    4Condensed Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 2004 and 2003
    
    
    5Notes to Condensed Consolidated Financial Statements
    
    
    62.
    
    Managements Discussion and Analysis of Financial
Condition and Results of Operations
    
    
    403.
    
    Quantitative and Qualitative Disclosures about Market Risk
    
    
    884.
    
    Disclosure Controls and Procedures
    
    
    94PART II. Other Information1.
    
    Legal Proceedings
    
    
    952.
    
    Changes in Securities, Use of Proceeds and Issuer
Purchases of Equity Securities
    
    
    954.
    
    Submission of Matters to a Vote of Security Holders
    
    
    956.
    
    Exhibits and Reports on Form 8-K
    
    
    95Signatures
    
    
    97




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##### 



CNA FINANCIAL CORPORATION
PART I. FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED) March 31,
    
    December 31,2004
    
    2003(In millions, except share data)AssetsInvestments:Fixed maturity securities at fair value (amortized cost of $27,432 and $27,564)
    
    $
    28,691
    
    
    $
    28,678Equity securities at fair value (cost of $239 and $293)
    
    
    504
    
    
    
    527Mortgage loans and real estate (less accumulated depreciation of $11 and $10)
    
    
    25
    
    
    
    25Policy loans
    
    
    1
    
    
    
    175Limited partnership investments
    
    
    1,659
    
    
    
    1,117Other invested assets
    
    
    14
    
    
    
    40Short-term investments, at cost which approximates fair value
    
    
    6,127
    
    
    
    7,538Total investments
    
    
    37,021
    
    
    
    38,100Cash
    
    
    81
    
    
    
    139Reinsurance receivables (less allowance for doubtful accounts of $591 and $573)
    
    
    14,238
    
    
    
    15,681Insurance receivables (less allowance for doubtful accounts of $390 and $375)
    
    
    2,732
    
    
    
    2,695Accrued investment income
    
    
    302
    
    
    
    323Receivables for securities sold
    
    
    1,124
    
    
    
    836Deferred acquisition costs
    
    
    1,345
    
    
    
    2,533Prepaid reinsurance premiums
    
    
    1,148
    
    
    
    1,252Federal income taxes recoverable (includes $496 and $594 due from Loews Corporation)
    
    
    506
    
    
    
    607Deferred income taxes
    
    
    649
    
    
    
    600Property and equipment at cost (less accumulated depreciation of $657 and $727)
    
    
    280
    
    
    
    314Goodwill and other intangible assets
    
    
    162
    
    
    
    162Assets related to businesses held for sale
    
    
    6,291
    
    
    
    Other assets
    
    
    936
    
    
    
    1,583Separate account business
    
    
    745
    
    
    
    3,678Total assets
    
    $
    67,560
    
    
    $
    68,503Liabilities and Stockholders EquityLiabilities:Insurance reserves:Claim and claim adjustment expense
    
    $
    31,183
    
    
    $
    31,730Unearned premiums
    
    
    4,833
    
    
    
    4,891Future policy benefits
    
    
    4,503
    
    
    
    8,161Policyholders funds
    
    
    1,853
    
    
    
    601Collateral on loaned securities and derivatives
    
    
    371
    
    
    
    442Payables for securities purchased
    
    
    1,586
    
    
    
    1,902Participating policyholders funds
    
    
    117
    
    
    
    118Short term debt
    
    
    264
    
    
    
    263Long term debt (includes $346 and $0 of surplus notes due to Loews Corporation)
    
    
    1,980
    
    
    
    1,641Reinsurance balances payable
    
    
    3,329
    
    
    
    3,432Liabilities related to businesses held for sale
    
    
    5,471
    
    
    
    Other liabilities
    
    
    2,152
    
    
    
    2,436Separate account business
    
    
    745
    
    
    
    3,678Total liabilities
    
    
    58,387
    
    
    
    59,295Commitments and contingencies (Notes F, G, I and K)Minority interest
    
    
    263
    
    
    
    256Stockholders equity:Preferred stock (12,500,000 shares authorized)
    
    
    1,500
    
    
    
    1,500Series H Issue (no par value; $100,000 stated value; 7,500 shares issued; held by Loews Corporation)Series I Issue (no par value; $23,200 stated value; 32,327 shares issued convertible to 32,327,015
shares of common stock; held by Loews Corporation)Common stock ($2.50 par value; 500,000,000 shares authorized; 225,850,270 shares issued; and
223,617,337 shares outstanding)
    
    
    565
    
    
    
    565Additional paid-in capital
    
    
    1,031
    
    
    
    1,031Retained earnings
    
    
    5,035
    
    
    
    5,160Accumulated other comprehensive income
    
    
    924
    
    
    
    841Treasury stock (2,232,933 shares), at cost
    
    
    (69
    )
    
    
    (69
    )8,986
    
    
    
    9,028Notes receivable for the issuance of common stock
    
    
    (76
    )
    
    
    (76
    )Total stockholders equity
    
    
    8,910
    
    
    
    8,952Total liabilities and stockholders equity
    
    $
    67,560
    
    
    $
    68,503
 The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements
(Unaudited). 3




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##### 



CNA FINANCIAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED) Three months ended March 31
    
    2004
    
    2003(In millions, except per share data)RevenuesNet earned premiums
    
    $
    2,168
    
    
    $
    2,381Net investment income
    
    
    473
    
    
    
    432Realized investment losses, net of participating
policyholders and minority interests
    
    
    (458
    )
    
    
    (76
    )Other revenues
    
    
    82
    
    
    
    108Total revenues
    
    
    2,265
    
    
    
    2,845Claims, Benefits and ExpensesInsurance claims and policyholders benefits
    
    
    1,620
    
    
    
    1,870Amortization of deferred acquisition costs
    
    
    433
    
    
    
    458Other operating expenses
    
    
    350
    
    
    
    379Interest
    
    
    35
    
    
    
    34Total claims, benefits and expenses
    
    
    2,438
    
    
    
    2,741Income (loss) before income tax and minority interest
    
    
    (173
    )
    
    
    104Income tax (expense) benefit
    
    
    54
    
    
    
    (18
    )Minority interest
    
    
    (6
    )
    
    
    (3
    )Net income (loss)
    
    $
    (125
    )
    
    $
    83Basic and Diluted Earnings (Loss) Per ShareBasic and diluted earnings (loss) per share
available to common stockholders
    
    $
    (0.55
    )
    
    $
    0.30Weighted average outstanding common stock and common
stock equivalents
    
    
    255.9
    
    
    
    223.6
 The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements
(Unaudited). 4




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##### 



CNA FINANCIAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED) Three months ended March 31
    
    2004
    
    2003(In millions)Cash Flows from Operating ActivitiesNet income (loss)
    
    $
    (125
    )
    
    $
    83Adjustments to reconcile net income (loss) to net cash flows provided by operating activities:Change in bad debt provision for insurance and reinsurance receivables
    
    
    33
    
    
    
    Minority interest
    
    
    6
    
    
    
    3Loss on disposal of property and equipment
    
    
    
    
    
    
    12Deferred income tax provision
    
    
    (77
    )
    
    
    12Realized investment losses, net of participating policyholders and minority interests
    
    
    458
    
    
    
    76Equity method income
    
    
    (75
    )
    
    
    (26
    )Amortization of bond discount
    
    
    1
    
    
    
    (21
    )Depreciation
    
    
    19
    
    
    
    24Changes in:Receivables
    
    
    197
    
    
    
    (371
    )Deferred acquisition costs
    
    
    10
    
    
    
    (57
    )Accrued investment income
    
    
    (30
    )
    
    
    (47
    )Federal income taxes payable/recoverable
    
    
    108
    
    
    
    (75
    )Prepaid reinsurance premiums
    
    
    103
    
    
    
    (117
    )Reinsurance balances payable
    
    
    (71
    )
    
    
    28Insurance reserves
    
    
    (365
    )
    
    
    528Other, net
    
    
    (151
    )
    
    
    (7
    )Net purchases of trading securities
    
    
    (4
    )
    
    
    Total adjustments
    
    
    162
    
    
    
    (38
    )Net cash flows provided by operating activities
    
    
    37
    
    
    
    45Cash Flows from Investing ActivitiesPurchases of fixed maturity securities
    
    
    (14,475
    )
    
    
    (17,802
    )Proceeds from fixed maturity securities:Sales
    
    
    10,867
    
    
    
    15,492Maturities, calls and redemptions
    
    
    1,443
    
    
    
    958Purchases of equity securities
    
    
    (30
    )
    
    
    (71
    )Proceeds from sales of equity securities
    
    
    36
    
    
    
    61Change in short-term investments
    
    
    1,820
    
    
    
    1,668Change in collateral on loaned securities and derivatives
    
    
    (71
    )
    
    
    (133
    )Change in other investments
    
    
    7
    
    
    
    4Purchases of property and equipment
    
    
    (11
    )
    
    
    (31
    )Other, net
    
    
    (27
    )
    
    
    (14
    )Net cash flows provided (used) by investing activities
    
    
    (441
    )
    
    
    132Net Cash Flows from Financing ActivitiesPrincipal payments on debt
    
    
    (6
    )
    
    
    (129
    )Proceeds from issuance of surplus notes
    
    
    346
    
    
    
    Returns and deposits of policyholder account balances on investment contracts
    
    
    6
    
    
    
    (7
    )Other
    
    
    
    
    
    
    (1
    )Net cash flows provided (used) by financing activities
    
    
    346
    
    
    
    (137
    )Net change in cash
    
    
    (58
    )
    
    
    40Cash, beginning of period
    
    
    139
    
    
    
    126Cash, end of period
    
    $
    81
    
    
    $
    166Supplemental Disclosures of Cash Flow Information:Cash paid (received):Interest
    
    $
    16
    
    
    $
    19Federal income taxes
    
    
    (79
    )
    
    
    63Non-cash transactions:Notes receivable for the issuance of common stock
    
    
    
    
    
    
    1
 The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements
(Unaudited). 5




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS(UNAUDITED) Note A. Basis of Presentation The Condensed Consolidated Financial Statements (Unaudited) include the
accounts of CNA Financial Corporation (CNAF) and its controlled subsidiaries.
Collectively, CNAF and its subsidiaries are referred to as CNA or the Company.
CNAs property and casualty insurance operations are primarily conducted by
Continental Casualty Company (CCC) and The Continental Insurance Company (CIC).
CNAs life and group insurance operations are primarily conducted by
Continental Assurance Company (CAC) and Valley Forge Life Insurance Company
(VFL). Loews Corporation (Loews) owned approximately 90% of the outstanding
common stock and 100% of the Series H and Series I preferred stock of CNAF as
of March 31, 2004. Conversion of the Series I preferred stock into
approximately 32.3 million shares of CNAF common stock occurred on April 20,
2004, as a result of which Loews owns approximately 91% of CNAFs approximately
255.9 million outstanding shares of common stock. In February of 2004, CNA entered into a definitive agreement to sell its
individual life insurance business to Swiss Re Life & Health America Inc. The
transaction is expected to be completed on April 30, 2004, subject to certain
customary closing conditions. As of March 31, 2004, CNA has classified the
assets and liabilities of the individual life insurance business including the
Nashville, Tennessee insurance servicing and administration building as assets
and liabilities related to businesses held for sale. See Note Q for further
information. CNA Group Life Assurance Company (CNAGLA) was sold to Hartford Financial
Services Group, Inc. on December 31, 2003. The results of the group benefits
business sold are included in the Condensed Consolidated Statement of
Operations for the three months ended March 31, 2003. The accompanying Condensed Consolidated Financial Statements have been prepared
in conformity with accounting principles generally accepted in the United
States of America (GAAP). Certain financial information that is normally
included in annual financial statements, including certain financial statement
footnotes, prepared in accordance with GAAP, is not required for interim
reporting purposes and has been condensed or omitted. These statements should
be read in conjunction with the consolidated financial statements and notes
thereto included in CNAFs Form 10-K filed with the Securities and Exchange
Commission (SEC) for the year ended December 31, 2003. The interim financial data as of March 31, 2004 and for the three months ended
March 31, 2004 and 2003 is unaudited. However, in the opinion of management,
the interim data includes all adjustments, consisting of normal recurring
accruals, necessary for a fair statement of the Companys results for the
interim periods. The results of operations for the interim periods are not
necessarily indicative of the results to be expected for the full year. All
significant intercompany amounts have been eliminated. Certain amounts applicable to prior periods have been reclassified to conform
to the current period presentation. Note B. Accounting Pronouncements In January of 2003, the
Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 46,
Consolidation of Variable Interest Entities, an interpretation of
ARB No. 51 (FIN 46). In December of 2003, the FASB issued
FIN 46 (revised December 2003), Consolidation of Variable Interest
Entities, an interpretation of ARB No. 51 (FIN 46R) which
replaces FIN 46 and clarifies the application of Accounting Research
Bulletin No. 51  Consolidated Financial
Statements (ARB 51). As per ARB 51, a general rule for preparation of
consolidated financial statements of a parent and its subsidiary is ownership
by the parent, either directly or indirectly, of over
fifty percent of the outstanding 6




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CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) voting shares of a subsidiary. However,
application of the majority voting interest requirement of ARB 51 to certain
types of entities may not identify the party with a controlling financial
interest because the controlling financial interest may be achieved through
arrangements that do not involve voting interest. FIN 46R clarifies
applicability of ARB 51 to entities 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. FIN 46R requires an entity to
consolidate a variable interest entity (VIE) even though the entity does not,
either directly or indirectly, own over fifty percent of the outstanding voting
shares. FIN 46R is applicable for financial statements issued for reporting periods that
end after March 15, 2004. The Company has determined that the
adoption of FIN 46R does not have a significant impact on
the results of operations or equity of the Company. In December of 2003, the FASB revised SFAS No. 132, Employers Disclosures
about Pensions and Other Postretirement Benefits(SFAS 132) to require
additional disclosures related to pensions and post retirement benefits. While
retaining the existing disclosure requirements for pensions and postretirement
benefits, additional disclosures are required related to pension plan assets,
obligations, contributions and net benefit costs, beginning with fiscal years
ending after December 15, 2003. Additional disclosures pertaining to benefit
payments are required for fiscal years ending after June 30, 2004. The SFAS
132 revisions also include additional disclosure requirements for interim
financial reports beginning after December 15, 2003. CNA has implemented the
revised interim disclosures in these financial statements and will implement
the annual benefit payment disclosures in subsequent annual financial
statements. In July of 2003, the Accounting Standards Executive Committee (AcSEC) of the
American Institute of Certified Public Accountants (AICPA) issued Statement of
Position 03-01, Accounting and Reporting by Insurance Enterprises for
Certain Nontraditional Long-Duration Contracts and for Separate Accounts
(SOP 03-01). SOP 03-01 provides guidance on accounting and reporting by
insurance enterprises for certain nontraditional long-duration contracts and
for separate accounts. SOP 03-01 is effective for financial statements for
fiscal years beginning after December 15, 2003. SOP 03-01 may not be applied
retroactively to prior years financial statements, and initial application
should be as of the beginning of an entitys fiscal year, therefore prior year
amounts have not been conformed to the current year presentation. CNA adopted SOP 03-01 as of January 1, 2004. The assets and liabilities of
certain guaranteed investment contracts and indexed group annuity contracts
that were previously segregated and reported as separate accounts no longer
qualify for separate account presentation. Prior to the adoption of SOP 03-01,
the asset and liability presentation of these affected contracts were
categorized as separate account assets and liabilities in the Condensed
Consolidated Balance Sheet. The results of operations from separate account
business were primarily classified as other revenue in the Condensed Consolidated
Statements of Operations. In accordance with the provisions of SOP 03-01, the
classification and presentation of certain balance sheet and income statement
items have been modified within these financial statements. Accordingly, the
investment securities previously classified as separate account assets have now
been reclassified to the general account and will be reported based on their
investment classification whether available-for-sale or trading securities.
The investment portfolio for the indexed group annuity contracts is classified
as held for trading purposes and is carried at fair value, with both the net
realized and unrealized gains (losses) included within net investment income in
the Condensed Consolidated Statement of Operations. 7




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CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) The Company continues to have contracts that meet the criteria for separate
account presentation. The assets and liabilities of these contracts are
legally segregated and reported as assets and liabilities of the separate
account business. Substantially all assets of the separate account business
are carried at fair value. Separate account liabilities are carried at
contract values. The following table provides the balance sheet presentation of assets and
liabilities for certain guaranteed investment contracts and indexed group
annuity contracts upon adoption of SOP 03-01, including the classification of
the indexed group annuity contract investments as trading securities. January 1,
    
    March 31,2004
    
    2004 (a)(In millions)AssetsInvestments:Fixed maturity securities, available-for-sale
    
    $
    1,220
    
    
    $
    1,245Fixed maturity securities, trading
    
    
    304
    
    
    
    393Equity securities
    
    
    4
    
    
    
    4Limited partnerships
    
    
    419
    
    
    
    463Short term investments, available-for-sale
    
    
    55
    
    
    
    47Short term investments, trading
    
    
    414
    
    
    
    389Total investments
    
    
    2,416
    
    
    
    2,541Accrued investment income
    
    
    13
    
    
    
    12Receivables for securities sold
    
    
    97
    
    
    
    83Other assets
    
    
    1
    
    
    
    Total assets
    
    $
    2,527
    
    
    $
    2,636LiabilitiesLiabilities:Insurance reserves:Claim and claim adjustment expense
    
    
    1
    
    
    
    1Future policy benefits
    
    
    617
    
    
    
    605Policyholders funds
    
    
    1,324
    
    
    
    1,345Collateral on loaned securities and derivatives
    
    
    17
    
    
    
    2Payables for securities purchased
    
    
    43
    
    
    
    101Other liabilities
    
    
    47
    
    
    
    62Total liabilities
    
    $
    2,049
    
    
    $
    2,116
 (a) Includes $73 million of Investments transferred to Assets related to
Businesses Held for Sale and $72 million of Future Policy Benefits Reserves
transferred to Liabilities related to Businesses Held for Sale. See Note Q for
further discussion. Note C. Earnings (Loss) Per Share Earnings (loss) per share available to common stockholders is based on
weighted-average outstanding shares. Basic and diluted earnings per share is
computed by dividing income available to common stockholders by the
weighted-average number of shares of common stock or common stock equivalents
outstanding for the period. The weighted average number of shares outstanding
for computing basic and diluted earnings per share was 255.9 million and 223.6
million for the three months ended March 31, 2004 and 2003. Included in the
weighted-average outstanding shares in 2004 is the effect of the Series I
convertible preferred shares issued during the fourth quarter of 2003. The
Series I Issue preferred stock had terms that made it economically equivalent
to common stock; therefore the weighted average basic and diluted shares for
the three months ended March 31, 2004 include the convertible preferred shares 8




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) assuming conversion to common shares. Conversion of the Series I preferred
shares into approximately 32.3 million shares of CNAF common stock occurred on
April 20, 2004. Diluted earnings per share reflect the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock. For the three months ended March 31, 2004, approximately
one million shares attributable to the exercise of outstanding options were
excluded from the calculation of diluted earnings per share because the effect
was antidilutive. No shares were excluded from the calculation of diluted
earnings per share for the three months ended March 31, 2003, but since the
exercise price of these options was greater than the average market price of
CNA common stock, these options have no dilutive effect. The computation of earnings per share was as follows. Earnings (Loss) Per Share For the three months ended March 31
    
    2004
    
    2003(In millions, except per share amounts)Net income (loss)
    
    $
    (125
    )
    
    $
    83Less: undeclared preferred stock dividend
    
    
    (16
    )
    
    
    (15
    )Net income (loss) available to common stockholders
    
    $
    (141
    )
    
    $
    68Weighted average outstanding common stock and common
stock equivalents
    
    
    255.9
    
    
    
    223.6Effect of dilutive securities, employee stock options
    
    
    
    
    
    
    Adjusted weighted average outstanding common stock
and common stock equivalents assuming conversions
    
    
    255.9
    
    
    
    223.6Basic and diluted earnings (loss) per share
available to common stockholders
    
    $
    (0.55
    )
    
    $
    0.30
 The Company applies the intrinsic value method by following Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees (APB 25), and related interpretations, in accounting for its
stock-based compensation plan. Under the recognition and measurement
principles of APB 25, no stock-based compensation cost has been recognized, as
the exercise price of the granted options equaled the market price of the
underlying stock at the grant date. 9




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) The following table illustrates the pro forma effect on net income (loss) and
earnings (loss) per share, had the Company applied the fair value recognition
provisions of SFAS 123 to stock-based employee compensation under the Companys
stock-based compensation plans. Pro Forma Effect of SFAS 123 on Net Income (Loss) and Earnings (Loss) Per Share For the three months ended March 31
    
    2004
    
    2003(In millions, except per share amounts)Net income (loss), as reported
    
    $
    (125
    )
    
    $
    83Less: Total stock-based compensation cost determined under
the fair value method, net of tax
    
    
    (1
    )
    
    
    Pro forma net income (loss)
    
    $
    (126
    )
    
    $
    83Less: undeclared preferred stock dividend
    
    
    (16
    )
    
    
    (15
    )Pro forma net income (loss) available to common stockholders
    
    
    (142
    )
    
    
    68Basic and diluted earnings (loss) per share, as reported
    
    $
    (0.55
    )
    
    $
    0.30Basic and diluted earnings (loss) per share, pro forma
    
    $
    (0.55
    )
    
    $
    0.30
 Note D. Investments The significant components of net investment income are presented in the
following table. Net Investment Income For the three months ended March 31
    
    2004
    
    2003(In millions)Fixed maturity securities
    
    $
    407
    
    
    $
    420Short term investments
    
    
    16
    
    
    
    20Limited partnerships
    
    
    75
    
    
    
    23Equity securities
    
    
    4
    
    
    
    5Income from trading portfolio (a)
    
    
    20
    
    
    
    Interest on funds withheld and other deposits
    
    
    (50
    )
    
    
    (47
    )Other
    
    
    10
    
    
    
    25Gross investment income
    
    
    482
    
    
    
    446Investment expense
    
    
    (9
    )
    
    
    (14
    )Net investment income
    
    $
    473
    
    
    $
    432
 (a) The change in net
unrealized gains on trading securities still held, included in net
investment income, was $4 million for the three months ended
March 31, 2004. 10




---



##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) The components of net realized investment results from available-for-sale
securities are presented in the following table. Net Realized Investment Gains (Losses) Three months ended March 31
    
    2004
    
    2003(In millions)Realized investment gains (losses):Fixed maturity securities:U.S. Government bonds
    
    $
    10
    
    
    $
    38Corporate and other taxable bonds
    
    
    6
    
    
    
    (118
    )Tax-exempt bonds
    
    
    73
    
    
    
    19Asset-backed bonds
    
    
    39
    
    
    
    18Redeemable preferred stock
    
    
    1
    
    
    
    (5
    )Total fixed maturity securities
    
    
    129
    
    
    
    (48
    )Equity securities
    
    
    11
    
    
    
    Derivative securities
    
    
    (32
    )
    
    
    (22
    )Short term investments
    
    
    
    
    
    
    4Impairment loss on Individual Life business (see Note Q)
    
    
    (569
    )
    
    
    Other
    
    
    4
    
    
    
    (13
    )Net realized investment gains (losses) before allocation to
participating policyholders and minority interests
    
    
    (457
    )
    
    
    (79
    )Allocated to participating policyholders and minority interest
    
    
    (1
    )
    
    
    3Realized investment losses
    
    $
    (458
    )
    
    $
    (76
    )
 Realized investment losses for the three months ended March 31, 2004 included a
$569 million pretax impairment loss on assets related to businesses held for
sale in connection with the anticipated sale of CNAs Individual Life business.
See Note Q for further discussion of the Individual Life transaction. Realized investment losses
for the three months ended March 31, 2003 included $255 million of pretax impairment losses
for other-than-temporary declines in fair values for fixed maturity and equity
securities. These impairment losses
were primarily for securities in certain market sectors, including the airline,
healthcare and energy industries. There were no impairment losses for
other-than-temporary declines in fair value for fixed maturity and equity securities
for the three months ended March 31, 2004. 11




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) Note E. Derivative Financial Instruments A summary of the recognized gains (losses) related to derivative financial
instruments follows. Derivative Financial Instruments Recognized Gains (Losses) For the three months ended March 31
    
    2004
    
    2003(In millions)General accountSwaps
    
    $
    1
    
    
    $
    Futures purchased
    
    
    13
    
    
    
    Futures sold, not yet purchased
    
    
    (30
    )
    
    
    Forwards
    
    
    2
    
    
    
    Forwards sold, not yet purchased
    
    
    2
    
    
    
    Commitments to purchase government and municipal securities
    
    
    (12
    )
    
    
    (11
    )Equity warrants
    
    
    1
    
    
    
    Collateralized debt obligation liabilities
    
    
    2
    
    
    
    (11
    )Options written
    
    
    2
    
    
    
    Options embedded in convertible debt securities
    
    
    (28
    )
    
    
    (34
    )Total
    
    $
    (47
    )
    
    $
    (56
    )Separate accountsFutures purchased
    
    $
    
    
    
    $
    (37
    )Options written
    
    
    
    
    
    
    1Total
    
    $
    
    
    
    $
    (36
    )
 A summary of the aggregate contractual or notional amounts and estimated fair
values related to derivative financial instruments follows. Derivative Financial Instruments Contractual/
    
    Estimated
    
    EstimatedMarch 31, 2004
    
    Notional
    
    Fair Value
    
    Fair Value(In millions)
    
    Amount
    
    Asset
    
    (Liability)General accountSwaps
    
    $
    655
    
    
    $
    7
    
    
    $
    Futures purchased
    
    
    1,126
    
    
    
    
    
    
    
    (1
    )Futures sold, not yet purchased
    
    
    2,645
    
    
    
    
    
    
    
    (3
    )Forwards purchased
    
    
    82
    
    
    
    2
    
    
    
    Forwards sold, not yet purchased
    
    
    195
    
    
    
    
    
    
    
    (1
    )Commitments to purchase government and municipal securities
    
    
    100
    
    
    
    
    
    
    
    Equity warrants
    
    
    11
    
    
    
    1
    
    
    
    Options purchased
    
    
    36
    
    
    
    
    
    
    
    Options written
    
    
    34
    
    
    
    
    
    
    
    Collateralized debt obligation liabilities
    
    
    76
    
    
    
    
    
    
    
    (3
    )Synthetic guaranteed investment contracts
    
    
    268
    
    
    
    
    
    
    
    Options embedded in convertible debt securities
    
    
    784
    
    
    
    178
    
    
    
    Total
    
    $
    6,012
    
    
    $
    188
    
    
    $
    (8
    )Separate accountsOptions written
    
    
    27
    
    
    
    
    
    
    
    (1
    )Total
    
    $
    27
    
    
    $
    
    
    
    $
    (1
    )
 12




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) Derivative Financial Instruments Contractual/
    
    Estimated
    
    EstimatedDecember 31, 2003
    
    Notional
    
    Fair Value
    
    Fair Value(In millions)
    
    Amount
    
    Asset
    
    (Liability)General accountSwaps
    
    $
    856
    
    
    $
    
    
    
    $
    (5
    )Interest rate caps
    
    
    225
    
    
    
    
    
    
    
    Futures sold, not yet purchased
    
    
    18
    
    
    
    
    
    
    
    Forwards
    
    
    16
    
    
    
    
    
    
    
    (1
    )Commitments to purchase government and municipal securities
    
    
    3,318
    
    
    
    12
    
    
    
    Equity warrants
    
    
    11
    
    
    
    
    
    
    
    Options purchased
    
    
    4
    
    
    
    
    
    
    
    Options written
    
    
    515
    
    
    
    
    
    
    
    (2
    )Collateralized debt obligation liabilities
    
    
    110
    
    
    
    
    
    
    
    (14
    )Synthetic guaranteed investment contracts
    
    
    280
    
    
    
    
    
    
    
    Options embedded in convertible debt securities
    
    
    681
    
    
    
    201
    
    
    
    Total
    
    $
    6,034
    
    
    $
    213
    
    
    $
    (22
    )Separate accountsFutures purchased
    
    $
    1,106
    
    
    $
    3
    
    
    $
    Futures sold, not yet purchased
    
    
    12
    
    
    
    
    
    
    
    Options written
    
    
    12
    
    
    
    
    
    
    
    Total
    
    $
    1,130
    
    
    $
    3
    
    
    $
    
 Options embedded in convertible debt securities are classified as fixed
maturity securities in the Condensed Consolidated Balance Sheets, consistent
with the host instruments. The change in fair value for derivatives with no hedge designation that are
associated with the indexed group annuity contracts are reflected in Net
Investment Income. Note F. Legal Proceedings and Contingent Liabilities IGI Contingency In 1997, CNA Reinsurance Company Limited (CNA Re Ltd.) entered into an
arrangement with IOA Global, Ltd. (IOA), an independent managing general agent
based in Philadelphia, Pennsylvania, to develop and manage a book of accident
and health coverages. Pursuant to this arrangement, IGI Underwriting Agencies,
Ltd. (IGI), a personal accident reinsurance managing general underwriter, was
appointed to underwrite and market the book under the supervision of IOA.
Between April 1, 1997 and December 1, 1999, IGI underwrote a number of
reinsurance arrangements with respect to personal accident insurance worldwide
(the IGI Program). Under various arrangements, CNA Re Ltd. both assumed risks
as a reinsurer and also ceded a substantial portion of those risks to other
companies, including other CNA insurance subsidiaries and ultimately to a group
of reinsurers participating in a reinsurance pool known as the Associated
Accident and Health Reinsurance Underwriters (AAHRU) Facility. CNAs Group
Operations business unit participated as a pool member in the AAHRU Facility in
varying percentages between 1997 and 1999. 13




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) CNA has determined that a portion of the premiums assumed under the IGI Program
related to United States workers compensation carve-out business. Some of
these premiums were received from John Hancock Financial Services, Inc. (John
Hancock). CNA is aware that a number of reinsurers with workers compensation
carve-out insurance exposure, including John Hancock, have disavowed their
obligations under various legal theories. If one or more such companies are
successful in avoiding or reducing their liabilities, then it is likely that
CNAs potential liability will also be reduced. Moreover, based on information
known at this time, CNA believes it has strong grounds to successfully
challenge its alleged exposure on a substantial portion of its United States
workers compensation carve-out business, including all purported exposure
derived from John Hancock, through legal action. As noted, CNA arranged substantial reinsurance protection to manage its
exposures under the IGI Program. CNA believes it has valid and enforceable
reinsurance contracts with the AAHRU Facility and other reinsurers with respect
to the IGI Program, including the United States workers compensation carve-out
business. However, certain reinsurers dispute their liabilities to CNA, and
CNA has commenced arbitration proceedings against such reinsurers. CNA has established reserves for its estimated exposure under the IGI Program,
other than that derived from John Hancock, and an estimate for recoverables
from retrocessionaires. CNA has not established any reserve for any exposure
derived from John Hancock because, as indicated, CNA believes the contract will
be rescinded. The Company is pursuing a number of loss mitigation strategies with respect to
the entire IGI Program. Although the results of these various actions to date
support the recorded reserves, the estimate of ultimate losses is subject to
considerable uncertainty due to the complexities described above. As a result
of these uncertainties, the results of operations in future periods may be
adversely affected by potentially significant reserve additions. Management
does not believe that any such reserve additions would be material to the
equity of the Company, although results of operations may be adversely
affected. The Companys position in relation to the IGI Program was unaffected
by the sale of CNA Re Ltd. in 2002. California Wage and Hour Litigation Ernestine Samora, et al. v. CCC, Case No. BC 242487, Superior Court of
California, County of Los Angeles, California and Brian Wenzel v. Galway
Insurance Company, Superior Court of California, County of Orange No.
BC01CC08868 are purported class actions on behalf of present and former CNA
employees asserting they worked hours for which they should have been
compensated at a rate of one and one-half times their base hourly wage over a
four-year period. The Company has denied the material allegations of the
amended complaint and intends to vigorously contest the claims. Based on facts
and circumstances presently known in the opinion of management, an unfavorable
outcome would not materially adversely affect the equity of the Company,
although results of operations may be adversely affected. Voluntary Market Premium Litigation CNA, along with dozens of other insurance companies, is a defendant in twelve
cases, including eleven purported class actions, brought by large policyholders
which generally allege that the defendants, as part of an industry-wide
conspiracy, included improper charges in their retrospectively rated and other
loss-sensitive insurance programs. Among the claims asserted are violations of
state antitrust laws, breach of contract, fraud and unjust enrichment. In one
federal court case, Sandwich Chef of Texas, Inc. v. Reliance National
Indemnity Insurance Co., 202 F.R.D. 480 (S.D. Tex. 2001), revd, 319 F.3d 205
(5th Cir. 2003), cert. denied, 72 USLW 3235 (U.S. Oct 6, 2003), the United
States Court of Appeals for
the 14




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) Fifth Circuit reversed a decision by the District Court for the Southern
District of Texas certifying a multi-state class. The Company intends to
vigorously contest these claims. Based on facts and circumstances presently
known in the opinion of management an unfavorable outcome will not materially
affect the equity of the Company, although results of operations may be
adversely affected. Asbestos, Environmental Pollution and Mass Tort (APMT) Reserves CNA is also a party to litigation and claims related to APMT cases arising in
the ordinary course of business. See Note G for further discussion. Other Litigation CNA is also a party to other litigation arising in the ordinary course of
business. Based on the facts and circumstances currently known, such other
litigation will not, in the opinion of management, materially affect the
results of operations or equity of CNA. Note G. Claim and Claim Adjustment Expense Reserves CNAs property and casualty insurance claim and claim adjustment expense
reserves represent the estimated amounts necessary to settle all outstanding
claims, including claims that are incurred but not reported (IBNR) as of the
reporting date. The Companys reserve projections are based primarily on
detailed analysis of the facts in each case, CNAs experience with similar
cases and various historical development patterns. Consideration is given to
such historical patterns as field reserving trends and claims settlement
practices, loss payments, pending levels of unpaid claims and product mix, as
well as court decisions, economic conditions and public attitudes. All of
these factors can affect the estimation of claim and claim adjustment expense
reserves. Establishing claim and claim adjustment expense reserves, including claim and
claim adjustment expense reserves for catastrophic events that have occurred,
is an estimation process. Many factors can ultimately affect the final
settlement of a claim and, therefore, the necessary reserve. Changes in the
law, results of litigation, medical costs, the cost of repair materials and
labor rates can all affect ultimate claim costs. In addition, time can be a
critical part of reserving determinations since the longer the span between the
incidence of a loss and the payment or settlement of the claim, the more
variable the ultimate settlement amount can be. Accordingly, short-tail
claims, such as property damage claims, tend to be more reasonably estimable
than long-tail claims, such as general liability and professional liability
claims. Adjustments to prior year reserve estimates, if necessary, are
reflected in the results of operations in the period that the need for such
adjustments is determined. Catastrophes are an inherent risk of the property and casualty insurance
business and have contributed to material period-to-period fluctuations in the
Companys results of operations and/or equity. The level of catastrophe losses
experienced in any period cannot be predicted and can be material to the
results of operations and/or equity of the Company. APMT Reserves CNAs property and casualty insurance subsidiaries have actual and potential
exposures related to APMT claims. Establishing reserves for APMT claim and claim adjustment expenses is subject
to uncertainties that are greater than those presented by other claims.
Traditional actuarial methods and techniques employed to 15




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) estimate the ultimate cost of claims for more traditional property and casualty
exposures are less precise in estimating claim and claim adjustment expense
reserves for APMT, particularly in an environment of emerging or potential
claims and coverage issues that arise from industry practices and legal,
judicial, and social conditions. Therefore, these traditional actuarial
methods and techniques are necessarily supplemented with additional estimating
techniques and methodologies, many of which involve significant judgments that
are required of management. Accordingly, a high degree of uncertainty remains
for the Companys ultimate liability for APMT claim and claim adjustment
expenses. In addition to the difficulties described above, estimating the ultimate cost
of both reported and unreported APMT claims is subject to a higher degree of
variability due to a number of additional factors, including among others: the
number and outcome of direct actions against the Company; coverage issues,
including whether certain costs are covered under the policies and whether
policy limits apply; allocation of liability among numerous parties, some of
whom may be in bankruptcy proceedings, and in particular the application of
joint and several liability to specific insurers on a risk; inconsistent
court decisions and developing legal theories; increasingly aggressive tactics
of plaintiffs lawyers; the risks and lack of predictability inherent in major
litigation; increased filings of claims in certain states to avoid the
application of tort reform statute effective dates; enactment of national
federal legislation to address asbestos claims; a further increase in
asbestos and environmental pollution claims which cannot now be anticipated;
increase in number of mass tort claims relating to silica and silica-containing
products, and the outcome of ongoing disputes as to coverage in relation to
these claims; a further increase of claims and claims payments that may exhaust
underlying umbrella and excess coverages at accelerated rates; and future
developments pertaining to the Companys ability to recover reinsurance for
asbestos and environmental pollution claims. CNA has regularly performed ground up reviews of all open APMT claims to
evaluate the adequacy of the Companys APMT reserves. In performing its
comprehensive ground up analysis, the Company considers input from its
professionals with direct responsibility for the claims, inside and outside
counsel with responsibility for representation of the Company, and its
actuarial staff. These professionals review, among many factors, the
policyholders present and predicted future exposures, including such factors
as claims volume, trial conditions, prior settlement history, settlement
demands and defense costs; the impact of asbestos defendant bankruptcies on the
policyholder; the policies issued by CNA, including such factors as aggregate
or per occurrence limits, whether the policy is primary, umbrella or excess,
and the existence of policyholder retentions and/or deductibles; the existence
of other insurance; and reinsurance arrangements. With respect to other court cases and how they might affect the Companys
reserves and reasonable possible losses, the following should be noted. State
and federal courts issue numerous decisions each year, which potentially impact
losses and reserves in both a favorable and unfavorable manner. Examples of
favorable developments include decisions to allocate defense and indemnity
payments in a manner so as to limit carriers obligations to damages taking
place during the effective dates of their policies; decisions holding that
injuries occurring after asbestos operations are completed are subject to the
completed operations aggregate limits of the policies; and decisions ruling
that carriers loss control inspections of their insureds premises do not give
rise to a duty to warn third parties to the dangers of asbestos. Examples of
unfavorable developments include decisions limiting the application of the
absolute pollution exclusion; and decisions holding carriers liable for
defense and indemnity of asbestos and pollution claims on a joint and several
basis. The Companys ultimate liability for its environmental pollution and mass tort
claims is impacted by several factors including ongoing disputes with
policyholders over scope and meaning of coverage terms and, in the area of
environmental pollution, court decisions that continue to restrict the scope
and 16




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) applicability of the absolute pollution exclusion contained in policies issued
by the Company after 1989. Due to the inherent uncertainties described above,
including the inconsistency of court decisions, the number of waste sites
subject to cleanup, and in the area of environmental pollution, the standards
for cleanup and liability, the ultimate liability of CNA for environmental
pollution and mass tort claims may vary substantially from the amount currently
recorded. Due to the inherent uncertainties in estimating claim and claim adjustment
expense reserves for APMT and due to the significant uncertainties previously
described related to APMT claims, the ultimate liability for these cases, both
individually and in aggregate, may exceed the recorded reserves. Any such
potential additional liability, or any range of potential additional amounts,
cannot be reasonably estimated currently, but could be material to the
Companys business, results of operations, equity, and insurer financial
strength and debt ratings. Due to, among other things, the factors described
above, it may be necessary for the Company to record material changes in its
APMT claim and claim adjustment expense reserves in the future, should new
information become available or other developments emerge. The following table provides data related to CNAs APMT claim and claim
adjustment expense reserves. APMT Reserves March 31, 2004
    
    December 31, 2003Environmental
    
    
    
    
    
    EnvironmentalPollution and
    
    
    
    
    
    Pollution andAsbestos
    
    Mass Tort
    
    Asbestos
    
    Mass Tort(In millions)Gross reserves
    
    $
    3,262
    
    
    $
    801
    
    
    $
    3,347
    
    
    $
    839Ceded reserves
    
    
    (1,550
    )
    
    
    (260
    )
    
    
    (1,580
    )
    
    
    (262
    )Net reserves
    
    $
    1,712
    
    
    $
    541
    
    
    $
    1,767
    
    
    $
    577
 Asbestos CNAs property and casualty insurance subsidiaries have exposure to
asbestos-related claims. Estimation of asbestos-related claim and claim
adjustment expense reserves involve limitations such as inconsistency of court
decisions, specific policy provisions, allocation of liability among insurers
and insureds, and additional factors such as missing policies and proof of
coverage. Furthermore, estimation of asbestos-related claims is difficult due
to, among other reasons, the proliferation of bankruptcy proceedings and
attendant uncertainties, the targeting of a broader range of businesses and
entities as defendants, the uncertainty as to which other insureds may be
targeted in the future and the uncertainties inherent in predicting the number
of future claims. As of March 31, 2004 and December 31, 2003, CNA carried approximately $1,712
million and $1,767 million of claim and claim adjustment expense reserves, net
of reinsurance recoverables for reported and unreported asbestos-related
claims. There was $9 million of unfavorable asbestos-related net claim and
claim adjustment expense reserve development for the three months ended March
31, 2004 and no asbestos-related net claim and claim adjustment expense
development for the same period in 2003. The Company paid asbestos-related
claims, net of reinsurance recoveries, of $64 million and $39 million for the
three months ended March 31, 2004 and 2003. Some asbestos-related defendants have asserted that their policies issued by
CNA are not subject to aggregate limits on coverage. CNA has such claims from
a number of insureds. Some of these claims 17




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) involve insureds facing exhaustion of products liability aggregate limits in
their policies, who have asserted that their asbestos-related claims fall
within so-called non-products liability coverage contained within their
policies rather than products liability coverage, and that the claimed
non-products coverage is not subject to any aggregate limit. It is difficult
to predict the ultimate size of any of the claims for coverage purportedly not
subject to aggregate limits or predict to what extent, if any, the attempts to
assert non-products claims outside the products liability aggregate will
succeed. The Company has attempted to manage its asbestos exposure by
aggressively seeking to settle claims on acceptable terms. There can be no
assurance that any of these settlement efforts will be successful, or that any
such claims can be settled on terms acceptable to CNA. Where CNA cannot settle
a claim on acceptable terms, the Company aggressively litigates the claim.
Adverse developments with respect to such matters could have a material adverse
effect on CNAs results of operations and/or equity. Certain asbestos litigation in which CNA is currently engaged is described
below: On February 13, 2003, CNA announced it had resolved asbestos related coverage
litigation and claims involving A.P. Green Industries, A.P. Green Services and
Bigelow  Liptak Corporation. Under the agreement, CNA is required to pay $74
million, net of reinsurance recoveries, over a ten year period. The settlement
resolves CNAs liabilities for all pending and future asbestos claims involving
A.P. Green Industries, Bigelow  Liptak Corporation and related subsidiaries,
including alleged non-products exposures. The settlement has received
initial bankruptcy court approval and CNA expects to procure confirmation of a
bankruptcy plan containing an injunction to protect CNA from any future claims. CNA is engaged in insurance coverage litigation with underlying plaintiffs who
have asbestos bodily injury claims against the former Robert A. Keasbey Company
(Keasbey) in New York state court (Continental Casualty Co. v. Nationwide
Indemnity Co. et al., No. 601037/03 (N.Y. County)). Keasbey, a currently
dissolved corporation, was a seller and installer of asbestos-containing
insulation products in New York and New Jersey. Thousands of plaintiffs have
filed bodily injury claims against Keasbey; however, Keasbeys involvement at a
number of work sites is a highly contested issue. Therefore, the defense
disputes the percentage of valid claims against Keasbey. CNA issued Keasbey
primary policies for 1970-1987 and excess policies for 1972-1978. CNA has paid
an amount substantially equal to the policies aggregate limits for products
and completed operations claims. Claimants against Keasbey allege, among other
things, that CNA owes coverage under sections of the policies not subject to
the aggregate limits, an allegation CNA vigorously contests in the lawsuit. CNA has insurance coverage disputes related to asbestos bodily injury claims
against Burns & Roe Enterprises, Inc. (Burns & Roe). Originally raised in
litigation, now stayed, these disputes are currently part of In re: Burns &
Roe Enterprises, Inc., pending in the U.S. Bankruptcy Court for the
District of New Jersey, No. 00-41610. Burns & Roe provided engineering and
related services in connection with construction projects. At the time of its
bankruptcy filing, Burns & Roe faced approximately 11,000 claims alleging
bodily injury resulting from exposure to asbestos as a result of construction
projects in which Burns & Roe was involved. CNA allegedly provided primary
liability coverage to Burns & Roe from 1956-1969 and 1971-1974, along with
certain project-specific policies from 1964-1970. CIC issued certain primary and excess policies to Bendix Corporation (Bendix),
now part of Honeywell International, Inc. (Honeywell). Honeywell faces
approximately 74,000 pending asbestos bodily injury claims resulting from
alleged exposure to Bendix friction products. CICs primary policies allegedly
covered the period from at least 1939 (when Bendix began to use asbestos in its
friction products) to 1983, although the parties disagree about whether CICs
policies provided product liability coverage before 1940 and from 1945 to 1956.
CIC asserts that it owes no further material obligations to Bendix
under any primary policy. Honeywell alleges that two primary policies issued
by CIC covering 1969- 18




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) 1975 contain occurrence limits but not product liability
aggregate limits for asbestos bodily injury claims. CIC has asserted, among
other things, which even if Honeywells allegation is correct, which CNA
denies, its liability is limited to a single occurrence limit per policy or per
year, and in the alternative, a proper allocation of losses would substantially
limit its exposure under the 1969-1975 policies to asbestos claims. These and
other issues are being litigated in Continental Insurance Co., et al. v.
Honeywell International Inc., No. MRS-L-1523-00 (Morris County, New
Jersey). Policyholders have also initiated litigation directly against CNA and other
insurers in four jurisdictions: Ohio, Texas, West Virginia and Montana. In the
Ohio action, plaintiffs allege the defendants negligently performed duties
undertaken to protect the public from the effects of asbestos (Varner v.
Ford Motor Co., et al. (Cuyahoga County, Ohio)). Similar lawsuits
have also been filed in Texas against CNA, and other insurers and non-insurer
corporate defendants asserting liability for failing to warn of the dangers of
asbestos (Boson v. Union Carbide Corp., et al. (District Court of Nueces
County, Texas)). Many of the Texas claims have been dismissed as time-barred
by the applicable statute of limitations. In other claims, the Texas court
recently ruled that the carriers did not owe any duty to the plaintiffs or the
general public to advise on the effects of asbestos thereby dismissing these
claims. The time period for filing an appeal of this ruling has not expired and
it remains uncertain whether the plaintiffs will continue to pursue their
causes of action. CNA has been named in Adams v. Aetna, Inc., et al. (Circuit Court of
Kanawha County, West Virginia), a purported class action against CNA and other
insurers, alleging that the defendants violated West Virginias Unfair Trade
Practices Act in handling and resolving asbestos claims against their policy
holders. A direct action has also been filed in Montana (Pennock, et al. v.
Maryland Casualty, et al. First Judicial District Court of Lewis & Clark
County, Montana) by eight individual plaintiffs (all employees of W.R. Grace &
Co. (W.R. Grace)) and their spouses against CNA, Maryland Casualty and the
State of Montana. This action alleges that the carriers failed to warn of or
otherwise protect W.R. Grace employees from the dangers of asbestos at a W.R.
Grace vermiculite mining facility in Libby, Montana. The Montana direct action
is currently stayed as to CNA because of W.R. Graces pending bankruptcy. CNA is vigorously defending these and other cases and believes that it has
meritorious defenses to the claims asserted. However, there are numerous
factual and legal issues to be resolved in connection with these claims, and it
is extremely difficult to predict the outcome or ultimate financial exposure
represented by these matters. Adverse developments with respect to any of
these matters could have a material adverse effect on CNAs business, insurer
financial strength and debt ratings, and results of operations and/or equity. As a result of the uncertainties and complexities involved, reserves for
asbestos claims cannot be estimated with traditional actuarial techniques that
rely on historical accident year loss development factors. In establishing
asbestos reserves, CNA evaluates the exposure presented by each insured. As
part of this evaluation, CNA considers the available insurance coverage; limits
and deductibles; the potential role of other insurance, particularly underlying
coverage below any CNA excess liability policies; and applicable coverage
defenses, including asbestos exclusions. Estimation of asbestos-related claim
and claim adjustment expense reserves involves a high degree of judgment on the
part of management and consideration of many complex factors, including:
inconsistency of court decisions, jury attitudes and future court decisions;
specific policy provisions; allocation of liability among insurers and
insureds; missing policies and proof of coverage; the proliferation of
bankruptcy proceedings and attendant uncertainties; novel theories asserted by
policyholders and their counsel; the targeting of a broader range of businesses
and entities as defendants; the uncertainty as to which other insureds may be
targeted in the future and the uncertainties inherent in predicting the number
of future claims; volatility in claim numbers and settlement demands; increases
in the number of non-impaired claimants and the extent 19




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) to which they can be
precluded from making claims; the efforts by insureds to obtain coverage not
subject to aggregate limits; the long latency period between asbestos exposure
and disease manifestation and the resulting potential for involvement of
multiple policy periods for individual claims; medical inflation trends; the
mix of asbestos-related diseases presented and the ability to recover
reinsurance. 20




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) Environmental Pollution and Mass Tort Environmental pollution cleanup is the subject of both federal and state
regulation. By some estimates, there are thousands of potential waste sites
subject to cleanup. The insurance industry is involved in extensive litigation
regarding coverage issues. Judicial interpretations in many cases have
expanded the scope of coverage and liability beyond the original intent of the
policies. The Comprehensive Environmental Response Compensation and Liability
Act of 1980 (Superfund) and comparable state statutes (mini-Superfunds) govern
the cleanup and restoration of toxic waste sites and formalize the concept of
legal liability for cleanup and restoration by Potentially Responsible
Parties (PRPs). Superfund and the mini-Superfunds establish mechanisms to pay
for cleanup of waste sites if PRPs fail to do so and assign liability to PRPs.
The extent of liability to be allocated to a PRP is dependent upon a variety of
factors. Further, the number of waste sites subject to cleanup is unknown. To
date, approximately 1,400 cleanup sites have been identified by the
Environmental Protection Agency (EPA) and included on its National Priorities
List (NPL). State authorities have designated many cleanup sites as well. Many policyholders have made claims against various CNA insurance subsidiaries
for defense costs and indemnification in connection with environmental
pollution matters. The vast majority of these claims relate to accident years
1989 and prior, which coincides with CNAs adoption of the Simplified
Commercial General Liability coverage form, which includes what is referred to
in the industry as an absolute pollution exclusion. CNA and the insurance
industry are disputing coverage for many such claims. Key coverage issues
include whether cleanup costs are considered damages under the policies,
trigger of coverage, allocation of liability among triggered policies,
applicability of pollution exclusions and owned property exclusions, the
potential for joint and several liability and the definition of an occurrence.
To date, courts have been inconsistent in their rulings on these issues. A number of proposals to modify Superfund have been made by various parties.
However, no modifications were enacted by Congress during 2003 or in the first
quarter of 2004, and it is unclear what positions Congress or the
Administration will take and what legislation, if any, will result in the
future. If there is legislation, and in some circumstances even if there is no
legislation, the federal role in environmental cleanup may be significantly
reduced in favor of state action. Substantial changes in the federal statute
or the activity of the EPA may cause states to reconsider their environmental
cleanup statutes and regulations. There can be no meaningful prediction of the
pattern of regulation that would result or the possible effect upon CNAs
results of operations or equity. As of March 31, 2004 and December 31, 2003, CNA carried approximately $541
million and $577 million of claim and claim adjustment expense reserves, net of
reinsurance recoverables, for reported and unreported environmental pollution
and mass tort claims. There was no environmental pollution and mass tort net
claim and claim adjustment expense reserve development for the three months
ended March 31, 2004 and 2003. The Company paid environmental
pollution-related claims and mass tort-related
claims, net of reinsurance recoveries, of $36 million and $25 million for the
three months ended March 31, 2004 and 2003. CNA has made resolution of large environmental pollution exposures a management
priority. The Company has resolved a number of its large environmental accounts
by negotiating settlement agreements. In its settlements, CNA sought to resolve
those exposures and obtain the broadest release language to avoid future claims
from the same policyholders seeking coverage for sites or claims that had not
emerged at the time CNA settled with its policyholder. While the terms of each
settlement agreement 21




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) vary, CNA sought to obtain broad environmental releases
that include known and unknown sites, claims and policies. The broad scope of
the release provisions contained in those settlement agreements should, in many
cases, prevent future exposure from settled policyholders. It remains
uncertain, however, whether a court interpreting the language of the settlement
agreements will adhere to the intent of the parties and uphold the broad scope
of language of the agreements. In 2003, CNA observed a marked increase in silica claims frequency in
Mississippi, where plaintiff attorneys appear to have filed claims to avoid the
effect of a tort reform. The most significant silica exposures identified to
date include a relatively small number of accounts with significant numbers of
new claims and substantial insurance limits issued by the Company.
Establishing claim and claim adjustment expense reserves for silica claims is
subject to uncertainties because of disputes concerning medical causation with
respect to certain diseases, including lung cancer, geographical concentration
of the lawsuits asserting the claims, and the large rise in the total number of
claims without underlying epidemiological developments suggesting an increase
in disease rates or plaintiffs. Moreover, judicial interpretations regarding
application of various tort defenses, including application of various theories
of joint and several liability, impede the Companys ability to estimate its
ultimate liability for such claims. Net Prior Year Development Favorable net prior year development of $1 million, including $17 million of
unfavorable claim and allocated claim adjustment expense reserve development
and $18 million of favorable premium development, was recorded for the three
months ended March 31, 2004. Unfavorable net prior year development of $27
million, including $93 million of unfavorable claim and allocated claim
adjustment expense reserve development and $66 million of favorable premium
development, was recorded for the same period in 2003. The gross carried claim
and claim adjustment expense reserves for CNAF were $31,183 million and $31,730
million at March 31, 2004 and December 31, 2003. The net carried claim and
claim adjustment expense reserves for CNAF were $17,190 million and $17,514
million at March 31, 2004 and December 31, 2003. Unfavorable net prior year development of approximately $47 million was
recorded for the three months ended March 31, 2003, related to certain programs
written in Excess & Surplus (E&S). One E&S program, covering facilities that
provide services to developmentally disabled individuals, accounted for
approximately $10 million of the unfavorable net prior year development. The
unfavorable net prior year development was due to an increase in the size of
known claims and increases in policyholder defense costs. These increases
became apparent as the result of an actuarial review completed during the first
quarter of 2003, with most of the unfavorable net prior year development from
accident years 1999 and 2000. Another E&S program, which accounts for
approximately $25 million of E&S unfavorable net prior year development, covers
tow truck and ambulance operators in the 2000 and 2001 accident years. The
Company expected that loss ratios for this business would be similar to its
middle market commercial automobile liability business. During 2002, the
Company ceased writing business under this program.
Approximately $12 million of unfavorable net prior year development was
recorded during 2003 related to a specific large loss. Partially offsetting the unfavorable net prior year development in E&S was
favorable net prior year development recorded in property lines during 2003.
The favorable net prior year development was principally from accident years
2001 and 2002 and was the result of the low number of large losses in recent
years. 22




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) Note H. Reinsurance CNA assumes and cedes reinsurance with other insurers, reinsurers and members
of various reinsurance pools and associations. CNA utilizes reinsurance
arrangements to limit its maximum loss, provide greater diversification of
risk, minimize exposures on larger risks and to exit certain lines of business.
The ceding of insurance does not discharge the primary liability of the
Company. Therefore, a credit exposure exists with respect to property and
casualty and life reinsurance ceded to the extent that any reinsurer is unable
to meet the obligations assumed under reinsurance agreements. Interest cost on reinsurance contracts accounted for on a funds withheld basis
is incurred during all periods in which a funds withheld liability exists.
Interest cost, which is included in net investment income, was $50 million and
$47 million for the three months ended March 31, 2004 and 2003. The amount
subject to interest crediting rates on such contracts was $2,732 million and
$2,789 million at March 31, 2004 and December 31, 2003. Certain funds withheld
reinsurance contracts, including the corporate aggregate reinsurance treaties,
require interest on additional premiums arising from ceded losses as if those
premiums were payable at the inception of the contract. The amount subject to interest crediting on these funds withheld contracts will
vary over time based on a number of factors, including the timing of loss
payments and ultimate gross losses incurred. The Company expects that it will
continue to incur significant interest costs on these contracts for several
years. Amounts receivable from reinsurers were $14,829 million and $16,254 million at
March 31, 2004 and December 31, 2003. Of these amounts, $642 million and $813
million were billed to reinsurers as of March 31, 2004 and December 31, 2003,
as reinsurance contracts generally require payment of claims by the ceding
company before the amount can be billed to the reinsurer. The remaining
receivable relates to the estimated case and IBNR reserves and future
policyholder benefits ceded under reinsurance contracts. The Company has established an allowance for doubtful accounts to provide for
estimated uncollectible reinsurance receivables. The allowance for doubtful
accounts was $591 million and $573 million at March 31, 2004 and December 31,
2003. The Company attempts to mitigate its credit risk related to reinsurance by
entering into reinsurance arrangements only with reinsurers that have credit
ratings above certain levels and by obtaining substantial amounts of
collateral. The primary methods of obtaining collateral are through
reinsurance trusts, letters of credit and funds withheld balances. 23




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) The effects of reinsurance on earned premiums are shown in the following table. Components of Earned Premiums For the three months ended March 31
    
    Direct
    
    Assumed
    
    Ceded
    
    Net(In millions)2004Property and casualty
    
    $
    2,643
    
    
    $
    78
    
    
    $
    863
    
    
    $
    1,858Accident and health
    
    
    343
    
    
    
    16
    
    
    
    155
    
    
    
    204Life
    
    
    240
    
    
    
    
    
    
    
    134
    
    
    
    106Total earned premiums
    
    $
    3,226
    
    
    $
    94
    
    
    $
    1,152
    
    
    $
    2,1682003Property and casualty
    
    $
    2,638
    
    
    $
    161
    
    
    $
    981
    
    
    $
    1,818Accident and health
    
    
    389
    
    
    
    37
    
    
    
    24
    
    
    
    402Life
    
    
    258
    
    
    
    5
    
    
    
    102
    
    
    
    161Total earned premiums
    
    $
    3,285
    
    
    $
    203
    
    
    $
    1,107
    
    
    $
    2,381
 Life premiums are primarily from long duration contracts; property and casualty
premiums and accident and health premiums are primarily from short duration
contracts. The Company has an aggregate reinsurance treaty related to the 1999 through
2001 accident years that covers substantially all of the Companys property and
casualty lines of business (the Aggregate Cover). The Aggregate Cover provides
for two sections of coverage. These coverages attach at defined loss ratios
for each accident year. Coverage under the first section of the Aggregate
Cover, which is available for all accident years covered by the treaty, has a
$500 million limit per accident year of ceded losses and an aggregate limit of
$1 billion of ceded losses for the three accident years. The ceded premiums
associated with the first section are a percentage of ceded losses and for each
$500 million of limit the ceded premium is $230 million. The second section of
the Aggregate Cover, which only relates to accident year 2001, provides
additional coverage of up to $510 million of ceded losses for a maximum ceded
premium of $310 million. Under the Aggregate Cover, interest charges on the
funds withheld liability accrue at 8% per annum. The aggregate loss ratio for
the three-year period has exceeded certain thresholds which requires additional
premiums to be paid and an increase in the rate at which interest charges are
accrued. This rate will increase to 8.25% per annum commencing in 2006. The
aggregate limits under both sections of the Aggregate Cover were fully utilized
in 2003. Included in the pretax results of operations for the three months
ended March 31, 2004 and 2003 are $20 million and $13 million of interest
charges from the aggregate cover. In 2001, the Company entered into a one-year aggregate reinsurance treaty
related to the 2001 accident year covering substantially all property and
casualty lines of business in the Continental Casualty Company pool (the CCC
Cover). The loss protection provided by the CCC Cover has an aggregate limit
of approximately $761 million of ceded losses. The ceded premiums are a
percentage of ceded losses.
The ceded premium related to full utilization of the $761 million of limit is
$456 million. The CCC Cover provides continuous coverage in excess of the
second section of the Aggregate Cover discussed above. Under the CCC Cover,
interest charges on the funds withheld generally accrue at 8% per annum. The
interest rate increases to 10% per annum if the aggregate loss ratio exceeds
certain thresholds. During 2003, the aggregate limits under the CCC Cover were
fully utilized. Included in the pretax results of operations for the three
months ended March 31, 2004 and 2003 is $11 million and $8 million of interest
charges from the CCC Cover. 24




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) Note I. Debt Debt is composed of the following obligations. Debt March 31,
    
    December 31,2004
    
    2003(In millions)Variable rate debt:Credit facility  CNAF, due April 30, 2004
    
    $
    250
    
    
    $
    250Credit facility  CNA Surety, due September 30, 2005
    
    
    30
    
    
    
    30Term loan  CNA Surety, due through September 30, 2005
    
    
    15
    
    
    
    20Senior notes:6.500%, face amount of $493, due April 15, 2005
    
    
    492
    
    
    
    4926.750%, face amount of $250, due November 15, 2006
    
    
    249
    
    
    
    2496.450%, face amount of $150, due January 15, 2008
    
    
    149
    
    
    
    1496.600%, face amount of $200, due December 15, 2008
    
    
    199
    
    
    
    1998.375%, face amount of $70, due August 15, 2012
    
    
    69
    
    
    
    696.950%, face amount of $150, due January 15, 2018
    
    
    149
    
    
    
    149Debenture, 7.250%, face amount of $243, due November 15, 2023
    
    
    241
    
    
    
    241Capital leases, 10.400%-11.500%, due through December 31, 2011
    
    
    33
    
    
    
    33Other debt, 1.000%-6.600%, due through 2019
    
    
    22
    
    
    
    23Surplus Notes:CCC Group Surplus Notes, face amount of $46, due February of 2024
    
    
    46
    
    
    
    CCC Life Surplus Notes, face amount of $300, due February of 2024
    
    
    300
    
    
    
    Total debt
    
    $
    2,244
    
    
    $
    1,904Short term debt
    
    $
    264
    
    
    $
    263Long term debt
    
    
    1,980
    
    
    
    1,641Total debt
    
    $
    2,244
    
    
    $
    1,904
 The terms of CNAFs credit
facility requires the Company to maintain certain financial ratios and
combined property and casualty company statutory surplus levels. At
March 31, 2004 and December 31, 2003, CNAF was in
compliance with all restrictive debt covenants. The Company paid the $250 million three-year bank credit facility on April 20,
2004. The CCC Group and CCC Life surplus notes have 20-year terms and bear interest
at LIBOR plus 350 basis points, reset annually. The notes are mandatorily
prepayable upon the occurrence of certain events including the sale of the
Individual Life Business. CNA plans to seek approval from the insurance
regulatory authority for the repayment of the surplus notes purchased in
relation to such sale. On September 30, 2003, CNA Surety, a 64% owned and consolidated subsidiary of
CNA, entered into a $50 million credit agreement, which consisted of a $30
million, two-year revolving credit facility and a $20 million two-year term
loan, with semi-annual principal payments of $5 million. The credit agreement
is an amendment to a $65 million credit agreement, extending the revolving loan
termination date from
September 30, 2003 to September 30, 2005. The new revolving credit facility
was fully utilized at inception. Under the new credit facility agreement, CNA Surety pays a facility fee of 35.0
basis points on the revolving credit portion of the facility, interest at LIBOR
plus 90 basis points, and for utilization greater than 50% of the amount
available to borrow an additional fee of 5.0 basis points. On the term loan,
CNA Surety pays interest at LIBOR plus 62.5 basis points. At March 31, 2004,
the weighted-average interest rate on the $45 million of outstanding borrowings
under the credit agreement, including facility fees and utilization fees was
2.6%. Effective January 30, 2003, CNA Surety entered into a swap agreement on
the 25




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) term loan portion of the agreement which uses 3-month LIBOR to determine
the swap increment. As a result, the effective interest rate on the $15
million in outstanding borrowings on the term loan was 2.76% at March 31, 2004.
On the $30 million revolving credit agreement, the effective interest rate at
March 31, 2004 was 2.55%. The combined aggregate maturities for debt at March 31, 2004 are presented in
the following table. Maturity of Debt (In millions)2004
    
    $
    2582005
    
    
    5362006
    
    
    2542007
    
    
    122008
    
    
    354Thereafter
    
    
    838Less original issue discount
    
    
    (8
    )Total
    
    $
    2,244
 Note J. Benefit Plans Pension and Postretirement Healthcare and Life Insurance Benefit Plans CNAF and certain subsidiaries sponsor noncontributory pension plans typically
covering full-time employees age 21 or over who have completed at least one
year of service. While the terms of the plans vary, benefits are generally
based on years of credited service and the employees highest 60 consecutive
months of compensation. CNA uses December 31 as the measurement date for the
majority of its plans. CNAs funding policy is to make contributions in accordance with applicable
governmental regulatory requirements. The assets of the plans are invested
primarily in U.S. government securities with the balance in mortgage-backed
securities, equity investments, limited partnerships and short term
investments. CNA provides certain healthcare and life insurance benefits to eligible retired
employees, their covered dependents and their beneficiaries. The funding for
these plans is generally to pay covered expenses as they are incurred. 26




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) The components of net periodic benefit costs are presented in the following
table. Three months ended March 31
    
    2004
    
    2003(In millions)Pension benefitsService cost
    
    $
    9
    
    
    $
    8Interest cost on projected benefit obligation
    
    
    43
    
    
    
    36Expected return on plan assets
    
    
    (45
    )
    
    
    (37
    )Prior service cost amortization
    
    
    1
    
    
    
    1Actuarial loss
    
    
    7
    
    
    
    2Net periodic pension cost
    
    $
    15
    
    
    $
    10Postretirement benefitsService cost
    
    $
    2
    
    
    $
    2Interest cost on projected benefit obligation
    
    
    6
    
    
    
    5Prior service cost amortization
    
    
    (5
    )
    
    
    (4
    )Actuarial loss
    
    
    2
    
    
    
    1Net periodic postretirement cost
    
    $
    5
    
    
    $
    4
 CNA does not expect any significant revisions to the funding plan as outlined
in its Form 10-K filed with the SEC for the year ended
December 31, 2003. As
previously disclosed, CNA expected to contribute $12 million to its pension plan and
$22 million to its postretirement healthcare and life insurance benefit plans
in 2004. As of March 31, 2004, $8 million of contributions have been made to
its pension plan and $6 million to its postretirement healthcare and life
insurance benefit plans. CNA plans to contribute an additional $4 million to
its pension plan and $16 million to its postretirement healthcare and life
insurance benefit plans during the remainder of 2004. Note K. Commitments, Contingencies and Guarantees Commitments and Contingencies In the normal course of business, CNA has obtained letters of credit in favor
of various unaffiliated insurance companies, regulatory authorities and other
entities. As of March 31, 2004 and December 31, 2003, there were approximately
$58 million of outstanding letters of credit. The Company is obligated to make future payments totaling $311 million for
non-cancelable operating leases expiring from 2004 through 2014 primarily for
office space and data processing, office and transportation equipment.
Estimated future minimum payments under these contracts are as follows:
$48 million in 2004; $60 million in 2005; $50 million in 2006; $41 million in
2007; and $112 million in 2008 and beyond. Additionally, the Company has
entered into a limited number of guaranteed payment contracts, primarily
relating to telecommunication services, amounting to approximately $18 million.
Estimated future minimum payments under these contracts are as follows: $13
million in 2004 and $5 million in 2005. As of March 31, 2004 and December 31, 2003, the Company had committed
approximately $137 million and $154 million for future capital calls from
various third-party limited partnership investments in exchange for an
ownership interest in the related partnership. 27




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) The Company invests in multiple bank loan participations as part of its overall
investment strategy and has committed to additional future purchases and sales.
The purchase and sale of these investments are recorded on the date that the
legal agreements are finalized and cash settlement is made. As of March 31,
2004, the Company had commitments to purchase $231 million of various bank loan
participations. In the normal course of investing activities, CCC had committed approximately
$51 million as of March 31, 2004 to future capital calls from certain of its
unconsolidated affiliates in exchange for an ownership interest in such
affiliates. During 2002, CNAF sold $750 million of a new issue of preferred stock,
designated Series H Cumulative Preferred Issue (Series H Issue), to Loews.
The Series H Issue accrues cumulative dividends at an initial rate of 8% per
year, compounded annually. As of March 31, 2004, the Company has $78 million
of undeclared but accumulated dividends. Guarantees The Company has provided guarantees related to irrevocable standby letters of
credit for certain of its subsidiaries. Certain of these subsidiaries have
been sold; however, the irrevocable standby letter of credit guarantees remain
in effect. The Company would be required to remit prompt payment on the
letters of credit in question if the primary obligor drew down on these letters
of credit and failed to repay such loans in accordance with the terms of the
letters of credit. The maximum potential amount of future payments that CNA
could be required to pay under these guarantees is approximately $30 million at
March 31, 2004. CNAF has provided parent company guarantees, which expire in 2015, related to
lease obligations of certain subsidiaries. Certain of those subsidiaries have
been sold; however, the lease obligation guarantees remain in effect. CNAF
would be required to remit prompt payment on leases in question if the primary
obligor fails to observe and perform its covenants under the lease agreements.
The maximum potential amount of future payments that the Company could be
required to pay under these guarantees are approximately $8 million at March
31, 2004. CCC and CAC are parties to a corporate guarantee whereby CCC agrees to cause
CAC to have sufficient cash for the timely payment of claims under certain
insurance policies or contracts issued by CAC so long as CAC is owned directly
or indirectly by CNAF. The Company holds an investment in a real estate joint venture. In the normal
course of business, CNA, on a joint and several basis with other unrelated
insurance company shareholders, has committed to continue funding the operating
deficits of this joint venture. Additionally, CNA and the other unrelated
shareholders, on a joint and several basis, have guaranteed an operating lease
for an office building, which expires in 2016. The guarantee of the operating lease is a parallel guarantee to the commitment
to fund operating deficits; consequently, the separate guarantee to the lessor
is not expected to be triggered as long as the joint venture continues to be
funded by its shareholders and continues to make its annual lease payments. In the event that the other parties to the joint venture are unable to meet
their commitments in funding the operations of this joint venture, the Company
would be required to assume the obligation for the entire office building
operating lease. The maximum potential future lease payments at March 31, 2004
that the Company could be required to pay under this guarantee are
approximately $323 million. If CNA were required to assume the entire lease
obligation, the Company would have the right to pursue reimbursement from the
other shareholders and would have the right to all sublease revenues. 28




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) CNA has provided guarantees of the indebtedness of certain of its independent
insurance producers. These guarantees expire in 2008. The Company would be
required to remit prompt and complete payment when due, should the primary
obligor default. In the event of default on the part of the primary obligor,
the Company has a right to any and all shares of common stock of the primary
obligor. The maximum potential amount of future payments that CNA could be
required to pay under these guarantees is approximately $7 million at March 31,
2004. In the course of selling business entities and assets to third parties, the
Company has agreed to indemnify purchasers for losses arising out of breaches
of representation and warranties with respect to the business entities or
assets being sold, including, in certain cases, losses arising from undisclosed
liabilities or certain named litigation. Such indemnification provisions
generally survive for periods ranging from nine months following the applicable
closing date to the expiration of the relevant statutes of limitation. As of
March 31, 2004, the aggregate amount of quantifiable indemnification agreements
in effect for sales of business entities and assets was $580 million. In addition, the Company has agreed to provide indemnification to third party
purchasers for certain losses associated with sold business entities or assets
that are not limited by a contractual monetary amount. As of March 31, 2004,
the Company had outstanding unlimited indemnifications in connection with the
sales of certain of its business entities or assets for tax liabilities arising
prior to a purchasers ownership of an entity or asset, defects in title at the
time of sale, employee claims arising prior to closing and in some cases losses
arising from certain litigation and undisclosed liabilities. These
indemnification agreements survive until the applicable statutes of limitation
expire, or until the agreed upon contract terms expire. The Company has
recorded approximately $21 million and $16 million of other liabilities related
to these indemnification agreements as of March 31, 2004 and December 31, 2003. 29




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) Note L. Comprehensive Income (Loss) Comprehensive income is composed of all changes to stockholders equity, except
those changes resulting from transactions with stockholders in their capacity
as stockholders. The components of comprehensive income (loss) are shown
below. Comprehensive Income (Loss) For the three months ended March 31
    
    2004
    
    2003(In millions)Net income (loss)
    
    $
    (125
    )
    
    $
    83Other comprehensive income (loss):Change in unrealized gains/losses on general account investments:Holding gains arising during the period
    
    
    461
    
    
    
    208Net unrealized gains/losses at beginning of period included in
realized gains (losses) during the period
    
    
    (284
    )
    
    
    116Net change in unrealized gains/losses on general account
investments
    
    
    177
    
    
    
    324Net change in unrealized gains/losses on separate accounts and
other
    
    
    (63
    )
    
    
    16Foreign currency translation adjustment
    
    
    16
    
    
    
    11Allocation to participating policyholders and minority interests
    
    
    2
    
    
    
    Other comprehensive income, before tax
    
    
    132
    
    
    
    351Deferred income tax expense related to other comprehensive income
    
    
    (49
    )
    
    
    (128
    )Other comprehensive income, net of tax
    
    
    83
    
    
    
    223Total comprehensive income (loss)
    
    $
    (42
    )
    
    $
    306
 30




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) Note M. Business Segments As a result of the Companys decisions to focus on Property and Casualty
operations and to exit certain businesses, the Company revised its reportable
segment structure in the first quarter of 2004 to reflect changes in its core
operations and how it makes business decisions. CNA now manages its property
and casualty operations in two operating segments which represent CNAs core
operations: Standard Lines and Specialty Lines. The non-core operations are
now managed in Life and Group Non-Core and Corporate and Other Non-Core
segments. Standard Lines includes standard property and casualty coverages sold
to small and middle market commercial businesses primarily through an
independent agency distribution system, and excess and surplus lines, as well
as insurance and risk management products sold to large corporations in the
U.S. as well as globally. Specialty Lines provides a broad array of professional,
financial and specialty property and casualty products and services. Life and
Group Non-Core primarily includes the results of the life and group lines of
business sold or placed in run-off. This segment includes the results of the
individual life business which is to be sold. Corporate and Other Non-Core
primarily includes the results of certain property and casualty lines of
business placed in run-off, including CNA Re (formerly a stand-alone property
and casualty segment). This segment also includes the results related to the
centralized adjusting and settlement of APMT claims as well as the results of
CNAs participation in voluntary insurance pools, which are primarily in
run-off, and various other non-insurance operations. Prior period segment
disclosures have been conformed to the current year presentation. The changes made to the Companys reportable segments were as follows: 1) CNA
Global (formerly included in Specialty Lines) which consists of marine and
global standard lines is now included in Standard Lines; 2) CNA Guaranty and
Credit (formerly included in Specialty Lines) is currently in run-off and is
now included in the Corporate and Other Non-Core segment; 3) CNA Re is
currently in run-off and is also now included in the Corporate and Other
Non-Core segment; 4) Group Operations and Life Operations (formerly separate
reportable segments) have now been combined into one reportable segment where
the run-off of the retained group and life products will be managed; 5) certain
run-off life and group operations formerly included in the Corporate and Other
segment are now included in the Life and Group Non-Core segment. The Company manages most of its assets on a legal entity basis, while segment
operations are conducted across legal entities. As such, only reinsurance and
insurance receivables, insurance reserves and deferred acquisition costs are
readily identifiable for each individual segment. Distinct investment
portfolios are not maintained for each segment; accordingly, allocation of
assets to each segment is not performed. Therefore, net investment income and
realized investment gains or losses are allocated primarily based on each
segments net carried insurance reserves, as adjusted. Income taxes have been allocated on the basis of the taxable income of the
segments. In the following tables, certain GAAP and non-GAAP financial measures are
presented to provide information used by management to monitor the Companys
operating performance. Management utilizes various financial measures to
monitor the Companys insurance operations and investment portfolio. Net
operating income, which is derived from certain income statement amounts, is
considered a non-GAAP financial measure and is used by management to monitor
performance of the Companys insurance operations. The Companys investment
portfolio is monitored through analysis of various quantitative and qualitative
factors and certain decisions related to the sale or impairment of investments
that produce realized gains and losses. Net realized investment gains and
losses, which are comprised of after-tax realized investment gains and losses
net of participating policyholders and minority interests, are a non-GAAP
financial measure. 31




---



##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) Net operating income is calculated by excluding from net income the after-tax
effects of 1) net realized investment gains or losses, 2) gains or losses from
discontinued operations and 3) cumulative effects of changes in accounting
principles. In the calculation of net operating income, management excludes
after-tax net realized investment gains or losses because net realized
investment gains or losses related to the Companys investment portfolio are
largely discretionary, except for losses related to other-than-temporary
impairments, are generally driven by economic factors that are not necessarily
consistent with key drivers of underwriting performance, and are therefore not
an indication of trends in insurance operations. The Companys investment portfolio is monitored by management through analyses
of various factors including unrealized gains and losses on securities,
portfolio duration and exposure to interest rate, market and credit risk.
Based on such analyses, the Company may impair an investment security in
accordance with its policy, or sell a security. Such activities will produce
realized gains and losses. While management uses various non-GAAP financial measures to monitor various
aspects of the Companys performance, relying on any measure other than net
income (loss), which is the most directly comparable GAAP measure to net
operating income and realized gains and losses, is not a complete
representation of financial performance. Management believes that its process
of evaluating performance through the use of these non-GAAP financial measures
provides a basis for understanding the operations and the impact on net income
(loss) as a whole. Management also believes that investors find these non-GAAP
financial measures described above useful to help interpret the underlying
trends and performance, as well as to provide visibility into the significant
components of net income (loss). 32




---



##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) CorporateFor the three months ended
    
    Standard
    
    Specialty
    
    Life and Group
    
    and OtherMarch 31, 2004
    
    Lines
    
    Lines
    
    Non-Core
    
    Non-Core
    
    Eliminations
    
    Total(In millions)Net earned premiums
    
    $
    1,258
    
    
    $
    529
    
    
    $
    326
    
    
    $
    76
    
    
    $
    (21
    )
    
    $
    2,168Net investment income
    
    
    138
    
    
    
    62
    
    
    
    206
    
    
    
    67
    
    
    
    
    
    
    
    473Other revenues
    
    
    40
    
    
    
    25
    
    
    
    34
    
    
    
    7
    
    
    
    (24
    )
    
    
    82Total operating revenues
    
    
    1,436
    
    
    
    616
    
    
    
    566
    
    
    
    150
    
    
    
    (45
    )
    
    
    2,723Claims, benefits and expenses
    
    
    1,286
    
    
    
    503
    
    
    
    542
    
    
    
    152
    
    
    
    (45
    )
    
    
    2,438Operating income (loss) before income tax and
minority interest
    
    
    150
    
    
    
    113
    
    
    
    24
    
    
    
    (2
    )
    
    
    
    
    
    
    285Income tax (expense) benefit on operating income
    
    
    (34
    )
    
    
    (34
    )
    
    
    (5
    )
    
    
    2
    
    
    
    
    
    
    
    (71
    )Minority interest
    
    
    (2
    )
    
    
    (4
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (6
    )Net operating income
    
    
    114
    
    
    
    75
    
    
    
    19
    
    
    
    
    
    
    
    
    
    
    
    208Realized investment gains (losses), net of
participating policyholders and minority
interests
    
    
    57
    
    
    
    20
    
    
    
    (562
    )
    
    
    27
    
    
    
    
    
    
    
    (458
    )Income tax (expense) benefit on realized
investment gains (losses)
    
    
    (19
    )
    
    
    (7
    )
    
    
    161
    
    
    
    (10
    )
    
    
    
    
    
    
    125Net income (loss)
    
    $
    152
    
    
    $
    88
    
    
    $
    (382
    )
    
    $
    17
    
    
    $
    
    
    
    $
    (125
    )As of March 31, 2004(In millions)Reinsurance receivables
    
    $
    5,382
    
    
    $
    1,498
    
    
    $
    1,850
    
    
    $
    6,099
    
    
    
    
    
    
    $
    14,829Insurance receivables
    
    
    2,365
    
    
    
    386
    
    
    
    211
    
    
    
    160
    
    
    
    
    
    
    
    3,122Insurance reserves:Claim and claim adjustment expense
    
    $
    14,134
    
    
    $
    4,287
    
    
    $
    3,460
    
    
    $
    9,302
    
    
    $
    
    
    
    $
    31,183Unearned premiums
    
    
    2,301
    
    
    
    1,594
    
    
    
    164
    
    
    
    786
    
    
    
    (12
    )
    
    
    4,833Future policy benefits
    
    
    
    
    
    
    
    
    
    
    4,503
    
    
    
    
    
    
    
    
    
    
    
    4,503Policyholders funds
    
    
    76
    
    
    
    
    
    
    
    1,777
    
    
    
    
    
    
    
    
    
    
    
    1,853Deferred acquisition costs
    
    $
    507
    
    
    $
    266
    
    
    $
    556
    
    
    $
    16
    
    
    $
    
    
    
    $
    1,345
 33




---



##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) CorporateFor the three months ended
    
    Standard
    
    Specialty
    
    Life and Group
    
    and OtherMarch 31, 2003
    
    Lines
    
    Lines
    
    Non-Core
    
    Non-Core
    
    Eliminations
    
    Total(In millions)Net earned premiums
    
    $
    1,219
    
    
    $
    428
    
    
    $
    586
    
    
    $
    175
    
    
    $
    (27
    )
    
    $
    2,381Net investment income
    
    
    129
    
    
    
    49
    
    
    
    203
    
    
    
    51
    
    
    
    
    
    
    
    432Other revenues
    
    
    71
    
    
    
    17
    
    
    
    41
    
    
    
    12
    
    
    
    (33
    )
    
    
    108Total operating revenues
    
    
    1,419
    
    
    
    494
    
    
    
    830
    
    
    
    238
    
    
    
    (60
    )
    
    
    2,921Claims, benefits and expenses
    
    
    1,369
    
    
    
    420
    
    
    
    787
    
    
    
    225
    
    
    
    (60
    )
    
    
    2,741Operating income before income tax
and minority interest
    
    
    50
    
    
    
    74
    
    
    
    43
    
    
    
    13
    
    
    
    
    
    
    
    180Income tax expense on operating income
    
    
    (5
    )
    
    
    (24
    )
    
    
    (14
    )
    
    
    (2
    )
    
    
    
    
    
    
    (45
    )Minority interest
    
    
    (1
    )
    
    
    (2
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (3
    )Net operating income
    
    
    44
    
    
    
    48
    
    
    
    29
    
    
    
    11
    
    
    
    
    
    
    
    132Realized investment gains (losses),
net of participating policyholders
and minority interests
    
    
    7
    
    
    
    3
    
    
    
    (104
    )
    
    
    18
    
    
    
    
    
    
    
    (76
    )Income tax (expense) benefit on
realized investment gains (losses)
    
    
    (4
    )
    
    
    (1
    )
    
    
    36
    
    
    
    (4
    )
    
    
    
    
    
    
    27Net income (loss)
    
    $
    47
    
    
    $
    50
    
    
    $
    (39
    )
    
    $
    25
    
    
    $
    
    
    
    $
    83As of December 31, 2003(In millions)Reinsurance receivables
    
    $
    5,508
    
    
    $
    1,497
    
    
    $
    2,999
    
    
    $
    6,250
    
    
    $
    
    
    
    $
    16,254Insurance receivables
    
    
    2,246
    
    
    
    320
    
    
    
    282
    
    
    
    222
    
    
    
    
    
    
    
    3,070Insurance reserves:Claim and claim adjustment expense
    
    $
    14,282
    
    
    $
    4,200
    
    
    $
    3,576
    
    
    $
    9,672
    
    
    $
    
    
    
    $
    31,730Unearned premiums
    
    
    2,267
    
    
    
    1,480
    
    
    
    153
    
    
    
    991
    
    
    
    
    
    
    
    4,891Future policy benefits
    
    
    
    
    
    
    
    
    
    
    8,161
    
    
    
    
    
    
    
    
    
    
    
    8,161Policyholders funds
    
    
    79
    
    
    
    3
    
    
    
    522
    
    
    
    (3
    )
    
    
    
    
    
    
    601Deferred acquisition costs
    
    $
    499
    
    
    $
    257
    
    
    $
    1,745
    
    
    $
    32
    
    
    $
    
    
    
    $
    2,533
 34




---



##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) The following table provides revenue by line of business for each reportable
segment. Revenue by Line of Business For the three months ended March 31
    
    2004
    
    2003(In millions)Standard LinesProperty
    
    $
    165
    
    
    $
    158Casualty
    
    
    1,100
    
    
    
    1,075CNA Global
    
    
    228
    
    
    
    193Standard Lines revenue
    
    
    1,493
    
    
    
    1,426Specialty LinesProfessional Liability Insurance (CNA Pro)
    
    
    476
    
    
    
    354Surety
    
    
    87
    
    
    
    80Warranty
    
    
    73
    
    
    
    63Specialty Lines revenue
    
    
    636
    
    
    
    497Life and Group Non-CoreLife & Annuity
    
    
    (291
    )
    
    
    172Health
    
    
    264
    
    
    
    513Other
    
    
    31
    
    
    
    41Life and Group Non-Core revenue
    
    
    4
    
    
    
    726Corporate and Other Non-CoreCNA Re
    
    
    103
    
    
    
    187Other
    
    
    74
    
    
    
    69Corporate and Other Non-Core revenue
    
    
    177
    
    
    
    256Eliminations
    
    
    (45
    )
    
    
    (60
    )Total revenue
    
    $
    2,265
    
    
    $
    2,845
 Note N. Personal Insurance Transaction As part of the sale of CNAs personal insurance business to The Allstate
Corporation on October 1, 1999, the Company shares in indemnity and claim and
allocated claim adjustment expenses if payments related to losses incurred
prior to October 1, 1999 on the CNA policies transferred to Allstate exceed the
claim and allocated claim adjustment expense reserves of approximately $1
billion at the date of sale. The Companys remaining obligation with respect
to indemnity and allocated claim adjustment expense reserves, valued as of
October 1, 2003, was settled in March of 2004 and the sharing agreement was
terminated. This settlement did not have a material impact on the results of
operations of the Company for the three months ended March 31, 2004. Note O. Related Party Transactions CNA reimburses Loews, or pays directly to Loews employees, approximately $18
million annually for management fees, travel and related expenses and expenses
of investment facilities and services provided to CNA. 35




---



##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) CNA and its eligible subsidiaries are included in the consolidated federal
income tax return of Loews and its eligible subsidiaries. For the three
months ended March 31, 2004 and 2003, CNA received from Loews $86 million and
$62 million related to federal income taxes. CNA previously sponsored a stock ownership plan whereby the Company financed
the purchase of Company common stock by certain officers, including executive
officers. Interest charged on the principal amount of these outstanding stock
purchase loans is generally equivalent to the long term applicable federal
rate, compounded semi-annually, in effect on the disbursement date of the loan.
Loans made pursuant to the plan are generally full recourse with a ten year
term and are secured by the stock purchased. The balance of the loans as of
March 31, 2004 exceeds the related common stock collateral by $31 million. CNAF has entered into a credit agreement with a large national contractor that
undertakes projects for the construction of government and private facilities
to provide an $86 million credit facility. CNA Surety has provided significant
surety bond protection for projects by this contractor through surety bonds
underwritten by CCC or its affiliates. The loans were provided by CNAF to help
the contractor meet its liquidity needs. The credit facility and all loans
under it will mature in March of 2006. Advances under the credit facility bear
interest at the prime rate plus 6%. Payment of 3% of the interest is deferred
until the credit facility matures, and the remainder is to be paid monthly in
cash. Loans under the credit facility are secured by a pledge of substantially
all of the assets of the contractor and certain affiliates. Loews and CNAF have entered into a participation agreement, pursuant to which
Loews has purchased a participation interest in one-third of the loans and
commitments under the credit facility, on a dollar-for-dollar basis, up to a
maximum of $25 million. Although Loews does not have rights against the
contractor directly under the participation agreement, it shares recoveries and
certain fees under the facility proportionally with CNAF. In March of 2003, CNAF purchased the contractors outstanding bank debt for $16
million. The contractor purchased the bank debt and retired it, with $11
million of the purchase price being funded under the new credit facility and $5
million from money loaned to the contractor by its shareholders. Under its
purchase agreement with the banks, CNAF is also required to reimburse the banks
for any draws upon outstanding letters of credit issued by the banks for the
contractors benefit. Of these letters of credit, a replacement due to expire
in August of 2004 remains in the amount of $3 million. Any CNAF reimbursements
for draws upon the banks letters of credit will become obligations of the
contractor to CNAF as draws upon the credit facility. As of March 31, 2004 the
aggregate amount of outstanding principal and accrued interest under the credit
facility was $64 million, net of participation by Loews in the amount of $26
million, including accrued interest. As of March 31, 2004, the credit facility was amended to provide for
calculating the amount available for borrowing without regard to approximately
$1.1 million representing accrued interest on a bridge loan provided by CNAF
that became a borrowing under the facility; the elimination of a reduction in
CNAFs commitment upon receipt by the contractor of certain claim proceeds; and
an increase in the monthly compensation limits for the contractors principals.
In connection with the amendment, the principals and an affiliate contributed
$5 million in the aggregate to the contractors capital by forgiving certain of
the contractors indebtedness. The contractor has initiated a restructuring plan that is intended to reduce
costs and improve cash flow, and a chief restructuring officer has been
appointed to manage execution of the plan. CNA Surety intends to continue to
provide surety bonds on behalf of the contractor during this restructuring
period, subject to the contractors initial and ongoing compliance with CNA
Suretys underwriting standards. Any losses to 36




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) CNA Surety arising from bonds issued to the contractor or assumed are excluded
from CNA Suretys $40 million excess of $20 million per principal reinsurance
program with unaffiliated reinsurers in place in 2002. As a result, CNA Surety
retains the first $60 million of losses on bonds written with an effective date
of September 30, 2002 and prior, and CCC will incur 100% of losses above that
retention level. Through facultative reinsurance contracts with CCC, CNA
Suretys exposure on bonds written from October 1, 2002 through October 31,
2003 has been limited to $20 million per bond. For bonds written subsequent to
November 1, 2003, CNA Suretys exposure is limited to $14.5 million per bond
subject to an aggregate limit of $150 million under all facultative insurance
coverage and two excess of loss treaties between CNA Surety and CCC. Both
excess of loss contracts are effective January 1, 2004. The first excess of
loss contract, $40 million excess of $60 million, provides CNA Surety coverage
exclusively for the national contractor, while the second excess of loss
contract, $50 million excess of $100 million, provides CNA Surety with coverage
for the national contractor as well as other CNA Surety risks. Indemnification and subrogation rights, including rights to contract proceeds
on construction projects in the event of default, exist that reduce CNA
Suretys and ultimately the Companys exposure to loss. While CNAF believes
that the contractors restructuring efforts may be successful and provide
sufficient cash flow for its operations, the contractors failure to achieve
its restructuring plan or perform its contractual obligations under the credit
facility and underlying all of the Companys surety bonds could have a material
adverse effect on the Companys results of operations. If such failures occur,
the Company estimates the surety loss, net of indemnification and subrogation
recoveries, but before the effects of minority interest could be up to $200
million. In addition, such failures could cause the full amount due under the
credit facility to be uncollectible. CNA Surety Corporation CCC provided an excess of loss reinsurance contract to the insurance
subsidiaries of CNA Surety over a period that expired on December 31, 2000 (the
stop loss contract). The stop loss contract limits the net loss ratios for CNA
Surety with respect to certain accounts and lines of insurance business. In
the event that CNA Suretys accident year net loss ratio exceeds 24% for 1997
through 2000 (the contractual loss ratio), the stop loss contract requires CCC
to pay amounts equal to the amount, if any, by which CNA Suretys actual
accident year net loss ratio exceeds the contractual loss ratio multiplied by
the applicable net earned premiums. The minority shareholders of CNA Surety do
not share in any losses that apply to this contract. There were no reinsurance
balances payable under this stop loss contract as of March 31, 2004 and
December 31, 2003. Effective October 1, 2002, CCC provided an excess of loss protection for new
and renewal bonds for CNA Surety for each principal exposures that exceed $60
million since October 1, 2002 in two parts  a) $40 million excess of $60
million and b) $50 million excess of $100 million for CNA Surety. Effective
January 1, 2004, this contract was commuted and CCC paid CNA Surety $11 million
in return premium in the first quarter of 2004 based on experience under the
contract. Effective October 1, 2003, CCC entered into a $3 million excess of
$12 million reinsurance contract with CNA Surety. The reinsurance premium for
the coverage provided by the $3 million excess of $12 million contract is $0.3
million plus, if applicable, additional premium based on paid losses. This
contract expires on December 31, 2004. Note P. Statutory Accounting Practices CNAs insurance subsidiaries maintain their accounts in conformity with
accounting practices prescribed or permitted by state insurance regulatory
authorities which vary in certain respects from GAAP. In converting from
statutory to GAAP, typical adjustments include deferral of policy acquisition
costs and 37




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) the inclusion of net realized holding gains or losses in shareholders equity
relating to fixed maturity securities. The National Association of Insurance
Commissioners (NAIC) developed a codified version of statutory accounting
principles, designed to foster more consistency among the states for accounting
guidelines and reporting. Combined statutory capital and surplus and net income (loss), determined in
accordance with accounting practices prescribed or permitted by insurance
regulatory authorities for the property and casualty and the life and group
insurance subsidiaries, were as follows. CNAFs ability to pay
dividends and other credit obligations is significantly dependent on
receipt of dividends from its subsidiaries. The payment of dividends
to CNAF by its insurance subsidiaries without prior approval of the
insurance department of each subsidiarys
domiciliary jurisdiction is limited by formula. Dividends in excess
of these amounts are subject to prior approval by the respective
state insurance departments. Dividends from CCC are subject to the insurance holding company laws of the State of
Illinois, the domiciliary state of CCC. Under these laws, ordinary dividends, or dividends that do not require prior
approval of the Illinois Department of Insurance (the Department), may be paid
only from earn surplus, which is calculated by removing unrealized
gains from unassigned surplus. As of March 31, 2004, CCC is in a
negative earned surplus position. Until CCC is in a positive earned surplus
position, all dividends require prior approval of the Department.
In January of 2004, the Department approved extraordinary dividend
capacity in the amount of approximately $312 million to be used to
fund the CNAFs 2004 debt service and principal repayment
requirements. Statutory Information Statutory Capital and Surplus
    
    Statutory Net Income (Loss) (a)Three months ended March 31March 31, 2004
    
    December 31, 2003
    
    2004
    
    2003(In millions)Property and casualty companies
    
    $
    6,606
    
    
    $
    6,170
    
    
    
    176
    
    
    
    59Life and group insurance companies
    
    
    719
    
    
    
    707
    
    
    
    303
    
    
    
    (91
    )
 (a) Statutory Net Income (loss) includes the life insurance subsidiaries in
2004, and the life and group insurance subsidiaries in 2003. Note Q. Assets and Liabilities Related to Businesses Held for Sale In February of 2004, CNA entered into a definitive agreement to sell its
individual life insurance business to Swiss Re for approximately $700 million.
The business sold includes term, universal and permanent life insurance
policies and individual annuity products. CNAs individual long term care and
structured settlement businesses are excluded from the sale. Additionally,
CNAs Nashville, Tennessee insurance servicing and administration building will
be acquired by Swiss Re as part of the sale. The transaction which is subject
to certain customary closing conditions, is expected to be completed on April
30, 2004. As a result of the pending sale, CNA has classified the assets and liabilities
of the individual life insurance business including the Nashville, Tennessee,
insurance servicing and administration building, as held for sale at March 31,
2004. As required by SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets (SFAS 144), the book values of these assets
and liabilities are now reflected as Assets Related to Businesses Held for Sale
and Liabilities Related to Businesses Held for Sale on the Condensed
Consolidated Balance Sheet at March 31, 2004. Upon classification of this
asset group as held for sale, the Company performed an assessment to determine
whether there was any impairment. Based on the terms of the sale agreement, the
Company recorded an impairment charge of $569 million pretax to write-down the
assets related to businesses held for sale to their individual estimated fair
values less costs to sell. This impairment charge is recorded as Realized
Investment Losses, net of participating policyholders and minority interests
on the Condensed Consolidated Statements of Operations for the three months
ended March 31, 2004. Additionally, in connection with CNAs decision to focus on its property and
casualty business, CNA has initiated a plan to sell CNA Trust, its limited
operations bank located in Costa Mesa, California, which provides full trustee
and pension third-party administrative services to the under 500 employer
market. Accordingly, the assets and liabilities related to CNA Trust have been
classified as Assets Related to Businesses Held for Sale and Liabilities
Related to Businesses Held for Sale on the Condensed Consolidated Balance Sheet
at March 31, 2004. The estimated fair value of the business less
costs to sell
exceeds the value of CNA Trust, and therefore no impairment charge was recorded. The following table provides the components of the assets and liabilities held
for sale. 38




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##### 



CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED) March 31, 2004
    
    Individual Life
    
    CNA Trust
    
    Total(In millions)InvestmentsFixed maturity securities, available-for-sale
    
    $
    3,509
    
    
    $
    192
    
    
    $
    3,701Equity securities
    
    
    13
    
    
    
    
    
    
    
    13Mortgage loans and other
    
    
    172
    
    
    
    
    
    
    
    172Short term investments, available-for-sale
    
    
    221
    
    
    
    13
    
    
    
    234Total investments
    
    
    3,915
    
    
    
    205
    
    
    
    4,120Cash
    
    
    2
    
    
    
    7
    
    
    
    9Reinsurance receivables
    
    
    1,176
    
    
    
    
    
    
    
    1,176Accrued investment income
    
    
    47
    
    
    
    4
    
    
    
    51Deferred acquisition costs
    
    
    502
    
    
    
    
    
    
    
    502Property & Equipment
    
    
    20
    
    
    
    2
    
    
    
    22Separate account assets
    
    
    411
    
    
    
    
    
    
    
    411Total assets related to businesses held for sale
    
    
    6,073
    
    
    
    218
    
    
    
    6,291Insurance reserves
    
    
    4,600
    
    
    
    
    
    
    
    4,600Reinsurance balances payable
    
    
    32
    
    
    
    
    
    
    
    32Deferred income taxes
    
    
    72
    
    
    
    3
    
    
    
    75Other liabilities
    
    
    171
    
    
    
    182
    
    
    
    353Separate account liabilities
    
    
    411
    
    
    
    
    
    
    
    411Total liabilities related to businesses held for sale
    
    $
    5,286
    
    
    $
    185
    
    
    $
    5,471
 The assets and liabilities of the individual life business were $6.6 billion
and $5.4 billion at December 31, 2003. The revenues of the individual life
business were $158 million and $160 million for the three months ended March
31, 2004 and 2003. The net income for this business was $9 million for the
three months ended March 31, 2004 and the net loss was $17 million for the
three months ended March 31, 2003. The assets and liabilities of CNA Trust were $216 million and $184 million at
December 31, 2003. The revenues of CNA Trust were $6 million and $7 million
for the three months ended March 31, 2004 and 2003. Net income for this
business was $0.3 million for each of the three months ended March 31, 2004 and
2003. 39




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued 
 Overview The following discussion highlights significant factors impacting the
consolidated operations and financial condition of CNA Financial Corporation
(CNAF) and its subsidiaries (collectively CNA or the Company). CNA is one of
the largest insurance organizations in the United States and based on 2002
statutory net written premiums, is the eleventh largest property and casualty
company. Loews Corporation (Loews) owned approximately 90% of the outstanding common
stock and 100% of the Series H and Series I preferred stock of CNAF as of March
31, 2004. Conversion of the Series I preferred stock into approximately 32.3
million shares of CNAF common stock occurred on April 20, 2004, as a result of
which Loews owns 91% of CNAFs approximately 255.9 million outstanding shares
of common stock. The following discussion should be read in conjunction with
the Condensed Consolidated Financial Statements in Item 1 of Part 1. CONSOLIDATED OPERATIONS During 2003, CNA completed a strategic review of its operations and decided to
concentrate its efforts on the property and casualty business. As a result of
this review, and several significant charges in 2003, a capital plan was
developed to replenish the statutory capital of the property and casualty
subsidiaries. A summary of the capital plan, related actions, and other
significant 2003 business decisions is discussed below: Sale of Group Benefits Business On December 31, 2003, CNA completed the sale of the majority of its Group
Benefits business. The business sold included group life and accident, short
and long term disability and certain other products. CNAs group long term care
and specialty medical businesses were excluded from the sale. Consideration
from the sale was approximately $530 million, resulting in an after-tax
realized investment loss on the sale of $130 million during 2003. Sale of Individual Life Business In February of 2004, CNA entered into a definitive agreement to sell its
individual life insurance business for approximately $700 million. The
business sold includes term, universal and permanent life insurance policies
and individual annuity products. CNAs individual long term care and
structured settlement businesses are excluded from the sale. Additionally, the
Nashville, Tennessee insurance servicing and administration building will be
transferred as part of the sale. The transaction is expected to be completed
on April 30, 2004, subject to certain customary closing conditions. As a
result of the pending sale, CNA classified the assets and liabilities of its
individual life insurance business, including the Nashville, Tennessee
insurance servicing and administration building, as Assets Related to
Businesses Held for Sale and Liabilities Related to Businesses Held for Sale in
the Condensed Consolidated Balance Sheets. See Note Q to the Condensed
Consolidated Financial Statements in Item 1 for further discussion. Assumed Reinsurance Renewal Rights Sale During 2003, the Company sold the renewal rights for most of the treaty
business of CNA Re and withdrew from the assumed reinsurance business. CNA
will manage the run-off of its retained liabilities. 40




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Expense Initiatives The Group Benefits business, individual life and annuity insurance business and
CNA Re absorbed approximately $150 million of the total shared corporate
overhead expenses that are allocated to all of CNAs businesses. The Company
expects that the 2004 consolidated net operating results will include
approximately $35 million after-tax of losses for these three businesses,
largely due to these corporate overhead expenses. This amount has been revised
from the $50 million loss guidance that was previously disclosed primarily
because of the impact of the individual life impairment loss and favorable
mortality and investment results in the first quarter of 2004. The 2003
expense initiative, discussed below did not contemplate the sale or exit of
these businesses, and therefore the savings from this initiative will be
partially offset by these expenses. The Company is evaluating its corporate
expense structure and anticipates taking actions in 2004 that will reduce these
expenses. The primary components of the 2003 expense initiative were a reduction of the
workforce by approximately five percent, lower commissions and other
acquisition costs, principally related to workers compensation and, reduced
spending in other areas. As of December 31, 2003, the Company has achieved the
targeted workforce reduction. Actions related to reducing commissions and
other acquisition expenses began in 2003 and will continue through 2004. Loews The capital plan consists of the November of 2003 sale of $750 million of a new
series of CNA convertible preferred stock to Loews. The preferred stock
converted into 32,327,015 shares of CNAF common stock on April 20, 2004.
Additionally, the capital plan included a commitment from Loews for additional
capital support of up to $500 million by February 27, 2004 through the purchase
of surplus notes of Continental Casualty Company (CCC), CNAs principal
insurance subsidiary, in the event certain additions to CCCs statutory capital
were not achieved through asset sales. Loews also committed up to an
additional $150 million, in a form to be determined, to support the statutory
capital of CCC in the event of additional shortfalls in relation to business
and asset sales. In accordance with such commitments, in February of 2004,
Loews purchased $46 million of surplus notes from CCC, in relation to the sale
of CNAs Group Benefits business, and also purchased $300 million of additional
surplus notes of CCC in relation to the planned sale of CNAs individual life
business, discussed above. CNA has estimated that the sale of the individual
life business will result in an addition to statutory capital of approximately
$500 million. Following the consummation of the individual life sale, CNA plans
to seek approval from the insurance regulatory authority for the repayment of
the surplus notes purchased in relation to such sale. The Company believes that it will not require any additional capital
support pursuant to the capital plan. Revised Business Segment Reporting As a result of the strategic review and other actions described above, CNA has
changed how it manages its core operations and makes business decisions.
Accordingly, the Company has revised its reportable business segment structure
to reflect these changes. CNA now manages its property and casualty operations in two operating segments
which represent CNAs core operations: Standard Lines and Specialty Lines.
The non-core operations are now managed in the Life and Group Non-Core and
Corporate and Other Non-Core segments. Standard Lines includes standard
property and casualty coverages sold to small and middle market commercial
businesses primarily through an independent agency distribution system, and
excess and surplus lines, as well as insurance and risk management products
sold to large corporations in the U.S., as well as globally. Specialty 41




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Lines provides a broad array of professional, financial and specialty property
and casualty products and services. Life and Group Non-Core primarily includes
the results of the life and group lines of business sold or placed in run-off.
This segment includes the results of the individual life business which is to
be sold. Corporate and Other Non-Core includes the results of certain property
and casualty lines of business placed in run-off, including CNA Re (formerly a
stand-alone property and casualty segment). This segment also includes the
results related to the centralized adjusting and settlement of Asbestos,
Environment Pollution and Mass Tort (APMT) claims as well as the results of
CNAs participation in voluntary insurance pools, which are primarily in
run-off, and various other non-insurance operations. Prior period segment
disclosures have been conformed to the current year presentation. The changes made to the Companys reportable segments were as follows: 1) CNA
Global (formerly included in Specialty Lines) which consists of marine and
global standard lines is now included in Standard Lines; 2) CNA Guaranty and
Credit (formerly included in Specialty Lines) is currently in run-off and is
now included in the Corporate and Other Non-Core segment; 3) CNA Re is
currently in run-off and is also now included in the Corporate and Other
Non-Core segment; 4) Group Operations and Life Operations (formerly separate
reportable segments) have now been combined into one reportable segment where
the run-off of the retained group and life products will be managed; 5) certain
run-off life and group operations formerly included in the Corporate and Other segment are now included in the Life and Group Non-Core segment. Throughout this Managements Discussion and Analysis (MD&A), the results of
operations include discussion and results for all of CNAs businesses,
including those sold or exited as described above. The following tables
provide information about CNAs results of operations for the retained and sold
businesses for the three months ended March 31, 2004 and 2003. CorporateStandard
    
    Specialty
    
    Life and Group
    
    and OtherConsolidated Net Income (Loss)
    
    Lines
    
    Lines
    
    Non-Core
    
    Non-Core (b)
    
    Total(Period ended March 31, 2004)Net results of businesses retained
    
    $
    152
    
    
    $
    88
    
    
    $
    16
    
    
    $
    17
    
    
    $
    273Net results of businesses sold (a)
    
    
    
    
    
    
    
    
    
    
    (398
    )
    
    
    
    
    
    
    (398
    )Total
consolidated net income (loss)
    
    $
    152
    
    
    $
    88
    
    
    $
    (382
    )
    
    $
    17
    
    
    $
    (125
    )
 CorporateStandard
    
    Specialty
    
    Life and Group
    
    and OtherNet Earned Premiums
    
    Lines
    
    Lines
    
    Non-Core
    
    Non-Core (b)
    
    Total(Period ended March 31, 2004)Net earned
premiums of businesses retained
    
    $
    1,258
    
    
    $
    529
    
    
    $
    221
    
    
    $
    55
    
    
    $
    2,063Net earned
premiums of businesses sold (a)
    
    
    
    
    
    
    
    
    
    
    105
    
    
    
    
    
    
    
    105Total net earned premiums
    
    $
    1,258
    
    
    $
    529
    
    
    $
    326
    
    
    $
    55
    
    
    $
    2,168
  (a)
    
    Includes the Group Benefits business sold on December 31, 2003 and
the business covered under the February of 2004 definitive agreement to
sell the individual life business. An impairment charge of $406
million after-tax was recorded for the individual life business.(b)
    
    Includes $21 million of Net Income and $73 million of Net Earned
Premium from CNA Re, which is in run-off. 42




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued CorporateStandard
    
    Specialty
    
    Life and Group
    
    and OtherConsolidated Net Income (Loss)
    
    Lines
    
    Lines
    
    Non-Core
    
    Non-Core (b)
    
    Total(Period ended March 31, 2003)Net results of businesses retained
    
    $
    47
    
    
    $
    50
    
    
    $
    (19
    )
    
    $
    25
    
    
    $
    103Net results of businesses sold (a)
    
    
    
    
    
    
    
    
    
    
    (20
    )
    
    
    
    
    
    
    (20
    )Total
consolidated net income (loss)
    
    $
    47
    
    
    $
    50
    
    
    $
    (39
    )
    
    $
    25
    
    
    $
    83
 CorporateStandard
    
    Specialty
    
    Life and Group
    
    and OtherNet Earned Premiums
    
    Lines
    
    Lines
    
    Non-Core
    
    Non-Core (b)
    
    Total(Period ended March 31, 2003)Net earned
premiums of businesses retained
    
    $
    1,219
    
    
    $
    428
    
    
    $
    223
    
    
    $
    148
    
    
    $
    2,018Net earned premiums of businesses sold (a)
    
    
    
    
    
    
    
    
    
    
    363
    
    
    
    
    
    
    
    363Total net earned premiums
    
    $
    1,219
    
    
    $
    428
    
    
    $
    586
    
    
    $
    148
    
    
    $
    2,381
  (a)
    
    Includes the Group Benefits business sold on December 31, 2003 and
the business covered under the February of 2004 definitive agreement to
sell the individual life business.(b)
    
    Includes $34 million of Net Income and $153 million of Net Earned
Premium from CNA Re, which is in run-off. 43




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued The following table includes the consolidated results of operations. For more
detailed components of CNAs business operations, see the segment discussions
within this MD&A. For the three months ended March 31
    
    2004
    
    2003(In millions, except per share data)RevenuesNet earned premiums
    
    $
    2,168
    
    
    $
    2,381Net investment income
    
    
    473
    
    
    
    432Realized investment losses, net of participating
policyholders and minority interests
    
    
    (458
    )
    
    
    (76
    )Other revenues
    
    
    82
    
    
    
    108Total revenues
    
    
    2,265
    
    
    
    2,845Claims, Benefits and ExpensesInsurance claims and policyholders benefits
    
    
    1,620
    
    
    
    1,870Amortization of deferred acquisition costs
    
    
    433
    
    
    
    458Other operating expenses
    
    
    350
    
    
    
    379Interest
    
    
    35
    
    
    
    34Total claims, benefits and expenses
    
    
    2,438
    
    
    
    2,741Income (loss) before income tax and minority interest
    
    
    (173
    )
    
    
    104Income tax (expense) benefit
    
    
    54
    
    
    
    (18
    )Minority interest
    
    
    (6
    )
    
    
    (3
    )Net income (loss)
    
    $
    (125
    )
    
    $
    83Basic and Diluted Earnings (Loss) Per ShareBasic and diluted earnings (loss) per share
available to common stockholders
    
    $
    (0.55
    )
    
    $
    0.30Weighted average outstanding common stock and common
stock equivalents
    
    
    255.9
    
    
    
    223.6
 Three Month Comparison Net results decreased $208 million for the three months ended March 31, 2004 as
compared with the same period in 2003. The decrease in net results related to
increased net realized investment losses, due to an estimated after-tax
impairment loss of $406 million ($569 million pretax) related to the pending
sale of CNAs individual life insurance business. This decline was partially
offset by improved underwriting results from the property and casualty
segments, improved net investment income and net realized investment gains on
the sale of core fixed maturity securities. Net realized investment losses were $333 million and $49 million after-tax for
the three months ended March 31, 2004 and 2003, or a decrease in net realized
investment results of $284 million after-tax. The investment losses in 2004
were primarily driven by an after-tax impairment loss of $406 million ($569
million pretax) related to the pending sale of CNAs individual life insurance
business partially offset by realized investment gains on fixed maturity
securities. The investment losses in 2003 were primarily driven by impairment
losses for the other-than-temporary declines in fair market values for fixed
maturity and equity securities, offset partially by net realized
gains on fixed maturity securities. The impairment losses recorded in 2003 were primarily for securities in
certain market sectors, including the airline, healthcare and energy
industries. 44




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Net earned premiums decreased $213 million for the three months ended March 31,
2004 as compared with the same period in 2003. The decrease in net earned
premiums was due primarily to reduced premium from the Life and Group
businesses as well as CNA Re because of the decisions made in 2003 to focus on
the property and casualty business. Partially offsetting these items were rate
increases and new business in Standard and Specialty Lines. Favorable net prior year development of $1 million was recorded for the three
months ended March 31, 2004, including $17 million of unfavorable claim and
allocated claim adjustment expense reserve development and $18 million of
favorable premium development. Unfavorable net prior year development of $27
million, including $93 million of unfavorable claim and allocated claim
adjustment expense reserve development and $66 million of favorable premium
development, was recorded for the same period in 2003. Critical Accounting Estimates The preparation of the consolidated 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 the disclosure of contingent assets and
liabilities at the date of the consolidated financial statements and the
amounts of revenues and expenses reported during the period. Actual results
may differ from those estimates. CNAs Condensed Consolidated Financial Statements and accompanying notes have
been prepared in accordance with GAAP applied on a consistent basis. CNA
continually evaluates the accounting policies and estimates used to prepare the
Condensed Consolidated Financial Statements. In general, managements
estimates are based on historical experience, evaluation of current trends,
information from third party professionals and various other assumptions that
are believed to be reasonable under the known facts and circumstances. The accounting estimates discussed below are considered by management to be
critical to an understanding of CNAs Condensed Consolidated Financial
Statements as their application places the most significant demands on
managements judgment. Note A of the Consolidated Financial
Statements included under Item 8 of the Companys Form 10-K for the year ended
December 31, 2003 should be read in conjunction with this section to assist
with obtaining an understanding of the underlying accounting policies related
to these estimates. Due to the inherent uncertainties involved with this type
of judgment, actual results could differ significantly from estimates and have
a material adverse impact on the Companys results of operations or equity. Insurance Reserves Insurance reserves are established for both short and long-duration insurance
contracts. Short-duration contracts are primarily related to property and
casualty insurance policies where the reserving process is based on actuarial
estimates of the amount of loss, including amounts for known and unknown
claims. Long-duration contracts typically include traditional life insurance
and long term care products and are estimated using actuarial estimates about
mortality and morbidity, as well as assumptions about expected investment
returns. Changes in estimates of claim and allocated claim adjustment expense
reserves and premium accruals for prior accident years are defined as
development within this MD&A. These changes can be favorable or unfavorable.
The inherent risks associated with the reserving process are discussed in
Reserves  Estimates and Uncertainties section below. 45




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Reinsurance Amounts recoverable from reinsurers are estimated in a manner consistent with
claim and claim adjustment expense reserves or future policy benefits reserves
and are reported as receivables in the Condensed Consolidated Balance Sheets.
The ceding of insurance does not discharge the primary liability of the
Company. An estimated allowance for doubtful accounts is recorded on the basis
of periodic evaluations of balances due from reinsurers, reinsurer solvency,
managements experience and current economic conditions. Further information
on reinsurance is provided in the Reinsurance section below. Valuation of Investments and Impairment of Securities Invested assets are exposed to various risks, such as interest rate, market and
credit risks. Due to the level of risk associated with certain invested assets
and the level of uncertainty related to changes in the value of these assets,
it is possible that changes in risks in the near term could have an adverse
material impact on the Companys results of operations or equity. The Companys investment portfolio is subject to market declines below book
value that may be other-than-temporary. The Company has an Impairment
Committee (the Committee), which reviews the investment portfolio on a
quarterly basis, with ongoing analysis as new information becomes available.
Any decline that is determined to be other-than-temporary is recorded as an
impairment loss in the results of operations in the period in which the
determination occurred. Further information on the Companys investments is
provided in the Investments section below. Individual Long Term Care Products The Companys reserves and deferred acquisition costs for its individual long
term care product offerings are based on certain assumptions including
morbidity, policy persistency and interest rates. Actual experience may differ
from these assumptions. The recoverability of deferred acquisition costs and
the adequacy of the reserves are contingent on actual experience related to
these key assumptions and other factors including potential future premium
increases and future health care cost trends. The results of operations and/or
equity may be materially adversely affected if actual experience varies
significantly from these assumptions. Legal Proceedings The Company is involved in various legal proceedings that have arisen during
the ordinary course of business. The Company evaluates the facts and
circumstances of each situation, and when the Company determines it necessary,
a liability is estimated and recorded. Further information on the Companys
legal proceedings and related contingent liabilities is provided in Notes F and
G of the Condensed Consolidated Financial Statements included under Item 1. Loans to National Contractor CNAF has made loans through a credit facility provided to a national contractor
to whom CNA Surety Corporation (CNA Surety) provides significant amounts of
surety bond insurance coverage. As of March 31, 2004, the aggregate amount of
outstanding principal and accrued interest under the credit facility was $64
million net of a participation by Loews in the amount of $26 million, including
accrued interest. The credit facility was established to help the contractor
meet its liquidity needs. The contractor has initiated restructuring efforts
to reduce costs and improve cash flow and is attempting to develop additional 46




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued sources of funds. In this regard the contractor is negotiating with another
lender the terms of a potential facility for borrowings and letters of credit,
under which CNAF would at its discretion provide collateral. Based on the
contractors restructuring efforts to date, the Company estimates that amounts
due under the credit facility are collectible. Therefore, no valuation
allowance has been established. Further information on this credit agreement
is provided in Note O of the Condensed Consolidated Financial Statements
included under Item 1, and the Liquidity and Capital Resources section below. Reserves  Estimates and Uncertainties The Company maintains reserves to cover its estimated ultimate unpaid liability
for claim and claim adjustment expenses and future policy benefits, including
the estimated cost of the claims adjudication process, for claims that have
been reported but not yet settled and claims that have been incurred but not
reported. Claim and claim adjustment expense and future policy benefit
reserves are reflected as liabilities on the Condensed Consolidated Balance
Sheets under the heading Insurance Reserves. Adjustments to prior year
reserve estimates, if necessary, are reflected in the results of operations in
the period that the need for such adjustments is determined. The level of Insurance Reserves maintained by the Company represents
managements best estimate, as of a particular point in time, of what the
ultimate settlement and administration of claims will cost based on its
assessment of facts and circumstances known at that time. Insurance Reserves
are not an exact calculation of liability but instead are complex estimates
that are derived by the Company, generally utilizing a variety of actuarial
reserve estimation techniques, from numerous assumptions and expectations about
future events, both internal and external, many of which are highly uncertain. Among the many uncertain future events about which the Company makes
assumptions and estimates, many of which have become increasingly
unpredictable, are claims severity, frequency of claims, mortality, morbidity,
expected interest rates, inflation, claims handling and case reserving policies
and procedures, underwriting and pricing policies, changes in the legal and
regulatory environment and the lag time between the occurrence of an insured
event and the time it is ultimately settled, referred to in the insurance
industry as the tail. These factors must be individually considered in
relation to the Companys evaluation of each type of business. Many of these
uncertainties are not precisely quantifiable, particularly on a prospective
basis, and require significant management judgment. Given the factors described above, it is not possible to quantify precisely the
ultimate exposure represented by claims and related litigation. As a result,
the Company regularly reviews the adequacy of its reserves and reassesses its
reserve estimates as historical loss experience develops, additional claims are
reported and settled and additional information becomes available in subsequent
periods. In addition, the Company is subject to the uncertain effects of emerging or
potential claims and coverage issues that arise as industry practices and
legal, judicial, social and other environmental conditions change. These
issues have had, and may continue to have, a negative effect on the Companys
business by either extending coverage beyond the original underwriting intent
or by increasing the number or size of claims. Recent examples of emerging or
potential claims and coverage issues include:  
    
    increases in the number and size of water damage claims, including
those related to expenses for testing and remediation of mold
conditions;
    
    increases in the number and size of claims relating to injuries
from medical products, and exposure to lead; 47




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued  
    
    the effects of accounting and financial reporting scandals and
other major corporate governance failures, which have resulted in an
increase in the number and size of claims, including director and
officer and errors and omissions insurance claims;
    
    class action litigation relating to claims handling and other
practices;
    
    increases in the number of construction defect claims, including
claims for a broad range of additional insured endorsements on
policies; and
    
    increases in the number of claims alleging abuse by members of the
clergy. The impact of these and other unforeseen emerging or potential claims and
coverage issues is difficult to predict and could materially adversely affect
the adequacy of the Companys claim and claim adjustment expense reserves and
could lead to future reserve additions. See the Segment Results sections of
this MD&A for a discussion of changes in reserve estimates and the impact on
the Companys results of operations. The Companys experience has been that establishing reserves for casualty
coverages relating to APMT claim and claim adjustment expenses is subject to
uncertainties that are greater than those presented by other claims.
Estimating the ultimate cost of both reported and unreported APMT claims is
subject to a higher degree of variability due to a number of additional
factors, including among others:  
    
    coverage issues, including whether certain costs are covered under
the policies and whether policy limits apply;
    
    inconsistent court decisions and developing legal theories;
    
    increasingly aggressive tactics of plaintiffs lawyers;
    
    the risks and lack of predictability inherent in major litigation;
    
    changes in the volume of asbestos and environmental pollution and
mass tort claims which cannot now be anticipated;
    
    continued increase in mass tort claims relating to silica and
silica-containing products;
    
    the impact of the exhaustion of primary limits and the resulting
increase in claims on any umbrella or excess policies the Company has
issued;
    
    the number and outcome of direct actions against the Company; and
    
    the Companys ability to recover reinsurance for asbestos and
environmental pollution and mass tort claims. It is also not possible to predict changes in the legal and legislative
environment and the impact on the future development of APMT claims. This
development will be affected by future court decisions and interpretations, as
well as changes in applicable legislation. It is difficult to predict the
ultimate outcome of large coverage disputes until settlement negotiations near
completion and significant legal questions are resolved or, failing settlement,
until the dispute is adjudicated. This is particularly the case with
policyholders in bankruptcy where negotiations often involve a large number of
claimants and other parties and require court approval to be effective. A
further uncertainty exists as to whether a national 48




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued privately financed trust to replace litigation of asbestos claims with payments
to claimants from the trust will be established and approved through federal
legislation, and, if established and approved, whether it will contain funding
requirements in excess of the Companys carried loss reserves. Due to the factors described above, among others, establishing reserves for
APMT claim and claim adjustment expenses is subject to uncertainties that are
greater than those presented by other claims. Traditional actuarial methods
and techniques employed to estimate the ultimate cost of claims for more
traditional property and casualty exposures are less precise in estimating
claim and claim adjustment reserves for APMT, particularly in an environment of
emerging or potential claims and coverage issues that arise from industry
practices and legal, judicial and social conditions. Therefore, these
traditional actuarial methods and techniques are necessarily supplemented with
additional estimating techniques and methodologies, many of which involve
significant judgments that are required of management. Due to the inherent
uncertainties in estimating reserves for APMT claim and claim adjustment
expenses and the degree of variability due to, among other things, the factors
described above, the Company may be required to record material changes in its
claim and claim adjustment expense reserves in the future, should new
information become available or other developments emerge. See the APMT
Reserves section of this MD&A for additional information relating to APMT
claims and reserves. The Companys recorded Insurance Reserves, including APMT reserves, reflect
managements best estimate as of a particular point in time based upon known
facts, current law and managements judgment. In light of the many
uncertainties associated with establishing the estimates and making the
assumptions necessary to establish reserve levels, the Company reviews its
reserve estimates on a regular basis and makes adjustments in the period that
the need for such adjustments is determined. These reviews have resulted in
the Company identifying information and trends that have caused the Company to
increase its reserves in prior periods and could lead to the identification of
a need for additional material increases in claim and claim adjustment expense
reserves, which could materially adversely affect the Companys results of
operations, equity, business, insurer financial strength and debt ratings (see
the Ratings section of this MD&A). Reinsurance CNA assumes and cedes reinsurance with other insurers, reinsurers and members
of various reinsurance pools and associations. CNA utilizes reinsurance
arrangements to limit its maximum loss, provide greater diversification of
risk, minimize exposures on larger risks and to exit certain lines of business.
The ceding of insurance does not discharge the primary liability of the
Company. Therefore, a credit exposure exists with respect to property and
casualty and life reinsurance ceded to the extent that any reinsurer is unable
to meet the obligations assumed under reinsurance agreements. Interest cost on reinsurance contracts accounted for on a funds withheld basis
is incurred during all periods in which a funds withheld liability exists.
Interest cost, which is included in net investment income, was $50 million and
$47 million for the three months ended March 31, 2004 and 2003. The amount
subject to interest crediting rates on such contracts was $2,732 million and
$2,789 million at March 31, 2004 and December 31, 2003. Certain funds withheld
reinsurance contracts, including the corporate aggregate reinsurance treaties,
require interest on additional premiums arising from ceded losses as if those
premiums were payable at the inception of the contract. The amount subject to interest crediting on these funds withheld contracts will
vary over time based on a number of factors, including the timing of loss
payments and ultimate gross losses incurred. The Company expects that it will
continue to incur significant interest costs on these contracts for several
years. 49




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Amounts receivable from reinsurers were $14,829 million and $16,254 million at
March 31, 2004 and December 31, 2003. Of these amounts, $642 million and $813
million were billed to reinsurers as of March 31, 2004 and December 31, 2003,
as reinsurance contracts generally require payment of claims by the ceding
company before the amount can be billed to the reinsurer. The remaining
receivable relates to the estimated case and incurred but not
reported (IBNR) reserves and future
policyholder benefits ceded under reinsurance contracts. In certain circumstances, including significant deterioration of a reinsurers
financial strength ratings, the Company may engage in commutation discussions
with individual reinsurers. The outcome of such discussions may result in a
lump sum settlement that is less than the recorded receivable, net of any
applicable allowance for doubtful accounts. Losses arising from commutations
could have an adverse material impact on the Companys results of operations. The Company has established an allowance for doubtful accounts to provide for
estimated uncollectible reinsurance receivables. The allowance for doubtful
accounts was $591 million and $573 million at March 31, 2004 and December 31,
2003. While the Company believes the allowance for doubtful accounts is
adequate based on existing collateral and information currently available,
failure of reinsurers to meet their obligations could have a material adverse
impact on CNAs results of operations and equity. The Company attempts to mitigate its credit risk related to reinsurance by
entering into reinsurance arrangements only with reinsurers that have credit
ratings above certain levels and by obtaining substantial amounts of
collateral. The primary methods of obtaining collateral are through
reinsurance trusts, letters of credit and funds withheld balances. The Company has an aggregate reinsurance treaty related to the 1999 through
2001 accident years that covers substantially all of the Companys property and
casualty lines of business (the Aggregate Cover). The Aggregate Cover provides
for two sections of coverage. These coverages attach at defined loss ratios
for each accident year. Coverage under the first section of the Aggregate
Cover, which is available for all accident years covered by the treaty, has a
$500 million limit per accident year of ceded losses and an aggregate limit of
$1 billion of ceded losses for the three accident years. The ceded premiums
associated with the first section are a percentage of ceded losses and for each
$500 million of limit the ceded premium is $230 million. The second section of
the Aggregate Cover, which only relates to accident year 2001, provides
additional coverage of up to $510 million of ceded losses for a maximum ceded
premium of $310 million. Under the Aggregate Cover, interest charges on the
funds withheld liability accrue at 8% per annum. The aggregate loss ratio for
the three-year period has exceeded certain thresholds which requires additional
premiums to be paid and an increase in the rate at which interest charges are
accrued. This rate will increase to 8.25% per annum commencing in 2006. The
aggregate limits under both sections of the Aggregate Cover have been fully
utilized through 2003. Included in the pretax results of operations for the
three months ended March 31, 2004 and 2003 was $20 million and $13 million of
interest charges from the Aggregate Cover. In 2001, the Company entered into a one-year aggregate reinsurance treaty
related to the 2001 accident year covering substantially all property and
casualty lines of business in the Continental Casualty Company pool (the CCC
Cover). The loss protection provided by the CCC Cover has an aggregate limit
of approximately $761 million of ceded losses. The ceded premiums are a
percentage of ceded losses. The ceded premium related to full utilization of
the $761 million of limit is $456 million. The CCC Cover provides continuous
coverage in excess of the second section of the Aggregate Cover discussed
above. Under the CCC Cover, interest charges on the funds withheld generally
accrue at 8% per annum. The interest rate increases to 10% per annum if the
aggregate loss ratio exceeds certain thresholds. If the aggregate loss ratio
would exceed these certain thresholds, then additional interest charges on
funds withheld would be approximately $29 million in 2004. During 2003, the
aggregate limits under the CCC 50




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Cover were fully utilized. Included in the pretax results of operations for
the three months ended March 31, 2004 and 2003 was $11 million and $8 million
of interest charges from the CCC Cover. Terrorism Insurance CNA and the insurance
industry incurred substantial losses related to the
September 11, 2001
World Trade Center Disaster and related events. For the most part, the industry was able to
absorb the loss of capital from these losses, but the capacity to withstand the
effect of any additional terrorism events was significantly diminished. The Terrorism Risk Insurance Act of 2002 (the Act) established a program within
the Department of the Treasury under which the federal government will share
the risk of loss by commercial property and casualty insurers arising from
future terrorist attacks. The Act expires on December 31, 2005. Each
participating insurance company must pay a deductible, ranging from 7% of
direct earned premiums from commercial insurance lines in 2003 to 15% in 2005,
before federal government assistance becomes available. For losses in excess
of a companys deductible, the federal government will cover 90% of the excess
losses, while companies retain the remaining 10%. Losses covered by the
program will be capped annually at $100 billion; above this amount, insurers
are not liable for covered losses and Congress is to determine the procedures
for and the source of any payments. Amounts paid by the federal government
under the program over certain phased limits are to be recouped by the
Department of the Treasury through policy surcharges, which cannot exceed 3% of
annual premium. The Company is required to participate in the program, but it does not cover
life or health insurance products. State law limitations applying to premiums
and policies for terrorism coverage are not generally affected under the
program. The Act requires insurers to offer terrorism coverage through 2004.
The Secretary of the Department of the Treasury has discretion to extend this
offer requirement until December 31, 2005. While the Act provides the property and casualty industry with an increased
ability to withstand the effect of a terrorist event through 2005, given the
unpredictability of the nature, targets, severity or frequency of potential
terrorist events, the Companys results of operations or equity could
nevertheless be materially adversely impacted by them. The Company is
attempting to mitigate this exposure through its underwriting practices, policy
terms and conditions (where applicable) and the use of reinsurance. In
addition, under state laws, the Company is generally prohibited from excluding
terrorism exposure from its primary workers compensation, individual life and
group life and health policies. In those states that mandate property
insurance coverage of damage from fire following a loss, the Company is also
prohibited from excluding terrorism exposure under such coverage. Reinsurers obligations for terrorism-related losses under reinsurance
agreements are not covered by the Act. The Companys assumed reinsurance
arrangements,beginning with the January 1, 2002 renewal period, either exclude
terrorism coverage or significantly limit the level of coverage. Restructuring As discussed in the Companys 2003 Form 10-K, the Company continues to manage
the liabilities from two separate restructuring plans. The first plan related
to the Companys Information Technology operations (the IT Plan). The second
plan related to restructuring the property and casualty segments and the former
Life Operations, discontinuation of the variable life and annuity business and
consolidation of real estate locations (the 2001 Plan). 51




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued No restructuring and other related charges related to the IT Plan were incurred
for the three months ended March 31, 2004 and 2003. During the first three
months of 2004, $1 million in payments were charged against the liability. As
of March 31, 2004, the accrued liability relating to employee termination and
related benefit costs was $3 million. The remaining accrual is expected to be
paid through 2004. No restructuring and other related charges related to the 2001 Plan were
incurred for the three months ended March 31, 2004 and 2003. During the first
three months of 2004, $4 million in payments for lease termination costs were
charged against the liability. As of March 31, 2004, the accrued liability,
relating primarily to lease termination costs, was $16 million. Of the
remaining accrual, approximately $5 million is expected to be paid in 2004. Non-GAAP Financial Measures This MD&A discusses certain GAAP and non-GAAP financial measures to provide
information used by management to monitor the Companys operating performance.
Management utilizes various financial measures to monitor the Companys
insurance operations and investment portfolio. Underwriting results, which are
derived from certain income statement amounts, are considered non-GAAP
financial measures and are used by management to monitor performance of the
Companys insurance operations. The Companys investment portfolio is
monitored through analysis of various quantitative and qualitative factors and
certain decisions are made related to the sale or impairment of investments
that will produce realized gains and losses. Net realized investment gains and
losses, which are comprised of after-tax realized investment gains and losses
net of participating policyholders and minority interests are a non-GAAP
financial measure. Underwriting results are computed as net earned premiums less net incurred
claims and the cost incurred to settle these claims, acquisition expenses,
underwriting expenses and dividend expenses. Management uses underwriting
results and operating ratios to monitor its insurance operations results
without the impact of certain factors, including investment income, other
revenues, other expenses, minority interest, income tax benefit (expense) and
net realized investment gains or losses. Management excludes these factors in
order to analyze the direct relationship between the net earned premiums and
the related claims and the cost incurred to settle these claims, acquisition
expenses, underwriting expenses and dividend expenses. Management excludes after-tax net realized investment gains or losses when
analyzing the insurance operations because net realized investment gains or
losses related to the Companys available-for-sale investment portfolio are
largely discretionary, except for losses related to other-than-temporary
impairments, and are generally driven by economic factors that are not
necessarily consistent with key drivers of underwriting performance. Operating ratios are calculated using insurance results and are used by the
insurance industry and regulators such as state departments of insurance and
the National Association of Insurance Commissioners for financial regulation
and as a basis of comparison among companies. The ratios discussed in this
MD&A are calculated using GAAP financial results and include the loss and loss
adjustment expense ratio (loss ratio) as well as the expense, dividend and
combined ratios. The loss ratio is the percentage of net incurred claim and
claim adjustment expenses to net earned premiums. The expense ratio is the
percentage of underwriting and acquisition expenses, including the amortization
of deferred acquisition costs, to net earned premiums. The dividend ratio is
the ratio of dividends incurred to net earned premiums. The combined ratio is
the sum of the loss, expense and dividend ratios. 52




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued The Companys investment portfolio is monitored by management through analyses
of various factors including unrealized gains and losses on securities,
portfolio duration and exposure to interest rate, market and credit risk.
Based on such analyses, the Company may impair an investment security in
accordance with its policy, or sell a security. Such activities will produce
realized gains and losses. While management uses various non-GAAP financial measures to monitor various
aspects of the Companys performance, relying on any measure other than net
income (loss), which is the most directly comparable GAAP measure to
underwriting results and realized gains and losses, is not a complete
representation of financial performance. Management believes that its process
of evaluating performance through the use of these non-GAAP financial measures
provides a basis for understanding the operations and the impact to net income
(loss) as a whole. Management also believes that investors find these non-GAAP
financial measures described above useful to help interpret the underlying
trends and performance, as well as to provide visibility into the significant
components of net income (loss). 53




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Throughout this MD&A, certain business segment results are discussed using
underwriting results, which as described above is a non-GAAP measure. The
following reconciliation provides the differences between Underwriting Income
(Loss) and Net Income. Reconciliation of Underwriting Income (Loss) to Net Income Three months ended
    
    Standard
    
    Specialty
    
    Corporate andMarch 31, 2004
    
    Lines
    
    Lines
    
    Other Non-Core(In millions)Underwriting income (loss)
    
    $
    3
    
    
    $
    53
    
    
    $
    (30
    )Net investment income
    
    
    138
    
    
    
    62
    
    
    
    67Other revenues
    
    
    40
    
    
    
    25
    
    
    
    (17
    )Other expenses
    
    
    (31
    )
    
    
    (27
    )
    
    
    (22
    )Income (loss) before income tax (expense) benefit, minority interest and net
realized investment gains (losses)
    
    
    150
    
    
    
    113
    
    
    
    (2
    )Income tax (expense) benefit
    
    
    (34
    )
    
    
    (34
    )
    
    
    2Minority interest
    
    
    (2
    )
    
    
    (4
    )
    
    
    Income (loss) before net realized investment gains
    
    
    114
    
    
    
    75
    
    
    
    Realized investment gains, net of participating policyholders and minority interest
    
    
    57
    
    
    
    20
    
    
    
    27Income tax expense on realized investment gains
    
    
    (19
    )
    
    
    (7
    )
    
    
    (10
    )Net income
    
    $
    152
    
    
    $
    88
    
    
    $
    17
 Reconciliation of Underwriting Income (Loss) to Net IncomeThree months ended
    
    Standard
    
    Specialty
    
    Corporate andMarch 31, 2003
    
    Lines
    
    Lines
    
    Other Non-Core(In millions)Underwriting income (loss)
    
    $
    (87
    )
    
    $
    21
    
    
    $
    (14
    )Net investment income
    
    
    129
    
    
    
    49
    
    
    
    51Other revenues
    
    
    71
    
    
    
    17
    
    
    
    (21
    )Other expenses
    
    
    (63
    )
    
    
    (13
    )
    
    
    (3
    )Income before income tax expense, minority interest and net realized investment
gains (losses)
    
    
    50
    
    
    
    74
    
    
    
    13Income tax expense
    
    
    (5
    )
    
    
    (24
    )
    
    
    (2
    )Minority interest
    
    
    (1
    )
    
    
    (2
    )
    
    
    Income before net realized investment gains (losses)
    
    
    44
    
    
    
    48
    
    
    
    11Realized investment gains , net of participating policyholders and minority interest
    
    
    7
    
    
    
    3
    
    
    
    18Income tax expense benefit on realized investment gains
    
    
    (4
    )
    
    
    (1
    )
    
    
    (4
    )Net income
    
    $
    47
    
    
    $
    50
    
    
    $
    25
 54




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued SEGMENT RESULTS The following discusses the results of operations for the Companys operating
segments. Prior period segment disclosures have been presented in conformity
with the revised segment classification. STANDARD LINES Business Overview Standard Lines works with an independent agency distribution system and network
of brokers to market a broad range of property and casualty insurance products
and services to small, middle-market and large businesses. The Standard Lines
operating model focuses on underwriting performance, relationships with
selected distribution sources and understanding customer needs. CNA Global (formerly included in Specialty Lines), which consists of marine and
global standard lines, was combined into Standard Lines in the new segment
presentation. Standard Lines now includes Property and Casualty and CNA Global. Propertyprovides standard and excess property coverage, as well as boiler &
machinery to a wide range of businesses. Casualtyprovides standard casualty insurance products such as workers
compensation, general and product liability, and commercial auto coverage
through traditional and advanced financial risk products to a wide range of
businesses. The majority of Casualty customers are small and middle-market
businesses, with less than $1 million in annual insurance premiums. Most
insurance programs are provided on a guaranteed cost basis; however, Casualty
has the capability to offer specialized, loss-sensitive insurance programs to
those customers viewed as higher risk and less predictable in exposure. Excess & Surplus (E&S) is included in Casualty. E&S provides specialized
insurance and other financial products for selected commercial risks on both an
individual customer and program basis. Customers insured by E&S are generally
viewed as higher risk and less predictable in exposure than those covered by
standard insurance markets. E&Ss products are distributed throughout the
United States through specialist producers, program agents, and P&Cs agents
and brokers. E&S has specialized underwriting and claim resources in Chicago,
New York, Denver and Columbus. Property and Casualtysfield structure consists of 33 branch locations across
the country organized into 5 regions. Each branch provides the marketing,
underwriting and risk control expertise on the entire portfolio of products.
In addition, these branches provide streamlined claim services utilizing the
same regional structure. The Centralized Processing Operation for small and
middle-market customers, located in Maitland, Florida, handles policy
processing and accounting, and also acts as a call center to optimize customer
service. Also, Standard Lines, primarily through a wholly owned subsidiary,
ClaimPlus, Inc., a third party administrator, began providing total risk
management services relating to claim services, risk control, cost management
and information services to the large commercial insurance marketplace in 2003. CNA Globalconsists of Marine and Global Standard Lines. Marine serves domestic and global ocean marine needs, with markets extending
across North America, Europe and throughout the world. Marine offers hull,
cargo, primary and excess marine liability, marine 55




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CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued claims and recovery products and services. Business is sold through national
brokers, regional marine specialty brokers and independent agencies. Global Standard Lines is responsible for coordinating and managing the direct
business of CNAs overseas property and casualty operations. This business
identifies and capitalizes on strategic indigenous opportunities and currently
has operations in Hawaii, Europe, Latin America and Canada. The following table summarizes the results of operations for Standard Lines. Results of Operations For the three months ended March 31
    
    2004
    
    2003(In millions)Net written premiums
    
    $
    1,265
    
    
    $
    1,273Net earned premiums
    
    
    1,258
    
    
    
    1,219Underwriting income (loss)
    
    
    3
    
    
    
    (87
    )Income before net realized investment gains
    
    
    114
    
    
    
    44Net realized investment gains
    
    
    38
    
    
    
    3Net income
    
    
    152
    
    
    
    47RatiosLoss and loss adjustment expense
    
    
    65.5
    %
    
    
    73.3
    %Expense
    
    
    33.5
    
    
    
    32.7Dividend
    
    
    0.7
    
    
    
    1.2Combined
    
    
    99.7
    %
    
    
    107.2
    %
 Three Month Comparison Net income increased $105 million for the three months ended March 31, 2004 as
compared with the same period in 2003. This improvement was driven by improved
underwriting results, and increased net realized investment results. See the
Investments section of this MD&A for further discussion on net investment
income and net realized investment gains. Net written premiums for Standard Lines decreased $8 million for the three
months ended March 31, 2004 as compared with the same period in 2003. Net
earned premiums increased $39 million for the three months ended March 31, 2004
as compared with the same period in 2003. This improvement in earned premium
was primarily driven by increased rate and retention across most property and
casualty lines of business partially offset by decreased net earned premium
from an E&S program covering facilities which provide services to
developmentally disabled individuals. Standard Lines averaged rate increases of 6-7% and 20% for the three months
ended March 31, 2004 and 2003 for the contracts that renewed during the period.
Retention rates of 74% and 71% were achieved for those contracts that were up
for renewal. Competitive market pressures are expected to contribute to the
moderation in rate increases as the property and casualty market pricing
continues to soften. Underwriting results improved by $90 million and the combined ratio decreased
7.5 points for the three months ended March 31, 2004 as compared with the same
period in 2003. The loss ratio decreased 7.8 points due to improvement in the
current net accident year loss ratio and decreased unfavorable net prior year
development of $45 million. Favorable net prior year development of $18
million was recorded for the three months ended March 31, 2004, including $2
million of favorable claim and allocated claim adjustment expense reserve
development and $16 million of favorable premium development. Unfavorable net
prior year development of $27 million, including $68 million of unfavorable
claim and 56




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CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued allocated claim adjustment expense reserve development and $41 million of
favorable premium development, was recorded for the same period in 2003. The
gross carried claim and claim adjustment expense reserves for Standard Lines
were $14,134 million and $14,282 million at March 31, 2004 and December 31,
2003. The net carried claim and claim adjustment expense reserves were $8,903
million and $8,967 million at March 31, 2004 and December 31, 2003. The expense ratio increased 0.8 points primarily due to an increase in the bad
debt provision for insurance receivables of $15 million. The increase in the
bad debt provision for insurance receivables was primarily the result of
continued deterioration of Professional Employer Organization (PEO) accounts as
well as certain accounts that were turned over to third parties for collection
during 2003. During 2002, Standard Lines ceased writing coverages for PEO
businesses, with the last contracts expiring on June 30, 2003, but Standard
Lines continues to have credit risk related to its PEO related receivables.
Partially offsetting this increase was lower underwriting expenses. SPECIALTY LINES Business Overview Specialty Lines provides professional, financial and specialty property and
casualty products and services through a network of brokers, managing general
underwriters and independent agencies. Specialty Lines provides solutions for
managing the risks of its clients, including architects, engineers, lawyers,
healthcare professionals, financial intermediaries and corporate directors and
officers. Product offerings also include surety and fidelity bonds and vehicle
and equipment warranty services. Specialty Lines includes the following business groups: Professional Liability
Insurance, Surety and Warranty. Professional Liability Insurance(CNA Pro) provides management and professional
liability insurance and risk management services, primarily in the United
States. This unit provides professional liability coverages to various
professional firms, including architects and engineers, realtors, non-Big Four
accounting firms, law firms and technology firms. CNA Pro also has market
positions in directors and officers, errors and omissions, employment
practices, fiduciary and fidelity coverages. Specific areas of focus include
larger firms as well as privately held firms and not-for-profit organizations
where CNA offers tailored products for this client segment. Products within
CNA Pro are distributed through brokers, agents and managing general
underwriters. CNA Pro, through CNA HealthPro, also offers insurance products to serve the
healthcare delivery system. Products are distributed on a national basis
through a variety of channels including brokers, agents and managing general
underwriters. Key customer segments include long term care facilities, allied
healthcare providers, life sciences, dental professionals and mid-size and
large healthcare facilities and delivery systems. Additionally, CNA HealthPro
offers risk management consulting services to assist customers in managing
quality of care risks associated with the delivery of healthcare. Claim
services are provided to manage and resolve claims. Suretyconsists primarily of CNA Surety and its insurance subsidiaries and
offers small, medium and large contract and commercial surety bonds. CNA
Surety provides surety and fidelity bonds in all 50 states through a combined
network of approximately 34,000 independent agencies. CNA owns approximately
64% of CNA Surety. 57




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Warrantyprovides warranty service contracts that protect individuals and
businesses from the financial burden associated with breakdown,
under-performance or maintenance of a product. Warrantys business activities
are primarily performed through a wholly owned subsidiary, CNA National
Warranty Corporation, which sells vehicle service contracts in the United
States and Canada. The following table summarizes the results of operations for Specialty Lines. Results of Operations For the three months ended March 31
    
    2004
    
    2003(In millions)Net written premiums
    
    $
    581
    
    
    $
    476Net earned premiums
    
    
    529
    
    
    
    428Underwriting income
    
    
    53
    
    
    
    21Income before net realized investment gains
    
    
    75
    
    
    
    48Net realized investment gains
    
    
    13
    
    
    
    2Net income
    
    
    88
    
    
    
    50RatiosLoss and loss adjustment expense
    
    
    63.1
    %
    
    
    66.3
    %Expense
    
    
    26.4
    
    
    
    28.6Dividend
    
    
    0.4
    
    
    
    0.1Combined
    
    
    89.9
    %
    
    
    95.0
    %
 Three Month Comparison Net income increased $38 million for the three months ended March 31, 2004 as
compared with the same period in 2003. This improvement was driven primarily
by improved underwriting results, increased net investment income, and
increased net realized investment results. See the Investments section of this
MD&A for further discussion on net investment income and net realized gains. Net written premiums for Specialty Lines increased $105 million and net earned
premiums increased $101 million for the three months ended March 31, 2004 as
compared with the same period in 2003. These increases were driven by
production of new business and continuing significant rate increases in the
professional liability lines of business. Specialty Lines averaged rate increases of 13% and 38% for the three months
ended March 31, 2004 and 2003 for the contracts that renewed during the period.
Retention rates of 83% and 79% were achieved for those contracts that were up
for renewal. CNA expects that rate increases will moderate as competition
for premiums increases in these lines of business. Underwriting results improved by $32 million and the combined ratio decreased
5.1 points for the three months ended March 31, 2004 as compared with the same
period in 2003. The loss ratio decreased 3.2 points due principally to
improvement in the current net accident year loss ratio. Unfavorable net prior
year development was not significant for the three months ended March 31, 2004.
Favorable net prior year development of $12 million, including $2 million of
favorable claim and allocated claim adjustment expense development
and $10 million of favorable premium development, was recorded for the same period in
2003. The gross carried claim and claim adjustment expense reserves for
Specialty Lines were $4,287 million and $4,200 million at March 31, 2004 and
December 31, 2003. The net carried claim and claim adjustment expense reserves
were $2,976 million and $2,919 million at March 31, 2004 and December 31, 2003. 58




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued The expense ratio decreased 2.2 points due primarily to the significant
increase in the net earned premium base and lower expenses as a result of the
2003 expense initiative. LIFE AND GROUP NON-CORE Business Overview Group Operations and Life Operations (formerly separate reportable segments)
have now been combined into one reportable segment where the operating results
from the run-off of the retained group and life products will be reported as
Life and Group Non-Core. Additionally, certain run-off life and group
operations including group reinsurance are now included in the Life and Group
Non-Core segment. The segment results include the results of the individual
life business anticipated to be sold. Life and Group Non-Core includes the following lines of business: Life &
Annuity, Health and Other. Life & Annuityconsists primarily of individual term, universal life and
permanent life insurance products, as well as individual annuity products. In
February of 2004, CNA entered into a definitive agreement to sell the
individual life business as described in the Consolidated Operations section of
this MD&A. Healthconsists primarily of group long term care, individual long term care
and specialty medical products and related services. CNA is continuing to
service its existing group and individual long term care commitments and is
managing these businesses as a run-off operation. Otherconsists primarily of traditional and synthetic guaranteed investment
contracts, indexed group annuity contracts, group reinsurance, structured
settlements, life settlement contracts and group annuities. These businesses are being managed as a
run-off operation and are accepting new deposits from
existing customers
on a limited number of these products. The following table summarizes the results of operations for Life and Group
Non-Core. Results of OperationsFor the three months ended March 31
    
    2004
    
    2003(In millions)Net earned premiums
    
    $
    326
    
    
    $
    586Income before net realized investment losses
    
    
    19
    
    
    
    29Net realized investment losses
    
    
    (401
    )
    
    
    (68
    )Net loss
    
    
    (382
    )
    
    
    (39
    )
 Three Month Comparison Net earned premiums for Life and Group Non-Core decreased $260 million in the
first quarter of 2004 as compared with the same period in 2003. The decrease
in net earned premiums was due primarily to the absence of premiums from the
Group Benefits and group reinsurance businesses. The Group Benefits business
was sold on December 31, 2003. Partially offsetting these declines were higher
earned premiums in the health and life and annuity products. Net results decreased $343 million in the first quarter of 2004 as compared
with the same period in 2003. The decrease in net results related primarily to
increased net realized investment losses, including an estimated impairment
loss of $569 million pretax ($406 million after-tax) related to the pending
sale of the individual life insurance business. Net results also decreased due
to the absence of favorable results 59




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued from the Group Benefits business and first quarter of 2004 unfavorable results
in the occupational accident product, partially offset by favorable results in
the institutional markets, life settlement and life and annuity products. CORPORATE AND OTHER NON-CORE Business Overview Corporate and Other Non-Core includes the results of the property and casualty
lines of business placed in run-off. This segment also includes the results
related to the centralized adjusting and settlement of APMT claims as well as
the results of CNAs participation in voluntary insurance pools and various
other non-insurance operations. CNA Re, formerly a separate property and casualty operating segment, is
currently in run-off and is now included in the Corporate and Other Non-Core
segment. Other operations also include interest expense on corporate borrowings and
intercompany eliminations. The following table summarizes the results of operations for the Corporate and
Other Non-Core segment, including APMT and intrasegment eliminations. Results of Operations For the three months ended March 31
    
    2004
    
    2003(In millions)Revenues
    
    $
    132
    
    
    $
    196Net income
    
    
    17
    
    
    
    25
 Three Month Comparison Revenues decreased $64 million for the three months ended March 31, 2004 as
compared with the same period in 2003. The decrease in revenues was due
primarily to reduced net earned premiums in CNA Re due to the exit of the
assumed reinsurance market in 2003. CNA Re recorded $103 million and $187
million of revenue and $21 million and $34 million of income for the three
months ended March 31, 2004 and 2003. Net income decreased $8 million for the three months ended March 31, 2004 as
compared with the same period in 2003. The decrease in net income was due
primarily to the decline in revenues as well as a $16 million after-tax ($25
million pretax) increase in the bad debt provision for reinsurance receivables.
Partially offsetting these declines was an increase in net investment income
of $16 million. Unfavorable net prior year development of $19 million was recorded for the
three months ended March 31, 2004, including $20 million of unfavorable net
prior year claim and allocated claim adjustment expense reserve development and
$1 million of favorable premium development. Unfavorable net prior year
development of $15 million was recorded for the three months ended March 31,
2003, including $30 million of unfavorable net prior year claim and allocated
claim adjustment expense reserve development and $15 million of favorable
premium development. The gross carried claim and claim adjustment expense
reserves for Corporate and Other Non-Core were $9,302 million and $9,672
million at March 31, 2004 and December 31, 2003. The net carried claim and
claim adjustment expense reserves were $3,504 million and $3,737 million at
March 31, 2004 and December 31, 2003. 60




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued APMT Reserves CNAs property and casualty insurance subsidiaries have actual and potential
exposures related to APMT claims. Establishing reserves for APMT claim and claim adjustment expenses is subject
to uncertainties that are greater than those presented by other claims.
Traditional actuarial methods and techniques employed to estimate the ultimate
cost of claims for more traditional property and casualty exposures are less
precise in estimating claim and claim adjustment expense reserves for APMT,
particularly in an environment of emerging or potential claims and coverage
issues that arise from industry practices and legal, judicial, and social
conditions. Therefore, these traditional actuarial methods and techniques are
necessarily supplemented with additional estimating techniques and
methodologies, many of which involve significant judgments that are required of
management. Accordingly, a high degree of uncertainty remains for the
Companys ultimate liability for APMT claim and claim adjustment expenses. In addition to the difficulties described above, estimating the ultimate cost
of both reported and unreported APMT claims is subject to a higher degree of
variability due to a number of additional factors, including among others: the
number and outcome of direct actions against the Company; coverage issues,
including whether certain costs are covered under the policies and whether
policy limits apply; allocation of liability among numerous parties, some of
whom may be in bankruptcy proceedings, and in particular the application of
joint and several liability to specific insurers on a risk; inconsistent
court decisions and developing legal theories; increasingly aggressive tactics
of plaintiffs lawyers; the risks and lack of predictability inherent in major
litigation; increased filings of claims in certain states to avoid the
application of tort reform statute effective dates; enactment of national
federal legislation to address asbestos claims; a further increase in
asbestos and environmental pollution claims which cannot now be anticipated;
increase in number of mass tort claims relating to silica and silica-containing
products, and the outcome of ongoing disputes as to coverage in relation to
these claims; a further increase of claims and claims payments that may exhaust
underlying umbrella and excess coverages at accelerated rates; and future
developments pertaining to the Companys ability to recover reinsurance for
asbestos and environmental pollution claims. CNA regularly performs ground up reviews of all open APMT claims to evaluate
the adequacy of the Companys APMT reserves. In performing its comprehensive
ground up analysis, the Company considers input from its professionals with
direct responsibility for the claims, inside and outside counsel with
responsibility for representation of the Company, and its actuarial staff.
These professionals review, among many factors, the policyholders present and
predicted future exposures, including such factors as claims volume, trial
conditions, prior settlement history, settlement demands and defense costs; the
impact of asbestos defendant bankruptcies on the policyholder; the policies
issued by CNA, including such factors as aggregate or per occurrence limits,
whether the policy is primary, umbrella or excess, and the existence of
policyholder retentions and/or deductibles; the existence of other insurance;
and reinsurance arrangements. With respect to other court cases and how they might affect the Companys
reserves and reasonable possible losses, the following should be noted. State
and federal courts issue numerous decisions each year, which potentially impact
losses and reserves in both a favorable and unfavorable manner. Examples of
favorable developments include decisions to allocate defense and indemnity
payments in a manner so as to limit carriers obligations to damages taking
place during the effective dates of their policies; decisions holding that
injuries occurring after asbestos operations are completed are subject to the
completed operations aggregate limits of the policies; and decisions ruling
that carriers loss control inspections of their insureds premises do not give
rise to a duty to warn third parties to the dangers of asbestos. 61




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Examples of unfavorable developments include decisions limiting the application
of the absolute pollution exclusion and decisions holding carriers liable for
defense and indemnity of asbestos and pollution claims on a joint and several
basis. The Companys ultimate liability for its environmental pollution and mass tort
claims is impacted by several factors including ongoing disputes with
policyholders over scope and meaning of coverage terms and, in the area of
environmental pollution, court decisions that continue to restrict the scope
and applicability of the absolute pollution exclusion contained in policies
issued by the Company after 1989. Due to the inherent uncertainties described
above, including the inconsistency of court decisions, the number of waste
sites subject to cleanup, and in the area of environmental pollution, the
standards for cleanup and liability, the ultimate liability of CNA for
environmental pollution and mass tort claims may vary substantially from the
amount currently recorded. Due to the inherent uncertainties in estimating reserves for APMT claim and
claim adjustment expenses and due to the significant uncertainties previously
described related to APMT claims, the ultimate liability for these cases, both
individually and in aggregate, may exceed the recorded reserves. Any such
potential additional liability, or any range of potential additional amounts,
cannot be reasonably estimated currently, but could be material to the
Companys business, results of operations, equity, and insurer financial
strength and debt ratings. Due to, among other things, the factors described
above, it may be necessary for the Company to record material changes in its
APMT claim and claim adjustment expense reserves in the future, should new
information become available or other developments emerge. The following table provides data related to CNAs APMT claim and claim
adjustment expense reserves. Asbestos and Environmental Pollution and Mass Tort Reserves March 31, 2004
    
    December 31, 2003Environmental
    
    
    
    
    
    EnvironmentalPollution and
    
    
    
    
    
    Pollution andAsbestos
    
    Mass Tort
    
    Asbestos
    
    Mass Tort(In millions)Gross reserves
    
    $
    3,262
    
    
    $
    801
    
    
    $
    3,347
    
    
    $
    839Ceded reserves
    
    
    (1,550
    )
    
    
    (260
    )
    
    
    (1,580
    )
    
    
    (262
    )Net reserves
    
    $
    1,712
    
    
    $
    541
    
    
    $
    1,767
    
    
    $
    577
 Asbestos CNAs property and casualty insurance subsidiaries have exposure to
asbestos-related claims. Estimation of asbestos-related claim and claim
adjustment expense reserves involves limitations such as inconsistency of court
decisions, specific policy provisions, allocation of liability among insurers
and insureds, and additional factors such as missing policies and proof of
coverage. Furthermore, estimation of asbestos-related claims is difficult due
to, among other reasons, the proliferation of bankruptcy proceedings and
attendant uncertainties, the targeting of a broader range of businesses and
entities as defendants, the uncertainty as to which other insureds may be
targeted in the future and the uncertainties inherent in predicting the number
of future claims. In the past several years, CNA has experienced significant increases in claim
counts for asbestos-related claims. The factors that led to these increases
included, among other things, intensive advertising campaigns by lawyers for
asbestos claimants, mass medical screening programs sponsored by plaintiff
lawyers, and the addition of new defendants such as the distributors and
installers of products containing 62




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued asbestos. The majority of asbestos bodily injury claims are filed by persons
exhibiting few, if any, disease symptoms. Recent studies have concluded that
the percentage of unimpaired claimants to total claimants ranges between 66%
and up to 90%. Some courts, including the federal district court responsible
for pre-trial proceedings in all federal asbestos bodily injury actions, have
ordered that so-called unimpaired claimants may not recover unless at some
point the claimants condition worsens to the point of impairment. Several factors are, in managements view, negatively impacting asbestos claim
trends. Plaintiff attorneys who previously sued entities who are now bankrupt
are seeking other viable targets. As a result, companies with few or no
previous asbestos claims are becoming targets in asbestos litigation and,
although they may have little or no liability, nevertheless must be defended.
Additionally, plaintiff attorneys and trustees for future claimants are
demanding that policy limits be paid lump-sum into the bankruptcy asbestos
trusts prior to presentation of valid claims and medical proof of these claims.
The ultimate impact or success of this tactic remains uncertain. Plaintiff
attorneys and trustees for future claimants are also attempting to devise
claims payment procedures for bankruptcy trusts that would allow asbestos
claims to be paid under lax standards for injury, exposure, and causation.
This also presents the potential for exhausting policy limits in an accelerated
fashion. As a result of bankruptcies and insolvencies, management has observed an
increase in the total number of policyholders with current asbestos claims as
additional defendants are added to existing lawsuits and are named in new
asbestos bodily injury lawsuits. New asbestos bodily injury claims have also
increased substantially in 2003. New asbestos bodily injury claims increased
substantially in 2003, but the rate of increase has moderated in the first
quarter of 2004. As of March 31, 2004 and December 31, 2003, CNA carried approximately $1,712
million and $1,767 million of claim and claim adjustment expense reserves, net
of reinsurance recoverables, for reported and unreported asbestos-related
claims. There was $9 million of unfavorable asbestos-related net claim and
claim adjustment expense reserve development for the three months ended March
31, 2004 and no asbestos-related net claim and claim adjustment expense reserve
development for the same period in 2003. The Company paid asbestos-related
claims, net of reinsurance recoveries, of $64 million and $39 million for the
three months ended March 31, 2004 and 2003. The Company has resolved a number of its large asbestos accounts by negotiating
settlement agreements. Structured settlement agreements provide for payments
over multiple years as set forth in each individual agreement. At March 31,
2004, CNA had ten structured settlement agreements with a reserve of $175
million, net of reinsurance. As to the ten structured settlement agreements
existing at March 31, 2004, payment obligations under those settlement
agreements are projected to terminate in 2016. At December 31, 2003, CNA had
structured settlement agreements with nine of its policyholders for which it
has future payment obligations with a reserve, net of reinsurance, of $188
million related to remaining payment obligations under these agreements. In 1985, 47 asbestos producers and their insurers, including CIC, executed the
Wellington Agreement. The agreement intended to resolve all issues and
litigation related to coverage for asbestos exposures. Under this agreement,
signatory insurers committed scheduled policy limits and made the limits
available to pay asbestos claims based upon coverage blocks designated by the
policyholders in 1985, subject to extension by policyholders. CIC was a
signatory insurer to the Wellington Agreement. At March 31, 2004, with respect
to these five remaining unpaid Wellington obligations, CNA has evaluated its
exposure and the expected reinsurance recoveries under these agreements and had
a recorded reserve of $17 million, net of reinsurance. At December 31, 2003,
CNA had fulfilled its Wellington Agreement obligations as to all but five
accounts and had recorded a reserve of $23 million, net of reinsurance, related
to its remaining Wellington obligations. 63




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued CNA has also used coverage in place agreements to resolve large asbestos
exposures. Coverage in place agreements are typically agreements between CNA
and its policyholders identifying the policies and the terms for payment of
asbestos related liabilities. Claims payments are contingent on presentation
of adequate documentation showing exposure during the policy periods and other
documentation supporting the demand for claims payment. Coverage in place
agreements may have annual payment caps. Coverage in place agreements are
evaluated based on claims filings trends and severities. As of March 31, 2004,
CNA had negotiated thirty-four coverage in place agreements. The Company has
evaluated these commitments and the expected reinsurance recoveries under these
agreements and has recorded a reserve of $109 million, net of reinsurance,
related to coverage in place agreements as of March 31, 2004. As of December
31, 2003, CNA had negotiated thirty-two such agreements and had established a
reserve of $109 million, net of reinsurance. The Company categorizes active asbestos accounts as large or small accounts.
CNA defines a large account as an active account with more than $100,000 of
cumulative paid losses. The Company has made closing large accounts a
significant management priority. At March 31, 2004, the Company had 163 large
accounts and had established a reserve of $418 million, net of reinsurance. At
December 31, 2003, CNA had 160 large accounts with a collective reserve of $405
million, net of reinsurance. Large accounts are typically accounts that have
been long identified as significant asbestos exposures. In its most recent
ground up reserve study, the Company observed that underlying layers of
primary, umbrella and lower layer excess policies were exhausting at
accelerated rates due to increased claims volumes, claims severities and
increased defense expense incurred in litigating claims. Those accounts where
the Company had issued high excess policies were evaluated in the study to
determine potential impairment of the high excess layers of coverage.
Management concluded that high excess coverage previously thought not to be
exposed could potentially be exposed should current adverse claim trends
continue. Small accounts are defined as active accounts with $100,000 or less cumulative
paid losses. At March 31, 2004, the Company had 1,081 small accounts,
approximately 84% of its total active asbestos accounts, with reserves of $158
million, net of reinsurance. At December 31, 2003, CNA had 1,065 small
accounts and established a reserve of $147 million, net of reinsurance. Small
accounts are typically representative of policyholders with limited connection
to asbestos. As entities which were historic targets in asbestos litigation
continue to file for bankruptcy protection, plaintiffs attorneys are seeking
other viable targets. As a result, companies with few or no previous asbestos
claims are becoming targets in asbestos litigation and nevertheless must be
defended by CNA under its policies. As claims filings continue to increase,
costs incurred in defending small accounts are expected to increase. The Company also evaluates its asbestos liabilities arising from its assumed
reinsurance business and its participation in various pools. At March 31,
2004, CNAs reserve was $156 million, net of reinsurance, related to these
liabilities. At December 31, 2003, CNA had recorded a $157 million reserve
related to these asbestos liabilities arising from the Companys assumed
reinsurance obligations and CNAs participation in pools, including Excess &
Casualty Reinsurance Association (ECRA). At March 31, 2004, the
unassigned IBNR reserve was $625 million, net of
reinsurance. At December 31, 2003, CNAs unassigned IBNR reserve for asbestos was $684 million, net of reinsurance. This IBNR
reserve relates to potential development on accounts that have not settled and
potential future claims from unidentified policyholders. The tables below depict CNAs overall pending asbestos accounts and associated
reserves at March 31, 2004 and December 31, 2003. 64




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Pending Asbestos Accounts and Associated Reserves Net paid losses
    
    Net Asbestos
    
    Percent ofNumber of
    
    in 2004
    
    reserves
    
    AsbestosMarch 31, 2004
    
    policyholders
    
    (In millions)
    
    (In millions)
    
    Net ReservesPolicyholders with settlement agreementsStructured Settlements
    
    
    10
    
    
    $
    41
    
    
    $
    175
    
    
    
    10
    %Wellington
    
    
    5
    
    
    
    6
    
    
    
    17
    
    
    
    1Coverage in place
    
    
    34
    
    
    
    10
    
    
    
    109
    
    
    
    7Fibreboard
    
    
    1
    
    
    
    
    
    
    
    54
    
    
    
    3Total with settlement agreements
    
    
    50
    
    
    
    57
    
    
    
    355
    
    
    
    21Other policyholders with active accountsLarge asbestos accounts
    
    
    163
    
    
    
    4
    
    
    
    418
    
    
    
    24Small asbestos accounts
    
    
    1,081
    
    
    
    3
    
    
    
    158
    
    
    
    9Total other policyholders
    
    
    1,244
    
    
    
    7
    
    
    
    576
    
    
    
    33Assumed reinsurance and pools
    
    
    
    
    
    
    
    
    
    
    156
    
    
    
    9Unassigned IBNR
    
    
    
    
    
    
    
    
    
    
    625
    
    
    
    37Total
    
    
    1,294
    
    
    $
    64
    
    
    $
    1,712
    
    
    
    100
    %
 Pending Asbestos Accounts and Associated Reserves Net paid losses
    
    Net Asbestos
    
    Percent ofNumber of
    
    In 2003
    
    reserves
    
    AsbestosAt December 31, 2003
    
    policyholders
    
    (In millions)
    
    (In millions)
    
    Net ReservesPolicyholders with settlement agreementsStructured Settlements
    
    
    9
    
    
    $
    20
    
    
    $
    188
    
    
    
    11
    %Wellington
    
    
    5
    
    
    
    2
    
    
    
    23
    
    
    
    1Coverage in place
    
    
    32
    
    
    
    40
    
    
    
    109
    
    
    
    6Fibreboard
    
    
    1
    
    
    
    1
    
    
    
    54
    
    
    
    3Total with settlement agreements
    
    
    47
    
    
    
    63
    
    
    
    374
    
    
    
    21Other policyholders with active accountsLarge asbestos accounts
    
    
    160
    
    
    
    35
    
    
    
    405
    
    
    
    23Small asbestos accounts
    
    
    1,065
    
    
    
    16
    
    
    
    147
    
    
    
    8Total other policyholders
    
    
    1,225
    
    
    
    51
    
    
    
    552
    
    
    
    31Assumed reinsurance and pools
    
    
    
    
    
    
    7
    
    
    
    157
    
    
    
    9Unassigned IBNR
    
    
    
    
    
    
    
    
    
    
    684
    
    
    
    39Total
    
    
    1,272
    
    
    $
    121
    
    
    $
    1,767
    
    
    
    100
    %
 Some asbestos-related defendants have asserted that their policies issued by
CNA are not subject to aggregate limits on coverage. CNA has such claims from
a number of insureds. Some of these claims involve insureds facing exhaustion
of products liability aggregate limits in their policies, who have asserted
that their asbestos-related claims fall within so-called non-products
liability coverage contained within their policies rather than products
liability coverage, and that the claimed non-products coverage is not subject
to any aggregate limit. It is difficult to predict the ultimate size of any of
the claims for coverage purportedly not subject to aggregate limits or predict
to what extent, if any, the attempts to assert non-products claims outside
the products liability aggregate will succeed. The 65




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Company has attempted to manage its asbestos exposure by aggressively seeking
to settle claims on acceptable terms. There can be no assurance that any of
these settlement efforts will be successful, or that any such claims can be
settled on terms acceptable to CNA. Where CNA cannot settle a claim on
acceptable terms, the Company aggressively litigates the claim. Adverse
developments with respect to such matters could have a material adverse effect
on CNAs results of operations and/or equity. Certain asbestos litigation in which CNA is currently engaged is described
below: On February 13, 2003, CNA announced it had resolved asbestos related coverage
litigation and claims involving A.P. Green Industries, A.P. Green Services and
Bigelow  Liptak Corporation. Under the agreement, CNA is required to pay $74
million, net of reinsurance recoveries, over a ten year period. The settlement
resolves CNAs liabilities for all pending and future asbestos claims involving
A.P. Green Industries, Bigelow  Liptak Corporation and related subsidiaries,
including alleged non-products exposures. The settlement has received
initial bankruptcy court approval and CNA expects to procure confirmation of a
bankruptcy plan containing an injunction to protect CNA from any future claims. CNA is engaged in insurance coverage litigation with underlying plaintiffs who
have asbestos bodily injury claims against the former Robert A. Keasbey Company
(Keasbey) in New York state court (Continental Casualty Co. v. Nationwide
Indemnity Co. et al., No. 601037/03 (N.Y. County)). Keasbey, a currently
dissolved corporation, was a seller and installer of asbestos-containing
insulation products in New York and New Jersey. Thousands of plaintiffs have
filed bodily injury claims against Keasbey; however, Keasbeys involvement at a
number of work sites is a highly contested issue. Therefore, the defense
disputes the percentage of valid claims against Keasbey. CNA issued Keasbey
primary policies for 1970-1987 and excess policies for 1972-1978. CNA has paid
an amount substantially equal to the policies aggregate limits for products
and completed operations claims. Claimants against Keasbey allege, among other
things, that CNA owes coverage under sections of the policies not subject to
the aggregate limits, an allegation CNA vigorously contests in the lawsuit. CNA has insurance coverage disputes related to asbestos bodily injury claims
against Burns & Roe Enterprises, Inc. (Burns & Roe). Originally raised in
litigation, now stayed, these disputes are currently part of In re: Burns &
Roe Enterprises, Inc., pending in the U.S. Bankruptcy Court for the
District of New Jersey, No. 00-41610. Burns & Roe provided engineering and
related services in connection with construction projects. At the time of its
bankruptcy filing, Burns & Roe faced approximately 11,000 claims alleging
bodily injury resulting from exposure to asbestos as a result of construction
projects in which Burns & Roe was involved. CNA allegedly provided primary
liability coverage to Burns & Roe from 1956-1969 and 1971-1974, along with
certain project-specific policies from 1964-1970. CIC issued certain primary and excess policies to Bendix Corporation (Bendix),
now part of Honeywell International, Inc. (Honeywell). Honeywell faces
approximately 74,000 pending asbestos bodily injury claims resulting from
alleged exposure to Bendix friction products. CICs primary policies allegedly
covered the period from at least 1939 (when Bendix began to use asbestos in its
friction products) to 1983, although the parties disagree about whether CICs
policies provided product liability coverage before 1940 and from 1945 to 1956.
CIC asserts that it owes no further material obligations to Bendix under any
primary policy. Honeywell alleges that two primary policies issued by CIC
covering 1969-1975 contain occurrence limits but not product liability
aggregate limits for asbestos bodily injury claims. CIC has asserted, among
other things, even if Honeywells allegation is correct, which CNA denies, its
liability is limited to a single occurrence limit per policy or per year, and
in the alternative, a proper allocation of losses would substantially limit its
exposure under the 1969-1975 policies to asbestos claims. These and other
issues are being litigated in Continental Insurance Co., et al. v. Honeywell
International Inc., No. MRS-L-1523-00 (Morris County, New Jersey). 66




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Policyholders have also initiated litigation directly against CNA and other
insurers in four jurisdictions: Ohio, Texas, West Virginia and Montana. In the
Ohio action, plaintiffs allege the defendants negligently performed duties
undertaken to protect the public from the effects of asbestos (Varner v.
Ford Motor Co., et al. (Cuyahoga County, Ohio)). Similar lawsuits have
also been filed in Texas against CNA, and other insurers and non-insurer
corporate defendants asserting liability for failing to warn of the dangers of
asbestos (Boson v. Union Carbide Corp., et al. (District Court of Nueces
County, Texas)). Many of the Texas claims have been dismissed as time-barred
by the applicable statute of limitations. In other claims, the Texas court
recently ruled that the carriers did not owe any duty to the plaintiffs or the
general public to advise on the effects of asbestos thereby dismissing these
claims. The time period for filing an appeal of this ruling has not expired
and it remains uncertain whether the plaintiffs will continue to pursue their
causes of action. CNA has been named in Adams v. Aetna, Inc., et al. (Circuit Court of
Kanawha County, West Virginia), a purported class action against CNA and other
insurers, alleging that the defendants violated West Virginias Unfair Trade
Practices Act in handling and resolving asbestos claims against their
policyholders. A direct action has also been filed in Montana (Pennock, et
al. v. Maryland Casualty, et al. First Judicial District Court of Lewis &
Clark County, Montana) by eight individual plaintiffs (all employees of W.R.
Grace & Co. (W.R. Grace)) and their spouses against CNA, Maryland Casualty and
the State of Montana. This action alleges that the carriers failed to warn of
or otherwise protect W.R. Grace employees from the dangers of asbestos at a
W.R. Grace vermiculite mining facility in Libby, Montana. The Montana direct
action is currently stayed because of W.R. Graces pending bankruptcy. CNA is vigorously defending these and other cases and believes that it has
meritorious defenses to the claims asserted. However, there are numerous
factual and legal issues to be resolved in connection with these claims, and it
is extremely difficult to predict the outcome or ultimate financial exposure
represented by these matters. Adverse developments with respect to any of
these matters could have a material adverse effect on CNAs business, insurer
financial strength and debt ratings, and results of operations and/or equity. As a result of the uncertainties and complexities involved, reserves for
asbestos claims cannot be estimated with traditional actuarial techniques that
rely on historical accident year loss development factors. In establishing
asbestos reserves, CNA evaluates the exposure presented by each insured. As
part of this evaluation, CNA considers the available insurance coverage; limits
and deductibles; the potential role of other insurance, particularly underlying
coverage below any CNA excess liability policies; and applicable coverage
defenses, including asbestos exclusions. Estimation of asbestos-related claim
and claim adjustment expense reserves involves a high degree of judgment on the
part of management and consideration of many complex factors, including:  
    
    inconsistency of court decisions, jury attitudes and future court decisions
    
    specific policy provisions
    
    allocation of liability among insurers and insureds
    
    missing policies and proof of coverage
    
    the proliferation of bankruptcy proceedings and attendant uncertainties
    
    novel theories asserted by policyholders and their counsel 67




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued  
    
    the targeting of a broader range of businesses and entities as defendants
    
    the uncertainty as to which other insureds may be targeted in the
future and the uncertainties inherent in predicting the number of
future claims
    
    volatility in claim numbers and settlement demands
    
    increases in the number of non-impaired claimants and the extent to
which they can be precluded from making claims
    
    the efforts by insureds to obtain coverage not subject to aggregate
limits
    
    long latency period between asbestos exposure and disease
manifestation and the resulting potential for involvement of multiple
policy periods for individual claims
    
    medical inflation trends
    
    the mix of asbestos-related diseases presented, and
    
    the ability to recover reinsurance. The Company is also monitoring possible legislative reforms, including the
possible creation of a national privately financed trust, which if established
through federal legislation, could replace litigation of asbestos claims with
payments to claimants from the trust. It is uncertain at the present time
whether such legislation will be enacted or, if it is, what will be the terms
and conditions of its establishment or its impact on the Company. Environmental Pollution and Mass Tort Environmental pollution cleanup is the subject of both federal and state
regulation. By some estimates, there are thousands of potential waste sites
subject to cleanup. The insurance industry is involved in extensive litigation
regarding coverage issues. Judicial interpretations in many cases have
expanded the scope of coverage and liability beyond the original intent of the
policies. The Comprehensive Environmental Response Compensation and Liability
Act of 1980 (Superfund) and comparable state statutes (mini-Superfunds) govern
the cleanup and restoration of toxic waste sites and formalize the concept of
legal liability for cleanup and restoration by Potentially Responsible
Parties (PRPs). Superfund and the mini-Superfunds establish mechanisms to pay
for cleanup of waste sites if PRPs fail to do so and assign liability to PRPs.
The extent of liability to be allocated to a PRP is dependent upon a variety of
factors. Further, the number of waste sites subject to cleanup is unknown. To
date, approximately 1,400 cleanup sites have been identified by the
Environmental Protection Agency (EPA) and included on its National Priorities
List (NPL). State authorities have designated many cleanup sites as well. Many policyholders have made claims against various CNA insurance subsidiaries
for defense costs and indemnification in connection with environmental
pollution matters. The vast majority of these claims relate to accident years
1989 and prior, which coincides with CNAs adoption of the Simplified
Commercial General Liability coverage form, which includes what is referred to
in the industry as an absolute pollution exclusion. CNA and the insurance
industry are disputing coverage for many such claims. Key coverage issues
include whether cleanup costs are considered damages under the policies,
trigger of coverage, allocation of liability among triggered policies,
applicability of pollution exclusions 68




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued and owned property exclusions, the potential for joint and several liability
and the definition of an occurrence. To date, courts have been inconsistent in
their rulings on these issues. A number of proposals to modify Superfund have been made by various parties.
However, no modifications were enacted by Congress during 2003 or in the first
quarter of 2004, and it is unclear what positions Congress or the
Administration will take and what legislation, if any, will result in the
future. If there is legislation, and in some circumstances even if there is no
legislation, the federal role in environmental cleanup may be significantly
reduced in favor of state action. Substantial changes in the federal statute
or the activity of the EPA may cause states to reconsider their environmental
cleanup statutes and regulations. There can be no meaningful prediction of the
pattern of regulation that would result or the possible effect upon CNAs
results of operations or equity. As of March 31, 2004 and December 31, 2003, CNA carried approximately $541
million and $577 million of claim and claim adjustment expense reserves, net of
reinsurance recoverables, for reported and unreported environmental pollution
and mass tort claims. There was no net prior year environmental pollution and
mass tort claim and claim adjustment expense reserve development for the three
months ended March 31, 2004 and 2003. The Company paid environmental
pollution-related claims and mass tort-related claims, net of reinsurance
recoveries, of $36 million and $25 million for the three months ended March 31,
2004 and 2003. CNA has made resolution of large environmental pollution exposures a management
priority. The Company has resolved a number of its large environmental
accounts by negotiating settlement agreements. In its settlements, CNA sought
to resolve those exposures and obtain the broadest release language to avoid
future claims from the same policyholders seeking coverage for sites or claims
that had not emerged at the time CNA settled with its policyholder. While the
terms of each settlement agreement vary, CNA sought to obtain broad
environmental releases that include known and unknown sites, claims and
policies. The broad scope of the release provisions contained in those
settlement agreements should, in many cases, prevent future exposure from
settled policyholders. It remains uncertain, however, whether a court
interpreting the language of the settlement agreements will adhere to the
intent of the parties and uphold the broad scope of language of the agreements. The Company classifies its environmental pollution accounts into several
categories, which include structured settlements, coverage in place agreements
and active accounts. Structured settlement agreements provide for payments
over multiple years as set forth in each individual agreement. At March 31,
2004, CNA had one structured settlement and has fully funded its obligations
under the agreement leaving a nominal reserve. At December 31, 2003, CNA has a
structured settlement agreement with one of its policyholders for which it has
future payment obligations with a recorded reserve of $12 million, net of
reinsurance. CNA has also used coverage in place agreements to resolve pollution exposures.
Coverage in place agreements are typically agreements between CNA and its
policyholders identifying the policies and the terms for payment of pollution
related liabilities. Claims payments are contingent on presentation of
adequate documentation of damages during the policy periods and other
documentation supporting the demand for claims payment. Coverage in place
agreements may have annual payment caps. At March 31, 2004, CNA had six
coverage in place agreements and had established a reserve of $6 million, net
of reinsurance. At December 31, 2003, CNA had negotiated six such agreements
in which CNA committed coverage for payment of claims and claim related
adjustment expenses subject to documentation requirements as set forth in the
terms of each specific agreement. At December 31, 2003, CNA has a recorded
reserve of $8 million, net of reinsurance, related to coverage in place
agreements. 69




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued The Company categorizes active accounts as large or small accounts in the
pollution area. CNA defines a large account as an active account with more
than $100,000 cumulative paid losses. At March 31, 2004, the Company has 147
large accounts with a collective reserve of $84 million, net of reinsurance.
The Company has made closing large accounts a significant management priority.
Small accounts are defined as active accounts with $100,000 or less cumulative
paid losses. CNA had 144 large accounts with a collective reserve of $86
million, net of reinsurance, at December 31, 2003. At March 31, 2004, CNA has
450 small accounts with a collective reserve of $50 million, net of
reinsurance. CNA had 432 small accounts with a collective reserve of $53
million, net of reinsurance, at December 31, 2003. The Company also evaluates its environmental pollution exposures arising from
its assumed reinsurance and its participation in various pools, including
Excess and Casualty Reinsurance Association (ECRA). CNA has a reserve of $38
million related to these liabilities at March 31, 2004 and December 31, 2003. At March 31, 2004, the Companys unassigned IBNR reserve was $192 million, net
of reinsurance. At December 31, 2003, CNAs unassigned IBNR reserve for
environmental pollution was $197 million, net of reinsurance. This IBNR
reserve relates to potential development on accounts that have not settled and
potential future claims from unidentified policyholders. The charts below depict CNAs overall pending environmental pollution accounts
and associated reserves at March 31, 2004 and December 31,
2003. At March 31, 2004
    
    Number ofPolicyholders
    
    Net Paid Lossesin 2004(In millions)
    

NetEnvironmentalPollutionReserves(In millions)
    
    Percent ofEnvironmentalPollution NetReservePolicyholders with Settlement AgreementsStructured Settlements
    
    
    1
    
    
    $
    12
    
    
    $
    
    
    
    
    0
    %Coverage In Place
    
    
    6
    
    
    
    2
    
    
    
    6
    
    
    
    2
    %Total with Settlement Agreements
    
    
    7
    
    
    
    14
    
    
    
    6
    
    
    
    2
    %Other Policyholders with Active AccountsLarge Pollution Accounts
    
    
    147
    
    
    
    6
    
    
    
    84
    
    
    
    23
    %Small Pollution Accounts
    
    
    450
    
    
    
    4
    
    
    
    50
    
    
    
    14
    %Total Other Policyholders
    
    
    597
    
    
    
    10
    
    
    
    134
    
    
    
    37
    %Assumed Reinsurance & Pools
    
    
    
    
    
    
    
    
    
    
    38
    
    
    
    10
    %Unassigned IBNR
    
    
    
    
    
    
    
    
    
    
    192
    
    
    
    51
    %Total
    
    
    604
    
    
    $
    24
    
    
    $
    370
    
    
    
    100
    %
 70




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued At December 31, 2003
    
    Number ofPolicyholders
    
    Net Paid Lossesin 2003(In millions)
    

NetEnvironmentalPollutionReserves(In
millions)
    
    Percent ofEnvironmentalPollution NetReservePolicyholders with Settlement AgreementsStructured Settlements
    
    
    1
    
    
    $
    17
    
    
    $
    12
    
    
    
    3
    %Coverage In Place
    
    
    6
    
    
    
    3
    
    
    
    8
    
    
    
    2
    %Total with Settlement Agreements
    
    
    7
    
    
    
    20
    
    
    
    20
    
    
    
    5
    %Other Policyholders with Active AccountsLarge Pollution Accounts
    
    
    144
    
    
    
    21
    
    
    
    86
    
    
    
    22
    %Small Pollution Accounts
    
    
    432
    
    
    
    14
    
    
    
    53
    
    
    
    13
    %Total Other Policyholders
    
    
    576
    
    
    
    35
    
    
    
    139
    
    
    
    35
    %Assumed Reinsurance & Pools
    
    
    
    
    
    
    2
    
    
    
    38
    
    
    
    10
    %Unassigned IBNR
    
    
    
    
    
    
    
    
    
    
    197
    
    
    
    50
    %Total
    
    
    583
    
    
    $
    57
    
    
    $
    394
    
    
    
    100
    %
 71




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued INVESTMENTS CNA adopted Statement of Position 03-01, Accounting and Reporting by
Insurance Enterprises for Certain Nontraditional Long-Duration Contracts and
for Separate Accounts (SOP 03-01) as of January 1, 2004. The assets and
liabilities of certain guaranteed investment contracts and indexed group
annuity contracts that were previously segregated and reported as separate
accounts no longer qualify for separate account presentation. Prior to the
adoption of SOP 03-01, the asset and liability presentation of these affected
contracts were categorized as separate account assets and liabilities
within the Condensed Consolidated Balance Sheet. The results of operations from
separate account business was primarily classified as other revenue in the
Condensed Consolidated Statement of Operations. In accordance with the
provisions of SOP 03-01, the classification and presentation of certain balance
sheet and income statement items have been modified. Accordingly, certain
investment securities previously classified as separate account assets have now
been reclassified on the balance sheet to the general account and are reported
as available-for-sale or trading securities. The investment portfolio for the
indexed group annuity contracts is classified as held for trading purposes, and
is carried at fair value, with both the net realized and unrealized gains
(losses) included within net investment income in the Condensed Consolidated
Statement of Operations. Consistent with the requirements of SOP 03-01, prior
year amounts have not been conformed to the current year
presentation. Net Investment
Income The significant components of net investment income are presented in the
following table. Net Investment Income For the three months ended March 31
    
    2004
    
    2003(In millions)Fixed maturity securities
    
    $
    407
    
    
    $
    420Short term investments
    
    
    16
    
    
    
    20Limited partnerships
    
    
    75
    
    
    
    23Equity securities
    
    
    4
    
    
    
    5Income from trading securities
    
    
    20
    
    
    
    Interest on funds withheld and other deposits
    
    
    (50
    )
    
    
    (47
    )Other
    
    
    10
    
    
    
    25Gross investment income
    
    
    482
    
    
    
    446Investment expense
    
    
    (9
    )
    
    
    (14
    )Net investment income
    
    $
    473
    
    
    $
    432
 The Company experienced higher net investment income for the three months ended
March 31, 2004 as compared with the same period in 2003. This increase was due
primarily to increased limited partnership income and additional income from
the indexed group annuity contracts as a result of the adoption of SOP 03-01. These
increases were partially offset by lower investment yields on fixed maturity
securities. The bond segment of the investment portfolio yielded 4.7% and 5.5% for the
three months ended March 31, 2004 and 2003. 72




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Net Realized Investment Gains (Losses) The components of net realized investment results from available-for-sale
securities are presented in the following table. Net Realized Investment Gains (Losses) Three months ended March 31
    
    2004
    
    2003(In millions)Realized investment gains (losses):Fixed maturity securities:U.S. Government bonds
    
    $
    10
    
    
    $
    38Corporate and other taxable bonds
    
    
    6
    
    
    
    (118
    )Tax-exempt bonds
    
    
    73
    
    
    
    19Asset-backed bonds
    
    
    39
    
    
    
    18Redeemable preferred stock
    
    
    1
    
    
    
    (5
    )Total fixed maturity securities
    
    
    129
    
    
    
    (48
    )Equity securities
    
    
    11
    
    
    
    Derivative securities
    
    
    (32
    )
    
    
    (22
    )Short term investments
    
    
    
    
    
    
    4Impairment loss on Individual Life business
    
    
    (569
    )
    
    
    Other
    
    
    4
    
    
    
    (13
    )Net realized investment gains (losses) before allocation to
participating policyholders and minority interests
    
    
    (457
    )
    
    
    (79
    )Allocated to participating policyholders and minority interest
    
    
    (1
    )
    
    
    3Realized investment losses
    
    $
    (458
    )
    
    $
    (76
    )
 Net realized investment losses were $458 million and $76 million for the three
months ended March 31, 2004 and 2003, or a decrease in net realized investment
results of $382 million pre-tax. The investment losses in 2004 were primarily
driven by an after-tax impairment loss of $406 million ($569 million pretax)
related to the pending sale of CNAs individual life insurance business
partially offset by realized gains on fixed maturity securities. The
investment losses in 2003 were primarily driven by impairment losses for fixed
maturity and equity securities partially offset by realized gains on the
investment portfolio. The impairment losses recorded in 2003 were primarily
for securities in certain market sectors, including the airline, healthcare and
energy industries. A primary objective in the management of the fixed maturity and equity
portfolios is to maximize total return relative to underlying liabilities and
respective liquidity needs. In achieving this goal, assets may be sold to take
advantage of market conditions or other investment opportunities or for credit
or tax considerations. This activity will produce realized gains and losses. CNA classifies substantially all its fixed maturity securities (bonds and
redeemable preferred stocks) and its equity securities as either
available-for-sale or trading, and as such, they are carried at fair value.
The amortized cost of fixed maturity securities is adjusted for amortization of
premiums and accretion of discounts to maturity, which is included in net
investment income. Changes in fair value related to available-for-sale
securities are reported as a component of other comprehensive income. 73




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued The following table provides further detail of gross realized gains and gross
realized losses on fixed maturity securities and equity securities
available-for-sale. Realized Gains and Losses Three months ended March 31
    
    2004
    
    2003(In millions)Net realized gains (losses) on fixed maturity securities
and equity securities:Fixed maturity securities:Gross realized gains
    
    $
    225
    
    
    $
    285Gross realized losses
    
    
    (96
    )
    
    
    (333
    )Net realized gains (losses) on fixed maturity securities
    
    
    129
    
    
    
    (48
    )Equity securities:Gross realized gains
    
    
    13
    
    
    
    12Gross realized losses
    
    
    (2
    )
    
    
    (12
    )Net realized gains on equity securities
    
    
    11
    
    
    
    Net realized gains (losses) on fixed maturity and equity
securities
    
    $
    140
    
    
    $
    (48
    )
 The following table provides details of the largest realized losses from sales
of securities aggregated by issuer for the three months ended March 31, 2004,
including: the fair value of the securities at sales date, the amount of the
loss recorded and the period of time that the security had been in an
unrealized loss position prior to sale. The period of time that the security
had been in an unrealized loss position prior to sale can vary due to the
timing of individual security purchases. Also footnoted is a narrative
providing the industry sector along with the facts and circumstances giving
rise to the loss. Largest Realized Losses from Securities Sold at a Loss Fair
    
    
    
    
    
    Months inValue at
    
    
    
    
    
    UnrealizedDate of
    
    Loss
    
    Loss PriorIssuer Description and Discussion
    
    Sale
    
    On Sale
    
    To Sale(In millions)A major department store retailer that is comprised
of full-line stores, home services, credit, and
electronic commerce activities. (a)
    
    $
    16
    
    
    $
    2
    
    
    
    0-12Issues and sells mortgage backed securities. Issuer
was chartered by United States Congress to facilitate
housing ownership for low to middle income Americans.(b)
    
    
    215
    
    
    
    1
    
    
    
    0-6Total
    
    $
    231
    
    
    $
    3
   (a)
    
    The issuers financial condition is in good standing and is investment
grade quality. A decision was made to reduce the portfolios overall
exposure to the issuer.(b)
    
    Volatility of interest rates prompted movement to other asset classes. 74




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Valuation and Impairment of Investments The following table details the carrying value of CNAs general account
investment portfolios. Carrying Value of Investments March 31,
    
    
    
    
    
    December 31,2004
    
    %
    
    2003
    
    %(In millions)General account investments:Fixed maturity securities available-for-sale:U.S. Treasury securities and obligations of government agencies
    
    $
    1,263
    
    
    
    3
    %
    
    $
    1,900
    
    
    
    5
    %Asset-backed securities
    
    
    7,651
    
    
    
    20
    
    
    
    8,757
    
    
    
    23States, municipalities and political subdivisions  tax-exempt
    
    
    9,227
    
    
    
    25
    
    
    
    7,970
    
    
    
    21Corporate securities
    
    
    6,541
    
    
    
    18
    
    
    
    6,482
    
    
    
    17Other debt securities
    
    
    3,262
    
    
    
    9
    
    
    
    3,264
    
    
    
    9Redeemable preferred stock
    
    
    176
    
    
    
    1
    
    
    
    104
    
    
    
    Options embedded in convertible debt securities
    
    
    178
    
    
    
    1
    
    
    
    201
    
    
    
    Total fixed maturity securities available-for-sale
    
    
    28,298
    
    
    
    77
    
    
    
    28,678
    
    
    
    75Fixed maturity trading securities:U.S. Treasury securities and obligations of government agencies
    
    
    69
    
    
    
    
    
    
    
    
    
    
    
    Asset-backed securities
    
    
    112
    
    
    
    
    
    
    
    
    
    
    
    Corporate securities
    
    
    166
    
    
    
    1
    
    
    
    
    
    
    
    Other debt securities
    
    
    40
    
    
    
    
    
    
    
    
    
    
    
    Redeemable preferred stock
    
    
    6
    
    
    
    
    
    
    
    
    
    
    
    Total fixed maturity trading securities
    
    
    393
    
    
    
    1
    
    
    
    
    
    
    
    Equity securities:Common stock
    
    
    431
    
    
    
    1
    
    
    
    383
    
    
    
    1Non-redeemable preferred stock
    
    
    73
    
    
    
    
    
    
    
    144
    
    
    
    Total equity securities
    
    
    504
    
    
    
    1
    
    
    
    527
    
    
    
    1Short term investments available-for-sale
    
    
    5,737
    
    
    
    16
    
    
    
    7,538
    
    
    
    20Short term trading securities
    
    
    390
    
    
    
    1
    
    
    
    
    
    
    
    Limited partnerships
    
    
    1,659
    
    
    
    4
    
    
    
    1,117
    
    
    
    3Other investments
    
    
    40
    
    
    
    
    
    
    
    240
    
    
    
    1Total general account investments
    
    $
    37,021
    
    
    
    100
    %
    
    $
    38,100
    
    
    
    100
    %
 The Companys general account investment portfolio consists primarily of
asset-backed and mortgage-backed securities, short-term securities, municipal
bonds and corporate bonds. Investments in the general account had a total net unrealized gain of $1,524
million at March 31, 2004 compared with a net unrealized gain of $1,348 million
at December 31, 2003. The net unrealized position at March 31, 2004 was
composed of a net unrealized gain of $1,259 million for fixed maturities and a
net unrealized gain of $265 million for equity securities. The net unrealized
position at December 31, 2003 was composed of a net unrealized gain of $1,114
million for fixed maturities and a net unrealized gain of $234 million for
equity securities. 75




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Unrealized Gains (Losses)
on Fixed Maturity and Equity Securities Cost or
    
    Gross
    
    Gross Unrealized Losses
    
    NetAmortized
    
    Unrealized
    
    Less than
    
    Greater than
    
    UnrealizedMarch 31, 2004
    
    Cost
    
    Gains
    
    12 Months
    
    12 Months
    
    Gain/(Loss)(In millions)Fixed maturity securities available-for-sale:U.S. Treasury securities and obligations
of government agencies
    
    $
    1,131
    
    
    $
    149
    
    
    $
    10
    
    
    $
    7
    
    
    $
    132Asset-backed securities
    
    
    7,497
    
    
    
    174
    
    
    
    17
    
    
    
    3
    
    
    
    154States, municipalities and political
subdivisions  tax-exempt
    
    
    9,026
    
    
    
    248
    
    
    
    45
    
    
    
    2
    
    
    
    201Corporate securities
    
    
    6,095
    
    
    
    497
    
    
    
    34
    
    
    
    17
    
    
    
    446Other debt securities
    
    
    2,948
    
    
    
    328
    
    
    
    10
    
    
    
    4
    
    
    
    314Redeemable preferred stock
    
    
    164
    
    
    
    12
    
    
    
    
    
    
    
    
    
    
    
    12Options embedded in convertible debt
securities
    
    
    178
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Total fixed maturity securities
available-for-sale
    
    
    27,039
    
    
    
    1,408
    
    
    
    116
    
    
    
    33
    
    
    
    1,259Total fixed maturity trading securities
    
    
    393
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Equity securities:Common stock
    
    
    180
    
    
    
    255
    
    
    
    4
    
    
    
    
    
    
    
    251Non-redeemable preferred stock
    
    
    59
    
    
    
    14
    
    
    
    
    
    
    
    
    
    
    
    14Total equity securities
    
    
    239
    
    
    
    269
    
    
    
    4
    
    
    
    
    
    
    
    265Total fixed maturity and equity securities
    
    $
    27,671
    
    
    $
    1,677
    
    
    $
    120
    
    
    $
    33
    
    
    $
    1,524
 76




---



##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Unrealized Gains (Losses) on Fixed Maturity and Equity Securities Cost or
    
    Gross
    
    Gross Unrealized
Losses
    
    NetAmortized
    
    Unrealized
    
    Less than
    
    Greater than
    
    UnrealizedDecember 31, 2003
    
    Cost
    
    Gains
    
    12 Months
    
    12 Months
    
    Gain/(Loss)(In millions)Fixed maturity securities:U.S. Treasury securities and
obligations of government agencies
    
    $
    1,823
    
    
    $
    91
    
    
    $
    10
    
    
    $
    4
    
    
    $
    77Asset-backed securities
    
    
    8,634
    
    
    
    146
    
    
    
    22
    
    
    
    1
    
    
    
    123States,
municipalities and political subdivisions -
tax-exempt
    
    
    7,787
    
    
    
    207
    
    
    
    22
    
    
    
    2
    
    
    
    183Corporate securities
    
    
    6,061
    
    
    
    475
    
    
    
    40
    
    
    
    14
    
    
    
    421Other debt securities
    
    
    2,961
    
    
    
    311
    
    
    
    4
    
    
    
    4
    
    
    
    303Redeemable preferred stock
    
    
    97
    
    
    
    7
    
    
    
    
    
    
    
    
    
    
    
    7Options embedded in convertible
debt securities
    
    
    201
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Total fixed maturity securities
    
    
    27,564
    
    
    
    1,237
    
    
    
    98
    
    
    
    25
    
    
    
    1,114Equity securities:Common stock
    
    
    163
    
    
    
    222
    
    
    
    2
    
    
    
    
    
    
    
    220Non-redeemable preferred stock
    
    
    130
    
    
    
    16
    
    
    
    2
    
    
    
    
    
    
    
    14Total equity securities
    
    
    293
    
    
    
    238
    
    
    
    4
    
    
    
    
    
    
    
    234Total fixed maturity and equity
securities
    
    $
    27,857
    
    
    $
    1,475
    
    
    $
    102
    
    
    $
    25
    
    
    $
    1,348
 The Companys investment policies for the general account emphasize high credit
quality and diversification by industry, issuer and issue. Assets supporting
interest rate sensitive liabilities are segmented within the general account to
facilitate asset/liability duration management. At March 31, 2004, the carrying value of the general account fixed maturities
available-for-sale was $28,298 million, representing 77% of the total
investment portfolio. The net unrealized gain related to this fixed maturity
portfolio was $1,259 million, comprised of $1,408 million in gross unrealized
gains and $149 million in gross unrealized losses. Corporate bonds represented
34%, municipal securities represented 32%, asset-backed securities represented
13%, and all other fixed maturity securities represented 21% of the gross
unrealized losses. Within corporate bonds, the largest industry sectors were
financial, consumer cyclical and consumer non-cyclical, which represented 24%,
20%, and 18% of the gross unrealized losses. Gross unrealized losses in any
single issuer were less than 0.1% of the carrying value of the total general
account fixed maturity portfolio. 77




---



##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued The following table provides the composition of fixed maturity securities
available-for-sale with an unrealized loss at March 31, 2004 in relation to the
total of all fixed maturity securities available-for-sale with an unrealized
loss by contractual maturities. Contractual Maturity Percent of
    
    Percent ofMarket
    
    UnrealizedValue
    
    LossDue in one year or less
    
    
    2
    %
    
    
    6
    %Due after one year through five years
    
    
    5
    
    
    
    18Due after five years through ten years
    
    
    21
    
    
    
    25Due after ten years
    
    
    54
    
    
    
    38Asset-backed securities
    
    
    18
    
    
    
    13Total
    
    
    100
    %
    
    
    100
    %
 The following table summarizes, for fixed maturity and equity securities
available-for-sale in an unrealized loss position at March 31, 2004 and
December 31, 2003, the aggregate fair value and gross unrealized loss by length
of time, those securities that have been continuously in an unrealized loss
position. Gross Unrealized Loss Aging March 31, 2004
    
    December 31, 2003Gross
    
    
    
    
    
    GrossEstimated
    
    Unrealized
    
    Estimated
    
    UnrealizedFair Value
    
    Loss
    
    Fair Value
    
    Loss(In millions)Fixed maturity securities:Investment grade:0-6 months
    
    $
    4,575
    
    
    $
    66
    
    
    $
    4,138
    
    
    $
    507-12 months
    
    
    651
    
    
    
    28
    
    
    
    834
    
    
    
    3613-24 months
    
    
    101
    
    
    
    17
    
    
    
    76
    
    
    
    11Greater than 24 months
    
    
    44
    
    
    
    4
    
    
    
    51
    
    
    
    3Total investment grade
    
    
    5,371
    
    
    
    115
    
    
    
    5,099
    
    
    
    100Non-investment grade:0-6 months
    
    
    527
    
    
    
    21
    
    
    
    134
    
    
    
    57-12 months
    
    
    19
    
    
    
    1
    
    
    
    60
    
    
    
    713-24 months
    
    
    35
    
    
    
    3
    
    
    
    16
    
    
    
    1Greater than 24 months
    
    
    82
    
    
    
    9
    
    
    
    105
    
    
    
    10Total non-investment grade
    
    
    663
    
    
    
    34
    
    
    
    315
    
    
    
    23Total fixed maturity securities
    
    
    6,034
    
    
    
    149
    
    
    
    5,414
    
    
    
    123Equity securities:0-6 months
    
    
    13
    
    
    
    3
    
    
    
    23
    
    
    
    27-12 months
    
    
    2
    
    
    
    1
    
    
    
    10
    
    
    
    213-24 months
    
    
    1
    
    
    
    
    
    
    
    3
    
    
    
    Greater than 24 months
    
    
    6
    
    
    
    
    
    
    
    6
    
    
    
    Total equity securities
    
    
    22
    
    
    
    4
    
    
    
    42
    
    
    
    4Total fixed maturity and equity securities
    
    $
    6,056
    
    
    $
    153
    
    
    $
    5,456
    
    
    $
    127
 The Companys non-investment grade fixed maturity securities available-for-sale
as of March 31, 2004 that were in a gross unrealized loss position had a fair
value of $663 million. As discussed previously, a 78




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued significant judgment in the valuation of investments is the determination of
when an other-than-temporary impairment has occurred. The Companys Impairment
Committee analyzes securities placed on the watch list on at least a quarterly
basis. Part of this analysis is to monitor the length of time and severity of
the decline below book value of the watch list securities. The following
tables summarize the fair value and gross unrealized loss of non-investment
grade securities categorized by the length of time those securities have been
in a continuous unrealized loss position and further categorized by the
severity of the unrealized loss position in 10% increments as of March 31, 2004
and December 31, 2003. Unrealized Loss Aging for Non-investment Grade Securities Fair Value as a Percentage of Book ValueGrossEstimated
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    UnrealizedMarch 31, 2004
    
    Fair Value
    
    90-99%
    
    80-89%
    
    70-79%
    
    <70%
    
    Loss(In millions)Fixed maturity securities:Non-investment grade:0-6 months
    
    $
    527
    
    
    $
    16
    
    
    $
    5
    
    
    $
    
    
    
    $
    
    
    
    $
    217-12 months
    
    
    19
    
    
    
    1
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    113-24 months
    
    
    35
    
    
    
    
    
    
    
    3
    
    
    
    
    
    
    
    
    
    
    
    3Greater than 24 months
    
    
    82
    
    
    
    3
    
    
    
    6
    
    
    
    
    
    
    
    
    
    
    
    9Total non-investment grade
    
    $
    663
    
    
    $
    20
    
    
    $
    14
    
    
    $
    
    
    
    $
    
    
    
    $
    34
 Unrealized Loss Aging for Non-investment Grade Securities Fair Value as a Percentage of Book ValueGrossEstimated
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    UnrealizedDecember 31, 2003
    
    Fair Value
    
    90-99%
    
    80-89%
    
    70-79%
    
    <70%
    
    Loss(In millions)Fixed maturity securities:Non-investment grade:0-6 months
    
    $
    134
    
    
    $
    2
    
    
    $
    1
    
    
    $
    
    
    
    $
    2
    
    
    $
    57-12 months
    
    
    60
    
    
    
    1
    
    
    
    6
    
    
    
    
    
    
    
    
    
    
    
    713-24 months
    
    
    16
    
    
    
    1
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1Greater than 24 months
    
    
    105
    
    
    
    4
    
    
    
    1
    
    
    
    5
    
    
    
    
    
    
    
    10Total non-investment grade
    
    $
    315
    
    
    $
    8
    
    
    $
    8
    
    
    $
    5
    
    
    $
    2
    
    
    $
    23
 Invested assets are exposed to various risks, such as interest rate, market and
credit risk. Due to the level of risk associated with certain invested assets
and the level of uncertainty related to changes in the value of these assets,
it is possible that changes in risks in the near term could have an adverse
material impact on the Companys results of operations or equity. A significant judgment in the valuation of investments is the determination of
when an other-than-temporary decline in value has occurred. The Company
follows a consistent and systematic process for impairing securities that
sustain other-than-temporary declines in value. The Company has established a
committee responsible for the impairment process. This committee, referred to
as the Impairment Committee, is made up of three officers appointed by the
Companys Chief Financial Officer. The committee is responsible for analyzing
watch list securities on at least a quarterly basis. The watch list includes
individual securities that fall below certain thresholds or that exhibit
evidence of impairment indicators including, but not limited to, a significant
adverse change in the financial condition and near term prospects of the
investment or a significant adverse change in legal factors, the business
climate or credit ratings. 79




---



##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued When a security is placed on the watch list, it is monitored for further fair
value changes and additional news related to the issuers financial condition.
The focus is on objective evidence that may influence the evaluation of
impairment factors. The decision to impair a security incorporates both quantitative criteria and
qualitative information. The committee considers a number of factors
including, but not limited to: (1) the length of time and the extent to which
the fair value has been less than book value, (2) the financial condition and
near term prospects of the issuer, (3) the intent and ability of the Company to
retain its investment for a period of time sufficient to allow for any
anticipated recovery in value, (4) whether the debtor is current on interest
and principal payments and (5) general market conditions and industry or sector
specific factors. The committees decision to impair a security is primarily
based on whether the securitys fair value is likely to remain significantly
below its book value in light of all of the factors considered above. For
securities that are impaired, the security is written down to fair value and
the resulting losses are recognized in realized gains/losses in the Condensed
Consolidated Statements of Operations. As part of the ongoing impairment monitoring process, the Impairment Committee
has evaluated the facts and circumstances based on available information for
each of the non-investment grade securities and determined that no further
impairments were appropriate at March 31, 2004. This determination was based
on a number of factors that the Impairment Committee regularly considers
including, but not limited to: the issuers ability to meet current and future
interest and principal payments, an evaluation of the issuers financial
condition and near term prospects, the Companys sector outlook and estimates
of the fair value of any underlying collateral. In all cases where a decline
in value is judged to be temporary, the Company had the intent and ability to
hold these securities for a period of time sufficient to recover the book value
of its investment through a recovery in the fair value of such securities or by
holding the securities to maturity. In many cases, the securities held are
matched to liabilities as part of ongoing asset/liability duration management.
As such, the Impairment Committee continually assesses its ability to hold
securities for a time sufficient to recover any temporary loss in value or
until maturity. The Company maintains sufficient levels of liquidity so as to
not impact the asset/liability management process. The fair value of securities held by the Company may deteriorate in the future
which may have an adverse impact on the Companys results of operations and/or
equity. The Companys equity securities available-for-sale as of March 31, 2004 that
were in a gross unrealized loss position had a fair value of $22 million. The
Companys Impairment Committee, under the same process as fixed maturity
securities, monitors the equity securities for other-than-temporary declines in
value. In all cases where a decline in value is judged to be temporary, the
Company expects to recover the book value of its investment through a recovery
in the fair value of the security. The general account portfolio consists primarily of high quality (rated BBB or
higher) bonds, 91% and 93% of which were rated as investment grade at March 31,
2004 and December 31, 2003. The following table summarizes the ratings of
CNAs general account bond portfolio at carrying value. 80




---



##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued General Account Bond Ratings March 31,
    
    
    
    
    
    December 31,2004
    
    %
    
    2003
    
    %(In millions)U.S. Government and affiliated agency securities
    
    $
    2,218
    
    
    
    8
    %
    
    $
    2,818
    
    
    
    10
    %Other AAA rated
    
    
    13,451
    
    
    
    47
    
    
    
    12,779
    
    
    
    45AA and A rated
    
    
    6,039
    
    
    
    21
    
    
    
    6,329
    
    
    
    22BBB rated
    
    
    4,391
    
    
    
    15
    
    
    
    4,631
    
    
    
    16Below investment-grade
    
    
    2,410
    
    
    
    9
    
    
    
    2,017
    
    
    
    7Total
    
    $
    28,509
    
    
    
    100
    %
    
    $
    28,574
    
    
    
    100
    %
 At March 31, 2004 and December 31, 2003, approximately 97% of the general
account portfolio was U.S. Government and affiliated agency securities or was
rated by Standard & Poors (S&P) or Moodys Investors Service (Moodys). The
remaining bonds were rated by other rating agencies or Company management. Non-investment grade bonds, as presented in the table above, are high-yield
securities rated below BBB by bond rating agencies, as well as other unrated
securities that, in the opinion of management, are below investment-grade.
High-yield securities generally involve a greater degree of risk than
investment-grade securities. However, expected returns should compensate for
the added risk. This risk is also considered in the interest rate assumptions
for the underlying insurance products. The carrying value of non-traded securities at March 31, 2004 was $296 million
which represents 0.8% of the Companys total investment portfolio. These
securities were in a net unrealized gain position of $79 million at March 31,
2004. Of the non-traded securities, 48% are priced by unrelated third party
sources. Included in CNAs general account fixed maturity securities at March 31, 2004
are $7,763 million of asset-backed securities, at fair value, consisting of
approximately 52% in collateralized mortgage obligations (CMOs), 8% in
corporate asset-backed obligations, 12% in U.S. Government agency issued
pass-through certificates and 28% in corporate mortgage-backed pass-through
certificates. The majority of CMOs held are actively traded in liquid markets
and are priced by broker-dealers. 81




---



##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued The carrying value of the components of the general account short-term
investment portfolio is presented in the following table. Short-term Investments March 31,
    
    December 31,2004
    
    2003(In millions)Short-term investments available-for-sale:Commercial paper
    
    $
    2,330
    
    
    $
    4,458U.S. Treasury securities
    
    
    2,348
    
    
    
    1,068Money market funds
    
    
    423
    
    
    
    1,230Other
    
    
    636
    
    
    
    782Total short-term investments available-for-sale
    
    
    5,737
    
    
    
    7,538Short-term trading securities:Commercial paper
    
    
    52
    
    
    
    U.S. Treasury securities
    
    
    62
    
    
    
    Money market funds
    
    
    230
    
    
    
    Other
    
    
    46
    
    
    
    Total short-term trading securities
    
    
    390
    
    
    
    Total short-term investments
    
    $
    6,127
    
    
    $
    7,538
 CNA invests in certain derivative financial instruments primarily to reduce its
exposure to market risk (principally interest rate, equity price and foreign
currency risk) and credit risk (risk of non-performance of underlying obligor).
Derivative securities are recorded at fair value at the reporting date. The
Company also uses derivatives to mitigate market risk by purchasing S&P 500®
index futures in a notional amount equal to the contract liability relating to
Life and Group Non-Core indexed group annuity contracts. LIQUIDITY AND CAPITAL RESOURCES Cash Flow The principal operating cash flow sources of CNAs insurance subsidiaries are
premiums and investment income. The primary operating cash flow uses are
payments for claims, policy benefits and operating expenses. For the three months ended March 31, 2004, net cash provided by operating
activities was $37 million as compared with $45 million for the same period in
2003. The decrease in cash provided by operating activities related primarily
to an increase in paid claims in 2004 as compared with 2003. Cash flows from investing activities include the purchase and sale of financial
instruments, as well as the purchase and sale of land, buildings, equipment and
other assets not generally held for resale. For the three months ended March 31, 2004, net cash used by investing
activities was $441 million as compared with net cash provided by investing
activities of $132 million for the same period in 2003. Cash flows used for
investing activities related principally to purchases of fixed maturity
securities. 82




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued Cash flows from financing activities include proceeds from the issuance of debt
or equity securities, outflows for dividends or repayment of debt and outlays
to reacquire equity instruments. For the three months ended March 31, 2004, net cash provided by financing
activities was $346 million as compared with $137 million net cash used for the
same period in 2003. Cash flows provided by financing activities were related
principally to proceeds from the issuance of the CCC Group and Life surplus notes. The Company has an existing shelf registration statement under which it may
issue an aggregate of $549 million of debt or equity securities, declared
effective by the Securities and Exchange Commission (SEC). Debt and Other Commitments See Note I of the Notes to the Condensed Consolidated Financial Statements for
a detailed discussion of the Companys debt. The Company paid the $250 million
three-year bank credit facility on April 20, 2004. During February of 2004, Loews purchased $46 million of surplus notes from CCC,
in relation to the sale of CNAs group benefits business, and also purchased
$300 million of additional surplus notes of CCC in relation to the planned sale
of CNAs individual life business. These notes have 20-year terms and bear
interest at LIBOR plus 350 basis points, reset annually. See the Loews section
below for further discussion. The notes are mandatorily prepayable upon the
occurrence of certain events including the sale of the Individual Life
Business. CNA plans to seek approval from the insurance regulatory authority
for the repayment of the surplus notes purchased in relation to such sale. See Note O of the Notes to the Condensed Consolidated Financial Statements for
information related to CNA Suretys related party transactions with CNAF. The
impact of these transactions should be considered when evaluating the Companys
liquidity and capital resources. See Note K of the Notes to the Condensed Consolidated Financial Statements for
information related to the Companys commitments and contingencies. The impact
of these commitments and contingencies should be considered when evaluating the
Companys liquidity and capital resources. A summary of the Companys commitments as of March 31, 2004 is presented in the
following table. Commitments 2008 andMarch 31, 2004
    
    2004
    
    2005
    
    2006
    
    2007
    
    Beyond
    
    Total(In millions)Debt (a)
    
    $
    256
    
    
    $
    533
    
    
    $
    251
    
    
    $
    8
    
    
    $
    1,172
    
    
    $
    2,220Capital leases
    
    
    2
    
    
    
    3
    
    
    
    3
    
    
    
    4
    
    
    
    20
    
    
    
    32Lease obligations
    
    
    48
    
    
    
    60
    
    
    
    50
    
    
    
    41
    
    
    
    112
    
    
    
    311Guaranteed payment contracts
    
    
    13
    
    
    
    5
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    18Total
    
    $
    319
    
    
    $
    601
    
    
    $
    304
    
    
    $
    53
    
    
    $
    1,304
    
    
    $
    2,581
   (a)
    
    Does not include original issue discount of $8 million. Regulatory Matters The Company has established a plan to reorganize and streamline its U.S.
property and casualty insurance legal entity structure. One phase of this
multi-year plan was completed during 2003. This phase served to consolidate
the Companys U.S. property and casualty insurance risks into CCC, as well as
realign the capital supporting these risks. As part of this phase, the Company
implemented in the fourth quarter of 83




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued 2003 a 100% quota share reinsurance agreement, effective January 1, 2003,
ceding all of the net insurance risks of The Continental Insurance Company
(CIC) and its 14 affiliated insurance companies (CIC Group) to CCC.
Additionally, the ownership of the CIC Group was transferred to CCC in the
fourth quarter of 2003 in order to properly align the insurance risks with the
supporting capital. In subsequent phases of this plan, the Company will
continue its efforts to reduce both the number of U.S. property and casualty
insurance entities it maintains and the number of states in which such entities
are domiciled. In order to facilitate the execution of this plan, the Company,
CCC and CIC have agreed to participate in a working group consisting of several
states of the National Association of Insurance Commissioners. In connection with the approval process for aspects of the reorganization plan,
the Company agreed to undergo a state regulatory financial examination of CIC
as of December 31, 2003, including a review of insurance reserves by an
independent actuarial firm. CCC was also scheduled to undergo its routine
state regulatory financial examination as of December 31, 2003. These state
regulatory financial examinations are currently underway. Pursuant to its participation in the working group referenced above, the
Company has agreed to certain time frames and informational provisions in
relation to the reorganization plan. The Company has also agreed that any
proceeds from the sale of any member of the CIC pool, net of transaction
expenses, will be retained in CIC or one of its subsidiaries until the dividend
stipulation discussed below expires. Dividends from Subsidiaries CNAFs ability to pay dividends and other credit obligations is significantly
dependent on receipt of dividends from its subsidiaries. The payment of
dividends to CNAF by its insurance subsidiaries without prior approval of the
insurance department of each subsidiarys domiciliary jurisdiction is limited
by formula. Dividends in excess of these amounts are subject to prior approval
by the respective state insurance departments. Dividends from CCC are subject to the insurance holding company laws of the
State of Illinois, the domiciliary state of CCC. Under these laws, ordinary
dividends, or dividends that do not require prior approval of the Illinois
Department of Insurance (the Department), may be paid only from earned surplus,
which is calculated by removing unrealized gains from unassigned surplus. As
of March 31, 2004, CCC is in a negative earned surplus position. Until CCC is
in a positive earned surplus position, all dividends require prior approval of
the Department. In January of 2004, the Department approved extraordinary
dividend capacity in the amount of approximately $312 million to be used to
fund the CNAFs 2004 debt service and principal repayment requirements. By agreement with the New Hampshire Insurance Department, the CIC Group may not
pay dividends to CCC until after January 1, 2006. Loews As discussed in the
Companys 2003 Form 10-K, CNA has received substantial capital
support from Loews. The capital plan consists of the November of 2003 sale of $750 million of a new
series of CNA convertible preferred stock to Loews. The preferred stock
converted into 32,327,015 shares of CNAF common stock on April 20, 2004.
Additionally, the capital plan included a commitment from Loews for additional
capital support of up to $500 million by February 27, 2004 through the purchase
of CCC surplus notes in the event certain additions to CCCs statutory capital
were not achieved through asset sales. Loews also committed up to an
additional $150 million, in a form to be determined, to support the statutory
capital of CCC in the event of additional shortfalls in relation to business
and asset sales. In accordance with such commitments, in February of 2004,
Loews purchased $46 million of surplus notes from CCC, in relation to the sale
of CNAs group benefits business, and also purchased $300 million of 84




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued additional surplus notes of CCC in relation to the planned sale of CNAs
individual life business, discussed above. CNA has estimated that the sale of
the individual life business will result in an addition to statutory capital of
approximately $500 million. Following the consummation of the individual life
sale, CNA plans to seek approval from the insurance regulatory authority for
the repayment of the surplus notes purchased in relation to such sale. The
Company believes that it will not require any additional capital support
pursuant to the capital plan. Ratings Ratings are an important factor in establishing the competitive position of
insurance companies. CNAs insurance company subsidiaries are rated by major
rating agencies, and these ratings reflect the rating agencys opinion of the
insurance companys financial strength, operating performance, strategic
position and ability to meet its obligations to policyholders. Agency ratings
are not a recommendation to buy, sell or hold any security, and may be revised
or withdrawn at any time by the issuing organization. Each agencys rating
should be evaluated independently of any other agencys rating. One or more of
these agencies could take action in the future to change the ratings of CNAs
insurance subsidiaries. The actions that can be taken by rating agencies are changes in ratings or
modifiers. On Review, Credit Watch and Rating Watch are modifiers used
by the ratings agencies to alert those parties relying on the Companys ratings
of the possibility of a rating change in the near term. Modifiers are utilized
when the agencies are uncertain as to the impact of a Company action or
initiative, which could prove to be material to the current rating level.
Modifiers are generally used to indicate a possible change in rating within 90
days. Outlooks accompanied with ratings are additional modifiers used by the
rating agencies to alert those parties relying on the Companys ratings of the
possibility of a rating change in the longer term. The time frame referenced
in an outlook is not necessarily limited to ninety days as defined in the
Credit-Watch category. The table below reflects the various group ratings issued by A.M. Best, S&P,
Moodys and Fitch as of April 6, 2004 for the Property and Casualty and Life
companies. The table also includes the ratings for CNAFs senior debt and
Continental senior debt. Insurance Financial Strength Ratings
    
    Debt RatingsProperty & Casualty (a)
    
    Life
    
    CNAF
    
    ContinentalCCC
    
    CIC
    
    
    
    Senior
    
    SeniorGroup
    
    Group
    
    CAC (b)
    
    VFL (c)
    
    Debt
    
    DebtA.M. Best
    
    
    A
    
    
    
    A
    
    
    
    A-
    
    
    
    A
    
    
    bbb
    
    bbb-Fitch
    
    
    A-
    
    
    
    A-
    
    
    
    A-
    
    
    
    A+
    
    
    BBB-
    
    BBB-Moodys
    
    
    A3
    
    
    
    A3
    
    
    Baa1
    
    Baa1
    
    Baa3
    
    Baa3S&P
    
    
    A-
    
    
    
    A-
    
    
    BBB+
    
    
    A
    
    
    BBB-
    
    BBB-
   (a)
    
    All outlooks for the Property & Casualty companies financial
strength and holding company debt ratings are negative.(b)
    
    A.M. Best and Moodys have a stable outlook while Fitch and S&P have
negative outlooks on the CAC rating.(c)
    
    VFLs rating modifiers are Under Review with Developing Implications by
A. M. Best, Rating Watch Positive by Fitch, On Review for Upgrade by
Moodys and Credit Watch Negative by S&P. S&Ps lowered CACs rating from A to BBB+ with a negative outlook and changed
the rating modifier on VFL from CreditWatch Developing to Credit Watch Negative.
These rating actions follow CNAs February 5, 2004 announcement regarding the
sale of the individual life and annuity business. If CNAs insurance financial strength ratings were downgraded below current
levels, CNAs business and results of operations could be materially adversely
affected. The severity of the impact on CNAs business is dependent on the
level of downgrade and, for certain products, which rating agency takes the
rating action. Among the adverse effects in the event of such downgrades would
be the inability to obtain 85




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued a material volume of business from certain major insurance brokers, the
inability to sell a material volume of the Companys insurance products to
certain markets, and the required collateralization of certain future payment
obligations or reserves. In addition, the Company believes that a lowering of the debt ratings of Loews
by certain of these agencies could result in an adverse impact on CNAs
ratings, independent of any change in circumstances at CNA. Each of the major
rating agencies which rates Loews currently maintains a negative outlook, but
none currently has Loews on negative Credit Watch. The Company has entered into several settlement agreements and assumed
reinsurance contracts that require collateralization of future payment
obligations and assumed reserves if the Companys ratings or other specific
criteria fall below certain thresholds. The ratings triggers are generally
more than one level below the Companys current ratings. FORWARD-LOOKING STATEMENTS This quarterly report includes a number of statements which relate to
anticipated future events (forward-looking statements) rather than actual
present conditions or historical events. You can identify forward-looking
statements because generally they include words such as believes, expects,
intends, anticipates, estimates, and similar expressions.
Forward-looking statements in this report include expected developments in the
Companys insurance business, including losses and loss reserves for APMT
claims which are more uncertain, and therefore more difficult to estimate than
loss reserves respecting traditional property and casualty exposures; the
impact of routine ongoing insurance reserve reviews being conducted by the
Company; the ongoing state regulatory examinations of the Companys primary
insurance company subsidiaries, and the Companys responses to the results of
those reviews and examinations; the Companys expectations concerning its
revenues, earnings, expenses and investment activities; expected cost savings
and other results from the Companys expense reduction and restructuring
activities; and the Companys proposed actions in response to trends in its
business. Forward-looking statements, by their nature, are subject to a variety of
inherent risks and uncertainties that could cause actual results to differ
materially from the results projected. Many of these risks and uncertainties
cannot be controlled by the Company. Some examples of these risks and
uncertainties are:  
    
    general economic and business conditions, including inflationary
pressures on medical care costs, construction costs and other economic
sectors that increase the severity of claims;
    
    changes in financial markets such as fluctuations in interest rates,
long-term periods of low interest rates, credit conditions and currency,
commodity and stock prices;
    
    the effects of corporate bankruptcies, such as Enron and WorldCom, on
surety bond claims, as well as on capital markets, and on the markets for
directors and officers and errors and omissions coverages;
    
    changes in foreign or domestic political, social and economic conditions;
    
    regulatory initiatives and compliance with governmental regulations,
judicial decisions, including interpretation of policy provisions,
decisions regarding coverage and theories of liability, trends in
litigation and the outcome of any litigation involving the Company, and
rulings and changes in tax laws and regulations;
    
    regulatory limitations, impositions and restrictions upon the Company,
including the effects of assessments and other surcharges for guaranty
funds and second-injury funds and other mandatory pooling arrangements; 86




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##### 



CNA FINANCIAL CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued  
    
    the impact of competitive products, policies and pricing and the
competitive environment in which the Company operates, including changes
in the Companys books of business;
    
    product and policy availability and demand and market responses,
including the level of ability to obtain rate increases and decline or
non-renew underpriced accounts, to achieve premium targets and
profitability and to realize growth and retention estimates;
    
    development of claims and the impact on loss reserves, including changes
in claim settlement practices;
    
    the effectiveness of current initiatives by claims management to reduce
loss and expense ratio through more efficacious claims handling
techniques;
    
    the performance of reinsurance companies under reinsurance contracts with the Company;
    
    results of financing efforts, including the availability of bank credit facilities;
    
    changes in the Companys composition of operating segments;
    
    weather and other natural physical events, including the severity and
frequency of storms, hail, snowfall and other winter conditions, as well
as of natural disasters such as hurricanes and earthquakes;
    
    man-made disasters, including the possible occurrence of terrorist
attacks and the effect of the absence of applicable terrorism legislation
on coverages;
    
    the occurrence of epidemics;
    
    exposure to liabilities due to claims made by insureds and others
relating to asbestos remediation and health-based asbestos impairments, as
well as exposure to liabilities for environmental pollution, mass tort,
and construction defect claims;
    
    whether a national privately financed trust to replace litigation of
asbestos claims with payments to claimants from the trust will be
established or approved through federal legislation, or, if established
and approved, whether it will contain funding requirements in excess of
the Companys established loss reserves or carried loss reserves;
    
    the sufficiency of the Companys loss reserves and the possibility of
future increases in reserves;
    
    the risks and uncertainties associated with the Companys loss reserves
as outlined in the Reserves  Estimates and Uncertainties section of this
MD&A;
    
    the level of success in integrating acquired businesses and operations,
and in consolidating, or selling existing ones;
    
    the possibility of further changes in the Companys ratings by ratings
agencies, including the inability to access certain markets or
distribution channels and the required collateralization of future payment
obligations as a result of such changes, and changes in rating agency
policies and practices; and
    
    the actual closing of contemplated transactions and agreements. Any forward-looking statements made in this report are made by the Company as
of the date of this quarterly report. The Company does not have any obligation
to update or revise any forward-looking statement contained in this quarterly
report, even if the Companys expectations or any related events, conditions or
circumstances change. 87




---



##### 



CNA FINANCIAL CORPORATION
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Market Risk Market risk is a broad term related to changes in the fair value of a financial
instrument. Discussions herein regarding market risk focus on only one element
of market risk  price risk. Price risk relates to changes in the level of
prices due to changes in interest rates, equity prices, foreign exchange rates
or other factors that relate to market volatility of the rate, index or price
underlying the financial instrument. The Companys primary market risk
exposures are due to changes in interest rates, although the Company has
certain exposures to changes in equity prices and foreign currency exchange
rates. The fair value of the financial instruments is adversely affected when
interest rates rise, equity markets decline and the dollar strengthens against
foreign currency. Active management of market risk is integral to the Companys operations. The
Company may use the following tools to manage its exposure to market risk
within defined tolerance ranges: (1) change the character of future
investments purchased or sold, (2) use derivatives to offset the market
behavior of existing assets and liabilities or assets expected to be purchased
and liabilities to be incurred, or (3) rebalance its existing asset and
liability portfolios. For purposes of this disclosure, market risk sensitive instruments are divided
into two categories: (1) instruments entered into for trading purposes and (2)
instruments entered into for purposes other than trading. The Companys
general account market risk sensitive instruments presented are classified as
held for purposes other than trading. In accordance with the provisions of SOP 03-01, the classification and
presentation of certain balance sheet and income statement items have been
modified. Accordingly, the
investment securities previously classified as separate account assets have now
been reclassified to the general account and will be reported based on their
investment classification whether available-for-sale or trading securities.
The investment portfolio for the indexed group annuity contracts is classified
as held for trading purposes and is carried at fair value, with both the net
realized and unrealized gains (losses) included within net investment income in
the Condensed Consolidated Statement of Operations. Consistent with
the requirements of SOP 03-01, prior year amounts have not been
conformed to the current year presentation. Sensitivity Analysis CNA monitors its sensitivity to interest rate risk by evaluating the change in
the value of financial assets and liabilities due to fluctuations in interest
rates. The evaluation is performed by applying an instantaneous change in
interest rates of varying magnitudes on a static balance sheet to determine the
effect such a change in rates would have on the Companys fair value at risk
and the resulting effect on stockholders equity. The analysis presents the
sensitivity of the fair value of the Companys financial instruments to
selected changes in market rates and prices. The range of change chosen
reflects the Companys view of changes that are reasonably possible over a
one-year period. The selection of the range of values chosen to represent
changes in interest rates should not be construed as the Companys prediction
of future market events, but rather an illustration of the impact of such
events. The sensitivity analysis estimates the decline in the fair value of the
Companys interest sensitive assets and liabilities that were held on March 31,
2004 and December 31, 2003 due to instantaneous parallel increases in the
period end yield curve of 100 and 150 basis points. 88




---



##### 



CNA FINANCIAL CORPORATION
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The sensitivity analysis also assumes an instantaneous 10% and 20% decline in
the foreign currency exchange rates versus the United States dollar from their
levels at March 31, 2004 and December 31, 2003, with all other variables held
constant. Equity price risk was measured assuming an instantaneous 10% and 25% decline in
the S&P 500 Index (Index) from its level at March 31, 2004 and December 31,
2003, with all other variables held constant. The Companys equity holdings
were assumed to be highly and positively correlated with the Index. At March
31, 2004, a 10% and 25% decrease in the Index would result in a $246 million
and $616 million decrease compared to $245 million and $612 million decrease at
December 31, 2003, in the fair value of the Companys equity investments. 89




---



##### 



CNA FINANCIAL CORPORATION
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK,
Continued Of these amounts, under the 10% and 25% scenarios, $10 million and $26 million
at March 31, 2004 and $168 million and $418 million at December 31, 2003
pertained to decreases in the fair value of the separate account investments.
These decreases would substantially be offset by decreases in related separate
account liabilities to customers. Similarly, increases in the fair value of
the separate account equity investments would also be offset by increases in
the same related separate account liabilities by the same approximate amounts. The following tables present the estimated effects on the fair value of the
Companys financial instruments at March 31, 2004 and December 31, 2003, due to
an increase in interest rates of 100 basis points, a 10% decline in foreign
currency exchange rates and a 10% decline in the Index. Market Risk Scenario 1 Increase (Decrease)Market
    
    Interest
    
    Currency
    
    EquityMarch 31, 2004
    
    Value
    
    Rate Risk
    
    Risk
    
    Risk
 (In millions)General account:Fixed maturity securities available-for-sale
    
    $
    28,298
    
    
    $
    (1,950
    )
    
    $
    (46
    )
    
    $
    (39
    )Fixed maturity trading securities
    
    
    393
    
    
    
    (5
    )
    
    
    
    
    
    
    (4
    )Equity securities available-for-sale
    
    
    504
    
    
    
    
    
    
    
    (28
    )
    
    
    (50
    )Short term investments available-for-sale
    
    
    5,737
    
    
    
    (9
    )
    
    
    (12
    )
    
    
    Short term trading securities
    
    
    390
    
    
    
    
    
    
    
    
    
    
    
    Limited partnerships
    
    
    1,659
    
    
    
    11
    
    
    
    
    
    
    
    (30
    )Other invested assets
    
    
    33
    
    
    
    
    
    
    
    
    
    
    
    Interest rate swaps
    
    
    7
    
    
    
    (2
    )
    
    
    
    
    
    
    Equity indexed futures for trading securities
    
    
    
    
    
    
    2
    
    
    
    
    
    
    
    (113
    )Other derivative securities
    
    
    
    
    
    
    9
    
    
    
    19
    
    
    
    Total general account
    
    
    37,021
    
    
    
    (1,944
    )
    
    
    (67
    )
    
    
    (236
    )Separate accounts:Fixed maturity securities
    
    
    609
    
    
    
    (33
    )
    
    
    
    
    
    
    Equity securities
    
    
    108
    
    
    
    
    
    
    
    
    
    
    
    (11
    )Short term investments
    
    
    20
    
    
    
    
    
    
    
    
    
    
    
    Other invested assets
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1Total separate accounts
    
    
    737
    
    
    
    (33
    )
    
    
    
    
    
    
    (10
    )Total securities
    
    $
    37,758
    
    
    $
    (1,977
    )
    
    $
    (67
    )
    
    $
    (246
    )Debt (carrying value)
    
    $
    2,244
    
    
    $
    (75
    )
    
    $
    
    
    
    $
    
 90




---



##### 



CNA FINANCIAL CORPORATION
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK,
Continued Market Risk Scenario 1 Increase (Decrease)Fair
    
    Interest
    
    Currency
    
    EquityDecember 31, 2003
    
    Value
    
    Rate Risk
    
    Risk
    
    Risk(In millions)Held for Other Than Trading Purposes:General account:Fixed maturity securities
    
    $
    28,678
    
    
    $
    (1,979
    )
    
    $
    (35
    )
    
    $
    (13
    )Equity securities
    
    
    527
    
    
    
    
    
    
    
    (26
    )
    
    
    (51
    )Short term investments
    
    
    7,538
    
    
    
    (5
    )
    
    
    (16
    )
    
    
    Limited partnerships
    
    
    1,117
    
    
    
    5
    
    
    
    
    
    
    
    (13
    )Other invested assets
    
    
    233
    
    
    
    
    
    
    
    
    
    
    
    Interest rate swaps
    
    
    (5
    )
    
    
    3
    
    
    
    
    
    
    
    Other derivative securities
    
    
    12
    
    
    
    (108
    )
    
    
    1
    
    
    
    Total general account
    
    
    38,100
    
    
    
    (2,084
    )
    
    
    (76
    )
    
    
    (77
    )Separate accounts:Fixed maturity securities
    
    
    1,809
    
    
    
    (113
    )
    
    
    
    
    
    
    Equity securities
    
    
    117
    
    
    
    
    
    
    
    
    
    
    
    (12
    )Short term investments
    
    
    82
    
    
    
    
    
    
    
    
    
    
    
    Other invested assets
    
    
    415
    
    
    
    
    
    
    
    
    
    
    
    (41
    )Total separate accounts
    
    
    2,423
    
    
    
    (113
    )
    
    
    
    
    
    
    (53
    )Total securities held for other than trading purposes
    
    
    40,523
    
    
    
    (2,197
    )
    
    
    (76
    )
    
    
    (130
    )Held for Trading Purposes:Separate accounts:Fixed maturity securities
    
    
    304
    
    
    
    (4
    )
    
    
    
    
    
    
    (1
    )Short term investments
    
    
    414
    
    
    
    
    
    
    
    
    
    
    
    Limited partnerships
    
    
    419
    
    
    
    2
    
    
    
    
    
    
    
    (3
    )Equity indexed futures
    
    
    
    
    
    
    2
    
    
    
    
    
    
    
    (111
    )Other derivative securities
    
    
    
    
    
    
    (1
    )
    
    
    
    
    
    
    Total securities held for trading purposes
    
    
    1,137
    
    
    
    (1
    )
    
    
    
    
    
    
    (115
    )Total securities
    
    $
    41,660
    
    
    $
    (2,198
    )
    
    $
    (76
    )
    
    $
    (245
    )Debt (carrying value)
    
    $
    1,904
    
    
    $
    (70
    )
    
    $
    
    
    
    $
    
 91




---



##### 



CNA FINANCIAL CORPORATION
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK,
Continued The following tables present the estimated effects on the fair value of the
Companys financial instruments at March 31, 2004 and December 31, 2003, due to
an increase in interest rates of 150 basis points, a 20% decline in foreign
currency exchange rates and a 25% decline in the Index. Market Risk Scenario 2 Increase (Decrease)Market
    
    Interest
    
    Currency
    
    EquityMarch 31, 2004
    
    Value
    
    Rate Risk
    
    Risk
    
    Risk(In millions)General account:Fixed maturity securities available-for-sale
    
    $
    28,298
    
    
    $
    (2,872
    )
    
    $
    (93
    )
    
    $
    (97
    )Fixed maturity trading securities
    
    
    393
    
    
    
    (8
    )
    
    
    
    
    
    
    (10
    )Equity securities available-for-sale
    
    
    504
    
    
    
    
    
    
    
    (56
    )
    
    
    (125
    )Short term investments available-for-sale
    
    
    5,737
    
    
    
    (13
    )
    
    
    (24
    )
    
    
    Short term trading securities
    
    
    390
    
    
    
    (1
    )
    
    
    
    
    
    
    Limited partnerships
    
    
    1,659
    
    
    
    16
    
    
    
    
    
    
    
    (77
    )Other invested assets
    
    
    33
    
    
    
    
    
    
    
    
    
    
    
    Interest rate swaps
    
    
    7
    
    
    
    (3
    )
    
    
    
    
    
    
    Equity indexed futures for trading securities
    
    
    
    
    
    
    4
    
    
    
    
    
    
    
    (281
    )Other derivative securities
    
    
    
    
    
    
    13
    
    
    
    39
    
    
    
    Total general account
    
    
    37,021
    
    
    
    (2,864
    )
    
    
    (134
    )
    
    
    (590
    )Separate accounts:Fixed maturity securities
    
    
    609
    
    
    
    (49
    )
    
    
    
    
    
    
    Equity securities
    
    
    108
    
    
    
    
    
    
    
    
    
    
    
    (27
    )Short term investments
    
    
    20
    
    
    
    
    
    
    
    
    
    
    
    Other invested assets
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1Total separate accounts
    
    
    737
    
    
    
    (49
    )
    
    
    
    
    
    
    (26
    )Total securities
    
    $
    37,758
    
    
    $
    (2,913
    )
    
    $
    (134
    )
    
    $
    (616
    )Debt (carrying value)
    
    $
    2,244
    
    
    $
    (107
    )
    
    $
    
    
    
    $
    
 92




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##### 



CNA FINANCIAL CORPORATION
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK,
Continued Market Risk Scenario 2 Increase (Decrease)Fair
    
    Interest
    
    Currency
    
    EquityDecember 31, 2003
    
    Value
    
    Rate Risk
    
    Risk
    
    Risk(In millions)Held for Other Than Trading Purposes:General account:Fixed maturity securities
    
    $
    28,678
    
    
    $
    (2,896
    )
    
    $
    (71
    )
    
    $
    (32
    )Equity securities
    
    
    527
    
    
    
    
    
    
    
    (52
    )
    
    
    (129
    )Short term investments
    
    
    7,538
    
    
    
    (7
    )
    
    
    (32
    )
    
    
    Limited partnerships
    
    
    1,117
    
    
    
    7
    
    
    
    
    
    
    
    (33
    )Other invested assets
    
    
    233
    
    
    
    
    
    
    
    
    
    
    
    Interest rate caps
    
    
    
    
    
    
    1
    
    
    
    
    
    
    
    Interest rate swaps
    
    
    (5
    )
    
    
    4
    
    
    
    
    
    
    
    Other derivative securities
    
    
    12
    
    
    
    (184
    )
    
    
    3
    
    
    
    Total general account
    
    
    38,100
    
    
    
    (3,075
    )
    
    
    (152
    )
    
    
    (194
    )Separate accounts:Fixed maturity securities
    
    
    1,809
    
    
    
    (165
    )
    
    
    
    
    
    
    Equity securities
    
    
    117
    
    
    
    
    
    
    
    
    
    
    
    (29
    )Short term investments
    
    
    82
    
    
    
    
    
    
    
    
    
    
    
    Other invested assets
    
    
    415
    
    
    
    
    
    
    
    
    
    
    
    (103
    )Total separate accounts
    
    
    2,423
    
    
    
    (165
    )
    
    
    
    
    
    
    (132
    )Total securities held for other than trading purposes
    
    
    40,523
    
    
    
    (3,240
    )
    
    
    (152
    )
    
    
    (326
    )Held for Trading Purposes:Separate accounts:Fixed maturity securities
    
    
    304
    
    
    
    (6
    )
    
    
    
    
    
    
    (2
    )Equity securities
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Short term investments
    
    
    414
    
    
    
    (1
    )
    
    
    
    
    
    
    Limited partnerships
    
    
    419
    
    
    
    3
    
    
    
    
    
    
    
    (7
    )Equity indexed futures
    
    
    
    
    
    
    4
    
    
    
    
    
    
    
    (277
    )Other derivative securities
    
    
    
    
    
    
    (1
    )
    
    
    
    
    
    
    Total securities held for trading purposes
    
    
    1,137
    
    
    
    (1
    )
    
    
    
    
    
    
    (286
    )Total securities
    
    $
    41,660
    
    
    $
    (3,241
    )
    
    $
    (152
    )
    
    $
    (612
    )Debt (carrying value)
    
    $
    1,904
    
    
    $
    (102
    )
    
    $
    
    
    
    $
    
 93




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##### 



CNA FINANCIAL CORPORATION
ITEM 4. CONTROLS AND PROCEDURES The Company maintains a system of disclosure controls and procedures which are
designed to ensure that information required to be disclosed by the Company in
reports that it files or submits to the Securities and Exchange Commission
under the Securities Exchange Act of 1934, including this report, is recorded,
processed, summarized and reported on a timely basis. These disclosure
controls and procedures include controls and procedures designed to ensure that
information required to be disclosed under the Exchange Act is accumulated and
communicated to the Companys management on a timely basis to allow decisions
regarding required disclosure. The Companys principal executive officer and its principal financial officer
undertook an evaluation of the Companys disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of the end of the
period covered by this report and concluded that the Companys controls and
procedures were effective. Management, in consultation with the Companys independent accountants,
previously identified deficiencies in certain aspects of initial policy set-up
and processing for large account property and casualty business in the Standard
Lines segment which constituted a Reportable Condition under standards
established by the American Institute of Certified Public Accountants. These
deficiencies impacted the quality of the claim data used by the Companys
actuaries as the basis for their comprehensive actuarial reviews, which
hampered the timeliness of these reviews. During the first quarter of
2004, the
Company completed its remediation efforts and has cured the aforementioned
deficiencies. There were no other changes in the Companys internal control over financial
reporting identified in connection with the foregoing evaluation that occurred
during the Companys last fiscal quarter that have materially affected, or are
reasonably likely to materially affect, the Companys internal control over
financial reporting. 94




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##### 



CNA FINANCIAL CORPORATION
PART II. OTHER INFORMATION 
 Item 1. Legal Proceedings Information on CNAs legal proceedings is set forth in Notes F and G of the
Condensed Consolidated Financial Statements included under Part I, Item 1. 
 Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities (b) The conversion of the Series I convertible preferred stock into CNAF common
stock on April 20, 2004 resulted in a total of 255,946,852 shares of CNAF
common stock outstanding. At conversion Loews owned 233,620,515 shares of
common stock, or approximately 91% of the outstanding shares. No cash proceeds
were received by CNA in connection with the conversion of the Series I
convertible preferred stock. 
 Item 4. Submission of Matters to a Vote of Security Holders Pursuant to written notice
sent to CNAF shareholders on March 29, 2004,
authorization of the conversion of the Series I convertible preferred stock
into CNAF common stock was given pursuant to written consent of the majority
shareholders of CNAF. 
 Item 6. Exhibits and Reports on Form 8-K (a) Exhibits Description of Exhibit
    
    Exhibit NumberCertification of Chief Executive Officer pursuant to 18 U.S.C. 1350,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
    
    
    31.1Certification of Chief Financial Officer pursuant to 18 U.S.C. 1350,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
    
    
    31.2Certification of Chief Executive Officer pursuant to 18 U.S.C. 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
    
    
    32.1
    *Certification of Chief Financial Officer pursuant to 18 U.S.C. 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
    
    
    32.2
    *
   *
    
    Exhibits 32.1 and 32.2 are being furnished and shall not be deemed
filed for the purpose of Section 18 of the Securities Exchange Act of
1934, as amended, or otherwise subject to the liabilities of that Section.
These Exhibits shall not be incorporated by reference into any
registration statement or other document pursuant to the Securities Act of
1933, as amended. (b) Reports on Form 8-K On January 5, 2004, CNA Financial Corporation issued a press release announcing
that it had completed the previously announced sale of its Group Benefits
business to Hartford for approximately $500 million. 95




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##### 



CNA FINANCIAL CORPORATION
PART II. OTHER INFORMATION On February 5, 2004, CNA Financial Corporation issued a press release
announcing that it had entered into a definitive agreement to sell its
individual life insurance business to Swiss Re for approximately $690 million. On February 12, 2004 CNA Financial Corporation issued a press release and
financial supplement providing information on its results of operations for the
fourth quarter and year-end 2003. On March 30, 2004 CNA Financial Corporation issued a press release announcing
that the previously announced sale of its individual life insurance business,
initially expected to close on March 31, 2004, is now anticipated to be
completed on April 30, 2004, subject to certain customary closing conditions
and regulatory approvals. 96




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##### 



CNA FINANCIAL CORPORATION
PART II. OTHER INFORMATION 
 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. CNA Financial CorporationDated: April 30, 2004
    
    By
    
    /s/ Robert V. DeutschRobert V. DeutschExecutive Vice President andChief Financial Officer(Principal Accounting Officer)
 97