##### Table of Contents



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 SECURITIES
EXCHANGE ACT OF 1934
 For the quarterly period ended March 31, 2008
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 For the transition period from  to
 Commission file number: 1-13277
 CNA SURETY CORPORATION
 (Exact name of Registrant as specified in its Charter)
 DELAWARE
    
    36-4144905(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)333 S. WABASH AVE., CHICAGO, ILLINOIS
    
    60604(Address of principal executive offices)
    
    (Zip Code)
 (312) 822-5000
(Registrants telephone number, including area code)
 þ o
  Large accelerated filer o
    
    Accelerated filer þ
    
    Non-accelerated filer o
    
    Smaller Reporting Company o(Do not check if a smaller reporting company)
 o þ
 
 o o




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##### 



PagePART I. FINANCIAL INFORMATIONItem 1. Condensed Consolidated Financial Statements (Unaudited):
    
    
    3Condensed Consolidated Balance Sheets at March 31, 2008 and at December 31, 2007
    
    
    3Condensed Consolidated Statements of Income for the Three Months Ended March 31, 2008 and 2007
    
    
    4Condensed Consolidated Statements of Stockholders Equity for the Three Months Ended March 31, 2008 and 2007
    
    
    5Condensed Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2008 and 2007
    
    
    6Notes to Condensed Consolidated Financial Statements
    
    
    7Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    17Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    31Item 4. Controls and Procedures
    
    
    33PART II. OTHER INFORMATION
    
    
    33Item 1. Legal Proceedings
    
    
    33Item 1A. Risk Factors
    
    
    33Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    33Item 3. Defaults Upon Senior Securities
    
    
    33Item 4. Submission of Matters to a Vote of Security Holders
    
    
    33Item 5. Other Information
    
    
    34Item 6. Exhibits
    
    
    34302 Certification of Chief Executive Officer302 Certification of Chief Financial Officer906 Certification of Chief Executive Officer906 Certification of Chief Financial Officer
  2




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##### Table of Contents



March 31,
    
    
    December 31,2008
    
    
    2007ASSETSInvested assets:Fixed income securities, at fair value (amortized cost: $976,729 and $949,708)
    
    $
    986,179
    
    
    $
    963,354Equity securities, at fair value (cost: $1,860 and $1,683)
    
    
    1,858
    
    
    
    1,789Short-term investments, at cost (approximates fair value)
    
    
    20,695
    
    
    
    49,453Total invested assets
    
    
    1,008,732
    
    
    
    1,014,596Cash
    
    
    13,350
    
    
    
    10,230Deferred policy acquisition costs
    
    
    105,834
    
    
    
    104,280Insurance receivables:Premiums, including $12,123 and $12,317 from affiliates, (net of allowance for
doubtful accounts: $1,057 and $1,145)
    
    
    42,525
    
    
    
    36,317Reinsurance, including $57,095 and $50,547 from affiliates
    
    
    139,427
    
    
    
    127,119Deposit with affiliated ceding company
    
    
    34,919
    
    
    
    34,644Intangible assets (net of accumulated amortization: $25,523 and $25,523)
    
    
    138,785
    
    
    
    138,785Current income taxes receivable
    
    
    
    
    
    
    1,960Property and equipment, at cost (less accumulated depreciation
and amortization: $29,964 and $29,467)
    
    
    25,121
    
    
    
    24,288Prepaid reinsurance premiums (including $207 and $322 from affiliates)
    
    
    404
    
    
    
    510Accrued investment income
    
    
    11,926
    
    
    
    12,242Other assets
    
    
    17,402
    
    
    
    2,683Total assets
    
    $
    1,538,425
    
    
    $
    1,507,654LIABILITIESReserves:Unpaid losses and loss adjustment expenses
    
    $
    482,188
    
    
    $
    472,842Unearned premiums
    
    
    264,627
    
    
    
    258,930Total reserves
    
    
    746,815
    
    
    
    731,772Debt
    
    
    30,816
    
    
    
    30,791Deferred income taxes, net
    
    
    16,757
    
    
    
    17,756Reinsurance and other payables to affiliates
    
    
    183
    
    
    
    643Accrued expenses
    
    
    11,778
    
    
    
    18,273Liability for postretirement benefits
    
    
    10,159
    
    
    
    10,001Federal income tax payable
    
    
    7,321
    
    
    
    Other liabilities
    
    
    26,319
    
    
    
    30,713Total liabilities
    
    
    850,148
    
    
    
    839,949Commitments and contingencies (See Notes 3, 5, & 8)STOCKHOLDERS EQUITYCommon stock, par value $.01 per share, 100,000 shares authorized; 45,517 shares
issued and 44,137 shares outstanding at March 31, 2008 and 45,505 shares issued
and 44,121 shares outstanding at December 31, 2007
    
    
    455
    
    
    
    455Additional paid-in capital
    
    
    274,722
    
    
    
    274,069Retained earnings
    
    
    422,143
    
    
    
    399,241Accumulated other comprehensive income
    
    
    5,776
    
    
    
    8,800Treasury stock, 1,380 and 1,384 shares, at cost
    
    
    (14,819
    )
    
    
    (14,860
    )Total stockholders equity
    
    
    688,277
    
    
    
    667,705Total liabilities and stockholders equity
    
    $
    1,538,425
    
    
    $
    1,507,654
  3




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##### Table of Contents



Three Months EndedMarch 31,2008
    
    
    2007Revenues:Net earned premium
    
    $
    102,641
    
    
    $
    98,303Net investment income
    
    
    11,765
    
    
    
    10,701Net realized investment (losses) gains
    
    
    (9
    )
    
    
    279Total revenues
    
    
    114,397
    
    
    
    109,283Expenses:Net losses and loss adjustment expenses
    
    
    25,968
    
    
    
    24,943Net commissions, brokerage and other underwriting expenses
    
    
    55,287
    
    
    
    53,898Interest expense
    
    
    619
    
    
    
    721Total expenses
    
    
    81,874
    
    
    
    79,562Income before income taxes
    
    
    32,523
    
    
    
    29,721Income tax expense
    
    
    9,621
    
    
    
    8,972Net income
    
    $
    22,902
    
    
    $
    20,749Earnings per common share
    
    $
    0.52
    
    
    $
    0.47Earnings per common share, assuming dilution
    
    $
    0.52
    
    
    $
    0.47Weighted average shares outstanding
    
    
    44,130
    
    
    
    43,931Weighted average shares outstanding, assuming dilution
    
    
    44,273
    
    
    
    44,217
  4




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##### Table of Contents



Common
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    AccumulatedStock
    
    
    
    
    
    
    Additional
    
    
    
    
    
    
    
    
    
    
    Other
    
    
    Treasury
    
    
    TotalShares
    
    
    Common
    
    
    Paid-In
    
    
    Comprehensive
    
    
    Retained
    
    
    Comprehensive
    
    
    Stock
    
    
    StockholdersOutstanding
    
    
    Stock
    
    
    Capital
    
    
    Income (Loss)
    
    
    Earnings
    
    
    Income (Loss)
    
    
    At Cost
    
    
    EquityBalance, December 31, 2006
    
    
    43,872
    
    
    $
    453
    
    
    $
    268,651
    
    
    
    
    
    
    $
    306,745
    
    
    $
    4,993
    
    
    $
    (14,940
    )
    
    $
    565,902Comprehensive income:Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    20,749
    
    
    
    20,749
    
    
    
    
    
    
    
    
    
    
    
    20,749Other comprehensive income:Change in unrealized gains on
securities, after income tax
benefit of $644 (net of
reclassification adjustment of
($161), after income tax
benefit of $87)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,196
    )
    
    
    
    
    
    
    (1,196
    )
    
    
    
    
    
    
    (1,196
    )Net change related to
postretirement benefits, after
income tax expense of $15
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    26
    
    
    
    
    
    
    
    26
    
    
    
    
    
    
    
    26Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    19,579
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Stock-based compensation
    
    
    
    
    
    
    
    
    
    
    490
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    490Stock options exercised and other
    
    
    109
    
    
    
    1
    
    
    
    1,571
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    37
    
    
    
    1,609Balance, March 31, 2007
    
    
    43,981
    
    
    $
    454
    
    
    $
    270,712
    
    
    
    
    
    
    $
    327,494
    
    
    $
    3,823
    
    
    $
    (14,903
    )
    
    $
    587,580Balance, December 31, 2007
    
    
    44,121
    
    
    $
    455
    
    
    $
    274,069
    
    
    
    
    
    
    $
    399,241
    
    
    $
    8,800
    
    
    $
    (14,860
    )
    
    $
    667,705Comprehensive income:Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    22,902
    
    
    
    22,902
    
    
    
    
    
    
    
    
    
    
    
    22,902Other comprehensive income:Change in unrealized gains on
securities, after income tax
benefit of $1,506 (net of
reclassification adjustment of
$1, after income tax expense
of $0)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2,797
    )
    
    
    
    
    
    
    (2,797
    )
    
    
    
    
    
    
    (2,797
    )Net change related to
postretirement benefits, after
income tax expense of $206
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (227
    )
    
    
    
    
    
    
    (227
    )
    
    
    
    
    
    
    (227
    )Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    19,878
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Stock-based compensation
    
    
    
    
    
    
    
    
    
    
    500
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    500Stock options exercised and other
    
    
    16
    
    
    
    
    
    
    
    153
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    41
    
    
    
    194Balance, March 31, 2008
    
    
    44,137
    
    
    $
    455
    
    
    $
    274,722
    
    
    
    
    
    
    $
    422,143
    
    
    $
    5,776
    
    
    $
    (14,819
    )
    
    $
    688,277
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##### Table of Contents



Three Months EndedMarch 31,2008
    
    
    2007CASH FLOWS FROM OPERATING ACTIVITIES:Net income
    
    $
    22,902
    
    
    $
    20,749Adjustments to reconcile net income to net cash provided by operating activities:Provision for doubtful accounts
    
    
    (91
    )
    
    
    (148
    )Depreciation and amortization
    
    
    1,315
    
    
    
    1,426Amortization (accretion) of bond premium (discount), net
    
    
    617
    
    
    
    (155
    )Loss (gain) on disposal of property and equipment
    
    
    37
    
    
    
    (31
    )Net realized investment losses (gains)
    
    
    9
    
    
    
    (279
    )Stock-based compensation
    
    
    500
    
    
    
    490Changes in:Insurance receivables
    
    
    (18,425
    )
    
    
    (5,295
    )Reserve for unearned premiums
    
    
    5,697
    
    
    
    9,858Reserve for unpaid losses and loss adjustment expenses
    
    
    9,346
    
    
    
    (2,250
    )Deposits with affiliated ceding company
    
    
    (275
    )
    
    
    (305
    )Deferred policy acquisition costs
    
    
    (1,554
    )
    
    
    (2,841
    )Deferred income taxes, net
    
    
    283
    
    
    
    289Reinsurance and other payables to affiliates
    
    
    (460
    )
    
    
    129Prepaid reinsurance premiums
    
    
    106
    
    
    
    614Accrued expenses
    
    
    (6,495
    )
    
    
    (8,494
    )Other assets and liabilities
    
    
    5,681
    
    
    
    149Net cash provided by operating activities
    
    
    19,193
    
    
    
    13,906CASH FLOWS FROM INVESTING ACTIVITIES:Fixed income securities:Purchases
    
    
    (52,316
    )
    
    
    (66,628
    )Maturities
    
    
    5,476
    
    
    
    8,008Sales
    
    
    19,000
    
    
    
    3,214Purchases of equity securities
    
    
    (300
    )
    
    
    (298
    )Proceeds from the sale of equity securities
    
    
    114
    
    
    
    202Changes in short-term investments
    
    
    28,960
    
    
    
    43,554Purchases of property and equipment, net
    
    
    (2,161
    )
    
    
    (1,549
    )Change in receivables for securities sold
    
    
    (15,141
    )
    
    
    Other, net
    
    
    100
    
    
    
    (9
    )Net cash used in investing activities
    
    
    (16,268
    )
    
    
    (13,506
    )CASH FLOWS FROM FINANCING ACTIVITIES:Employee stock option exercises and other
    
    
    195
    
    
    
    1,609Net cash provided by financing activities
    
    
    195
    
    
    
    1,609Increase in cash
    
    
    3,120
    
    
    
    2,009Cash at beginning of period
    
    
    10,230
    
    
    
    7,164Cash at end of period
    
    $
    13,350
    
    
    $
    9,173Supplemental Disclosure of Cash Flow Information:Cash paid during the period forInterest
    
    $
    670
    
    
    $
    711Income taxes
    
    $
    38
    
    
    $
    584
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##### Table of Contents



CNA SURETY CORPORATION AND SUBSIDIARIES
 
 NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2008
(UNAUDITED)
 1. Significant Accounting Policies
 Formation of CNA Surety Corporation and Merger
  Principles of Consolidation
  Estimates
  Basis of Presentation
  Earnings Per Share
  7




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##### Table of Contents



Three Months EndedMarch 31,2008
    
    
    2007Net income
    
    $
    22,902
    
    
    $
    20,749Shares:Weighted average shares outstanding
    
    
    44,121
    
    
    
    43,872Weighted average shares of options exercised and additional stock issuance
    
    
    9
    
    
    
    59Total weighted average shares outstanding
    
    
    44,130
    
    
    
    43,931Effect of dilutive options
    
    
    143
    
    
    
    286Total weighted average shares outstanding, assuming dilution
    
    
    44,273
    
    
    
    44,217Earnings per share
    
    $
    0.52
    
    
    $
    0.47Earnings per share, assuming dilution
    
    $
    0.52
    
    
    $
    0.47
  Accounting Pronouncements
    8




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##### Table of Contents



2. Investments
  Gross
    
    
    Gross Unrealized LossesAmortized Cost
    
    
    Unrealized
    
    
    Less Than
    
    
    More Than
    
    
    EstimatedMarch 31, 2008
    
    or Cost
    
    
    Gains
    
    
    12 Months
    
    
    12 Months
    
    
    Fair ValueFixed income securities:U.S. Treasury securities and obligations of
U.S. Government and agencies:U.S. Treasury
    
    $
    17,775
    
    
    $
    1,167
    
    
    $
    
    
    
    $
    
    
    
    $
    18,942U.S. Agencies
    
    
    52,611
    
    
    
    1,422
    
    
    
    
    
    
    
    
    
    
    
    54,033Collateralized mortgage obligations
    
    
    29,220
    
    
    
    543
    
    
    
    (64
    )
    
    
    
    
    
    
    29,699Mortgage pass-through securities
    
    
    61,759
    
    
    
    658
    
    
    
    (39
    )
    
    
    (166
    )
    
    
    62,212Obligations of states and political subdivisions
    
    
    645,533
    
    
    
    15,609
    
    
    
    (5,337
    )
    
    
    (3,887
    )
    
    
    651,918Corporate bonds
    
    
    97,266
    
    
    
    2,248
    
    
    
    (105
    )
    
    
    (1,592
    )
    
    
    97,817Non-agency collateralized mortgage obligations
    
    
    35,022
    
    
    
    16
    
    
    
    (118
    )
    
    
    (580
    )
    
    
    34,340Other asset-backed securities:Second mortgages/home equity loans
    
    
    9,528
    
    
    
    
    
    
    
    (58
    )
    
    
    (717
    )
    
    
    8,753Credit card receivables
    
    
    17,235
    
    
    
    444
    
    
    
    (331
    )
    
    
    
    
    
    
    17,348Other
    
    
    10,780
    
    
    
    337
    
    
    
    
    
    
    
    
    
    
    
    11,117Total fixed income securities
    
    
    976,729
    
    
    
    22,444
    
    
    
    (6,052
    )
    
    
    (6,942
    )
    
    
    986,179Equity securities
    
    
    1,860
    
    
    
    50
    
    
    
    (52
    )
    
    
    
    
    
    
    1,858Total
    
    $
    978,589
    
    
    $
    22,494
    
    
    $
    (6,104
    )
    
    $
    (6,942
    )
    
    $
    988,037
 Gross
    
    
    Gross Unrealized LossesAmortized Cost
    
    
    Unrealized
    
    
    Less Than
    
    
    More Than
    
    
    EstimatedDecember 31, 2007
    
    or Cost
    
    
    Gains
    
    
    12 Months
    
    
    12 Months
    
    
    Fair ValueFixed income securities:U.S. Treasury securities and obligations of
U.S. Government and agencies:U.S. Treasury
    
    $
    17,790
    
    
    $
    485
    
    
    $
    
    
    
    $
    
    
    
    $
    18,275U.S. Agencies
    
    
    52,617
    
    
    
    706
    
    
    
    
    
    
    
    (15
    )
    
    
    53,308Collateralized mortgage obligations
    
    
    30,086
    
    
    
    502
    
    
    
    (11
    )
    
    
    (107
    )
    
    
    30,470Mortgage pass-through securities
    
    
    54,659
    
    
    
    401
    
    
    
    
    
    
    
    (586
    )
    
    
    54,474Obligations of states and political subdivisions
    
    
    625,858
    
    
    
    15,408
    
    
    
    (2,500
    )
    
    
    (641
    )
    
    
    638,125Corporate bonds
    
    
    95,714
    
    
    
    1,493
    
    
    
    (97
    )
    
    
    (1,408
    )
    
    
    95,702Non-agency collateralized mortgage obligations
    
    
    35,011
    
    
    
    232
    
    
    
    
    
    
    
    (699
    )
    
    
    34,544Other asset-backed securities:Second mortgages/home equity loans
    
    
    9,951
    
    
    
    
    
    
    
    
    
    
    
    (50
    )
    
    
    9,901Credit card receivables
    
    
    17,234
    
    
    
    451
    
    
    
    
    
    
    
    
    
    
    
    17,685Other
    
    
    10,788
    
    
    
    157
    
    
    
    
    
    
    
    (75
    )
    
    
    10,870Total fixed income securities
    
    
    949,708
    
    
    
    19,835
    
    
    
    (2,608
    )
    
    
    (3,581
    )
    
    
    963,354Equity securities
    
    
    1,683
    
    
    
    106
    
    
    
    
    
    
    
    
    
    
    
    1,789Total
    
    $
    951,391
    
    
    $
    19,941
    
    
    $
    (2,608
    )
    
    $
    (3,581
    )
    
    $
    965,143
    9




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##### Table of Contents



3. Reinsurance
  Three Months Ended March 31,2008
    
    
    2007Written
    
    
    Earned
    
    
    Written
    
    
    EarnedDirect
    
    $
    91,060
    
    
    $
    84,346
    
    
    $
    92,555
    
    
    $
    80,674Assumed
    
    
    25,565
    
    
    
    26,583
    
    
    
    25,859
    
    
    
    27,882Ceded
    
    
    (8,181
    )
    
    
    (8,288
    )
    
    
    (9,639
    )
    
    
    (10,253
    )Net premiums
    
    $
    108,444
    
    
    $
    102,641
    
    
    $
    108,775
    
    
    $
    98,303
    Three Months Ended March 31,2008
    
    
    2007$
    
    
    Ratio
    
    
    $
    
    
    RatioGross losses and loss adjustment expenses
    
    $
    39,105
    
    
    
    35.3
    %
    
    $
    28,293
    
    
    
    26.1
    %Ceded amounts
    
    
    (13,137
    )
    
    
    158.5
    %
    
    
    (3,350
    )
    
    
    32.7
    %Net losses and loss adjustment expenses
    
    $
    25,968
    
    
    
    25.3
    %
    
    $
    24,943
    
    
    
    25.4
    %
 10




---



##### Table of Contents



2008 Third Party Reinsurance Compared to 2007 Third Party Reinsurance
  Related Party Reinsurance
      11




---



##### Table of Contents



4. Fair Value of Financial Instruments
  
    
    Level 1  Quoted prices for identical instruments in active markets.
    
    Level 2  Quoted prices for similar instruments in active markets; quoted prices
for identical or similar instruments in markets that are not active; and
model-derived valuations in which all significant inputs are observable in active
markets.
    
    Level 3  Valuations derived from valuation techniques in which one or more
significant inputs are unobservable.
   Fixed Income Securities
  12




---



##### Table of Contents



Equity Securities
  Short-Term Investments
   March 31, 2008Fair Value Measurements UsingLevel 1
    
    
    Level 2
    
    
    Level 3
    
    
    Assets at Fair ValueAssets:Fixed income securities at fair value
    
    $
    33,552
    
    
    $
    952,627
    
    
    
    
    
    
    $
    986,179Equity securities at fair value
    
    
    1,858
    
    
    
    
    
    
    
    
    
    
    
    1,858Short term investments at fair value (a)
    
    
    13,802
    
    
    
    6,893
    
    
    
    
    
    
    
    20,695Total assets
    
    $
    49,212
    
    
    $
    959,520
    
    
    
    
    
    
    $
    1,008,732
 
 (a)
    
    Includes commercial paper and money market instruments.  5. Reserves for Losses and Loss Adjustment Expenses
  Three Months EndedMarch 31,2008
    
    
    2007Reserves at beginning of period:Gross
    
    $
    472,842
    
    
    $
    434,224Ceded reinsurance
    
    
    150,496
    
    
    
    144,858Net reserves at beginning of period
    
    
    322,346
    
    
    
    289,366Net incurred loss and loss adjustment expenses:Provision for insured events of current period
    
    
    25,966
    
    
    
    24,969Increase (decrease) in provision for insured events of prior periods
    
    
    2
    
    
    
    (26
    )Total net incurred
    
    
    25,968
    
    
    
    24,943Net payments attributable to:Current period events
    
    
    815
    
    
    
    2,275Prior period events
    
    
    22,858
    
    
    
    23,736Total net payments
    
    
    23,673
    
    
    
    26,011Net reserves at end of period
    
    
    324,641
    
    
    
    288,298Ceded reinsurance at end of period
    
    
    157,547
    
    
    
    143,676Gross reserves at end of period
    
    $
    482,188
    
    
    $
    431,974
 13




---



##### Table of Contents



6. Debt
      7. Employee Benefits
   Three Months EndedMarch 31,2008
    
    
    2007Net periodic benefit cost:Service cost
    
    $
    59
    
    
    $
    76Interest cost
    
    
    145
    
    
    
    173Amortization of prior service cost
    
    
    (27
    )
    
    
    (41
    )Net amortization of actuarial loss
    
    
    6
    
    
    
    82Net periodic benefit cost
    
    $
    183
    
    
    $
    290
 14




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##### Table of Contents



8. Commitments and Contingencies
  9. Stockholders Equity
  Equity Compensation Plans
      15




---



##### Table of Contents



WeightedAverageShares
    
    ExerciseSubject
    
    Price PerTo Option
    
    ShareOutstanding options at January 1, 2007
    
    
    1,008,525
    
    
    $
    12.02Options granted
    
    
    334,100
    
    
    $
    20.70Options forfeited
    
    
    (15,650
    )
    
    $
    12.75Options expired
    
    
    (200
    )
    
    $
    15.88Options exercised
    
    
    (103,485
    )
    
    $
    12.06Outstanding options at March 31, 2007
    
    
    1,223,290
    
    
    $
    14.37Outstanding options at January 1, 2008
    
    
    1,054,588
    
    
    $
    14.53Options granted
    
    
    259,380
    
    
    $
    16.35Options forfeited
    
    
    (8,390
    )
    
    $
    16.56Options expired
    
    
    (3,000
    )
    
    $
    9.35Options exercised
    
    
    (11,625
    )
    
    $
    11.18Outstanding options at March 31, 2008
    
    
    1,290,953
    
    
    $
    14.93
  WeightedShares
    
    AverageSubject
    
    Grant DateTo Option
    
    Fair ValueNon-vested options at January 1, 2007
    
    
    481,613
    
    
    $
    4.51Options granted
    
    
    334,100
    
    
    $
    9.04Options vested
    
    
    
    
    
    
    Options forfeited
    
    
    (15,650
    )
    
    $
    4.82Non-vested options at March 31, 2007
    
    
    800,063
    
    
    $
    6.40Non-vested options at January 1, 2008
    
    
    554,557
    
    
    $
    7.23Options granted
    
    
    259,380
    
    
    $
    6.32Options vested
    
    
    (78,820
    )
    
    $
    9.04Options forfeited
    
    
    (8,390
    )
    
    $
    6.72Non-vested options at March 31, 2008
    
    
    726,727
    
    
    $
    6.80
  Options Vested or Expected to VestWeighted
    
    
    
    
    
    Weighted AverageAverage
    
    Aggregate
    
    RemainingNumber
    
    Exercise Price
    
    Intrinsic Value
    
    Contractual LifeMarch 31, 2008
    
    
    1,189,528
    
    
    $
    14.65
    
    
    $
    2,513,081
    
    
    7.4 years
 Options ExercisableWeighted
    
    
    
    
    
    Weighted AverageAverage
    
    Aggregate
    
    RemainingNumber
    
    Exercise Price
    
    Intrinsic Value
    
    Contractual LifeMarch 31, 2008
    
    
    564,226
    
    
    $
    12.74
    
    
    $
    1,915,500
    
    
    6.1 years
   16




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##### Table of Contents



CNA SURETY CORPORATION AND SUBSIDIARIES
 
 ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 General
  Critical Accounting Policies
  Reserves for Unpaid Losses and Loss Adjustment Expenses and Reinsurance
     17




---



##### Table of Contents



Gross Case Loss
    
    
    Gross IBNR Loss
    
    
    Total Grossand LAE Reserves
    
    
    and LAE Reserves
    
    
    ReservesContract
    
    $
    106,070
    
    
    $
    193,117
    
    
    $
    299,187Commercial
    
    
    114,140
    
    
    
    56,856
    
    
    
    170,996Fidelity and other
    
    
    4,481
    
    
    
    7,524
    
    
    
    12,005Total
    
    $
    224,691
    
    
    $
    257,497
    
    
    $
    482,188
         Current claim activity, including the frequency and severity of current claims;  Changes in underwriting standards and business mix such as the Companys efforts to
reduce exposures to large commercial bonds;  Changes in the claims handling process; and  Current economic conditions, especially corporate default rates and the condition of the construction economy.
 18




---



##### Table of Contents



Investments
   19




---



##### Table of Contents



Intangible Assets
   Insurance Premiums
  Deferred Policy Acquisitions Costs
  Results of Operations
 Financial Measures
  20




---



##### Table of Contents



Comparison of CNA Surety Actual Results for the Three Months Ended March 31, 2008 and 2007
 Analysis of Net Income
   Results of Insurance Operations
  Three MonthsEndedMarch 31,2008
    
    
    2007Gross written premiums
    
    $
    116,625
    
    
    $
    118,414Net written premiums
    
    $
    108,444
    
    
    $
    108,775Net earned premiums
    
    $
    102,641
    
    
    $
    98,303Net losses and loss adjustment expenses
    
    $
    25,968
    
    
    $
    24,943Net commissions, brokerage and other expenses
    
    $
    55,287
    
    
    $
    53,898Loss ratio
    
    
    25.3
    %
    
    
    25.4
    %Expense ratio
    
    
    53.9
    
    
    
    54.8Combined ratio
    
    
    79.2
    %
    
    
    80.2
    %
 Premiums Written/Earned
  21




---



##### Table of Contents



Three MonthsEndedMarch 31,2008
    
    
    2007Contract
    
    $
    71,952
    
    
    $
    73,143Commercial
    
    
    35,595
    
    
    
    36,230Fidelity and other
    
    
    9,078
    
    
    
    9,041Total
    
    $
    116,625
    
    
    $
    118,414
   Three MonthsEndedMarch 31,2008
    
    
    2007Contract
    
    $
    64,592
    
    
    $
    64,447Commercial
    
    
    34,774
    
    
    
    35,287Fidelity and other
    
    
    9,078
    
    
    
    9,041Total
    
    $
    108,444
    
    
    $
    108,775
   Three MonthsEndedMarch 31,2008
    
    
    2007Contract
    
    $
    62,790
    
    
    $
    58,496Commercial
    
    
    32,077
    
    
    
    32,003Fidelity and other
    
    
    7,774
    
    
    
    7,804Total
    
    $
    102,641
    
    
    $
    98,303
  22




---



##### Table of Contents



Excess of Loss Reinsurance
  2008 Third Party Reinsurance Compared to 2007 Third Party Reinsurance
  Related Party Reinsurance
      23




---



##### Table of Contents



Exposure Management
    Net Loss Ratio
  Expense Ratio
  24




---



##### Table of Contents



Investment Income and Realized Investment Gains/Losses
   Three Months EndedMarch 31,2008
    
    
    2007Gross realized investment gains
    
    $
    3
    
    
    $
    279Gross realized investment losses
    
    
    (12
    )
    
    
    Net realized investment gains
    
    $
    (9
    )
    
    $
    279
   Interest Expense
  Income Taxes
  Liquidity and Capital Resources
   25




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##### Table of Contents



Contractual Obligations as of March 31, 2008
    
    2008
    
    
    2009
    
    
    2010
    
    
    2011
    
    
    2012
    
    
    Thereafter
    
    
    TotalDebt (a)
    
    $
    1.5
    
    
    $
    2.0
    
    
    $
    2.0
    
    
    $
    2.0
    
    
    $
    2.0
    
    
    $
    73.6
    
    
    $
    83.1Operating leases
    
    
    1.5
    
    
    
    2.0
    
    
    
    2.0
    
    
    
    1.8
    
    
    
    1.0
    
    
    
    
    
    
    
    8.3Loss and loss adjustment expense reserves
    
    
    175.1
    
    
    
    127.5
    
    
    
    88.4
    
    
    
    29.3
    
    
    
    17.2
    
    
    
    44.7
    
    
    
    482.2Other long-term liabilities (b)
    
    
    0.3
    
    
    
    1.1
    
    
    
    0.7
    
    
    
    0.5
    
    
    
    0.5
    
    
    
    9.5
    
    
    
    12.6Total
    
    $
    178.4
    
    
    $
    132.6
    
    
    $
    93.1
    
    
    $
    33.6
    
    
    $
    20.7
    
    
    $
    127.8
    
    
    $
    586.2
 
 (a)
    
    Reflects expected principal and interest payments.(b)
    
    Reflects unfunded postretirement benefit plans and long-term incentive plan payments to
certain executives. 26




---



##### Table of Contents



27




---



##### Table of Contents



Financial Condition
 Investment Portfolio
  Gross
    
    
    Gross Unrealized LossesAmortized Cost
    
    
    Unrealized
    
    
    Less Than
    
    
    More Than
    
    
    EstimatedMarch 31, 2008
    
    or Cost
    
    
    Gains
    
    
    12 Months
    
    
    12 Months
    
    
    Fair ValueFixed income securities:U.S. Treasury securities and obligations of
U.S. Government and agencies:U.S. Treasury
    
    $
    17,775
    
    
    $
    1,167
    
    
    $
    
    
    
    $
    
    
    
    $
    18,942U.S. Agencies
    
    
    52,611
    
    
    
    1,422
    
    
    
    
    
    
    
    
    
    
    
    54,033Collateralized mortgage obligations
    
    
    29,220
    
    
    
    543
    
    
    
    (64
    )
    
    
    
    
    
    
    29,699Mortgage pass-through securities
    
    
    61,759
    
    
    
    658
    
    
    
    (39
    )
    
    
    (166
    )
    
    
    62,212Obligations of states and political subdivisions
    
    
    645,533
    
    
    
    15,609
    
    
    
    (5,337
    )
    
    
    (3,887
    )
    
    
    651,918Corporate bonds
    
    
    97,266
    
    
    
    2,248
    
    
    
    (105
    )
    
    
    (1,592
    )
    
    
    97,817Non-agency collateralized mortgage obligations
    
    
    35,022
    
    
    
    16
    
    
    
    (118
    )
    
    
    (580
    )
    
    
    34,340Other asset-backed securities:Second mortgages/home equity loans
    
    
    9,528
    
    
    
    
    
    
    
    (58
    )
    
    
    (717
    )
    
    
    8,753Credit card receivables
    
    
    17,235
    
    
    
    444
    
    
    
    (331
    )
    
    
    
    
    
    
    17,348Other
    
    
    10,780
    
    
    
    337
    
    
    
    
    
    
    
    
    
    
    
    11,117Total fixed income securities
    
    
    976,729
    
    
    
    22,444
    
    
    
    (6,052
    )
    
    
    (6,942
    )
    
    
    986,179Equity securities
    
    
    1,860
    
    
    
    50
    
    
    
    (52
    )
    
    
    
    
    
    
    1,858Total
    
    $
    978,589
    
    
    $
    22,494
    
    
    $
    (6,104
    )
    
    $
    (6,942
    )
    
    $
    988,037
 Gross
    
    
    Gross Unrealized LossesAmortized Cost
    
    
    Unrealized
    
    
    Less Than
    
    
    More Than
    
    
    EstimatedDecember 31, 2007
    
    or Cost
    
    
    Gains
    
    
    12 Months
    
    
    12 Months
    
    
    Fair ValueFixed income securities:U.S. Treasury securities and obligations of
U.S. Government and agencies:U.S. Treasury
    
    $
    17,790
    
    
    $
    485
    
    
    $
    
    
    
    $
    
    
    
    $
    18,275U.S. Agencies
    
    
    52,617
    
    
    
    706
    
    
    
    
    
    
    
    (15
    )
    
    
    53,308Collateralized mortgage obligations
    
    
    30,086
    
    
    
    502
    
    
    
    (11
    )
    
    
    (107
    )
    
    
    30,470Mortgage pass-through securities
    
    
    54,659
    
    
    
    401
    
    
    
    
    
    
    
    (586
    )
    
    
    54,474Obligations of states and political subdivisions
    
    
    625,858
    
    
    
    15,408
    
    
    
    (2,500
    )
    
    
    (641
    )
    
    
    638,125Corporate bonds
    
    
    95,714
    
    
    
    1,493
    
    
    
    (97
    )
    
    
    (1,408
    )
    
    
    95,702Non-agency collateralized mortgage obligations
    
    
    35,011
    
    
    
    232
    
    
    
    
    
    
    
    (699
    )
    
    
    34,544Other asset-backed securities:Second mortgages/home equity loans
    
    
    9,951
    
    
    
    
    
    
    
    
    
    
    
    (50
    )
    
    
    9,901Credit card receivables
    
    
    17,234
    
    
    
    451
    
    
    
    
    
    
    
    
    
    
    
    17,685Other
    
    
    10,788
    
    
    
    157
    
    
    
    
    
    
    
    (75
    )
    
    
    10,870Total fixed income securities
    
    
    949,708
    
    
    
    19,835
    
    
    
    (2,608
    )
    
    
    (3,581
    )
    
    
    963,354Equity securities
    
    
    1,683
    
    
    
    106
    
    
    
    
    
    
    
    
    
    
    
    1,789Total
    
    $
    951,391
    
    
    $
    19,941
    
    
    $
    (2,608
    )
    
    $
    (3,581
    )
    
    $
    965,143
 28




---



##### Table of Contents



March 31, 2008
    
    
    December 31, 2007Gross
    
    
    
    
    
    
    GrossEstimated
    
    
    Unrealized
    
    
    Estimated
    
    
    UnrealizedUnrealized Loss Aging
    
    Fair Value
    
    
    Loss
    
    
    Fair Value
    
    
    LossFixed income securities:Investment grade:0-6 months
    
    $
    148,817
    
    
    $
    3,110
    
    
    $
    17,785
    
    
    $
    1757-12 months
    
    
    37,313
    
    
    
    2,944
    
    
    
    112,914
    
    
    
    2,43313-24 months
    
    
    55,187
    
    
    
    3,887
    
    
    
    9,984
    
    
    
    671Greater than 24 months
    
    
    50,089
    
    
    
    2,364
    
    
    
    91,683
    
    
    
    2,463Total investment grade
    
    
    291,406
    
    
    
    12,305
    
    
    
    232,366
    
    
    
    5,742Non-investment grade:Greater than 24 months
    
    
    3,335
    
    
    
    691
    
    
    
    3,582
    
    
    
    447Total
    
    $
    294,741
    
    
    $
    12,996
    
    
    $
    235,948
    
    
    $
    6,189
        29




---



##### Table of Contents



Impact of Pending Accounting Standards
 s
 FORWARD-LOOKING STATEMENTS
    
    
    general economic and business conditions;
 30




---



##### Table of Contents




    
    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 ability of the Companys contract principals to fulfill their bonded obligations;
    
    the effects of corporate bankruptcies on surety bond claims, as well as on capital markets;
    
    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, 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 other mandatory pooling
arrangements;
    
    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 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;
    
    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; and,
    
    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.
  
 TEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
   31




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##### Table of Contents



HypotheticalEstimated Fair
    
    
    PercentageHypothetical
    
    Value After
    
    
    IncreaseFair Value at
    
    
    Change in
    
    Hypothetical
    
    
    (Decrease) inMarch 31,
    
    
    Interest Rate
    
    Change in
    
    
    Stockholders2008
    
    
    (bp=basis points)
    
    Interest Rate
    
    
    Equity(Dollars in thousands)U.S. Government and government agencies and authorities
    
    $
    164,886
    
    
    200 bp increase
    
    $
    151,681
    
    
    
    (1.2
    )%100 bp increase
    
    
    158,870
    
    
    
    (0.6
    )100 bp decrease
    
    
    168,661
    
    
    
    0.4200 bp decrease
    
    
    170,203
    
    
    
    0.5States, municipalities and political subdivisions
    
    
    651,918
    
    
    200 bp increase
    
    
    573,971
    
    
    
    (7.4
    )100 bp increase
    
    
    611,440
    
    
    
    (3.8
    )100 bp decrease
    
    
    695,138
    
    
    
    4.1200 bp decrease
    
    
    740,947
    
    
    
    8.4Corporate bonds and all other
    
    
    169,375
    
    
    200 bp increase
    
    
    154,414
    
    
    
    (1.4
    )100 bp increase
    
    
    161,690
    
    
    
    (0.7
    )100 bp decrease
    
    
    177,537
    
    
    
    0.8200 bp decrease
    
    
    185,678
    
    
    
    1.5Total fixed income securities available-for-sale
    
    $
    986,179
    
    
    200 bp increase
    
    
    880,066
    
    
    
    (10.0
    )100 bp increase
    
    
    932,000
    
    
    
    (5.1
    )100 bp decrease
    
    
    1,041,336
    
    
    
    5.3200 bp decrease
    
    
    1,096,828
    
    
    
    10.4
 HypotheticalEstimated Fair
    
    
    PercentageHypothetical
    
    Value After
    
    
    IncreaseFair Value at
    
    
    Change in
    
    Hypothetical
    
    
    (Decrease) inDecember 31,
    
    
    Interest Rate
    
    Change in
    
    
    Stockholders2007
    
    
    (bp=basis points)
    
    Interest Rate
    
    
    Equity(Dollars in thousands)U.S. Government and government agencies and authorities
    
    $
    156,527
    
    
    200 bp increase
    
    $
    143,016
    
    
    
    (1.3
    )%100 bp increase
    
    
    150,653
    
    
    
    (0.6
    )100 bp decrease
    
    
    160,156
    
    
    
    0.4200 bp decrease
    
    
    162,267
    
    
    
    0.6States, municipalities and political subdivisions
    
    
    638,125
    
    
    200 bp increase
    
    
    561,138
    
    
    
    (7.5
    )100 bp increase
    
    
    598,496
    
    
    
    (3.9
    )100 bp decrease
    
    
    680,200
    
    
    
    4.1200 bp decrease
    
    
    725,517
    
    
    
    8.5Corporate bonds and all other
    
    
    168,702
    
    
    200 bp increase
    
    
    153,539
    
    
    
    (1.5
    )100 bp increase
    
    
    160,869
    
    
    
    (0.8
    )100 bp decrease
    
    
    177,063
    
    
    
    0.8200 bp decrease
    
    
    185,960
    
    
    
    1.7Total fixed income securities available-for-sale
    
    $
    963,354
    
    
    200 bp increase
    
    
    857,693
    
    
    
    (10.3
    )100 bp increase
    
    
    910,018
    
    
    
    (5.3
    )100 bp decrease
    
    
    1,017,419
    
    
    
    5.3200 bp decrease
    
    
    1,073,744
    
    
    
    10.8
 32




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##### Table of Contents



ITEM 4. CONTROLS AND PROCEDURES
    
 PART II  OTHER INFORMATION
 
 ITEM 1. LEGAL PROCEEDINGS
 
 ITEM 1a. RISK FACTORS
 
 ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS  None
 
 ITEM 3. DEFAULTS UPON SENIOR SECURITIES  None.
 
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
    Number Of Shares/VotesFor
    
    Authority WithheldPhilip H. Britt
    
    
    42,388,207
    
    
    
    758,992Anthony S. Cleberg
    
    
    42,383,588
    
    
    
    763,611David B. Edelson
    
    
    34,205,084
    
    
    
    8,942,115James R. Lewis
    
    
    34,205,225
    
    
    
    8,941,974D. Craig Mense
    
    
    34,207,371
    
    
    
    8,939,828Robert A. Tinstman
    
    
    41,923,081
    
    
    
    1,224,118John F. Welch
    
    
    34,583,164
    
    
    
    8,564,035
   For
    
    
    43,113,145Against
    
    
    33,278Abstain
    
    
    775
 33




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##### Table of Contents



ITEM 5. OTHER INFORMATION  Reports on Form 8-K:
   
 ITEM 6. EXHIBITS
 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
    
    
    32.1Certification 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. 34




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##### Table of Contents



/s/ John F. Welch
 /s/ John F. Corcoran
  35




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##### Table of Contents



31(1)
    
    Certification pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002  Chief Executive Officer.
 31(2)
    
    Certification
pursuant to Rule
13a-14(a) of the
Securities Exchange
Act of 1934, as
adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002  Chief Financial Officer.32(1)
    
    Certification
pursuant to 18
U.S.C. Section
1350, as adopted
pursuant to Section
906 of the
Sarbanes-Oxley Act
of 2002  Chief Executive Officer.32(2)
    
    Certification
pursuant to 18
U.S.C. Section
1350, as adopted
pursuant to Section
906 of the
Sarbanes-Oxley Act
of 2002  Chief Financial Officer.
 36