When evaluating other-than-temporary impairments, the committee considers the company’s ability to retain a security for a period adequate to recover a significant percentage of cost. Because of the company’s investment philosophy and strong capitalization, it can hold securities that have the potential to recover value until their scheduled redemption, when they might otherwise be deemed impaired. Investment assets that have already been impaired are evaluated based on their adjusted book value and further written down, if deemed appropriate. The decision to sell or write down an asset with impairment indications reflects, at least in part, management’s opinion that the security no longer meets the company’s investment expectations. See Item 7(a), Quantitative and Qualitative Disclosures About Market Risk, Page 47, for detailed information regarding securities trading in a continuous loss position at December 31, 2003. Other-than-temporary declines in the fair value of investments are recognized in net income as realized losses at the time when facts and circumstances indicate such write-downs are warranted.
Revenues - Revenue growth accelerated over the three-year period on strong property casualty performance. Earned premium growth slowed in 2003 as commercial pricing increases continued, but at a lower rate. In addition, realized investment losses were substantially lower in 2003 than 2002 and investment income continued to rise. The company’s emphasis on common stock holdings with an increasing flow of dividend payments has led to continued growth of investment income even though low prevailing interest rates have limited opportunities to expand income from fixed-income investments.
Within the property casualty insurance market, the company offers both commercial and personal policies through a network of independent agencies. Highlights of the performance for the combined property casualty insurance operations included:
Management has reviewed its exposure to asbestos and environmental risk, including mold risk. Management believes that reserves are adequate at this time and that these coverage areas are immaterial to the company’s financial position due to the types of accounts the company has insured in the past. Factors evaluated to reach those conclusions include:
Commercial accounts were written by the company after the development of coverage forms that exclude cleanup costs. The company’s exposure to risks associated with past production and/or installation of asbestos materials is minimal because the company was primarily a personal lines company when most of the asbestos exposure occurred. The commercial coverage the company did offer was predominantly related to local-market construction activity rather than asbestos manufacturing. Further, over the past two years, to limit its exposure to mold and other environmental risks going forward, the company has revised policy terms where permitted by state regulation.
Losses incurred - Losses incurred includes both net paid losses and reserve additions for unpaid losses. For personal lines, losses incurred rose to $513 million in 2003 from $476 million in 2002 and 2001 as the number of policies grew slightly over the three-year period. That reflected the industrywide rise in loss severity over the past several years due to escalating medical costs and home values. Management monitors incurred losses by size of loss, business line, risk category, geographic region, agency, field marketing territory and duration of policyholder relationship, addressing concentrations or trends as needed. Analysis indicated no significant concentrations beyond that seen in higher loss ratios for certain business lines, which management has addressed.
homeowner line declined to 92.7 percent in 2003 from 98.6 percent in 2002 and 108.9 percent in 2001, the ratio remains above the 72 percent to 74 percent quarterly level the company has targeted for the end of 2005.
Revenues - Revenue growth has accelerated over the past three years as the company increased life policy face amounts in force to $38.492 billion in 2003 from $32.486 billion at year-end 2002 and $27.534 billion at year-end 2001.
Segment profitability depends largely on premium levels, the adequacy of product pricing, underwriting skill and operating efficiencies. Life segment results include only investment interest credited to contract holders (interest assumed in life insurance policy reserve calculations). The remaining investment income is reported in the investment segment results. The life investment portfolio is managed to earn target spreads between earned investment rates on general account assets and rates credited to policyholders. Management considers the amount of assets under management and the life investment portfolio investment income as key performance indicators for the life insurance segment.
$127 million increase in unearned premiums due to higher premium volume.
At December 31, 2003, and December 31, 2002, long-term debt consisted entirely of $420 million in senior debentures. The senior debenture is not encumbered by rating triggers. The company’s excellent cash flow and strong capital position have allowed it to minimize its reliance on debt financing although the company utilizes lines of credit to fund short-term cash needs.
The primary risks related to tax-exempt bonds are interest rate risk and geo-political risk associated with the specific economic environment within the political boundaries of the issuing municipal entity. The company addresses these concerns by focusing on municipalities’ general-obligation debt and on essential-service bonds. Essential-service bonds derive a revenue stream from the services provided by the municipality, which are vital to the people living in the area (schools, water service, sewer service, etc.). Another risk related to tax-exempt bonds is regulatory risk or the potential for legislative changes that would negate the benefit of owning tax-exempt bonds. The company monitors regulatory activity for situations that may negatively affect current holdings and its ongoing strategy for investing in these securities.
While past performance cannot guarantee future returns, over the longer-term, the performance of the company’s equity portfolio has exceeded that of the broader market with a five-year total return of 23.7 percent compared with a decline of 2.8 percent for the Standard & Poor’s 500 Index, a common benchmark of market performance. In 2003, the equity portfolio underperformed the market with a total return of 9.3 percent compared with the Standard & Poor’s 500’s return of 28.7 percent. The primary reason for the
CFC Investment Company provides auto and equipment direct financing (leases and loans) to commercial and individual clients. Generally, lease contracts transfer ownership of the property to the lessees at the end of the lease terms and contain bargain purchase options. Income is recognized over the financing term using the interest method.
See Note 1 for a general description of the company’s stock option plans. A summary of options information follows: